27 February 2013

The main points at glance

Bonds Equities Hedge funds
Projections at 6 months

After a start to the year buoyed by optimism, the last few weeks have been characterized by a kind of reality check which does not necessarily call into question the macro-economic outlook, but which reminds us that not everything can be wiped clean by floods of liquidity. In the United States, the minutes of the Federal Reserves discussions have helped to remind us that, if the trend towards an improvement is extended, it will be necessary sooner or later to think of reducing and then withdrawing the monetary policy measures put in place to stimulate activity. Nothing very surprising in itself, but this prospect has aroused expectations which have until now been anaesthetized by the successive Quantitative Easing rounds. In the Euro zone, after a very weak 4th-quarter in terms of activity, the trend appears to have been reversed and suggests a gradual improvement in the pipeline for 2013. But within the monetary union the dynamics diverge, and sometimes significantly! And the return of political uncertainty with the Italian elections is a reminder of the fact that not all risk of sovereign stress has disappeared since the ECBs intervention last summer. Finally, in Asia the hopes aroused by the expected change at the head of the Bank of Japan have grown in recent weeks, but we will probably have to wait before seeing a genuine and significant impact on activity and growth. As for China, the latest indicators suggest that the stabilization of growth at around 8% has been facilitated by a slight easing of credit conditions. The risk of an accident is still present for the worlds second-largest economy. Thus the last few weeks on the markets have seen more varied, with sometimes-substantial movements within the different asset classes.

Economy
United States ........................................................................... 2 The Fed is arousing fears of an interest-rate hike
This document is based on information collected until the Monday preceding publication. A publication of the Research & Analysis team SYZ Asset Management Tel. +41 (0)22 819 09 09 info@syzbank.ch Authors: Yasmina Barin Yves Gallati Adrien Pichoud Fabrizio Quirighetti

Europe ..................................................................................... 3 The economic outlooks diverge in the Euro zone Japan....................................................................................... 4 Hope is reborn Emerging economies................................................................ 4 A credit-driven recovery in China?

Markets
Equities ................................................................................... 5 A turbulent month of February Bonds ...................................................................................... 5 A sharp easing of Irish interest rates Exchange rates ........................................................................ 6 The pound sterling continues its slide

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.

27 February 2013

Economy
United States Could there be a better sign of the progress made by the US economy over the last few months? In any case, all it will have taken is that some members of the Fed wonder about the possibility of adapting the current Quantitative Easing programme for investors to begin to get worried about a hike in key interest rates and about the Feds strategy. The abrupt appearance of this topic reveals a measure of confidence in the soundness of the US growth dynamic and its outlook, which the recent statistics have strengthened. But intellectual honesty obliges one to point out that, while at the central banks last meeting some members of the Fed had mentioned the possibility of reducing (or even halting) its market interventions, another member warned against the risk of a premature withdrawal of monetary stimuli... At this stage, however, it appears that this debate is still largely theoretical on the Monetary Policy committee and the assets-purchasing programme initiated at the end of last year is being maintained without any change. But the main message is probably that the investor community is now ready to ask itself the question. The consequence being that certain economic statistics (in particular those relating to employment) will from now on be scrutinized particularly closely! It is true that the stream of economic statistics remains generally positive in the United States, even though the impact of the tax increases that took effect at the beginning of the year is already being felt. Thus retail sales marked time in January but continued to rise. In addition, US households have had to cope with rising gasoline prices for two months (+15%), which has come on top of the tax increase since January.
Delinquencies and real-estate foreclosures (% of loans)
11 10 9 8 7 6 5 4 3 1990 5 4.5 4 3.5 3 2.5 2 1.5 1 0.5 0 1993 1996 1999 2002 2005 2008 2011
So urce: B lo o m berg
-50

But the construction and real-estate sector is still enjoying the positive dynamic that has been driving it for 18 months, fuelled by very low interest rates, prices that are also still low and by a gradual improvement in borrowers solvency. Thus the delinquency rates on mortgages and property foreclosures declined again in the 4th quarter. And while housing starts and the NAHB home builders index marked time in January, the continued rise in building permits testifies to a stillpositive trend in the sector. The ongoing transition from investment-driven growth to growth fuelled by final consumption therefore appears set to continue with the gradual improvement on the labour market and the recovery of real estate. And this revival of domestic demand is for the time being taking place without having any negative repercussions on the foreign-trade balance. Excluding oil, the trade deficit has in fact stabilized at a level 50% lower than that at which it stood in the middle of the previous decade. As for the total deficit, it is also below the level it had reached prior to the last recession. And the energy revolution due to shale gas and oil should, by reducing US dependence on imports, maintain this downward trend in the US trade deficit.
Total trade balance and excluding petroleum
000'S 10

-10

-20

-30

-40

-60

-70 98 99 00 01 02 03 US - T rade balance US - T rade balance excluding petroleum 04 05 06 07 08 09 10 11 12

Source: T homson Reuters Datastream

The US foreign trade deficit has been sharply reduced compared with the pre-crisis peak. And the ongoing energy revolution should maintain this trend.

Delinquencies (% of total loans) LHS Foreclosures (% of total loans) RHS

Payment incidents and real-estate foreclosures are decreasing.

Thus apart from the volatility of the monthly statistics, the growth dynamic now appears to be sound and selfsustaining thanks to the driving force of domestic demand. However, the beginning of a return to normal in budgetary policy will limit its potential to accelerate and the rate of GDP growth is hardly likely to be higher than that of past years, the only difference being that this growth appears to be sounder and more sustainable. Which explains why the hypothesis of a gradual return to

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.

27 February 2013

normal of the Feds monetary policy in the foreseeable future no longer seems as incongruous as it may have done only a few months ago Europe In Europe, on the other hand, the very idea of mentioning a withdrawal of monetary-policy support might make the listener smile if the macro-economic situation were not what it is: a Euro zone still in recession, weakened by the fiscal austerity measures put in place in the south of the zone and, from now on, in certain core countries such as France. Thus after an endof-year in 2012 that was very weak in terms of activity, the European Commission has revised downwards its growth outlook for 2013 and is expecting a second consecutive year of falling GDP in the Euro zone (-0.3% following -0.6% in 2012). It is true that the 4th quarter was particularly bleak for all of the European economies, in reality the worst since spring 2009. The Euro zone recorded a third consecutive quarter of falling GDP (-0.6%), with marked drops in all the main economies: -0.6% in Germany, -0.3% in France, -0.9% in Italy, -0.7% in Spain, -0.2% in the Netherlands and -1.8% in Portugal
PMI composite indices (manufacturing + services)
65

circle - failure to keep to the public deficit reduction targets and new austerity measures that will in turn weigh on growth Among the large European economies, Italy finds itself in an intermediate position: after a 2.2% drop in its GDP in 2012, it is likely to remain in recession in 2013 (-1.0% expected by the European Commission) and is therefore to be ranked among the bad pupils in terms of growth. However, a considerable proportion of the budgetary effort was made last year (hence the severe recession) and the Euro zones third-largest economy succeeded as of 2012 in bringing its public deficit down to below the 3% threshold. It is therefore not under an obligation to further tighten the fiscal screw this year, which might allow activity to gradually recover. Provided that the political instability created by the indecisive elections does not help to ruin the efforts made over the last year, at a time when those efforts might begin to bear fruit
Euro zone: consumer confidence, retail sales and GDP (%, yearon-year)
5 6

0 4

-5 2 -10

60

-15

-20

55
-25

-2

50

-4 -30

-35

-6 04 05 06 07 08 09 10 11 12

45

96 97 98 99 00 01 02 03 RET AIL SALES - 3MMA YoY %(R. H. SCALE) EURO AREA - G DP YoY %(R.H. SCALE) EURO AREA - CO NSUMER CO NF I DENCE

Source: T homson Reuters Datastream

40

After two years of falling almost uninterruptedly, the recent rebound in the confidence and activity indices suggests that a (gradual..) improvement can be envisaged in 2013.
2007 2008 G ER 2009 FRA 2010 2011 2012 2013

35 2006 EMU

So urc e: B lo o m berg, SYZ A M

Since the end of the summer the German and French indicators have been diverging significantly, suggesting a marked rebound of activity in Germany and a continued deterioration in France.

But it is the outlook for certain economies - more than this onset of weakness - that is proving worrying: in view of the efforts to restore order to public finance that are necessary to reduce the deficits, the French and Spanish economies appear to be condemned to another year of stagnation/recession. The divergence between the French or Spanish confidence and activity indices, on the one hand, and their German counterparts on the other is striking: while Europes largest economy appears to have recorded a marked rebound since the end of last year, that is not true of the two previously-mentioned economies. The consequence being - as in a vicious

Because, in spite of the weakness shown in France and Spain, the Euro zone does indeed appear to have bottomed out in the 4th quarter of last year. Most of the aggregate indices are showing a trend reversal which is putting an end to nearly two years of almost uninterrupted deterioration: consumer confidence, economic sentiment, PMI indices This rebound is not yet enough to take these indicators back to levels synonymous with growth, but it indicates that things have stopped getting worse and that from now on a very gradual improvement can be envisaged. But many pitfalls are still strewn along the path towards an exit from the crisis, a path that will in any case be long and difficult. And the Euro zone will have great need of the strong support from monetary policy to have a hope of pulling out of the crisis! Rather than beginning to think about how to withdraw the existing measures (like the Fed), the ECB might well be obliged to further ease its

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.

27 February 2013

monetary policy, either by cutting its key interest rate or by proceeding to make sovereign-debt purchases in the framework of the OMT programme. In the United Kingdom, it is still a slump that is prevailing with stagnant economic growth and no real prospect of an improvement in the foreseeable future. That was in fact the argument highlighted by Moodys to lower the rating of British government bonds by one notch (from Aaa to Aa1). The British economy even seems to be on the verge of stagflation since the lack of real growth is being compounded by inflation above the central banks target (2.7%) and which is likely to remain at this level for at least the next two years according to the Bank of Englands projections. The cocktail of budgetary austerity and massive monetary policy support via Quantitative Easing has until now not produced the expected effects. But in the absence of an alternative, the United Kingdom is probably heading towards a more-of-the-same-medicine approach with the imminent arrival of Mark Carney as governor of the BoE In the absence of any major statistics in Switzerland, it is once again the publication of the SNBs foreignexchange reserves that caught the attention in February, owing to the stability they have been showing since last October. This reflects the fact that, with the dissipation of the risk of the Euro zone breaking up, the central bank no longer needs to intervene to defend the 1.20 threshold against the euro put in place since September 2011. Japan The Japanese economy recorded a third consecutive drop in GDP in Q4 2012 (-0.1% following -1.0% and 0.2% in the previous quarters). But who today is concerned about the past in Japan? With the expectations of monetary policy reform and the resultant depreciation of the yen, the hope of seeing the Archipelago at last regain some dynamism is surfacing. And while the rebound of exports in January probably owes more to a slight firming up of global demand, it has to be observed that this movement did at least have the merit of reviving some optimism about the outlook: consumer confidence leaped up in January to its highest level since September 2007 and business expectations stand at their highest level since February 2006! It now remains for the new governor of the Bank of Japan not to dash the hopes pinned on this policy change and to see these encouraging signals deliver something tangible.

Japan Business expectations, consumer confidence and GDP (%, year on year)

70

8 6

60

4 2 0

50

40

-2 -4

30

-6 -8 -10

20

10 2000

-12 2002 2004 2006 Eco Watchers outlook C onsum e r confidence G D P YoY - RHS 2008 2010 2012

So urc e: SYZ A M , B lo o m berg

Household confidence and business expectations leaped up in January. Which is encouraging for activity provided that the Bank of Japan does not disappoint!

Emerging economies The confirmation of the recovery of exports in China has helped to strengthen the trend towards a stabilization of growth that has appeared since the end of last summer. In the light of the latest figures for bank loans and money supply, however, it appears that the soft landing for activity has been greatly boosted by an easing of credit conditions. It is true that with the slowdown in inflation that was still observed in January (to 2.0%), the monetary authorities can afford to ease a little the credit reins to support growth. But they appear to want to remain vigilant in order to prevent an uncontrolled movement similar to what had happened in 2009, in particular in the real-estate sector. The prospect of new measures intended to slow down residential investment is an illustration of this. In Brazil, in contrast, after an aggressive round of interest-rate cuts from summer 2011 to last autumn, the central bank is now envisaging tightening its monetary policy again. An inflation rate that has been rising since the summer is to blame

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.

27 February 2013

Markets
Equities The financial markets saw a month of February that was full of developments and surprises. After having been shaken by worries about the Feds monetary policy in support of the US economic recovery, the Italian election deadlock ended up finishing off the global equity markets. In the space of a single day, the Milan stock exchange will have gone from the euphoria of the first polls predicting victory for the centre-left party (in favour of the European reforms) to the cold shower of the projections emphasizing that the rightwing party of Silvio Berlusconi might come out on top in the Senate. All of which means that the sign of an improvement in the business climate in Germany (given by the Ifo index) did not weigh very heavily in the scales to reassure investors.
Trend in the main indices YTD
27/2/13 116

In this colourful economic and political environment, investors interest in defensive shares was confirmed during the month of February. In Europe, the food and pharmaceutical sectors are benefiting from good visibility and high cash flow generation. It is worth noting the very poor performance of European utilities and telecoms stocks, which have been severely penalized by dismal prospects and dividend cuts. Investors have not completely abandoned European cyclical stocks, as can be seen in the outperformance of industrial and construction shares, driven by favourable economic expectations. A strong sentiment of concern is likely to prevail over the next few weeks, at a time when no solution to the Italian election saga appears to be obvious. In the short term, the fears about the fragile nature of the Euro zone are likely to favour an increase in volatility and a stock market correction. Nevertheless our scenario has not changed and we remain confident about this asset class for 2013. On the one hand, valuation levels are attractive compared with the bond markets and, on the other, global economic growth should improve gradually during the year. Bonds After the correction recorded at the end of January, the bond indices recovered in February, led by corporate and high yield bonds. A notable exception was that emerging debt did not share in the rebound. In Europe, the bonds of financial companies led the movement.
10-year government bond interest rates in the euro zone
6.00

114

112 110

108 106

104

102

100

98 96

94 31 7 14 JAN STOXX EUROPE 600 E - PRICE INDEX S&P 500 IBEX 35 TOPIX FTSE MIB SMI Source: Thomson Reuters Datastream 21 28 4 11 FEB 18 25

5.50

5.00

After a good start to the year, the European stock markets have suffered from a succession of events ranging from the lifting of the ban on short selling and suspicions of corruption in the ruling party in Spain to the Italian election deadlock.

4.50

4.00

3.50

From a regional point of view, the Japanese market remains the big winner at the beginning of this year, supported by the depreciation of the yen, which should help to revive the industry of the land of the rising sun, a large exporter of automobiles and electronics. The Swiss market has not been left behind and has been posting a flattering performance both since the beginning of the year and during the month of February. A favourable sectoral exposure (pharmaceuticals and financials) has enabled it to manage to perform well. The financial markets in the south of Europe, for their part, have suffered from a succession of events ranging from the lifting of the ban on short selling and suspicions of corruption in the ruling party in Spain to the re-emergence of Silvio Berlusconi in the Italian political landscape

3.00

2.50

2.00

1.50

1.00 O CT G ER F RA BEL NO V DEC IT A SPA IRE Source: T homson Reuters Datastream JAN F EB

At a time when Italian rates remained under pressure, Irish rates benefited from the raising by S&P of the outlook associated with the governments credit rating.

On the government bonds front, after the rise posted in January, the interest rates of the issuers deemed to be

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.

27 February 2013

safe eased somewhat (10-year German rate at 1.59%). Italian rates remained under pressure owing to the uncertainty resulting from the upcoming elections, while Spanish rates eased a little. As for Irish rates, they eased sharply after Standard & Poors raised its outlook from negative to neutral on the government rating (BBB+). They now stand at well below Italian rates, which points to a possible return of Ireland to the capital markets by the end of the year. The Emerald Isle would then be the only country to have benefited from a European aid programme to comply with the initial objective of the funds made available by the EFSF (Greece and Portugal have not yet done so). Exchange rates The rise seen in the euro/dollar exchange rate in January was followed by a downward movement in February which took it to around EUR/USD 1.32 before the Italian election results were published. Some disappointing GDP figures, the return of tension to the Euro zone and, on the other side of the Atlantic, speculation about a possible slowdown in the Feds Quantitative Easing weighed on the European currency and supported the US dollar. Against the Swiss franc, the euro hovered at around EUR/CHF 1.23. The pound sterling continued the downward movement it had begun at the beginning of the year, taking it to 7%. While the general strengthening of the US dollar in recent weeks has played a role, the fact that the Bank of England is now expecting an inflation rate of above its target for the next two years, but without adapting its monetary policy, has weakened the currency. The message is indeed clear: priority is being given to reviving growth, via liquidity injections, and in this environment the inflation target has become secondary. Bad news for sterling, which has been compounded by that of the downgrading of the United Kingdoms sovereign rating by Moodys.
Pound sterling against dollar US (GBP/USD)
1.70

1.65

1.60

1.55

1.50

1.45

1.40 2010 G BP/USD Source: T homson Reuters Datastream 2011 2012

Sterling has fallen sharply since the beginning of the year.

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.