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Asia Pacific

INVESTMENT PERSPECTIVES

M O R G A N S T A N L E Y R E S E A R C H

Morgan Stanley Asia Limited

J a n u a r y 1 9 , 2 0 1 1

Morgan Stanley does and seeks to do business with companies covered in Morgan Stanley Research. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of Morgan Stanley Research. Investors should consider Morgan Stanley Research as only a single factor in making their investment decision. Customers of Morgan Stanley in the US can receive independent, third-party research on companies covered in Morgan Stanley Equity Research, at no cost to them, where such research is available. Customers can access this independent research at www.morganstanley.com/equityresearch or can call 1-800-624-2063 to request a copy of this research.

For analyst certification and other important disclosures, refer to the Disclosure Section, located at the end of this report. + = Analysts employed by non-U.S. affiliates are not registered with FINRA, may not be associated persons of the member and may not be subject to NASD/NYSE restrictions on communications with a subject company, public appearances and trading securities held by a research analyst account.

H I G H L I G H T S

6 Asia/GEMs Strategy Mixed Start to the Year: Reiterate Energy OW Jonathan F Garner, Pankaj Mataney, Pauline Yeung

18 Asian Multi-Industry Asian Conglomerates: Top Picks for 2011 Praveen K Choudhary, Xin Jin Ling, Corey Chan,

Conrad Werner, Asian Conglomerates Team

28 Initiation Indonesia Banks We Are Long-term Bulls – Inflation Outlook Is Key Nick Lord, Edward Goh

Strategy and Economics

6 Asia/GEMs Strategy Mixed Start to the Year: Reiterate Energy OW Jonathan F Garner, Pankaj Mataney, Pauline Yeung

Global

8 US Equity Strategy The Quality / Junk Debate Adam Parker, Antonio Ortega, Phillip Neuhart, Naseh Kausar

10 US Credit Strategy New Year, Same Worries Rizwan Hussain, Maya Abdurahmanova

12 Global Cross Asset Strategies Disentangling the Tactical from the Strategic Gregory Peters, Jason Draho

14 Global Economics Ten for the Teens Spyros Andreopoulos, Manoj Pradhan

Industry Analysis

16 Asia Metals & Mining Solid Mid-cycle Growth; Positive for Base Metals Charles C Spencer, Mean Phil Chong, Sandy Niu, John Lam, Hyunjae Lee

18 Asian Multi-Industry Asian Conglomerates: Top Picks for 2011 Praveen K Choudhary, Xin Jin Ling, Corey Chan, Conrad Werner, Asian Conglomerates Team

20 Asian Telecoms Asian Wireless Data Report: Shifting Focus to DMs Navin Killa, Asia/Pacific Telecom Team

22 Australia Metals & Mining Earnings Upgrade, Cash Drives Re-Rating for 2011 Craig Campbell, Cameron Judd, Sarah E Lester, Peter G Richardson, Joel B Crane

(continued)


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January 19, 2011 Investment Perspectives — Asia/Pacific

24 India Nonferrous Metals & Mining Still Attractive Even As Risk Factors Inch up Vipul Prasad, Ritish Rangwalla

26 India Telecommunications 2011 – Not About Tariff Cuts, But 3G and Regulations Vinay Jaising, Surabhi Chandna

28 Initiation Indonesia Banks We Are Long-term Bulls – Inflation Outlook Is Key Nick Lord, Edward Goh

30 S. Korea Retail Rather than Cycle, Execution Matters in 2011 Kelly H Kim, Jenna Mok, Angela Moh

32 Taiwan Financial Services Banks in 2011: Focus on Growth at Reasonable Price Lily Choi, Bruce Chou

34 Taiwan Hardware Technology PCB/IC Substrate: HDI PCB Supply Tightness to Benefit Unimicron and Tripod Sharon Shih, Brad Lin, Jasmine Lu

36 Taiwan TFT LCD 2011: Come-Back Year Frank A Y Wang, Jerry Su, Derrick Hung-Chi Yang

Company Analysis

38 Infosys Technologies Use the Dip; Move to OW Vipin Khare, Gaurav Rateria

40 Larsen & Toubro Thesis Unfolding, but with Minor Hiccups Akshay Soni, Pratima Swaminathan

42 PT Adaro Energy Tbk. Rays of Sunshine Wee-Kiat Tan, Josh S Du, Sara Chan

44 Reliance Industries Changing Tides Vinay Jaising, Rakesh Sethia

46 Initiation Westfield Retail Trust Top-quality Malls at a Big Discount: Overweight Lou Pirenc, Todd McFarlane, John Meredith


Best Ideas

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January 19, 2011 Investment Perspectives — Asia/Pacific

Morgan Stanley Best Ideas

Best Ideas are our leading stock investment insights – the best combination of highly differentiated research, favorable risk-reward profiles, and clear catalysts.

Differentiated research: We seek out-of-consensus thinking that incorporates fresh data and analysis. Analysts are expected to identify what’s in the price and present a compelling challenge to market assumptions on key investment debates.

Favorable risk-reward profiles: Scenario analysis lies at the heart of our disciplined approach to research, so we look beyond single-point estimates and price targets. We examine the full risk-reward profile of the investment, assessing the range of plausible outcomes and the scenario skew as indicators of analyst conviction.

Clear catalysts: We require a clear roadmap for upcoming data and events in the following few months that can help corroborate our analysts’ investment theses and drive a discernable change in market perceptions.

Additions and removals of stocks are published as part of regular, stock-specific reports. The complete list appears weekly in the Asia Pacific Investment Perspectives.

Important note – Best Ideas is not and should not be considered a portfolio: Each investment idea is chosen based on its own merit and without any consideration of the other investment ideas chosen. Specifically, there has been no effort to mitigate the risks of investing in any collective group of Best Ideas. Concepts important to a balanced portfolio, such as negative correlation and diversification, have not been considered. Treating Best Ideas as a portfolio will subject you to the risk of losing all or a substantial portion of your investments.

Morgan Stanley Research Stock Selection Committee

Agricultural Bank of China

Foster’s Group

Larsen & Toubro

Rio Tinto

Samsung Heavy Industries

SJM Holdings

Taiwan Fertilizer

Trina Solar

19-Jan P/E* Dividend Yield (%) FCF Yld (%)

EPS* CAGR (%) RNOA (%)

Net Debt / EBITDA EBIT / Interest % Upside to

Price 2010 2011 2010 2011 2010 2011 2010-2012 2010 2011 2010 2011 2010 2011 Bull PT Bear

Agricultural Bank of China Limited

HK$4.0 10.6 9.0 5.1 4.4 - - 17.7 25.9e 21.4e - - - - 49 29 (23)

Foster's Group A$5.6 15.4 14.7 2.1 7.2 NM 8.0 9.4 11.7e 15.9e 1.9e 1.4e 8.7e 9.4e 36 26 (11)

Larsen & Toubro Rs1,652.0 21.5 17.3 0.9 1.0 NM 2.2 24.7 26.0e 26.0e NM NM 8.1e 9.2e 62 37 6

Rio Tinto Plc A$87.6 12.8 6.7 1.0 1.0 9.3 13.2 38.3 27.7e 47.5e 0.4e NM 18.5e 48.2e 56 30 (12)

Samsung Heavy Industries Co., Ltd.

W45,300 10.6 10.5 1.1 1.1 NM 14.2 (4.6) 18.6e 16.0e 1.5e 0.5e (62.5)e 27.3e 28 (1) (35)

SJM Holdings HK$15.0 24.1 19.2 2.2 2.8 8.9 7.3 18.6 57.9e 275.6e NM NM 15.4e 31.1e 18 0 (37)

Taiwan Fertilizer Co Ltd NT$112.0 35.9 30.1 1.3 2.2 2.1 0.0 10.4 8.2e 10.6e NM NM 2,245.0e 50,346.3e 47 29 (24)

Trina Solar $27.5 8.3 8.4 0.0 0.0 NM NM 5.2 36.5e 23.4e NM NM 4.3e 8.0e 53 22 (25)For valuation methodology and risks associated with any price targets above, please email [email protected] with a request for valuation methodology and risks on a particular stock. NM = Not Meaningful, "-" = Not Available * - in local currency uses consensus methodology, all other metrics use ModelWare methodology All years are fiscal-aligned i.e. if Fiscal Year ends in March 2011 (any month from Jan to May), it is shown as 2010. Source: Morgan Stanley Research estimates

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January 19, 2011

Investment Perspectives — Asia/Pacific

Asia/Pacific Economics: Forecast Summary Chetan Ahya/Denise Yam

2007 2008 2009E 2010E 2011E 2012EReal GDP Growth (%)Asia Ex-Japan 10.8 7.2 6.1 9.1 7.9 8.0China 14.2 9.6 9.1 10.2 9.0 9.0Hong Kong 6.4 2.1 -2.8 6.8 5.0 4.0India 9.5 7.3 6.8 8.6 8.7 9.0Indonesia 6.3 6.0 4.5 6.0 6.5 6.5Korea 5.1 2.2 0.2 5.8 4.5 4.0Malaysia 6.5 4.7 -1.7 7.2 5.0 5.5Singapore 8.5 1.8 -1.3 16.0 6.0 6.5Taiwan 6.0 0.7 -1.9 9.5 3.8 4.2Thailand 4.9 2.5 -2.2 8.0 4.8 5.3Australia 4.0 2.3 1.1 3.3 2.7 2.6CPI Inflation (%, Period Average)Asia Ex-Japan 4.6 6.4 2.4 5.0 4.9 3.8China 4.8 5.9 -0.7 3.2 4.5 3.0Hong Kong 2.0 4.3 0.5 2.8 3.8 3.0India 6.4 8.3 10.8 12.0 7.5 6.2Indonesia 6.4 9.8 4.8 5.1 6.5 6.5Korea 2.5 4.7 2.8 3.0 3.6 2.9Malaysia 2.0 5.4 0.6 1.7 2.3 2.2Singapore 2.1 6.6 0.6 2.8 2.9 2.7Taiwan 1.8 3.5 -0.9 0.9 2.0 1.6Thailand 2.2 5.5 -0.9 3.2 3.5 3.5Australia 2.3 4.4 1.8 2.8 2.4 2.5Current Account (% of GDP)Asia Ex-Japan 7.2 6.2 5.3 3.8 3.2 2.7China 10.6 9.6 5.9 4.6 3.6 2.8Hong Kong/1 12.4 13.6 8.7 9.0 8.6 8.1India -0.7 -2.4 -2.2 -3.4 -2.7 -2.5Indonesia 2.4 0.0 2.0 1.5 1.2 0.9Korea 0.6 -0.6 5.1 3.0 1.6 1.6Malaysia 15.7 17.5 16.7 13.9 13.7 13.4Singapore 26.8 18.8 18.5 18.1 19.1 19.5Taiwan 8.4 6.2 11.4 8.3 8.8 9.4Thailand 6.3 0.4 7.7 5.9 4.9 4.0Interest Rates (Prime Lending Rate %, Period End)China/2 7.5 5.3 5.3 5.8 6.3 6.3Hong Kong/3 4.1 3.5 2.3 2.0 2.3 3.8India 7.8 6.5 4.8 6.3 7.3 7.5Indonesia 13.0 15.2 13.7 13.5 13.8 13.8Korea/4 6.2 5.3 5.3 4.2 5.5 5.5Malaysia 6.7 6.5 5.5 6.3 6.3 6.3Singapore 5.3 5.4 5.4 5.4 5.4 5.4Taiwan/5 4.4 4.5 2.5 2.6 3.1 3.5Thailand 7.0 6.9 6.1 6.6 6.8 6.8Interest Rates (3-Month Interbank Rate %, Period End)China/6 3.3 1.7 1.7 2.3 2.8 2.8Hong Kong 3.5 1.0 0.1 0.3 0.4 2.4India/7 7.5 5.6 4.3 6.0 7.0 7.3Indonesia/8 7.4 11.2 7.5 7.5 8.0 8.0

Korea/9 5.8 4.0 2.9 2.8 3.8 4.2Malaysia 3.6 3.6 2.2 3.0 3.0 3.0Singapore 2.4 1.1 0.7 0.6 0.8 1.3Taiwan/10 2.2 1.1 0.6 0.7 1.2 1.5Thailand/11 2.1 1.6 0.7 1.2 1.5 1.5USD Exchange Rates (Period End)China 7.31 6.83 6.83 6.60 6.20 5.82Hong Kong 7.80 7.75 7.75 7.75 7.75 7.75India 39.44 48.64 46.63 44.50 46.00 48.00Indonesia 9419 10950 10395 8750 9450 9800Korea 936 1260 1276 1075 1050 980Malaysia 3.31 3.46 3.52 3.05 2.80 2.65Singapore 1.44 1.44 1.45 1.28 1.20 1.15Taiwan 32.4 32.9 33.0 30.5 28.6 27.0Thailand 33.7 34.9 34.3 30.0 32.0 35.0Australia 0.95 0.67 0.78 0.90 0.95 0.98

(1) Composite Consumer Price Index (2) 1-Year Working Capital Rate (3) HK Mortgage Rate (4) 5-Year National Housing Bond Yield (5) Taiwan First Commercial Bank Prime Lending Rate before 2003, Base Lending Rate since 2003 (6) 3-Month Time Deposit Rate (7) 91-Day Treasury Bill Rate (8) 3-Month Time Deposit Rate (9) 91-Day Yield on Certificates of Deposit (10) 90-Day Money Market Middle Rate (11) 3-6 Month Time Deposit Rate Dated as of January 19, 2011 * GDP and CPI for Asia Pacific include Asia Ex-Japan and Australia. E = Morgan Stanley Research estimates Source: CEIC, Morgan Stanley Research

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January 19, 2011


MSCI AC Asia Pacific ex Japan Market Valuation Table

Crystal Ng +852 2239-1468 FIF EPS 14-Jan-11 Mkt Cap PE Growth PBV ROE DY EV/EBITDA Performances in US$ Regional/Country/Industry Group % 09E 10E 11E 09E 10E 11E 10E 10E 10E 10E -1w -4w -52w ytd MSCI AC Asia ex Japan 75% 20.6 14.7 12.9 21.3% 40.3% 13.5% 2.1 14.0% 2.4% 8.5 0.8% 4.4% 16.5% 1.6% MSCI AC Asia Pacific ex Japan 100% 19.6 15.0 13.0 7.6% 30.9% 15.1% 2.1 13.8% 2.8% 8.1 0.9% 3.5% 12.9% 0.6% Australia 25% 17.2 15.8 13.2 -14.9% 8.7% 20.2% 2.1 13.1% 4.1% 7.2 1.1% 0.9% 3.7% -2.4% China 19% 18.4 14.1 12.2 16.5% 30.1% 15.2% 2.3 16.3% 2.5% 7.6 1.5% 5.2% 6.6% 4.0% Hong Kong 9% 24.9 19.3 17.7 -1.4% 27.8% 8.6% 1.8 9.3% 2.4% 15.3 0.4% 6.5% 25.8% 5.1% India 8% 22.0 18.0 14.7 16.8% 22.4% 22.6% 2.9 16.2% 1.3% 11.2 -4.4% -5.0% 5.0% -9.3% Indonesia 2% 19.6 16.5 13.5 13.8% 18.3% 22.6% 4.0 23.9% 2.4% 8.5 -2.3% -2.0% 16.3% -5.5% Korea 15% 17.3 11.5 10.3 57.1% 50.6% 11.9% 1.7 14.4% 1.3% 6.7 1.7% 7.7% 25.8% 4.7% Malaysia 3% 23.8 18.0 15.4 -19.9% 32.1% 16.8% 2.4 13.5% 3.1% 9.3 0.6% 7.7% 32.4% 4.6% New Zealand 0% 13.3 15.9 15.1 -27.8% -16.3% 5.0% 1.7 10.5% 5.9% 6.2 2.9% 6.6% 2.5% 1.7% Philippines 1% 22.1 16.9 15.4 14.7% 31.0% 9.6% 2.7 16.0% 2.7% 9.3 -1.8% 3.0% 24.1% -2.4% Singapore 5% 19.1 15.9 14.5 -8.7% 21.2% 9.4% 1.9 11.9% 3.2% 10.8 -0.3% 5.1% 19.0% 1.1% Taiwan 12% 29.5 15.0 13.5 52.7% 97.6% 9.7% 2.0 13.5% 3.7% 8.2 3.8% 4.8% 16.2% 0.8% Thailand 2% 17.9 15.0 12.4 35.1% 19.4% 21.0% 2.3 15.3% 3.1% 8.7 -0.7% 0.6% 45.8% -0.5% MSCI AC Asia Pacific ex Japan GICS Industry Group Automobiles & Components 3% 17.0 11.3 10.0 97.3% 50.2% 12.7% 2.5 21.8% 1.1% 10.1 1.2% 7.5% 61.3% 6.5% Banks 20% 16.5 13.2 11.3 -0.9% 25.4% 16.1% 1.8 13.7% 3.9% NM 0.9% 2.2% 11.4% -0.3% Capital Goods 7% 20.4 15.8 13.7 24.8% 28.8% 15.9% 2.1 13.3% 1.7% 11.1 1.5% 6.9% 27.6% 3.7% Commercial & Professional Services 0% 18.8 22.2 19.7 -13.4% -15.3% 12.6% 5.8 25.9% 4.0% 10.1 -0.3% 4.6% 13.1% -1.3% Consumer Durables & Apparel 1% 13.9 22.3 12.7 105.6% -38.6% 59.8% 1.9 8.5% 2.6% 13.6 -0.3% -2.2% -3.9% -2.0% Consumer Services 2% 29.0 20.0 17.4 -18.6% 45.3% 14.4% 2.7 13.4% 3.3% 10.7 1.7% 8.1% 42.8% 4.1% Diversified Financials 3% 19.7 20.1 16.2 36.6% -1.6% 23.1% 2.2 10.8% 2.8% NM 1.8% 4.6% 8.9% 1.3% Energy 8% 19.5 15.3 13.2 1.4% 27.5% 15.7% 2.3 14.8% 2.4% 8.5 1.0% 4.4% 16.4% 0.5% Food & Staples Retailing 3% 19.9 17.7 16.7 3.8% 12.2% 6.3% 2.4 13.5% 3.4% 9.9 1.9% 3.4% 12.7% -1.7% Food Beverage & Tobacco 3% 18.8 16.1 15.0 11.6% 16.1% 7.8% 2.8 17.7% 2.4% 11.8 -0.7% 1.1% 8.6% -1.1% Health Care Equipment & Services 0% 24.0 24.1 21.0 15.6% -0.4% 14.5% 3.5 14.7% 2.7% 14.0 0.6% 1.6% 3.2% -2.6% Household & Personal Products 1% 33.6 28.8 24.4 17.5% 16.8% 18.3% 9.5 33.1% 1.8% 20.6 -4.8% -1.0% 26.2% -4.0% Insurance 4% 19.6 19.9 16.0 47.3% -6.5% 24.3% 2.2 10.8% 2.4% NM -0.4% 2.7% -4.0% -1.0% Materials 14% 21.4 15.9 12.1 -14.2% 34.5% 31.6% 2.6 16.1% 2.1% 6.8 1.1% 3.0% 13.5% -0.6% Media 0% 15.2 13.6 13.8 -30.8% 12.1% -1.7% 1.4 10.5% 3.6% 8.6 -1.7% -0.8% 2.6% -4.4% Pharmaceuticals Bio & Life Sciences 1% 24.9 21.4 19.8 36.4% 16.1% 8.2% 4.6 21.6% 1.0% 15.2 -1.8% -1.0% 20.9% -3.9% Real Estate 7% 16.7 15.9 14.6 -17.0% 4.9% 8.9% 1.2 7.6% 3.0% 12.8 -0.6% 5.5% 11.6% 2.4% Retailing 1% 24.1 20.5 18.0 -2.6% 17.5% 13.8% 3.3 16.1% 2.1% 12.2 0.3% 3.3% 15.6% 3.6% Semi & Semiconductor Equipment 6% 21.6 10.4 11.0 2777.6% 107.5% -5.7% 2.1 20.4% 2.8% 3.8 3.4% 5.2% 10.6% 3.1% Software & Services 3% 33.1 26.9 22.0 11.3% 22.9% 22.4% 7.6 28.4% 1.2% 20.8 0.5% 3.6% 17.0% 0.1% Technology Hardware & Equipment 5% 30.3 15.4 12.4 -22.0% 98.7% 23.4% 2.0 12.9% 2.8% 7.1 1.4% 1.8% 7.0% -1.0% Telecommunication Services 5% 12.6 12.5 11.9 -2.6% 2.0% 4.7% 2.0 16.2% 5.1% 5.2 1.1% 2.2% 3.8% 0.2% Transportation 2% 302.4 13.4 13.5 -68.7% 2168.5% 1.4% 1.6 12.1% 3.1% 8.7 1.0% 5.4% 13.3% 2.3% Utilities 3% 20.2 17.7 14.5 44.8% 14.5% 21.4% 1.6 8.9% 2.9% 12.2 -1.2% 0.3% 3.5% -1.4% 1. Years are June-May fiscal aligned. If the fiscal period ends between January 1 and May 31 of any given year, the year will be that of the previous year. Example: A company's fiscal year ends March 31, 2010. The year will be referred to as 2009. 2. Estimates from IBES. Source: MSCI, IBES, FactSet, Morgan Stanley Research



January 19, 2011


6

January 14, 2011

Asia/GEMs Strategy Mixed Start to the Year: Reiterate Energy OW Morgan Stanley Asia

Limited+

Jonathan F Garner [email protected]

Pankaj Mataney [email protected]

Pauline Yeung [email protected]

Absolute and relative returns for both MXEF and MXAPJ were lacklustre over the holiday period and in early trading in 2011. Both indices are trading essentially unchanged at end-October levels. Moreover, MSCI EM has underperformed MSCI World by 370 bps since the recent peak in relative performance on October 4, 2010. YTD 2011, the MSCI EM index is up 1.0% with a significant skew to country performance. Nine of the major markets in MCCI EM have fallen YTD.

We suspect that the market consensus is starting to catch up to the issues we raise in our 2011 year ahead outlook piece. Namely, that Asia / EM faces – likely for at least two quarters – a combination of slowing growth, rising inflationary pressures and tighter monetary policy. (See our December 1 note, 2011 Outlook: Slowing Growth, Rising Inflation and Higher policy rates = less bullish than consensus.)

Lastly, we have removed BYD (HK$42.80) from the APxJ and EM focus lists and add Petronas Chemicals (RM6.02).

Difficult absolute return environment until inflation peaks in Q2: We reiterate our key conclusion that the absolute returns environment will likely be difficult until inflation and interest rates peak in mid-2011. We also suspect that outperformance of MSCI World will not take place in H1.

During this process, we and the market will be paying close attention to how much of a growth slowdown needs to take place in Asia / EM to bring aggregate demand back in line with aggregate supply.

Overall, within portfolios, we continue to prefer a greater focus on value investing and dividend yield strategies, which we believe outperform during periods of rising inflation and policy action. Partly for business cycle reasons, and also to implement a beta reduction, we reduced Consumer

Discretionary to EW in our 2011 year ahead outlook piece. Energy is now our only sector OW. Although it is early days since publication of our piece, the Energy sector is amongst the performance leaders, whilst Consumer Discretionary is lagging.

Rising energy prices – MS forecast average WTI oil price of US$100 in 2011 (+25% vs. 2010): Rising energy prices are a key factor in the continued upward pressure on inflation in Asia / EM. Our Global Commodities Team, led by Hussein Allidina, sees WTI oil moving to an average US$100 per barrel in 2011 (25% above the average 2010 level) and higher thereafter. This would be equal to the average oil price in 2008. Consensus is at US$87 average for WTI in 2011 (source Bloomberg), which is only 9% above the average 2010 level.

Exhibit 1

MSCI EM 2011 YTD Performance (US$)

YTD Performance (US$ terms)5.5%

5.0%4.5% 4.1%

3.7% 3.7% 3.4%

2.3%

1.3% 1.0%0.7% 0.4% 0.3%

-0.5%

-2.3%

-3.2%-3.6%

-4.0%

-5.5%-5.9%-5.9%

-6.7%

Ru

ssia

Ho

ng

Ko

ng

Cze

ch

Ma

lays

ia

Hu

ng

ary

Ch

ina

Ko

rea

Bra

zil

Sin

ga

po

re

EM

Me

xic

o

Tai

wan

Tu

rkey

Po

lan

d

Th

aila

nd

S. A

fric

a

Au

stra

lia

Ph

ilip

pin

es

Ind

ia

Ind

on

esia

Per

u

Ch

ile

Source: MSCI, Factset, Morgan Stanley Research. Data as of 10th Jan 2011

Exhibit 2

WTI Oil with MS Forecast Bull, Base and Base Case Forecast; MS at $100 while Consensus at US$87

30

50

70

90

110

130

150

Dec

-05

Ap

r-06

Au

g-0

6

Dec

-06

Ap

r-07

Au

g-0

7

Dec

-07

Ap

r-08

Au

g-0

8

Dec

-08

Ap

r-09

Au

g-0

9

Dec

-09

Ap

r-10

Au

g-1

0

Dec

-10

Ap

r-11

Au

g-1

1

Dec

-11

US$/BBL

2006 Average: $66/BBL




2010 Avg: $80/BBL

Base $100

Bull $120

Bear $65

MS Estimates

Source: Datastream, MS Commodities team, Morgan Stanley Research



January 19, 2011


7

US oil demand recovers strongly: On the demand side, US oil demand in 2H 2010 finally began to show strong YoY growth again. The aggregate of US and Chinese demand growth in October 2010 (latest available data) was growing at +5.0% YoY vs. 1.0% YoY in October 2009.

Importantly, we are still some way currently from the oil price challenging overall consumer spending. The percentage of disposable income by accounted for by gasoline is currently around 3%, well below the peak levels prior to the 2008 recession.

In Hussein’s view, tightening supply conditions interact with this reacceleration of demand to send prices higher. Although the team forecasts that OPEC production capacity will grow by 1.0 mmb/d through 2015, this is not sufficient to offset a decline in non-OPEC production by 380 kb/d in 2011 and an aggregate 2.2 mmb/d through 2015.

Excess capacity set to decline quickly: Emerging markets have driven the demand recovery in 2010 from the lows of 2009. If global demand increases by a modeled 1.5 mmb/d in 2011 and an arbitrary 1% thereafter, spare capacity will fall to 2.5 mmb/d by end-2012, comparable to levels seen in 2007 and 2008, which were associated with a price spike. Further declines are expected from 2013-2015.

With demand relatively inelastic in the short run, the team believes that higher prices will be needed to ration demand – the only realistic solution to find equilibrium in the coming years in a supply-constrained environment.

Prices likely to rise across the curve in 2011 – unlike in 2010: Despite gains in the spot price in 2010, prices at longer forward maturities beyond 2014 declined during the course of the year. Given the above discussion, we expect a more generalized shift higher in the curve at all maturities (analogous to the pattern in 2005-07). This is likely to benefit the quote energy stocks to the extent that analysts undertaking long-term DCF type valuation analyses price future earnings with reference to the entire forward curve.

Winners and losers at the country level from higher oil prices: In a recent theme piece, How will AxJ Policy Makers Respond to a Potential Spike in Oil Price (December 19, 2010), Morgan Stanley’s Asia regional economist, Chetan Ahya, explored macroeconomic sensitivity to oil prices. This arises from three major factors: 1) oil intensity within GDP and CPI, 2) trade balance impacts, and 3) the impact on the fiscal side (despite recent reductions in fuel subsidies).

The major economic beneficiary of higher oil prices is Russia, with an estimated 13.5% net oil trade as a percentage of GDP in 2009. At an average oil price of US$100 for 2011, we estimate that Russia’s net oil trade surplus (percentage of GDP) would rise by a further 300 bps. On the other hand, one would see a decline in Taiwan, Thailand, Korea and India by 235 bps, 230 bps, 225 bps and 190 bps respectively.

Exhibit 3, taken from Chetan’s report, shows the impact of oil three factors within an Asia context. There is considerable divergence across factors. However, in summary, it is clear that the countries least negatively impacted by higher oil prices are Malaysia and Indonesia. Most negatively impacted are India, Thailand, Korea and Taiwan.

Further amplifying this conclusion, focusing on the impact on the trade balance from a sustained US$10/bbl increase in crude oil prices, Korea, India, Thailand and India all would see their annual trade deficits rise by more than 0.7% of GDP. Malaysia is the only country where such an increase would have a positive effect on the trade balance (0.5% of GDP).

The hierarchy of impacts on the headline CPI inflation rate of 10% changes in domestic fuel prices is somewhat different. Malaysia, Thailand, Korea and Indonesia would show the biggest impact. Hong Kong and Singapore are the lowest.

Exhibit 3

Countries Sensitive to Oil Price Shock 2010 Oil Balance^

(% of GDP )China 18.6 1.2 -3.1 No 5.7Hong Kong 58.8 1 -6.9 No 0.2India 31.7 1.9 -4.6 Yes 6.6*Indonesia 48.4 1.7 0.3 Yes 8Korea 43.9 1.9 -9.3 No 4.7Malaysia 38.4 1.7 0.1 Yes 10.8Singapore** 85.7 4.3 -3.8 No 4.9Taiwan 44.1 1.9 -8.9 No 3.3Thailand 46.5 2.5 -7.1 No 9.1

Weights of oil related items in CPI (%)Country

Oil Consumption (% of energy requirements)

Oil Intensity (Indexed to World)

Presence of fuel subsidies

Source: BP Statistical Review, CEIC, Morgan Stanley Research. “How Will AxJ Policy Makers Respond to a Potential Spike in Oil Price”-Chetan Ahya. Note: Highlighted cells refer to countries which would be more vulnerable to oil prices. * For India the weights of oil related items in the WPI is higher at 9.4%. ** Singapore’s oil consumption is overstated because of its status as an oil refinery hub, transport hub, and presence of petrochemical manufacturing facilities. ^ 2010 MS estimated by using latest actual number available



January 19, 2011


8

January 18, 2011

US Equity Strategy The Quality / Junk Debate Morgan Stanley & Co.

Incorporated

Adam S. Parker, Ph.D. [email protected]

Antonio Ortega, Phillip Neuhart, Naseh Kausar

Many portfolio managers debate how much quality versus junk to own in their equity portfolio, but they may not have formally defined quality and may be surprised that quality has recently outperformed junk.

Morgan Stanley’s proprietary (equity) quality model: We have extracted quality (and junk) returns that are independent of beta, size, and style. This “clean” quality-junk spread leaves an intrinsic measure of the relative performance of equity quality. Moreover, our equity quality model captures something distinctive apart from changes in the VIX and credit quality spreads – metrics often referenced by investors.

Quality is not always a better approach: Quality outperforms junk over the long run, by an average of 376 basis points per year, but can dramatically underperform during junk rallies that vary with the risk regime. Investors may be unaware of their quality / junk biases (see Exhibit 1).

We currently recommend a moderate-quality bias: Moderate quality has been the best cohort of stocks over the long term, and exposure today is consistent with a modest, but not extreme level of market risk aversion – our base case assumption for 1H 2011. A junk bias is only appropriate if investors believe that we are likely to see increasing risk appetite; stocks in our highest-quality cohort have an embedded premium and are thus recommended only in highly risk-averse markets.

Practical implications? Investors can hedge or target a specific amount of quality / junk bias using our paired baskets, Bloomberg tickers MSMSQBET (pure quality bias) and MSMSJBET (pure junk bias). Further, investors who want long exposure to any of our four quality quartiles can obtain it through four baskets: MSMSQUAL (highest quality), MSMSMODQ (moderate quality) MSMSLOWQ (low quality), MSMSJNK (junk). These baskets have the added benefit of including only stocks that are preferred by our MOST proprietary alpha model

Investors may be unaware of their quality / junk biases. We plot the rolling 36-month factor sensitivity of the HFRI Equity Hedge (Total) Index returns to the quality-junk residuals from our model. Since this Index is equally weighted, the results are not biased by the actions of just a few large hedge funds.

Given that quality stocks have outperformed junk stocks by an average of 3.8% per year since1980, hedge funds’ current sensitivity of -0.4 represents a potential after-fee drag of 1.5–2% per year. While hedge funds had a junk bias during the Internet Bubble, today’s bias to junk is substantially larger. After the Internet Bubble, the bias flattened out until late 2005. Since then, hedge funds have had a persistent negative (junk) exposure – only rising slightly during the financial crisis of 2008. While this junk bias aided hedge funds in the spring of 2009, it has hurt performance since late 2009.

Exhibit 1

Long/Short Equity Hedge Funds Have Had a Junk Bias Since 2005 - This Exposure Has Hurt Performance Since Late In 2009

(0.6)

(0.5)

(0.4)

(0.3)

(0.2)

(0.1)

0.0

0.1

0.2

92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10End of Rolling 36-Month Interval

Bet

a of

HF

RI

to Q

-J R

esid

ual

Quality-Junk Sensitivity of HFRI Equity Hedge (Total) IndexCoefficient in a 4-Factor Regression with Fama-French 3-Factor Model

Source: Factset, Dow Jones Indexes, Ken French Data Library, Morgan Stanley Research

Exhibit 2

Quality Outperforms Junk Over the Long Run

Annualized Excess Return of MS Quality-Junk SpreadRelative to Fama-French Three-Factor Model (Rolling 60 months)

(10%)

(5%)

0%

5%

10%

15%

20%

85 90 95 00 05 10

End Date of Rolling 60-Month Estimation Interval

Bet

a of

Spr

ead

to F

acto

rs

Feb 2005

Feb 2008

Dec 2008

Apr 2002

Mar 2003

Apr 2000

Dec 1998Average = 3.76%

Source: Factset, Ken French Data Library, Morgan Stanley Research



January 19, 2011


9

Summary: Morgan Stanley Quality Model. Please see our full note for a complete description of our Quality Model and some of the investment implications that we currently derive from it. In this excerpt we briefly summarize the model’s construction and our findings.

The proprietary Morgan Stanley Quality Model assigns each stock to one of four cohorts: quality, moderate quality, low quality, and junk, based on intrinsic company characteristics. Cohorts are formed without regard to performance, but once constructed, we can analyze their return patterns. In Part I of our full note, we describe properties of the quality-junk spread; i.e., the monthly difference in average returns of quality stocks (from our model universe) and junk stocks. In Part II, we show the behavior of hedge fund managers toward quality / junk and some of their portfolio biases. In Part III we describe our methodology and decompose equity quality scores into factor contributions for a set of stocks. We also provide baskets and trading ideas, described below.

We have extracted quality (or junk) returns that are independent of beta, size, and style. The quality-junk spread, which is the monthly difference in returns between quality (Q1) stocks and junk (Q4) stocks, embeds three systematic risks, including a short equity market beta, a large-cap stock bias and a modest value-stock bias. We construct a “clean” quality spread that strips off these systematic risks and leaves an intrinsic measure of relative performance of equity quality. Moreover, our equity quality model captures something distinctive apart from changes in the VIX and credit quality spreads. The former explains only 1% of equity quality variation, while the latter explains less than 6%.

Exhibit 3

Quality-Junk Spread Has Three Systematic Exposures

Systematic Factor Exposures of MS Quality-Junk SpreadUses the Fama-French Three-Factor Model

(1.4)

(1.2)

(1.0)

(0.8)

(0.6)

(0.4)

(0.2)

0.0

0.2

0.4

0.6

0.8

85 90 95 00 05 10End Date of Rolling 60-Month Estimation Interval

Bet

a o

f S

prea

d to

Fac

tors

Beta to Value-Growth Factor

Beta to Small-Large Factor

Beta to Equity Market

Source: Factset, Ken French Data Library, Morgan Stanley Research

Overweight quality / underweight junk is a reasonable long-run strategy: Quality stocks have outperformed junk stocks by an average of 3.8% per year since 1980, based on the extracted equity quality spread. Portfolios with quality biases are, however, subject to large asymmetric losses when junk stocks rally, as in April 2009. Over time, the moderate-quality cohort (Q2) delivered the best return, as the ascent to quality is associated with superior returns relative to the maintenance of quality.

We don’t believe many investors rigorously define quality or junk, and this may have unintended consequences. Hedge funds have had net biases to junk since late 2005; these were only partially reversed in the financial crisis. While the junk bias helped hedge-fund performance in early 2009, it has since been a drag on returns, likely because investors may not have isolated “junk” from other factors.

Why now? We believe we are in a neutral risk-regime where overweighting quality relative to junk will be a good strategy. This has worked for the last four months and we think this will continue.

How do you execute the trade given your view of the risk regime? Investors can gain exposure to either equity quality or junk through our custom Morgan Stanley baskets. Should you agree that risk appetite is not going to grow meaningfully from here, you can overweight quality and underweight junk. However, if you believe appetite for risk will increase, you can overweight junk and short quality, independent of size, style, and beta. The Bloomberg tickers for the basic quality and junk baskets are MSMSQBET and MSMSJBET. There are also baskets available for investors to gain long exposure to any of the four quality quartiles. These baskets have been refined to include only stocks preferred by our MOST alpha model. On Bloomberg, the baskets are called MSMSQUAL (high quality), MSMSMODQ (moderate quality), MSMSLOWQ (low quality) and MSMSJNK ( junk).

Exhibit 4

Q2 Has the Highest Annualized Excess Return

Factor Analysis of MS Equity Quality Model QuartilesFebruary 1980 - November 2010

Model Factor Q1 - QualityQ2 - Moderate

QualityQ3 - Low Quality Q4 - Junk

Beta to Equity Market 0.900 0.857 1.081 1.328Small-Large Factor Sensitivity (0.144) 0.000 0.399 0.641Value-Growth Factor Sensitivity 0.227 0.313 0.420 0.000Regression R-squared 0.88 0.86 0.89 0.91Annualized Excess Return 2.0% 2.7% 1.0% (4.6%)Beta to Equity Market 0.845 0.810 1.081 1.430Annualized Excess Return 3.0% 4.2% 3.1% (4.4%)

Stocks in the Russell 1000 or Largest 1000 are classified into quartiles according to the Morgan Stanley Equity Quality Model

Bolded entries are statistically significant at the 5% level

Fama-French model includes equity market return, small-large-cap returns (SMB) and value-growth stock returns (HML)

Data available from http://mba.tuck.dartmouth.edu/pages/faculty/ken.french/data_library.html

Fama-French 3-Factor Model

Equity Market Only

Source: Ken French Data Library, Morgan Stanley Research



January 19, 2011


10

January 14, 2011

US Credit Strategy New Year, Same Worries Morgan Stanley & Co.

Incorporated

Rizwan Hussain [email protected]

Maya Abdurahmanova, CFA [email protected]

Are investors right to make parallels to early 2010? We have considered some of the parallels and differences in the macro setup of today versus a year ago. Should reactions necessarily be the same? What are the implications for credit markets? Then, we looked at how the markets reacted to the first shocks of European headlines last year, and whether we can expect the same this time around. Finally, we examined the vulnerabilities in single names should European worries morph into a more sustained growth scare, causing beta to underperform in the US as a result.

One year later — less shock value from Europe? Think back to this time last year, when US double-dip worries trumped concerns about European sovereigns’ funding issues (despite the rumblings from Greece starting in December 2009). US investors, while not complacent, were not particularly concerned about the building stresses. Fast-forward 12 months and the US economic data look increasingly robust, while US investors are now contending with their third major bout of Europe-inspired volatility finding its way over to risk markets close to home. A year ago, US credit investors didn’t know at what levels Portugal funded itself in the bond markets. In contrast, today many are keenly aware of Portugal’s funding challenges. In Exhibit 1, we highlight a few key statistics, comparing market levels and economic data of today versus one year ago. Some indicators have changed dramatically, while others suggest less improvement.

Our global macro strategy team has a supportive view on risk assets for 2011 but has also noted that asymmetric downside exists, particularly near-term, as structural problems cap the upside (see their global cross-asset piece in this issue). Of course, European bank and sovereign funding pressures go hand in hand today, given the undeniable linkages between them that developed during the credit crisis. However, current interbank funding pressures seem far less acute versus these market signals – the banks themselves seem to suggest less stress thus far, despite the price action in public markets as captured in the iTraxx Senior Financials index, which is approaching the March 2009 wides.

Exhibit 1

Charting the Changes Over One Year, Despite European Worries Persisting

Stocks 1/13/2010 1/13/2011 Change (%)S&P 500 1,146 1,284 12.1%VIX 18 16 -8.2%

Credit 1/13/2010 1/13/2011 Change (bp)IG Cash Corporate Index 158 148 -6.3%IG CDX 5Y Index 79 85 7.3%

Rates 1/13/2010 1/13/2011 Change (bp)Fed Funds (%) 0.25 0.25 02-Year 0.96 0.58 -3810-Year 3.79 3.30 -49

Economics 12/31/2009 12/31/2010 ChangeCPI (YoY) 2.7 1.1 -1.6%PPI (YoY) 4.30 3.50 -0.8%Unemployment Rate 9.9 9.8 -0.1%

Global Real GDP % (YoY) Forecast 2011E 2011E Change (%)As of Jan 2010 As of Jan 2011

Global Economy 3.9 4.4 12.8%G10 2.1 2.5 19.0%US 2.8 3.6 28.6%EU 1.1 1.5 36.4%EM 5.8 6.4 10.3% E = Morgan Stanley Research Estimates Source: Morgan Stanley, Bloomberg, the YieldBook

Calibrating by the reaction the first time around. While markets may be sending conflicting signals, US investors are ultimately left wondering what could serve as the transmission mechanism between worries overseas and corporate credit back home. The credit crisis showed that US housing problems were a symptom of the leverage bubbles that built up across economies and the private sector, as well as the ability to transmit financial distress around the world stemming from an issue that at first seemed largely confined to a segment of the US housing market.

This time, linkages between US and European financial institutions and investors are less evident; note, for example, the divergence between European and US bank spreads. However, many point to the fundamental parallels between European governments and US states and municipalities. The latter is important, as it suggests investors today are rightfully looking at the ‘real economy’ as the transmission mechanism. For example, will troubled state and local governments looking to plug budget gaps consider higher taxes and/or austerity measures, as Southern Europe is doing now, and as Illinois did recently?

Last year, US double-dip fears percolated, and the rising ‘systemic risks’ surrounding European sovereigns served as the final nudge to reverse the fierce rally of late 2009 in the second week of January 2010. January proved disappointing to those expecting more of the same. Corporate credit saw a spread backup driven by the first real acknowledgement of sovereign volatility in Europe, pressures on US municipalities, and a general re-rating of market risk premia due to the heightened risk of macro softness that could follow. So far



January 19, 2011


11

this year, those stresses have re-emerged in US municipals, but not (yet) in corporates. In Exhibit 2, we simply present statistics for 2010’s two major pullbacks to help book-end potential moves wider should growth scares reemerge.

Exhibit 2

Comparing the Two Moves Wider in 2010: The Latter Far More “Systemic”

Index01/11-02/09Change (%)

04/15-05/25Change (%)

IG Cash Corporate Index 16.3% 42.6%HY Cash Corporate Index 15.6% 28.8%IG CDX 5Y Index 35.4% 53.0%HY CDX 5Y Index 32.2% 44.6%MCDX 5Y Index 24.4% 57.0%

IG Credit Rating01/11-02/09Change (%)

04/15-05/25Change (%)

A Rated Corporates 22.8% 50.6%AAA/AA Rated Corporates 22.0% 65.6% BBB Rated Corporates 10.6% 32.2%

IG Credit Maturity Bucket01/11-02/09Change (%)

04/15-05/25Change (%)

Corp., 7-10 yrs 18.6% 37.8%Corp., 10+ yrs 17.4% 30.6%Corp., 1-10 yrs 16.0% 47.6%Corp., 3-7 yrs 15.1% 45.5%Corp., 1-5 yrs 12.7% 61.8%

Source: Morgan Stanley, Bloomberg, the YieldBook

Timing a tactical turn. We’ll admit it may be a bit disingenuous of us to point out the risks to US investment grade and near-term worries so shortly into the new year. In particular, it goes against the sentiments of our 2011 outlook publication, where we outlined a moderately constructive view on IG credit for 2011. But we also have to acknowledge the outsized strength of the credit markets of late (particularly since publication of our outlook), much of which has been driven by favorable technicals that are more likely to ebb and flow than to be sustained over a longer period.

As such, could it be time for a pause that refreshes? We don’t want to be fooled by randomness and too wed to a pattern that just happened to play out this same time last year. But if what now seems confined to European financial markets morphs into more of a growth challenge for the US or global economy, credit will be vulnerable given the re-rating of cyclical risk over the past quarter as US macro data surprised to the upside. For example, perhaps it’s just a reflection of unrealistic expectations going into the holiday season, but retail stocks have started to diverge from the broader equity market. Climbing energy quotes, still challenged labor and housing markets, and rising consumer finance rates courtesy of rising Treasury yields are all reminders of growth and consumer worries that persist closer to home. But of course,

commodities continue to lurch higher, so even here the debate on growth is not one-sided.

Given our view of the re-rating of cyclical risk, over the past six weeks in particular, and the ties that remain between equity and credit risk premia, credits with a high equity beta generally would seem a reasonable place to hunt for tactical shorts. In Exhibit 3 we present a sample single-name portfolio that we believe would underperform in a sustained move wider. These credits are highly cyclical in nature, with the General Industrials, Paper/Packaging, and Metals & Mining sectors representing about half of the top 20 high equity beta names. Notice that very few retail credits populate the list. While we still believe cyclicals will do well over 2011 given our view of sustained global growth, a pullback in markets would likely pressure credits most highly levered to this view, like those listed below.

Exhibit 3

Who’s Tighter and Has a High Equity Beta

Ticker Name Sector5Y CDS

11/30/105Y CDS

01/13/11Percent Change

Equity Beta

MAS Masco Corp Homebuilders 272 240 -12% 1.98TIN Temple-Inland Inc Paper/Packaging 250 233 -7% 1.94CBS CBS Corp Media 104 94 -9% 1.86OC Owens Corning General Industrials 228 215 -6% 1.83IP International Paper Co Paper/Packaging 156 127 -18% 1.81CYT Cytec Industries Inc Chemicals 150 147 -2% 1.75WHR Whirlpool Corp Consumer Goods 154 164 6% 1.71RRD RR Donnelley Media 246 226 -8% 1.59AA Alcoa Inc Metals & Mining 258 171 -34% 1.58DOW Dow Chemical Chemicals 123 104 -15% 1.56CMC Commercial Metals Co Metals & Mining 444 341 -23% 1.55CMI Cummins Inc General Industrials 65 60 -8% 1.53R Ryder System Inc General Industrials 130 117 -10% 1.51CAT Caterpillar Inc General Industrials 81 73 -10% 1.49EMN Eastman Chemical Company Chemicals 110 105 -4% 1.49BWA BorgWarner Inc Autos & Parts 104 85 -18% 1.47JCI Johnson Controls Inc General Industrials 83 75 -10% 1.45XRX Xerox Corp Technology 139 131 -6% 1.45JWN Nordstrom Inc Retail 110 97 -12% 1.44CNW Conway Inc Transportation 244 208 -15% 1.42 Source: Morgan Stanley

US investors still feel vulnerable to developments overseas. Investor inability to forecast or claim any unique insight into daily headlines is keeping markets choppy. Further, even handicapping the outcomes is fraught with peril, as so much of the price action seems to stem from flows of European domiciled investors and institutions. So while we’d like to claim that US credit can trade in its own vacuum – focused on US credit fundamentals as we see them now and how they are poised to develop over 2011 – that view would be foolhardy even if we do see correlations decline across assets and across geographies. We don’t expect an extended period of weakness, but rather a choppy tape, particularly as we approach the sizeable refunding needs of European sovereigns over the next few months. In the meantime, should growth concerns accelerate, we think outperforming, high beta will suffer the first blows. (For details see our Credit Basis Report of January 14, 2011.)



January 19, 2011


12

January 13, 2011

Global Cross-Asset Strategies Disentangling the Tactical from the Strategic Morgan Stanley & Co.

Incorporated

Gregory Peters [email protected]

Jason Draho [email protected]

Global Cross-Asset Strategy Group

We’re constructive on risky assets in 2011 but recommend tactical caution. Our positive full-year view is based on solid global growth, supported by ample liquidity and progress in global rebalancing between emerging markets (EM) and developed markets (DM). But we also see risks skewed to the downside — structural headwinds constrain the upside, while euro sovereign debt contagion and EM inflation are known significant tail risks that could materialize if policy proves ineffective (see 2011 Outlook: Rebalancing Toward the Positive, December 13). Our near-term caution is predicated largely on these tail risks surfacing to some extent in 1Q, though the recent strong performance across risky assets also can’t be discounted (Exhibit 1). Bullish sentiment indicators are near highs of the past few years and valuations are less compelling than two months ago, making for less attractive entry points.

Exhibit 1

The So-Called January Effect May Have Occurred in December

4.85%

5.79%

8.92%

9.45%

0% 2% 5% 7% 10% 12%

HANG SENG

NIKKEI

SPX

FTSE 100

Returns 11/30/10 to 1/13/11. Source: Bloomberg, Morgan Stanley Research

European sovereign and EM inflation risks are front loaded in 1H. Nearly all market participants flag these as the two main risks they’re watching; we see both as rising and potentially disruptive for markets in 1Q. However, we expect policy responses in 1H to tamp down these risks somewhat, leaving a more benign environment in 2H. In Europe, momentum is building for more proactive solutions to the debt crisis.

Exhibit 2

Asset Class Views

– +E M curr en ci es

O il

C o m m odi tie s

G ol d

E M eq uit ies

U S D

U S c red it

E ur ope equ it ies

Ja pa n eq uit ies

E M c red it

G B P

U S Eq uit ies

E ur ope c red it

G er m a n Bu nds

U S T re asur ies

E M rate s

JP Y

Source: Morgan Stanley Research

However, action is likely only after the situation deteriorates to the point of threatening the euro core. Nonetheless, our base case is that Europe avoids a major systemic shock in 2011. In EM, inflation could continue to rise to levels that significantly disrupt growth. But our AxJ economists expect inflation to moderate in 2H after aggressive policy tightening in 1H. However, the risks are to the upside, especially if oil goes above $100/bbl.

Cycle normalization is more likely in 2H; the risk is inflation becoming a DM story. In the scenario of sovereign and EM inflation risks moderating in 2H, positive cyclical growth in the US should provide a favorable backdrop for risky assets. The key risk to this benign outcome is inflation spreading from EM to DM. There are already anecdotal reports of higher prices of Chinese good exported to the US. And inflation in the UK is above the Bank of England’s target level. We think it’s unlikely that higher inflation and commodity prices would derail the still-fragile recovery, although it does complicate policy for central banks. But even legitimate concerns about inflation would be a headwind for equities and bonds.

Expect higher volatility in 1Q. Volatility has continued to fall in the new year, aided by the cyclical lift provided by the better US growth outlook. But that is likely to reverse as the sovereign debt crisis and EM inflation play out in 1Q. The outcomes for both are uncertain, and policy may compound that if it is deemed too reactive and its efficacy is unclear.



January 19, 2011


13

The market wants to see a holistic solution to stem sovereign risk contagion, and soon. Euro periphery countries are facing regular market tests of their progress. The policy response thus far is not encouraging, but potential reforms to the EFSF could reduce near-term risk. Momentum is building for policy action in the next month to address some of the existing shortcomings and ease market tension. These actions alone are probably not sufficient to be a game-changer in the crisis, but they could be a game-extender.

Positive momentum notwithstanding, more bumps are likely in 1Q. While EU officials understand the need to be more proactive, political dynamics in Germany and France still make significant action a hard sell until the problems spread to the euro core. In addition, the policy options being discussed don’t involve significant bank recapitalizations, another necessary condition for resolving the debt crisis. Even the positive case of a major policy response could trigger market volatility as investors digest the implications.

The extent of inflation risk in EM depends on the policy response; the jury is still out. EM inflation is unlikely to abate because of both higher commodity prices and secular restructuring. The trend in higher commodity prices — the GSCI index is up 10% just since the start of December — is unlikely to change in 1Q or the rest of the year. Tight supply fundamentals, especially in oil and agriculture, should be a catalyst for further price increases. A stronger US dollar would take some pressure off, but if that’s due to better growth, it also supports higher commodities. Even if commodity prices moderate, structural rebalancing in parts of EM toward more internal consumption is a tailwind for inflation during the disruptive reallocation of resources.

China’s aggressive, but unconventional, policy response entails its own risks. Inflation in China poses the biggest risk in EM because of its importance in driving global growth. That’s why recent remarks by Chinese officials that they’ll rely on bank-specific reserve requirements as a key part of monetary policy have raised concerns. As our China economist Qing Wang points out, this new approach is unproven and lacks transparency, creating uncertainty that will weigh on the market. With new loan creation in December exceeding expectations by over 30% and money supply growth still above trend, the debate continues whether China is already behind the inflation curve. Over the past 20 years, China has routinely experienced a hard landing in its fight against inflation, another reason to be cautious in the near term.

Higher inflation should lead to further EM currency appreciation; a stronger renminbi could temper that. One

policy option to fight inflation that China remains steadfast against using is greater currency appreciation. That would not only benefit China, but also alleviate the pressure on other EM currencies. Instead, EM countries are relying on capital controls and other unconventional measures like those in China to avoid raising interest rates that would fuel further appreciation. However, keeping rates low only adds to inflation. It’s these macro-dynamics that make EM currencies one of our highest conviction trades in 2011. As Exhibit 3 shows, currencies in EM have already appreciated 2% since November.

Exhibit 3

EM Currencies Have Appreciated 2% Since November

92

94

96

98

100

Jan-10 Mar-10 May-10 Jul-10 Sep-10 Nov-10 Jan-11

EM Basket vs. U SD / EUR basket


Cycle normalization and inflation are key to our strategic themes. Aside from a positive base-case view of risky assets, with risks skewed to the downside, we see four other themes playing out this year: the break-down of risk on/off investing, equities over bonds, EM over DM, and real over nominal assets. If the tail risks associated with the sovereign debt crisis stay contained as the year progresses, then the cyclical lift in the US recovery should contribute to the breakdown of the binary risk on/off approach to investing. That is already occurring for US equities. A breakdown in high correlations across asset classes is also occurring. If that continues, the macro-focused market will give way to more fundamental analysis again.

Our preference for equities over bonds is based in part on rates rising as the economy improves. But inflation risk is one of the reasons why our US equity strategist Adam Parker expects the P/E multiple for US equities to contract in 2011, offsetting earnings growth. Equities may still be more attractive than bonds in this outcome, though the absolute performance is likely to be flat. This is not our base case, as our US economists are forecasting 2% inflation for 2011. But we expect inflation, more than sovereign risk, to be a driver of our global investing themes in 2011. (For details see our Global Debates Playbook of January 13, 2011. )



January 19, 2011


14

January 12, 2011

Global Economics Ten for the Teens Morgan Stanley & Co. International plc+

Spyros Andreopoulos [email protected]

Manoj Pradhan [email protected]

With the arrival of a new decade, we look at the economic landscape for 2011-20, as it appears in our binoculars.

1. Trend output growth: lower. The pace of the expansion during much of the last decade proved unsustainable, having been predicated on growing imbalances which ultimately had to be corrected – a correction that is ongoing. Growth over the next decade will likely suffer from the need to retool entire economies – for example away from the construction sector towards export sectors – and structural change takes time. Stalling or receding globalisation will likely affect economic efficiency and hence productivity. And high public and private debt in many developed economies could weigh on growth. In short, while towards the end of the decade, output growth may well be back at its long-term historical norm, we believe that it will remain subdued in the interim.

2. Output volatility: end of the great moderation. The 25 years prior to the Great Recession saw a marked reduction in the volatility of output and level/volatility of inflation – the Great Moderation. Aside from periodic financial crises – mostly in emerging economies – the absence of large shocks and better economic policies led to remarkably stable output growth in DM and many EM countries. The Great Recession and the related increase in public debt will mean, effectively, the loss of fiscal policy as a stabilisation tool (see also below). Given that many economies are now at or near the fiscal limit, even small shocks can push sovereigns into debt-crisis territory. Hence, debt-financed fiscal policy becomes unavailable as a stabilisation tool, not only for big shocks but also for countercyclical purposes. Worse, fiscal policy will likely become procyclical for economies at the fiscal limit. And while we are less certain about commodity price trends, commodity price volatility may further add to the mix. In short: expect output to be more volatile over the next decade.

3. Monetary policy: inflation targeting 2.0. The loss of fiscal policy as a stabilisation tool means that the burden of stabilisation falls on monetary policy. All else equal, this should lead to more volatile interest rate-setting: Central bank policy rates will have to be hiked higher, faster, or cut lower, sooner. But all else will not be equal. The increased burden

for central banks, and the necessity to prevent instability arising from asset price misalignments, will likely mean important institutional changes in monetary policy. How will monetary policy be conducted? In decreasing order of likelihood: (1) Keeping inflation targeting but adding a macroprudential tool, or Inflation Targeting 2.0. (2) Using price-level targeting (the Bank of Canada is already looking into it) for more automatic stabilisation of inflation expectations. (3) Increasing the inflation target (to 4%, say), taking policy rates away from the zero lower bound to make more room for cuts when necessary.

4. Inflation: regime change. In the early 1980s, central banks browbeat inflation into submission. Institutional changes in monetary policy, globalisation, product and labour market deregulation, a productivity growth spurt, and a decent dose of good luck kept inflation very low subsequently. Globalisation will likely provide little further competitive impetus. Ditto for deregulation. Productivity growth will likely be lower. And good luck is not something one can count on forever. In short, the one-off factors that have kept inflation well-behaved can no longer be counted upon. Perhaps more importantly, the very high levels of public (and private) debt in many DM economies have dramatically altered the landscape for monetary policy. With low growth, high unemployment and high debt, societal preferences will likely move away from price stability – and central banks don’t operate in a vacuum.

5. Public debt: going clubbing. The expansion of global capital markets over the past 30 years made available large amounts of excess savings, mainly from Asia to DM governments. This allowed them to run up debt cheaply. Because of low real interest rates it was feasible for politicians to borrow rather than raise taxes or cut spending. With high initial levels of public debt, the crisis and the Great Recession then brought many governments close to their fiscal limit.

We think that the split that has emerged between ‘good’ and ‘bad’ sovereign credits will persist over the next decade. Indeed, the ‘bad’ credits club is likely to grow because of the asymmetric dynamics of membership: While a transition from ‘bad’ to ‘good’ will take a long time, moving from ‘good’ to ‘bad’ will be much faster in a world of heightened risk-aversion and deficit intolerance. More broadly, many DM sovereigns have now found out the hard way what EM economies have known for some time now: the market does enforce fiscal sustainability – eventually. Note that the great public deleveraging will, in economies that are net debtors vis-à-vis the rest of the world, likely be accompanied by private sector deleveraging. This means the economy as a whole is deleveraging – i.e., current account deficits will likely become compressed or even reversed.



January 19, 2011


15

6. Real interest rates: higher (moderately). Real interest rates were exceptionally high in the early 1980s and have declined steadily ever since, only to be reduced further by the Great Recession. Given how extraordinarily low real interest rates are right now, the question is not so much the direction of the move – up, in our view – but its size. Over long enough time horizons, real interest rates are driven by savings and investment flows. Hence, real yields will be pulled in different directions by various structural forces. Public deleveraging and increased savings in developed economies will pull yields lower. On the other hand, real interest rates will tend to rise thanks to higher macro risk premia, lower savings in emerging economies, and a reallocation of investment in developed and emerging economies to their export and domestic sectors respectively.

7. Globalisation: stalling. The increase in macro instability comes at a time of major demographic transition in most DM and many EM economies. As populations become older, the demand for economic security – stable jobs, pensions – increases. This tension between higher instability and increased demand for security is likely to find its political expression in a backlash against globalisation. So far, the benefits of globalisation (higher income levels for most, i.e., the large middle class) have outweighed its drawbacks (increased competition and job instability). This has kept the globalisation show on the road until now. As this balance tips because the preferences of the middle class shift towards more security/stability, globalisation is likely to stall or reverse.

8. International monetary regime: survives. The US dollar has remained the world’s reserve currency through the Great Recession, and we don’t expect this status to be breached. Given the demise of the Gold Standard and the Bretton Woods arrangement, the lack of a viable alternative suggests that the current international monetary system is likely to survive the financial crisis and the Great Recession. Goods, services and capital will therefore continue to flow relatively easily across countries, but the pullback from globalisation could mean that the intensity of these flows will be lower.

The one aspect of the international monetary regime that could see more change is the move towards a more flexible exchange rate environment. China’s move towards a more flexible regime will likely be a watershed event, not just for China. Other AXJ economies that were keen to avoid currency appreciation against the renminbi (and hence also against the US dollar) should also have a freer rein. Where some desire for pegging currency values persists, there will probably be a preference to target a basket of currencies or the trade-weighted exchange rate rather than fix a bilateral exchange rate. Managed floats are likely to remain the most popular exchange rate regime.

9. Global imbalances: unwinding. Current accounts reflect the domestic imbalance between savings and investment. Net savers will run CA surpluses while net spenders will have to deal with deficits. To reduce global imbalances, net spenders have to save more and net savers less, and this process is already under way. Eventually, we would not be surprised to see net spenders like the US running CA surpluses. Note that this will likely be true for many other debtor economies as well, e.g., for the European periphery. With external credit more difficult to raise, these economies face higher interest rates and will need to run CA surpluses in the future.

Going forward, large CA imbalances will be less likely. Real exchange rate appreciation in the EM world will probably keep surpluses from widening too much there. Excessive spending in the net spending DM world will likely be expensive because net savers will want to be compensated for the risk from such spending, given the events of the last few years. Running large deficits driven by excess spending would therefore be more expensive and less likely, in our view.

10. Developed markets versus emerging markets. The significantly better outlook for EM growth is firmly entrenched as conventional wisdom. There are very few reasons to question that outlook. If anything, the uncertainty surrounding the growth outlook in much of the DM world, particularly the euro-area economies, only serves to reinforce the appeal of the EM world. Effectively, the risks attached with debt, inflation and therefore growth make the risk-adjusted return in the EM world even more attractive.

The challenges facing DM economies are very clear and equally difficult: High indebtedness, lower trend growth and the growing risk of higher inflation is an unenviable combination facing DM policy-makers. But EM policy-makers also have work to do. They know that they need to further reduce the risk that stems from political and legal institutions as well as the financial stability risks that will likely accompany the expected rapid growth in domestic financial markets.

While the problems facing DM economies are in the price, the recent EM outperformance shouldn’t mean that risks to EM can be ignored. They were able to avoid a serious downturn over the last couple of years due to an ability to partly insulate themselves from the massive shock to the DM world. In the future, EM economies may need to demonstrate their ability to bounce back from shocks to their domestic economies, which could prove to be more challenging. Lessons from past EM crises have clearly been learned, and those learned from the recent financial crisis should provide an invaluable roadmap for avoiding other mistakes.

Industry Analysis


January 19, 2011


16

January 18, 2011

Asia Metals & Mining Solid Mid-cycle Growth; Positive for Base Metals Morgan Stanley Asia

(Singapore) Pte.+

Charles C. Spencer [email protected]

Mean Phil Chong [email protected]

Morgan Stanley Asia

Limited+

Sandy Niu [email protected]

John Lam [email protected]

Morgan Stanley & Co.

International plc, Seoul

Branch+

Hyunjae Lee [email protected]

Commodity price revision: Our global metals team recently published its new playbook. We have lifted our metals forecasts across the board and raised our 2011-12e EPS by 0-30% for the stocks in our coverage. (See Global Metals Playbook – 1Q11 A solid mid-cycle growth phase, January 18, 2011, for details on commodity price revisions.

Copper – Record prices to be sustained: We have raised our copper price forecasts by 21-24% for 2011-12e and our long-term price forecast by 22% to US$2.71/lb (nominal dollars). We maintain copper as our long-standing top recommendation in the base metals complex, given continued supply deficits anticipated for 2011-12e. We forecast mine production growth rates of 9.2% for 2011 and 8.2% for 2012, yet still anticipate refined supply deficits of 128Kt and 63Kt, respectively, in these years. In addition, the emergence of new physically backed investment products introduces a new component to physical demand for copper. Given the fundamental scarcity of metal as illustrated by low exchange stocks, we believe investor demand for such products may increasingly influence such markets and further impinge on physical availability. We have revised up our 2011-12 earnings estimates for Jiangxi Copper (HK$25.7) by 22-30%, but retain our Equal-weight rating.

Nickel – Still positive: We remain positive on the nickel market outlook for 2011. Despite a seasonal build in LME inventories in 4Q10, we believe supply/demand fundamentals will deliver a deficit market this year. We have made little change to our 2011 (revised up by 2%) and 2012 (unchanged) price forecasts, given that we already anticipated this move in our previous price review. With the start of a fresh round of seasonal stainless demand to a global market

already sufficiently destocked, we expect strong demand in 1H11 to place renewed pressure on primary nickel supplies and prices. Consultants CRU believe Europe experienced seasonal destocking in the second half of last year and expect a normal level of mill orders in 1Q11 to translate into QoQ growth in the European market. In the US, we expect the solid recovery of the ISM PMI last year to maintain momentum in 2011, suggesting that general manufacturing demand will rise, most notably from a rapidly recovering automotive sector.

Aluminum – Entering a period of sustained improvement: We have increased our C2011 price forecast by 13% to US$1.10/lb and our 2012 forecast by 4% to US$1.20/lb. A number of indications suggest that the global aluminum market is entering a period of sustained improvement. For example, global inventories displayed promising signs of an ongoing decline in 4Q10. Together with stronger-than-expected global demand in 2010, driven by strong increases in transportation usage across the world and construction in the emerging economies, this has resulted in the first decline in the stock-to-consumption ratio since 2007. In addition, we expect China to become a net importer of aluminum; we believe its output growth will slow further, given government focus on greater energy efficiency, as the sector already consumes ~6% of China’s power. In view of higher aluminum pricing, we have raised our Chalco (HK$7.12) 2011-12e earnings by 45-167% (high % change due to its thin margin) and upgraded it from UW to OW, making it our top pick in our regional nonferrous coverage, given the recent underperformance of the shares against aluminum prices.

Zinc – Supply surplus set to linger into 2012: Although zinc has benefited like other metals from growth in emerging- market demand, its fundamentals are characterized by a structural oversupply that has persisted since 2006. Although greater-than-expected demand last year prompted us to reduce our previously forecast 930Kt market surplus to 230Kt,

Exhibit 1

EPS Changes on New Commodity Price Forecasts Changes to EPS

New Old % Chg New Old % ChgChina NonferrousChalco Rmb 0.51 0.19 167% 0.71 0.49 45%Rusal US$ 0.18 0.14 32% 0.21 0.21 1%Korea Zinc KRW 39,388 33,661 17% 44,955 39,727 13%

Jiangxi Copper Rmb 2.54 1.95 30% 2.81 2.31 22%Hunan Nonferrous Rmb 0.13 0.12 8% 0.17 0.16 3%

HK GoldG-Resources HK$ 0.00 0.00 0% 0.08 0.07 16%

Zijin Rmb 0.51 0.43 17% 0.55 0.48 16%Zhaojin Rmb 1.21 1.08 12% 1.39 1.24 12%

2011e 2012e

Closing prices (as of January 14, 2011): Rusal (HK$11.72) Source: Morgan Stanley Research (e) estimates

Industry Analysis


January 19, 2011


17

we still anticipate oversupply in the refined market until 2H12. A price rally in 4Q10 is likely to induce the remaining idled mine capacity to come back online at a time when additional refined metal is not required. We have raised our zinc price forecast modestly by 7% to US$1.05/lb for 2011 and by 5% to US$1.15/lb for 2012. Given our higher zinc and lead price (see below) forecasts, we have raised our Hunan Nonferrous (HK$3.15) 2011-12e earnings by 3-8%, but we maintain our UW rating. We have also increased Korea Zinc’s 2011-12e earnings by 13-17% on higher zinc and silver price forecasts, and we have upgraded our rating to OW from EW, making the stock our top pick in our regional nonferrous coverage.

Lead – Still an oversupplied market: Stronger-than- expected demand in the G3 and China outweighed a two- decade peak in global inventory to help LME lead prices post a relatively small but significant YoY increase. Although we do not expect any immediate relief to the current market surplus, we believe lead prices will continue to improve in line with the generally positive tone for industrial and strong auto demand. We forecast prices will average US$1.10/lb in 2011 and US$1.17/lb in 2012, up 13% and 6%, respectively, from our previous forecast.

Gold – Investment demand still the price driver for now; rising mine and scrap supply is flagging medium-term risk: We have raised our gold price forecasts by 6% for 2011-2012 and 21% for the long term. Investment demand has increasingly become the main driver in the gold market. As a percentage of total demand, it has increased from 9% in 2002 to 31% in 2010. We expect the percentage to rise further to 43.5% in 2012 reflecting continued growth in physically backed exchange traded funds (ETF) and physical bar hoarding.

However, rising mine and scrap supply in response to high incentive prices are highlighting medium-term risk to the gold price once the appetite for risk assets improves. We expect a decelerating rate of net official sector purchases by 2012, with a resultant peak in gold prices peak this year and a steady and relatively modest decline thereafter. Our preferred stock in the gold sector is G-Resources (HK$0.6). On higher gold price forecasts, we have raised our 2011-12e EPS forecasts for Zhaojin (HK$31.55) by 12%, but maintain our EW rating. For Zijin (HK$6.7), we have raised our 2011-12e EPS by 16-17% on higher gold/copper prices.

Steel – Still attractive: We retain our Attractive view on the region’s steel industry. We believe that, in 2012, industry operating rates will return to a level that allows industry pricing and profits to recover to mid-cycle levels, as we see developed market steel demand becoming less of a drag on global operating rates in 2011 and 2012, particularly in the US. In addition, the Chinese market looks favourable on restocking and supply-side adjustments. The divergence between accelerating growth of floor space under construction and slowing demand growth suggests destocking in 2H11. We foresee a restocking cycle developing in 1H11 after the destocking in 2H10, which should be positive for demand/ pricing/profit.

In addition, we view steel as attractive because we forecast that pricing will rebound on a 1H11 restocking cycle. We forecast a rebound in profit in 1H11 after 2H10 profit squeeze.

Our top steel picks are POSCO (W476,000) and Maanshan (HK$4.34). We are bullish on POSCO because: 1) We foresee a rebound in 1H11 earnings from the 4Q10 trough; 2) we are bullish on the company’s ASEAN and Indian investment, yet the shares discount an earnings decline; and 3) POSCO’s nearly debt-free balance sheet provides support to seize opportunities. We are bullish on Maanshan, as we think it is best positioned for a restocking cycle in 1H11 and to benefit from strong long-product pricing.

Exhibit 2

Steel View Attractive as Prices Rebound

0

100

200

300

400

500

600

700

800

Jan-

09

Jul-0

9

Jan-

10

Jul-1

0

Jan-

11

US

$/to

nne

Iron Ore & Coking Coal Costs-RHS HRC

iron ore + coking coal= raw material cost/t of steel $500

Margin squeezeMargin recovery

Source: Company data, Morgan Stanley Research

Industry Analysis


January 19, 2011


18

January 14, 2011

Asian Multi-Industry Asian Conglomerates: Top Picks for 2011 Morgan Stanley Asia

Limited+

Praveen K Choudhary [email protected]

Xin Jin Ling [email protected]

Corey Chan, CFA [email protected]

Morgan Stanley Asia

(Singapore) Pte.+

Conrad Werner [email protected]

Asian Conglomerates Team

We remain constructive on Asian Conglomerates. The sector offers earnings stability, strong balance sheets and exposure to key segments that could benefit from the key themes we identify for 2011. Asian Conglomerates have outperformed their respective indices by 30% in 2010 and we expect outperformance again in 2011. We identify the key themes for 2011 as: 1) rising inflation, 2) tightening monetary policies, 3) appreciation of the renminbi against US dollar, and 4) strong commodity prices. Our top picks are Jardine and Cheung Kong in Hong Kong, and Keppel and Golden Agri in ASEAN, based on our macro and sector theme.

Opportunities in conglomerates space through stub valuation and corporate activities: Cheung Kong stub (ex-Hutch) underperformed SHKP by 21% in 2010 and thus provides an opportunity, considering it is cheaper and should beat consensus expectations. Keppel O&M is trading at a 40% discount to SMM on a P/E basis.

Hong Kong/China Conglomerates: Most of the companies have exposure to property, which is sensitive to regulatory risk and interest rate hikes. Therefore, we prefer exposure to office rental over the Hong Kong/China residential market. We expect Swire, HK Land and SHKP to outperform. We also like Jardine and Hutch, which have 38% and 14% exposure to retailers, respectively.

ASEAN Conglomerates: In ASEAN, we see our global team’s bullish outlook for the commodities space as the key theme for 2011. We see SCI and Keppel as the best ways to play our commodity team’s positive outlook on oil fundamentals. Whilst we are positive on the outlook for the CPO price in 2011 and over the medium term, we think pure play names (i.e., Astra International and Sime Darby) are

better suited to this theme than the conglomerates highlighted in this note.

Theme #1: Inflation Favors Commodities and Retailers Rises in commodity and other input prices are driving up inflation in leading EM countries other than India. We expect EM economies – and especially those in Asia, given its commodity importing status – to experience higher inflation than in developed economies. Our economists project that inflation for AxJ (ex India) will peak in the early summer of 2011, at levels not far above the high of the 2003/04 cycle. Overall, the economics team expects inflation in AxJ (ex India) to average 4.2% in 2011, from 3.1% in 2010 and 0.1% in 2009. However, our economists’ upside risk scenario for inflation has a peak closer to that of the 2007/08 cycle.

Historical data show that energy and material stocks outperform the market in an inflationary cycle. In addition, retailers that pay stable rents should benefit from higher selling prices for their merchandise.

Winners: Jardine Group companies, CITIC

Theme #2: Tighter Monetary Policy Our Asia/EM Equity Market Strategist, Jonathan Garner, believes rising inflationary pressures and the desire to normalize policy rates from the very low levels reached during the 2008-2010 recession are accelerating the tightening of monetary policy in Asia/EM economies. He believes more restrictive policies began in late 2009 and therefore are already reaching the more mature phase of the cycle at which equity markets typically begin to encounter more headwind from this factor.

Exhibit 1

CPI Inflation YoY – Moving Up in Leading EM Economies other than India

-5.00

-

5.00

10.00

15.00

20.00

25.00

30.00

35.00

Jan-0

0

Jul-00

Jan-0

1

Jul-01

Jan-0

2

Jul-02

Jan-0

3

Jul-03

Jan-0

4

Jul-04

Jan-0

5

Jul-05

Jan-0

6

Jul-06

Jan-0

7

Jul-07

Jan-0

8

Jul-08

Jan-0

9

Jul-09

Jan-1

0

Jul-10

China India Brazil

Russia Korea

%

Source: CEIC, Datastream, Morgan Stanley Research

Industry Analysis


January 19, 2011


19

Our economists expect a 75bps hike in China’s policy rate in 1H11, stabilizing thereafter, while EM policy rates on average should be on the rise throughout 2011-12 with a cumulative 70bps rate hike from the current level by the end of 2011. In this regard, companies with stronger balance sheets or a higher proportion of fix-rate borrowings will probably suffer less in a tightening cycle.

Winners: Hopewell, Jardine Group companies, Fosun

Theme #3: Exchange Rate Appreciation We note that exchange rates in many EM countries appreciated in 2010 as the US dollar weakened. Our economics team’s latest forecasts for exchange rate movements against the US dollar see the currencies of Korea, Malaysia, and China appreciating the most. Indonesia, India and Thailand, in contrast, are forecast to have depreciating exchange rates. Hong Kong/China conglomerates should benefit from an appreciating renminbi, due to their exposure to the mainland market.

Winners: Hopewell, Fosun

Theme #4: Strong Commodity Prices Our global economics and commodity teams share a positive view on the natural resources space. Importantly, the positive outlook is not based only on expectations for rising inflation but also on fundamental tightness in various complexes, including energy and soft commodities.

Our team is most constructive on crude oil, copper, gold, and corn and soybeans heading into 2011 (see 2011 Outlook: A Commodity Bull Market, December 10 2010, Hussein Allidina). Demand remains strong, especially in emerging markets. At the same time, supplies are under pressure and not easily increased.

Crude oil inventories, although higher than our team envisioned at the start of the year, have been drawn down significantly in the past few months, especially in the US. Incremental oil production is increasingly moving to the offshore deepwater, where equipment supply is tightening and the process is challenging, as evidenced by the Macondo oil spill in the Gulf of Mexico in 2010.

For soft commodities, acreage has been increasing but yields have been under pressure from irregular weather patterns. Even assuming normalizing yields, our US team sees the need for further acreage expansion, especially in soybeans, where the marginal cost of production is high.

In ASEAN, we are also positive on the outlook for CPO prices, especially through 1H11, although we do see a supply rebound capping prices in 2H11 (at a level well above the cost of production).

Winners: Keppel, Golden Agri

Closing prices (as of January 13, 2011): Cheung Kong (HK$130.9),

Wharf (HK$59.9), Hutchison Whampoa (HK$92.0), Swire Pacific

(HK$127.2), MTRC (HK$29.5), Jardine Matheson (US$45.1), Jardine

Strategic (US$27.8), Keppel Corp (S$11.5), Golden Agri (), Astra

International (Rp48,000), Sime Darby (RM9.35), Fosun (HK$6.08),

SembCorp Industries (S$5.14), SembCorp Marine (S$5.19),

Hongkong Land (HK$7.32), SHKP (HK$136.70), CITIC Pacific

(HK$21.25), Hopewell Holdings (HK$25.85).

Exhibit 2

Currency vs. US – Current vs. MS 2011 Forecast

11.0% 10.7%

7.3%

5.0%

3.0%

-0.4%-1.0%

-3.1%-4.0%

-2.0%

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

Kor

ea

Mal

aysi

a

Chin

a

Phi

llipp

ines

Taiw

an

Indon

esia

Indi

a

Tha

iland

% Appreciation from current level

% Depreciation from current level


Exhibit 3

Positive on Commodity Prices

355

696

864

432

733

990

459

770

980

0

200

400

600

800

1,000

1,200

Soybeans Crude Oil CPO

2010 2011e 2012e Note: Soybean price forecasts are for the agricultural year ending September e = Morgan Stanley Research estimates

Industry Analysis


January 19, 2011


20

January 13, 2011

Asian Telecoms Asian Wireless Data Report: Shifting Focus to DMs Morgan Stanley Asia

Limited+

Navin Killa [email protected]

Asia/Pacific Telecom Team

Rising usage of data on mobile devices (smartphones, dongles, tablet PCs) has caught the attention of telco watchers in recent months, more than 10 years after 3G licensing in Europe first opened the possibility of using mobiles for data services.

While the wireless data opportunity has been analyzed in various forms, we focus on the following key issues:

Whether increasing data usage is actually leading to incremental revenues for telecom operators, especially wireless operators and the potential for incremental data revenues in the next 3-5 years;

Which markets and operators are best positioned to benefit from the rising data usage and what are the key enablers and inhibitors of data growth?

Understanding the opex and capex implications of rising data usage; particularly capex to improve backhaul infrastructure and rising content costs and SACs.

What growth rates are priced in the current telco stock prices and can wireless data related growth lead to positive earnings and stock movements?

Exhibit 1

Asian Telecoms: Non-SMS Data to add 300-400bps annual revenue growth between 2011-14e

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

2009FY 2010FY 2011FY 2012FY 2013FY 2014FY

Mobile Serv Rev ex-Non SMS data Mobile Serv Rev

Source: Company data, Morgan Stanley Research estimates

Key Conclusions

We believe Asian markets have most of the enabling factors and are on the cusp of rapid growth in wireless data usage in coming years: low fixed penetration, increasing PC penetration, increasing affordability levels, rising Internet usage and continuously decreasing prices for wireless data usage. As a result, we believe non-SMS data revenues will increase at a CAGR of ~20% in coming years, comprising 29% of total wireless service revenues in 2014 vs 15% in 2009. Mobile Internet will likely be the “killer-app” and will be the biggest contributor to this growth, on a combination of Internet browsing on smartphones, tablets and dongles.

While developed markets will likely witness smartphone driven data pick-up (and therefore ARPU enhancement from existing customers), emerging markets will likely see more dongle-based wireless broadband pick-up with smartphone popularity kicking in only after 2-3 years when cheaper (US$100-150) smartphones are more widely available.

We also believe other devices such as tablet PCs offer an attractive “incremental” revenue opportunity especially in developed markets where affordability will not be a barrier. Our US tech team forecasts close to 60mn+ tablets to be sold in Asia between 2010-13e and while not all tablets will have 3G plans, we see ARPUs of US$15-20 for most tablet plans on offer currently. More importantly, only select operators are subsidizing tablets etc, so this is a higher margin business vs. smartphones and dongles.

Industry Analysis


January 19, 2011


21

Given the heavy data usage on dongles (and hence lower margins) and still restrictive (albeit rising) PC penetration, we believe emerging market operators are likely 12-24 months away from monetizing wireless data usage and achieving the required scale. On the other hand, we believe developed market telcos are now ready to witness positive earnings contribution from wireless data as they have already gone through the initial margin erosion phase due to higher SACs;

Contrary to market concerns that data is a sustainably “low margin” business, we believe increasing wireless data usage will not lead to any material medium-term margin deterioration among telco operators. This is however subject to the competitive and pricing environment for data. Most Asian operators have shied away from unlimited data plans and this is the key to sustaining margins in a data intensive business. Our case studies of several Asian operators suggests that margins could take a 2-3 quarter hit as SACs rise; but on a 12-18 month view, the additional revenue more than makes up for additional SACs. Moreover, our bottom-up opex analysis across Asia shows that 60-65% of total opex is “fixed” or “discretionary” and will actually be allocated over a larger revenue pie due to increased data take-up, thereby supporting margins.

We do see risk of increased capex from higher data take-up especially in emerging markets where dongles are the key source of growth. This is because the average data usage on a dongle is 5-10x the usage on a smartphone based on anecdotal data points. Still, we believe capex increase will be manageable since very few Asian operators offer “unlimited” data plans and even in markets such as Korea where “unlimited” data plans are offered, operators add “fair usage policies” to manage network load.

We see developed market telcos as the key 12-24 month beneficiaries of wireless data take-up, especially versus the current market expectations. Markets such as Australia, HK and Singapore have already seen mobile revenue growth trending up from “low single digits” to “high single digits” with Korea and Taiwan expected to follow soon. Still, the stocks are not pricing in this growth acceleration with P/E multiples barely changing in the past 18 months and FCF and dividend yields at high single digits or even low double digits. Indeed, our

analysis suggests that at current levels, stocks such as KT Corp, SKT and PCCW are pricing negative FCF growth into perpetuity, which in our view offers an attractive opportunity for long-term investors.

Exhibit 2

Asian Telecoms: EM Telcos Have Consistently Outperformed DM Telcos in Past 5 Years

50

100

150

200

250

300

350

400

Jan-06 Oct-06 Aug-07 Jun-08 Apr-09 Feb-10 Dec-10

Emerging Markets Developed Markets


Stock Picks: Focus on Developed Markets in 2011

In light of the above, we have a “developed market bias” in our Asian telecom portfolio for 2011. We have launched our 2011 model telecom portfolio with the following stocks and recommended weights: China Unicom (20%), KT Corp (15%), Telstra (15%), FET (10%), Telekom Malaysia (10%), Idea Cellular (10%), Indosat (10%), and M1 (10%). DM stocks have 50% weight compared to MSCI weight of only 40% suggesting our bias towards DM given the emerging wireless data story.

Exhibit 3

Asian Telcos: Recommended Portfolio Weightings and Key Valuation Metrics

Price (Lcl)% weight 01/12/11 P/E EV/EBITDA FCF Yield Div Yield

China Unicom 20% 11.22 51.6 5.3 -16.4% 1.8%KT Corp 15% 43,450 7.0 3.0 12.5% 7.1%Telstra 15% 2.85 11.1 4.9 11.2% 9.8%Far Eastone 10% 42.00 13.6 5.4 9.3% 6.7%Telekom Malaysia 10% 3.66 22.8 5.5 3.4% 5.4%Idea Cellular 10% 67.95 25.4 6.9 5.8% 0.3%Indosat 10% 5,300 17.2 4.5 10.7% 1.5%M1 10% 2.58 14.0 7.5 7.9% 7.7%Total 100%

Key Valuation Metrics (2011E)

Source: Morgan Stanley Research estimates

Industry Analysis


January 19, 2011


22

January 18, 2011

Australia Metals & Mining Earnings Upgrade, Cash Drives Re-Rating for 2011 Morgan Stanley Australia

Limited+

Craig Campbell [email protected]

Cameron Judd [email protected]

Sarah E Lester [email protected]

Peter G Richardson [email protected]

Joel B Crane [email protected]

Prefer copper, iron ore, coal and gold: Our commodities team has revised its forecasts for metals and bulk commodities, including the long-term incentive prices. They remain favourable to copper and iron ore in the industrial commodities and gold in precious metals. The price increases range from 2% to 39% on near-term forecasts, and up to 43% on long-term incentive prices. (Detailed analysis of the price changes are included in Global Metals Playbook – 1Q11 A solid mid-cycle growth phase, January 18, 2011.) Partially offsetting the commodity price increases is an increased forecast for the A$ to US$.

Key Overweight equities: For the diversified miners, we retain Overweight ratings on RIO and BHP. In copper, we maintain our Overweight ratings on OZL, PNA and IVA. In addition, we have upgraded EQN to Overweight now that it has passed the compulsory acquisition threshold for Citadel. In precious metals, we are Overweight NCM and G-Resources.

WHC our preferred coal play: Recent flooding in Queensland is likely to increase coal pricing in Q2-2011. We have increased WHC to Overweight, as its production has been less impacted by the rain and it has PCI exposure. In our view, the other coal equities are fully valued.

Steel remains difficult: We maintain our Overweight rating on OST, due mainly to its iron ore exposure. Margin compression is likely to impact BSL’s earnings, and we therefore maintain an Equal-weight rating.

Downside risks – wages and carbon costs: Partially offsetting commodity price strength, we expect wage and cost

pressures to negatively impact miner earnings in 2011. We have now included the Mineral Resources Rent Tax (MRRT) in our base case forecasts. Whilst we expect Carbon Cost legislation in 2011, which will have an impact from 2012e, we have not included the impact in our base case models.

Rating Changes to Australian Miners

Equinox (EQN), from EW to OW - Upside of 23% to our price target, and 14% discount to

our DCF valuation.

- Rating change is due to completion of the Citadel acquisition and higher commodity price revisions, plus expansion options.

Whitehaven (WHC), from EW to OW - Recent flooding in Queensland has significantly impacted

metallurgical coal miners in the region. Although WHC’s operations were impacted by rain in December, we understand operations are continuing as normal in 2H-FY11e.

- We forecast that WHC will produce ~1.56Mt of PCI in FY11 and therefore benefit from the expected metallurgical coal price appreciation from the flooding.

Gloucester (GCL), from UW to EW - Rating change is due to completion of a recent equity

raising and an increase in the company’s interest in the Middlemount project from 30% to 50%.

- In our view, a negative for the company is its lack of liquidity. Hong Kong commodity trader Noble owns ~82 mn GCL shares, or ~59% of outstanding shares.

Exhibit 1

Preferred Overweight Stocks by Commodity Exposure Commodity Preferred Equity Exposure

Iron Ore Rio Tinto Copper Equinox Coal Whitehaven Gold Newcrest and G-Resources Aluminium Alumina Limited Nickel Western Areas Steel OneSteel

Source: Morgan Stanley Research.

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January 19, 2011


23

Key Metals and Mining Drivers for 2011e

Mining sector re-rating driven by cash returns and increased M&A activity.

China to continue driving demand for metals.

Carbon taxes and MRRT to be legislated in 2011.

Wages and cost pressures to re-emerge.

Sovereign debt issues in the EU a potential risk.

On balance, we believe risks are skewed to upside: Overall, we are positive on the outlook for 2011 in Australian Metals & Mining and have an Attractive industry view. We think the upside and downside risks to our view are now skewed to the upside for most companies under coverage compared to our last update in September 2010. We think the significant amounts of cash within the mining sector in 2011 will drive a re-rating of mining company valuations over the next 12 months. We now include the MRRT in our base case for iron ore and coal companies, and expect this to be legislated in C1H-2011.

Exhibit 2

Reporting Season Calendar Company Earnings Earnings MS Est Cons Est Div (MSe)

Period Date (A$m) (A$m) (A$/sh)

OZ Minerals FY2010 9/02/11 387 424 0.01

Rio Tinto* FY2010 10/02/11 US$13.8bn US$13.9bn US$0.46

Alumina* FY2010 10/02/11 US$82 US$98 US$0.04

Newcrest 1H-FY11 11/02/11 647 NA 0.10

BHP Billiton* 1H-FY11 16/02/11 US$10.0bn NA US$0.45

BlueScope 1H-FY11 21/02/11 -10 NA NA

OneSteel 1H-FY11 22/02/11 110 NA NA

PanAust* FY2010 24/02/11 153 148 0

Macarthur 1H-FY11 24/02/11 95 NA 0.09

Iluka FY2010 25/02/11 -7 11 0

Minara FY2010 28/02/11 77 71 0.11

Ivanhoe Australia FY2010 TBA -37 -44 0

Equinox* FY2010 TBA US$300 US$258 0

Fortescue* 1H-FY11 TBA US$1.1bn NA 0

G-Resources 1H-FY11 TBA HK$23 NA 0

Whitehaven 1H-FY11 TBA 26 NA 0.03

Riversdale 1H-FY11 TBA 6 NA 0

Gloucester 1H-FY11 TBA 25 NA 0

Western Areas 1H-FY11 TBA 67 NA 0.18 Source: Morgan Stanley Research. * = US$ functional currency. Earnings are before non recurring items.

Closing prices (as of January 17, 2011): BHP Billiton (A$45.85),

Rio Tinto (A$87.53), Fortescue Metals (A$6.85), Alumina (A$2.46),

G-Resources (HK$0.6), OZ Minerals (A$1.73), Equinox (A$5.92),

PanAust (A$0.88), Ivanhoe (A$3.5), Iluka (A$8.76), Newcrest

(A$38.29), Western Areas (A$6.69), Minara (A$0.96), Macarthur Coal

(A$13.71), Riversdale Mining (A$16.48), Gloucester Coal (A$13.07),

Whitehaven Coal (A$6.86), OneSteel (A$2.74), BlueScope (A$2.21).

Exhibit 3

EPS Changes Summary

2011e 2012e 2013e 2011e 2012e 2013e 2011e 2012e 2013e 2011e 2012e 2013e 2011e 2012e 2013eBHP Billiton US$/sh 4.11 4.67 5.31 4.25 5.28 5.60 3% 13% 6% 3.84 4.40 4.58 11% 20% 22%Rio Tinto US$/sh 9.50 11.08 12.12 13.07 13.11 11.39 38% 18% -6% 9.29 9.74 9.87 41% 35% 15%Fortescue Metals US$/sh 0.62 0.97 1.54 0.74 1.35 1.80 21% 39% 17% 0.57 0.75 0.79 30% 81% 127%Alumina Limited A$/sh 0.09 0.16 0.18 0.13 0.15 0.18 43% -6% 3% 0.09 0.14 0.18 44% 11% 0%G-Resources HK$/sh 0.00 0.07 0.07 0.00 0.08 0.08 -1% 16% 15% 0.00 0.06 0.09 NA 36% -14%OZ Minerals A$/sh 0.12 0.13 0.15 0.14 0.15 0.14 23% 18% -9% 0.14 0.15 0.14 -1% 6% 0%Equinox US$/sh 0.66 0.85 0.96 0.80 1.01 0.92 21% 20% -4% 0.64 0.85 0.79 26% 19% 16%PanAust US$/sh 0.07 0.09 0.11 0.09 0.12 0.11 38% 27% 3% 0.08 0.10 0.10 15% 14% 16%Ivanhoe Australia A$/sh 0.02 0.36 0.42 0.02 0.32 0.36 -13% -11% -16% 0.01 0.28 NA -1144% 14% -Iluka A$/sh 0.37 0.73 0.92 0.38 0.76 0.70 4% 5% -24% 0.52 0.91 1.23 NA -16% -43%Newcrest Mining A$/sh 1.72 1.95 2.41 1.82 1.90 2.06 6% -3% -15% 1.76 2.13 2.60 4% -11% -21%Western Areas NL A$/sh 0.79 0.83 0.92 0.79 0.73 0.76 0% -12% -17% 0.70 0.69 0.62 14% 7% 23%Minara A$/sh 0.11 0.12 0.10 0.08 0.08 0.07 -32% -30% -33% 0.09 0.07 0.07 -13% 14% 2%Macarthur Coal A$/sh 0.70 1.12 1.58 0.65 1.12 1.28 -6% 0% -19% 0.73 1.07 1.27 -11% 4% 1%Riversdale Mining Limited A$/sh 0.06 0.36 0.66 0.06 0.41 0.59 2% 13% -10% 0.05 0.23 0.72 NA NA -17%Gloucester Coal Limited A$/sh 0.45 0.88 1.57 0.43 0.75 1.15 -5% -15% -27% 0.49 0.77 1.14 -14% -3% 1%Whitehaven Coal Limited A$/sh 0.19 0.40 0.71 0.17 0.42 0.61 -14% 4% -13% 0.18 0.40 0.62 -8% 4% -2%OneSteel A$/sh 0.27 0.36 0.42 0.29 0.36 0.38 9% 2% -9% 0.25 0.35 0.37 18% 4% 3%BlueScope Steel A$/sh 0.06 0.18 0.22 0.07 0.16 0.24 22% -12% 10% 0.05 0.17 0.25 34% -9% -5%

% DifferencePrevious Forecast Revised Forecast % Difference Consensus EPS

e = Morgan Stanley estimates Source: FactSet, Morgan Stanley Research

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24

January 18, 2011

India Nonferrous Metals & Mining Still Attractive, Even As Risk Factors Inch up Morgan Stanley India

Company Private Limited+

Vipul Prasad [email protected]

Ritish Rangwalla [email protected]

We have recalibrated our pecking order, making Coal India our top pick. We have upgraded NMDC to OW from EW and moved Hindalco (OW) down our pecking order. Copper, coal and iron ore remain our preferred commodities. We are more positive on aluminum than previously and have upgraded NALCO to EW from UW.

Our global mining team has increased its metals price forecasts for F11-F13 by 3-19%.

Why we expect metals prices to rise further: The main reasons for our positive stance are: 1) stable demand growth in China; 2) stronger signs of the beginning of the (possibly long) walk to demand recovery in the developed world; 3) supply disruption for some materials; and 4) increasing funds activity in base metals.

Where will the red flags come from? Factors that could deflate base metal and bulk material prices, most of which have seen a solid run up in the past 3-4 months, include: 1) Strong policy action to curb inflation in China and India; 2) a sudden dip in growth trends in developing economies; 3) a deterioration of the sovereign debt situation in Europe; 4) demand deferment in response to rising commodity prices; and 5) high metals inventories.

Coal India (OW) is our top pick: The Street seems to be excessively focused on CIL’s low volume growth, but we believe the stock may produce substantial earnings surprises in the next 3-4 quarters aided by increased e-auction sales and A,B,C grade sales.

Sterlite (OW): Remains a good long-term growth stock at a reasonable price, but will likely be driven near term by regulatory and legal factors that are difficult to predict.

Hindalco (OW): Long-term growth remains very strong, even if production may remain sluggish in the next 4-6 quarters. The stock enjoyed a strong run-up in CY10, but the aluminum price uptick may drive more upside, in our view.

Our global mining team has lifted its base metals and bulk materials price forecasts, with copper, iron ore, thermal coal, coking coal and aluminum seeing the biggest increases. Morgan Stanley’s mining team continues to recommend copper, iron ore and coal as its top exposures to commodities even as its stance on aluminum too has become more constructive.

What has changed?

Exhibit 1

EPS Forecast Changes

Rs. F11 F12 F13 EPS Old New Old New Old New

Hindalco 24.0 21.1 25.4 28.9 29.2 32.0

Sterlite 13.0 13.5 20.1 21.9 33.1 34.9

Nalco 18.3 17.7 20.3 24.4 22.8 28.4

NMDC 17.6 18.2 22.1 28.7 27.3 37.3

CIL 19.8 20.0 24.2 24.5 32.8 33.2

Closing prices (as of January 14, 2011): Hindalco (Rs229.3), Sterlite (Rs176.35), Nalco (Rs380.7), NMDC (Rs258.2), CIL (Rs310.15) Source: Morgan Stanley Research

Exhibit 2

Overweight on CIL, Hindalco, Sterlite and NMDC

Rating Old New

Hindalco OW OW

Sterlite OW OW

Nalco UW EW

NMDC EW OW

CIL OW OW Source: Morgan Stanley Research

Putting our bullishness in context Even though we are not forecasting a significant surge in metals prices from current levels (other than for copper and coking coal), we believe that we will see rising price trends, on an average basis, over the next 2-3 years, and prices that can surprise the street positively.

In addition, we note that: 1) we believe our bull case scenarios have a higher, and growing, probability than our bear case scenarios, and 2) our bull case scenarios indicate greater upside than downside indicated by our bear case scenarios.

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25

Exhibit 3

Coal India Is Now Our Top Pick

15%

34%

11% 16%25%

-60%

-40%

-20%

0%

20%

40%

60%

80%

100%

Hindalco Sterlite Nalco NMDC CIL

Bear Case Base Case Bull Case Price Target% Difference Between Current Price and: Source: Morgan Stanley Research

Exhibit 4

What’s Changed: Aluminum, Zinc, Lead and Copper

Unit F10 F11E F12E F13E

LME Aluminum Price US$/ton

Old 1,868 2,160 2,436 2,623

New 1,868 2,255 2,483 2,698

% Change 0 4 2 3

YoY change(%) 21 10 9

LME Copper Price US$/ton

Old 6,250 7,451 8,046 8,267

New 6,312 8,094 9,975 9,700

% Change 9 24 17

YoY change(%) 28 23 -3

LME Zinc Price US$/ton

Old 1,906 2,094 2,155 2,436

New 1,906 2,194 2,324 2,535

% Change 0 5 8 4

YoY change(%) 15 6 9

LME Lead Price US$/ton

Old 1,948 2,083 2,149 2,425

New 1,948 2,228 2,413 2,543

% Change 7 12 5

YoY change(%) 14 8 5 Source: Bloomberg, Morgan Stanley Research

Exhibit 5

Seaborne Trade Benchmark Prices: Iron Ore

US$/t FY11e FY12e FY13e

Contract prices for 62% fines CFR N China 142 177 175 Source: Morgan Stanley Research

Exhibit 6

Morgan Stanley vs. Consensus CY11

30.5%

17.4% 18.6%

11.4%

-1.3%

4.4%

-5.0%

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

30.0%

35.0%

Iron Ore CokingCoal

Copper ThermalCoal

Zinc Aluminium

Source: Bloomberg, Morgan Stanley Research

Exhibit 7

Morgan Stanley vs. Consensus CY12

30.3%

16.2%

21.1%

17.8%

-2.6%

9.7%

-5%

0%

5%

10%

15%

20%

25%

30%

35%

Iron Ore CokingCoal

Copper ThermalCoal

Zinc Aluminium


Exhibit 8

Morgan Stanley vs. Consensus LT

4.3%

-21.2%

-12.8%

-6.9%

7.3%

-3.4%

-25.0%

-20.0%

-15.0%

-10.0%

-5.0%

0.0%

5.0%

10.0%

Iron Ore Coking Coal Copper Thermal Coal Zinc Aluminium


Industry Analysis


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26

January 18, 2011

India Telecommunications 2011 – Not about Tariff Cuts, But 3G and Regulations Morgan Stanley India


Vinay Jaising [email protected]

Surabhi Chandna [email protected]

What's Changed Industry View: India

Telecommunications In-Line to Attractive

Industry view raised to Attractive: 1) regulatory issues could be resolved in 2011; 2) operating performance should improve for the next few quarters; 3) 3G ARPMs and ARPUs should stabilize; and 4) Bharti, Idea, and RCOM should be FCF positive in F2012. Idea (Overweight, Rs67.3) and OnMobile (Overweight, Rs269.1) are our top picks, followed by Bharti (Overweight, Rs346.05); we maintain RCOM (Rs138.5) at Equal-weight. Idea gains from its high exposure to domestic wireless; OnMobile’s strategy of a rising global presence will be felt F1Q12 onwards, in our view.

Pan India 3G should be launched by April 2011. Tata’s and RCOM’s 3G tariffs seem to focus on an ensured minimum ARPU of Rs200-300/user per month, bundling minutes with data usage. This should arrest the fall in ARPUs and ARPMs. However, short-term finance and amortization charges could dampen F4Q11 profits.

Regulatory Concerns Could Be Resolved in 2011 Following the appointment of a new telecom minster in India, we expect the government to re-address issues pertaining to spectrum, notably the following:

1) Regulations and charges pertaining to spectrum held in excess of 6.2MHz by incumbent GSM operators.

2) Merger & acquisition guidelines, which could allow new operators to exit the industry or merge into existing operators.

3) Policy pertaining to renewal of license and spectrum charges.

The government sold an average all-India license of 2100MHz band for 3G at an average incremental charge of US$32mn/MHz, the amount varying between different circles.

The charge for new operators that were awarded 4.4MHz of 1800MHz spectrum band was US$420mn, or US$4/MHz. The disparity in spectrum charges and scarcity of spectrum has engendered much discussion in the industry.

Our discussions with various industry segments reveal that, due to the air traffic interface equipment permitted in the bands, the 900MHz, 1800MHz and 2100MHz bands are not comparable, with 2100MHz being much more useful and efficient; the 900MHz and 1800MHz are less efficient.

In addition, as the same operator receives more spectrum, the efficiency of the spectrum increases – hence, charges for the first 6.2MHz of spectrum will be lower than those for incremental spectrum above 6.2MHz.

To elaborate, since 3G equipment is allowed in the 2100MHz band, it is 2.22 times more efficient than 900MHz, which is restricted to 2G equipment, and about 1.3 times higher than the incremental spectrum in 900MHz allotted above 6.2MHz.

The regulator may announce formulas that differentiate charges among the three bands, using efficiency factors based on the permitted equipment interface. The charges would be different in different circles and for the first 6.2MHz of spectrum and excess spectrum. The spectrum benchmark in case of any merger or sale of spectrum by new to existing operators, or the fee to be paid by an existing operator when the spectrum comes in for renewal, starting in 2014.

Our key conclusions: We believe the outflow for incumbents could be about 40% lower than the 3G auction price to be proposed by the Telecom Regulatory Authority of India (TRAI) in its May 2011 recommendation for incremental spectrum above 6.2MHz.

When the spectrum comes up for renewal, we expect the government to charge renewal fees to existing operators. Since these would have to be paid over a number of years, we analyze our expectations of the actual fee to be paid as well its net present value (NPV) and NPV per share.

We look at what new operators that have received 4.4 pair spectrum in the 1800MHz band would have had to pay had the same formulas been used. Since they have already paid for the spectrum, the government may give them an exit clause linking this spectrum charge to any merger or sell- down. In our view, the government would keep the differential between what it charges new operators and what the new operators fetch in the market, at least to the tune of this benchmark.

As a bear case, we also analyze what would happen if the government and regulators were to re-farm the 900MHz of

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27

spectrum and charge the license renewal fee for 1800MHz equal to 3G auction rates.

For our price targets, we incorporate the base and bear cases. We assume net cash outflow of US$1.7bn for Bharti, US$361mn for RCOM, and US$799mn for Idea.

Regulators had recommended re-farming 900MHz and swapping with 1800MHz at the time the license period ended. Using 1800MHz vs. 900MHz implies a greater tower requirement for similar coverage. This could entail as much as 20% more tower capacity required for Bharti, Idea, and RCOM. However, we estimate that an increase in towers would enable the companies to add incremental active electronics and boost network capacity by 15-25%. Thus, Bharti might have to shell out a one-time amount of US$800-900mn for the transition.

On the positive side, Bharti could spend an addition US$530-600mn, or US$1.3-1.5bn (one tower is roughly 1,000 subs), and get 14mn more subscriber capacity. However, this would be in F2015-26, when the relevant license expires. Thus, the annual expense could be as little as US$100-200mn.

Our global team has not seen many examples of re-farming worldwide, with the government taking back 900MHz spectrum. In Europe, however, the government has relaxed the GSM directive, which forced operators to use the 900-1800MHz bands for GSM, i.e., voice. Thus, in the future, these bands could be used for 4G and data services. In Korea, KT will get 20MHz of the 900MHz band for Long Term Evolution (LTE) and will give back at least 20MHz if not all of the 40MHz from 1800MHz on CDMA. The 1800MHz band might be re-offered by the government next year.

Operating Performances May Improve in F3Q11 We expect Indian telecom operators to post 9-10% sequential gains and 43-44% YoY growth in subscribers in F3Q11, adding 64mn subs. Incumbents’ subscriber growth has been a slightly slower average of 7-8%.

In F3Q11, we estimate operating revenue will be strong and EBITDA will rise 4-5% QoQ, driven by a smaller drop of 2.4% in ARPM and cumulative minutes’ growth of 5-6%.

With the dollar relatively stable vs. the rupee at the end of the quarter compared with 3.5% appreciation in the previous three months, operators like Bharti and RCOM are unlikely to realize any forex gains. Thus, net finance charges will increase QoQ, reducing profitability.

Idea: We expect 5% sequential growth in revenues and the overall margin to remain stable at 24%. Thus, EBITDA could rise 5.5% QoQ. We do not expect interest and amortization to increase substantially, so profits should rise 14.5 % QoQ.

Bharti: We expect domestic wireless revenue to rise 3.8% and EBITDA margins to fall 50bps to 35.5% due to 3G-related costs. We estimate Zain’s revenues will grow by 5% QoQ and margins will widen from 23.9% to 25%, leading to EBITDA growth of 9.3% QoQ. On a consolidated basis, revenues and EBITDA could both increase by 4% QoQ. However, we estimate the company will report a 22% dip in profits QoQ due to one-time rebranding cost and higher finance costs.

RCOM: We expect RCOM to report sequential growth of 3% in revenue and 5% in EBITDA in F3Q11, with EBITDA margins expanding by 61bps sequentially to 33% driven by global business. We forecast overall profit will fall 14% QoQ due to higher interest and taxes.

OnMobile: We expect the company to report top-line growth of 8% QoQ and 23% YoY, thanks to both domestic and international business. Margins should be stable QoQ at 21%. We estimate profit will decline by 30% QoQ, since the previous quarter had extraordinary income due to sale of a stake in OnMobile’s associate Verse Innovation Pvt Ltd. YoY, we estimate profits will increase 21%.

Improving Free Cash Flows The biggest expenditure for the industry in the last few years has been the broadband and 3G auction, which earned the government coffers US$23bn. However this meant the operators who paid these amounts ended up with a huge pile of debt, turning free cash flow negative. With the funding in the past, our analysis reveals the three big operators would have an average FCF yield of 7% in F2012, lowering their net debt to EBITDA and strengthening their balance sheet.

Bharti: In the short term Bharti has overall capex of US$14.7bn, which includes US$8 billion for the Zain acquisition, US$2bn of domestic capex, US$1bn of Zain capex, and US$3.4bn capex for acquiring 3G and BWA license. This has led to net debt to EBITDA rising to 2.8x; however, the next year we expect Bharti to be FCF positive, cutting net debt to EBITDA almost half in two years.

Idea: In the short term, Idea has overall capex of US$2.1bn, which includes US$0.8bn of domestic capex and US$1.3bn capex for acquiring 3G and BWA license. This has led to net debt to EBITDA rising to 3.2x; however, the next year we expect Idea to be FCF positive, lowering the net debt to EBITDA ratio to 1.75x by F2013.

RCOM: RCOM has domestic capex of US$1.5bn in F11E, adding the 3G and BWA license fee of US$1.8bn, the net debt mounts to US$6.9bn. Net debt to EBITDA is thus highest at 4.6x in F11, reducing to 3.2bn by F2013E.

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28

January 13, 2011

Indonesia Banks We Are Long-term Bulls – Inflation Outlook Is Key Morgan Stanley Asia

(Singapore) Pte.+

Nick Lord [email protected]

Edward Goh [email protected]

We have initiated coverage of the Indonesia Banks industry with an In-Line view. We expect Indonesian banks to post some of the strongest earnings growth in Asia over the medium term (19% EPS growth in 2012 vs. an ex-Indonesia sector average of 16%) supported by strong forecast GDP growth (6.5% in 2011) and low banking penetration of the economy (private sector loans to GDP of 28%). In addition, over the longer term, we anticipate that the risk-free rate will fall to 6-7%, further supporting valuations. We are therefore long-term bulls on the industry.

However, valuations are currently full (Indonesia average 2012 P/E of 10.1x vs. 10.4x for Asia), and we believe that a risk-free rate below 7% and loan growth of c.20% would be required to justify further significant upside. We consider this plausible over the next 12 months, but we expect the stocks to be range-bound in the near term amid continued uncertainty over whether Bank Indonesia will be able to keep inflation under control. For now, we prefer the less expensive Bank Rakyat Indonesia. We have an Equal-weight rating on Bank Central Asia and Bank Danamon.

Investment Debates Summary: Inflation Outlook Is Key

Debate #1: Will Bank Indonesia (BI) act soon enough to curb inflationary pressures? If it does, and raises rates, some banks should see a reduction in margin pressure whilst still benefiting from the stability associated with low longer-term rates. If BI gets it wrong, increased inflationary risk will likely damage all bank share prices.

Market view: Uncertain, but beginning to price in risk. Indonesian banks have underperformed over the past two months as inflation risk has increased. The market is pricing in uncertainty about the rate outlook, but not yet pricing in a serious escalation of inflationary pressures. This is despite a 100bps move in the 10-year bond yield in the last week.

Our view: Despite near-term jitters, BI will hike in time, allowing some recovery in Indonesian bank share prices.

These stocks are currently trading through a period of uncertainty until the inflation outlook becomes clearer. With near-term risks skewed to the downside, we would be cautious over the next one to two months. In the longer term, however, we forecast that BI will be able to control inflation, and Indonesian banks will again become attractive based on their growth outlook.

Debate #2: What sort of earnings growth can Indonesian banks achieve? We are forecasting 13.7% five-year earnings CAGR for BRI; 13% for Danamon, and 9% for BCA. This appears consistent with current valuations for both BCA and Danamon, although in our view BRI’s share price is discounting just a 9% CAGR in earnings.

Market view: Bullish growth. The market is implying that Indonesian banks will achieve earnings growth more in line with our base case. This is predicated on a 20% loan CAGR over the next five years and a 10ppt increase in debt to GDP ratio. To generate further significant upside, we would need to see loan growth of over 20%. A 20ppt increase in the debt to GDP ratio (similar to that experienced in other emerging markets over 2003-2008) would result in a 26% five-year CAGR in lending.

Our view: We doubt our bull case will be achieved, but if inflation fears fall, the market will likely price bank stocks for stronger growth. Our base-case forecast is for c.20% loan growth driving 13-15% earnings CAGR at both BRI and Danamon and 9% at BCA. If our bull-case loan growth is achieved, we do not rule out the possibility of stronger earnings growth, but we note that with a loan-to-deposit ratio (LDR) of 79% for the system vs. 35% in 2001, deposit growth is likely to be a constraining factor. In the longer term, we estimate that increased wealth and therefore deposit penetration could yield deposit growth of 20%-25% vs. 15% forecast and 17.5% YoY growth in November 2010, but only if remittance flows increase as well, and we see no sign of this happening yet.

Company Analysis PT Bank Central Asia (BBCA.JK, Rp5,900): BCA trades on a premium relative to peers and history, which we believe is justified by both the high quality of its franchise and expectations of relatively low long-term interest rates. However, we also believe the price fairly reflects the risks and rewards, and thus have initiated coverage with an Equal-weight rating and a Rp5,800 price target. It is our least preferred Indonesian Bank.

A proxy for the inflation outlook: We believe the current share price implies a risk-free rate of 7.4%, in line with the

Industry Analysis


January 19, 2011


29

60D moving average and our base-case assumption. In our view, a fall in the 10-year bond yield would be necessary to drive upside. Were we to use 6% (the lower end of our economist’s forecast range for the risk-free rate of 6-7%), we would see 23% upside to the current price. Inflation fears would need to be firmly under control for this to happen. On a relative basis, the quality of BCA’s franchise means that it should have a lower cost of capital than peers (which is in the price), but we do not see this advantage increasing further.

Upside risks to our price target include loan growth ends up being higher than forecast as the Indonesian economy remains strong, and the risk-free rate moves down to 6%.

Downside risks include relative premium eases as EPS growth slows relative to peers.

PT Bank Rakyat Indonesia (BBRI.JK, Rp5,100): Falling returns and a pickup in NPLs in the SME/commercial book have led to a derating for BRI relative to peers since 2009. We believe that this derating has gone too far and that either BRI’s growth prospects are undervalued, or its risk premium is too large. With NPLs in the SME/commercial book expected to peak soon, we see risks firmly skewed to the upside. We have initiated coverage with an Overweight rating and a Rp6,100 price target.

Recent mis-steps result in too high a risk premium: BRI’s recent expansion into new areas of microfinance plus SME and larger corporate lending has meant falling NIMs and rising credit costs. Market concerns that these trends will continue to drag down returns have resulted in a low valuation for BRI, in our view. We estimate that BRI’s share price now implies a risk-free rate of 9.8% (higher than our bear case of 8.5%) or a beta of 1.77 (the highest implied beta in the sector). We thus believe BRI‘s share price is discounting too much risk.

Downside risks to our price target include BRI decides to pull back loan growth to c.15% going forward, and credit quality in the SME/commercial book weakens significantly.

PT Bank Danamon Indonesia (BDMN.JK, Rp5,450): Bank Danamon is trading in line with its historical average P/E in both absolute terms and relative to peer banks. We believe this is fair. However, that view is dependent on the risk-free rate returning to 7.4% from its current 8.4%. Whilst this is in line with our economist’s mid-term view, we still see near-term risk in the share price if inflation fears pick up further. At the current risk-free rate, we would see c.14% downside. Offsetting this risk, a much more positive longer-term inflation

outlook or potential for a bid could drive upside. We have initiated coverage at Equal-weight.

Forecast earnings growth to move from the slowest in the sector, to be more in line: Since 2002, Danamon has produced an EPS CAGR of 7% compared with 15% at BCA and BRI. In the period to 2015e, we expect this CAGR to accelerate to 13%, in line with BRI and ahead of BCA. This forecast is based on 19.3% CAGR in lending (BCA 21%, BRI 19.5%), helped by a relatively stable NIM, and a cost:income ratio held below 50%. If improved relative growth is achieved, it could give scope for a relative rerating, in our view.

Takeout offer already in the price: Finally, we believe that Danamon’s share price is partly driven by a takeout premium. We see the price that could be offered by an overseas bidder as largely in the price. In our view, only domestic consolidation could justify a higher price.

Downside risks to our price target include deterioration in inflation outlook, making 7.4% risk-free look unachievable in the near term.

Upside risks include further bid speculation.

Our core valuation methodology for the ASEAN banks is our three-stage Gordon growth model, which is essentially a DDM (dividend discount model) adapted for the banking industry. The other assumption used is the cost of capital. We assume a risk-free rate of 7.4%; an equity risk premium of 3.5% for Indonesia; and adjusted betas of 0.97 for BCA, 1.38 for Danamon, and 1.09 for BRI.

Summary of Three-Stage Gordon Growth Model Danamon BRI BCA

SummaryTarget Price (TP) 5,000 6,100 5,800Current Price 5,400 5,000 5,800Upside/(Downside) -7.4% 22.0% 0.0%Recommendation EW OW EW

Gordon Growth ModelAssumptionsCost of Equity 12.2% 11.2% 10.8%Sustainable RoE 12.2% 11.2% 10.8%Payout Ratio 75.5% 73.0% 72.0%Sustainable Growth 3.0% 3.0% 3.0%(RoE-Sus G)/(CoE-Sus G) 1.00 1.00 1.00

Fair Value 5,031 6,115 5,791

Contribution to fair valueNPV of forecast dividends 37.7% 22.3% 17.5%NPV of 11-20 year dividends 39.5% 43.2% 24.5%NPV of Terminal value 22.8% 34.6% 57.9%


Industry Analysis


January 19, 2011


30

January 19, 2011

S. Korea Retail Rather than Cycle, Execution Matters in 2011 Morgan Stanley & Co.

International plc, Seoul

Branch+

Kelly H Kim, CFA [email protected]

Jenna Mok [email protected]

Morgan Stanley Asia

Limited+

Angela Moh [email protected]

2011 outlook: We believe 2011 will be a year of moderate growth in overall consumer spending as well as retail market size. The macro backdrop indicates two pillars of consumer spending – consumer sentiment and income growth – remain benign, but momentum to stabilize compared to 2010. Our proprietary Morgan Stanley retail sales leading indicator implies that retail sales growth could see mid-single-digit growth during the year, without much fluctuation.

Key issues in Korea consumer: Macro factors – inflation and interest rate hikes – are creating some concerns on consumer spending trends. Rising inflation risk could cause the government’s policy rate hikes to pressure household disposable income and consumer sentiment. Historically, moderate rate hikes amid a solid economic situation has little impact on retail sales. We see upside risk to consumer sentiment in a positive wealth effect with a resilient equity market and an expected property market rebound.

Different strategies, similar long-term growth: With no notable directional change in the retail cycle, individual companies’ strategies and their implementation could become more critical for share performance in 2011. Interestingly, the big three Korean retailers all have different strategies for long-term growth, and we view 2011 as the year they will demonstrate their execution capability. We expect similar long-term growth for all three (a mid-teen CAGR over 2011-15E), while HDS (W126,500) (upgraded to OW from EW) could offer attractive valuation, with little execution risk.

Our top pick remains Shinsegae (W603,000): After a de-rating process of several years, Shinsegae also offers decent upside, in our view. Low earnings growth expectations could provide some downside buffer, while we expect bottoming-out RNOA to lift valuations.

Expecting moderate growth in overall consumption: We estimate that the retail market size in 2010 rose 8.4% (excluding fuel and auto sales; our original expectation was +6.7%). In particular, department stores’ double-digit sales growth (+12.4% expected, +12.6% until November 2010) was a positive surprise that prompted stock outperformance. We believe this trend could continue in 2011, although the momentum should ease. The macroeconomic outlook is positive for the retail sector, with resilient private consumption (real-term growth of 3.5%, according to our economics team). On our top-down approach, we estimate retail market growth of 6.7% in 2011 on the back of a benign macro backdrop and positive consumer sentiment.

Still supportive macro factors, but weaker than 2010: According to our economist, Sharon Lam, real GDP will remain resilient at 4.5% (nominal GDP growth of 6.6%) in 2011, backed by: 1) rising private consumption, 2) capex expansion, and 3) resilient exports. However, GDP growth momentum is expected to stabilize compared to strong recovery seen in 2010.

Two key factors – consumer sentiment (the will to spend) and consumer capacity (household income) – principally decide consumer spending habits, and we expect these factors to be supportive in 2011.

Consumer sentiment – Despite geopolitical tension, consumer sentiment has been surprisingly resilient, thanks to the overall economic recovery, low interest rate environment (ample liquidity), and equity market rally (positive wealth effect). We expect this trend to continue in 2011. Although there are lingering inflation risk concerns, our macro team forecasts CPI at 3.6%, within the Bank of Korea’s (BoK) target range for inflation. In addition, we think upside risk could be in the wealth effect, with signs of a rebound in the housing market and a continued rise in the equity market.

Household income growth could be firmly backed by positive job growth and rising wages. Thanks to the resilient capex growth of corporates, we expect in 2011, the private sector is anticipating healthy job growth. In addition to this, 3-4% of nominal wage growth could further support household income growth. We expect household income growth to remain at mid-single-digit levels YoY throughout the year, supporting consumer spending growth.

Industry Analysis


January 19, 2011


31

Moderate Growth Expected in Overall Consumption

-2%

0%

2%

4%

6%

8%

10%

12%

14%

2000 2002 2004 2006 2008 2010E

(YoY) Retail Market Size Growth

Private Consumption Growth

PrivateConsumption:

+3.5%

2011E*Retail Sales: +6.7%

Note: Adjusted retail sales growth excluding fuel and auto sales E = Morgan Stanley Research estimates. Source: NSO, BoK,

Key Issues for 2011 Factors that could influence consumer spending in 2011 include: 1) rising inflation concerns; 2) interest rate hikes amid increasing household debt levels; and 3) a property market recovery. In particular, while we expect inflation to peak in 2Q11, the government will likely take pre-emptive measures to fight inflation via monetary tightening and administrative measures (e.g., temporary tax cuts, price monitoring). Based on our macro team’s assumptions and past experience, we believe the impact from inflation and interest rate hikes on consumer spending in the retailing sector, in particular on high-end spending, could prove limited; but consumer sentiment, as well as investor sentiment on the sector, could be dampened in 1H11.

1) Rising inflation: Imported inflation has become a major issue recently, and CPI is now at the high end of the BoK’s target 2-4% range (reported CPI of 3.5% December 2010). Our macro team forecasts that inflation will peak in 2Q11 at 4% YoY and that average CPI for the full year could be 3.6%. If inflation remains at manageable levels (i.e., within the BoK’s target range), we do not think the impact on consumer spending will be too severe. When living CPI reached high single digits in mid-2008 (overall CPI of around 5-6%), the retail sales growth trend was not affected. Rather than inflation, the overall economic trend has been a more important indicator for retail sales. Thus, if inflation is rising amid strong demand in a recovering economy, consumer spending in the retailing sector could increase as well.

In particular, food inflation has been a big concern for consumers since 4Q10, up over 10% YoY. During the period, we saw discount store (~50% of sales mix in foods) comp sales growth increase, supported in part by rising basket prices. In addition, discount stores’ emphasis on price

competiveness could lead to increased consumer traffic in a period of rising inflation. One risk for discount store sales could be oil prices: as witnessed in mid-2008, skyrocketing oil prices could lead consumers to prefer neighborhood (supermarket) shopping to discount store shopping.

2) Interest rate hikes: Inflation concerns could lead to interest rate hikes. We note that on January 13, the BoK hiked the policy rate by 25bp to 2.75% in an effort to tame inflationary expectations. This earlier-than-expected rate hike could indicate that the government’s focus has shifted to inflation containment rather than growth support near term. Interest rates are still relatively low (the real rate is negative); we expect a further 75bp of hikes in the next few quarters.

Owing to the low interest rates, household debt has been increasing rapidly in recent quarters, and this trend has accelerated further on an expected property market recovery. Thus, rate hikes could overshadow household disposable income with rising interest expense burden. Simply put, the total household debt balance reached W756 tn as of 3Q10 – thus, a 100bp interest rate hike could increase annual interest expense by W7.6 tn, or 1.2% of annual disposable income. We believe interest expense burden is still manageable, thanks to solid income growth, even with our rate hike assumption, but there could be some impact on retail sales.

Historically, as rate hikes generally accompany overall economic recovery, the negative impact on disposable income is typically offset by other macro variables (e.g., household income, consumer sentiment) that are on an upturn trend. As we expect the BoK to manage the speed and magnitude of rate hikes in line with the overall economy, we think moderate rate hikes will have a limited impact on retail sales, and consumer sentiment is unlikely to turn negative.

3) Property market rebound: Given the housing supply shortage and further supportive measures from the government, coupled with ample liquidity, we expect property prices to recover in the next few quarters. According to our construction team, housing prices could rise by 3% in 2011, based on supply/demand forecasts. Improving household income and rising consumer expectations on property prices should support solid demand; thus, the supply shortage could push house prices upward. The number of housing transactions has increased in recent months, and house prices have started to signal a positive trend. Given that household assets are skewed to the property market, a property price rebound could bring positive wealth effect, supporting consumer sentiment, in particular high-income households.

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January 19, 2011


32

January 13, 2011

Taiwan Financial Services Banks in 2011: Focus on Growth at a Reasonable Price Morgan Stanley Asia

Limited+

Lily Choi [email protected]

Morgan Stanley Taiwan

Limited+

Bruce Chou [email protected]

Funds managed by Morgan Stanley, together with other investors,

beneficially own approximately 4% of a class of securities in

Chinatrust Financial Holdings, and have the right to appoint a

nominee to the board of directors of Chinatrust Financial Holdings.

Funds managed by Morgan Stanley beneficially own approximately

2.7% of a class of voting securities in E.Sun Financial Holding

Company Limited (E.Sun) and another class of securities with the

entitlement to convert into voting securities in E.Sun.

This report was prepared solely upon information generally available

to the public. No representation is made that it is accurate or

complete. This report is not a recommendation or an offer to buy or

sell the securities mentioned. Please refer to the notes at the end of

the report.

We Think Bank Earnings Should Continue to Grow in 2011… Taiwanese banks under our coverage registered average earnings growth of 88% in 2010… The main factors were a big drop in credit costs and a strong rebound in net fee income. Net interest margin expansion was mild; the first policy rate hike only took place in June and overall increases were 37.5 bps.

…and we forecast 28% growth on average for banks under our coverage in 2011:

We still see benign credit quality but net provision expense will not fall as dramatically as last year.

Net fee income should moderate to high single-digit or low double-digit level growth.

Net interest margins should expand faster than in 2010 as the few rate hikes get the full-year benefit and we see further rate increases in store. With inflation still low but an ongoing economic recovery in progress, we expect the CBC to continue to raise rates, but at a mild and measured pace. For 2011, we expect the CBC rediscount rate to rise by 50 bps, only a bit faster than the 37.5 bps of last year.

Higher rates from the CBC and higher net interest margins are already expected… Therefore, we do not see much surprise, unless the CBC moves at a much faster pace than 50bps for the full year. Although the CBC is hiking rates, there remains a tremendous amount of liquidity in the system – so we can still expect a fair amount of pricing competition. Banks indicate that they still do not have pricing power on lending rates and do not expect this during 2011. Hence, we currently expect further rate hikes to improve Taiwanese banks’ deposit spread – but their lending spread might not see much improvement due to price competition.

…so we think the surprise for the year could come from higher loan growth: We detail our outlook later in this report. Loan growth had already started to recover in 2010; the industry posted 6.8% growth in November, above our 5.5% forecast earlier in the year. We think loan growth can probably remain in the mid-to-high single digit range for some time, compared with our economist’s GDP growth forecast of 3.8% and the Taiwanese government’s forecast of 4.5% for 2011. With loan growth looking sustainable, and the potential for an upside surprise, we think loan growth could become investors’ focus as 2011 progresses.

…But Recommend Buying Growth at a Reasonable Price Stock selection has become more difficult with the rapid rise in banking share prices over 2H 2010: We see opportunities for loan growth to surprise – but overall, we would focus on gaining exposure to potential loan growth, yet at a reasonable price and with adequate capital support. First Bank stands out as having above-industry loan growth and net profit growth, but it is already trades at a premium to peers as locals have chased the stock up on the asset play angle.

We reiterate our Overweight ratings on Chinatrust and E.Sun. We have upgraded Mega and Sino Pac to Overweight from Equal-weight.

Reasons for Our Positive Stance on Overweight-rated Stocks Chinatrust (2891.TW, NT$21.45): Given its dominant retail bank franchise and strong corporate banking business, LDR near historical low of 76%, and the highest core Tier 1 ratio among its peers, Chinatrust has significant revenue leverage as growth continues. Trading at 1.5x 2011e book, the stock's risk/reward appears favorable against its 2011e/12e ROE of 12.7%/14.1%. Furthermore, we now see a catalyst for Chinatrust shares to show strong outperformance in the banking industry. An overhang for the shares, especially in foreign investors’ eyes, has been Chinatrust’s stated intention to buy Nan Shan Life, AIG’s Taiwan life insurance subsidiary.

Industry Analysis


January 19, 2011


33

However, this overhang has most likely been removed with the news that another group has won the bidding for Nan Shan Life.

E.Sun (2885.TW, NT$19.2): We project profit growth of 40% and 22% for E.Sun in 2011e and 2012e vs. industry average of 34% and 12%. We cite the following reasons for the better-than-peer growth: 1) Its niche position to benefit from Taiwan’s secular growth of unsecured consumer loans and SME loans in Taiwan; 2) its liquid balance sheet evidenced by its lower loan-to-deposit ratio, and 3) its better-than-peer wealth management fees growth via expanded branches network (completed in 2009) and continued hiring of sales agents. Valuation is still reasonable at 13x 2011e diluted EPS vs. the industry average of 14-15x and state-owned banks at 17-19x.

Mega (2886.TW, NT$22.15): The bank will benefit from a recovery in corporate loan demand, not only because of its leading corporate bank franchise but also from its stronger-than-peer capital position to capture future growth without recap risk. In addition, the continued lending quota control by the Chinese government could lead China-based Taiwanese corporate customers back to Taiwan for USD funding. Mega will likely benefit the most from this trend because it has the largest USD deposit base in Taiwan. As one of the two RMB cash settlement banks in Taiwan, Mega could see upside in fee income growth as internationalization trend of RMB continues. The stock trades at 1.2x 2011e book, 13x 2011e EPS vs. other state-owned banks at 18-20x.

SinoPac (2890.TW, NT$13.05): 2011 will be a pivotal year for SinoPac in terms of business and profit growth. With new management in place and toxic assets being written off in 2010, we estimate SinoPac’s earnings will improve by 50% this year, showing the highest growth in our Taiwanese banks coverage. Earnings drivers will be mortgage spread expansion, refocus on higher-yielding unsecured consumer loan, and its securities arm’s brokerage-related income. Trading at 1.0x 2011e book against 2011e and 2012e ROE of 8.4% and 9.2%, we believe the stock provides favorable risk/reward, as compared with industry average valuation of 1.4x book against 2011e/12e ROE of 9.8%/10.4%.

Our other Overweight rated stock among Taiwanese financials is Yuanta (2885.TW, NT$23.6). We think Yuanta could perform better this year after a lackluster 2010. The abundant liquidity in the market, expectation of a mildly rising rate environment, and the likely positive sentiment ahead of the March 2012 presidential election are positive catalysts for brokerage shares in 2011. We currently forecast 12% growth in daily market turnover to NT$155 billion and 15% growth in margin loan balance to NT$430 billion for 2011. The stock currently trades at its mid-cycle valuation of 1.5x 2011e book against its historical trading range of 0.7x-2.4x. While this is no longer cheap after the recent run-up, we think the stock could move higher given the favorable market conditions.

Our overall industry view for Taiwan Financials remains In-Line: Although we have a largely positive view of the banking group, our view on insurance is still neutral.

Taiwanese Financials: Changes to Earnings Estimates and Price Targets

NT$ Company

Old 2011e

EPS

New 2011e

EPS Diff. %

Old 2012e

EPS

New 2012e

EPS Diff. %Share Price* Old PT New PT

Up/Downside to

PT

2010e Dividend

YieldTotal

ReturnStock

Rating2891.TW Chinatrust 1.74 1.74 0% 2.04 2.08 2% 21.45 23.30 24.50 14.2% 3.2% 17.4% O2886.TW Mega 1.56 1.68 7% 1.65 1.83 10% 22.15 21.60 25.00 12.9% 4.4% 17.3% E to O2890.TW SinoPac 1.05 1.07 2% 1.10 1.22 11% 13.05 12.40 15.00 14.9% 1.9% 16.8% E to O2884.TW E.Sun 1.48 1.48 0% 1.78 1.78 0% 19.20 21.60 21.60 12.5% 1.8% 14.3% O2887.TW Taishin 1.25 1.34 7% 1.28 1.38 8% 16.50 15.30 17.20 4.2% 1.3% 5.5% E2892.TW First FHC 1.41 1.48 5% 1.68 1.72 3% 26.00 21.00 23.50 -9.6% 1.2% -8.4% E2801.TW Chang Hwa 1.19 1.30 10% 1.23 1.32 7% 24.65 16.20 18.60 -24.5% 2.6% -22.0% U

*Share Price as of January 11, 2011. e = Morgan Stanley Research estimates. Source: Company data, Morgan Stanley Research For valuation methodology and risks associated with any price targets above, please email [email protected] with a request for valuation methodology and risks on a particular stock.

Industry Analysis


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34

January 13, 2011

Taiwan Hardware Technology PCB/IC Substrate: HDI PCB Supply Tightness to Benefit Unimicron and Tripod Morgan Stanley Taiwan

Limited+

Sharon Shih [email protected]

Brad Lin [email protected]

Morgan Stanley Asia

Limited+

Jasmine Lu [email protected]

Major beneficiaries – Unimicron (3037.TW, NT$56.7, Overweight) and Tripod (3044.TW, NT$122, upgraded to Overweight): The bright spot in the PCB/IC substrate segment is that various new HDI PCB projects for smartphones and tablet PC models in the pipeline in 1H11 – including Apple’s iPhone 5 and iPad 2, HTC smartphones, and a few tablet PCs – should lead to industry-wide HDI PCB supply tightness in 1H11E. This tightness is likely to benefit key HDI PCB makers in Taiwan – those with sizable capacity, superior design capability, and long-lasting client relationships, such as Unimicron and Tripod. We estimate that their HDI PCB revenue will grow 18% and 26% YoY in 2011, respectively, and their valuations are attractive at 10x 2011E P/E.

Kinsus (3189.TW, NT$96.5) downgraded to Equal-weight: We suggest taking profits in light of the 24% surge in the shares in 4Q10. We think Kinsus needs time to reflect the benefits of margin expansion from the rising proportion of high-margin FC-CSP substrate in its mix. Its 2011E P/E is fair at 14x, in our view.

Potential upside: 1) Passing through increases in raw material and labor costs to customers; 2) more high-end HDI PCB demand to drive better mix and higher ASP.

Potential risks: 1) Raw material price hikes (copper and gold), impairing profitability despite the demand surge; 2) labor wage increases, hurting profitability despite ongoing cost-reduction efforts; and 3) NTD appreciation.

Worldwide HDI PCB Demand Outgrowing Supply in 2011E; Proven Technology Leaders Should Benefit

We expect smartphones and tablet PCs to drive HDI PCB demand up 42% YoY in 2011:

Capacity consumption per device is increasing, 3-10x more than in one feature phone: Consumers desire the same size but more features in portable devices like smartphones and tablet PCs. The high-end HDI PCB design meets all the requirements of thinness and lightness, long battery life, and powerful functionality; thus HDI PCB capacity consumption per device is on the rise. In general, usage in smartphones is about 3x, iPhones 5x, and tablet PCs 3x-10x the amount in a regular feature phone.

Our in-house forecast calls for global YoY unit growth of 42% for smartphones in 2011E… Our checks suggest that increasing smartphone models in 2011E, other than Apple’s iPhone 4, are designed with the highest-end HDI PCBs – any-layer – to save more space for batteries. Examples include those by HTC, Motorola, LG, and Sony-Ericsson.

…and 233% for tablet PCs: Tablet PCs are a new application area for HDI PCB in 2011. We expect the majority of 7”-9” tablet models will go for HDI PCB design.

Overall HDI PCB supply should stay tight in 1H11, at least: Various new high-end HDI PCB projects are in the pipeline for 1H11, new capacity additions will be in place gradually within the next six months, and a certain amount of time is needed (we estimate 2-3 months) for yield enhancement.

Exhibit 1

HDI PCB: Demand vs. Supply

0

20

40

60

80

100

120

140

160

180

200

2010E 2011E

Worldwide HDI PCB supply Worldwide HDI PCB demand

mm sq ft

Up 18% YoY

Up 42% YoY

Source: Company data, Morgan Stanley Research. E = Morgan Stanley Research estimates

Overweight: Unimicron, Followed by Tripod When the HDI PCB supply tightness has eased, we believe the long-term beneficiaries will be those technology leaders

Industry Analysis


January 19, 2011


35

with superior yield control and timely delivery capability – and most importantly, sustained profitability. We highlight the following companies:

Unimicron: A leading HDI PCB supplier with exposure to iPhone/Nokia and tablet PCs. Potential upside should come from ramping FC-CSP substrate to Qualcomm and nVidia.

Tripod: Market share expansion in HDI PCB (iPad, low-priced Chinese smartphone brands) and TFT-LCD (LGD and Sharp) should drive profitability with superior ROE at 25%-26% in 2010-12E

Compeq (2313.TW, not covered) and Unitech (2367.TW, not covered).

In terms of risk-reward, we like both Unimicron and Tripod… Their shipment momentum in HDI PCB is strong; we project rises of 18% and 26% YoY in 2011E, respectively. We think their business uptick potential is underestimated and regard their valuations as attractive at 10x 2011E P/E.

…but Unimicron is our top pick amid this HDI PCB upgrade cycle: We like Unimicron for its potential dual exposure to Apple’s iPhone and iPad, solid design capability to cope with technology migration on the client side, as well as economies of scale. The ramping FC-CSP substrate business could be an incremental growth driver for Unimicron, especially in terms of potential order wins from Qualcomm and nVidia. On the valuation front, Unimicron and Tripod both trade at 2011E P/Es of 10x – but Unimicron’s P/B of 1.8x is well below Tripod’s 2.5x.

Equal-weight Kinsus (3189.TW): A proxy for Qualcomm/smartphones/3G handsets – but the share price surged 24% in 4Q10 (versus 8% for the TAIEX). Increasing FC-CSP substrate contribution should be positive for Kinsus, but we note the unfavorable NTD appreciation and raw material price hikes, especially in gold, will eat into its profitability. We also see potential pricing pressure once late entrants, such as SEMCO and Unimicron, ramp up capability in mid-2011. We think the growth story is fully priced in but do not yet see firm signs of meaningful margin expansion. In our view, the stock trades fairly at 14x 2011E P/E.

Nan Ya PCB (8046.TW, NT$107): More time is needed, in our view, to climb the learning curve of Intel CPU substrate offering. The key to watch for any potential turnaround is the yield improvement and order allocation increase for Intel CPU substrate (x68 first generation in March, Sandy Bridge in 2Q11). The stock trades at 17x 2011E P/E.

Exhibit 2

Taiwan Major HDI PCB Suppliers: One-Year Forward P/B – Not Yet at the Peak

0

1

2

3

4

5

6

7

Jan-01 Apr-02 Jul-03 Oct-04 Jan-06 Apr-07 Jul-08 Oct-09 Jan-11

Compeq Unitech Unimicron Tripod Nanya PCB

x


Exhibit 3

Taiwan IC Substrate/PCB Coverage Snapshot

Company Rating Upside Mkt Cap 2011E P/E P/B ROE Div Yld QFII MSe vs.to PT US$mn EPS (NT$) 11E 11E 11E 10 holding (%) consensus

Kinsus EW -1% 1,305 7.10 13.6 2.0 15% 3.1% 28.5% -3%Nan Ya PCB EW -2% 2,088 6.20 17.3 1.8 10% 2.0% 13.3% -10%Tripod OW 25% 1,753 12.38 9.9 2.5 26% 3.6% 61.7% 6%Unimicron OW 23% 2,640 5.63 10.1 1.8 17% 2.6% 42.8% 3%

Source: FactSet, Morgan Stanley Research. E = Morgan Stanley Research estimates.

Industry Analysis


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36

January 19, 2011

Taiwan TFT LCD 2011: Come-Back Year Morgan Stanley Taiwan

Limited+

Frank A.Y. Wang [email protected]

Jerry Su [email protected]

Derrick Hung-Chi Yang [email protected]

Where We Differ? While the market is concerned about the 2011 outlook, we expect a hockey stick-shaped recovery in profit for TFT makers in 2011. After 4Q10’s massive losses on panel price decline, inventory write down, anti-trust-related charges, NT$ appreciation impact, etc., we expect panel losses to narrow in 1Q11, followed by a profit recovery in 2Q11 and significant profit improvement in 2H11 on operating leverage emerging from the ‘perfect storm’. Demand expectation for 2011 is low, which should keep the supply side disciplined, with upside risk on demand elasticity.

Catalyst – IT panel prices hit a low in October 2010 and have risen slightly since. TV panel prices hit a low in January 2011; post inventory cleaning, we expect TV panel prices to increase by March/April 2011 on new product launches.

What’s New: We have cut our EPS for 2010e for AUO, CMI and Coretronic, and for 2011e for AUO and CMI to reflect weaker panel prices, lower margin assumptions and NTD appreciation, etc. Radiant alone bucks this trend: we have raised 2010e-2012e EPS on better margin assumptions. We expect Coretronic to catch up on sales and earnings in 1Q11 as a supplier to leading tablet PCs with Radiant after weak 4Q10 on product transition.

Opportunities: 1) The trend to smart TVs will change the TV industry model to “value add” from “cost down”. TVs can generate additional revenue through subscriptions or advertising beyond hardware sales, putting less panel pricing pressure on product differentiation. 2) The 3D TV trend toward “passive glasses” is a positive for panel makers on additional panel processing for higher ASP; and more driver ICs are used to achieve the same resolution in 3D. 3) LED monitor demand could grow faster than expected on more stylish design and desk space saving.

Risks: 1) US Xmas sell-through was weaker than on Black Friday, with consumers down-shifting demand. We expect

excess LED TV inventories to be cleared by Super Bowl, due to rebates. 2) China labor cost increases will be more negative for downstream monitor/TV assemblers than panel makers. China labor shortages will constrain supply growth. 3) China’s new advanced fab risk is 2H12-2013, not 2011, given the learning curve for production ramp-up.

Overweights in Taiwan TFT LCD

1) AUO (NT$28.8) experienced a ‘perfect storm’ in 2010 – 1) cyclical low profitability, 2) anti-trust lawsuit overhang, 3) China investment constraint, and 4) Taiwan new fab environmental constraints. The market has disregarded AUO’s outperformance over LGD in terms of EBITDA margin in 3Q10, despite its smaller production scale. We believe AUO is well positioned to benefit from the TFT up-cycle in 2011. The TFT business model is changing from pure commodity to include more display technology variety, including touch, LED, 3D, and OLED, with new application drivers (smart TV, tablet, smart phones, etc.) for more value added. We see AUO being rerated in 2011 after around three years of underperformance.

2) We believe CMI (NT$36.3) will start to see synergy benefits in 2011 in the TFT upcycle. CMI will increase its exposure with Sony in LCD TV outsourcing and Apple on vertically integrated touch/TFT LCD panel operation for differentiation. We see CMI outperforming in 2011.

3) Radiant (NT$61.2) should be a major beneficiary of the LED proliferation trend. As the major backlight module supplier, it has been benefiting from the popularity of the leading tablet PC brand in 4Q10. While it will continue to benefit from the trend, we believe its major competitor, Coretronic, will play catch-up in 2011.

4) Like Radiant, Coretronic (NT$48.0) is a direct beneficiary of the transition to LED TVs that the market has been disregarding. We forecast that Coretronic will increase its tablet exposure to leading tablet PC makers to share business with Radiant. We also assume the use of LED monitors proliferates faster than expected, given desktop space saving and, thus, improved productivity.

5) We assume Novatek (NT$95.5) benefits in 2011 from the trend to new products, including 3D TV, that will demand more drivers per panel for passive glasses technology or faster speed (240 Hz) driver IC for active glasses technology on higher ASP. Novatek’s growth in SOC (system on chip) will help to improve margins, offsetting margin pressure from NTD appreciation.

Industry Analysis


January 19, 2011


37

Industry Risks

1) In our view, higher Chinese labor costs will have a less negative impact on panel and component makers than on downstream TV assembly players, given that TV assembly is a more labor-intensive business. However, higher labor wages will eventually lead to better LCD TV consumption on improved consumer affordability.

2) Growth expectations for LCD TV in 2011 are low – China TV makers only look for 10-15% YoY shipment growth for China, the lowest projection for years; US TV makers are looking for only flat to 5% YoY shipment growth in the US in 2011 after unit declines in 2010; the European TV market is projected to be flattish; Japan market has 50% YoY downside risk post subsidy expiration. Conservative demand side expectations also suggest supply-side discipline and hence upside potential for earnings.

3) NTD appreciation will negatively impact margins and earnings. However, TFT panel price swings are more relevant than currency volatility; we expect panel prices to improve in 2011 after the sharp fall in 2H10 on inventory correction.

Historically, TFT stocks have tended to outperform in odd years over even years (which contain major sports events, such as the Olympics and the FIFA World Cup), as expectations tends to be low, due to over-supply in even years as a result of capacity addition stimulated by demand growth from sports event promotion).

Key Investment Debates

1) Where in the Cycle? Market’s View: The market is worried about potential oversupply in 2011 from increased Chinese fab supply and double-dip risk in the global economy.

Our View: 2011 will be a strong upcycle on more controlled supply growth, due to mid-cycle correction in 2H10, with stronger-than-expected areal demand, due to upsizing on economic recovery. LED TV proliferation will help to improve ASP. Chinese fab oversupply risk is a 2H12/13 concern when all new advanced generation fabs switch on simultaneously.

Where we could be wrong? LCD TV demand growth is significantly lower, despite the slower capacity addition.

2) Components or Panels? Market’s View: Prices for panels are more volatile than for components. Component makers are better investments.

Our View: In an upcycle (2011), panel makers have more pricing power and operating leverage than component makers, whereas in a downcycle, component stocks are better investments than panel stocks on steady volume growth and more stable margin.

Where we could be wrong? Weaker-than-expected LCD TV growth means panel makers lose pricing power and can’t make an adequate return even on improved unit demand.

3) China Risk/Opportunity? Market’s View: China’s rural subsidy and urban stimulus effect is known. China’s new fab investment will post over-supply risk in 2011.

Our View: China fab impact for TFT over-supply risk will be delayed to 2H12 (not 2011), as it takes time to ramp fab. Urban subsidy expiration at end-2011 will boost 4Q11 demand. Energy efficiency labeling, starting in March 2011, will stimulate LED TV to mainstream for higher ASPs.

Where we could be wrong? Despite lack of experience, new China advanced TFT fabs will impact market supply sooner on foreign panel makers investment support.

4) How to Re-Rate? Market’s View: Investors have been burned over the cycles by earnings volatility and have de-rated the sector, as respective panel makers always find ways to destroy sector profitability, including chronic over-investment.

Our View: Size matters in TFT, and the sector is maturing. The gap in margins is so wide between tier- one and tier-two makers, and for existing vs. new entrants, that it would be difficult for newcomers and the weaker companies to add capacity profitably. Top panel makers can maintain satisfactory ROE and stable profits compared to the past as they learn over the cycles to dynamically adjust production plans, including utilization and new fab build, and avoiding inventory build that hurts future profitability.

Where we could be wrong? TFT sectoral economics becomes worse than for DRAM as end-product consumer electronics have no pricing power, with panels being the highest BOM (bill of materials) contributor.

Company Analysis


January 19, 2011


38

Stock Rating: Overweight Reuters: INFY.BO Bloomberg: INFO IN

Price target Rs3,630.00Up/downside to price target(%) 13Shr price, close (Jan 13, 2011) Rs3,205.0052-Week Range Rs3,493.95-2,333.00Sh out, dil, curr(mn) 571Mkt cap, curr(mn) Rs1,831,205EV, curr(mn) Rs1,672,635Avg daily trading value(mn) Rs333

Fiscal Year ending 03/10 03/11e 03/12e 03/13e

ModelWare EPS(Rs) 108.84 119.25 147.00 180.98Prior ModelWare EPS(Rs) - 121.41 147.03 181.04Consensus EPS(Rs)§ 108.51 120.90 146.48 180.90Revenue, net(Rsmn) 227,420 275,286 347,003 434,017EBITDA(Rsmn) 78,610 90,411 112,057 137,070ModelWare net inc(Rsmn) 62,180 68,147 84,065 103,572P/E 24.0 26.9 21.8 17.7

§ = Consensus data is provided by FactSet Estimates. e = Morgan Stanley Research estimates

Company Description Infosys Technologies provides IT consulting and software services to global organizations. It offers offshore-based software services such as application development, software maintenance, consulting, and BPO, and establishes software centers for its customers. Infosys's solutions cover a wide range of business areas.

India Software Industry View: In-Line

January 14, 2011

Infosys Technologies Use the Dip; Move to OW Morgan Stanley India


Vipin Khare [email protected]

Gaurav Rateria [email protected]

What's Changed Rating Equal-weight to Overweight

Price Target Rs2,780.00 to Rs3,630.00

We have upgraded our rating on Infosys to OW and raised our price target to Rs3,630. Infosys is a stock we would like to own in the current uncertain environment. Following lower-than-expected 3Q results, the stock dropped ~5%. We think it could drift lower and stay range-bound until April. However, we would use the dip as an opportunity to gain exposure.

Beats guidance, tames expectations: Infosys delivered better-than-guided results for the December 2010 quarter. However, stretched expectations, below-consensus earnings for 3Q, and muted 1-2% QoQ revenue growth guidance by Infosys for 4Q led to a steep fall in the stock after the results. We believe the December 2010 quarter should help rationalize Street expectations, boding well for relative/absolute performance in 2HCY11.

Tech spending for 2011 could be stronger than expected: Our CIO survey indicates that 2011 technology spending is likely to be up 3.9% YoY. We forecast real GDP growth of 4% YoY in 2011, with falling unemployment that will likely further strengthen revenue growth prospects for Infosys, in our view. We expect large vendors to garner a greater share of the overall services spending and benefit disproportionately from the favorable spending environment. We believe strong Infosys performance in June 2011 / September 2011 quarter results could be the next trigger for the stock.

Financials: We maintain our forecast of 26% US$ revenue CAGR for Infosys for FY11-13e. Infosys EBIT margins are likely to decline by 100bps in FY11e; we project a further 30-40bps decline after that, leading to an earnings CAGR of 23% for FY11-13e. The stock is down 7% YTD and is trading at 22x FY12e EPS and 18x FY13e EPS, which would have upside as we move into the year. We expect Infosys to

continue trading at a premium to the market in the current environment.

December 2010 results highlights 4QFY11 and FY11 guidance. Infosys guidance for 4Q remains muted, with revenue of US$1,601-1,621mn (+1% to +2.3% QoQ) and EPS of US$0.69-0.70 (flat to 1.4% QoQ). Infosys raised its FY11e US$ revenue guidance to US$6.04-6.06bn (+25.7% to +26.1% YoY) and US$ EPS guidance to US$2.60-2.61 (from US$2.54 to US$2.58). It implies rupee EPS guidance of Rs118.7-118.9 (9.7-9.9% YoY EPS growth).

What led to the lower-than-expected performance in the December 2010 quarter? Infosys volume growth of 3% QoQ surprised negatively for the first time in over a year. Management indicated lack of budget flush and fewer project starts in December 2010 as the key reasons for the muted growth. Overall, budgets for its clients are expected to be flat to up for 2011, in line with the findings of our recent CIO survey. Management also indicated that the industry revenues is likely to grow 18-20% in US$ terms for FY12e, thereby increasing our conviction in our FY12e EPS forecasts for Infosys.

Company Analysis


January 19, 2011


39

Key results positives: 1) Blended price realizations improved +1.6% QoQ and YoY; offshore realization improved +2.6% QoQ and onsite by +1.4% QoQ. 2) Despite a 250bps QoQ decline in utilization rates (including trainees), Infosys maintained its gross margins and EBIT margins QoQ. 3) Infosys' subsidiaries revenue growth and profitability improved during the quarter, outperforming the company. Revenues grew 12.7% QoQ and net income 49% QoQ during the quarter. 4) Rest of the world revenues grew 10% QoQ, making up for the slower growth in the US and telecom segments.

Key results negatives: 1) Revenue growth in the telecom vertical continued to lag for Infosys. Telecom revenues declined -0.5% QoQ, -1% YoY. 2) Revised guidance for US$ revenue growth of 26% YoY and EPS of Rs118.7-118.9 remains below expectations. 3) Revenue growth in the US (the company’s largest market at 65% of revenues) was 4.2% QoQ, the lowest in the last five quarters. 4) So far in FY11e with ~ 34,000 gross additions, Infosys has added only 14,000 net employees. With attrition falling, we expect Infosys to add 45,000 gross employees this year and a similar number in FY12.

Valuation: Our price target is derived from the probability-weighted average of our risk reward scenarios:

[PT Rs3630 = Rs4370*0.35 + Rs3430*0.55 + Rs2140*0.10]

Since Infosys posted 3Q results below Street expectations, we have revised our probability weightings, adding 5ppt to our base case and trimming 5ppt from our bull case. The increases in our values stem mainly from higher revenue and EBIT CAGRs over the longer term. Our cost of equity assumption remains 12.7% (India risk-free rate of 6%, beta 0.84, risk premium 8%).

Our price target of Rs3,630 implies upside potential of 13% from the current price. Further, the stock has a dividend yield of 1.9% for the current year, taking the total return potential to 15%. Our price target implies a P/E of 25x FY12e EPS and 20x FY13e EPS.

Historically Infosys has traded in the range of 10x-30x one year forward EPS with an average of 20x. The stock is currently trading at 23x one year forward EPS, which is within the historical band.

Key risks: 1) Lower-than-expected US$ revenue and EPS guidance for FY12e in April 2011; 2) macroeconomic concerns in the US and Europe; 3) significant rupee appreciation.

Risk-Reward View: FY12e Earnings Growth is the Key Stock Driver

WARNINGDONOTEDIT_RRS4RL~INFY.BO~

Rs.3,630.00 (+13%)Rs. 3,205.20

Rs.2140 (-33%)

Rs.4370 (+36%)

0

500

1,000

1,500

2,000

2,500

3,000

3,500

4,000

4,500

5,000

Jan-09 Jul-09 Jan-10 Jul-10 Jan-11 Jul-11 Jan-12

Rs.

Price Target (Jan-12) Historical Stock Performance Current Stock Price

Bull Case Rs4,370

Better-than-expected growth: Strong growth in volumes, benefiting from recovery in offshore spending. US$ revenue growth ~30% and earnings growth of ~29% in F2012. Our long-term forecasts imply revenue and EBIT CAGR of 24.8% and 23.8% respectively over F2011-20e.

Base Case Rs3,430

Current pace of recovery continues: US$ revenue growth of 27% yoy in F2012e; margins of 29.4% (-30bps yoy). Revenue and EBIT CAGRs of 20.2% and 18.7% respectively over F2011-20e.

Bear Case Rs2,140

Slow recovery in offshore spending: This could limit revenue growth in USD terms in F2012 to ~19%, while a ~100bps margin contraction could slow growth in net profits. Revenue and EBIT CAGR of 12.8% and 10% respectively over F2011-20e.

Source: FactSet, Morgan Stanley Research

Company Analysis


January 19, 2011


40

Stock Rating: Overweight Reuters: LART.BO Bloomberg: LT IN

Price target Rs2,268.00Up/downside to price target(%) 35Shr price, close (Jan 17, 2011) Rs1,681.1552-Week Range Rs2,212.00-1,371.00Sh out, dil, curr(mn) 602Mkt cap, curr(mn) Rs1,012,389EV, curr(mn) Rs981,246Avg daily trading value(mn) Rs429


ModelWare EPS(Rs) 63.0 76.7 95.5 119.3Prior ModelWare EPS(Rs) - 77.8 98.1 122.2Consensus EPS(Rs)§ 58.5 67.1 82.6 107.0Revenue, net(Rsmn) 366,752 449,996 588,402 758,090EBITDA(Rsmn) 54,035 63,988 80,262 99,946ModelWare net inc(Rsmn) 37,967 46,218 57,537 71,868P/E 25.8 21.9 17.6 14.1


Company Description Larsen & Toubro's primary businesses are engineering and construction, electrical and electronics equipment, and software. L&T has played a key role in building manufacturing facilities for several industries, such as oil and gas, petrochemicals, cement, steel, fertilizers, and power. L&T's construction business is 6-7 times larger than that of its nearest Indian competitor.

India Construction & Infrastructure Industry View: Attractive

January 18, 2011

Larsen & Toubro Thesis Unfolding, but with Minor Hiccups Morgan Stanley India


Akshay Soni [email protected]

Pratima Swaminathan [email protected]

What's Changed Price Target Rs2,433.00 to Rs2,268.00

F2012e EPS Down 2.6% to Rs95.5

F2013e EPS Down 2.3% to Rs119.3

We remain OW, but have shifted our numbers and price target down marginally to adjust for the weak ordering environment. Order inflows in F3Q11 fell 25% YoY to Rs134bn, with the company citing deferment of awards across sectors and the logjam witnessed in the regulatory environment for its customers (environment, Go-no go areas for coal blocks, etc) as reasons for the shortfall. While management expects to recover the losses in inflows in F4Q11e and F1Q12e, we have conservatively reduced our order inflows in F2011-13e by 5-6%, leading to a 2-3% downtick in our EPS estimates for F2012-13e. Our revised price target of Rs2,268 per share implies a 35% return from current levels.

Strength in broad numbers, but weakness in order inflows: L&T delivered on our thesis of its moving from a build-up phase (order book growth) in F2010-11e to an execution phase (revenue growth) in F2012-13e, by clocking top line growth of 41% YoY, beating ours and consensus estimates by 6% and 13%, respectively. Given the strength in revenues, the inverse relationship resulted in a YoY dip of 160 bps in margins (30 bps lower than our estimate for the quarter). Given the higher surprise in revenue numbers, operating profit (at Rs12.4bn) still came in 4% ahead of our numbers.

Investment conclusion: While L&T, in revenue terms, is larger than the next six largest construction companies put together, owing to the fragmented market (L&T’s market share is still only 2.5% in Indian capex) and its high-quality execution, it has consistently gained market share over the last two decades. It is also the vendor of choice for the private

sector, making it the best way to play the structural growth story in Indian infrastructure.

Risks include: 1) Slowdown in infrastructure spending by the government and in corporate capex; 2) slowdown or increase in competition in the Middle East; 3) turnaround of the international loss-making subsidiaries; 4) upside risks include any margin uptick, due to L&T’s ability to control and manage its costs better.

Valuation: The assumptions behind our sum of the parts valuation methodology are displayed in Exhibits 1-3.

Company Analysis


January 19, 2011


41

Exhibit 1

Sum of the Parts – Base / Bull / Bear Cases

(in Rs / Share) Bull Case Base Case Bear Case

Core Business 2,065 1,799 1,348

Infotech 75 75 75

IDPL 343 198 126

Finance 60 60 60

Super Critical JV 122 122 122

Infrastructure Fund 13 13 13

Price 2,679 2,268 1,744Source: Company data, Morgan Stanley Research

Exhibit 2

Valuation Methodology

Business Value (Rs/ Share) Methodology

Core Business 1,799 Residual Income

Infotech 75 Avg P/E Multiple of Peers

IDPL 198 Avg P/B Multiple of Peers

Finance 60 Avg P/B Multiple of Peers

Super Critical JV 122 DCF

Infrastructure Fund 13 20% of the Corpus

Base case Price 2,268 Source: Company data, Morgan Stanley Research

Exhibit 3

Assumptions of the RI Model

Cost of equity (%) 14.9

Long-term ROE on new investments (%) 18.0

Years to reach steady-state growth 35

Steady-state revenue growth rate (%) 6

Shares Outstanding 602.2

Steady-state borrowing cost (net of tax) (%) 6.3

Steady-state leverage (Net debt/Equity) (%) 30.0

Price target horizon (months) 12


Risk-Reward View: Risks to the Upside with Execution Cycle Pick-up Around the Corner

WARNINGDONOTEDIT_RRS4RL~LART.BO~

Rs.2268 (+35%)

Rs. 1,681.15

Rs.1744 (+4%)

Rs.2679 (+59%)

0

500

1,000

1,500

2,000

2,500

3,000


Rs.

Base Case (Jan-12) Historical Stock Performance Current Stock Price

Bull Case Rs2,679

Normalization in the capex cycle leads to a bounce back in execution over F2011-13e, with average execution being 32 months. We also assume F2013 margins to be stable at F2010 levels. Infra subsidiary trades at P/B of 1.5x on uninvested equity.

Base Case Rs2,268

Average execution cycle gradually builds up from 31 months in F2010 to 36 months by F2013. Margins drop by 90bp to 11.5% by F2013. Infra subsidiary trades at P/B of 0.5x on uninvested equity.

Bear Case Rs1,744

Access to capital (for L&T’s private customers) falls off again, leading to a 58% increase in the ex-power execution cycle and the total execution cycle (including power) growing to 45 months by F2013e. F2013e margins are 210bp lower than in F2010 as competition increases. We do not assign any value for the uninvested equity in the Infra projects.


Company Analysis


January 19, 2011


42

Stock Rating: Overweight Reuters: ADRO.JK Bloomberg: ADRO IJ

Price target Rp2,900Up/downside to price target(%) 13Shr price, close (Jan 17, 2011) Rp2,57552-Week Range Rp2,900-1,700Sh out, dil, curr(mn) 31,986Mkt cap, curr(bn) Rp82,364Avg daily trading value(bn) Rp168


Revenue, net(Rpbn) 26,938 25,956 34,293 40,634EBITDA(Rpbn) 11,116 9,021 13,203 14,968ModelWare net inc(Rpbn) 4,380 2,432 5,346 5,784ModelWare EPS(Rp) 137 76 167 181Prior ModelWare EPS(Rp) - 76 127 160Consensus EPS(Rp)§ 139 85 158 200P/E 12.6 33.5 15.4 14.2


Company Description Adaro is one of the leading coal producers in Indonesia. The company has an integrated business model that spans mining, mining contractor work, and port services. It operates the Tutupan coal mine in South Kalimantan. Another mine (Wara) is under development and expected to commence production in 2009. Adaro has reserves of 987mn tonnes. It produced 38.5mn tonnes of coal in 2008 and aims to produce 80mn tonnes a year by 2013

Indonesia Coal Industry View: Attractive

January 18, 2011

PT Adaro Energy Tbk Rays of Sunshine Morgan Stanley Asia

Limited+

Wee-Kiat Tan [email protected]

Josh S Du [email protected]

Sara Chan [email protected]


Price Target Rp1,700 to Rp2,900

MW EPS 2011e/12e +31% / +13%

We have upgraded Adaro to OW with a new price target of Rp2,900 from Rp1,700. We have raised our earnings forecasts 31% for 2011 and 13% for 2012 off a higher expected ASP (US$71.3 in 2011 and US$74.8 in 2012). This is due mainly to the expected increase in the regional seaborne thermal coal price in 2011 from US$105 to US$130, and in 2012 from US$110 to US$125. In addition, we expect Adaro to experience stronger operational performance in 2011 after a rainy 2010, and the rise in production at the lower strip Wara mine should help keep the company as one of the lowest-cost producers in Indonesia.

Fundamentally sound: A rainy 2010 has not undermined our conviction that Adaro is still a fundamentally sound company with stable production growth (highest five-year production CAGR of 18.8% vs. peers), strong management, and a clear execution strategy. As one of the lowest-cost producers (US$35/ton vs. Indo average of US$39/ton), we expect Adaro to continue to increase efficiency in its logistical chain and keep costs under control.

Stock price impacted by rain: Adaro performed almost in line with the Indo market in 2010. The stock became depressed at the start of the difficult weather conditions in June 2010, yet recovered meaningfully in 4Q as the market looked to 2011. Adaro’s share price has traded up recently on the back of ASP improvement. Even so, we believe its valuation remains fair, given that we have been conservative in our assumptions and see potential for upgrading as operational improvements kick in. We view Adaro as a key investment to hold on a 12-month basis and would buy on dips to take advantage of any temporary weakness prior to the expected stronger set of operational numbers.

2010 at a glance Being one of the worst impacted coal producers in an unusually rainy Indonesia, we believe Adaro experienced its worst year in terms of operations in 2010. We think there is only upside to look forward to, with limited downside, going into 2011 and beyond.

In 2010, Adaro was forced to cut its production target by around 7%, from 45mt to 42mt, due to unexpected heavy rainfall all across Kalimantan and the rest of Indonesia. Normally, Indonesia’s wet season starts at the end of the fourth quarter and then gradually improves throughout the subsequent year until the cycle starts again. But according to Adaro, in 9M2010, the volume of rain at the Tutupan pit already averaged 238 mm per month, which was over 2.5x more than the five-year average for the third quarter.

Production in 3Q decreased to 10.22mn tons, lower than the 11.36mn tons in 1Q and 10.26mn tons in 2Q. With total 9M2010 production of 31.84mn tons, we estimate 4Q production to be around 10mn tons.

Company Analysis


January 19, 2011


43

2011 expectations We believe Adaro will be defined by four factors in 2011: 1) Rising ASP across the board, 2) a stronger operational profile, 3) a rise in production at the Wara mine, and 4) increases in strip ratio and production costs, especially at the Tutupan mine.

Rising ASP We expect Adaro’s 2011 ASP to reach upwards of US$72/ton to reflect higher thermal coal prices. The regional thermal coal benchmark price in 2010 was around US$98/ton, a 40% improvement over 2009’s poor average of US$70/ton. As we start 2011, the impact of a higher ASP will start to be realized from contracts that were signed in 2010, to be delivered in 2011. Adaro currently has 60% of 2011’s volumes signed, with 30% index-linked and 30% fixed-price, and with the majority of the remaining 40% to be signed around March and April. While the 30% fixed-price contracts may have been signed at lower ASPs because they also include carried-over volumes from 2010, the 30% index-linked and the 40%

unsigned should benefit greatly from the current rise in regional thermal coal prices.

Our global commodity team has increased its regional thermal coal price forecasts for 2011 to US$130/ton from US$105/ton, a 24% increase. However, despite the increase in our regional thermal coal price, we have also increased Adaro’s price discount vs. regional prices in order to stay conservative.

Valuation: Adaro’s stable production profile and strong management makes it one of the best long-term investments to get exposure to in the Indonesia coal space, in our view.

We valued Adaro using a DCF/residual income-based model, with a WACC of 12% (beta 0.9, risk free rate 8.3%, cost of equity 16.2%, cost of debt 6%).

Downside risks include: 1) Production could be affected by weather-related disruptions; 2) regulatory risk, which remains one of the key concerns for Indonesian coal companies.

Risk-Reward View

WARNINGDONOTEDIT_RRS4RL~ADRO.JK~

Rp2,900 (+13%)Rp 2,575

Rp1471 (-43%)

Rp3696 (+44%)

0

500

1,000

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2,500

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4,000


Rp


Bull Case Rp3,696

Adaro reaches an interim target of 80mt production by 2012. With greater production scale and faster execution of cost- control initiatives, costs could come in 5% lower than our forecasts. Achieved coal price tracks our bull case scenario coal price trend.

Base Case Rp2,900

We expect Adaro to achieve 100mt production by 2015. Its realized coal price discount vs. regional increases to around 42% in the long term vs. a long-term coal price of US$93. Meanwhile, cost increases moderate to 13% over 2010-2012 after the 20% spike in 2008.

Bear Case Rp1,471

Production falls 10%, due to slow start-up at the Wara mine. Achieved coal price tracks our bear case scenario coal price trend. We have also built in 5% higher costs vs. our base case.


Company Analysis


January 19, 2011


44

Stock Rating: Overweight Reuters: RELI.BO Bloomberg: RIL IN

Price target Rs1,252.00Up/downside to price target(%) 21Shr price, close (Jan 12, 2011) Rs1,030.6052-Week Range Rs1,187.00-840.55Sh out, dil, curr(mn) 3,270Mkt cap, curr(mn) Rs3,370,443EV, curr(mn) Rs3,776,488Avg daily trading value(mn) Rs937


ModelWare EPS(Rs) 49.64 64.20 70.97 93.88Prior ModelWare EPS(Rs) - 63.73 72.76 93.69Consensus EPS(Rs)§ 50.57 63.46 75.26 87.10Revenue, net(Rsmn) 1,924,612 2,257,448 2,605,963 2,819,127EBITDA(Rsmn) 305,808 387,913 436,635 544,790ModelWare net inc(Rsmn) 162,357 209,965 232,093 307,029P/E 21.6 16.1 14.5 11.0


Company Description Reliance Industries is India's largest private-sector company by revenues, assets, and profits. It has interests in exploration & production, refining, petrochemicals, textiles, telecom, electricity, financial services, and infrastructure. Its petrochemicals business is vertically integrated with an output of around 11mn tons. RIL ranks among the top 10 companies worldwide in most of its key downstream products. It also operates India's largest and most complex refinery with a capacity of 61mn tons.

India Oil & Gas Industry View: Attractive

January 13, 2011

Reliance Industries Changing Tides Morgan Stanley India


Vinay Jaising [email protected]

Rakesh Sethia [email protected]


Price Target Rs1,118.00 to Rs1,252.00

We have upgraded our rating on Reliance (RIL) to OW with a revised target price of Rs1,252 from Rs1,118, implying 21% upside from current levels. Our upgrade reflects three key issues:

a) RIL has underperformed the BSE-SENSEX by ~14% in the last 12 months and ~10% in the last six months, making its valuation look attractive. Compared to its regional peers, the underperformance is even more pronounced, as Asian petchem stocks moved up 71%, Asian refining stocks 32% and integrated players 23% on an absolute basis, while RIL’s stock price fell by 6%.

b) RIL’s two cyclical businesses, Refining and Petchem, are both set to see improving margins, with the worst behind us globally. For every dollar increase in GRMs, RIL’s earnings increase 8%. Similarly, for a 10% change in netback assumptions, RIL’s earnings would change by 7%.

c) We have concerns that RIL’s E&P volume misses could play out in F3Q11, while we expect RIL to show a 6-7% fall in its gas production sequentially. However, the effect of this should largely be negated, as we expect F3Q11 results could showcase improved refining and petrochemical margins. Despite lower gas volumes and a 15% lower refinery throughput due to a planned shutdown, we estimate 1.4% sequential growth in EBITDA, and 5% in net profit for the quarter. We forecast an impressive 55% YoY and 16% sequential growth in GRMs, and 18% YoY and 10% sequential growth in petrochemical EBIT.

Refining environment improving in Asia The Singapore complex margin for October-December was an impressive US$5.5/bbl, up 30% sequentially, and is currently hovering at US$ 6/bbl range. The gain in margins has been partly attributed to shutdowns of refineries, more so in Japan and Europe and reasonably strong demand from

China, as well as a less aggressive than expected ramp-up in capacity.

Reliance, with its high refining complexity of about 12x, would gain even more since it is currently processing ~70kb/d of Cairn’s Mangala crude, which may add US$50-60 cents per bbl to its GRMs. Versus a GRM of US$6.6/bbl in F2010, we expect RIL’s GRM to average US$9/bbl in F2012, implying a spread of US$3.5-4/bbl over Singapore complex.

Valuations look attractive On our F2012 estimates, RIL trades at a P/E of 14.5x and EV/EBITDA of 8.7x, roughly a 15% discount to its absolute valuation and ~10% to the market index. If we were to move one year forward to F2013 and assume that gas production were to ramp up to 80 mmscmd, it would trade at a P/E of 11x and EV/EBITDA of 6.9x, ~25% lower than the current market multiples.

The F2013 discount, in our view, implies that the market does not believe volumes will ramp up to those levels.

Company Analysis


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Our currency team is bearish on the rupee: Our global currency team expects the INR to underperform against the US$ in 2011. This reflects our view of softness in the currency’s core fundamentals: expensive valuations, neutral macro dynamics (with above-trend growth, but a large current account deficit) and an unfavorable balance of payments (BoP) situation, with India highly dependent on financial inflows to balance the ledger. However, the team believes the INR will be prone to downside risks amid rising inflation and commodity price environment. In addition, the team thinks RBI is behind the curve in its fight against inflation. Moreover, rising energy prices have had a significant impact in widening its external deficit in past cycles. Hence, we think India’s macro dynamic and BoP positions may be at further risk in 2011.

Valuation: We value RIL based on a sum-of-the-parts valuation.

1) We value the R&M business on an average F2012e EV/EBITDA of 6.7x, which is the average of its global refining peers. We value the R&M business at Rs310 per share.

2) The petrochemicals business valuation is based on an average F2012 EV/EBITDA of 8x. We value the Petrochemical business at Rs283 per share.

3) With the first oil production started and gas production begun at its KG basin fields, we use a P/CEPS target multiple-based valuation for RIL’s E&P business. We assign a

target multiple of 8.3x to our average projected cash profits of US$5.2bn (F2012-16E) for global comps, in line with the normalized average global multiples for E&P companies for F2012e. Based on this, we arrive at a fair value of US$43.5bn, or Rs600 per share, for RIL’s E&P business. This equates to an EV/boe of US$8/bbl versus global comps, which trade at an EV/boe of US$13-14/boe.

5) We have valued RIL’s investments at F2011e book value, which includes RIL’s investment in telecom business. We also value RIL’s treasury shares at ~US$6.7bn or Rs92/share. After deducting F2011e net-debt of Rs145/share, we arrive at our SOTP value of Rs1,252/share.

Downside risks include: 1) The stock’s historical correlation with the market of 0.85x – hence a market correction would impact RIL; 2) the removal of the tax holiday for the E&P business. Although RIL’s product-sharing contract entitles it to a seven-year tax holiday, the Ministry of Petroleum recently published a circular suggesting the matter is sub judice; 3) the overhang of RIL stock held by the company’s subsidiaries is currently valued at close to US$6.7bn; 4) potential delays in the execution of the company’s business plan; 5) a significant oil/gas discovery could lead to increase in reserve and thus a positive revision to our price target. Similarly, unfavorable exploration results from assets could lead to downward revision to resource estimates and hence a negative impact on our price target; 6) a sharp decline in global economic growth that would likely compress our projected petrochemical and refining margins.

Risk-Reward View: Changing Tides

WARNINGDONOTEDIT_RRS4RL~RELI.BO~

Rs.1,252.00 (+21%)Rs. 1,030.60

Rs.775 (-25%)

Rs.1944 (+89%)

0

500

1,000

1,500

2,000

2,500


Rs.


Bull Case Rs1,944

1) Refining margins US$1.00/bbl higher than in the base case, reflecting higher petroleum product demand and delays in capacity expansion; 2) 5% higher petchem prices due to stronger-than- expected petrochemical cycle; 3) E&P business 9bn boe reserves valued at US$9/boe, a 30% discount to average global comps; and 4) investment valued at book value.

Base Case Rs1,252

1) Refining margins of US$9/bbl for F2012; 2) petrochemical F2012 netback of US$478/tonne; and 3) E&P business valued at US$8/boe.

Bear Case Rs775

1) Refining margins US$1.00/bbl lower than in the base case, reflecting lower petroleum product demand; 2) 5% lower petchem netbacks as new capacities come on stream and supply exceeds demand; and 3) lower gas production as the company has problems ramping up production.


Company Analysis


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46

Stock Rating: Overweight Reuters: WRT.AX Bloomberg: WRT AU

Price target A$3.25Up/downside to price target(%) 21Shr price, close (Jan 13, 2011) A$2.6852-Week Range A$2.69-2.49Sh out, dil, curr(mn) 3,054Mkt cap, curr(mn) A$8,185EV, basic (12/11e)(mn) A$10,832Average daily trading value (mn) US$83.2

Fiscal Year ending 12/10e 12/11e 12/12e 12/13e

ModelWare EPS(A$) 0.005 0.183 0.189 0.193ModelWare net inc(A$mn) 17 559 578 589P/E 475.2 14.7 14.2 13.9P/BV 0.9 0.9 0.9 0.9EV/EBITDA 498.1 15.1 14.3 13.9Div per shr(A$) 0.005 0.165 0.170 0.174Div yld(%) 0.2 6.1 6.4 6.5

e = Morgan Stanley Research estimates

Company Description Westfield Retail Trust (WRT) is a REIT focused exclusively on retail assets in Australia and New Zealand. The company owns interests in 54 major shopping centres, valued at around A$12bn. The centres are jointly owned with Westfield Group (WDC), which also manages them.

Australia Property Industry View: In-Line

January 17, 2011

Westfield Retail Trust Top-quality Malls at a Big Discount: Overweight Morgan Stanley Australia

Limited+

Lou Pirenc [email protected]

Todd McFarlane [email protected]

John Meredith [email protected]

We have initiated coverage of Westfield Retail Trust (WRT) with an OW rating. Westfield Group (WDC) established and listed the Westfield Retail Trust (WRT) in December 2010, creating a pure Australasian portfolio of high-quality retail assets. At the current share price, WRT is pricing in a 9% drop in portfolio valuations (a 70bps expansion in the capitalisation rate, no rental growth) and no credit for future upside from its A$1.5bn development pipeline. Although we appreciate that WRT is a defensive play in a strong equity market, we believe that, at a 13% discount to NTA and a 6.8% EPS yield, the risk-reward looks attractive for such a high-quality portfolio with significant development potential, 4-5% forecast EPS growth and one of the most efficient cost structures in the industry.

Investor concerns appear overdone: The share price implies that the market is concerned about the Australian consumer sector, the potential for weak occupancy and rents and a lack of development activity. We believe confirmation of steady (~3-4%) non-operating income (NOI) growth, rising net tangible assets (NTA) and a number of development starts in 2011 (Fountain Gate expected in 1Q) will make the market more comfortable with the story and start the stock’s re-rating.

Investment issue I – Australian consumer: We believe concerns about a slowdown in retail demand are overdone, as Morgan Stanley’s macro outlook still supports the consumer sector and our estimate of ~3% annual growth in NOI. More importantly, WRT should be insulated from short-term weakness through its high-quality portfolio, full occupancy and long-term rental contracts. Occupancy costs are unlikely to go up much from here, but for them to decline, retailer margins would have to come down substantially, which is unlikely medium term.

Investment issue II – (re)development pipeline: We believe a steady retail environment and WRT’s improved balance

sheet will continue to ensure a good flow of developments and rising yield spreads. We base our EPS and NAV forecasts on just a 7.3% initial yield (vs 8.9% at WDC since 2004), suggesting further upside to earnings and valuation as developments are announced in 2011. Cycle- average development activity and returns could add A$0.33 (10%) to our NAV estimate.

Upside of 21% to our A$3.25 price target: Our NAV-based valuation is derived from our 2012 NOI forecasts, no change in cap rates (6.25%), conservative development assumptions and the net present value (NPV) of corporate overheads.

Defensive but attractive risk-reward: Although we expect a steady increase in NAV in line with rental growth and development activity, WRT is one of the least cyclical stocks among A-REITs, as asset values have remained so resilient. However, at current valuations, we believe the upside to NAV is among the highest in the sector, which seems at odds with WRT’s low risk. With the market already pricing in a bearish outlook for the trust’s asset values, we see just 6.7%

Company Analysis


January 19, 2011


47

downside in our A$2.50 bear-case valuation, compared with 60% upside if valuations and activity return to previous peaks.

Upside potential to 4-5% CAGR in EPS: Despite the defensive nature of the company, we are comfortable with our forecast of 4-5% annual earnings gains driven by just 3% rental growth. We believe the risk to earnings forecasts is firmly on the upside, especially should our development assumption prove too conservative.

Valuation: Our main valuation method for the A-REIT sector is a detailed NAV-based-sum-of-the parts. However, with the simplicity, good yield and expected safe growth of WRT being attractive to income funds, we believe cash flow-based methods (two-stage dividend discount model and NPV of earnings) are relevant for WRT as well.

Our sum of the parts model uses a blended cost of equity of 8.8%. We apply a beta of 0.8x for the trust income to reflect the stable growth and low risk of the asset class. WRT’s low beta, the risk-free rate of 5.2% and our equity risk premium of 4.5% produce a cost of equity of 8.8%. The current cost of debt, the low tax rate and low gearing suggest a WACC of 8.5%.

Two-stage Dividend Discount Model – A$3.09: Our two-stage dividend discount model uses the implicit DPS growth forecasts for FY11e-17e (CAGR of 4.1%) for the first stage. Beyond that, we assume a terminal growth rate of 3.0%. We discount this back using our cost of equity of 8.8%.

NPV valuation – A$3.43: For our NPV valuation, we have taken our NPAT forecast for the next six years and discounted this back using the cost of equity of 8.8%. We use a terminal growth rate of 3.0%. The implied valuation of A$3.43 produces a FY12e NPAT multiple of 18.2x.

Downside risks include: 1) Deterioration in the global and Australian economy, slowing the recovery in demand and investment fundamentals; 2) supply growth in major retail markets picking up with increased speculative supply putting pressure on vacancy levels and rental growth; 3) signs of retailer weakness, with a drop in retail spending putting pressure on margins and forcing occupancy costs to come down; 4) pick-up in development activity and returns falling short of expectations; 5) a deterioration in credit markets, increasing interest expenses and making debt refinancing more difficult and expensive; 6) pick-up in distressed asset sales, pushing up cap rates more quickly and by a greater amount than forecast; 7) poor execution and timing on future acquisitions; 8) further credit-driven distress in the sector, dampening sentiment and valuations.

Risk-Reward View: Price Weakness, Attractive Risk-Reward

WARNINGDONOTEDIT_RRS4RL~WRT.AX~

A$3.25 (+21%)

A$ 2.68

A$2.50 (-7%)

A$4.30 (+60%)

0.00

0.50

1.00

1.50

2.00

2.50

3.00

3.50

4.00

4.50

5.00

Dec-10 Jun-11 Dec-11

A$


Bull Case A$4.30

Back to bull-market levels: Domestic economic growth continues to boost consumer spending and retail expansion. Cap rates compress 25bps from September 2010 valuations to 6.0%. Development completions increase to ~A$400mn per annum, while a pick-up in M&A activity fuels superior growth potential.

Base Case A$3.25

Maintained recovery: Increasing transactions stabilize cap rates, while development completions plateau at A$250mn pa from 2013 onwards. No M&A opportunities emerge.

Bear Case A$2.50

Consumer weakness: Continued global macro-economic headwinds force second wave of adverse credit conditions. Occupancy within centres fall, while cap rates expand by 25bps to 7.0%. Development activity remains minimal.



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Morgan Stanley ModelWare is a proprietary analytic framework that helps clients uncover value, adjusting for distortions and ambiguities created by local accounting regulations. For example, ModelWare EPS adjusts for one-time events, capitalizes operating leases (where their use is significant), and converts inventory from LIFO costing to a FIFO basis. ModelWare also emphasizes the separation of operating performance of a company from its financing for a more complete view of how a company generates earnings.

Options Disclaimer Options are not for everyone. Before engaging in the purchasing or writing of options, investors should understand the nature and extent of their rights and obligations and be aware of the risks involved, including the risks pertaining to the business and financial condition of the issuer and the underlying stock. A secondary market may not exist for these securities. For customers of Morgan Stanley & Co. Incorporated who are purchasing or writing exchange-traded options, your attention is called to the publication “Characteristics and Risks of Standardized Options;” in particular, the statement entitled “Risks of Option Writers.” That publication, which you should have read and understood prior to investing in options, can be viewed on the Web at the following address: http://www.optionsclearing.com/publications/risks/riskchap1.jsp. Spreading may also entail substantial commissions, because it involves at least twice the number of contracts as a long or short position and because spreads are almost invariably closed out prior to expiration. Potential investors should be advised that the tax treatment applicable to spread transactions should be carefully reviewed prior to entering into any transaction. Also, it should be pointed out that while the investor who engages in spread transactions may be reducing risk, he is also reducing his profit potential. The risk/ reward ratio, hence, is an important consideration.

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Examples within are indicative only, please call your local Morgan Stanley Sales representative for current levels.

By selling an option, the seller receives a premium from the option purchaser, and the purchase receives the right to exercise the option at the strike price. If the option purchaser elects to exercise the option, the option seller is obligated to deliver/purchase the underlying shares to/from the option buyer at the strike price. If the option seller does not own the underlying security while maintaining the short option position (naked), the option seller is exposed to unlimited market risk.

Spreading may entail substantial commissions, because it involves at least twice the number of contracts as a long or short position and because spreads are almost invariably closed out prior to expiration. Potential investors should carefully review tax treatment applicable to spread transactions prior to entering into any transactions.

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Investors in long option strategies are at risk of losing all of their option premiums. Investors in short option strategies are at risk of unlimited losses.

There are special risks associated with uncovered option writing which expose the investor to potentially significant loss. Therefore, this type of strategy may not be suitable for all customers approved for options transactions. The potential loss of uncovered call writing is unlimited. The writer of an uncovered call is in an extremely risky position, and may incur large losses if the value of the underlying instrument increases above the exercise price.

As with writing uncovered calls, the risk of writing uncovered put options is substantial. The writer of an uncovered put option bears a risk of loss if the value of the underlying instrument declines below the exercise price. Such loss could be substantial if there is a significant decline in the value of the underlying instrument.

Uncovered option writing is thus suitable only for the knowledgeable investor who understands the risks, has the financial capacity and willingness to incur potentially substantial losses, and has sufficient liquid assets to meet applicable margin requirements. In this regard, if the value of the underlying instrument moves against an uncovered writer’s options position, the investor’s broker may request significant additional margin payments. If an investor does not make such margin payments, the broker may liquidate stock or options positions in the investor’s account, with little or no prior notice in accordance with the investor’s margin agreement.

For combination writing, where the investor writes both a put and a call on the same underlying instrument, the potential risk is unlimited.

If a secondary market in options were to become unavailable, investors could not engage in closing transactions, and an option writer would remain obligated until expiration or assignment.

The writer of an American-style option is subject to being assigned an exercise at any time after he has written the option until the option expires. By contrast, the writer of a European-style option is subject to exercise assignment only during the exercise period.


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Disclosure Section The information and opinions in Morgan Stanley Research were prepared or are disseminated by Morgan Stanley Asia Limited (which accepts the responsibility for its contents) and/or Morgan Stanley Asia (Singapore) Pte. (Registration number 199206298Z, regulated by the Monetary Authority of Singapore, which accepts the responsibility for its contents), and/or Morgan Stanley Asia (Singapore) Securities Pte Ltd (Registration number 200008434H, regulated by the Monetary Authority of Singapore, which accepts the responsibility for its contents), and/or Morgan Stanley Taiwan Limited and/or Morgan Stanley & Co International plc, Seoul Branch, and/or Morgan Stanley Australia Limited (A.B.N. 67 003 734 576, holder of Australian financial services license No. 233742, which accepts responsibility for its contents), and/or Morgan Stanley Smith Barney Australia Pty Ltd (A.B.N. 19 009 145 555, holder of Australian financial services license No. 240813, which accepts responsibility for its contents), and/or Morgan Stanley India Company Private Limited and their affiliates (collectively, "Morgan Stanley"). For important disclosures, stock price charts and equity rating histories regarding companies that are the subject of this report, please see the Morgan Stanley Research Disclosure Website at www.morganstanley.com/researchdisclosures, or contact your investment representative or Morgan Stanley Research at 1585 Broadway, (Attention: Research Management), New York, NY, 10036 USA.

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Important US Regulatory Disclosures on Subject Companies The following analyst or strategist (or a household member) owns securities (or related derivatives) in a company that he or she covers or recommends in Morgan Stanley Research: Vinay Jaising - Reliance Communications Ltd. (common or preferred stock), Reliance Industries (common or preferred stock); Ritish Rangwalla - Reliance Industries (common or preferred stock); Pratima Swaminathan - Bharti Airtel Limited (common or preferred stock), Idea Cellular Ltd. (common or preferred stock); Conrad Werner - SJM Holdings (common or preferred stock). Morgan Stanley policy prohibits research analysts, strategists and research associates from investing in securities in their sub industry as defined by the Global Industry Classification Standard ("GICS," which was developed by and is the exclusive property of MSCI and S&P). Analysts may nevertheless own such securities to the extent acquired under a prior policy or in a merger, fund distribution or other involuntary acquisition. As of December 31, 2010, Morgan Stanley beneficially owned 1% or more of a class of common equity securities of the following companies covered in Morgan Stanley Research: Astra International, AU Optronics, BlueScope Steel, BYD Company Limited, Chimei Innolux, Chinatrust Financial Holding, E.Sun Financial, Foster's Group, Golden Agri-Resources, Hindalco Industries, Hongkong Land, Hutchison Whampoa, Kinsus Interconnect Tech., KT Corp, PT Bank Central Asia, PT Indosat, Reliance Communications Ltd., Riversdale Mining Limited, Shinsegae, SHK Properties, Taiwan Fertilizer Co Ltd, Trina Solar, Western Areas NL, Westfield Retail Trust, Wharf Holdings, Yuanta Financial Holding Company. Within the last 12 months, Morgan Stanley managed or co-managed a public offering (or 144A offering) of securities of Agricultural Bank of China Limited, CITIC Pacific, Coal India Limited, Ivanhoe Australia, NMDC Ltd, Petronas Chemicals Group Berhad, POSCO, Westfield Retail Trust. Within the last 12 months, Morgan Stanley has received compensation for investment banking services from Agricultural Bank of China Limited, Alumina Limited, BHP Billiton Limited, Chinatrust Financial Holding, Coal India Limited, Foster's Group, G-Resources, Ivanhoe Australia, Mega Holdings, NMDC Ltd, Petronas Chemicals Group Berhad, POSCO, PT Bank Danamon Indonesia, PT Indosat, Rio Tinto Ltd, Taishin Financial Holdings. In the next 3 months, Morgan Stanley expects to receive or intends to seek compensation for investment banking services from Agricultural Bank of China Limited, Alumina Limited, Aluminum Corp. of China Ltd., Astra International, BHP Billiton Limited, Chang Hwa Bank, Cheung Kong Holdings, Chimei Innolux, Chinatrust Financial Holding, CITIC Pacific, Coal India Limited, Equinox Minerals Limited, Far Eastone, First Financial, Foster's Group, G-Resources, Hindalco Industries, Hutchison Whampoa, Hyundai Department Store, Idea Cellular Ltd., Infosys Technologies, Ivanhoe Australia, Jiangxi Copper, Keppel Corporation, Larsen & Toubro, Mega Holdings, Newcrest Mining, NMDC Ltd, OneSteel, OnMobile Global Ltd., OZ Minerals, Petronas Chemicals Group Berhad, POSCO, PT Adaro Energy Tbk., PT Bank Central Asia, PT Bank Danamon Indonesia, PT Indosat, Reliance Industries, Rio Tinto Ltd, SembCorp Industries, SHK Properties, Sime Darby, SinoPac Holdings, Sterlite Industries (India) Limited, Swire Pacific, Taishin Financial Holdings, Telekom Malaysia, Telstra Corporation, Trina Solar, Whitehaven Coal Limited, Yuanta Financial Holding Company. Within the last 12 months, Morgan Stanley has received compensation for products and services other than investment banking services from Agricultural Bank of China Limited, Chang Hwa Bank, Chinatrust Financial Holding, E.Sun Financial, First Financial, G-Resources, Hindalco Industries, Jiangxi Copper, Keppel Corporation, PT Adaro Energy Tbk., PT Bank Central Asia, PT Bank Danamon Indonesia, Reliance Industries, Rio Tinto Ltd, SembCorp Industries, SHK Properties, SinoPac Holdings, Taishin Financial Holdings, Whitehaven Coal Limited, Yuanta Financial Holding Company. Within the last 12 months, Morgan Stanley has provided or is providing investment banking services to, or has an investment banking client relationship with, the following company: Agricultural Bank of China Limited, Alumina Limited, Aluminum Corp. of China Ltd., Astra International, BHP Billiton Limited, Chang Hwa Bank, Cheung Kong Holdings, Chimei Innolux, Chinatrust Financial Holding, CITIC Pacific, Coal India Limited, Equinox Minerals Limited, Far Eastone, First Financial, Foster's Group, G-Resources, Hindalco Industries, Hutchison Whampoa, Hyundai Department Store, Idea Cellular Ltd., Infosys Technologies, Ivanhoe Australia, Jiangxi Copper, Keppel Corporation, Larsen & Toubro, Mega Holdings, Newcrest Mining, NMDC Ltd, OneSteel, OnMobile Global Ltd., OZ Minerals, Petronas Chemicals Group Berhad, POSCO, PT Adaro Energy Tbk., PT Bank Central Asia, PT Bank Danamon Indonesia, PT Indosat, Reliance Industries, Rio Tinto Ltd, SembCorp Industries, SHK Properties, Sime Darby, SinoPac Holdings, Sterlite Industries (India) Limited, Swire Pacific, Taishin Financial Holdings, Telekom Malaysia, Telstra Corporation, Trina Solar, Whitehaven Coal Limited, Yuanta Financial Holding Company. Within the last 12 months, Morgan Stanley has either provided or is providing non-investment banking, securities-related services to and/or in the past has entered into an agreement to provide services or has a client relationship with the following company: Agricultural Bank of China Limited, Alumina Limited, AU Optronics, BHP Billiton Limited, Chang Hwa Bank, Chimei Innolux, China Unicom, Chinatrust Financial Holding, Coretronic, E.Sun Financial, First Financial, Fortescue Metals, Fosun International, G-Resources, Hindalco Industries, Hutchison Whampoa, Jardine Matheson Holdings Limited, Jiangxi Copper, Keppel Corporation, Mega Holdings, MTR Corp., Newcrest Mining, OneSteel, OZ Minerals, POSCO, PT Adaro Energy Tbk., PT Bank Central Asia, PT Bank Danamon Indonesia, Reliance Industries, Rio Tinto Ltd, SembCorp Industries, SHK Properties, SinoPac Holdings, Sterlite Industries (India) Limited, Swire Pacific, Taishin Financial Holdings, Telekom Malaysia, Telstra Corporation, Whitehaven Coal Limited, Yuanta Financial Holding Company. Morgan Stanley & Co. Incorporated makes a market in the securities of Hopewell Holdings, KT Corp, Trina Solar. The equity research analysts or strategists principally responsible for the preparation of Morgan Stanley Research have received compensation based upon various factors, including quality of research, investor client feedback, stock picking, competitive factors, firm revenues and overall investment banking revenues. Morgan Stanley and its affiliates do business that relates to companies/instruments covered in Morgan Stanley Research, including market making, providing liquidity and specialized trading, risk arbitrage and other proprietary trading, fund management, commercial banking, extension of credit, investment services and investment banking. Morgan Stanley sells to and buys from customers the securities/instruments of companies covered in


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Morgan Stanley Research on a principal basis. Morgan Stanley may have a position in the debt of the Company or instruments discussed in this report. Certain disclosures listed above are also for compliance with applicable regulations in non-US jurisdictions.

STOCK RATINGS Morgan Stanley uses a relative rating system using terms such as Overweight, Equal-weight, Not-Rated or Underweight (see definitions below). Morgan Stanley does not assign ratings of Buy, Hold or Sell to the stocks we cover. Overweight, Equal-weight, Not-Rated and Underweight are not the equivalent of buy, hold and sell. Investors should carefully read the definitions of all ratings used in Morgan Stanley Research. In addition, since Morgan Stanley Research contains more complete information concerning the analyst's views, investors should carefully read Morgan Stanley Research, in its entirety, and not infer the contents from the rating alone. In any case, ratings (or research) should not be used or relied upon as investment advice. An investor's decision to buy or sell a stock should depend on individual circumstances (such as the investor's existing holdings) and other considerations.

Global Stock Ratings Distribution (as of December 31, 2010)

For disclosure purposes only (in accordance with NASD and NYSE requirements), we include the category headings of Buy, Hold, and Sell alongside our ratings of Overweight, Equal-weight, Not-Rated and Underweight. Morgan Stanley does not assign ratings of Buy, Hold or Sell to the stocks we cover. Overweight, Equal-weight, Not-Rated and Underweight are not the equivalent of buy, hold, and sell but represent recommended relative weightings (see definitions below). To satisfy regulatory requirements, we correspond Overweight, our most positive stock rating, with a buy recommendation; we correspond Equal-weight and Not-Rated to hold and Underweight to sell recommendations, respectively.

Coverage Universe Investment Banking Clients (IBC)

Stock Rating Category Count% of Total Count

% of Total IBC

% of Rating Category

Overweight/Buy 1145 40% 437 44% 38%

Equal-weight/Hold 1192 42% 422 42% 35%

Not-Rated/Hold 119 4% 25 3% 21%

Underweight/Sell 382 13% 109 11% 29%

Total 2,838 993 Data include common stock and ADRs currently assigned ratings. An investor's decision to buy or sell a stock should depend on individual circumstances (such as the investor's existing holdings) and other considerations. Investment Banking Clients are companies from whom Morgan Stanley received investment banking compensation in the last 12 months.

Analyst Stock Ratings Overweight (O or Over) - The stock's total return is expected to exceed the total return of the relevant country MSCI Index, on a risk-adjusted basis over the next 12-18 months. Equal-weight (E or Equal) - The stock's total return is expected to be in line with the total return of the relevant country MSCI Index, on a risk-adjusted basis over the next 12-18 months. Not-Rated (NR) - Currently the analyst does not have adequate conviction about the stock's total return relative to the relevant country MSCI Index on a risk-adjusted basis, over the next 12-18 months. Underweight (U or Under) - The stock's total return is expected to be below the total return of the relevant country MSCI Index, on a risk-adjusted basis, over the next 12-18 months. Unless otherwise specified, the time frame for price targets included in Morgan Stanley Research is 12 to 18 months. For Australian Property stocks, each stock's total return is benchmarked against the average total return of the analyst's industry (or industry team's) coverage universe, instead of the relevant country MSCI Index, on a risk-adjusted basis, over the next 12-18 months.

Analyst Industry Views Attractive (A): The analyst expects the performance of his or her industry coverage universe over the next 12-18 months to be attractive vs. the relevant broad market benchmark, as indicated below. In-Line (I): The analyst expects the performance of his or her industry coverage universe over the next 12-18 months to be in line with the relevant broad market benchmark, as indicated below. Cautious (C): The analyst views the performance of his or her industry coverage universe over the next 12-18 months with caution vs. the relevant broad market benchmark, as indicated below. Benchmarks for each region are as follows: North America - S&P 500; Latin America - relevant MSCI country index or MSCI Latin America Index; Europe - MSCI Europe; Japan - TOPIX; Asia - relevant MSCI country index.

Important Disclosures for Morgan Stanley Smith Barney LLC Customers Citi Investment Research & Analysis (CIRA) research reports may be available about the companies or topics that are the subject of Morgan Stanley Research. Ask your Financial Advisor or use Research Center to view any available CIRA research reports in addition to Morgan Stanley research reports. Important disclosures regarding the relationship between the companies that are the subject of Morgan Stanley Research and Morgan Stanley Smith Barney LLC, Morgan Stanley and Citigroup Global Markets Inc. or any of their affiliates, are available on the Morgan Stanley Smith Barney disclosure website at www.morganstanleysmithbarney.com/researchdisclosures. For Morgan Stanley and Citigroup Global Markets, Inc. specific disclosures, you may refer to www.morganstanley.com/researchdisclosures and https://www.citigroupgeo.com/geopublic/Disclosures/index_a.html. Each Morgan Stanley Equity Research report is reviewed and approved on behalf of Morgan Stanley Smith Barney LLC. This review and approval is conducted by the same person who reviews the Equity Research report on behalf of Morgan Stanley. This could create a conflict of interest.

Other Important Disclosures Morgan Stanley & Co. International PLC and its affiliates have a significant financial interest in the debt securities of Agricultural Bank of China Limited, Alumina Limited, AU Optronics, BHP Billiton Limited, Cheung Kong Holdings, Chinatrust Financial Holding, CITIC Pacific, Foster's Group, Hutchison Whampoa, Jardine Strategic Holdings Limited, KT Corp, Larsen & Toubro, MTR Corp., POSCO, PT Indosat, Reliance Communications Ltd., Reliance Industries, Rio Tinto Ltd, SHK Properties, Sterlite Industries (India) Limited, Swire Pacific, Telekom Malaysia, Telstra Corporation, Trina Solar, Western Areas NL, Wharf Holdings. Morgan Stanley produces an equity research product called a "Tactical Idea." Views contained in a "Tactical Idea" on a particular stock may be contrary to the recommendations or views expressed in research on the same stock. This may be the result of differing time horizons, methodologies, market events, or other factors. For all research available on a particular stock, please contact your sales representative or go to Client Link at www.morganstanley.com.


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Additional information on recommended securities/instruments is available on request. H011911APIP


January 19, 2011


52

North America Director of Research Stephen Penwell 1+212-761-1466

Associate Director of Research Sharon Pearson 1+212-761-3159 Michael Eastwood 1+212-761-8015 Director of Associates Michelle Teitsch 1+212 761-4192 Management Aaron Finnerty 1+212 761-0064

MACRO

Accounting Gregory Jonas 1+212 761-7345 Megan Lynch 1+212 761-3976 John Mark Warren 1+212 761-0430 Economics Richard Berner 1+212-761-3398 David Cho 1+212 761-0908 David Greenlaw 1+212-761-7157 Ted Wieseman 1+212-761-3407 U.S. Strategy Adam Parker 1+212-761-1755 Brian Hayes 1+212-761-7991 Antonio Ortega 1+212-761-4783 Naseh Kausar 1+212-761-8059 Phillip Neuhart 1+212-761-8584 Commodities Hussein Allidina 1+212-761-4150 Chris Corda 1+212-761-6005 Tai Liu 1+212-761-3585 Bennett Meier 1+212-761-4967

Sectors

CONSUMER DISCRETIONARY/RETAIL

RETAIL Autos & Auto-Related Adam Jonas 1+212-761-1726 Ravi Shanker 1+212-761-6350 Yejay Ying 1+212-761-7096 Branded Apparel Chi Lee 1+212-761-0214 Jennifer Au-Yeung 1+212-761-8290 Haeyoung Koo 1+212-761-8576 Department Stores Michelle Clark 1+212-761-4018 Christopher Cuomo 1+212-761-3265 Sharyn Uy 1+212-761-5156 Andrew Ruud 1+212-761-5978 Food & Drug Mark Wiltamuth 1+212-761-8589 Joseph Parkhill 1+212-761-0766 Justin Van Vleck 1+212-761-0332 Stephen Shin 1+212-761-1863 Gaming Mark Strawn 1+212-761-4990 Amir Markowitz 1+212-761-5949 Daniel Fuss 1+212-761-4669 Restaurants John S. Glass 1+617-856-8752 Jon M. Tower 1+617-856-8750 David Dorfman 1+617-856-8751 Softlines Kimberly Greenberger 1+212-761-6284 Laura Ross 1+212-761-6117 Nicholas Smith 1+212-761-7276

CONSUMER STAPLES

Food & Food Service Vincent Andrews 1+212-761-3293 Jaclyn Inglesby 1+212 761-3667 Greg Van Winkle 1+212 761-4968 Tobacco David J. Adelman 1+212-761-6382 Matthew Grainger 1+212-761-8023

Agricultural Products Vincent Andrews 1+212-761-3293 Megan Davis 1+212-761-0031 Beverages/HPC Dara Mohsenian 1+212-761-6575 Ruma Mukerji 1+212-761-6754 Kevin Grundy 1+212-761-3645 Scott Shapiro 1+212-761-4907 Alison Lin 1+212-761-7250

ENERGY & UTILITIES

Clean Tech Joshua Paradise 1+212-761-4014 Smittipon Srethapramote 1+212-761-3914 Timothy Radcliff 1+212-761-4139 Exploration & Production Stephen Richardson 1+212-761-3741 Stuart Young 1+212-761-8194 Brian Lasky 1+212-761-7249 Integrated Oil Evan Calio 1+212-761-6472 Ryan Todd 1+212-761-3023 Ben Hur 1+212-761-7827 Marko Lazarevic 1+212-761-3692 MLPs Stephen J. Maresca 1+212-761-8343 Dale Santiago 1+212-761-4896 Robert Kad 1+212-761-6385 Spencer McIntosh 1+212-761-4573 Oil Services & Equipment Ole Slorer 1+212-761-6198 Paulo Loureiro 1+212-761-6875 Fotis Giannakoulis 1+212-761-3026 Igor Levi 1+212-761-3232 Alfred Castaneda 1+212-761-6266 Benjamin Swomley 1+212-761-4248

Utilities Greg Gordon 1+212 761-7201 Jonathan Cohen 1+212-761-6851 Dmitri Pchelintsev 1+212 761-7523 William Appicelli 1+212-761-8518 Bernard McTernan 1+212-761-4786 Rudy Tolentino 1+713-512-4483

FINANCIALS

Banks/Large/Mid Cap Banks Betsy Graseck, CFA 1+212-761-8473 Matthew Kelley 1+212-761-8201 Justin Kwong 1+212-761-6983 Peter Newman 1+212-761-6412 Stephen Chang 1+212-761-3640 Michael Cyprys 1+212-761-7619 Ken Zerbe 1+212-761-7417 Joshua Wheeler 1+212-761-7567 Yoana Koleva 1+212-761-0474 Banks/Canadian Cheryl Pate 1+212 761-3324 Timothy Skiendzielewski 1+212-761-0930 Insurance/Life & Annuity Nigel Dally 1+212-761-4132 Hayley Busell 1+212-761-6271 Matthew Lipton 1+212 761-6980 Insurance/Property & Casualty Gregory W. Locraft Jr. 1+212-761-0040 Kai Pan 1+212-761-8711 Scott Thomas 1+212-761-6586 REITs Strategy Paul Morgan 1+415-576-2627 Ryan Meliker 1+212-761-7079 Chris Caton 1+415-576-2637 Samir Khanal 1+415-576-2696 Swaroop Yalla 1+415-576-2361

HEALTHCARE

Biotechnology David Friedman 1+212 761-4217 Jeremy Joseph 1+212 761-6209 Sara Slikfa 1+212 761-3920 Healthcare Services & Distribution Ricky Goldwasser 1+212-761-4097 Donald Hooker 1+212-761-6837 Andrew Schenker 1+212-761-6857 Claire Diesen 1+212-761-1736 Hosp. Supplies & Medical Tech David Lewis 1+415-576-2324 Steve Beuchaw 1+212-761-6672 William Carlile 1+415-576-2690 Jonathan Demchick 1+212-761-4847 James Francescone 1+212-761-3222 Marshall Urist 1+212-761-8055 Neha Sahni 1+212-761-0259 Shawn Woodhull 1+212-761-7072 Managed Care Doug Simpson 1+212-761-7323 Melissa McGinnis 1+212-761-8535 Colin Weiner 1+212 761-6184 Aaron Gorin 1+212 761-6519 Pharmaceuticals David Risinger 1+212-761-6494 Thomas Chiu 1+212-761-3688 Dana Yi 1+212-761-8713 Christopher Caponetti 1+212-761-6235

INDUSTRIALS

Aerospace & Defense Heidi Wood 1+212-761-4407 Kevin Boone 1+212-761-4130 Michael A. Brown 1+212-761-3354 Business & IT Services Vance Edelson 1+212-761-0078 Suzanne Stein 1+212-761-0011 Vikram Malhotra 1+212-761-7064 Peter Park 1+212 761-3555 Toni Kaplan 1+212-761-3620 Thomas Allen 1+212-761-3356

Industrial Conglomerates Scott Davis, CFA 1+212-761-7670 Michael Stein 1+212-761- 4717 Matt Gugino 1+212-761-7144 John Chappell 1+212-761-6172

Machinery Robert Wertheimer 1+212-761-6334 Joseph O’Dea 1+212-761-0271 Alexander Vecchio 1+212-761-6233

MATERIALS

Chemicals/Forest Products Paul Mann 1+212-761-4865 Wesley Brooks 1+212-761-8285 Charles Dan 1+212-761-4793

Nonferrous Metals & Mining, Coal Mark Liinamaa 1+212-761-3537

Paretosh Misra 1+212-761-3590 Wes Sconce 1+212-761-6004 Steel Mark Liinamaa 1+212-761-3537

Evan Kurtz 1+212-761-7583

MEDIA

Cable & Satellite Benjamin Swinburne 1+212-761-7527 David Gober 1+212-761-6616 Ryan Fiftal 1+212-761-3005 Cynthia Rupeka 1+212-761-7151 Entertainment & Broadcasting Benjamin Swinburne 1+212-761-7527 Kristi Bonner 1+212-761-7226 Micah Nance 1+212-761-7688

TECHNOLOGY

Communications Equipment Ehud Gelblum 1+212-761-8564 Kimberly Watkins 1+415-576-2060 Michael Kim 1+212-761-3247 Enterprise Software Adam Holt 1+415 576-2320 Jennifer A. Swanson 1+212-761-3665 Keith Weiss 1+212-761-4149 Kelvin Wu 1+212-761-3501 Melissa Gorham 1+212-761-3607 Jon Parker 1+212-761-4223 Enterprise Systems & PC Hardware Kathryn Huberty 1+212-761-6249 Scott Schmitz 1+212-761-0227 Jerry Liu 1+212-761-3735 Mathew Schneider 1+212-761-3483 Internet & PC Application Software Scott Devitt 1+212-761-3365 Collis Boyce 1+212-761-6578 Colter J. Van Domelen 1+212-761-7678 Joseph Okleberry 1+212-761-8094 Payment/Processing Technology Adam Frisch 1+212-761-0790 Glenn Fodor 1+212-761-0071 Nathan Rozof 1+212-761-4682 Steve Fordham 1+212-761-6349 Semiconductors/Capital Equipment Mark Lipacis 1+415-576-2190 Sanjay Devgan 1+415-576-2382 Sundeep Bajikar 1+415-576-2388 Nihal Godambe 1+415-576-2195 Jon Lee 1+415-576-2175 Zachary Arrick 1+415 576-2614 Atif Malik 1+415-576-2607 Michael Chu 1+415 576-2359

TELECOM

Wireline & Wireless Telecom Services Simon Flannery 1+212-761-6432 Daniel Gaviria 1+212-761-3312 Edward Katz 1+212-761-3244 Philip Nanney 1+212-761-3270

TRANSPORTATION

Airlines & Freight Transportation Bill Greene 1+212-761-8017 Adam Longson 1+212-761-4061 John Godyn 1+212-761-6605 Edward Gilliss 1+212-761-7748 Elizabeth Thys 1+212-761-8002


January 19, 2011


53

Asia/Pacific Head of Pan-Asian Research Neil Perry +81 3 5424 5305 Deputy Head of Pan-Asian Research Marcus Walsh +852 2848-5912 Associate Director of Greater China Research Dickson Ho +852 2848-5020 Associate Director of ASEAN/India Research Ridham Desai +91 22 6118-2222 Associate Director of South Korea Research Shawn Kim +82 2 399-4940 Associate Director of Australia Research and Distribution Will McKenzie +61 2 9770 1161 MACRO Strategy Asia/Pacific ex. Japan / GEMs Jonathan Garner +852 2848-7288 Pankaj Mataney +852 2239-7830 Pauline Yeung +852 2848-6853 ASEAN Hozefa Topiwalla +65 6834-6439 Trong Tri Tran +65 6834-6317 Australia Toby Walker +61 2 9770-1589 Antony Conte +61 2 9770-1544 China / Hong Kong Jerry Lou +852 2848-6511 Corey Ng +852 2848-5523 Allen Gui +86 21 6279-7309 James Cao +86 10 8356 3948 India Ridham Desai +91 22 6118-2222 Amruta Pabalkar +91 22 6118-2225 Utkarsh Khandelwal +91 22 6118-2226 S. Korea Shawn Kim +82 2 399-4940 HyunTaek Lee +82 2 399-9854 Taiwan Frank Wang +886 2 2730-2869 Angel Lin +886 2 2730-2995 Economics Asia/Pacific Chetan Ahya +65 6834-6738 Derrick Kam +65 6834 6745 ASEAN Chetan Ahya +65 6834-3738 Deyi Tan +65 6834-6703 Shweta Singh +65 6834-6739 Australia Gerard Minack +61 2 9770-1529 China / Hong Kong Qing Wang +852 2848-5220 Steven Zhang +86 21 2232-0029 Denise Yam +852 2848-5301 Ernest Ho +852 2239-7818 India Chetan Ahya +65 6834-6738 Tanvee Gupta +91 22 6118-2245 S. Korea / Taiwan Sharon Lam +852 2848-8927 Jason Liu +852 2848-6882 Commodities Peter Richardson +61 3 9256-8943 Joel Crane +61 3 9256-8961

CONSUMER DISCRETIONARY Automobiles China Kate Zhu +852 2848-6843 Kevin Luo +852 2239-1527 Cedric Shi +86 21 2326-0015 India Binay Singh +91 22 6118-2218 Shreya Gaunekar +91 22 6118-2219 S. Korea Sangkyoo Park +82 2 399-4846 Joon Soo Ryu +82 2 399-9920 Taiwan Jenny Tsai +886 2 2730-1724 Consumer / Retail ASEAN Divya Gangahar Kothiyal +65 6834-6438 Australia Martin Yule +61 2 9770-1582 Thomas Kierath +61 2 9770-1578 Crystal Wang +61 2 9770-1195 India Nillai Shah +91 22 6118-2244 Girish Achhipalia +91 22 6118-2243 Ashwini Kamath +91 22 6118-2242 Greater China Angela Moh† +852 2848-5405 Penny Tu +852 2848-5874 Dustin Wei +852 2239-7823 Jessica Wang +852 2848-5887 Robert Lin +852 2848-5835 Lillian Lou +852 2848-6502

S. Korea Kelly Kim +82 2 399-4837 Jenna Mok +82 2 399-4938 Leisure & Lodging China Lin He +86 21 6279-7041 Praveen Choudhary +852 2848-5068 Ying Guo +86 21 2326-0018 India Parag Gupta +91 22 6118-2230 Satyam Thakur +91 22 6118-2231 ENERGY Clean Tech / Solar Devices Greater China Sunil Gupta† +65 6834-6732 Sophie Lu +65 6834-6718 Sujay Shah +65 6834-6733 Pey Herng Yap +65 6834-6742 S. Korea Sung Hee Lim +82 2 399-4937 Fertilizer Taiwan Jeremy Chen +886 2 2730-2876 Lily Chen +886 2 2730-2871 Oil & Gas Australia Stuart Baker† +61 3 9256-8929 Philip Bare +61 3 9256-8932 China Wee-Kiat Tan +852 2848-7488 Sara Chan +852 2848-5292 Josh Du +852 2239-7593 India Vinay Jaising† +91 22 6118-2252 Mohit Agrawal +91 22 6118-2254 Rakesh Sethia +91 22 6118-2253 Thailand Mayank Maheshwari +65 6834-6719 FINANCIALS Banks ASEAN Nick Lord +65 6834-6746 Edward Goh +65 6834-8975 Australia Richard Wiles +61 2 9770-1537 Arvid Streimann +61 2 9770-1658 David Shi +61 2 9770-1187 China Minyan Liu +852 2848-6729 Katherine Lei +852 2239-1830 Jocelyn Yang +852 2239-1568 Hong Kong Anil Agarwal† +852 2848-5842 Isabella He +852 2848-8168 India Anil Agarwal +852 2848-5842 Mihir Sheth +91 22 6118-2232 Subramanian Iyer +91 22 6118-2234 Sumeet Kariwala +91 22 6118-2235 S. Korea Joon Seok +82 2 399-4934 Gil Woo Lee +82 2 399-4935 Taiwan Lily Choi +852 2848-6564 Bruce Chou +886 2 2730-2875 Insurance Australia Andrei Stadnik +61 2 9770 1684 China Ben Lin +852 2848-5830 Christy He +852 2239 7827 India Anubhav Adlakha +91 22 6118-2233 S. Korea Sara Lee +82 2 399-4836 Dana Kang +82 2 399-4843 Taiwan Lily Choi +852 2848-6564 Bruce Chou +886 2 2730-2875 HEALTH CARE Australia Sean Laaman +61 2 9770-1559 James Rutledge +61 2 9770-1659 China Bin Li +852 2239-7596 Sean Wu +86 21 2326-0046 Christopher Lui +852 2239-1883 Yolanda Hu +852 2848-5649 India Sameer Baisiwala +91 22 6118-2214 Saniel Chandrawat +91 22 6118-2215 INDUSTRIALS Capital Goods / Shipbuilding China / Hong Kong Kate Zhu +852 2848-6843 Andy Meng +852 2239-7689 Kevin Luo + 852 2239-1527 Cedric Shi +86 21 2326-0015 S. Korea Sangkyoo Park +82 2 399-4846 Joon Soo Ryu +82 2 399-9920

Capital Goods India Akshay Soni +91 22 6118-2212 Pratima Swaminathan +91 22 6118-2213 ASEAN Conrad Werner +65 6834-6744 Cement / Glass / Auto Components / Property / Steel India Akshay Soni +91 22 6118-2212 Ashish Jain +91 22 6118-2240 Pratima Swaminathan +91 22 6118-2213 Taiwan Jeremy Chen +886 2 2730-2876 Jenny Tsai +886 2 2730-1724 Lily Chen +886 2 2730-2871 Gaming / Multi-Industry China / Hong Kong Praveen Choudhary +852 2848-5068 Corey Chan +852 2848-5911 Xin Jin Ling +852 2239-7597 Calvin Ho +852 2239-7834 India Akshay Soni +91 22 6118-2212 Pratima Swaminathan +91 22 6118-2213 Transportation & Infrastructure Regional Chin Y. Lim† +65 6834-6858 Sophie Loh +65 6834-6823 Chin Ser Lee +65 6834-6735 Australia Scott Kelly +61 2 9770-1583 Julia Weng +61 2 9770-1197 China Edward Xu +852 2239-1521 Andy Meng +852 2239-7689 Tommy Wong +852 2239-1523 Victoria Wong +852 2239-7817 Kate Zhu +852 2848-6843 Kevin Luo +852 2239-1527 Cedric Shi +86 21 2326-0015 India Parag Gupta +91 22 6118-2230 Satyam Thakur +91 22 6118-2231 INFORMATION TECHNOLOGY Hardware Components China / Hong Kong Jasmine Lu +852 2239-1348 Tim Hsiao +852 2848-1975 Grace Chen +886 2 2730-2890 Terence Cheng +886 2 2730-2873 Bill Lu +852 2848-5214 Charlie Chan +852 2848-5636 Victoria Liu +886 2 2730 1723 S. Korea Keon Han +82 2 399-4933 Young Suk Shin +82 2 399-9907 Mike Chung +82 2 399-4939 Taiwan Jasmine Lu +852 2239-1348 Tim Hsiao +852 2848-1975 Po-Ling Chen +852 2239 7816 Sharon Shih +886 2 2730-2865 Brad Lin +886 2 2730-2989 Grace Chen +886 2 2730-2890 Terence Cheng +886 2 2730-2873 Internet / Media Australia Andrew McLeod +61 2 9770-1591 Mark Goodridge +61 2 9770-1761 China Richard Ji +852 2848-6926 Jenny Wu +852 2848-6708 Philip Wan +852 2848-8227 Gillian Chung +852 2848-5456 Timothy Chan +852 2239-7107 Carol Wang +82 61 6279-8494 India Vipul Prasad +91 22 6118-2238 Ketaki Kulkarni +91 22 6118-2239 Ritish Rangwalla +91 22 6118-2258 South Korea Shawn Kim +82 2 399-4940 HyunTaek Lee +86 2 399-9854 Semiconductors S. Korea Keon Han +82 2 399-4933 Young Suk Shin +82 2 399-9907 Mike Chung +82 2 399-4939 Taiwan Bill Lu +852 2848-5214 Charlie Chan +852 2848-5636 Victoria Liu +886 2 2730 1723 Software & Services China Carol Wang +82 61 6279-8494 India Vipin Khare +91 22 6118-2236 Gaurav Rateria +91 22 6118-2237

TFT-LCD Taiwan Frank Wang +886 2 2730-2869 Jerry Su +886 2 2730-2860 Derrick Yang +886 2 2730-2811 Philip Yang +886 2 2730-2863 MATERIALS Building Materials India Akshay Soni +91 22 6118-2212 Pratima Swaminathan +91 22 6118-2213 Chemicals India Vinay Jaising† +91 22 6118-2252 Mohit Agrawal +91 22 6118-2254 Rakesh Sethia +91 22 6118-2253 S. Korea Harrison Hwang +82 2 399-4916 Kyle Kim +82 2 399-4994 Materials ASEAN, China Charles Spencer† +65 6834-6825 Mean Phil Chong +65 6834-6194 Sandy Niu +852 2239-1520 John Lam +852 2848-5412 India Nillai Shah +91 22 6118-2244 S. Korea Charles Spencer +65 6834-6825 Hyunjae Lee +82 2 399-4850 Metals & Mining Australia Craig Campbell +61 3 9256-8936 Cameron Judd +61 3 9256-8904 Sarah Lester +61 3 9256-8436 India Vipul Prasad +91 22 6118-2238 Ketaki Kulkarni +91 22 6118-2239 Ritish Rangwalla +91 22 6118-2258 PROPERTY Australia Lou Pirenc +61 2 9770-1569 Todd McFarlane +61 2 9770-1316 John Meredith +61 2 9770-1317 ASEAN Brian Wee +65 6834-6731 Wilson Ng +65 6834-6345 China / Hong Kong Coral Ching +852 2848-1735 Angus Chan +852 2848-5259 Jacky Chan +852 2848 5973 India Sameer Baisiwala +91 22 6118-2214 Arunabh Chaudhari +91 22 6118-2216 Harshal Pandya +91 22 6118-2217 SMALL AND MID CAP Emerging Companies Australia Christopher Nicol +61 3 9256-8909 David Evans +61 2 9770-1504 James Bales +61 2 9770-1603 Mid Cap China Lin He +86 21 6279-7041 Ying Guo +86 21 2326-0018 Taiwan Jeremy Chen +886 2 2730-2876 Jenny Tsai +886 2 2730-1724 Lily Chen +886 2 2730-2871 TELECOMMUNICATIONS Australia Mark Blackwell +61 3 9256-8959 John Burns +61 2 9770-1395 Greater China / Malaysia / Thailand Navin Killa† +852 2848-5422 Gary Yu +852 2848-6918 Vanessa D’Souza +852 2239-7687 Doreen Ma +852 2239-7821 India Vinay Jaising +91 22 6118-2252 Surabhi Chandna +91 22 6118-2255 S. Korea Sam Min +82 2 399-4936 Jessica Bang +82 2 399-1408 UTILITIES Australia Mark Blackwell +61 3 9256-8959 John Burns +61 2 9770-1395 China / Hong Kong Simon Lee +852 2848-1985 Vincent Chow +852 2239-1588 Eva Hou +86 21 2326-0031 Helen Wen +852 2848-5438 Ivy Lu +86 21 2326-0031 India Parag Gupta +91 22 6118-2230 Satyam Thakur +91 22 6118-2231 QUANTITATIVE Asia/Pacific Peter Joos +852 2848-6953 Yang Bai +852 2239-7685 Manas Dwivedi +852 2239-7836 Crystal Ng +852 2239-1468


January 19, 2011


54

Europe Director of Research Rupert Jones +44 (0)20 7425 4271 Associate Director of Research Juliet Estridge +44 (0)20 7425 8160 Matthew Ostrower +44 (0)20 7425 8560 Mitzi Frank +44 (0)20 7425 8022 Product Development & SSC Ben Britz +44 (0)20 7425 3055 Fergus O’Sullivan +44 (0)20 7425 6404 Management Sarah Waugh +44 (0)20 7425 8154 Sharon Reid +44 (0)20 7677 6101 Media Relations Sebastian Howell +44 (0)20 7425 5324

MACRO

Equity Strategy Ronan Carr +44 (0)20 7425 4944 Matthew Garman +44 (0)20 7425 3595 Graham Secker +44 (0)20 7425 6188 Chris Sellers +44 20 7425-4013 Economics Joachim Fels +44 (0)20 7425 6138 Manoj Pradham +44 (0)20 7425 3805 Spyros Andreopoulos +44 (0)20 7677 0528 Elga Bartsch +44 (0)20 7425 5434 Olivier Bizimana +44 (0)20 7425 6290 Melanie Baker +44 (0)20 7425 8607 Cath Sleeman +44 (0)20 7425 1820 Daniele Antonucci +44 (0)20 7425 8943 Alina Slyusarchuk +44 (0)20 7677 6869 Pasquale Diana +44 (0)20 7677 4183 Tevfik Aksoy +44 (0)20 7677 6917 Mohamed Jaber +971 4 709 7105 Michael Kafe +27 11 507 0891 Andrea Masia +27 11 507 0887 Derivatives and Portfolios Neil Chakraborty +44 (0)20 7425 2571 Praveen Singh +44 (0)20 7425 7833 SRI Kristina Obrtacova +44 (0)20 7425 6107

Sectors CONSUMER DISCRETIONARY/ INDUSTRIALS

Aerospace & Defence Rupinder Vig +44 (0)20 7425 2687 Ovunc Okyay +44 (0)20 7425-8754 Autos & Auto Parts Stuart Pearson +44 (0)20 7425 6654 Edoardo Spina +44 (0)20 7425 0664 Laura Lembke +44 (0)20 7425-7944 Business & Employment Services Jessica Alsford +44 (0)20 7425 8985 David Hancock +44 (0)20 7425 3752 Simone Porter Smith+44 (0)20 7425 3893 Capital Goods Ben Uglow +44 (0) 20 7425 8750 Guillermo Peigneux +44 (0)20 7425 7225 Vidya Adala +44 (0)20 7425 2044 Robert Davies +44 (0)20 7425 2057 Leisure/Hotels Jamie Rollo +44 (0)20 7425 3281 Vaughan Lewis +44 (0)20 7425 3489 Alex Davie +44 (0)20 7425 9867 Andrea Ferraz +44 (0)20 7425 7242

CONSUMER STAPLES

Beverages Michael Steib +44 (0)20 7425 5263 Eveline Varin +44 (0)20 7425 5717 Food Producers/HPC Michael Steib +44 (0)20 7425 5263 Toby McCullagh +44 (0)20 7425 6636 Mark Christensen +44 (0)20 7425 5392 Erik Sjogren +44 (0)20 7425 3935 Audrey Borius +44 (0)20 7425 7242

Tobacco Toby McCullagh +44 (0)20 7425 6636

ENERGY/UTILITIES

Oil & Gas Theepan Jothilingam +44 (0)20 7425 9761 James Hubbard +44 (0)20 7425 0749 Matthew Lofting +44 (0)20 7425 5915 Jamie Maddock +44 (0)20 7425 4405 Albina Sadykova +44 (0) 20 7425 7502 Sasikanth Chilukuru +44 (0)20 7425 3016 Matt Thomas +44 (0)20 7425 5387 Marina Zavolock +44 (0)20 7425 5354 Oil Services Martijn Rats +44 (0)20 7425 6618 Rob Pulleyn +44 (0)20 7425 4388 Utilities Bobby Chada +44 (0)20 7425 5238 Nicholas Ashworth +44 (0)20 7425 7770 Arsalan Obaidullah +44 (0)20 7425 4267 Igor Kuzmin +44 (0)20 7425 8371 Emmanuel Turpin +44 (0)20 7425 6863 Sean Lee +44 (0)20 7425 6230 Antonella Bianchessi +44 (0)20 7425 7857 Carolina Dores +44 (0)20 7677 7167 Clean Energy Allen Wells +44 (0)20 7425 4146 Andrew Humphrey +44 (0)20 7425 2630

FINANCIALS

Banks/ Diversified Financials Huw van Steenis +44 (0)20 7425 9747 Alice M. Timperley +44 (0)20 7425 9094 Steven Hayne +44 (0)20 7425 8332 Bruce Hamilton +44 (0)20 7425 7597 Anil Sharma +44 (0)20 7425 8828 Chris Manners +44 (0)20 7425 3917 Hubert Lam +44 (0)20 7425 3734 Francesca Tondi +44 (0)20 7425 9721 Wouter Janssens +44 (0)20 7425 2138 Maxence Le Gouvello +44 (0)20 7425 6942 Thibault Nardin +44 (0)20 7677 3787 Magdalena Stoklosa +44 (0)20 7425 3933 Hadrien de Belle +44 (0)20 7425 4466 Samuel Goodacre +44 (0)20 7677 0759 Henrik Schmidt +44 (0)20 7425 8808 Insurance Jon Hocking +44 (0)20 7425 2307 Farooq Hanif +44 (0)20 7425 6477 Adrienne Lim +44 (0)20 7425 6679 Maciej Wasilewicz +44 (0)20 7425 9104 Damien Kingsley-Tomkins +44 (0)20 7425 1830

HEALTHCARE

Biotech & Medical Technology Michael Jungling +44 (0)20 7425 5975 Karl Bradshaw +44 (0)20 7425 6573 Andrew Olanow +44 (0)20 7425 4107 Valerie Rinecker +44 (0)20 7677-0209 Pharmaceuticals Andrew Baum +44 (0)20 7425 6647 Peter Verdult +44 (0)20 7425 2244 Liav Abraham +44 (0)20 7425 8273 Simon Mather +44 (0)20 7425 3227 Matt Hartley +44 (0)20 7425 2272

MATERIALS

Building & Construction Alejandra Pereda +34 91 412 1747 Michael Watts +44 (0)20 7425 7515 Chemicals Paul Walsh +44 (0)20 7425 4182 Peter J. Mackey +44 (0)20 7425 4657 Amy Walker +44 (0)20 7425-0640 Metals & Mining Ephrem Ravi +44 (0)20 7425 2127 Hannah Kirby +44 (0) 20 7425 6014 Carsten Riek +44 (0)20 7425 3075 Markus Almerud +44 (0)20 7425 9870 Alain Gabriel +44 (0)20 7425 8959

MEDIA

Media & Internet Patrick Wellington +44 (0)20 7425 8605 Edward Hill-Wood +44 (0)20 7425 9224 Julien Rossi +44 (0)20 7425 9755

PROPERTY

Property Bart Gysens +44 (0)20 7425 5862 Chris Fremantle +44 (0)20 7425 5761 Bianca Riemer +44 (0)20 7425 2646

RETAIL

Retailing/Brands Louise Singlehurst +44 (0)20 7425 7239 Emily Tam +44 (0)20 7425 4055 Pallavi Verma +44 (0)20 7425 2644 Retailing Geoff Ruddell +44 (0)20 7425 8954 Fred Bjelland +44 (0)20 7425 3612 Edouard Aubin +44 (0)20 7425 3160 Charlie Muir-Sands +44 (0)20 7425 5207

TECHNOLOGY

Technology Patrick Standaert +44 (0)20 7425 9290 Adam Wood +44 (0)20 7425 4450 Ashish Sinha +44 (0)20 7425 2363 Guillaume Charton +44 (0)20 7425 2686 Francois Meunier +44 (0)20 7425-6603 Sunil George +44 (0)20 7425 3436

TELECOMS

Telecommunications Services Nick Delfas +44 (0)20 7425 6611 Luis Prota +34 91 412 1217 Frederic Boulan +44 (0)20 7425 6830 Terence Tsui +44 (0)20 7425 4399 Ryan Fox +44 (0)20 7425 5413

TRANSPORTATION

Transport Menno Sanderse +44 (0)20 7425 6148 Jaime Rowbotham +44 (0)20 7425 5409 Penny Butcher +44 (0)20 7425 6698 Suzanne Todd +44 (0)20 7425 8316 Doug Hayes +44 (0)20 7425 3831 Daniel Ruivo +44 (0)20 7425 5816

EMERGING MARKETS

Equity Strategy (Global) Jonathan Garner +852 2848 7288 Marianna V. Kozintseva +44 (0) 20 7425 5534 Equity Strategy (CEEMEA) Economics Pasquale Diana +44 (0)20 7677 4183 Banks/ Diversified Financials Magdalena Stoklosa +44 (0)20 7425 3933 Samuel Goodacre +44 (0)20 7677 0759 Hadrien de Belle +44 (0)20 7425 4466 Telecommunications Services Sean Gardiner +971 4 709 7120 Consumer Daniel Wakerly +44 (0)20 7425 4389 Maryia Berasneva +44 (0) 20 7425 7502

MIDDLE EAST NORTH AFRICA

Head of Research Sean Gardiner +971 4 709 7120 Economics Mohamed Jaber +971 4 709 7105 Financials Dan Cowan +971 4 709 7165 Suha Urgan +971 4 709 7240 Infrastructure Muneeba Kayani +971 4 709 7117 Saul Rans +971 4 709 7110 Nida Iqbal +971 4 709 7103 Telecoms Sean Gardiner +971 4 709 7120 Cesar Tiron +44 (0)20 7425 8846 Madhvendra Singh +971 4 709 7122

RUSSIA

Economics Alina Slyusarchuk +44 (0)20 7677 6869 Metals & Mining Dmitriy Kolomytsyn +7 495 589 9942

Timur Salikhov +7 495 287 2118 Oil & Gas Matt Thomas +44 (0)20 7425 5387 Marina Zavolock +44 (0)20 7425 5354 Telecommunications Services Sean Gardiner +44 (0)20 7425 2175 Polina Ugryumova +7 495 589 9944 Utilities Bobby Chada +44 (0)20 7425 5238 Igor Kuzmin +44 (0)20 7425 8371

SOUTH AFRICA -

RMB MORGAN STANLEY

Head of Research/Strategy Vaughan Henkel +27 11 282 8260 Economics Michael Kafe +27 11 507 0891 Andrea Masia +27 11 507 0887 Financials Magdalena Stoklosa +27 11 282 1082 Derinia Chetty +27 11 282 8553 Greg Saffy +27 11 282-4228 Industrials Anthony de la Cour +27 11 282 8139 Roy Campbell +27 11 282 1499 Retail Natasha Moolman +27 11 282 8489 Danie Pretorius +27 11 282 1082 Qaqambile Dwayi +27 11 282 4146 TMT Peter Takaendesa +27 11 282 8240 Mining Simon Kendall +27 11 282 4932 Leigh Bregman +27 11 282 8969 Food Producers Qaqambile Dwayi +27 11 282 4146

TURKEY

Sayra Can Altuntas +44 (0)20 7425 2365 Erol Danis +44 (0)20 7425 7123 Batuhan Karabekir - +44 (0)20 7425 3346 Economics Tevfik Aksoy +44 (0)20 7677 6917 Banks Magdalena Stoklosa +44 (0)20 7425 3933 Telecommunications Services Sean Gardiner +971 4 709 7120


January 19, 2011


55

Japan - Tokyo Director of Asian Research Neil Perry +813-5424-5305

Economic Research Director of Economic Research Robert A. Feldman +813-5424-5385 Economics Takehiro Sato +813-5424-5367 Takeshi Yamaguchi +813-5424-5387 Maki Uchikoga +813-5424-5344 Chie Takita +813-5424-5913

Equity Research Head of Japan Research/Institutional Equity Distribution Stefan Pendert +813-5424-5689 Deputy Head of Japan Research Dennis Yamada +813-5424-5397

Macro Equity Strategy Alexander Kinmont +813-5424-5337 Masaru Ohnishi +813-6422-8658 Yohei Yamada +813-5424-5923 Maki Uchikoga +813-5424-5344

Sectors

CONSUMER DISCRETIONARY/ INDUSTRIALS

Autos Noriaki Hirakata +813-5424-5307 Ryosuke Hoshino +813-5424-5916 Umi Togasawa +813-5424- 5308 Auto Parts Shinji Kakiuchi +813-5424-5914 Naoko Hosaka +813-5424-5388

Machinery and Capital Goods Yoshinao Ibara +813-5424-5302 Jin Sup Park +813-6422-8670 Masako Kusano +813-5424-5917 Services: General Services / Internet Services Naoshi Nema +813-5424-5320 Atsuko Watanabe +813-5424-5338 Trading Companies Tomokazu Soejima +813-5424-5345 Michiko Sekiya +813-5424-5329

CONSUMER STAPLES

Food Taizo Demura +813-5424-5333 Haruka Miyake +813-5424-5918 Asaka Hano +813-5424-5313

ENERGY/UTILITIES

Oil & Coal Products Lalita Gupta +813-5424-5909 Mitsuhiro Kojima +813-5424-5342 Keiko Haruyama Kaori Ikeda +813-5424-5921 Utilities Yuka Matayoshi +813-5424-5910 Hikaru Ishikawa +813-5424-5378 Junko Yamamoto +813-5424-5334

FINANCIALS

Banks Graeme Knowd +813-5424-5349 Takaaki Nishino +813-5424-5907 Ayako Kubodera +813-5424-5323 Ikuko Matsumoto +813-5424-5366 Financial Services, Insurance Hideyasu Ban +813-5424-5381 Atsushi Shinoda +813-5424-5922 Ayako Kubodera +813-5424-5323 Naoko Hatakeyama +813-5424-5348

HEALTHCARE

Healthcare/Pharmaceuticals Mayo Mita +813-5424-5319 Shinichiro Muraoka +813-5424-5926 Yukihiro Koike +813 5424-5316 Ayako Fukuda +813 5424-5928 Kaoru Wada +813 5424-5382

MATERIALS

Chemicals Yoshihiro Azuma +813-5424-5311 Hiroshi Kawaguchi +813-5424-5347 Kayo Sano +813-5424-5332 Construction Atsushi Takagi +813-5424-5380 Rina Asano +813-5424-5925 Glass & Ceramics Lalita Gupta +813-5424-5909 Mitsuhiro Kojima +813-5424-5342 Keiko Haruyama Kaori Ikeda +813-5424-5921 Steel / Nonferrous Metals/ Wire & Cable Harunobu Goroh +813-5424-5343 Akira Morimoto +813-6422-8650 Leigha Miyata +813-6422-8671 Emiko Ishikawa +813-5424-5376

MEDIA

Media Hironori Tanaka +813-5424-5336

PROPERTY

Housing Hiroko Kubota +813-5424-5383 Atsushi Takagi +813-5424-5380 Rina Asano +813-5424-5925 Real Estate Tomoyoshi Omuro +813-5424-5386 Keisuke Kumagai +813-5424-5312 Makiko Matsuki +813-5424-5304

RETAIL

Retailing: Specialty, Restaurants Yukimi Oda +813-5424-5328 Sai Aoyama +813-5424-5331

TECHNOLOGY

Information Technology Masaharu Miyachi +813-5424-5321 Hiroko Ando +813-5424-5324 Technology: Consumer Electronics Masahiro Ono +813-5424-5362 Takumi Kakazu +813-5424-5929 Sachie Uchida +813-5424-5369 Technology: Electronic Components Shoji Sato +813-5424-5303 Yusuke Yoshida +813-6422-8652 Technology: Interactive Entertainment Mia Nagasaka +813-5424-5309 Sai Aoyama +813-5424-5331 Technology: Japan Semiconductors Kazuo Yoshikawa +813-5424-5389 Ryotaro Hayashi +813-5424- 5327 Midori Takeuchi +813-5424-5315

TELECOMS

Telecommunications Hironori Tanaka +813-5424-5336 Takahisa Ueshima +813-6422-8651

TRANSPORTATION

Transportation Takuya Osaka +813-5424-5915 Shino Takahashi +813-5424-5314

Latin America Director of Research Dario Lizzano 1+212-761-3936

Macro Economics Gray Newman 1+212-761-6510 Luis A. Arcentales, CFA 1+212-761-4913 Daniel Volberg 1+212-761-0124 GEMs Equity Strategy Jonathan Garner 44+207-425-9237 Guilherme Paiva 1+212-761-8295 Nikolaj Lippmann +52-55-5282-6778 Cesar Medina 1+212-761-7027

Sectors AEROSPACE & DEFENSE

Heidi Wood 1+212-761-4407

CONSUMER STAPLES/BEVERAGE

Lore Serra 1+212-761-7954 Jerônimo De Guzman 1+212-761-7084

FINANCIALS

Financial Services Jorge Kuri 1+212-761-6341 Jorge Chirino 1+212-761-0324

MATERIALS

Homebuilders & Real Estate Rafael Pinho +55-11-3048-6216 Adriana Drulla +55-11-3048-6137 Nonferrous Metals & Mining, Coal Carlos de Alba 1+212-761-4927 Bruno Montanari +55-11-3048-6225 Alfonso Salazar +52-55-5282-6745

RETAIL

Retail Lore Serra 1+212-761-7954 Jeronimo De Guzman 1+212-761-7084

SMALL AND MID CAPS

Javier Martinez de Olcoz Cerdan 1+212 761-4542 Alessandro Baldoni +55 11 3048-6226

TECHNOLOGY

Tatiana Feldman +55-11-3048-9620

TELECOMS & MEDIA

Telecom Jennifer Leonard 1+212-761-4075 Silvia Pioner +55-11-3048-6104

TRANSPORTATION & INFRASTRUCTURE Nicolai Sebrell, CFA +55-11-3048-6133 Augusto Ensiki +1 212 761-3914

ENERGY & UTILITIES

Oil, Gas, Petrochemicals & Clean Energy Subhojit Daripa +55-11-3048-6112 Miguel F. Rodrigues +55-11-3048-6016 Oil Services & Equipment Ole Slorer 1+212-761-6198 Paulo Loureiro 1+212-761-6875 Igor Levi 1+212-761-3232 Alfred Castaneda 1+212-761-6266 Benjamin Swomley 1+212-761-4248


January 19, 2011


56

Fixed Income Research - Global Global Cross-Asset Strategy Gregory Peters 1+212 761-1488 Jason Draho 1+212 761-7893

Credit Strategy North America Gregory Peters 1+212 761-1488 Rizwan Hussain 1+212 761-1494 Adam Richmond 1+212 761-1485 Michael Zezas 1+212 761-8609 Maya Abdurahmanova 1+212 761-1470

Europe Andrew Sheets 44+20 7677-2905 Phanikiran Naraparaju 44+20 7677-5065 Carlos Egea 44+20 7425-6247 Serena Tang 44+20 7677-1149 Jonathan Graber 44+20 7425 0577

Japan Hidetoshi Ohashi 81+3 5424-7908 Tomoyuki Hirose 81+3 5424-7912

Asia Pacific Viktor Hjort +852 2848-7479 Kelvin Pang +852 2848-8204 Nishant Sood +852 2239-1597

Structured Credit Strategy Sivan Mahadevan 1+212 761-1349 Ashley Musfeldt 1+212 761-1727 Vishwanath Tirupattur 1+212 761-1043 James Egan 1+212 761-4715 Oliver Chang 1+415 576-2395 Richard Parkus 1+212 761-1444 Andy Bernard 1+212 761-7880 Srikanth Sankaran 44+20 7677-2969

Currency Strategy North America Gabriel de Kock 1+212 761-5154 Ron Leven 1+212 761-3413 Yilin Nie 1+212 761-2886 Christine Tian 1+212 761-5970

Europe Stephen Hull 44+20 7425-1330 Tim Davis 44+20 7677-1692 Calvin Tse

Asia Pacific Stewart Newnham 852+2848-5320 Emma Lawson 852+3963-3190 Yee Wai Chong 852+2239-7117

Economics North America Richard Berner 1+212 761-3398 David Greenlaw 1+212 761-7157 Ted Wieseman 1+212 761-3407 David Cho 1+212 761-0908

Europe Joachim Fels 44+20 7425-6138 Arnaud Marès 44+20 7677-6302 Manoj Pradhan 44+20 7425-3805 Spyros Andreopoulos 44+20 7056-8584

Emerging Markets Economics Tevfik Aksoy 44+20 7677-6917 Pasquale Diana 44+20 7677-4183 Alina Slyusarchuk 44+20 7677-6869 Mohamed Jaber 971+4 709-7105 Michael Kafe 27+11 507-0891 Andrea Masia 27+11 507-0887

Interest Rate Strategy North America Jim Caron 1+212 761-1905 Subadra Rajappa 1+212 761-2983 Bill McGraw 1+212 761-1445 Janaki Rao 1+212 761-1711 George Azarias 1+212 761-1346 Igor Cashyn 1+212 761-1696 Zofia Koscielniak 1+212 761-1307 Jonathan Marymor 1+212 761-2056

Europe Laurence Mutkin 44+20 7677-4029 Anthony O’Brien 44+20 7677-7748 Mayank Gargh 44+20 7677-7528 Anton Heese 44+20 7677-6951 Owen Roberts 44+20 7677-7121 Elaine Lin 44+20 7677-0579 Corentin Rordorf 44+20 7677-0518 Rachael Featherstone 44+20 7677-7764

Japan Takehiro Sato 81+3 5424-5367 Le Ngoc Nhan 81+3 5424-7698 Miho Ohashi 81+3 5424-7904

Asia Pacific Pieter Van Der Schaft +852 3963-0550 Rohit Arora +852 2848-8894

Credit Research Europe – Financials Jackie Ineke 41+44 220-9246 Marcus Rivaldi 44+20 7677-1464 Lee Street 44+20 7677-0406 Fiona Simpson 44+20 7677-3745 Natacha Blackman 44+20 7425-7967

Asia Pacific – Financials Desmond Lee +852 2239-1575

Commodities Strategy Hussein Allidina 1+212 761-4150 Chris Corda 1+212 761-6005 Tai Liu 1+212 761-3585 Bennett Meier 1+212-761-4967

EM Fixed Income and Foreign Exchange Strategy North America Rogerio Oliveira 1+212 761-1204 Vitali Meschoulam 1+212 761-1889 Juha Seppala 1+212 761-1949 Rosa Velasquez 1+212 761-8278

Europe Rashique Rahman 44+20 7677-7295 Paolo Batori, CFA 44+20 7677-7971 Vanessa Barrett 44+20 7677-9569 Regis Chatellier 44+20 7677-6982 Chuan Lim, CFA 44+20 7677-7597 James Lord 44+20 7677-3254 Robert Tancsa 44+20 7677-6671


The Americas

1585 Broadway

New York, NY 10036-8293

United States

Tel: +1 (1)212 761 4000

Europe

20 Bank Street, Canary Wharf

London E14 4AD

United Kingdom

Tel: +44 (0) 20 7 425 8000

Japan

4-20-3 Ebisu, Shibuya-ku

Tokyo 150-6008

Japan

Tel: +81 (0)3 5424 5000

Asia/Pacific

1 Austin Road West

Kowloon

Hong Kong

Tel: +852 2848 5200

© 2011 Morgan Stanley

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