FinanceLab Magazine - #04 - May 2011

FOURTH EDITION

MAY 2011

MAGAZINE FinanceLab study trips

EXPLORING

FINANCIAL CAPITALS AROUND THE WORLD

Private

Equity DESTROYERS OR

funds

IMPROVERS?

INVESTMENT

ANALYSISWHY BUY?

Thrane & Thrane, Johnson & Johnson, Teva Pharmaceutical, Trina Solar, Oil options

CHINESE BRANDS

ARE GOING

GLOBAL

CONTENT 4

FINANCELAB IS RECRUITING

6

EXPLORING FINANCIAL CAPITALS (NEW YORK)

10

PRIVATE EQUITY FUNDS

14 INVESTMENT PANEL 15 Thrane & Thrane 17 Johnson & Johnson 20 Trina Solar 26 Teva Pharmaceutical 30 Why a 2% oil producer is rattling global markets 32

CHINA BRANDS ARE GOING GLOBAL

38

GLOBAL MACRO SNAPSHOT

WORDS FROM THE BOARDS FinanceLab is more alive than ever. The organisation has managed to go national in just two years. Denmark is today divided in two new and very solid boards joined about a common future. The financial crisis was the catalyst for our foundation. That is the reason we consider future financial crises as a means of activating financial students.

If we look at the world around us, fear has many faces: a weak dollar, increased inflation, long-term debt crisis. These are the worst-case scenarios for populations, companies, and states. None of these can survive without financial stability.

This is not how FinanceLab functions, however. FinanceLab exists despite absence of significant financial support from professional partners or public authorities. We have joy with our own businesses such as trading courses, but we survive primarily on our sense of community, and no financial crisis can tear this apart. On the contrary, we are just getting stronger.

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As some are forced to turn their back on community in favour of other activities, FinanceLab has, on a number of occasions, experienced that dreams are easier to achieve, if they are reached by the help of others.

Here, we refer to people across different fields of study, age, and nationality. People, who can inspire and help you to explore the financial world beyond your theory books.

Some of these are people who choose to cross the Atlantic, the Mediterranean, and soon the far East together with FinanceLab. Some travel, despite the lack of jobs and money. Perhaps open minded in the hope that a hidden reward awaits us in the horizon. Perhaps the reason is that FinanceLab is a result of strong visions and voluntary efforts. This magazine is a result of the same efforts. And at this very moment it is on its way to the financial heart of Europe - London.

ABOUT EDITORS

Sarah-Louise Hansen Frederik Ploug Søgaard Nadja Vedsted Rasmussen

FinanceLab is a network and interest organisation aiming to improve financial competences among students through networking, education and hands-on experience.

LAYOUT

FinanceLab is represented at several universites in Denmark such as Aarhus School of Business, Copenhagen Business School, Aarhus University, University of Copenhagen, Technical University of Denmark and Niels Brock.

Frederik Ploug Søgaard

CONTRIBUTORS

Ole-Bjørn Kolbæk Rune Thomsen Klaus Bender Anthony Merlo Jacob de Lichtenberg Daniel Schimdt & Jacob Motzfeldt

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FINANCELAB

IS RECRUITING Volunteering

In FinanceLab, we believe in finding the right people for the right tasks.

In other words it is not a matter of the quantity of active members, but a matter of the quality of the members we engage in the organisation.

how you can contribute to the organisation, we believe that we will set solid grounds for a strong teamwork. This teamwork will not only help you upgrade your resume and help you develop professionally as well as personally, it will also provide you with a broad spanning By specifying what we are looking network, that could help create a for in new potential active mem- stepping stone for your career. bers, so that you know exactly

you have the analytical skills Editor at Do required to find the topics withFinanceLab in financial markets that are hot

Magazine

at the moment? Do you want to prove your abilities as a leader?

Then, FinanceLab is seeking a new editor for its magazine – FinanceLab Magazine – and you just might be what we are looking for!

You will be responsible for editing the magazine, collecting articles

you have flair for IT? Can you Webmaster Do quickly come up with solutions and

at FinanceLab

4

from other contributors as well as be the head of recruiting new talented writers. You will be reporting directly to the board of directors and become an active member in a network of students, who share your passion to perform, educate and learn.

This is your opportunity to upgrade your resume with the title “Head of FinanceLab Magazine”.

You will also get a chance to enhance your IT skills, as you will be implement them in an unproblem- appointed head of developing the atic manner? homepage. Furthermore, you will Then give your resume a cutting be assisting other active memedge by volunteering as IT Worker bers with problems concerning the for FinanceLab! webpage. In short, you will be one You will be in charge of keeping of the most valuable members in our webpage up to date and solve the organisation! any IT problems that might arise.

Write to

BOARD@FINANCELAB.DK

for more information and/or to apply for these positions.

Layouter at FinanceLab

To apply for the position, give a presentation of yourself and a brief explanation for why you should be appointed to the position.

FinanceLab is looking for a creative spirit with a superior sense for the overall picture and a good eye for details. As Layouter at FinanceLab, you will be responsible for the organisation’s image, by making sure that the design is streamlined and conceptual.

In collaboration with the webmaster and our FinanceLab Magazine editor, you will be responsible for

the layout on our homepage and our magazine, respectively. Thus you will play a key role to several parts of the organisation.

you like to manage events Eventmaker Would and networks with professionals

cializing, learning and connecting with top professionals. You build an event-team and we equip you with all the facilities and resources you need to create the next don’t-miss event.

Magazine

at FinanceLab

as well as students on a higher level? Steering a flow of events is all about being creative and interested in meeting new inspiring people. As our eventmaker you design unforgettable experi- Event examples: ences covering all aspects of our - Nordic trading competition financial community such as so- - Consortium 2011

5

ExplorING financial capitals around the world

S P I R T Y D U T S

6

I

NEW YORK

By Mikael Buch Smedegaard

t is Saturday the 6th of November 2010; after the release of the Christmas beer. It is afternoon and I find myself busy looking for a group of students from KU and CBS, whom all share the same interest for finance as I do. In less than 24 hours, we will all have travelled just about 6,000 kilometres, entered a new continent and witnessed the end of the New York Marathon. Welcome to an ASB’s (Aarhus School of Business) account of a study trip with FinanceLab to New York.

We all arrive tired but thrilled. The weather is “ I am sure that I am not the only lovely and we managed, much easier than assumed, to enter the States and getting checked one describing this trip as one of in to our hostel in an up-and-coming art the best that I have ever had” area on the west side of Manhattan.

The sun is shining, the yellow cabs are rushing by and we all try to grasp the new names, educational fields and most importantly, the confusing map of the subway, which is going to be our lifeline for the next couple of weeks.

No doubt that this trip will be filled with professional knowledge as well as colorful people.

MEETING THE BIG GUYS The trip offers no less than 10 company visits, which are located all across Manhattan. From Nordea, Deloitte and Maersk to JP Morgan, Deutsche Bank and NASDAQ, all offering a deep insight to the world of finance and banking in New York. In Deutsche Bank, we are very fortunate to get a whole hour with Torsten Sløk, known to many as TV2’s financier in the United States. The visit is intense – extremely intense – as we all excitingly try to pay attention to the slide handouts, while Torsten manage to sum up his view on the near future of the financial markets in just 60 minutes. It is all up-to-date knowledge, which many people around the world would be glad to pay large amounts for.

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JP MORGAN: A TEST OF MANHOOD In JP Morgan, we are welcomed on the 42nd floor by three guys, who have followed the classic American way into the world of finance. After finishing their bachelor, they have worked two years as analysts. These years serves as a test of manhood in the line of business and it does not leave much time to pleasures outside of the office. At the moment they are very far from getting a 9-5 job. They had so much enthusiasm and ambition in their eyes and you could clearly see how much they enjoyed their work. As they repeated over and over, only a very limited number of 21 year olds are given the chance to start their career by sitting at the table when the big deals, which the Financial Times reports about, are negotiated through.

MONEY NEVER SLEEPS We recently learned that “Money Never Sleeps” and that also ended up being the case for many of the participants on the trip. New York, simply offers so many experiences and interesting characters that we had a hard time just relaxing. We all ended up gaining the experiences we had hoped for and I am sure that I am not the only one describing this trip as one of the best that I have ever had. From lunch in Soho to Michelin restaurants in the evening combined, of course, with a visit of the famous tourist attractions – this trip could have lasted much longer than it did. Luckily it did in some aspects, as the friendship among the group is just as strong after returning to Denmark.

YOUR FINANCE COMMUNITY Across of different universities in Denmark, FinanceLab succeeded in creating a platform of mutual learning, experiences and network. All participants contributed to the community spirit and I strongly believe that we all will remember this trip when we climb to the top of the world – or at least to the 42nd floor in a hectic finance centre.

I was the only participant from Århus but this is hopefully going to change, as the newly created FinanceLab Århus is working extensively with FinanceLab Copenhagen to plan the next study trip to London.

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PRIVATE EQUITY FUNDS ...

DEFINITION OF PRIVATE EQUITY: When the firm’s shares are held privately and not traded in the public markets. Private Equity includes shares both in mature private companies and, as venture capital, in newly started businesses. As it is less liquid than publicly traded equity, investors in private equity expect on average to earn a higher equity risk premium from it.

Short term profit Long term profit

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?

DESTROYERS OR IMPROVERS?

By Rune Thomsen

T

he economic and financial wealth rode on the credit bubble from 2000 and until the “Golden Year” of 2007. One industry that definitely benefited from the increased access to credit was the Private Equity industry or as Charles R. Moris puts it “The leveragedbuyout business, after a highbrow restyling as private equity, came roaring back. [...] ‘People talk about a wall of money,’ one banker said. Private equity funds didn’t have to raise capital; it was chasing them”.

But when the access to credit evaporated and company earnings plunged to the bottom of the ocean, Private Equity firms retreated. Or did they just return to their core business of improving the companies they already had acquired?

...

Before the bubble bursted Poul Nyrup Rasmussen, the former prime minister of Denmark, asked the question “does this new development bring down the cost of capital? Does it lead to higher efficiency on the capital markets? Or are we faced with new risks of financial stability, imperfections or abuse on the capital markets?” In the eyes of Poul Nyrup, the leverage of both hedge funds and private equity funds are improving the systematic risk in the economy and the Socialist Group in the European Parliament have worked hard to regulate hedge funds and private equity funds. But is such a regulation needed? One of the most common arguments against Poul Nyrup Rasmussens criticism on Private Equity and hedge funds is that the two almost have nothing

EVOLUTION OF PE INDUSTRY

11

in common, and by regulating them under the same set of rules causes more damage than improvements. Another argument looks at the recent financial crisis, in particularly it asks the question: What sectors suffered worst? In most western countries the banking sector was so badly wounded that it needed to be bailed out by the government. Almost no private equity funds needed a helping hand from society. This indicates that even the high regulation on the banking sector was not able to save the real economy from the excessive risks in the banking sector and thus the argument goes that more regulation of the private equity funds will not decrease the systematic risk caused by these. All this is very fine, but what about just looking at the performance of companies owned by private equity firms and then compare this performance to the performance of publicly or family owned companies.

Well run companies must after all be a core instrument in order to have a stable economy.

%. This lack of opportunities forced the Private Equity industry to focus on their existing portfolio companies.

This, maybe, unwilling focus could however be one of the reasons why Private Equity portfolio companies outperformed their public industry peers during the crisis.

Dividing the performance into four categories, values growers, simple growers, profit seekers and under performers, the Private Equity portfolio companies have a larger share of value growers and a smaller share of under performers indicating that privately held companies have done a better job in creating value, keeping track of costs. Looking at the growth in revenue enhances the picture of the good performance of the Private Equity owned companies. It is of particularly interest to note that the decline in revenue in 2009, caused by the financial crisis, was remarkably lower for the portfolio companies than for their publicly counterparts. The portfolio companies only lost 3.8 % in revenue while their industry peers lost over 9 %. As the sharp reader of The activity in the United Kingdom, France, course notices, growth in revenue is not par Germany, Austria, Switzerland and the Nor- se equal to improved performance, but 56 % dic countries have been inof the portfolio companies creasing since the middle actually did deliver higher of last decade, booming, EBIT (Earnings Before Interboth in terms of numbers of est and Taxes) and EBITDA deals and the size of these, (Earnings Before Interest, in 2006 and 2007. Every inTaxes, Depreciations and dicator of Private Equity acAmortisations) than their tivity fell as the financial cripublic peers. sis hit the world economy.

Investment activity, exit levTalking about Private Equity els, fund raising and return firms as if they were one on funds fell. The industry single homogeneous entity lacked investment opportuis not perfectly correct, as nities, especially in the Anin any other industry there glo-Saxon world where acis differences between the tivity fell at a compounded individual funds and the way rate of between 62 % and they manage their invest66 %. In Asia the fall in acments. One could, however, tivity was much more moddivide them into two broad est, only decreasing with 32 groups, “supervisors� and

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“operators”. Supervisors can be said to follow a philosophy of “trusting the management” meaning that they do not intervene in the daily management of the firm unless management lacks specific skills. Operators, on the other hand, takes a very active role in the management of the firms and lead the effort to define, clarify and implement new strategies, working methods etc. Thus operators can be said to have a philosophy of “driving the change”. Trying to define which model is superior to the other is somewhat difficult as the optimal strategy is a balanced path between the two. Too much interference from the Private Equity firm might cause over investment. It is in fact a well-established fact from the branch of behavioral finance that CEOs are overconfident in their abilities and as operators often use teams of former CEOs, top management consultants and likewise, this might lead to inefficient investments. On the other hand, the supervisors might be too remote from the daily operations and thus miss to correct or improve these. Supervisors create more value growers whereas operators seem to be focusing on improving profitability. The improved focus on profitability might cause the companies to forego expansionary options and focus on the repayment of debt.

The more lose control from the supervisors also seems to cause more underperformers,

maybe as a result of their distance to daily management.

To be succesfull both models should however obey som simple rules. They should employ managers that act like owners, in order to avoid the well known principal agent problem. Make capital work hard, such that no capital is lost on inefficient tasks. This could be done through optimisation, procurement, sales effectivenes or improving working capital. Install superior reporting such that the Private Equity funds knows what happens and can react quickly to changes. Create an adaptable investment plan to seize profitable investment opportunities and improve the sales value of the company such that the exit strategy can be implemented. And finanaly should they act as active shareholders.

The Private Equity model have proven to be sesilient during the financial crisis and the following decline in economic activity. So when the industry was supposed to crash and thereby tearing down the rest of the economy, it actually outperformed otherwise equal companies. History so far tells us that Private Equity owned companies increase profitability and performance of the companies they have acquired well beyond the short term profit Poul Nyrup and others have accused them for. So in the words of Gordon Gekko: “The point is, ladies and gentleman, that greed, for lack of a better word, is good”.

...

This article is inspired by A.T. Kearneys Private Equity Report 2011, a special thank is thus directed to the authors of this. Thanks Ekkehard Franzke (ekkehard.franzke@atkearney.com), Seigbart Scheiter (seigbart.sheiter@atkearney.com) and Michael Ostroumov (michael.ostroumov@atkearney.com)

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INVESTMENT PANEL PORTFOLIO (27-04-2011) Swedish Match Thrane & Thrane Teva Pharmaceutical

+24% +4% +8,6%

Join a group of 25 friendly and inspiring academics from FinanceLab Help us do analysis and manage a real investment portfolio Add FinanceLab Investment Panel to your CV and LinkedIn profile Get access to the job offerings you may be looking for

INVESTMENT PANEL ANALYSIS DISCLAIMER: The authors and FinanceLab cannot be held accountable for any actions taken in reliance on information contained in the following articles.

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..

WHY T&T DESERVES ITS POSITION IN FINANCELABS INVESTMENT PANEL

By Daniel Schmidt and Jacob Motzfeldt

A

ttracted by the advantages of a market leader in a niche industry with solid margins, we suggested an investment in Thrane & Thrane at the Investment Panel meeting September 29th. At that time – at a price of DKK 225, Thrane & Thrane was starting to recover impressively from the massive global stock market meltdown. Initially, the proposal was turned down. However, after seeing another rise in the share price the following month, the Investment Panel, more or less unanimously, decided to make the investment on November 1st at a price of DKK 239.5. Since then, the price has peaked twice at DKK 260 and DKK 290. It has, however, recently been negatively impacted by the global uncertainty evoked by the war in Libya and the natural disaster in Japan. Nevertheless, we remain confident in Thrane & Thrane being a safe and promising position in the FinanceLab portfolio, which we will elaborate on below.

Thrane & Thrane is the world leading manufacturer and service provider of hardware for satellite communication. Having established a mutually beneficial collaboration with the leading global satellite operator Inmarsat, Thrane & Thrane has made its way to become a solid leader in the industry. In contradiction to many of its competitors, who are constrained to operate in either the mar-

itime, land or aeronautical market, Thrane & Thrane is occupied in all areas. This has also benefitted its collaboration with Inmarsat.

Currently, Thrane & Thrane, who has a solid competitive edge in R&D and general global presence, is making most of its revenues in the maritime market where it possesses a market share ranging from 40-90 % (depending on whether it is radio or radar communication solutions). The market shares in the land mobile market are smaller, yet not of an insignificant size, whereas the aeronautical market share is purposefully aimed at being remarkable improved from its current level of 5 %. Lastly, Thrane & Thrane is also making revenues in the less promising system segment.

What will be interesting to follow, during the coming months, is the development of Kuband systems. This makes the later crucial development of the Ka-bands much easier.

Ka-bands deliver much higher frequencies than what is possible now. Thus, Inmarsat has already begun investing in such a satellite network, which however is not expected to be implemented before 2013-2014. Inmarsat will also be challenged by another operator - Norwegian Telenor, which has recently announced investment plans in Ka networks amounting to as much as $225M. Telenor, however, only targets European coverage which makes Thrane & Thrane’s,

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The satellite communication industry is generally a promising industry. First of all, it has high entry barriers limiting the number of competitors; relatively heavy R&D investments, widely dispersed sales offices and general global presence, all of which are necessary in order to serve an industry characterized by a constant stream of improved products and high service standards. Moreover, the niche character has made it possible for Thrane & Thrane to show impressively large margins.

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apparently not finalized, contract with Inmarsat less vulnerable. 432.00.00!

Thrane & Thrane is in a good dia- 384.00.00! logue with Inmarsat about getting the remark as an official provider 336.00.00! of hardware. It still has to be men- 288.00.00! tioned that the remark is not crucial and not getting the contract 240.00.00! will in any case not be a detrimen192.00.00! tal weakness.

We believe that the recent nega- 144.00.00! tive development in the share 96.00.00! price does not reflect the realities that Thrane & Thrane face. 48.00.00!

First of all, it is mostly minor in0.00.00! vestors who have sold out to take profit after the recent rise in share price, which has partly been caused by analysts upgrading their share targets following the latest interim report. We find it highly likely that these small investors do not have full information.

Furthermore, and as mentioned above, recent volatility from Japan and Libya seems to have affected the share price negatively despite the fact that Thrane & Thrane usually benefits from natural disasters and wars like these. For instance, large areas in Japan are without landline communication possibilities at the moment, which can be solved with quickly installed satellite communication hardware. The same will be the case in Libya, and it was also the case in Australia after the floods. We believe that we will see the result of these developments in the next financial reports.

el stream of positive free cash flows, a great yet improving EBIT margin reaching 17.9 % in the last quarter, and lastly an exposure towards all segments thus making Thrane & Thrane more resilient to individual segment volatility than competitors. The high equityratio has helped them coping with the credit crisis. It can, however, also turn out to be a disadvantage as this slightly defensive strategy can make the company neglect otherwise good investment opportunities helping them retaining market leadership. Although Thrane & Thrane denies the possible negative effects of Inmarsat recently acquiring Norwegian ShipEquip, this can turn out to hurt them in the long run. Nevertheless, in a world characterized by increased safety requirements in the maritime industry, large governmental expenditures on communication equipment (e.g. for military purposes), and finally a lot of natural disastrous activity, we perceive Thrane & Thrane to be a promising and safe position in FinanceLab’s portfolio.

Many analysts, focusing on the company, share our positive view on Thrane & Thrane as confirmed by price targets ranging from DKK 272 to DKK 325. But we, however, see no reason why patient investors should not be able to sell their shares at an all time high Moving on to Thrane & Thrane’s strengths, (i.e. more than DKK 387.50) within a reawe see four positive characteristics; an equi- sonable period of time. Therefore, we sugty-ratio stabilized slightly above 50 %, a lev- gest the Investment Panel to keep its position in the company.

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RECYCLING MATERIALS AND RESHAPING LIVES

17

REMARKABLE STRONG TRACK RECORD

By Klaus Bender FinanceLab Investment Panel equity analysis

MATURE AND DIVERSIFIED HEALTH CARE GIANT

WHY IS JOHNSON & JOHNSON SO CHEAP?

t is almost impossible to recover from sickness without the help from Johnson & Johnson, traded on NASDAQ (JNJ.N). The diversified health care giant operates through approximately 260 companies located in about 60 countries.

Johnson & Johnson’s pharmaceuticals division produces drugs for a range of ailments, such as neurological conditions, blood disorders, autoimmune diseases and pain. Johnson & Johnson’s net earnings have increased from 15,7 USDm in 1950 to an enormous 13,988 USDm in 2010.

The last eleven years (2000-2010) EPS has grown no less than 321 %, from 1.58 USD to 5.08 USD. With an EPS that has 73.114-doublet since 1950, Johnson & Johnson has an extraordinary strong track record. This may explain why one of the most successful investors through history, Warren Buffett, has Johnson & Johnson as one of his favorite companies.

When looking at Johnson & Johnson’s track record, you would imagine that the stock price would have followed the increasing earnings.

Unfortunately this is not the scenario. The past 6 years net earnings have grown from 10.064 USDb in 2005 to 13.125 USDb in 2010 or an increase of 18,7 %. In the same period, the stock price has decreased with 10 % from 65 USD to 59 USD. The dividend yield has also increased from 1,4 % in 2000 to 3.4 % in 2010.

I

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Today Johnson & Johnson is valued with a P/E of 12.5. This P/E ratio is the lowest measured since 1979 (12,2). It therefore appears that the market is questioning Johnson and Johnson’s ability to maintain its historic growth rates. The main reason why the market may be skeptic is probably because of the price pressure on medical devises and medicine from governments all over the world. The past 10 years, CAGR in EPS equals 11,75 %, CAGR in EPS the past 5 years equals 7,41 % and CAGR in EPS the past 2 years equals 1,82 %. The above information may also explain why

Peer group:

Johnson & Johnson Novartis AG Abbott Laboratories

P/E EV/EBITDA P/B P/S Current ratio 5 year avg. ROE Dividend yield ∆ 52 Week 12 13 16

7,7 8,2 9,1

3 2 3

3 3 2

2,1 1,1 1,3

27,0% 16,1% 22,6%

3,7% 3,6% 4,0%

-8,9% 0,7% -7,6%

Stock price USD 59,6 50,0 54,3

WHAT IS A FAIR VALUE FOR JOHNSON & JOHNSON? the stock has not increased more than 17 % the past ten years. Simply because investors doubt that Johnson & Johnson can maintain the strong growth, which seems to be getting smaller and smaller.

OUTCOMPETING ITS PEERS ON STRONG MARGINS As the chart shows, Johnson & Johnson did well through the financial crisis. This is being supported by a strong 5 year average EBITD margin of 30 %. In comparison, two of Johnson & Johnson’s peers, Abbot Laboratories and Novartis AG have a 5 year average EBITD margin of 25 %, Novartis 27 %. The market expects Johnson & Johnson’s EPS to grow 1,26 % in 2011 and 5,78 % in 2012, compared to a five years historical average growth of 7,5 % year over year. If the market estimates are correct, it means that Johnson & Johnson is valued with a P/E2011E = 12,18 and P/E2012 = 11.5 which is the lowest P/E ever.

The fair value depends on the temperament of the individual investor. The optimistic investor do not think that it is worrying that the CAGR in EPS has been decreasing the past 5 and 2 years, but emphasizes that Johnson and Johnson has a strong financial health with a debt to equity ratio of 0,16, a current ratio of 2,1 and strong margins. – Furthermore the optimistic investor stresses, that Johnson and Johnson will be valued with a P/E ratio closer to the historical average of 23, and expects earnings to increase year over year in the future. Using Benjamin Graham’s intrinsic value formula, Johnson & Johnson’s intrinsic value is 92,3USD and should be valued with a P/ E2011 = 19. These results are based on an average annual EPS growth of 5,5 % the next seven years, the mean EPS estimate from 24 equity research for 2011 = 4,84 USD, actual stock price = 59USD, and the required return equals 4,5 %. The conservative investor emphasizes that CAGR in EPS is decreasing, and the price pressure on medicine and medical devices will continue to shrink margins.

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SHOULD I INVEST IN

SOLAR ENERGY? AN ANALYSIS OF TRINA SOLAR

By Ole-Bjørn Kolbæk, FinanceLab Investment Panel

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W

ith the current nuclear crisis in Japan and the focus on global climate change, renewable energy is getting more and more exposed in common media. The extra focus has to some extent created volatility in green tech private equity. The increased focus has also made more investors reconsider whether green tech should be included in their portfolio or not.

But which companies are good investments, which should be avoided, and on what basis is it possible to compare the many options out there? The following analysis will shed light on Trina Solar Ltd (NYSE: TSL), a Chinese solarpower company specialized in polar powered semi-conductors.

BACKGROUND

TSL develops, designs, produces, and sells solar panels for both small-scale privates, and large-scale industrial clients. The global scope of the firm has so far brought long-term partnerships in more than 20 countries. Some of the major markets are USA, Germany, Japan, France, and Italy, where subsidies and other incentive programmes have been common. Founded in 1997 and noted on NYSE in 2006, TSL has grown rapidly. Energy firms are often rated on their MW (mega watt) output, and MW sales are often quoted in popular media. The growth in output has gone from 28MW in 2006 to more than 1GW in 2010, a growth-rate of more than 3500 %. TSL currently owns more than 150 patents for innovations, and has a highly vertically integrated business model, which in turn means one of the lowest cost-structures in the industry.

RECOMMENDATION TRENDS APRIL Strong buy Buy Hold Underperform Sell

15 10 4 2 0

KEY FIGURES Ticker name: TSL Current price: $29.52 52-week low: $14.85 52-week high: $31.89 Return on Equity: 33.66 % 3-year CAGvR: 105 % Est. 1yr target price: ยง38 Est. MW output growth: 68 % Estimated EPS 2011: $4.18 Consensus est. EPS growth next 5 years: 17.36 % Intrinsic Value: $86 Margin of safety: 190 % Conservative IV: $58 Conservative MoS: 99 %

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Many analysts and financial institutions follow TSL. The solar sector has heated up in both stock prices and political focus. In the “Quick Facts”-box there is an overview of 2010-results and estimated potential.

The estimates used in this analysis are the mean of 28 published analyst estimates including Goldman Sachs, Citi, Barclays, Morgan Stanley, and more.

Estimated growth rates have high consensus estimates, but solar energy is an industry with a high potential. The current unwillingness to use nuclear power, especially in Europe, and the depleting global oil reserves, make renewable energy shine brightly. Taken in mind that the winds of politics may change rapidly one should be immensely conservative when evaluating volatile stocks and industries such as TSL and solar energy, respectively. In the calculation of intrinsic value one must bear the following risk factors in mind.

RISK FACTORS The shadow of the European debt crisis has put a substantial strain on the European governments and incentive programmes for green tech. It is not certain, that the governments of Germany and Italy will continue to subsidize solar investments, and this may hit companies like TSL hard. Especially Italy has subsidised solar energy heavily, and since Italy represents ~20 % of TSL’s market, and has tremendous debt problems, this might present an obstacle to the growth of TSL. On the same note, Germany has decided to cut subsidies following the financial crisis of ’08. Being the single largest buyer of TLS’s products, a dark cloud over Germany’s incentive programs could be devastating.

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German orders were starting to withdraw in Q1 of 2011 – the solar sector even experienced order cancellations.

As global demand for solar energy is volatile, naturally estimated growth rates for green tech becomes unsecure. Green tech is highly reliant on political goodwill to keep up demand; and there are signs, that global MW demand will not meet the rising productivity level across the sector. Another shadow over the face of solar is the rising prices of minerals and other production inputs. Global demand for production input in solar panel production is on the rise. Trinar Solar Ltd has a very cost-effective business model compared to competitors, but whether they can keep the costs down is unsure. Surely these factors will be noticeable in the upcoming Q1 financial statement of TSL. CALCULATION OF INTRINSIC VALUE: IV = EPS2011 * (8,5 + 2 * EPSpr annum growth 5 yrs) * (4,4/bond yield).

To ensure a conservative estimate, the following has been used: IV = 4,18 * (8,5 + 1,5 * 10) * (4,4/5) = $86.44.

On an even conservative estimate this is the calculation: IV = 4,18 * (8,5 + 1,5 * 5) * (4,4/5) = $58,85

One may also raise the point that the firm is Chinese. Some Danish banks are dubious about the numbers these companies produce with the argument that even though they are listed on American exchanges, one cannot really check the published financial statements. To this point no further argumentation will be made, since it will almost surely change the analysis from analyzing and speculating to a political discussion.

Furthermore one might argue, that the heated Chinese real estate market is starting to look alarmingly like a bubble about to burst. A bust in the real estate market can, as we have seen in the west, have devastating side effects on the stock market.

However, TSL is a highly de-centralized and thus spread over many countries. Financial HQ on the Caymans, Europe HQ in Switzerland, and there are dozens of other offices around the world.

So even with a crack in the Chinese housing market, a company like TSL can still shine. Of course the global consequences a Chinese collapse would bring to the relatively fragile global recovery should be kept in mind.

TECHNICALS Looking at the technical side of TSL, one should be aware that solar in general, and TSL in particular, are incredibly volatile.

The YTD trading range has been roughly $24 to $31. The current resistance level is at ~$31 and has historically been a strong resistance point. February brought a failed breakout, but the 20-SMA is crossing the 50-SMA, indicating a new breakout attempt; neither have been close to the 200-SMA in 2011.

23

RSI is neutral at a little over 50, which is less than both at the Jan- and Feb-outbreaks.

Technically TSL will be highly intriguing to follow the 14 days, since this is a schoolexample of classical resistance – or more excitingly, the “trampoline-effect”. If TSL breaks through $31-resistance we may see a beam towards $38. However, the volatility and technical history of this stock brings a substantial degree of uncertainty.

POTENTIAL Despite the plans to cut subsidies for solar energy, Germany has now also decided against nuclear energy. In Berlin and other major German cities protests against nuclear energy have taken place with hundreds of thousands participants. The German Chancellor, Merkel, has responded to the political development by deciding not to establish new plants, and even closing down old ones. Germany will not be likely to keep the subsidies at level with the last few years, but the current political climate brings brightness for the solar industry.

In China the government is responding similarly to the Japanese nuclear crisis, by planning to double renewable energy output already by 2015. For TSL this presents an enormous demand potential that might help to keep up estimated profit and growth rates on a rather short-term basis. According to China Electric Power Research Institute, China aims to boost solar energy with 1.8GW/yr by 2020 and 60GW by 2050.

Renewable energy will account for 25 % of the total energy capacity installed; solar will account for 5 %. To compare these numbers to prior achievements by China within green tech, one only has to look at how fast the Chinese wind energy market developed and brought fierce competition to the global market in just a few years.

Comparing solar to other energy sources, oil prices are on the rise driven by global demand and the unrest in North Africa & the Middle East.

24

Furthermore, exploration for oil, or exploitation of lower yield sources, is costly.

As we have seen recently with the Gulf oil spill, drilling in high-risk areas can be devastating for companies, environment, and states. President Obama addressed the issue in his State of the Union speech where he shed light on his plans to focus on renewable energy in the US. Some states have already taken a lead in this development. California has had highly motivating incentive programmes for solar and renewables in general, however the state’s financial situation will probably result in cutting these expenditures. Ironically the great oil state of Texas is seeing heavy investment in solar energy. Analysts estimate that the American market for renewable energy could double over the next few years.

CONCLUSION All theses factors bring a little more glow back to solar energy. Solar, and especially TSL, has seen costs fall rapidly, and efficiency of the panels rise, over the last few years, giving great KwH-pr-dollar value.

Trina Solar has especially been able to take advantage of these developments due to their simple business model. The high level of vertical integration adds a greater level of transparency compared to peers, which in turn makes the available data much more believable. In spite of the politically steered demand for solar investments, TSL has recurring customers to a great extent.

If TSL can cool down their European exposure and move into new markets, there is a good chance that estimated growth rates can be kept at a suitable level. Even with more conservative calculations and estimates TSL has good potential for private investors with a timeframe of more than 3 years.

DISCLAIMER:The author of this article owns stock

in Trina Solar Ltd with a weight of 16.4%. The author and FinanceLab cannot be held accountable for any actions taken in reliance on information contained in this article. For further reading, go to Yahoo Finance, Reuters, and Bloomberg.

25

WHY BUY TEVA PHARMACEUTICAL?

By Klaus Bender, FinanceLab Investment Panel equity analysis

10years CAGR (%) EPS growth (%) 26 10 26 9 26 8 26 7 26 6 26 5

PRICE PRESSURE VS. STRONG PIPELINE AND DIVERSIFIED GEOGRAPHIC EXPOSURE

T

he pharmaceutical industry as a whole, and therefore also Teva Pharmaceutical operations, are affected by increases in healthcare costs, governmental budget constraints as well as broad economic trends.

In each of Teva Pharmaceutical’s markets, which are primarily in Europe and the US, governments are working to control growing healthcare costs. These conditions enhance

26

pressure on especially branded drugs, but also on generic drug pricing. However, Teva Pharmaceutical has a broad pipeline combining generic as well as branded generic and a strong geographic diversity, hence Teva Pharmaceutical should be capable to deal with these challenges.

WHAT IS THE FAIR VALUE OF TEVA PHARMACEUTICAL? Teva Pharmaceutical was founded in Israel in 1940, and is the biggest generic pharmaceutical company in the world. The company has an astonishing track record, with a consistent increase in net sales the past 12 years.

Furthermore EPS has grown from 0,36USD in 2000 to 3,67USD in 2010, a growth of 920 % that equals a 10 year CAGR of 26 %, and a 5 year CAGR of 16,23 %. Compared to Teva Pharmaceutical strong CAGR, Mylan Inc. has a 5 year CAGR of -3 %, and Watson Pharmaceutical 16.7 %.

The table below shows the intrinsic value by different growth rates in EPS. By using Benjamin Graham’s formula and different growth rates for EPS, different intrinsic values emerge. Because this formula is a simplified model of calculating an intrinsic value, and to acknowledge that it is almost impos-

2011E 5,07 5,07 5,07 5,07 5,07 5,07

12E 5,58 5,53 5,48 5,42 5,37 5,32

13E 6,13 6,02 5,91 5,80 5,70 5,59

EPS 14E 6,75 6,57 6,39 6,21 6,04 5,87

15E 7,42 7,16 6,90 6,65 6,40 6,16

Peer group: Teva Pharmaceutical Mylan Inc. Watson Pharmaceutical

16E 8,17 7,80 7,45 7,11 6,78 6,47

sible to compute and forecast future earnings, Benjamin Graham required a margin of safety of at least 40-50 %. According to the margin of safety, it is important to remain conservative in the forecasts of future earnings. Hence I have used a conservative version of Graham’s formula by using a multiplier of 1.5 instead of 2, a required return of 5 % and EPS in 2011 = 5.07USD, which is the mean EPS estimate made by 29 different equity research analyst.

To acknowledge that the historic strong growth in EPS probably will not last because of increasing price pressure, a conservative estimate of a CAGR of 7 % in EPS the next 7 years will be rational. If this is the scenario, Teva Pharmaceutical should be priced at 84.77USD per share, which equals a margin of safety / potential of 88 %.

17E Intrinsic value USD Actual stock price USD 8,98 104,85 45 8,50 98,16 45 8,05 91,46 45 7,61 84,77 45 7,19 78,08 45 6,79 71,39 45 P/E 12.3 36.7 39.6

EV/EBITDA 9.21 11.74 12.17

P/B 2.01 3.01 2.23

P/S 2.5 1.99 2.05

Margin of safety 133% 118% 103% 88% 74% 59% Current ratio 1.24 1.97 2.19

Stock price USD Peer group: 5 year avg. ROE Dividend yield ∆ 52 Week 45 Teva Pharmaceutical 11.25% 1.56% -27,0% 25 Mylan Inc. N.M 0.00% 12.3% 58.6 Watson Pharmaceutical N.M 0.00% 35,0% This table shows some relative valuations of Teva Pharmaceutical and two competitors.

THE MARKET IS DOUBTING. A POSSIBLE MISCONCEPTION? Shareholder’s who bought Teva Pharma- % since 2000. In addition the share price ceutical stocks back in 2000, are probably has “only” increased by 200 %. satisfied with the company’s net earnings performance which has increased by 2150

27

1400 1300 1200 1100 1000 900 800 700 600 500 400 300 200 100 0

2000!

2001!

2002!

2003!

2004!

2005!

Adjusted EPS index 100!

The chart shows the historical performance in EPS and share price since annum 2000 (2000 = index 100). When comparing 2010 EPS and share price, with 2007 EPS and share price, an interesting fact appears.

Today’s share price of 45USD/share is the same as in 2007. In contrast, EPS has increased by 44.5 % when comparing 2007 and 2010. For what reason is the share price the same as in 2007 when net earnings has increased 44.5 %? One answer could be that the market doubt earnings to increase that strongly in the future, compared to the historical CAGR in earnings. So is Teva PharUSDm

Net Sales - Net Sales growth y-o-y Net Sales index 100 Gross Profit USDm - Gross Profit growth y-o-y Gross Profit index 100 Gross margin Operating Profit USDm - Operating Profit growth y-o-y Operating Profit index 100 Operating margin Net Profit + Acquisition - Net profit growth y-o-y Net Profit margin Net Profit index 100

2007!

2008!

2009!

2010!

Share price index 100!

maceutical really such a great company?

The answer partly depends on the concrete investment strategy. By following Benjamin Graham’s strategy, a company should not have a current ratio below 2, which is 0.76 point higher than Teva Pharmaceutical’s current ratio that equals 1,24. Furthermore Teva Pharmaceutical dividend yield is only 1.7 %, and the P/B = 1.85, which is above most value investor’s preferred P/B value of P/B < 1.5. These facts, plus the price pressure on drugs, may explain why Teva Pharmaceutical is only traded at 45USD/share.

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

1.750

2.077 19% 119 847 22% 122 41% 366 46% 146 18% 278 87% 13% 187

2.519 21% 144 1.095 29% 158 43% 524 43% 209 21% 410 47% 16% 276

3.276 30% 187 1.519 39% 220 46% 877 67% 350 27% 691 69% 21% 466

4.799 46% 274 2.239 47% 324 47% 1.174 34% 468 24% 929 34% 19% 626

5.250 9% 300 2.480 11% 358 47% 1.312 12% 524 25% 1.072 15% 20% 722

8.408 60% 480 4.259 72% 616 51% 2.096 60% 836 25% 1.809 69% 22% 1.219

9.408 12% 538 4.877 15% 705 52% 2.395 14% 956 25% 1.914 6% 20% 1.290

11.085 18% 633 5.968 22% 863 54% 2.547 6% 1.016 23% 2.017 5% 18% 1.359

13.899 25% 794 7.367 23% 1.065 53% 2.428 -5% 969 17% 2.000 -1% 14% 1.348

16.121 16% 921 9.065 23% 1.310 56% 3.871 59% 1.545 24% 3.339 67% 21% 2.250

100 692 100 40% 251 100 14% 148 8% 100

Nevertheless Teva Pharmaceutical growth rate in sales and profit, inclusive Teva Pharmaceutical profit margins are very strong.

Ceteris paribus, Teva Pharmaceutical looks cheap on valuation compared to its peer group. Additionally, using Benjamin Graham’s formula enlighten, that even though

28

2006!

the skeptics may be right, and EPS growth rate will decrease to 7 % compared with the historical 5 year CAGR of 16.23 % and 10 year CAGR of 26 %. - Teva Pharmaceutical is still undervalued and traded with a margin of safety of 88 %.

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WHY A

2% OIL

PRODUCER IS RATTLING

GLOBAL MARKETS?

By Anthony Merlo, FinanceLab Investment Panel

Brent Crude Oil vs. S&P 500 – 6M Performance

• Brent Crude Oil +51.75 % price increase over the last 6M • Uncertainty is driving the market (« Middle East risk premium » since beginning of March 2011)

L

ibya is the world’s twelfth-largest oil producer (1.6m barrels/day) and Africa’s third largest oil producer, but exports have dried up since the anti-Gaddafi uprising began some 6 weeks ago.

drive up oil prices. In addition, the damage to infrastructure might be larger, keeping Libya out of the oil market for longer.

Besides, there are many concerns about the extent of the damage the conflict may do to its facilities. Uncertainty and fear are drivIn itself, the loss of Libyan production ing the price of oil higher in the short-mid would not be cataclysmic for oil-importing term. As long as a stable and permanent socountries. But it would sharply reduce the lution to Libya´s unrest is not achieved, the amount of buffer that the world has in spare oil price will remain very volatile. But at this capacity, which would mean that even small stage, Libya seems to have more to play, additional shocks would have steadily bigger since Gaddafi remains defiant and not ready impacts on prices. to step back.

The collapse of exports from Libya has helped

30

Furthermore, Libya´s geographical location arise another concern that the crisis could spread to other oil producing nations in the Middle East, thereby affecting oil supply.

Analysts say there is a Middle East risk premium attached to the oil price, since the systematic and un-diversifiable risk may affect

other countries in the region (also known as the “domino effect”).

How should investors take positions on oil securities? Risk seeking investor should have a long position Brent Crude Oil Call option.

Valuing a Call Option using Black & Scholes Model Underlying Asset Price (USD) 04-15-2011 Strike Price Call option value (Black&Scholes Model)

125.48 130 14.03

Standard deviation (sigma) Time to maturity (year) Risk-free rate (US 10Y Bond)

0.428 0.5 0.03625

d1 = 0.21 d2 = -0.09 N(d1) = 0.58 N(d2) = 0.46

Graphical Representation of the Call Option Value 60!

50!

40!

30!

20!

10!

0!

0!

10! 20! 30! 40! 50! 60! 70! 80! 90! 100! 110! 120! 130! 140! 150! 160!

Brent Crude Oil Price!

Call option value!

• • • •

Investor breakevens 144.03 USD [Strike Price (130) + Call Premium (14.03) = 144.03] Maximum risk is known in advanced 14.03 USD (Call Premium) Unlimited payoff if Brent Crude Oil Price > 144.03 USD Hard to perform since the strategy implies high volatility in the underlying asset.

31

CHINA’S BRANDS ARE GOING GLOBAL

By Jacob de Lichtenberg Trade Commision of Denmark, Chongqing

H

ow many of the top brands of China do you know? Most likely you do not know more than two or three.

The trend, however, points towards more and more Chinese overseas investment and higher brand awareness as a consequence. The Chinese government is supporting the companies to go global and a lot of them are already ‘out’ there. But to see a truly global Chinese brand like Google will take at least a decade.

The reason for the western countries citi-

32

zens’ ignorance of Chinese brands is basically due to the fact that the country has very few international brands. In Interbrand’s 2010 rankings of the 100 most valuable global brands you cannot find a single Chinese brand, as the criteria for inclusion is that the brand is truly global, constituted by, among other things, that at least 30 percent of revenues must come from outside the home country. None of the large Chinese companies can live up to this globalization requirement, but this may be about to change.

The “going abroad”-trend of Chinese companies has been under way for some time and the trend is only intensifying these days.

The Industrial and Commercial Bank of China (ICBC), which already is the world’s biggest bank in terms of outstanding loans, has recently bought 80 % of the US-unit of Bank of East Asia, which include 10 branches in California and three in New York. ICBC has also very recently expanded its presence in Europe with branches in Frankfurt, Luxembourg, London, Paris, Brussels, Milan, Madrid and Amsterdam.

33

But in the long run the Chinese companies are aiming for the North American and European markets, according to Shaun Rein:

By the end of 2009, 12.000 Chinese inves-

tors had set up 13,000 overseas enterprises in 177 countries and regions around the world with assets exceeding 1 trillion USD. In 2009, China’s outbound FDI flows valued 56.5 billion USD and ranked as the fifth highest in the world and as number one among the developing economies. The Chinese Government has since 2000 campaigned to motivate both the privately owned and state owned companies to expand abroad.

The four main reasons for the Chinese companies to seek opportunities overseas are the following: - Establish its brands as “International” - To enhance its R&D or acquire new technology - Better access to natural resources - Domestic overcapacity and fierce domestic competition “The Chinese companies, who move overseas, tend to focus first on emerging markets. […] Chinese products remain competitive in emerging markets where they can compete well on existing quality and technology, and there is large demand for cheaper but “good enough” products,” according to Shaun Rein from China Market Research Group who made a survey on this topic back in late 2009.

As an example, China’s State Grid, one of the world’s largest utility companies, announced back in December 2010 that it would invest almost 1 billion USD in seven Brazilian power transmission groups in State Grid’s first venture into non-Asian markets. Its first investment outside of China was when State Grid invested 4 billion USD into the Philippines’ electricity grid.

34

“A majority of respondents who have begun to move overseas have already established presence in North American and Western Europe as well. The vast majority of respondents with plans to go abroad consider developed markets as their ultimate goal, both for their size and the status implications for their brand”.

Li-Ning, a top domestic athletic shoe brand, which has almost 8.000 stores around China, began its expansion into the US market in 2007, when it concluded; if it wants to be global it has to compete with the global players like Nike and Adidas on the largest markets.

“Our founder Mr. Li Ning has always said his vision was never about building China’s Nike, it is about building the world’s Li-Ning.

You cannot be global without having a legitimate claim of market share in the most mature sporting goods market,” Jay Li, general manager for Li-Ning International, said to AP in January 2011.

In another ranking of brands, made by the Company Millward Brown, the “global”-criterion is not as tough as in Interbrand’s ranking.

According to the Millward Brown ranking six Chinese Brands make it through to the Top100 in 2010, where China Mobile is ranked number eight with an estimated brand value of 52.6 billion USD. ICBC ranks 11th, while the value of the search-engine Baidu’s brand jumped 62 pct. to 9.4 billion dollar, which rewards it with a 75th rank.

Baidu, which hold 73 pct. of China’s online search market according to iResearch, started a search engine in Japanese in 2008 and still keeps expanding its services overseas.

Tencent, who has 637 million user accounts for its popular instant messenger QQ, also announced in December 2010, that it will expand its service to English, Japanese and French speakers.

Chinese companies are expanding their footprint into the world more than ever, but a lot of challenges need to be dealt with in order for them to be successful abroad. Among these are cultural differences when it comes to doing business and to understand the customers in the overseas markets, attracting and attaining talents in the new local subsidiaries as well as the lack of experience of building and maintaining a global brand image. All of which some of the Chinese companies will figure out over time, but it is not going to happen overnight.

Google, Apple, Coca-Cola, IBM, Microsoft and other of the world’s top brands are not going to be threatened anytime soon by the Chinese competitors. However, the developed markets in North America and Europe will over the next decade increasingly be entered by successful Chinese companies, which are all striving not only to become the largest in their field in China or Asia, but to become the largest in the world.

A brand like Lenovo (laptop) is only being estimated to be 2.3 billion dollar worth, which is far from the 7.3 billion dollar, which it takes to be number 100th. Lenovo acquired IBM’s laptop division back in 2005.

Haier, another one of China’s ‘globalised firms’ and one of the world’s largest producers of home appliances and consumer electronic products, had a turnover of more than 20 billion USD and a profit of almost 1 billion USD in 2010. The company runs 10 design institutes and its extensive range of products, which comprise more than 16,000 models in 96 categories are sold in markets across the Middle East, south and southeast Asia, Europe and the US. Despite of its large turnover and global presence, its brand is only valued at 1.3 billion USD – 87 times lower than the world’s most valuable brand, Google.

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Nidhi Gandhoke, CBS

ick et Com to th pet e ne itio xt n

SEPTEMBER

2011 37

Global I

t seems as if the last few weeks have been about pointing out the obvious.

First, almost a year after the bailout of Greece, European policymakers seem to have realized that the initial “throwing good money after bad” strategy, endorsed in May 2010, is not sustainable in the long run. Secondly, Standard & Poor’s (S&P) announced that the rating of US debt remained triple A, but that the outlook was cut from stable to negative, meaning that there is one-third chance of a downgrade within the next two years.

ONCE THE MONETARY RUSH IS OVER, THE STRUCTURAL HANGOVER KICKS IN Although the announcement from S&P merely points out what have been known to financial markets for quite some time, it does give rise to some considerations regarding the situation in the US. The US federal spending budget is $4 trillion and according to some analysts, the US deficit for 2011

38

will amount to no less than $1 trillion, corresponding to 10.8 % of GDP. As a result, the US deficit will reach $9.1trillion by the end of 2011, corresponding to 65 % of GDP. This deficit is a result of unfinanced tax cuts, increased fiscal spending and stimulus during the recession.

Some might argue that the US could grow itself out of this debt level (this is in spite of recent downgrades of the growth prospects in the current

Macro snapshot year). Yet these people tend to neglect that this deficit does not take student and agency loan – loans made available by the federal government to the local governments – liabilities into account. When

without doubt be the Fed’s June meeting, where Ben Bernanke and his people will have to figure out what to do after the QE2 ends in June. With statements like ”recovery is on a firmer footing” and ”conditions in the labour market appear to be improving” the tone from the Fed board is getting more hawkish. It is thus highly unlikely that the Fed will expand the QE2 programme.

Structural reforms The ending of the QE2 leads to an become harder to avoid quesin spite of their lack of appeal to the interesting tion: who will buy US treasury bonds politicians. and notes once the Fed withdraws these unrecorded from the US bond market? figures are accounted for, the US deficit After the beginning of the QE2 the Fed has reaches an overwhelm- purchased 70 % (annualized) of the Treasing $65trillion, according ury notes and bonds. For comparison, the to some analysts. Struc- Fed’s holding of Treasury notes and bonds tural reforms become harder was merely 10 percent of the publically isto avoid in spite of their lack of sued $9 trillion of Treasury notes and bonds appeal to the politicians. Entitlement before QE2, while foreign investors – China, spending, which accounts for 44 % of the Japan and other sovereign surplus countries federal spending budget in 2011, is one of – and other US (professional and private) inthe areas were politicians could intervene in vestors accounted for 50 and 40 %, respecorder to bring the deficit down. The Republi- tively. cans, in particular, are advocates of this so- Thus, the ending of QE2 will inevitably crelution. An alternative favoured by the Demo- ate an excess supply of US Treasury bonds crats is to increase taxes. Neither of these and notes on June 30th 2011. A belief in a solutions, however, are very easy to sell to strong US economy with good growth prosthe voters. pects is key to create a sufficient demand to meet this supply. In the light of the former, This negative outlook for the US economy this is unlikely to be evident. puts the success of the Quantitative Easing The Fed could clean up their mess by inprogramme 2 (QE2) in jeopardy. One of the ducing interest rate hikes in order to clear key events in the forthcoming months will markets. However, with a current unemploy-

39

ment rate of 8.8 % and core- and headline inflation around 1.5 and 2.1 respectively, the standard policy of the Fed does not suggest an interest rate hike. This is in spite of the fact that current short-term interest rates are virtually zero at this point, which implies that 5-year real interest rates are currently negative. It leaves the debt burden, not on the shoulders of those who issued the debt, but the savers who’s investments are carved out by inflation; a sweet deal for the federal government, but not very sustainable in the long run.

more fuel to the fire is the fact that ECB has not bought any European bonds within the last four weeks in an attempt to force policymakers to implement the policies needed to regain confidence of the investors. As a consequence, restructuring in form of prolonging maturities, lowering yields or cutting down the debt size is inevitable if Greece ever is to get back on track.

RECORD BREAKING TIMES WITHIN COMMODETIES

Commodities have been benefitting from a FACING THE INEVITABLE: RESTRUCTURING lacking safe-heaven, a strong demand for OF DEBT IN GREECE hedges against inflation, political upheaval in the Middle East and North Africa (MENA) and Nearly a year after Greece checked into the increasing demand in the emerging markets. liquidity hospital, policymakers in the Euro area have now realized that the bailout so- After silver – which has gained a staggering lution implemented, however necessary at 145 % within the past year – hit its highthe given point in time, is not a sustaina- est level since 1980 at $49.31 it is now ble solution in the long run. Recent figures trading at $44.63, while gold is down from from Greece reported that the country had $1,518.10 to $1,494. Oil is still dominated failed in reaching its deficit targets, leaving by political instability in MENA, but WTI is the country with a budget deficit of 10.5 % trading at $112.52 and Crude oil at $124.96. of GDP. This caused the 2-year bond yields Both below their peak levels at $126.90 and to rise to no less than 24.34 %, while the $113.21, respectively. gap between the 10-year German and Greek bonds widened to 1,208bp. As usual, this Some analysts believe that this is the beginresulted in spill over effects in other Euro ning of a plunge in the commodity market. periphery countries; Irish two-year bond On the other hand, with current instabilities yields rose 75bp to 12.09 % while Portu- in both the US and the European debt marguese yields jumped 21bp to 11.46 %. kets, it is however likely that this downfall is The government of Greece – being a part of merely temporary. the Euro – is not able to boost exports by devaluating the currency. Moreover, Europe- Moreover, a week dollar combined with a an Central Bank’s (ECB) interest rate hike in strong demand for commodities has driven April and three more to come in the current the commodity dominated Aussie to hit a year, adds to the need for Greece to grow 29-year high at $1.07. its way out of the crisis even further. Adding

40

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We need your input The FinanceLab Consortium 2011 will take place during September as a cabin trip. As the programme is still open for inputs, we would very much appreciate your contribution. Thus, if you would like to take part in the planning of - or simply just have an idea for - Consortium 2011, please do not hesitate to contact us. We are very open-minded to member initiatives and inputs.

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