This week was billed as catalyst heavy and it certainly didn’t disappoint. The miniscule moves higher for the S&P and lower MSCI World didn’t do any justice for a week that saw much larger intraday moves. As expected, the winter holiday season (read: retail season) exploded out of the gates, we hurdled the last major roadblock before the December Fed meeting, heard from OPEC, and got a better understanding from Europe’s central bankers on where they think their economy stands. It was Super Mario who rocked the boat by under delivering on what were admittedly high expectations. The net result is that the ECB is now seems a touch more hawkish than previously understood and perhaps more optimistic on where Europe currently stands within its own recovery. We also got a solid headline print from NFP coming in at 211k versus expectations of 200k, but perhaps more positive, we saw better participation, incremental wage growth, and a higher revision for October…looks like the Fed now has the green light to go ahead, hike rates, and finally allow us to stop talking about when it will happen. Perhaps the conversation will instead shift to the visible willingness of the Fed and the ECB to contemplate shutting down or at least easing up on the life support in favor of letting markets once again, support themselves. Should that narrative unfold, investors must quickly remember to remain nimble or risk being caught offside just as those who positioned themselves ready for more central bank accommodation this week were swept up by the Draghi domino effect… as heavy shorts in the Euro were covered thereby hurting the crowded longs in the USD which boosting the commodity complex which as you guessed, was also heavily shorted…an excruciating pain trade trifecta. Mark this down as yet another opportunity where we have been shown just how interconnected global markets and asset classes have become. Perhaps nobody said it better than John Lennon as I can’t help but feel that the more I see, the less I know…
Now only 4 weeks out from the end of the year, our Global Strategists and Economists have published their 2016 outlook reports. Looking ahead, our Co-Head of Global Economics Elga Bartsch and team expect domestic demand in DM to hold up relatively well and, with a less onerous adjustment process in EM, growth should recover over the course of the year. This should alleviate some of the pressures on global growth which we now expect to see a modest uptick in—although still below consensus—amounting to 3.3%Y next year, comprised of DM growth holding steady at 1.8%Y and EM growth improving to 4.4%Y next year. The inflation debate will focus on whether and when central bank inflation targets will be hit and, with the exception of Asia not be about outright deflation any longer. Global headline inflation should now begin gradually rise, led by DM, due to stabilizing energy prices and rising core inflation. Looking closer at Central Banks, our once out-of-consensus call for the first Fed hike in December now seems to all but locked-in, turning our focus to June, when we expect the Fed will make its second move higher. This gives 2016 an interesting narrative, as it will mark the first time since the early 1990s that monetary policy has decoupled across the Atlantic. The ripples from the Fed won’t stop there either as Fed tightening causes concerns among EM investors as to whether tighter financial conditions could trigger shifts in capital flows and risk attitudes. This is only one of the items on the list that could undermine the already sluggish Chinese recovery, followed by the risk of deflation in China and potential spill overs onto its main trading partners.
In conjunction with the work from our Economists, our Strategists across all asset classes have also published their year-ahead outlooks. In summary, none of the major strategists are more bullish about their asset classes now than they were over the summer. For equities the likelihood of diminishing returns is a strong reality. This does not imply a bearish outlook on stocks but more so highlights the fact that the macro backdrop is becoming more mixed and uncertain for equities so at the very least, perhaps trimming an overweight position in equities may be sensible. For those looking to stay engaged however, our preference remains US, Europe, Japan, followed by EM. For US Equities, our Strategist Adam Parker acknowledges an overestimation in the impact that we expected to see from the benefits of lower oil stemming from the lag between the lower oil price and its expected positive impact in certain market sub-segments. While there were a high percentage of companies that were able to show year-over-year margin expansion, the combination of muted revenue and various negatives in industrials, energy, and materials, and less benefits from lower oil in terms of consumer spend and lower input costs, have caused us to reduce our 2015 EPS outlook just before year-end. This lower base, our experts' view on the Fed’s path for the front end, and muted economic growth all equate to the team forecasting only modest multiple expansion to 16.6x, yielding our new price target of 2175 for the S&P500 for year-end 2016, around 4% upside from where market levels sit now. Nevertheless, there is plenty to get excited about and there are a number of cohorts and securities which look promising including mega and large capitalization growth stocks, given the lack of quality alternatives around the globe, credit card companies (Visa (V), Mastercard (MA)), healthcare (Walgreens Boots Alliance (WBA), CVS (CVS), and defense. Broadly on a sector basis, we prefer overweight positions in financials and consumer discretionary, underweights in industrials, energy, and staples. Please ask for a consolidated view of our 2016 Outlook reports.
Certainly a lowered outlook for 2016 may hamper investors perception on the opportunity set looking ahead but the reality is that the long/short options are likely to only become more evident. On the short side, complicated idiosyncratic companies with unique structures that need external capital are going to have a problem as the cost of capital climbs higher such as (but not limited to) energy and infrastructure names. Conversely, companies with organic growth that are innovative are going to be the winners. One such report which highlights many long and short convictions ideas is our Alpha Team’s Call Categories, which classifies each stock by the nature of its investment story in an attempt to position key forward looking stock calls by Morgan Stanley Research over the last month. For November, the team highlights several names within Self-Help, including Xerox (XRX), Goldcorp (GG), and Estee Lauder (EL) which has transformed itself organically by shifting away from less attractive department store channels & heritage brands to higher end brands with better margins. On the undervalued growth front, SVB Financial Group (SIVB) looks poised to outgrow industry EPS with a 17% CAGR in 2017-2019 driven by high asset sensitivity and continued strong loan growth in core markets. The report is also full of ideas on the short side, such as COTY (COTY) and Relypsa (RLYP) which both appear likely to de-rate soon. Finally, there are several stocks where we see downside to numbers including Avis* (CAR), Janus (JNS), and our out of consensus UW Target (TGT) given that their gross margins appear vulnerable if the companies apparel category does not quickly improve. The report goes on to also highlight Qualcomm (QCOM), Delta Airlines (DAL), American Express (AXP), OnDeck (ONDK), and Nestle (NESN VX) on the positive side as well as NetApp (NTAP), and Dollar Tree (DLTR) on the negative side. Please ask for the full report and to be connected to our Alpha team.
Turning back to Europe, while many investors seem to be lamenting that Draghi has stolen Christmas, they may just be missing the biggest gift of all. While at a headline level he disappointed, the bar was very high; expectations were clearly in excess of the 10bps deposit rate cut, €15bn increase buying pace and 6 month extension to the program as evidenced by the nearly 5% intraday sell-off once markets figured they weren’t getting everything they wanted. This reaction seems extreme, especially given that we have continued to see strength in the fundamental data for Europe, reinforced this week by the Euro manufacturing PMI reaching its highest level in 18 months, the Swedish, Italian, and Spanish PMI prints being higher, as well as West European car sales trending up nearly 12% YoY. Growth in Europe seems to picking up and this, not just a weaker currency, is the main narrative that investors should be focused on. To that point, some of the best opportunities include Telecom Italia (TIT IM), Mediaset (MS IM), KPN (KPN NA), Ryanair (RYA LN) and our Eurozone Revenue Basket (MSSTREEU) which are all heavily geared towards domestic European strength. Therefore, as we rethink the disappointment felt by markets post the ECB decision, longer term it may actually be a better strategy for the ECB not to beat market expectations, especially given the high-wire act that markets will need to persevere as they hope to balance an outright divergence of monetary policy between the ECB and Fed. Who knows? Perhaps it may just be better to buy in a market in which less stimulus is needed after all.
Looking ahead at European equities in 2016, things don’t appear to be any easier than they were this year. Ultimately, our European Equity Strategist Graham Secker remains tactically bullish on Europe however see just 3% upside for MSCI Europe over the next 12 months, reflecting 1% EPS growth & no multiple expansion. In fact, Europe is currently enduring its longest ever period of falling EPS with the decline lasting 47 months so far, although the 16% drop since November 2011 is relatively modest compared to prior profit contractions. While is certainly relevant to note that a weak earnings backdrop has not prevented European equities from posting strong returns in recent years, the prospect of rising inflation and the start of a new US rate hiking cycle lower the probability this year will mirrors its predecessors. That is not to say that Europe will be devoid of investible opportunities though. Quite the opposite is true. Cyclicals, for example have underperformed trends in global economic indicators, have a relative low valuation versus defensives, and in contrast to in the US, where cyclicals have outperformed defensives by 6% over the last three months, have actually underperformed their European defensive counterparts by 2% over the same period. There are several names here which have a compelling investment thesis, including Deutsche Post (DPW GY), InterContinental Hotels Group (IHG LN), Elextrolux (ELUXBB SS), Croda (CRDA LN), Arm Holdings (ARM LN), Easyjet (EZJ LN), and ITV (ITV LN). Another attractive segment is corporate expenditures on that basis that capex is generally growing and that the group’s relative valuation is close to its lowest level since 2008. To gain exposure, we recommend buying our Corporate Expenditure basket (MSSTCORP) or stocks such as Arkema, TF1 (TFI FP), Clariant (CLN VX), Cap Gemini (CAP FP), Akzo Nobel (AKZA NA). Please ask to see our Equity Strategists note.
In the US, consumers are starting to look at their emptier wallets (or e-wallets) following this year’s record ‘Cyber Five’ (Thanksgiving through Cyber Monday) spending, which nearly totaled $3bn, up 12% YoY. Following up on my comments last week when I emphasized the importance of how over where dollars are being spent, it was not surprising to see Amazon (AMZN) win the brick & mortar vs. e-commerce war with SSS data indicating almost +25% year-over year growth for the five day set, which amazing outpaced overall e-commerce’s +15%. What was unexpected, however, was Google’s (GOOGL) presence on the winning team as well, as Search and Product Listing Ads benefitted from mobile monetization. eBay (EBAY) saw a YoY deceleration, while Twitter’s (TWTR) 'Buy Buttons' were not effective this year. Overall, we view ‘Buy Buttons’ favorably as they should accelerate the growth of online and mobile commerce (please ask for the report). However, in Twitter’s case the overall engagement issues may be superseding any potential benefits from new technology. Across the board, the success of AMZN, GOOGL, and others certainly seems to have come at the expense of brick-and-mortars with in-store shopping down around -10%. While they all tried to put up a fight, efforts by traditional retailers to keep up with the e-commerce trends failed as many such as Wal-Mart (WMT), Target (TGT), L Brands’ Victoria’s Secret (LB) and Foot Locker (FL) all experienced online outages on Cyber Monday. It appears these there is still plenty of room for improvement. Another issue facing many of these same companies is climbing wages, where we did a deep dive report this week on the impact across several industries (please ask for the report). Of the expansive retail universe, restaurants, lodging REITs, and gaming companies are most sensitive to hourly wage hikes given their high percentage of hourly wage earners. Among large cap stocks, CY16 EPS should see the greatest headwinds y/y at Darden (DRI) (-5%), Whole Foods (WFM) (-3%), and Kohl’s (KSS) (-3%), while in restaurants, Buffalo Wild Wings (BWLD), Red Robin (RRGB) and BJ’s (BJRI) are most impacted on a percentage basis. Finally, of the large caps, our US Restaurants analyst John Glass sees Darden (DRI) and Brinker (EAT) as the stocks which could be most impacted.
One sector which has endured a gut-wrenching roller coaster ride this year has been Healthcare, particularly the biotech and pharmaceutical segments due to increased political scrutiny around drug pricing, stretched valuations, and a flurry of mega deals. In a note this week where US Pharma analyst David Risinger and US Healthcare analyst Ricky Goldwasser try to untangle the specialty pharmacy network web, they both highlight the impact to their stocks within their respective subsectors as related to the Pharmacy Benefit Managers (PBMs). For her space, Ricky notes that Express Scripts and CVS should benefit from an increasingly active role as gatekeepers to specialty drug spending. On the Pharma side, David expects PBMs/payers to continue to scrutinize manufacturer-driven specialty pharmacies to ensure compliance with contracts and appropriate business conduct. We view Endo (ENDP) and Mallinckrodt (MNK) as having limited exposure given that their drugs sold through specialty pharmacies are for uncommon diseases. Although these are key issue for US companies, Japanese and European pharmaceuticals should be less exposed to these threats given their smaller US business mix. Admittedly however, a less favorable EM climate, certain US pricing pressure, and near historical average valuations all present limitations to a possible investment thesis for EU Pharmaceuticals. Nevertheless, our EU Pharma analyst Vincent Meunier also notes that we should expect M&A is to stay active and that we will see a more regular stream of pipeline and restructuring deals providing individual stocks with strong catalysts for the year ahead. One stock in particular is AstraZeneca (AZN LN) which the team double upgraded to OW this week. The company has underperformed dramatically over the past year, but looks should benefit by reaping the rewards of heavy investment as well as having strong pipeline optionality over the next 12-18 months. Other top names in the sector include Novo Nordisk (NOVOB DC), the fastest growing name in the EU pharma space, and Roche (ROG VX) which offers a burgeoning pipeline and the potential for operational improvement. For more on our Global Healthcare/Pharmaceuticals, please ask to be connected to our team.
This week in Asia was relatively busy with the SHCOMP ending up (+2.6%) on return of locked up IPO subscription capital and reports that the Local Government Financing Vehicles (LGVF) debt swap might be upsized. The MSCI rebalancing on Monday and the RMB inclusion into the IMF’s SDR later were the key highlights of the week. While the inclusion is positive and is another step in the internationalization of the Rmb, this announcement does not necessarily make it a reserve currency at this stage, and doesn’t explicitly change the timing on MSCI A-Share inclusion. China’s official manufacturing PMI came in slightly lower than expectations this week, edging down to 49.6 in November from 49.8 in October. Production growth is likely to slow on the back of continued weakness in demand and destocking. In our Asia Outlook, we see limited upside and our new Target for MSCI EM is 850, down from 860, representing just +1.7% upside from current levels as we stay underweight EM and APxJ in the global context. We still prefer DM vs EM and MSCI China over H shares (preference for New vs Old China).HK remains the relative overweight in Asia (along with India), however, against a background of slowing growth in China and rising interest rates in the US, GDP growth in HK is expected to slow for the third consecutive year in 2016. With that said, it seems possible to envision (for those willing to be engaged) that China could surprise next year after 6 interest rate cuts and continued, focused stimulus by the Government could lead to earnings and macro surprise. Next year might be centered around stock picking. If our team macro team is correct, we will get very few easy points from the indices. Should events unfold this way, top picks for next 3-6 months include Oversea-Chinese Banking (OCBC SP), InBody (041830 KS), LG Display (034220 KS), SMIC (981 HK), WBC (WBC AU), Galaxy (27 HK), Larsen and Toubro (LT IN), Kotak Mahindra Bank (KMB IN) and CNOOC (883 HK).
A busy week in Japan (TOPIX -1.28% on the week) that included our downgrade from OW to EW (for the first time more than 2 years), a controversial bullish Yen call, and a fresh update from Japan Economist, Robby Feldman on Abenomics looking into 2016. We lowered our TOPIX 12-month forward index target to 1,640 (+2.8% from current levels) from 1,740 previously. This is the first time in more than three years that our forward earnings estimates are below consensus. GDP growth forecast for next year is cut to 1.2% from 1.6% and we now expect 0.8% in 2017. Despite reduction in the corporate tax rate and an increases in stock buybacks, improvement in Japanese ROE is likely to plateau. The big out of consensus call is for the yen to strengthen meaningfully. We’re estimating the yen to be the largest gainer amongst G10 currencies in 2016 (USDJPY at 115 by 2016 end, then 108 by 2017 end). Feldman expects Abe to declare an end to deflation, possibly before the targeted 2% inflation is reached. Once an exit from deflation is declared, we will likely see a regime change in monetary policy, from QQE to some kind of bond yield targeting. Secondly, the Upper House election next summer is critical as the Government’s hands are tied on spending cuts, tax reforms, and de-regulation until then as they need to appease the voters. Expect a “mild Abenomics” until the summer and a shift to “strong Abenomics” in the second half of 2016 after a big win in the UH elections from LDP. Again, “trust but verify”. Notably, Shinichiro Muraoka-san, our Japan Pharmaceutical analyst double upgraded Sawai Pharmaceutical (4555 JP) from UW to OW in anticipation of 20% generics industry sales growth in F3/17. For those looking for broader opportunities on the long side, Calbee (2229 JP), Chugai Pharma (4519 JP), JAT (9706 JP), Murata Mfg (6981 JP), NTT (9432 JP), Sony (6758 JP), Toyota (7203 JP) look interesting while we remain more hesitant on NGK (5334 JP), Daiichi Sankyo (4568 JP), and Nichi-Iko Pharma (4541 JP).
In our second annual Special Situations Group “Year Ahead” publication, we consider the key debates within the Event-Driven space from 2015 and into 2016. After a record year in M&A by dollar size in the US (and near-record levels globally), we expect the elevated pace of deal-making to continue in the New Year. The numerous opportunities across M&A, in both hard and soft catalyst, as well as Cross-Border, has given more Supply in dollar terms than Event-Driven demand can handle. This fact, coupled with a notable “Risk Off” sentiment that dominated all investment Strategies in the second half of 2015 (and lagging performance), has created somewhat of a chase for ‘short-term alpha generation’ to close the year. Because of this phenomenon, we feel that there are a number of underappreciated (and under owned) post-M&A opportunities that, while looked very favorably upon by investors from deal announcement to deal close, have in many ways yet to price in the full synergy/accretion potential. Furthermore, with the vast number of current “Definitive Deals”, several large deals with seemingly distant closing dates offer what we feel are mispriced returns (due primarily to a combination of lack of patience, risk appetite and/or ability to fully hedge the implied deal risk). A few of our top special situations ideas across the globe include Zimmer Biomet (ZBH), Abbott (ABT), Avago (AVGO), Newell Rubbermaid (NWL), Accor (AC FP), GlaxoSmithKline (GSK), Zalando (ZAL GY), and Com Hem (COMH SS).
In LatAm, it seems like not a day goes by without another headline out of Brazil. This week it was Lower House President, Eduardo Cunha’s, acceptance of a request to impeach President Dilma Rousseff. The news triggered a short squeeze as many investors are scared to go into 2016 UW Brazil on the thought that Dilma could be impeached, helping end the gridlock in government. Let’s not forget the sharp moves in the Argentina markets following the removal of political uncertainties. However, the Brazilian impeachment process will likely be a long one and it will further detract the attention of policy makers from making the necessary fiscal reforms. Despite this, many investors have started doing their homework on Brazil waiting for the bottom which we believe will come in 2016. What better way to get up to speed on Brazil and the rest of LatAm than to join us in Miami January 6th-8th (who doesn’t want to be in Miami mid-Winter?). We have 60 companies and former Brazil CB President Henrique Meirelles confirmed to attend our 8th Annual LatAm Conference. (Of note: 6 cos from Argentina (our favorite market) / 31 Brazil (value emerging), 11 Mexico (consumer recovery)). Check out the conference website here and list of companies. Some of our favorites longs attending include: Galicia (GGAL), Adecoagro (AGRO), Brasil Foods (BRFS3), Cielo (CIEL3), Embraer (ERJ), Kroton (KROT3), Fibria (FBR), Femsa (FMX), Fibra Macquarie (FIBRAMQ), and Volaris (VLRS), Other large liquid names attending are: Petrobras (PBR), YPF (YPF), Bradesco (BBD), Banco do Brasil (BBAS3), Cemex (CX), CBD (PCAR4), and Copa (CPA). Please ask for more details as this conference is an excellent opportunity to explore new ideas.
Have a great weekend,
Nick
*Included in my 2015 Global Ideas Deck. Please ask for the presentation.
TRENDS & INFLECTION POINTS
Positive
ì Europe – Autos –The demand for cars remains better than in many industrial sectors but it relies on continued cheap credit and that is the key risk that you must take account of in 2016. More markets including the US, UK, Germany and even China are becoming more reliant on peak levels of customer financing, on aggressive 0% finance deals and long leases to reduce monthly payments. If bond spreads widen then this will have a magnified effect on car affordability so what closely for any debt downgrades as we go through 2016. Every 1% move in rates has a $2000 impact on car financing and which is hugely significant in the context of the profit per vehicle that the OEM’s are making. The market will hear a lot more about this in the coming year. Our European Autos analyst Harald Hendrikse and team prefer the supplier fundamentals to those of the EOM’s and would favour BMW, Conti and Hella.
ìCanada – Banks – The six major Canadian banks, ~ 21% of the SPTSX, all came inline or surprised positively in this week’s earnings. Short sellers have been salivating over the Canadian banks with the litany of headwinds seemingly lined up against them including a weaker Canadian economy, possible housing bubble and a failing resource sector to name a few. But once again, the CAD banks came through with little evidence of any real cracks in the armor as credit quality remained strong, CET1 ratio’s mostly above 10%, resulting in increased quarterly dividends. Adding fuel to the fire, concerns relating to the Canadian economy were compounded on Friday with a weaker than expected jobs number ticking the unemployment rate up slightly to 7.1% putting the Bank of Canada on a divergent path from the Fed and the USD/CAD through 1.34 as it flirts with its 10 year low. Evan Brown, co-head US FX strategy, remains a CAD bear predicting USD/CAD will be 1.45 by Dec 2016 on oil price shock, negative non-energy export growth, and a dovish BoC. Separately, in insurance, Kai Pan highlighted potential disruption in auto insurance from shared mobility, resulting in a staggering decline in overall auto insurance risk pool. Intact Financial (IFC, EW rated) was highlighted as exposed, but also uniquely positioned to weather these emerging trends. Nigel Dally tactically prefers Sunlife over Manulife (both EW rated) on the risk of further negative charges related to Long Term Care (closer to the level of Genworth’s $2bn of reserve charges).
ì Indonesia – Telecoms – Navin Killa, ASEAN Telecoms and Media Analyst, raises 2015-16e earnings and PT for all three Indonesia telcos. His latest mobile pricing tracker shows continued tariff increase in Nov (3rd time this year) with voice and SMS prices up +5-21% MoM. While data yields haven’t increased, diverse data offerings should drive usage growth. To note, XL Axiata and Indosat at Morgan Stanley’s AP summit were positive on the competitive outlook for 2016, emphasizing 4G launches in 1H16 which should drive higher data usage (rev growth) while lower costs should alleviate margin pressure. As for the IC decision, Navin’s latest checks suggest a 40-50% reduction is likely with the official announcement in Dec-Jan. While data should not be impacted, given customers’ preference to have both voice and data on the same SIM, lower IC rates will allow XL/Indosat to compete with Telkom outside Java. All in, Navin raises 2015-16e EPS forecast across the board on stronger mobile rev growth which in turn drives operating leverage. All operators benefit from an improving pricing env, but smaller operators XL and Indosat have higher leverage to improving mobile competition. Also, potential IC rates cut remains an overhang for EW. Hence, Navin prefers XL and Indosat in Indonesia. XL is trading at 5.9x and Indosat at 4.2x ‘16e EV/EBITDA, below the regional EM avg of 7.1x.
ì EEMEA – Banks 2016 Outlook – Our EEMEA Banks team think CEE regional and Russian rehabilitation to continue on valuation and improving credit cycles. They are cautious on Poland, Turkey, S. Africa and MENA, with their top picks being OTP (OW), Erste (OW), Sber (OW) and FirstRand (OW). In this report, they examine 3 themes they think will influence EEMEA banks' stock performance in 2016: 1. They think Fed/ECB monetary policy is likely to have a mixed effect on EEMEA banks. Turkish bank funding likely remains resilient, while MENA bank margins should see the highest positive correlation with rising US rates. 2. They think EEMEA asset quality will generally remain stable: They believe a more solid macro in EEMEA means a better cycle than GEM peers, with most likely improvement in NPL formation and lower credit costs expected across CEE. They play PPOP recovery and better provisions via Sberbank (OW), OTP (OW) and Erste (OW). 3. They screen for excess capital and sustainable dividends. Their analysis favours banks with surplus capital comfort relative to FY17e fully loaded Basel III CET1. See significant excess capital at Komercni (EW), FirstRand (OW) and Pekao SA (EW).
ìUS – Autos and Shared Mobility – Autos and Shared Mobility Analyst, Adam Jonas, has a strong thesis around the disruption in the auto market, The sooner investors can make the transformation, the team believes the more industry events will make sense over the next 12 to 24 months as the story of industry disruption likely unfolds (shared mobility, autonomous cars, “The Bundled Mile”). Potential outcomes are powerful, impacting global energy markets, manufacturing, transportation and economic productivity, and see the addressable market for mobility (miles traveled x cost/mile) is on the order of $10 trillion, or 14% of global GDP. The Autos team (led by Adam Jonas) is using the term “The Bundled Mile” to refer to more than just auto sales but includes all aspects of delivering the mile traveled: depreciation, fuel, insurance, parking, maintenance, etc.. The miles business is around 7x larger than the auto market which has ~1bn cars in operation globally. In shared mobility, the team projects that shared cars will comprise >50% of total global miles traveled by 2030, and for autonomous cars, Adam sees commercial potential for substitution of a human driver earning over $50k per year (with an algorithmic suite of technologies) at an incremental cost ultimately as little as $5k or less, implying payback periods measured not merely in year but potentially weeks. This is derived from the pure cost/benefit of replacing the salary of the human operator that the team estimates currently accounts for 50% of a typical ride sharing cost/mile. The extremely large size of the market for global miles traveled provides a great incentive for a variety of firms (including nontraditional automotive/tech players) to apply the principles of autonomous driving/human substitution to the economic model with likely a high benefit to the consumer. Adam expects the global auto industry to enter a period wherein technological changes, at a scale that used to take decades, can occur in as little as 5 years. Adam believes this TSLA (top pick), MBLY, DLPH and MGA as particularly well positioned to benefit the most from these trends.”
ìîEurope – Property – The medium term outlook for rental growth in the London office market remains attractive, but there are downside risks to our European Property Analyst Bart Gysens and team’s numbers, more so than scope for meaningful upside in the London investment markets. The stocks have derated and so to some extent this is priced into the stocks so they still favour them over some of the European names based on relative valuation. They think Spain will be the best market in Europe and while that is a more consensual view than it was a year ago they still think it will be a source for outsized returns for shareholders. Merlin Properties has risen 50% in the last year in recognition of that and trades at a 25% premium to NAV but they think it can sustain that premium and think their bull case of €20 does not rely on far-fetched assumptions. If their cyclical assets were too see 10% reversions, market rents rising by 25% and yields compressing 50bp, they were to find a way to unlock value from their portfolio of bank branches in Spain let on very long leases to BBVA and the remainder of the portfolio was to rise by 20% then €20 is eminently achievable. The final point the note makes is that German residential asset prices are likely to continue to rise driven by new building regulations and migration absorbing spare capacity.
ì China – Technology Hardware – Sharon Shih, China Technology Hardware Analyst, turns more bullish on Fingerprint Sensor Adoption, raising her Chinese penetration assumptions to 10%/33%/50% in 2015/16/17e and global penetration to 24%/40%/50% on more supportive data points. Fingerprint ecosystem continues to improve with the rollout of Android 6.0 Marshmallow. This enables secure payments on Android Pay and Play Store via fingerprint sensors in addition to unlocking/protecting the phone in general. Google has also allowed developers to team up with handset OEMs to leverage fingerprint sensing in their apps, which should increase adoption. One of the key hurdles for the significant take-off of fingerprint adoption in 2015 has been sensor supply constraints – tight 8-inch wafer support from SMIC. But this should ease going forward with the entrance of more IC designers and packaging/module makers which should also result in price reduction and drive adoption. Meanwhile, Sharon is seeing lower-end models (~Rmb1,000) adopting fingerprint sensors with heavy mktg campaign and bullish guidance from FPC (the largest fingerprint sensor supplier for non-Apple/Samsung smartphones with 90%+ m/s) and Crucial Tec (the largest fingerprint module makes for non-Apple/Samsung) suggest upside to her penetration forecast – 45-50% in 2016 vs MSe 40%.
ì EEMEA – Iran – In our latest and highly collaborative EEMEA Insight note, the team has published an insight/primer note on the 10YR frontier for Iran by taking a deep dive into Iran’s economy, business risks and roadmap on potential easing of nuclear sanctions, which could end in a matter of months. Iran represents the second-largest economy in the MENA region after Saudi Arabia, with GDP of $406.3bn in 2014. It ranks world number two in natural gas reserves and fourth in proven oil reserves. Energy is likely to be first to see momentum. Iran has the world's largest zinc reserves and second largest copper reserves. Foreign direct investment in this sector is a potential early mover. Transport, urban development and infrastructure are also priorities – Iran's government estimates $80bn of investment is needed. It also plans to add 33,000 MW of electricity generating capacity. Telecoms could see new telecom licenses and M&A activity.
ì LatAm – Brazilian Beer Drinkers – Jeronimo de Guzman, our LatAm Food & Beverage analyst, conducted an AlphaWise survey of 1,500 beer drinkers in Brazil to understand consumption patterns/intentions. The consumption outlook remains favorable, with better perceptions of affordability. Shift to off-premise continues, though higher returnable penetration can help protect margins. Jeronimo reiterates his OW on AmBev. The survey results support his view of a favorable long-term consumption outlook and makes him feel more positive about AmBev's pricing power, given improved price perceptions for the beer category and the strength of AmBev's brands.
ìUS – Global Banks, Global Financials– Ken Zerbe and the global banks team are adjusting their estimates given the potential for a December rate hike. The probability of a December 2015 rate hike now sits at 72% and the biggest benefit of higher rate expectations is likely to be felt in the US. In the US, the most asset-sensitive banks include STT, SIVB, BAC, EWBC, BK, CFG, ZION, and CMA, according to company disclosures, largely due to their short duration asset portfolios or high levels of liquidity. For Europe, there is a divergence in US and European monetary policy. The expansion of QE in Europe and risk of negative rates increases risk and is likely to prompt more companies to shift their business toward Fees and Trading. As a result, Huw Van Steenis and team favor Credit Suisse, Standard Bank, UniCredit, Danske Bank, and First Gulf Bank. The Asian stocks that benefit the most from small increases in Fed funds are large HK banks; however, Anil Agarwal is much more cautious on the Asian banks if rates rise too quickly, as it would drive lower collateral values and higher credit costs.
ìîEurope – Insurance – Barring unforeseen accidents the Insurance sector should outperform the market for the 4th year in a row. Given the demand for income the sector has continued to trade as a bond proxy but our European Insurance analyst Jon Hocking and team see increasing headwinds into 2016 and are cautious on the group. The dividend yield on the sector is one of the highest in the market but growth in that dividend going forward is lower than for the market. Solvency II, where they are finally less than a month away from implementation, will provide headline risks for the UK and Dutch insurers but the issue is very complex and it will take time to settle down. Impact from low yields is still an issue, though yields are beginning to stabilize, which they go into in the note. The industry has been relying on reserve releases in a deteriorating environment in both primary and reinsurance and they think this is a risk that is under appreciated. Competition in the sector remains high and that will keep pressure on pricing. For these and other reasons they think that the earnings growth for the insurance sector will lag the broader market. While they are cautious on the sector they still see value in some names and like Aviva, Axa, Prudential and Swiss Re.
ì LatAm – Argentina Agriculture – Local Wheat/Corn prices are already +30/45% in USD as a result of the expected change in Ag policies that should drive a 60/70% improvement on farmers margins. >16mn MT of grains stored waiting for a FX correction to flow into the market.
ìUS – YieldCos – Stephen Byrd is providing takeaways from the Morgan Stanley Yieldco Conference. For the industry, he sees strong fundamental growth prospects and thinks asset sales will provide a more constructive “floor value”. He also thinks thegap between higher quality and lower quality Yieldcos is large and increasing, driven by access to capital and existing asset base quality. As a result, he remains constructive on Overweight-rated NEP. Finally, he believes corporate-to-corporate Yieldco consolidation is unlikely at this stage, primarily because he believes the Yieldcos that have experienced the most distress are very focused on self-help measures.
ì Indonesia – Strategy – EM has lost their shine vs DM throughout this year with Indonesia in particular becoming a high-beta casualty of the receding commodity super cycle and the potential unwind of Fed easing. In her first installment of a series discussing ASEAN’s cyclical/structural outlook, Deyi Tan, our ASEAN Economist delves into Indonesia. Bottom line, Deyi believes that there is a “made in Indonesia” structural story at play. Indonesia, together with the Philippines and India, is one of rare Asian economies without 3D problems – debt, demographics and deflation. However, Indonesia is not completely immune to global growth slowdown. The reversal in the commodity cycle has put Indonesia’s GDP in a lower growth channel of 4.7-5.2% for 2015-17e but 3% hard landing scenario is unlikely given lack of any policy or leverage excesses. Macro adjustment (rate hikes, IDR depreciation) has already taken place, reducing the likelihood of a disorderly tightening leading to an abrupt brake in domestic demand. In fact, macro stability has improved such that Deyi see’s BI on the brink of a monetary easing cycle in 1Q16. Moreover, manufacturing sector provides alternative growth support. In fact, 3Q15 GDP growth of 4.7% appears to corroborate this view, suggesting signs of stabilization. All in, Deyi believes that Indonesia still offers an attractive growth story on a relative basis.
ìUS – Technology – James Faucette and Katy Huberty are previewing holiday sales activity for consumer technology brands FIT, GRMN and GPRO. FIT checks suggest overall sell-through is exceeding expectations so far in 4Q15 and distributors have been issuing reorders since Black Friday due to better than expected online sales at major retailers. Looking ahead, they are focused on discounting activity and expect strong demand to follow through to 1Q. As a result of FIT’s success, GRMN is experiencing higher inventory levels and James noticed discounting across both the GRMN activity tracker and watch lineup. GPRO is showing signs of progress on inventory, but James sees the potential for discounting of the flagship HERO4 camera to meet sell-through targets.
ì India – Macro – The outlook for 2016 calls for a slow but sustainable recovery, our Head Indian Research analyst Ridham Desai and team expect GDP to rise from 7.5% in F2016e to 8.1% and 8.2% in F2017e and F2018e resp, 2015 the macro in terms of interest rates, inflation and govt deficit has been in line with the expected trend but market performance has been challenged, since start of 2015 the market has been making a hesitant shift from its previously long held bias in favor of quality towards growth factors but high beta had continued to deliver negative alpha. As the India economic recovery gets underway some of his coverage stocks which have not performed as expected during 2015 but could come back strongly in 2016 & are rated OW are Axis Bank, ICICI Bank, Yes Bank, M&M, Tata Motors, UltraTech Cement, L&T, Adani Ports, Sun Pharma, and more.
Negative
îìEurope – Pharma – Our European Pharma analyst Vincent Meunier and teamthink the sector performs in line with the market since they believe that US pricing pressure, EM volatility and possible rate hikes offset the supportive influences of M&A and pipeline news. Their 5 picks for 2016 are Roche, Novo and AstraZeneca in the large cap space, Actelion and UCB in the small cap space. Their least preferred stocks are Bayer and Merck KGA. There are some counter consensus calls in here but the most interesting one to me is the double upgrade of AstraZeneca from UW to OW. When CEO Pascal Soriot took over at the company 3 years ago he implemented a fair bit of strategic change. They now think that he is about to reap the reward of that change and together with a number of pipeline catalysts in 2016 and 2017 they think the news flow will remain positive for at least the next 18 months. Their previous bear case has more or less played out after a 10% underperformance of the sector and a 10% PE discount to peers and now they can look forward to a good pipeline after years of heavy investment. They think Astra can credibly reach its earnings floor of $4.20 or core earnings despite patent expiries and they are therefore above consensus for 2016 and 2017 earnings. It’s growth rate of 10% 2016-2019 is heavily geared to the out years since 16 and 17 are heavy patent expiry years. They are between 5-9% ahead of consensus for the years 2016-2020 and believe that there is upside risk to consensus particularly as the news flow of the next 2 years unfolds. Their price target for Astra is 5300p.
î China – Banks & Property – Anil Agarwal, HK/India Financials Analyst and Praveen Choudhary, HK property analyst, jointly issue a note to look at where HK interest rates on new mortgages are headed and concludes that as fed rates go up and HIBOR reacts, HK mortgage rates will remain stable for the first 25-50bps increase. Loan growth in HK has decelerated (~3% YoY in October; down 1% MoM) as offshore demand and trade finance slowed leaving mortgage growth (+11% YoY) as the only bright spot. HKD deposit growth has been strong at 11% YoY, partially driven by RMB deposits being converted into HKD. As LDR declines (now at 77% vs 83% at edn-2014), Anil believes that banks will likely compete for mortgages and could start to reduce spreads thereby keeping mortgage rates stable. As for stock picks, Anil continues to like Hang Seng Bank. Meanwhile, Praveen thinks it positive for HK property and prefers SHKP due to rising EPS/DPS in 2016 and exposure to office and suburban malls showing positive rental reversion.
î LatAm – 2016 Equity Outlook – The end of the bear market?... Gui Paiv, our LatAm Strategist, forecasts 0% USD return for Latin equities in their base case. He remains Underweight Brazil for now, but he sees value based on normalized earnings and the end of the recession in 2H16. Index target of 55k, implies 17% upside in local FX and 1% downside in US$. Gui is Overweight Mexico as the relatively solid growth story continues to unfold and support valuations. Index target is 50k which implies 13% upside in local currency and 7% in US$. Top picks: Brazil: Ambev, BRF, BB Seguridade and Embraer; Mexico: Fibra Macquari, Fibra Uno, Ienova, Mexichem and TV. And Chile: Falabella.
î US – Restaurants – MS Restaurants Analyst, John Glass is reducing EPS estimates on restaurants most exposed to wage pressures in 2016 and beyond. Aggregate, rising mandated wage increases could impact restaurant margins by ~50 bp for CDRs in '16 vs '15, though impact will vary widely based on state exposure, while the impact for QSRs is lower at ~30 bps. On a percentage basis, the most impacted is BWLD, RRGB and BJRI and in larger caps, DRI and EAT.
îìEurope – Equity Strategy – Our European Equity Strategist Graham Secker and team forecast just 1% EPS growth for MSCI Europe in 2016 as commodity sectors see another year of earnings contraction and FX impact provides little overall benefit. MSCI EMU should fare better with 5% EPS growth, while they predict 8% EPS contraction for the FTSE100. They assume MSCI Europe's N12M PE is unchanged at 15x in Dec-16 as global headwinds from the Fed and higher inflation offset a domestic tailwind from ECB QE and attractive relative valuations. Their Dec-16 index targets imply 3% upside for MSCI Europe, 7% upside for MSCI EMU and 0% for FTSE100. They stay bullish in the short-term and expect markets to overshoot their targets initially before giving up the gains later in the year. Their key investment recommendations include: 1) Bullish view on commodity sectors for 1Q driven by USD pause and better China/EM data 2) 1st Fed rate hike suggests OW cyclicals vs UW defensives 3) Prefer Value over Growth – European 'Quality' stocks at record valuation high relative to US 'Quality' 4) Aggressive ECB policy means they are moderating their OW in banks and they also cut Div Fins to neutral 5) OW FTSE100 vs UW Mid250 given record undervaluation, improving EPS trend and 'Brexit' risk 6) Buying 'corporate exposure' stocks given record low relative valuations 7) Buy Sweden given strong GDP growth, weak SEK, attractive valuation and Riksbank QE
î India – Autos – Binay Singh, India Autos & Auto Parts, initiating coverage on Motherson (MSS IN) with UW, PT: Rs238 and downgrading Bharat Forge (BHFC IN) to EW, PT: Rs849. These are well held names hence his call is clearly out-of-consensus. MSSL is the largest auto parts supplier in India with proven track record and strong franchise. It’s a play on global auto market with India accounting for just 14% of topline. With acquisitions and JVs outside India, MSSL has diversified its product offerings – plastic parts (SMP) and mirrors (SMR) and penetrated global OEMSs.VW is the biggest customer, contributing 44% of MSSL’s F15 topline. With VW’s earnings expected to come under stress next year, pricing pressure on auto parts will intensify, resulting margin contraction (100bps EBITDA margin decline baked in his F17 model). In addition, slowing global auto mkts in addition to rising startup costs for new plants augur ill for its profitability outlook. It’s a good franchise but Binay believes risks of slowing growth and VW exposure is not in the price. His F17/18e earnings forecasts are about 20% below consensus. The stk currently trades at 24.5x FY17e P/E, 1SD above LT avg and a significant premium to global peer avg. UW. Bharat Forge moves to EW. Its key market is North America truck mkt (37% of topline) where he begin to see cracks after 6 yrs of growth. With its peak-margin exports mkt entering a slowing cycle, Binay questions the sustainability of margins resulting in 15% earnings CAGR in F15-18e vs 70% over F13-15e. Within India auto/parts overall, Binay prefers OEMs India auto upcycle, valuation merit) vs global ancillary plays. His top picks are MSIL, MM and TTMT.
î LatAm – Brazil Retail Fuel Trends – The contraction in Brazil's GDP may last for a few quarters, with positive prints coming only late in 2016. While diesel sales are declining with the economy, passenger vehicle fuel is proving resilient. Ultrapar and Cosan, who control two leading fuel retailers in Brazil, are beating the overall market for both diesel and Otto cycle fuel sales. In diesel, Ultrapar's Ipiranga network is outperforming the market by 110bps, while Cosan's Raízen is 230bps ahead of the market. In Otto cycle fuels, Ipiranga is 230bps better than the market and Raízen is outperforming by 350bps. Both companies have gained market share through 2015 and have been able to deliver margin expansion (+18.3% for Ipiranga and +12.2% for Raízen), which is no easy feat in the current market environment.
î US – Specialty Retail – MS Softlines Analyst, Kimberly Greenberger thinks Thanksgiving weekend sales were lackluster at best, even when accounting for an eCommerce boost. Over the first 27 days of the Holiday season (November 1-27), comScore reports desktop eCommerce sales grew +5% to $23.4B, vs. +15% growth over the same period last year and the +9% YTD desktop growth rate. She finds this notable deceleration concerning, especially this early in the Holiday season.
î Europe – Bus & Rail – This is a sector that has attracted little interest recently as investors fear regulation in the form of the upcoming buses bill and regional devolution, the CMA review of rail franchising and up until recently the spending review in November. Several of these factors will be resolved in H1 2016 which our European Surface Transport analyst Annelies Vermeulen and team think will drive investors to look at the sector again. The sector has performed in line with the market this year and now trades on 12x 1 year forward PE against a long term average of 10.5x. They have moved National Express and Go Ahead to EW so now only have an OW rating on Stagecoach. Additionally, in this report they include an analysis of the material ESG risks and opportunities for SGC, FGP, GOG and NEX, including the main ESG KPIs and a discussion of possible long-term valuation impacts from the main ESG topics relevant to the group.
î US – Hardlines/Broadlines – MS Hardlines & Broadlines Analyst, Simeon Gutman does not think the holiday season will be constructive from a profit perspective for many of his retailers. The growth in online sales is having negative mix shifts on retailers. First, less foot traffic means fewer impulse items added to shopping baskets. The result is lower sales and GP dollars. Second, online sales come at a much lower margin to retailers, unless merchandise is picked up in store. He estimates that retailers need to sell ~3x the amount of merchandise online vs in store to break even from a gross profit dollar perspective.
CHARTS
European Expansionary Fiscal Policy
Our European Economists Elga Bartsch and team expect the fiscal policy stance to swing from austerity in the past few years to a fiscal stimulus in 2016. We’re pencilling in a swing in the structural primary balance of 0.4% of GDP in their base case, mostly due to the refugee crisis, but also to some extra easing in the fiscal stance of a number of EMU countries. To measure the ‘true’ fiscal stance they use the structural primary balance to measure changes in discretionary fiscal policy to abstract from swings in market interest rates, the effect of the business cycle on the automatic stabilizers like tax-revenues, unemployment and social security benefits, etc. and one-off factors. Download the Complete Report
Autos Financing
Source: Morgan Stanley Research
Our European Autos analyst Harald Hendrikse points out that 100 bps on average cost of US ATP of $30k is $300 p.a., or $1500 on 5-year lease. OEMs can either take that hit in FS earnings or pass through to consumer, but if it passes that on, the consumer will reduce the ATP of the vehicle he buys by around $2000, and the profit hit will still be very significant (say $800) against average US ebit per vehicle of $2,500. Auto loan cost of capital is basically 5yr UST yield PLUS cost of risk (5yr CDS) – that cost of capital is no rising again, hence autos – ITRAXX XOVER very highly correlated. Look at performance of lower quality US debt – distressed debt fund, trading MUCH worse – incremental cost of capital rising, hence ITRAX XOVER worse.
2016 CEEMEA Economic Outlook – From Politics to Geopolitics
With key elections in Turkey and Poland out of the way, political risk has fallen. However, geopolitical risk remains elevated: the situation between Russia and Turkey and more broadly in Syria remains tense, after the downing of a Russian plane near the Turkey/Syria border. In this outlook, aggregate CEEMEA GDP forecast is at 0.1%Y this year (+0.1pp from previous), 1.7%Y in 2016 (-0.2pp) and 2.8%Y in 2017 (-0.2pp). Fed hikes and tightening global monetary conditions imply that central banks will have to bring rates up in order to shore up the FX and avoid outflows. Download the Complete Report
G10 Real Effective Exchange Rate (REER): Cheapest currencies sorted by % deviation from average since 2000 - JPY is the cheapest to its 5 year and 15 year history
Our Morgan Stanley FX team now also forecasts a materially stronger yen through the end of 2017, rising to ¥115 / US dollar in 2016 and ¥108 US dollar in 2017. In essence, the team argues: a) that the real exchange rate of the yen is now cheap to history versus peers (b) that the BoJ has neared the limits of its QE strategy and any additional easing measures may tend to focus on interest rate targeting as opposed to base money creation (hence less likely to weaken the yen), and c) that capital repatriation by Japanese institutions and households will likely offset carry trade activity out of the yen in a rising US rate environment. Download the Complete Report
ASX Gold Index vs Spot gold (AUD+USD)
Stefan Hansen, Australia Building Materials Analyst and team report that YTD USD gold is down ~9%, but the AUD gold space is relishing the "producer currency factor"- pushing Aussie producers down the global cost curve. His 6th Edition of the "BGB" profiles 25 gold equities to identify relative strengths and weaknesses within the sector. Download the Complete Report
Global Strategy Outlook – Regional EPS & Forward P/E targets
While the cycle is not over, growth remains subdued and expected returns across asset classes look significantly lower than previous years. Andrew Sheets, our global Cross Asset Strategist, is suggesting investors lower equity exposure in 2016 and would be a buyer of 2015 underperformers, such as Global Credit. Relative to prior later-cycle periods, growth looks weaker, central bank policy looks looser, and credit risk premiums are more elevated all help the relative case for spread product. He is also making changes to his regional equity preferences, lowering Europe and Japan and raising the US on a relative basis, and expects US rates to outperform European rates in the year-ahead.
Multi-Industry: CAPMI at the lowest levels since July 2012
Nigel Coe, multi-industry Analyst, analyzes the impact of deteriorating momentum in November with CAPMI sitting at the lowest level since July 2012. The Morgan Stanley Capital Goods Momentum Index (CAPMI) is a diffusion index that measures the m/m momentum of 48 key global macro and industry indicators. His CAPMI speaks to another extremely weak month in November, with the index declining 4ppts to 38, driven by the US and Asia Pacific regions. Recent conversations suggest investors remain concerned that general industrial contagion could spread to construction, but trends remain relatively robust (albeit slower than 1H15). The market appears to be betting that Energy and EM exposed industrials have seen the bulk of the EPS correction cycle, while Nigel believes that is a premature call to say the least.
Multi-Industry: CAPMI at the lowest levels since July 2012
Kai Pan, Insurance Analyst, and Adam Jonas, Autos Analyst, teamed up on Potential disruption in Auto Insurance market from Shared mobility. Investors may not yet have fully appreciated the upcoming paradigm shift from these changes. 3 key points to highlight – (1) Auto insurance buying to shift from B2C to B2B with corporations owning/selling miles and procuring insurance directly, as shared miles account for 50% of auto insurance TAM by 2030. (2) Technology advancements in autos to result in decline of overall auto insurance risk pool (currently ~$200b), as auto loss frequency declines quicker than increase in loss severity. (3) Auto Insurers need to adapt to survive and thrive: PGR (85%), ALL (65%) and IFC (50%) have largest personal auto exposure. Specialty insurers like mileage based insurer Metromile could benefit from emerging trends.
Sentiment Pick-Up Amid Mild Market Correction
Brian Kelleher, Asia Equity Strategist and team, surveyed China equity investors for their market and economic views between November 16 and 20. According to the monthly survey, investors expected MSCI China to rise by 2.8% in the next 12 months on a weighted-average basis, compared with 1.3% in October. The market has given back some gains after rising ~15% from early September to late October. More than 60% of respondents expected only a marginal impact on HK- and overseas-listed Chinese equities in the next three months if the Fed raises rates in December. Investors continue to focus on economic fundamentals, which got 30% of the votes as a potential upside catalyst, followed by fiscal stimulus. Technology was elected as the most likely outperforming sector in the next 12 months, while Materials continued to receive the most votes for worst potential performer. Download the Complete Report
EM Outflows In Dedicated EM Funds Of US$0.40bn This Week
EM Equity funds reported outflows of US$0.40bn this week. Excluding China A-share equity fund flows, this week's outflows from EM funds amounted to US$0.19bn. Active equity funds have continued to report outflows since May 2015. Dedicated EM equity funds (GEMs + EM Asia + EMEA and Latam regional funds) reported outflows of US$0.40bn for the week ended December 2, 2015. Within dedicated EM equity funds , GEMs regional funds reported the largest outflows of US$0.28bn in the current week. EM Asia regional funds and EMEA also reported outflows of US$0.19bn, and US$0.003bn, respectively, this week, while Latam regional funds reported inflows of US$0.08bn. Download the Complete Report
RESEARCH
Positive
ì China – 58com – Robert Lin, China Internet Analyst raised price target to US$68, but trimmed non-GAAP EPS by 3%/5% for F16e/17e after the company announced 3Q result. 3Q15 total revenues of US$213mn (+196% yoy), 7% above the high end of the guidance. Its 4Q15 revenue guidance of US$240-245mn (+199-205% yoy growth) is 3% higher than consensus. Core non-GAAP net profits of US$58mn in F16e (US$23mn losses from Ganji); further improvement with Ganji profitable in F17e. Ganji integration is accelerating after Mr. Yao assumed the sole CEO role in November. After completing series A financing, 58.com retains ~58% control of the new business with fresh funding of US$300mn from Alibaba and others, Robert expects 58 Home should emerge as the leading player despite near-term losses (i.e., US$150mn loss in F16 and 58% recognized by listco). Potential deconsolidation of Guazi would also help reduce earnings drag beyond F15. The slight cut to EPS is to mainly factor in higher S&M, which is partially offset by diminishing drag from O2O initiatives. His thesis of robust top-line growth and improving core margin remains intact. Download the Complete Report
ì India –Coffee Day Enterprises – Nillai Shah, India Consumer Analyst, initiated coverage on Coffee Day with OW, Rs332 PT, implying 29% upside. Coffee Day is a$790mn mkt cap stk that trades about $4mn/day. It’s a conglomerate owning 4 large businesses – 1) Café Coffee Day largest QSR brands (52% of F15 consolidated rev, 63% of SOTP value) , 2) Real Estate (Tanglin, 10% of SOTP), 3) financial services (Way2Health, 4% of SOTP) and 4) listed entities –Sical and Mindtree (28% of SOTP). The stk is down 20% from the IPO price on 2 mkt concerns. First, coffee biz posted losses (Rs196mn) in F1H15. Nilai attributes this to the nascent biz model and ongoing sluggish urban consumption. He notes that its SSSG trends over the past 2-3 yrs have been better than competing QSR formats in India but still not enough to offset cost inflation burden. Coffee outlets 50-55 transactions per day is very low and he sees non-linear growth from here. He expects 10% SSSG growth in F17/18e of which 6% is pricing and 4% is volume growth. This should be sufficient to drive 20%+ EBITDA growth. Note that Coffee biz reported 17.4% YoY EBITDA growth in 1H vs his FY estimate of 15%. The second concern is regarding its conglomerate structure. Mgmt assured investors post IPO that all accruals from the coffee biz and proceeds from the IPO will be used for expansion of the coffee biz only and there’s no intention to expand the real estate biz or increase investments in the listed entities. This prompts Nillai to use 20% holdco discount only rather than a conglomerate discount to derive PT. With the stk down 20% since IPO and with the coffee biz trading at 12x F17e EV/EBITDA, 50% discount to Jubilant Foodworks, Nillai thinks that the valuation discount should narrow if the strong growth momentum in F1H continues. Download the Complete Report
ìUS – AMC Networks -- Ryan Fiftal is raising his price target on Overweight-rated AMC Networks from $78 to $88. Despite broader headwinds in the TV ecosystem, he continues to see idiosyncratic growth potential at AMCX based on its successful expansion of its original programming slate. Looking forward, Ryan does not downplay the potential revenue headwind from Walking Dead – he estimates the show accounts for nearly 20% of AMCX's domestic ad revenue in '15E – but believes recent content success will enable above-peer domestic ad revenue growth even assuming modestly accelerating Walking Dead ratings declines. With a strong start to Into the Badlands, AMC has launched the three most successful cable series premieres in history, all in 2015(Better Call Saul, Fear, Badlands), driving his estimate of +8% National Networks advertising growth in 2016E. He is ahead of consensus for 4Q15 and 2016 but uses a multiple in-line with peers (~9.5x fwd EBITDA) to reach his price target. Download the Complete Report
ìEurope – Eurotunnel – Having had a great start to the year, Eurotunnel has fallen 17% from its peak in May. The shares have come under pressure in part from the migrant issue and the numerous train stoppages and more recently from sentiment surrounding the atrocities in Paris. Our European Surface Transport analyst Annelies Vermeulen and team visited the new terminal this week at Calais and also had a look at the new security measures that have been put in place to combat the migrant problems. The Terminal 2015 project has increased truck parking capacity by 120%. Increased security checks have been put in place including the use of sniffer dogs and more check-in lanes have been put in. That and 37KM of new fencing which runs from the motorway all the way to tunnel entrance and 24/7 police presence means that issues with intruders have now been minimised. The cost of much of this is covered by governments. As a result service in now back to normal with Eurotunnel recording its strongest day of traffic ytd on 19th November at 6800 trucks. Passenger numbers which make up 25% of revenues have clearly been impacted by the Paris atrocities particularly in the week after the events but several travel industry sources say that things are returning to normal quite quickly. Eurotunnel has a franchise which lasts until 2086 and it is very leveraged to the European economy. There is plenty of truck capacity available and ferry prices are rising putting the company in a very strong position. Their €14.50 PT offers 21% upside, and they remain OW. Download the Complete Report
ì Japan – Sawai Pharmaceutical – Shinichiro Muraoka-san double upgrades Sawai to OW and expects the market to begin discounting positive benefits of government stimulatory policies aimed at increasing generic volume market share from early 2016. Wild fluctuations back and forth between positive and negative market sentiment are common for generic drug stocks. Sentiment turned negative from late August owing to concerns over pricing pressure, but he expects the pessimism to recede as healthcare reform debates wind down in December. He considers Sawai the best positioned among the three major generic drug makers to benefit from increased demand for generic drugs. He estimates F3/17 volume sales will need to grow by over 20% YoY to achieve the government's generic drug volume market share target (70% by mid-2017 versus about 55% currently). He revises up his F3/17 forecasts for Sawai as he thinks it has highest supply capacity, and thus is best-positioned to grow earnings. He estimates Sawai's sales will increase 19% YoY (volume +30%, price -11%) while OP increases 15% (13% higher than ¥28.7bn IFIS consensus OP). Download the Complete Report
ì LatAm – Anima & Ser – Javier Martinez, our LatAm education analyst, initiated coverage on the small cap education names with a relative preference for OW-rated ANIM3 vs EW-rated SEER3 on stronger fundamentals and better earnings momentum. His positive sector view has not changed over the course of the last year, as the large companies have successfully attracted out-of-pocket and private funding students (more than compensating for Fies) and improved their cost structures. In fact, the Fies bubble risk has dissipated, making the sector now more sustainable. Among the large caps, KROT3 remains their top pick on lower execution risks vs ESTC3. Download the Complete Report
ì US – Scripps Networks Interactive – Ryan Fiftal is upgrading Scripps Networks from Underweight to Equal-Weight. Following two years of underperformance, the stock now trades at the lower-end of peers and more appropriately reflects its modestly below-average growth outlook. He believes cable network groups without the weight of broadcast nets and sports (like SNI) are at risk of accelerating subscriber erosion in a skinny bundle environment. However, SNI appears to have one of the better price / value relationships and may have the scale to force its way into smaller bundles. Moving forward, a weaker TV ad market would make him more cautious; alternately, he would get more constructive if ratings growth continues or accelerates (potentially led by a turnaround at Travel) or if SNI were to trade at a significantly deeper discount to cable net peers. Download the Complete Report
ìEurope – Veolia – Veolia will hold a capital markets day on 14 December in Paris. Management will announce a new multi-year costcutting plan. Brokers' expectations vary in terms of format and quantification, but our European Utilities analyst Emmanuel Turpin and team estimate a consensus median expectation of c€100m per year of positive impact on EBITDA after costs over 2016-18. Their model assumes an average of €83m per year over 3 years. This adds c32cts to group EPS, i.e. explaining c.half of the 20% EPS CAGR they estimate for 2015-18. Key will be the clarity of management’s message on drivers of the cost cutting, implementation costs and benefits to EBITDA. They would expect management to be able to gradually lift its growth capex spending from its current historically low point. This would be positive in their view, considering the growth opportunities available in the market. The challenge for management will be to deliver a message of gradually rising capex deployment, while keeping the market's trust in its reinvestment credentials. On a 2-year PE relative to MSCI Europe, the stock has rerated to its long-term average, as they had expected…the rollover of models at year-end will make apparent some c.20% rerating potential to the long-term average. This is because consensus EPS for VIE grows materially more rapidly than the earnings of the broader market. Download the Complete Report
ì China – China Huarong Asset Management – Richard Xu, China Financial Analyst, initiated with EW rating and PT of HK$3.4, representing 10% upside. He believes that while Huarong’s full-service platform, expertise in high-yield lending and stable funding will support an attractive ROA, its exposure to macro risks, and employee limitations may hinder rapid asset growth. Richard projects net profit CAGR of 32% over 2014-17, driven mainly by balance sheet expansion. He estimates 2014-17 CAGRs for Huarong’s total assets and distressed assets of 23% and 27%, and ROA to remain relatively stable at around 2.4% for 2015-17. He expects gradually declining investment returns on restructured distressed assets, and relatively stable impairment loss/total assets around 130-140bps. His PT implies 0.9x 2016 P/B on his estimates and the stock currently trades at 0.81x FY16 PB. Download the Complete Report
ìUS – Mallinckrodt Plc – David Risinger is upgrading MNK to Overweight and raising his price target from $74 to $88 based on surprising Acthar sales growth (+10% y/y in Sept vs 5% MSe) and expected multiple expansion as MNK looks inexpensive at current '16E P/E of 9.0x and '16 EV/EBITDA of 8.3x (vs. spec pharma median of 13.7x and 10.4x, respectively). Download the Complete Report
ì Taiwan – China Life Taiwan – Silvia Fun, Taiwan Financial Analyst assumes coverage on China Life with OW, PT: NT$33.1, implying 0.55x F16e P/EV and 24% upside. China Life outperformed the index 20% YTD and yet Silvia sees continued outperformance into 2016. China Life offers an attractive growth story underpinned by its distinctive exposure to China’s life insurance market. Unlike its peers Cathay and Shin King, China Life has asset/liability match (less sensitive to bond yield movements), lowest cost of liability (+ve in the low rate env and further room to improve) and conservative asset allocation (stable recurring yield above COL). Although China Life wouldn’t benefit as much from peers from rate hikes given the duration match, rate hikes are nonetheless a strong catalyst for its investment yield and recurring yield. In addition, its conservative asset allocation suggests room for yield enhancement. Low-yield domestic fixed income accounted for 27% of its investments as of 2Q15 vs peers’ 9-21% hence, if China Life moves in line with peer avg via increased exposure to overseas bonds, pre-hedged recurring yield can improve by ~7bps. Looking into 2016, Silvia expects China Life to deliver 8-12 % VNB growth vs peers 5% growth with margin expansion on product mix shift toward FYP/regular-paid products. Its 19.9%-owned CCB Life also provides exposure to the fast growing China insurance biz, with 9M15 total premium/net profit up 100%+ YoY and potential listing in 2018. All in, Silvia believes China Life is a stock to own in a volatile mkt at current 0.4x P/EV, vs historical avg 0.5x. OW. Download the Complete Report
ìUS – Thermo Fisher Scientific – Steve Beuchaw is reiterating his Overweight rating on Thermo Fisher and views it as a core holding. He likes the set-up for TMO into 2016 for 4 reasons: 1) more consistent and rapid earnings growth relative to peers given the long runway for margin expansion; 2. effectively deploy capital to M&A given its ability to support revenue synergies with broad scope and commercial reach, 3. market share capture, and 4. free cash flow growth faster than profits given the company's potential for working capital optimization. While he is taking down his 2016e EPS estimates by 1% because of FX headwinds, he remains ahead of consensus for 2016 and 2017. Download the Complete Report
î US – Avis – MS Autos Analyst, Adam Jonas is reiterating his UW and cutting his PT from $25 to $24 due to the significant cost cutting potential at Avis, which is likely to be given back to the consumer through lower prices as transaction day volume gradually flat-lines. The read across to CAR comes from HTZ’s capital markets day which was a revelation to the market for the sense of urgency to attack costs on a variety of fronts (fleet, IT, SG&A and direct operational expenses). Adam believes the fundamental construct of the ‘daily rental’ model may be going through a wholesale reconfiguration. While the impact on the top line to firms like CAR and HTZ may be subtle at first, they could be strong enough to bring to light cost structures that are in need of rationalization and transformation. Download the Complete Report
î Korea – Samsung Securities – Sara Lee, S. Korea Financial Analyst, believes the growth outlook of wealth management will slow down in 2016, contrary to the market's expectations, given sluggish money inflow into brokers' investment products from banks' deposits. This will be the case especially for ELS products. She thinks customer demand for Chinese stock investment (HK-Shanghai Connect), which has also been a growth driver for wealth management for high net worth investors, will slow down after the recent market correction. Given her expectation of an 8% YoY earnings growth slowdown in 2016e and a lower ROE profile, she views the current valuation of 0.9x P/BV 2016e is fair. Key risks are restoring the growth momentum of wealth management and brokerage from improving money velocity of the financial markets and increasing money inflow into its wealth management products. Download the Complete Report
î EEMEA – MTN – MTN has announced that authorities in Nigeria have reduced the fine to equivalent of ~US$3.4bn vs original fine of ~$5.2bn. MTN has until 31st Dec 2015 to pay the revised fine. The $3.4bn fine, if accepted by MTN is still a significant amount and somewhat larger than general market hopes. Depending on the terms of the fine payment, it could affect MTN's leverage negatively as well as raise its finance cost. Maddy Singh, our EEMEA TMT analyst, stays UW MTN for five key reasons: 1. Risk perception on MTN stock should stay high even if the fine is reduced by the authorities in Nigeria. 2. Uncertainty and fallout from the fine would be a short-term headwind for both financial position and earnings. 3. Imminent risks to the dividend in the medium term, which could also erode valuation support. 4. Expect ongoing structural issues to weigh on medium term earnings growth and maintain their negative EPS CAGR forecast 2017e (-6%). 5. Valuation has come off, but Maddy does yet view it as appealing, especially with downside risk to earnings, dividends, a higher underlying risk profile and lack of catalysts. Download the Complete Report
î LatAm –Cencosud – Cencosud’s Adjusted grew 15.4% Y/Y in comparable basis, with 60 bps of margin expansion, but it was 9% below MSe due to higher than expected SG&A expenses and severance costs. Cencosud had net losses of CLP 30.2 billion in 3Q15 (vs. net income of CLP 29.2 billion in 3Q14), significantly impacted by higher losses from FX variations (in both operating and financial results). Of note, Cencosud reclassified its banking business (sold to Scotiabank) as discontinued operations, therefore overall results are comparable and do not include the bank. Download the Complete Report
î Europe – Aberdeen Asset Management – Our European Diversified Financials analyst Bruce Hamilton and team’s estimates reflect the ~2% AuM miss on heavier cal Q315 outflows and ongoing pressure in FY16/17e from a combination of (i) performance driven challenges (esp Global equities), (ii) an out of favour asset class, (iii) their expectation of further SWF reallocation pressure driven by lower oil prices. This drives revenue declines and negative operational leverage despite management efforts on costs. At ~14x 2016e vs European sector at ~15x, valuation strikes us as rich in view of the elevated flow risks. Is the market overly optimistic on flow improvement? They see downside risks given lessons of history. Outflow pressure from underperformance remains a critical risk (viz Invesco and Janus multi-year outflows post tech bust 2001). Can cost efficiencies keep pace with top-line challenges, or capital returns cushion downside risks? Additional savings they expect will drive some recovery in operating margins in FY17 but negative operational leverage will be intense in FY16 given outflows (35% op margins vs peak 45% FY13). They assume costs flat in FY16 (a good outcome given £30m additional costs from acquisitions) and down £30m in FY17 (£50m less inflationary impacts). They cut EPS double digits and remain UW. Download the Complete Report
î China – HK Exchange & Clearing – Anil Agarwal, HK/India Financials Analyst downgraded HKEx to UW as he believes the divergence between trading volumes and the stock price is unsustainable. He cut his price target to HK$165 from HK$180 to reflect a change in the probabilities assigned to the base, bull & bear case to 75%/10%/15%. His base case of HK$160 remains unchanged. Anil estimates EPS of HK$6.25 for 2015 (-1%) and HK$5.56 for 2016 (-3%), compared to consensus of HK$6.85 and HK$7.23, respectively and expects consensus earnings estimates to drop materially. He has assumed 5% growth in market cap in 2016, with trading velocity at 85% in line with the long-run average (currently velocity is closer to 70%), implying HK$86bn a ADT. Stock connect YTD trading volumes on Shanghai Stock Connect have averaged HK$12bn (north and southbound combined) despite the huge surge in 2Q15 and Anil assumes that turnover in 2016 is HK$15bn rising to HK$18bn in 2017. Volumes at LME has held up reasonably well despite the sharp correction in commodity prices as this is driven by the need to hedge given commodity price volatility. This could continue in 2016 and Anil is building in only a 5% decline in commodity related trading. On Anil’s revised estimate, HKEx is trading on 2016e P/E is ~36x, compared to the long-term average multiple of ~30x. However, on the consensus earnings estimate, it is closer to 28x. Download the Complete Report
î LatAm –VALE – Another challending year ahead…At its Investor Day Vale presented a somber outlook for 2016 framed by unfavorable demand and supply conditions and low commodity prices. Management plans to increase productivity, reduce costs, cut capex and sell assets, as it faces another year of negative FCF generation. Download the Complete Report
î US – Coty – MS Beverages & HPC Analyst, Dara Mohsenian is downgrading Coty from Equal-Weight to Underweight and is maintaining his $26 price target. He does not believe past drivers are likely to continue going forward given: 1) M&A is much less likely with Coty's balance sheet leverage toward the high end of peers, 2) focus on current deal integration vs. new opportunities, and 3) cost-cutting on the heritage business will become less important over a much larger EBITDA base post recent deals. Additionally, he thinks the market will begin to value Coty more on the underlying quality of the business, where fundamentals look worse for Coty than peers. His $26 price target is based on 21x pro forma 2017 EPS, a high single digit valuation discount to more attractive beauty peers. Download the Complete Report
î Europe – Adidas – Adidas can maintain share among the global brands in the view of Louise Singlehurst, our European Brands analyst, but she and her team have reduced their long-term growth from 8% to 7%. At the group level (Adidas brand and Reebok), they now forecast 7% 5-year sales CAGR (2015-20), down from 8% previously. For the Adidas brand (80% group sales) they now estimate 7% pa growth over 2015-20 (was 8%). They expect the core brand can maintain share among the global peers, but will underperform Nike (+11% pa over the same period). Growth at Adidas is skewed towards 2016 (+10.5% they estimate) reflecting the benefit of the UEFA Football Championships, where Adidas is official sponsor. For reference, they assume just 3% growth pa over the next five years for the smaller Reebok brand (was 4%), which implies share loss. With the launch of Adidas' new 5-year plan ('Strategy 2020', March 26, 2015) the group targets a high single-digit sales CAGR (and also for the Adidas brand). The area of greatest potential for growth is the US as the group focuses on reversing share losses there over recent years but Western Europe, given its size (28% group sales or 30% Adidas brand), clearly needs to perform. They forecast a 7% sales CAGR over 2015-20. They expected Nike and Adidas to rank closely in Europe; however, they were surprised by (i) Nike's superior ranking in terms of 'favourite' brand; and (ii) its premium price position vs Adidas. Even in Adidas' home market, Nike was ranked the 'favourite' brand among consumers in their survey. They think this presents a risk for Adidas and it supports their view that Nike will outperform. Download the Complete Report
î US – Viacom – MS Media analyst, Ben Swinburne is reiterating his Underweight rating on Viacom and is outlining the pressures to the business. The combination of declining ad revenue, decelerating affiliate revenue growth, and a need to invest in content informs his outlook for flat to modestly declining EBIT. He forecasts +6% total domestic affiliate revenue growth in FY16 compared to guidance for high-single digit growth. This assumes +4-5% core growth based on ~2% annual subscriber declines, SVOD growth of +20-25%, and a DISH renewal mid-year that includes only a modest step up in rate growth. However, he sees risk to this growth from 1) accelerating sub erosion and 2) pressure on affiliate fees from additional distributor consolidation. Download the Complete Report