Bernanke's Bet

GLOBAL EQUITIES RESEARCH

Interesting week ahead which should hopefully contrast with last week empty of fresh market moving news. Unfortunately though the activity might remain poor as whatever the data we will face they will hardly make fund managers change their mind on this year-end mood. Neither housing data such as the Housing Starts (Wednesday) nor the NAHB (tomorrow) will push the markets to break their highs. We know things are improving, and still are in Q4, which by the way should prevent any drastic sell-offs as there is no need of deleveraging anymore, but would hardly boost indices for now. The Retail Sales today are important. Retail sales values will probably bounce back from September's 1.5% m/m fall to increase by around 0.9% in October . This will be driven by a probable rebound in auto sales, after the 10.4% plunge in September that followed the end of the "Cash for Clunkers" scheme in August. But same story as the housing one, the survey will be market supportive showing consumers are not that much off the recovery, but for how long ? Even the industrial production tomorrow, will probably show the cash injection from the US authorities are efficient more than for a couple months time. We need something big to happen, something major such as an increase on the job front so that fund managers would take the precious decision to jump back in before Christmas. Or else, we will break on the upside as time is passing by, and confidence gradually coming back, with equity indices becoming attractive in term of yields with a risk-reward ratio lowered by more solid fundamentals.

Today's Bernanke speech will be interesting. Indeed, the Fed can mitigate some of the problems associated with economic uncertainty by announcing where it thinks the economy is headed. This can be done through quarterly economic outlooks, FOMC press releases, or even speeches from Fed governors. In fact, research has shown that the Fed's inflation projections are far more accurate than the economic consensus. By presenting the information -- even if it turns out to be wrong -- the market has a clear understanding of what the Fed is looking at in the future. Market participants can then adjust their investments based upon new data that would alter the Fed's thinking. These update are helpful as any weekly data is important for both US officials and market players, so much the current situation has never been experienced in the past, making all sort of statistics based on the past unfounded and mostly useless. The market will listen to Bernanke, who should remind economic conditions are improving, and employment sector should be lagging for some few more months.

The biggest reason Fed Chairman Bernanke has pushed for the Fed to be more transparent is the anchoring of inflation expectations. If the market doesn't have a strong feel for where the Fed is headed, it tends to believe that the Fed will not be able to handle shocks to the economy. These potential shocks tend to cause the market to experience extreme volatility in inflation expectations. Inflation is a self-fulfilling prophecy. If people believe inflation is going to come, then they change their savings and spending habits, which brings about higher inflation. The Fed monitors inflation expectations extremely closely. If expectations begin to rise, the Fed goes on heightened alert to dampen expectations by raising rates. If the economy is weak, an increase in rates could have a detrimental effect and push the economy into a recession. The increase in transparency gives the market a better understanding of how the economy is expected to perform and what the Fed's policy actions will be given shocks to the system. As the Fed has become more transparent, the market has reacted by keeping inflation expectations down. This has allowed monetary policy to work better.

The second reason for increasing transparency is that the Fed can implement policies without actually "doing" anything. If the Fed is completely transparent, then the stronger reaction from the market won't come from the actual implementation of the policy itself but to the guiding messages in speeches and directives ahead of the implementation. But rates aren't the only policy manoeuvres. In 1998 Long-Term Capital Management, a large and highly leveraged hedge fund, was on the brink of failure. The Fed rushed in to save the fund because it was deemed "too big to fail." The rush didn't come from policy changes, but due to statements the Fed made about what it was thinking about doing to save the firm. The statements caused the market to react and the financial system stabilized days before the Fed actually implemented the policy. By suggesting policy actions beforehand, the Fed was able to determine how the market was going to react and see if the policies would fix the problems before it implemented them.

The last reason for increasing transparency has to deal with interest rates at the zero bound. Bernanke co-authored a paper in 2004 regarding what the Fed could do if interest rates had fallen to zero. What he determined was that quantitative easing was unpredictable, but a highly transparent central bank could push real rates below zero by announcing that low interest rate policies would be kept for a long time period. Bernanke has kept his promise from his 2004 paper. Recent FOMC directives have noted that economic conditions are likely to warrant an exceptionally low federal funds target rate for an extended period. This has kept overnight rates at around zero even though market anticipation of inflation has begun to creep up. Of course all of the changes in transparency hinge on the confidence the market has in the Fed actually implementing the announced proposals. The Fed cannot cry wolf over and over again and expect the market to continue to believe what it says. The Fed needs to make sure that all of its announcements are credible.

That brings us back to the latest FOMC press release. The media was looking to see if the Fed was going to announce that it believed the economy was starting to get better. A change in the wording of the release would signal that the interest rate levels may begin to rise well before analysts currently expect. Interest rates would begin to rise almost immediately, even though monetary policy has not shifted. The Fed knows that better transparency helps both the market and monetary policy. All of the Fed's official releases are proofread multiple times to make sure that they are not saying something the Fed will regret. Take heed that the transparency by the Fed will make it easier to predict where rates are headed.

So the dollar should be supported in these levels. Not only thanks to higher rates anticipations as the US economy is improving, but also the US continues to enjoy a positive terms of trade shock stemming from the dollar cheapness. Therefore, to the extent that demand for capital goods recovers globally, the US is in a better position to benefit from that demand. The import and export components of the mfg ISM are a good leading indicator of the general direction of trade flows and this should continue to narrow the trade gap. Since the majority of the US trade deficit is with emerging Asia (65% with China ), closing the trade gap will ultimately require upward adjustments in the values of Asian currencies. This would take some pressure off of other major currencies which have taken the brunt of the downward pressure on the dollar. The desire by investors and central banks to diversify away from the dollar would only transfer US deficits to those countries with overvalued currencies (EUR, JPY). This is why some economists see limited downside for the dollar vs. EUR or JPY from current levels, which we fully agree with. Currently, the weakness is being driven by carry trade activity rather than fundamentals. However, this is set to reverse when the Fed signals a policy reversal and investors re-price their expectations on funding costs . .

Rollercoaster day ahead with some friendly newsflow.

ECONOMIC DATA WITH IMPACT

US Retail Sales (13h30 UK time) expected 0.9% from -1.5% / ex autos 0.4% from +0.5% / interesting / Retail sales account for about a third of final sales economywide. Auto sales plunged in September after the cash-for-clunkers subsidy expired in August, but the auto makers reported that sales bounced back with a 13% volume gain in October, a sign that the clunkers program didn't capture all the demand for new cars this year. Even more encouraging, sales excluding autos have strengthened over the past few months, and they probably rose 0.4% seasonally adjusted in October after a 0.5% rise in September and a 1% gain in August. "Consumer demand continued to inch back toward a more normal level in October,"

Empire manufacturing index (13h30 UK time) expected 29.3 from 34.5 / minor as just a confidence survey ad same as on Friday with the Michigan index will only get better when employment sector is improving

Business Inventories (15h UK time) expected -0.7% from -1.5% / minor as story behind the data hard to read short term

Fed’s Bernanke (17h15 UK time) speaks on Economic Outlook / obviously interesting at a time when market players started to worry about a possible Fed easy policy unwinding which both the FOMC and the G20 denied when reminding they will focus on growth

POSITIVE IMPACTS


ACCOR could decide at a board meeting Today to sell its Wagons-Lits unit (Le Figaro)

VIVENDI trumped an offer by Telefonica for a majority stake in Brazilian telecoms operator GVT / Vivendi's bid of 56 Brazilian reals per share improves an offer laid down by Telefonica of 50.50 reals and values GVT at about €2.8 bn / Vivendi bought 37.9% of GVT and has irrevocable options to buy another 19.6% / A bit expensive but strategic… / Vivendi will likely sell NBCU now…

NOVARTIS plans to launch as early as 2010 a diabetes treatment with a lower risk of side effects (The Nikkei)

CENTRICA is planning a £1 bn acquisition spree in North America (The Mail On Sunday)

VODAFONE’s shares have performed poorly in 2009, but investors shouldn't hang up on the company as some observers believe a cyclical recovery in European revenue is less than 6 months away… That would give the stock momentum. (Barron’s)

BSKY B : Viacom has handed responsibilities for an estimated £375 m in ad revenue over 5 years to Sky as smaller sales units face increasing competition from larger units, led by ITV (FT)

SAP plans to raise licensing fees for thousands of clients who use older versions of its software (Wirtschaftswoche)

DEUTSCHE POST : The German govt won't cancel D. Post's VAT exemption for certain mail products early 2010 (Die Welt)

SANTANDER has appealed a €1.5 bn fine Brazil's tax agency levied against the company last year (Expansion)

BMPS : ISP is offering €200m for 50 Monte dei Paschi branches in Tuscany / BARCLAYS has offered €540m for 135 branches but the price is subject to conditions. / ACA ‘s Cariparma is interested in 35 branches (Il Messaggero)

BRITISH LAND may say this week property values began to rise in the Q3 (FT)

ATLANTIA: 9M sales €2.69bn, in line / Ebitda €1.71bn, in line / Said Italian traffic +0.64% in Oct. / Sees positive growth in FY Ebitda (vs “nearly stable” previously)

EUROPE OCT NEW CAR REGISTRATIONS +11.2% ON YR : NISSAN +57% / RENAULT +34% / TOYOTA +18% / PSA +16% / FIAT +16% / FORD +15% / GM +11.5%

TO BE NOTED : Cazenove is set to be acquired by JP Morgan in a deal that will value the firm at close to £2 bn (The Sunday Telegraph)

NEGATIVE IMPACTS


EADS : Q3 revenue €9.53bn (9.61bn exp) / Ebit €201m (250m exp) / Net loss €87m (+67m exp) /Cost overruns on its A380 program "still a matter of concern" = industrial and financial reviews are under way / Weak dollar could challenge performance over time …

SANOFI : Heart attack patients in need of emergency procedures were less likely to suffer further serious cardiovascular events, when given AstraZeneca's experimental Brilinta blood clot preventer than those who used Plavix from Sanofi… (Study)

AXA isconsidering sweetening its joint offer for AXA Asia Pacific as early as this week (Sydney Morning Herald)./ Separately, AXA received a $1.2bn offer for its 15.6% stake in Taikang Life Insurance from Temasek (Wansquare)

H&M : LFL sales fell 3% in October (+5% exp)/ France, Spain and the US had weak sales development while sales in Scandinavia, central Europe and Asia were very satisfactory

LLOYDS’ restructuring plan for Admiral Taverns may be announced as soon as today (FT) = The Sunday Times reported that Loyds has been forced to swallow a £600m debt-for-equity swap at Admiral Taverns

UNICREDIT will hold Today a shareholders meeting to vote on a €4bn capital increase

REPSOL may tap the market with its Brazilian unit to help finance its $10bn in oil exploration in Brazil in the next decade / Separately, Sacyr is questioning Repsol's top management and is considering asking Repsol's chairman to step down (El Mundo)

LONMIN Finals : FY revenue $1.06bn (1.02bn exp) / Underlying FY loss $142m (-120m exp) / No final dividend for 2009

UK Waters : A least one U.K. water company has threatened to appeal against regulator Ofwat's decision to cut the tariffs / Analysts believe others may do the same (The Mail On Sunday)

EUROPE OCT NEW CAR REGISTRATIONS +11.2% ON YR : BMW -9% / DAIMLER -3.3% / VW +6.3%

MITSUBISHI UFJ Financial is considering raising capital of $11.2 bn by issuing common

HITACHI announced that it would raise up to $4.5 bn by issuing new shares and convertible bonds.

TRADING IDEAS


SELL OIL names as ENI / REPSOL (Head & Shoulder) / TOTAL (island possibility) / BP (double top) / ROYAL DUTCH to play gap closure on WTI below soon

SELL BANKS as CREDIT AGRICOLE (island possibility) / BNP / BBVA / SANTANDER seems toppish for now

BUY STM to play Dollar recovery

BUYMUNICH RE / RWE / EON / LAFARGE on reversal Head & Shoulder possibility

BUY SEVERN TRENT / SELL UNITED UTILITIES // BUY VEOLIA / SELL RWE // BUY LAFARGE / SELL HOLCIM // BUY EON / SELL IBERDROLA // BUY AHOLD / SELL METRO // BUY LOCKHEED MARTIN / SELL NORTHROP GRUMMAN // BUY JNJ / SELL ELI LILLY // BUY UPS / SELL FEDEX


BROKER METEOROLOGY


NOVARTIS RATED NEW BUY BY DEUTSCHE BANK

SANOFI – AVENTIS RATED NEW BUY BY DEUTSCHE BANK

BAYER RATED NEW BUY BY DEUTSCHE BANK

THYSSENKRUPP RAISED TO OUTPERFORM BY JP MORGAN

ITV RAISED TO BUY FROM SELL BY DEUTSCHE BANK

AVIVA RAISED TO OVERWEIGHT FROM EQUALWEIGHT BY MORGAN STANLEY

YARA RAISED TO BUY FROM HOLD BY CITIGROUP

FRAPORT RAISED TO BUY FROM HOLD BY CITIGROUP


CREDIT AGRICOLE CUT TO REDUCE FROM NEUTRAL BY NOMURA

NATIXIS CUT TO REDUCE FROM NEUTRAL BY NOMURA

JULIUS BAER CUT TO SELL FROM NEUTRAL BY UBS

TECHNIP CUT TO HOLD FROM BUY BY S&P RESEARCH

DATA


WTI : 77,2 (0,44 %)

Eur/$ : 1,4969 (0,44 %)

$ /Yen : 89,56 (-0,31 )

10 Yr US : 3,42 ( 0 bp)

10 Yr Euro : 3,38 ( 1,9 bp)


Indices : US close ; Europe close

SOX : 1,12 %;1,11%

S&P :0,57 %; 0,61 %

DOW: 0,72%; 0,79 %

NAS :0,88%; 0,61%

DJ Stoxx US Sectoral Indices : US close ; Europe close

BASIC MATERIALS : 0,87 %; 0,87 %

ENERGY : 0,64 %; 0,54 %

FINANCIAL : -0,05 %; -0,04 %

HEALTHCARE : 0,17 %; 0,61 %

TECHNO : 0,98 %; 0,79 %

TELECOM : 0,00 %; 0,28 %

INDUSTRIAL : 0,77 %; 0,64 %

UTILITIES : 0,83 %; 0,83 %

TO BE COMING

Today

Results : EU \\ EADS / Lonmin / Sacyr Valehermoso / Unicredit

US \\ Home Depot (BMO)

Dividend : Rolls-Royce (GBp 6)

Events: Accor board meeting

Tuesday

Results : EU \\ Allied Irish Banks / British Land / Fortis / Portugal Telecom

Dividend : Microsoft ($0.13)

Events: Arcelor Mittal EGM / Cardinal Health at Lazard Healthcare Conference / Annual healthcare conf at Credit Suisse / UBS investor day

Wednesday

Results : EU \\ Ahold (BMO) / Air France-KLM / Corio / Land Securities

US \\ Dell / Gap / Novellus / Sears

Dividend : Honeywell ($0,3025) / HSBC ($ 0,088889) / Pernod-Ricard (€1.02) / United Tech ($0,385)

Events :

Thursday

Results : EU \\ Aegis / Fugro / Infineon / Premier Oil / Sab Miller / Voestalpine

Dividend :

Events: Banca Monte dei Paschi di Siena OGM / Microsoft AGM / Philip Morris at Morgan Stanley Consumer & Retail Conf / VeriSign anakyst day / Campbell Soup AGM

Friday

Results : EU \\

US \\ Campbell Soup / HP

Dividend : ArcelorMittal ($0,1875) / DnB NOR Rights Issue / J&J ($0.49)

Events:

ECONOMIC DATA PREVIEW

Watch in the United-States the retail sales. for October(13.30 GMT). After dropping by 1.5% in September due to the end of the cash for clunkers program, advanced retail sales should rise by 0.9% in October led by the rise of hourly wages(0.3% in October) and by the slowdown in job destructions.

Watch in the Euro area the consumer price index for October 2009(10.00 GMT). For the month of October consumer prices should increase by 0.3% led by the rise of energy and commodities prices. From a year ago consumer prices should remain in negative territory for a fifth consecutive month and reach -0.1%./JB

ECONOMY


United-States: the trade deficit increased more than forecast in September

After rising in June and in July, and dropping to 30.71 billion dollars in August, the US trade deficit increased more than expected in September to reach $36.5bn (forecast $31 bn). This rise was mainly led by a 5.8% increase in imports essentially due to a surge in oil imports driven by the increase in the oil price as well as a rebound in volumes. Excluding petroleum the deficit widened more modestly from $14.3bn to $15.9 bn. Nevertheless this rise of imports is showing as well a rebound of household consumption and capital spending in the United-States. Meanwhile exports rose for a fifth time by 2.9% led by a weak dollar. Looking at the breakdown auto imports rose by 11.5%. Both imports and exports remained at low level confirming that the annualised GDP growth might be revised down from the first estimate to get closer from 3.0%.

Euro area: Growth is back but remained fragile

After five consecutive weeks of decline the euro area get out of the recession. Indeed the GDP rose by 0.4% at the third quarter 2009 (forecast 0.6%). Nevertheless the rebound of the Euro area remained particularly weak in comparison to the United-States. As seen at the second quarter the sharpest contribution has been made by Germany. Indeed after reaching 0.4% at the second quarter the German GDP rose by 0.7% at the third quarter. This is more a technical rebound as Germany was one of the most hit country during the recession. Meanwhile France GDP remained disappointing at +0.3% QoQ,-2.4% YoY mainly boosted by exportations. The euro area recovery remained very fragile and will not handle to many bad news in the future like a rise of the refi rate of the ECB or a rise of the euro. Not to mention many countries like Italy or Spain. Consequently the Euro area GDP should remained weak in 2010 to reach at the best 1.3%