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Transcript of DB House View
Research Deutsche Bank
17 March 2014
DISCLOSURES AND ANALYST CERTIFICATIONS ARE LOCATED IN APPENDIX 1. MICA(P) 054/04/2013.
Deutsche Bank Research The House View
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
The House View – 17 March 2014
Three factors have clouded the outlook for the global economy in recent weeks: a run of mixed global
economic data, renewed concern over fragilities in China’s financial system, and a sharp rise in geopolitical
tensions between the West and Russia over Ukraine. All have weighed on risk assets
Mixed global economic data was in part down to one-off factors such as the Chinese New Year and extremely
cold US weather. While this has led to a modest reduction in our global growth outlook, the underlying
momentum of the world economy remains strong and an acceleration can be expected over the coming months
In China, weaker data and the country’s first ever onshore domestic bond default have spurred growing fears
that the rapid rise of credit in recent years will turn into a full-blown financial crisis. We think these concerns are
overdone and that China has sufficient policy flexibility and control over credit flow to prevent an economic
‘hard landing’
In Ukraine we see little chance of a military confrontation but expect prolonged diplomatic maneuvering that
could drag on for years. Tit-for-tat economic sanctions between the West and Russia are a risk, but not our
base case, and we expect the market impact to remain mostly concentrated on Russia and Ukraine assets.
Beyond these, EM assets should continue to see differentiation based on fundamentals
The evolution of the three above factors will be closely tracked by markets. Beyond any near-term volatility, we
maintain our long-term views. Equities remain attractive, bonds look expensive and the US recovery will see
earlier and faster rate hikes than the market currently expects, supporting dollar strength
David Folkerts-Landau, Group Chief Economist
The views in this publication are informed by Deutsche Bank’s Global Strategy Group, which advises management and
clients on broad market risks and global economic and financial developments. The views and forecasts of the group, which
consists of senior research staff, may occasionally differ from those disseminated by their research colleagues
Editors: Raj Hindocha, Marcos
Arana, Wolf von Rotberg, Sahil
Mahtani, Erin Urquhart
2
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
We continue to expect growth to accelerate throughout 2014. Mixed data in the US and China is temporary in our view
Fed: gradual taper and end of QE by end-2014; do not
expect deviation from taper path despite mixed data.
Expect policy shift in H2 with signal of faster rate hikes
ECB: on hold as inflation is bottoming. Further easing
(e.g., QE) possible if inflation stays low, growth is weak,
euro strengthens further
BoJ: further easing in H2 only if warranted by data
BoE: on hold, no rate hikes even if u/e continues to fall
PBoC: on hold. No tightening, given inflation is low
EM: mostly on hold, with tightening bias to respond to
FX pressure if needed
Disorderly market sell-off : repricing of monetary policy
expectations stokes market volatility
China crisis: financial crisis / hard landing as China
attempts to rebalance its economy
Geopolitical risk: West / Russia escalation, e.g., tit-for-
tat economic sanctions
Crisis in EM: increase in capital outflows amid
continued turmoil or China slowdown hurts EM growth
Deflation risk: slowdown in US or Eurozone growth,
China RMB devaluation results in import disinflation
Bullish view on global growth of 3.5% in 2014, 3.9% in
2015 – with growth accelerating from 2.8% in 2013
US growth of 3.2% in 2014, 3.8% in 2015. View above
consensus on labour market recovery, lower fiscal
drag, stronger capex and residential investment growth
Eurozone growth of 1.1% in 2014, 1.4% in 2015, as
consensus. Recovery on track, with growth supported
by domestic demand, export traction, lower fiscal drag
EM growth of 5.1% in 2014 and 5.4% in 2015. Expect
cyclical recovery to be supported by exports to DM as
US, Europe economies accelerate
US, China data have been mixed, not weak in recent months. We expect this to be temporary, with growth accelerating in the coming quarters
Monetary policy to remain broadly supportive. Major CBs to add nearly USD 1tn extra liquidity in 2014. More policy differentiation with Fed ending QE as first step towards rate hikes while ECB, BoJ on hold / easing
No crisis in EM despite tensions in Ukraine and other well-known weak countries. No material spillover, markets to differentiate between ‘good EM’ & ‘bad EM’
Views on key themes
Economic outlook Central bank watch
Key risks to our view
3 Note: H / M / L indicates estimated probability of risk (High, Medium, Low).
M
L
M
M
M
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
Downside risks
Disorderly market sell-off : stronger growth prompts pricing of
earlier / faster rate hikes and stokes market volatility
China crisis: financial crisis / hard landing as China attempts to
rebalance its economy
Geopolitical risk: West / Russia escalation, e.g., tit-for-tat economic
sanctions
Crisis in EM: increase in capital outflows amid continued turmoil or
China slowdown hurts EM growth
Deflation risk: slowdown in US or Eurozone growth, China RMB
devaluation results in import disinflation
Crisis returns to Europe: slowing reform momentum undermines
potential growth, AQR impedes credit provision to the real
economy; rise of fringe parties in the May European elections
Upside risks
Global growth upside surprise: lower fiscal drag in the US and
Europe, incident-free elections across EM, effective policy stimulus
in Japan support faster-than-expected global growth
Lower oil price boosts growth: geopolitical calm and stronger
supply see oil prices stabilise ~10-15% lower than current prices
Tail risks
Geopolitical tensions escalate and push up oil prices and /or slow
economic activity, e.g., escalation of Syria conflict
While the risk of a global growth slowdown or EM crisis have risen marginally, falling bond yields have been supportive
Se
ve
re
Sig
nific
an
t M
od
era
te
Lo
ca
lise
d
Low Medium High Tail Risk
Unpredictable
The House View - Risk Matrix
Probability
Imp
act o
n o
ur
ba
se
ca
se
1
2
3
4
5
9
6
1
2
5
4
6
8
7
9
7
2
* Moves represent change in risk outlook over previous month
4
3
3
8
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
2014 so far has seen broad dispersion within and between asset classes. Gold, peripheral equities and bonds have outperformed
15.8
8.6
3.3
1.1 0.3
-0.6 -1.0 -1.9
-4.6 -5.6 -5.8
-9.0 -11.8
2.6 2.4
2.1
5.0 4.4
2.7 2.6 1.9 1.5
6.9
3.4
1.3
0.9
0.6 0.4 0.0
-0.5
-2.5
-3.8
-10.1 -11.6
8.8
1.4
-3.1
-12.0
-20
-15
-10
-5
0
5
10
15
Gre
ece A
thex
Italy
MIB
Ind
ia N
ifty
Spain
IB
EX
35
US
S&
P 5
00
Euro
pe S
toxx 6
00
Fre
nchC
AC
40
UK
FT
SE
100
Shanghai C
om
posite
Germ
an D
AX
30
MS
CI E
M
Japan N
ikkei
Bra
zil
Bovespa
US
IG
EU
IG
US
Hig
h Y
ield
Spain
Italy
Germ
any
UK
US
EM
IDR
JP
Y
AU
D
EU
R
INR
GB
P
BR
L
Dolla
r In
dex
ZA
R
TR
Y
RU
B
UA
H
Gold
Silv
er
Com
modity Index
Bre
nt O
il
Copper
Total returns 2014 YTD
Equities Commodities FX Sovereign
debt Corporate
Credit
%
13.6
5
3 93 165 93 201 146 106 127 2 146 122 127 22 56 49 125 27 27 23 24 16 78 6 -4 41 10 -16 18 1 -10 -3 -20 -2 -16 46 58 44 139 78
Return since
crisis low
9 March 2009
(%)
Note: Total return accounts for both income (interest or dividends) and capital appreciation.
Source: Bloomberg Finance LP, Deutsche Bank Research. Prices as of 10 Mar 2014, COB
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
US: Data firmed after weather-related weakness
− Payrolls recovered to +175k in February after a
sharp drop in January
− Maintain our 3%+ GDP forecast for 2014
Europe: Strong PMIs driven by Germany and Italy
− Eurozone composite PMI at highest since 2011
− Germany 2015 GDP growth upgraded to 2%
from 1.4%
China: Weak data due to Chinese New Year
− Manufacturing PMI dropped to 48.5 in February,
the weakest in 6 months
− Q1 growth could surprise to the downside but
underlying momentum remains intact
6
Despite weather-related weakness in Q1, the global economy remains healthy and should accelerate over the coming months
0 1 2 3 4 5 6 7 8 9
10
Eurozone US China
Q1 2014 Q2 2014 Q3 2014 Q4 2014
Source: Haver Analytics, Bloomberg Finance LP, Deutsche Bank Research
We expect growth to accelerate over the course of 2014
% qoq, saar
Weak data suggests China Q1
growth could surprise to the downside
45
50
55
60
Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 Jan-14
Eurozone China US
Composite PMI: Eurozone recovery in full swing while the expansion
in the US and China has decelerated over the last few months
Source: Haver Analytics, Deutsche Bank Research
Index
Positive momentum
in Europe, negative
in US and China
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
US macro data have been mixed over recent
months, in part due to very cold weather
− Weakening ISM series, soft retail sales
− Several weak housing indicators, notably
housing starts, existing home sales
− Soft payrolls, though rebounded in February
− Meanwhile, consumer confidence remains high,
inflation is turning
No reason for alarm yet – Q1 was expected to be
relatively weaker inventory due to destocking
We remain confident in the US recovery and expect
an acceleration in growth over the coming months
− End of Q1 inventory destocking
− Positive payback after weather-related
weakness
− Underlying fundamentals intact, e.g., firming
labour market, healthier household balance
sheets, housing recovery, lower fiscal drag
7
Mixed data have raised concerns over the US economy, but the recovery remains intact and we expect growth to accelerate
-2%
0%
2%
4%
6%
8%
2010 2011 2012 2013 2014 Source: Bloomberg Finance LP, Deutsche Bank Research
Mixed data, e.g., retail sales softness have raised concerns over the
health of the US economy
qoq saar
-0.5
0.0
0.5
2011 2012 2013 2014 Source: Bloomberg Finance LP, Deutsche Bank Research
US macro surprise index: US data continue to surprise to the
downside, but the trend is improving
Macro surprise index
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
Despite mixed signals in recent months, the labour
market recovery is real
− In February, payrolls at 175k (6m, 12m averages
also at ~175k), unemployment at 6.7%
− Wage inflation is firmly trending up, suggesting
less ‘spare capacity’ in the labour market
If this trend continues, unemployment could be
close to equilibrium (5.5-5.75%) by end-2015
In normal times, Fed policy rate would need to be
close to neutral (3.5-4%) at that point
− We can expect the Fed to allow lower rates this
time around to sustain the recovery – but not as
low as current Fed forecasts or market pricing
We expect the labour market improvement and
rising inflation will lead the Fed to signal earlier and
faster rate hikes
1.0
1.5
2.0
2.5
3.0
3.5
4.0
4.5
1986 1990 1994 1998 2002 2006 2010 2014
Average hourly earnings (total private industries): US wages are
trending up – pointing to a firmer job market than anticipated
Source: BLS, Haver Analytics, Deutsche Bank Research. Note: grey areas denote recessions
% yoy Wages are
trending up,
and once wage
inflation takes
hold it
continues for 4-
5 years
8
Labour market improvement and resulting wage inflation should lead the Fed to signal a change in policy in H2
8
-10
-5
0
5
10
15
20
2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
Increase Employment
Raise Worker Compensation
Source: NFIB, Haver Analytics, Deutsche Bank Research
% of companies planning to hire and raise wages near 2006 levels
%
Pre-crisis level
What would it take to beget more hawkish Fed forward guidance? 13 Feb 14
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
45
50
55
60
45 50 55 60
Composite PMIs: Eurozone economies are expanding and with
positive momentum; France is the notable exception
Prev. 3m avg. Source: Haver Analytics, Deutsche Bank Research
Feb-2014
France
India
Italy Eurozone Spain
Germany UK
Global
Japan
US ISM EM
China Russia
Brazil
Acceleration
Deceleration
Eurozone Non-Eurozone
The Eurozone recovery is on track
− PMIs at 2.5 year highs, suggesting upside
potential to our Q1 growth forecast of 0.2% qoq
…Eurozone Composite PMI at 53.3 is the
highest since Jun-2011
…Region and key economies are accelerating
and in expansion – with France the exception
− Signs of a turnaround in unemployment
− Positive growth in Q4 in the seven largest
countries for the first time since 2011
Deflationary pressures are weakening
− Headline inflation unchanged at 0.8% since Dec
− Core inflation has accelerated to 1% in February
from a low of 0.7% in December
− Number of components with falling prices
declining, potentially marking a turning point
Expect recovery to continue and the ECB to stay on
hold, unless data worsens or if EUR surges further
9
The Eurozone recovery is on track, and inflation shows signs of bottoming – prompting the ECB to stay on hold
Mind the (Structural) gap! 7th Mar 14
-50
-40
-30
-20
-10
0
10
0.6
0.8
1.0
1.2
1.4
1.6
1.8
Jan-12 May-12 Sep-12 Jan-13 May-13 Sep-13 Jan-14
Core Inflation
Number of rising components - falling components (3mma), RHS
Source: Haver Analytics, Deutsche Bank Research
Eurozone core inflation has been rising since December while an
increasing number of components show rising prices
% yoy
Potential turning point,
but exposed to
EUR appreciation
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
Euro strength is among the key risks to the Eurozone recovery, though we see limited further upside to the currency
EURUSD is at its highest in 2.5 years
− +8% vs. USD, +5% trade-weighted since Apr-13
Several factors have acted in support of the euro
− Rising capital inflows as breakup fears have
faded, a stabilising periphery, less attractive EM
− Eurozone current account surplus at record high
− Market no longer expects ECB rate cut
Euro above current levels threatens the recovery
− Sustained euro strength makes exports more
expensive and reduces competitiveness
− “Pain thresholds” differ by country; France, Italy
already exposed at current levels
− As a whole, the Eurozone suffers above
EURUSD of ~1.40
Further upside for the euro is limited
− ECB likely to react if a strong euro increases
deflationary pressure
…Mario Draghi: “[Euro] increasingly relevant in
our assessment of price stability”
− EUR/USD to fall below 1.30 by year-end
1.10
1.20
1.30
1.40
1.50
1.60
Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 Jan-14
Horizontal bands denote “pain thresholds” above which euro starts denting growth
Source: Bloomberg Finance LP, Deutsche Bank Research
Sustained euro strength would threaten the recovery; Italian and
French exporters already affected at current levels
Germany
France
Italy
Eurozone
10 Get real on euro - 26th Feb 14
-1%
0%
1%
2%
3%
4%
1.20
1.25
1.30
1.35
1.40
1.45
1.50
1.55
Feb-09 Feb-10 Feb-11 Feb-12 Feb-13 Feb-14
EURUSD
Basic balance*, RHS
Note: (*) Basic balance = Current Account Balance + Foreign Direct Investment + Portfolio Flows
Source: ECB, Deutsche Bank Research
Portfolio inflows and a current account surplus have supported euro
strength
% of GDP
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
Some recent data in Japan have been weak
− Q4 GDP only grew by an annualised 0.7% qoq
− External trade was weak as higher energy
imports turned historic surpluses into deficits
− Domestic spending not picking up as much as
expected ahead of consumption tax increase in
Apr-2014
However, PM Abe’s reflationary policies are working
− After falling for 15 years, prices have stopped
falling and are expected to rise by 1.2% in 2014*
− 2013 trends of a falling yen, rising earnings and
asset prices should continue in 2014
− 5Y inflation expectations are above 2%, from
negative as recently as late 2011
− Impact of the consumption tax rise will be
temporary and growth will recover in 2014
This has important implications for asset prices
− Nikkei to rise to 19,000 by end-2014 (+28%),
with exporters benefiting from a weaker yen
(end-2014 target of 115)
-2.5 -2.0 -1.5 -1.0 -0.5 0.0 0.5 1.0 1.5 2.0 2.5
2009 2010 2011 2012 2013
Source: Bloomberg Finance LP, Deutsche Bank Research
However, Abenomics is increasing inflation expectations, as
measured by breakeven rates (5Y bond – 5Y inflation-linked bond)
25
30
35
40
45
50
55
2000 2002 2004 2006 2008 2010 2012 2014
Consumer confidence
Source: Cabinet Office, Deutsche Bank Research. Note: Seasonally adjusted diffusion index
Contrary to expectations, consumer confidence has actually fallen in
recent months
Despite some weak recent data, Abenomics is on track to help Japan shake off two decades of deflation
11
*Excluding consumption tax effect
Abenomics is working...so far 7 Feb 14
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
China is the second largest, and fastest growing
major economy in the world
− China to contribute 1/3 of global 2014-15 growth
Over the last few years, there have been several
false alarms over a hard landing
− A China hard landing (i.e., growth below 6%
yoy) or even growth below consensus (7.5%)
poses substantial risks to the world economy
Concerns are rising again about China’s ability to
sustain its current pace of growth
− Mixed macro data over recent months
− Years of rapid credit growth, especially in the
shadow banking sector, have led to concerns
over NPLs* and defaults
− China’s attempts to rebalance its economy from
an investment- and export-led model, to a
consumption-led growth model could lead to a
structural slowdown
34%
20% 20% 14%
7% 5%
0%
10%
20%
30%
40%
China US EM Asia (Other)
EM LatAm & EMEA
Other DM Eurozone
Note: based on IMF 2010-12 avg. PPP GDP weights. Source: Deutsche Bank Research
China is expected to deliver more than one-third of global growth in
2014 and 2015
% contribution to global growth, 2014-15 avg.
6
7
8
9
10
11
12
13
2010 2011 2012 2013 Source: Haver Analytics, Deutsche Bank Research
China’s growth has slowed-down relative to 2010-11, with many
observers seeing a structural slowdown
% yoy
12
China growth is key to our outlook for 2014-15, but concerns are again rising over the country’s growth prospects
Note: (*) NPL = Non-performing loans
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
Non-traditional and shadow banking have
contributed to a sharp rise in credit growth
These new forms of lending developed to circum-
vent limitations of the traditional financial system
− PBoC’ limits interest rates on deposits, in order
to channel cheap credit to local governments
and SOEs*
− As a result, savers seeking higher interest rates
and the credit-starved private sector are pushed
outside the traditional banking system via trust
and wealth management products (WMPs)
Sustained levels of credit growth have raised fears
over NPLs, defaults and a systemic financial crisis
− Subsidised loans to the public sector have
financed poor investments, leading to bad debts
− Less regulated trust products, WMPs could lead
to losses, including for retail investors
…Restructuring of a WMP in January
…First-ever corporate bond default in March
0
500
1000
1500
2000
2500
2005 2006 2007 2008 2009 2010 2011 2012 2013
Non-traditional & shadow banking
RMB loans
TSF
TSF = total social financing, a measure of total credit to the economy
Source: Bloomberg Finance LP, Deutsche Bank Research
China credit flow: years of high credit growth, sustained by rise of
non-traditional lending and shadow banking
CNY bn
(3mma)
Description of key shadow banking products
Wealth
management
products
(WMP)
Widespread savings products for private investors
Offer higher returns than traditional deposits Investors wrongly perceive them as
guaranteed by commercial banks
Trust loans Direct form of financing Offer funding to credit-starved private sector Client funds (wealthy individuals, cash-rich
corporates) used to finance loans to the real economy or invested in financial assets
Also offer higher returns than traditional deposits
13
Rapid credit growth and the rise of shadow banking have raised fears over the health of China’s financial system
Note: (*) SOE = State-owned enterprises
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
14
In our view these concerns are overdone and we do not expect a systemic credit crisis similar to the US subprime crisis
68%
20%
32%
80%
GDP Bank Credit
Credit-starved private sector to see funding costs come down, as the
subsidy to the public sector gets removed
Private sector
Public sector /
SOEs
Private sector is ~2/3 of GDP, but
receives less 1/5 of credit
Source: Beijing University, CBRC, Hexun, Roadoor.com, Deutsche Bank Research
Further restructurings and defaults in China’s trusts
and WMPs are very likely, and are not unwelcome
as they help prevent speculative flows and credit
But concerns over a credit freeze and systemic
financial crisis are overdone
− Credit fundamentals of trust products are
actually improving – e.g., lower share of risky
borrowers
− PBoC stands ready to inject liquidity if needed
− Financial risks are being addressed by reforms
Authorities are managing an orderly default process
– as investors ‘learn’ to price credit risk, default
recovery ratios will gradually be allowed to fall
While average borrowing costs will rise, only the
less efficient public sector / SOEs will suffer – while
private sector funding costs fall
Reforms should enable sustained credit growth
while improving overall financial stability
Reforms will reduce financial risk and improve financial stability
Municipal bond
market
Channels funding to municipalities other than via riskier LGFVs*
Securitisation of
local SOE
assets
Increases liquidity available to local governments
Reduces funding pressure
Securitisation of
bank assets
Increases transparency, including credit rating by rating agencies
More efficient allocation of risk, as different tranches offer different risk-return profiles
Too much distrust in trust products -17th Feb 14
Note: (*) LGFVs: local government financing vehicles
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
Mixed macro data in recent months, e.g., weak
PMIs and IP, have stoked fears of a slowdown
Strong export growth, led by the US and Europe,
will support China’s export-led cyclical recovery
− US-Europe combined to grow at 2.3% in 2014,
up from 0.9% in 2013, providing external traction
− Export growth at 17% qoq in H2 2013; expected
to average 14% yoy for 2014, vs. 8% in 2013
China’s ambitious reform programme will also boost
growth short term, as some reforms get accelerated
− SOE reform and deregulation: opening up of
sectors with massive under-capacity to private
sector will drive investment*
− Financial reform: interest rate liberalisation will
provide cheaper credit to efficient private sector
− Fiscal reform: allowing municipalities to issue
bonds will alleviate funding pressure and help
refinance loans, reducing systemic risk
48
50
52
54
56
58
60
2010 2011 2012 2013 2014
Composite
Manufacturing
Services
Source: Haver Analytics, Deutsche Bank Research
China PMIs: momentum has slowed in recent months, even if part of
the weakness can be explained by China New Year and US weather
3 month ma
Loss of momentum,
Manufacturing in
contraction territory
-30
-20
-10
0
10
20
30
40
50
35
40
45
50
55
60
65
2000 2002 2004 2006 2008 2010 2012 2014
PMIs (2Q lead)
Exports (rhs)
Note: PMI is the GDP-weighted new orders index for US ISM and Eurozone PMI
Source: Haver Analytics, Bloomberg Finance LP, Deutsche Bank Research
China exports vs. US & Europe PMI new orders: Chinese exports
should remain robust as US, Europe provide external traction
Index %yoy
PMI new orders
suggest export
acceleration over
next 6 months
15
In the near term, export growth and the acceleration of domestic reforms should underpin growth in 2014
China: growth and reform targets for 2014
Note: (*) Overinvestment has disproportionately gone to public-sector related areas, i.e.,
infrastructure or sectors dominated by inefficient SOEs. In contrast, other sectors are materially
underinvested
Asia's export engine revs up - 28 Feb 14
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
Political risk has also been a
major driver of EM outflows
Can involve political conflict,
violence and economic
mismanagement
Ultimately, however, this is
country-specific
-4
-10 -12 -13
-25 -30
-25
-20
-15
-10
-5
0
Source: Haver Analytics, Bloomberg Finance LP, Deutsche Bank Research
Political risk has spurred FX drops in some
major economies since Nov. 2013 (%)
16
EM are faced with a lower growth differential vs. DM, prospects of higher US rates and lower liquidity, and increasing political risk
0
1
2
3
4
5
6
7
1980 1986 1992 1998 2004 2010 2016
G7 EM
Trend GDP growth among EM countries
compared to DM is falling
%
Source: IMF, Deutsche Bank Research
1.5
2.0
2.5
3.0 85
87
89
91
93
95
97 Jan-13 Apr-13 Jul-13 Oct-13 Jan-14
USD/EM Currencies (lhs, inverted)
US 10y Yield (rhs)
Expectations of higher US rates have been a
major driver of outflows from EM*
*JP Morgan EM Currency Index
Source: Bloomberg Finance LP, Deutsche Bank Research
%
After a decade of rising growth, EM growth is trending lower amid falling reform momentum, exhausted growth models (e.g., dependence on commodities)
At the same time, DM are seeing rising momentum
Therefore, the wider growth differential observed in the previous decade is shrinking
In 2013, the Fed’s taper signal
triggered a re-assessment of EM
valuations and fundamentals
Rising rates meant yield-seeking
in EM assets less attractive
EM Monthly - Limiting Contagion -13th Mar14
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
Major escalation in Ukraine tension in recent weeks
− Pro-Russia leader deposed following months of
protests resulting in new government that wants
to integrate with EU
− Russia has supported a separatist
administration in Ukraine’s Crimea region, of
mostly Russian-speaking population
− Diplomatic tensions between Russia and the US
and Europe have escalated
The West is threatening sanctions, although
Europe’s closer economic ties and dependency on
Russian energy make these less likely
− 30% of Europe’s gas comes from Russia
Crimea referendum on independence on 16-Mar,
while elections are due in Ukraine in May
We expect no military escalation but rather intense
diplomatic maneuvering over the next few years
While unlikely, a tit-for-tat round of economic
sanctions remains an important risk
Key facts
Ukraine is a relatively new state (independent since
1991), though Ukrainian nationalism has been a
political movement since the 19th century
Historically, Russia has considered it to be in its
sphere of influence, resisting EU efforts to integrate
Ukraine
Ukraine’s strong linguistic and cultural divide makes
a quick resolution difficult
− Nationalist, EU-facing West
− Russian ethnic and speaking East
17
Ukraine continues to be at the focus of major political and economic turbulence
>75% 25% - 74% 5% - 24% <5%
% of Russian speakers in Ukraine
Bailing out Ukraine- 12th Mar 14
Ukraine
Black sea Russian naval base at Sevastopol
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
EM debt fund outflows continue on weak sentiment
− In the 8 weeks to 5-Feb, institutional EM mutual
debt funds saw outflows of USD 2.9bn
− EM Hard currency debt funds, however, actually
saw inflows of USD 570m
However we do not expect contagion and a
widespread ‘EM crisis’ and sell-off
Instead, differentiation should continue as markets
penalise ‘bad EM’ and reward ‘good EM’
− Countries with current account deficits, failing to
reform or where tensions are building up are
under pressure – e.g., Ukraine, Venezuela,
Thailand, Russia
− Unlike during the Q2 2013 sell-off, good stories
are now being rewarded – e.g., record USD-
denominated bond sales in Indonesia, Slovenia,
Mexico, Colombia in 2014
Risks remain for 2014, both idiosyncratic (e.g.,
elections, escalating tensions) and external
− Systemic risks only if China or the US slows
down materially, or if capital outflows become
substantial and weaken country fundamentals
18
We do not expect contagion and a widespread ‘EM crisis’, but rather continued differentiation between countries
-0.6
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
Jan-12 Jul-12 Jan-13 Jul-13 Jan-14
Local currency
Hard currency
Source: Deutsche Bank Research; EPFR Global
EM weekly debt fund flows show increasing differentiation by asset
class
USD bn 8 wk, rolling avg
0.0
0.1
0.2
0.3
0.4
0.5
0.6
Jan-12 May-12 Sep-12 Jan-13 May-13 Sep-13 Jan-14
Diversification Ratio
Note: The diversification ratio looks at the volatility of the return on a basket of EM currencies
1= zero correlation between the currencies in the basket; 0 = perfect correlation between currencies
Source: Deutsche Bank Research
EMFX is seeing increased differentiation within its constituent
members – correlation between different currencies is falling
EM
FX
co
rre
latio
n
Perfect
None
Central Europe: A Good EM Story - 14th Mar 14
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
While EM equities could be tactically oversold, structural drivers remain negative
80
90
100
110
120
130
Feb-13 May-13 Aug-13 Nov-13 Feb-14
Note: EM refers to MSCI EM index. DM is proxied using the MSCI World index. US refers to the MSCI US index.
Source: Bloomberg Finance LP; Deutsche Bank Research
Total returns in EM have lagged DM and US equities in USD terms
over the last 12m
% US +25%
DM +22%
EM -6%
EM equities continue to underperform in USD terms
− Since Jan-2013, EM equities have returned -6% while DM equities have risen 22% and US 25%
EM equities could be tactically oversold, with some markets looking cheap on a price to book value level
However, underlying causes of the current sell-off in EM equities are structural, namely a rise in state intervention and a deterioration in corporate governance
EM outflows could stabilise in the short-term
− A decisive move down in oil prices
− Signs of improving exports
But unlikely to be any decisive break-out in any direction until long-term outlook for China is cleared
China
Brazil
Russia
India
Mexico
Chile
Poland
Turkey
Thailand
Malaysia Taiwan
Indonesia
Korea
South Africa
Philippines
Egypt
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0
4 8 12 16 20 24
Widespread dispersion of value is evident across EM equity markets
P/BV (x)
RoE (%)
Source: Bloomberg Finance LP, Deutsche Bank Research
Higher valuations
Lower valuations
19 GEM Equities Feb 2014
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
20
In the US, where high valuations offer limited upside, corporates can pursue various strategies to enhance shareholder value
-4
-3
-2
-1
0
1
2
3
-600
-400
-200
0
200
400
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013F
Funding Status ($bn, lhs) Funding Status % of Mkt cap (rhs)
Reduce pension risk: as full funding is reached, companies should
match remaining liabilities by switching into LT fixed income assets
Source: Worldscope, Compusat, Deutsche Bank Research
Underfunded
Overfunded
strong equity and fixed income
returns over recent year have helped
companies plug their pension deficits
1
4
10
20
30
40
50
60
1968 1973 1978 1983 1988 1993 1998 2003 2008 2013
Net Debt / Market Cap (non-financials)
Optimise capital structure: raise net debt / market cap to take
advantage of low rates and relatively high cost of equity
Source: Compustat , Deutsche Bank Research
%
Net debt to market cap at
record low of 14% vs.
29% avg. since 1967 and
35-40% in the late 1980s
20 25 30 35 40 45 50 55 60 65 70 75
1960 1966 1972 1978 1984 1990 1996 2002 2008 2014
S&P500 Div payout Ratio
Increase cash payouts: firms with strong dividend growth to
outperform amid demand from income-starved investors
Note: Shaded area represents recession
Source: Bloomberg Finance L.P, Deutsche Bank Research
even with double digit dividend growth over 2014 and 2015,
payout ratios will remain below long-term average %
2014-15 Forecast
1960-07 Avg: 45%
2
3
0
1
2
3
4
5
6
7
2000 2005 2010 2015 2020 2025 2030 2035 2040
Fed Funds Rate USD 3m OIS*
Lower ROI targets on new investments: future rates are likely to
peak below pre-crisis levels suggesting firms
%
*Market-implied ECB / Fed policy rate
Source: Bloomberg Finance LP, Deutsche Bank Research
Terminal rates to peak at
lower levels compared to
history enabling firms to
lower hurdle rates for capex
S&P CFOs: Five things to do in 2014 -1st Mar14
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
21
Recent technology deals and stocks price moves have evoked memories of the early 2000s dotcom bubble
The rally of some stocks evokes memories of the
dot-com boom
− After a 600% rally since Jan 2013, Tesla is now
worth half of GM, which sells 400x as many cars
− In China, internet stocks, like Tencent, have
rallied strongly in a falling market
− Netflix stock has almost quadrupled since 2013
Investors have also started to pile cash into tech
firms since the beginning of the year
− Tech debt issuance is at a record
− Tech IPO volume is at the highest since 2004
− Tech M&A at the highest since 2000
…Facebook paid USD 19bn for WhatsApp, a
company with 55 employees and USD 20m
of revenues in 2013
* January-February
56
90
27
10 8 19 21
43 26
30
10 13
26 26 37
57
0
500
1000
1500
0
20
40
60
80
100 Value Volume
Tech M&A value ytd* at highest since 2000
Source: Dealogic, Deutsche Bank Research
WhatsApp, $19bn
$bn
Note: Computer & Electronics M&A, announced
30
65
100
Google searches for "Best Stock Broker"
Source: Haver Analytics, Bloomberg Finance LP, Deutsche Bank Research
Recent activity has captured the imagination of the public with signs that retail
investors are once again interested in equities. Possibly a contrarian indicator
Historical Peak = 100
-4 0 10 11 19 27 29 42 66
137 151 280
364
-200
0
200
400
600
Closing prices as of 13thMarch 2014 COB, Source: Bloomberg Finance LP, Deutsche Bank Research
Tech stock returns since 1 Jan 2013: Outliers on both sides of the S&P 500
% ‘Old’ tech stocks have not
participated in the rally
602
“We have a bubble”
Robert Shiller,
Feb-2014
“A sceptic would have to be blind not to see
bubbles inflating in [...] stock market valuations of
fashionable companies like Netflix and Tesla”
Seth Klarman, Baupost Group, Mar-2014
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
22
We believe that Facebook’s takeover of WhatsApp (even at this price) was justified, but Tesla’s stock price seems too optimistic
$.01 $.01 $.02 $.02 $.04 $.04
$1.17
0.0
0.2
0.4
0.6
0.8
1.0
1.2 Market-cap per vehicle sold (USD m)
Source: Deutsche Bank Research
Tesla is valued at USD 1.17m per vehicle sold right now
Tesla’s current valuation would require rapid growth
with little disruption, a very optimistic scenario
− Tesla is currently valued at $1.2m per vehicle,
vs. $40k for BMW and $10k for GM
− Tesla aims to produce 500k cars by 2020,
implying production will surge by 55% p.a.
− Tesla faces significant uncertainties over cost,
future battery supply, its distribution network and
competition from traditional manufacturers
compressing margins
0
100
200
300
400
500
1 2 3 4 5
WhatsApp has grown its user base more quickly than any other
social media platform during its first 5 years
Source: Deutsche Bank Research
419m
145m
123m
54m
52m
Years since founded
Facebook’s acquisition of WhatsApp can help it
solidify its position as the top company in mobile
− FB paid $42 per user for WhatsApp vs. $33 for
Instagram; current market valuations per user
are $123 for Twitter and $170 for FB
− $19bn is in line with revenue per user that other
messaging models in Asia are able to generate
− Also a defensive move: WhatsApp’s rapid
growth could easily have cost FB future sales
(up to the 8% of market cap it paid in stock)
Tesla Motors - 20 Feb 14
Facebook - 20 Feb 14
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
Asset price views
Asset Class View Rationale
Equities
Bullish equities Preferred asset class for 2014, see ~10% total returns on stronger earnings and growth
US: overweight 2014 likely a year of normal EPS growth, PEs, total returns and volatility
Mixed recent macro data raises near-term uncertainty. S&P500 attractive below 1,750
Europe: remain bullish Scope for outperformance, especially in the periphery, on upside surprise in credit growth
Expected acceleration in global growth should provide further support
Japan: remain bullish Abenomics to fuel further gains. YTD underperformance provides attractive entry point
Rates US rates to sell-off mildly
Accelerating US growth while inflation remains subdued before normalising later in the year
Environment favourable for a mild rise in US rates, with front-end rates rising to close the
gap with Fed own projections
Further rise only when data concerns are overcome, upward trend of inflation is confirmed
FX Long USD Stronger US growth, Fed exit bias, and recovery in US equity inflows to support the USD
Limited upside to EURUSD Euro supported by (low) real yields due to low inflation – but limited scope for lower yields
While portfolio inflows have been supportive, M&A flows already point to a weaker euro
Short AUDUSD – hedge
against China slowdown Dollar bloc FX among most expensive; AUD has overshot commodities in recent weeks
China slowdown would hurt Australia economy and AUD
Credit Constructive on credit
overall
US: value in short-duration / low quality and long-duration / high quality credit – widest
sectors across the credit spectrum; also most underweight sectors going into 2014
Europe: long IG vs. HY on a levered / ratio basis, as HY has outperformed IG YTD and
appears rich to IG on several metrics
EM Expect continued
differentiation Renewed bouts of pressure likely, as underlying difficulties in weak countries not resolved –
but we don’t expect a generalised sell-off and instead should see continued differentiation
Commodities Short crude oil Rampant US oil supply growth and upside risks to Libyan and Iranian crude oil exports imply
a bearish environment for crude oil in 2014. See drop of $10/bbl
23
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
DB forecasts
24
* CPI (%) forecasts are period averages
CEEMEA: Czech Rep., Hungary, Poland, Russia, Turkey, South Africa, Israel, Romania, Kazakhstan,
Ukraine, Egypt, Saudi Arabia and UAE
LATAM: Argentina, Brazil, Chile, Colombia, Mexico, Peru, Venezuela
ASIA: China, HK, India, Indonesia, Korea, Malaysia, Philippines, Singapore, Sri Lanka, Taiwan, Thailand,
Vietnam
DM: US, Japan, Eurozone, UK, Denmark, Norway, Sweden, Canada, Australia, New Zealand, Switzerland
2012 2013F 2014F 2015F Current Q1-14 Q2-14 Q4-14
Global 3.0 2.8 3.5 3.9 US 10Y yield (%) 2.63 2.50 2.75 3.15
US 2.8 1.9 3.2 3.8 EUR 10Y yield (%) 1.55 1.70 1.90 2.20
Eurozone -0.6 -0.4 1.1 1.4 EUR/USD 1.39 1.35 1.32 1.25
Germany 0.7 0.4 1.5 2.0 USD/JPY 102 106 109 115
Japan 1.4 1.5 0.4 1.4 S&P 500 1,846 1850
UK 0.3 1.8 2.7 2.0 Stoxx 600 325 375
China 7.8 7.7 8.6 8.2 Gold (USD/oz) 1,372 1190 1150 1100
India 5.1 3.9 5.5 6.0 Oil WTI (USD/bbl) 98 95 85 90
EM (Asia) 6.0 5.9 6.8 6.8 Oil Brent (USD/bbl) 108 100 95 100
EM (Lat Am) 2.8 2.3 2.1 2.9
EM (CEEMEA) 2.7 2.3 2.0 3.2
EM 4.7 4.5 5.1 5.4
DM 1.4 1.1 2.2 2.6
2012 2013F 2014F 2015F Current 2013 2014 2015
US 2.1 1.5 2.1 2.3 US 0.125 0.125 0.125 1.750
Eurozone 2.5 1.3 1.0 1.4 Eurozone 0.25 0.25 0.25 0.75
Japan 0.0 0.4 3.0 1.7 Japan 0.10 0.10 0.10 0.10
UK 2.8 2.6 1.8 1.7 UK 0.50 0.50 0.50 0.75
China 2.6 2.6 3.5 3.2 China 3.00 3.00 3.25 3.25
India 9.7 10.1 6.3 6.7 India 8.00 7.75 7.50 7.50
GDP growth (%) Key market metrics
Current prices as of 13 M arch
CPI inflation, YoY* (%) Central Bank policy rate (%)
Deutsche Bank Research Research The House View – 17 March 2014, [email protected], +44 207 545 8465
Appendix 1 Important Disclosures Additional Information Available upon Request
Analyst Certification
This report covers more than one security and was contributed to by more than one analyst. The views expressed in this report accurately reflect the
views of each contributor to this compendium report. In addition, each contributor has not and will not receive any compensation for providing a specific
recommendation or view in this compendium report. Raj Hindocha/Marcos Arana
Attribution
The Author of this report wishes to acknowledge the contributions made by Shakun Guleria and Varun Narang, employees of Infosys Ltd., a third
party provider to Deutsche bank offshore research support services.
For disclosures pertaining to recommendations or estimates made on a security mentioned in this report, please see the most recently
published company report or visit our global disclosure look-up page on our website at
http://gm.db.com/ger/disclosure/DisclosureDirectory.eqsr.
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