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OFFSHORE MARKETS MEET THE COMPETITION HEAD ON I S S U E T W E LV E • M A R C H / A P R I L 2 0 0 6

Hilton finds the hospitality factor Saudi banks bask in petrodollars Risk comes back into US real estate

NYMEX THE WAY AHEAD SPANISH COVERED BONDS ENJOY THEIR TIME IN THE SUN

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Contents COVER STORY COVER STORY: THE NYMEX WAY ....................................................Page 47 Through the summer of 2005, New York Mercantile Exchange (Nymex) was busy being courted by suitors anxious to play leverage with the anticipated uptick in the exchange’s value over the coming energy-hungry decade. Nymex plumped for a deal with private equity firm General Atlantic, but critics say the deal undervalues the exchange. Nymex CEO Jim Newsome explains why the exchange turned away higher bidders; the most prominent of which turned out to be none other than the Chicago Mercantile Exchange (CME).

REGULARS PENSIONS IN CRISIS ......................................................................................Page 6 MARKET LEADER

Michael O'Brien, managing director and head of institutional business at Barclays Global Investors discusses the options ahead

THE POST SOX CHALLENGE FOR ADRS ................................Page 10 Listing in the US is an absolute must says Patrick Colle, global head of ADRs at JPMorgan

TAKING ON CORPORATE RESPONSIBILITY ........................Page 13 IN THE MARKETS

Dr. Craig Mackenzie of Insight Investment explains why virtue is rewarding

HOW TO BENCHMARK PRIVATE BANK PEFORMANCE ..Page 15 New private banking indices

FACE TO FACE

CRESTCO LOOKS AHEAD AS SSE MOVES CLOSER ........Page 17 Tim May speaks about the future of settlement harmonisation

TODAY’S MAN: BERNANKE ASSUMES FED MANTLE........Page 22 Ian Williams examines the legacy of Alan Greenspan and wonders what the incoming chairman will do next

WHY WARSAW’S EXCHANGE IS A MOVING TARGET....Page 27 Blazej Karwowski talks to WSE’s president, Wieslaw Rozlucki about new opportunities facing Eastern Europe’s most buoyant exchange

REGIONAL REVIEW

RISING ASSET PRICES IN TURKEY’S BANKING SECTOR ....Page 29 Foreign banks are buying for high stakes in Turkey’s promising retail markets. But are the costs of buying market share just a little high?

THE DIVERSITY OF DEMAND FOR ISLAMIC INDICES ......Page 33 Growing demand by investors wanting to leverage Islamic financing means a whole new array of Islamic indices is on the cards

THE RISE OF THE RIYAL ECONOMY ..........................................Page 34 The Tawadul All Share Index and the banking sector too is booming. How will the region’s bankers leverage this current bullish cycle?

WAITING ON A BETTER TOMORROW....................................Page 67 DEBT REPORT

Germany’s Pfandbrief market is still waiting for an uptick following last year’s changes to Pfandbrief law. By Andrew Cavenagh

IGNITION FOR SPANISH COVERED BONDS ............................Page 72 The market for Spanish covered bonds is growing faster than Germany’s jumbo Pfandbriefe for the first time in 2005, with more recording breaking issuance planned.

INDEX REVIEW 2

Companies in this issue ..................................................................................................Page 86 Market Reports by FTSE Research ................................................................................Page 85 Calendar ............................................................................................................................Page 96

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Outlook EDITORIAL DIRECTOR:

Francesca Carnevale, Tel + 44 [0] 20 7074 0008, email: francesca@berlinguer.com CONTRIBUTING EDITORS:

Blazej Karwowski, Karen Jones, Neil O’Hara, David Simons.

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Andrew Cavenagh, Art Detman, Rekha Menon, Tim Steele, Bill Stoneman, Angela May Ward, Paul Whitfield, Ian Williams FTSE EDITORIAL BOARD:

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T

wo themes are writ large in this edition. The first is mortgages: the contemporary mainstay of securitised debt issues in many a domestic bond market. As an investor: the emerging truth is out there. A sea change is underway in the world’s mortgage backed securities (MBS) market.

We compare the tried, tested and true in the US and German markets with, in various interpretations depending on the country, the up and coming promise of Spain and Turkey. Working through the changes now ringing through the US real estate market, Neil O’Hara looks at the dynamics of current mortgage provision in the United States. The range of innovative mortgage structures available to retail borrowers in the US has blossomed as buyers of mortgage backed securities have shown their willingness to accept incremental credit risks. However the result is that regulators are increasingly worried that neither borrowers nor lenders recognise the long term risks inherent in exotic mortgages. A slowdown is all it takes to put pressures on borrowers looking for a quick flip and the first losses are likely to pop up in the sub-prime market where borrowers have weak credit.

In two separate articles Andrew Cavenagh meanwhile compares the varied fortunes of Spanish covered bonds and German Pfandbriefe.

Spanish banks expect the market for cedulas hypotecarias to grow by more than 20% over last year’s aggregate issuance volume of €52bn. Compare this with the mature Pfandbriefe market which struggled to achieve an issuance volume of €48bn last year. Further a-field, the growth story that is Turkey, and the new influx of foreign banks anxious to place their direct investment dollars into the country’s revitalised banking sector, is in large part predicated on the realisation that the country’s nascent mortgage industry will provide lending and securitisation opportunities in plenty: depending of course on the passage of an impending mortgage law now in parliament.

The second theme is all about exchanges. In the first of a two part look at the evolving dynamics underlying the world’s exchanges we look at the challenges and opportunities facing the offshore market. The hard fact is that it is an increasingly precarious existence as an offshore exchange. The business is certainly not for the fainthearted or those executives without a strong stomach for constant marketing and redefinition in an increasingly globalised market which is calling their very existence into question. We examine the innovative approaches now being adopted by various offshore jurisdictions to keep ahead of market developments.

Our cover story meanwhile focuses on Nymex, one of the world’s most powerful commodity exchanges and its efforts to stay the course in an increasingly competitive landscape. Nymex is an acquirer’s dream: as long as you are another exchange titan with a growth strategy that dovetails with Nymex’s global ambitions. But Nymex prefers to go it alone. We talk to its chief executive Jim Newsome about the exchange’s current growth strategies and avoidance tactics.

And for something completely different, Art Detman reports from California on the turnaround story that is the Hilton Hotels Corporation.

The group may just well become the world’s most profitable and geographically diverse lodging company, able to outmanoeuvre competitors that only seven years ago were much bigger and were threatening to swamp Conrad Hilton’s brainchild.

Francesca Carnevale, Editorial Director February 2006

Subscription Price: £399 per annum [6 issues]

FTSE GLOBAL MARKETS • MARCH/APRIL 2006

1

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Contents COVER STORY COVER STORY: THE NYMEX WAY

....................................................Page 47 Through the summer of 2005, New York Mercantile Exchange (Nymex) was busy being courted by suitors anxious to play leverage with the anticipated uptick in the exchange’s value over the coming energy-hungry decade. Nymex plumped for a deal with private equity firm General Atlantic, but critics say the deal undervalues the exchange. Nymex CEO Jim Newsome explains why the exchange turned away higher bidders; the most prominent of which turned out to be none other than the Chicago Mercantile Exchange (CME).

REGULARS PENSIONS IN CRISIS

MARKET LEADER

......................................................................................Page 6 Michael O'Brien, managing director and head of institutional business at Barclays Global Investors discusses the options ahead

THE POST SOX CHALLENGE FOR ADRS

................................Page 10 Listing in the US is an absolute must says Patrick Colle, global head of ADRs at JPMorgan

TAKING ON CORPORATE RESPONSIBILITY ........................Page 13 IN THE MARKETS

Dr. Craig Mackenzie of Insight Investment explains why virtue is rewarding

HOW TO BENCHMARK PRIVATE BANK PEFORMANCE ..Page 15 New private banking indices

FACE TO FACE

CRESTCO LOOKS AHEAD AS SSE MOVES CLOSER ........Page 17 Tim May speaks about the future of settlement harmonisation

TODAY’S MAN: BERNANKE ASSUMES FED MANTLE........Page 22 Ian Williams examines the legacy of Alan Greenspan and wonders what the incoming chairman will do next

WHY WARSAW’S EXCHANGE IS A MOVING TARGET

....Page 19 Blazej Karwowski talks to WSE’s president, Wieslaw Rozlucki about new opportunities facing Eastern Europe’s most buoyant exchange

REGIONAL REVIEW

RISING ASSET PRICES IN TURKEY’S BANKING SECTOR ....Page 30 Foreign banks are buying for high stakes in Turkey’s promising retail markets. But are the costs of buying market share just a little high?

THE DIVERSITY OF DEMAND FOR ISLAMIC INDICES ......Page 33 Growing demand by investors wanting to leverage Islamic financing means a whole new array of Islamic indices is on the cards

THE RISE OF THE RIYAL ECONOMY

..........................................Page 34 The Tawadul All Share Index and the banking sector too is booming. How will the region’s bankers leverage this current bullish cycle?

WAITING ON A BETTER TOMORROW

DEBT REPORT

INDEX REVIEW 2

....................................Page 67 Germany’s Pfandbrief market is still waiting for an uptick following last year’s changes to Pfandbrief law. By Andrew Cavenagh

IGNITION FOR SPANISH COVERED BONDS

............................Page 72 The market for Spanish covered bonds is growing faster than Germany’s jumbo Pfandbriefe for the first time in 2005, with more recording breaking issuance planned.

Companies in this issue ..................................................................................................Page 86 Market Reports by FTSE Research ................................................................................Page 85 Calendar ............................................................................................................................Page 96

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E L E C T R O N I C

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G e t y o u r M a r k e t D a t a s t r a i g h t f r o m t h e s o u r c e . V i s i t : w w w. c b o t . c o m / m a r k e t d a t a

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Contents FEATURES HILTON: A NEW BRAND OF HOSPITALITY ..................................Page 43 The Beverly Hills-based Hilton Hotels Corporation (HLT) is acquiring Hilton International, a subsidiary of London-based Hilton Group PLC in a $6bn deal. Art Detman explains how a hotel empire, sundered in 1964 when the overseas operations were spun off to shareholders, is now being put back together. Will Hilton again become “innkeeper to the world?”

OFFSHORE EXCHANGES FIGHT FOR MARKET SHARE ..............Page 54 In an increasingly globalised market, the competition between offshore exchanges and jurisdictions is picking up pace. The business is not for the faint-hearted, requiring piercing vision, strong regulatory and legal backing, sound business strategies and an innovative bent. Are offshore exchanges about to enter a sustained growth phase, or will they wilt under pressure? Francesca Carnevale reports

BLUE SKY BLUES ........................................................................................................Page 59 The growth in trading as a share of the entire business of securities firms inevitably raises questions about forecasting earnings and the extent of risk. Indeed, it may even be possible to see in the today’s emerging business model the outlines of a long, slow decline in profitability in the years ahead. At least in the view of some industry observers. Surprised?

You shouldn’t be. Bill Stoneman explains the new business dynamics and asks how long can the leading securities firms continue racking up outstanding earnings growth?

IT TAKES TWO TO TANGO ..........................................................................Page 63 House prices in the US have soared as the Federal Reserve Board boosted short-term interest rates. Lenders have responded with innovative mortgage structures. But at the end of the day, they do not retail the extra credit risk. The buyers of mortgage backed securities do.

Hedge funds, among others, which buy junior MBS tranches will bear the losses if buyers start to default. Now regulators are getting worried. Neil A. O'Hara.

US CUSTODIANS ON THE MOVE............................................................Page 75 Powerhouse firms such as Citigroup, JP Morgan, Bank of New York, State Street, and Northern Trust have consolidated their custody base through strategic acquisitions while offering an increasingly broader range of services. With fee-generated revenue and improving market conditions helping to boost profit margins, the business of asset management, securities lending and trade processing is looking mighty good—at least for the time being.

Dave Simons reports.

THE ASCENDANCE OF ASIAN SECURITIES LENDING ..............Page 79 The biggest problem in the wider Asian securities lending market up to now has been the regulatory climate and the slow pace of change in regulations, tax structures and efficient settlement systems. However, the pace of change may now begin to step up as India and Korea set the pace by introducing reforms to create a lending structure. It looks as if interest has been renewed in the potential of Asia. Rekha Menon reports.

4

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Market Leader PENSIONS IN CRISIS

Calling time on defined benefits In Germany, in October 2005 state funds were unable to meet the month’s state pension payment by an estimated €450m. The crisis in pension provision in Europe and the US is now real and growing. Similar problems abound at corporate level too and press reports often highlight the burdens placed on UK companies struggling with the mounting cost of pension commitments. They have been likened to ‘zombie companies’ fighting to pay pension costs, unable to expand and too toxic to be taken over. Who is going to pick up the additional costs associated with pension provision for aging populations – will it be governments, companies or the individual? Michael O’Brien, managing director and head of institutional business at Barclays Global Investors (BGI) discusses the options ahead.

use the second model, which has significant cost implications. From Figure 2 we gain some appreciation of the current commitments made by various European states in terms of promised pensions expressed as percentage of individual average lifetime earnings. What you see is the gulf between what the US and UK governments have promised (in the region of a flat pension increased in line with inflation). This equates to approximately 40% of career average earnings. Meanwhile, the Italian and Traditionally, pension provision is Spanish governments have promised OTH GOVERNMENTS AND corporations face sharply configured on three pillars: state pensions equating to almost 80% of increased costs in meeting their pensions, company pensions and career average earnings. There is, in pension commitments. On average, in independent provision by individuals. fact, little that the US and UK the Organisation for Economic There are two separate approaches to governments need to do in terms of Cooporation and Development state provision: one being the belief balancing their books. Although (OECD), government expenditure on that the state should deliver a without some form of review, UK pensions is forecast to rise from sufficient pension to provide a safety pensioners will be among the poorest approximately 5% of gross domestic net to keep pensioners out of poverty. in Europe. The recently released product (GDP) to around 8% by 2050. The other approach posits that the Turner Report in the UK addresses At the corporate level, the UK state pension should ensure that this issue and recommends the provides a microcosm of a wider pensioners’ quality of living is creation of a new National Pension problem: the total deficit across the continued into retirement. The US and Savings Scheme, into which people top 350 UK companies is in excess of the UK subscribe to the first model, will be automatically enrolled and £90bn – equivalent to over 5% of while most European governments mandated to pay a minimum level of contribution. Elsewhere GDP. While the US and in Europe, the choices are European pension systems Figure 1: The ratio of pensioners to workers less easy. One option is to are not homogenous, there 2050 2000(Germany All Maturities) increase tax or social are some common factors.

70 security contributions, For one, their populations 60 another is to cutback on are ageing. Figure 1 clearly 50 social programmes, but shows the ratio of pensioners 40 these tend to be a last to the working population is 30 resort. The pre-funding of rising significantly, from 20 some of the state pension under 30% for Italy in 2000 10 liabilities out of current to a huge 65% in 2050, and 0 GDP or privatisation which takes us from three windfalls is another workers supporting each option and one adopted pensioner today, to 1.5 Country

by Ireland, Sweden, workers supporting each Norway and France. pensioner in 2050.

Source: OECD November 2003 UK

United States

Switzerland

Spain

Sweden

Poland

Portugal

Norway

Netherlands

New Zealand

Italy

Japan

Ireland

France

Germany

Finland

Denmark

Austria

6

Belgium

Old-age dependency ratio (%)

B

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Market Leader PENSIONS IN CRISIS

%

Ireland, for example, is committed to expected that the cost of financing the consider that on average across the directing 1% of GDP to a central UK state pension will fall by almost 1% OECD countries, the cost of financing reserve that will meet the pay as you by 2050 from approximately 5% of GDP state benefits is expected to increase by go (PAYG) state shortfall predicted in currently, as a result of the fact that it is around 5% over the next 50 years. the mid-2020s. Amending the terms inflation rather than earnings linked. Spain, unlike Italy, has made little of the retirement promise, such as On the other hand, Italy is currently change to its state benefits and can expect the costs to increase retirement ages or indexfrom about 9% of GDP per linking, is another route Figure 2: Government spending on old age pensions annum to over 17%! and one that Italy has Gross replacement rates Figure 4 meanwhile taken. It has turned what 120 shows the changes in the was a state defined 100 funding levels of the benefit (DB) promise average corporate into an effective 80 pension plan in a number defined contribution (DC) 60 of countries. For example, arrangement, and now over the period 1 January links pension payments to 40 2000 to 1 July 2005, the contributions paid, the rate 20 funding level of the of GDP growth over the average UK pension plan life of an individual and the 0 fell by 40%.

As life expectancy of the mentioned earlier, the individual’s retirement. total funding shortfall France, meanwhile, has Country across the top 350 UK taken yet another route Source: OECD “Pension markets in Focus” report, June 2005 companies is in excess of and shifted responsibility £90bn, with the deficits to the corporate sector and across the top 100 UK to individuals through Figure 3: Government spending on old age pensions companies now in excess a combination of of £70bn. The situation is compulsory contributions the same in the US, with and/or tax incentives. the burden increasingly Against this background placed on the Pension of varying appetites for Benefit Guaranty change across Europe, Corporation (PBCG), Figure 3 sets out the current which now has a deficit state of play in terms of the of $25bn. cost associated with the At a time when current commitments to companies are coping with financing state promises. We 0 5 10 15 additional accounting, then roll the clock forward Cost per annum as a % of GDP in 2000 The change in costs between 2000 and 2050 actuarial and regulatory to see what the impact of an requirements, how are ageing population means Source: OECD, November 2003 they responding to the for these costs, bearing in mind the changes these governments committed to paying a whopping 14% burden of responsibility being placed have made to their state pension of GDP per annum. Based on the on them to provide for retirement? In promises. What you see at the bottom of changes it has made to date to the relation to existing DB promises, most the chart is the low level of financing nature of its pension promise, the companies have now started to commitment required from the US zand research undertaken by the OECD manage the risks inherent within their UK governments (less than 5% of GDP indicates that the actual costs of existing plans and introduce DC per annum). We also see the limited financing the state pension will fall by arrangements for new employees. impact that the population ageing will almost 0.5% by 2050. This fall may not Indeed, in certain circumstances DC have on these costs. For example, it is seem large, but it is significant if you plans have been introduced for Luxembourg

Turkey

Greece

Spain

Italy

Austria

Hungary

Netherlands

Portugal

Sweden

Finland

Korea

Switzerland

Poland

France

Iceland

Norway

Japan

Slovak Rep

Germany

Czech Rep

Denmark

Canada

Belgium

Australia

US

New Zealand

UK

Mexico

Ireland

Italy

France

Germany Poland

Austria Spain

Sweden

Belgium

Czech Rep Finland Japan

Denmark

Netherlands Norway

United States UK

-4

8

-2

0

2

4

6

8

10

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05

05

1-

-0

07

04

1-

-0

01

04

1-

-0

07

1-

-0

01

03

03

1-

-0

07

02

1-

-0

01

02

1-

-0

07

1-

-0

01

01

1-

-0

07

Country

01

-0

1-

01

existing employees. Examples include, unprecedented with both governments shift in the UK and the Netherlands. In IBM in the US and Rentokil in the UK. and companies moving in this direction the UK for example, over 80% of all DB In relation to this increased focus to mitigate costs increases. Figure 5 plans are now closed to new employees on risk management, often referred shows the percentage of members of and the new trend of closing these to as the move to liability driven corporate pension arrangements that schemes for existing employees is investing (LDI), the pension plan are now effectively in a DC gathering momentum.

Towards the bottom of investment policy is the chart, we see that in developed with the Figure 4: Shifting the burden to the corporate sector Eastern Europe not only scheme’s own forecast 130% are corporate schemes benefit payout cash flow 100% as of January 1, 2000 120% being set up on a DC profile as the benchmark. basis but so are the This is a significant trend 110% government state pension in Europe, primarily in the 100% structures.

From major DB countries such 90% discussions BGI has had as the UK, Switzerland, 80% with various the Netherlands, 70% governments, it is clear Denmark and Sweden. that they have no The most noticeable 60% intention of establishing impact of the shift to LDI 50% DB promises for their is an increasing demand populations and suffering for bonds. A recent study Australia Brazil Canada Euro-zone Japan UK US the pain currently being

by Goldman Sachs looked experienced by other at the potential impact of Source: Towers Perrin HR Services, February 2006 European governments.

US and UK corporate In final summary, pension plans hedging governments are at 50% of their interest rate Figure 5: The demise of the DB arrangement varying degrees of exposure through the use Belgium readiness in relation to of fixed income securities.

Netherlands Germany coping with their ageing Respectively, this shift Japan UK populations. The current would require four and 17 Luxembourg Finland crisis in pension times the US and UK Ireland France provision relates only in governments’ annual Sweden Greece part to government bond issuance. The final Denmark Portugal financing commitments option available to plan Korea US and corporate funding sponsors is to close their Austria Spain levels. It is a situation that DB schemes and establish Italy Iceland is being mitigated to an DC arrangements. In the Slovak Rep Poland extent through the shift UK for example, based on Hungary Czech Rep to DC at both a recent Mercer study 0 10 20 30 40 50 60 70 80 90 100 government and across the largest 100 DB Total members (in %) corporate levels. companies, only 30% of DC However, the real crisis is companies still offer their to be found in the employees a DB scheme.

Source: OECD June 2005 associated ‘expectations’ In addition, over 40% and in the offer new employees a DC arrangement. Even in countries mismanagement among the arrangement and 10% offer only a renowned for their DB culture and misunderstanding heritage, such as the Netherlands and average person on the street. The DC arrangement This shift to DC is widespread. In a the UK, we are now seeing an most likely outcome is a reduction in manner not that dissimilar to the US, accelerated shift to DC. In fact, the chart the overall level of pensioner welfare the shift to DC in Europe has been actually understates the extent of the in retirement in the future.

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Market Leader ADR ISSUANCE

The post-SOX challenge for ADRs The appetite for foreign listings in the United States is still rising. In October 2005, Standard & Poor’s (S&P’s) investment policy committee raised its recommended international stock allocation to 20% from 15%. Back in August the same year JP Morgan Private Bank boosted its suggested holdings of foreign stocks to around 33% from 20%. With the continued growth of investment and trading activity in non-US equities, companies need to think beyond the direct costs of complying with the Sarbanes-Oxley Act (SOX) of 2002 when making listing or de-listing decisions in the US market. They should be evaluating the overall benefits of having a presence in the US markets, which include the potential for higher valuations as a result of being a US exchange-listed issuer, as well as the positive investor perception of compliance with SOX writes Patrick Colle, global head of ADRs at JPMorgan.

HE US MARKET continues to provide abundant depth and liquidity for foreign issuers. As of the third quarter (Q3) of 2005, US investment in non-US equities was worth approximately $2.82trn, representing approximately 15.8% investment in non-US issuers (please refer to Figure 1) and demonstrates an overall trend toward higher investment in foreign securities. Similarly, trading volume on US exchanges for ADRs is at record levels, with trading volumes of 41.43bn shares for 2005 exceeding last year’s volume of 41.3bn shares traded.

While direct costs of complying with SOX can be substantial, a presence in the US market can be critical to the global equity strategy of many non-US companies. For foreign companies that are already listed on a US stock exchange or are considering being listed, it is important that they work with partners that continually monitor market trends such as investment activities and trading volumes, as well as events that could have an impact on

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issuer clients and the depositary market. Leading depository banks are keeping a close watch on the impact of SOX on non-US companies that are either contemplating utilising the US markets or re-evaluating their commitment to them.

Although costs can vary from company to company, a recent study by law firm Foley and Lardner (quoted in the Wall Street Journal) calculated that the average audit bill for an S&P SmallCap 600 company (average revenue of $825m) was around $1m.

Comparable costs for an S&P MidCap 400 (average revenue of $2,125m) were $2.2m. It is reasonable to expect, however, that compliance costs will diminish over time, since, for many companies, a large component of their SOX expenditure consists of one-time initial costs associated with documenting, assessing and upgrading their internal financial controls.

Although the costs of listing have stirred a healthy dialogue, the measurable impact in terms of new

ADR issuers coming to market and US exchange de-listings is moderate to date. Issuers that have de-listed have significantly less activity in their ADR and local programmes compared to listed companies. Of course, it is important to bear in mind that the cost of compliance is just one of many reasons why a company may choose to de-list or not have a presence in the US markets. However, there has not been a significant upturn in de-listings in either 2004 or 2005. Some 13 de-listings took place in 2004 and 15 de-listings in 2005 – compared with 21 in 2001, 10 in 2002 and 15 in 2003 (please refer to Figure 2).

Likewise, de-listed issuers had 50% smaller market capitalisations relative to listed companies. It is notable, however, that there was a significant decrease in listings from 2000 to 2001 due in part to the end of the internet boom.

New listings, meanwhile, on the major US exchanges by foreign companies have remained strong over the half decade. Twenty-four new listings were recorded in 2004 and 20 listings in 2005, compared with 34 in 2001, 20 in 2002 and only 12 in 2003.

But the fact is that non-US issuers are increasingly raising capital elsewhere, through Global Depositary Receipt (GDR) listings for example, that are not in fact listed on US exchanges. In 2004 and 2005, for example, around 49% of capital raising, including initial public offerings (IPOs) as well as secondary offerings, was done in the form of GDRs, compared to 27% in the years 2001, 2002 and 2003. This trend is driven, in large part, by the recent surge of Asian companies looking to raise capital abroad. Of course, given the status of the US market as the largest and most liquid in the world, the longer-term impact of this trend is still being investigated.

Additionally, there may be an incremental future impact because internal financial control report

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notch.

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Market Leader ADR ISSUANCE

requirements under SOX will begin to apply to foreign issuers during 2006.

It is important to note that the US Securities ans Exchange Commission (SEC) recently proposed rule changes that would give foreign private issuers with limited investor interest in the US more flexibility to withdraw from the reporting requirements of the Securities Exchange Act of 1934. The rule changes are being commented on currently, and the market reaction remains to be seen.

Figure 1: Capital flows: US investment in foreign equities (ADR and local shares)

Benefits of compliance

60

SOX

Level of foreign investment – US investment in foreign equities (ADR and local shares), 1980 to 3Q 2005 Market value, foreign holdings ($bn)

% foreign portfolio

$3,000

$2,821 16%

$2,547 $2,524 $2,520

2,500

$2,189 $2,193 $2,170 $2,004

2,000

10% $1,661

$1,613 $1,475 $1,208

$1,516

8%

$1,375 $1,270

6%

$1,003

1,000

12%

$1,958

$1,853

1,500

14%

$777

4%

$628 $544

500 $95 $129 $19 $17 $17 $26 $26 $44 $72

0

$197 $198

$279 $314

2%

0% 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 1Q03 2Q03 3Q03 4Q03 1Q04 2Q04 3Q04 4Q04 1Q05 2Q05 3Q05

Source: Federal Reserve, December 2005

Figure 2: Listings and de-listings by non-US issuers on major US exchanges

requirements should ultimately result in improved operational efficiency.

Similarly, compliance with provisions relating to disclosure controls and procedures should improve the accuracy and timeliness of information flow within the company and thereby increase efficiency. Additionally, inefficiencies and redundancies in the control process itself can be eliminated or reduced as a result of SOX compliance.

SOX likely to evolve.

Over time, experts Listings De-listings believe that some further There are significant 40 reform of SOX legislation benefits to complying with is inevitable. Although SOX, particularly as part of 30 companies will still be a US listing. In a recent 20 required to hold strong survey of JP Morgan’s issuer corporate governance clients, over two-thirds said 10 standards, it is likely that that maintaining their 0 regulators may, in future, depositary program was a 2000 2001 2002 2003 2004 2005 reduce some of the direct key component of cost on issuers. There are enhancing their company’s Source: JPMorgan, Bloomberg also concessions being visibility, status and profile in the US and international markets, including exchange-listed and 144A made in the short-term. For example, particularly as part of their strategy to programs – relative to non-cross border the SEC has, on several occasions, globalise and generate more exposure. programs.This premium rose to 31% for delayed the implementation date for While almost all of our exchange- exchange-listed companies, implying internal control reports. Currently, listed issuers are bearing higher costs that investors do value US exchange- both US and foreign companies with a as a result of SOX, around half have listings and the associated benefits, such public float of less than $75m are not mentioned the positive perception as compliance, accounting standards required to deliver internal control associated with complying with more and transparency of information. reports until their first annual report stringent regulations as part of the Studies have also concluded that a relating to a fiscal year ending on or evolution to becoming a more global valuation premium exists for companies after July 15, 2007. For larger US company. In fact, some GDR issuers with good corporate governance companies with a public float greater are complying with more stringent practices. Additionally, there is evidence than $75m the internal control report regulations even though they are not that higher credit ratings are given to requirement has already taken effect. well-governed companies, resulting in a Larger international issuers are not required to do so. required to provide an internal control A recent research study conducted at lower cost of borrowing.

By reducing the risk of fraud and error report until their first annual report the University of Toronto and Ohio State University found a 14% valuation and improving the quality of financial relating to a fiscal year ending on or premium for cross-border programs – reporting, internal financial control after July 15, 2006.

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In the Markets

The UK’s Combined Code on Corporate Governance says that directors should “set the values and standards of the company and ensure that it meets its obligations to shareholders and others”. The problem is, the Code provides little detail on how exactly boards are expected to exercise direction and control on this issue. Dr. Craig Mackenzie, head of investor responsibility at Insight Investment explains the key findings of Rewarding Virtue: a new report resulting from 12 months of research and analysis, sponsored by the UK’s Business in the Community, FTSE Group and Insight Investment into the proper role of boards in providing governance for corporate responsibility.

EWARDING VIRTUE ARGUES that corporate responsibility is a precondition for sustainable long-term value creation. Corporate responsibility standards are backed by a powerful system of incentives and sanctions that change the shape of markets and create material opportunities and risks for companies, including laws, regulations, taxes, subsidies, licences, fines and marketbased instruments. Getting corporate responsibility wrong can be very costly—as the shareholders of Enron and Parmalat now know. Research shows there are powerful social rewards and sanctions associated with ethical standards. Acting responsibly generates trust, loyalty and goodwill among customers and employees, business partners and other stakeholders.

Corporate irresponsibility, on the other hand, can result in disapproval, damage to customer loyalty, loss of brand equity and a tarnished reputation. For these reasons, corporate responsibility is a fundamental ingredient of sustainable long-term business success.

Corporate responsibility sets the terms of an implicit contract between companies and society. This contract is a foundation of the free market system.

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It establishes the shared expectations on which people place their trust in companies and sets the ground rules within which companies compete legitimately to provide goods and services. People often misunderstand corporate responsibility. Some define it, mistakenly, as voluntary action beyond the requirements of the law.

But this is only the tip of the iceberg.

Corporate responsibility is also part of the law, its ethical principles shape legislation and regulatory guidelines.

Pressures and temptations Companies typically have little difficulty in behaving responsibly when markets reward them for doing so. But where market incentives are poorly aligned, the temptations and pressures to behave irresponsibly can be strong. It can lead companies and employees to act irresponsibly. The most obvious source of unwelcome pressure is market failure, which creates temptations for companies to adopt short-term, irresponsible, profit–maximising strategies and, in doing so, breach corporate responsibility standards. But external forces are not alone in leading companies astray. An organisation’s

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SHAREHOLDER VALUE

Above board: how to deliver corporate responsibility

own culture, its objectives and performance targets, even its incentive schemes, can create pressures for executives and staff to behave irresponsibly. Often, the benefits of behaving irresponsibly are more apparent than real, because over the long-term they are frequently offset by larger costs in terms of lost trust, loyalty and reputation, and regulators’ sanctions. The powerful rewards and penalties that support the corporate responsibility contract can deter irresponsibility, but only if they are understood and given due weight in decision-making in the short term.

Corporate responsibility and value creation New research in economics reveals that people show strong behavioural dispositions to value and reward responsible behaviour. This matters to value creation. There are good reasons to expect customers, employees, business partners and others to reward responsible behaviour with loyalty, commitment and advocacy. In fact, intangible factors such as these can be powerful long term value drivers for companies and because of this corporate responsibility deserves to be a part of companies’ basic value propositions.

Where corporate responsibility principles are incorporated in regulation, legal sanctions will support and enforce responsible behaviour. In turn, corporate responsibility is of central importance to value creation and a duty of the board. The UK Company Law Review accepts this conclusion, according to a Company Law Reform White Paper published by the Department of Trade and Industry in 2005. It acknowledges that directors have a duty to behave responsibly and respect the interests of others, as an enlightened way to create long term shareholder value. The Company Law

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In the Markets SHAREHOLDER VALUE

Reform Bill also accepts this conclusion and if the current wording of the bill is enacted, directors will have a duty to take into account the interests of stakeholders, the company’s social and environmental impact and its reputation for integrity.

Where the penalties for irresponsibility are smaller than the benefits that can be got from exploiting market failure, enlightened business practice may be at odds with directors’ duty to create shareholder value. But, this is where the idea that corporate responsibility is a binding contract matters most. As the Economist recently put it: “managers ought to behave ethically as they pursue the proper business goal of maximising owner value—and that puts real constraints on their actions … acting within these constraints advances the aim of the business, just as individuals find that enlightened self-interest will clash with ethics, and when they do, those aims and interests must give way.”

The point of the implicit contract is to constrain the pursuit of harmful selfinterest to secure mutual advantage over the long term. While shareholders have every right to expect directors to serve their interests, they do not have a right to expect directors to lie, cheat or neglect the interests and rights of others to do so. Companies enjoy considerable privileges and protections that society has conferred on them— including limited liability protections for shareholders. It is therefore not unreasonable for society to expect that they meet the basic standards of responsible behaviour necessary to protect the public interest.

The board’s job Effective governance from the board is essential if companies are to reap the long-term rewards for responsible behaviour. Boards are in a unique position and have a decisive role to

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play, both in removing unhelpful pressures and temptations, and in reinforcing the rewards and penalties that support responsible behaviour.

The role of boards is to govern; not to manage. The board should set boundaries and controls, recruit and motivate talented executives and oversee their operation of the business. Effective governance from the board is essential for companies to reap the long-term rewards for responsible behaviour and resist the pressure and temptations that can lead companies astray.

If boards fail to play this role effectively, they run the danger of significantly increasing the risks of irresponsible corporate behaviour, particularly so when they operate within market-failure situations where pressures and temptations are likely to emerge. As the report’s recommendations indicate (see below), boards can do this work both through decisions about strategy and interactions with regulators, and through its leadership and control of the business. Board should: • Set values and standards that clearly outline standards in corporate responsibility that will guide board decisions and the behaviour of executive management and staff.

• Think strategically about corporate responsibility, understand the problems in markets and design a business model that avoids them.

• Be constructive about regulation, supporting both selfregulation and government intervention to correct structural problems in markets.

• Align performance management: reward responsible success over the long-term, and not just meet financial targets over the short-term.

• Create a culture of integrity: set the right tone at the top and cultivate the right values in the corporate culture.

• Use internal control to secure responsibility: safeguard the company’s standards with robust internal audit and control systems.

The key to effective board action then lies in understanding and managing the incentives that cause unhelpful temptations. It is not simply about financial incentives. It also includes factors which motivate behaviour, such as recognition, status, career progression, disciplinary sanctions and the intrinsic satisfaction of a job well done. If people believe that responsibility will be rewarded — in these broad terms, they are likely to act accordingly.

A final element is reporting. Boards should report on company approaches to corporate responsibility to ensure shareholders understand the link between corporate responsibility and the company strategy. Second, shareholders have an interest and a role in monitoring the board’s effectiveness at governing the company. Third, a basic element of corporate responsibility is that companies make themselves accountable for their actions.

Reporting on corporate responsibility is, perforce, at an early stage. There are now efforts underway to define the principles of good reporting; it is a valuable exercise given that there are no legal standards for the verification of non-financial reporting, nor is there yet a consensus on the organisations best suited to provide this consensus.

The inevitable conclusion is that even though the debate about effective governance of corporate responsibility and resulting shareholder value is still in a nascent phase, it warrants serious and purposeful thinking.

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PRIVATE BANKING

Giving weight to private banking

Despite its long history and asset size the private banking sector is one of the last segments in the financial industry to have a dedicated and comprehensive investment performance measurement system. In a new initiative, FTSE Group and the Private Banking Index Ltd (PriBIL) have joined together to provide a new benchmark solution that will allow both private banks and their clients to measure the investment performance of private portfolios.

FTSE and PriBIL, the London based wealth management investment solutions company, have joined to provide a new index series based on the performance of the private banking sector. The FTSE Private Banking Index Series provides a benchmark that allows both private banks and their clients to measure the S FINANCIAL MARKETS absolute and relative performance of continue to improve and private portfolios. The index series, in liquidity fuels global wealth, which each index is absolute return private banks are enjoying a period of based, provides a choice of 12 indices sustained and stable growth. Their long offering three levels of risk appetite term success will depend on their ability among four reference currencies. The to deepen the range of investible indices provide a retrospective products that they offer to their clients investment return band based on and ensuring high levels of service and objective measurements applied over performance. With assets under the preceding 12 month period. Index management rising, virtually all private returns are available both as a banks have reported significant rises in traditional cumulative index and on a profits over the last four years. A key rolling 12 months basis. trend over the recent period has been The move to launch these indices is increasing specialisation in product timely. The private banking industry offerings by private banks as they have itself has undergone a comprehensive realised that one size does not fit all transformation over the comers.

Citigroup and last twenty years. Private Northern Trust, for example, USD Medium Risk Index banking is now a major concentrate on the top end of 35 investor in structured, the market, whereas HSBC 30 complex derivatives employs a two-pronged products and in approach that services both 25 alternative investments the top end, whereas its“mass 20 such as real estate, hedge affluent” clients are offered 15 funds and commodities.

HSBC’s Premiere service.

10 The sector has become, In a market then of 5 according to PriBIL growth and growing 0 managing director David complexity, the question for Offen,“a standard bearer high net worth individuals, of both multi-asset or institutional investors Low Risk Medium Risk High Risk investment and absolute then that want to leverage return investments.” the private banking growth Data as at 31 Dec 05. Source: Private Banking Index Limited

FTSE GLOBAL MARKETS • MARCH/APRIL 2006

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story is: how do you know how one private bank is performing against its peers? This is particularly true as the private banking sector spreads across the globe. Outside of established markets in the US and Europe, Asia and the Middle East now figure largely in the growth strategies of private banks. ABN AMRO Private Bank, for example, added 75 new staffers to its Asian network last year; while India’s ICICI has entered the private banking fray and hired over 300 specialist wealth managers.

Tradition has it that the private banking sector is characterised by service and discretion: discretion being the operative word. The notion that transparency and performance are somehow at odds in the private banking sector is however being challenged by an initiative that will throw valuable light on an industry hitherto apparently clouded in secrecy.

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Regional Review PRIVATE BANKING

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incorporates seven different According to Offen, US Dollar Cumulative Indices groups of asset classes— every private bank has 125 including foreign exchange developed individual as an overlay strategy— investment approaches 120 which are then further and processes, sometimes 115 subdivided into 40 asset defined by location, the classes.” Each [sub] asset structure of its client base 110 class is represented by a well or because it offers accepted index and the specific expertise. No one 105 weighting of each [sub] private bank is similar to 100 category in the index is another and clients more dependent on the combined often than not, he asset allocation bandwidths maintains, chose their Low Risk Medium Risk High Risk provided by member banks private bankers based on that report to PriBIL. a perceived “match Data as at 31 Dec 05. Source: Private Banking Index Limited Scheepe expands on the between their required index any number of theme: “The results, based on historic service philosophy and investment the objectives and that of the private combinations of the major currencies tests, demonstrate not only absolute bank.” He continues; “we expect used in private banking investments return characteristics but also attractive investment products to be launched on against higher or lower risk returns which are consistent over time the back of the indices, as well as being investment strategies.” The index with relatively low volatility. Offen says useful to both private banks series produces a range of returns that the simulation models used by themselves, and high net worth determined by asset allocation input PriBIL incorporate a minimum, from private banks maximum and the mid-50th percentile individuals, as they seek to find ways to received measure the performance of individual themselves and actual market returns of potential achievable returns for any particular investment strategy over a 12 from underlying asset classes. banks against the benchmark.”

According to Offen,“the index series month rolling period.

PriBIL has established a database of some 35 leading private banks from more than ten different countries.

Each bank has provided PriBIL with detailed information on their asset allocations. “The banks represent some over $1trillion in assets under management,” explains Offen, Emerging Markets Report provides a comprehensive overview of the “thereby providing an optimum cross principal deals, trends, opportunities and challenges in fast-developing section of the market against which markets. For more information on how to order your individual copy of investors can measure the performance of their own private Emerging Markets Report please contact: bank.” “Banks can leverage it to highlight their individual style of asset management and performance for the Paul Spendiff portfolios of their clients”, continues Tel:44 [0] 20 7074 0021 Roy Scheepe, director of marketing.

The index series takes into account Fax:44 [0] 20 7074 0022 four different reference currencies Email:paul.spendiff@berlinguer.com (including US dollars, Euros, Sterling and Swiss Francs) and three investment styles, which are designated as being either low, medium or high risk.“It gives users of

Avoid nasty little surprises!

16

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Face to Face EUROPEAN SETTLEMENT: CRESTCo

RAISING the LEVEL of EUROPEAN SETTLEMENT

Tim May, chief executive of CRESTCo, Photo supplied courtesy of Euroclear, February 2006

FTSE Global Markets met with Tim May, chief executive of CRESTCo, a wholly owned subsidiary of Euroclear SA/NV and the central securities depository (CSD) providing real-time securities settlement services to the UK, Irish, Jersey, and the Isle of Man and Guernsey securities markets via the CREST system. The discussion was wide-ranging: encompassing Euroclear’s Single Settlement Engine (SSE) project and CRESTCo’s recent central counterparty (CCP) initiative with the Irish Stock Exchange (ISE).

This year is the tenth anniversary of CRESTCo, as it moves towards further integration within the Euroclear group. May waxes lyrical about the competitive challenges facing clearing and settlement in 2006 and beyond. “

E ARE TRYING for a revolution in European securities settlement,” says Tim May, CRESTCo’s chief executive.

It is a heady time for CRESTCo. Part of the Euroclear group, it is smack in the middle of a new settlement infrastructure consolidation programme: that is, the second phase of the SSE—the backbone of the Euroclear group’s business model for the future – when CREST will migrate to the SSE in the third quarter of

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2006. “Migration to the SSE,” says May, “which is due to be fully implemented by the end of 2006, will be invisible to the UK and Irish markets. However, as we complete consolidation of all Euroclear group systems, including CREST, onto a single platform in 2009, there will be changes that will affect the UK and Irish markets. Clients will be able to offer many new services, as we make cross-border settlement cheaper and more efficient.”

FTSE GLOBAL MARKETS • MARCH/APRIL 2006

The SSE will perform the core transaction-processing function for the Euroclear group entities. In the longer term, it will provide the basic infrastructure to process transactions between all Euroclear group clients, to be settled as internal book entries (as opposed to cross-system settlement), irrespective of which group central securities depository the counterparties use. Since it is the CREST system itself that will connect to the SSE, there will be no change in system architecture or communication interface for CRESTCo clients at this time. However, as the Euroclear group moves to a single platform and as market practices are harmonised across Europe, there will be ongoing changes in all markets.“As well as the necessary technical integration, market practices need to be harmonised as much as possible,” continues May, “In order that we can deliver these projects in the most client-focused manner, an intensive

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Face to Face EUROPEAN SETTLEMENT: CRESTCo

market consultation programme is for securities traded on the order book against the CCP. As well, the CCP underway. In addition, the day-to-day of the ISE was launched by CRESTCo delivers reduced counterparty risk as CREST service continues to evolve in partnership with the ISE, and participants have reduced exposure to through the implementation of Eurex, the CCP partially owned by counterparty default as the CCP is guaranteeing the Deutsche Börse (DBAG), and is the effectively enhancements and improvements.”

The SSE will process trades from culmination of a joint initiative which settlement of all eligible trades.

In a broader perspective though, clients of CRESTCo, Euroclear Bank commenced in February of last year.

DBAG has been hosting the ISE’s May acknowledges that the Irish CCP and Euroclear France. Once the SSE is fully operational, it will serve as electronic trading system, ISE Xetra, is but one of a handful of projects the foundation to achieve the since 2000, while CRESTCo is the involving CRESTCo and is but a part Euroclear group’s next milestone, central securities depository for Irish of Euroclear’s broader European which is the launch in 2007 of the and UK equities, and has provided initiatives: the major components Euroclear Settlement for Euronext- settlement services to the Irish equity being platform consolidation and zone Securities (ESES) platform. market since 1996. The clearing and market-practice harmonisation. “The ESES will offer a single platform, settlement services offered by SSE is the first major step towards the together with harmonised market CRESTCo for the ISE are similar to introduction of our Business Model rules and practices, for all fixed- those currently supplied by it for both for Europe,” explains May,“which will income and equity trades in the London Stock Exchange and virt-x reduce infrastructure fragmentation Belgian, Dutch and French markets. trades, explains May. Only trades and save the market about £200 It will coincide with Euronext’s executed on the ISE Xetra order book million per year.

The complex nature of these Single Order Book concept for both in Irish equities and exchange traded local and remote Euronext members. funds (ETFs) will be eligible for the significant developments means that from time to time “we will The Belgian and Dutch introduce an application markets will move onto “The SSE is the first major step towards change freeze to the CREST ESES in 2007 rather than the introduction of our Business Model for system, for example, from the SSE in 2006. early May to late August Ultimately, the Euroclear Europe,” explains May, “which will reduce 2006,” says May, that will group of international infrastructure fragmentation and save the “minimise any late changes and national central market about £200 million per year. impacting the new SSE securities depositories system or related group will operate as a single domestic market, where cross- new CCP. “Firms can also opt for projects like our multiple data centre border settlement will no longer settlement netting, reducing collateral project. Nevertheless, we have definite plans to move ahead with our ongoing exist. “It is a substantive and settlement costs,”he adds.

“Experience in other markets programme of enhancements to the undertaking, working technically across five countries and with the internationally has shown that CCP existing CREST service.”

Due soon is the result of a rest of Europe to harmonise market arrangements enhances liquidity for practices, that will ultimately investors,” says May,“and at the same consultation exercise with settlement provide a true cross-border time reduces risks (such as banks on the central bank money counterparty credit risk) and provides model for the Domestic Service to be solution,” says May. Closer to home, May notes the increased efficiencies in post-trade offered to all Euroclear group CSD impact of the recent launch (on 5 processing and treasury management. markets that was issued in June of December 2005) of CRESTCo’s CCP In particular, order-book transactions last year and which will close in early service offering for Irish equities, which remain anonymous, even during March. The consultation focuses on “also has the potential for increased settlement.” A CCP introduces post- the way in which securities accounts trade anonymity because the member and central bank money positions straight-through processing.”

A CCP is a well-capitalised entity firm submitting an order will be will be dealt with on the Euroclear single platform. The that becomes buyer to every sale and unaware of the identity of the group’s seller to every buy for eligible trades in counterparty on the other side of the proposed harmonised model for a particular market. The CCP service trade as all trades will be settled Sterling (as for the Euro) is based on

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Face to Face EUROPEAN SETTLEMENT: CRESTCo

a single central bank money account before netting,” explains May. operating officer of the private client (structured on the integrated model). CRESTCo will also reduce the annual investment management firm Gerrard Many other market consultation member-account charge to £1 for all Limited, although he was intimately processes are also underway, member accounts, irrespective of familiar with CRESTCo having served covering issues such as primary volumes (compared with today’s as board member of both Euroclear market issuance, physical securities, practice of charging £5 for each Bank and Euroclear plc, and had been a securities financing and settlement member account, which falls to £1 long serving board member of windows, securities reference data only after 5,000 accounts); and CRESTCo itself. He continues to lecture increase its tariff for corporate-action from time to time, primarily in the UK and reorganization events.

To further optimise settlement processing by about £1m to cover securities marketplace on a wide variety performance, CRESTCo plans to CRESTCo’s costs to offer this service. of topics. May officially joined extend its automatic splitting “These restructured tariffs will enable CRESTCo as chief executive in June of functionality to all CREST members in our clients to grow their business with 2004, taking over from Hugh Simpson a single phase scheduled for May 2006. even lower post-trade processing who had served in the post since 2000.

Automatic splitting of unsettled costs. As SETS trading volumes Contemporaneously, May is also a transactions was first introduced into continue to rise on the London Stock board member of the Association of CREST in 2002 as part of the Exchange (LSE), and as algorithmic Private Client Investment Managers settlement netting functionality for trading and Direct Market Access and Stockbrokers (APCIMS).

May concedes that when CCPs, in order to he joined CRESTCo as chief increase settlement In a broader perspective though, May executive, there was efficiency and minimise acknowledges that the Irish CCP is but inevitably a period in which the risk of a CCP holding one of a handful of projects involving he had to not only ensure securities overnight. that the Euroclear corporate For May, it is not CRESTCo and is but a part of Euroclear’s culture and brand values enough to provide an broader European initiatives were woven into those of increasingly harmonised CRESTCo, but his own service; for the system to work best it has to assure lower costs. increases, CRESTCo’s wholesale, executive tenor was fully integrated As part of its ongoing review of custodian and retail clients will be into the CRESTCo business demeanor. competitiveness, last year CRESTCo able to reduce their marginal post- It was done carefully, with due attention paid to any dissenting voices. implemented two rounds of tariff trade costs,”he maintains.

The complexity of the tasks ahead for Armed with a pragmatic executive reductions, worth a combined £21m, with a reduction in tariffs worth £11m. CRESTCo calls for an attention to detail style, May acknowledges that the Then in mid-December CRESTCo and a way with numbers. May smiles at likelihood is high that his employees announced a further £10m of savings the suggestion; a silent hint perhaps at think his management style, though to be delivered to clients in a new the heaviness of the observation. May, ostensibly easy going, is invariably round of net tariff reductions that will in fact, has a long history of robust. “It was vital that we gave the come into effect at the beginning of implementing efficiencies since he ran integration process a feasible May this year. CRESTCo will be Citibank’s data-centres back in the timetable, to begin and to end; we gave restructuring its entire volume 1970s. Later he supervised the people the opportunity to oppose, but discount structure, introducing a new implementation of a CREST test site at within a properly managed forum,” he discount band which will reduce the private client stockbroker Carr explains. “I wanted to hear the cost of processing a gross transaction Sheppards. His commercial career problems, but I also was looking for to as little as 1p. “The new structure began at Chemical Bank, followed by people with an awareness of how to fix will better reflect the genuine cost seven years at Citicorp and later at the things within the overall context of the savings generated by increased usage stockbroking firm Scrimgeour Vickers group’s business plan; which we took of the CREST system. Accordingly, we Asset Management. Before embarking care to explain and ensure that will decrease our fee by more than on a career in finance, Dr. May was a everyone understood. We had a clear 60%, from 25p to 9p, to process an teacher for several years. Prior to vision with which to work.That made it electronic order-book transaction joining CRESTCo, May had been chief a lot easier.”

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Corporate Responsibility 2006: Emerging Risks and Evolving Responsibilities 13 - 14 March 2006, Chatham House, London

Organized by:

Key business leaders, NGOs, and government figures from around the World will gather in Chatham House in March to debate the evolution of Corporate Responsibility practice and trends. The meeting – the third in a series of consecutive conferences jointly presented by FTSE and Chatham House – will examine key areas where companies are facing increasing scrutiny in the global environment.

Key issues to be discussed include: • What are the current geopolitical trends in the development of Corporate Responsibility?

Speakers include: Paul Grimes, Chief Operating Officer, FTSE Group Malcolm Wicks MP, Minister of State (Energy), Department of Trade and Industry John Elkington, Founder and Chairman, SustainAbility

• What are the risks businesses face in corrupt environments, and what policies and actions should they adopt to mitigate that risk?

• In an international context, what is the role of company boards in the governance of Corporate Responsibility?

• How can companies manage their relationship with their labour forces in the context of varying international standards and practices (examples from China, USA and Japan)?

• What are the opportunities and strategies in addressing product and consumer responsibility issues?

• How can multi-nationals find markets in developing economies that can bring sustainable growth to both themselves and local communities?

For further information email dribeiro@chathamhouse.org.uk call +44 (0)20 7957 5753 or visit www.chathamhouse.org.uk/CorporateResponsibility

Dr Alan Knight, Head of Corporate Social Responsibility, SABMiller plc Georg Kell, Executive Head, UN Global Compact David Nussbaum, Chief Executive Officer, Transparency International

www.chathamhouse.org.uk/CorporateResponsibility

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Regional Review NORTH AMERICA: NEW FED CHAIRMAN President George W. Bush, left, greets the new chairman of the Federal Reserve, Ben Bernanke, right, after attending the swearingin ceremony at the Federal Reserve Bank, Monday, Feb. 6, 2006 in Washington. Also in attendance is former Chairman, Alan Greenspan, far right. Picture by: Pablo Martinez Monsivais. Photo supplied by Associated Press/EMPICS, February 2006.

Alan Greenspan left the Federal Reserve chairmanship, which has been described as the most important economic position in the world, when his current non-renewable fourteen year term as a member of the board expired. It may well have been a good time to go. Ian Williams explains why.

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Bernanke takes on the debt challenge LTHOUGH ALAN GREENSPAN has left a stillexpanding economy and the lowest unemployment rate for over four years, for someone who began his economic career as a believer in Ayn Rand and sound, gold-backed money, his tenure has left the United States collectively and individually steeped in unprecedented levels of debt.

His successor, Bernard Bernanke, has taken over just as all the accumulating instabilities and imbalances may begin to be too much for the American, and indeed the global, economy.

A

As a prophet Bernanke may be less satisfying than Greenspan, one of whose self-confessed characteristics was a cultivated obscurity of locution, which lent him an aura of infallibility.

For example, Greenspan famously referred to the”irrational exuberance”of equities as the Internet boom took off.

But the quotation is cited far more often than the fact that he did nothing to restrain it. However, when it did collapse, he ensured the easing of credit to ward off adverse economic effects.

In the same vein, last June he bookmarked the problem he left for his successor,“I think we have learned

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MARHedge 12th Annual Mid-Year Institutional Investment Conference May 7–9, 2006 The Palace Hotel San Francisco, CA Nothing has altered the alternative investment landscape in recent years more than the influx of institutional investment. As assets from pension plans, endowments and foundations have shifted into hedge funds and funds of funds, the structure of the entire industry is evolving to meet the unique requirements of these investors.

The MARHedge 12th Annual Mid-Year Institutional Investment Conference, May 7–9 in San Francisco, will focus squarely on the growing influence of institutional investors. What types of funds are these investors interested in? Which strategies attract them, and which scare them off? What can institutions learn from more experienced alts investors? What role should consultants and funds of funds play in the investment process—if any? What organizational changes do managers need to make to market to and service this client base? What can they learn from their counterparts in private equity and traditional asset management?

Drawing heavily from the Bay Area’s burgeoning investment community, as well from around the world, this conference will feature speakers from leading hedge funds and fund-of-funds; investment officers from pensions, endowment and foundations; investment consultants; and family and well as dedicated fund manager and investor tracks, our event will provide essential intelligence for professionals from all points of the industry.

During the conference, attendees will also enjoy ample opportunity to network with managers, investors and service providers alike-whether through golfing, wine tasting, cocktail parties or dining throughout San Francisco.

After three days at the MARHedge 12th Annual Mid-Year Institutional Investment Conference, attendees will meet the people defining the future of alternative investment, and have a clearer idea of their role in this brave new world.

For more information, please visit www.marhedge.com or contact Mark Salameh at +646.274.6268 or msalameh@marhedge.com

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Regional Review NORTH AMERICA: NEW FED CHAIRMAN

contradicting the received very early on in economic It may be significant that the fairy tale of wisdom of the markets. history that debt in modest Goldilocks and the Three Bears is a Although they sink their quantities does enhance teeth into different causes the rate of growth of an recurring theme in descriptions of the for a potential recession, at economy and does create state of the economy. Like Baby Bear’s the root of their bearish higher standards of living, porridge, the Fed has hitherto kept the concerns are the but in excess, creates very economy running neither too hot nor too imbalances generated by serious problems.” By the cold, but just right. However, it is worth the trade deficit with China end of that quarter, US remembering that in the original, and other Asian countries, households’ debt hit a and its consequent effects record $11.4trn after unbowdlerised version of the story, the on credit in the US. Soros is shooting up at the fastest bears eat Goldilocks. especially worried about rate since 1985, while they the US property bubble, spent a record 13.75% of not just in its own right but their disposable income on debt service. Second-guessing the and tends to assume that a rising stock because American consumers have gnomic Greenspan was always market means not only that all is well been using the increasing equity stake difficult, and it is no easier guessing with the world, but that it will remain in their homes to take consumer loans. which way Bernanke will take interest so. That optimism has to some extent Last year, 69% of Americans owned rates, or how far. “If I’m confirmed to been vindicated by the US economy’s their own homes, and thus had this position, my first priority will be to continuing success, although for inflating home equity to add to the maintain continuity with the policies example, the collapse of the Tech credit offers arriving in their mailboxes and policy strategies established stocks in 2002 should have provided daily. In fact, the Federal Reserve says during the Greenspan years,” empirical evidence that equity markets that home equity withdrawal hit no Bernanke, a graduate of Harvard, MIT are not necessarily an accurate gauge less than 7% of GDP in 2005, with around half of that spent on vacations, and a Princeton professor, promised of the state of the real world.

It may be significant that the fairy cars, and other consumer items. on his nomination.

At Davos this January Soros warned Bernanke is known to some as tale of Goldilocks and the Three Bears Helicopter Ben for his comments is a recurring theme in descriptions of that in 2007, when home prices stop some years ago, adapted from Keynes, the state of the economy. Like Baby appreciating, then the consumers are that to fight deflation he was prepared Bear’s porridge, the Fed has hitherto going to have to save more and to print dollar bills and drop them kept the economy running neither too increase saving. The consequent fall in from a helicopter. In the way of hot nor too cold, but just right. consumption will cause a recession, he reading the runes, some However, it is worth remembering that predicts. As he says, US consumption commentators now perversely expect in the original, unbowdlerised version is “such an important motor of the world economy that I don’t quite see him to become a hard-line inflation of the story, the bears eat Goldilocks.

The bears are certainly prowling what can take its place”. fighter, raising interest rates up to, and For Buffett, contrarian chief perhaps beyond, recession level, in about, growling, and predicting dark clouds on the financial horizon for the executive officer of the $28bn order to redeem his reputation.

However, Greenspan is a difficult act US – which in the present state of Berkshire Hathaway conglomerate, to follow, even though one cannot globalisation also means for the rest of the dark cloud is the US trade deficit help but suspect that luck had a lot to the world. Apart from the economists which ran at more than $700bn last do with it. The Federal Reserve is who see danger signals in the inverted year. He recently told business juggling multiple economic balls in the yield curve—lower long term than students in Nevada that “now, the rest air while inching its way on a tight- short term interest rates. They include of the world owns $3trn more of us rope, risking falling into a recession if it George Soros of the Quantum Fund, than we own of them. In my view, it does not keep all the balls in the air or and Warren Buffett of Berkshire will create political turmoil at some if does not put each step exactly right. Hathaway. They have made some of point.” He thinks the actual budget In public, Wall Street perennially the world’s biggest personal fortunes deficit is within permissible limits but suffers from Panglossian optimism, by getting these things right, usually by says of the trade deficit,“That’s $2bn a

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Regional Review NORTH AMERICA: NEW FED CHAIRMAN

the Fed is much more day. We are like a super Bernanke is known to some as flexible and pragmatic, rich family that owns a managing to send farm the size of Texas. You Helicopter Ben for his comments some reassuring signals to the sell off a little bit of the years ago, adapted from Keynes, that to markets while throwing farm and you don’t see it,” fight deflation he was prepared to print overboard the shibboleths he said. “If we don’t dollar bills and drop them from a of the finance world. change the course, the rest helicopter. In the way of reading the Notably, while for many of the world could own years the Non Accelerating $15trn of us. That is pretty runes, some commentators now Inflation Rate of substantial. That is equal perversely expect him to become a hardUnemployment invented to the value of all line inflation fighter, raising interest rates

by Milton Friedman was American stock. That’s the up to, and perhaps beyond, recession set at 6% and the Fed big danger.”He foresees “a level, in order to redeem his reputation. would raise interest rates, big adjustment.” in effect to put a damper However, the trade on the economy and surplus of China and other maintain unemployment, Galbraith Asian countries which has been prophecies will become self-fulfilling On the side of stability, the Chinese, points out that Alan Greenspan and recycled into US Treasury Bonds at a time when government deficit while they may have begun recycling the rest of the board have effectively spending would “normally” be their surpluses into T-bonds at least ignored it. Now that unemployment is pushing interest rates up, has partly for geo-political reasons, have way below that, with no visible effect produced the easy credit. Those flows been getting an increasing incentive on inflation, no one mentions it have allowed the Fed to maintain to continue doing so as the Federal anymore and as an economic term it rates at the low level that so many Reserve has nudged its interest rates has all the relevance of phlostigen in American homeowners have been upwards at fourteen consecutive chemistry. He expects Bernanke to be taking advantage of. Apart from meetings. Soros’ worry is that in this equally pragmatic. Galbraith is also raising the question of whether the intricate balancing act, an attempt by less concerned about the property Chinese Central Bank should be the Federal Reserve to restrain boom, which he points is out very taking the credit for the American housing inflation by raising interest sticky in a downward direction. economic boom rather than rates will precipitate a recession. Property princes deflate more slowly Greenspan, it adds even more However, the Fed also has to worry than they inflate. If people do not like instability into the system, as the about keeping the bonds interesting the current prices for their homes, dollar’s exchange rate demonstrates for domestic and foreign investors. then they will simply stay in them and whenever Asian central bankers And adding an extra factor for wait to sell when the market is suggest that they may consider instability the Fed has no control at all moving upwards again.

However, adding to the dark clouds looking at another home for their over the price of oil, which, already at its nominal highest, may go even behind any silver lining, there is the trade surplus revenues.

At Davos US treasury officials were higher if the White House continues question of oil prices, currently at their highest since the Oil Crisis of the busy reassuring delegates that the US sabre-rattling against Iran.

Texas University economics seventies. If the Iran situation were to Treasury bond market had nothing to fear from Asians redirecting their professor James Galbraith sees the explode and return prices to their real growing currency reserves away from same sources of instability as the bears 1973 levels, there is the additional dollar instruments. That they felt the do, but is less gloomy. For a start, he chance of a recession. Bernanke’s need to reassure anyone suggests that rates the Federal Reserve and tools for dealing with that are even the Treasury is indeed worried about Bernanke much more highly than the more limited. Of course by then, noises from Asian bankers about European Central Bank (ECB). He Greenspan, newly appointed as reapportioning the currencies they hold considers that the ECB’s charter honorary advisor to British chancellor their reserves in. The more financiers locked it into misconceived ideas held Gordon Brown, will be beyond blame, like Soros and Buffett act on their a generation ago by economists who and Bernanke will carry the can for suspicions, the more likely it is that their no longer have any influence, while any earlier miscalculations.

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On the back of the highs of the last two years the Warsaw Stock Exchange (WSE) now seeks to position itself against the broader European market.

While it is a heady time for the exchange, uncertainty over its long term ownership structure and the future shape of Europe’s stock exchanges could test the exchange’s outlook.

WSE’s president, Wieslaw Rozlucki, says he is up to the challenge. Blazej Karwowski reports from Warsaw.

N 2006 AND beyond the WSE will face the need of settling in the newly emerging landscape of European stock exchanges and president Rozlucki is clear about his goals: “With the exception of Moscow, which is a world of its own, we have every opportunity to be the largest market in this part of Europe.” The difficulty, he adds, is that the market is still unstable. The questions are: whether the largest stock exchanges form an alliance and will this alliance include smaller European bourses. The [consolidation] process is more complex than we thought it would be a couple of years ago. For us positioning in a market which is yet to take shape, which has still failed to establish main centres of integration [sic] creates a sort of ‘moving target’.”

In the exchange’s favour is its substantial performance record over the past two years. Last year the main benchmark WIG index rose 41% on 2004-end value, carried by a

I

surge in blue chip stocks. The WIG20 index comprises twenty largest caps on the WSE and last year recorded a year-on-year growth of 43%. In the first weeks of 2006, the index continued its upward momentum, closing at a new all-time high of 39351 points on January 25. The most obvious sign of market optimism in Poland, however, has been the number of initial public offerings (IPOs) on the exchange. With 35 IPOs in 2005, which raised some Polish Zloty PLN7bn the WSE ranked third in Europe, after London Stock Exchange and the Oslo Børs, but ahead of the Euronext group in terms of new issue volume. In a different context, the exchange attracted almost 70% of all new listings in Central and Eastern Europe (CEE). “Growth was underpinned by the very strong performance of the Polish economy,” says Rozlucki, adding: “for our part we did not do anything additional to what we have before”. In fact, local companies exceeded their profit expectations considering their competitive capacity in the EU market.

It adds up to a picture of a vibrant market that foreign exchanges are likely to look on with acquisitive eyes in 2006.

A key question is whether the WSE will react to any approaches as a state or private institution. Autumn 2005 elections resulted in a change of government, which in turn revived the subject of WSE’s privatisation – the state still owns 98% of the exchange. “It became a state entity by accident, only because in 1991 there was no investor to

FTSE GLOBAL MARKETS • MARCH/APRIL 2006

EUROPE: WARSAW STOCK EXCHANGE

The moving target that is the WSE

Wieslaw Rozlucki, president of the Warsaw Stock Exchange (WSE). In the exchange’s favour is its substantial performance record over the past two years. Last year the main benchmark WIG index rose 41% on 2004end value, carried by a surge in blue chip stocks. Photograph supplied by the WSE, February 2006.

be found capable of financing it,”recalls Jacek Socha, an ex-treasury minister in the previous administration and now a partner for the CEE region and deputy chairman at PricewaterhouseCoopers (PwC) in Poland. As treasury minister Socha pushed for a privatisation structure for the WSE that would involve an IPO and an additional tranche for a strategic investor. He sustains the view that a state-owned exchange by definition lacks a concise strategy that would assure its competitiveness and the ability to attract new capital.

Furthermore, he says, “should anything happen in the region, a company owned 98% by the state has no capacity to play a part in consolidation”.

Rozlucki agrees the likely scenario of WSE’s move into the private sector will be a combination of public offering and a strategic sale. To ensure

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31 -D

ec -0 3 29 -Fe b04 30 -A pr -0 4 30 -Ju n04 31 -A ug -0 4 31 -O ct04 31 -D ec -0 4 28 -Fe b05 30 -A pr -0 5 30 -Ju n05 31 -A ug -0 5 31 -O ct05 31 -D ec -0 5

Index Rebased (Eur 31 Dec 2003 = 100)

To open the stock market domestic market WSE runs ahead of developed Europe to a wider international participants are 270 audience, last year the represented in the new 250 WSE created a foreign structure he is “tempted 230 remote member facility. By by the idea of a 210 190 the end of 2005 the WSE foundation that would 170 Supervisory Board assume a minority stake”.

150 admitted seven new The commercialisation of 130 remote members and five Bursa Malaysia in March 110 of them started their 2005 provides a template 90 activities on the exchange. maintains Rozlucki.

Among others, in February Whatever the route Warsaw Stock Exchange General Index (WIG) FTSE Developed Europe Index 2005 Dresdner Kleinwort taken, it is unlikely, say FTSE Poland AC Index FTSE All Emerging Europe AC Index Wasserstein (DrKW) was local analysts that any the first investment bank to progress will be made in Data as at 31 Dec 05. Source: FTSE Group / Thomson Financial Datastream receive approval for remote 2006. The privatisation of membership status and was joined in the WSE received a blow in early institutional investors,”he adds.

If there is a source of concern for the the autumn of last year by JP Morgan January as the country’s new treasury minister resigned amid allegations (as WSE management with regard to Securities Ltd and Keppler Equities yet unproven) of involvement in foreign institutions, it is their SA. The programme enables foreign reluctance to participate in derivatives brokers to have direct access to the improper investment ventures.

Even so, the pressure is on. Warsaw’s trading on the exchange. In an effort WSE system without them being municipal authority has its own to extend its product portfolio, the physically present in Poland or using ambitions to become a regional exchange introduced Treasury (T-note) local brokers as intermediaries. Low financial services centre – a strategy futures contracts in February and levels of activity to date underscores outlined in its Agenda Warsaw City individual stock options in October of “how lengthy is the process of 2010 programme. And the exchange is 2005. “Today WSE-listed WIG20 adjusting banks’ structures to remote sharing in this grandiose vision, with futures contracts are one of the membership, although we made Rozlucki musing on how a new European top 10 index contracts in certain that the conditions are shareholding structure should not only terms of the volume traded – and this comparable to other exchanges,” add value in terms of new IT solutions goes unnoticed by foreign investors. maintains Rozlucki, as the stock or shareholder value, but also fit in The barriers may lie on the side of exchange operates under common with the grander scheme to enhance custodians, as they are not entirely FIX protocol.

Along with new financial Warsaw’s position in the wider prepared for risk monitoring and European financial landscape. Jacek managing the positions of foreign instruments in 2005 the WSE Socha agrees the market value of the clients,” says Rozlucki. According to expanded its index base by exchange has little importance him foreign market participants could introducing new WIG Oil & Gas and compared to what he terms the “stock benefit from gaining exposure to an WIG Media Indices. For 2006 the exchange’s capacity to draw turnover”. outstandingly liquid market and exchange, which manages its indices Although the share of foreign hedging their positions against internally, analyses feasibility of introducing a sustainability index, for investors in equity trading increased currency risk.

Some market watchers are inclined companies conforming to corporate and stood at 43% by the end of first half of 2005, domestic players still to see low derivative activity as an governance standards, and a dividend account for the bulk of the intrinsic quality of foreign demand for index. President Rozlucki would like exchange’s turnover. Rozlucki sees Polish equity. According to Jacek to see exchange-traded funds (ETFs) internal participants as a key to Socha foreign institutions will not listed on the WSE. No technological ensure sustainability of the market. participate in derivatives markets or regulatory issues impede the “That sets us apart from other “because their demand will still focus introduction of ETFs, but to date countries in the region – a strong on underlying stocks which have a member-banks have not decided to go live with this product. domestic sector of individual and different risk quality”.

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EUROPE: TURKEY’S BANKING BOOM

With inflation down around 9% and interest rates in steady decline, Turkey stands on the cusp of a consumer-led boom.

It has meant that Turkey’s extensive retail banking market is an increasingly attractive proposition for foreign banks looking for leverage in the sector’s growth story: either through partnerships or purchase. Last year saw a spending spree kick off as a key foreign financial institutions bought into highly liquid local banks. This year buyers of assets will outstrip sellers, with an obvious knock on effects on prices. Will buyers begin to think that the costs of gaining market share are just too high in 2006?

Turkish Prime Minister Recep Tayyip Erdogan addresses the lawmakers of his party at the parliament in Ankara, Tuesday, Feb. 7, 2006. The Erdogan government’s single-minded attention to fiscal discipline (in which IMF-driven reforms played a key role), following a liquidity crisis in December 2000 and a deep financial crunch in 2001, began to pay off in 2005.

Photograph supplied by EMPICS, February 2006.

TURKEY’S BOOM pushes up banking sector asset prices FTSE GLOBAL MARKETS • MARCH/APRIL 2006

N AUGUST 2005, GE Consumer Finance (GECF), the global consumer lending unit of General Electric Company, with assets in excess of $117bn, bought a 25.5% share in Garanti Bank, Turkey’s third largest private bank for just over $1.55bn. Owner Dogus Holding’s cash consideration for the shares sold to GECF valued the ordinary share capital of the bank at $6.1bn. At the same time the consumer credit giant also bought 49.2% of Garanti Bank’s founders’ shares for a further $250m. Under the resulting operating agreement, the bank will be run by both parties on an equal partnership basis although Ferit F. Sahenk continues as chairman of the Dogus Group, while Ergun Ozen remains as president and CEO of Garanti Bank.

The deal capped a spring and summer of fervent acquisitions by foreign banks anxious to establish a foothold in the country’s promising

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spending spree last spring, retail market. But it was buying a 50% stake in Turk more than that. GECF’s At the time, GE’s purchase of a Ekonomi Bankasi (TEB) for deal with Garanti touched strategic stake in Garanti was regarded $216.8m. UniCredit joined the very Zeitgeist— as a deal concluded at the top end of with Koç Holding to buy a a signal indication that controlling (57+%) interest the international the market. Tolga Egemen, executive in Yapi Kredi Bankasi for financial market finally vice president of Garanti acknowledges $1.5bn, while Belgium’s accepted that Turkey had that “no-one would have expected that Fortis Bank bought achieved macro-economic the consumer financing arm of GE Disbank from the Dogan stability and a sustainable would have made such a big play.”

Group, paying €987m for turnaround in its almost 90% of the bank’s Expected or not, less than six month’s banking industry. shares. Rabobank joined The Erdogan later GE’s move looks prescient and a the melee in July, taking a government’s singlebargain to boot. If the deal had been 51% interest in Sekerbank, minded attention to fiscal done in February 2006, $1.55bn simply for an undisclosed amount. discipline (in which IMFwould not have been anywhere near Hayri Çulhaci, executive driven reforms played a enough to secure those shares now vice president, strategic key role), following a planning at Akbank, liquidity crisis in that Garanti’s market capitalisation is explains some of the December 2000 and a hovering around the $9bn mark underlying dynamics: deep financial crunch in “Some 50% of the 2001, began to pay off in country’s 70m population 2005. The government had forced through much needed managing director and senior is still not bankable and a further 25% banking reforms; state-owned banks representative, client management at of the population will enter the were restructured and prepared for Bank of New York in Istanbul says that banking market over the next five privatisation, reserve/asset ratios for “Turkey’s retail banking market is years, representing some 4m commercial banks were tightened today a highly attractive proposition households. It means that even while and an independent regulatory for foreign banks that in the past had Turkish banking has gone through a agency, the Banking Regulation and been deterred from investing in the period of strong growth, it is nowhere Supervision Agency (BRSA), was sector because of the lack of adequate near the end. These are once-in-aestablished under a banking law banking controls and high inflation. lifetime exciting times for the market (Law No. 5411) in October of last The banking sector has also and therefore these marriages are year. The government took on some responded vigorously; all are geared to benefit from opportunities $50bn in guaranteed deposits at adopting corporate governance in the domestic market.”Akbank itself banks taken over by the state and controls of their own. You have to is unlikely to be sold off to foreign interests. Owned largely by HO introduced a cap on previously respect the work.

According to Mehmet Erten, Sabanci Holding (43%) and the unlimited guarantees on deposits at NTL50,000 ( around $37,000). It also president of Tekfenbank, “Turkish Sabanci family (23%) Akbank’s separated the savings and deposits banks are sitting on liquidity, which remaining shares rest in free float on insurance fund (SDIF) from the makes them attractive: it is a similar the Istanbul Stock Exchange (ISE). story in the Ukraine and Russia. The Long one of Turkey’s most profitable regulatory agency.

As 2006 opens, inflation is down to problem is that foreign banks wanting banks, according to Çulhaci, “its single digits (hovering around 9%), assets in the country now outstrip the shareholders do not want to give up the New Turkish Lira has appreciated number of banks up for sale. As well, control. But they are interested in a against 36 currencies over the last the current price of banking assets in minority solution.”

For its part, GECF’s stake in Garanti year, and declining interest rates have the country means that acquisitions fed a boom in retail banking as have to be backed up by aggressive executes on a key objective of expanding its reach into rapidly consumer lending doubled over the growth strategies.”

BNP Paribas kicked off the developing markets. In the last same period. Nesilan Tombul,

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eighteen months GECF’s diverse the deal had been done in February respectively. The deal, which allotted a moves have included purchases in 2006, $1.55bn simply would not have market capitalisation of $5.1bn to Panama and Korea; a strategic alliance, been anywhere near enough to secure Turkey’s fifth largest bank, attracted worth $100m in the Shenzhen those shares now that Garanti’s some 224 investors from 28 countries, Development Bank and the market capitalisation is hovering with 43% of those foreign investors acquisition of Russia’s DeltaBank, from around the $9bn mark. Asked coming from the UK and 31% from its majority shareholders, the Delta whether it might have been the United States. In the end nonRussia Fund and the US-Russia worthwhile waiting before jumping Turkish investors bought up just over Investment Fund—specialist funds into the welcoming arms of GEFC, 75% of the float, with the remainder is phlegmatic.

He going to domestic buyers, mainly managed by Delta Private Equity Egemen that: “Local retail, according to Tanju Yüksel, Partners. Despite these alternative acknowledges pickings, the Garanti deal has dwarfed acquisitions are becoming expensive: assistant general manager at all GECF’s recent activity and set the partly a result of good share price Vakifbank, who is also in charge of benchmark for future deals in the performance, partly a result of an investor relations.“More than 75% of country: a signal of the importance it is upsurge of interest in the market by institutions buying shares had to be placing on the Turkish market in foreign banks anxious to secure a ‘buy and hold’ investors,” he says.

Even so, the value of Vakifbank shares general and in Garanti in particular. valuable franchise in Turkey.”

That is both good and bad news for rose 10% in the immediate GE has a long history in Turkey, having first established a presence in Turkey other Turkish banks—such as aftermarket from its debut price of back in 1948 and today operates across Finansbank and Tekfenbank that are YTL5.4/share and now stands at some a range of sectors including high known to be looking at the possibility 60% higher in value.

The deal was oversubscribed by a technology fields such as aircraft of selling off strategic stakes to foreign engine manufacturing and investors. Vakifbank has only recently factor of seven. Just 24 hours prior to development. Dogus Group and GE come out of a privatisation-led the IPO, the bank, which has some were also already affiliated through offering, advised by JP Morgan and 302 branches, announced positive CNBC’s Turkish channel CNBC-e, UBS, which raised $1.28bn in the third quarter (Q3) results for 2005. In which is majority-owned by the Dogus largest initial public offering (IPO) in the nine months to September last Group and in which GE has a the country since 2000. As a result of year Vakifbank’s pre-tax profits of shareholding. Garanti meanwhile has the flotation, its two single largest YTL544m were up 67% on the same the Foundations period in 2004, which helped buoy operations in Russia, Romania and the shareholders, Netherlands to bring to the asset mix General Directorate (FGC) and the investor appeal: although Yüksel as well as a countrywide network of Civil Servant’s Pension Fund reduced .maintains that 75% of foreign shareholding to 16.1% investor commitments to take up 419 branches and some 5m customers. their Vakifbank shares had At the time, GE’s already been secured purchase of a strategic Finansbank steams ahead during the extensive prestake in Garanti was 800 IPO road-show that took regarded as a deal 700 in London, Geneva, concluded at the top end 600 Frankfurt, New York, of the market. Tolga 500 Boston, Amsterdam and Egemen, executive vice 400 Edinburgh. The bank has president of Garanti 300 always enjoyed acknowledges that “no200 competitive advantage in one would have expected 100 both retail and substantial that the consumer 0 small and medium sized financing arm of GE enterprise (SME) would have made such a financing, explains Yüksel Garanti big play.” Expected or not, Ak Is Finans “And while the bank has less than six months later always provided corporate GE’s move looks prescient Data as at 31 Dec 05. Source: FTSE Group / Thomson Financial Datastream banking and has been and a bargain to boot. If

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Regional Review EUROPE: TURKEY’S BANKING BOOM

active in the privatisations,” he explains, “overall, the margins on corporate business are not as attractive as in Turkish Lira- based (TL-based) retail and SME lending.”

It is a story writ large throughout the market. Akbank, Vakifbank, Garanti, Finansbank and many others have all transitioned from a strong corporate focus to become a primarily retail and SME bank. In part this has been driven by the fall in inflation which has forced banks to shift away from an emphasis on investments in government securities and borrowing in the international capital markets to on-lend to Turkish corporates (often to finance overseas trade). While spreads on government securities have narrowed, and spreads on corporate lending have been forced to uneconomic levels, the margin on SME and consumer loans have stayed steady.

Most banks now, like Vakifbank, have a three-pronged business growth strategy for the near term, which concentrates on building market share in three sectors: retail banking, SME loans and mortgage financing. It is a strategic refrain recognised by Özlem Cinemre, executive vice president of Finansbank’s international division.

Finansbank, she explains, is actively building and expanding on its existing 208-branch network, and that very quickly, in order to leverage the burgeoning opportunities in the market. By year end, Finansbank will have 274 branches in some 48 cities which, in combination, account for some 90% of the country’s gross domestic product. “It is a wholesale change,” she acknowledges, “that also includes, product diversification, new sales techniques and a customer-focused strategy.”

Established in 1987 by Hüsnü Özyegin, whose family still retain a

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majority holding in excess of 50% of the bank’s shares; Finansbank began life as a wholesale operation and concentrated on building an international presence that now includes subsidiaries and affiliates in ten countries. Perforce, the bank’s business strategy altered after the bank endured hard-won survival lessons in the financial crises of 1994, 1998 and again in 2001. In 1994, it began opening branches and by 2000 had a 100-branch network. It was a 180 degree switch for a bank that, like Garanti and Akbank, had enjoyed a strong international reputation as a reliable borrower and corporate on-lender into the Turkish market, particularly of trade finance related loans. After the 2001 crisis, says Cinemre, the bank moved wholeheartedly, into the retail sphere and the bank has largely stepped out of trading and treasury related business. Now it has above 70,000 active SME clients; although Cinemre admits the bank still has some way to go. To put that acknowledgement into context, Finansbank’s share is still dwarfed by the 200,000-plus SME clients that competitor Halkbank enjoys.

Like Tekfenbank, Finansbank is aware of the pluses of securing a strong strategic partner and market talk has it that the Özyegin family are ready to divest majority control, although this has not been confirmed by the family. CGU International Insurance PLC holds a 3.21% stake while a further 40.82% of Finansbank’s shares are listed on the Istanbul Stock Exchange and it has also issued global depository receipts (GDRs) on the London Stock Exchange. The bank had been in discussions with BNP Paribas,which was not resolved in an agreement explains Cinemre. The bank has now mandated Morgan Stanley (which

arranged the Garanti/GECF deal) to bring interested parties to the table to see “whether we would be willing to consider the right partners, at the right price,” concedes Cinemre. But she acknowledges, it is not going to be easy. “The share price is appreciating daily. Last year, the bank’s book value was around $600m; today that figure is above $5.5bn.”Even so, she expects the process to be resolved “in about two-three months.” It’s a cool call.

Tekfenbank, meantime, recently handed a mandate to HSBC in London to find it an appropriate strategic partner. The bank is now working on an information memorandum prior to a tour of potential investors.

Further upside in the Turkish market is promised this year with the passage of the mortgage law that will invariably set the stage for the creation of a market in securitised mortgage-backed securities (MBS) or ipotek teminatli menkul kymetler. The passing of the mortgage law is vital and will do three important things.

One, it will support the establishment of a long term mortgage finance market. Two, it will codify rights to repossess assets in the event of defaults, which will provide banks with physical collateral supporting long term mortgage loans and finally, it will provide for the securitisation of mortgage credits and the creation of a secondary market in mortgage loans.

According to Sibel Pensoy of Tekfen’s real estate development division,“The draft law is an important building block in the deepening of the Turkish loan markets. Turkey does not have an established mortgage market yet and although some 60% of people own their own homes there is pent up demand for housing credits, for purchases of both homes and rentals. It all adds up to tremendous opportunity.”

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Total assets invested in Islamic compliant financial institutions are growing rapidly. According to the International Monetary Fund (IMF), there are now over 300 Islamic financing institutions, working in more than 75 countries; albeit most of those are concentrated in the Middle East and Southeast Asia—with Malaysia and Bahrain fast growing hubs. Cross-border data flows have still to be quantified. However Islamic compliant assets worldwide are estimated to exceed $250bn and growing at an estimated 15% a year. Appetite for Islamic compliant investable indices is rising; with strong interest emerging from Southeast Asia, most latterly the Singapore Stock Exchange (SGX).

TSE GROUP RECENTLY joined forces with SGX to create a new series of indices suitable for the Islamic investment community. The initial index within the series - the FTSE SGX Asia Pacific 100 Index – is launched later this month and comprises the largest 100 Shariah compliant companies in Asia. Yassaar Research Inc. have signed an agreement with FTSE to carry out independent screening of each current and prospective company within the index to ensure to Shariah compliance. The first Islamic indices were launched in 1999 to provide a benchmark for equity prices for investment by Islamic financial institutions: the Dow Jones Islamic Market (DJIM) Index in Bahrain and the FTSE Global Islamic Index Series (GIIS).

In recent years, Islamic investment funds have prospered in the Gulf countries and Malaysia. A range of

F

Islamic funds are available for the following asset classes: equity, real estate property Murabaha, commodity and leasing. Islamic equity funds are currently the most common. However, the use of Islamic indices has been piecemeal to date. That situation will invariably change however as growing oil wealth and strong demand from Muslim investors looking for Shariah compliant investment products has renewed demand for Shariah-screened indices that cover a wide range of asset classes. As well, Islamic financial institutions are providing an increasingly broad range of financial services. FTSE Group and SGX can now offer a new and innovative approach to Islamic indexing.

This latest index in particular allows investors anxious to comply with Shariah law to both invest in compliant companies and leverage the Asian growth story. The FTSE

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MIDDLE EAST & ASIA: ISLAMIC INDEX

SGX takes a new step in Islamic indices

SGX Asia Shariah 100 Index covers the following markets: Japan, Taiwan, Korea, Hong Kong SAR and Singapore. In fact Japanese stocks carry a 50% weighting within the index.

Shariah laws forbid giving or receiving interest; and mandates that all financial transactions be based on real economic activity. In compliance with Shariah requirements, the primary business of companies included in the index must be Halal (in other words permissible under Shariah law). That inevitable excludes companies engaged in gambling, production or sale of alcoholic beverages, armaments, tobacco, pornography and pork. Second, a company must meet specific financial constraints.

Its debt to equity ratio must not exceed 33%,“although in some cases it can go as high as 50%, depending on the circumstances of the company and whether they are Shariah compliant in all other aspects,” explains Majid Dawood, who is the chief executive of Yasaar Limited. As well, accounts receivable to total assets must be below 45% and interest income must be less than 5% of a company’s total revenue. Yasaar Research Inc. – an independent research house, has joined forces with FTSE Group to provide Shariah consultancy on Islamic indexing projects, and will maintain the integrity of the index through a network of highly respected Shariah scholars. They will continually monitor the companies in the FTSE SGX Asia Shariah 100 Index and other indices within the series to ensure that they maintain their Shariah compliance status.

Any firms that no longer meet the stringent limitations set out in Shariah law will be excised from the index.

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Regional Review MIDDLE EAST: SAUDI ARABIA BANKING REPORT

The rise and rise of the Riyal economy The inexorable inflow of high value petrodollars means that the Saudi Arabian capital markets are exceedingly liquid. In turn this has jetpropelled the local benchmark Tawadul All Share Index to all-time highs; fuelled economic growth figures above 6.7% and encouraged the government to pay off a large chunk of its domestic debt obligations. The banking sector too is booming, with the latest round of results, exceeding even last year’s bullish expectations.

The challenges facing today’s bankers are twofold: to leverage liquidity by deepening the range of financial products offered in the Saudi Arabian market and to re-write the domestic and international growth strategies of banks with investible surpluses.

IDED BY A seemingly unstoppable flow of highvalue petrodollars Saudi Arabia is a compelling growth story.

Already the Middle East’s biggest economy, skyward oil prices have resulted in a highly liquid local capital market that, in turn, has provided an engine for economic growth of some 6.7% in 2005. More and yet more of the same is predicted for 2006.

Liquidity has also jet-propelled the country’s benchmark Tadawul All Share Index (TASI) to hover at levels above 19,000 at the beginning of February – equivalent to an increase in total market capitalisation of the index by a whopping 134% over the previous twelve months.

The steady flow of incoming

A

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Hamad Al Sayari, governor of the Saudi Arabian Monetary Authority (SAMA). Photograph supplied by SAMA, February 2006

petrodollars has also allowed the government to pay off a chunk of domestically held debt, which now stands at a ratio of just 41% of gross domestic product (GDP), well down from the 93% recorded in 2002. The outlook is also good. “Growth rates will be slightly lower this year, but we still expect GDP to grow in the region of 5-6% during 2006. However, growth in the private sector could be as high as 7% or 8%,” says Eisa AlEisa, managing director (MD) and chief executive officer (CEO) of SAMBA Financial Group. Hamad AlSayari, governor at the Kingdom’s central bank, the Saudi Arabian Monetary Authority (SAMA), says he sees no reason for growth to slow in 2006. “There remain a number of

expansionary influences and lots of liquidity in the economy, particularly in the private sector, and there is no expectation that this will change in the short to medium term.”

Oil revenues, however, are not Saudi Arabia’s only fruit. The expansion of domestic bank lending to both consumers and businesses has been responsible for around 75% of the money growth in Saudi Arabia. In general oil revenues continue to be collected at the central bank, thereby filling government coffers. This year planned government expenditure will reach SR335bn, with attendant growth in infrastructure spending. It marks a significant increase in budget spend (in the region of 20%) over the final budget for 2005 which itself was overspent by

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22% over the previous year. Even so, the Saudi Arabian government has still managed to accrue its largest ever surplus, which by year end had reached SR214bn and is still rising.

Aside from the attendant benefits to Saudi’s infrastructure, an increase in government spending is also likely to help maintain high liquidity in the country’s financial markets. It is a necessary compensation as growth in the domestic consumer lending market is expected to slow over the next few years as Saudi banks tighten their lending criteria – a move encouraged by SAMA, which is anxious to minimise over-heating in the domestic credit market. SAMBA’s Al-Eisa thinks, however, that while there has been significant growth in recent years in consumer finance it should be put in perspective. “This growth is from a very low base and even now only accounts for some 12% of GDP. This compares very favourably with the 100%-plus rates found in some of the North American and European countries.”

World Trade Organisation On 11 December 2005, Saudi Arabia became the 149th member of the World Trade Organisation (WTO) after 12 protracted years of negotiations, a move which has further improved the growth prospects in the Kingdom.

“Membership of the WTO will undoubtedly have a positive effect, however, this effect will be cumulative of little changes across the board rather than a big bang in few areas,” explains Khaled Al-Fayez, CEO of Gulf International Bank (GIB).

Robert Eid, CEO and MD at Arab National Bank (ANB) thinks that; “Joining the WTO is a very positive step for the Kingdom and although any future structural changes linked to membership may take some time to make an impact any benefits are likely

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Robert Eid, chief executive officer and managing director, Arab National Bank. ANB announced record results for 2005, with a sharp rise in profits to $487m, together with a 32.3% return on equity. CEO Eid acknowledges that “these are record results, marking out 2005 as our most successful year ever.”

to be felt across the board.” Michel Dubois, country head at BNP Paribas, which opened its first branch in the Kingdom in September 2005, agrees that structural changes will take some time to feed through but that improved access, particularly in the service sector, to Saudi Arabian financial and commercial markets, is“bound to boost foreign direct investment (FDI) with all of the benefits that entails in terms of economic growth.”

SAMBA’s Al-Eisa thinks many of the benefits have already been felt.“There have already been 12 years of change

as Saudi Arabia has put in place many of the structural changes and agreements that were a requirement of WTO membership. Changes in terms of market access, labour laws and lighter regulation have already made a positive impact on the economy.”

Improved credit rating In December Moody’s lifted Saudi Arabia’s foreign currency rating by two notches to A3 citing not just high oil prices but also significant progress on economic reforms and greater economic transparency. As

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an unsolicited rating this is still one notch below Fitch and Standard & Poor’s which both also increased their equivalent ratings last year to single A. “As the Kingdom has no international lenders this will not effect the government’s outstanding debt,” explains SAMA’s Al-Sayari, “but it will lower the cost for Saudi companies such as SABIC which may be seeking funding and for some of the planned large industrial projects that may well require international investors.”

It is an important move for Saudi banks that are beginning to deepen their financing expertise and which are anxious to take what they see as their rightful place in the pantheon of global players. Talal Al-Quadabi CEO at Riyad Bank, for instance, expects the bank to benefit two-fold from the improved rating. First, it allows the bank to diversify its funding options and raise money overseas at cheaper rates and second “the bank wants to increase fee income,” he says Riyad Bank is increasingly leveraging its “role as an experienced advisor to Saudi companies that are increasingly willing to raise money in the international capital markets,” adds Al-Quadabi. Last year the bank was involved as a senior advisor on a $2bn project financing package in support of the Shoaibi III project – the first independent water and power project (IWPP) in the country, worth a total $2.5bn. The financing package of the 900MW plant comprised a $947m term loan; a $950m export credit facility and a SR787m Islamic finance facility. This mix of local and international financing and conventional and international structures is one that looks set to be repeated as more large projects in the Kingdom seek external funding.

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Stock Market

“There is this important wealth creator helping to drive the economy over the last two years which simply was not there before”, says John Coverdale, managing director, Saudi British Bank

Talal Al-Qudaibi, president and chief executive officer (CEO) at Riyad Bank, Who notes the growing sophistication of the banking sector in Saudi Arabia.

Although still a small contributor to overall revenue in the Saudi Arabian banking sector as a whole, nonetheless the recent increase in broking fee income is worthy of note and is in line with the rise of the TASI and its growing influence on the national economy. “Last year our income from broking rose by 250%”, explains SAMBA’s Al-Eisa.

Higher trading volumes have been driven by rising liquidity, a raft of initial public offerings (IPOs) and an expanding local investor base wanting exposure to the country’s benchmark index which broke the 19,000 barrier in February having started 2005 at 8,529. Much of the wealth generated by the exchange has also been fuelling economic growth says John Coverdale, CEO at Saudi British Bank (SABB): “There is this important wealth creator helping to drive the economy over the last two years which simply was not there before.”

Trading on the Tadawul is dominated by domestic retail investors. According to various estimates retail investors – many of them new to the market in the last 12 months – account for around 80% to 85% of the trading volume on the exchange. The market is regulated by the Capital Markets Authority (CMA) which was created by a special Royal Decree in 2004. Although technically the stock exchange is open to both Gulf Cooperation Council country investors and international investors (working through specialist local mutual funds) in practice there are indirect restrictions on international access to the Tadawul. Currently a direct investor in the exchange has to have Saudi residency to open a brokerage account. According to SAMA, while this obstacle for GCC citizens is in the process of being

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overhauled, the position Debt & development for international investors One downside of the ANB meanwhile announced record seems (for the time being) burgeoning equity market results for 2005, with a sharp rise in likely to remain. is that it has somewhat profits to $487m, together with a 32.3% One way international overshadowed the return on equity. CEO Eid acknowledges investors can get access to government’s efforts to the Saudi market is develop a domestic bond that “these are record results, marking through SAMBA’s market. “We are currently out 2005 as our most successful year Guernsey-domiciled in discussions with the ever.” The bank reports “significant Saudi Arabia Investment CMA and a number of growth” in all areas of its business over Fund (SAIF). This openparties about ways in the year, with total assets growing by 7% ended fund is which we can develop the denominated in US local bond market,” says to $17.9bn, while customer deposits dollars and was listed as a SAMA’s Al-Sayari. GIB’s rose 5% to $13bn. $250m closed-end fund in Al-Fayez thinks that the 1979. Since then funds bond market will have a under management have number of benefits; increased 10-fold to $2,477.9m rising all markets I would expect there may “providing an alternative source of in value by over 767% during the last be some more minor adjustments.” funding for companies who have until If there is no correction in the now depended on bank funding. At five years alone. As long as high levels of local and regional liquidity last it market, the Tadawul will remain the the same time it will provide looks likely that SAIF (and other 11th largest stock market by value in additional liquid investment funds that will undoubtedly be the world with its total market opportunity,”he says. launched by SAMBA’s competitors) capitalisation currently standing at It is likely, however, that the rise of will remain the most convenient way over $600bn. However, it only has 77 a domestic bond market will have as to gain exposure to the Saudi market. listed companies and many market its centrepiece a strong Islamic However, having posted meteoric watchers agree that it lacks broad element. According to SABB’s rises for the last two years, there is sectoral coverage. There is only one Coverdale, “As an Islamic country, it some concern both within and outside insurance stock listed on the exchange would make sense to develop a Saudi Arabia about a possible for example. The Tadawul board lacks Sukuk (Shariah compliant) rather correction in the TASI.“As the central healthcare companies and no than a conventional bond market as it bank and banking regulator we would investment products are listed. They would then be accessible to the be remiss if we were not concerned also point out, however, that unlike widest possible number of issuers and about an over valued stock market other exchanges in growth markets investors.” Fortunately the current and a possible correction” says the Tadawul is not skewed towards Tadawul trading system was created SAMA’s Al-Sayari. “But who is to say one or two large companies which with the capability of listing and the TASI is overvalued? It is not the dominate the both the domestic trading bonds but according to equity role of government or its regulators market and the main index. brokers it would need some Some of the market’s shortcomings alterations before trading in debt but the market itself that decides the appropriate value of companies and will be addressed directly this year. As could commence. many as 20 IPOs are in the pipeline their shares,”he adds.

A successful bond market also BNP Paribas’ Dubois agrees that and a further ten companies are needs market makers in order to there is unlikely to be a correction in scheduled to embark on further capital provide liquidity and depth.“Although the near future. “As long as oil prices raisings in the next 12 months. The we are still at the preliminary stage, remain high, thereby ensuring lots of reason for this spurt of new capital we have opened a dialogue with a local liquidity and companies raisings is the CMA says Riyad Bank’s number of banks about becoming continue to come to market through Al-Qudaibi.“The CMA has removed a primary dealers and there seems a lot IPOs then there is no reason to number of hurdles for companies of interest out there in the market,” suspect that there will be a major wanting to list on the Tadawul which says Al-Sayari. Until now the debt correction this year. However, as with makes listing much more attractive.” market has been dominated by

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Regional Review MIDDLE EAST: SAUDI ARABIA BANKING REPORT

eager to meet. “ANB is very keen to see a successful and liquid bond market develop with all of the benefits that it would bring to issuers, investors and the wider economy. We are therefore happy to support any initiatives that will help facilitate its development,” says ANB’s Eid. Riyad Bank’s Al-Qudaibi is also keen to get involved.“The development of a debt market would provide a real funding alternative and we would be keen to play our part particularly in Eisa Al-Eisa, managing director and chief executive officer of SAMBA terms of Financial Group.“There have already been 12 years of change as Saudi developing more Arabia has put in place many of the structural changes and agreements complex structures that were a requirement of WTO membership. Changes in terms of for bonds based on market access, labour laws and lighter regulation have already made a securitised loans or positive impact on the economy,”he says. Photograph provided by revenue streams in SAMBA Financial Group, February 2006. project financing for instance.”

Coverdale at SABB says the bank is positioned to serve any further developments in not just the debt market but in other areas of finance as well. “The creation of HSBC Saudi Arabia Ltd, the first full-service, independent investment bank in Saudi Arabia and a joint venture between SABB and the HSBC Group will further enhance our capabilities. I am confident that bank is now very well placed to serve the growing domestic and global needs of our customers.”

domestically issued government debt which has a high unit entry price: SR1m for institutions and SR50,000 for private investors. To date the holders of the debt have tended to buy and hold, and with government surpluses being used to pay down the national debt there has been little secondary market activity.

The challenge of developing a secondary market in fixed income products is one the banking sector is

42

Record year for banks Without a bond market, companies invariably have turned to local banks for finance. Companies have borrowed in droves to re-invest in their businesses.

As a consequence, all Saudi banks have reported a significant uptick in their loan books. Combined with an increase in consumer loans, new investment products and fee income, it has been a heady period for the nation’s financial sector. Unsurprisingly, most banks have posted record results for 2005. Riyad Bank, SABB and Banque Saudi Fransi posted profit growth over the previous year of 41.5%, 52.2% and 44% respectively and SAMBA’s profits topped $1bn for the first time. SAMBA’s Al-Eisa attributes the 60% year-on-year profit growth to “a broad revenue base, new investment offerings and a restructuring which has allowed us to focus on areas such the capital markets where, for instance, we have worked on the hugely successful Al Bilad, Etihad Etislat and Yansab IPOs.” ANB meanwhile announced record results for 2005, with a sharp rise in profits to $487m, together with a 32.3% return on equity. CEO Eid acknowledges that “these are record results, marking out 2005 as our most successful year ever.”The bank reports “significant growth” in all areas of its business over the year, with total assets growing by 7% to $17.9bn, while customer deposits rose 5% to $13bn. Eid attributes ANB’s 57% profit growth to the bank’s relationshipdriven approach, “We have a large branch network that keeps us very close to our customer base and well attuned to their requirements.” With the economy looking well placed to continue its phenomenal expansion of the coming year, the banking sector in Saudi Arabia looks well placed to combine its major roles as both beneficiary and contributor to Saudi’s economic growth.

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HILTON HOTELS CORP

Stephen F. Bollenbach, right, president and chief executive officer of Hilton Hotels Corp., and Arthur Goldberg, chairman, president and chief executive officer of Bally Entertainment Corp., smile at a news conference in New York, Thursday, June 6, 1996. At the time the photograph was taken Hilton Hotels Corp. had agreed to buy Bally Entertainment Corp. for $2bn in a move that gave the hotel giant a presence in the important Atlantic City market. Photograph by Chris Kasson. Agency: Associated Press/EMPICs, supplied in early February 2006.

re-defining the future of

hospitality “Be My Guest.” It was Conrad Hilton’s catchphrase as well as the title to his memoirs.

Today, the hotel company he founded 60 years ago is thriving, thanks to savvy management and a strong economy. Expect even better results when the US and non-US operations are reunited. Art Detman reports from California on the turnaround in the company’s fortunes over the last decade.

ONRAD HILTON WOULD be pleased. His hotel empire, sundered in 1964 when the overseas operations were spun off to shareholders, is being put back together. In an all-cash transaction worth nearly $6bn, the Beverly Hills-based Hilton Hotels Corporation (HLT) is acquiring Hilton International, a subsidiary of London-based Hilton Group PLC. The deal is expected to close no later than March 31. Once again, Hilton will become “innkeeper to the world.”In fact, it will be more than that. It will be not only the world’s most profitable and most geographically diverse lodging company – with 2005 pro forma revenues of $9bn and 2,800 hotels comprising 475,000 rooms spread across 80 countries – it may well become the world’s dominant innkeeper in the years ahead, able to outgrow and outmanoeuvre competitors that, just seven years ago, were far larger.

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This remarkable turnabout can be traced back to 1996, when Stephen F. Bollenbach and Matthew Hart joined the company; Bollenbach as president and chief executive officer, Hart as senior vice president and chief financial officer. Since then Bollenbach has become co-chairman and chief executive officer (CEO) and Hart has become president and chief operating officer. Robert M. La Forgia, who joined Hilton in 1981, is now senior vice president and chief financial officer (CFO). Both Bollenbach and Hart had been at The Walt Disney Company, where Bollenbach was senior executive vice president, CFO, and – he believed – in line to succeed Disney chief Michael Eisner. After it became clear that Eisner expected to remain CEO forever, Bollenbach became receptive to other opportunities. It seemed a good fit when he was recruited by William Barron Hilton, Conrad’s middle son and now, with Bollenbach, cochairman of the company. After all, Bollenbach had once been president and CEO of Host Marriott Corporation.

Bollenbach is known as an aggressive and innovative executive, a Big Idea man. At Marriott, he was instrumental in creating two companies out of one: Host Marriott and Marriott International. At Disney, he argued forcefully for the acquisition of giant Time Warner (before it allowed itself to be acquired by America Online, in arguably the worst corporate merger in living memory). Eisner flinched at the deal’s size.

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HILTON HOTELS CORP

He was a cautious singles and doubles man, not a home run thrived. Bollenbach saw opportunity for Hilton, but talks hitter, and consequently Bollenbach instead ended up between Hilton and Promus went nowhere. Then Promus overseeing Disney’s acquisition of Capital Cities/ABC, a overreached by acquiring Doubletree Hotels. Suddenly smaller company than Time Warner but still big enough to Bollenbach’s courtship became attractive, if not downright constitute the second-largest acquisition in US business lifesaving. For $3.7bn in stock and cash, Hilton acquired history at the time. So it was natural that, upon arriving at Promus. The gritty details were handled by CFO Hart, who Hilton, Bollenbach would contemplate growth through in ten days put together a 25-bank syndicate and borrowed acquisitions. When did he first consider Hilton International? $1.85bn at Libor plus 125 basis points.

It was also up to Hart to lead the integration process. In “I think it was probably in the afternoon of the first day,” he says playfully.“The first trip that I made for the company the first year alone, merger savings exceeded $75m, was to New York, and Barron Hilton went along with me. compared with a pre-merger target of $50-60m. With the We met with the Hilton International people and began Promus acquisition, Hilton went from 300 properties (far talking at that time about ways in which we could work fewer than Marriott’s 1,800 or Starwood’s 750) to 1,750. At together or ultimately combine the companies.” A year the stroke of a pen, Bollenbach and Hart had vaulted later, in 1997, Bollenbach and the Hilton International Hilton from a second-tier or third-tier hotel company into management did craft a strategic alliance, in which the the first rank. Hart would later describe their working Hilton brand was reunited on a worldwide basis with relationship in this way: Bollenbach is Dwight Eisenhower, respect to sales and marketing, loyalty programs, and other Hart is George Patton.

The Promus acquisition changed the financial structure of operational matters. To the world traveler, Hilton was once Hilton. Before, it had been overwhelmingly an owneragain innkeeper to the world.

Meanwhile, Hilton had spent $3.1bn to acquire Bally’s operator of hotels. But Promus was overwhelmingly a Entertainment, a gambling casino operation. Two years later, franchiser – although it did own and operate more than 100 in early 1998, Hilton added Grand Casinos. “We had the properties. The Promus acquisition was an important step in largest public gambling company in the world,” Bollenbach achieving Bollenbach’s long-range goal of shifting Hilton’s recalls. But soon buyer’s remorse set in.“We felt that there center of gravity from owning hotels to managing or were no operating synergies between the hotel business and franchising them. William J. Lerner, an analyst for the the gambling business, and that our shareholders would Prudential Equity Group, calls it an “asset-light strategy.” have a better opportunity to focus on the value of those two Bollenbach’s rationale was simple enough: owning hotels is a capital-intensive business very different industries if that yields low returns on they could buy stocks in Comparative hospitality: Hilton v Marriott v Starwood equity, assets and invested separate companies.”

250 capital.

In contrast, In late 1998, Hilton’s managing hotels owned by gambling business was 200 others, or franchising spun off to shareholders as 150 owners to do business Park Place Entertainment. under a Hilton brand, “It worked out exactly as 100 requires little capital and we thought. The two 50 consequently yields big stocks traded much higher returns – on equity, assets in total than had the stock 0 or capital.The stock market, of Hilton. And that too, knows this and has [gambling] company, Hilton Group Hilton Inc penalised Hilton stock with through some other Marriott Starwood a lower price/earnings mergers, became Caesar’s multiple. At year end, Entertainment, which was Data as at 31 Dec 05. Source: FTSE Group / Thomson Financial Datastream analyst Felicia Kantor merged last year into Harrah’s, which is now part of again the largest gambling Hendrix of Lehman Brothers calculated that Hilton stock sold at 10.1 times pro forma 2006 EBITDA compared with an 11.4 company in the world, Harrah’s Entertainment.”

The gambling acquisitions were just a momentary multiple for Starwood Hotels & Resorts Worldwide and Host diversion. The real chance for growth came in 1999, when Marriott.“We estimate that every half turn to HLT’s multiple Promus Hotel Corporation of Memphis, Tennessee, creates slightly over 9% in value,”she says.

Following the Promus acquisition, Bollenbach began became available. Created when The Promus Companies Inc. split in two in 1994 — one unit took over the selling off properties to third parties; almost always he company’s lodging business, and the other unit became negotiated management contracts that kept those properties Harrah’s Entertainment — Promus initially prospered with under a Hilton nameplate. He was playing catch up. Most its three highly focused brands: Hampton Inns, Embassy big lodging companies such as the Marriott International, Suites and Homewood Suites. Each was narrowly defined Choice Hotels International (which runs primarily in terms of cost, services and target customer, and all economy-rate properties in the US such as Comfort Inn,

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Quality Motels and Econo Lodge), Four Seasons (a dominant luxury brand, with 67 hotels in 29 countries), and InterContinental (owner of the Holiday Inn brand and the world’s largest hotel group) are predominantly franchisers and managers of hotels, not owners.

Year by year, properties were sold, including 20 in 2005 for more than $1bn. Among last year’s sales was the historic Palmer House in Chicago, a 1,639-room landmark that was purchased for $230m by Thor Equities, which plans to spend an additional $100m in renovations, especially of street-level retail space. As usual, Hilton retains a long-term management contract. In most instances, Hilton recognises the gain on the sale over the life of the contract, thus spreading out income taxes over twenty years or so. The Palmer House deal is noteworthy because it was structured as a reverse Section 1031 property exchange. Hilton first bought land in Hawaii, A remarkable turnabout in the Hilton Corp’s fortunes can be traced back to 1996, when where it has a major timeshare vacation Stephen F. Bollenbach and Matthew Hart joined the company; Bollenbach as president development, and then sold the Chicago hotel, and chief executive officer, Hart as senior vice president and chief financial officer. Since claiming that the transaction amounted to a then Bollenbach has become co-chairman and chief executive officer and Hart has swap of like properties and therefore no taxes become president and chief operating officer. Photograph of Stephen F. Bollenbach, are due. The actual procedure is more provided courtesy of Hilton Hotels Corporation (HLT), February 2006. complicated than this, of course, but it’s commonplace in American commercial real estate and easy – and also bind the English company to its American cousin so strongly that the two might never be separated. perfectly legal.

Hilton doesn’t even own the Beverly Hilton in Beverly On the other hand, building a de novo system would be Hills, where its corporate offices are. Are there any properties fabulously expensive. In the end, economics won out: that Bollenbach would not sell?“The properties that we want Hilton International fell into Bollenbach’s outstretched to own are ones that are big properties in urban centers arms because it simply would be too costly for Hilton where we feel we have to have complete control over the Group to build a competitive information technology property because they are so important to our brand name, system. “It has kind of been a continuing conversation,” he says. “I will give you an example: the New York Hilton, Bollenbach says, rather diplomatically. “Because we spent which is a 2,000-room hotel in New York. It is one of the so much time talking about the ways we work together, it largest and most important convention hotels in the world. was just a natural part of the conversations along the way And we feel that when we own 100% of it, as we do now, we to put the companies together.”

The advantages of a combination were painfully obvious. have absolute control over how it impacts our brand and our convention business around the country and around the The American company owned what is probably the most world. So that is the kind of hotel that we are likely to own.” valuable brand in the hotel business but was unable to use Traditionalists will be glad to hear that the 1,416-room it outside of the US (where it has hotels in all 50 states and Waldorf-Astoria, one of the world’s most famous hotels, also the District of Columbia). In contrast, the English company isn’t for sale.“We have owned it forever,”Bollenbach says.“I had been diffident about expanding the Hilton brand. After 38 years, it had only about 400 hotels worldwide, of which do not think we will sell that one.”

But even while selling off properties (most of which only 260 carried the Hilton name – 130 are Scandic Hotels, remained Hilton brands) Bollenbach lusted after the a well-regarded mid-priced chain that is strong in Europe’s Hilton International properties. Hilton Group Nordic region. The emphasis of the Hilton Group was management was cordial but had an abundance of clearly in betting and gambling, two areas that remain its patience. Even so sometime last year Hilton Group primary profit centers. When it acquired Hilton management ran out of patience. Like Promus before it, International 19 years ago, the company was called the Hilton Group was in a bind. It needed to acquire a Ladbrokes, a name it is expected to take once again.

Hilton projects annual cost savings of up to $30m after the comprehensive computerised reservation and accounting system for Hilton International. On the one hand, merger, achieved through consolidation of regional offices, adopting Hilton Hotel’s OnQ system would be quick and elimination of the joint venture structure for the luxury

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the most of any major hotel Conrad Hotels brand, greater In the first year alone, merger company. Four, like all buying power for everything savings exceeded $75m, compared hoteliers, Hilton is very from towels to shuttle buses, sensitive to grow in gross and more negotiating muscle with a pre-merger target of $50domestic product (GDP). The with online brokers such as 60m. With the Promus acquisition, reason is obvious: corporate Orbitz and Expedia. But Hilton went from 300 properties (far travel budgets are always an Bollenbach believes the fewer than Marriott’s 1,800 or early casualty in economic merger’s greatest advantages Starwood’s 750) to 1,750. At the slowdowns. Five, the new are on the revenue side. debt the firm has taken on, Hilton can expand abroad not stroke of a pen, Bollenbach and Hart which also includes $300m in only with the Hilton name but had vaulted Hilton from a seconddebt assumption from Hilton with its mid-priced brands, tier or third-tier hotel company into International, increases such as Embassy Suites, the first rank. Hart would later Hilton’s debt to EBITDA ratio Doubletree, and Hampton describe their working relationship in to 4.64, up from 2.89, Inns. “We can take those this way: Bollenbach is Dwight according to Hendrix at outside the United States and Lehman Brothers. tie them together with the Eisenhower, Hart is George Patton.

For all that, Hilton’s longHilton name,” he says. “We term prospects are bright. think we will be able to do a lot of business with those other brands. But first we have to After the merger, Ian R. Carter, CEO of Hilton International, make sure we make a smooth transition of the companies. will join Hilton Hotels as executive vice president. He will We want to continue the fine operating record that Hilton remain CEO of the international operations, but clearly will be expected to accelerate expansion outside the US. One International has developed.”

When Hilton Hotels first revealed that it was in talks to advantage is the fact that only about 20% of European acquire Hilton International, its stock dropped 20%. hotels are branded, which provides a big opportunity for Investors worried about dilution in an all-stock deal. But Carter to franchise unaffiliated hotels. Europe these days CFO La Forgia put together a syndicate headed by Bank of accounts for 41% of the world’s hotel rooms, compared with America and UBS, which agreed to provide a $5.5bn credit 31% for America. Another is the fact that the joint venture facility. “We’re going to finance the transaction with our running the luxury chain of Conrad hotels will be existing cash, which is approximately $1.2bn, and disbanded; enabling more aggressive expansion of this borrowings of $4.6bn under our $5.5bn facility,” La Forgia brand, which now totals only 17 hotels (six more are in says.“So we’ll have additional liquidity if we need it.”The development). Then, too, Hilton’s OnQ technology will be interest rate is Libor plus 150 basis points – “cheap,”in the taken overseas, which should improve customer service and reduce overhead. Also, a number of lower-quality Hilton view of analyst Joseph R. Greff at Bear, Stearns.

Investors were cheered by both the financing and the properties in Europe can be converted to the Doubletree or purchase price, which came to 11.3 times Hilton International’s Hampton Garden Inns brand. Finally, Hilton will be able to projected 2006 earnings before interest, taxes, depreciation and bring its resources to the booming Chinese market, where amortisation (EBITDA). Most acquisitions go for around 13 there are no Hilton hotels.

Meanwhile, in the US and abroad, Hilton has the most times EBITDA.As Greff notes,“The deal was likely driven more by a motivated seller than a motivated buyer.” Despite the new hotels and rooms in the pipeline: 578 hotels with 78,000 attractive price, all three credit rating agencies downgraded rooms. In the US, Hilton bookings through its proprietary Hilton Hotels to BBB-, the lowest investment grade rating. La website now exceed those made by toll-free phone calls, Forgia expected this, and says it won’t affect the financing.“The which Bear Stearns’Greff says indicates that Hilton’s brands are gaining traction among its guests and that third-party pricing assumes a two-notch downgrade.”

People who rate corporate bonds always see the glass as websites are losing share to branded hotel websites. half full, of course. In this instance however perhaps their Meanwhile, Hilton’s mid-priced chains, especially Hampton concern is justified, for several reasons. One, Hilton’s Inns and Hilton Garden Inns, are especially favoured by earnings are highly concentrated. Some 30% of operating independent lodging operators who are attracted to the earnings come from just ten hotels in six markets – New brands’ history of outperforming the market.

Hilton’s strength was dramatically illustrated when it York, Chicago, New Orleans, San Francisco, Hawaii and Washington DC. Two, the weak dollar has likely inflated announced financial results for 2005, which blew past Hilton’s bookings of foreign visitors in the past few years. virtually all of Wall Street’s projections. On a 7% gain in Three, labour contracts covering hourly employees at hotels revenues, to $4.3bn, net earnings soared 93% to $460m, in six major Hilton markets expire this year. The employee and per share earnings rose 88% to $1.13. EBITDA was union, UNITE HERE!, is seeking talks on a national level $1.14bn up 12% and the most of any lodging company in rather than a property-by-property basis. That means the world. In the years ahead, expect more and more around 25% of Hilton’s US operating earnings are exposed, people to accept Conrad’s invitation to “Be my guest.”

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COVER STORY: NYMEX

THE

NYMEX WAY In mid-November last year the New York Mercantile Exchange (Nymex) one of the world’s largest commodity exchanges agreed to accept a $135m investment from Greenwich, Connecticut-based private equity firm, General Atlantic LLC, which reportedly represents a 10% stake. Although on the surface a modest enough deal, it has repercussions that will reverberate in the futures exchanges markets throughout 2006 and beyond. Francesca Carnevale went to New York to talk to NYMEX chief executive Jim Newsome about the share sale and his strategic vision for the exchange over the coming decade.

N STREET PARLANCE, it’s a no brainer: the New York Mercantile Exchange (NYMEX) is one of the prettier assets in a consolidation hungry market. Its attractiveness is heightened by the fact that energy sources are likely to be at a premium over the coming decade as the world economy seeks to balance a huge upsurge in demand, fuelled largely by growth markets in Asia, Latin America and Eastern Europe, with (some say) finite pools of energy and mineral resources. In fact, the world is nowhere near running out of energy commodities for the foreseeable future. It is just a matter of price. In the meantime, exchanges, such as Nymex, offer a reliable

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method of managing energy price risk, cementing its value over the coming years. “There is little doubt that the landscape is more competitive,”smiles James E. Newsome, Nymex’s ebullient chief executive. “Consolidation at the exchange level is a fact. Most of the exchanges are talking to one another about mergers and alliances. The million dollar question is with whom and when.”

Newsome is a considered and careful chief executive. You can tell on two counts. One he forsakes the obvious testosterone that pumps through the veins of chief executives in interviews with the press. His approach is quiet, considered, modest and questioning: for example, for

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Newsome the competitive landscape is an obvious concern, “not because of competition itself, but in trying to make the right decisions.”

Second, he says of himself that he is branded by his past. Prior to becoming chief executive at Nymex, he served as chairman of the Commodity Futures Trading Commission (CFTC) for two and a half years and was a member of the commission for six. He helped guide the commission through the Commodity Futures Modernisation Act (passed in 2000), which directly opened the market to transparency and competition.

A seasoned diplomat, Newsome has served on a number of presidential initiatives, most notably the NYMEX chief executive Jim Newsome.

Working Group on Financial Newsome says he was fired by the Markets: which gave him direct opportunity to run the exchange, access to fellow group members particularly during a period of “high from the Federal Reserve Bank volatility and energy prices.” Coming and the Securities and Exchange from a regulatory background he thinks Commission. Newsome admits gives the market the confidence that that his route to the top at “Nymex is an open and fair market.”

Nymex is pretty unusual: “I Photograph courtesy of Nymex, mean who grows up wanting to February 2006. be a regulator?”he opines.

Newsome says he was fired by the opportunity to run the exchange, particularly during boosted energy trading volume and raised the profile of the a period of“high volatility and energy prices.”Coming from exchange, which is now the largest energy futures market a regulatory background he thinks gives the market the in the World.

No surprise then that through the summer of 2005, the confidence that “Nymex is an open and fair market.”

The New York Mercantile Exchange (NYMEX) offers exchange was busy assessing various offers by suitors futures and options trading in energy and metals contracts anxious to play leverage with the anticipated uptick in the and clearing services for off-exchange energy transactions. exchange’s value over the coming energy-hungry decade.

Through a combination of open outcry floor trading and In September, Newsome was a regular fixture in the New the NYMEX ACCESS® and NYMEX ClearPort® electronic York daily newspapers, confirming that Nymex had trading platforms, the exchange trades a wide range of received offers worth $240m from General Atlantic (which commodities. Nymex offers futures and options on energy has assets of $10bn) for 20% of the exchange, and a $200m and metals, with contracts including crude oil, heating oil, offer for the same sized stake from fellow private equity natural gas, gasoline, electricity, gold, silver, copper and groups Blackstone and Battery Ventures.

Both offers had been made with clear leverage in mind. platinum. Nymex dates back to 1872 when a group of dairy merchants formed the Butter and Cheese Exchange of New It was obvious that with them or without them, Nymex was York. It quickly expanded to include other types of food moving to an initial public offering (IPO) in 2006 or 2007 products; and other exchanges sprouted up around the and that a $1.3bn to $1.4bn book valuation in early 2005 country. In 1933, four small exchanges -- rubber, metal, raw could easily rise to $2bn and above when the time comes silk and hides -- merged to create the Commodity to float the exchange’s shares on the open market. “We Exchange Inc. That exchange over sixty years later merged interviewed with half a dozen private equity firms and had (in 1994) with the New York Mercantile Exchange, which enquiries from another dozen,” explains Newsome. “Our made it the world’s largest physical commodities futures investment advisor was clear: all of the valuations of the exchange. Recent volatility in the energy markets has exchange were going to be similar. It then boiled down to:

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who do you feel comfortable with as a partner? And who had expressed concern that opening up the exchange’s could help you create more value?” JPMorgan Securities ownership to outsiders could mean the end of Nymex’s Inc. is Nymex’s chief financial advisor on the deal while trading floor and its lucrative operations (individual seats on Skadden, Arps, Slate, Meagher & Flom LLP is providing the exchange nowadays sell for a minimum $3.7m). General Atlantic’s presentation however, included provisions to legal counsel to the exchange.

“General Atlantic’s business plan was different,” says support and protect open-outcry trading and as October Newsome. “Most of the other firms we spoke to had opened, Nymex felt reasonably comfortable that its specialised in buyouts or distressed firms. We saw that members would approve a deal which involved 10% of the General Atlantic and their investors tended to hold their exchange’s shares. Traders were mollified by the fact that equity positions for a lot longer. Then, on a more simplistic Nymex and General Atlantic were adamant that open outcry note, Bill Ford and the General Atlantic team gave us real trading, supported by technology capability, was and is comfort. We felt we could work with them.” General fundamental to Nymex’s position in the global commodity Atlantic wins full marks for reading the directions in the US energy futures marketplace. In the share sale agreement, exchanges market. It reputedly bought a stake in there are provisions that support and protect Nymex’s open Archipelago prior to its IPO and pre-merger discussions outcry trading, including a requirement for continued with the New York Stock Exchange (NYSE) and is now financial support for technology, marketing and research for sitting rather prettily itself with a strategic stake that can open outcry. The provisions also state that core futures and options contracts may not be eliminated without a vote of only rise in value.

A 20% equity position was too rich a picking though— trading rights holders, as long as specified liquidity even for an exchange in a hurry to go public (NYMEX requirements are met. If the exchange ever terminates open demutualized in 2000). Newsome acknowledged to the outcry trading of a particular product, trading rights owners New York press in September last year that the exchange will receive additional payments based upon the volume of had to “find a level that is comfortable for our shareholders electronic trading in the product. However, Nymex common and a level that also has to make sense for an outside stock will be “de-stapled” from its trading rights at the investor if we proceed down that track.” He inferred that conclusion of the transaction, according to the official release Nymex was also looking at opting for the IPO route alone announcing the share sale agreement.

According to the agreement Nymex and General Atlantic and told newspapers that he expected the board of directors to be in a position to make a recommendation to are committed to taking the exchange to an initial public shareholders within a month. He and NYMEX Chairman offering in the second half of 2006. General Atlantic will Mitchell Steinhause scheduled a shareholder briefing have a limited set of rights in the event that the IPO is update for month end ahead of a possible shareholder vote delayed. If there is no IPO by June 30, 2008, Nymex will pay by the end of October. The Nymex’s 816 ownership shares General Atlantic a cash dividend (estimated to be worth represent equity in the business. They are called seats around $20m), calculated at an annual percentage rate of because they also confer the right to trade on the exchange 5.5% of the initial investment and payable quarterly from and valuations of the exchange take into account the price the date of the transaction closing. If it prefers General Atlantic has the option to be of individual seats as they able to redeem its shares at come up for sale. Following No surprise then that through the the original purchase price, the completion of the plus accrued and unpaid transaction, General Atlantic summer of 2005, the exchange was dividends, and 100% of the will not, in fact, own any busy assessing various offers by equity interest in the trading rights, which will suitors anxious to play leverage with exchange will return to the remain entirely with NYMEX the anticipated uptick in the remaining shareholders. members. The gross proceeds exchange’s value over the coming Nymex’s board of directors from General Atlantic’s will be reduced from 25 to investment however will be energy-hungry decade. In September, 15 members and Bill Ford, distributed to all of Nymex’s Newsome was a regular fixture in the chief executive of General shareholders in the form of New York daily newspapers, Atlantic, will serve on the an extraordinary cash confirming that Nymex had received new board, as will distribution, which is worth offers worth $240m from General Newsome in the capacity of about $165,000 per share.

Atlantic (which has assets of $10bn) president and chief Sparks were expected to fly executive officer. René Kern, when seat holders and board for 20% of the exchange, and a managing director at members of the New York $200m offer for the same sized stake General Atlantic, will also Mercantile Exchange met on from fellow private equity groups join the board as a nonSeptember 29th. Equity Blackstone and Battery Ventures. voting observer. However, owners (who own seats but General Atlantic will not be do not trade), in particular,

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Even so, the market was able to seek control of the Critics of the deal nevertheless taken aback by Nymex’s Nymex Board or effect the preference for General removal of any director from voiced concerns that the General Atlantic over the CME. As a the Board. Nymex filed Atlantic deal undervalues Nymex and strategic buyer, CME has the preliminary proxy materials questioned why the exchange turned experience of operating an in November 2005, including down higher bids from other suitors open outcry floor alongside the full definitive agreement, that would have placed a higher value its global electronic trading with the SEC and filed its on the exchange; the most prominent capacity. It had undergone an definitive proxy on February IPO itself, tallying up vital 10. NYMEX has mailed proxy of which turned out to be none other flotation experience. More materials to all Nymex than the titanic Chicago Mercantile significantly, the CME has shareholders and plans to Exchange (CME). invested heavily in a hub hold a special meeting of strategy that has enabled real shareholders on March 2, time connections to the CME 2006 to discuss the deal.

However, it will additionally require the approval of the through links in Amsterdam, Dublin, Frankfurt, Gibraltar, London, Paris, Milan and Singapore. It would have provided Commodity Futures Trading Commission (CFTC).

Critics of the deal nevertheless voiced concerns that Nymex with a ready international network that would have the General Atlantic deal undervalues Nymex and dovetailed neatly with Nymex’s international ambitions and questioned why the exchange turned down higher bids which would have allowed it to retreat build on its operations from other suitors that would have placed a higher value in London, Tokyo and Dubai. CME’s clearing and technology on the exchange; the most prominent of which turned capability alone would make it a more obvious partner. In the out to be none other than the titanic Chicago Mercantile context of all that the General Atlantic deal is something of a mystery and some traders can not yet resolve the obvious Exchange (CME).

In NEW definitive proxy, GA values NYMEX at $1.6 observations. For one: the deal is a straightforward win-win billion. A Nymex seat that sold in December for $3.775m for the buyout firm, but can the same be said for Nymex? marked a 22% increase from the previous sale, in October, Second, a halfway decent investment bank could guide the and a near-doubling from seat prices of 12 months earlier. exchange through an IPO, noted one trader in a small The CME’s reported interest introduced even more heat. smoking group of traders outside the Nymex building, The Chicago headquartered exchange has had the full force although he declined the opportunity to give a name to the of trading winds at its back. The CME has clearly been juicy quote. Finally, what is the need for a buyouts firm to be playing a growth offensive: with both Nymex and the involved in Nymex, even if the executive does rub along London Stock Exchange reportedly in its sights. In gracefully, asked another? Only time will tell quite how Nymex’s case, the CME had made no bones about it. It General Atlantic can enhance Nymex’s value.

With a $1bn in cash war chest to fund strategic wants to get in on the energy market. In December though, CME’s interest in Nymex underscored questions about the acquisitions, the CME was undoubtedly kicking itself that pricing of and reason behind General Atlantic’s equity some way somehow its offer for a strategic stake Nymex fell purchase. Seat members began to get restless; questioning on fallow ground. In the general scheme of things it put pressure on the Chicago giant which is regularly reported as executive choices.

On December 22nd and under pressure, Nymex being interested in buying one exchange or another (in chairman Mitchell Steinhause wrote an impassioned letter recent weeks the CME has been reported as being keen to to the exchange’s members, pledging to alter the terms of buy both Nymex, Euronext and The London Stock the deal and seek to address other concerns among Exchange). Terrence Duffy, chairman of CME, refused to members of the exchange.“We’ve listened carefully to your comment on the exchange’s acquisitions preferences or any feedback, and the Board will be making some refinements specific bid it may or may not have made. In a wider ranging to the proposed terms of the General Atlantic deal and discussion, Duffy acknowledged the broader debate about some changes to the proposed charters and bylaws.” As market consolidation; but pointed out that the CME works in part of the deal, General Atlantic agreed to prepare the a global context these days: and that acquisitions are not the exchange for an initial public offering targeted for the only way to grow its overall business and revenues.“We are second half of 2006 and to release Nymex from an confident of our ability to grow organically as well. We certainly do not want to do deals just for the sake of doing obligation to ignore offers from other suitors.

It was clear however that the Nymex executive was not them,”he states.

It is a view that has resonance to a degree for Newsome; going to be shifted from its instinctive choice. Newsome has said several times, however, that the stake sale was not and it may be that underlying view that explains the long meant to be an auction in search of the highest bidder but term efficacy of the General Atlantic deal. If the CME had rather a search for a partner that would buy into the found a willing seller in Nymex, it is unlikely that the Chicagoans would have left it at that and the likelihood is exchange and guide it through the IPO process.

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31 -D e

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Newsome admits that that Nymex would have FTSE/MV Exchanges Index Performance - 31 December 2003 to some mistakes have come under pressure to 31 January 2006 (US Dollar Terms) been made in the eventually consolidate. The 240 strategy but he insists immediate benefit in a deal 220 that Nymex remains with Nymex would have 200 optimistic about the been an expansion of the 180 opportunities for growth CME’s product line up. The 160 140 in London, “the CME’s main product group is 120 experience has not financial futures, including 100 dampened our its benchmark Eurodollar 80 enthusiasm,”and he cites contract, which makes up “the added potential for 50% of volume at the listing energy products in exchange and it would have FTSE MV Exchanges Eastern Europe, which created a new customer for we will do through the CME’s clearing services.

Data as at 31 Dec 05. Source: FTSE Group London,”he says.

CME used to list some Europe is important to Nymex’s future. In a regional Nymex contracts on its system—a deal that expired in June last year, but was extended until November 2005. With its context Brent is the main reference price for oil in Europe, principal interests in private equity, however, General particularly for supplies exported from the Middle East, and Atlantic has no takeover designs on Nymex; and that cuts to is the second most traded oil contract to Nymex’s mainstay, the heart of the matter. The General Atlantic deal also gives West Texas Inter mediate crude. But the exchange has Newsome and his board breathing space for Nymex to carve grander designs further a-field also.“In Asia, for example, its own global future. For now, the exchange faces an we are taking a different approach,”says Newsome. At the optimistic future laced with inevitable challenges that will beginning of last year the exchange opened an office in Tokyo, introducing energy and metals futures contracts to test the wisdom of its current choices.

The telling question for Nymex is the efficacy of the Japan, Singapore and Hong Kong through its NYMEX globalisation of the Nymex brand. The exchange recently ACCESS® trading platform. Nymex and the Tokyo opened an open outcry futures exchange in London, the Commodity Exchange also agreed to make benchmark first for 23 years in an effort to take on the International energy and metals futures contracts available to traders in Petroleum Exchange (IPE). Newsome says that Nymex Japan during the 18 hours that NYMEX ACCESS® acts as then saw an obvious opening as the IPE had abandoned an extension of the New York trading floor. Nymex plans to open outcry trading in preference for electronic trading. do the same in Singapore.“We will continue to utilise the The gauntlet was thrown and Nymex thought it could New York facility to access the Asian marketplace.” In the make a fast play to become the dominate centre for energy Middle East, meanwhile, Nymex and the Dubai trading in Europe. Nymex and the London Metal Exchange Development and Investment Authority (DDIA) agreed to are now the only large exchanges in Western Europe that jointly create the development of the Dubai Mercantile works on an open outcry basis. At the opening bell of the Exchange, which will become the first commodities new exchange, Mitchell Steinhause, Nymex chairman, said: exchange in the Middle East.“We are currently building the “This is a bold statement to the financial community. If ever physical facility,” says Newsome. Interestingly, the exchange will be entirely electronic, using the NYMEX there is a market suited to open-outcry, it is energy.”

Whether Nymex is correct is open to debate. On the plus ClearPort® engine and the Nymex clearing house, and will side: Steinhause is quite right. Oil trading is ideally suited to concentrate on developing the sour crude market, which open outcry as trades are often long term: seven year futures according to Newsome has higher sulphur content and is in oil are not uncommon. It is quite different to trading in harder to refine.

According to Newsome there are four principal goals for other commodities, which is more obviously a near term business. On the opposite side: market commentators say the exchange. “To make sure we maintain and build our that the tide of history is flowing against Nymex. Eurex leadership in energy and metals; to change into a publicly successfully took bond futures contract from the London held company through an IPO, to search for acquisitions at International Financial Futures Exchange (LIFFE) in the late home and abroad and to continually expand Nymex’s 1990s and technology helped it do that. At the time LIFFE product range,” he says. He is at pains to point out that was still floor-bound. But no other exchange has managed taking the exchange forward, albeit with a commitment to to take the market share away from a strong incumbent (as the outcry model, at least in the US, does not mean that Eurex itself found in its foray into the US market). IPE’s Nymex’s future is biased against technology. But he thinks strategy of moving from the floor to the screen has it is just one element in an armoury that includes reportedly found strong support from its list of gilt-edged transparency, risk management and a commitment to new customers and Nymex will have a battle to pitch open distribution channels that will ensure that Nymex will go it outcry advantages to Europeans who are technology-philes. alone and go it alone successfully for some time to come.

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OFFSHORE EXCHANGES

The market in offshore services is constantly in flux. In an increasingly globalised and specialist fund services market, offshore experts are competing not only with each other but also mainstream jurisdictions. That invariably means that the offshore centres are deepening not only both their service offering, but also the supporting regulatory environment. There is much to play for as increasing globalisation will inevitably re-write the landscape of domiciles, listing centres and the trading of investible securities.

THE IMPORTANCE OF BEING EARNEST UERNSEYFINANCE,THE INDUSTRY and government initiative to promote development of Guernsey as an international financial services centre is really busy right now. Peter Niven, its chief executive and director of Finance Sector Development, has upped the promotion of Guernsey as a cutting-edge international finance centre and stands at an important crosscurrent in the island’s history. It begs the popular saying that time and tide wait for no man.

The island is marketing its services hard these days. In this year alone, Niven will be visiting China, the Baltic States, the Middle East and the emerging markets of Poland and Hungary in Europe to highlight the benefits of Guernsey as a place to do business. And it is always aware of competition lying within closer proximity than the European Union.

Guernsey competes with neighbouring Jersey in many areas.

Its fund industry enjoys a similar history to its friendly rival.

However, says Niven, Guernsey traditionally has had a more user friendly regulatory structure - a base that it intends to build on to avoid losing out to a rapidly restructuring Jersey.

And GuernseyFinance’s role is to help the international investment community understand the sometimes subtle, yet tangible advantages of Guernsey over its near and more distant offshore competitors. And to do that effectively, it involves re-defining ages old shibboleths. “Offshore really means nothing now”, says Niven, “It is about being an international business centre with the full panoply of services that implies.”

In the past, the role of Guernsey as an international finance centre depended upon its stability and its legislative separation from the United Kingdom (married with its obvious low tax advantages). Guernsey also offers a robust but flexible regulatory structure. The island’s regulator, the Guernsey Financial Services Commission

G

Robert Moore, chairman of the Guernsey International Business Association and managing director, Butterfield Bank (Guernsey) Limited. Photograph courtesy of Butterfield Bank, February 2006.

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U n i q u e l y

Established in 1971 the Bermuda Stock Exchange (BSX) is today the worldâ&#x20AC;&#x2122;s fastest growing offshore securities market.

p o s i t i o n e d

The BSX is internationally recognised as an attractive venue for the listing of: Hedge Funds Investment Fund Structures Equities Fixed Income Structures Derivative Warrants

Advantage Bermuda

www.bsx.com e-mail: info@bsx.com 22 Church Street, Hamilton HM 11, Bermuda Tel: 1-441-292-7212 â&#x20AC;˘ Fax: 1-441-296-1875

The BSX is a full member of the World Federation of Exchanges.

Bermuda is a British Overseas Dependent Territory and is part of the UK for the purpose of OECD membership.

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(GFSC) has a track record which Guernsey’s aspirations of adopting a pragmatic centre. The CISX prides itself approach to the on its speedy turnaround authorisation and ongoing time and consistency of regulation of funds. response.

Tamara That flexibility is Menteshvili, CISX’s chief achieved in various ways, executive’s outlook is not least by the pragmatic and based on a Commission’s powers to strong belief that the grant waivers of certain exchange works on a par with fund authorisation leading exchanges, such as requirements where it is the London Stock Exchange. considered appropriate. “It CISX has developed specialist does not signify any laxity,” niches in floating property stresses Niven, “but rather funds, open and closedis an approach that allows ended investment funds, things to get done, but debt, securities and special done well and appropriate purpose vehicles. “We have a to the situation.” An mixture of core products,” approach exemplified explains Menteshvili, “listing perhaps by one of the traditional funds, alternative GFSC’s most successful investment funds and debt efforts: developing the securities and trading concept of professional companies.” She adds, “ We funds, known as have a very personalised Qualifying Investor Funds approach, combining Greg Wojciechowski, president and chief executive officer (CEO) of (QIFs), to speed up the flexibility with responsibility, the Bermuda Stock Exchange (BSX) licensing of funds where with a very international investors meet certain criteria. The introduction of this self- outlook – over half of the securities listed on the CISX are certification regime has without doubt boosted Guernsey’s domiciled outside the Channel Islands.” role in the international investment funds industry. It has Menteshvili maintains that the CISX has a growing done that by being entirely pragmatic. A case in point is market in specialist debt securities - Eurobonds and special support for institutional and expert investor funds, where purpose vehicles - and is attracting increasing interest from the Commission does not require the appointment of a hedge funds, through a membership of 37 Guernsey and Guernsey domiciled and licensed custodian, but is prepared Jersey based companies that sponsor listings. She add that to designate a suitably qualified prime broker to be the the exchange has a particular niche in the listing of fund’s custodian. Again, in respect of institutional and expert property funds and structured products and that generally investor funds, the Commission will relax the segregation of speaking, listing opens up a bigger market for such funds. requirements for prime brokers holding fund assets. GFSC "Institutional investors such as pension funds, have a recognises the complexities of determining net asset value limitation on what they can invest in that is unlisted. It is for some hedge funds and funds of hedge funds, and is about 10% of the portfolio. Listing can help grow market prepared to grant waivers for funds, which can demonstrate value and attract investment." a need to use NAV estimation processes in advance of final Menteshvili concedes that the pressure is on to secure NAV determination. additional market share and in pursuit of that goal has not Guernsey is also recognised as the leading captive insurance been shy of thinking outside the box. “Every stock exchange domicile in Europe and is in the top four in the world with more compares the number of shares it trades,”she acknowledges, than 300 captives. Additionally,“at the last count there were 71 but stresses that “the Islands are relatively small Guernsey authorised open-ended collective investment communities, and consequently not many local companies schemes (of which 27 were protected cell companies – a are likely to go public in the Channel Islands.” Nonetheless, Guernsey speciality) that were either hedge funds or funds of it has not stopped her from encouraging the listing of a hedge funds, with a net asset value of just over £19.7bn, number of UK trading companies to list on the CISX.“The compared to £10.6bn only a few years ago,” explains Niven. reasons for listing here are varied –not least that our speed of Funds under management, by December of 2005 had reached response (through the streamlining of our processes and the €100bn,“with the pace of increase gathering momentum and introduction of technology) and low listing costs means we can readily champion smaller capitalised companies. We outstripping growth in neighbouring Jersey,”he adds.

The Channel Island Stock Exchange (CISX) is an integral offer a full listing service, not just an admission to trading, part of today’s Guernsey story; providing infrastructure upon and it is worth noting the opportunities that lie in this sector.”

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The CISX began operations in October 1998 and has top-tier of international finance centres, having been grown rapidly with over 1200 securities having been endorsed by a number of external reviews which provides approved by the Market Authority since inception, for a investor comfort and credibility. From Northern Trust’s total market capitalisation of around $35bn. The exchange perspective having a fund administration office in Guernsey has also been recognised by the US Securities and in addition to our European fund administration offices in Exchange Commission (SEC) and the UK's Inland Dublin, London, Luxembourg, Jersey and the Isle of Man Revenue and Financial Services Authority (FSA) (please provides our clients with a wide range of options to select the fund servicing centre which best serves their needs.” refer to FTSE Global Markets, Issue 6, March/April 2005).

There is a sense in Guernsey that the financial community While Guernsey competes with neighbouring Jersey in is rallying strongly to cement the island’s growth. It’s very many areas, its fund industry enjoys a similar history to its much a“Team Guernsey effort,”agrees Robert Moore, who is friendly rival. If anything, Guernsey traditionally has had a chairman of the Guernsey International Business Association more user friendly regulatory structure - a base it intends to and managing director, Butterfield Bank (Guernsey) Limited.. build on to avoid losing out to a rapidly restructuring Jersey.

A committee under the chairmanship of Guernsey lawyer Advocate Peter Harwood is now meeting to consider the investment industry in the Bailiwick of Guernsey and the conditions required for its continued prosperity. The committee, whose remit extends beyond pure matters of law and regulation, is expected to report in March. An area of interest is real estate investment trusts (REITs), says Niven: “we think there is a lot of opportunity and the industry here is keen to get things moving.” Moore expands on this point. “Guernsey is the number one stop for property funds and we are continually building on that expertise. Service offerings to the specialist investment community are being expanded all the time. For the time being however, administrative services for alternative investments must rank high on our priority list,”he says.

David Tentinger, senior vice president and managing director of Northern Trust International Fund Administration Services (Guernsey) Limited concurs.

“Guernsey has continued to build on its long-established Uif!DJTY!qspwjeft!tdsffo.cbtfe!usbejoh!boe!uif!mjtujoh!pg!jowftunfou!gvoet-! tqfdjbmjtu!efcu!jotusvnfout!boe!tibsft!jo!dpnqbojft/ fund administration operations Pvs!bqqspbdi!jt!ijhimz!qfstpobmjtfe-!pggfsjoh!gbtu.usbdl!qspdfttjoh! with a number of innovations pg!bqqmjdbujpot!xjuijo!b!ijhimz!sfhvmbufe!boe!joopwbujwf!nbslfuqmbdf/ aimed particularly at meeting Wjtju!pvs!xfctjuf!ps!dpoubdu!vt!gps!efubjmt/ the rapidly evolving needs of the Q/P/!Cpy!734-!Pof!Mfgfcwsf!Tusffu-!Tu!Qfufs!Qpsu-!Hvfsotfz!HZ2!5QK specialist funds' market-place.

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The uptick in Guernsey’s efforts to build on its offshore should have access to enough information to allow them to business comes at a time of change and plenty for the make an informed investment decision.”

A lot is at stake for everyone, particularly as Dublin's world’s leading offshore centres; albeit in an environment of intense competition for new business. Directional change International Financial Services Centre (IFSC) has been the among hedge funds provides a snapshot of the bigger major beneficiary of shifting sands in the offshore market. picture. The Caribbean (actually, the Cayman Islands) was a It has become a noted centre for funds, particularly for those marketed into member states of the European Union traditional domicile of choice for hedge fund managers.

Increasing competition from Europe is changing that and has a well-established fund administration servicing fact, for a number of reasons. First, more institutional business (valued more than $200bn under administration). investors are becoming involved in investing in hedge The Irish Stock Exchange now also boasts the largest funds. Second, Europe’s regulators are still light on number of the world's offshore funds and a burgeoning requirements for hedge funds (compared to say the US fund administration business servicing more than $200bn where hedge fund registration and compliance is now in ‘alternative’ fund assets.

Apart from the usual considerations of investor compulsory). Third is a growing suitability for hedge funds to locate in European offshore jurisdictions (together with requirements, low tax rates and the quality and experience of the potential for eventual EU-wide distribution), the once local service providers, an important factor in deciding whether clear-cut advantages of the unregulated Cayman product to domicile a hedge fund in a European offshore centre is the regulatory environment in which the fund will operate and, have waned somewhat.

It is not all going Europe’s or even Guernsey’s way. particularly, the extent to which the fund has prudential Jurisdictions, such as Bermuda and the Cayman Islands are restrictions, which may cause difficulty for the manager.

Additionally, the growth of electronic trading and the making a concerted effort to consolidate the benefits of their location (close to the US). A willingness to adopt globalisation of trading activity to some degree negates new product is key and the establishment of transparent location as a deciding factor. This believes Wojciechowski will regulations have done much to cement acceptance of be a deciding factor in years to come and he firmly believes that offshore centres have it all jurisdictions such as to play for. He believes that Bermuda as high-value “Bermuda is setting a standard for the legacy exchanges of today specialist centres. offshore in that the regulatory will be hard pressed to All developments in the environment is fully applied in a maintain market share as offshore context have to consolidation and the keep global trends in mind, commercial and conducive fashion. investment patterns of highly says Greg Wojciechowski, Serious players will willingly subject liquid asset managers represident and chief executive themselves to appropriate describe the trading officer (CEO) of the legislation, transparency and landscape. While they are Bermuda Stock Exchange. reporting requirements.” mired in considerations of “Bermuda is setting a volume; the specialist and low standard for offshore in that cost listing expertise that is not the regulatory environment is fully applied in a commercial and conducive fashion. predicated on volume trading business must, in this instance, Serious players will willingly subject themselves to ensure the growth of the offshore industry,“that will always appropriate legislation, transparency and reporting have low cost tax advantages to offer funds and corporations.” requirements.” In support of that, like Guernsey, Bermuda Increasingly, offshore markets will have cornered their portion as a financial centre is also providing a 360 degree product of the universe as they offer the“cheapest well-regulated place set that encompasses fund administration, transfer agency where there is a professional support mechanism that business, custody and prime brokerage. He points out that guarantees probity and transparency and is consistent with Bermuda“has done some serious work to encourage further access to liquidity,”he says.

One of the consistent charges levelled against the fund deepening of the market. Additionally, Wojciechowski points out that consolidation in the market, with firms such industries of both the Caribbean and Channel Islands by as HSBC, Citigroup, Bank of New York and JP Morgan critics is that the centres offer a limited pool of staff and coming in and taking over the operations of smaller, local that local labour laws make it tough to augment the firms has also raised the bar. “It has resulted in a flood of industry with fresh specialists. Local providers smaller and medium sized funds entering the market. It has acknowledge that this does present a perception problem. also brought more interest in debt listings in the But they add that the existing funds expertise on the jurisdiction, with particular interest coming from London islands is huge and should not be overlooked. Butterfield’s and New York, for issuers in search of an alternative to the Moore explains that “unlike Dublin, we are not particularly European time zone.” Like Guernsey, Bermuda is adopting in the outsourcing game,” but agrees that flexibility is a pragmatic approach that does not stint on robustness. “At needed in allowing new talent to be attracted to the island the end of the day,” maintains Wojciechowski,“the market to support business growth.

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The growth in trading as a share of the entire business of securities firms inevitably raises questions about forecasting earnings and the extent of risk. Indeed, it may even be possible to see in today’s emerging business model the outlines of a long, slow decline in profitability in the years ahead—at least in the view of some industry observers. Surprised? You shouldn’t be. Bill Stoneman explains the new business dynamics and asks how long can the leading securities firms continue racking up outstanding earnings growth?

EADING SECURITIES FIRMS undoubtedly have a lot to brag about when it comes to their deal-making prowess. And they are not shy about doing exactly that. Goldman Sachs Group Inc., for example, detailed its role in its annual report last year in helping four private equity firms jointly acquire Texas Genco Holdings Inc., which it described as one of the largest wholesale electric power generating companies in the United States. Goldman Sachs told investors that the transaction was the largest leveraged buyout in the power sector in recent history and of course that its merger advisory expertise and underwriting capabilities were crucial.

Similarly, Lehman Brothers Holdings Inc. gave itself a big pat of the back in last year’s annual report for helping Diageo, the British owner of numerous alcoholic beverage brands sell 79m shares of General Mills, the US breakfast cereal maker, for $2.3bn. “This transaction

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PEAK TIME VIEWING exemplifies how Lehman Brothers brings many parts of the firm together as one team to create innovative solutions for our clients, and it received Thomson’s International Financing Review’s “US Equity Issue of the Year” award,” the firm told its shareholders. In fact, hardly an earnings report is issued on Wall Street without mentioning where the firm ranks in global league tables, the industry rankings of underwriters and mergers advisors—at least if the ranking in a recent period help cast the firm in a flattering light.

It is enough to make the casual observer think that Goldman Sachs, Lehman Brothers and their main competitors make most of their money underwriting stock and bond offerings and arranging mergers and acquisitions. They don’t, though they once did.

The headquarters for investment brokerage house Lehman Brothers Holdings Inc. is shown July 20, 2005 in a New York file photo. Picture

by Mark Lennihan.

Agency: Associated Press/EMPICS. February 2006.

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number of questions. Among them: Why do the media and securities analysts covering the industry focus on deal making? How long can the firms continue racking up outstanding earnings growth?

Growth in trading as a share of the entire business also raises questions about forecasting earnings and the extent of risk. Indeed, it may even be possible to see in the changing business model the outlines of a long, slow decline in profitability in the years ahead, at least in the view of some industry observers.

As profitable as the trading business is today, it can not last forever, says Brad Hintz, a securities industry analyst with Sanford C. Bernstein & Co. Inc., a unit of Alliance Capital Management L.P. Wall Street firms are reaping big gains by trolling in inefficient markets, Hintz says. But their very presence is going to improve the efficiency of those markets. “You are adding capital to markets that do not have capital,” he explains. “You are adding liquidity to markets that do not have liquidity.”

And that, he maintains, can only lead in one direction. Hintz previously served as Morgan Stanley’s treasurer and Lehman’s chief financial officer.

This photo shows a branch office for JP Morgan Chase is shown in New York's Times Square on “The reality is that as markets become Saturday, April 7, 2005. JPMorgan Chase & Co., the nation's second largest bank, on Wednesday, more efficient, profitability in them April 20, 2005. Picture by Mark Lennihan. Agency: Associated Press/EMPICS. February 2006. drops,”he says.

Unlike underwriting and advising on mergers and The biggest line of business in the securities world, at least among the five major independent firms based in acquisitions, trading is a capital-intensive business New York, is buying and selling assets, sometimes serving continues Hintz, adding that returns on equity are as an intermediary between clients and other times taking declining from one business cycle to the next as firms raise proprietary positions. Sales and trading, as the firms and deploy ever-greater levels of capital. “During the generally refer to the business, is not new, of course. But Internet boom, these guys were generating 30% return on Goldman, Lehman, Morgan Stanley, Merrill Lynch & Co. equity (ROE),”Hintz says.“They can not do that anymore.

Inc. and Bear Stearns Cos. Inc. do more of it now than ever If you go back to the 1980s, these guys were generating before. And the same can be said for JP Morgan Chase & 40% ROEs.” Indeed, although 2005 was a great year in terms of total Co. and Citigroup, securities rivals with roots in commercial banking, and at least three big European competitors, earnings and growth in earnings per share, return on including UBS, Credit Suisse and Deutsche Bank. More equity ranged at the major independent firms from 16.5% specifically, the firms are betting a lot of their own capital at Bear Stearns to 21.8% at Goldman, according to a report on financial positions in currencies, commodities, real by Merrill Lynch’s securities industry analyst Guy estate and operating companies. Goldman Sachs, for Moszkowski. “So what you have is a cycle of each peak example, owns power generating plants that produced ROE being lower than the peak before that,”Hintz said.

For many people who follow business, deal-making $377m in revenue in the first three quarters of 2005.

And while it would be hard to argue that the Wall Street provides the most vivid image of Wall Street. Whether it is giants are in anything but robust health right now, the shift the media fawning over star bankers—maybe former in business away from a concentration in investment Morgan Stanley Vice Chairman Joseph F. Perella— or the banking and toward a focus on trading inevitably raises a prominent mention of league table standings, it is easy to

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associate Wall Street earnings with taking private due to trading results. Goldman’s earnings per share rose companies public, raising capital for corporations by lining 26% in 2005 over the previous year’s level. Lehman up investors in their bonds and by advising on mergers Brothers posted a 38% gain in earnings per share. Earnings per share (EPS) growth was 11% at Bear Stearns and 20% and acquisitions.

In fact, however, traditional investment banking at Merrill Lynch. Only at Morgan Stanley, where top generated just 6% of pre-tax earnings in each of the past producers were rather distracted by a leadership struggle three years at Goldman Sachs, the only major firm to report last year, did EPS fall, by about 3%.

Longer term concerns about trading, however, revolve investment banking and trading earnings separately.

Trading produced about 75% of Goldman’s pre-tax around the difficulty of forecasting earnings, volatility of earnings over the same period. Investment banking was a earnings and risk-taking. On top of that is pressure on much bigger part of the whole as recently as 2000, margins, raising questions about valuation. Even if the accounting for 34% of pre-tax earnings, compared with sunniest outlook for trading prevails over time, it is difficult 48% for trading. It is no wonder then that London-based to forecast trading earnings, many observers say. Unlike Breakingviews.com, an online compendium of business investment banking, retail brokerage or for that matter, a commentary, stated recently, “Is not it about time to give shoe store, analysts have no real markers telling them up the pretence that Goldman Sachs is anything but a whether traders are keeping their customers satisfied or if they are generating a backlog of orders. hedge fund?”

Moreover, firms disclose little about their actual trading Although the numbers vary, the story is similar at the other major securities firms. At Morgan Stanley, sales, activity, beyond broad categories of assets they hold at the ends of each quarter. trading and principal Goldman Sachs, for investments accounted for example, provides in its 78% of revenue within the To be sure, many analysts say financial reports aggregate firm’s institutional securities trading has many, many bright years values for its principal division. Its institutional ahead, as firms continually invent investments in public and securities operation includes new products and as corporate private corporate and real investment banking and issuance of securities continues to estate assets, but gives no excludes retail brokerage and indication of what those the firm’s credit card supplant bank financing around the assets are, except for one business. At Merrill Lynch, world. “As investors become more very large one, a $3.3bn what the firm calls equity interested in capital market position in Sumitomo Mitsui and debt markets business instruments and as corporations Financial Group Inc. amounted to 77% of global become more comfortable with the convertible preferred stock.“I markets and investment attractive rates and the flexibility of can not get an idea what banking revenue last year. many of these strategies Capital markets, the capital markets, that plays into the even are,”says Philip Guziec, umbrella term for the sales hands of trading firms,” says Merrill a securities industry analyst and trading business at Lynch’s Moszkowski for Morningstar Inc. in Lehman Brothers, produced Chicago. Moreover, the 64% of total revenue last overall business year, dwarfing investment banking and asset management. Bear Stearns combines its environment provides few clues about trading results, says equities and fixed income businesses with investment Anton Schutz, president of Mendon Capital Advisors Corp. banking under the capital markets heading in its financial in Rochester, New York State, a money management firm reports. The equities and fixed income business, which that concentrates in financial stocks. That can be seen, he largely means sales and trading, produced 83% of the said, in the fact that Merrill reported strong trading results firm’s capital markets revenue. None of the firms returned in the fourth quarter of 2005, at the same time that Citigroup and JP Morgan Chase did less well in their phone calls seeking comment.

There is little doubt that Goldman Sachs and its peers trading.

Indeed, JP Morgan Chase’s recent experience challenges know how to trade well. The big five Wall Street firms, all modest-sized partnerships a generation ago, have grown the occasionally stated view that trading is almost large and have generated huge profits since listing their inherently a big money maker. The bank reported a loss in shares. Goldman, for example, employs more than 22,000 its equities trading in the second quarter of last year and people and it had $5.6bn in net income last year on has repeatedly reported overall disappointment in its $43.4bn in revenue. Morgan Stanley Record, which trading business.

Compounding the difficulty of forecasting earnings is the employs 53,000 people, reported net income of $4.3bn last year on $26.8bn in revenue. Moreover, 2005 was a great challenge of getting a handle on risk. In a distinct move year for most of the big independent firms, significantly away from traditional lines of business, trading puts a firm’s

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equity at risk, at least when a firm trades in its own happens when profitability attracts increased competition. account. Though firms apply complex formulas to their With equities trading generating no more than fractions of trading portfolios to come up with “value-at-risk” figures, a cent per share in commissions, it is barely profitable any the numbers are generally dismissed as meaningless by more, says Hintz, the Sanford Bernstein analyst.

New products, of course, provide better margins.“Hence, analysts.“It is a statistical figure that works fine when you don’t have extreme events,” Guziec says. “And when you the current focus on credit derivatives,” maintains Peter Horowitz, managing director and head of global markets have extreme events, it goes out the window.”

While analysts say the big Wall Street firms are practice for BearingPoint, the consulting firm that emerged sophisticated in the management of their risk, avoiding when KPMG accountants and consultants parted ways.“It concentration of their bets in numerous ways, several is new. It is complex. It requires a lot of analytics that not observers held up the last big trading-based global everybody has.”

Like Hintz, however, Horowitz said that good times can financial crisis as proof that trading is inherently quite risky.

“All you have to do is look at Long-Term Capital not last forever.“As more and more players enter a market Management (LTCM),” Schutz says, referring to the 1998 and arbitrage away the spreads, they become more and near collapse of a hedge fund that borrowed heavily, traded more mature and they go to the end of the line. Just like vanilla equities and vanilla aggressively and counted fixed income.”Though it is Nobel Prize winning US broking firms: still going strong tough to fix the life of a economists among its 200 new financial product with partners. Its positions 180 certainty, Horowitz says unraveled when Russia 160 their best days may last devalued the ruble and three to seven years. defaulted on sovereign 140 To be sure, many analysts debt, triggering a liquidity 120 say trading has many, many crisis and finally a 100 bright years ahead, as firms worldwide flight to higher 80 continually invent new quality investments. With 60 products and as corporate global markets in some issuance of securities measure of panic, the continues to supplant bank Federal Reserve Bank of Goldman Sachs Merrill Lynch Morgan Stanley Lehman Brothers financing around the New York at the time world.

“As investors organised a $3.5bn Data as at 31 Dec 05. Source: FTSE Group / Thomson Financial Datastream become more interested in injection of capital by many of the same Wall Street firms that now make most of capital market instruments and as corporations become more comfortable with the attractive rates and the flexibility their money in trading to keep LTCM afloat.

Indeed, then-chairman of the US Federal Reserve Board, of capital markets, it plays into the hands of trading firms,” Alan Greenspan, obliquely raised concern last May about says Merrill Lynch’s Moszkowski.

In fact, at the same time that Mendon Capital’s Schutz the risk that Wall Street and other non-bank financial companies took when they guaranteed banks’ credit risks says securities firms are mostly overvalued, Svilan Ivanov, with relatively new credit derivative instruments. “Some a vice president and director with Boston Consulting observers argue that what is good for the banking system Group, thinks that maybe it is time to reward Wall Street may not be good for the financial system as a whole,” firms for the consistency of their trading earnings with Greenspan said in a speech. “They are concerned that higher stock prices.

And even observers who raise strongest doubts about banks’ efforts to lay off risk using credit derivatives may be creating concentrations of risk outside the banking system the sustainability of trading acknowledge that firms have little choice but to pursue it for all its worth while they can. that could prove a threat to financial stability.”

Retail stock and bond brokerage commissions have been While he stopped short of fully endorsing the view he suggested, he said one aspect of credit derivative trading was under fierce pressure for years and are unlikely to come particularly troubling.“The lack of timely documentation of back. In fact, Merrill Lynch, the only major Wall Street firm new transactions and assignments of existing transactions with a big and successful brokerage business, positions itself as financial planner and asset manager to individual remains a significant problem,”Greenspan continued.

Still, the strongest qualms about the size of the trading investors as much as it does a traditional broker. The business on Wall Street concern its sustainability. Observers underwriting business is coming under similar pressure. assert that securities firms are looking further and further to Most notably, Google Inc. bypassed Wall Street when it find markets that offer ample spread between bid and ask went public in August 2004. It raised $1.7bn by auctioning prices or opportunities to spot overlooked value. Trading its own shares. “The value-adds and fees associated with stocks for institutional investors, once a mainstay of many investment banking activities are going to be picked apart,” firms’ trading business provides an object lesson in what concludes Horowitz.

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US REAL ESTATE

Soaring house prices and rising interests have put borrowers under strain. Lenders have responded with innovative mortgage structures to ease the payments burden, but will it be enough? It is the buyers – mainly hedge funds – of junior MBS tranches who will bear the losses if buyers start to default. Now regulators are articulating concerns that neither borrowers nor lenders appear to recognise the risks embedded in exotic mortgages. Worse, they are threatening to clamp down. Neil A. O’Hara reports from Boston.

IT TAKES TWO TO TANGO Michael Fratantoni, senior director of single-family research and economics at the Mortgage Bankers Association. Fratantoni estimates that private label deals now accounts for about 60% of MBS issuance, up from 10%-20% two years ago. Source: MBA, February 2006.

OUSE PRICES IN the United States have soared over the past two years even as the Federal Reserve Board (the Fed) boosted short-term interest rates from 1% to 4.25%. Rates on 30-year fixed rate mortgages have crept up just 0.5%, but borrowers in the hottest markets are still struggling to meet the monthly payments on traditional loans. Lenders have responded with innovative products such as interest-only mortgages (IOMs) and payment-option adjustable rate mortgages (ARMs) that have lower payments, at least initially.

Mortgage lenders do not retain the extra credit risk, however. They sell their exposure as mortgage-backed securities (MBS). It is the buyers – mainly hedge funds –

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FTSE GLOBAL MARKETS • MARCH/APRIL 2006

of junior MBS tranches who will bear the losses if buyers start to default. Now regulators, worried that neither borrowers nor lenders recognise the risks embedded in exotic mortgages, are threatening to clamp down. The median price of existing homes in the US has risen almost 25% to $212,000 since the first quarter of 2004, according to the Mortgage Bankers Association. The national figure disguises significant regional differences: prices have risen much faster in the North East, Florida and on the West Coast than elsewhere. Price increases flow straight through to higher monthly mortgage payments as buyers take on larger loans, while rising interest rates exacerbate the squeeze.

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The hard fact is that buyers are becoming stretched. The National Association of Realtors (NAR) indices of housing affordability compare the median family income to the “qualifying income” needed to support a traditional mortgage on the median house price assuming a 20% down payment and monthly housing expense equal to 25% of gross income. By that measure, the median household in the West could afford only 74.4% of the $336,500 median house price in November 2005, down from 92.1% a year earlier.

Demand for alternative mortgage financing has exploded as a result. LoanPerformance, a market research and consulting firm based in San Francisco that tracks mortgage loans, estimates that IOMs represented 30.6% of purchase originations in 2005, more than double their 13.4% share in 2003 (please refer to Table 1). Paymentoption ARMs, which allow borrowers to choose how much they pay each month, came from nowhere in 2003 to account for 10.9% of purchase originations and 16.1% of refinancings in 2005 (please refer to Table 2). Paymentoption loans allow borrowers to set their own monthly payment for an initial period. If they pay less than the interest due any deficit rolls over into the loan principal, a process known as negative amortisation. When the option period expires, payments jump to an amount that reflects prevailing interest rates and a return of principal sufficient to amortise the loan over its remaining life.

These new products would never have seen the light of day without MBS buyers willing to accept the incremental credit risk. Mortgage originators lay off their exposure by selling pools of mortgages packaged into securities. Until the last couple of years, government sponsored entities (GSEs) – Government National Mortgage Association (Ginnie Mae), Federal National Mortgage Association (Fannie Mae), and Federal Home Mortgage Corp. (Freddie Mac) – accounted for 80-90% of US MBS issuance, according to Michael Fratantoni, senior director of singlefamily research and economics at the Mortgage Bankers Association. Ginnie Mae securities enjoy a government guarantee, while the market values Fannie Mae and Freddie Mac securities, which do not have an explicit guarantee, almost as if they did.

GSEs typically issue MBS in a single tranche because investors rely on the guarantees for credit protection.

Private label MBS make up the rest of the market. Private issuers repackage mortgage cash flows into multiple tranches, from AAA-rated senior notes, which get paid ahead of all others, down to unrated junior subordinated notes that bear the first dollar loss if borrowers default.

Investors’ overwhelming preference for investment-grade bonds creates an arbitrage opportunity to sell the package for a premium – as long as someone is willing to buy the junior tranches at a price acceptable to the issuer. Hedge funds have emerged as the main buyers of those junior bonds.“Hedge funds have been chasing yield by taking on greater risk,” says Scott Anderson, senior economist at Wells Fargo & Co., the largest mortgage originator, “They

Scott Anderson, senior economist at Wells Fargo & Co., the largest mortgage originator in the US.“Hedge funds have been chasing yield by taking on greater risk,” says Anderson,“They have been going after these exotic mortgage products in order to gain that extra yield advantage.”Source: Wells Fargo & Co., February 2006.

Mark Milner, senior vice president and chief risk officer at PMI, points out that most people buy homes to live in, not for investment, and will miss mortgage payments only in exceptional circumstances.

“People don't default simply because the house didn't go up in value,” says Milner. Source, PMI, February 2006.

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have been going after these exotic mortgage products in order to gain that extra yield advantage.”

David Lereah, senior economist at the NAR, points out these products shift the burden of rising interest rates to borrowers and introduce to the residential market a risk previously confined to commercial mortgages: payment shock. The prevalence of IOMs in markets where housing is relatively affordable troubles him, too. “Over 30% of mortgages were interest-only in Atlanta, which has relatively low price to income ratios,” Lereah says, “You have ill-informed households doing interest-only loans. It is not just people trying to stretch their incomes to buy a home; it is people taking the easy way out.”He recognises that IOMs have their place, however. Owner-occupiers who expect to sell their house within three to five years may as well use IOMs because so little principal amortises in the early years of a traditional 30-year loan.

Non-amortising loans defer the growth in borrower equity, too. David Katkov, executive vice president of sales, field operations and product development at The PMI Group, a private mortgage insurer based in Walnut Creek, California, points out that home ownership has traditionally helped people of modest means – such as the typical buyer of mortgage insurance – create wealth by purchasing a house sooner and starting to build equity, even if they can only afford a small downpayment. Lenders insist that borrowers who cannot put 20% down must buy mortgage insurance, which protects the lender against borrower default.“If you are in a payment-option ARM or an interest-only loan and it is a high loan-to-value ratio, where is the wealth creation?” he asks,“In effect, they are renting. That is not historically how wealth has been created in Middle America.”

NAR’s Lereah frets that speculators who have bought investment properties in hot markets where rental income does not cover costs prefer IOMs in order to reduce the negative cash flow.“They are not building any principal in the house, no equity,”he says,“They are gambling that the price of that property is going to go up significantly in the short term.” If the local market stagnates and the cash outflow worsens as interest rates rise, marginal players may default and force lenders to dump properties at distressed prices.

A higher default rate could spook the hedge funds that buy junior MBS paper. It takes two to tango, after all.

Mortgage originators will only offer products that transfer incremental risk to borrowers if they can pass on their

exposure through the capital markets. In good times, everybody benefits: consumers get monthly payments they can afford, originators build loan volume and hedge funds slake their thirst for high yield paper. “When the housing market is booming and losses are low, these securities have very low risk and therefore very attractive returns for the risk,” explains Kenneth Posner, a managing director at Morgan Stanley in New York.

As credit spreads narrowed over the past two years, private label MBS ate the GSEs lunch: Fratantoni estimates that private label now accounts for about 60% of MBS issuance, up from 10%-20% two years ago. “It is a really dramatic change in the nature of the MBS market in the US,” Fratantoni says. Although an uptick in credit spreads would swing the pendulum back toward the GSEs, he suspects the private label market may have made permanent inroads.“Private label issuers dealing with very large volumes for the last couple of years are getting structures in place to cut their cost of bringing securities to market,”he says.

A regulatory initiative could cement the role of private label issuers in the MBS market. After accounting scandals wracked both Fannie Mae and Freddie Mac, Congress is threatening to impose tighter controls on their activities; administration officials and some senators have even suggested a fixed dollar cap on their retained mortgage portfolios. Lereah believes a compromise will vest the power to constrain portfolio size in the proposed new regulator for Fannie Mae, Freddie Mac and the Federal Home Loan Banks. “When good times turn to bad the regulator will be able to permit Fannie and Freddie to participate in the market in a big way,”he says.

That will allow the GSEs to retain their historical role as mortgage buyer of last resort if the housing boom cools off and private lenders draw in their horns. Posner expects house price inflation to slow down across the country in 2006 and loss rates on mortgage pools to rise. Fickle hedge funds may turn their attention elsewhere – and dry up the supply of exotic mortgages.“The pricing on these securities should change,” Posner says, “Spreads should widen. You may see rating agencies make adjustments to the structure of deals to provide additional protection to bondholders.”

Rating agencies police access to the capital markets because their standards determine how much credit protection each MBS tranche must have to command a particular rating. Whenever those standards change, it roils

TABLE 1 Interest-only Mortgage Market Share

TABLE 2: Payment Option Mortgage Market Share

Date 2005 to 9/30 2004 2003 2002 2001 2000

Date 2005 to 9/30 2004 2003 2002 2001 2000

Purchase 30.6% 29.7% 13.4% 5.9% 1.5% 1.9%

Refinancing 18.4% 16.7% 8.7% 6.4% 1.6% 0.4%

Source: LoanPerformance, February 2006

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Total 24.0% 22.6% 10.3% 6.2% 1.6% 1.1%

Purchase 10.9% 4.4% 0.5% 1.2% 1.1% 2.6%

Refinancing 16.1% 6.8% 0.9% 1.0% 1.1% 1.4%

Total 13.6% 5.7% 0.7% 1.0% 1.1% 1.9%

Source: LoanPerformance, February 2006

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ARMs at the same time the market, according to interest rates have been PMI’s Katkov.“You saw that going up,” Anderson says, with interest-only products “A lot of these mortgages last summer,” he says,“The are going to adjust within rating agencies came up the next three to five years. with different sizing Most will be reset as much characteristics. People had as 2% higher, which is a to re-price their IOMs at substantial increase in the origination level.” mortgage payments.” He PMI expects a soft expects a long drawn-out landing for the US housing erosion of credit quality market, however, provided that will push spreads back the economy keeps ticking toward historical averages. over. Mark Milner, senior MBS prices are likely to vice president and chief adjust much faster. Hedge risk officer at PMI, points funds have a strong herd out that most people buy instinct; if a couple of big homes to live in, not for funds cut their MBS books investment, and will miss when sub-prime mortgage payments only in borrowers start to default, exceptional circumstances.

David Lereah, senior economist at the NAR, points out [that exotic the rest may head for the “People don’t default mortgage] products shift the burden of rising interest rates to exit as well, precipitating simply because the house borrowers and introduce to the residential market a risk previously the very losses they are didn’t go up in value,” confined to commercial mortgages: payment shock. Source: NAR. trying to avoid. With Milner says, “They default February 2006. nobody left to buy the when they have an income junior MBS tranches, problem that interrupts Home alone? What does Fannie Mae’s future hold? lenders would stop their ability to pay.” He 140 offering exotic mortgages. cites anecdotal evidence 130 Regulators will not be that price appreciation in 120 shedding any tears. the hottest markets is 110 100 Government officials and starting to slow and 90 legislators have expects a period of 80 consistently expressed adjustment while incomes 70 60 concern about the spread catch up with prices.

50 of unconventional One tell-tale sign is the 40 mortgages.

In late inventory of unsold homes.

December, the Office of Existing homes on the Fannie Mae Freddie Mac FTSE World US General Financials Inc the Comptroller of the market in November 2005 Currency published for equalled five months’ comment new “Guidelines supply, up from less than Data as at 31 Dec 05. Source: FTSE Group / Thomson Financial Datastream Establishing Standards for four months a year and a half earlier, according to Fratantoni.“We are starting to see Residential Mortgage Lending Practices” designed to a bit of supply overhang at the national level,” he says, ensure that borrowers understand the risks they assume “That’s one of the factors leading us to predict a slowdown and that lenders have adequate internal risk management.

Although the industry will support improved disclosure to in the growth of prices for the next couple of years.”

A slowdown is all it will take to put pressure on borrowers borrowers, proposed lending restrictions may prove looking for a quick flip. Wells Fargo’s Anderson expects controversial. The MBA’s Fratantoni expects extensive losses to pop up first in the sub-prime market, where industry comment on the extent to which underwriting borrowers have weak credit. He estimates ARMs represent standards should be set by regulators rather than defined 80%-90% of all sub-prime originations, including 40%-50% by a competitive market among lenders. The NAR lobbied of interest-only, “no document” loans in some markets. regulators for curbs on exotic mortgages before the Originally designed for entrepreneurs and the self- guidelines came out, according to Lereah, who expects employed who cannot predict future income,“no document” non-traditional loans will wither away over time if lenders loans have caught fire among sub-prime borrowers willing adhere to the proposed guidelines. Exotic mortgages may to pay a premium rate to avoid conventional income and have seen their heyday; if the MBS market does not shut asset verification procedures.“We are seeing more and more them down, the regulators will.

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PFANDBRIEF In practice, a sudden rush of Pfandbrief issuance was never going to happen. Firstly, the Landesbanks were already borrowed as heavily as they could have been from the capital markets before they lost their guarantees to cushion their first years of life in the commercial world.

Photographer/Artist: Tmcnem. Agency, Dreamstime, February 2006.

r e t t e b a n o g n i t i a W

tomorrow

The German Pfandbrief market – still comfortably the largest for covered bonds in Europe – did not record the spectacular growth in 2006 of some newer jurisdictions, such as Spain, the UK and the Netherlands. This year is not expected to produce a dramatic surge in issuance either, because the far-reaching changes last year to the law that governs the instruments will not make a real impact on the market for another 12 months. Andrew Cavenagh reports.

HE PFANDBRIEF LAW that came into effect in July 2005 broadened the franchise of potential Pfandbrief issuers. It allowed any institution to apply to the Bundesbank and German Financial Supervisory Authority (BaFin), the banking regulator, for a licence and opened up the market for the first time to three of Germany’s big four commercial banks: Deutsche Bank, Dresdner Bank, and Commerzbank. Meanwhile Hypovereinsbank inherited an old-style Pfandbrief licence from one of the constituent banks in the merger that formed it and a host of others.

The legislation also removed the state guarantees from the 12 regional Landesbanks to comply with EU law on state subsidies. The guarantees had allowed the Landesbanks to meet their funding requirements from the senior unsecured markets on triple-A sovereign

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ratings – precluding the need for them to look for any other sources of finance.

In theory, this combination of factors could have been expected to spur Pfandbrief issuance. Once the new law came into play, commercial banks could suddenly access the cheapest source of funding available to them – barring sovereign-guaranteed debt. Meanwhile, the Landesbanks that have tended to attract average stand-alone ratings around the single-A level were expected to build substantially on their usage of the Pfandbrief instruments as their prime source of funding.

In practice, a sudden rush of Pfandbrief issuance was never going to happen. Firstly, the Landesbanks were already borrowed as heavily as they could have been from the capital markets before they lost their guarantees to

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Price Rebased (31 Dec 2003 = 100)

PFANDBRIEF

Most of the existing cushion their first years of issuers, however, do not life in the commercial expect many more to join world. Estimates vary as to their ranks in the near the extent of this prefuture. “I cannot see there funding (and the figures will be many new no doubt vary from bank participants in the near to bank) but few market future, but you will see participants and analysts some restructuring,” expect them to need to observes Holger Dohra, raise much additional head of business relations capital over the next 12 management on the months. “I do not think treasury side of DG their pre-funding will run Hypotheken Bank. He out this year,” observed pointed to the impending Thomas von Luepke, the re-integrations of mortgage head of German bank bank subsidiaries in the analysis in the financial German banking sector. institutions team at Fitch The reason Bafin has not Ratings. “There may be been overwhelmed with some fund raising in 2006, Ralf Preusser, European strategist at Deutsche Bank in London. applications is simple–cost. but not much.”

Deutsche Bank can borrow in the unsecured markets at the double-A Dohra explained that Secondly, there has minus level ….“It is a simple cost-benefit equation, and for us there’s meeting the requirements been no rush of no significant benefit,” says Preusser. of a license, which includes applications for the new a commitment to bring Pfandbrief licenses. The Pfandbriefe: can it make a comeback in 2006? regular repeat issues to the existing issuers – the 104 market, could require a Landesbanks, the 18 103 bank to make an private mortgage banks 102 investment that ran into (hypotheken) and the few 101 “millions of euros”. “It is savings banks 100 very expensive,” agrees (sparkassen) that had 99 Markus Nitsche, head of started issuing Pfandbriefe 98 marketing at Deutsche themselves in 2003 – were 97 Hypothekenbank.

“You given time to demonstrate have to hire more people compliance with the and install a risk-control licence requirements, and Pfandbriefe (Germany All Maturities) procedure that allows you only a handful of new to monitor your Pfandbrief applicants have come Data as at 31 Dec 05. Source: FTSE Group / Thomson Financial Datastream pool and issuance and forward in the first six report the information regularly to the supervising agency.” months of the new regime.

The approach of the big German commercial banks BaFin will not disclose details of the applications it had received. A spokeswoman for the financial regulator in illustrates the significance of these set-up costs.

Bonn says it had awarded “around five” new licenses. Commerzbank, the lowest rated of the three (with an A“Another five have said that they are interested in applying minus rating) agreed in November to pay Deutsche Bank and or have applied to enlarge their existing licenses,”she adds. Dresdner €4.5bn for their stakes in Eurohypo, the country’s The only significant new licensee so far is thought to be leading mortgage bank and the largest issuer of Pfandbriefe.

Kreissparkasse, the savings bank based in Cologne. But When the deal is completed in March, it will give Matthias Bourgart, the bank’s head of treasury, was unable Commerzbank 98% of Eurohypo and enable it to use the to confirm reports that it will be issuing up to €500m of Pfandbrief market to secure most of its funding needs on a Pfandbriefe before the end of 2006. “I think we will issue rating seven notches higher than it could in the unsecured market – a proposition that obviously justifies the something this year, but I can’t say how much,”he says.

HSH Nordbank, which currently issues Pfandbriefe investment. But for Deutsche Bank that can borrow in the through its mortgage bank subsidiary, is another unsecured markets at the double-A minus level, the situation substantial institution that will shortly seek to issue in its is clearly different.“It is a simple cost-benefit equation, and own right.“The parent company will apply for a licence as for us there’s no significant benefit,” says Ralf Preusser, well in the next couple of months,”says Ralf Paulsen, head European strategist at the bank in London. Dresdner meanwhile has few Pfandbrief-eligible assets left and a of debt capital markets at the bank.

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funding strategy linked to its insurer parent Allianz, while HypoVereinsbank is a long established Pfandbrief issuer through the licence it inherited from one of the constituent banks in the merger that created it. Preusser adds that “supplementary” regulatory requirements beyond the Pfandbrief Act had surprised a lot of private banks that were considering them. One example was the requirement that different individuals had to approve the loan and property valuations for Pfandbrief-eligible mortgages – a task usually conducted by one person at most commercial institutions.

Pfandbrief issuance consequently grew only marginally last year from the €116bn total recorded in 2004 and 2003.

The Association of German Pfandbrief Banks (Verband Deutsche Pfandbriefbanken, [VDP]) has yet to produce its final definitive statistics for the year, but figures from Hypovereinsbank suggest the market grew at somewhere by about 8% in line with the projections of 12 months ago, with €48.1bn of jumbo transactions (€1.5bn or more).

The VDP, which succeeded the former Association of German Mortgage Banks (Verband Deutsche Hypothekenbanken) in July 2005, expects to see little change this year. Dr Louis Hagen, the VDP’s chief executive manager, says an expected increase of about €8bn-€10bn in the issuance of mortgage-backed (hypotheken) Pfandbriefe will be offset by a decline in those backed by

public-sector loans (offentliche) as issuers could no longer include paper issued by Landesbanks in the latter. “That market has literally disappeared,” he says. “Given large amounts of redemptions, the end result is that Pfandbrief issuance for the year will be flat.”

It is in 2007 that the VDP and most of the existing issuers expect to see a significant boost, as at least some of the Landesbanks have to start re-financing themselves without the benefit of state guarantees for the first time. “It will make much more sense for them to refinance as much as they can on assets that are eligible for Pfandbrief pools,” maintained Paulsen at HSH Nordbank. “And the pressure on them will be increasing.”

“Pfandbrief is the least costly form of funding they have,” added Hagen at the VDP.“And they will push their mortgage Pfandbrief issuance because they will have access to more assets – both from their own origination and from the savings banks.”

This is because only a small minority of the 490 savings banks in Germany will have sufficiently large balance sheets to countenance setting up their own Pfandbrief programmes – regardless of whether they think they can justify the cost.

Hagen says the 25 institutions with balance sheets of more than €10bn were the natural candidates, but he added even these will “hardly ever”be able to issue in benchmark size.

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are working on,” observed Consolidation in the von Luepke. “They have sector may provide the started to look at the answer in some cases – possible legal structures.”

Nitsche at Deutsche These endeavours are Hypothekenbank says he likely to produce believed that there will considerable consolidation definitely be mergers of mortgage assets this year between sparkassen in – whether through mergers the coming months, and or asset transfers – and the some expect to see larger pools of Pfandbrieffurther rationalisation eligible collateral that among the Landesbanks. emerge from the process Whether mergers are expected to fuel the between Landesbanks will market expansion in 2007. create larger truly single Stronger demand for entities and asset pools mortgages as the German remains open to question, economy continues to however, given the degree recover from recession of political involvement in should bolster it further.“It the institutions. While is the best capital market there are no longer instrument you can think 12 independent Dr Louis Hagen, chief executive manager of The Association of German of, and I don’t see any Landesbanks, the four Pfandbrief Banks (Verband Deutsche Pfandbriefbanken or VDP). Hagen reason for the market to that are now majority thinks that an expected increase of about €8bn-€10bn in the issuance of decrease because of owned by rivals still retain mortgage-backed (hypotheken) Pfandbriefe will be offset by a decline in consolidation,” concluded their separate identities. those backed by public-sector loans (offentliche) as issuers could no Hagen at the VDP. Von Luepke at Fitch longer include paper issued by Landesbanks in the latter.

Neither are the Pfandbrief doubts that such issuers concerned that the “horizontal integration” Dr Louis Hagen, the VDP’s chief rapid growth in other will be able to deliver costexecutive manager, says an expected European covered-bond saving synergies - given markets – particularly Spain the political opposition to increase of about €8bn-€10bn in where issuance grew to the closures and job cuts the issuance of mortgage-backed €52bn from €31bn in 2004 – these will inevitably entail (hypotheken) Pfandbriefe will be will draw investors away.

– and questions whether offset by a decline in those backed Nitsche says that investor simply creating fewer, by public-sector loans (offentliche) appetite for the Deutsche larger Landesbanks will Hypothekenbank’s issues resolve the issues the as issuers could no longer include remained“very strong”, with sector is facing. paper issued by Landesbanks in the growing interest from He maintains that latter. “That market has literally buyers in Japan and Canada, vertical integration with disappeared,” he says. and there was no reason to the savings banks – doubt that it will remain so. whether through coHe concluded that “as the operation, joint ventures, takeovers or mergers – offers the best way forward, as it will general market for covered bonds in Europe increases, combine the Landesbanks’ experience in the wholesale Pfandbriefe will at least defend their share of it”. “From our point of view, we still see them as a very liquid and stable markets with the retail outlets of the savings institutions.

There are various options for the transfer of Pfandbrief- environment,”agrees Dohra at DG Hypotheken Bank.

The €3bn jumbo global Pfandbrief that Eurohypo eligible assets to a licensed issuer. A straight sale could be one, but savings banks will not necessarily want to shrink their launched in mid-January seems to bear out such balance sheets in this way. Bankers are consequently looking assertions. With a 3% coupon and six-year maturity, the to see how they can use the Mortgage Register that was set up spread on the issue was equal to the swap rate (flat) and under the new law to transfer mortgage claims - to 11.4 basis points over the 5% January 2012 bund.

Landesbanks or insolvency-remote special purpose vehicles - International investors bought about 50% of the issue, so the loans will remain with the originating institution but with Scandinavian buyers alone accounting for 15%. the security claims on them will transfer to the Pfandbrief “What you see is that the countries that issue very heavily issuer.“There are a number of interesting solutions that people trade at a discount to those that have seen limited

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supply,”comments Preusser at Deutsche Bank.

The changes in the German mortgage market also have the potential to boost mortgage-backed securitisation – the 40% of pools that are not eligible for Pfandbrief collateral are certainly candidates for asset-backed issues.

But there seems unlikely to be a profusion of funded RMBS issuance out of Germany in the near term, despite the successful launch of the first non-synthetic deal backed by German collateral for five years in August 2005.

The Mortgage Register has obviated the need to secure consent to transfer each individual loan – which had proved to be something of a deal-killer previously (a €301.5m EMAC-DE 2005-1 issue got round the problem by using only certifiable, transferable mortgages). The Mortgage Register came into being under the 2005 law to fix an unwieldy anomaly in the previous law which required anyone structuring an RMBS securitisation to secure the consent of every individual mortgage holder in a portfolio. To avoid this unwieldy requirement, arrangers preferred synthetic structures (which sold on the underlying risk in the portfolio via a credit default swap) over so-called ‘true sale’ whereby all assets in a mortgage portfolio are sold in their entirety into a special purpose vehicle (SPV) and thereby allowing a ‘true’ securitisation.

However, this has failed to persuade anyone yet to attempt to use the True Sale Initiative platform (essentially a

securitisation deal template) that development bank Kreditanstalt fur Wiederaufbau (KfW) and 13 commercial institutions launched in 2003 in support RMBS transactions.

Unfortunately, there has hardly been only very limited take-up on the platform. For triple-A investors in search of higher yields than the Pfandbriefe offer, a more promising avenue has been the securitisation of mezzanine loans to small and medium-sized corporates, as four further transactions last year more than doubled the volume of outstanding issuance in this 18-month-old asset class to just over €2.1bn.

The Swiss-based Capital Efficiency Group launched two more deals out of its PREPS programme, the second of which in November 2005 included non-German and nonAustrian collateral for the first time. Deutsche Bank and IKB Deutsche Industriebank then entered the market in December with the slightly larger €370.5m FORCE 2005-1 transaction, backed by a portfolio of loans between €2.5m and €15m in size advanced to 57 private unlisted German companies. The deal priced at a slight premium to the latest PREPS at the triple-A and single-A levels, reflects the firsttime issuer. HSBC had earlier launched the €220m Heat Mezzanine 1-2005 deal, pooling loans to 32 German SMEs, back in May of the same year. Lars Schmidt-Ott, who is managing director at CEG, says that after a reasonably quiet inter-regnum he expects to see a further €1.5bn of SME loan-backed deals out of Germany this year.

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CEDULAS HIPOTECARIAS

The market for Spanish covered bonds – which exceeded that for German jumbo Pfandbriefe for the first time in 2005 – is set for further spectacular growth this year, as it continues to offer lenders the most economic means of funding loans to the booming domestic property market. Andrew Cavenagh reports. pain’s banks expect the market for cedulas hipotecarias to grow by more than 20% in 2006 over last year’s aggregate issuance of €52bn – compare this with the jumbo Pfandbrief market that was worth €48.1bn last year.

“This year we expect it to get up to certainly above €60bn, possibly as high as €65bn,”says Carlos Stilianopoulos, head of capital markets at Caja Madrid, the country’s secondlargest savings bank and fourth-ranking issuer.

Individual issues from Spain’s large banks will continue to account for the lion’s share of the market this year – about 65% of the total volume – with the balance coming from the multi-issuer vehicles such as Ahorro y Titulizacion (AyT) and Titulizacion de Activos (TDA). Three of the big players had already launched new issues with a combined value of €9.5bn before the end of January.

Caja de Ahorros y Pensiones de Barcelona (la Caixa), the country’s third largest financial institution, secured a preliminary triple-A rating from Standard & Poor’s (S&P’s) in the first week of this year for two cedulas

S

“The mortgage market in Spain is still very strong,” explains Stilianopoulos.“There was a 25% increase in total outstanding mortgages in 2005, and the total is continuing to rise.” He says that the banks are forecasting another 20%-22% growth in the outstanding aggregate mortgage balance by the end of the year, as the boom in the Spanish property market shows no signs of coming to an end.

Photograph of Spanish houses in a thunderstorm.

Photographer: Nick Stubbs. Agency: Dreamstime, February 2006.

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hipotecarias issues of the minimum benchmark size of €1.5bn. The rating was five notches above S&P’s senior unsecured long-term rating for the bank of A-plus. The ratings agency had also assigned la Caixa’s 10 previous issues with the same rating.

Then Banco Espanol de Credito (Banesto) closed a €2bn issue on January 18, which offered investors a 3.5% coupon on a 10-year maturity. It was Banesto’s seventh issue and took the bank’s outstanding total of cedulas hipotecarias to €12.43bn against its overall mortgage pool of €23.18bn.

Fitch meanwhile assigned a double-A-plus rating to the issue – two notches higher than Banesto’s unsecured rating and provided the maximum “uplift” that the agency’s methodology allows for investment-grade issuers of Spanish covered bonds. Fitch reported that the extent of the over-collateralisation in the deal was a key factor – it stands at 86.48% for the whole mortgage pool and 52.08% if only cedulas hipotecarias eligible loans are taken into account.

Finally Banesto’s parent and Spain’s leading bank Banco Santander Central Hispano announced it would be raising €4.5bn from its 11th and 12th covered bonds, which would offer investors maturities of eight and 20 years and take Santander’s outstanding cedulas hipotecarias to €23.4bn. This compares with an overall mortgage pool of €44.35bn, about 70% of which is eligible as collateral for the covered bonds. While the nominal over-collateralisation of the pool is higher than Banesto’s

ignites new issuance

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CEDULAS HIPOTECARIAS

at 89.52%, it drops to 33.05% if only eligible loans are considered. Fitch nevertheless assigned the same rating to the two issues as it did to Banesto’s.

Santander and la Caixa will certainly tap the market again during the course of the year, as will Spain’s second largest bank BBVA. Angela Cruz, the lead S&P analyst on the Caixa transaction, says that there are several more issues coming to the market.“It is at least as busy as it was last year – we see it as being a pretty big market.” A Santander source disclosed that the bank would probably issue a further €2.5bn of bonds to match its 2005 total of €7bn.“This year it will be more or less the same,”he says.

Caja Madrid will also make a significant contribution to the total this year, with two or three issues in its own right and further participation through one of the multi-issuer vehicles.“We will be issuing possibly €4bn-€5bn directly and a further €1bn-€2bn through TDA,”confirms Stilianopoulos.

He says that the bank will launch the first of its individual issues in March and the second about three months later in June. A third could then possibly follow in September.

The increase in covered bond issuance this year will be driven by continuing and rapid growth in demand for Carlos Stilianopoulos, head of capital markets at Caja Madrid, the mortgages in Spain.“The mortgage market in Spain is still country’s second-largest savings bank and fourth-ranking issuer. very strong,” explains Stilianopoulos. “There was a 25% increase in total outstanding mortgages in 2005, and the boost property sales, as more non-Spanish investors would total is continuing to rise.” He says that the banks are look to realise their gains.

Investor appetite for Spanish covered bonds also remains forecasting another 20%-22% growth in the outstanding aggregate mortgage balance by the end of the year, as the strong, helped by the change in the tax treatment that the boom in the Spanish property market shows no signs of authorities introduced for non-European investors last coming to an end. “It will probably slow down a bit,” year.“That was really important to us as it opened up whole observes Cruz at S&P. “But you will have cedulas new investor bases in Asia, Eastern Europe and refinancings, and we are still talking about mortgage lending Switzerland,” explains Stilianopoulos. He says that investors outside the EU growth rates that are now accounted for significant.” Meanwhile, Cedulas Hipotecarias enjoy their place in the sun between 20% and 25% of official government 110 every issue. statistics released in 108 The continuing bull January show that house 106 market for covered bonds prices have risen by an 104 has not impeded the average of 12.8% in 2005 – 102 growth of the market for the 12th successive year of 100 98 residential mortgageincreases. In particular, the 96 backed securities (RMBS) authorities report that they 94 in Spain. This is perhaps have welcomed the because RMBS offers a noticeable drop in the rate cost-effective means of of increase in house prices Pfandbriefe (Germany All Maturities) Pfandbriefe (Spain All Maturities) financing loans that are (which peaked at 17.2% in ineligible for the covered2004) as evidence of longbond pools – in other term strength that, in turn, Data as at 31 Dec 05. Source: FTSE Group / Thomson Financial Datastream words, those with loan-tohas reduced the likelihood value ratios of more than 80% in the residential sector and of a crash in the Spanish housing market.

That sense of relief, however, may be a tad premature. 70% in commercial real estate.

Stilianopoulos points out, however, that such The market could just receive a further price fillip this year if the European Court of Justice decides that Spain’s tax securitisations have also inevitably reduced the overlaws on property gains discriminate unfairly against foreign collateralisation in the cedulas transactions - because the investors. Up to now Spanish nationals are eligible to pay bonds were secured against the issuer’s entire mortgage only 15% tax on capital gains on real estate profits while portfolio in the event of insolvency. For this reason, Caja foreign owners pay 35%. A favourable ruling is expected to Madrid has not issued RMBS to date.

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US CUSTODY

US CUSTODIANS

ON THE MOVE The number of domestic custodial players has shrunk considerably over the past few years, with powerhouse firms such as Citigroup, JP Morgan, Bank of New York, State Street, and Northern Trust consolidating their custody base through strategic acquisitions while offering an increasingly broader range of services. With fee-generated revenue and improving market conditions helping to boost profit margins, the business of asset management, securities lending and trade processing is looking mighty good—at least for the time being. Dave Simons reports from Boston.

ED BY A strong year-end rally, equities rounded out 2005 on a positive note, with volume on the New York Stock Exchange (NYSE) 10% higher than in the previous year. The increase in activity was certainly good news for some of the largest US custody banks – including Citigroup, State Street, Bank of New York Northern Trust, JP Morgan and Mellon Financial. Both Bank of New York and Northern Trust, for example, registered double-digit growth during the final quarter of 2005, while State Street’s profits jumped an eye-opening 35% – its largest increase in net income in two years. By February shares of State Street were hovering around $60, some 45% ahead of their year-to-date low. “The numbers were good at all of the custody banks and were driven by revenue in their asset management business,” observes RBC Capital analyst Gerard Cassidy.

“Whether they offer index funds or other funds, this

L

FTSE GLOBAL MARKETS • MARCH/APRIL 2006

business was strong and is an industry-wide trend.”

Although their strategies may vary, the nation’s top custodians believe that emerging techniques and technologies will give them the strength to maintain their dominant position going forward. Pooling – in which assets from a wealth of funds are combined with the goal of providing greater efficiency and improved performance for custodial clients—is considered by some to be the next potentially explosive marketing vehicle. Value-added services remain a key component of custodial offerings, with features such as customised reporting and performance analytics leading the way. Although outsourcing has yet to become a major factor, opportunities still exist for US custodians, if not on the same scale as once anticipated.

Alan Greene, executive vice president of State Street in Boston, sees technology continuing to drive the custody market over the near term. According to Greene, State Street will spend some 20% of its total operating capital on technology in 2006, with funds coming mainly from its assetservicing division.“In that way, our ability to really focus on our core custody business becomes a strategic advantage,” says Greene.“Particularly as the regulatory side of things gets more complicated, the notion of demonstrated ability to handle complexity of scale becomes very important.”

“Competitively, each one of the custody banks has a strategy that’s slightly different from the rest,” says Griff Ehrenstrom, senior vice president, North American Sales for asset servicing at Northern Trust.“And occasionally it can be difficult to perceive those differences. We tend to go with

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our traditional strengths like client service, with technology that we believe better reflects how an investment program is managed than how a custody bank is organised, and finally with innovation, which includes our efforts in pooling services, as well as the success we’ve had with our Compliance Analyst product, a Web-based tool that facilitates portfolio performance monitoring. We believe that if you can identify and be able to meet these compelling needs that exist within the marketplace, it gives you a beachhead that you can really exploit for a period of time.”

As the customer base changes, custodians such as Northern Trust have adapted by providing information that is more reliable and up-to-date. “With a pension fund, it might be okay to issue data on assets and liabilities on a monthly basis, or even less frequently,” says Ehrenstrom.

“From a fund-manager’s perspective, obviously it is a much different story. Which is why we have had rates of return available daily for several years now, and we’re accelerating and enhancing that process to bring some of the analytics and attribute information that are usually thought of more as a monthly orientation to a daily orientation as well. This year we’re rolling out an online version that will not only allow clients to look at performance but offer an in-depth explanation of the performance, good, bad or indifferent.”

Despite some sluggishness, outsourcing may yet prove to be a valuable commodity for custodians, says Greene, who points to recent gains in middle-office processing.“Unlike in the US where fund-accounting and fund-administration outsourcing took precedence, Europe helped launch the middle-office trend,” says Green, whose bank recently renewed its five-year-old investment operations outsourcing arrangement with Scottish Widows Investment Partnership (SWIP). “We are now are seeing interest building over here. But it is not a one-size-fits-all approach – and our specialty is finding a solution that helps meet the customer’s unique needs. We’ve done a number of these at this point – the entire gamut of asset classes: East Coast, West Coast, Europe, fixed-income, equity, you name it. It is really a combination of scalable architecture as well as customised components that we’re delivering, and I think that has helped us maintain our lead in custody. So when someone comes to us asking about experience and expertise, they just have to look at our record.”

Patrick Curtin, executive vice president of Investor Services at The Bank of New York (BNY), believes his company is well positioned to address the evolving outsourcing trends. “We were one of the first companies to build the infrastructure and a dedicated business unit to support the outsourcing needs of institutions,”says Curtin.“We see opportunity in becoming the extension of the investment manager’s front office and many of the non-core middle office functions – our new business pipeline remains full. However, we are being careful to pace ourselves in taking on new appointments for two major reasons. First, you have to be able to execute properly on these complex assignments. Second, the economics must make sense. And to that end we are focused on potential partners that are likely to succeed who we can grow with over time.”

In 2005 BNY’s assets under custody approached the $11trn mark, a 12% increase over the prior year. With a current price/earnings ratio of 15, BNY “would seem to be trading at both a relative and an historical discount,” notes Motley Fool’s Stephen D. Simpson, CFA, who calls the bank “a good operator with an interesting valuation in an industry that’s very important to the smooth operation of the financial markets.”Servicing fees rose 10% to $815m during BNY’s fourth quarter, and the bank hopes to strengthen its money-management position by selling services to clients of its securities- processing unit. BONY recently opened a Boston headquarters a stone’s throw away from rival State Street, in an effort to expand its base of individual investors.

“Custody and custody-related services comprise a meaningful percentage of our total securities servicing fees,” notes Curtin, “it is one of our core service offerings and an extremely important part of the bank’s overall financial picture.

In the US we are a market leader across all major client segments, whether broker dealers, investment managers, hedge funds, insurance companies, banks, non-profit and public sector entities. We have unmatched penetration of financial institutions. With that natural client base, few, if any, providers can complement their core custody-related services with the broad set of offerings that we have, which is why we are optimistic about creating our own growth. For example, the natural cross sells for our traditional custody investor services products are foreign exchange, securities lending, trade execution, transition management, and collateral management services. In addition, we continue to broaden and enhance our core custody related offerings, with a focus on growing across areas such as hedge fund servicing, ETF servicing, and risk management.”

Pooling for dollars In December, Northern Trust announced that it would provide custody and fund administration services for Univest, a newly established pension-asset pooling service Patrick Curtin, executive vice president of Investor Services at The Bank of New York (BNY), believes his company is well positioned to address the evolving outsourcing trends.“We were one of the first companies to build the infrastructure and a dedicated business unit to support the outsourcing needs of institutions,” says Curtin.

Photograph supplied by Bank of New York, February 2006.

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Price Rebased (31 Dec 2003 = 100)

US CUSTODY

fairly similar conceptually. I launched by Unilever, the do think that our custody London–based consumer and accounting technology goods firm.

Though clearly positions us to build various regulatory issues that out if the interest were must first be addressed, to develop here.”

Ehrenstrom sees Exchange-traded funds considerable interest in (ETFs), a product class that pooling on this side of the State Street helped pond as well. develop, has the potential “We have a number of to become another large multinationals, some important piece of the of whom we have worked asset-management with on the development equation, says Greene. “It of the product itself, who will be interesting to see if have expressed a ETFs can keep the pooling willingness to get going on folks content, or whether this just as soon as the Griff Ehrenstrom, senior vice president, North American Sales for the marketplace is going to solution that we’ve asset servicing at Northern Trust.“Competitively, each one of the insist on pooling in proposed is approved by custody banks has a strategy that’s slightly different from the rest,” he addition to that. It is a little the Department of Labor says,“And occasionally it can be difficult to perceive those differences. too soon to tell, but we [sic],”says Ehrenstrom.

We tend to go with our traditional strengths …” Photograph supplied have seen significant Pooling has helped

by Northern Trust, February 2006. interest in ETFs of late, and revive interest in custody I think that will continue.” and related asset servicing Competition intensifies in a demanding marketplace for within the maturing custody services 125 defined-benefit market— Proving their worth 120 no small feat, says Although price remains a 115 Ehrenstrom.“If we go into consideration for some 110 a corporate treasurer’s clients, ultimately quality 105 office with 15 minutes to will rule the day, says 100 95 make our case and don’t Greene. “The notion of a 90 talk about anything but trusted provider with a 85 our pure custodial demonstrated track record 80 excellence, we’ve fairly is becoming more and assured ourselves that we more important. If you won’t get another 15 look at the firms that Citigroup Bank of New York Mellon Northern Trust JP Morgan minutes anytime soon. compete in the space that On the other hand, if we we’re in, almost all of them Data as at 31 Dec 05. Source: FTSE Group / Thomson Financial Datastream go in and talk about have a number of other solutions that can help manage the cost of their businesses that they are trying to run at the same time. And retirement program – one of which would be pooling – in most instances the businesses are larger, which I think we now have their attention.” makes it difficult for those firms to get the funding required By centralising administrative duties, pooling makes it to run their custody business properly.” easier and more cost effective for multinationals to oversee Firms that are lacking in experience or expertise often plans that are scattered throughout the world.“You’re able resort to fees, says Greene, “quite honestly because it is to roll many managers into one,” says Ehrenstrom. their only hope of competing in this environment. But we Additionally, the lower operating costs that are associated also see clients approaching that kind of a bid with a with pooling allow subsidiaries access to services that reasonable amount of sophistication. I think they might otherwise be unavailable, notes Ehrenstrom. “Not understand that players that compete on price alone are only are returns theoretically improved as a result of having doing so only because they have to – and the fact that better managers on board, but then you can also participate they’re competing in this manner raises questions as to in custodial offerings such as securities lending and whether they are going to be around for very long. Of commission recapture, both of which are very nice, low- course, price does matter, and one of the advantages that risk augmentations to the investment program.” we have is our scale, which allows us to pass along certain “Clearly there is a lot of interest in pooling over in unit-cost savings to our clients. Naturally there’s Europe,”adds Greene.“In the US, there are some alternative considerable value in that – and it is a strategy that we vehicles – such as fund-to-fund or master-feeder – that are believe will work for us over the long haul.”

MARCH/APRIL 2006 • FTSE GLOBAL MARKETS

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SECURITIES LENDING ASIA

Outside of markets such as Hong Kong, Japan and Taiwan, there is no doubt that the biggest problem in the wider Asian securities lending market up to now has been the regulatory climate and the slow pace of change in regulations, tax structures and efficient settlement systems. Markets such as China, Indonesia and Malaysia are currently not even on the radar of most players since the regulatory environment has shown no signs of letting up.

However, the pace of change may now begin to step up as India and Korea set the pace by introducing reforms to create a lending structure. It looks as if interest has been renewed in the potential of Asia. Rekha Menon reports.

SECURITIES LENDING IN ASCENDANCE N THE 29TH of December last year when India’s securities industry regulatory authority, SEBI (Securities Exchange and Investment Board of India) issued a discussion paper on short selling and securities borrowing and lending on its website inviting public comment on the same, it sent a ripple of excitement through the financial industry in the region. In light of the rapid growth and structural reforms experienced by the country’s financial markets over the past decade, enhanced participation by foreign institutional investors and expansion of the derivatives market, industry participants from both within and outside the country have long urged the Indian regulatory authorities to allow short selling and securities lending to add depth to the country’s securities market.

SEBI’s discussion paper promises to do just that. It reviews the present policy on short selling and securities lending in India and suggests steps to introduce these practices in line with international norms while ensuring market confidence and investor protection.

Praising SEBI’s initiative, Sunil Daswani, regional manager for securities lending at Northern Trust in Asia, who is also the chairman of the Pan Asian Securities Lending Association (PASLA), the industry body that aims to encourage the growth of securities lending in Asia, says that the discussion paper demonstrates that Indian

O

FTSE GLOBAL MARKETS • MARCH/APRIL 2006

Robert Winmill, vice president, securities finance and investment products at HSBC Securities Services in the Asia Pacific.“Korea has worked very closely with market participants to get its regulatory environment in line with international markets. The increase in volumes that we have seen in the past couple of years is a direct result of that,” he Winmill.

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FTSE GLOBAL MARKETS • MARCH/APRIL 2006

SECURITIES LENDING ASIA

regulators understand the benefits of allowing lending and borrowing of securities. “Among other things, securities lending improves liquidity, reduces volatility and ensures efficient price discovery for market participants. For markets that wish to Korea 4 Billion Japan 100 - 110 be viewed as progressive and attract Emerging Billion capital it is essential to have a vibrant securities lending market.”

Hong Kong 25 - 30 PASLA has already sent its Billion Taiwan 2 Billion feedback to SEBI on the discussion paper, says Daswani. One of the most Thailand 3 - 4 important aspects that PASLA has Philippines Billion Emerging addressed is that SEBI should separate the regulation and Singapore 4 - 5 treatment of short selling versus Billion securities lending. Explains Daswani, while short selling cannot exist without securities lending, the Loan Data Provided by: Australia 30 - 35 Taiwan – Taiwan Stock Exchange opposite is not true.“There are many Billion Korea – Korea Securities Depository reasons for allowing securities All other Data – PASLA lending in a market other than short selling like providing a source of additional revenues for investors and secured finance for financial institutions. In our response we have explained that in market develops,” says Simon Lee, vice president developed markets regulators focus on short selling securities lending at JP Morgan Worldwide Securities because of the potential market impact of this strategy. Services, Asia Pacific, which was among the first agent Securities lending on the other hand is often regulated to lenders to enter the market. In the early days of a market, ensure lenders and borrowers have adequate credit supply is low, which corresponds to high spreads and processes and risk management procedures in place. Both substantial returns for early movers. However, this period functions need to be treated independently, which is not is also trademarked by tighter controls, says Lee. There the case now.”This issue aside, Daswani says that PASLA is were a number of operational constraints around trading, highly appreciative of the regulator’s overall approach and a lot of restrictions around buy-ins and stringent speed. SEBI wanted all responses in by middle of January, reporting requirements. For instance, there were limits to a mere two weeks from the date they put the discussion the amount foreign borrowers could borrow on shore.

Such rules have since been relaxed and the market has paper on their website.

India is the most recent convert to securities lending in progressed to becoming more stabilized with more Asia, which is seeing the market stir back into action after market participants from both the lending and borrowing a long hiatus. The late eighties and early to mid-nineties sides of the business.

“Korea has worked very closely with market was a period of high growth for securities lending in the region, which saw the business grow in countries like participants to adjust its regulatory environment in line Japan, Australia and Hong Kong, but the Asian financial with international markets. The increase in volumes that crisis and inhibiting regulatory environment in other we have seen in the past couple of years is a direct result economies put a brake to the growth in emerging of this change,” says Robert Winmill, vice president, economies. Malaysia for instance, which had introduced securities finance and investment products at HSBC rules for borrowing and lending of securities before being Securities Services in the Asia Pacific. “As regulatory struck by the financial crisis in the nineties, had to authorities get more comfortable with the product (securities lending), they relax rules. We are now seeing subsequently suspend securities lending transactions.

Now, with select economies introducing reforms to the same trend in Taiwan as was in Korea,” adds Lee of create a lending structure, interest has been renewed in JP Morgan.

Taiwan entered the market in 2003 when the Taiwanese Asia. The process was kick-started by Korea, which has since been followed by other countries. “The Korean Securities and Futures Commission opened its doors to securities lending market has developed significantly Qualified Foreign Institutional Investors (QFIIs) since 2001 when Korea opened up the market, and can permitting them to participate in the Taiwan Stock be taken as a proxy of how a new securities lending Exchange’s borrowing and lending system. Since then,

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15th ANNUAL CONFERENCE ON INTERNATIONAL SECURITIES LENDING 25-28 April 2006 Rome Cavalieri Hilton Rome, Italy N The joint U.S./European Securities Lendi ng Conference sponsored the recognized industry associations.

N Issues that influence lending markets in Europe and around the world Derivative Transactions and the Effect on Securities Lending The Year Ahead for Hedge Funds Emerging Markets Panel Opportunities & Challenges of Cash Collateral

N This is the conference that identifies best market practices and sets global standards in international securities lending.

Come and join your colleagues for these important updates and discussions!

For more information and to register visit RMA's website: http://www.rmahq.org/RMA/SecuritiesLending/ or contact Kim Gordon (215) 446-4021 E-mail: kgordon@rmahq.org

Conference Chairs Jane Hammond Managing Director Deutsche Bank London

Michael McAuley Senior Vice President State Street Bank & Trust Co. Boston

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FTSE GLOBAL MARKETS • MARCH/APRIL 2006

SECURITIES LENDING ASIA

Taiwanese regulatory authorities have been working hard processes in each geography is not always easy.”

Winmill of HSBC echoes the difficulty of dealing with to bring the regulations in line with international norms and are credited with introducing changes within a very the bespoke local restrictions of each market however, he short time. As in Korea, Taiwan too removed its collateral points out that the organisational structure of HSBC helps restrictions in June last year. But while these steps have it cope with the issue to a large extent. Unlike many led to some increase in volumes, Taiwan still remains lender and borrower organisations, which operate through a regional hub in Asia, HSBC has a local onshore primarily an onshore lending market.

One of the main concerns that market players have presence all Asian countries through it sub-custodial with the securities lending structure in Taiwan is with network. “Not only are we able to provide lending in all regards to taxation. Currently both the recipient of the jurisdictions in which regulations make the practice dividends and the lender, who receives manufactured viable, our onshore operations enable us to interact dividends from the borrower, have to pay income tax for directly with domestic regulators throughout the dividend entitlement on borrowed securities.“This double liberalisation process,”he says.

Despite the unique challenges endemic to the region, taxation on manufactured dividends is a big deterrent making lending unattractive and needs to be removed,” market participants are unanimous in their opinion that says Daswani of Northern Trust. But changing taxation the prognosis for the industry as such is very bright. This rules is extremely difficult and takes time.“One therefore is being driven both by an increase in supply from lenders and growth in borrower cannot predict when the demand. “There is an market will open up Capital Value Performance - 31 December 2003 to 31 increasing allocation of completely in Taiwan. The December 2005 (US Dollar Terms) assets in Asia by fund Philippines also suffers 130 managers which fuels the from a similar problem,” 120 supply. In addition, our he states adding that the research highlights that industry is much more 110 institutional investors in hopeful about India 100 Asia are seeing securities because the SEBI lending as a core activity discussion paper does not 90 to improve revenue and propose any tax yet on 80 performance. To add to lending transactions. this, the continued growth “Importantly, the Indian of hedge funds in the authorities appear to be HSBC Citigroup FTSE All-World Banks Index region is good news for moving really fast. If this the securities lending pace is maintained, we Data as at 31 Dec 05. Source: FTSE Group / Thomson Financial Datastream industry, for they are the could expect to see the Indian securities borrowing and lending market growing ultimate borrowers of stock,”says Winmill.

Most industry experts agree that the rise of borrower much faster than other economies like Taiwan or demand is mostly due to the rise of hedge funds in the Philippines”, he argues.

Indeed, there is no doubt that the biggest hindrance to region. Nearly 100 new hedge funds have been set up in growth in the Asian securities lending market is the Asia each year for the past two years, and in that time restrictive regulatory climate. While there have been period, the overall investment in the industry has nearly efforts in some markets to bring changes to regualtions doubled. Further, analyst firm, Financial Insights predicts and tax structures and create efficient settlement systems, that the Asian hedge-fund market size will expand by in others there is no movement. And most of the effort of 38% to reach $90bn by the end of this year and will organisations such as PASLA is still to educate regulatory surpass $130bn in three years through a combination of authorities and market infrastructures on the benefits that asset flows and performance. “There are over sixty international hedge funds with financing teams/needs in securities lending has to offer.

Exacerbating the problem is the fact that unlike a Asia. This is a clear indicator of the growth,”states Harvey homogenous market such as the US, Asia is fragmented Twomey, director and head of prime brokerage and equity in nature and each market has its own specific, regulatory finance sales in the Pacific Rim Region at Merrill Lynch.

Twomey sums up the general mood in the industry,“All requirements. Eddie Guillemette, executive director at leading prime broker, Morgan Stanley, says that staffing the current trends in the market suggest that the securities and scalability are the key challenges in Asia these days. lending market in Asia will only increase in size. It will “Countries such as Korea and Taiwan have very specific mature, there will be more participants and with regulators rules on securities lending. They require market recognising the advantages of securities borrowing and intermediaries to be locally based to fulfill reporting lending, regulations will be relaxed. Ultimately, we will see requirements and add complexity to the standard all major markets fully transparent and liquid, although securities lending process. Having the right people and this may take up to a decade in some cases.”

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Company Name

Page

ABN AMRO Private Bank 15 Akbank 30 Al-Bilad 40 Alliance Capital Management LP 60 America Online 44 Arab National Bank 36 Archipelago 48 Association of German Mortgage Banks 69 Association of Private Client Investment Managers & Stockbrokers 20 Banco Espanol de Credito (Banesto) 72 Banco Santander Central Hispano 72 Banking Regulation and Supervisory Agency 29 Banque Saudi Fransi 40 Barclays Global Investors 6 Battery Ventures 48 BBVA 54 Bear Sterns 46 Bearing Point 62 Berkshire Hathaway 24 Blackstone Group 48 BNP Paribas 29 Bundesbank 67 Butter and Cheese Exchange of New York 48 Caesar's Entertainment 44 Caja Madrid 72 Capital Cities/ABC 44 Capital Markets Authority 37 Chemical Bank 20 Chicago Mercantile Exchange 48 Choice Hotels International 45 Citigroup 15 CNBC 30 Comfort Inn 45 Commerzbank 67 Commodity Futures Trading Commission 48 Conrad Hotels 45 CRESTCo 17 Davos 24 Delta Private Equity Partners 30 DeltaBank 30 DeltaRussia Fund 30 Deutsche Bank 67 DG Hypotheken Bank 68 Disbank 30

Company Name

Page

Dogan Group Dogus Holding Doubletree Hotels Dresdner Bank Dresdner Kleinwort Benson Wasserstein Dubai Development and Investment Authority Econo Lodge EM Applications Embassy Suites Equilend Etihad Etislat Euroclear Expedia Federal Home Loan Banks Federal Home Mortgage Corporation Federal National Mortgage Association Federal Reserve Bank of the United States Finansbank Fitch Ratings Agency Fortis Bank Four Seasons FTSE Group Garanti Bank GE Consumer Finance General Atlantic General Mills German Financial Supervisory Authority Gerrard Ltd Goldman Sachs Group Inc Google Inc Government National Mortgage Association Grand Casinos Gulf Cooperation Council Gulf International Bank Hampton Garden Inns Harrah's Entertainment Harvard Hilton Group plc Hilton Hotels Corporation Hilton International HO Sabanci Holding Holiday Inn Homewood Suites Host Marriott Corporation HSBC

FTSE GLOBAL MARKETS â&#x20AC;˘ MARCH/APRIL 2006

30 29 44 67 28 53 45 18 44 7 40 17 46 65 64 64 22 30 36 30 45 13 29 29 48 59 67 20 59 62 64 44 37 36 44 44 24 43 43 43 30 45 44 44 15

Company Name

Page

HSBC Saudi Arabia Ltd 40 HSH Nordbank 68 Hypovereinsbank 67 ICICI 15 Insight Investment 13 Intercontinental 45 International Petroleum Exchange 52 Irish Stock Exchange 17 Istanbul Stock Exchange 30 JP Morgan Chase & Co 10 Koc Holding 30 Kreditanstalt fuer Wiederaufbau 71 Kreissparkasse 68 Lehman Brothers 44 LoanPerformance 64 London International Financial Futures Exchange 53 London Metal Exchange 52 London Stock Exchange 27 Long Term Capital Management 62 MarHedge 23 Marriott International 44 Mendon Capital Advisors Corp 61 Merrill Lynch & Co 60 MIT 24 Morgan Stanley 31 Mortgage Bankers Assocation 63 Motley Fool 76 National Association of Realtors 64 New York Mercantile Exchange 47 New York Stock Exchange 48 Northern Trust 15 Office of the Comptroller of Currency 66 Ohio State University 11 Orbitz 45 Oslo Bors 27 Palmer House Hotel (Chicago) 45 Pan Asian Securities Lending Association 79 Park Place Entertainment 44 Pension Benefit Garanty Corporation 8 PMI Group 65 Princeton 24 Private Banking Index Ltd (_PriBIL) 15 Promus Companies Inc 44 Promus Hotel Corporation 44 Prudential Equity Group 44

Company Name

Page

Quality Motels 45 Rabobank 30 Riyad Bank 36 SAMBA Financial Group 34 Sanford C. Bernstein & Co Inc 60 Saudi Arabia Investment Fund 37 Saudi British Bank 37 Scandic Hotels 45 Scottish Widows Investment Partnership 76 Scrimgeour Vickers Asset Management 20 Securities Exchange and Investment Board of India 79 Shenzhen Development Bank 30 Singapore Stock Exchange 33 Skadden, Arps, Slate, Meagher & Flom LLP 48 Standard & Poor's 10 Starwood Hotels & Resorts Worldwide 44 Sumitomo Mitsui Financial Group 61 Taiwan Stock Exchange 81 Tekfenbank 29 Texas University 26 The Association of German Pfandbrief Banks (VDP) 69 The Bank of New York 76 The New York Hilton 45 The Saudi Arabia Monetary Authority 34 The Walt Disney Corporation 44 Thor Equities 45 Time Warner 44 UniCredit 30 Unilever 78 University of Toronto 11 Univest 78 US Federal Reserve Board 62 US Securities and Exchange Commisison 11 US-Russia Investment Fund 30 Vakifbank 30 Wall Street Journal 10 Warsaw Stock Exchange 27 Wells Fargo & Co 64 World Trade Organisation 36 Yansab 40 Yapi Kredi Bankasi 30 Yasaar Research Inc 33

COMPANIES IN THIS ISSUE

FTSE Global Markets Company Directory

85

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MARKET REPORTS BY FTSE RESEARCH

FT SE

MARKET REPORTS 12NEW.qxd Page 86

FTSE Global Equity Index Series – Global 2005

31st December 2004 - 30th December 2005

FTSE Regional Indices Performance (USD) 160

150

FTSE Global AC

140

FTSE Developed Europe AC

130

FTSE Japan AC

120

FTSE Asia Pacific AC ex Japan

110

FTSE Middle East & Africa AC

100

FTSE Emerging Europe AC

90

FTSE Latin America AC

FTSE North America AC

FTSE Regional Indices Capital Returns (USD)

60

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50

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Key: AC = All Cap, LC = Large Cap, MC = Mid Cap, SC = Small Cap, LC/MC = Large and Mid Cap

MARCH/APRIL 2006 • FTSE GLOBAL MARKETS

MARKET REPORTS 12NEW.qxd

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FTSE All-Emerging Country Indices Capital Returns 160 140 120 100

%

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M O inin il Bu & g ild Ch G in em as St For g M ica ee es at ls El Ae l & try eria ec tro D ros Oth & P ls ni iv pac er ap e c e & rsi e & Me r En Ele fied D tals gi ctr In efe ne ic d n er al us ce Ho i E t us Au ng qu rial eh to & ipm s ol mo Ma e d n b Fo Go ile chin t od od s & er Pe y Pr s rs P o & on a du Te rts a ce Ph l Ca rs Be xtile ar re v & e s m & Pr rag ac H oc e eu ou es s tic se so al ho s H rs & ld ea Bi Pr lth ot od ec uc hn ts Ge o ne To log M r b y ed Lei al R acc ia su et o & re ai En & ler Su ter Ho s pp tai tel or nm s Te F tS e le oo co d er nt m & v m D Tra ice un ru ns s ica g R po tio et rt n aile Se rs r Ut El vice ilit ec s ie tric s - O ity th In B er ve L In an st ife su ks In m A ra fo S en s nc rm pe t C su e at cia om ran So ion lity c ftw Te & Re pan e ar ch Ot al ies e no he Es & lo r ta Co gy Fin te m H an pu ar c te dw e rS a er re vi ce s

-10

Stock Performance Best Performing FTSE All-World Index Stocks (USD/%) Lotte Midopa 570.4 High Tech Computer 366.2 Korea Investment Hol 349.3 282.4 Hyundai Securities Daewoo International 276.6

Overall Index Return FTSE Global AC Index FTSE Global LC Index FTSE Global MC Index FTSE Global SC Index FTSE All-World Index FTSE Asia Pacific AC ex Japan Index FTSE Latin America AC Index FTSE All Emerging Europe AC Index FTSE Developed Europe AC Index FTSE Middle East & Africa AC Index FTSE North Americas AC Index FTSE Japan AC Index

Worst Performing FTSE All-World Index Stocks (USD/%) Nakornthai Strip Mill -70.5 Prodisc Technology -66.3 UEM World -64.6 -63.5 Sahaviriya Steel Industries Aromatics -55.3

No. of Consts

Value

3 M (%)

8,080 1,186 1,812 5,082 2,998 1,836 198 103 1,577 198 2,801 1,367

334.99 323.18 455.04 402.60 200.00 402.84 679.29 644.54 350.22 544.20 303.60 395.76

3.1 2.7 4.5 3.3 3.0 4.2 4.3 5.3 1.8 10.3 1.8 12.1

6 M (%) 12 M (%) Actual DIv Yld (%)

10.5 9.4 13.2 11.1 10.4 12.8 33.4 40.8 9.6 35.1 6.2 31.6

9.5 7.2 15.7 12.0 9.2 18.0 44.8 51.7 7.3 29.6 5.6 25.8

1.98 2.12 1.66 1.54 2.04 2.90 3.80 1.76 2.58 2.47 1.69 0.82

Key: AC = All Cap, LC = Large Cap, MC = Mid Cap, SC = Small Cap, LC/MC = Large and Mid Cap

FTSE GLOBAL MARKETS â&#x20AC;˘ MARCH/APRIL 2006

87

&

M O inin il Bu & g ild Ch G in em as St For g M ica ee es at ls El Ae l & try eria ec ro O & ls tr on Di sp the Pa ic ve ace r M per & rsi & e En Ele fied D tals gi ctr I efe ne ic nd n er al us ce Ho i E t us Au ng qu rial eh to & ipm s ol mo Ma e d n Fo Go bile chin t od od s & er Pe y Pr s rs od & Pa on T rt uc a er B ext s Ph l Ca s ev ile ar re & e s m & Pr rag ac H oc e eu ou es s tic se so al ho s H rs l & d ea P Bi r lth ot od ec uc hn ts Ge o ne To log M L ra ba y ed ei l R cc ia su e o & re tai En & ler Su ter Ho s pp ta tel or inm s Te F tS e le oo co d er nt m & v m D Tra ice un ru ns s ic g R po at e r io ta t n ile Se r r s Ut El vic ili ec es tie tr s icit -O y th In B er ve L In an st ife su ks In m r fo S en As anc rm pe t C su e at cia om ran So ion lity c p ftw Te & Re an e ar ch Ot al ies e no he Es & lo r ta Co gy Fi te m H nan pu ar c te dw e rS a er re vi ce s

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MARKET REPORTS BY FTSE RESEARCH

Co ns

MARKET REPORTS 12NEW.qxd Page 88

FTSE Global Equity Index Series – Developed ex US 2005

31st December 2004 - 30th December 2005

FTSE Developed Regional Indices Performance (USD) 140 140

FTSE Developed (LC/MC)

130 130

FTSE Developed Europe (LC/MC)

120 120

FTSE Developed Asia Pacific (LC/MC)

110 110

FTSE All-Emerging (LC/MC)

FTSE Developed ex US (LC/MC)

100 100

FTSE US (LC/MC)

90

%10

0

FTSE Developed Asia Pacific ex Japan (LC/MC)

FTSE Developed Regional Indices Capital Returns (USD) 35

30

25

20

15

10

5

0

F

FTSE Developed ex US Indices Sector Capital Returns (USD)

50

40

30

20

Capital

Total Return

-10

-20

Key: AC = All Cap, LC = Large Cap, MC = Mid Cap, SC = Small Cap, LC/MC = Large and Mid Cap

MARCH/APRIL 2006 • FTSE GLOBAL MARKETS

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Page 89

Stock Performance Best Performing FTSE Developed ex US Index Stocks (USD/%) Daido Steel Co 235.1 Chiyoda Corp 214.1 Yamada Denki 191.9 183.6 Sumitomo Metal Ibiden 176.1

Overall Index Return FTSE Developed ex US Index (LC/MC) FTSE USA Index (LC/MC) FTSE Developed Index (LC/MC) FTSE All-Emerging Index (LC/MC) FTSE Developed Europe Index (LC/MC) FTSE Developed Asia Pacific Index (LC/MC) FTSE Developed Asia Pacific ex Japan Index (LC/MC) FTSE Developed ex US AC Index FTSE Developed ex US LC Index FTSE Developed ex US MC Index FTSE Developed ex US SC Index

Worst Performing FTSE Developed ex US Index Stocks (USD/%) Privee Zurich Turnaround Group -54.0 Arisawa Mfg -50.2 Flight Centre -49.6 Elan Corporation -49.5 Pacifica Group -47.3

No. of Consts

Value

3 M (%)

1,362 723 2,085 913 512 782 294 3,815 564 1,812 5,082

219.66 517.58 194.30 344.80 210.56 220.01 324.78 369.83 344.03 435.66 468.90

3.6 1.9 2.7 8.0 1.8 7.7 -1.2 3.7 3.1 5.9 4.7

6 M (%) 12 M (%) Actual Div Yld (%)

14.1 5.3 9.3 26.1 9.3 23.9 7.5 14.4 13.4 17.3 16.2

11.8 4.3 7.8 32.0 6.5 20.7 11.9 12.6 10.3 18.0 19.1

2.24 1.75 1.99 2.68 2.65 1.54 3.47 2.18 2.32 1.66 1.54

FTSE Global Equity Index Series – Asia Pacific 2005 31st December 2004 - 30th December 2005

FTSE Asia Pacific Regional Indices Performance (USD) 130

FTSE Global AC

125

FTSE Developed Asia Pacific (LC/MC)

120

FTSE Developed Asia Pacific ex Japan (LC/MC)

115 110

FTSE Asia Pacific (LC/MC)

105

FTSE All-Emerging Asia Pacific AC

100

FTSE Japan (LC/MC)

95

5

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90

Key: AC = All Cap, LC = Large Cap, MC = Mid Cap, SC = Small Cap, LC/MC = Large and Mid Cap

FTSE GLOBAL MARKETS • MARCH/APRIL 2006

89

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30 25 20

% 15 10 5

ba lA As FT C ia S Pa E D ci e fic ve De (L lop ve C/ e lo M d ex ped C) Ja A s pa ia n P (L ac FT C/ i f i M c SE C) Al As lE ia m Pa er ci gin fic g FT AC SE As D FT ia ev SE Pa elo Ja ci pe pa fic d n AC In de x FT (L SE C/ M As C) ia Pa ci fic (L C/ FT M SE C) As ia Pa ci fic FT M SE C As ia Pa ci fic FT SC SE As ia Pa ci fic LC

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MARKET REPORTS BY FTSE RESEARCH

FTSE Asia Pacific Regional Indices Capital Returns (USD)

Stock Performance Best Performing FTSE Asia Pacific Index Stocks (USD/%) Lotte Midopa 570.4 High Tech Computer 366.2 Korea Investment Hol 349.3 Hyundai Securities 282.4 Daewoo International 276.6

Worst Performing FTSE Asia Pacific Index Stocks (USD/%) Nakornthai Strip Mill -70.5 Prodisc Technology -66.3 UEM World -64.6 Sahaviriya Steel Industries -63.5 Aromatics -55.3

Overall Index Return FTSE Global AC Index FTSE Asia Pacific AC Index FTSE Asia Pacific Index (LC/MC) FTSE Asia Pacific LC Index FTSE Asia Pacific MC Index FTSE Asia Pacific SC Index FTSE Developed Asia Pacific ex Japan Index (LC/MC) FTSE Developed Asia Pacific Index (LC/MC) FTSE All-Emerging Asia Pacific Index (LC/MC) FTSE Japan Index (LC/MC)

No. of Consts

8080 3203 1342 514 828 1861 294 782 560 488

Value

3 M (%)

334.99 398.13 225.05 377.95 452.27 468.67 324.78 220.01 247.46 146.26

3.1 8 .5 8 .1 7 .2 12.1 12.1 -1.2 7.7 9.5 11.4

6 M (%) 12 M (%) Actual DIv Yld (%)

10.5 22.7 22.6 21.9 26.0 23.4 7.5 23.9 18.5 31.4

9.5 22.3 2 1 .5 20.2 27.4 2 9 .8 11.9 20.7 24.7 24.3

1.98 1.72 1.74 1.79 1.52 1.62 3.47 1.54 2.44 0 .8 2

Key: AC = All Cap, LC = Large Cap, MC = Mid Cap, SC = Small Cap, LC/MC = Large and Mid Cap

90

MARCH/APRIL 2006 â&#x20AC;˘ FTSE GLOBAL MARKETS

n

io

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M O inin & il Bu & g C i ld h G in em as g F St or M ica ee es at ls El Ae l & try eria ec tro D ros Oth & P ls ni iv pac er ap c er e M er & si & e En Ele fied D tals gi ctr I efe ne ic nd n er al us ce Ho i E t us Au ng qu rial eh to & ipm s ol mo Ma e d n Fo Go bile chin t od od s & er Pe y Pr s rs P od & a on T rt uc a er B ext s Ph l Ca i e s l e ar re & ve s m & Pr rag ac H oc e eu ou es s tic se so al ho s H rs & ld ea Bi Pr lth ot od ec uc hn ts Ge o ne To log M ra ba y L ed ei l R cc s ia u et o & re ai En & ler Su ter Ho s pp tai tel or nm s Te F tS e le oo co d er nt m & v m D Tra ice un ru ns s ica g R po tio et rt n aile Se rs r Ut El vice ilit ec s ie tric s - O ity th In B er ve L In an k s s i u f t In m e A ra s fo S en s nc rm pe t C su e at cia r a om n So ion lity c ftw Te & Re pan e ar ch Ot al ies e no he Es & lo r ta Co gy Fin te m H an pu ar c te dw e rS a er re vi ce s

Co

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FTSE GLOBAL MARKETS • MARCH/APRIL 2006 ve lo

AC

AC

AC

SC

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MARKET REPORTS 12NEW.qxd Page 91

FTSE Global Equity Index Series – Europe 2005

31st December 2004 - 30th December 2005

FTSE European Regional Indices Performance (EUR)

120

130

FTSE Global AC (EUR)

125

FTSE Developed Europe ex UK LC/MC (EUR)

115

FTSEurofirst 300 (EUR)

110

FTSE Developed Europe AC (EUR)

105

FTSEurofirst 100 (EUR)

100

FTSE Eurozone LC/MC (EUR)

95

FTSEurofirst 80 (EUR)

FTSE European Regional Indices Capital Return (EUR)

80

70

60

% 50

40

30

20

10

0

F

FTSE Developed Europe Sector Indices Capital Returns (EUR)

80

70

60

50

% 30 40

Capital

20

10

Total Return

0

-10

Key: AC = All Cap, LC = Large Cap, MC = Mid Cap, SC = Small Cap, LC/MC = Large and Mid Cap

91

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Page 92

MARKET REPORTS BY FTSE RESEARCH

Stock Performance Best Performing FTSE Developed Europe Index Stocks (EUR/%) OMV 123.3 99.6 ABB 98.3 Metso Corporation Euronext 95.8 Deutsche Boerse 95.5

Overall Index Return (EUR)

Worst Performing FTSE Developed Europe Index Stocks (EUR/%) Elan Corporation -41.8 AGFA-Gevaert -38.3 Kingfisher -21.1 Snam Rete Gas -18.9 Telecom Italia Ord -18.3

No. of Consts

Value

3 M (%)

8080 1680 235 341 1104 1577 103 798 1105 300 80 100

334.99 345.34 379.39 426.32 446.92 341.90 629.22 354.08 360.20 1275.54 4463.41 4178.56

3.1 4.1 3.6 6.1 4.2 4.1 7.6 3.8 4.7 3.8 4.3 2.6

FTSE Global AC Index FTSE Europe AC Index FTSE Europe LC Index FTSE Europe MC Index FTSE Europe SC Index FTSE Developed Europe AC Index FTSE All-Emerging Europe AC Index FTSE Eurobloc AC Index FTSE Developed Europe ex UK AC Index FTSEurofirst 300 Index FTSEurofirst 80 Index FTSEurofirst 100 Index

6 M (%) 12 M (%) Actual Div Yld (%)

10.5 13.0 11.5 15.2 15.2 12.5 44.5 12.5 14.2 11.8 12.4 9.8

9.5 24.8 21.6 29.5 32.8 24.0 75.3 23.0 25.1 22.5 20.6 20.0

1.98 2.56 2.72 2.20 2.00 2.58 1.76 2.54 2.37 2.62 2.84 2.90

FTSE UK Index Series – 2005 31st December 2004 - 30th December 2005

FTSE UK Index Series Performance (GBP) FTSE 100

130 125

FTSE 250

120 115

FTSE 350

110

FTSE SmallCap

105

FTSE All-Share

100

l-0 5 31 -A ug -0 5 30 -S ep -0 5 31 -O ct -0 5 30 -N ov -0 5 30 -D ec -0 5

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30

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FTSE AIM All-Share

5

90

Ap r-0 5

FTSE Fledgling

04

95

FTSE techMARK

FTSE All-Share Sector Indices Capital Returns (GBP) 70 60 50 40

% 30 Capital

20 10

Total Return

0 -10

F

Co

ns

tr

uc

tio

n

&

M

O inin il Bu & g ild Ch Ga in em s Fo g El St re M ica ec ee s at ls tr on Ae l & try eria ic ro O & ls & sp th Pa p En Ele ace er M er gi ctr & e ne ic D ta er al ef ls Ho in E e us Au g & qui nce pm eh to ol mo Ma en d c Fo Go bile hin t od od s & ery Pe Pr s rs & Par od on T ts uc al er B ext Ph Ca e il s ar re & ve es m & Pr rag ac H oc e eu ou es s tic se so al ho H rs s & ld ea Bi Pro lth ot d ec uc hn ts Ge o ne To log r M L al ba y ed ei R cc ia su et o & re ail En & ers Su ter Ho pp tai tel or nm s Te F tS e le oo co d er nt v m & m D Tra ice un ru ns s ic g R po at e rt io ta n ile Se rs r Ut El vice ili ec s tie tr s icit -O y th e B r In ve L In ank st ife sur s In m A a en ss nc fo Sp rm e t C ur e at cia om an So ion lity p ce ftw Te & Re an ar ch Ot al E ies h e no e s & lo r ta Co gy Fin te m H an pu ar ce te dw rS a er re vi ce s

-20

Key: AC = All Cap, LC = Large Cap, MC = Mid Cap, SC = Small Cap, LC/MC = Large and Mid Cap

92

MARCH/APRIL 2006 • FTSE GLOBAL MARKETS

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FTSE UK Index Series - Capital Return 2005 (GBP) 30 25 20 15 10 5

te

ch M

AR F K TS 10 E 0

FT Al S E l-S A ha IM re

g

FT SE

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25 0 FT SE

FT SE

10 0

0

Stock Performance Best Performing FTSE All-Share Index Stocks (GBP/%) Elementis BTG Autonomy Corporation Charter CSR

Overall Index Return

No. of Consts

FTSE 100 Index FTSE 250 Index FTSE 350 Index FTSE SmallCap Index FTSE All-Share Index FTSE Fledgling Index FTSE AIM Index FTSE techMARK 100 Index

100 250 350 329 679 300 985 100

Worst Performing FTSE All-Share Index Stocks (GBP/%) Games Workshop Group -58.1 Zetex -51.4 Alea Group Holdings (BERMUDA) Ld -46.8 Business Post Group -46.2 Uniq PLC -43.6

167.5 166.7 162.6 141.4 140.0

Value

3 M (%)

6 M (%)

5618.76 8794.32 2896.71 3305.48 2847.02 3748.77 1046.15 1431.72

2.6 10.6 3.7 4.7 3.7 4.2 -4.4 11.8

9.9 19.3 11.1 13.2 11.2 12.7 4.8 19.4

12 M (%) Actual Div Yld (%)

16.6 27.0 18.0 20.1 18.0 18.2 4.5 19.9

3.09 2.31 2.98 1.90 2.95 1.88 0.52 1.40

Net Cover

2.32 2.19 2.30 1.08 2.28 0.07 -0.23 -

P/E Ratio

13.97 19.76 14.57 48.63 14.91 750.32 0 -

FTSE Xinhua Index Series 31st December 2004 - 30th December 2005

FTSE Xinhua Index Series Performance (RMB/HKD) – 2005 140

FTSE/Xinhua China 25 (HK$)

130

FTSE Xinhua All-Share (RMB)

120

FTSE Xinhua Small Cap (RMB)

110

FTSE/Xinhua China A50 (RMB)

100

FTSE Xinhua 600 (RMB) FTSE Xinhua China Bond Total Return Index (RMB)

90

c-0 De 30 -

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5

5 -0

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05

30 -S e

5

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5

30 -A pr -0

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31

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80

FTSE Xinhua Index Series Index Name

FTSE/Xinhua 25 Index (HK$) FTSE/Xinhua China 50 Index (RMB) FTSE Xinhua All-Share Index (RMB) FTSE Xinhua 600 Index (RMB) FTSE Xinhua Small Cap Index (RMB) FTSE Xinhua China Bond Total Return Index (RMB)

Consts

Value

3 M (%)

6 M (%)

12 M (%)

Actual Div Yld (%)

25 50 997 600 397 33

9203.65 3904.89 2108.23 2278.26 1489.46 97.71

-2.1 1.5 -0.7 -0.3 -2.8 0.4

8.3 2.4 3.7 3.5 4.3 3.7

11.5 -6.8 -14.5 -13.3 -21.1 13.7

2.72 3.16 2.32 2.51 1.20 2.89

Key: AC = All Cap, LC = Large Cap, MC = Mid Cap, SC = Small Cap, LC/MC = Large and Mid Cap

FTSE GLOBAL MARKETS • MARCH/APRIL 2006

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FTSE Hedge Management Styles (USD) – 5-Year Performance 160

FTSE Hedge

140

FTSE All-World

120

Directional

100

Event Driven Non-Directional

80 60

5 De

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De

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c-0

05

4 c-0

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3

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2 De

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c-0

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40

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MARKET REPORTS BY FTSE RESEARCH

FTSE Hedge Index Series

FTSE Hedge – Management Styles & Strategies (NAV Terms) Index Level*

3 M (%)

FTSE Hedge Index * 5166.95 Directional 3118.36 Equity Hedge 2169.76 Commodity Trading Association (CTA) / Managed Futures 2010.28 Global Macro 1944.52 Event Driven 3172.62 Merger Arbitrage 2029.83 Distressed & Opportunities 2192.11 Non-directional 3001.76 Convertible Arbitrage 1952.05 Equity Arbitrage 1986.67 Fixed Income Relative Value 2031.27 * Based upon indicative NAV index values as at 30 December 2005

5-Year Ann 3-Year 6 M (%) 12 M (%) Return (%) Volatility (%)

1.4 1.9 0.8 3.9 4.6 0.6 -0.3 1.3 1.0 0.9 1.1 1.0

3.2 4.3 4.7 0.7 8.0 2.5 0.7 4.1 1.6 2.1 0.9 1.8

2.7 3.1 6.6 -4.7 1.8 3.1 1.4 4.7 1.4 -2.4 2.0 3.0

5.5 7.5 7.5 8.6 6.3 3.4 0.4 6.0 3.9 8.3 3.6 2.0

3.1 5.2 4.2 13.8 6.4 3.1 1.8 4.7 1.6 4.2 1.9 1.5

FTSE EPRA/NAREIT Global Real Estate Index Series FTSE EPRA/NAREIT Global Real Estate Index Series Performance (Total Return) – 2005 135

FTSE EPRA/NAREIT Global Total Return Index ($)

130 125

FTSE EPRA/NAREIT North America Total Return Index ($)

120

FTSE EPRA/NAREIT Europe Total Return Index (€)

115 110

FTSE EPRA/NAREIT Eurozone Total Return Index (€)

105 100

FTSE EPRA/NAREIT Asia Total Return Index ($)

95

5 -0 -D ec 30

v05

5 t-0

-N o 30

-O c 31

30

-S e

p05

g05 31

-A u

5 l-0 -Ju 31

30

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n-

05

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b0 -Fe 28

31

5

5 -0 -Ja n 31

31

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4

90

Key: AC = All Cap, LC = Large Cap, MC = Mid Cap, SC = Small Cap, LC/MC = Large and Mid Cap

94

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FTSE EPRA/NAREIT Global Real Estate Indices (Total Return) Index Name

Consts

Value

3 M (%)

6 M (%)

12 M (%)

Actual Div Yld (%)

307 146 91 38 70

2520.96 3044.12 2581.00 2678.83 1932.90

4.7 2.5 2.6 -4.3 11.5

11.0 6.4 9.4 4.9 23.1

15.3 13.0 25.8 28.5 24.0

3.78 4.44 2.75 3.57 3.32

FTSE EPRA/NAREIT Global Index ($) FTSE EPRA/NAREIT North America Index Index ($) FTSE EPRA/NAREIT Europe Index (€) FTSE EPRA/NAREIT Euro Zone Index (€) FTSE EPRA/NAREIT Asia Index ($)

FTSE Bond Indices FTSE Bond Indices Performance (Total Return) – 2005 FTSE Eurozone Government Bond Index (€) FTSE Euro Corporate Bond Index (€) FTSE US Goverment Bond Index ($) FTSE Pfandbriefe Index (€) FTSE Gilts Index Linked All Stocks (£) FTSE Japan Government Bond Index (¥)

110 108 106 104 102 100 98

5

5 -D e

FTSE Euro Emerging Markets Bond Index (€) FTSE Gilts Fixed All-Stocks (£)

30

-N o 30

c-0

v0

05 ct-O 31

ep

g-

-0 5

05 -S 30

5 l-0

-A u 31

-Ju 31

-Ju

n-

05

5 30

ay -0

5

-M

r-0 31

-A p 30

-M

ar -0

5

-0 5 31

-Fe b 28

-Ja n 31

31

-D

ec

-0

-0 5

4

96

FTSE Bond Indices (Total Return) Index Name

Consts

Value

3 M (%)

6 M (%)

12 M (%)

248 329 42 320 10 29 117 231 33

155.28 177.24 208.77 143.90 2011.87 1935.43 147.42 110.36 97.71

-0.1 -0.5 -0.1 -0.6 3.4 2.7 0.9 0.2 0.4

0.5 -0.2 2.7 0.0 4.8 3.2 0.0 -1.0 3.7

5.4 3.9 7.0 3.9 9.4 8.3 3.4 0.6 13.7

FTSE Eurozone Government Bond Index (€) FTSE Pfandbrief Index (€) FTSE Euro Emerging Markets Bond Index (€) FTSE Euro Corporate Bond Index (€) FTSE Gilts Index Linked All Stocks Index (£) FTSE Gilts Fixed All-Stocks Index (£) FTSE US Government Bond Index ($) FTSE Japan Government Bond Index (¥) FTSE China Government Bond Index (RMB)

Actual Div Yld (%)

3.37 3.29 4.24 3.75 1.32* 4.05 4.49 1.24 2.89

* Based on 0% inflation

FTSE Research Team contact details Carl Beckley Director, Research & Development carl.beckley@ftse.com +44 20 7866 1820

Andy Harvell Head of Research andy.harvell@ftse.com +44 20 7866 8986

Andreas Elia Research Analyst andreas.elia@ftse.com +44 20 7866 8013

Tasos Kontos Index Design Analyst anastasios.kontos@ftse.com +44 20 7866 1887

Jamie Perrett Head of Index Design jamie.perrett@ftse.com +44 20 7866 1817

Key: AC = All Cap, LC = Large Cap, MC = Mid Cap, SC = Small Cap, LC/MC = Large and Mid Cap

FTSE GLOBAL MARKETS • MARCH/APRIL 2006

95

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Page 96

CALENDAR

Index Reviews March – June 2006 Date

Index Series

Review Type

Effective Data Cut-off (Close of business)

Early Mar

ATX

Semi-annual review / number of shares

17-Mar

28-Feb

Early Mar

CAC 40

Quarterly review

17 Mar

28-Feb

Early Mar

S&P MIB

Semi-annual review

20 Mar

1 Mar

SMI

Semi-annual rebalance

31 Mar

28-Feb

6 Mar

DAX

Quarterly review

17-Mar

28-Feb

8 Mar

FTSE/ Hang Seng

Semi-annual review

17-Mar

28 Mar

8 Mar

FTSE UK

Quarterly review

17-Mar

7-Mar

8 Mar

FTSE All-World

Annual review Asia Pacific ex Japan

17-Mar

30-Dec

8 Mar

FTSEurofirst 300

Quarterly review

17-Mar

3-Mar

8 Mar

FTSE techMARK 100

Quarterly review

17-Mar

28-Feb

8 Mar

FTSE eTX

Quarterly review

17-Mar

3-Mar

10-Mar

NASDAQ 100

Quarterly review/ shares adjustment

17-Mar

28-Feb

13 Mar

NZSX 50

Quarterly review

31 Mar

28-Feb

14-Mar

S&P MIB

Quarterly review - shares & IWF

17-Mar

15 Mar

DJ STOXX

Quarterly review (components)

17 Mar

21-Feb

15-Mar

DJ STOXX

Quarterly review (style)

17-Mar

1-Mar

15-Mar

Russell US Indices

Quarterly review / Additions

31-Mar

28-Mar

15-Mar

S&P Europe 350/ S&P Euro

Quarterly review

17-Mar

15-Mar

S&P 500

Quarterly review

17-Mar

15-Mar

S&P/ TSX

Quarterly review

17-Mar

15-Mar

S&P MidCap 400

Quarterly review

17-Mar

16-Mar

DJ Global Titans 50

Quarterly review

17-Mar

1-Mar

15-Mar

S&P/ ASX 200

Annual /Quarterly review

17-Mar

28-Feb

28-Feb

Mid April

OMX HEX 25

Quarterly review

21 Apr

31-Mar

14-Apr

TSEC Taiwan 50

Quarterly review

15-Apr

31-Mar

Late April

FTSE / ATHEX

Semi-annual review

31-May

31-Mar

12-May

Hang Seng

Quarterly review

9-Jun

31-Mar

17-May

MSCI

Annual review

31-May

30-Apr

Early Jun

Russell US Indices

Annual/ Quarterly review

30-Jun

31-May

Early Jun

ATX

Quarterly review

16-Jun

31-May

Early Jun

KOSPI 200

Annual review

9-Jun

31-May

Early Jun

IBEX 35

Semi-annual review

1-Jul

31-May

Early Jun

CAC 40

Quarterly review

16-Jun

31-May

1-Jun

OMX C20

Semi-annual review

17-Jun

2-Jun

DJ Global Titans 50

Annual review of index composition

16-Jun

30-Apr

5-Jun

OBX

Semi-annual review

17-Jun

31-May

2-Jun

OMX S30

Semi-annual review

30-Jun

31-May

5-Jun

DAX

Quarterly review

16-Jun

31-May

7-Jun

FTSE UK

Quarterly review

16-Jun

6-Jun

7-Jun

FTSE All-World

Annual review - Emgng Eur, ME, Africa, Latin America 16-Jun

31-Mar

7-Jun

FTSE techMARK 100

Quarterly review

16-Jun

31-May

7-Jun

FTSEurofirst 300

Quarterly review

16-Jun

2-Jun

7-Jun

FTSE eTX

Quarterly review

16-Jun

2-Jun

9-Jun

NASDAQ 100

Quarterly review/ shares adjustment

16-Jun

31-May

Sources: Berlinguer, FTSE, JP Morgan, Standard & Poors, STOXX

96

MARCH/APRIL 2006 • FTSE GLOBAL MARKETS

GM EDITORIAL 12

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Page IBC1

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The FTSE Private Banking Index Series is calculated by FTSE International Limited (“FTSE”). All rights in the FTSE Private Banking Index Series vest in FTSE and Private Banking Index Limited (“PriBIL”). “FTSE ®” is a trademark of the London Stock Exchange Plc and The Financial Times Limited and is used by FTSE under licence. Neither FTSE nor PriBIL nor their licensors shall be liable (including in negligence) for any loss arising out of use of the FTSE Private Banking Index Series by any person. Distribution of FTSE index values and the use of FTSE indices to create financial products requires a licence with FTSE.

GM EDITORIAL 12

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