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1
March 2014
SUCCESSFULLY NAVIGATING ROUGH WATERS
CONTENTS
Editorial 3
Fixed Income 6
Equity 8
Emerging Markets 13
Currency 16
Gold 18
Energy 19
Alternative Assets 20
Economic Outlook 23
Forecasts 26
At the beginning of the year, investors in advanced economies acted on
perceptions of a favourable growth outlook and accommodative monetary policy.
Unfortunately, the upbeat sentiment has been suddenly hit by weaker-than-
expected data in the US and China. Data revealing disappointing job growth in the
United States, coupled with a sell-off of emerging market (EM) assets and the
recent standoff between Russia and Ukraine, led to a drop in stock prices and a
rise in equity market volatility. At the same time, US Treasury and 10-year core
sovereign bond yields in the eurozone dropped, as did sovereign yields in the euro
area periphery, where investor sentiment has been improving. In this bumpy
beginning of the year, gold has been the best performer, recouping one-third of last
year’s losses. Although we remain convinced that the global economic outlook is
clearly on a growth path, and we see potential for risky assets to resume positive
performances in Q2, we want to hedge potential risks coming with the spring
season (i.e. weak earnings releases, further economic sanctions against Russia).
Therefore, we tend to diversify our asset allocation, reducing our Overweight
stance on US equities initiated back in 2012 and temporarily bringing our position
on euro Investment Grade corporate bonds to Neutral from Underweight.
INVESTMENT STRATEGY QUARTERLY VIEWS
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March 2014
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3
GLOBAL STRATEGY
SUCCESSFULLY NAVIGATING ROUGH WATERS
ST
RA
TE
GY
VIE
WS
The beginning of the year did not go as we expected. Although all the elements supporting
risky asset performance were in place in Q3 2013, a few factors changed the expected
trajectory. It would be very simple to say that unprecedented weather conditions have
influenced our rosy scenario. The reality is that after a strong economic acceleration in
developed markets in Q3, the US economy has taken a break, triggering investor fears of
another slowdown. Unfortunately, geopolitical risk in Russia and below-expectation figures in
China have only added more uncertainty to the already unclear global economic situation.
While the economy is navigating through rougher than previously expected waters, we
believe that a good balance between accommodative monetary policies in most developed
markets and ongoing improvements in the euro area may offset the risks coming from some
emerging markets, namely Russia. We therefore keep our preference for equities where
central banks may provide monetary support (i.e. Europe and Japan) and we increase
portfolio diversification, reshaping our fixed-income exposure (we move from Underweight to
Neutral on investment grade corporate bonds in the eurozone) and adding de-correlated
hedge fund strategies.
Spring economic acceleration in developed markets
The second quarter should provide some reassurance about positive momentum in
the developed world. In the US, weather-related weakness is expected to fade, and private
consumption as well as residential investment should advance further. We still expect capital
spending to firm up through the year, but so far figures have been rather sluggish, raising
some potential downside risks. In the eurozone, easing credit conditions and tightening
spreads in the periphery provide welcome support paving the way for stabilisation in both
domestic demand and unemployment in southern Europe. In the UK, the recovery is
gathering speed with risks tilted to the upside. Japan is the only notable exception, but we do
not expect a negative surprise. The scheduled VAT hike could dampen private consumption,
but the macro impact should be mitigated by the tax break aimed at boosting business
investment and by a new round of qualitative and quantitative easing (QQE) later in the year.
As monetary conditions should continue to be very loose against a low inflation backdrop,
most downside risks stem from exogenous factors such as the credit crisis in China or the
geopolitical conflict with Russia.
Emerging markets in choppy waters
Emerging markets will continue to face headwinds in the months ahead. Addressing
structural imbalances in the form of public or current account deficits takes time and means
tighter monetary or fiscal policies weighing on economic activity. Excess leverage, most of
the time in the private sector, will continue to require close monitoring from central banks and
cautious supervision as the period of cheap money is coming to an end. As such, some
property market bubbles could experience a downward price adjustment, notably in Asia. The
announcement of the Fed tapering last year spelled the end of yield-chasing in EM markets,
triggering significant outflows from fixed income and equity markets as well. This should
continue as US interest rates are likely to go up further in anticipation of the first rate hike by
the Fed. Political risks have returned to the fore with the Ukraine-Russia crisis and several
general elections to take place in significant countries such as Brazil, India, and Indonesia.
China is also facing major economic challenges since rebalancing growth and shoring up the
financial system are not easy tasks. Although currency depreciation in some places has
helped restore external competiveness, and valuations in some equity or fixed-income
markets have begun looking more attractive, we prefer to stay on the sideline and adopt a
wait and see attitude. We prefer for the dust to settle first before returning to those markets.
INVESTMENT STRATEGY - QUARTERLY VIEWS
Xavier Denis
Global strategist
+ 852 3699 3683
Claudia Panseri
Global strategist
(33)1 42 14 58 88
Dumitru Vicol
Global strategist
(33)1 42 13 14 97
March 2014
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4
GLOBAL STRATEGY
ST
RA
TE
GY
VIE
WS
Limited downside risks at the current juncture
As detailed later in this document, downside risks look contained, although they may not be
easily quantified. For the most part, these risks are EM-related, stemming from purely
political factors and economic policy management. Geopolitical risk related to a negative
feedback loop as a consequence of sanctions applied to Russia could put pressure on
eastern European assets and spill over into other European markets. In China, defaults in the
financial system could create a shockwave and drive down local bonds and stocks and
spread over to the whole commodity and EM space. In the advanced economies, the US
unemployment situation might be better than many expect, thus triggering a wage-driven
price spiral, pushing up long-term yields and prompting the Fed into action. Equities and
long-dated bonds would be the most at risk.
Tactical allocation: diversification helps
Our overall allocation remains pro-risk as the macro and micro climates remain quite
supportive. It is worth highlighting again that despite rising valuations, equities look less richly
valued than bonds. After a rerating has already been achieved on many equity markets, we
come to a point where absolute valuation matters, and pricey assets could experience a
correction. This is to say that it is necessary to: 1) pursue value more than growth; and
2) diversify portfolios for navigating in rougher waters. We would stop adding exposure to US
markets and buy more in the eurozone and Japanese markets. As EM economies have
entered a structural slowdown, growth stocks which usually have significant exposure to
those markets may continue to suffer from currency depreciation impacting earnings and
slowing demand in those markets. Consequently, we tend to prefer domestic-exposed stocks
in the UK and Germany where the economy remains very strong. Increasing allocations of
European investment grade could certainly be a good way to hedge against market risk, as
any disappointment could trigger a pull-back as already observed in Q1. And we strongly
prefer to remain overweight on eurozone high-yield bonds as expected returns should remain
attractive in a low-yield environment. If surprise is on the upside, eurozone markets are likely
to benefit the most, as a rerating is still underway in some sectors such as Financials.
Although many have warned of the risk of inflation fuelled by ultra-loose monetary conditions,
deflation remains a more prominent risk across the board as reflected by low inflation rates
and subdued inflation expectations. To some extent, this is a good news as it gives most
central banks room to manoeuvre, allowing them to stay on the dovish side.
INVESTMENT STRATEGY - QUARTERLY VIEWS
March 2014
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5
TACTICAL GRADING
How to read the table:
INVESTMENT STRATEGY - QUARTERLY VIEWS
Upgrade since previous investment strategy Downgrade since previous investment strategy
Gradings InvestmentsP o rtfo lio
(vs. B enchmark)
A bs. expectat io ns
(vs cash)
R el. expectat io ns
(vs histo ry)
++ Buy! Strong overweight Strong capital gain Strong capital gain
+ Buy on dips Overveight Capital appreciation Above average
= Hold Neutral Yield return* Average return
- Sell on rebond Underweight Capital loss Below average
- - Sell! Strong underweight Strong capital loss Strong capital loss
R eco mmandatio ns P erfo rmance expectat io ns
*Yield return: M oney market rate for FX, Coupon Yield for bonds, and earning yields for stocks
March 2014
Eurozone US UK Japan
Cash -
Fixed-income = = = = = =
Government - = - - - =
Corporate = = = = = =
Investment Grade - = - -
High Yield + + = +
Duration = 3-5y 1-3y 3-5y 1-3y
Equities + + = = + -
Alternative +
Commodities =
Hedge Funds +
Currencies (vs US$) = + - -
Q2 2014 GlobalAdvanced markets
EM
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6
FIXED INCOME – GOVERNMENT BONDS
RISK OF RISING US YIELDS STILL LIES AHEAD
Several factors have disappointed the bullish view on a
steepening US yield curve over the past quarter. The 10-
year Treasury yield pulled back from 3.0% in early
December 2013 to less than 2.7% in late March 2014.
First, the EM currency sell-off reflecting market worries
about policy management in the EM world as well as softer
economic data in the US have prompted a return to safe
havens. Moreover, geopolitical risks related to the Ukraine
crisis will likely continue to cap yields in global fixed
income markets. So far inflation has remained subdued
despite US inflation expectations remain well anchored
with little risk of slippage in the short or even medium term.
Undoubtedly, the market has bought into the Fed’s
enhanced forward guidance, and the Fed still looks highly
credible at managing market expectations. Looking
ahead, the factors depicted below warranting a pause
in yield pick-up will gradually phase out and US long-
term yields should edge up again. Growth drivers
remain in place in the US, bringing down unemployment
and leading to wage increases. With the economic slack
narrowing, domestic price pressure should gradually build
up, although upside risks should remain moderate until late
2014. Yet, yield normalisation will likely be mainly driven
by the recovery rather than by inflation expectations.
As the Fed is not going to hike its Fed funds target before
Q2 15e, the short end of the yield curve should remain low,
while long-term yields will pick up further, leading to a
steepening yield curve in the months ahead. However, the
additional steepening is set to be capped as the 2Y-
10Y spread already stands well above the 15-year
average and not far from the historical high (235bp on
19 March vs 148bp for the 15-year average and 291bp on
Feb 2010 for the all-time high).
INTEREST RATE RISK LOOKS MORE LIMITED IN THE
EUROZONE
Obviously, the pick-up in US yields will spill over into
the European benchmark yield curve. There is
traditionally a high correlation between US and German
yields, but we expect this correlation to be on the low side
in 2014. In 2013, the 10-year Bund rose by 60bp when the
10-year US Treasury yield gained 100bp. In 2014, the yield
pick-up on German bunds may not exceed half of the yield
rise expected on the 10-year Treasuries as inflation is
running very low in the eurozone and then the ECB may
eventually step in with more accommodation.
Consequently, we maintain a negative stance on US
Treasuries and core eurozone sovereign bonds.
ST
RA
TE
GY
VIE
WS
US and German 10Y yield correlation (%)
Source: Bloomberg, Société Générale Private Banking
PERIPHERAL BONDS STILL OFFER ATTRACTIVE
RETURNS
As risk appetite for euro-denominated assets is spreading
and investors are chasing yields outside the EM-fixed
income space, peripheral bonds could continue to offer
attractive returns. After a meaningful spread compression,
we still anticipate more spread tightening on peripheral
sovereign bonds. Better economic data reflecting the first
positive effect of structural reforms should entice investors
looking for attractive risk-adjusted returns.
| The US Treasuries curve should resume steepening, and
we anticipate the yield reaching between 3.30% and
3.50% by year’s end. For the Bund we expect long-term
yields to converge towards 2%. Yield volatility will again
remain a key factor in 2014 as investor sentiment may be
affected by political factors such as geopolitical risk, the
Fed’s ability to moderate long-term yield increases, and
possible disappointing macro data. We reiterate our
negative stance on sovereign bonds with the exception of
the eurozone periphery.
INVESTMENT STRATEGY - QUARTERLY VIEWS
March 2014
0.4
0.5
0.6
0.7
0.8
0.9
1
1996 1998 2000 2002 2004 2006 2008 2010 2012 2014
*monthly correlation
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7
Spread versus eurozone PMI
Source: Datastream, Société Générale Private Banking
FIXED INCOME – CORPORATE BONDS
US CORPORATES RE-LEVERAGE FURTHER
Corporate bond spreads have narrowed further in the past
months, signalling that the search for yield is still on. Safe
fixed-income assets (Treasuries and investment grade)
have outperformed high-yield bonds as the yield curve has
flattened, but we consider this a temporary phenomenon.
Looking ahead, the yield curve should steepen again (bull
flattening) as policy rates remain anchored. Corporate
fundamentals are still very solid with strong cash positions,
high margins, and rising profits. Yet US companies have
continued to re-leverage to fund shareholder-friendly
policies in the form of massive share buy-backs. Debt has
continued to grow in the past few quarters, but net
leverage has levelled off as operating profits have
improved. This is a negative factor for bondholders, but the
main risk stems from the steepening yield curve in a tight
spread environment. Although investor appetite was rather
strong in the first few months of 2014, valuations look
stretched. The risk-adjusted return does not offset the
interest rate risk looming ahead in the investment grade
bucket. For the high-yield universe, we tend to maintain a
more positive stance as the economic outlook is bright,
funding conditions remain loose, and default rates have
returned to their pre-crisis level. Against this supportive
backdrop, we believe that the spread cushion offsets the
risk of a steepening in the benchmark yield curve.
MORE VALUE IN THE EUROZONE MARKET
In the eurozone, we have a more positive opinion on the
credit universe. First of all, the primary market is very
active as eurozone bank deleveraging is an important
driver. Banks have further reduced their balance sheets
ahead of the ECB’s Asset Quality Review. Credit metrics
look rather strong on average and certainly better than in
the US, with only modest re-leveraging taking place.
Capex and corporate activism have only inched up thus
far. Companies have been reluctant to use more debt in a
still fragile albeit improving macro environment. With an
upturn in earnings in 2014, profitability is on the rise. So,
we strongly upgrade our stance on the eurozone
investment grade (IG) bucket to Neutral. Although
expected returns through the end of the year are not
extremely attractive, this asset sub-class could be a buffer
for portfolios in the event of a spike in volatility and
corrections on risky assets. It is also true that inflows have
returned to European investment grade assets, most likely
fuelled by reallocation from EM fixed income and a quest
for safe haven assets.
ST
RA
TE
GY
VIE
WS
.
We maintain our overweight stance on the high-yield
universe with a preference for short duration. Further
spread compression combined with a positive carry is
expected to deliver a decent performance, although well
below the 2013 figure, perhaps around 7% over the year.
We have a clear preference for high beta sectors including
Cyclicals, Industrials and Financials.
I The interest rate environment should remain a key driver
of allocation in the fixed-income space. High issuance will
continue to be balanced by strong demand. Credit metrics
are worsening in the US but from a very strong position.
So we reiterate our preference for eurozone markets
where we see more value. We upgrade the investment
grade bucket as it could offer a good hedge against market
disappointment as already reflected in first quarter events.
As the US yield curve should continue to steepen, we
prefer to go down the credit ladder and not to take duration
risk on all markets.
INVESTMENT STRATEGY - QUARTERLY VIEWS
March 2014
30
35
40
45
50
55
60
650
100
200
300
400
500
600
06 07 08 09 10 11 12 13
EURO BBB SPREAD VS 5Y GERMAN BOND (inverted lhs, bp)
Euro PMI (rhs)
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8
EQUITY
ST
RA
TE
GY
VIE
WS
WE THINK IT IS TIME TO DOWNGRADE US STOCKS
TO NEUTRAL
While many investors are worried about the US stock
market being expensive, we believe US stocks are not yet
in a risky valuation zone. However, we are concerned
about the recent change in the correlation between US
stocks and the 10Y US bond yield. This correlation has
turned negative, which means that all the good economic
news may now have a negative impact on US equities due
to the rise in US interest rates. A negative correlation
between equities and bond yields clearly indicates that the
bullish equity market is nearing an end and that good news
could now be seen as an additional factor to accelerate
tapering or to hike Fed Fund rates ahead of the market’s
expectations.
I The change in US bond yield/US stock correlation may
indicate the end of the US bull market. We therefore
downgrade US stocks from Overweight to Neutral.
IMPROVING US JOB MARKET MAY HAVE A NEGATIVE
IMPACT ON US CORPORATE MARGINS
While the beginning of the year was characterised by weak
economic data in the US, our view of positive growth
remains unchanged. Q2 should highlight the gradual
normalisation of the job market and the ongoing positive
momentum in the US economy. In addition to improvement
in the job market, we note a rise in private sector wages
(which had bottomed out in October 2013). Unfortunately,
cyclical peaks in corporate margins have tended to occur
at a minimum of ten months after wage growth has started
to accelerate and have also tended to occur when hourly
wage inflation was between 3.5% and 4%. This means
that margins may be close to their cyclical peaks. As
valuations are going higher and margins may post some
disappointments in the coming earnings season, we tend
to be more cautious on the US market.
Sector-wise, we continue to favour cyclicals over
defensives; however, we downgrade sectors showing
negative sensitivity to flattening yield curve such as
Financials. Among cyclicals, we are buyers of capex
sectors such as Information Technology and Capital
Goods. Rising rates have set off “taper tantrums” in high-
dividend yielding and debt-burdened sectors, particularly
Telecom and Utilities.
I We keep our exposure to cyclicals unchanged but reduce
our exposure to sectors negatively impacted by the
flattening of the US yield curve (the end of the Tapering is
expected for September). We therefore downgrade
Financials to Neutral from Overweight.
Recent rise in US wages may have a negative impact on
corporate margins
Source: Datastream, Société Générale Private Banking
INVESTMENT STRATEGY - QUARTERLY VIEWS
March 2014
Correlation between the S&P500 and the 10Y US bond
yield weekly return (%)
Source: Datastream, Société Générale Private Banking
-0.8
-0.6
-0.4
-0.2
0
0.2
0.4
0.6
0.8
1
88 90 92 94 96 98 00 02 04 06 08 10 12 14
Increase in bond yield is
negative for US equities
Increase in bond yield is positive
for US equities
6%
7%
8%
9%
10%
11%
12%
13%52%
53%
54%
55%
56%
57%
58%
59%
68 73 78 83 88 93 98 03 08 13
Wages % GDP (lhs)
Profits % GDP (rhs, inverted) = proxy for margins
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9
EQUITY
EURO PROFIT RECOVERY UNDER WAY
Since the beginning of the year, European economic
figures have improved overall. While concerns about the
low level of inflation and the euro’s recent appreciation
persist, Mr Draghi has been rather quiet so far. Investors
might wonder why. One possible explanation could be the
Asset Quality Review (AQR) due in October and the
associated need to improve bank solvability ahead of the
stress test. Indeed, in order to pass the AQR, European
banks have kept outstanding loans at very low levels,
breaking the normal credit transmission channel and
reducing the impact of a possible move by the European
Central Bank (ECB). Once the stress test is over, the ECB
could unveil a stimulus plan with negative interest rates or
any other blanket liquidity enhancement scheme as banks
will be ready to infuse credit into the economy. At that
point, the combination of accommodative monetary policy,
easing credit conditions, and positive profit growth should
drive eurozone equities up, supported by a strong re-rating
for European banks.
Our central view has not changed. Multiples expansion in
the euro area should rather be limited this year; however,
profit growth (EPS growth of 12% is expected in the
eurozone this year) and a good dividend yield should
ensure a low double-digit total return. Within the euro area
we continue to believe that German stocks still harbour
high potential, particularly the small and mid caps, which
are less affected by the euro’s appreciation. The French,
Italian, and Spanish indices may benefit from their
exposure to the banking sector.
Sector-wise, we increase exposure further on Value
sectors, upgrading Telecommunications from Underweight
to Neutral. Our strongest conviction remains the banking
sector, where we are still Overweight.
I With credit conditions set to improve by the end of the
year and profits expected to recover in the next quarter,
we keep our Overweight stance on European stocks.
WE STILL FAVOUR UK SMALL AND MID CAPS (FTSE
250) TO LARGE CAPS (FTSE 100)
The upward revision in growth and the downward revision
in inflation and unemployment leave the Bank of England
(BoE) with a degree of policy flexibility. Although the
market will continue to price in an earlier-than-optimal start
to interest rate normalisation, the BoE can afford to be
patient as inflation remains low. Most of the growth
contribution comes from private consumption while exports
and business investments have been a drag.
ST
RA
TE
GY
VIE
WS
As the GBP’s recent appreciation and the weak export
figures may have an impact on large UK-based global
companies, we continue to prefer small and mid caps
(FTSE 250) despite expensive valuations.
I We downgrade UK financials from Overweight to Neutral
as they are exposed to emerging markets. We also move
to Underweight on Utilities due to demanding valuations.
WE CONTINUE TO LIKE JAPANESE STOCKS
The beginning of the year has been rather difficult for
Japanese stocks (-9% year-to-date). Multiple factors have
weighed heavily on share price performance. First, the
weakness of the US data and the depreciation of the dollar
vs the yen. Second, fears about the consumer tax hike and
the likely negative impact on consumption have prompted
economists to downgrade 2014 GDP forecasts. Finally,
weak economic data in China is impacting Asia and Japan
in particular. Certainly, all these factors are negative;
however, investors seem to forget the positive side of the
equation. First, to offset the negative impact of the
consumer tax, the BoJ is expected to increase its
quantitative easing (QE). Second, thanks to higher wages
and a low unemployment rate, Japanese household
income is set to rise. Finally, strong corporate profit growth
should induce Japanese manufacturers to start increasing
their capital expenditure. The combination of these positive
factors along with attractive valuations should support
equities.
I Potential for further yen depreciation and recovery in
consumption are the ingredients for a potentially explosive
stock performance.
PMI points to profit recovery this year
Source: Datastream, Société Générale Private Banking
INVESTMENT STRATEGY - QUARTERLY VIEWS
March 2014
30
35
40
45
50
55
60
65
-60%
-45%
-30%
-15%
0%
15%
30%
45%
07 08 09 10 11 12 13 14
12m % EPS growth
PMI EURO ZONE (rhs)
Average PMI
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10
EQUITY CONVICTIONS
TOPIX – MULTIPLES RERATING STILL UNDERWAY
HIGHLIGHTS
• With data improving in Q1 and further quantitative easing expected from the BoJ, we see more upside for Japanese
stocks.
• Cheap valuations, positive profit growth, and a multiples re-rating should drive the Topix up to 1,500 in the coming two
years.
We believe that Japan is moving towards a structural change.
The end of deflation should strongly support a stock market re-
rating. Recent share price weakness should be seen as a major
buy opportunity.
There are many reasons why we believe that the Japanese
growth story is still alive. First, while exports continue to be below
our expectations, company earnings releases show that the yen’s
depreciation has prompted an increase in corporate profits. For
the second year in a row, Japanese profit growth should surprise
on the upside. Secondly, while investors are concerned about the
consumption tax hike (from 5% to 8%) effective from April, we
believe that the downside risks of the tax hike will be covered by
the ¥5.5tn fiscal stimulus package worth about 1% of GDP and by
the increase in aggregate wages. Therefore, we expect the strong
recovery in domestic demand to continue. Third, recent
announcement by companies (such as Nissan and Toyota)
regarding an increase in aggregate wages should stimulate
consumption and sustain inflation expectations. Finally, we still
expect the capex cycle to start an uptrend. As maintenance
capex had been suppressed over the past few years,
manufacturers have pent-up demand.
On the monetary side, the BoJ’s current commitment is to raise
the monetary base (¥204.8tn as at the end of February) by ¥60-
¥70tn per annum (to ¥270tn at the end of 2014) until its 2% price
stability target is achieved and consistently maintained. To reach
its target, the BoJ is also ready to implement additional
quantitative and qualitative easing (QQE) in Q2.
In our view, all of the above elements are not yet priced in. On the
contrary, we still see Japanese stocks as a value call among
developed markets. Assuming 10% profit growth in 2014e and
additional multiples expansion driven by the reflationary
environment, we see the Topix at 1,500 by the end of 2015e,
which means upside close to 30%.
Topix should re-correlate to the yen’s exchange rate
Sources: Datastream, IBES, Société Générale Private Banking
Among Japanese stocks, we think that Industrials and
Banking should benefit the most from the next round of
BOJ quantitative easing (QE). Meanwhile, the Consumer
Services and Technology sectors look to be at risk ahead
of QE.
March 2014 C
ON
VIC
TIO
NS
600
800
1000
1200
1400
1600
1800
2000
70
80
90
100
110
120
130
04 05 06 07 08 09 10 11 12 13 14
$/JPY (lhs) Topix
Bank book values increase with the rise in the CPI
Sources: Datastream, IBES, Société Générale Private Banking
50
100
150
200
250
300
350
70
75
80
85
90
95
100
105
110
Q1 1980
Q3 1984
Q1 1989
Q3 1993
Q1 1998
Q3 2002
Q1 2007
Q3 2011
Japanese CPI (lhs)
Japan Book Value
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11
EQUITY CONVICTIONS
GLOBAL PHARMA – THE ONLY GARP* SECTOR
HIGHLIGHTS
• When market volatility picks up, Pharmaceuticals usually offer a nice hedge to the growing risk of an equities sell-off.
• Cheap valuations, high shareholder returns (dividend yields and share buybacks) and strong potential growth are the
key catalysts for a sector outperformance both in Europe and the US.
• In the medium term, we see European pharmaceutical names offering the best risk/reward profile overall.
There are many reasons why we like the Pharmaceuticals sector.
Cheap valuations, safe dividend yields, and defensive profiles in
highly volatile markets are all supportive factors. However, profit
growth remains the most important driver.
While a few years ago the Pharmaceuticals sector was
considered a value opportunity, its status has now clearly
changed with investors recognising its growth profile. Both in the
US and Europe, the 2014 pipeline is the core driver.
In 2013 the global pharmaceutical sector saw a 20% re-rating of
the trailing P/E multiple to 20x. Nevertheless, we still see potential
for further expansion given 2014e sector EPS growth at 11% in
Europe and c.8% in the US according to consensus forecasts.
Clearly European companies look more appealing as after facing
a drop in profits last year, they are enjoying a better environment
and still have attractive valuations (14x based on 2014e forward
forecasts). We see the sector achieving a 15x P/E multiple by the
end of 2014e as long as it delivers revenue growth. Most big
pharmaceutical companies have passed their patent cliff while
adapting their business organisation. With a return to top-line
growth, we also expect medium-term margin expansion for those
companies launching new products.
Another factor bolstering pharmaceuticals groups is the high
dividend distributed by European companies (2014e expected
dividend yield of 3.2%) and the large amount of share buybacks
announced in the US. While the dividend is already quite
attractive for the sector overall, the dividend payout ratio could
rise further. According to some companies, the 50% payout ratio
for the dividend paid on 2013 earnings should not be seen as a
maximum level, which suggests that further increases in the
payout ratio for the dividend due in 2015 are possible.
World pharmaceutical company valuations (trailing P/E**)
** Trailing P/E is calculated taking into account profits published over
the past 12 months. Sources: Datastream, IBES, Société Générale
Private Banking
Among global large caps, we see more upside for
eurozone companies than their US peers. US
companies have enjoyed a two-year re-rating, and while
pipeline progression is still very likely, European names
are less expensive. That said, the recent devaluation in
some important emerging currencies represents a risk for
European pharmaceuticals. 2013 has already seen some
disappointing figures due to slowing economic growth in
emerging markets. Some of this deceleration has been
driven by the negative impact of legal investigations in
China as well as company-specific one-offs. However, as
long as emerging market currencies remain volatile, the FX
risk persists. In the medium and long term, we are
confident that emerging markets still represent an
important source of growth.
March 2014 C
ON
VIC
TIO
NS
*Growth at a reasonable price
10
15
20
25
30
35
40
45
79 82 85 88 91 94 97 00 03 06 09 12
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12
With bond yields set to rise in the US, emerging markets still
facing a bumpy ride, and profits expected to recover as soon
as Q1, we prefer to keep reasonable exposure to value
stocks in Europe.
Weak US economic data, fears about Chinese economic
growth, and more recently, geopolitical risk linked to Russia
have all driven the relative performance of European growth-
defensive stocks year-to-date. While the chaotic beginning of
the year may lead some investors to change their investment
style, we remain convinced that at this point in the cycle,
value should be favoured. Indeed we continue to believe that
traditional growth names in Europe may disappoint and may
temporarily lose their defensive status. We see EM currency
depreciation as a major risk for growth companies exposed
to EM (i.e. beverages, personal goods, food producers, and
luxury companies). In addition, the US economy’s expected
acceleration in Q2 should drive the US 10Y bond yield up
and support the relative performance of value vs growth (see
the right hand side chart). Last but not least, the gap in
valuation between value and growth sectors should boost the
former, as by definition value stocks tend to see their profits
expand when the global economy accelerates.
What is defined as value today? Traditionally, it stems
from the investment teachings of Ben Graham and David
Dodd at Columbia Business School in 1928. Value investing
is based on buying undervalued companies (i.e. low price to
book value, low price to earnings, high dividend yield).
Today, when we look into developed stock markets it is quite
difficult to identify deep value stocks. After the strong equity
market performance over the past year and a half, the
number of value stories has shrunk. By country, value names
can still be found in Japan and the eurozone (we are
overweight on both regions). Sector-wise, Financials and
Energy (we are overweight on both sectors) appear
extremely attractive.
EQUITY CONVICTIONS
EUROPE: PREFER VALUE TO GROWTH
Value vs growth style performance in the euro area
Source: Datastream, Société Générale Private Banking
HIGHLIGHTS The concept of value investing stems from the teachings of Ben Graham and David Dodd at Columbia Business School
in 1928. Value investments generally involve buying undervalued companies.
Among developed stock markets, Japan and the eurozone still offer good value opportunities.
Sector-wise, we see Financials and Energy as the best value picks. Selectivity is very important for Utilities and
Telecommunication services.
March 2014 C
ON
VIC
TIO
NS
0.85
0.90
0.95
1.00
1.05
1.10
1.15
1.20
1.25
1
1.5
2
2.5
3
3.5
4
09 10 11 12 13 14
10y US bond yield (lhs, %)
10y US bond yield forecasts (lhs, %)
Value vs Growth
The case for Utilities and Telecoms is difficult to judge. Can
these sectors be defined as real value investments?
Although both sectors trade at very low multiples, they also
face many challenges: low margins, low revenue growth,
and low return on equities. While Telecoms (which we rate
Neutral) is in the middle of a multi-year sector consolidation
which could support company re-ratings, the Utilities sector
(also rated Neutral) still needs to downsize balance sheets
and strengthen free cash flow generation. More disposals or
capital increases are necessary to bolster financial positions.
In addition, only regulated activities are likely to enjoy profit
growth.
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13
EMERGING MARKETS
ST
RA
TE
GY
VIE
WS
EMERGING MARKETS STILL FACE IMPORTANT
CHALLENGES
While EM currencies are becoming less volatile, the EM
situation remains fragile. In addition to local elections in
several EMs (i.e. Brazil, India, Indonesia), 2014 should see
slowing economic growth, high inflation, and restrictive
monetary policies in the developing world. Furthermore, the
risk associated with Ukraine seems less significant when
compared with the outcome of a hard landing scenario in
China. The fact is that EMs represent the tail risk today.
I Risks related to EMs still persist and may intensify if a
diplomatic solution is not found for the Russian situation.
UKRAINE CRISIS – HOPES ARE FOR A DIPLOMATIC
RESOLUTION
On 16 March, Crimea voted in a referendum to join Russia.
At the time of writing, the EU and US had decided on limited
sanctions against Russia. Our central case assumes a
diplomatic solution that should limit the economic impact of
this crisis. Should diplomacy fail in the relationships
between Central and Eastern Europe (CEE) and Russia, the
consequences could be quite serious considering that
Russia may suspend exports to the rest of the European
Union. As a consequence, Russian financial assets would
slump and the economy would suffer a major recession,
starting with production loss in the industries directly
impacted by more frugal households. Furthermore, less
favourable financial conditions would restrict access to
foreign capital, for both direct and portfolio inflows, further
capping domestic investment in new capacity.
CHINA FACES PRIVATE SECTOR DEFAULTS
Chinese GDP growth is expected to fall short of the 7.5%
target presented at the National People’s Congress for the
first time in 16 years. As China enters its first year of private
sector defaults, we believe that several factors should
ensure that Chinese policymakers stay on the right side of
this balance. First, defaults are likely to be few and far
between. Second, the PBoC stands ready to inject liquidity.
Lastly, the central government could opt to support the
economy by launching new spending programs.
I Among the major emerging economies, we expect both
Brazil and Russia to grow below trend potential. In China,
the government is set to miss its growth target. India may
surprise positively but everything depends on the outcome
of the elections.
No respite for EM currencies and then equities
Source: Bloomberg, Société Générale Private Banking
Emerging market valuations vs developed markets (P/E)
Source: Datastream, Société Générale Private Banking
INVESTMENT STRATEGY - QUARTERLY VIEWS
March 2014
80
85
90
95
100
105
110
115
400
500
600
700
800
900
1000
1100
1200
1300
08 09 10 11 12 13 14
EM Equities (lhs) EM Forex Index
0.4
0.5
0.6
0.7
0.8
0.9
1
1.1
1.2
1.3
94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14
EQUITIES: CHEAP BUT NOT SAFE ENOUGH TO BUY
Despite recent improvement in the risk/reward profile of
EM equities, valuations do not look appealing enough for
us to change our current Underweight stance on the
region. Indeed while economists have begun to
downgrade their growth expectations for EMs, it is difficult
to predict how the Chinese slowdown may affect
commodity producers and global growth, or how Ukraine’s
risk may impact CEE (i.e. Hungary).
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14
ST
RA
TE
GY
VIE
WS
As investors are still assessing the risk of the EM
framework and are consequently re-pricing their exposure,
we believe that it is still too early to jump into what may
seem to be a value call. Emerging countries currently trade
at a 30-40% discount to developed markets, but profit
growth has been strongly revised down and there is still a
risk of further downgrades.
Within the emerging universe, we see Mexico, Korea, and
Taiwan as potential outperformers. In Mexico we expect
steady progress on enforcement of the reforms concerning
telecoms, competition, and energy. We expect a steady
recovery in economic growth in the three countries
mentioned above. Therefore, the outlook for equities in
these regions remains positive in our view.
EM FIXED INCOME (HARD CURRENCY): PRESSURE
MAY CONTINUE DESPITE ATTRACTIVE VALUATIONS
EM debt is one of the remaining areas of the global
government bond market that offers some value. However,
EMs continue to suffer from retail outflows given concerns
about a potential increase in UST yields and rising risk in
the emerging countries.
Risk appetite for Asia bonds started to recover with local
institutional investors buying bonds. Even the price
guidance of some High Yield new issues was revised
downward when launched, indicating the robust demand
from investors on Asian corporate bonds. Asian credit
metrics saw deterioration in the first two months of 2014 as
there were 17 downgrades vs 4 upgrades from January to
February. Most downgrades were triggered by the profit-
warning notices in the earnings season and mainly
affected Chinese corporates. Despite some negative
actions, the broader picture is that most Asian corporate
credit metrics have stabilised. The overall stable rating
outlook improved to 75% from 72% before Moody’s and
S&P’s rating criteria revisions in December 2013.
Risk appetite for EMEA bonds has surely been impacted
by the risk linked to Russia. Fundamentals of Russian
corporates are good in general, although the Russian
economy has been slowing down for several months.
However, we believe there is still room to absorb further
challenges on the financial front. In particular, the
investment grade (IG) portion of the universe has relatively
low leverage and good balance sheet liquidity. The two
sectors that would be impacted by international sanctions
are the two major exporting sectors: oil & gas and metals &
mining.
Yield to maturity (%)
Source: Datastream, Société Générale Private Banking
EMERGING MARKETS
INVESTMENT STRATEGY - QUARTERLY VIEWS
We believe that the latter sector has the most to lose, as
there is global overcapacity currently, and Russian exports
could easily be replaced. As for oil & gas, we believe the
economic pain supported by Europe, in particular, would
be too harsh for the continent to accept. Russia on the
other hand would also be reluctant to freeze exports to
Europe, even though some of it could be replaced by
China. In this regard, we believe the safest sectors are the
largest state-owned banks, oil & gas, and domestically-
oriented businesses such as telecoms and retail. We
recommend a status quo attitude on IG-bonds with
durations of less than five years. We believe that the risk-
premium recently reflected in prices will not go away in the
immediate future, which is why we do not believe that a
more positive stance is justified at the moment.
Latam hard currency bond funds recorded outflows of
$13.3bn YTD, mainly driven by retail investors going to
developed market bonds and equities after being
disappointed by the poor performance, volatility, and
negative sentiments surrounding EM asset classes. With
elections coming in Brazil and the weak economic
environment, fund outflows should continue in the near
term. Moreover, yields do not seem attractive enough from
a risk/reward perspective.
I We recommend a neutral allocation on local currency EM
debt while staying very selective.
March 2014
3
3.5
4
4.5
5
5.5
6
6.5
7
7.5
8
11 12 13 14
ASIA EMEA
LATAM
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15
Qatar is to join the MSCI emerging market index in June
2014, following the upgrade announcement in mid-2013. We
expect that the market will experience a liquidity boost as we
approach May 2014, when the MSCI reclassification of Qatar
as an EM will become effective.
Qatar has one of the highest per capita GDPs (c.$107,000 in
FY13), a well-developed banking system, fixed exchange
rates (pegged to USD) and a strong sovereign balance sheet
(forex reserves at c.100% of GDP) which makes it less
vulnerable to sudden changes in global liquidity flows. The
International Monetary fund (IMF) expects Qatar’s GDP to
grow 6% in 2014e and 7.1% in 2015e with a positive short
and medium-term economic outlook. The country’s GDP
growth slowed from 13% in 2011 to about 6.5% in Q3 13.
This was primarily due to a long-standing self-imposed
moratorium on additional hydrocarbon production from the
North Field as the country intends to focus on non-
hydrocarbon sector growth. Furthermore, inflation is
expected to remain benign at 3.3% in 2014 and 3.5% in
2015. With a breakeven oil price at around $50/bbl (lowest in
the region), Qatar continues to post a rising budget surplus.
The IMF expects Qatar’s current account (in 2013) to record
another year of high surplus (consensus expects about 25%
of GDP) after it recorded a surplus of 32% of its GDP in
2012. The external and fiscal balances in Qatar should also
benefit from new gas output from the Barzan field. Over the
medium term, the IMF expects 6-7% growth in public
investments while the non-hydrocarbon sector is expected to
grow about 10%.
An important catalyst for Qatar is the improvement in
infrastructure spending. Transportation and urban
regeneration projects are expected to get a boost, along with
downstream investments and the beginning of infrastructure
awards/projects related to the 2022 soccer world cup. In
addition, we expect some acceleration in real non-oil GDP
growth in 2014, with the increase in new projects including
implementation of the Doha metro, the start of broader
transportation projects.
EMERGING CONVICTIONS
QATAR: HAVEN FROM THE TURMOIL
HIGHLIGHTS The IMF expects Qatar’s GDP to grow 6% in 2014e and 7.1% in 2015e with a positive short and medium-term economic
outlook.
An important catalyst for Qatar is the improvement in infrastructure spending. A surge is expected in transportation and
urban regeneration projects.
Despite the strong market performance in 2013 (Qatar all share index up 28.4%), Qatar’s equity market valuations still
look attractive.
March 2014 C
ON
VIC
TIO
NS
Despite the strong market performance in 2013 (Qatar all
share index up 28.4%), Qatar’s equity market valuations still
look attractive. The Qatar index is trading at P/E 2014e of
10.3x vs 12.9x for Saudi Arabia, 12.1x for UAE, 10.3x for the
MSCI FM and 9.2x for the MSCI EM index. Moreover, Qatar
offers an attractive dividend yield of 4.8% in 2014e,
compared with 3.7% for Saudi Arabia, 4.5% for UAE, 4.5%
for the MSCI FM and 3.4% for the MSCI EM. We prefer
names that are expected to benefit from strong domestic
demand. Credit growth is expected to be in mid-to-high
double digits, driven by the boost in investment spending
and diversification of the economy towards the non-
hydrocarbon sector.
Qatar’s outperformance started in July last year
Source: Datastream, Société Générale Private Banking
100
120
140
160
180
200
220
240
09 10 11 12 13 14
QATAR EQUITY INDEX
MSCI EM INDEX
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16
Eurozone cumulative fund flows ($m)
Source: EPFR, Société Générale Private Banking
CURRENCY
EUR/USD: LIMITED DOWNSIDE AHEAD FOR THE
EURO
Once again the euro has surprised on the strong side
versus the USD and it might even reach 1.40 in the short
run. Until a few months ago, most forecasters predicted a
stronger USD on the back of Fed normalisation, a subdued
recovery in the eurozone, and the derating of EM assets.
Although the USD has gained ground against most EM
currencies, it lost pace against the GBP and the EUR. The
stronger US momentum has not been reflected in interest
rate differentials vs the EUR or the GBP. Although Fed
tapering started last December, it only signals that the Fed
is buying fewer assets each month while the ECB balance
sheet is shrinking steadily. Overall, the new Fed
chairwoman has reiterated a dovish view, keeping a lid on
interest rates and putting off expectations of a rate hike.
Sluggish inflation provides the Fed with some room to
maintain an accommodative stance, but the steady
acceleration in wages should gradually lift headline
inflation over the year. In the UK, bullish macro readings
and weak forward guidance credibility have propped up the
forward interest rates, lifting in turn the British pound. In
the eurozone, the ECB has remained on hold despite
expectations of falling inflation that have pushed up real
yields. In fact, the interest rate differential has been less a
driver for the EUR exchange rate as returning risk appetite
and receding financial stress have attracted new capital
inflows in the eurozone, underpinning the euro’s strength.
A passive ECB and foreign investor appetite for euro-
denominated assets have bolstered the single
currency.
Looking ahead, we do not expect a significant
softening of the EUR vs the USD. Yet, as the recovery
continues, markets will anticipate a Fed funds hike which
the consensus expects in Q2 15, while the ECB could
decide to ease its stance to cap the euro rally. But this
downward move could easily be dampened by investors
chasing value assets in the eurozone. At the current
juncture, eurozone assets offer more appealing valuations
than their US counterparts, both in the fixed income space
and the equity space. Also, from a long-term perspective,
the eurozone’s current account surplus provides additional
support to the single currency when the US is still running
a significant deficit.
I We forecast the EUR/USD to trade above the 1.35 mark
in the coming months with possible overshooting before
receding slightly to remain in a 1.30 – 1.35 range later this
year .
ST
RA
TE
GY
VIE
WS
Higher real yields in the eurozone underpin the euro’s
strength
Source: Datastream, Société Générale Private Banking
INVESTMENT STRATEGY - QUARTERLY VIEWS
March 2014
-10000
-5000
0
5000
10000
15000
20000
25000
2012 2013 2014
Equity Bond
0
0.1
0.2
0.3
0.4
0.5
0.6
0.7
0.8
3Y 5Y
Spread German-US
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17
Lingering upward pressure on the CHF pushes nominal
rates in negative territory
Source: Bloomberg, Société Générale Private Banking
CURRENCY
USD/JPY: RENEWED WEAKNESS IN H2 14
On the back of the EM turmoil, the yen has regained some
ground since early January, levelling off around 102. The
yen is a safe haven currency that tends to appreciate when
risk aversion spikes. The market focus is on the VAT hike
scheduled in April. We still expect a new round of QQE but
probably not before next summer or even fall as the BoJ
intends to calibrate its new liquidity injection according to
the dampening impact of the tax hike. Also, a yield pick-up
in the US, reflecting expected monetary policy
normalisation, should mean a weaker yen. We maintain
our expectation of a lower yen although this may not
happen in the near term. In the months ahead, the yen
should trade in a range-bound market but looks more likely
to edge down in the second half alongside new QQE.
I We forecast 103 at a three-month horizon and 108 for
late 2014.
EUR/CHF: GRADUAL SOFTENING AHEAD
Renewed tensions in the EM space have favoured
returning capital inflows for the CHF similar to the yen.
Despite low or even slightly negative nominal interest rates,
the CHF is still trading at high levels. The huge current
account surplus (12% of GDP) is a major driver. With the
SNB being firmly committed to defend the 1.20 floor
against the EUR, risks are asymmetric. As long as interest
differentials with the EUR and the USD remain almost nil,
we are unlikely to see a meaningful softening of the CHF.
We anticipate a modest weakening of the CHF as risk
appetite improves further at the global level and US
monetary policy is set to normalise. But any bout of
volatility as recently observed in relation to the Ukraine
crisis could prop up the currency.
I We forecast 1.23 in three months and 1.25 in six.
EUR/GBP: MODEST SLIDE IN THE CARDS
As economic momentum has surprised on the strong side
and the BoE’s forward guidance has been largely
ineffective, markets have priced in an early rate hike,
possibly in Q1 15, the first to occur among G4 economies.
As a consequence, the GBP has outperformed, but we
appear close to a tipping point. Any macro disappointment
or delay in the expected tightening may drag down the
short-term yields and the currency as well.
I We expect EUR/GBP at 0.82 in three months and 0.81 in
six.
ST
RA
TE
GY
VIE
WS
INVESTMENT STRATEGY - QUARTERLY VIEWS
March 2014
1.1
1.15
1.2
1.25
1.3
1.35
1.4
1.45
1.5
-1
-0.5
0
0.5
1
1.5
2010 2011 2012 2013 2014
Switzerland Govt Bonds 2 Year (lhs) EUR/CHF (rhs)
JPY benefits from safe haven investments
Source: Bloomberg, Société Générale Private Banking
60
70
80
90
100
110
12070
80
90
100
110
120
2009 2010 2011 2012 2013 2014
JPMorgan Emerging Markets Curr (lhs)
Japanese Yen Spot (inverted rhs)
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18
Real yields drive gold prices
Source: Macrobond, Société Générale Private Banking
COMMODITIES – GOLD
GOLD: NEGATIVE (SPOT: USD1,386, 3M: USD1,250,
6M: USD1,200)
The bearish consensus on gold has been challenged
during the past couple of months. At the beginning of
2014, markets expected stronger US growth and further
normalisation of interest rates. In contrast to the
consensus, economic data was on the soft side, with US
non-farm payrolls dropping sharply. PMI, retail sales, and
housing starts underperformed as adverse weather took a
toll. Given a softer macro backdrop, investors started to re-
price the Fed’s response function considering a slower
pace of tapering and a possible delay in the first rate hike.
A weaker USD bolstered the gold price. In the EM space,
current account deficit countries, which are in urgent need
of capital inflow, suffered from significant currency sell-off.
As a response, policymakers tightened monetary policies,
highlighting the downside growth risks for EM economies.
Therefore, the rally in gold was accompanied by an
increasing drop in many industrial metals, emphasising the
fragility of the world’s economic recovery. Also, geopolitical
tensions between Ukraine and Russia have boosted risk
aversion and favour safe haven investments like gold.
Money investors had a significant influence in the recent
rebound. Assets under management at physically backed
ETF stopped falling and a similar picture was seen in the
futures space where money managers added long
positions. Physical gold demand in China remained well
above the long-term average while India’s was somewhat
subdued due the 10% import duty imposed to reduce
internal demand.
Despite the recent bullish developments, we think that the
gold price will fall again as concerns on global economy
growth subside. As 2014 advances, US short-term interest
rates should reflect expectations of a policy rate hike, a
negative driver for gold. In the short term, market
fundamentals might be supportive for gold as strong
Chinese physical demand and easing Indian import
restrictions should prevail. In the medium term, the macro
scenario of trend growth, tame inflation, and fewer tail risks
suggests downside risks to gold. Our outlook forecasts a
re-acceleration in the US and a steady recovery in the
eurozone.
I Technical indicators, geopolitical risks and uncertainty on
the Fed tapering pace support the gold uptrend. However,
investors should not be too bullish as underlying bearish
fundamentals should cap the upside potential. We would
take advantage of the recent rally to take profits on gold
holdings .
ST
RA
TE
GY
VIE
WS
INVESTMENT STRATEGY - QUARTERLY VIEWS
March 2014
New buyers emerged as the consensus was challenged
Source: Macrobond, Société Générale Private Banking
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19
WTI was more sensitive due to cold weather in the US
Source: Macrobond, Société Générale Private Banking
COMMODITIES – ENERGY
ENERGY (OIL): NEUTRAL (BRENT SPOT: USD109, 3M:
USD104, 6M: USD107).
Weaker business confidence and mixed signals on the
global economy diminished investor risk appetite.
However, the markets observed a recent rebound for oil
which can be explained by a couple of temporary factors.
Bitterly cold weather in the US was a major supportive
factor as it caused a sharp spike in distillate oil prices. The
impact was exacerbated by lower oil production growth in
the US and low inventories in OECD markets. China’s all-
time high demand in January played a key role in the oil
price trend. The underlying supportive factors triggered
investors to play in the oil futures space. Speculators
drove CFTC’s gauge of positions in WTI to an impressive
383m barrels (all-time high).
Geopolitical risks contributed to the rally along with the
aforementioned market fundamentals. The crisis in
Ukraine spurred fears of an energy supply shock. Russia
is the single largest energy supplier for OECD countries in
Europe. In 2013 crude imports from Russia represented
34% of net imports from outside of Europe. The crude
arrives in Europe through a combination of seaborne trade
and pipeline shipments on the Druzhba line that crosses
Ukraine. Russia relies on Europe as the buyer for 75% of
its oil and gas exports. Consequently, the relationship is
bilaterally important. US-EU sanctions could lead to a cut-
off of energy supplies through the Ukraine pipeline
network. However, this is not Pareto efficient given the EU-
Russia interconnectedness. Such a measure is unlikely to
be durable as economic losses would press both sides to
come up with a diplomatic solution.
The recent developments point to a highly volatile
environment for oil with both significant downside and
upside risks. The weather-related effect will inevitably fade
out. The recent spike in China’s demand was due to stock-
building as new refineries start up; therefore, this demand
will slow. The speculative position overhang could lead to
a sharp price drop. The supply side remains fragile as
there is no guarantee that Iranian oil will return to the
market, while Nigeria and Libya are still afflicted by theft
and security issues. Geopolitics could maintain a risk
premium.
I The aforementioned factors would create potential
volatility in Q2. Nonetheless, they are likely to fade in Q2.
A robust recovery is expected in H2 with a stronger picture
in DM growth underpinning oil demand; however, the
China slowdown may mitigate this upside risk. We suggest
remaining neutral and hedging against volatility.
ST
RA
TE
GY
VIE
WS
INVESTMENT STRATEGY - QUARTERLY VIEWS
March 2014
Tight inventories contributed to the rally
Source: Macrobond, Société Générale Private Banking
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20
M&A volume expands when markets perform well
Source: Bloomberg, Société Générale Private Banking
ALTERNATIVE ASSETS
HEDGE FUND STRATEGIES: A CONVENIENT WAY TO
INTRODUCE ASSET DE-CORRELATION
The global economy appears to be mid-cycle while
slowdown/acceleration risks could appear on the horizon.
The macro consensus was recently challenged, and
markets reassessed the recovery path. As hedge fund
strategies are less market driven, they could generate
more alpha. Considering the recent economic data fog, we
would hedge portfolios by increasing exposure to market-
neutral funds which provide some form of downside
protection while maintaining good returns.
Among the different strategies that hedge funds may
adopt, the long/short equity* bucket is expected to
perform well given the favourable but balanced macro
backdrop. Robust but modest growth and ample but
shrinking liquidity in combination with low asset class
correlation should create more trading opportunities for
talented managers.
Event-driven space** should benefit from still low interest
rates, better visibility on growth, and still affordable
valuations. Perhaps one of the biggest market drivers right
now is necessity. After wringing every ounce of profit by
cutting costs to the bone, CEOs and corporate boards are
realising that real growth can only come via acquisitions
I Hedge funds are sound tools for portfolio diversification in
times marked by increasing geopolitical risk and change in
US monetary policy.
* A long/short strategy involves buying long equities that
are expected to increase in value and selling short equities
that are expected to decrease in value.
**Event-driven is an investment strategy that seeks to
exploit pricing inefficiencies that may occur before or after
a corporate event, such as a merger, acquisition, or
spinoff.
ST
RA
TE
GY
VIE
WS
INVESTMENT STRATEGY - QUARTERLY VIEWS
March 2014
600
800
1000
1200
1400
1600
1800
2000
0
100
200
300
400
500
600
700
2002
Q1
2004
Q1
2006
Q1
2008
Q1
2010
Q1
2012
Q1
2014
Q1
M&A volume (bn$) S&P500 (rhs)
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21
MAJOR RISKS
ST
RA
TE
GY
VIE
WS
INVESTMENT STRATEGY - QUARTERLY VIEWS
March 2014
We see four main downside risks and two upside risks. Some risks could hurt our positions,
but most of our current tactical bias tends to mitigate downside risks.
Downside risks
Credit crisis in China. Chinese defaults cannot be controlled by the authorities. Investor
risk appetite wanes, driving risky assets down strongly. Commodities demand slips.
► Underweight equities and assets vulnerable to Chinese growth such as commodities,
commodity FX, and broad EM.
Harsh sanctions applied to Russia lead to a “cold war”-like situation. Russia cuts off
energy shipments to Europe, while the US starts to export gas and oil. Ukraine defaults on
sovereign bonds.
► Avoid EM equities and increase exposure to defensive assets.
No recovery in US Capex. Disappointments in capex fuels bets on a US slowdown and
labour market deterioration. S&P drops and Fed ceases tapering cycle.
► Long Gold, CHF and Treasuries. Sell equities.
Interest rate shock. US 10-year rates overshoot towards 4%. US housing stalls,
corporates stop re-leveraging. Stock markets drop and EM assets bleed further.
► Underweight EM assets (FX) and interest-sensitive US stocks.
Upside risks
Strong rebound in profit growth. If companies exposed to EM release above-expectation
profit growth, equities will soar.
► Increase exposure to consumer staples.
Emerging economies resume growth after active policy-mix. China rebounds and lifts
Asian and Latam suppliers. EM stocks, carry currencies, metal commodities rebound.
► Portfolios with risky assets will benefit indirectly.
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22
FOLLOW-UP ON CONVICTIONS
INVESTMENT STRATEGY - QUARTERLY VIEWS
Inception Date Conviction Currency Performance
Since Inception
Performance
Q.o.Q.
Performance
Y.T.D. Status Comments
November 22, 2012
Conviction N°1: Buy
European stocks now or
never
EUR 26.00% 3.00% 0.00% Open Low valuations are still the major drivers for European Stocks
February 20,
2013
Conviction N°2: Capital
expenditure recovers in
the US
USD 19.00% 2.00% -1.00% Open
With the US economy gaining momentum, we reiterate our
conviction that US sectors linked to capital expenditure (capex)
should outperform by the end of the year.
September 1, 2013 Conviction N°3: US De-
Equitisation USD 11.00% 2.00% 0.00% Open
The “de-equitisation” process is still underway, sustained by large
cash piles on company balance sheets. The most represented
sectors in the share buyback universe are Consumer
Discretionary, Health Care, and Financials. Companies buying
back shares tend to be strong performers.
September 1, 2013
Conviction N°4:
Commercial Real Estate:
Resilient Yield
EUR 22.10% 6.80% 4.40% Open
As fixed income returns have meaningfully come down, investors
venture beyond traditional bond markets to meet their fixed return
objectives. Commercial real estate markets look appealing as they
offer a potential defensive profile, long-term visibility, and a hedge
against inflation.
December 1, 2013 Conviction N°5: US bond
yields back up! USD --0.90% -1.90% -2.80% Open
US monetary policy is entering a multi-year tightening phase and
US long-term yields should keep rising in line with accelerating
activity.
This is a major trend that impacts portfolio structure and
investments in bonds, currency, and diversification techniques.
December 1, 2013
Conviction N°6a:
European banks beauty
contest (Equity)
EUR 3.00% 5.00% 2.00% Open
Economic turnaround and accommodative monetary policy will
further ease funding conditions. The ECB’s Asset Quality Review
performed should ease market concerns about the soundness of
the eurozone banking sector and whet investor appetite. Bond
redemptions will continue to overtake bond issuance providing
support for the financial bond market.
December 1, 2013
Conviction N°6b:
European banks beauty
contest (Bonds)
EUR 3.14% 3.14% 3.14% Open
December 1, 2013
Conviction N°7: Value in
European short duration
high yield
EUR 3.40% 2.90% 2.70% Open
Default rates in European High Yield are set to stay low while
short-maturity bonds provide protection against the risk of rising
long-term yields
Structural factors are supporting increased market liquidity
December 1, 2013
Conviction N°8:
Investment cycle
gathering speed
USD 3.00% 0.00% -3.00% Open
Business fixed investment has been relatively weak in developed
markets for several years but we now expect a rebound in capex in
Japan, the US, and Europe (especially in Germany and the UK).
As financing conditions remain accommodative, company cash
flows are at very high levels and now that global growth is
accelerating, we expect an increase in investments.
December 1, 2013
Conviction N°9: Upside
for depressed energy
sector
USD -7.00% 4.00% 2.00% Open
Free cash flow generation is key for avoiding the ongoing Big Oil
de-rating. Improved visibility on Big Oil’s future cash flow, the near
10-year low valuation relative to the market, and higher cash
returns to shareholders should whet investor appetite for energy
stocks. In addition, the oil sector’s defensive profile and high
dividend yield look attractive for those investors wanting to avoid
the likely increase in equity market volatility.
December 1, 2013
Conviction N°10:
German stocks: Rocket-
borne
EUR -1.00% -1.00% -3.00% Open
The low interest rate environment, attractive effective exchange
rate, and accelerating economic growth are all the factors needed
to drive German stocks up further. In the eurozone the DAX
remains our preferred index as valuations are cheap.
Small & Mid caps in Germany are still attractive despite the 20%
premium they show relative to large caps in the region.
March 19,
2014
Conviction N°11: TOPIX -
Multiples rerating still
underway
(currency hedged)
EUR - - - Open
We believe that Japan is moving towards a structural change. The
exit of deflation should strongly support the stock market re-rating.
Recent stocks weakness should be seen as a major buy
opportunity.
March 19,
2014
Conviction N°12: Global
Pharma - The only GARP
Sector
USD - - - Open
There are many reasons why we like the Pharmaceuticals sector.
Cheap valuations, safe dividend yields, and defensive profiles in
highly volatile markets are all supportive factors. However, profit
growth remains the most important driver.
March 19,
2014
Conviction N°13: Europe:
Prefer Value to growth
style
EUR - - - Open
With bond yields set to rise in the US, emerging markets still facing
a bumpy ride, and profits expected to recover as soon as Q1, we
suggest keeping a reasonable exposure to value stocks in Europe.
March 19,
2014
Conviction N°14: Qatar:
Haven from the turmoil USD - - - Open
Qatar should be joining the MSCI Emerging market index in June
2014, following the upgrade announcement in mid-2013. We
expect that the market will experience a liquidity boost as we
approach May 2014, when the MSCI reclassification of Qatar as an
EM will become effective.
Average Performance 7.43% 2.36% 0.40%
Convictions have either a Tactical horizon (3-12 months) or a Strategic horizon (1-3 years), the current position refers to our stance at the current time, thus they are Open then Closed and
removed from the list. For the Strategic Convictions, we also have an additional ‘Hold’ position, when we think the theme is still valid over its stated horizon but current conditions are not
ideal to enter/sell.
March 2014
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EC
ON
OM
IC V
IEW
S
The force of global liquidity, difficult to observe and measure, is nonetheless clear. Even very
modest changes in fundamentals or the mere hint of them can trigger sharp reversals in
liquidity tides with major consequences for the real economy. Last summer, the mere
suggestion of Fed tapering triggered sudden market re-pricing. More recently, the reappraisal
of emerging economies’ fundamentals, most notably China, led to new outflows.
The fundamentals of the global leverage cycle remain at the heart of our scenario of a
recovery in advanced economies (credit revival) and softer growth for emerging economies
(credit slowdown). In advanced economies, the recoveries in the United States and the
United Kingdom are the most advanced, while in the euro area it is still nascent and in Japan
still highly reliant on policy stimulus. Amongst the major emerging economies, we expect
both Brazil and Russia to grow well below trend potential. In China, the government is set to
miss its growth target for the first time in 16 years. Albeit only by a small margin, this will be
symbolic politically.
We assume that there will be no storm surge in global liquidity. The ability of the US Fed to
keep key rates well below a Taylor Rule level in 2014 is one protective barrier. Credible
policy responses in emerging economies is another. For the euro area, progress on
bolstering banks and fiscal union will be the main pillars of support.
1. Localised EM turbulence: Most recently, events in Ukraine sparked global market jitters.
The combination of challenging political issues (Ukraine, Russia, India, Indonesia, Brazil,
etc.) and slower growth momentum overall in emerging economies is likely to trigger more of
these tremors. It is only in our risk scenario, however, that we see globally disruptive
dislocations in emerging markets. We identify three risks that merit particular attention: (1)
policy responses; (2) portfolio concentration risks; and (3) economic linkages.
2. China’s credit tide ebbing while the US is flowing: The rotation of the global leverage
cycle from emerging to advanced economies remains at the heart of our global economic
outlook. China’s bumpy landing is playing out to script as policymakers have sought to slow
credit and sacrifice short-term growth to protect long-term stability. This year, we expect GDP
growth to fall short of the 7.5% target presented at the National People’s Congress for the
first time in 16 years. As China enters its first year of private sector defaults, the moment
when a hard landing could occur has arrived. We place a 20% probability on a China hard
landing (China’s GDP growth falling below 5%). This kind of risk scenario would cost the
global economy 1.5pp of GDP in the first year after the shock. The world economy is now
looking for a leverage relay; the US, UK and Germany are the best placed today to pick up
this role.
3. G4 price stability: Each major economy, it seems, has its own price concern. In the euro
area, the fear is deflation and just how quickly the ECB could respond in the event of this
kind of risk scenario. In the US, concerns centre on the level of slack in the economy and
whether this is currently overestimated at the risk of pushing the Fed faster towards the exit,
mirroring the BoE’s recent experience. Finally in Japan, as the consumption tax hike nears,
there are clearly worries that this will stop consumers dead in their recovery tracks, marking a
rapid return to deflation. In the absence of a major new shock, we consider these fears
overstated, and our central scenario remains one of price stability for the major advanced
economies.
GLOBAL ECONOMIC OUTLOOK
BARRIERS AGAINST LIQUIDITY STORM SURGES
INVESTMENT STRATEGY - QUARTERLY VIEWS
March 2014
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GLOBAL ECONOMIC OUTLOOK
BARRIERS AGAINST LIQUIDITY STORM SURGES
4. US growth fundamentals trump liquidity ... for now: Weather-driven weakness appears
to be fading from US data, and we look for a strong bounce back in Q2. Also on a positive
note, since our last publication, US policy uncertainty has declined, albeit as market
uncertainty has increased with recent emerging market tremors. The focus now is on just
how much spare capacity the US holds. Our view is that wage inflation is likely to materialise
sooner than the Fed’s forecasts assume. The result is that we expect a steep tightening cycle
from late 2016 through 2018.
5. Bumpy eurozone take-off: As we head to press, the German Constitutional Court is
preparing to rule on the ESM. The last time the Court made an announcement, markets were
quick to brush it aside, and they have also shown little concern for the challenges faced by
ongoing negotiations on a Single Resolution Mechanism, the second pillar of banking union.
The market focus, it seems, is more on the first green shoots of recovery in the euro area. As
long as the institutional set-up continues to lag, we believe the recovery will remain bumpy
and fragile.
6. Japanese wage acceleration comes next: Japan is exiting deflation driven by three
factors: (1) corporate deleveraging, the main cause of weak domestic demand and prolonged
deflation, has eased to a large extent; (2) net domestic financial demand is recovering while
corporate deleveraging is easing, and the government is expanding its budget; and (3)
unemployment has fallen below 4% aided by monetary easing. The next step now is the
expansion of aggregate wages to accelerate the recovery in domestic demand and exit
deflation. Our expectation is that these forces will be strong enough to offset the April
consumption tax hike.
Fundamentals in the advanced economies continue to improve and we have made upward
revisions in particular to our eurozone outlook, in part reflecting fiscal drift but also stronger
export performance and much improved financial conditions. In terms of upside risks, faster-
than-expected credit expansion - be it in the US, UK, eurozone, or Japan - holds the greatest
upside potential for the global economy. Emerging economies could also deliver upside
surprises with better-than-expected progress on structural reform attracting the return of
investors. Upside surprises could also come from an easing of monetary conditions in China,
but we fear this would be at the cost of far greater risks to the economy in the medium term.
On the downside, risks centre on emerging economies and what we call liquidity storm
surges. These could result both from political events and misjudged policy choices. More
aggressive-than-expected policy tightening from the Federal Reserve and/or portfolio
concentration risks could further aggravate the situation. Moreover, as we head to press, the
German Constitutional Court is due to rule on the ESM. The divide on the euro area’s future
institutional framework remains significant, and while no longer a source of immediate market
concern, the shortcomings of the current institutional framework would become all too clear
in the event of a new shock.
EC
ON
OM
IC V
IEW
S
INVESTMENT STRATEGY - QUARTERLY VIEWS
Michala Marcussen
Global Head of Economics
SG Cross Asset Research
March 2014
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GLOBAL ECONOMIC FORECASTS
FO
RE
CA
ST
S
Source: SG Cross Asset Research/Economics, IMF
March 2014
% change YoY
World (Mkt FX weights) 2.5 NA 3.2 NA 3.4 NA 3.2 NA 3.1 NA 3.2 NA
Developed countries 1.3 NA 2.2 NA 2.4 NA 1.4 NA 1.7 NA 2.1 NA
Emerging countries 4.6 NA 4.9 NA 5.1 NA 6.3 NA 5.7 NA 5.2 NA
G5
Euro area -0.4 NA 1.1 ▲ 1.2 NA 1.4 NA 0.9 NA 1.2 NA
Germany 0.5 NA 1.9 ▲ 1.5 NA 1.6 NA 1.5 NA 1.6 ▼
France 0.3 NA 0.8 NA 1.3 NA 1.0 NA 1.2 NA 1.3 NA
Italy -1.8 NA 0.7 ▲ 1.0 NA 1.3 NA 0.8 NA 1.0 NA
Spain -1.2 NA 0.6 ▲ 0.9 NA 1.5 NA -0.2 NA 0.5 NA
United States 1.9 NA 3.0 ▼ 3.2 NA 1.5 NA 1.7 NA 2.4 ▲
China 7.7 NA 7.1 NA 6.8 NA 2.6 NA 2.6 ▼ 2.9 NA
Japan 1.5 ▼ 1.2 ▼ 1.7 NA 0.4 NA 2.9 NA 2.0 NA
United Kingdom 1.8 NA 2.7 NA 2.5 NA 2.6 NA 2.3 ▼ 3.0 NA
Other advanced
Switzerland 2.0 NA 1.7 NA 1.8 NA -0.2 NA 0.3 NA 0.8 ▼
Australia 2.4 NA 2.9 ▲ 3.0 NA 2.4 NA 2.9 NA 2.5 NA
South Korea 2.8 NA 3.6 NA 3.6 NA 1.3 NA 1.8 NA 2.3 NA
Taiwan 1.9 NA 3.0 NA 3.4 NA 1.0 NA 1.3 NA 1.6 NA
Emerging economies
Brazil 2.3 NA 1.7 ▼ 2.3 NA 6.2 NA 5.9 NA 5.0 ▼
Russia 1.4 NA 1.4 ▼ 2.4 ▼ 6.6 NA 6.0 ▲ 4.1 NA
Poland 1.5 NA 3.3 ▲ 3.8 NA 0.9 NA 1.4 ▼ 2.5 ▼
Czech Republic -1.4 NA 1.5 NA 2.5 NA 1.4 NA 0.9 NA 2.0 ▲
Slovakia 0.9 NA 2.3 NA 2.5 NA 1.5 NA 0.9 ▼ 1.7 NA
Mexico 1.3 ▼ 3.5 ▼ 3.7 NA 3.8 NA 3.8 ▲ 3.5 NA
Chile 4.1 ▼ 2.4 ▼ 3.5 ▼ 2.1 ▲ 2.8 NA 2.7 NA
India* 4.6 ▲ 5.3 NA 6.1 ▲ 9.6 8.2 7.2
Indonesia 5.8 5.4 5.6 7.0 6.1 5.6
* 2011 refers FY 2012, GDP income side
Real GDP CPI
2013f 2014f 2015f 2013f 2014f 2015f
Significant changes from previous forecasts
▲ Up ▼ Down
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FO
RE
CA
ST
S
MARKET PERFORMANCES & FORECASTS
*As of 21 March 2014
Source: Société Générale Private Banking
Δ1m Δ3m ΔYTD Δ12m
(in local currency) Current Level
S&P500 1872 1.39% 2.95% 1.28% 20.1%
DJ Euro Stoxx 50 3089 2.3% 1.3% -0.6% 14.0%
FTSE100 6542 -0.17% -0.97% -3.06% 1.7%
Nikkei 225 14224 -3.99% -10.37% -12.69% 14.1%
MSCI World ($) 404 0.12% 1.00% -1.02% 12.4%
(in local currency) Yield to Mat
European IG 1.79% 4.70% 1.8% 1.9% 3.6%
European HY 3.69% 12.02% 2.9% 2.7% 11.1%
US IG 3.21% 1.52% 1.9% 2.3% 0.9%
US HY 5.57% 8.49% 2.8% 2.6% 7.2%
UK 3.79% 5.84% 2.2% 2.5% 3.0%
Japan 0.42% 1.63% 0.4% 0.5% 1.2%
Δ1m Δ3m ΔYTD Δ12m
(in USD) Current Level
MSCI EM 956 -0.31% -3.49% -3.97% -9.62%
MSCI EM Asia 437 0.88% -1.13% -1.23% -2.66%
MSCI EMEA 378 -9.75% -13.50% -14.28% -20.68%
MSCI Latam 2882 -1.14% -9.00% -9.57% -26.13%
(in USD) Yield to Mat
BAML EM SVGN 5.41% -1.48% 1.85% 1.91% -0.88%
Asia Svgn 4.46% -1.41% 4.19% 4.05% -1.25%
EMEA Svgn 4.91% 0.35% 1.19% 1.41% 0.59%
Latam Svgn 6.50% -3.91% 1.91% 1.81% -2.73%
BAML EM CORP 5.07% 24.90% 1.23% 1.23% -0.12%
Asia Corp 4.29% 1.22% 1.35% 1.47% 0.49%
EMEA Corp 5.31% 0.32% -0.29% -0.35% -0.08%
Latam Corp 5.64% -0.82% 2.54% 2.45% -0.39%
Performance YTD Current 3-Month forecast 6-month forecast
EUR/USD 0.03% 1.37835 1.36 1.33
USD/JPY -2.70% 102.4 103 108
EUR/CHF -0.83% 1.2168 1.23 1.25
GBP/USD -0.37% 1.65055 1.66 1.64
EUR/GBP 0.35% 0.8349 0.82 0.81
Performance YTD Current 3-Month forecast 6-month forecast
USA -7.7% 2.8% 3.0% 3.4%
GER -15.0% 1.7% 1.8% 1.9%
UK -8.8% 2.8% 3.1% 3.3%
Performance YTD Current 3-Month forecast 6-month forecast
Gold in USD 10.15% 1330.45 1250 1200
Oil (Brent) in USD -3.84% 105.73 104 107
Emerging Markets Performance
Developed Markets Performance
Currencies forecasts
10-year yield forecasts
Commodity forecasts
March 2014
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March 2014
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This document has been prepared by the Strategy team of Société Générale
Private Banking . The information provided is an objective and independent
explanation of the content of this document. The name and function of the
person having prepared the document is indicated in the first page of this
document. This document is provided to you for private use only and may not be
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IMPORTANT DISCLAIMER
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herein, if any, or in any other asset, and therefore any return to prospective
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limitations. The maximum total amount of compensation is capped at
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