SYZ & CO - SYZ Asset Management - Market Outlook 8 February 2013

This document has been produced purely for the purpose of information and does not therefore constitute an offer or a recommendation to invest or to purchase or sell shares, nor is it a contractual document. The opinions expressed reflect our judgement on the date on which it was written and are therefore liable to be altered at any time without notice. We refuse to accept any liability in the event of any direct or indirect losses, caused by using the information supplied in this document.

8 February 2013

The main points at a glance

• “A gradual upturn in global growth during 2013”. This is the title of the January update of the International Monetary Fund’s growth forecasts. In this title the word “gradual” is just as important as the word “upturn”, as is borne out by the outlook for global growth in 2013 and 2014, at +3.5% and 4.1% respectively, following +3.2% in 2012.

• Yet at the end of 2012 and beginning of 2013 the prevailing feeling was above all one of relief over the “upturn”: the dissipation of the risk that the euro zone might break up, stabilization of growth in China and the appearance of a domestic dynamic in the United States have significantly reduced the risks of a disaster scenario for 2013.

• But, after the wave of euphoria, the reality of an upturn that is only “gradual” has to be taken into account. While US growth does indeed appear to be sounder today than it was one year ago, it will have difficulty in accelerating well above its average rate in recent years (2%), owing to the (in the end gradual) tightening of budgetary policy. In Europe, while the situation appears to be improving (very gradually), it depends on foreign demand and is being threatened by the appreciation of the euro. In Japan, the beneficial effects on activity of the yen’s depreciation will probably only be very gradual and, in the emerging countries, it also seems difficult to expect a recovery of growth that would be more than gradual…

• Yet the rise in share prices on equity markets at the beginning of 2013 has been anything but gradual: +5% in one month for the MSCI World is a pace that cannot be extrapolated and that calls for a break or even a correction. Before the upward trend probably returns, thanks to economic fundamentals that are indeed improving… gradually!

This document is based on informationcollected until the Monday precedingpublication.

A publication of the Research & Analysis team SYZ Asset Management Tel. +41 (0)22 819 09 09 [email protected] Authors: Yasmina Barin Adrien Pichoud Fabrizio Quirighetti

Economy United States ........................................................................... 2 Growth is now driven by domestic demand

Europe..................................................................................... 3 The euro’s appreciation threatens the recent “upturn” in economic activity

Japan.......................................................................................4 The Bank of Japan eases its monetary policy

Emerging economies................................................................4 The rebound of growth in China is export-led

Markets Equities ...................................................................................5 A salutary break

Bonds ......................................................................................5 A correction on the bond market

Exchange rates ........................................................................6 The euro continues to rise and the yen to fall

Asset allocation Allocation grid .........................................................................7 Part of the cash has been invested in alternative investments

Bonds Equities Hedge funds

Projections at 6 months


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Source: Thomson Reuters Datastream

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Economy

United States

The stream of favourable economic statistics has slowed down somewhat since the middle of January, acting as a reminder. Indeed, despite the encouraging signs that appeared in 2012, US growth is likely to remain below its trend in 2013. It is a signal that, although the growth dynamic remains positive and the risk of recession has been ruled out with the last-ditch agreement on fiscal policy reached at the end of the year, it is nevertheless difficult to see a clear-cut improvement in this growth in the immediate future. A still-high unemployment rate, even though it is falling and the (moderate but very real) tightening of budgetary policy are still limiting the potential for acceleration.

This has translated into a cocktail of economic data consisting of pleasant surprises and disappointments. The first estimate of GDP in the 4th quarter of 2012 is emblematic of this: it appears to be very disappointing, with the first drop in GDP since spring 2009 (-0.1%), but was finally rather reassuring in view of the trend in the different sectors of the economy. In fact, it is the consequence both of a sharp cutback in public spending on defence, a significant inventory reduction trend among companies and a deepening of the trade deficit: the drop in exports has been more marked than that in imports. Hence the need to gradually reduce the public deficit has been leading for more than two years to a drop in government spending while the contribution from exports is also tending to decrease (cf. chart below).

Year-on-year change in the different components of GDP The US economy is indeed changing from growth driven by exports and investment to a model based on consumption and construction. As for the disengagement of the public sector, it has already begun… But these unfavourable factors have concealed an element that is both reassuring and encouraging: private final domestic demand remained well-oriented during the

4th quarter, confirming the ongoing transition from recovery - driven by investment and exports - to expansion based on domestic consumption. Household expenditures have accelerated in comparison with the spring and summer, probably supported by the drop in the jobless rate. The recovery in the residential construction sector is being confirmed quarter after quarter and in 2012 the sector again became a positive contributor to growth for the first time since the credit bubble burst. And even corporate expenditures on capital goods - which were down during the summer - have rebounded. The cumulative contribution of consumption and private investment excluding inventories thus amounted to +2.7% in the 4th quarter.

Domestic demand is thus again in the process of becoming the main engine of US expansion, which makes the growth dynamic more robust and appears to be initiating a virtuous circle fuelled by falling unemployment and the recovery of real estate. Latterly, the return of rising real-estate prices has been added to the recovery observed in construction over the last 18 months. To such an extent that it has triggered a (still moderate) recovery of applications for loans to finance a purchase. Households are no longer merely taking advantage of historically favourable terms to refinance their mortgage at a lower rate, they appear to be beginning to consider that it is time to take advantage of a very attractive price/financing rate mix before prices and – one day or another - interest rates rise again…

“Employment” composite index of the ISM manfufacturing and services indices and change in the jobless rate over 6 months

(inverted)

The indices showing the trend in employment in services and industry rose in January and suggest an upcoming continued decrease in unemployment. As for the labour market, the bundle of indicators continues to point in the direction of an improvement,


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EURO AREA - TRADE BALANCE (SUM 12M)EUR/USD(R.H.SCALE)


even though the monthly employment report cited a slight increase in the jobless rate from 7.8% to 7.9% and an unspectacular number of jobs created in January (157,000). But the upward revisions of the number of jobs created during the previous months, the drop in new weekly jobless claims or the increase in the “employment” components in the ISM surveys (in both services and industry) suggest that the trend is likely to remain positive in 2013. It should make it possible to absorb the negative impact of the fiscal policy tightening and to maintain the increase in consumption. Europe

The improvement in the European activity indicators observed since mid-2012 continued into the first month of 2013. It is a relative improvement, since the absolute level of these indices continues to reflect a Euro zone in recession. But the prospect of a return to growth in the second half of 2013, which has been mentioned by the ECB, is gradually becoming more likely.

The most spectacular movement comes from Germany, where the PMI activity index in industry returned almost to the equilibrium level of 50 in January, suggesting the end of nearly one year of contraction for the sector. As for the services sector, it has recorded a significant improvement over the last two months and in January returned to its strongest growth rate since mid-2011. Similarly, the sharp rebound of German company heads’ business expectations is another illustration of the fact that the Euro zone's largest economy, after marking time at the end of last year, should return to growth in 2013 and once again act as the engine of Europe's growth.

PMI manufacturing index in the euro zone

Since last summer, the trend has been reversed in Europe. In Italy and Spain, the industrial activity indices are still in the contraction zone but they too have been upwardly oriented since the summer. This improvement probably results from the ability of these two economies to take advantage of the firming up of global growth, which has

supported their exports and turned foreign trade into a positive contributor to their GDP. Spain is currently posting its lowest trade deficit in more than a decade and the rate of decrease accelerated in 2012, not only due to a drop in imports but also thanks to the increase in exports. As for Italy, it is recording its first trade surpluses since 2004 and, while the drop in imports has undeniably played a role, the 20%-plus increase in exports to “non-European” countries has also been a major driving force. Italy’s exports to the EU countries, for their part, stagnated over the period…

This role of exports and the improvement in trade balances probably explains why the French activity indices have not shared in this encouraging trend: the trade deficit has continued to deepen and today it is larger than it was in 2008! The moderate reduction observed in 2012 is, moreover, due to the fact that growth of imports has slowed down and not to an improvement on the exports front. The lack of competitiveness of French industry at the international level is depriving it of the positive spin-offs of a firming up of global demand, from which Italy, Spain, Ireland and even more so Germany are managing to benefit. And although the French trade deficit is set to be reduced in 2013, it will be owing to a contraction in imports resulting from the tightening of its budgetary policy and the resultant recession. The weakness of the French activity indices, which are clearly in the contraction zone in both services and industry at the beginning of this year, is a reflection of this situation.

Trade balance of the Euro zone and euro/dollar

The recent appreciation of the euro is threatening one of the few engines of European growth at the moment - exports. These considerations on the scale of exports to outside of Europe - both for Germany and for the peripheral European countries - lend particular importance to the trend in the exchange rate of the euro. For these economies still stifled by budgetary austerity at the domestic level, an overly strong and/or overly fast appreciation of the euro might well nip in the bud the


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CHINA - GDP (YoY %)CHINA - EXPORTS (YoY % 3M MAV)(R.H.SCALE)


only glimmer of hope that the improvement in foreign trade represents. And eyes are turning again towards the ECB and Mario Draghi, whose positive speech at the beginning of January had speeded up the appreciation of the euro. A few words from “Super Mario” to ease the pressures on the euro would probably be welcome… The British economy would probably also be in great need of a providential man and hopes that Mark Carney, the future Governor of the Bank of England, will be that person. His statements about the possibilities that still exist of easing monetary policy can give reason to hope for even more “aggressive” actions on the part of the central bank during the second half of the year. In the meantime, the United Kingdom sustained a relapse during the 4th quarter of 2012 following the summer interlude provided by the Olympic Games: GDP fell by 0.3%, which was the 4th decrease in five quarters. Since mid-2010 and the implementation of the fiscal consolidation plan, the British economy has stagnated, alternating between periods of brief rebound and recession. It will take a “Super Mark” at the head of the BoE to restore hope on the other side of the English Channel... If there is one central bank that is rejoicing - probably unreservedly - about the fact that the euro is picking up, it is almost certainly the Swiss National Bank, which is seeing the euro/Swiss franc exchange rate gradually move away from the 1.20 floor rate put in place in September 2011. Furthermore, the Swiss Confederation is benefiting from the firming up of global demand observed in the second half of last year: Swiss exports are at their highest level since spring 2011 and the activity index in industry returned to the growth zone in January, its highest level since July 2011. Japan

The Japanese economy remains “relatively weak” according to the Bank of Japan’s own words. Exports continue to contract and the trade deficit is reaching record new levels. And the rebound of the manufacturing activity index in January still leaves it at a level synonymous with a clear-cut contraction. But the hope of a radical change of economic policy is fuelling a certain form of optimism about the outlook for the Archipelago. A government stimulus plan aims to revive domestic demand. As for monetary policy, the Bank of Japan has announced measures which, although they are perhaps not as radical as had been hoped, are still elements that testify to a greater determination to get the economy out of deflation: the inflation target has been raised to 2% and a substantial liquidity injection plan has been announced for 2014…

Emerging economies

The firming up of the Chinese economy during the autumn has been confirmed by the publication of GDP, the annual rate of increase of which has rebounded to +7.9% after seven consecutive quarters of slowdown and a low at +7.4%. The other activity indicators such as industrial production and retail sales also rebounded, returning to an annual increase of above 10% and 15% respectively.

China : GDP and exports (year-on-year change)

The Chinese economy’s dependence on exports is still very great: the rebound of 4th-quarter growth is the consequence of a rebound of exports. However, this rebound still illustrates the very great dependence of the Chinese economy on its exporting sectors and the distance it still has to go to be rebalanced towards domestic demand. The rebound results largely from a resumption of the increase in exports, accompanied by recourse to liquidity injections. Thus while the stabilization of China’s growth is reassuring in the short term, it does not allow one to rule out a potential further onset of weakness in the more or less near future.


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CGBI WORLD GOVERNMENT BONDSBofA EMU GOVERNMENTBofA EMU CORPORATE

BofA ML GLOBAL HIGH YIELDJPM EMBI GLOBAL COMPOSITE


Markets

Equities

A dazzling performance for the stock markets: since last November they have constantly attained new highs. We will have had to wait until the end of January to notice the first profit-taking moves, at a time when political news is returning to the foreground with the upcoming elections in Italy, and Mr. Berlusconi acting as the killjoy. The economic news has tended to bring confirmation of the trends observed at the end of last year. That is, an improvement of the labour market in the United States, a slight re-acceleration in Asia and a stabilization of activity in Europe. The addresses given by the main central bankers have remained at the centre of attention, while the operators fear that the single currency may grow too strong and help to drag down the first buds of recovery observed since recently in the euro zone. Finally, the corporate earnings season has at this stage proved rather reassuring, with a majority of companies publishing results in line with or slightly above expectations. Company heads appear to be expecting 2013 to be better-oriented than last year.

Trend in the main stock markets since November 1, 2012 After rising uninterruptedly since early November, the markets appear to be marking time against a backdrop of the increasing political risk in Europe. Rotations were significant over the period. From the end of December to mid-January, the risk appetite predominated. This resulted in an excellent stock market performance for financial and cyclical stocks. Among the European shares, the operators with a taste for high-beta stocks looked for shares of lower quality and also trained their sights on the stock markets of the European peripheral countries, in particular Italy and Spain. In a second stage, the return of political fears prompted them to be more cautious, which

enabled defensive growth shares to outperform at the end of the month, also driven by good quarterly results.

The next few weeks will continue to be dominated by company news, as the earnings season is not yet over. Political news will probably also be determining as the Italian elections draw near. We remain positive about the stock markets’ potential to appreciate, as despite the recent bull market they remain inexpensive compared with bonds. In the very short term, the return of fears about Europe (tensions in southern Europe) might contribute to an increase in market volatility, but we are among those who consider that a correction would be salutary. The latter would indeed offer investors who have been too conservative in recent months an opportunity to reposition themselves in this asset class which, according to our central scenario, should gain from 10% to 15% this year. Bonds

Following a 2012 marked by an almost uninterrupted increase in all the compartments of the bond market, the first weeks of 2013 have helped to remind us that bonds can also record negative monthly performances… This is because the interest rates of safe-haven issuers have risen, with the 10-year US bond returning to above 1.9%, its German counterpart to around 1.6% and the British 10-year bond to about 2.2%.

Performance of different segments of the bond market since October 2012

The beginning of 2013 has been marked by a negative performance of most of the compartments of the bond market. While Italian and Spanish interest rates, for their part, have remained fairly stable over the period, corporate bonds have also been under pressure, with non-financial corporate bonds being in the front line. The latter had acted as a safe haven in 2012 and therefore


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YEN vs USD (USD/JPY, INVERTED)YEN vs EUR (EUR/JPY, INVERTED)(R.H.SCALE)


moved in parallel with the government-bond safe havens. Emerging debt has not been spared, while High Yield was initially buoyed by the revival of the risk appetite, before also doing an about-turn. Exchange rates

The euro’s appreciation trend initiated by Mario Draghi’s statements in early January has extended into the beginning of February, pushing the European currency up from 1.31 to 1.36 against the dollar in the space of a few weeks. After having moved at around 1.24 against the Swiss franc, the euro fell back at the beginning of February to 1.23. The Swiss currency has also strengthened against the dollar, to reach its highest level since last April against the greenback.

As for the yen - which is still being influenced by the expectations of a sharp monetary policy easing - it has further lost ground, against both the dollar and the euro. The scale of the depreciation of the Japanese currency against these two currencies now amounts to nearly 20% since the beginning of the autumn.

Yen against dollar and euro since 2000

Since the beginning of October, the yen has lost 18% against the US dollar and 20% against the euro.


8 February 2013

Asset allocation Given the factors described above, we have decided to invest part of the cash held in the “low”, “moderate” and “medium” risk profiles in alternative investments. For a “medium” risk profile, the proportion of alternative investments has thus been increased by +2% to 16%, while cash has been reduced by -2% to 8%. The allocation grid for a “medium” risk profile in euros, as at 4 February, is given below.

Allocation grid for a “medium” risk profile in euros

Bonds 32% Short-term bonds 25% Long-term bonds 7% Equities 40% Europe 17% United States 15% Japan 2% Emerging countries 6% Alternative investments 16% Gold 4% Cash 8%

Total 100%

“LOW” RISK PROFILE The weight of alternative investments has been increased by +4% to 18%, at the expense of the weighting of cash, which has fallen by -4% to 11%. “MODERATE” RISK PROFILE Liquidity has been reduced by -4% to 11%, in order to finance the +4% increase in the weighting of alternative investments, which now account for 20% of the portfolio. “HIGH” RISK PROFILE No change. Liquidity still accounts for 2% of the portfolio and alternative investments for 16%.

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SYZ & CO - SYZ Asset Management - Market Outlook 8 February 2013