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Air China Ltd, the nation’s largest international carrier, had its biggest plunge in almost a month in Shanghai trading yesterday after saying losses on hedging contracts tripled because of wrong-way bets on fuel prices.

Continue reading ‘Fuel bets send Air China plunging’ »

Editor: Bruce Meng
25 Nov 2008 05:54:40 GMT

MACAU, Nov 24 – Asian telecom stocks are no longer a surefire defensive play for these financially turbulent times, with even China and India expected to see pain in the short term as a gloomy economic outlook stretches into 2009.

Analysts and executives at the 2008 GSMA Mobile Conference last week in Macau warned heavyweights such as Japan’s NTT DoCoMo <9437.T> and South Korea’s SK Telecom <017670.KS> will struggle to wring more revenue out of saturated markets as competition intensifies.

And many players in Asia’s high-growth markets, led by China and India, are battling with lower "ARPUs" and slowing subscriber growth, while they compete to provide more value-added services such as multimedia and games as consumer expectations accelerate.

ARPU, or average revenue per user, is a key performance indicator for telecoms firms.

"For China, the penetration rate is relatively low, the prospects are still there. It’s not saturated, but the growth will slow because of the impact of the financial crisis," said Hong Kong based ICEA Securities analyst Kary Sei.

"The major driver is rural customers, but they are low-end users and just pay a little. The operators are now relying on value-added services because they want to maintain their ARPU."

Beijing in May unveiled a sweeping industry reshuffle that will see the creation of two full-service competitors — China Unicom <0762.HK> and China Telecom <0728.HK> — to China Mobile via mergers and acquisitions.

Slowing income growth, as even China’s breakneck economy feels the fallout from the worst financial crisis since the Great Depression, is set to exacerbate the already intense competition for new customers.

"Lower GDP/capita implies lower average income per capita, and hence lower subscriber growth and lower ARPUs compared with our previous expectations," Morgan Stanley said in a research note downgrading China telcos’ earnings outlook.

EYES ON INDIA

Executives say low penetrations rates in India, the world’s fastest expanding mobile market, will continue to benefit dominant player Bharti Airtel <BRTI.BO>.

But intense price competition and balance sheet issues will hamper foreign players such as Etisalat <ETEL.AD>, Sistema <SSAq.L> and NTT DoCoMo seeking a slice of the market via stakes in local firms.

Norway’s Telenor <TEL.OL>, which derives a third of its revenue from operations in Pakistan, Malaysia, Thailand and Bangladesh, is moving into India with $1.1 billion deal for a 60 percent stake in India’s Unitech Wireless, and planning to fund the deal with a rights issue.

But JP Morgan has estimated the deal could destroy $2 billion of value and give earnings dilution of greater than 30 percent in the near term.

"We know that growth will be reduced," Jon Frederik Baksaas, Telenor’s CEO warned at the 2008 GSMA Mobile Asia Congress. "Every market will be seeing the impact of the financial crisis. There will be more phases of economic growth."

But while analysts say the current liquidity crisis will hurt greenfield operators in India, it is seen benefitting Bharti Airtel, which controls roughly a quarter of the mobile subscriber market, has strong cashflow and no immediate need to raise capital.

"New entrants have achieved very low ARPUs, which indicates revenue share stability for incumbents like Bharti despite a seemingly successful entry by new entrants," said Citigroup, who has a "buy" rating on Bharti and says "no one else comes close".

Macquarie, CLSA, JP Morgan, and Goldman Sachs all say Bharti is the top pick in India’s telecom sector.

Bharti is Goldman’s only "buy" rated stock in the sector. The bank has a "neutral" rating on Reliance Communications <RLCM.BO> and a "sell" on Tata Communications <TATA.BO>.

Researcher Gartner forecasts India’s mobile user base will more than double to 737 million by 2012. Just over a quarter of India’s 1.1 billion population currently own a mobile phone, compared with a penetration level of about 85 percent in Japan and more than 100 percent in Singapore and Hong Kong.

"VALUE-CHAIN SQUEEZE"

Still, Bharti is taking no chances and counting on value-added services to grow revenue.

"We are not a music company, we are a telecom company, but our turnover of music is more than other music companies in India," Bharti’s CEO Manoj Kohli claimed at the 2008 GSMA Mobile Asia Congress.

But operators in saturated markets are finding the push for value-added services can bring its own problems.

Consumer expectations for music, Internet, and advanced messaging capabilities are growing all the time, while search engines such as Google <GOOG.O> encroach upon operators’ turf.

"We are now competing with companies such as Google and Yahoo — I call it the value-chain squeeze," SK Telecom CEO Shin-Bae Kim said, adding that the open-platform, Web 2.0 era has forced his firm into an era of "hyper-competition".

"There’s many disruptive business models."

Last month, global stock markets suffered a 20 percent loss, a record monthly fall that saw domestic entrepreneurs becoming more cautious in taking their companies public both at home and overseas.

Gone with the IPO dream are the hundreds of millions of new capital that venture capitalists and private equity funds once bet on IT companies promising to become cash cows.

Randv.com, a fast-growing IT company based in Zhejiang province, has had to postpone indefinitely its plan to list on the NASDAQ after receiving two rounds of venture capital injections.

The company’s listing was originally scheduled for this month.

“We chose to suspend our IPO schedule because we didn’t feel that we could get the price we wanted in the depressed market,” Randv’s CEO Zhou Xiao told China Daily.

Since it was established in 2006, the net asset value of the company has been rising by an average of 10 percent annually, Zhou said.

Randv is just one of many IT companies exercising such caution. According to local media reports, many other fast-growing IT firms in Zhejiang, including Intohotel.com and Focused Photonics, Inc, have also put their IPO plans on hold pending market recovery.

“The decline in stock prices will certainly make IT companies think twice about going to the stock market for funding,” said Steve Hodgkinson, a research director at global analyst and consulting company Ovum. “The problem is that the existing shareholders will need to give away much more equity in exchange for shares to raise a given amount of capital.”

The number of newly listed companies in Shanghai A Shares was down 67 percent from a year earlier to only four in the first half of this year, according to PricewaterhouseCoopers.

Figures compiled by investment research and consulting firm ChinaVenture also showed that in China’s IT sector, which used to be the most active industry in raising funds from the secondary market, there were no single companies in the country going public last month.

Throughout the past 10 months, only 12 IT companies went public, while the number was 17 one year ago.

“IPOs will be a path we must take for capital raising, but the schedule depends heavily on the external conditions in the next two to three years, especially when our orders have been slightly affected since some of our suppliers went bankrupt recently,” said a top executive from Hangzhou National Chip Science & Technology Co Ltd, surnamed Zhang.

The coupling effect of crunched liquidity and low return ratio on the capital market has reportedly made many companies shun financing through stock markets and seek alternatives.

“The low price/equity ratio has dampened IPO prices, which are even lower than private equity prices, ” said Liu Zhiteng, an investment manager at Blue Ocean Capital (U2ipo), a Shanghai-based investment consulting firm.

Liu added that weak global stock markets have almost failed to function as a venue for raising funds, with fewer venture capitalists willing to buy into IT startups at present.

As of last month, the average premium rate of the first day closing price for 77 new-issued stocks on China’s two bourses was 112.54 percent, compared to 194.64 percent for 129 newly listed stocks in 2007, according to the Securities Times.

“The time when Alibaba raised US$1.5 billion in its offering has gone,” said Zheng Xiaojun, a veteran angel investor and general manager of Allpku consulting company.

Shares of the country’s largest business-to-business e-commerce company soared 192 percent on its first trading day on the Hong Kong Stock Exchange last November.

The US$1.5 billion funds raised from the stock also made it the largest IT offering since Google went public in 2004.

But its share prices, which once hit a record HK$41.8, plunged to a 52-week low of HK$3.71 on Oct 27, in tandem with the sharp fall of Hong Kong’s Hang Sang Index.

“The decrease of fixed-income securities and stock prices have pushed venture capitalists to reallocate their investment portfolio, forcing them to get more prudent when pumping in cash,” Zheng said.

China’s benchmark index dropped 25 percent last month, making it the largest monthly slide since February 1995.

“The secondary market will be hit harder than primary markets due to the flight of investors to companies with higher quality earnings and lower risk profiles,” Hodgkinson said.

Like other investors, venture capitalists are said to be worried about risks and returns.At a time when risks are moving up and returns down, venture capitalists will become more cautious about investing in early-stage IT companies, he added.

“Mergers and acquisitions would take over the traditional role that IPOs used to play as an exit strategy for venture capitalists, with the former apparently costing less now,” Zheng said.

“In an economic downturn, IT companies need to be prepared for the upcoming ‘winter’. Ideally, they should try to be debt-free, lean on cost structure, and beef up on cash flow and pricing power,” said Richard Ji, an executive director of Morgan Stanley Asia.

The financial crisis is not all bad news for China’s IT industry, which has been absent of supervision and suffered over-competition, Allpku’s Zheng said.

The sector may be reshuffled through the winter and turn healthy when the financial woes pass, he said.

(China Daily November 13, 2008)

Jiangxi Copper Co., China’s second-biggest smelter by last year output, may lose between 452 million yuan (US$66 million) and 904 million yuan from futures trading this year, Morgan Stanley analyst Berry He said.

Most losses were probably incurred in October as it liquidated short positions in Shanghai while long positions in London were left open amid falling metal prices, Hong Kong-based He said in a research note yesterday. Long positions are bets prices will rise, while short positions anticipate falling prices.

Jiangxi Copper last month said third-quarter profit declined 27 percent to 919.5 million yuan on falling copper prices. Fourth-quarter profit may barely break even, partly due to slumping prices of sulphuric acid, a by-product of copper smelting and used in fertilizers, Morgan Stanley said.

(Shanghai Daily November 7, 2008)

Huiyuan Juice sits beside Coca-Cola on a supermarket shelf. Wu Changqing. [China Daily]

The surprisingly high premium offered by Coca-Cola for soft drink maker Huiyuan Juice has redefined Chinese brand value and focused the local corporate sector’s attention on the question of what it is that’s making foreign suitors swoon.

The short answer, analysts agreed, is market share. This is of particular importance to the high-volume soft drink business. In some cases, market share has continued to elude foreign producers in the thousands of small cities and townships in China’s vast rural areas.

Acquisitions of this type will not be limited to the food and beverages sector, analysts said. They expect foreign investors will also zero in on catering, retail, logistics and other sectors.

“We are going to see more foreign companies, which have saturated the large cities and coastal region with their goods or services, going after the domestic brands that have penetrated the secondary cities and towns in the relatively less developed central and western parts of the country,” Yu Ming-yang, head of the Institute of Branding Research at Shanghai Jiaotong University, said. “Coca-Cola’s offer represents an increased recognition of the value of Chinese brand names by foreign companies,” he said.

The proposed transaction has stirred up a storm of protest from Huiyuan’s domestic competitors, who have expressed fears of potential market domination by the Coca-Cola/Huiyuan combination, which is under review by the commerce ministry.

Beijing-based Huiyuan is the largest juice beverage company on the mainland with a 46 percent market share in 2007, according to market research firm ACNielsen. The company’s sales totaled 2.7 billion yuan in 2007.

In fact, Huiyuan was targeted by foreign investors long before Coca-Cola made its offer. The Chinese company is 21 percent owned by French food and beverage producer Danone, with 6.37 percent held by US investment bank Warburg Pincus.

“There is room on the stage for foreign investors to acquire Huiyuan’s rivals, such as Uni-president and Master Kong, which are producing more healthy beverages, including sugar-free tea, pure fruit juice and bottled water to meet growing demand from customers,” Hu Chunxia, a beverage industry analyst at Guotai & Junan Securities in Shanghai, said.

Huiyuan, of course, is not the only Chinese brand that has caught the eye of foreign investors. Some of the world’s largest investment funds have been quietly building up equity interests in choice Chinese brand assets for years.

For some foreign investors, mainly banks, they acquire equity interests in Chinese brands as an investment to be resold later at a profit. Others are seeing their investments in established Chinese brands as a quick and effective way of expanding share or penetrating new markets.

Foreign investment banks had shown particular interest in leading Chinese companies in the dairy industry. For example, Morgan Stanley, together with two other foreign investors, in 2002 bought a 32 percent stake in Mengniu Dairy for 216 million yuan. A year later, Morgan Stanley topped up its commitment, buying US$35 million worth of Mengniu’s convertible bonds.

The capital injection by Morgan Stanley and others has turned Mengniu from an insignificant dairy producer to one of the three leading players in the domestic dairy market over the past six years. Shortly after introducing a strategic investor, Mengniu’s annual sales in 2002 and 2003 jumped 131 percent and 144 percent respectively. Mengniu’s market share has also been largely improved since then and the company went public in Hong Kong in 2004.

Since then, the growing value of Chinese brands has caught the fancy of foreign investors, whose interests have been widened from food and beverage to cafes, restaurants, cosmetics and home electronic appliances.

In August 2006, well-known Chinese kitchenware brand Supor based in Hangzhou of Zhejiang province, was acquired by French firm SEB, the world’s leading producer of small home electronic appliances.

In April, Goldman Sachs bought a 20 percent stake in Hangzhou-based C.straits Caf. Other well-known restaurant chains that have been targeted by foreign investors include Diocoffee, Chamate and Christine Bread House.

Other Chinese brands that have wooed foreign investors include Zhonghua toothpaste, Huoli 28 shampoo, Robust beverage, Maxam and Mini Nurse skincare products.

As in the case of Huiyuan, the sale of well-known domestic brands almost always touches a raw nerve.

Many household names have disappeared from the marketplace, substituted with foreign owners’ own brands.

A case in point is the beverage brand Robust, popular in Guangdong province in the 1990s.

As one of the two best known non-alcoholic beverage brands in China at that time, Robust used to enjoy an overwhelming market share.

But after it was bought by Danone in 2000, the brand simply faded away from the public eye.

Maxam, a cosmetics brand first established in 1962 by Shanghai Jahwa, one of the nation’s largest cosmetics producers at that time, accounted for more than 20 percent of the domestic market in the 1990s.

Other Chinese brands that shared the same fate after an ownership change include Nanfu Battery, Mini Nurse skincare products and Dabao cosmetics products. Nanfu Battery was purchased by US Gillette in 2003, while Mini Nurse went to L’Oreal in 2003.

(China Daily September 24, 2008)

Customers return tainted milk powder at a supermarket in Hefei, Anhui province last week. [China Daily]

Melamine-tainted powdered and liquid milk has triggered a series of negative effects for China’s dairy industry, and is expected to be a potentially fatal blow for many domestic dairy businesses.

Inner Mongolia Yili Industrial Group, China’s largest maker of dairy products, fell to the lowest in more than two years in Shanghai trading after rival Sanlu Group Co’s products were tainted by the chemical melamine.

As of Thursday, Yili fell to 10.88 yuan (US$1.59) and Bright Dairy &Food was down to 4.07 yuan. Both were shut for trading on Friday.

Yili had fallen as much as 10 percent, the daily limit, and traded down 5.5 percent to 13.50 yuan at 11:29 am local time last Tuesday. That’s the lowest since March, 2006. Bright Dairy &Food Co fell by as much as 10 percent to 4.58 yuan, and was at 4.76 yuan.

Contaminated milk powder made by Sanlu was linked to at least four child deaths and more than 6,244 infants who have been diagnosed with various urinary tract problems, including kidney stones, by last Friday. Consumers may cut purchases of domestic infant powder and switch to imports, Morgan Stanley says.

China’s biggest dairy makers, including China Mengniu Dairy Co, Inner Mongolia Yili Industrial Group and Sanlu Group Co were among those with products linked to tainted milk. Mengniu stopped trading last Tuesday. Melamine was first found in Sanlu’s products.

China Mengniu Dairy Co fell as much as 11 percent to HK$17.96 (US$2.31) last Tuesday in Hong Kong before it closed to trading.

The General Administration of Quality Supervision, Inspection and Quarantine said last Thursday that the tainted product crisis has extended to liquid milk as its test results show nearly 10 percent of samples taken from Mengniu and Yili contained up to 8.4 milligrams of melamine per kilogram. Liquid milk from Shanghai-based Bright Dairy also showed melamine contamination.

The Chinese dairy market was worth US$19 billion last year, Merrill Lynch &Co says, citing Euromonitor data.

Many emerging markets improved their levels of real estate transparency over the past two years, with China achieving the greatest improvement in the Asia-Pacific region, according to a report by Jones Lang LaSalle, a professional services firm specializing in real estate.

According to the latest China edition of the Global Real Estate Transparency Index from Jones Lang LaSalle and LaSalle Investment Management, its global real estate investment management subsidiary, China is currently classified as a semi-transparent market, moving up one full level from low transparency.

“The successful staging of the 2008 Olympic Games has shifted the focus of investors from around the world not only onto Beijing but indeed China as a whole,” said Denis Ma, head of the research department of Jones Lang LaSalle Beijing, adding that the index serves as an excellent tool for potential first-time investors in China’s real estate market.

In addition to the differences between the three tiers of cities on the mainland, Hong Kong is one of the world’s most transparent real estate markets, Taiwan has a slightly higher level of semi-transparency and Macao has low transparency below mainland first-tier cities but slightly higher than second- and third-tier cities.

“China’s property markets are as diverse as the country itself. The inclusion of China’s second- and third-tier cities in this year’s survey helps users of the index better understand their different challenges,” Ma added.

This is the first China edition of the index and it highlights the key findings of the 2008 transparency survey in relation to China’s different tiers of cities. Previous China ratings reflected only first-tier cities (constant since 1999), so the marked improvement is significant for China, which has moved to a higher level than India for the first time.

Based on the findings, the report said there are four key reasons for China’s improvement:

1) Globalization, a major force behind real estate transparency, with increasing capital and companies in China expediting the requirement for accurate market information and adoption of global practices;

2)Openness of real estate’s direct correlation to the growing volume of investment transactions;

3)Increasing number of public listings by property developers and more market information through annual reports; and

4)Central government policies and more publicly available information through the China Real Estate Intelligence Services (CREIS).

“The steady improvements in China’s transparency level reflect not only the emerging maturity of the country’s real estate markets but also the government’s commitment to opening up the markets to overseas investors,” said Julien Zhang, deputy managing director of Jones Lang LaSalle Beijing.

Of the six areas used to determine market transparency, China improved most in the regulatory and legal field and had the lowest score in market fundamentals. These two areas showed the greatest variance between the different tiers of cities.

“We are confident about China and anticipate further transparency improvements in its real estate market over the coming years, primarily in terms of market fundamentals, regulations and legal issues. By 2010, we project the transparency score will move from 3.3 to 3.1 or 2.7, putting China at the upper end of the semi-transparent category and on a par with current transparency levels in Russia and Brazil,” said Ma.

China’s improved transparency, together with the ongoing market correction, seems to make the country’s property sector more attractive for investors.

Contracted investment in the real estate sector in Shanghai accounted for 27 percent of all foreign direct investment in the first half, double the same period last year, according to the latest report from the city’s statistics bureau report.

“In fact, the number of investors hasn’t changed much. The higher transaction volume is mainly due to more attractive prices in this fluctuating market,” said Eric Chan, deputy managing director of the Beijing branch of Savills, a UK real estate service provider.

Property price growth in China’s 70 major cities has dropped for six months in a row, with shrinking transactions and tightened monetary policy putting pressure on property developers’ cash flow.

Industry insiders said Morgan Stanley is raising US$10 billion for a global property fund and plans to put US$1.5 billion or more of that into China, despite fears the nation’s property market will slide further.

Other foreign funds, including Blackstone and Carlyle, are also looking for new investment opportunities in high-end residential and commercial properties in China.

(China Daily October 31, 2008)

The global elites of the chemical-based advanced materials industry are now meeting at the Binhai New Area in Tianjin to attend the 2nd International Advanced Materials (Tianjin) Summit held between today and Friday.

Co-organized by the Tianjin municipal government, China National Chemical Corp.(ChemChina), Dechema – Germany’s Society for Chemical Engineering and Biotechnology – and Morgan Stanley, the summit provides a forum for the shared interests of government, enterprises, industry organizations and investors, with focuses on opportunity and responsibility.

The forum is also supported by government ministries and industry organizations such as the National Development and Reform Commission, the Ministry of Science and Technology, and the China Petroleum and Chemical Industry Association.

Leaders from top multinational companies including DSM, Dow, BASF, Celanese AG and Bayer participate in the summit. Managers from five top-ranked Chinese petrochemical corporations – China Petrochemical Corp., China National Offshore Oil Corporation (CNOOC) and ChemChina also attend the summit.

Government leaders, top experts, and enterprise decision-makers will discuss the latest trends in science and technology development and opportunities in the advanced materials industry as well as corporate social responsibility.

Organizers said the summit will deepen communication between government and enterprises so that enterprises can learn policy trends and the voices of businesses can be heard by the government. Domestic and foreign companies will share information on their challenges and achievements to strengthen mutual learning and extend full cooperation.

The summit will also host technology forums on composite materials and aerospace, chemical industry materials and lightweight automotive materials, and membrane materials, water resources and environmental materials.

With the rapid development in recent years in aviation, aerospace, automobiles, electronics, electrical appliances, construction and public utilities, industry insiders say the advanced materials industry has entered its golden age of development.

This year has been particularly noteworthy for China as it officially began its jumbo aircraft project, launched the Shenzhou VII spacecraft and completed construction of the Bird’s Nest and Water Cube, all of which show the importance of advanced materials as a force in science and technology development.

Materials science is the basis and pioneering power in the development to many sectors of modern industry, providing strong technical functions to support national economy and industrial development. Since China entered the era of reform and opening to the outside world, research, development and industrialization of advanced materials have been emphasized by the Chinese government.

In the past 10 years, the government has invested more than 3 billion yuan to finance a series of projects, including key State laboratories, national research centers and important scientific projects.

(China Daily  October 30, 2008)

Editor: Bruce Meng
29 Oct 2008 04:44:26 GMT

LONDON, Oct 28 – A stream of profit warnings from European corporates is set to become a torrent in coming weeks, but the equity markets have factored in most of what will be thrown at them.

Company chief executives will use the current reporting season to get bad news out of the way as both developed and emerging market economies deteriorate and as lending in credit market remains tight, market strategists said.

Individual companies that issue profit warnings or cut guidance may still face heavy punishment at the hands of investors, but broadly speaking, stock valuations have already priced in a bleak earnings picture.

Some strategists are seeing profit falls of more than 10 percent in 2008 and around 30 percent in 2009, and they know companies have their own reasons for painting a black picture as black as possible.

"It’s getting to the tipping point where it’s in their interest to talk the numbers down as hard as they can because what they want to do is to get into the position where they have brought the earnings estimates down to such a low level that looking out six months they can actually start to beat them," said Philip Lawlor, chief portfolio strategist at Nomura. Europe’s biggest mail and express delivery company, Deutsche Post, warned on Monday that its 2008 and 2009 operating profit would come in lower than previously expected, joining Daimler, PSA Peugeot Citroen and Air France-KLM who had all recently issued profit warnings.

Data from 41 of the DJ Stoxx 600 companies that have already reported third-quarter results showed that 51.2 percent came in below forecasts, while 46.3 percent beat forecasts, according to Thomson Reuters figures.

"Q3 is a golden opportunity for any CEO to have a profit warning or a guide down numbers because macro data have deteriorated in the third quarter for domestic economy in Europe and UK," said Nick Nelson, UBS’s head of equity research.

The British economy shrank 0.5 percent in the third quarter of 2008, much worse than expected, and the first contraction in 16 years, making a recession all but inevitable.

In Germany, business expectations plunged this month to their lowest level since the country was unified in 1990, a leading survey showed, stoking fears of a deep recession in Europe’s largest economy.

"The area where CEOs have been bullish — the emerging markets — obviously has deteriorated as well in the last quarter. There is a huge concern of tightening of credit availability. That provides perfect reasons, or excuses if you like, for companies to give a profit warning," Nelson said.

Investors have pulled out of emerging markets across the board in unprecedented volumes in the past month as global recession fears mount, terrified of risk and in some cases worried new capital controls might stop them getting out later.

The International Monetary Fund would provide funding to Iceland, Hungary and Ukraine, and is in talks with Turkey and Belarus.

UBS cut its earnings growth forecasts to down 10 percent for 2008 from a previous fall of 7 percent, and expected earnings to fall 16 percent in 2009.

Morgan Stanley, however, was more pessimistic for 2009, revising down its earnings forecasts to minus 33 percent from its previous estimates of minus 17 percent. It expected earnings growth to decline 14 percent this year.

Citigroup also estimated European corporate earnings to drop 30 percent next year.

PRICED IN

Market strategists said even though cheap valuations mean the market has factored in deteriorating earnings growth outlook, on an individual stock level, companies that come out with a profit warning still have the capacity to shock.

"You’ll have an announcement effect on individual stock level but in aggregate the valuations of the market seem to be discounting a fairly aggressive fall in the profits," UBS’s Nelson said.

Ronan Carr, European equity strategist at Morgan Stanley, said long-term investors could start adding to their positions as valuations were cheap.

"An earnings recession of that magnitude is already reflected in equity market valuations … We think the market is cheap but risks are high," he said.

"For a very short-term market point of view, the risks are quite high even the valuations are cheap. But if you were a long-term investor, this is … whereas you should start adding to positions."

Morgan Stanley recommended investors to long defensives, such as telecoms and healthcare, and short cyclicals like industrials.

JPMorgan also said in a note: "At market level, looking purely at the fundamental backdrop, price moves and valuations, we think a 30 percent EPS fall should already have been discounted."

Stefan Hofrichter, senior strategist and senior portfolio manager at RCM in Frankfurt, also said long-term investors could dip their toes back into the market.

"We as a house think it is not yet time to be brave. We want to wait, we want to see earnings revision momentum to stabilise. We would like to see (credit) spreads narrowing further for financial companies," Hofrichter said.

"They have come in a bit but they are still at a high level historically, too high for equity markets to perform because there are still a lot of fears about financial sector meltdown, which is not our base case."

Editor: Bruce Meng
29 Oct 2008 01:51:50 GMT

LONDON, Oct 28 – A stream of profit warnings from European corporates is set to become a torrent in coming weeks, but the equity markets have factored in most of what will be thrown at them.

Company chief executives will use the current reporting season to get bad news out of the way as both developed and emerging market economies deteriorate and as lending in credit market remains tight, market strategists said.

Individual companies that issue profit warnings or cut guidance may still face heavy punishment at the hands of investors, but broadly speaking, stock valuations have already priced in a bleak earnings picture.

Some strategists are seeing profit falls of more than 10 percent in 2008 and around 30 percent in 2009, and they know companies have their own reasons for painting a black picture as black as possible.

“It’s getting to the tipping point where it’s in their interest to talk the numbers down as hard as they can because what they want to do is to get into the position where they have brought the earnings estimates down to such a low level that looking out six months they can actually start to beat them,” said Philip Lawlor, chief portfolio strategist at Nomura. Europe’s biggest mail and express delivery company, Deutsche Post, warned on Monday that its 2008 and 2009 operating profit would come in lower than previously expected, joining Daimler, PSA Peugeot Citroen and Air France-KLM who had all recently issued profit warnings.

Data from 41 of the DJ Stoxx 600 companies that have already reported third-quarter results showed that 51.2 percent came in below forecasts, while 46.3 percent beat forecasts, according to Thomson Reuters figures.

“Q3 is a golden opportunity for any CEO to have a profit warning or a guide down numbers because macro data have deteriorated in the third quarter for domestic economy in Europe and UK,” said Nick Nelson, UBS’s head of equity research.

The British economy shrank 0.5 percent in the third quarter of 2008, much worse than expected, and the first contraction in 16 years, making a recession all but inevitable.

In Germany, business expectations plunged this month to their lowest level since the country was unified in 1990, a leading survey showed, stoking fears of a deep recession in Europe’s largest economy.

“The area where CEOs have been bullish — the emerging markets — obviously has deteriorated as well in the last quarter. There is a huge concern of tightening of credit availability. That provides perfect reasons, or excuses if you like, for companies to give a profit warning,” Nelson said.

Investors have pulled out of emerging markets across the board in unprecedented volumes in the past month as global recession fears mount, terrified of risk and in some cases worried new capital controls might stop them getting out later.

The International Monetary Fund would provide funding to Iceland, Hungary and Ukraine, and is in talks with Turkey and Belarus.

UBS cut its earnings growth forecasts to down 10 percent for 2008 from a previous fall of 7 percent, and expected earnings to fall 16 percent in 2009.

Morgan Stanley, however, was more pessimistic for 2009, revising down its earnings forecasts to minus 33 percent from its previous estimates of minus 17 percent. It expected earnings growth to decline 14 percent this year.

Citigroup also estimated European corporate earnings to drop 30 percent next year.

PRICED IN

Market strategists said even though cheap valuations mean the market has factored in deteriorating earnings growth outlook, on an individual stock level, companies that come out with a profit warning still have the capacity to shock.

“You’ll have an announcement effect on individual stock level but in aggregate the valuations of the market seem to be discounting a fairly aggressive fall in the profits,” UBS’s Nelson said.

Ronan Carr, European equity strategist at Morgan Stanley, said long-term investors could start adding to their positions as valuations were cheap.

“An earnings recession of that magnitude is already reflected in equity market valuations … We think the market is cheap but risks are high,” he said.

“For a very short-term market point of view, the risks are quite high even the valuations are cheap. But if you were a long-term investor, this is … whereas you should start adding to positions.”

Morgan Stanley recommended investors to long defensives, such as telecoms and healthcare, and short cyclicals like industrials.

JPMorgan also said in a note: “At market level, looking purely at the fundamental backdrop, price moves and valuations, we think a 30 percent EPS fall should already have been discounted.”

Stefan Hofrichter, senior strategist and senior portfolio manager at RCM in Frankfurt, also said long-term investors could dip their toes back into the market.

“We as a house think it is not yet time to be brave. We want to wait, we want to see earnings revision momentum to stabilise. We would like to see (credit) spreads narrowing further for financial companies,” Hofrichter said.

“They have come in a bit but they are still at a high level historically, too high for equity markets to perform because there are still a lot of fears about financial sector meltdown, which is not our base case.”