Andbank Corporate Review February 2017 by Andbank

GLOBAL OUTLOOK ECONOMY & FINANCIAL MARKETS

ANDBANK CORPORATE REVIEW February 2017 Do we really understand the risks of a less globalized world?

ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW

FEBRUARY 2016

Contents Executive Summary

Country Pages USA

Europe

China

India

Japan

Brazil

Mexico Argentina

10 11

Equity Markets Fundamental Assessment

Short-term Assessment. Risk-off shift probability

Technical Analysis. Main indices

Fixed Income Markets Fixed Income, Core Countries Fixed Income, European Peripherals Fixed Income, Corporate Bonds Fixed Income, Emerging Markets

13 13 14 14

Commodities Energy (Oil)

Precious (Gold)

Forex

Summary Table of Expected Financial Markets Performance

Monthly Asset & Currency Allocation Proposal

19 2

ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW

FEBRUARY 2016

Executive Summary USA - Border tax adjustments would achieve several of Trump’s major policy objectives in one go. They would end double taxation on US exporters, shifting the burden from domestic manufacturers to consumers (and thus importers). This would broaden the US tax base, which in turn would allow for wider cuts in corporate taxes. The Federal Reserve doesn’t appear to be in a hurry to raise rates dramatically. Our base case is two rate increases for 2017. Europe - Although tapering is not currently on the table, we bet for mounting pressure for the ECB to scale back its APP. Something that can be very problematic if doubts have not been cleared on the reform agenda in key countries like Italy. China - State Council projected next year's growth will not be lower than 2016. Monetary policy to be neutral in 2017. Fx reserves

still

abundant,

and

capital

outflows

remain

controllable since most FX reserves are “earned” reserves. India - A short-term disruption in activity due to the demonetization will undoubtedly dent 4QGDP, but the program will eventually help to pull India’s vast but unproductive informal sector into the ambit of the formal economy, so that participants can raise capital from banks and even pay taxes. Japan - In switching last summer from QE to QQE with yield curve control, keeping the 10-year yield pegged at zero (that is with no yield and no capital gains), the key 10Y JGB has been rendered useless for investment purposes. This “policy trap” has significant implications, especially in a world of rising long rates, in the form of flows out of Yen and into foreign currency bond markets, as well as for the Japanese equity and real estate markets. Brazil - Top 5 analysts expect the IPCA to come down to 4.50% in 2017, resulting in the central bank probably cutting rates below the 10% mark during the year, which could help to bolster the economy and improve the government’s credit metrics. Mexico - The country is certainly experiencing a very complicated and unsatisfactory dynamic, combining fiscal deterioration, slowing GDP growth, the central bank tightening monetary conditions to prevent the collapse of the currency, and inflation on the upside. GDP growth will end 2016 at 2.1% but we are reducing our 2017 GDP growth target considerably to 1%.

ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW

USA:

FEBRUARY 2016

The Federal Reserve doesn’t appear in a hurry to raise rates dramatically

Rates are thought to be a panacea for bank profitability.

Do you feel dizzy? Monetary conditions are

clearly accommodative while fiscal policy is neutral

Growth in the US could keep pace but the structural shape is now vulnerable

Central Bank Slightly Hawkish Tilt The monetary policy outlook seems to be based on members’ preelection assumptions. Changes were generally minor and mostly reflected in the balance of risks. Consistent with this view, the FOMC signaled that it would likely respond to expansionary fiscal policies with a faster pace of rate hikes, but that it would only react once it receives more clarity on policy plans and their economic effect. The Federal Reserve doesn’t appear to be in a hurry to raise rates dramatically. Our base case is two rate increases for 2017, noting that historically the Fed has tended to foreshadow more activity than it has delivered. Economic front U.S. economic fundamentals improved notably over the past year. Recessionary pressures abated and growth is likely to be stronger in 2017 than 2016. Trends in manufacturing data, consumer confidence, housing and auto sales are positive, and we expect deregulation to contribute to keeping this mood. We think fiscal policy will be a tailwind to growth in 2017 and 2018, but market expectations of a game-changing stimulus may be overblown. The changes being discussed are about much more than Keynesian stimulus and the Trump administration will not get its way on everything despite Republican control of Congress. Inflation Inflation is likely to move moderately higher, but not to levels that are beyond control. Consumer credit remains strong and a tightening labor market is causing some acceleration in wage growth. In turn, this wage growth should eventually lead to a pick-up in services prices. However, a strong dollar is likely to continue putting pressure on core goods prices. We project inflation to gradually return towards the Fed’s 2.0% target by year-end. The emerging economic policies of the Trump administration will influence growth, but also impact the path of monetary policy. Hard data projections CPI around 2.2% Unemployment: 4.7% GDP: 2.3% Financial Markets: (Very capable of shrugging off bad news) Equities (S&P): NEUTRAL. Fundamental target price 2233. Although 2017 is shaping up to be a better year for the U.S. economy, our outlook for the equity market is more cautious. President Trump’s comments have raised concerns of protectionist policies and trade wars, and these fears could stoke volatility in the market. The strong dollar may also take some wind out of the sails of U.S. multinationals. Valuations remain high, though below peaks, pointing to some potential for stocks to move up. Being optimistic on sales growth (+10%) and margins (+10%) in 2017, and assuming that PE multiples come back towards pre-election levels (17.5), a fundamental value (fair value) for the S&P could be 2233. We recommend exposure to the US equity market until the S&P reaches 2500 points. Government Bonds: CAUTION. Overall, our base case is for yields to continue repricing higher as the Trump administration begins to enact its policy priorities. But there is a wide range of potential outcomes around any base case given the many uncertainties. The readily highlighted but hard-to-price potential for geopolitical disruption –whether in US-China relations, between Russia and Eastern Europe, or Saudi Arabia and Iran, to name a few– could upset global stability and international cooperation. We think that markets remain somewhat complacent as to the degree of this uncertainty. All in all, we see an unchanged yield upside in the range of 2.7%-2.8%, but we do not exclude short term spikes in the 3% area. Credit: CDX IG: NEUTRAL (Target 70). Current spreads are below our 2017 target. The credit fundamentals of US HG issuers have been deteriorating in the last two years, driven by active bond issuance along with flat or lower EBITDA growth. In 2017 we envisage near-record debt issuance once again, but we expect modestly better US GDP growth. Despite this, we do not expect credit spreads to widen in 2017. OW: Financials – Materials – Technology. UW: Utilities – Healthcare – Telecommunications. Credit: CDX HY ATTRACTIVE (Target 340). Current spread level near our target but carry is attractive. We remain constructive toward high yield heading into 2017 as expectations for decreased regulation, tax reform and fiscal spending and less congressional gridlock could produce the most favorable backdrop for corporate earnings in years. A more favorable backdrop for commodities will also help in keeping default rates low. OW: Financials – Discretionary – Technology – Media UW: Commodities – Telecommunications.

ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW

Europe:

FEBRUARY 2016

Steady growth, political risks PMIs en la Zona Euro

PMIs Eurozone

56 54 52 50 48 46 44

PMI manufacturero

PMI servicios

dic-16

oct-16

abr-16

jun-16

ago-16

dic-15

feb-16

oct-15

jun-15

ago-15

dic-14

feb-15

abr-15

oct-14

jun-14

ago-14

dic-13

abr-14

oct-13

feb-14

abr-13

jun-13

ago-13

dic-12

feb-13

oct-12

ago-12

feb-12

abr-12

jun-12

Fuente: Bloomberg, ANDBANK ESPAÑA

INFLATION

INFLACIÓN que sorprende al alza en Europa y emergentes...

IPC > estimado

40 20 0 -20 -40 IPC < estimado

-60 USA

Zona Euro

Emergentes

-80 ene-07

ene-08

ene-09

ene-10

ene-11

ene-12

ene-13

ene-14

ene-15

ene-16

ene-17

Fuente: Bloomberg, ANDBANK ESPAÑA

CONSUMO EUROPEO, con base para seguir a estos niveles

CONSUMPTION

5 0

3,0 -5 2,0

-10 -15

1,0 -20 0,0

-25 -30

-1,0

Consumo (mill. de euros)

-35

Confianza del consumidor

sep-15 jun-16

jun-07 mar-08 dic-08 sep-09 jun-10 mar-11 dic-11 sep-12 jun-13 mar-14 dic-14

dic-99 sep-00 jun-01 mar-02 dic-02 sep-03 jun-04 mar-05 dic-05 sep-06

-40

mar-96 dic-96 sep-97 jun-98 mar-99

-2,0

Fuente: Bloomberg, ANDBANK ESPAÑA

LABOR

Although low, the growth structure in the Euro area seems more balanced than in the USA

Confianza del consumidor europeo

4,0

Consumo var. YoY

índice CITI de sorpresas de inflación

ECB on track, BOE raising UK forecasts The ECB announced further measures in December, easing conditions beyond expectations by extending the current purchases programme until December 2017 (nine months), allowing for government bond purchases yielding below depo rate (-0.4%) and widening its maturity limit at the front end of the curve. In short, a more flexible approach to tackle the scarcity problem. At the January meeting, as expected, no further stimulus was discussed, with news limited to the scaling down of monthly purchases from April (€60bn vs. €80bn currently) and the (logical) priority given to the above-depo purchases. Dovish message from Draghi on inflation warrants the continuation of ECB’s easing stance. This said, and although tapering is “not currently on the table”, rumors about scaling back the APP will surely arise as 2017 progresses. Macro environment: modest growth, rising inflation Surveys in January point to solid activity, with GDP stronger in the final quarter of 2016. Industrial production is on the rise, with orders suggesting more good data to come. Resilient consumption expected to remain supportive with employment performing well in most countries. Sentiment could be close to its peak… Reflation is taking place, mainly driven by the energy component (as in December: headline CPI 1.3% YoY; core CPI 0.8% YoY). Moving into 2017, CPI numbers are expected to rise to 1.4% YoY in headline inflation, and close to 1% YoY for core inflation (wage pressures remain subdued). Price divergences among members seem manageable for the ECB. Inflation expectations have kept rising but could moderate in the short term, waiting for confirmation of the oil price trend and Trump’s next fiscal measures. Politics: volatility risks take center stage during 2017 • Italy: The Italian constitutional court ruling on the legality of the Italicum electoral laws was released. The majority premium is legal if a party gets 40% of the vote, but the second round of voting is not legal. The ruling is positive from a short-term perspective if early elections are held in the summer (populist M5S is currently polling around 28% of the vote and so would not obtain the majority premium). The flip side is that Italian governments will probably continue to be formed of disparate coalitions and it will still be difficult to implement reforms, which is a longer term negative aspect. • UK and Brexit. First steps with Theresa May speech, underlining the “red lines” (immigration control + legislative independence) for any deal, incompatible with ongoing membership of the Single Market. On the positive side, the Parliamentary vote on the deal should ensure a softer approach. On the negative side are threats on the possibility of using fiscal policy should the negotiations not be satisfactory enough. A tailor-made agreement means a long negotiating time ahead (hard to imagine within 2 years). • France and the Netherlands will hold general elections during the first half of 2017 (7 May, 15 March). Financial Markets Outlook Equity (STOX 600): NEUTRAL. Fundamental target price 360. Valuations are considerably more modest than in the US market. Projected sales growth (+3.7%) and a more optimistic estimate for 2017 margins (+7.6% from 7.2% last year) means that 2017 EPS could be around the 23 euros mark. We assume that Ltm PE multiples will remain lower than in the US at current levels (15.5). Fundamental value (fair value) for the STXE 600 of 360. ¡ Equity (SPAIN IBEX): ATTRACTIVE. Fundamental target has been revised up to 9500 (from 9384). 2016 sales base ticked up (to 7567) and we have raised our sales growth to 4% (from 3%). Keeping margins stable at 8% we obtain a new EPS of 630 (from 621). With a PE stable at 15.1 we obtain a fundamental target of 9500. Core country Bonds: NEGATIVE. Peripheral bonds: NEUTRAL. We are sticking to our targets for 2017: 10yr Bund 0.70%, Italy 2.1%, SP 1.9%, POR 3.3%, IE 1.4%. In the short term, yields should stabilize with reflation mostly priced-in. More pressure to come on bonds as the year advances with the taper talk intensifying and purchases on the front part of the curve. The reduction in duration intended by the ECB implies steeper yield curves. Credit: IG Itraxx NEUTRAL. Target at 80. Credit: HY Itraxx CAUTION. Target at 380

ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW

China:

FEBRUARY 2016

2017 growth will not be lower than 2016

It seems that Chinese authorities are effective in dealing with, and controlling, bubbles (at the very least, more effective than Western economies)

Fine tuning not only applies to the housing sector but also to private lending, which has been driven towards a more sustainable path.

While a crisis of FX reserves seems unlikely

Economics State Council researcher Zhang Liqun said that Q4 GDP growth is unlikely to fall below the 6.7%, which would leave annual growth slightly higher than 6.7%. Zhang also projected next year's growth will not be lower than 2016, underpinned by stabilization in exports and domestic investment. Other sources also point to China's economy stabilizing: Wang Yiming, deputy director of the development research center of the State Council, said that China's economy is heading towards stabilization, supported by supply-side structural reform. Nevertheless, Wang noted headwinds from sluggish global growth and warned that China should pay particular attention to risks in the real estate sector and the financial industry. PBoC & China’s lower FX Reserves Monetary policy to be neutral in 2017 (Shanghai sources). Experts suggest that reserves are still abundant, and capital outflows remain controllable. Most FX reserves are “earned” reserves (much more stable than the “borrowed” reserves). Outflows correspond primarily to borrowed reserves. Reforms Foreign Rating Agencies: the National Development and Reform Commission is considering lifting restrictions on foreign ratings agencies operating in the domestic bond market. This would improve the quality of information in the bond market and is also in line with the development of the CDS market. Bond Market: The PBoC reaffirmed its commitment to opening up the bond market in the wake of a record selloff. The article said the central bank's plans include allowing foreign institutional investors to hedge risk using FX, interest rate derivatives, clarifying rules on remittances and taxation, and the exploration of trading hour extensions to give foreign investors more access to the interbank bond market. Easing restrictions on foreign investment: Chinese authorities are considering revising the country's foreign investment guidance catalogue, cutting the number of restrictive measures from 93 to 62. China will sharply reduce restrictions on foreign direct investment access in 2017, opening up sectors where foreign companies have strong investment interest and risks are controlled. China to focus on reducing asset bubble risks in 2017: Controlling asset bubbles will be a high priority for policymakers in 2017, with particular emphasis on (1) limiting speculative activity in the real estate market, (2) addressing issues around high corporate leverage and (3) in local government debt. Beijing land sales fell to four-year low due to government crackdown in land regulation: Planned new floor space totaled 7.25m square meters, the lowest in almost 11 years as property developers have become cautious on land purchases due to government measures announced since October to curb surging property prices. IPOs: China’s regulators are quickening the pace of IPO approvals, with total equity raised since the summer reaching CNY1.54T, 29% higher than the same period a year earlier. After 61 companies received IPO approvals in 1H16, a further 172 have been approved in 2H, including a record 52 firms in November alone. Geo-economics Trump open to shift on China policy under conditions: US president told WSJ he would not commit to the One China policy until he saw progress from Beijing in its currency and trade practices. For its part, Chinese foreign ministry spokesman Kang said “There is but one China in the world, and Taiwan is an inalienable part of China“. Trade: Trump named Peter Navarro, a known China trade critic and an economist who has urged a hard line on trade with China, to head a newly formed White House National Trade Council. China's government issued a measured response to Donald Trump's appointment of Peter Navarro. Foreign Minister Wang Yi said Sino-US relations face new uncertainties, but with mutual respect for core interests they will remain stable. “One individual will not impede ties”. China’s non-financial outbound direct investment (ODI) is likely to hit US$161.19bn in 2016, while foreign direct investment into China will total US$112bn (Commerce Ministry). China’s ODI rose 55.3% in the first 11 months of 2016, and jumped 76.5% in November compared to a year earlier. Financial Markets Equity (Shanghai): NEUTRAL. Fundamental price 3,322. Equity (Shenzhen): ATTRACTIVE. Fundamental price 2,254 Bonds: ATTRACTIVE. 10YR bond target 2.9% FX: FAIR VALUE USDCNY fundamental target at 6.75-6.8

ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW

FEBRUARY 2016

India: “Demonetization” could cause disruption, but only in the short-term. Central Bank has serious options to ease conditions and boost financial markets

GDP growth is the highest within the EM category (both in q/q and y/y terms)

India enjoys a broad and healthy base for further growth

The RBI: Bold or mad? The Reserve Bank of India defied calls for an interest rate cut in response to the severe economic disruption caused by the government’s hasty withdrawal of large denomination banknotes (a striking initiative when it comes to a cash-based economy, where 80% of daily transactions are in cash). Behind his decision to not cut rates was that the RBI downgraded its growth forecast for the year ending in March by just 0.5pp, while arguing that price pressures remain a threat (even though consumer price inflation is fairly benign at 4.2%). Indeed, the hit to growth from “demonetization” could be significant, but we also think that the RBI was right to hang tough on monetary policy as (1) the rebound from this messy affair should be swift, and (2) the longer term boost to India’s potential growth rate may be significant. Why “demonetize” the economy. What will be the long term boost? The informal economy accounts for 50% of India’s national product and some 80% of employment. Dodgy cash is being legitimized: With about 75% of the notes already presented for validation, it seems that either there was less “black money” in the system than envisaged (I believe this was not the case), or, more likely, that ways were found to present dodgy cash with an appearance of legitimacy, meaning that the government coffers will get a tiny windfall. Short-term cost vs long-term boost: A short-term disruption in activity will undoubtedly dent 4QGDP, but the program will eventually help to pull India’s vast but unproductive informal sector into the ambit of the formal economy, so that participants can raise capital from banks and even pay taxes. From inefficient producers to efficient players: By turning a blind eye to tax evasion and allowing regulatory restraint the government offered a leg-up to small and inefficient producers when competing with more efficient players in the formal sector. This incentive will no longer exist. Previous attempts did not work: (1) Soon after taking office in 2014 the government launched a financial inclusion scheme that aimed to give every adult Indian a bank account. Most of the 250 mn accounts opened have seen little activity. (2) The government also pushed tax amnesty schemes that aim to force those with unaccounted wealth to come clean while paying a small fine in exchange for being granted immunity from prosecution. The schemes have had limited success in raising funds. (3) Late last year, the government made it mandatory for all sellers to obtain the buyer’s tax identification documents for all cash transactions above INR50,000 with a higher limit for gold (INR200,000) and property (INR1mn). (4) Another new law tightens the noose on those who hold property for third parties by threatening confiscation without compensation and potential imprisonment. Outlook: A “V” shaped rebound With the Modi government’s attempt to constrain the advantages enjoyed by the black economy, many businesses will be forced to gradually merge with the formal sector. Money that has now re-entered the financial system has been given a fresh imprimatur of legitimacy (it can now be used more openly), and it should at least encourage pools of savings to be retained within the banking system. It is likely that the rebound will be V-shaped as pent-up demand will be quickly released once the new smaller denomination notes are gradually made available to individuals. Such a recovery should be aided by the fact that Indian bond yields have collapsed as a result of the demonetization policy, which is another reason that the RBI was right to hold fire. The reform agenda leaps forward and continues to help India to move up the table. The reforms adopted so far: (1) GST reform, (2) Insolvency and bankruptcy code, (3) Digital initiative: E-governance, custom declarations and Aadhaar bill, (4) Red tape and corruption campaign, (5) New Companies Act to improve governance and protect shareholder rights, (6) Cooperative and competitive federalism, (7) Cooperation with WB in the design of reforms aimed at improving business environment, (8) Bailout of state power distributors (from 138 to 45 days to get connected), (9) Integration of the customs services. Financial Markets Equity (Sensex): ATTRACTIVE. Fundamental price 29,126 Bonds: ATTRACTIVE. 10YR bond target at 5.7% FX: FAIR VALUED

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Japan:

FEBRUARY 2016

The new ineptocracy may continue providing some support for equities

Any idea about what could happen?

Banks have recently outperformed the general index. Looking at 2017, banks could be damaged by a strong USD, since Japanese banks have been the most aggressive in USD lending to EM

General assessment How do you describe a system which has made the central bank a substantial shareholder in the country’s biggest companies? If public money is going to be used, why not spend it on the capital of unlisted enterprises? Investing only in the capital in large-caps impoverishes the poor and benefits the rich. Does this sound like democracy or more like plutocracy (a form of oligarchy that defines a society ruled or controlled by a small minority of the wealthiest)? How do you describe an economic system in which investment is undertaken not on the basis of a superior ROIC, but because the central bank buys assets on the basis of their size, regardless of how badly the economic entities are managed and people do not pay for their mistakes? This sounds like an aristocracy or ineptocracy. This system of governance is neither market-based, democratic, fair or even efficient. History shows that similar periods of plutocracy, aristocracy and ineptocracy have been followed by political upheavals (namely, revolutions). At which point, the bear market devours the assets propped up by the central banks. BoJ & Equity market In switching last summer from QE to QQE with yield curve control, keeping the 10-year yield pegged at zero (that is with no yield and no capital gains), the key 10Y JGB has been rendered useless for investment purposes. In other words, the BoJ has effectively killed the JGB market. In response, Japanese institutions and retail investors alike have bailed out of the market and monthly trading volumes have sunk to a fraction of levels seen a year ago. This leaves the BoJ as the only player in the market (with 41% of outstanding bonds in their hands), and with the Ministry of Finance poised to step up its issuance to fund the planned supplementary budget expenditure, the BoJ will find it difficult to reduce JGB purchases currently running at ¥9trn (US$ 80bn) a month. With so little depth in the JGB market, any attempt to taper would lead to a dramatic rise in yields that would threaten to choke off Japan’s fragile recovery. The BoJ therefore has little choice but to stick with QE in what I consider a “policy trap”. In fact, in a speech with business leaders in Nagasaki, Deputy Governor Kikuo Iwata emphasized that the central bank will continue expanding the monetary base in the future under the new policy framework. Government sources pointed also that Japan is considering issuing additional deficit-covering bonds worth around ¥1.9T ($17B) to offset the expected tax revenue shortfall. This “policy trap” has significant implications, especially in a world of rising long rates, in the form of flows out of Yen and into foreign currency bond markets, as well as for the Japanese equity and real estate markets (as suggested by institutional and retail investors, which have been enthusiastic buyers of foreign bonds). This trend will continue. Low rates have encouraged share buybacks (+30% y/y), and persuaded pension funds and insurance companies to allocate more funds to domestic equities. This trend could last for a while. Preferred sectors are financials, construction firms and property developers (as ultra low borrowing costs have underpinned demand for apartments in big cities, encouraging institutions to invest in commercial property). Last but not least, although Japanese institutions have been tilting portfolios toward domestic equities since the early summer, foreign investors, especially from the US, remain hugely underweight. Economics Expected 2017 GDP growth 0.8% (down from 0.9% in 2016). • Disinflation will persist: After 30 years of deflationary decline it is not clear what public policy combination will shock the population into changed spending habits and it has to be seen whether Donald Trump is such a game changer. Financial Markets • Equity (Nikkei 225): NEUTRAL. Fundamental price 18599. Bonds: EXPENSIVE (USELESS). 10yr bond target 0%. FX: NEUTRAL. USD-JPY fundamental target at 112.

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Brazil:

FEBRUARY 2016

Confidence among Brazilian CEOs more than doubled vs 2016

Central Bank will probably cut rates to a single digit (from the current 13%)

Following the Constitutional Reform fixing a ceiling on government spending, public finances are gradually improving

BRL seems to be trading at fair value

Central Bank Copom cut the Selic rate aggressively by 75bp to 13% after the IBGE reported that the IPCA closed the year at 6.29% (lower than expected and far lower the 10.7% seen in 2015). Top 5 analysts expect the IPCA to come down to 4.50% in 2017, resulting in the central bank probably cutting rates below the 10% mark during the year, which could help to bolster the economy and improve the government’s credit metrics. GDP is expected to grow at 0.5% in 2017 (2.2% in 2018). Debt Federal Public Debt rose 1.97% to R$ 3.093 trillion and is on track for the lower band of the planned range defined in the Annual Financing Plan (R$ 3.1 to R$ 3.3 trillion this year). Structural Reforms: Clear signs of a new discipline BNDES returns R$ 100 billion to the Treasury and reduces government gross debt by 1.6% of GDP. The amount is part of the R$ 532 billion that the bank owes to the Federal Government. Further room to cut debt? The first great step to rein in public accounts was taken with Constitutional Reform PEC 55 (finally passed at its 5th vote in Senate). PEC 55 puts an effective cap on public expenditure for 20 years. Another key reform (Previdencia) is already on course. In the week of 15th December the Constitution and Justice Commission (CCJ) approved the admissibility of the Pension Reform PEC. The proposal will now go to a special commission in February. Federal government saves R$ 1.8 billion in administrative expenses in 12 months. The cost of maintaining the public machine recorded a cumulative 4.95% cut in real terms in the 12 months ending in October. Economic Stimulus Program: Tax Regularization Program (PRT): Aimed at settling tax liabilities by individuals and companies. Any tax debt is eligible under this program, including social security taxes. A tax credit is used to offset these tax debts. The 20% cash payment is an option (discounted from the remaining tax debt). 10% cut (gradual over 10 years) in fines to be paid by employers in the event of unfair dismissals of employees. A unique foreign trade portal and an export module. The goal is to reduce export & import times by 40%. Economics: Businesses see it better than consumers. (-) Poor retail sales figures show that the economy is still struggling. (+) But some signs of improvement are materializing: In November, real supermarket sales posted a 5% increase y/y. (+) CNC survey shows that households have a better assessment of the current labor market situation (>100 in December; +1% vs November and +2.9% vs Dec 2015) and the future outlook for the labor market (also surpassing the 100 mark) (+) Business confidence increases. Entrepreneur confidence in the future increased by 4.9% in November compared to October, reaching 86.8 points (up from 68.9 the previous month). It is the highest score since February 2015. (+) Financing intention up 16.8% in November (says Fecomercio). Policy Front: Uncertainty is a constant, but effects will be limited Temer’s impeachment: STF minister Marco Aurelio Mello sent a letter to the president of the Court stating that he is ready to report on the request to launch a special commission regarding the impeachment of President Michel Temer. While this process will probably not succeed (Euroasia research), it will likely represent a new source of uncertainty. Neves holds PSDB presidency and support for Temer remains stable: The leader of the PSDB (Aecio Neves) was reappointed as national president of the party for two more years. Senator Neves met with Temer to reaffirm his support in the House and Senate for the Temer reform agenda. The rescue package for states with financial troubles has passed in the House. Deputies approved the renegotiation of state debts while the government has emphasized that fiscal responsibility measures will have to be taken if any specific state wants to join the program. Meirelles on Banking: If banks do not cut credit card rates, the CNM (Conselho Monetario Nacional) will decide in January to cut the payment deadline for payments to card holders. Financial Markets: Equities (Ibovespa): NEUTRAL- POSITIVE. Target 66,423. ¡¡ Government Bonds: POSITIVE. We cut our 10YR Loc bond target to 10% (from 11.5%) and keep 5.25% for the USD bond. FX: NEUTRAL. Target of 3,2 (revised from 3.35)

ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW

Mexico:

FEBRUARY 2016

Some important considerations to bear in mind regarding NAFTA negotiations Economy The country is certainly experiencing a very complicated and unsatisfactory dynamic, combining fiscal deterioration, slowing GDP growth, the central bank tightening monetary conditions to prevent the collapse of the currency, and inflation on the upside. GDP growth will end 2016 at 2.1% but we are reducing our 2017 GDP growth target considerably to 1%. Trump & Protectionism President Trump’s intention to renegotiate NAFTA won’t have any immediate consequences for Mexico’s economy since the current agreement will remain in place until a reformed version is approved by all parties. Nevertheless, there are several key points to bear in mind: President Trump has substantial powers over trade policy. The US constitution gives Congress formal powers to regulate commerce, but the president still has broad powers to impose trade restrictions on Mexico. Moreover, he can pull the US out of NAFTA altogether without Congressional approval. A formal renegotiation of the NAFTA treaty would need to be approved by Congress (there seems to be broad support for some kind of reform). A number of the mooted changes to NAFTA won’t have a major economic impact on Mexico. Reports suggest the renegotiation may focus on so-called “rules of origin”, which determine the local content of products required for tariff-free trade. These are already included in NAFTA, but they could be tightened to require a larger proportion of Mexican exports to consist of value added from within the trading-bloc. There is a risk that they could cause firms to move production out of Mexico. Changes that specifically target the auto sector could be much more important. Vehicles are Mexico’s largest export to the US, accounting for around 25% of the total. Indeed, without autos, the US trade deficit with Mexico would disappear. Any serious effort to restrict vehicle exports to the US would therefore inflict significant damage to Mexico’s economy. The big US carmakers are responsible for a third of the vehicles produced in Mexico. As such, there will be substantial resistance from them against any major measures. Mexico presumably won’t accept every demand. While the US clearly holds the upper hand, the Mexican government still has some bargaining power. The US relies on its neighbor to help stem the flow of immigrants (including those from other Central American countries), as well as illegal drugs, across the border and both countries would suffer from a souring of relations. What’s more, President Peña-Nieto is already wallowing in local opinion polls and, while the next election isn’t until 2018, he won’t want to be seen as giving in to Mr Trump’s every whim. The economy minister has said that they would rather pull out of NAFTA than accept a bad deal for Mexico. Mexico will remain an attractive place to manufacture. Mexican manufacturing wages are low by global standards (Hourly compensation costs are 16%-17% of the costs in the US, much lower than the costs in Argentina (60% of US costs) or even lower than in Brazil (20% of US costs). There will still be significant incentive for manufacturing firms to shift low skilled jobs to Mexico, even to serve markets outside of NAFTA. Mexico’s proximity to the US gives it a natural advantage over other EMs. It is well placed for further moves towards ‘just-in-time’ manufacturing. Not to mention that the sharp fall in the peso against the dollar since President Trump’s victory has given a major boost to Mexico’s external competitiveness. Financial Markets Equities (IPC GRAL). NEGATIVE. We cut our fundamental target price to a central point of 44,000 for the Mex IPC Gral (from 48560). We cut margins to 6.7% (from 7.3%). EPS has been cut to 2214 (from 2428). PE stable at 20x. Fixed Income. NEGATIVE. We raise our targets for the M10 bond yield to 8% (from 7%), and 5% for the USD bond (from 4%) FX: NEGATIVE. We cut our fundamental target price in USD/MXN to 22 (from 19.75). The Trump effect will still be influential and the expected Fed decisions, as well as the lower liquidity in the FX market will negatively impact the MXN.

ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW

Argentina:

FEBRUARY 2016

Is Trump bad news for Macri’s plan? Latest Developments: The rally we have seen in US Treasury yields after the US

election represents a new challenge to President Macri's plan to stabilize Argentina’s economy. The previous government used monetary issuance to cover the fiscal gap (which caused high levels of inflation). After the holdouts issue was resolved, the current government changed the source of financing and tapped international debt markets to cover fiscal needs until they can implement the necessary reforms to recover fiscal balance (gradualism). Tax Amnesty: We are approaching the main deadline in the plan (31/12/2016). Results so far are promising since the results of the first phase (cash deposits in special accounts) were better than expected.

It seems as if the initial euphoria over the change of government had dissipated

Macro: Economic Activity: Growth is taking longer than expected to recover with three quarters of GDP decline now recorded (Q4 2015 to Q2 2016). This recession is mostly domestically driven and we expect a recovery to start in Q4 2016. It is essential that the government restarts economic growth before next year’s mid-term elections (October 2017) as they are seen as a test of support for the government. Our targets are that GDP will fall 2% in 2016 and grow 3.2% in 2017. Fiscal: We believe that the government’s target for 2016 will be achieved (4.8% primary deficit), and depending on the tax amnesty results, could be better than that (approx. 4.6%). For 2017 the target was set at 4.2% which seems to be little improvement. However this will require a major effort from the government as there will be increases in pensions and one-off revenues that will not repeat in 2017, all of which will take place in an election year. Inflation: Knock-on effects of devaluation and tariff adjustments will take inflation to nearly 40% by the end of 2016. For next year the government has set an inflation target of 12-17%. Considering that we think the government will prioritize economic growth over other variables, we set our inflation target for year-end 2017 at 20%. Financial Markets: Fixed Income: NEUTRAL. Current 10yr Govt Bond in USD (Global 2026) is trading at 7% YTM. Considering latest developments and prospects for 10yr US Treasuries, we set our target for 2017 at 7.50%. Strategy: Short term bonds continue to offer interesting spread despite the fact that their yield has come down considerably. These bonds will add very low volatility and very low repayment risk (Global 22/4/19, Buenos 14/9/18, Buenos 15/6/19, Bonar 7/5/24, YPF 4/4/24). Equities: There has been a strong recovery this year in Argentinean ADRs. Some equities still look cheap but this will mostly depend on the success of Macri’s measures to reestablish macro-equilibrium in Argentina. Examples of companies that could benefit from Macri’s policies are YPF, Financials (BMA, BFR, GGAL) and Utilities (PAM,EDN, TGS) FX: NEGATIVE. ARS spot depreciated after BCRA started to cut rates at the front end of the curve, moving the 35-day rate from a high of 38% to 25.75%. This change is due to an improvement in the core inflation trend. In 2017, we think that ARS will continue to depreciate, although less than inflation, and it could end 2017 at 18.50 (approx. 16% depreciation for the year).

ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW

FEBRUARY 2016

Equity Markets GLOBAL EQUITY INDICES - FUNDAMENTAL ASSESSMENT Sales

Net

Andbank's

Sales

Andbank's

EPS

INDEX

2017

per Share

EPS

Margin Sales growth per Share Net Margin

EPS

Index

2016

2017

2016

2017

PRICE

Price

USA S&P 500

1.160

119,0

10,3%

10,0%

1.276

10,0%

128

7,2%

19,17

17,50

2.281

295

21,3

7,2%

3,7%

306

7,6%

9,0%

17,07

15,00

364

7.567

570,0

7,5%

4,0%

7.870

8,0%

630

10,5%

16,59

15,10

Europe STXE 600 Spain IBEX 35

2017

Growth PE ltm PE ltm CURRENT Fundam. E[Perf] to

2017

Entry

Exit

Fundam

Point

2.233

-2,1%

2.009,7

2.456,3

349

-4,3%

313,9

383,7

9.459

9.507

0,5%

8.555,9

10.457,2

Mexico IPC GRAL

30.886

2.291,0

7,4%

7,0%

33.048

6,7%

2.214

-3,4%

20,56

20,00

47.095

44.284

-6,0%

39.855,9

48.712,8

Brazil BOVESPA

51.104

3.900,0

7,6%

5,5%

53.915

7,7%

4.151

6,4%

16,50

16,00

64.365

66.423

3,2%

59.780,6

73.065,2

Japan NIKKEI 225

19.494

995,7

5,1%

2,5%

19.981

5,2%

1.039

4,4%

19,00

17,90

18.918

18.599

-1,7%

16.738,8

20.458,5

China SSE Comp.

2.501

212,7

8,5%

8,0%

2.701

8,2%

221

4,1%

14,77

15,00

3.141

3.322

5,8%

2.990,1

3.654,6

China Shenzhen Comp

821

67,5

8,2%

9,0%

894

8,0%

6,0%

28,28

28,50

1.910

2.039

6,8%

1.835,4

2.243,3

Hong Kong HANG SENG

12.170

1.807,0

14,8%

3,0%

12.535

14,5%

1.818

0,6%

12,80

12,50

23.129

22.720

-1,8%

20.447,9

24.991,9

India SENSEX

14.280

1.503,0

10,5%

11,0%

15.851

10,5%

1.664

10,7%

18,79

17,50

28.241

29.126

3,1%

26.213,3

32.038,4

379

47,8

12,6%

7,5%

407

12,6%

7,4%

9,33

8,75

446

449

0,7%

404,3

494,1

MSCI EM ASIA (MXMS)

ANDBANK ESTIMATES

RISK-OFF PROBABILITY: Short-term view Andbank's Global Equity Market Composite Indicator (Breakdown)

Buy signals Positive Bias Neutral Negative Bias Sell signals FINAL VALUATION

Current

Month

4 3 8 5 2 0,5

1 2 7 6 6 -3,2

Andbank’s Global Equity Market Composite Indicator Preliminary assessment of the level of stress in markets

current

-5

-10 Market is Overbought

Area of Neutrality Sell bias

Buy bias

+10 Market is Oversold

Andbank GEM Composite Indictor: NEUTRAL. Our broad index has moved from a no-stress level last month (0.5) to a level of -3.2 (in a -10/+10 range), therefore settling in an area that suggests that the market is moderately overbought (although not stressed). We therefore conclude that: a) the market is expensive b) the likelihood of a sudden Risk-off shift is increasing.

TECHNICAL ANALISYS: Short-term (ST) and medium-term (MT) o o o o o o

S&P: SIDEWAYS-BULLISH. Supports 1&3 month at 2193/2134. Resistance 1&3 month at 2282. STOXX600: SIDEWAYS-BULLISH. Supports 1&3 month 351. Resistance 1&3 month at 369/376 IBEX: SIDEWAYS-BULLISH. Supports 1&3 month at 9135. Resistance 1&3 month at 9552/9724 €/$: SIDEWAYS-BULLISH. Supports 1&3 month at 1.04/1,035. Resistance 1&3 month at 1.09/1.10 Gold: SIDEWAYS-BULLISH. Supports 1&3 month at 1170/1122. Resistance 1&3 months at 1241/1250 Oil: SIDEWAYS-BULLISH. Supports 1&3 month at 49. Resistance 1&3 month at 56,5/62,6

ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW

FEBRUARY 2016

Fixed Income – Core Country Bonds: UST 10Yr BOND: Floor 1.85%, Ceiling 3%. Target 2.80% 1. Swap spread: Swap rates continued to recover and rose to 2.39% (from 2.26% last month). The 10Y Treasury yield upticked to 2.44% (from 2.43%). The swap spread therefore widened to -4 bps (from -17bps last month). For this spread to normalize towards +25bp, with 10Y CPI expectations (swap rate) anchored in the 2%-2.25% range, the 10Y UST yield would have to move towards 1.87% (this could be considered a floor). 2. Slope: The slope of the US yield curve flattened to 122bp (from 129bp). With the short end normalizing towards 1.25% (today at 1.22%), to reach the 10yr average slope (of 183bp), the 10Y UST yield could go to 3.08%. 3. Real yield: A good entry point in the 10Y UST could be when the real yield hits 1%. Given our CPI forecast of 2%-2.25%, the UST yield would have to rise to 3%-3.25% to become a “BUY”.

BUND 10Yr BOND: Ceiling 0.90%. Fundamental target 0.70% 1. Swap Spread: Swap rates rose to 0.77 (from 0.70% last month), and the Bund yield was fixed at +0.41%* (from +0.25%). The swap spread therefore ticked down to 36bps (from 46bps). For the swap spread to normalize towards the 30-40bp area, with 10Y inflation expectations (swap rate) anchored and normalized in the 1%-1.25% area, the Bund yield would have to move towards 0.77% (entry point). 2. Slope: The slope of the EUR curve ticked up to 108bp* (from 96bp). If the short end “normalizes” in the -0.25% area (today at -0.68%), to reach the 10yr average slope (115bp), the Bund yield would have to go to 0.90%.

Fixed Income – Peripheral Bonds: Spain: Fundamental target for the 10yr bond yield at 1.90%. Less political risk compared to Italy plus better economic conditions deserve a lower yield target. Italy: Fundamental target for the 10yr bond yield at 2.1%. The Italian constitutional court ruling on the legality of the Italicum electoral laws was released. The majority premium is legal if a party gets 40% of the vote, but the second round of voting is not legal. The ruling is positive from a short-term perspective if early elections are held in the summer (populist M5S is currently polling around 28% of the vote and so would not obtain the majority premium). The flip side is that it also means that Italian governments will probably continue to be formed of disparate coalitions and so it will remain difficult to implement reforms, which is a longer term negative aspect. Portugal: Fundamental target for the 10 yr bond at 3.30%. DBRS confirmed Portuguese rating at BBB (Low), Stable outlook. Fiscal measures already presented to comply with 2017 deficit target. But financial sector is still struggling, keeping pressure on Portuguese spreads. Good issuance calendar implementation Ireland: Fundamental target at 1.4%. 13

ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW

FEBRUARY 2016

Fixed Income – EM Govies Our Rule of Thumb: To date, our rule of thumb for EM bonds has been “buy” when the following two conditions are met: 1. US Treasury bond is cheap or at fair value 2. Real yields in EM bonds are 150bp above the real yield in the UST bond. Is the UST cheap or at fair value? Historically, a good entry point in the 10Y UST has been when real yields are 1.75%. Given the “new normal” of ZIRPs, a good entry point in the 10Y UST bond could be when the real yield is 1%. Given our 2017 target for US CPI of 2%-2.25%, a theoretical fair value (entry point) should be with nominal yields at 3%-3.25%. The first condition is not met. Do real yields in EM bonds provide sufficient spread? A good entry point in EM bonds has been when EM real yields are 150bp above the real yield in the UST when this is at fair value. Hence, and assuming that the first condition is met, we should only buy those EM bonds with a real yield at 2.5% (See the bonds in green in the table).

CPI (y/y)

10 Year

Yield

Last

Yield

Govies

reading

Real

7,56% 6,41% 4,35% 3,32% 4,13% 2,71% 2,27% 2,10% 1,22%

3,02% 3,42% 2,60% 2,10% 1,81% 1,12% 0,02% 1,34% 1,69%

4,54%

-1,00%

2,99%

-0,75%

1,75%

-0,50%

1,22%

-0,50%

2,32%

-0,75%

1,58%

-0,50%

2,26%

-0,75%

0,77%

0,00%

-0,47%

1,00%

10,67% Russian Federation 8,04%

8,53% 5,40%

2,14%

-0,75%

2,64%

-0,75%

10,71% 7,40% 6,82% 6,42%

6,58% 3,35% 5,78% 3,26%

4,13%

-1,00%

4,06%

-1,00%

1,04%

-0,50%

3,16%

-1,00%

Indonesia India EM ASIA

Philippines China Malaysia Thailand Singapore South Korea

EME

Taiwan Turkey

Brazil LATAM

Projected change in Yield

10 Year

Mexico Colombia Peru

ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW

FEBRUARY 2016

Commodities – Energy (Oil, WTI) Fundamental target at $45. Buy at $30. Sell at $55. Short term drivers for oil prices point to flat/lower prices. (-) US producers ramp up spending: The WSJ reported US oil producers have issued 2017 budgets that call for dramatically greater spending to tap new wells amid optimism that higher crude prices are here to stay. Budgets released in recent weeks by more than a dozen American shale drillers, including Hess Corp and Noble Energy, show an average budget increase of 60%, and “many more energy firms will announce capital budgets in the coming weeks. Indications are that they expect to increase spending as well as pump more oil and natural gas this year”. (-) More wells and output in US: US shale production may break a three-month slide in February, with production expected to post a m/m increase for the first time since October. The EIA report showed that producers drilled 712 wells and completed 545 in the largest shale basins in December after the recent increase in oil prices, leaving total drilled but uncompleted (DUC) wells at their highest level since April. As a result, IEA Executive Director Fatih Birol sees a significant increase in US shale output as OPEC tries to rein in supply: “shale-oil production will definitely react strongly”. (-) Job postings in the US are returning to the oil patch following the recent recovery in the oil price. In the five states where the crude industries carry the highest impact on the labor market, the number of oilfield listings as a share of total work posts climbed 52.1% from August through October. (-) Cut in marginal costs for drillers points to more output at each oil price level: US shale drillers have recently halved their cost base thanks in part to standardization of drilling equipment, resulting in a cut of nearly one third from their exploration and development costs. However, this could be offset by rising costs to hire experienced crew and outsourcing critical oil services. (-) Saudis say cuts may end in June: Saudi energy minister Khalid al-Falih said yesterday that OPEC and Russia will not need to prolong output cuts beyond June because the agreed reductions will have already ended the oversupply in world crude markets. (-) Oil futures curve raises doubts: Brent for next month delivery has risen 15%, but the contract for December 2018 is up only 6%. The weakening of the six-month contango has decreased from $4.50/barrel to ~$2.60) and has the potential to make more than 100M barrels currently stored in tankers at sea, flood back into the market and undermine recent stronger prices. (-) Trump administration will be friendly toward the fossil fuel industry and could boost output: Rick Perry (Dept. Industry), Cathy McMorris (Dept. Interior), and Rex Tillerson (Secretary of State) are all advocating expanding oil development. (-) Libya Sharara field pipeline blockade is lifted. Libya's National Oil Corporation has confirmed that it has reopened two of its biggest fields (the Sharara and El Feel), which will help boost Libya's oil production by ~175K bpd within a month and 270K bpd within three months. It notes that the country's current production of 600K bpd is less than half the 1.6M bpd it was pumping before the 2011 uprising. (-) Norway, which has declined to participate in OPEC's plan, will still benefit from higher prices, which could then spark more investment in the offshore industry. Norway said its oil and gas output will be higher than previously expected in 2017 and 2018 following above-forecast output last year. (-) A slowdown in stockpiling by China's and India's governments could offer obstacles to higher oil prices. The stockpiling plans of the two countries have been important sources of demand but the pace of strategic reserve growth appears to be slowing as space becomes more scarce, and rising oil prices could further cool enthusiasm for stockpiling. BMI Research estimates that stockpiling by the two countries last year added an estimated 760K bpd to global oil demand last year.

Structural drivers for oil point to low prices in the long run... (-) Alternative energies picking up the baton: Producers must bear in mind that the value of their reserves is no longer dictated by the price of oil and the quantity of their reserves, but rather by the amount of time for which they can pump before alternative energies render oil obsolete. In order to delay this deadline as long as possible, it is in producers’ interests to keep the oil price low as long as possible (keeping the opportunity cost of alternative energy sources as high as possible). (-) Growing environmental problems will gradually tighten legislation and production levels: Producers are aware that the value of their reserves depends on the time they can pump at current levels before tougher environment-inspired regulation comes in. For example, Saudi Arabia has between 60 to 70 years of proven oil reserves at current output pace, but with mounting concern about climate change and growing environmental problems that will likely continue to put big pressure on the market for fossil fuels over the coming decades, Riyadh’s most serious risk is of sitting on a big chunk of “stranded reserves” that it can no longer extract and sell. Saudi Arabia (and the other producers) therefore has a powerful incentive to monetize as much of its reserves as soon as possible by pumping as much oil as it can (if only to fund the construction of a less oil-dependent economy). (-) The re-entry of Iran is a game changer equivalent to a structural change in the global energy market. Iran insists that it must be allowed to step up its output from 3.6mn to 4mn bbl/day. This would imply that Saudi Arabia (the world’s largest producer) would have to take the most, if not all, of the proposed cuts in its own output. This is something incompatible with the condition imposed by the Saudis of not losing market share under the agreement. (-) OPEC’s producers are no longer able to fix prices: There are good reasons to believe that any deal reached from now on involving the freezing of production would prove ineffective. Back in the 1970s or the early 2000s, the exporter’s cartel agreed to cut output and the approach worked well since it was easy to defend market share as the principal competition was among oil producers (in particular between Opec and non-Opec producers). That is not the case today. Today’s biggest threat to any conventional oil producer comes from non-conventional producers and other alternative energy sources. Energy cut from conventional oil will easily be offset by a quick increase in shale oil production, which means that OPEC’s producers are no longer able to fix prices. (-) Global imbalance of supply over demand runs at 1mn bbl/day: Even if the proposed output cuts are confirmed, this deal will not be a game-changer for the international oil market. The global oil market’s imbalance of supply over demand continues to run at 1mn bbl/day according to Opec itself. Opec’s proposed production cut will therefore be insufficient to reverse the oil glut. (-) Shale producers to raise output heavily at $60 in oil price: The IEA agency said that $60 price for oil would be enough for many US shale companies to restart stalled production, although it would take around nine months for the new supply to reach the market. 15

ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW

FEBRUARY 2016

Commodities – Precious (Gold) Fundamental price US$ 1,050/oz. Buy at US$ 900/oz. Sell above US$1,200. Negative drivers: 1. Gold in real terms. In real terms the gold price (calculated as the current nominal price divided by the US Implicit Price Deflator-Domestic base year 2009, as a proxy for the global deflator) fell to $1075 (from $1200 last month). Nevertheless, in real terms, gold continues to trade well above its 20-year average of $778. Given the global deflator (now at 1.118), for the gold price to stay near its historical average in real terms, the nominal price (or equilibrium price) must remain near US$869. 2. Gold in terms of Silver (Preference for Store of Value over Productive Assets): This ratio has ticked up to 70.67x (from 69.87x last month) and remains well above both its 20-year average of 61.13, suggesting that Gold is expensive (at least in terms of silver) 3. Gold in terms of Oil (Gold / Oil): This ratio has decreased during the month to 22.97x (from 26.42x last month) but still remains well above its 20-year average of 14.59. Considering our fundamental long-term target for oil at US$45pbl (our central target), the nominal price of gold must approach US$656 for this ratio to remain near its LT average level. 4. Gold in terms of the DJI (Dow Jones / Gold): This ratio has moved to 16.49x (from 15.62x last month), still below its LT average of 20.4x. Given our target price for the DJI of $19396, the price of gold must approach US$950 for this ratio to remain near its LT average. 5. Gold in terms of the S&P (Gold / S&P500 index): This ratio has ticked down to 0.529x (from 0.553x last month), but is still above its LT average of 0.581x. Given our target price for the S&P of $2233, the price of gold must approach US$1,297 for this ratio to remain near its LT average. 6. Speculative Positioning: CFTC - CEI 100oz Active Future non-commercial contracts: longs fell sharply to 218.14k (from 245.7k last month). Shorts stay at 111.10k (from 68.1k) => Net position decreased to +107.04k (from +117.6k). Therefore, although less pronounced, speculators still remain long in gold. 7. Financial liberalization in China. Higher “quotas” each month in the QFII are widening the investment alternatives for Chinese investors (historically focused on gold). 8. Central bank gold buying. Gold stocks at central banks are still considerably higher than 2008 levels. Positive drivers: 1. Negative yields still make Gold attractive. The disadvantage of gold relative to fixed income instruments (gold does not offer a coupon) is now neutralized, with negative yields in a large number of global bonds, although the importance of this factor is diminishing as yields continue to rise. 2. Relative size of gold: The total value of gold in the world is circa US$6.9tn, a fairly small percentage (3.2%) of the total size of the financial cash markets (212tn). The daily volume traded on the LBMA and other gold marketplaces is around US$173bn (just 0.08% of the total in the financial markets).

GOLD SPECULATIVE POSITIONS

Long Futures

Net Futures Short Futures

ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW

FEBRUARY 2016

Currencies – Fundamental Targets There has been an uptick in the global USD position in the last month, with investors having a net long exposure against the other currencies to the tune of US$ 25.6bn (from US$ 25.02 bn last month and $17.4 bn two months ago). This is the longest position in USD since January 2016 but despite this US dollar buying, the global position in the greenback is still below the US$+30.5bn seen in January 2016, and far below the US$+48.8bn net long position seen in January 2015, which means that US dollar positions globally, though long, could still double or at least be much larger.

• EUR/USD: Fundamental Target (1.00) Global investors are short in the EUR to the tune of US$-8.9bn. Despite this, they are still significantly less short than they were in January 2016 (US$-19bn). In terms of the 3-yr Z-score, the market positioning in the EUR is the longest seen in the last three years. The known positives for the USD: (1) Rising positive carry on US dollar debt instruments. (2) The fact that the Fed has a tightening bias, while most other central banks still have easing bias. (3) The possible continued improvement in the US trade balance throughout greater domestic energy production. (4) According to the BIS, two years ago there was US$10trn of unfunded positions leveraged with USD. Now that other currencies are signaling their downtrend stance more clearly, many of these leveraged positions could change their funding currency (asking for € or ¥ loans and buying back the $ to repay the loans). The known negatives for the USD include: (1) The US president is a clear mercantilist, and mercantilist tend to dislike strong currencies. Trump’s desire to relaunch manufacturing in the US cannot happen without a weaker dollar. (2) The US dollar is increasingly overvalued on a PPP against many currencies. (3) Almost everyone is now bullish on the US dollar.

• • • • • • • • • •

7,0

JPY: Target (112); EUR/JPY: Target (112). Very stressed shorts in JPY’s Z-score. GBP: Target (0.83); EUR/GBP: Target (0.83). Trump trade vs Brexit uncertainty. CHF: Target (0.95); EUR/CHF: Target (0.95). Net shorts & stressed levels in CHF. MXN: Target (22); EUR/MXN: Target (22) BRL: Target (3.20); EUR/BRL: Target (3.20) ARS: Target (18.5); EUR/USD: Target (18.5) Mkt Value of Change vs RUB: NEUTRAL Net positions last week 1-yr Max 1-yr Min AUD: NEUTRAL-POSITIVE Currency (Bn $) (Bn $) (Bn $) (Bn $) CAD: NEUTRAL CNY: Target (6.75-6.80) USD vs All USD vs G10 EM EUR JPY GBP CHF BRL MXN RUB AUD CAD

Max Min Current

25,59 25,33 -0,26 -8,90 -8,64 -5,14 -1,71 0,74 -1,71 0,71 0,37 -0,42

-0,65 -0,60 0,06 -0,22 -0,02 -0,13 0,04 0,06 -0,06 0,06 0,65 0,18

28,7 28,4 1,2 -3,1 8,6 -1,2 1,4 0,7 -0,4 1,3 4,6 2,0

-6,9 -7,1 -2,2 -19,0 -9,3 -7,8 -3,1 -0,1 -2,3 0,0 -2,5 -4,7

1-yr Avg (Bn $)

Current Z-score 3-yr 0,24 0,25 0,21 0,55 -0,81 -0,99 -0,91 1,33 -0,68 1,99 0,34 0,51

11,9 11,1 -0,7 -10,7 3,9 -5,0 -0,3 0,3 -1,4 0,4 1,3 -0,3

ANDBANK SPECULATIVE POSITION IN THE FX MARKETS (3Yr - Z SCORES. Max, Min & Current in 1Yr)

5,0

3-year Z-Score:

3,0

Current Position - 3 year average position 3-year Standard Deviation

1,0

Values above +1 suggest positioning may be overbought

-1,0

-3,0

ANDBANK -5,0 USD vs All

USD vs G10

EM vs USD

EUR vs USD

JPY vs USD

GBP vs USD

CHF vs USD

BRL vs USD

MXN vs USD

RUB vs USD

AUD vs USD

CAD vs USD

Values below -1 suggest positioning may be oversold

ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW

FEBRUARY 2016

Market Outlook â&#x20AC;&#x201C; Fundamental Expected Performance Performance

Performance

Current Price

Target

Expected

Last month

YTD

03/02/2017

Year End

Performance*

1,0%

1,9%

2.281

2233

-2,1%

EUROPE - STOXX 600

- 0,4%

0,8%

364

349

-4,3%

SPAIN - IBEX 35

- 0,4%

1,2%

9.461

9507

0,5%

2,1%

3,2%

47.095

44284

-6,0%

Asset Class

Indices

Equity

USA - S&P 500

03/02/2017

MEXICO - MXSE IPC BRAZIL - BOVESPA

4,0%

6,7%

64.290

66423

3,3%

JAPAN - NIKKEI 225

- 1,0%

-1,0%

18.918

18599

-1,7% 5,8%

CHINA - SHANGHAI COMPOSITE CHINA - SHENZEN COMPOSITE HONG KONG - HANG SENG

0,2%

1,2%

3.141

3322

- 3,8%

-3,0%

1.910

2039

6,8%

4,4%

5,1%

23.129

22720

-1,8%

INDIA - SENSEX

6,0%

6,1%

28.241

29126

3,1%

MSCI EM ASIA

5,9%

6,5%

446

449

0,7%

Fixed Income

US Treasury 10 year Govie

- 0,1%

-0,1%

2,49

2,80

0,0%

Core countries

UK 10 year Guilt

- 0,4%

-1,2%

1,39

2,00

-3,5%

German 10 year BUND

- 1,4%

-1,9%

0,44

0,70

-1,6%

Japanese 10 year Govie

- 0,4%

-0,4%

0,09

0,00

0,8%

Spain - 10yr Gov bond

- 1,9%

-2,2%

1,67

1,90

-0,2%

Fixed Income Peripheral

Italy - 10yr Gov bond

- 3,2%

-3,5%

2,27

2,10

3,6%

Portugal - 10yr Gov bond

- 1,9%

-3,1%

4,16

3,30

11,0%

Ireland - 10yr Gov bond

- 2,5%

-3,2%

1,15

1,40

-0,8%

Greec e - 10yr Gov bond

- 2,8%

-2,6%

7,28

7,50

5,6%

Fixed Income

Credit EUR IG-Itraxx Europe

0,0%

74,13

0,2%

Credit

Credit EUR HY-Itraxx Xover

- 0,4%

0,1%

294,72

380

-0,2%

Bono EUR 5y IG & HY

Credit USD IG - CDX IG

0,0%

0,3%

65,49

2,2%

Credit USD HY - CDX HY

0,8%

1,1%

345,93

340

5,1%

5,2%

3,3%

10,67

10,00

16,0%

2,9%

3,0%

8,04

8,00

8,4%

Bono USD 5y Fixed Income

Turkey - 10yr Gov bond

EM Europe (Loc) Russia - 10yr Gov bond Fixed Income

Indonesia - 10yr Gov bond

3,1%

3,0%

7,56

6,70

14,5%

Asia

India - 10yr Gov bond

0,8%

1,5%

6,41

5,67

12,3%

(Local curncy)

Philippines - 10yr Gov bond

3,6%

3,5%

4,35

3,78

8,9%

- 2,2%

-2,2%

3,32

2,87

6,9%

Malaysia - 10yr Gov bond

1,0%

4,13

3,57

8,6%

Thailand - 10yr Gov bond

- 0,9%

-0,9%

2,71

2,00

8,3%

1,8%

1,7%

2,27

1,57

7,9%

South Korea - 10yr Gov bond

- 0,5%

-0,2%

2,10

2,07

2,4%

Taiwan - 10yr Gov bond

- 0,6%

-0,2%

1,22

1,29

0,7%

China - 10yr Gov bond

Singapore - 10yr Gov bond

Fixed Income

Mexic o - 10yr Govie (Loc )

2,0%

0,8%

7,40

8,00

2,6%

Latam

Mexic o - 10yr Govie (usd)

1,4%

1,3%

4,14

5,00

-2,8%

Brazil - 10yr Govie (Loc )

5,4%

7,1%

10,69

10,00

16,2%

Brazil - 10yr Govie (usd)

4,4%

5,31

5,25

5,8%

Argentina - 10yr Govie (usd)

2,7%

1,5%

6,70

7,50

0,3%

CRY

1,8%

0,5%

193,5

190,0

-1,8%

Oil (WTI)

2,6%

0,0%

53,7

45,00

-16,2%

GOLD

4,5%

5,2%

1.211,1

1.100

-9,2%

EUR/USD (pric e of 1 EUR)

3,2%

2,1%

1,073

1,00

-6,8%

- 2,1%

-1,3%

0,80

0,83

3,7%

1,1%

0,8%

0,86

0,83

-3,4%

Commodities

GBP= (pric e of 1 USD) EUR/GBP (pric e of 1 EUR) CHF= (pric e of 1 USD)

- 3,0%

-2,1%

1,00

0,95

-4,6%

0,0%

-0,2%

1,07

0,95

-11,2%

JPY= (pric e of 1 USD)

- 3,9%

-3,2%

113,09

112

-1,0%

EUR/JPY (pric e of 1 EUR)

- 0,9%

-1,4%

121,42

112,00

-7,8%

MXN= (pric e of 1 USD)

- 2,5%

-0,7%

20,58

22,00

6,9%

0,6%

1,4%

22,09

22,00

-0,4%

BRL= (pric e of 1 USD)

- 3,9%

-3,6%

3,14

3,20

2,0%

EUR/BRL (pric e of 1 EUR)

- 0,9%

-1,6%

3,37

3,20

-5,0%

EUR/CHF (pric e of 1 EUR)

EUR/MXN (pric e of 1 EUR)

ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW

FEBRUARY 2016

Monthly Global Asset & Currency Allocation Proposal Conservative

Moderate

Balanced

Growth

< 5%

5%/15%

15%/30%

30%>

Max Drawdown

Strategic Tactical (%) (%)

Asset Class

Strategic (%)

Tactical (%)

Strategic (%)

Tactical (%)

Strategic Tactical (%) (%)

Money Market

15,0

20,1

10,0

15,1

5,0

12,4

5,0

12,8

Fixed Income Short-Term

25,0

29,9

15,0

20,2

5,0

11,1

0,0

6,4

Fixed Income (L.T) OECD

30,0

22,5

20,0

15,0

11,3

5,0

3,8

US Gov & Municipals & Agencies

11,3

7,5

5,6

1,9

EU Gov & Municipals & Agencies

2,3

1,5

1,1

0,4

European Peripheral Risk

9,0

6,0

4,5

1,5

Credit (OCDE)

20,0

Investment Grade USD

18,0

20,0

5,4

18,0

15,0

5,4

13,5

5,0

4,1

4,5 1,4

High Yield Grade USD

7,2

5,4

1,8

Investment Grade EUR

1,8

1,4

0,5

High Yield Grade EUR

3,6

2,7

0,9

Fixed Income Emerging Markets

5,0

7,5

10,0

15,0

Latam Sovereign

1,3

1,9

2,5

3,8

Latam Credit

1,0

1,5

2,0

3,0

Asia Sovereign

1,8

2,6

3,5

5,3

Asia Credit

1,0

1,5

2,0

3,0

Equity OECD

5,0

4,5

20,0

18,0

32,5

29,3

50,0

45,0

US Equity

2,3

9,0

14,6

22,5

European Equity

2,3

9,0

14,6

22,5

Equity Emerging

0,0

5,0

4,5

10,0

9,0

10,0

9,0

Asian Equity

0,0

2,7

5,4

Latam Equity

0,0

1,8

3,6

Commodities

0,0

2,5

1,8

5,0

3,5

5,0

3,5

Energy

0,0

0,3

0,5

Minerals & Metals

0,0

0,4

0,9

Precious

0,0

0,9

1,8

Agriculture

0,0

0,2

0,4

REITS

0,0

2,5

0,0

5,0

0,0

Currency Exposure (European investor perspective) EUR

92,1

85,8

84,0

80,1

USD

7,9

14,2

16,0

19,9

This recommended asset allocation table has been prepared by the Asset Allocation Committee (AAC), made up of the managers of the portfolio management departments and the product managers in each of the jurisdictions in which we operate. Likewise, the distribution of assets within each customer profile reflects the risk control requirements established by regulations.

ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW

FEBRUARY 2016

Principal Contributors

Alex Fusté – Chief Global Economist – Asia & Commodities: Equity, Rates, FX +376 881 248 Giuseppe Mazzeo – CIO Andbank USA – U.S. Rates & Equity. +1 786 471 2426 Eduardo Anton – Portf. Manager USA – Credit & Quasi governments. +1 305 702 0601 J.A Cerdan – Equity Strategist Europe – European Equity. +376 874 363 Renzo Nuzzachi, CFA – Product Manager LatAm – Rates & FX. +5982-626-2333 Jonathan Zuloaga – Analyst, Mexico – Macro, bonds & FX. +52 55 53772810 Albert Garrido – Portfolio Manager Andorra – European Equity. +376 874 363 Luis Pinho – CIO Andbank LLA Brazil – Bonds, FX & Equity Brazil. Andrés Davila – Head of Asset Management Panama – Venezuela. +507 2975800 Marian Fernández – Product Manager, Europe – Macro, ECB & Gov. bonds. +34 639 30 43 61 David Tomas – Wealth Management, Spain – Spanish Equity. +34 647 44 10 07 Andrés Pomar – Portf Manager Luxembourg – Volatility & ST Risk Assessment +352 26193925 Carlos Hernández – Product Manager – Technical Analysis. +376 873 381 Alejandro Sabariego – Portfolio Manager Luxembourg – Flow & Positioning. +352 26 19 39 25 Alicia Arriero – Portfolio Manager Spain– European Banks. Credit HG & HY. +34 91 153 41 17

ECONOMY & FINANCIAL MARKETS CORPORATE REVIEW

FEBRUARY 2016

Legal Disclaimer All notes and sections in this document have been prepared by the team of financial analysts at ANDBANK. The opinions stated herein are based on a combined assessment of studies and reports drawn up by third parties. These reports contain technical and subjective assessments of data and relevant economic and sociopolitical factors, from which ANDBANK analysts extract, evaluate and summarize the most objective information, agree on a consensual basis and produce reasonable opinions on the questions analyzed herein. The opinions and estimates contained herein are based on market events and conditions occurring up until the date of the documentâ&#x20AC;&#x2122;s publication and cannot therefore be decisive in evaluating events after the documentâ&#x20AC;&#x2122;s publication date. ANDBANK may hold views and opinions on financial assets that may differ partially or totally from the market consensus. The market indices have been selected according to those unique and exclusive criteria that ANDBANK considers to be most suitable. ANDBANK does not guarantee in any way that the forecasts and facts contained herein will be confirmed and expressly warns that past performance is no guide to future performance, that analyzed investments could be unsuitable for all investors, that investments can vary over time regarding their value and price, and that changes in the interest rate or forex rate are factors which could alter the accuracy of the opinions expressed herein. This document cannot be considered in any way as a selling proposition or offer of the products or financial assets mentioned herein, and all the information included is provided for illustrative purposes only and cannot be considered as the only factor in the decision to make a certain investment. Additional major factors influencing this decision are also not analyzed in this document, including the investorâ&#x20AC;&#x2122;s risk profile, financial expertise and experience, financial situation, investment time horizon and the liquidity of the investment. As a consequence, the investor is responsible for seeking and obtaining the appropriate financial advice to help him assess the risks, costs and other characteristics of the investment that he is willing to undertake. ANDBANK expressly disclaims any liability for the accuracy and completeness of the evaluations mentioned herein or for any mistakes or omissions which might occur during the publishing process of this document. Neither ANDBANK nor the author of this document shall be responsible for any losses that investors may incur, either directly or indirectly, arising from any investment made based on information contained herein. The information and opinions contained herein are subject to change without notice.

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