FXCstrategy29n06 Dec 0506

1

François-Xavier Chevallier33 1 45 96 79 32 - E-mail : [email protected]

Valérie Plagnol33 1 45 96 53 63 - E-mail : [email protected]

Stéphane Malvert33 1 45 96 77 57 - E-mail : [email protected]

Horizon 2007The market is looking beyond the valley:

financial and cyclical stocks in vogue

Outlook 2007

2

Overview of our 2006 strategy

► Economy: a protracted deflationary boom… A structural contradiction: the drop in the capital/labour ratio is

offsetting a sustained oil shock The boom in emerging countries is contrasting with the slowdown in the

US The inversion of the yield curve means a slowdown in US consumption in

2006 In Europe, record profits, a controlled oil shock, the appreciation of the

dollar and low 10-year yields

► Markets: advantage Europe, against a good backdrop for equities The equity markets are getting over the difficulties seen at the start of

the decade 2006 earnings: +9% (+18% in 2005) and a positive earnings revision

trend A very attractive risk premium in Europe in relation to the US Our revised target for the CAC 40 at end of 2006: 5,250

► Sectors: cyclical, dollar stocks and financial euro stocks Revival of interest in industrial and technical dollar stocks Good earnings revision momentum for banks and insurance companies Misgivings about consumption, tourism and airlines

3

► Economy: a mid-decade adjustment expected European trends are clashing with the slowdown in the US But Europe should peak in early 2007 Conversely, a soft landing in the US would pave the way for a rebound at

end-2007

► Markets: the slowdown has already been priced in Underpinned by the dispelling of inflationary fears Towards normative earnings growth Our CAC 40 target for end 2007: 6,000

► Sectors: financial and cyclical stocks in vogue Preference for financial stocks with the drop in long-rates and mergers and

acquisitions: banks, insurance, financial services Overweighting of cyclical stocks based on anticipated drop in US short rates

Key elements of our 2007 strategy

4

► Europe being out of sync with the US favours the mid- cycle soft landing scenario we advocate

► The growth differential between Europe and the US is set to invert in 2007 Europe’s strong trends are likely to start waning as 2007 gets

underway− Impact of the slowdown in the US and the planned VAT increase in Germany in January − A soft patch at end-2006− Inflationary risks are relatively well contained− Record corporate profits favour investment

However, the soft landing in the US should pave the way for a gradual rebound as of mid 2007− The slowdown started in autumn 2005 (via the property sector)− Possible dip in the US cycle in mid-2007 with a soft landing before a gradual rebound as of the summer

Economy: A typical mid-decade adjustment now underway

5

Economy: 10-year cyclesA typical mid-decade soft landing underway

Sources: Ecowin. CM-CIC Securities

ISM manufacturier

ISM ManufacturierSource: Reuters EcoWin

80 82 84 86 88 90 92 94 96 98 00 02 04 0601

2

3

4

5

6

7

8

9

10

25

30

35

40

45

50

55

60

65

70Soft landing

Hard landingHard landing Hard landing

ISM Manufacturing Index

ISM ManufacturingSource: Reuters EcoWin

80 82 84 86 88 90 92 94 96 98 00 02 04 0601

2

3

4

5

6

7

8

9

10

25

30

35

40

45

50

55

60

65

70Soft landing


ISM manufacturier


80 82 84 86 88 90 92 94 96 98 00 02 04 0601

2

3

4

5

6

7

8

9

10

25

30

35

40

45

50

55

60

65

70

ISM manufacturier


80 82 84 86 88 90 92 94 96 98 00 02 04 0601

2

3

4

5

6

7

8

9

10

25

30

35

40

45

50

55

60

65

70Soft landing



ISM ManufacturingSource: Reuters EcoWin

80 82 84 86 88 90 92 94 96 98 00 02 04 0601

2

3

4

5

6

7

8

9

10

25

30

35

40

45

50

55

60

65

70

ISM Manufacturing

80 82 84 86 88 90 92 94 96 98 00 02 04 0601

2

34

5

6

7

8

9

10

25

30

35

40

45

50

55

60

65

70Soft landing



6

Economy: 3-year cyclesTowards a cycle peak in Europe


ISM manufacturing and IFO

ISM Manufacturier IFO

2000

=100

90 92 94 96 98 00 02 04 0685.087.590.092.595.097.5

100.0102.5105.0107.5110.0

37.540.042.545.047.550.052.555.057.560.062.565.0

► Next peak in Europe at end-2006?

7

Economy: Our macroeconomic forecasts

Contribution to GDP growth

Europe US Japan 2006e 2007e 2006e 2007e 2006e 2007e

% GDP growth +2.4% +2.3% +3.5% +2.6% +2.7% +2.7%Of which contribution to growth

Consumption +1.2% +1.1% +1.2% +0.8% +0.7% +0.8%

Investment +1.0% +1.0% +1.5% +1.2% +1.5% +1.4%

Inventories +0.3% +0.3% +0.8% +0.4% +0.0% +0.3%

Foreign trade +0.2% +0.2% 0.0% +0.2% +0.5% +0.5%

Budget overrun -0.3% -0.3% 0.0% 0.0% 0.0% -0.3%

3-year yields (year end) 3.50% 3.75% 5.25% 4.75% 0.50% 0.50%10-year yields (year-end) 3.80% 4.30% 4.60% 4.90% 1.80% 2.25%

Updated 2 November 2006Source: ESN

8

Economy: Drop in oil price, a driver in 2007

a’

a’’

Double top

D

aD. Downward trend towards $54 and $50.25, break with support levels a & a’’

Double bottom à inscrire

Source: CM-CIC Securities

9

► The markets have priced in the slowdown in the US followed by a slowdown in Europe…

► … and are starting to factor in a rebound in the US

► Strong support: the valuation is reasonable Prices only slightly factor in earnings growth Earnings growth has returned to normative levels and will possibly

wane over the medium term The risk premium offers further upside

► Our index targets are +10-15% at end-2007, i.e. 6,000 for the CAC 40 and 405 for the DJ Stoxx

Markets: Starting to anticipate the rebound

10

Markets: Performance of asset classes

► A return to normative performance over the long term

Equities vs bonds over 10 years (revenues reinvested)

50

100

150

200

250

300

350

400

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

SBF 120 (capitalised dividends) Fr government bond 10y

Annualised return on assets (revenues reinvested) 27.6%

20.6%

7.7%

11.8%

7.6%

2.8% 2.4% 2.6% 3.2%

8.3%

1.0%

8.0%

-2%

3%

8%

13%

18%

23%

28%

1 year 3 years 5 years 10 years

Equities (sbf120) Fixed income Monetary

Sources: CM-CIC Securities, Factset JCF

11

Markets: US mid-cycle monetary easing bullish for stocks

► We expect the Fed to start cutting rates shortly


Fed lead rates and 12-month change in S&P500

Fed lead rates Standard & Poors 500

84 86 88 90 92 94 96 98 00 02 04 06

Per

cent

-40

-30

-20

-10

0

10

20

30

40

50

60

70

Per

cent

1

2

3

4

5

6

7

8

9

10

11

12

?

12

-25

-20

-15

-10

-5

0

5

10

15

20

25

30

93 94 95 96 97 98 99 00 01 02 03 04 05 06

-5

0

5

10

15

20

25

30

35

40

94 95 96 97 98 99 00 01 02 03 04 05 06

Markets: Share prices factor in low earnings growth

Average 1994-2002: +17%

Zero earnings growth over the next five years to justify current prices on the DJ Stoxx 600While the consensus forecasts growth of 10% in 2007

Earnings growth of 10% to justify current prices on the S&P 500…While the consensus forecasts growth of 13% in 2007

Average 1993-2002: +13%

Sources: CM-CIC Securities. Factset JCF

Implied earnings growth over the coming five years in the DJ Stoxx

Implied earnings growth over the coming five years in the S&P 500

13

2%

3%

4%

5%

6%

7%

8%

9%

10%

11%

12%

13%

Jan-

96

Jul-9

6

Jan-

97

Jul-9

7

Jan-

98

Jul-9

8

Jan-

99

Jul-9

9

Jan-

00

Jul-0

0

Jan-

01

Jul-0

1

Jan-

02

Jul-0

2

Jan-

03

Jul-0

3

Jan-

04

Jul-0

4

Jan-

05

Jul-0

5

Jan-

06

Jul-0

6

100

150

200

250

300

350

400

Buy zone Sell zone Monetary risk premium DJ Stoxx (RH scale)

1%

2%

3%

4%

5%

6%

7%

8%

9%

10%

11%

12%Ja

n-96

Jul-9

6

Jan-

97

Jul-9

7

Jan-

98

Jul-9

8

Jan-

99

Jul-9

9

Jan-

00

Jul-0

0

Jan-

01

Jul-0

1

Jan-

02

Jul-0

2

Jan-

03

Jul-0

3

Jan-

04

Jul-0

4

Jan-

05

Jul-0

5

Jan-

06

Jul-0

6

600

700

800

900

1000

1100

1200

1300

1400

1500

1600

Buy zone Sell zone Monetary risk premium S&P 500 (RH scale)

Markets: The risk premium is still attractive in Europe

Bond risk premium US

0%

1%

2%

3%

4%

5%

6%

7%

8%

janv

-96

jul-9

6

janv

-97

jul-9

7

janv

-98

jul-9

8

janv

-99

jul-9

9

janv

-00

jul-0

0

janv

-01

jul-0

1

janv

-02

jul-0

2

janv

-03

jul-0

3

janv

-04

jul-0

4

janv

-05

jul-0

5

janv

-06

jul-0

6

600700

800900100011001200

13001400

15001600

Buy zone Sell zone Monetary risk premium S&P 500 (RH scale)Source : CM-CIC Securities

Monetary risk premium US

2%

3%

4%

5%

6%

7%

8%

9%

10%

11%

12%

Jan-

96

Jul-9

6

Jan-

97

Jul-9

7

Jan-

98

Jul-9

8

Jan-

99

Jul-9

9

Jan-

00

Jul-0

0

Jan-

01

Jul-0

1

Jan-

02

Jul-0

2

Jan-

03

Jul-0

3

Jan-

04

Jul-0

4

Jan-

05

Jul-0

5

Jan-

06

Jul-0

6

100

200

300

400

Buy zone Sell zone Long term risk premium DJ Stoxx (RH scale)

Monetary risk premium Europe

Bond risk premium Europe

14

Markets: Equity yields are at their highest level

High level of dividend distribution:

Net yield of 3.2% in 2007 on the DJ Stoxx

P/E at lowest level despite the market

increases13x in 2007 for the

DJ Stoxx

Net yield on the DJ Stoxx 600

1.5%

2.0%

2.5%

3.0%

3.5%

4.0%

1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008P/E over 12 months on the DJ Stoxx

10

12

14

16

18

20

22

24

1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006


15

Markets: Earnings growth on the DJ Stoxx back to normative

► Waning of earnings momentum and return to normative growth of 10-12%

Earnings growth on the DJ Stoxx

4

6

8

10

12

14

16

18

20

déc-

01

mar

s-02

juin

-02

sept

-02

déc-

02

mar

s-03

juin

-03

sept

-03

déc-

03

mar

s-04

juin

-04

sept

-04

déc-

04

mar

s-05

juin

-05

sept

-05

déc-

05

mar

s-06

juin

-06

sept

-06

Exercice 2003 Exercice 2004 Exercice 2005

Exercice 2006 Exercice 2007 Exercice 2008

20042005

2006

20032008

2007

%


Earnings revisions on the DJ StoxxDJ Stoxx 600

-1%

0%

1%

2%

3%

4%

5%

6%

sept

-05

oct-0

5

nov-

05

déc-

05

janv

-06

févr

-06

mar

s-06

avr-

06

mai

-06

juin

-06

juil-

06

août

-06

sept

-06

Revisions to recurrents earnings:1 month (%) 2007

Revisions to recurrents earnings: 3 month (%) 2007

16

Markets: Earnings growth on the DJ Stoxx: the good and the bad

► Widely dispersed growth of sector earnings

Technology

Travel & Leisure

Financial ServicesRetail

Healthcare

Industry

Automobiles 23%

Basic Resources 40%

Food ConstructionBanks

Chemicals

Insurance

P & H GoodsUtilitiesMedia

Telecom

Energy

-5%

0%

5%

10%

15%

20%

-5% 0% 5% 10% 15%

2007 earnings revisions over last six months

Var.

in 2

007

earn

ings

Unfavourable earnings growth

Favourable earnings growth


17

Markets: Upside of 10-15% in 2007

150

200

250

300

350

400

Dec

-02

Mar

-03

Jun-

03

Sep

-03

Dec

-03

Mar

-04

Jun-

04

Sep

-04

Dec

-04

Mar

-05

Jun-

05

Sep

-05

Dec

-05

Mar

-06

Jun-

06

Sep

-06

1.8

2.0

2.2

2.4

2.6

2.8

3.0

3.2

3.4

3.6

DJ Stoxx 600 (LHS) 3-month yields (EUL) (RHS)

Stability of yields (between Q2-03 and Q3-05) Increase in yields

(since Q4-05)

DJ stoxx : +70% +30%

Risk premium: 13.4-10% 7.6%

Annualised EPS growth: +27% +11%

Target at end-2007Risk free rate:

3.75% Risk premium: 6.5%

Variation in earnings: +10%

DJ Stoxx : 405

CAC 40 : 6 000


Valuation assumption trends since the trough in 2003

18

► Factors that will drive the markets in 2007 Positive: low yields on long rates and good equity market

valuations. Drop in oil price and pick-up in US cycle Negative: weak US (and German?) consumption. Risk related to

the dollar and high level of confidence as regards corporate margins

► Investment themes Precautionary takeover bids, notably among banks, utilities,

construction and industrial groups Capacity to generate international growth: consumer goods and

cyclical export groups exposed to the dollar

Sectors:Drivers and investment themes in 2007

19

► Financial stocks Change of status in the eyes of investors: expertise in ALM, high value

added in finance Preference for financial stocks given low level in long rates Mergers & acquisitions: banks, insurance, financial services

► Cyclical stocks Avoid sectors with low pricing power and favour sectors exposed to

growth Overweight cyclical stocks based on anticipations of a drop in short

rates in the US in mid-2007 and the subsequent rebound of the US economy

Our preferred cyclical sectors: industrial, chemical, consumer goods, IT services, luxury, mining and construction

Uncertainty surrounding commodities and oil?

Sectors:The two pillars of our sector strategy

20

► Surge in takeover bids, and race for global champions Observation: the volume of takeovers, which have more than tripled over

the last three years, reflects a quest for national, regional and global champions

Contradictions: firstly between liberalisation and the race for monopolies, then between the opening of borders and the local bias

► An ecosystem of global champions A matrix in which the rows are territories and the columns are centres of

excellence The race for decision-making, research, training centres and outsourcing

contacts is giving rise to a groundswell of takeover bids, hostile or otherwise

► The answer to hostile takeover bids Legal arsenals are not very effective Pre-emptive takeover bids: Suez-GDF, Endesa-Acciona, Intesa-San Paolo

Sectors:Theme of pre-emptive takeover bids

21

Sectors:Thematic rotation and business cycle: the defensive/cyclical match

Utilities

Basic Resources

Food & Beverage

Personal &

Household Goods

Technology

Energy

Construction

Insurance

Industrial G&S

Travel & Leisure

Media

Automobiles

Banks

Telecom

HealthcareChemicals Retail

Financial Services

-30%

-20%

-10%

+0%

+10%

+20%

+30%

-10% -8% -6% -4% -2% +0% +2% +4% +6%

Relative performance over 2 months

Perf

. rel

ativ

e 12

moi

s

Industrial G&SHealthcare

Food & BeveragePersonal & Household

GoodsTravel & Leisure

BanksChemicals Insurance

DJ Stoxx

Construction

Retail

Energy Utilities

Financial Services

Basic Resources

Technology

Telecom

Media

Automobiles

-4%

-2%

0%

2%

4%

6%

8%

10%

-8% -6% -4% -2% 0% 2% 4% 6% 8%

Earnings revisions over 3 months

Earn

ings

revi

sion

s ov

er 6

mon

ths

Earnings revisions expected in 2007 over 3 and 6 months Performance by sector over 2 and 12 months

Sources: CM-CIC Securities

22

Sectors:Financial stocks confirm their popularity


DJ Stoxx Banks

1.25

1.30

1.35

1.40

1.45

1.50

T4 2

003

T1 2

004

T2 2

004

T3 2

004

T4 2

004

T1 2

005

T2 2

005

T3 2

005

T4 2

005

T1 2

006

T2 2

006

T3 2

006

T4 2

006

Price relative to DJ Stoxx 600 1-month average price relative to DJ Stoxx 600

3-month average price relative to DJ Stoxx 600 1-year average price relative to DJ Stoxx 600

DJ Stoxx Financial services

0.80

0.85

0.90

0.95

1.00

1.05

1.10

1.15

1.20

1.25

T4 2

003

T1 2

004

T2 2

004

T3 2

004

T4 2

004

T1 2

005

T2 2

005

T3 2

005

T4 2

005

T1 2

006

T2 2

006

T3 2

006

T4 2

006

1.25

1.30

1.35

1.40

1.45

1.50

T4 2

003

T1 2

004

T2 2

004

T3 2

004

T4 2

004

T1 2

005

T2 2

005

T3 2

005

T4 2

005

T1 2

006

T2 2

006

T3 2

006

T4 2

006



DJ Stoxx Insurance

0.65

0.70

0.75

0.80

0.85

0.90

T4 2

003

T1 2

004

T2 2

004

T3 2

004

T4 2

004

T1 2

005

T2 2

005

T3 2

005

T4 2

005

T1 2

006

T2 2

006

T3 2

006

T4 2

006

1.25

1.30

1.35

1.40

1.45

1.50

T4 2

003

T1 2

004

T2 2

004

T3 2

004

T4 2

004

T1 2

005

T2 2

005

T3 2

005

T4 2

005

T1 2

006

T2 2

006

T3 2

006

T4 2

006



23

Sectors:Return to cyclicals


DJ Stoxx Construction

0.65

0.70

0.75

0.80

0.85

0.90

0.95

1.00

1.05

1.10

T4 2

003

T1 2

004

T2 2

004

T3 2

004

T4 2

004

T1 2

005

T2 2

005

T3 2

005

T4 2

005

T1 2

006

T2 2

006

T3 2

006

T4 2

006



DJ Stoxx Industry

0.65

0.70

0.75

0.80

0.85

0.90

T4 2

003

T1 2

004

T2 2

004

T3 2

004

T4 2

004

T1 2

005

T2 2

005

T3 2

005

T4 2

005

T1 2

006

T2 2

006

T3 2

006

T4 2

006



DJ Stoxx Chemicals

0.90

0.95

1.00

1.05

1.10

1.15

T4 2

003

T1 2

004

T2 2

004

T3 2

004

T4 2

004

T1 2

005

T2 2

005

T3 2

005

T4 2

005

T1 2

006

T2 2

006

T3 2

006

T4 2

006



DJ Stoxx Retail

0.80

0.85

0.90

0.95

1.00

1.05

T4 2

003

T1 2

004

T2 2

004

T3 2

004

T4 2

004

T1 2

005

T2 2

005

T3 2

005

T4 2

005

T1 2

006

T2 2

006

T3 2

006

T4 2

006



24

Sectors:Some sectors are still being avoided


DJ Stoxx Telecom

0.75

0.80

0.85

0.90

0.95

1.00

1.05

1.10

1.15

1.20

T4 2

003

T1 2

004

T2 2

004

T3 2

004

T4 2

004

T1 2

005

T2 2

005

T3 2

005

T4 2

005

T1 2

006

T2 2

006

T3 2

006

T4 2

006



DJ Stoxx Media

0.65

0.70

0.75

0.80

0.85

0.90

T4 2

003

T1 2

004

T2 2

004

T3 2

004

T4 2

004

T1 2

005

T2 2

005

T3 2

005

T4 2

005

T1 2

006

T2 2

006

T3 2

006

T4 2

006



DJ Stoxx Healthcare

1.25

1.30

1.35

1.40

1.45

1.50

1.55

T4 2

003

T1 2

004

T2 2

004

T3 2

004

T4 2

004

T1 2

005

T2 2

005

T3 2

005

T4 2

005

T1 2

006

T2 2

006

T3 2

006

T4 2

006



DJ Stoxx Technology

0.750.800.850.900.951.001.051.101.151.201.251.30

T4 2

003

T1 2

004

T2 2

004

T3 2

004

T4 2

004

T1 2

005

T2 2

005

T3 2

005

T4 2

005

T1 2

006

T2 2

006

T3 2

006

T4 2

006

1.25

1.30

1.35

1.40

1.45

1.50

T4 2

003

T1 2

004

T2 2

004

T3 2

004

T4 2

004

T1 2

005

T2 2

005

T3 2

005

T4 2

005

T1 2

006

T2 2

006

T3 2

006

T4 2

006



25

► Priority to financial and cyclical stocks

Sectors:Preferred sectors

Opinion Style

Negative Neutral Positive

Defensive Value Energy TelecomsUtilities

Banks Insurance

Financial services

Cyclical Value Aerospace/defenceTourism & leisure

Automotive

ChemicalsIndustryRetail

Construction

Defensive Growth HealthcareHousehold products

Food

Cosmetics

Cyclical Growth Technology Media LuxuryMining

FXCstrategy29n06 Dec 0506

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