Equity Strategy: December 2011

European Equity Research December 2011
Equity Strategy
Mislav Matejka, CFA AC (44 20) 7325 5242 mislav.matejka@jpmorgan.com
Emmanuel Cau, CFA (44 20) 7325 1684 emmanuel.b.cau@jpmorgan.com
Siddhartha Singh (44 20) 7155 6106 siddhartha.z.singh@jpmorgan.com J.P. Morgan Securities Ltd.
See the end pages of this presentation for analyst certification and important disclosures. J.P. Morgan does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision.
Euro uncertainty continues, but some positive steps taken recently

Investor sentiment remains fragile even though Eurostoxx50 is 15-20% above the September lows. The latest attempts by Euro policymakers to stabilise confidence have produced mixed results: on the positive side ECB has provided longer term liquidity to banks, EU will commit 200bn of resources to IMF and ESM introduction will be accelerated to July 12 with ECB running it. On the negative side ESM will not get a banking licence and ECB remains against ramping up its SMP facility. We do expect ECB/Germany to eventually commit to a greater support for the following 3 reasons: 1) the funding stress has spread to the core Eurozone. These countries have been prudent spenders and have not signed up to be without a central bank support in time of distress. 2) Italy and Spain have taken big steps to greater credibility on the political front. 3) Part of ECBs mandate is to preserve financial stability in EMU. There is no stable equilibrium in bond market. If you dont believe Italy is solvent at 6% yield, it is even less likely to be at 8%. Therefore it becomes a self fulfilling prophecy and requires a buyer of last resort. Policy deliberations will continue, but European stocks look cheap they are at record P/B discount to US even ex Financials (page 41), the region is a consensus UW, Euro could become a tailwind (page 78) and most recent Euroland dataflow wasnt as bad as feared, Euro EASI is almost in positive territory (page 16). On global front the newsflow is tracking better in general: Chinese inflation is steadily moving lower, to 4.2%yoy in Nov from 6.5% high in July . While Chinese equities have not responded so far, we think the RRR cuts will not be a one off and at some point they will have a positive impact on sentiment. In the US, Jobless claims remain key to watch and have just posted the lowest print since February. US Q4 real GDP forecast of 3% is offering upside risks. This is supportive of our OW Construction Materials call as residential construction is typically well correlated to labour market (page 64). On the other side, we reiterate our last Mondays downgrade of Retail sector to UW as it has held up surprisingly well in 11, outperforming the market by 11%, it is at 20 year price rel high. We also reiterate the downgrade of Chemicals & Insurance due to their outperformance ytd. We stay UW Utilities, despite its underperformance ytd.
2
6 reasons underpinning a positive risk-reward for equities

The 3 key concerns for markets remain: 1) continuing Euro crisis and a potential shutdown of a bigger bond market, 2) US fiscal austerity in early 12 could overwhelm private sector, and 3) Chinese hard landing induced by a slump in property and FAI. While each of these will keep volatility high and could result in down markets in 12 if they worsen, our constructive equity call is predicated on the following: 1) European policy response will turn more formidable. JPM forecasts a Euroland recession, but the expected peak to trough 1.1% GDP fall, even if it were to prove too complacent, is significantly smaller than the dramatic 5.5% fall recorded in 08/09. 2) Global growth to be subtrend in 12, but positive at 2.0%. JPM sees the US delivering 1.8% GDP growth despite the full impact of austerity, as the private sector demonstrates resiliency. 3) EM policy is generally turning towards easing. China in particular has started reducing RRR. We think FAI will remain at close to 20% growth rate in 12 underpinned by affordable housing and water projects. 4) Equities are underowned. Asset allocators are UW equities; regionally they are especially UW Europe. 5) Price of safety is too high within equities, in our view, exceeding 08/09 worst levels. We find almost everybody hiding in Quality and Defensive Growth. 6) Corporate balance sheets are strong and margins to date have been much higher than most thought. Our non-consensus view is that US margins could make further highs in '12, even from record current levels, and that European earnings, while undershooting the consensus, are not likely to collapse. Potential weakening of the Euro could be a big tailwind for Euro earnings. Assuming no EPS growth in Eurozone in 12, P/E is on 9.9x giving a 23% discount to historical median.
Key Themes
1 Look for upside in Low Quality and Value stocks: We find investors paying too high a price for safety. While it doesnt usually sound appealing to buy low quality stocks, we note that they trade at extremely cheap valuations at present. The median P/Book of the quintile of stocks with the lowest ROE is lower today than at the last two inflection points, in March '03 and March09, ex Financials. 2 Position for a weaker EUR/USD Euro exporters to benefit: The change in the ECBs policy stance is opening the door to further Euro weakness in our view. A weaker Euro would be a big support for Eurozone corporates, which derive 44% of their revenues outside of Western Europe. 3 Fiscal austerity, a headwind for domestic plays: Fiscal drag will intensify in Eurozone next year and remain elevated in the UK. Companies with diversified geographical exposure should be more immune to taxation risk than those with heavy domestic exposure. This should be another support for exporters compared to domestic plays. 4 Global inflation to ease a catalyst for EM re-rating: Lower inflation will allow a shift in EM monetary policy toward easing. Already a number of EM central banks have started cutting rates and we expect more to follow in '12. A reversal in policy could be a significant catalyst for EM outperformance over DM in 12. 5 Financial leverage to become a more discriminatory factor for stocks performance: So far this year, financial leverage did not really matter in explaining stock performance, with high leverage performing in line with low leverage. We think this is going to change in '12 and advise positioning in low vs high leveraged stocks. 6 Eurozone bank deleveraging favors core vs periphery and large vs small caps: Banks in the periphery are those with the biggest loan books as a proportion of assets and will have to cut lending the most, hurting their domestic economy. Also Bank deleveraging could adversely impact SMEs as they are more dependent on bank loans than large multinationals. 7 Look for a rebound in the US construction spend: We think US construction will be picking up into 12 from current very depressed levels. This should support Construction Materials and Capital Goods.
4
Key Style and Sector Trades OW low ROE, Value and Cyclicals
Value underperformance is extreme. Value stocks have underperformed by 21% since the start of Q2 to date. The size of this move is greater than at any other time since at least 2005. This is not the result of sector bias, in our view. Within each level 1 sector the Value portion has underperformed the Growth portion. We think a reversal is likely and advise going long Value basket JPDEUVRL <index> and short Growth basket JPDEUVRS <index>. OW Cyclicals vs. Defensives. We do not believe that Global recession is a base case over the next 12 months and find Cyclicals oversold, having underperformed Defensives by 15% ytd. JPM basket of European global cycle plays JPDEUGCP <index>.
Our top sector picks are:
1) Mining & Construction Materials- Restart of EM restocking cycle, US construction activity picking up, Chinese FAI to remain solid in 2012. 2) Autos we have reversed our downgrade from 25th July post 18% underperformance. The sector is not a consensus long anymore and is trading at a historical low EV/EBITDA offering a cushion to EPS downgrades. 3) Tech the sector is cash-rich, remains attractively priced, no significant inventory overhang, benefits from weaker Euro and M&A activity. 4) Within Financials, rotate out of Insurance into Banks. Insurance is over-owned, has outperformed the market ytd despite low bond yields and is trading at the highest price and P/Book relative to Banks since March 09. Within Defensives we are the most bullish on Staples to take advantage of their strong EM exposure. We are UW Telecoms, Utilities and Healthcare.
5
Regional positioning
1 OW core vs Periphery Dax top country pick: We do not advise chasing periphery as fiscal tightening and bank deleveraging are likely to ensure that peripheral countries underperform the core Europe with respect to economic activity for some time. Dax is offering the best prospect within the region in our view. It is not a consensus long any more after the summer sell-off. It should benefit from an improvement in the global cycle, it is a key play on the Euro weakness and it is the cheapest market relative to bonds.
2 - OW EM vs DM: MSCI EM underperformed MSCI DM by 5% ytd in local currency and by 10% in US$. We see improving growth / inflation tradeoff in the region as a catalyst for re-rating. European stocks with high EM exposure (JPDEUEME <index>) have underperformed their benchmarks this year and we find them at an attractive entry point.
3 - OW Europe vs US, in particular Eurozone: Euro zone is trading at record cheap valuations relative to the US, at 46% P/B discount vs 30% average discount since 98. Globally, Eurozone is the cheapest region, even cheaper than Japan. 16% of Eurozone stocks are trading below the trough levels seen in 0709 downcycle and 27% stocks are trading below the P/B levels seen at the trough of the market in 09. On P/B, ex Financials, it is at 43% discount to historical.
1. EMU situation remains precarious, but more aggressive intervention likely

The Eurozone funding crisis has spread beyond the periphery and is now impacting core countries as well. Finland, Austria, Netherlands and France have seen their collective spreads vs Germany spike to higher levels than at any time in the last 20 years. This is forcing them to join peripheral countries in putting pressure on ECB/Germany for stronger response. Recent political changes in Italy and Spain are significant. New governments are fully focused on fiscal prudence and at least for now enjoy strong backing from general population. Part of ECBs mandate is to ensure functioning markets and financial stability in Eurozone. Stabilisation in funding conditions would go a long way to reduce a negative feedback loop between financial markets and the real economy.
Peripheral Eurozone countries' gross funding needs 12-14
Maturities (bn) Govt Greece Ireland Portugal Spain Italy Belgium Total 99.0 23.0 37.0 169.0 465.0 83.0 876.0 -4.1 -6.8 -3.1 -3.2 -0.5 -1.8 Deficit % GDP JPM -7.4 -7.8 -4.3 -4.8 -1.5 -2.7 14.6 12.5 7.2 52.0 22.9 10.0 43.7 37.6 21.6 156.0 68.7 30.1 357.7 142.7 60.6 58.6 325.0 533.7 113.1 1233.7 Deficit bn Deficit cumul. bn Funding needs bn
Core* Euro area government bond spreads to Bunds

125 105 85 65 45 25 5 -15 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11
Maastricht Treaty
Core Countries Spread to Bunds (Bps)
Source: Datastream, J.P. Morgan, * Core includes: France, Netherlands, Austria, and Finland
Ratings and Outlook of selected Euro area countries

Countries Moody's Austria Aaa Belgium Aa1 NEG Cyprus Baa3 NEG Finland Aaa France Aaa Germany Aaa Greece Ca DEV Ireland Ba1 NEG Italy A2 NEG Netherlands Aaa Portugal Ba2 Slovakia A1 Slovenia Aa3 NEG Spain A1 Source: Bloomberg, NEG: Negative Outlook S&P AAA AAu BBB AAAu AAAu AAAu CC BBB+ Au AAA BBBA+ AAAANEG NEG NEG NEG NEG NEG NEG NEG NEG NEG NEG NEG NEG NEG AAA AA+ BBB AAA AAA AAA CCC BBB+ A+ AAA BB+ A+ AAAAFitch
Source: JPM Economics Research
European Summit a step in the right direction

The latest European Summit made good progress on longer term structural reforms : Stabilisation tools: EFSF and ESM remain on the front-line, with the ESM to be introduced by July next year, instead of in 2013. ECB is likely to act as an agent for the ESM. The Statement commits leaders to reassessing the adequacy of the size of the fund in March (the ceiling is expected to be 500bn at present). The Statement reiterates European opposition to private sector haircuts. The EU will provide 200bn of resources to the IMF. The details of this will be announced shortly. Fiscal compact: The Fiscal Compact will be agreed between the 17 Euro Members and most of the non-Euro members. As the UK vetoed the use of changes to the European Treaty, the Compact will need to be instituted by inter-Governmental agreement. The Fiscal Compact will include deficit limits of 3% of GDP and limits to the structural deficit of 0.5% of GDP, with a right of oversight from the European Courts and imposition of sanctions. The Commission will have a role in monitoring Member State budgets.
that could open the door to a broader ECB intervention

ECB has already been de facto monetizing debt, purchasing 210bn of bonds through its SMP program and accepting peripheral collateral from banks. Given significant Italian funding needs in the near future, we think the ECB will have to step up the size of its bond purchases. The latest bank support measures are farreaching: 1) 3-year refinancing tender; 2) RRR cut to 1%; 3) loosening of collateral requirements
12 conventional government bond issuance and redemption
Bn Austria Belgium Finland France Germany Netherlands Greece Ireland Italy Portugal Spain Total
Source: JPM Fixed Income Research
Redemptions 15 25 7 98 160 30 33 6 198 13 49 634
12 Deficit 10 13 7 82 26 12 18 14 37 9 45 274
Total Funding Needs 25 38 14 180 186 42 51 20 235 22 94 908
ECB Balance Sheet Breakdown

25.0
ECB weekly purchases of Euro debt

22.0
1,000
20.0
800
15.0
14.3
13.3 14.0 9.8 6.7 4.0 3.8 4.5 2.3 2.2 4.0 4.5 9.5 8.0 8.6 3.7
600
10.0
400 200 00 01 02 03
SMP
5.0 0.0
28-Oct to 4-Nov
4-Nov to 11-Nov
11-Nov to 18-Nov
04
05
06
07
08
09
10
11
Covered bonds
Periphery Banks Repo
Core Banks Repo
Amount Purchased (Bn)
Source: ECB, National Central Banks
Source: JPM Fixed Income Research
18-Nov to 25-Nov
14-Oct to 21-Oct
21-Oct to 28-Oct
18-Nov to 2-Dec
30-Sep to 6-Oct
7-Oct to 14-Oct
15 to 21-Sep
22 to 29-Sep
03 to 09-Aug
10 to 16-Aug
17 to 23-Aug
24 to 30-Aug
1 to 07-Sep
8 to 14-Sep
Increasing Risk Bank runs, but significant outflows only in Greece/Ireland so far
The investor concern is with respect to potential bank deposit flight, but we note that apart from Greece and Ireland no other country has seen this to date. Another threat is the adverse impact on the economy from bank deleveraging. We think this will be more detrimental for periphery and Eastern Europe than for the core Europe.
Euro area banks: Foreign claims
Billions of Total United States United Kingdom Brazil Poland Japan Czech Republic Switzerland Mexico Australia Turkey Canada Hungary Russia China Romania Rest of World EM CEE EM Latam EM Asia 5,241 1,339 1,210 214 187 170 151 149 134 127 97 93 87 85 70 69 795 1,452 702 464 286 Share of total claims 100 25.6 23.1 4.1 3.6 3.2 2.9 2.8 2.6 2.4 1.8 1.8 1.7 1.6 1.3 1.3 20.2 27.7 13.4 8.8 5.5 % of recipients GDP 12 72 14 53 4 105 38 17 14 18 8 89 8 2 57 11 29 14 4
Source: ECB, FRB, J.P. Morgan
Germany France Spain Italy Portugal Ireland Greece
Cumulative change in banks deposits ytd

8% 5% 2% -1% -4% -7% -10% -13% -16% Jan Feb Mar Apr May Jun Jul Aug Sep Oct
Source: ECB, % of outstanding bonds
US & Euro zone banks leverage

21.0 19.0 17.0 15.0 13.0 11.0 9.0 7.0 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11
Eurozone Banks Leverage
US Banks Leverage
10
Source: BIS Quarterly Review Sep-11, J.P. Morgan Economics Research
Greek debt sustainability remains difficult even after 50% haircut

Of the 375bn of outstanding Greek debt at the end of this year, the 50% PSI scheme will affect around 150bn of bonds, thus yielding immediate debt relief of around 75bn (or a little over 30% of GDP). Greek outstanding debt of 375bn is made up of 73bn of official IMF and EU loans, 17bn of other private loans (mostly from Greek banks), T-bills (25bn) and other longer-dated bonds (260bn).The latter 260bn represent the basic pool of debt available for PSI. This should be diminished by 60bn of bonds held by the ECB and the National Bank of Greece, which are unlikely to be part of the private sector involvement plan. This leaves the maximum pool of bonds available for the PSI at close to 200bn. Excluding bonds held by other public investors, the potential amount of bonds available for PSI is around 150bn. If participation falls below the 70%-80% mark, the PSI would turn out to be much less effective than planned. This could open the door to involuntary restructuring.
Comparing debt scenarios after a 50% haircut
Troika Real GDP Governme growth nt debt (%oya) 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 -4.5 -5.5 -2.9 0.5 2.1 2.7 2.9 2.8 2.8 2.7 2.4 142.8 159.8 151.4 154.0 150.8 145.8 140.2 134.5 129.2 123.5 118.0 JP Morgan
Greek debt dynamics after 50% haircut on privately held debt

% of GDP 200
Primary balance
Primary balance
Real GDP Government debt growth (%oya)
J.P. Morgan central scenario
180
-4.9 -2.3 1.4 2.5 4.5 4.5 4.5 4.3 4.3 4.3 4.3 -4.5 -6.3 -5.9 -3.3 -0.3 1.0 1.8 1.8 1.8 1.5 2.4 142.8 160.5 159.6 173.0 181.3 186.4 189.3 191.4 193.3 194.8 193.5 -4.9 -2.3 0.8 0.9 0.8 0.8 0.8 0.8 0.8 0.8 0.8
160 140 120 100 09 11 13 15
1% growth and primary balance shortfall
Troika baseline (leaked Oct document)
17
19
21
Source: J.P. Morgan Economic Research
Source: J.P. Morgan Economic Research
11
Italy is the big risk More reforms needed quickly

Pressures from other EU member states on Italy to deliver on promises to promote greater flexibility and competitiveness in the economy have intensified Italy has made significant fiscal progress this year with additional revenue-raising measures targeted to achieve a balanced budget by 2013, but more is needed Italian debt sustainability is within reach and its fiscal journey is shorter than any other peripheral country. Italian debts duration is long, with low coupons and domestic ownership of debt is high
Peripheral countries average debt duration and yield on outstanding debt
7.0 6.0 4.87 5.0 3.99 4.0 3.0 2.0 1.0
0 Spain Italy Germany Belgium France Netherlands Greece Ireland Portugal Austria Finland
Adjustments to meet Euro area debt rule

% of GDP Debt at peak Primary position 2010 Prim ary position to m eet debt rule Journey from 2010 Government objective for primary position 2014
r =g Greece Ireland Portugal Spain Italy Belgium France Germany UK US Japan 185.3 132 120 83 125 101 86 83.2 93 107 219 -5 -8.1 -6.8 -7.4 -0.1 -0.7 -4.6 -0.9 -7.7 -9 -6.7 6.3 3.6 3 1.2 3.3 2.1 1.3 1.2 1.7 2.4 8
r > g by 200bp 10 6.2 5.4 2.9 5.8 4.1 3 2.9 3.6 4.5 12.4
r =g 11.3 11.7 9.8 8.6 3.4 2.8 5.9 2.1 9.4 11.4 14.7
r > g by 200bp 15 14.3 12.2 10.3 5.9 4.8 7.6 3.8 11.3 13.5 19.1
6.9 1.7 2.8 0.8 5.5 2.9 1 2 0.3 n/a n/a
Source: J.P. Morgan Economic research, The debt rule states that any government with a
debt-to-GDP ratio in excess of 60% needs to make an annual adjustment equal to1/20th of the gap. "r" is the average borrowing rate on debt, "g" is nominal GDP growth
% of non-domestic investors in government bonds

90 84 74 68 59 51 50 42 40 30 20 10 43 59 70 76 79
6.6
6.4
6.4
6.3 5.5 4.64 4.31
80 70 60
3.54
0.0 Italy Spain Greece Ireland Portugal

% of non-domestic Euro average
Average debt duration (, T-bills + Bonds)
Coupon cost on outstanding marketable debt (%)
12
Source: J.P. Morgan fixed income research
Source : J.PMorgan fixed income research, as at end of 2009
2. Global growth sub-trend, but positive in 12

Our economists forecast 2.0% global real GDP growth. Back in 08 it was not only Eurozone that had a recession, but most of the world as well. Global GDP fell by more than 4% from peak to trough and in US by more than 5%. Apart from the ramifications of the Euro stress, the key challenge for global growth in 12 is the intensifying fiscal tightening in DM. Our economists expect nearly 2% fiscal drag in the US, 1.4% in Eurozone and 0.7% in the UK.
J.P. Morgan real GDP growth forecasts
2011e Euro area Germany France Italy Spain Belgium Greece Ireland Portugal UK US EM World
Source: J.P. Morgan Economic research
2012e -0.7% 0.2% -0.2% -1.6% -1.1% -0.4% -6.6% 0.0% -3.9% 0.5% 1.8% 4.7% 2.0%
1.6% 3.0% 1.6% 0.5% 0.7% 2.0% -6.5% 2.0% -1.3% 0.9% 1.8% 5.7% 2.6%
Peak to trough fall in GDP during the 08 downturn

GDP Peak to Trough -4.3% -5.1% -5.5% -7.1%
Real GDP Global US EMU UK
Peak 08Q2 07Q4 08Q1 08Q1
Trough 09Q1 09Q2 09Q2 09Q2
Source: J.P. Morgan Economic research
13
Fiscal drag to intensify, but remains manageable

We expected US fiscal drag to intensify in 2012, but it could also be pushed out again Fiscal drag will also intensify in Eurozone and remain elevated in the UK. The latest budgets approved in several European countries contain a mix of spending cuts and revenue increases
Fiscal deficit projections
12
10
0 2007 2008 US 2009 EMU 2010 Japan UK 2011 2012
Source: J.P. Morgan economic research
Impact of fiscal policy on EMU and UK real GDP growth
Estimated contribution of fiscal policy to US GDP growth
Source: J.P. Morgan economic research, % chg, saar
14
Lessening of the fiscal drag in 12 still possible in the US

Overall for 2012, a wrap-up of all the fiscal measures, enacted or extended during the crisis, would contribute to a drag of 1.6% to the GDP growth. Non- extension of Payroll tax cuts will take away 0.5% from GDP growth. Similarly, removal of Unemployment Insurance and reversal of state transfers in mid-2010 will contribute to a drag of 0.3% and 0.6% respectively. The measures agreed under the Budget Control Act in Aug-11 are estimated to have an impact of 0.2% on the GDP. However, it seems reasonable to expect that part, if not all, of these measures will be extended in 2012, removing a potential drag of anywhere between 0.51.6% of GDP. If it was the case, JPM economists would have to raise their 12 US GDP growth forecast, currently at 1.8%
Impact of job market stimulus on GDP growth estimates
Ext. Unemployme nt Insurance ARRA ex EUI (EUI) Payroll tax
%-pt, saar 4Q/4Q 2009 2010 2011 2012 Half Year 1H11 2H11 1H12 2H12
Total
Budget Control Tax
2.0 0.5 -0.8 -1.6
1.7 0.5 -1.3 -0.6
0.3 0.0 0.0 -0.3
n.a. n.a. 0.5 -0.5
n.a. n.a. 0.0 -0.2
-0.2 -1.5 -2.6 -0.6
-1.0 -1.6 -0.9 -0.3
0.0 0.0 -0.7 0.0
0.8 0.2 -0.8 -0.2
0.0 -0.1 -0.2 -0.2
Source: J.P. Morgan economic research, ARRA accounts for the extension of state transfers implemented in mid-2010. The BCA is Budget Control Act enacted in Aug-11
15
US EASI already in positive territory, Europe could follow

The unknown is how the private sector will react to fiscal austerity, but we believe it will prove to be resilient enough for GDP growth to remain positive in most regions. In terms of supports the fall in most commodity prices over the past 6 months, and oil in particular, is providing a boost to real disposable incomes for consumers. The US economic surprise index moved into positive territory in October. Eurozone EASI has also shown a clear improvement, inching towards positive territory. A good leading indicator of Eurozone activity, M1 growth, has produced an inflection point recently
Eurozone vs US economic surprise indices
200 150 100 50 50 0 -50 -100 -100 -150 -200 -250 Jan-09 Apr-09 -150 -200 Jul-09 Oct-09 Jan-10 Apr-10 Jul-10 Oct-10 Jan-11 Apr-11 Jul-11 Oct-11 0 -50 150 100
Citi Euro EASI
Citi US EASI (rhs)
Source: JP Morgan, Markit
Eurozone M1 growth vs composite PMI

14% 12% 10% 8% 6% 4% 2% 0% -2% 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 50% 40% 30% 20% 10% 0% -10% -20% -30%
EMU M1 %6mom
EMU PMI composite %6mom (6m lag,rhs)
16
Source: JP Morgan, Markit
EMU is not likely to decouple from the global trends for too long
EMU macro momentum tended to lag the one of the US by a few months historically and is unlikely to decouple sustainably in the case of a further pick-up in global activity in our view.
Eurozone PMI vs US ISM

65 60 55 50 45 40 35
20 160 140 120 100 80
EMU vs US consumer confidence

5 0 -5 -10 -15 -20 60 40 -25 -30 -35 -40 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 US Conference Board index - consumer confidence
Source: European Commission, Conference Board
30 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11
EMU manufacturing PMI

Source: ISM, Markit
ISM manufacturing
EU survey - consumer confidence indicator (rhs)
17
Eurozone recession does not by itself warrant further equity downside

JPM economists are calling for an outright Eurozone recession, with peak to trough GDP loss of -1.1%. This would call for outright contraction in 2012 EPS. We assume a conservative 10% EPS fall in 2012, compared to the current IBES forecast of +9% On consensus EPS Eurozone equities trade on 9.0x 12 IBES P/E, and on 11.0x assuming 10% EPS fall next year. Looking at the past 3 recessions, market produced a lower P/E multiple on two occasions, at 8.0x in 08-09 and 10.5x in 1991. The more conservative 8.0x P/E gives a downside of 27% from current 11.0x We do not believe equity market needs to derate that much this time around as the projected peak to trough GDP fall in 11-12 of 1.1% is far lower than the one witnessed in 08-09, of 5.5%.
Eurozone PMI vs GDP
63 5
Peak to trough fall in EMU GDP in the past recessions

Eurozone real GDP Fall 1991 2001 2008/09 2011/12e
Source: Eurostat
3 53 0 43 -3 33 -5 23
Peak to trough -1.8% -0.1% -5.5% -1.1%
EMU P/E at market troughs in the past 3 recessions

Fwd P/E Jan-91 Mar-03 Mar-09 Current on IBES 12e EPS Gr Current on 0% 12e EPS Gr Current on -10% 12e EPS Gr Current on -20% 12e EPS Gr Median (since '88) EMU 10.5 11.1 8.0 9.0 9.9 11.0 12.3 12.8
-8
13 98 99 00 01 02 03 04 05 06 07 08 09 10 11
-10
EMU composite PMI
EMU GDP %qoq, saar (rhs)
Source: JP Morgan
18
Source: IBES, J.P. Morgan, as at 15th November
Eurozone recession tracker

JPM economists look for a Eurozone recession lasting through the third quarter of next year with a peak to trough move in the level of GDP of just over 1%.
Key macro indicators for Eurozone countries

Worst point of the Latest -1 M/Q -2 M/Q last downcycle Euro Area Real GDP %qoq, saar CPI %y oy PMI composite Unemploy ment rate % Consumer confidence Germany Real GDP %qoq CPI %y oy PMI composite Unemploy ment rate % Consumer confidence France Real GDP %qoq CPI %y oy PMI composite Unemploy ment rate % Consumer confidence Italy Real GDP %qoq CPI %y oy PMI composite Unemploy ment rate % Consumer confidence 11Q2 Oct 11 Nov 11 Oct 11 Oct 11 1.2% 3.2% 44.8 8.5 -29.2 0.5% 3.3% 43.1 8.3 -33.9 0.3% 2.9% 47.7 8.0 -31.1 -11.5% 0.0% 34.9 8.8 -31.9 11Q3 Nov 11 Nov 11 Oct 11 Oct 11 1.6% 2.5% 48.8 9.8 -30.9 -0.2% 2.3% 45.6 9.8 -24.3 3.8% 2.4% 50.2 9.8 -28.4 -6.1% -0.9% 36.7 10 -37 11Q3 Nov 11 Nov 11 Oct 11 Oct 11 2.0% 2.5% 49.4 5.5 -2.9 1.1% 2.5% 50.3 5.7 -3.3 5.5% 2.2% 50.5 5.8 -1.9 -15.1% -0.4% 36.3 8.1 -32.9 11Q3 Nov 11 Nov 11 Oct 11 Nov 11 0.8% 3.0% 47.0 10.3 -20.4 0.7% 3.0% 46.5 10.2 -19.9 3.1% 3.0% 49.1 10.1 -19.1 -10.2% -0.6% 36.2 10.2 -34.2 Spain Real GDP %qoq CPI %y oy PMI composite Unemploy ment rate % Consumer confidence Greece Real GDP %qoq CPI %y oy PMI manufacturing Unemploy ment rate % Consumer confidence Ireland Real GDP %qoq CPI %y oy PMI composite Unemploy ment rate % Belgium Real GDP %qoq CPI %y oy Unemploy ment rate % Consumer confidence Portugal Real GDP %qoq CPI %y oy Unemploy ment rate % Consumer confidence
Source: J.P. Morgan
Worst point of the Latest 11Q2 Sep 11 Nov 11 Aug 11 Oct 11 11Q1 Sep 11 Nov 11 Jul 11 Oct 11 11Q2 Sep 11 Nov 11 Aug 11 11Q2 Oct 11 Sep 11 Oct 11 11Q3 Sep 11 Sep 11 Oct 11 0.0% 2.8% 38.2 22.8 -15.4 0.7% 3.0% 40.9 18.3 -82.3 6.4% 2.8% 51.2 14.3 2.1% 3.9% 6.6 -15.3 -1.6% 4.2% 12.9 -58.4 -1 M/Q 0.6% 3.0% 41.7 22.5 -19.6 -10.7% 3.1% 40.5 17.7 -83.8 7.7% 2.6% 51.9 14.3 3.5% 3.6% 6.7 -8.3 -0.2% 3.6% 12.8 -57.2 -2 M/Q last downcycle 1.5% 3.2% 43.9 22.1 -17.0 -6.3% 1.7% 43.2 17.1 -73.6 -5.3% 2.2% 50.8 14.5 2.1% 3.6% 6.8 -8.8 -2.5% 2.9% 12.6 -58.9 -6.2% -1.4% 27.6 20.5 -47.6 -4.3% 0.5% 38.2 14.4 -56.9 -13.6% -6.6% 32.5 14.6 -7.6% -1.7% 8.5 -26.5 -7.6% -1.6% 12.4 -53.5
19
EMU periphery - Juggling fiscal slippage and the economy

Real GDP projections (%yoy)
We think peripheral EMU governments will need to respond to cyclical slippage with additional tightening measures, which will be a difficult balancing act between wanting to limit the downward pressure on growth while maintaining an acceptable medium term trajectory on deficits and debt
Greece
Ireland
Portugal
Spain
Italy
Belgium
Official JPM, no ex tra aust. JPM, more austerity Official JPM, no ex tra aust. JPM, more austerity Official JPM, no ex tra aust. JPM, more austerity Official JPM, no ex tra aust. JPM, more austerity Official JPM, no ex tra aust. JPM, more austerity Official JPM, no ex tra aust. JPM, more austerity
2011 -3.5 -6.5 -6.5 0.8 2.0 2.0 -1.9 -1.3 -1.3 1.3 0.7 0.7 0.7 0.6 0.6 2.0 2.0 2.0
2012 0.8 -4.5 -6.6 2.5 0.2 0.0 -2.8 -3.6 -3.9 2.3 -0.6 -1.1 0.6 -1.1 -1.5 2.3 -0.2 -0.4
2013 2.1 -3.3 -3.3 3.0 0.1 -0.6 1.2 -1.1 -1.7 2.4 0.5 -0.2 0.9 -0.6 -1.2 2.1 1.2 0.8
2014 2.1 -1.0 -0.3 3.0 1.0 0.6 2.5 0.3 -0.3 2.6 1.1 0.8 1.2 0.6 0.4 2.3 1.3 1.1
Source: J.P. Morgan, Official projections are from the Stability and Growth Programs for Greece, Ireland, Spain and Belgium
Government budget balance projections

Greece Official JPM, no ex tra aust. JPM, more austerity Official JPM, no ex tra aust. JPM, more austerity Official JPM, no ex tra aust. JPM, more austerity Official JPM, no ex tra aust. JPM, more austerity Official JPM, no ex tra aust. JPM, more austerity Official JPM, no ex tra aust. JPM, more austerity 2011 -7.3 -9.1 -9.1 -10.0 -9.6 -9.6 -5.9 -6.8 -6.8 -6.0 -7.1 -7.1 -3.9 -4.3 -4.3 -3.6 -3.8 -3.8 2012 -5.6 -10.4 -8.5 -8.6 -9.3 -8.9 -4.5 -5.9 -5.2 -4.4 -6.6 -5.9 -1.6 -2.8 -2.3 -2.8 -4.1 -3.5 2013 -4.4 -9.1 -7.0 -7.2 -9.3 -8.2 -3.0 -5.4 -4.2 -3.0 -6.0 -4.5 -0.1 -2.1 -1.1 -1.8 -3.6 -2.6 2014 -2.2 -8.3 -6.8 -4.7 -7.9 -6.4 -1.8 -5.3 -3.6 -2.1 -5.9 -4.0 0.2 -2.3 -1.0 -0.8 -3.1 -1.9
Government gross debt projections (% of GDP)

Greece Official JPM, no ex tra aust. JPM, more austerity Official JPM, no ex tra aust. JPM, more austerity Official JPM, no ex tra aust. JPM, more austerity Official JPM, no ex tra aust. JPM, more austerity Official JPM, no ex tra aust. JPM, more austerity Official JPM, no ex tra aust. JPM, more austerity 2011 156 163 163 111 108 108 100 102 102 67 70 70 121 121 121 98 97 97 2012 160 162 164 116 118 117 106 110 110 69 75 75 120 124 124 97 100 100 2013 158 178 178 118 127 126 107 117 116 69 81 79 116 125 125 95 102 101 2014 150 189 186 116 133 132 105 121 120 69 85 83 113 125 124 92 103 101
Ireland
Ireland
Portugal
Portugal
Spain
Spain
Italy
Italy
Belgium
Belgium
Source: JP Morgan, Sources of official projections detailed in the footnote in the first table
20
Source: J.P. Morgan, Sources of official projections detailed in the footnote in the first table
3. EM not out of bullets policy turning towards easing

Monetary tightening in many EM countries over the past 12 -18 months has hurt confidence, economic growth and stock prices. This looks set to change. A number of EM countries have scope for substantial cut in interest rates. China has most recently cut its RRR by 50bp, the first reduction in 3 years.
US vs EM consumption (as % of Global)
38 36 34 32 30 28 26 24 22 20 19 90 199 2 1 994 19 96 199 8 2000 US 2 002 200 4 EM 2 006 20 08 201 0
Source: J.P. Morgan
Chinese Banks' reserve requirement ratio

22 21 20 19 18 17 16
Brazil Selic Target Rate

16 14 12 10 8 6 4 2
15 14 08 09 10 China RRR - large financial institutions 11
0 Jan 09 Apr 09 Jul 09 Oct 09 Jan 10 Apr 10 Jul 10 Oct 10 Jan 11 Apr 11 Jul 11 Oct 11 Brazil Selic Target Rate (%)
Source: Bloomberg
Source: Bloomberg
21
Commodity prices stabilisation should ultimately be interpreted as a positive

Most main commodities are lower than H1 averages Net long speculative positions in oil remain elevated, suggesting oil price could have further downside
Agricultural Commodities Price Index
260 250 240 230 220 210 200 190 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec
JP Morgan Agricultural Commodities Price Index

Source: J.P. Morgan
Oil net long speculative positions

130 125 120 115 110 105 100 95
Crude Oil ytd
90 Jan-11
Feb-11 Mar-11
Apr-11 May-11 Jun-11
Jul-11
Aug-11 Sep-11 Oct-11 Nov-11 Dec-11
Brent ($)
Source: CFTC, Bloomberg
22
Source: Bloomberg
3 avenues of positive impact from commodity price stabilisation: on inflation, on growth, and on profits
US CPI vs Oil Price
A retreat in oil will stabilize headline inflation with a lag of 2-3 months. Easing commodity prices will remove a significant headwind to personal consumption Pressure on corporate profit margins is easing in H2.
3% 2%
50%
25% 1% 0% -1% -25% -2% -3% 02 03 04 05 06 07 08 09 10 11 -50% 0%
US headline CPI (%3mom)

Source: BLS, Datastream
Brent (%3mom,rhs)
Move in profit margins during oil spikes

Quarter 73Q4 74Q1 79Q2 79Q3 79Q4 87Q1 89Q1 90Q3 90Q4 99Q2 99Q2 02Q2 08Q2 09Q2 Average Median % of time>0 11Q1 11Q2 11Q3 Oil price* %qoq 57% 147% 24% 24% 21% 24% 36% 68% 21% 43% 30% 21% 26% 36% 41% 28% n/a 20.1% 11.8% -2.8% Margins current quarter qoq(bp) Same Quarter Next Quarter -2 -68 -68 -16 -30 -42 -42 -26 -26 -23 20 44 -69 -23 -43 -12 -12 16 -10 -43 -43 -25 24 5 -17 80 -34 19 -25 -8 -28 -20 14% 36% 3 29 29 12 12 n/a
-30 -20 -10 0
DM Retail Sales vs Oil Price
7.0
5.0
3.0 10 20 30 40 -3.0 02 03 04 05 06 07 08 09 10 11 1.0
-1.0
Oil ,%3m/3m (not ar), inverted
Retail sales vol ,%3m/3m,saar, rhs
Source: .J.P Morgan Economics Research Team
Source: J.P. Morgan OPEC weighted Oil Price
23
4. Equities are underowned, especially in Europe

Ytd mutual fund flows into equities and bonds
80
Cumulative mutual fund flows into European equities

4 2
60
0
40
-2 -4
20
-6
0
-8 -10
-20
-12
-40 Jan-11
Feb-11 Mar-11
Apr-11
May-11
Jun-11
Jul-11
Aug-11
Sep-11
Oct-11
Nov-11 Dec-11
-14 Jan-09
Apr-09
Jul-09
Oct-09
Jan-10
Apr-10
Jul-10
Oct-10
Jan-11
Apr-11
Jul-11
Oct-11
Global equities cumulative Flow (bn U$)
Global Bonds cumulative Flow (bn U$)
W Europe Equities cumulative Flow (bn U$)
Source: EPFR
Source: EPFR
Euro Stoxx50 Realised Correlation
% of MSCI Europe stocks above 52 week moving average
Source: JP Morgan Derivative Research Team
Source: Datastream, JP Morgan
24
5. Investors are paying up for Safety: Growth outperformance is extreme

The valuation dispersion between low P/B and high P/B stocks, so called Value and Growth, excluding Financials, is greater today than even at the worst point in '09. Value style has shown some rebound most recently, especially in the UK, but still appears very attractive due to past underperformance, elevated valuation dispersion and a potential rebound in bond yields
Valuation dispersion of High and Low P/Book style
2.0 1.9 1.8 1.7 1.6 1.5 1.4 1.3 05 06 07 08 09 10 11
Value vs Growth P/Book Dispersion, Sector Neutral

Source: Datastream, J.P. Morgan
UK Value vs Growth daily cumulative perf, Q2 to date

3.0%
Europe Value vs Growth daily cumulative perf, Q2 to date

5.0% 0.0% -5.0%
-2.0%
-7.0%
-10.0%
-12.0%
-15.0%
-17.0%
-20.0%
-22.0% Apr 11
May 11
Jun 11
Jul 11
Aug 11
Sep 11
Oct 11
Nov 11
Dec 11
-25.0% Apr 11
May 11
Jun 11
Jul 11
Aug 11
Sep 11
Oct 11
Nov 11
Dec 11
Value vs Growth, UK portfolio, Q2 to date cumulative

Source: Datastream, J.P. Morgan *up to 6th December
European Value vs Growth, Q2'11 to date

Source: Datastream, J.P. Morgan *up to 6th December
25
as is the outperformance of Quality

Performance of High Quality/RoE Strategy
The top quintile of stocks ranked by ROE has already outperformed the bottom quintile by nearly 35% this year and is close to trading in line with historical average. The Low Quality basket is trading at similar P/B multiples as those seen at the troughs of the 03 and 08/09 downturns The turn has been observed most recently and given the consensus nature of Quality trade, as well as what we see to be stretched valuations, we think the most recent rotation will continue
Historical valuations of Low RoE baskets
2.1
145 135 125 115 105 95 Jan-10
Apr-10
Jul-10
Oct-10
Jan-11
Apr-11
Jul-11
Oct-11
RoE, High vs Low

Quality performance vs HY spreads
1.9
1.7
1.5
1.3
1.1
0.9 00 01 02 03 04 05 06 07 08 09 10 11 Median P/Book of Low RoE (Bottom Quintile, Europe Ex-Fin)
Source: JP Morgan, MSCI, Datastream, MSCI Europe Ex-Financials
Source: JP Morgan, MSCI, Datastream, MSCI Europe Ex-Financials
26
6. Corporates are in a strong position - balance sheets are a source of strength

MSCI Europe Net Debt/Equity
One big difference to the typical end of cycle picture this time around is the relatively good health of corporate balance sheets. Cash on corporate balance sheets is near record high at present Healthy balance sheets are a cushion for dividends and buybacks in 12
0.80 0.75 0.70 0.65 0.60 0.55 0.50 0.45 0.40 0.35 0.30 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11e
Europe ex-Financials Net Debt/Equity
Source: IBES, MSCI, Datastream, Worldscope
MSCI Europe Cash on Balance sheets

590 10.5% 540 10.0% 490 9.5% 440 390 340 290 240 99 00 01 02 03 04 05 06 07 08 09 10 9.0%
Announced buybacks in Europe, Bn
4,000 3,500 3,000 2,500 2,000
8.5% 8.0% 7.5%
1,500 1,000 500 0
MSCI Europe (Ex- Fin, Telcos & Utilities) Cash as % of Total Assets, rhs
Total Cash on B/S (Bn )
03
04
05
06
07
08
09
10
11
European Announced Buybacks, 12mma, Mn $
Source: J.P. Morgan, MSCI, Worldscope
27
Source: Worldscope, J.P. Morgan, MSCI
as well as Margins - Margins peak way before equities peak, Q3 margins at new cycle highs
US Q3 profit margins have made a new high in this cycle. In fact, they are near all time highs at present. Margins lead the peaks in economic activity by 7Q and the equity market peaks by 5Q . This means that even if you believe margins have peaked in Q3 equities still tended to advance for more than a year following that. Following the peak in profit margins, the S&P500 tended to go up another 24% on average before peaking
US NIPA Profit Margins vs recessions
14% 13% 12% 11% 10% 9% 8% 7% 6% 47 50 53 56 59 62 65 68 71 74 77 80 83 86 89 92 95 98 01 04 07 10
Recessions
US Corporate profits as a % of GDP
Source: BEA, NBER
Japanese Corporate Profit Margins

12.0% 11.0% 10.0% 9.0% 8.0% 7.0% 6.0% 5.0% 4.0% 81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 11
Profit margin peaks vs output gaps/recessions/S&P500

# of quarters S&P500 # of quarters # of quarters Output Gap closes S&P500 peaks Performance from Recession starts before the peak in after the peak in Profit Margins after the peak in Profit Margins Profit Margins peak to S&P Peak Profit Margins n/a -2 2 n/m -2 9 11 28% -3 5 9 19% 0 3 4 3% -8 11 16 19% -4 0 3 n/m 0 10 10 20% 0 -1 0 n/m -2 7 7 32% -5 13 15 55% -1 5 5 16% -3 5 7 24% -2 5 7 19%
Japanese Corporate Profits, % GDP, 4Q moving average
Source: ESRI
Recession 1948 1953 1957 1960 1970 1974 1980 1982 1991 2001 2008 Average Median
28
Source: NBER, BEA, # quarters
Profit margin breakdown most recent bounce not due to weak USD
Pushback there is a view that the resiliency of US margins is entirely due to weak USD. This is not the case, as it was domestic nonfinancial margins which moved up the most in first three quarters of 2011, by 60 bps EM margins, to which both the US and Europe are significantly leveraged, need not structurally weaken
US domestic financial margins
4.0% 3.5% 3.0% 2.5% 2.0% 1.5% 1.0% 0.5% 0.0% -0.5% -1.0% 47 50 53 56 59 62 65 68 71 74 77 80 83 86 89 92 95 98 01 04 07 10 Recessions
Source: NBER, BEA
US Domestic financial corporate profits as a % of GDP
Foreign profit as a share of GDP

3.5% 3.0% 2.5% 2.0% 1.5% 1.0% 0.5% 0.0% 47 50 53 56 59 62 65 68 71 74 77 80 83 86 89 92 95 98 01 04 07 10 Recessions
Source: NBER, BEA
Domestic non-financial margins

12% 11% 10% 9% 8% 7% 6% 5% 4% 3% 2% 47 50 53 56 59 62 65 68 71 74 77 80 83 86 89 92 95 98 01 04 07 10 Recessions
Source: NBER, BEA
US Foreign profits as a % of GDP
US Domestic non financial corporate profits as a % of GDP
29
Structural margins regimes: 50-60ies high, 70-80ies low

We identify three main profit margins regimes over the past 60 years in the US: 1) 50ies60ies: margins were cyclical but stayed high at 10.7% on average; 2) 70ies-early 90ies: margins were structurally lower, around 8% on average; 3) late '90ies to date: margins moved back to a higher mid-cycle level of 10% on average The post WWII period saw low ULCs, low inflation and low bond yields, against a backdrop of robust GDP growth, which could be described as a perfect environment for margins expansion The'70ies-90ies period of low margins was characterized by high ULCs, high inflation and high bond yields, a polar opposite The present situation of low ULCs, low inflation and low bond yields has some similarities to the 50ies. US GDP growth is lower this time around, but EM growth could compensate.
US corporate profit margins cycles
14% 13% 12% 11% 10% 9% 8% 7% 6% 47 50 53 56 59 62 65 68 71 74 77 80 83 86 89 92 95 98 01 04 07 10 US Corporate profits as a % of GDP Average 1971-95
Source: BEA
Average 1947-70 Average 1996-11
Margins, GDP growth, ULCs, bond yields and inflation regimes

NIPA average 1947-70 1971-95 1996-2011
Source: NBER, BEA
Real GDP %yoy 3.9% 3.1% 2.5%
ULCs %yoy 2.6% 4.5% 1.3%
CPI %yoy 2.5% 5.7% 2.5%
margins 10.7% 8.1% 9.9%
10Y Bond yield 3.8% 8.7% 4.7%
30
Most recent margins recovery is not just cyclical - Low ULCs remain a tailwind
Growth in profits vs growth in GDP after a recession
While the latest growth recovery was weak, the recovery in profits was best ever Clearly, the ULCs are inversely correlated with GDP growth. If GDP is contracting, ULCs will spike However, we highlight that over the past few years the gap has opened. ULCs remained low despite subtrend GDP growth => one of the arguments why margins did so well
9.0 8.0 8.0 7.0 6.0 5.0 4.0 3.0 2.0 1.0 0.0 1949 1953 1958 1970 1974 1980 1982 1991 2001 2009 2.1 4.5 3.7 3.2 2.6 2.3 1.2 3.0 2.3
Corp. Non-fin (Domestic + Foreign) Profits %ch rel to GDP %ch

Source: BEA
Eurozone Real GDP and Unit Labour Costs

-1.0% 4% 2% 0% -2% -4% 6.0% -6% 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 7.0% 0.0% 1.0% 2.0% 3.0% 4.0% 5.0%
15% 13% 11% 9% 7% 5% 3% 1% -1% -3% -5%
US Real GDP and Unit Labour Costs

-15% -10% -5% 0% 5% 10% 15% 47 50 53 56 59 62 65 68 71 74 77 80 83 86 89 92 95 US Real GDP, %yoy 98 01 04 07 10
US ULC, %yoy, rhs, inverted
EMU Real GDP %oya

Source: ECB, Eurostat
EMU ULC %oya, rhs, reverse scale
31
Source: BEA
Earnings we dont expect a collapse in 12

We forecast flat EPS growth in Eurozone for 12. Our model is based on three variables: 1) Global IP, a proxy for top-line, 2) the difference between EMU GDP deflator and ULCs, a proxy for profit margins; 3) EUR/USD exchange rate. Using JPM assumptions for these 3 variables, we actually get mid single digit positive EPS growth for '12. For UK earnings, our model is based on global real GDP, profit margins proxy and commodity prices (GSCI index). Using JPM assumptions for these three variables, the model forecasts 6% EPS growth in '12, which is only slightly below the current IBES estimates of +8%.
J.P. Morgan EMU earnings model

60% 40% 20% 0% -20% -40% -60% 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12
J.P. Morgan UK EPS growth model

60% 50% 40% 30% 20% 10% 0% -10% -20% -30% -40% 72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 12 UK EPS %yoy Model Predicted EPS %yoy
EMU trailing earnings (%yoy)
Earnings model forecast (%yoy)
Source: J.P. Morgan
Source: J.P. Morgan
32
Earnings 4 reasons against a collapse:

We see four key reasons why Eurozone EPS should not be down, at least not down significantly, in 12: 1. The base has already fallen substantially. The '11e EPS growth rate now stands at -3.7% compared to +13.6% at the start of the year. 2. Our expectation of a weakening EUR/USD next year should provide some support. Historically, a 10% fall in EUR/USD exchange rate tended to boost Eurozone EPS by roughly 3%.
Eurozone EPS vs trade-weighted Euro
50% 40% 30% -5% 20% 10% 0% -10% -20% 15% -30% -40% -50% 83 85 87 89 91 93 95 97 99 01 03 05 07 09 11 13 20% 25% 0% 5% 10% -15% -10%
Eurozone EPS %yoy
Trade Weighted Euro %yoy, rhs, lead by 3Q, inv scale
Source: Datastream
EMU, UK, US and EM consensus EPS growth forecasts

Eurozone 2011 Current -4% 11% 9% -1% 21% 5% 2% -17% 4% -8% -23% 9% -8% 2% 1st Jan 14% 12% 17% 23% 18% 13% 3% 21% 31% 3% -4% 21% 3% 12% 2012 Current 1st Jan 10% 14% 7% 12% 3% 20% 10% 16% 4% 17% 10% 12% -2% 2% 23% 18% -7% 11% 1% 4% 11% 7% 4% 17% 5% 7% 5% 12% 2011 Current 14% 22% 37% 9% 12% 7% -2% 12% 15% -1% -1% 26% 1% 14% UK 1st Jan 18% 14% 38% 12% 11% 9% 9% 29% 9% 2% 5% 27% 7% 15% 2012 Current 8% 5% 7% 9% 10% 9% -3% 15% 5% 7% 9% 8% 5% 6% 1st Jan 11% 10% 8% 10% 12% 10% 3% 19% 12% 4% 8% 9% 6% 8% 2011 Current 16% 37% 33% 21% 17% 8% 9% 5% 19% 3% -1% 20% 7% 18% US 1st Jan 14% 15% 29% 19% 17% 8% 8% 22% 10% 16% -1% 15% 7% 12% 2012 Current 1st Jan 10% 14% 3% 21% 9% 13% 14% 17% 13% 16% 8% 11% 6% 7% 25% 19% 8% 12% 11% 15% -2% -1% 10% 14% 6% 8% 8% 13% Emerging Markets 2011 2012 Current 1st Jan Current 1st Jan 10% 16% 11% 14% 14% 7% 0% 10% 24% 32% 10% 14% -3% 15% 18% 14% 20% 20% 17% 15% 14% 10% 19% 17% 5% 18% 16% 14% 19% 21% 9% 17% -28% 5% 30% 15% 6% 11% 10% 10% -9% 22% 25% 14% 3% 18% 17% 15% 5% 13% 16% 13% 7% 14% 11% 13%
Market Energy Materials Industrials Discretionary Staples Healthcare Financials IT Telecoms Utilities Cyclicals Defensinves Ex-Financials
Source: J.P. Morgan, as at CoB 6th Dec
33
Earnings 4 reasons against a collapse:

3. US and Eurozone EPS momentum tended to move together directionally 70% of the time. We see more downside risks to earnings in Eurozone than in the US for 2012, but if the US avoids a double dip, Eurozone EPS is unlikely to collapse in our view. 4. Global IP was a more reliable driver of European earnings than the domestic activity. When global IP was positive, Eurozone earnings tended to grow. Hence our flat EPS growth forecast is already quite conservative given our constructive forecast for global growth.
EMU vs US EPS Momentum

60% 40% 20% 0% -20% -40% -60% 75 77 79 81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 11 Eurozone EPS %yoy
Source: J.P. Morgan , Datastream
Global IP and Eurozone EPS, with JPM IP forecast for 12

50% 40% 30% 20% 10% 0% -10% -20% -30% -40% -50% 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 Eurozone EPS %yoy
Source: J.P.Morgan, Datastream
10% 5% 0% -5% -10% -15%
US EPS %yoy
IP Global %yoy, rhs, lead by 3Q
JPM Global IP Forecast
34
Top-line vs. margin contribution

13.5%
European EBIT/Sales
IBES is projecting 3.2% MSCI Europe (exFinancials) sales growth in 2012 and 24bp margin expansion 3.2% Sales growth for 12 is a significant deceleration from the 11 growth rate of 8.6% growth
12.5%
11.5%
10.5%
9.5%
8.5%
7.5% 99 00 01 02 03 04 05 06 07 08 09 10 11e 12e 13e
EBIT/Sales Europe Ex-Financials
IBES forecasts
Source: Datastream, IBES
MSCI Europe sales growth and implied margin expansion

Sales Growth 10e Europe Europe Ex Fin Energy Materials Industrials Discretionary Staples Health Care Financials IT Telecoms Utilities
Source: IBES, 2nd December
MSCI Europe Sales Growth vs global GDP growth

25% 20% 15% 10% 4% 5% 2% 0% -2% 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10e 11e
MSCI Europe Ex Financials Sales Growth
Source: Worldscope, IBES, J.P. Morgan
EPS Margins Expansion 10e

180 137 82 308 166 346 43 100 352 301 16 -94
10% 8% 6%
11e
7.0% 8.6% 19.1% 16.6% 6.3% 10.9% 1.2% 3.6% 0.3% 3.8% -2.1% 2.1%
12e 12 vs Peak
3.2% 3.2% -0.3% 4.4% 4.1% 5.5% 5.6% 3.4% 3.2% 1.9% 0.5% 3.6% 13.9% 13.3% 1.1% 21.0% 6.8% -18.0% 20.1% 21.7% 6.5% -8.3% -0.6% 16.0%
11e
-35 -14 -12 67 -19 28 11 -38 -105 -31 -31 -127
12e
50 24 49 18 24 7 27 -26 159 5 34 38
9.8% 11.3% 26.3% 19.0% 7.3% 1.6% 5.8% 9.6% 3.8% 7.1% 9.6% 9.1%
0% -5% -10%
IBES Forecast
Global Real GDP Growth (rhs, incl. forecast)
35
Supports for margins: Wage growth remains muted and balance sheets are strong
The key cost factor, labour costs remain very well behaved. From the <2% levels of ULCs, such as seen currently, margins increase 66% of the time over the following year ULCs remained low despite subtrend GDP growth => one of the arguments why margins did so well Balance sheets have very little debt this time around, another tailwind for margins in our view
European P&L decomposition
As % of Sales Staff costs COGS excl staff costs SGA costs Other expenses EBITDA Depreciation EBIT Interest Other income Pretax Income Taxes Minority, disctd, etc Net Income Taxes as % of pretax income EBIT / Sales Net income / Sales 2003 16.5% 51.2% 14.8% 1.9% 15.7% 7.4% 8.4% 1.9% 0.0% 6.5% 2.4% 0.1% 3.9% 37.6% 8.4% 3.9% 2004 15.5% 52.3% 14.0% 1.0% 17.2% 6.9% 10.3% 1.7% 0.0% 8.7% 3.1% 0.0% 5.6% 35.3% 10.3% 5.6% 2005 15.3% 51.7% 13.7% 1.1% 18.1% 6.0% 12.1% 1.6% 0.0% 10.6% 3.6% 0.2% 6.9% 33.6% 12.1% 6.9% 2006 15.0% 52.0% 13.4% 2.0% 17.6% 5.5% 12.0% 1.7% -0.1% 10.4% 3.6% 0.2% 6.6% 34.1% 12.0% 6.6% 2007 14.7% 52.1% 13.0% 1.1% 19.1% 5.6% 13.5% 1.8% -0.1% 11.8% 3.8% 0.0% 8.1% 32.0% 13.5% 8.1% 2008 14.6% 53.9% 12.6% 2.0% 16.9% 5.3% 11.6% 1.9% -0.1% 9.7% 3.4% 0.3% 6.1% 34.8% 11.6% 6.1% 2009 16.4% 50.7% 14.1% 3.0% 15.8% 6.4% 9.4% 2.1% -0.1% 7.4% 2.6% 0.1% 4.8% 34.7% 10.5% 4.8% 2010 15.0% 52.1% 13.9% 1.6% 17.4% 5.9% 11.5% 1.7% -0.1% 9.9% 3.0% -0.3% 7.2% 30.5% 11.5% 7.2%
Source: Datastream, Worldscope, J.P. Morgan, MSCI Europe Ex-Financials bottom up calculations
US profit margins proxy* vs corporate profits

60% 6%
US & Europe net debt to equity

0.85 0.75 0.65
40%
4%
20%
2%
0.55
0% 0%
0.45 0.35 0.25
-20%
-2%
-40%
-4%
0.15 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11e 12e

-60% 51 53 55 57 59 61 63 65 67 69 71 73 75 77 79 81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 11 US corporate profits %yoy USA proxy for profit margins (%yoy, rhs) -6%
US ex-Fin ND/Eq
Europe ex-Fin ND/Eq
IBES Forecast
Source: Datastream, BEA, J.P. Morgan, * GDP deflator Unit labor cost
Source: Worldscope, IBES
36
Margins at sector level

The largest falls in margins in the last 2 downturns were in Semiconductors, Tech Hardware and Mining We dont expect margins to fall as much this time around
Europe level 2 sectors EBIT to sales last 2 cycles and current
EBIT/Sales Peak '99-'00 Europe (Ex -Financials) Energy Chemicals Cons Mat Met&Min Cap Goods Transport Automobile Cons Durables Media Retailing Hotels,Rest&Leis Food Drug Ret Food Bev &Tob HPC Healthcare Softw are Tech Hardw are Semiconductors Telecoms Utilities Cyclicals Defensives
Source: Worldscope, IBES
Trough '0102 8.0% 10.1% 7.0% 11.9% 9.8% 4.6% 6.3% 3.8% 9.5% 8.5% 7.2% 5.9% 3.6% 12.1% 11.1% 16.9% 11.5% -5.8% -10.6% 7.9% 11.2% 5.3% 9.7%
Peak '06-'07 13.1% 15.7% 11.2% 15.9% 22.0% 8.8% 10.3% 7.0% 15.7% 18.0% 12.6% 8.7% 4.2% 16.9% 14.8% 25.6% 16.8% 14.7% 8.0% 20.4% 15.8% 11.2% 15.2%
Trough 09-10 10.9% 10.5% 9.5% 11.2% 10.9% 6.7% 5.6% -0.1% 13.4% 16.0% 11.5% 6.9% 4.1% 15.8% 13.4% 25.6% 16.8% 6.8% -5.7% 19.0% 13.1% 7.0% 14.8% Avg Fall -2.5% -4.7% -2.7% -3.2% -7.4% -3.5% -4.2% -3.9% -3.3% -4.6% -1.2% -1.5% -0.2% -0.8% -0.7% -0.4% -1.3% -12.2% -23.5% -5.1% -2.3% -3.9% -1.2% 2011e 12.5% 12.5% 11.5% 10.8% 17.2% 9.0% 8.3% 7.4% 16.6% 17.2% 12.9% 7.3% 4.4% 18.2% 16.4% 24.1% 19.2% 6.8% 10.2% 19.4% 12.3% 10.8% 14.9%
Stressed 2011 10.1% 7.7% 8.8% 7.6% 9.9% 5.4% 4.1% 3.5% 13.2% 12.6% 11.7% 5.8% 4.1% 17.4% 15.7% 23.6% 17.9% -5.4% -13.3% 14.3% 10.0% 6.9% 13.8% 10 Yr Med 11.5% 12.4% 10.1% 13.0% 17.5% 6.9% 8.8% 4.2% 13.4% 15.9% 11.1% 7.2% 4.0% 14.7% 13.5% 21.7% 14.8% 9.4% 5.4% 18.9% 13.4% 8.6% 14.4%
10.7% 14.4% 10.6% 13.5% 13.4% 9.5% 10.2% 4.5% 13.9% 15.6% 8.4% 7.1% 4.0% 12.6% 11.1% 17.8% 14.1% 10.8% 22.7% 16.8% 13.1% 8.9% 11.7%
37
Equities are not priced for positive outcome - 26% P/E discount to median
European equities are trading today at 9.6x forward earnings, which compares to the last 25year median of 13x, giving a 26% discount The median P/E of the MSCI Europe universe is also trading at a discount to its longer-term average, albeit smaller, at 10.6x vs its typical 13.5x P/B metric conveys a similar message, where European equities are trading at 1.39x, at a 23% discount to historical median
MSCI Europe 12m Fwd P/E
25 23 21 19 17 15 13 11 9 7 88 91 94 97 00 03 06 09
MSCI Europe 12m Fwd P/E
average
-1sd
+1sd
Source: Datastream, MSCI, IBES
MSCI Europe P/Book

4.5 4.0 3.5 3.0 2.5 2.0 1.5 1.0 0.5 0.0 75 77 79 81 83 85 87 89 91 93 95 97 99
median
MSCI Europe median 12m Fwd P/E

21 19 17 15 13 11 9 7 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11
01 03 05 07 09 11
MSCI Europe median 12m Fwd P/E

MSCI Europe P/Book
median
Source: Datastream, MSCI
38
Even stressed valuations offer value

MSCI EMU is currently trading on an 9.0x 12e IBES EPS estimate. Using our 0% EPS growth assumption instead, the P/E goes to 9.9x. This is offering a 23% discount to the past 20 years median P/E. In the UK, the market is currently trading on 9.3x P/E based on IBES estimates. The multiple goes to 9.7x on our 6% EPS growth assumption, giving a 23% discount to historical median.
EMU and UK P/E at the trough of the market in the past 3 recessions and potential scenarios for 2012
Fwd P/E Jan-91 Mar-03 Mar-09 Current* on IBES 12e EPS Current* on JPM 12e EPS Current* on -10% 12e EPS Current* on -20% 12e EPS Median (since '88)
EMU 10.5 11.1 8.0 9.0 9.9 11.0 12.3 12.8
UK 9.1 12.0 8.5 9.3 9.7 11.1 12.5 12.6
MSCI EMU 12m Fwd P/E

27 25 23 21 19 17 15 13 11 9 7 88 89 90 91 92 93 94 95 96 97 98 99 00 01 IBES 02 03 04 05 06 07 08 09 10 11
MSCI UK 12m Fwd P/E

27 25 23 21 19 17 15 13 11 9 7 88 89 90 91 92 93 94 95 96 97 98 99 00 01 IBES 02 03 04 05 06 07 08 09 10 11
MSCI EMU 12m Fw P/E
Median
2012 Gr: -10%
2012 Gr: -20%
MSCI UK 12m Fw P/E
Median
2012 Gr: -10%
2012 Gr: -20%
39
Equities are cheap vs other asset classes

In addition to favourable absolute valuations, equities also appear attractively valued vs. other asset classes
S&P500 post-tax dividend yield vs bond yield

200 100 0 -100
European dividend yield gap

5.0% 4.0% 3.0% 2.0% 1.0%
Equities expensive
-200 -300 -400 -500 62 65 68 71 74 77 80 83 86 89 92 95 98 01 04 07 10
0.0% -1.0% -2.0% -3.0%
Equities cheap
-4.0% 99 00 01 02 03 04 05 06 07 08 +1.5 Stdev 09 10 -1.5 Stdev 11
Post tax: S&P 500 Div Yield vs 10yr Yield
Source: J.P. Morgan
Europe Dividend Yield Gap

Source: J.P. Morgan
24mma DY Gap
40
% of stocks trading at lower price level than in 07-09 / lower P/B than March 09
16% of Eurozone stocks trade at lower price level than any time during 07-09 (70% are non-financials) vs only 2% for S&P500 27% of Eurozone stocks trade at lower P/B than March 09 low (80% are non-financials)
% of stocks trading lower or near their 0709 lows

Eurozone % Stocks below 07-09 lows % Stocks P/B below Mar'09 Current* P/Book Median P/Book Discount Current* P/Book Ex-Fin Median P/Book Ex-Fin Discount 16% 27% 1.1 2.2 -51% 1.5 2.5 -41% UK 4% 19% 1.6 2.5 -35% 2.0 2.7 -26% US 2% 7% 2.0 3.2 -36% 2.6 3.6 -29% Japan 20% 46% 0.9 1.7 -46% 1.0 1.8 -42% EM 7% 17% 1.6 1.8 -11% 1.7 1.8 -8%
0.75 0.70 0.65 0.60 0.55 0.50 0.95 0.90 0.85 0.80
Eurozone vs US P/B (ex Financials)
Source: JP Morgan, as at CoB 6th December
98
99
00
01
02
03
04
05
06
07
08 +1stdev
09
10
11 -1stdev
MSCI EMU (Ex-Fin) P/Book rel to US
average
41
% of European stocks trading at lower P/Book than in March09

21% of Stoxx600 stocks trade at P/Book cheaper than the one recorded at the market trough in March09
Stoxx600 stocks that trade below March 09 P/B lows
DJStoxx 600 P/Book on Mkt Trough Current (9/3/09) Cur 6.8 7.7 0.9 1.1 1.0 1.1 1.8 2.2 2.6 3.4 1.8 2.6 1.5 2.0 1.9 3.2 7.7 39.2 1.4 2.1 7.8 8.5 2.6 2.9 2.2 2.5 1.9 2.2 4.8 6.1 0.3 0.6 1.5 81.3 2.9 2.9 1.4 1.5 0.9 1.0 2.3 3.5 6.0 6.3 48.2 82.2 1.0 1.3 1.0 1.2 2.9 3.3 2.7 3.5 0.9 1.1 4.2 4.3 2.5 3.2 0.7 1.8 DK 0.7 0.8 E 1.3 1.9 E 1.7 2.0 E 0.2 0.3 E 0.1 0.4 E 1.9 3.7 E 0.5 0.5 E 1.0 1.6 E 0.8 1.2 E 0.8 0.9 E 0.1 0.3 E 0.5 0.6 E P/Book on Mkt Trough Stock Current (9/3/09) Cur BANCO COMR.PORTUGUES 'R' 0.1 0.5 E BANCO ESPIRITO SANTO 0.2 0.6 E BANCO POPOLARE 0.1 0.1 E BANCO DE SABADELL 0.6 0.7 E BELGACOM 2.4 2.8 E BIOMERIEUX 2.5 2.8 E BOUYGUES 0.9 0.9 E BRISA-AUTSDS.DE PORTUGAL 0.8 1.8 E CARREFOUR 1.5 1.6 E CELESIO (XET) 0.8 1.1 E COMMERZBANK (XET) 0.1 0.1 E CREDIT AGRICOLE 0.3 0.3 E CRH 1.0 1.0 E DELHAIZE GROUP 0.9 1.0 E DEUTSCHE TELEKOM (XET) 1.0 1.1 E DEXIA 0.1 0.2 E E ON (XET) 0.8 1.0 E EDF 1.2 1.8 E EDP ENERGIAS DE PORTUGAL 1.1 1.2 E EIFFAGE 0.7 0.9 E ENDESA 1.0 1.2 E ENEL 0.8 0.8 E ERAMET 0.9 1.2 E COLRUYT 3.0 5.0 E FINMECCANICA 0.3 0.9 E FRANCE TELECOM 1.2 1.7 E GAMESA CORPN.TEGC. 0.5 1.2 E GDF SUEZ 0.8 0.9 E MSET.ESP.COMUNICACION 1.3 3.7 E ACCIONA 0.7 0.8 E ICADE 1.1 1.4 E INDRA SISTEMAS 1.8 2.5 E INTESA SANPAOLO 0.3 0.3 E K + S (XET) 2.7 2.9 E KPN KON 4.0 4.2 E LAFARGE 0.5 0.5 E LAGARDERE GROUPE 0.6 0.8 E DEUTSCHE LUFTHANSA (XET) 0.5 0.6 E MEDIASET 1.0 1.5 E MEDIOBANCA 0.6 0.7 E MOBISTAR 5.5 6.3 E NATIONAL BK.OF GREECE 0.2 0.7 E NEOPOST 2.8 3.5 E P/Book on Mkt Trough Current (9/3/09) 0.9 1.1 1.1 2.0 3.1 9.7 1.4 4.1 0.2 0.2 0.1 0.4 1.0 3.9 0.8 2.0 0.2 0.4 1.4 1.8 0.8 1.2 2.8 2.8 5.8 6.3 1.4 1.4 1.0 2.0 0.6 0.6 1.1 1.2 0.9 1.4 0.6 0.6 2.6 2.9 2.6 2.8 0.7 1.1 1.2 1.5 1.4 1.5 0.2 0.3 0.6 1.0 1.6 2.4 0.9 1.0 3.0 3.2 2.5 2.5 15.8 17.0 2.2 4.2 1.2 1.4 1.3 2.4 3.7 4.9 13.4 15.6 3.8 4.2 1.1 1.9 1.6 1.7 5.6 7.6 2.5 2.5 0.68 0.72
Stock ADMIRAL GROUP AMLIN ANGLO AMERICAN ASTRAZENECA BABCOCK INTL. BAE SYSTEMS BALFOUR BEATTY BHP BILLITON BT GROUP CAIRN ENERGY CAPITA GROUP CENTRICA CHEMRING GROUP COBHAM HAYS HOME RETAIL GROUP INFORMA INMARSAT LONMIN MAN GROUP NATIONAL GRID REED ELSEVIER RIGHTMOVE RSA INSURANCE GROUP SAINSBURY (J) SSE SMITHS GROUP TUI TRAVEL ULTRA ELECTRONICS HDG. UNITED UTILITIES GROUP VESTAS WINDSYSTEMS A2A ACCOR ACS ACTIV.CONSTR.Y SERV. AIR FRANCE-KLM ALPHA BANK ALSTOM ARCELORMITTAL AREVA BANKINTER 'R' BANCA CARIGE BANCA MONTE DEI PASCHI BANCA PPO.EMILIA ROMAGNA
Stock NESTE OIL NOKIA OPAP HELLENIC TELECOM.ORG. PEUGEOT BANK OF PIRAEUS PORTUGAL TELECOM SGPS POSTNL PUBLIC POWER QIAGEN (XET) RAUTARUUKKI 'K' RED ELECTRICA CORPN. REED ELSEVIER (AMS) RHOEN-KLINIKUM (XET) RWE (XET) SALZGITTER (XET) SANOMA SUEZ ENVIRONNEMENT TELECOM ITALIA TELEFONICA TELEKOM AUSTRIA TELEPERFORMANCE THALES TOTAL UBI BANCA VEOLIA ENVIRONNEMENT VERBUND VIVENDI WINCOR NIXDORF (XET) WOLTERS KLUWER ZARDOYA OTIS ACTELION LOGITECH 'R' LONZA GROUP NOBEL BIOCARE HOLDING ROCHE HOLDING STRAUMANN HLDG. VALIANT 'R' ERICSSON 'B' ORIFLAME COSMETICS SDB SECURITAS 'B' SSAB 'A'
Cur E E E E E E E E E E E E E E E E E E E E E E E E E E E E E E E SF SF SF SF SF SF SF SK SK SK SK
Source: JP Morgan, Datastream, MSCI, as at CoB 6th December
42
Big pushback - Euro bank deleveraging

Risk is that bank deleveraging will turn into credit crunch and add significantly to the economic weakness. We do not believe that bank deleveraging has to dramatically hurt the credit flow to the Euro economy, at least not to the core Eurozone. Euroland banks use only 39% of their balance sheet to fund households and corporates. They can attempt asset disposals which do not involve cutting their mortgage books, or cutting lines of credit to corporates and loans to SMEs
JPMs estimates of 12e capital shortfall

Capital m n Deutsche Bank Unicredit Socit Gnrale Commerzbank Barclay s Credit Agricole KBC BNP Paribas Lloy ds Intesa RBS Credit Suisse Santander BBVA RBI Erste shortfall/excess m n -10,570 -10,089 -6,772 -5,816 -5,734 -5,645 -4,738 -4,645 -4,503 -3,480 -3,220 -3,151 -2,602 -2,147 -1,750 -1,177 Sum of deficits Other banks Total -77,314 -101,094 -178,408 Sabadell Popular Nordea Danske UBS DnB Bankinter SHB HSBC Sw ed SEB Stan Capital shortfall/excess -1,003 -272 110 117 129 205 224 1,438 1,651 2,190 2,741 4,754
Euro area Credit Institutions Balance Sheet Breakdown

Aggregate B/S of EMU Credit Ins t. Total Loans Govt HH & Non-fin Corporates MFIs Bonds Govt HH & Non-fin Corporates MFIs Others MMF Shares / Units Equities/Other securities Pvt Sector External Assets Fixed Assets Remaining Assets
Source: Eurostat, ECB
% 100% 55% 3% 34% 18% 14% 4% 5% 5% 31% 0% 4% 13% 1% 12%
Bn 33,538 18,444 1,145 11,268 6,031 4,714 1,393 1,516 1,804 10,380 62 1,232 4,328 230 4,129
Source: JPMorgan Banks research, based on fully loaded 2012E B3 Common Equity tier 1 ratios assuming no phasing of capital deductions and <100% of mgt guided mitigation impacts
43
Eurozone loan growth positive, but lending standards are tightening

Eurozone banks asset to equity ratio was historically higher than those in the US, partly due to different accounting treatments of derivatives under IFRS and US GAAP. Still, Euro banks lack capital as they are more levered and need to mark to market their sovereign bond exposure The fear is that the acute bank funding stress and a need for deleveraging will reduce banks' willingness and ability to make loans to the real economy in the coming months. Lending standards are tightening again
Eurozone loans to private sector %yoy
14 12 10 8 6 4 2 0 -2 04 05 06 07 08 09 10 11
Eurozone Loans to private sector - %oya

Source: ECB
% of Eurozone banks tightening lending standards

80 70
EMU vs US Banks leverage

21.0 19.0
60 50 40 30 20 10 0 -10 -20 -30 03 04 05 06 07 08 09 10 11
17.0 15.0 13.0 11.0 9.0 7.0 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11
Eurozone Banks Leverage
US Banks Leverage
Net % of EMU banks reporting tightening credit standards, past 3 months - small and medium enterprises Net % of EMU banks reporting tightening credit standards, past 3 months - large enterprises Net % of EMU banks reporting tightening credit standards, past 3 months - HH mortgages
Source: ECB, FRB
Source: ECB
44
Bank deleveraging to be more a negative for periphery than for core EMU
German and French banks have a relatively small loan books as a proportion of total assets than Italian, Greek, Spanish and Portuguese banks. Countries with low level of private leverage are enjoying stronger lending growth than countries with a high level of private debt
Eurozone private loan growth breakdown
Loan growth %yoy ( bn) Total private sector Euro area Belgium Germany Estonia Ireland Greece Spain France Italy Cyprus Luxembourg Malta Netherlands Austria Portugal Slovenia Slovakia Finland Core Periphery 2.7% 0.6% 3.4% -3.8% -8.6% -2.0% -1.5% 5.6% 4.0% 7.7% 2.5% 1.9% 6.8% 1.4% -1.4% -1.1% 9.1% 8.3% 4.4% -2.3%
Eurozone Bank assets breakdown

Loans HH & Non-fin Govt. corporates Euro Area Germany France Italy Greece Spain Portugal Ireland 3.4% 4.7% 2.2% 6.5% 2.7% 2.5% 2.5% 4.8% 33.6% 31.2% 25.1% 44.1% 52.0% 51.3% 48.0% 18.7% Bonds HH & Non-fin Govt. corporates 4.2% 3.8% 2.5% 6.4% 9.5% 5.0% 4.6% 3.0% 4.5% 2.1% 3.3% 4.3% 0.5% 8.5% 12.2% 7.3%
MFI's 18.0% 20.7% 23.5% 12.4% 10.2% 9.2% 7.6% 15.2%
MFI's 5.4% 7.6% 5.4% 6.5% 0.3% 2.0% 6.9% 6.8%
Others 30.9% 29.9% 38.0% 19.7% 24.8% 21.5% 18.2% 44.2%
Source: Eurostat, ECB
Non-financial corporates 1.9% 2.3% 1.8% -5.4% -11.2% -2.0% -4.2% 5.8% 5.3% 10.5% -3.3% 0.4% 5.3% 3.0% -1.3% -2.1% 6.3% 9.0% 4.2% -4.3%
Households 2.2% 2.8% 0.8% -1.7% -3.7% -3.5% -1.7% 6.5% 4.8% 5.8% 5.9% 5.7% 4.6% 1.8% -0.4% 2.4% 12.2% 5.8% 3.7% -1.9%
Consumer credit -1.9% 2.3% 1.1% -8.9% -13.8% -7.1% -13.5% 1.4% 2.0% 0.3% 10.6% 3.0% -0.9% -3.9% -2.8% -2.3% 5.6% 3.6% 1.1% -10.9%
Lending for house purchase 3.0% 3.3% 1.1% -1.3% -1.5% -1.6% -1.2% 7.5% 4.9% 6.9% 10.0% 8.1% 5.8% 3.9% 0.2% 7.2% 14.7% 6.4% 4.5% -1.1%
Other lending 2.1% 0.1% -0.3% 2.8% -5.2% -4.4% 3.5% 7.0% 5.6% 6.7% -1.3% -2.3% -5.4% 1.1% -3.2% -3.3% 8.0% 4.2% 2.5% 1.5%
Private debt to GDP vs private loan growth

170 160 150 Ireland Netherlands Spain Portugal
Private debt to GDP
140 130 120 110 100 90 80 -10.0% -8.0% -6.0% -4.0% -2.0% 0.0% 2.0% Greece Euro area Italy France Germany 4.0% 6.0% 8.0%
Finland 10.0%
Private Loan growth %yoy (Oct '11)
Source: Eurostat
45
Source: ECB, Oct-11 Data
Credit markets still functioning

The overall credit backdrop remains supportive, which we find to be a big positive, as credit did lead equities on two prior occasions, in 00 and in 07 The cost of financing in the capital markets remains low despite the recent spike in corporate credit spreads as government bond yields have fallen to multi year lows (this does not apply to the periphery) Credit market remains open and corporate debt issuance has picked up again in since September.
Eurozone High Grade/Yield corporate yield (%)
7.5 7.0 6.5 6.0 5.5 5.0 4.5 4.0 3.5 3.0 99 00 01 02 03 04 05 06 07 08 09 10 11 Euro corporate high grade yield
Source: J.P. Morgan
US high grade credit spreads vs recessions

600 500 400 300 200 100 0 73 75 77 79 81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 11 Recessions
Source: Datastream, NBER
US Corporate High Grade spread over UST
Eurozone Corporate debt issuance

30
18.0 16.0 16.5
25
14.0 12.0 10.0 11.6 9.79.4 6.9 6.0 6.0 4.7 2.1 2.0 0.0 Jan 11 Feb 11 Mar 11 Apr 11 May 11 Jun 11 Jul 11 2.5 4.0 7.1 5.3 2.2 1.2 0.0 0.0 Aug 11 Sep 11 0.6 Oct 11 0.3 Nov 11 6.0 3.1 7.2 7.2 11.8
20
15
8.0
10
5 Euro corporate HY yield, rhs
IG NonFinancials Issuance (bn)

Source: J.P. Morgan
HY NonFinancials Issuance (bn)
46
However, debt costs rising for peripheral corporates Negative for leveraged stocks
The debt cost for corporates in Periphery is starting to rise as corporate spreads are widening on top of the rising Government bond yields. Surprisingly, financial leverage has not been a distinguishing factor for performance in the first three quarters of this year. High leveraged stocks are performing in line with the low leveraged stocks ytd. We believe that this should change as debt costs should remain higher for longer, particularly in the periphery
Euro zone corporate bond issuance seasonality
30.0 25.0 20.0 15.0 10.0 5.0 0.0 Q1 Q2 Fin Corp
Source: Datastream
Avg. Quarterly Bond Issuance, Bn
Q3 Non Fin Corp
Q4
Performance of High vs Low Leveraged Stocks

109 107 105 103 101 99 97 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec
Italian Corporate BY Spreads to Bunds

7.0 6.0 5.0 4.0 3.0 2.0 1.0 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Italian Corp BY Spread to Bunds (%)
Source: Datastream
Europe High vs Low Leverage

47
OW Cyclicals vs Defensives - Cyclicals have derated to 08 on P/E relative

On P/E relative cyclicals are trading near record lows
European Cyclicals relative to Defensives fwd P/E
1.5 1.4 1.3 1.2 1.1 1.0 0.9 0.8 0.7 0.6 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11
European Cyclicals relative to Defensives P/B

1.7 1.5 1.3 1.1 0.9 0.7 0.5 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 -1stdev 11
Europe Cyclicals 12m Fwd P/E rel to Defensives
average
+1stdev
-1stdev
Europe Cyclicals P/Book rel to Defensives
median
+1stdev
Global Cyclicals relative to Defensives fwd P/E

1.6 1.5 1.4 1.3 1.2 1.1 1.0 0.9 0.8 0.7 0.6 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11
Global Cyclicals relative to Defensives P/B

1.7
1.5
1.3
1.1
0.9
0.7
0.5 95 96 97 98 99 00 01 02 03 04 05 median 06 07 08 +1stdev 09 10 11
MSCI World Cyclicals 12m Fwd P/E rel to Defensives
average
+1stdev
-1stdev
MSCI World Cyclicals P/Book rel to Defensives
-1stdev
48
Cyclicals valuations vs start of the year

Ytd Cyclicals have already significantly derated vs Defensives. They started the year at a 5% premium, but are currently at a 9% discount
Sectoral forward P/E: current vs start of year

Ytd Derating -34.1% -30.0% -21.8% -20.7% -18.3% -17.7% -17.1% -16.4% -15.1% -13.7% -13.4% -12.3% -12.1% -11.4% -9.6% -7.8% -7.3% -6.5% -6.3% -3.4% -2.9% -1.9% 0.8% 0.9% 31.7% Current P/E P/E at mkt trough 6.7 27.5 6.9 7.0 14.6 10.0 10.8 8.4 11.6 10.0 11.9 9.3 7.0 5.0 14.4 8.5 7.1 5.2 10.5 10.3 14.5 12.4 7.3 4.2 9.9 8.0 9.6 8.0 13.7 11.8 12.7 7.0 11.3 8.7 9.3 8.0 8.4 8.0 13.9 11.9 12.1 11.3 14.6 10.9 10.7 9.0 12.8 9.7 18.7 % from trough -75.8% -0.6% 46.3% 29.8% 15.7% 27.6% 40.1% 68.5% 37.1% 1.6% 17.3% 73.1% 24.0% 19.7% 16.6% 82.1% 30.6% 15.9% 5.2% 16.9% 7.0% 34.6% 19.0% 32.5% -
Sectoral P/Book: current vs start of year

Ytd De-rating -41% -32% -31% -30% -27% -27% -25% -23% -22% -21% -20% -20% -19% -18% -16% -13% -12% -9% -8% -5% -5% -5% 3% 4% 16% Current P/Book 1.41 1.39 0.57 0.90 1.91 1.25 2.23 2.71 0.75 0.85 1.14 0.81 2.06 3.12 1.39 1.75 1.48 2.56 0.86 1.45 3.39 2.97 3.52 3.07 2.56 P/B at Mar'09 mkt trough % from trough 0.81 74% 1.50 -8% 0.44 31% 0.58 54% 1.33 44% 1.01 25% 1.90 18% 1.44 89% 0.53 41% 0.46 85% 1.43 -20% 0.69 17% 1.42 45% 3.32 -6% 1.11 25% 1.80 -3% 1.36 9% 0.82 214% 0.70 23% 1.40 4% 2.73 24% 2.33 27% 2.37 49% 1.92 60% 1.78 44%
Automobile Met&Min Cons Durables Cap Goods Chemicals Hotels,Rest&Leis Banks Real Estate Div Fin Food Drug Ret HPC Insurance Utilities Europe Software Cons Mat Media Telecoms Energy Retailing Tech Hardware Food Bev&Tob Healthcare Transport Semicon
Met&Min Tech Hardware Banks Automobile Cap Goods Transport Hotels,Rest&Leis Cons Durables Div Fin Real Estate Utilities Cons Mat Chemicals HPC Europe Food Drug Ret Energy Semicon Insurance Telecoms Food Bev&Tob Healthcare Software Retailing Media
49
Activity stabilisation likely to support Cyclicals

The rollover in economic activity of the past few months pressured Cyclical sectors A bottoming-out in the macro momentum would support Cyclicals
Cyclicals vs Defensives and ISM
30% 50%
20%
30%
10% 10% 0% -10% -10% -30%
-20%
-30% 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12
Europe Cyclicals rel to Defensives (%6mom) ISM (%6mom, rhs)
-50%
Cyclicals vs Defensives & IFO

30% 20% 10% 0% -10% -20% -30% 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 20% 15% 10% 5% 0% -5% -10% -15% -20%
Cyclicals vs Defensives and Bond yields

30% 20% 10% 0% -10% -20% -30% 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 60% 40% 20% 0% -20% -40% -60%
Europe Cyclicals rel to Defensives (%6mom)

Source: Datastream, MSCI, IFO
IFO (%6mom, rhs)
Cyclicals rel to Defensives (%6mom)
German 10y Bdy %6mom (rhs)
50
Balance sheets of Cyclicals are robust

In absolute terms, Cyclicals trade at 10.4x Fwd P/E, 31% below their LT median of 15.1x. Compared to their 03-07 median P/E, their current valuation is 22% lower Cyclical balance sheets are in better shape than Defensives compared to the past cycle Cyclicals are more profitable than Defensives vs the past cycle
Europe Cyclicals valuation summary table
Current vs LT Median 12m Fwd P/E Cyc Adj P/E PEG P/B EV/EBITDA* 10.4 16.1 0.97 1.6 5.0 -31% -22% -31% -9% -
vs 03-07 cycle vs defensives median vs defensives LT -22% -28% -37% -24% -32% -10% -8% -55% -16% -29% -2% -10% -44% -13% -
Source: Datastream, MSCI, IBES, EV/EBITDA for 2011E, as at CoB 6th Dec
Cyclicals vs Defensives balance sheets vs last cycle

2004 0.51 0.27 0.54 0.95 0.21 0.68 0.19 0.45 0.51 0.44 0.66 -0.07 -0.74 -0.02 0.39 0.93 1.17 -0.37 0.26 0.63 0.74 0.66 Net Debt/Equity 2010e 2005 0.53 0.46 0.36 0.30 0.68 0.53 0.24 0.23 0.45 0.20 0.89 0.69 -0.02 0.57 0.16 0.35 0.84 0.50 0.10 0.28 0.68 0.59 0.11 0.04 -0.21 -0.46 -0.13 -0.04 0.34 0.30 0.56 0.62 0.66 0.71 0.08 0.07 0.33 0.21 0.92 0.74 1.10 0.74 0.77 0.65 2011e 0.48 0.31 0.59 0.26 0.47 0.85 0.02 0.21 0.54 0.03 0.63 0.01 -0.25 -0.19 0.32 0.51 0.58 0.02 0.31 1.21 0.94 0.75
Cyclicals vs Defensives profitability vs last cycle

2004 10.5% 8.9% 13.1% 15.8% 6.0% 9.4% 4.0% 13.1% 13.3% 9.8% 8.1% 14.0% 14.7% 8.0% 8.0% 4.0% 12.4% 12.5% 18.8% 15.6% 14.3% 12.7% Profit Margins 2010 2005 12.5% 12.1% 11.7% 10.7% 11.2% 14.2% 19.4% 19.5% 8.2% 7.2% 8.1% 10.1% 6.2% 4.2% 15.9% 13.3% 17.3% 15.8% 12.8% 10.8% 7.0% 8.7% 19.0% 14.8% 7.8% 14.5% 13.3% 4.1% 10.3% 9.2% 4.3% 4.0% 17.3% 14.3% 16.2% 13.7% 26.6% 20.9% 20.0% 19.9% 13.5% 14.6% 15.7% 14.4% 2011e 12.4% 11.5% 10.4% 16.8% 8.4% 8.3% 7.4% 16.6% 17.2% 12.9% 7.2% 19.2% 6.8% 9.8% 10.6% 4.3% 18.2% 16.4% 24.3% 19.6% 12.2% 14.9%
Europe Chemicals Cons Mat Met & Mining Cap Goods Transport Autos Cons Durables Media Retailing Hotels, Rest. & Leis. S/w & Svs Tech H/w Semicon & Eqp Cyclicals Fd & Stap Fd, Bev & Tob. HPC Health care Telecoms Utilities Defensives
Source: IBES, as at CoB 6th December
Europe Chemicals Cons Mat Met&Min Cap Goods Transport Automobile Cons Durables Media Retailing Hotels,Rest&Leis Software Tech Hardware Semicon Cyclicals Food Drug Ret Food Bev&Tob HPC Healthcare Telecoms Utilities Defensives
51
Source: IBES, as at CoB 6th December
European global cycle plays

We identified the European names that would benefit from a weaker euro because of their high international exposure, but also have low financial leverage and look attractively valued compared to their global sector peers. These could be seen as must own stocks in Europe for global investors.
Eurozone global cycle plays (JPDEUGCP <Index>)
Name CHRISTIAN DIOR DAIMLER PPR PUBLICIS SODEXO AHOLD ABI DANONE HEINEKEN PERNOD-RICARD UNILEVER FUGRO SBM OFFSHORE BAYER ALSTOM BEKAERT BOSKALIS WESTMINSTER FIAT INDUSTRIAL FINMECCANICA HOCHTIEF MAN METSO PHILIPS SAFRAN SCHNEIDER SIEMENS AKZO NOBEL ARCELORMITTAL BASF DSM HEIDELBERG CEM. K+S LAFARGE SOLVAY Industry Group DISCRETIONARY DISCRETIONARY DISCRETIONARY DISCRETIONARY DISCRETIONARY STAPLES STAPLES STAPLES STAPLES STAPLES STAPLES ENERGY ENERGY HEALTH CARE INDUSTRIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS MATERIALS MATERIALS MATERIALS MATERIALS MATERIALS MATERIALS MATERIALS MATERIALS Ticker CDI FP DAI GR PP FP PUB FP SW FP AH NA ABI BB BN FP HEIA NA RI FP UNA NA FUR NA SBMO NA BAYN GR ALO FP BEKB BB BOKA NA FI IM FNC IM HOT GR MAN GR MEO1V FH PHIA NA SAF FP SU FP SIE GR AKZA NA MT NA BAS GR DSM NA HEI GR SDF GR LG FP SOLB BB Ex Western Europe Sales 65% 47% 41% 68% 55% 45% 89% 45% 55% 59% 73% 46% 98% 61% 55% 67% 59% 58% 43% 87% 46% 65% 67% 48% 67% 46% 55% 52% 48% 58% 67% 48% 71% 41% Rel to MSCI World Sector Ytd Perf 12m Fwd PE -1% -29% -14% -24% -12% -26% -9% -2% -1% -3% -4% -22% -3% -3% -5% -2% -14% -20% -10% -4% -2% -2% -30% 0% -8% -17% -20% -17% -19% -32% -50% -12% -16% -5% -14% -15% -46% -35% -21% -4% -18% -3% -19% -5% -20% -3% -4% -2% -17% -5% -8% -4% -14% -5% -29% -33% -7% -23% -7% -7% -11% -39% -18% -12% -18% -37% -5% -20% 2012E ND/Equity 0.5 0.0 0.2 -0.1 0.2 0.1 0.7 0.4 0.6 0.9 0.8 0.4 1.0 0.2 0.2 0.3 0.1 0.2 0.6 0.1 0.1 0.1 0.0 0.1 0.2 0.0 0.1 0.3 0.3 0.0 0.6 0.0 0.7 0.2
Source: J.P. Morgan European Equity Strategy, J.P. Morgan Equity Derivatives Strategy, Bloomberg, as at CoB 2nd Dec
52
Capturing the extreme value in value cyclicals

The J.P. Morgan European Low Value Cyclicals Basket (JPDEUVLC <Index>) is providing access to value Cyclical stocks. The basket contains European cyclical stocks which are more than 20% below their year-to-date peak levels, and are trading within 10% of their trough Price/Book level from 2009. The selected basket was screened for liquidity and market cap to ensure tradability. It contains 26 names weighted by market capitalisation (subject to a maximum weight of 8% per stock).
Components of the J.P. Morgan European Value Cyclicals Basket (JPDEUVLC <Index>)
Market Cap (EUR Bn) 1.8 2.9 2.4 5.0 3.7 4.6 2.2 1.5 2.7 2.2 4.3 2.3 4.3 8.3 7.6 10.3 17.2 23.7 1.9 2.0 22.1 2.5 7.9 34.6 2.3 2.3 3M Avg Daily Turnover (EUR Mn) 13.2 16.1 12.1 31.0 15.5 16.4 10.6 27.8 22.0 27.9 49.7 11.0 13.8 25.8 70.3 33.4 140.4 115.6 12.3 19.6 183.3 11.7 54.8 132.6 17.8 13.3 P/Book vs '09 P/Book -61% -17% -12% -21% -2% -27% -3% -26% -49% -39% -2% -4% -21% 1% -41% -29% -35% -5% -17% -6% 6% 5% 8% -13% 2% 9% Basket Weighting 1.4% 2.3% 1.9% 4.0% 3.0% 3.7% 1.7% 1.2% 2.1% 1.8% 3.4% 1.9% 3.4% 6.7% 6.1% 8.0% 8.0% 8.0% 1.6% 1.6% 8.0% 2.0% 6.3% 8.0% 1.9% 1.8%
Ticker TL5 SQ MS IM MMB FP AC FP WKL NA CNE LN NES1V FH AF FP FNC IM VWS DC LHA GY SECUB SS SMIN LN ACS SQ ALO FP BA/ LN NOK1V FH ERICB SS IDR SQ SSABA SS MT NA LMI LN LG FP AAL LN SZG GY ACX SQ
Name Mediaset Espana Com. Mediaset Lagardere Groupe Accor Wolters Kluwer Cairn Energy Neste Oil Air France-KLM Finmeccanica Vestas Windsystems Deutsche Lufthansa Securitas Smiths Group ACS Alstom BAE Systems Nokia Ericsson Indra Sistemas SSAB ArcelorMittal Lonmin Lafarge Anglo American Salzgitter Acerinox
Country Spain Italy France France Netherlands Britain Finland France Italy Denmark Germany Sweden Britain Spain France Britain Finland Sweden Spain Sweden Luxembourg Britain France Britain Germany Spain
Industry Group Consumer Discretionary Consumer Discretionary Consumer Discretionary Consumer Discretionary Consumer Discretionary Energy Energy Industrials Industrials Industrials Industrials Industrials Industrials Industrials Industrials Industrials Information Technology Information Technology Information Technology Materials Materials Materials Materials Materials Materials Materials
Source: J.P. Morgan European Equity Strategy, J.P. Morgan Equity Derivatives Strategy, Bloomberg
53
Where are we in the cycle? Jobless claims remain supportive

Jobless claims vs. Private payrolls
Jobless claims, the key high frequency indicator of US business cycle, typically spike 20% or so ahead of the next downturn. They remained stable in the most recent weeks despite sharp equity selloff. Jobless claims around 400k are consistent with 100k+ payrolls
375
300
200 425
100
475 0
525 Jan-10
-100 Apr-10 Jul-10 Oct-10 Jan-11 Apr-11 Private Payrolls (rhs) Jul-11 Initial Claims (reverse scale)
Source: Bloomberg
US Jobless Claims vs Recessions

750
US Jobless Claims vs Recessions

Claims 4wk Avg Claims Trough Recession Date Start Date 1969 1973 Nov-68 Jan-73 Nov-78 Jan-80 Jan-89 Apr-00 May-07 Dec-69 Nov-73 Jan-80 Jul-81 Jul-90 Mar-01 Dec-07 At the start of Trough Recession 184 229 319 426 292 266 306 207 242 431 433 361 371 341 Change in Jobless Claims 12% 6% 35% 2% 24% 39% 11% 18% 389 408 5%
650
550
450
1980
350
1981 1990
250
2001 2007
150 67 69 71 73 75 77 79 81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 11
Average Current
Source: FRA, BEA, Bloomberg
US Recessions
Initial jobless claims, 4wk avg
54
Yield curve 30-10Y spread steep

Yield curve steepness peaks on average 2.5 years before the start of the next recession. Peak in Apr 10 suggests its too early to position for the next slowdown How to counter the pushback of zero shortterm rates? 10y-30y spread behaved similar to 10y-3m spread, inverting ahead of every recession. It is near record steep now
Shape of the yield curve vs US recessions
4.0 3.0 2.0 1.0 0.0 -1.0 -2.0 -3.0 -4.0 54 56 58 60 62 64 66 68 70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 NBER dated recessions Yield curve (10yr - Fed funds)
Timing of recessions and peak of the yield curve

Peak of the yield curve Jul-58 Nov-67 Jun-71 Sep-75 Sep-80 Oct-87 Jun-99 May-04 Average Median
10Y-30Y spread vs US recessions

1.5
Start of Recessions Apr-60 Dec-69 Nov-73 Jan-80 Jul-81 Jul-90 Mar-01 Dec-07
Difference (# months) 21 25 29 52 10 33 21 43 29
1.0
0.5
0.0
-0.5
-1.0 66 68 70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10
US recessions
US 30-10y
27
55
Yield curve and equity market direction

The current steepness of the yield curve is consistent with a 10-15% annualized equity return Steepening/rising yields support Cyclicals and Flattening/falling yields support Defensives The start of yield curve flattening is not an indicator of poor equity performance ahead In the past 50 years, equities continued to rise 73% of the time after the yield curve peaked
Yield curve investment clock
10 Year Rising 1. Recovery Strong OW: Cyclicals (esp. Resources) 10-2 Steepening OW Financials (esp Banks) Strong UW Defensives (esp. Utilities) 2. Expansion Modest OW Cyclicals 10-2 Flattening (esp Industrials & Media) UW Financials (esp Banks) Modest UW Defensives (esp Telecom, Utilities) 10 Year Falling 4. Slowdown Strong OW Defensives (esp Staples and Pharma) UW Financials Strong UW Cyclicals (esp Industrials & Discretionary)
0% 1 0% 10% 8% 6% 5% 5% 3% 2% 15%
12m fwd S&P500 perf following the peak yield curve steepness
5 4 3 2 1 0 -1 -2 -3 -4 -5 55 57 59 61 63 65 67 69 71 73 75 77 79 81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 11 S&P500 +12m perf (rhs) Yield curve (10yr - Fed funds) -29% -30% -40% -13% -5% -8% 15% 8% 1% 0% -10% -20% 30% 26% 19% 14% 7% 5% 9% 30% 20% 10% 34% 34% 40%
Source: Datastream
12m S&P500 perf* from different levels of the yield curve

1 4%
3. Overheating Modest OW Defensives (esp Telecoms) OW Financials Modest UW Cyclicals (esp Resources)
-10% -6/ -5 -5%
-0 . 1%
-5%
-5/ -4
-4/ -3 inv e rted
-10 % -3/ -2
-2 / -1
-1/ 0 Y ie ld c urv e
+0/ 1
+1/ 2 s te ep
+2/ 3
+3 / 4
Source: Datastream, using US/European sectors and US 10-2year yield curve Source: Datastream,*average since 1955
S & P 5 00 +12 m pe rf
56
US Real policy rate outright negative

We never had a downturn from the starting point of negative real rates Currently real US policy rate is at -1.7%, and minimum observed at the start of a recession was 1.8%
US Real Policy Rates vs Recessions

15
Level of real policy rates as recession starts

Real Interest Rate (Fed Funds - Core CPI, %yoy) Latest 1.9% 2.8% 5.5% 1.8% 7.9% 3.2% 2.6% 1.8% -1.7% 3.4% 2.7%
10
Recession Start 1960 1970 1973 1980 1981 1990 2001 2007 Current Average Median
6m Avg. 1.9% 3.0% 6.3% 2.2% 7.1% 3.4% 3.4% 2.6% -1.3% 3.7% 3.2%
-5
-10 57 59 61 63 65 67 69 71 73 75 77 79 81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 11
NBER Dated Recession
Real Interest Rates (FED Funds - Core CPI)
57
Private economy not stretched - Capex cycle not over

We continue to see the key leading indicators of corporate spend as supportive of stronger capex: 1) easing in bank lending standards 2) continued sequential profit growth 3) general upward momentum in utilisation rates
Lending standards vs non-residential capex
-30 -10 10% 10 30 -5% 50 70 -20% 90 91 93 95 97 99 01 03 05 07 09 11 -25% -10% -15% 5% 0% 20% 15%
US bank lending standards - net% tightening (adv 3q, rs)

Source: Datastream, Federal Reserve
US non residential capex (%yoy, rhs)
US corporate profits vs non-residential capex

80% 60% 40% 20% 5% 0% -20% -40% 61 64 67 70 73 76 79 82 85 88 91 94 97 00 03 06 09 12 US corporate profits (%yoy, brought forward 3 quarters)
Source: Datastream
US capacity utilization vs non-residential capex

45% 35% 25% 15%
15% 10% 5% 0% -5% 35% 25% 15% 5% -5% -15% -25% 71 73 75 77 79 81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 11 US capacity utilization (%yoy,brought forward 2 quarters)
Source: Datastream
-5%
-10%
-15% -25% US non residential capex (%yoy, rhs)

-15%
US non residential capex (%yoy, rhs)
58
Capex share of GDP near record low; corporate balance sheets cash-rich
Capex as a share of internally generated funds
Capex to GDP ratios are still near record lows. Corporates have plenty of scope to support expansionary behavior given their strong balance sheet position. Capex as a share of internally generated funds is still below 100%
160% 150% 140% 130% 120% 110% 100% 90% 80% 70% 60% 52 54 56 58 60 62 64 66 68 70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 Nonfarm Nonfinancial Corporate Capital Expenditure as a % of Internal Funds
Source: FRB
US non residential capex as a share of GDP

15% 14%
Eurozone non-residential capex as a share of GDP

11.5% 11.0% 10.5%
13% 12% 11% 10% 9% 8% 70 73 76 79 82 85 88 91 94 97 00 Average 03 06 09
10.0% 9.5% 9.0% 8.5% 8.0% 7.5% 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11
Nonresidential fixed investment % of GDP
Eurozone non-residential & construction fixed investment % of GDP
average
Source: BEA
Source: Eurostat
59
European capex plays

Breakdown of sales by Capex vs. Opex for customer
Capital Goods Electrolux Legrand Nexans Prysmian Zumtobel GKN Vestas Husqvarna Rheinmetall Schneider Outotec SGL Group GEA Andritz ABB Alstom Philips Scania Alfa Laval IMI Invensys MAN Volvo Siemens Atlas Copco Metso Heidelberg Assa Abloy Kone Smiths Weir SKF Sandvik Charter Capex % Opex % 100% 0% 100% 0% 100% 0% 100% 0% 100% 0% 95% 5% 92% 8% 90% 10% 90% 10% 88% 12% 83% 17% 80% 20% 79% 21% 76% 24% 75% 25% 75% 25% 75% 25% 75% 25% 72% 28% 70% 30% 70% 30% 70% 30% 70% 30% 69% 31% 60% 40% 60% 40% 57% 43% 50% 50% 46% 54% 41% 59% 40% 60% 34% 66% 30% 70% 29% 71% Technology Hardware Aixtron ASM International ASML Alcatel Ericsson Nokia Software Services SAP Logica Computacenter Micro Focus Sage Capgemini Chemicals Linde Johnson Matthey Air Liquide Transportation Clarkson DP World Deutsche Post TNT Express AP Moller Maersk Kuehne + Nagel HHLA Capex % 94% 90% 88% 60% 55% 20% Capex 79% 72% 71% 42% 35% 27% Capex % 20% 10% 6% Capex % 100% 60% 50% 50% 40% 40% 40% Opex * % 6% 10% 12% 40% 45% 12% Opex 21% 28% 29% 58% 65% 73% Opex % 80% 90% 94% Opex % 0% 40% 50% 50% 60% 60% 60% Aerospace & Defence EADS BAE Safran Cobham Rolls Royce Meggitt MTU Aero QinetiQ Oil Services Saipem Technip Tecnicas Reunidas Subsea 7 Seadrill TGS Nopec Petrofac CGG Veritas PGS Lamprell Aker Solutions Hunting Amec Cape Wood Group Capex % Opex % 83% 17% 54% 46% 54% 46% 53% 47% 48% 52% 42% 58% 36% 64% 30% 70% Capex % Opex % 100% 0% 100% 0% 100% 0% 100% 0% 100% 0% 100% 0% 95% 5% 95% 5% 95% 5% 90% 10% 85% 15% 80% 20% 75% 25% 50% 50% 30% 70%
60
Source: J.P. Morgan, companies reports
High US Consumer leverage is getting addressed

US Consumer deleveraging has advanced a lot over the past 2 years All else equal, at a current US savings rate USD 600bn is getting channeled to reduction in net leverage. USD 600bn will push down leverage as a share of net debt by 1% per year By end 2012 consumer leverage would be back to trend
US Household Leverage
30
25
20
15
10 60 65 70 75 80 85 90 95 00 05 10
US Household Leverage, Ratio of liabilities to net wealth, fcst 2011-12
Source: FRB
US Household debt to income ratio and savings rate

140 130 120 110 100 90 80 70 60 80 83 86 89 92 95 98 01 04 07 10 6 4 2 0 14 12 10 8
US 30-year fixed mortgage rate

9.0 8.5 8.0 7.5 7.0 6.5 6.0 5.5 5.0 4.5 4.0 3.5 00 01 02 03 04 05 06 07 08 09 10 11 US 30-year fixed mortgage rate
Source: Bloomberg
US - HH Debt as % of Disposable Income

Source: FRB, BEA
US-Personal Saving Rate % of disposable income (rhs)
61
US labour market improving

The pushbacks are that US recovery is narrow, jobless and creditless
10.0
US Unemployment Rate
However, current US labour market trajectory is tracking the momentum of 91 and 01, both of which were jobless recoveries but did become full recoveries in the end Labour market indicators improved recently, which is supportive of consumer spending
9.0 8.0 7.0 6.0 5.0 4.0 07 08 09 10 11
US Civilian unemployment rate, sa

Source: Bloomberg
Private non-farm payrolls around recession troughs

112 110 108 106 104 102 100 98 -6 0 6 Months from trough
1975 1982 1991 2001 2009
US Real Spending and Labor Income

7.0 6.0 5.0 4.0 3.0 2.0 1.0 0.0
12
18
24
Jan 10
Apr 10
Jul 10
Oct 10
Jan 11
Apr 11
Jul 11
Oct 11
Payroll Income Proxy, %3mom saar
Real Consumption, %3mom saar
Source: J.P. Morgan Economics Research, Trough employment =100
62
Source: JP Morgan
US housing double-dipping? Even if it is, further drag on growth unlikely

US housing activity is at a historical low share of GDP However, we note that residential construction share of GDP has already collapsed to historical lows, reducing the marginal drag on GDP growth
Housing starts vs housing inventory
60% 40% 20% 0% -20% -40% -60% 64 66 68 70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 Housing starts (%yoy, 6mma) New one-family homes months' supply (%yoy, 6mma,rhs,rs) -60% -40% -20% 0% 20% 40% 60%
Source: Datastream
US residential construction share of GDP

8% 7% 6% 5% 4% 3%
US House prices, total & ex-distressed sales

25.0 20.0 15.0 10.0 5.0 0.0 -5.0 -10.0 -15.0 -20.0
2% 47 50 53 56 59 62 65 68 71 74 77 80 83 86 89 92 95 98 01 04 07 10
-25.0 05 06 07 Total, %6mom saar

Source: J.P. Morgan, Core-logic
08
09
10
11
Recessions
Nominal residential construction % of GDP
Ex- distressed sales, , %6mom saar
63
US construction activity to pick up in 2012

We think US construction will be picking up into 12 from current very depressed levels. This should support Construction Materials in particular, and selected Capital Goods US construction capex is still very depressed, but nonresidential structures investment picked up in Q3 Labour market was typically a good indicator of housing starts
US private fixed investment breakdown
Last cycle Peak U$ bn % GDP 2,282 16.3% 1,689 11.8% 595 4.1% 1,118 7.8% 550 3.9% 200 1.4% 204 1.5% 196 1.4% 813 6.2% 803 6.1% 10 0.1% Date 2Q07 1Q08 3Q08 1Q08 1Q08 3Q07 1Q06 3Q08 1Q06 1Q06 1Q06 Current (Q2'11) vs peak U$ bn % GDP ($bn) 1,907 12.5% -16% 1,570 10.3% -7% 423 2.8% -29% 1,147 7.5% 3% 568 3.7% 3% 202 1.3% 1% 165 1.1% -19% 212 1.4% 8% 337 2.2% -59% 328 2.2% -59% 9 0.1% -13%
Private fixed investm ent Nonresidential Structures Equipment and software IT equip.&softw are Industrial equipment Transportation equipment Agricultural machinery Residential Structures Equipment
Source: BEA
US Private Non-residential construction put in place

60
US housing starts vs jobless claims

2.5 200 250
40
2.0
20
300 350
1.5
0
400 450
1.0
-20
500 550
0.5
-40 01 02 03 04 05 06 07 08 09 10 11 12
600 650
Private nonresidential construction put in place, %oya
0.0 70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10
700
Housing starts, sa
Initial jobless claims (rhs, rs)
Source: Census
Source: Census, BLS
64
ISM framework Great BUY indicator, but not a good SELL indicator
Historically, the peak in lead indicators didnt point to the end of the cycle. Equities are volatile in the short term post these peaks, but ultimately recover and continue advancing In 09 the key call was not to ignore the 2nd derivative. It doesn't pay to sell stocks in 30-40 range of ISM, given the next 3, 6 and 12 months equity performance is likely to be strong. This was one of the key catalysts to enter beta in Q1 09 Looking at the other side of the coin, equities tended to fall on the majority of occasions when the ISM started in the 65-75 range, but strength of signal is relatively weak
% of time equities go up in different ISM ranges

Hit ratio S&P500 Fwd return ISM range 25-30 30-35 35-40 40-45 45-50 50-55 55-60 60-65 65-70 70-75 75-80 % of time 0.1% 1.6% 5.1% 7.5% 18.6% 28.3% 23.3% 10.5% 4.0% 0.4% 0.4% +3m 100% 67% 74% 64% 57% 67% 65% 58% 50% 0% 100% +6m 100% 92% 84% 63% 64% 69% 71% 62% 57% 33% 100% +12m 100% 100% 100% 68% 70% 73% 67% 67% 47% 33% 100%
Forward S&P500 perf in different ISM ranges

average S&P500 Fwd return ISM range 25-30 30-35 35-40 40-45 45-50 50-55 55-60 60-65 65-70 70-75 75-80 % of time 0.1% 1.6% 5.1% 7.5% 18.6% 28.3% 23.3% 10.5% 4.0% 0.4% 0.4% +3m 10.5% 5.8% 6.2% 1.9% 1.1% 2.9% 1.7% -0.2% 1.3% -4.8% 8.7% +6m 23.9% 10.7% 14.0% 4.2% 3.1% 4.9% 3.4% 0.5% 0.3% -5.0% 18.8% +12m 19.5% 22.9% 27.8% 8.8% 8.7% 8.7% 6.7% 1.4% 1.5% -6.6% 23.3%
65
ISM framework - The rollover in macro momentum does not mean the end of the cycle equities tended to pick up after short term weakness
Equities tended to perform poorly in the aftermath of the lead indicators peaking. However, this weakness was usually short-lived as following the 3 months of volatility equities tended to rebound in the subsequent 3 months.
S&P500 performance after ISM peak

ISM peak Jul 50 Aug 52 May 55 May 59 Dec 61 Mar 65 Apr 68 Jan 73 Feb 76 Jul 78 Nov 80 Dec 83 Dec 87 Sep 91 Oct 94 Jul 97 Nov 99 Jun 02 May 04 Mar 10 Average Median % positive S&P 500 MSCI Europe ISM 77.5 60.4 69.5 68.2 64.2 64.9 58.0 72.1 61.5 62.2 58.2 69.9 61.0 54.9 59.4 57.7 58.1 53.6 61.4 60.4 -1m 2% -1% 1% 2% 0% -1% 6% -3% -1% 6% 6% -1% 6% -2% 1% 6% 3% -7% 0% 6% 2% 1% 60% -0.1% -0.3% +1m 3% -3% 9% 1% -2% 3% 2% -3% 2% 3% -1% -1% 3% 1% -4% -5% 4% -9% 1% 2% 0% 1% 60% 2.0% 0.0% S&P500 +3m 9% 2% 14% 0% -2% -2% -1% -7% 0% -4% -4% -4% 5% 7% 0% -1% -1% -12% -1% -13% -1% -1% 35% 0.6% -1.9% +6m +12m 21% 25% 3% -7% 19% 20% 0% -5% -21% -12% 4% 4% 5% 6% -7% -17% 4% 1% -1% 3% -3% -8% -7% 1% 10% 12% 4% 7% 10% 25% 6% 17% 4% -6% -9% 1% 6% 7% -3% 13% 2% 4% 4% 4% 65% 70% -7.8% -3.7%* -16.2% -14.7%*
Sector rotation around the peak in ISM

ISM Peak ISM Jan 73 72.1 Feb 76 61.5 Jul 78 62.2 Nov 80 58.2 Dec 83 69.9 Dec 87 61.0 Sep 91 54.9 Oct 94 59.4 Jul 97 57.7 Nov 99 58.1 Jun 02 53.6 May 04 61.4 Mar 10 60.4 Average Median % time Cyc o/p Above 60 only Average Median % time Cyc o/p US (MSCI) 61.4 (Feb) Europe (MSCI) -12m n/a 24% 1% 17% 19% 3% -1% 5% 18% 41% -14% 5% 28% 12% 11% 83% 13% 12% 100% 15% 20% -6m n/a 14% 7% 20% 0% -8% -1% -3% 10% 19% -8% -6% 8% 4% 3% 50% 2% 3% 50% 15% 15% -3m n/a 15% 2% 9% 3% -8% -6% -3% 9% 9% -7% -3% 4% 2% 3% 58% 2% 3% 67% 3% 2% Cyclicals/Defensives -1m +1m n/a -1% 5% 0% 5% 3% 4% -4% 2% -7% 6% -5% -2% -1% 1% -3% 8% 3% 7% 17% -2% -3% 3% 1% 3% 6% 3% 0% 4% -1% 83% 38% 4% 4% 100% -1% 0% -1% 0% 43% -1% 1% +3m -5% 0% 1% -6% -6% -1% -7% -4% -3% 23% -8% -2% -2% -1% -3% 15% -2% -2% 14% -8% -2% +6m -4% -7% 2% -9% -9% 7% 6% 2% -9% 12% -4% 8% 1% 0% 1% 54% 0% 1% 57% -11.2% -9.7% +12m -3% -9% 5% -26% -16% -4% 2% -4% -3% -16% 1% -2% 15% -4% -3% 31% -2% -3% 29% -7.6%* -13.0%*
Source: Datastream, MSCI, J.P. Morgan, *Perf till COB 6th December
61.4 (Feb)
Source: Datastream, J.P. Morgan, *Perf till CoB 6th December
66
In the past cycle ISM peaked in 2004 but equities continued to rally for another three years
MSCI Europe vs. ISM during the last cycle
May-04 ISM peak 1600
Lead indicators almost always tended to peak within 1.5 years of an upcycle starting, but equities continued to advance most of the time In the last cycle ISM peaked in May 2004 at 61.4, just a bit more than a year after the market trough. The peaking in the ISM was coincident with shortterm market volatility. MSCI Europe fell by 8% between March and August 04 However, ultimately this was a good buying opportunity as equities moved much higher over the next few years
Typical ISM move during recovery vs. latest
65 60 55 50
50 65
1800
Jun-07 MSCI Europe peak (+65%)
65
60
55 1400 50 1200 45 1000 40 800
35
600 03 04 05 06 MSCI Europe 07 ISM (rhs) 08
30
Typical ISM and S&P500 moves during recovery

145 140 60 135 130 55 125 120 115 45 110 105
45 40 35 30
40
100 35 95
gh
2m
4m
6m
8m
32
26
20
14
Median ISM
ISM since Dec-08
Tr
ou
10
12
Av erage ISM
16
18
Av erage S&P500 (rhs )
Source: Datastream
Source: Datastream
67
22
24
28
30
34
36
We still expect macro momentum to have troughed in Q3, equities typically rebound ahead of it
Timing of S&P500 trough & ISM trough
Global IP has outpaced consumption in Q1, but after the destocking in Q2, the gap has closed in Q3 The recent improvement in ISM is an important sign of macro stabilization. However, the market typically didnt wait for the trough in macro momentum. Equities tended to bottom out ahead of the worst point in the ISM, 84% of the time. Similar to what happened during the last years soft patch.
ISM Peak ISM ISM Jul 50 77.5 36.7 Aug 52 60.4 35.6 May 55 69.5 33.4 May 59 68.2 42.6 Dec 61 64.2 49.5 Jan 66 65.8 42.8 Nov 68 58.1 39.7 Jan 73 72.1 30.7 Jul 78 62.2 29.4 Nov 80 58.2 35.5 Dec 83 69.9 47.1 Dec 87 61.0 39.2 Sep 91 54.9 46.8 Oct 94 59.4 45.5 Jul 97 57.7 46.8 Nov 99 58.1 41.3 Jun 02 53.6 46.1 May 04 61.4 33.3 Mar 10 60.4 55.1 Average Median % of the time S&P500 troughs before ISM troughs Feb 11 61.4 Source: Bloomberg
ISM trough (release date +1m) May 52 Jan 54 Feb 58 Jun 60 Sep 62 May 67 Dec 70 Feb 75 Jun 80 Jun 82 Jun 85 Feb 91 Jan 92 Feb 96 Jan 99 Jun 01 May 03 Jan 09 Aug 10
S&P500 trough 20-Feb-52 14-Sep-53 22-Oct-57 24-Oct-60 26-Jun-62 10-Apr-67 26-May-70 03-Oct-74 27-Mar-80 12-Aug-82 15-Mar-85 11-Oct-90 25-Nov-91 10-Jan-96 08-Oct-98 04-Apr-01 11-Mar-03 09-Mar-09 02-Jul-10
# months -2 -4 -3 5 -2 -1 -6 -4 -2 2 -3 -4 -1 -1 -3 -2 -2 2 -1 -2 -2 84%
Global IP vs Consumption Growth

16.0 14.0 12.0 10.0 8.0 6.0 4.0 2.0 0.0 -2.0 -4.0 Jan 10 Apr 10 Jul 10 Oct 10 Jan 11 Apr 11 Jul 11 Oct 11 Global IP, %3mom,saar
Source: J.P. Morgan Economics Research Team
ISM and new orders to inventories ratio

62 60 58 56 54 52 50 Jan 10 Apr 10 Jul 10 Oct 10 ISM Jan 11 Apr 11 Jul 11 ISM New orders to inventories Oct 11 1.5 1.4 1.3 1.2 1.1 1.0 0.9
Global Final Goods Expenditure, %3mom,saar
68
Source: Markit, J.P. Morgan
Risk 1 - DXY spike, implications for EM and Commodities

The USD, as represented by DXY index, has surged 7% at the worst point since the end of August. Investors see this move as a sign of increasing financial markets stress Periods of Dollar strength were associated with poor equity performance, but in relative terms EM equities tended to perform broadly in line with DM In times of DXY appreciation most commodities tended to weaken, with the exception of gold
Relative regional equity performance and DXY moves
MSCI EM/DM (local currency) -9% 1% 0% 1% -1% 0% -3% -1% 3% -2% 0% -1% 1% 40% 75% MSCI EM/DM (USD) -14% 9% 8% 33% 2% 8% -1% -4% -5% -3% 11% -1% 8% 40% 75% MSCI Europe/US MSCI (local Europe/US currency) (USD) 4% -12% -1% 11% 4% -4% -9% 21% -1% -17% -3% 17% -2% -8% -5% 8% 2% -6% 1% -10% -5% 14% 0% -8% -4% 14% 60% 0% 0% 100%
DXY Index 08 spike was 3x the current one

90 88 86 84 82 80 78 76 74 72 70 07
Source: Bloomberg
24%
7%
08
09 DXY Index
10
11
Commodities performance and DXY move
15-Jul-08 21-Nov-08 17-Dec-08 5-Mar-09 25-Nov-09 7-Jun-10 4-Nov-10 30-Nov-10 29-Aug-11 Average Median Hit ratio*
21-Nov-08 17-Dec-08 5-Mar-09 25-Nov-09 7-Jun-10 4-Nov-10 30-Nov-10 29-Apr-11 6-Dec-11 DXY up DXY dow n DXY up DXY dow n DXY up DXY dow n
DXY 23% -11% 13% -17% 19% -14% 7% -10% 6% 14% -13% 13% -12%
15-Jul-08 21-Nov-08 17-Dec-08 5-Mar-09 25-Nov-09 7-Jun-10 4-Nov-10 30-Nov-10 29-Aug-11 Average Median Hit ratio*
21-Nov-08 17-Dec-08 5-Mar-09 25-Nov-09 7-Jun-10 4-Nov-10 30-Nov-10 29-Apr-11 6-Dec-11 DXY up DXY dow n DXY up DXY dow n DXY up DXY dow n
DXY 23% -11% 13% -17% 19% -14% 7% -10% 6% 14% -13% 13% -12%
WTI -65% -18% 9% 76% -7% 21% -3% 35% 16% -10% 29% -3% 28% 40% 75%
Gold -21% 12% 4% 28% 5% 12% 0% 11% -4% -3% 16% 0% 12% 60% 100%
Copper -57% -15% 22% 90% -13% 41% -3% 11% -14% -13% 32% -13% 26% 20% 75%
Source: Bloomberg
Source: Bloomberg
69
Sectoral impact of a stronger DXY (sign of rising risk aversion)

At sector level when DXY is up, Staples and Pharma do well. But also interestingly Discretionary (Autos, Durables) and IT( Software and Semiconductors)
MSCI Europe level 2 sectors relative performance and DXY move
15-Jul-08 21-Nov-08 17-Dec-08 5-Mar-09 21-Nov-08 17-Dec-08 5-Mar-09 DXY MSCI Europe Energy Chemicals Cons Mat Met&Min Cap Goods Transport Automobile Cons Durables Media Retailing Hotels,Rest&Leis Food Drug Ret Food Bev&Tob HPC Healthcare Banks Div Fin Insurance Real Estate Softw are Tech Hardw are Semicon Telecoms Utilities 23% -30% 4% -14% -7% -34% -11% -3% 15% -2% 16% 13% 1% 17% 22% 27% 16% -12% -21% -3% -9% 2% -5% -4% 13% 5% -11% 12% 6% 7% 20% 13% 10% -3% -14% 6% -1% 11% 13% -3% -9% -9% -4% -4% 8% 13% -4% -8% 4% -17% -1% -7% 13% -20% 2% 10% -8% 4% 3% -6% -8% 3% 10% 17% 4% 10% 10% 8% 5% -20% -12% -20% -6% 21% -2% 5% 8% 2% -17% 54% -18% 3% 17% 60% 2% 12% -2% 28% -32% 4% -20% -21% -15% -8% -24% 95% 52% 31% 16% -24% -35% 17% -30% -28% 25-Nov-09 7-Jun-10 4-Nov-10 30-Nov-10 29-Aug-11 4-Nov-10 30-Nov-10 29-Apr-11 6-Dec-11 -14% 13% -1% 9% -24% 18% 0% 3% 20% 16% 1% -2% -6% -7% -6% -1% -9% 4% -2% 1% 12% -12% -18% 0% 7% -5% 7% -5% -1% 5% 3% 1% 4% 0% 9% 5% 0% 5% 6% 2% 2% 3% 3% -7% -4% -5% -4% 1% 3% 14% -3% -1% -10% 10% 7% 5% 9% -1% 3% -5% 0% -6% 0% -10% -7% -12% -5% -10% -4% -3% 5% 11% 8% 9% 2% 12% -4% 1% 6% 6% 17% 5% 10% 0% 4% 3% 1% 5% 6% 9% 6% 7% 7% 2% 8% -1% 3% 9% -6% 13% -7% 13% 2% 1% 19% -7% -5% 7% 0% -2% 10% 5% 11% 20% 7% 8% 18% 8% 15% 9% 4% -17% -6% -5% -8% 20% 4% 28% -3% -4% Average 14% -14% 1% 1% -4% -8% 1% -1% 5% 6% 7% 10% 7% 8% 10% 10% 7% -12% -10% -8% -6% 9% 0% 10% 3% 1% -13% 22% -2% 6% 6% 22% 4% 2% 1% 11% -8% 1% -5% -11% -9% -7% -10% 23% 16% 14% 8% -9% -12% 3% -7% -10% Median 13% -7% 2% 5% -5% -2% 3% -1% 9% 3% 7% 9% 4% 8% 10% 8% 5% -12% -7% -5% -6% 2% -1% 9% 0% 1% -12% 13% 2% 6% 13% 15% 3% 0% -1% 11% -1% 1% -7% -9% -8% -8% -7% 1% 7% 12% 10% -10% -8% 6% -3% -6% 0% 60% 60% 20% 40% 60% 40% 60% 80% 80% 100% 100% 100% 100% 100% 100% 0% 0% 0% 0% 100% 40% 80% 40% 60% 100% 50% 100% 75% 75% 75% 50% 50% 75% 25% 50% 25% 0% 0% 0% 0% 50% 75% 100% 75% 25% 50% 75% 25% 25% Hit ratio 25-Nov-09 7-Jun-10 DXY up DXY dow n DXY up DXY dow n DXY up DXY dow n
70
Risk 2 - Renewed credit crunch US Lending standards still easing

Dont bet against restart of loan growth G4 commercial banks lending standards are easing In the US, we are witnessing an easing in Bank Lending standards in most categories
100 80 60 40 20 0 -20 -40 03 04 05 06 US 07 08 Euro area 09 10 UK 11
G4 bank lending standards for large firms
Source: J.P. Morgan
US Bank Lending Standards for large and small corporates

100 80 60 40 20 0 -20 -40 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 Large & Medium Firms, Net % tightening
Source: FRB
US bank lending standards vs loan growth

25% 20% 15% 10% 5% 0% -5% -10% -15% -20% -25% 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12
US Commercial and Industria l Loans, %yoy FRB loan survey, Credit conditions large & med firms, % net tightening (brought fwd 15 mths, rhs)
-40 -20 0 20 40 60 80 100
Small Firms, Net % tightening

Source: FRB
71
and US loan growth picking up

Credit growth has historically been a lagging indicator of the cycle, same as with inflation The pace of decline in total US credit has eased, but still remains in negative territory C&I loans are growing but the consumer side remains weak
US Credit growth vs Recessions
Source: FRB, NBER
US - Net % of banks reporting positive loan demand

50
US commercial and industrial loans, %qoq

4.0% 3.0% 1.8% 0.0% 2.2% 2.6% 2.0%
25
2.0% 1.0%
0.0% -1.0% -2.0% -1.1% -2.1% -3.5% -4.7% -5.4% 09Q1 09Q2 09Q3 -5.8% 09Q4 10Q1 10Q2 10Q3 10Q4 11Q1 11Q2 11Q3 11Q4 -1.9%
-25
-3.0% -4.0%
-50
-5.0% -6.0%
-75 91 93 95 97 99 01 03 05 07 09 11
-7.0%
From Large & Med Firms From Small Firms From Consumer Loans
US C&I loan growth qoq
Source: FRB
72
Source: FRB
Delinquencies are on a downtrend

Delinquencies are falling in absolute terms now for most products The turn in the credit cycle is the big positive for banks profitability and for their tangible books
US credit card delinquencies
5.9% 5.4% 4.9% 4.4% 3.9% 3.4% 2.9% 2.4% 06 07 08 09 10 11
US credit card delinquencies 30+ days*

Source: J.P. Morgan
US residential mortgage delinquencies vs jobless claims

50% 40% 30% 20% 20% 10% 0% -10% -20% 81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 11 0% -20% -40%
-5.0% -10.0% -15.0% -20.0%
US commercial loan delinquencies vs IP

15.0% 10.0% 5.0% 0.0% 60% 100% 140% 180% 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 -60% -20% 20%
80% 60% 40%
US residential mortgage delinquencies (%yoy)

Source: Datastream
US jobless claims (%yoy, rhs)
US IP (yoy%)
JPM IP forecast
US Delinquency Rates - Commercial and Industrial Loans (yoy%, rs, rhs)
73
Risk 3 - Chinese hard landing not our base case looking for a soft landing
Investors fear a hard landing in China. We highlight the following points: Property developers: The government has been working to bring down property price inflation since last year, but without sustained success (i.e. tightening, market weakens, market turns back up, further tightening, etc) - This time, we could see a turning point as housing market has not bounced back over the past 5-6 months and prices are now flat. Given past experience, government will want to leave measures in place to avoid another re-acceleration in housing prices. Despite this weakness, a housing market collapse scenario is unlikely. Demand remains strong, supported by the urbanization process, income growth, and the fact that there are no alternative investment assets. Pressure on real estate developers should not be over-interpreted as an indicator of a collapse. After all, isn't this exactly what policymakers wanted to see when they started implementing stabilization measures? LGFV lending: Concerns on the credit quality of LGFV lending are valid, in our view. Key reason behind the problem was excessive stimulus and credit expansion in 2009. The LGFV is well-known and policymakers are currently vetting proposals that focus on consolidation of LGFVs, maturity transformation (avoid liquidity crisis) and credit enhancement (putting more collateral, third party guarantee etc) of LGFV loans, and proposals on cost sharing among central government, local government and banks. Once the LGFV liability becomes a fiscal liability, the solvency issue can turn into a liquidity problem for local governments. However, the central and local governments have significant assets and fiscal revenues have been increasing at a rapid pace. Non-bank lending market: This, in our view, is the biggest wild card in the Chinese financial system. This market suffers from a serious lack of transparency. Reasons behind the rapid increase of non-bank lending market: (1) regulatory arbitrage to get around the credit control in the banking sector; (2) search for yield due to low interest rates. The large non-bank lending market implies that a liquidity squeeze in the banking system may not lead to a liquidity squeeze in the real economy. We think the aggregate liquidity actually remains ample, but the problem is on liquidity allocation. Some sectors, like real estate, are more constrained than the others. In terms of macro backdrop, the situation is very similar to last summer, when PMIs dipped to just below 50, and slowdown in property transactions was 4-5 months old. There was significant destocking and market started pricing in the continuation of this into hard landing. However, we note that China has most recently cut its RRR by 50bp, the first reduction in 3 years. This has not typically been a one off.
74
OW EM vs DM: In the world of scarce growth EM should be favoured

MSCI EM underperformed MSCI DM by 10% in common currency AND BY 5% in U$ ytd, but we believe the growth/inflation outlook will remain more favourable in EM EM valuations are not stretched vs DM
JPM real GDP growth forecasts (Europe, US, EM countries)
Real GDP % oya 2011E United States Eurozone United Kingdom Japan Emerging markets Global
Real GDP % oqa, saar
2012E 1.8 -0.7 0.5 2.0 4.7 2.0
3Q11E 2.0 0.8 2.0 6.0 4.8 3.0
4Q11E 3.0 -1.0 0.5 0.5 3.8 1.8
1Q12E 0.5 -1.5 0.0 2.8 4.2 1.3
2Q12E 1.5 -1.5 -1.5 1.5 5.5 1.7
3Q12E 2.5 -0.3 2.5 1.3 5.9 2.6
1.8 1.6 0.9 -0.3 5.7 2.6
MSCI EM vs DM, $
100.0 98.0 96.0 94.0 92.0 90.0 88.0 86.0 84.0 82.0 80.0 Jan-11 Feb-11 Mar-11 Apr-11 May-11 Jun-11 Jul-11 Aug-11 Sep-11 Oct-11 Nov-11 Dec-11
1.3 1.2 1.1 1.0 0.9 0.8 0.7 0.6 0.5 0.4 90
EM vs DM valuations
91
92
93
94
95
96
97
98
99
00
01
02
03
04
05
06
07
08
09
-1stdev
10
11
MSCI EM 12m Fwd P/E rel to MSCI DM
average
+1stdev
MSCI EM vs DM, $
Source: Datastream, MSCI Source: Datastream, MSCI
75
Chinese inflation pressure is easing and policy turning

Long term, EM inflation is likely to be structurally higher as wage-price spiral develops and labour productivity decelerates. However, near term we see the following positives: improving base effects, gradual appreciation in CNY, lagged impact from past withdrawal of liquidity as seen in slowing M2, and a rollover in global commodity prices China has most recently cut its RRR by 50bp, the first reduction in 3 years. We do not see this to be a one off and believe implications for indirect China plays are positive
China Headline CPI vs Money Multiplier
5.5 5.3 5.1 4.9 4.7 4.5 4.3 4.1 3.9 3.7 3.5 00 01 02 03 04 05 06 07 08 09 10 11 12 -2 2 0 4 8 6 10
Global Agricultural Prices vs China Food CPI, 3mom%

8% 6% 4% 2% 0% -2% -4% -6% -8% 05 06 07 08 09 10 11 -5% -15% -25% -35% 35% 25% 15% 5%
China Food CPI, %3mom sa

Source: J.P. Morgan
JPM Agricultural Commodity Prices Index, %3mom, rhs
China M2 money supply growth

30 28 26 24 22 20 18 16 14 12 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11
China M2 %yoy
China M2/Reserve Base Ratio, leading by 14 months

Source: Bloomberg
China CPI, %yoy, rhs

Source: Bloomberg
76
Attractive indirect EM plays and European sectors exposure to EM

We would position in the cheaper European names with large EM revenues exposure and strong EPS growth potential
Attractive indirect EM plays (JPDEUEME <index>)

Ytd Perf Stock THE SWATCH GROUP 'B' RICHEMONT ANHEUSER-BUSCH INBEV HENKEL PREF (XET) CAIRN ENERGY BP BANK OF CYPRUS (ATH) SANDVIK FIAT INDUSTRIAL METSO SCANIA 'B' BEKAERT (D) MAN (XET) BOSKALIS WESTMINSTER VOLVO 'B' ASML HOLDING STMICROELECTRONICS (PAR) VEDANTA RESOURCES ANGLO AMERICAN EURASIAN NATRES.CORP. KAZAKHMYS XSTRATA LAFARGE K + S (XET) HEIDELBERGCEMENT (XET) TELEFONICA Sector DISCRETIONARY DISCRETIONARY STAPLES STAPLES ENERGY ENERGY FINANCIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS IT IT MATERIALS MATERIALS MATERIALS MATERIALS MATERIALS MATERIALS MATERIALS MATERIALS TELECOMS Ticker UHR VX CFR VX ABI BB HEN3 GR CNE LN BP/ LN BOCY CY SAND SS FI IM MEO1V FH SCVB SS BEKB BB MAN GR BOKA NA VOLVB SS ASML NA STM FP VED LN AAL LN ENRC LN KAZ LN XTA LN LG FP SDF GR HEI GR TEF SM 6th December % EM Sales 51.5 48.0 47.0 44.2 100.0 44.6 72.5 50.7 48.8 48.0 47.8 47.8 46.0 45.8 45.0 71.7 63.9 93.7 90.1 86.3 58.9 53.5 52.7 47.5 40.5 42.9 Ytd Perf Rel to L2 (%) Sector -14% -10% 4% -7% -35% 0% -80% -35% -25% -28% -33% -67% -27% -24% -35% 7% -40% -57% -25% -36% -40% -30% -40% -33% -32% -17% -3% 1% 0% -6% -35% 0% -49% -15% -6% -9% -14% -47% -8% -5% -16% 8% -40% -29% 3% -8% -12% -2% -15% -22% -35% -9% 2012e EPS Gr Rel to L2 Abs Sector 14% 12% 11% 11% 19% 0% 45% 3% 22% 13% -16% -12% -16% -1% -4% -39% -13% 16% 6% 2% -1% 10% 18% 13% 29% 0% -1% -3% 2% -2% 12% -7% 26% -5% 14% 5% -24% -20% -24% -9% -12% -21% 5% 7% -3% -8% -10% 0% 0% 14% 19% -3% 12m Fwd P/E Abs 13.6 14.8 14.3 12.4 6.7 6.4 1.8 11.8 9.3 10.8 10.3 9.6 11.2 11.0 9.2 15.5 12.9 3.5 6.9 6.2 5.0 7.4 9.9 9.5 9.5 8.9 Rel to L2 Sector -3% 6% -1% -8% -16% -19% -72% 15% -9% 6% 1% -6% 9% 7% -10% -11% -26% -45% 8% -3% -22% 15% -16% -15% -34% -2%
European sectors EM sales exposure

%EM exposure 56% 54% 50% 36% 35% 32% 32% 29% 23% 22% 21% 21% 20% 20% 20% 19% 17% 16% 16% 13% 13% 11% 10% 7% 4% 12m Fwd P/E 12.1 11.6 18.7 14.6 6.9 12.7 14.6 13.7 8.4 14.5 6.7 10.8 9.6 7.0 10.7 7.1 10.5 9.3 7.3 12.8 11.3 11.9 13.9 14.4 9.9 P/E rel to mkt vs historical -14% 24% -21% 41% -10% 58% 40% -25% -6% -14% -33% 16% n/a -10% -12% -12% 0% -19% -22% 32% -10% 15% 25% 8% 7%
Tech Hardware Chemicals Semicon Food Bev&Tob Met&Min Cons Mat Cons Durables Software Energy HPC Automobile Cap Goods Europe Banks Healthcare Div Fin Food Drug Ret Telecoms Insurance Transport Media Hotels,Rest&Leis Retailing Real Estate Utilities
Source: Datastream, Bloomberg, Worldscope, IBES,
Source: Datastream, Bloomberg, Worldscope, IBES, 6th December
77
ECBs policy reversal calls for further Euro weakness a relief for exporters
The latest PMI is deep into rate-cutting territory and points to further ECB rate cuts ahead
65
ECB policy rate and PMI

50
The change in ECBs policy stance is opening the door to further Euro weakness in our view, which could help Euro exporters and Dax in particular
Eurozone stocks with high Ex-Europe exposure
Nam e ASML HOLDING TENARIS ANHEUSER-BUSCH INBEV HOCHTIEF (XET) ACERINOX 'R' SAIPEM LUXOTTICA STMICROELECTRONICS (PAR) PARMALAT VALLOUREC TECHNIP UNILEVER CERTS. ALCATEL-LUCENT LAFARGE ADIDAS (XET) SANOFI NOKIA DELHAIZE GROUP WARTSILA BIC PUBLICIS GROUPE BEKAERT (D) HEIDELBERGCEMENT (XET) PHILIPS ELTN.KONINKLIJKE SCHNEIDER ELECTRIC LVMH CHRISTIAN DIOR METSO UCB CIMENTOS DE PORTL.SGPS QIAGEN (XET) L'OREAL HENKEL (XET) HENKEL PREF (XET) OUTOKUMPU 'A' ESSILOR INTL. BAYER (XET) CIE.GL.DE GPHYQ.-VERT. GEA GROUP (XET) MERCK KGAA (XET) Ctry NL IT BE DE ES IT IT FR IT FR FR NL FR FR DE FR FI BE FI FR FR BE DE NL FR FR FR FI BE PT DE FR DE DE FI FR DE FR DE DE Sector IT ENERGY STAPLES INDUSTRIALS MATERIALS ENERGY DISCRETIONARY IT STAPLES INDUSTRIALS ENERGY STAPLES IT MATERIALS DISCRETIONARY HEALTH CARE IT STAPLES INDUSTRIALS INDUSTRIALS DISCRETIONARY INDUSTRIALS MATERIALS INDUSTRIALS INDUSTRIALS DISCRETIONARY DISCRETIONARY INDUSTRIALS HEALTH CARE MATERIALS HEALTH CARE STAPLES STAPLES STAPLES MATERIALS HEALTH CARE HEALTH CARE ENERGY INDUSTRIALS HEALTH CARE Ex W. Europe % EM 11e 12e Sales % Sales Ytd Perf Fw d P/E EPS Gr EPS Gr 95% 72% 7% 15.5 40% -39% 89% 54% -22% 10.0 19% 26% 89% 47% 4% 10.7 20% 11% 87% 12% -31% 9.9 -125% 86% 22% -23% 12.3 20% 41% 83% 76% -9% 14.1 10% 15% 80% 20% -6% 18.1 18% 13% 79% 64% -40% 9.7 -47% -13% 74% 19% -27% 13.9 -38% 10% 74% 48% -35% 11.9 -16% 24% 74% 52% 4% 14.4 11% 16% 73% 55% 7% 14.7 3% 8% 72% 31% -45% 6.9 -10% 71% 54% -40% 9.9 -17% 17% 70% 47% 4% 13.6 18% 17% 70% 30% 8% 8.7 -6% -11% 70% 65% -47% 17.3 -59% -4% 69% 1% -21% 7.8 -7% 5% 69% 43% -15% 14.7 -2% 1% 68% 24% 4% 12.6 13% 4% 68% 19% -9% 12.3 11% 8% 67% 48% -67% 9.6 -48% -13% 67% 40% -32% 9.5 4% 29% 67% 33% -32% 11.0 -32% 22% 66% 42% -25% 11.0 2% 4% 66% 34% -6% 16.6 -2% 12% 65% 34% -11% 11.8 -1% 15% 65% 48% -28% 10.8 16% 14% 64% 28% 20% 17.4 38% -1% 64% 64% 1% 11.8 14% 7% 63% 15% -24% 10.4 2% 13% 63% 41% -5% 17.4 6% 7% 62% 44% -7% 62% 44% -7% 12.4 12% 11% 62% 7% -59% 62.3 62% 22% 7% 18.6 15% 11% 61% 37% -15% 9.5 13% 4% 60% 34% -22% 15.5 60% 47% 1% 11.3 18% 19% 60% 43% 22% 10.1 3% 5%
60 55
25
0 50 -25 45 40 35 99 01 03 05 07 09
PMI (DI, sa)
-50
-75 11 13
Policy rate change (Bp, m/m)
Source: J.P. Morgan
ECB-FED rates futures differential and EUR/USD

2.0 1.50 1.45 1.6 1.40 1.2 1.35 1.30 1.25 0.4 1.20 0.0 1.15 Jun-10 Aug-10 Oct-10 Dec-10 Feb-11 Apr-11 Jun-11 Aug-11 Oct-11 Dec-11 Feb-12 Apr-12
ECB - FED Dec11 futures
Source: Bloomberg
0.8
Forecast
EUR/USD (rhs)
78
Source: Bloomberg, IBES
Dax rebound has more to go

Dax did suffer partly because it was a consensus long, but that has likely unwound as Dax is trading on 9.0x Fwd P/E, a 6% discount to MSCI Europe vs historical premium of 7% Dax is offering the best prospects within the region in our view. It is not a consensus long any more after the summer sell-off. It should benefit from an improvement in the global cycle, it is a key play on the Euro weakness and it is the cheapest market relative to bonds
Yield gap for European countries
Yield Gap (BY DY)
1.30
DAX rel to MSCI Europe Total Return
Source: Datastream
DAX 12m Fwd P/E rel to Europe
Country UK Germany Austria Switzerland France Spain Netherlands Italy Belgium Ireland Portugal Greece
Yield Gap -1.6% -2.0% -2.3% -1.9% -3.0% -1.4% -1.1% -0.2% 0.8% 6.0% 7.4% 28.5%
Median 3.6% 3.0% 2.7% 3.1% 1.9% 3.5% 2.3% 2.6% 2.2% 3.5% 2.2% 1.4%
Current vs median -5.2% -5.1% -5.1% -4.9% -4.9% -4.9% -3.4% -2.8% -1.4% 2.5% 5.2% 27.1%
0.80 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 0.90 1.00 1.20 1.10
Dax 12m Fwd P/E rel to Europe

Source: Datastream
average
+1stdev
-1stdev
79
Within Eurozone OW core vs periphery

EMU GDP and market cap breakdown ask Prabhav
We remain OW core vs periphery within EMU Core countries are 78% of EMU market cap and 65% of GDP The ongoing concerns regarding growth drag and private deleveraging will likely remain for the peripheral countries
EMU Private debt to GDP breakdown
Austria Belgium Finland France Germany Netherlands Greece Ireland Italy Portugal Spain Core Periphery
Source: Datastream, MSCI, Eurostat
2010 Euro area Germany France Italy Spain Netherlands Belgium Austria Greece Finland Portugal Ireland Slovakia Luxembourg Slovenia Cyprus Estonia Malta US
Non Fin Corps Loans % of GDP 51.9 36.5 45.8 59.0 82.7 62.5 32.3 57.0 50.7 35.4 69.4 64.1 24.6 138.3 58.8 148.5 42.5 85.8 73.9
Household Loans % of GDP 57.1 57.9 54.8 39.6 81.7 71.6 32.5 50.1 56.6 60.6 81.8 72.7 25.7 81.9 26.8 134.1 49.3 63.8 83.5
Total Private Loans % of GDP 109.0 94.4 100.6 98.6 164.4 134.1 64.7 107.1 107.2 96.0 151.2 136.8 50.3 220.2 85.6 282.6 91.8 149.6 157.4
Market Cap Weight 0.9% 3.4% 3.1% 32.8% 28.7% 8.8% 0.3% 0.9% 8.5% 0.8% 11.9% 77.6% 22.4%
GDP Weight 3.2% 3.9% 2.0% 21.5% 27.6% 6.6% 2.5% 1.7% 17.3% 1.9% 11.7% 64.8% 35.2%
EMU members real GDP vs Real Rates

35% Greece 30% 25% 20% 15% 10% 5% 0%
X - Average '11-12 YoY Real GDP Y - Real 10Y Bond yield
Portugal Ireland Spain Italy Belgium France Germany Netherlands -6.0% -5.0% -4.0% -3.0% -2.0% -1.0% 0.0% 1.0% Finland Austria 2.0% 3.0% 4.0%
-5% -7.0%
Source: ECB, debt numbers for October-2011 & 2010 GDP
80
European countries valuation and growth metrics

Spain, Ireland, Portugal and Greece do not look particularly cheap vs other EMU countries
European Countries Summary Table

Fwd P/E LT % Hist. Current Median % Disc Rel Disc 7.0 12.5 -44% -19% 10.4 12.4 -16% 19% 12.0 14.6 -18% 20% 9.0 13.1 -31% -1% 9.0 13.2 -32% -2% 5.2 12.6 -59% -39% 17.6 13.0 35% 94% 8.2 14.0 -41% -17% 9.1 12.4 -27% 5% 10.5 13.6 -23% 11% 8.8 12.2 -28% 4% 9.1 13.0 -30% 9.2 11.1 -17% 11.1 14.3 -22% 11.6 14.6 -20% 13.9 15.0 -7% 9.3 12.8 -27% 9.6 13.1 -27% 11.8 15.2 -22% P/Book Div Yield (%) Perf EPS Growth 12m Fwd 2012e EPS Ytd 21% -9.8% 96% 4.3% 8% -26.0% 6% -4.4% 10% 2.8% 96% -43.3% 19% 43.7% 20% -9.0% 0% -5.7% 10% -10.1% 5% -14.1% 10% -3.4% 18% -0.4% 10% 2.4% 12% -8.9% 27% -10.0% 8% 3.0% 9% -0.7% 10% 13.0% GDP Growth
Austria Belgium Finland France Germany Greece Ireland Italy Netherlands Portugal Spain EMU Norway Sweden Switzerland Denmark United Kingdom Europe US
LT % Hist. LT Current Median % Disc Rel Disc Current Median 0.8 1.7 -55% -10% 4.0 2.1 1.2 2.0 -42% 13% 2.5 3.2 1.3 3.0 -57% -22% 5.6 2.8 1.1 2.2 -51% -4% 4.3 2.7 1.3 1.8 -27% 34% 3.4 2.3 0.3 2.2 -87% -77% 9.2 2.9 1.1 2.4 -53% -9% 2.4 2.4 0.7 2.1 -65% -31% 5.4 3.5 1.3 2.4 -45% 8% 3.2 2.9 1.0 2.3 -58% -19% 5.3 3.0 1.2 2.5 -53% -9% 7.1 3.0 1.1 2.2 -49% 4.4 2.9 1.6 1.6 1% 3.6 2.7 1.8 2.5 -29% 3.0 2.5 2.1 2.9 -27% 3.2 1.7 2.0 2.7 -24% 1.0 1.6 1.8 2.2 -18% 3.3 3.3 1.4 2.3 -38% 3.7 2.86 2.2 2.9 -24% 1.9 1.8
2010 15% 5% 14% 0% 13% -43% -14% -12% 6% -9% -20% 0% 8% 24% -1% 39% 8% 4% 13%
ytd -37% -12% -29% -16% -15% -63% 3% -20% -13% -21% -13% -16% -11% -17% -11% -15% -5% -12% 0%
2010e 43% 34% 33% 40% 103% -37% 9% 65% -13% -3% 39% 22% 49% 26% 88% 41% 39% 47%
2011e -12% -39% -21% 2% -3% -66% -7% 8% 1% -8% -4% 16% -8% -6% -13% 14% 2% 16%
2010e 2.1 2.1 3.1 1.4 3.6 -4.4 -0.4 1.2 1.6 1.3 -0.1 1.7 2.1 5.3 2.6 2.1 1.4 3.0
2011e 2.9 2.3 2.9 1.6 3.0 -5.8 1.2 0.5 1.7 -1.9 0.7 1.6 2.5 4.7 1.8 1.2 0.9 1.8
2012e 1.4 1.0 1.1 -0.2 0.2 -3.4 0.6 -1.6 0.5 -2.9 0.5 -0.7 1.1 1.1 0.7 1.4 0.5 1.8
Source: Datastream, IBES, JP Morgan Economics Research, Consensus Economics forecast in italics, 6th December
81
Fiscal consolidation manageable at EMU level

The primary deficit for Eurozone as a whole is not worse than those for the US, UK or Japan
EMU outlook for deficits and debt (%of GDP)
2011e Euro area Germany France Italy Spain Netherlands Belgium Austria Greece Finland Portugal Ireland Slovakia Luxembourg Slovenia Cyprus Estonia Malta Overall Deficit -4.6 -2.7 -6.3 -4.3 -6.4 -3.9 -4.6 -3.6 -7.4 -1.6 -4.9 -10.3 -5.3 -1.3 -5.3 -5.7 -1.9 -3.0 Overall Deficit -3.9 -1.8 -5.8 -3.5 -5.5 -2.8 -4.7 -3.3 -7.6 -1.2 -5.1 -9.1 -5.0 -1.2 -4.7 -5.7 -2.7 -3.3 Cycl adj. Overall Deficit -1.6 -0.3 -3.6 0.5 -4.1 -1.7 -1.1 -0.8 -1.2 -0.3 -1.2 -6.9 -3.5 -0.8 -3.6 -3.3 -1.6 0.2 Cycl adj. Overall Deficit -0.8 0.6 -2.9 1.4 -2.7 -0.4 -1.1 -0.4 -0.3 0.4 -1.1 -4.8 -3.0 -0.8 -2.9 -3.3 -2.3 -0.2 Primary deficit -3.5 -2.2 -4.6 -3.5 -4.9 -2.3 -3.7 -2.9 -4.1 0.4 -3.8 -9.1 -5.0 0.8 -3.8 -5.0 -0.7 -2.9 Primary deficit -3.2 -1.4 -4.4 -3.3 -4.8 -1.5 -4.1 -2.9 -4.7 0.6 -4.3 -8.9 -5.1 0.6 -3.8 -5.4 -2.5 -3.5 Cycl. Adj. primary deficit -0.5 0.2 -2.0 1.3 -2.5 0.0 -0.2 -0.1 2.1 1.7 -0.1 -5.6 -3.2 1.2 -2.1 -2.6 -0.3 0.2 Cycl. Adj. primary deficit 0.0 1.1 -1.5 1.6 -2.0 0.9 -0.5 -0.1 2.6 2.2 -0.3 -4.6 -3.0 1.1 -2.0 -3.0 -2.0 -0.4 Debt 86.5 75.9 86.8 120.2 69.7 66.6 100.5 72.0 150.2 51.1 88.8 107.0 45.1 19.6 44.8 65.2 9.5 70.8
JPM forecast Fiscal positions (%GDP)

Gross Debt 2010 US EMU Japan UK 94.4 91.1 220.0 75.5 2011 100.0 93.2 233.1 80.8 Net Debt 2010 68.3 58.4 117.2 67.7 2011 72.6 61.4 130.6 72.9 Fiscal Deficit 2010 -10.3 -5.7 -9.2 -10.2 2011 -9.6 -4.3 -10.3 -8.5 Primary Balance 2010 -8.4 -2.9 -8.1 -7.7 2011 -8.0 -1.3 -8.9 -5.6
Previous fiscal adjustments* in EMU

Share of Eurozone GDP Belgium 4% 29% 2% 6% 2% 2% 16% 2% 10% 3% 21% Largest move % pts of GDP 8.7 7.6 7.5 6.7 6.4 6.3 6.0 6.0 3.1 3.0 2.9 Real GDP Avg Annual Growth 1.1% 1.6% 0.0% 3.9% 0.4% 2.1% 0.5% 4.7% 2.5% 2.1% 1.8% 1.9% 1.8% Abs Perf (LC) 82.9% 107.2% 116.3% 20.0% 31.5% 38.5% 444.9% 44.4% 12.4% 10.2% 90.8% 41.5% Perf Rel to MSCI Europe (LC) 4.8% 10.3% 19.4% -10.2% 18.4% -22.6% 396.3% 20.7% -68.6% -13.6% 35.5% 7.5% Perf Rel to MSCI Europe ($) 7.9% -6.1% 0.6% -29.2% -38.3% 338.1% 17.8% -73.5% -15.7% 22.4% -6.1%
Date 1982-84 1996-98 1982-84 1996-98 1992-94 1982-84 1991-93 1998-00 1994-96 1995-97 1994-96
2012e Euro area Germany France Italy Spain Netherlands Belgium Austria Greece Finland Portugal Ireland Slovakia Luxembourg Slovenia Cyprus Estonia Malta
Debt 87.8 75.2 89.8 119.9 73.0 67.3 102.1 73.3 156.0 53.0 92.4 114.3 47.4 20.9 47.6 68.4 11.7 70.9
Germany Portugal Netherlands Greece Ireland Italy Finland Spain Austria France Average Median
Source: J.P. Morgan economic research, * largest three-year moves in cyclically adjusted primary balances
Source: European Commission forecasts
82
but periphery continues to face a very long journey

Periphery has completed between 5% and 35% of the adjustment Irelands adjustment pace remains relatively slow
Fiscal Adjustments & the Debt Rule
Year that overall deficit reaches 3% of GDP Greece Ireland Portugal Spain 2014 2015 2013 2013 Primary position in 2013 % of GDP 3.5 -1.1 1.6 -0.3 Required primary position for debt rule r=g 4.9 2.9 2.4 0.5 r > g by 100bp 6.5 4.1 3.5 1.2
Official outlook for Peripheral countries

Official projections % of GDP Budget Balance Greece Ireland Portugal Spain Primary Balance Greece Ireland Portugal Spain Govrnment Debt Greece Ireland Portugal Spain 127.1 65.6 83.0 53.3 142.8 96.2 93.0 60.1 153.0 111.0 102.1 67.3 159.0 116.0 106.9 68.5 158.0 118.0 105.7 69.3 154.0 116.0 n/a 68.9 151.0 111.0 n/a n/a -10.3 -9.7 -7.2 -9.4 -4.9 -9.1 -6.1 -7.3 -0.9 -6.2 -2.3 -3.8 1.0 -3.9 -0.1 -1.9 3.5 -1.1 1.6 -0.3 6.0 1.7 n/a 0.8 6.3 3.4 n/a n/a -15.4 -11.8 -10.1 -11.1 -10.5 -12.3 -9.1 -9.2 -7.5 -10.0 -5.9 -6.0 -6.5 -8.6 -4.5 -4.4 -4.8 -7.2 -3.0 -3.0 -2.6 -4.7 n/a -2.1 -2.1 -2.8 n/a n/a 2009 2010 2011 2012 2013 2014 2015
Source: J.P. Morgan economic research. The debt rule states that any government with a debt-toGDP ratio in excess of 60% needs to make an annual adjustment equal to 1/20th of the gap. "r" is the average borrowing rate on debt, "g" is nominal GDP growth.
Fiscal journey of various sovereigns

Move in primary position, % of GDP Journey 20102014 Greece Ireland Portugal Spain 10.9 10.8 8.6 8.1 Journey to meet debt rule 9.8 12.0 8.4 7.8 % of Greek Journey Journey 20102014 100.0 99.1 78.9 74.3 Journey to meet debt rule 100.0 122.4 85.6 79.2
Adjustment achieved so far out of the total needed adj.
Journey so far (change in primary balance, % of GDP) Greece Ireland Portugal Spain 5.4 0.6 1.1 2.1
Total journey 2009- 2014 (change in primary balance, % of GDP) 16.3 11.4 9.7 10.2
Journey so far as % of total 33.1 5.3 11.3 20.6
Source: The Irish budget balance and primary balance exclude bank recapitalization costs (worth 2.5% of GDP in 2009 and 20.1% in 2010). Projections for Spain and Ireland are from the latest Stability and Growth Programs (April 2011). Projections for Greece are from the IMF program Third Review (March 2011). Portuguese projections reflect the new deficit objectives announced by the government recently (primary balance and government debt projections are our calculations based on these targets).
83
10 Years of Euro loss of competitiveness and rising debt

Household Debt to GDP has increased in all countries except in Germany ULCs have moved up significantly in southern Europe over the past 10 years Labour market efficiency is the lowest in the periphery
Labor market efficiency (2011 score, from best to worst)
5.75
5.25
SWZ US UK JPN IRL BEL POL DE FR BR ES IT GR
4.75
4.25
3.75
3.25
2.75
Source: World Bank
Eurozone Countries Household Debt/GDP Household Debt to GDP Germany France Italy Spain Netherlands Belgium Austria Portugal Greece Ireland Finland Euro Area UK
Source: Eurostat
% Ch in Unit Labor Costs 2010 vs 2000 Chg -11.4 14.6 17.2 37.7 31.8 14.0 5.3 32.8 38.0 60.5 22.2 12.9 -5.6
Source: Bloomberg
2000 72.8 36.2 22.3 46.2 87.0 39.7 47.1 59.7 12.6 50.0 32.8 49.1 110.6
2008 61.4 50.8 39.5 83.9 118.8 53.7 52.4 92.5 50.6 110.5 55.0 62.0 105.0
Source: Eurostat
84
UK growth slowing with global domestic side even weaker

The vast majority of the variation in the UK business cycle can be explained by global factors However, domestic cyclical plays remain under pressure due to still weak consumer on the back of high inflation, weak labour market and fiscal austerity
Composite output PMI: UK vs Global
63
58
53 Range based around global PMI
48
43
38 99 00 01 02 03 04 05 06 07 08 09 10 11
JPM Global PMI, shading denoted -/+ 1sd band UK PMI Composite
Source: J.P. Morgan, % balance, sa, shading denotes -/+ one stdev error band
CBI Retail Survey

80 60 40 20 0 -20 -40 -60 -80 00 01 02 03 04 05 06 07 08 09 10 11
Business investment share of GDP

15
13
11
7 65 70 75 80 85 90 95 00 05 average 10 UK Business Investment % of Nominal GDP

Source: ONS
CBI retail trades survey - volume of sales (% balance)

Source: CBI
85
Corporate activity could pick up in the form of M&A strong corporate balance sheets are a support
Corporates are in a strong position (higher profit margins and lower leverage than at the similar stage of the past cycle), cost of financing is near record low
Cash on MSCI Europe corporate balance sheets*
590 10.5% 540 10.0% 490 9.5% 440 390 340 290 240 99 00 01 02 03 04 05 06 07 08 09 10 9.0% 8.5%
400 800 6,000 600 5,000 4,000 3,000 98 99 00 01 02 03 04 05 06 07 08 09 10 11 1000 7,000 1400 1200 9,000 8,000 1600
M&A activity
10,000
8.0% 7.5%
200 0
MSCI Europe (Ex- Fin, Telcos & Utilities) Cash as % of Total Assets, rhs
Total Cash on B/S (Bn )
Global M&A volu me ($bn)
Number of Deals (rhs)
Source: MSCI, Worldscope, J.P. Morgan, * Ex- Telcos, Utilities and FInancials
Source: Bloomberg, Q411 adjusted for full quarter
European Net Debt to Equity

0.80 0.75 0.70 0.65 0.60 0.55 0.50 0.45 0.40 0.35 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11e 12e
European Net Debt/ EBITDA

2.6 2.4 2.2 2.0 1.8 1.6 1.4 1.2 1.0 0.8 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11e 12e Europe ex-Financials Net Debt/EBITDA IBES Forecast
Europe ex-Financials Net Debt/Equity
IBES Forecast
Source: JP Morgan, Worldscope, IBES
86
Source: J.P. Morgan, Worldscope, IBES
M&A screen
We screen European stocks with respect to the following criteria: 1. Growth: where we look for relatively smaller companies with high growth rates and low leverage. 2. Restructuring/Valuation: where we look for cheap names with low leverage and lower asset turnover than the sector average
Value/Restructuring M&A screen
Market Cap (U$) 9,173.7 6,193.7 6,326.6 8,840.5 7,108.2 7,670.6 10,110.7 6,295.4 7,729.3 17,513.9 14,035.5 14,748.0 5,346.4 5,561.2 7,556.1 10,964.7 8,708.2 7,951.6 13,381.1 18,713.0 9,641.6 13,766.1 4,577.9 5,971.8 8,895.0 5,877.6 5,626.6 Total Asset ND/Eq Turnover uity 0.25 0.7 0.69 0.2 0.39 0.4 0.55 0.5 0.60 0.0 0.30 0.3 0.91 0.3 0.72 -0.1 0.63 0.2 0.70 0.3 0.85 0.4 0.85 0.4 0.89 0.4 0.73 -0.2 0.72 -0.5 0.82 0.1 0.89 -0.1 0.51 0.7 0.96 0.3 0.52 0.6 0.92 -0.2 0.56 0.0 0.52 0.3 0.68 0.5 0.74 0.5 0.45 0.5 0.61 0.3
Growth M&A screen

Market Cap Long term (Mn U$) EPS Gr. 4,243.9 25.0 4,319.2 17.0 2,978.3 18.8 8,778.5 19.3 2,703.2 16.7 2,127.4 18.5 2,739.5 36.6 3,916.1 20.2 5,264.3 33.3 5,872.7 18.0 2,097.8 39.3 9,795.7 18.0 2,767.9 36.8 2,370.4 49.0 2,121.6 61.7 9,976.8 70.5 5,877.6 41.7 ND/ Equity 0.0 0.3 0.7 -0.4 0.2 -0.8 0.3 0.0 -0.1 0.2 -0.6 0.0 0.1 -0.3 0.2 -0.2 0.5
NAME PORSCHE AML.HLDG.PREF. ACCOR CARNIVAL CARLSBERG 'B' POLISH OIL AND GAS UCB BOUYGUES THALES ORKLA DEUTSCHE POST A P MOLLER - MAERSK 'A' A P MOLLER - MAERSK 'B' BOLLORE STMICROELECTRONICS (PAR) SOLVAY AKZO NOBEL DSM KONINKLIJKE HEIDELBERGCEMENT CRH HOLCIM 'R' NORSK HYDRO EURASIAN NATRES.CORP. VEDANTA RESOURCES UPM-KYMMENE SCA 'B' PORTUGAL TELECOM SGPS EDISON
SECTOR AUTOS & PARTS CONSUMER SERVICES CONSUMER SERVICES FD, BEV & TOBACCO ENERGY PHARMA CAPITAL GOODS CAPITAL GOODS CAPITAL GOODS TRANSPORTATION TRANSPORTATION TRANSPORTATION TRANSPORTATION SEMICONDUCTORS MATERIALS MATERIALS MATERIALS MATERIALS MATERIALS MATERIALS MATERIALS MATERIALS MATERIALS MATERIALS MATERIALS TELECOM SERVICES UTILITIES
P/B 0.62 1.27 0.76 0.98 1.01 1.23 0.93 1.24 0.95 1.24 0.85 0.90 0.91 0.71 0.84 0.92 1.10 0.49 0.95 0.94 0.76 0.90 0.80 0.62 1.03 0.98 0.54
Stock NOKIAN RENKAAT PIRELLI BOSS (HUGO) PREF. BURBERRY GROUP SCHIBSTED RIGHTMOVE PREMIER OIL ELEKTA 'B' GEA GROUP METSO OUTOTEC K+S FERREXPO HOCHSCHILD MINING PETROPAVLOVSK RANDGOLD RESOURCES PORTUGAL TELECOM SGPS
Sector AUTOS & PARTS AUTOS & PARTS DURABLES DURABLES MEDIA MEDIA ENERGY HEALTH CARE CAPITAL GOODS CAPITAL GOODS CAPITAL GOODS MATERIALS MATERIALS MATERIALS MATERIALS MATERIALS TELECOM SERVICES
RoE 24.3 16.4 54.6 31.4 16.6 83.0 22.5 29.0 16.5 18.1 24.0 23.0 34.5 17.3 16.4 24.4 16.5
Source: Datastream, Worldscope, as at 7th December
Source: Datastream, Worldscope, as at 7th December
87
Dividends and buybacks are picking up

European stock buybacks
Corporate balance sheets are in a strong position Buybacks have slowed most recently as companies worry about credit dislocation. However, provided credit market remains open pace of buybacks can pick up again EStoxx50 12e dividend futures are trading at a 11% discount to IBES estimates, pricing in 12% fall in DPS vs 11
4,000 3,500 3,000 2,500 2,000 1,500 1,000 500 0 03 04 05 06 07 08 09 10 11 European Announced Buybacks, 12mma, Mn $
Source: Reuters
European EPS and DPS growth

60%
SX5E Dividend futures vs bottom-up estimates

150 140 133 130 120 141
40%
20%
125 124 122
0%
110
-20%
109 100
-40%
90
-60% 71 73 75 77 79 81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 11
93 87
80 2011 2012
IBES
2013
Dividend Futures
2014
MSCI Europe DPS (%yoy)
MSCI Europe EPS (%yoy)
Source: Bloomberg, IBES, J.P. Morgan
88
Recent outperformance of dividend growth strategies to continue

High Yield strategies were not rewarded in 2010. They outperformed in Q1 and Q3 11 but the trend has reversed again in Q411 to date We advise against positioning in High yield strategies, we suggest positioning in names which could surprise positively with excess cash
Performance of High Yield vs Dividend Upgrades strategies

9.0% 8.5%
6.0%
5.9% 4.9% 4.0% 3.1% 4.5%
3.0% 0.8% 0.0% -0.8% -1.5% -3.0% -2.8% -4.6% 1.2% 0.5% 1.1%
Dividends Upgrades
Yield
Source: Datastream, MSCI, IBES, 6th December. Performance of a strategy is denoted as relative performance of: i) High Yielding Stocks vs Low Yielding stocks for High yield strategy, ii) Stocks with high dividend upgrades vs low dividend upgrades for Dividend Upgrade strategy.
89
Q4'11 to date
-6.0%
Q1'10
Q2'10
Q3'10
Q4'10
Q1'11
Q2'11
Q3'11
-5.7%
-5.1%
Screening for cash return opportunities

We screen for names with potential for higher cash return than currently expected by consensus. We identified the non-financials stocks that are meeting the following criteria: 1) 11e DPS below the last cycle peak DPS; 2) 11e Net Debt to EBITDA below 2x and below the level of the year when DPS peaked; 3) Cash dividend coverage ratio above 2x and above the previous peak level
Stocks with high cash return potential
Peak DPS Year Cash dividend coverage ratio 2.6 9.9 2.5 0.3 3.8 1.2 9.7 3.8 1.8 2.3 2.3 2.0 1.3 4.8 2.1 4.0 1.8 9.5 3.3 0.9 1.5 2.0 2011E Cash dividend coverage ratio 5.3 12.5 4.3 5.5 11.5 2.2 13.8 4.9 2.0 3.3 2.8 2.8 2.3 11.5 3.9 4.9 2.0 13.7 4.6 3.0 4.0 2.2
Stock BP EADS (PAR) GKN ITV JCDECAUX SANDVIK TULLOW OIL RWE (XET) TF1 (TV.FSE.1) BEIERSDORF (XET) ERICSSON 'B' K + S (XET) METSO RENAULT ROYAL DUTCH SHELL B THALES GEBERIT 'R' HOCHTIEF (XET) IMERYS PARMALAT REXAM WARTSILA
BBG Ticker BP/ LN EAD FP GKN LN ITV LN DEC FP SAND SS TLW LN RWE GR TFI FP BEI GR ERICB SS SDF GR MEO1V FH RNO FP RDSA LN HO FP GEBN VX HOT GR NK FP PLT IM REX LN WRT1V FH
Cur Price 460.1 21.8 189.9 64.1 19.3 86.3 1376.0 27.8 7.9 43.0 70.4 38.2 29.2 28.9 2270.0 23.2 180.5 43.2 35.7 1.5 348.4 24.0
Year 09 05 07 06 07 07 07 08 06 08 06 08 07 07 09 08 09 09 07 08 08 07
DPS 0.6 0.7 9.1 3.2 0.4 4.0 0.1 4.5 0.9 0.9 2.5 2.3 1.7 3.8 1.7 1.1 6.4 1.5 1.8 0.2 18.7 1.1
ND / EBITDA 0.77 -1.26 1.36 1.80 1.37 1.71 1.21 2.29 0.98 -1.47 -0.94 0.43 0.74 0.51 0.72 0.40 -0.48 0.11 1.99 -1.16 4.04 -0.06
DPS 0.3 0.3 6.5 1.4 0.2 3.4 0.1 2.2 0.6 0.7 2.4 1.5 1.4 1.2 1.7 0.7 6.0 1.0 1.5 0.1 13.8 0.9
ND / EBITDA 0.59 -2.74 0.59 0.35 0.14 1.48 -0.06 1.91 -0.24 -2.58 -1.58 0.18 0.53 0.30 0.35 -0.24 -0.88 0.09 1.35 -4.16 1.88 -0.18
JPM Reco OW OW OW OW OW OW OW UW UW N N N N N N N NR NR NR NR NR NR
Source: Datastream, IBES, 7th December
90
Equities perform well in low and stable inflation regimes

Equities tended to perform the best in the environment of 1-3% inflation
US 10-year BY vs 1Y of recovery
Equity performance in different inflation regimes

CPI %yoy 12m rolling -15 to -10 -10 to -7 -7 to -5 -5 to -3 -3 to -1 -1 to 0 0 to 1 1 to 3 3 to 5 5 to 7 7 to 10 10 to 15 >15
Source: Shiller Data since 1872
S&P500 12m rolling %yoy perf Average -12% -10% -2% 1% 6% 12% 8% 10% 8% 4% 6% 3% -1% Median -7% -9% -3% 0% 6% 9% 6% 10% 8% 2% 4% 6% -5%
Source: DataStream
US 10-year breakeven
2.7 2.5 2.3 2.1 1.9 1.7 1.5 Jan-10 Mar-10 May-10 Jul-10 Sep-10 Nov-10 Jan-11 Mar-11 May-11 Jul-11 Sep-11 Nov-11
US breakeven 10-year
Source: Bloomberg
91
Longer-term equity outlook much more muted US bond market a risk to the ultimate carry trade
Domestic Holding of US Treasuries
30 Yr bond market Bull Run The question is: Are equities cheap vs bonds? Or are bonds just expensive? Credibility of the policymakers with the bond market could be exhausted after one too many QE iteration. Both inflation and deflation can destabilise the bond market
100%
90%
80%
70%
60%
50%
40% 60 62 64 66 68 70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 Domestic holdings of US Treasuries
Source: Datastream
US 10 Yr Govt Bond Index TR
S&P500 Dividend Yield Gap
Source: J.P. Morgan
Source: Shiller Data
92
LT Headwinds - Equity valuations are a concern

While our tactical (6-9 month rolling horizon) view remains bullish, our medium-term (5 years+) outlook is much more cautious. Historically, valuations remained cheap for a long time in the aftermath of structural bear markets S&P500 cycle adjusted P/E at 22.5x trades at 33% above the long-term median of 16.9x Historically, from these P/E levels, real capital returns have tended to be negative over the next 10 years
Source: Shiller Data
S&P500 Cycle adjusted P/E
10 Yr S&P500 Real Capital Return (p.a.) vs starting Trend P/E

5 4 3 2 1 0 -1 -2
S&P500 rolling EPS vs trend
-3 1927
1937
1947
1957
1967
1977
1987 Linear trend
1997
2007
S&P500 earnings log

Source: Shiller Data Source: Shiller Data
93
LT Headwinds no capital deepening

A number of other headwinds: lower potential growth rates, deflation, de-leveraging of consumer, fiscal consolidation, rise of real interest rates, protectionism, regulation, structurally weaker labour markets, no capital deepening etc. US total capital stock fell in absolute terms for the first time in 2009 since World War II. This, combined with low cap. utilisation, could permanently damage potential growth
Japan Gross Fixed Capital Formation %yoy
20% 15% 10% 5% 0%
230 350 330 310 290 270 250
US total debt as % of GDP
-5% -10% -15% 81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 11
210 190 170 150 51 53 55 57 59 61 63 65 67 69 71 73 75 77 79 81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 11 US Total Debt % of GDP
Japan Gross Fixed Investment Growth, %yoy
Source: OECD
Source: Federal Reserve Bureau
US Net Fixed Private Investment

15
Average US unemployment duration
10
-5
-10 1925 1930 1935 1940 1945 1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 Growth rate of the real capital stock (equipment and software)
Source: NIPA, BEA
94
Source: BLS
Factor analysis Value underperformance extreme, Quality (high ROE) and price momentum favored by investors at present
Most key drivers of stock selection showed a sharp reversal into the start of the year due to position squaring Since the start of Q2 Value underperformed significantly ROE and Price momentum were the winning ytd, but we think this has to change
Factor Performance in Europe
Source: MSCI, JP Morgan.
95
Factor analysis Price Momentum and high ROE performing well in Q3, Value underperformed further change most recently in Q4
Performance of various factors in MSCI Europe universe
Source: MSCI, J.P. Morgan. Constituents rebalanced at the start of quarter.
96
Value underperformance not restricted to Financials

Value vs Growth Ex-Financials*
Value underperformance is not restricted to certain parts of the market. Within each level 1 sector Value portion has done poorly in Q3 to date. Even fully excluding the Financials, the sector neutral underperformance of Value vs Growth stocks is significant The potential rebound in bond yields could be a trigger for stronger performance of Value stocks
Source: Datastream, JP Morgan, * Sector Neutral, *up to 6th Dec
Value vs Growth valuation dispersion

2.0 1.9 1.8 1.7
100 108 106 104 102
Value vs Growth ytd performance and US bond yields

4.2
3.7
3.2
1.6 1.5 1.4 1.3 05 06 07 08 09 10 11
98 2.7 96 94 92 90 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec MSCI Europe Value performance relative to Growth US 10Y Bond yield (%, rhs) 1.7 2.2
Value vs Growth P/Book Dispersion, Sector Neutral

Source: Datastream, JP Morgan *up to 6th Dec
97
Value underperformance UK shows a similar picture

UK Value stocks have underperformed in Q211 by 6.5%, greater than any other time since at least 2005. Furthermore, since July this trend dramatically accelerated in Q3, with Value underperforming by as much as 12% at the worst point If this pace of underperformance continued for the whole quarter, it would amount to 20%, which is multiples greater than seen in any other quarter since 05 and comparable only to Q499, the eye of the Tech Bubble
UK Value vs Growth daily cumulative perf, Q2 to date
3.0%
UK Value vs Growth stocks performance, sector neutral*

25% 20% 15% 10% 5% 0% -5% -10% -15% -20% -25% 05 06 07 08 09 10 11
UK Value vs Growth, Sector Neutral
UK Value vs Growth, Unconstrained
Source: Datastream, MSCI, JP Morgan, Q311 to date performance adjusted for full quarter * up to 6th Dec. UK Sector Neutral excludes Telecoms, IT and Healthcare due to insufficient number of stocks
UK top and bottom P/B quintiles

Top Quintile Stocks (Expensive) PETROFAC FRESNILLO JOHNSON MATTHEY WEIR GROUP AGGREKO CAPITA GROUP BRITISH SKY BCAST.GROUP ICTL.HTLS.GP. NEXT UNILEVER (UK) DIAGEO ADMIRAL GROUP LONDON STOCK EX.GROUP ICAP SCHRODERS SEVERN TRENT Sector ENERGY MATERIALS MATERIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS DISCRETIONARY DISCRETIONARY DISCRETIONARY STAPLES STAPLES FINANCIALS FINANCIALS FINANCIALS FINANCIALS UTILITIES Bottom Quintile Stocks (Cheap) ROYAL DUTCH SHELL A(LON) BP VEDANTA RESOURCES ANGLO AMERICAN EURASIAN NATRES.CORP. COBHAM BAE SYSTEMS BALFOUR BEATTY WOLSELEY TUI TRAVEL CARNIVAL HOME RETAIL GROUP MORRISON(WM)SPMKTS. SAINSBURY (J) OLD MUTUAL 3I GROUP LLOYDS BANKING GROUP BARCLAYS ROYAL BANK OF SCTL.GP. NATIONAL GRID INTERNATIONAL POWER Sector ENERGY ENERGY MATERIALS MATERIALS MATERIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS DISCRETIONARY DISCRETIONARY DISCRETIONARY STAPLES STAPLES FINANCIALS FINANCIALS FINANCIALS FINANCIALS FINANCIALS UTILITIES UTILITIES
-2.0%
-7.0%
-12.0%
-17.0%
-22.0% Apr 11
May 11
Jun 11
Jul 11
Aug 11
Sep 11
Oct 11
Nov 11
Dec 11
Value vs Growth, UK portfolio, Q2 to date cumulative

Source: Datastream, J.P. Morgan *up to 6th Dec Source: Datastream, MSCI, JP Morgan
98
Value and Growth stock baskets

We construct a basket of Value names, ie the stocks in each sector with the lowest P/B. We select 20 names which have had the worst performance since the start of Q2. This basket can be accessed via JPDEUVRL <index> ticker on Bloomberg We do the opposite for the Growth basket, which can be accessed via JPDEUVRS <index> ticker We advise going long the Value basket and short the Growth basket
Value Stocks Basket - JPDEUVRL <index>

Perf Q2 to date Buy Basket (JPDEVURL <Index>) ENI ARCELORMITTAL LAFARGE HEIDELBERGCEMENT (XET) VESTAS WINDSYSTEMS PHILIPS ELTN.KONINKLIJKE BOUYGUES A P MOLLER - MAERSK 'B' FINMECCANICA WPP TUI TRAVEL RENAULT CARLSBERG 'B' SAINSBURY (J) QIAGEN (XET) ROYAL BANK OF SCTL.GP. INTESA SANPAOLO UBI BANCA COMMERZBANK (XET) AGEAS (EX-FORTIS) NOKIA TELECOM ITALIA E ON (XET) GDF SUEZ Median Source: Datastream, J.P. Morgan Sector ENERGY MATERIALS MATERIALS MATERIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS DISCRETIONARY DISCRETIONARY DISCRETIONARY STAPLES STAPLES HEALTH CARE BANKS BANKS BANKS BANKS INSURANCE IT TELECOMS UTILITIES UTILITIES P/Book 1.2 0.5 0.5 0.5 0.7 1.0 0.9 0.9 0.3 1.3 0.9 0.4 1.0 1.0 1.4 0.2 0.3 0.2 0.1 0.4 1.1 0.6 0.8 0.8 0.7 Abs -6% -44% -36% -35% -68% -31% -29% -23% -62% -13% -27% -24% -27% -12% -21% -45% -32% -43% -68% -35% -33% -20% -18% -27% -30% Rel to Mkt Rel to Sector 7% 7% -31% -31% -23% -23% -22% -22% -54% -54% -17% -17% -16% -16% -10% -10% -48% -48% 1% 1% -14% -14% -11% -11% -14% -14% 1% 1% -8% -8% -31% -13% -18% 0% -29% -11% -55% -36% -22% -22% -19% -19% -7% -7% -5% -5% -14% -14% -16% -14%
Growth Stocks Basket- JPDEUVRS <index>

Perf Q2 to date Sell Basket (JPDEVURS <Index>) SUBSEA 7 NOVOZYMES ANTOFAGASTA BASF (XET) AGGREKO WEIR GROUP BUREAU VERITAS KONE 'B' SKF 'B' INDITEX BURBERRY GROUP NOKIAN RENKAAT JERONIMO MARTINS DIAGEO ROCHE HOLDING LONDON STOCK EX.GROUP PRUDENTIAL STANDARD CHARTERED NORDEA BANK DNB UNITED INTERNET (XET) MOBISTAR SSE RED ELECTRICA CORPN. Median Source: Datastream, J.P. Morgan Sector ENERGY MATERIALS MATERIALS MATERIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS INDUSTRIALS DISCRETIONARY DISCRETIONARY DISCRETIONARY STAPLES STAPLES HEALTH CARE DIV. FIN. INSURANCE BANKS BANKS BANKS IT TELECOMS UTILITIES UTILITIES P/Book 2.8 6.8 3.0 2.3 9.1 9.4 7.0 6.7 3.4 6.2 7.7 3.4 9.9 6.5 13.4 2.5 2.1 1.4 1.0 0.9 8.4 5.5 2.9 2.8 4.5 Abs -19% 5% -10% -11% 20% 20% -2% 3% -24% 12% 8% -16% 17% 15% 14% 3% -8% -10% -21% -30% 12% -20% 0% -17% -1% Rel to Mkt Rel to Sector -6% -13% 18% 25% 4% 10% 2% 9% 33% 40% 33% 40% 11% 18% 16% 23% -10% -3% 26% 22% 21% 18% -2% -6% 30% 14% 28% 12% 27% 9% 17% 31% 5% 19% 3% 22% -7% 11% -16% 3% 26% 26% -6% -8% 13% 19% -3% 3% 12% 16%
99
Top Picks
Ytd Ticker Energy BP BG Group ENI Saipem Materials Heidelberg Cement Saint-Gobain Arkema Rio Tinto Anglo American Arcelor Mittal Industrials EADS Safran Vinci Schneider Siemens Volv o Brenntag IAG Deutsche Post Discretionary Volksw agen Michelin Accor Publicis Inditex Staples Anheuser-Busch InBevABI BB BAT Casino Nestle Unilev er Healthcare Bay er Roche Gerresheimer Financials Sw edBank HSBC DnB Nor UBS DB Aberdeen Land Securities Sw iss Re Aegon IT Infineon ASML SAP Telecom s Tele2 Inmarsat Utilities Enel E.ON ENEL IM EOAN GR 3.2 E 17.2 E -16% -25% -8% -22% 6.9 10.4 15.4 11.7 2% 40% 2% OW 9% OW We fav our Enel on the back of solid FCF generation, attractiv e and sustainable div idend y ield, strong positioning in generation and supply and improv ing new s flow on the TD securitization. Pass-through of Robinhood tax w ould be a positiv e. Offers a v ery attractiv e combination of i) limited political risk, ii) solid balance sheet, iii) earnings and div idends v isibility and attractiv e v aluation multiples. TEL2B SS ISAT LN 126.5 SK 436.8 -9% -35% 27% -3% 10.3 9.6 14.1 44.3 14% -5% 12% OW -8% OW Tele2 combines superior top line grow th w ith an attractiv e v aluation. It has the best EPS momentumand margin upside in Norw ay , Sw eden, Russia and Kazkstan. Strong set of results across most div isions. Usage grow th w ill gradually offset the rev enue impact of serv ice migration. Inmarsat is making progress w ith key new product dev elopments and the GlobalXpress program. IFX GR ASML NA SAP GR 6.1 E 28.7 E 484.2 44.1 E -13% -1% 34% 16% 79% 20% 50% 15% 12.7 13.8 34.7 14.8 30.5 18.3 24.4 26.2 -30% -40% 3% 11% 17% OW 39% OW 43% OW 12% OW We believ e that the stock is already pricing in any slow dow n in 2012 and that this is an opportunity for longer term inv estors to enter the name. No ev idence of ov ersupply in the pow er semiconductor market. Management continues to deliv er on guidance. We ex pect Foundry , IDM and NAND business to ov ercome DRAM w eakness. Company indicated no currency ex posure . Substantial order increase w ill aid the stock. Licensing trend remains strong. Mainly ex posed to Apple products and other smartphones and tablets, more resilient in the current soft macro env ironment. Strong cash gereration may prompt possible buy back. Sy base acq. has put SAP on track to become a leader in mobile enterprise apps. Focus on jmobile, HANA and cloud to driv e rev enue grow th. SWEDA SS HSBA LN DNBNOR NO UBSN VX DBK GR ADN LN LAND LN SREN VX AGN NA 87.9 SK 484.4 63.0 NK 10.5 SF 27.3 E 203.4 664.5 46.9 SF 3.1 E -6% -26% -23% -32% -30% 0% -1% -7% -32% 32% -8% 31% -4% -13% 51% -2% 1% 1% 8.3 7.8 7.5 7.5 5.0 10.6 18.2 7.9 5.1 10.9 12.3 10.6 11.6 10.3 15.9 21.4 9.3 9.8 -8% 10% 12% 29% 7% 2% 4% 21% 11% 5% OW 15% OW 7% OW 15% OW 11% OW 13% OW 1% OW 10% OW 15% OW We fav our Sw edbank for its highly profitable mortgage business and pre and post prov ision potential from its Baltic ex posure. We anticipate further upside from new commercial agreement w ith the sav ings bank. With limited dow nside risk due to ringfencing, strong and profitable franchise business, high grow th EM ex posure and strong capital position, HSBC continues to be our top pick in the European Banking univ erse With 80% of its rev enues coming from the more resilient Norw egian economy , Dnb Nor is a good defensiv e macro hedge. Sound asset quality and capital ratios and strong funding profile add further steam to the defensiv e story UBS offers ex cellent v alue, strong capital position reaching Basel 3 Tier I capital ratio of 12% by 2012E and offering restructuring potential in IB. Ex posure to w ealth management equity gearing. Well positioned in terms of funding. Restructuring potential in Retail and Priv ate banking may spur further upside The business is generating strong inflow s, has a strong business model and a net cash balance sheet. Fix ed income business returning to net inflow s w ill bolster the business. Best positioned stock w ithin the sector and retail portfolio less v ulnerable than 08/09. Highly macro driv en sector. Ageas remains underv alued in our opinion at 50% of BV. Insurance earnings hav e been underappreciated. Includes Greek bonds at 66% v alue in their costs, any restructuring w ith a low er haircut w ill be a positiv e. Very strong capital position Ongoing transformation not reflected in the share price. The capital raise and associated Gov ernment capital repay ment clarifies the inv estment case for Aegon. BAYN GR ROG VX GXI GY 46.8 E 143.3 SF 31.5 E -15% 5% -5% -1% -22% 40% 9.7 10.3 11.5 14.7 21.8 4% 11% 12% 11% OW 8% OW 14% OW We see inv estors taking adv antage of the significant underv aluation of Bay er's business. Last stage pipeline includes Alpharadin, VEGF-Trap, Riociguat and Regorafenib - not in the price y et. Roche has the best improv ement in medium and long term earnings outlook and a v ery attractiv e pipeline risk/rew ard ratio. The stock is fundamentally cheap and offers attractiv e grow th and defensiv e profile. BATS LN CO FP NESN VX UNA NA 42.4 E 2,922.5 63.9 E 51.9 SF 24.4 E -1% 19% -12% -5% 5% 18% 22% 17% 9% 2% 13.7 14.0 11.0 15.7 14.5 15.8 12.1 11.6 15.6 13.4 11% 9% 17% 8% 8% 11% OW 10% OW 13% OW 9% OW 8% OW We ex pect strong grow th in the Brazil business w ith the introduction of Budw eiser and w ith new capacity coming on steam. We ex pect a strong FCF y ield of 12.5% in CY12E. Acquisition of Protobaco a positiv e. Innov ation and mix improv ements remain at the heart of the strategy rather than just v olumes grow th. Clear scope for a higher PE multiple in due course Rapid grow th in international business is y et to be reflected in the price. Casino continues to de-lev er through FCF and disposal of assets, proceeds could prov ide upside to SOTP v aluations. Offers the most compelling grow th/v alue in the sector Nestle is the "gold standard" in the sector. It has v ery strong brands in Neslte and Nespresso. Brazil offers strong grow th potential. A continued display of consistent and best in class deliv ery should underscore its defensiv e quality and position the stock as the stock of choice in the sector. High emerging market ex posure. VOW3 GR ML FP AC FP PUB FP ITX SM 124.6 E 45.3 E 19.8 E 33.7 E 65.4 E 3% -16% -41% -14% 17% 86% 4% 27% 37% 29% 6.8 6.6 14.5 12.1 19.0 11.3 8.9 17.8 15.8 18.8 -6% 1% 11% 8% 12% 9% OW 13% OW 20% OW 8% OW 13% OW We continue to like Volksw agen because of the strong fundamentals and potential cataly sts. Div ersified geographical ex posure, stable poduct cy cle supportiv e of price/mix . Strong balance sheet. 1H'12 shaping up w ell on oil price stickiness v s. raw material price decline. Sectoral under-capacity caps potential dow nside. Strong ex ecution in the upscale and midscale businesses has been notable for conv ersion from rev enues into EBIT. Further significant upside to margins still remains in the economy businesses hence w e remain positiv e. Publicis is our top pick in media sector w ith EM and digital ex posure. One of the most attractiv e long term grow th stories in the sector. One of the most attractiv e retail LT inv estments based on best quality and high grow th. The company is adding 8-10% space pa in faster grow ing regions, has a better sourcing model and an attractiv e geographic spread (15% sales from Asia) EAD FP SAF FP DG FP SU FP SIE GR VOLVB SS BNR GY IAG LN DPW GR 21.2 E 21.1 E 31.7 E 38.8 E 73.0 E 76.0 SK 67.9 E 1.6 E 11.2 E 22% -20% -22% -31% -21% -36% -11% -12% 24% 94% 3% 37% 44% 93% -6% 12.9 10.1 8.9 10.4 10.1 9.0 10.8 14.0 9.1 14.4 15.5 12.3 14.4 14.4 10.9 9.8 91% 23% 3% 4% -9% -4% 15% -27% 6% 35% OW 19% OW 5% OW 10% OW 8% OW 18% OW 10% OW 127% OW 11% OW Armed w ith a 7.5 Yr orderbook, the oil price (fuel efficiency ) and 11.9Bn cash should underpin a sales CAGR of 7% through 2013 irrespectiv e of macro-scenario. We see concerns ov er A350 as ov erdone Best w ay to play grow th in civ il aerospace offering a hedge of both original and aftermarket ex posure. Stock has been reacting to French country risk and is discounting the fundamental v alue. Contracting div ision not in the share price. Financial liquidity not a concern. Schneider has abov e av erage pricing pow er, superior ability to grow in EM v s. local competition and a clear strategy and few material "challenged assets" Fundamental inv estment case strong, at below 11x the stock remains attractiv e w ith good top line momentum and potential on portfolio and capital allocation. Div estment of stake in Nokia Seimens and listing of Osram to unlock v alue Volv o remains attractiv e as it has structurally improv ed its margin potential compared to last upcy cle. Giv en the uncertain economic env ironment, the stock looks attractiv e on a risk rew ard metric. Company guidance is conserv ativ e Brenntag has a considerable structural grow th opportunity both from the market for third-party chemical distribution increasing and through Brenntag taking market share. Market leader in the outsourced market. Highly ex posed to premium traffic. Sy nergies from British Airw ay s/Iberia merger and benefits from joint business agreement w ith American Airlines. Improv ed cash flow fom management change and massiv e restructing, mail business underv alued. Ex posure to high grow th Asian markets. HEI GR SGO FP AKE FP RIO LN AAL LN MT NA 30.3 E 29.1 E 43.3 E 3,324.0 2,394.0 13.5 E -35% -24% -20% -26% -28% -50% -3% 1% 107% 32% 23% -12% 8.6 8.2 6.5 5.6 6.5 6.3 12.9 11.0 13.5 11.2 11.3 6.5 28% 8% -23% 4% 9% 29% 26% OW 16% OW 14% OW -2% OW 12% OW 27% OW Heidelberg's European business is likely to perform w ell w ith good demand grow th and positiv e pricing. Continued focus in delev eraging. Saint-Gobain is our top pick in the materials segment because of its significant ex posure to RMI and core European markets and its attractiv e v aluation. Arkema is our top pick in the chemical segment on potential re-rating after disposal of its Viny l operations. We believ e the market has attached v ery little v alue to Simandou in Rio's share price. A mgmt av erse to large scale M&A, imply ing cash return to inv estors. Anglo American offers attractiv e ex posure to key commodities copper, iron ore and platinum as w ell as thermal coal. Best in class near term grow th. Further upside from Amplats and diamond div isions. Arcelor Mittal is a key beneficiary of the recov ery in steel. Its ex posure to US and EM and v aluations close to trough multiples are strong supports for the stock price. BP/ LN BG/ LN ENI IM SPM IM 455.6 1,337.0 15.7 E 31.7 E -2% 3% -4% -14% -22% 16% -8% 53% 6.3 14.4 7.0 13.5 12.3 15.0 11.1 17.4 0.0% 17% 9% 17% 4.4% OW 10% OW 7% OW 13% OW We consider BP as a high quality asset rich company and a v alue inv estment opportunity . The pressure on the tw o primary contractors Halliburton and Transocean to settle w ith BP has gone up significantly after Anadarko's settlement We ex pect the stock to rerate as management leev ated inv estor confidence in the company 's ability to self fund and deliv er organic grow th. All key projects are making ex cellent progress - in particular Australia and Brazil. Potential portfolio change and early return of v olumes from Liby a w hich supports v ery strong production grow th in 2012E. Attractiv e y ield of 7.1%. Underv alued at 48% discount to SOTP. We ex pect 2012 v olume grow th to be ex pectional. Saipem's delocalized business model, ex posure to NOC and importantly differentiated asset base along w ith an attractiv e bid pipeline make a strong case for re-rating. Price Pef 2010 Pef Fw P/E Current 04-06 EPS Gr 11e 12e Rating JPM view
Imagination Technologies LN IMG
Source: Datastream, MSCI, IBES, J.P. Morgan, Prices and Valuations as of COB 6th Dec Please see the most recent company-specific research published by J.P. Morgan for an analysis of valuation methodology and risks on companies recommended in this report. Research is available at http://www.morganmarkets.com, or you can contact the covering analyst or your J.P. Morgan representative
100
Global sector valuations

Current Cyclicals valuations are trading broadly in line with the Defensives
Global Sector valuations vs history

12m Fw d P/E Last 11.1 10.1 11.5 14.4 8.7 10.8 13.9 8.5 16.0 11.9 15.3 17.2 12.5 14.5 15.0 11.2 8.4 8.8 18.1 13.0 10.8 12.7 11.5 13.9 9.8 12.7 0.77 Median 15.2 14.3 15.2 12.8 14.2 16.2 15.6 13.6 16.4 22.1 17.4 17.5 17.0 15.8 19.8 17.7 11.9 11.6 18.3 23.3 18.7 19.3 14.5 13.9 17.3 16.2 1.07 % to m edian 38% 41% 32% -11% 63% 51% 12% 60% 2% 86% 14% 2% 36% 9% 32% 59% 43% 31% 1% 78% 72% 51% 27% 0% 77% 28% 49% Last 1.6 1.7 1.9 1.2 1.6 1.4 1.7 1.2 3.2 1.6 2.5 1.5 2.0 2.3 2.6 2.4 0.8 1.0 1.1 4.0 2.0 2.0 1.7 1.2 1.9 2.1 0.91 P/book Median 2.2 1.8 2.0 1.6 1.6 2.1 1.8 1.5 2.7 2.6 2.9 2.3 2.6 2.6 2.4 3.3 1.6 1.8 1.6 3.4 2.5 2.4 2.2 1.7 2.1 2.8 0.75 % to m edian 36% 6% 5% 40% -3% 48% 8% 19% -16% 58% 17% 50% 33% 10% -9% 42% 101% 75% 48% -14% 23% 18% 27% 44% 12% 35% -23% Cycle-adj P/E Last Median 17.0 24.8 15.9 20.9 24.1 25.2 14.6 23.3 18.6 23.4 15.9 22.4 18.4 31.1 17.9 20.2 30.3 33.5 21.8 31.0 24.4 33.6 22.8 40.3 23.1 32.3 26.0 29.4 23.6 29.8 22.0 32.3 9.6 24.2 10.2 28.7 16.0 28.4 31.3 45.8 19.3 35.5 23.3 27.1 16.9 24.3 14.8 19.8 21.4 29.8 20.9 28.4 1.02 1.05 2-year out P/E 12m Fw d P/Sales % to % to % to m edian Last Median m edian Last Median m edian 46% 9.8 13.3 36% 0.9 1.1 25% 31% 9.2 13.8 50% 0.8 0.9 12% 5% 10.6 13.0 23% 0.9 1.0 15% 60% 11.2 11.0 -1% 0.6 0.8 27% 26% 7.9 12.1 54% 1.0 1.1 14% 41% 10.0 14.0 40% 0.6 0.7 25% 69% 11.5 13.0 13% 0.8 0.9 14% 13% 6.0 9.8 62% 0.4 0.4 15% 11% 13.1 14.0 6% 0.7 0.8 6% 42% 10.2 18.6 82% 1.2 1.6 38% 38% 13.5 14.6 8% 0.8 0.8 2% 77% 13.9 15.3 10% 1.5 1.2 -21% 40% 11.2 15.2 36% 0.4 0.5 26% 13% 13.1 14.5 10% 1.4 1.3 -6% 26% 13.8 18.3 33% 1.7 2.0 16% 47% 10.2 15.7 55% 1.3 1.8 40% 154% 7.2 10.5 46% 1.6 2.7 64% 180% 7.4 10.5 42% 0.5 0.8 40% 77% 17.1 16.9 -1% 2.9 3.4 20% 46% 11.6 21.0 80% 2.5 2.9 15% 83% 9.7 16.4 69% 0.9 1.2 29% 17% 11.0 16.5 51% 2.1 2.6 23% 44% 10.8 12.9 20% 1.1 1.3 22% 34% 11.6 12.1 4% 0.7 1.0 34% 39% 11.0 14.9 35% 0.7 0.9 27% 36% 12.1 14.6 21% 1.0 1.4 33% 4% 0.92 1.03 14% 0.70 0.76 9%
World Energy Chemicals Cons Mat Metals&Mining Capital Goods Transport Automobile Cons Durables Media Retailing Hotels,Rest&Leis Food&Drug Ret Food Bev&Tob HPC Healthcare Banks Insurance Real Estate Softw are&Svs TechHardw are Semicon Telecoms Utilities Cyclicals Defensives Cyc. vs Def.
Source: Datastream, MSCI, IBES. At cob 6th Dec 2011, 12m Fwd P/E and two-year out P/E since 1995, Cycle-adjusted P/E since 1983, P/Book since 1980, P/Sales since 2000
101
Europe sector valuations

Current Cyclicals valuations are trading in line vs the Defensives
European sector valuations vs history

12m Fw d P/E Last 9.6 8.4 11.6 12.7 6.9 10.8 12.8 6.7 14.6 11.3 13.9 11.9 10.5 14.6 14.5 10.7 7.0 7.3 14.4 13.7 12.1 18.7 9.3 9.9 10.4 11.5 0.91 Median 13.1 13.2 13.7 12.0 11.1 13.7 14.0 11.5 15.7 16.6 15.9 15.3 14.6 14.9 20.9 17.4 11.2 11.1 20.1 23.2 17.7 19.7 14.0 13.2 14.4 15.1 0.93 % to m edian 37% 57% 18% -6% 61% 26% 9% 74% 8% 47% 15% 29% 39% 2% 44% 62% 59% 52% 40% 69% 46% 5% 50% 34% 38% 32% 3% Last 1.4 1.2 2.0 0.9 1.3 1.6 1.3 1.0 2.7 1.4 2.5 0.6 1.6 2.2 2.6 2.4 0.5 0.8 0.7 2.7 1.1 2.5 1.5 1.0 1.6 1.9 0.8 P/book Median 1.9 1.3 1.7 1.5 1.2 1.8 1.6 1.2 2.6 2.7 2.5 1.5 2.2 2.1 2.1 2.8 1.2 1.8 1.0 4.0 1.9 2.4 1.9 1.5 1.7 2.1 0.8 % to m edian 32% 7% -14% 64% -9% 18% 26% 15% -6% 99% 0% 162% 35% -4% -18% 16% 116% 119% 43% 50% 71% -4% 21% 57% 12% 13% -1% Cycle-adj P/E Last Median 13.2 20.9 12.1 18.1 21.3 17.3 10.1 17.1 13.9 16.6 15.8 22.3 13.3 22.8 11.9 13.0 29.2 35.4 14.3 28.6 18.3 24.9 11.9 22.1 16.4 27.5 23.4 22.7 22.6 22.4 19.2 26.8 5.9 14.8 8.2 35.5 11.4 28.3 26.6 35.5 8.4 23.8 31.4 25.8 13.1 22.4 11.5 20.8 16.1 20.6 17.5 24.6 0.9 0.8 2-year out P/E 12m Fw d P/Sales % to % to % to m edian Last Median m edian Last Median m edian 59% 7.7 12.0 56% 0.8 1.1 34% 49% 6.7 12.8 91% 0.9 0.9 -6% -19% 9.1 12.4 36% 0.8 0.8 -7% 68% 7.7 10.7 38% 0.7 0.9 30% 19% 6.1 10.3 70% 0.5 0.6 7% 41% 8.5 11.9 40% 0.6 0.5 -14% 72% 8.4 12.0 42% 0.8 0.6 -24% 9% 4.9 9.3 90% 0.4 0.4 8% 21% 12.4 13.6 9% 1.5 1.3 -17% 100% 9.6 14.5 51% 1.0 1.5 43% 36% 11.3 13.9 23% 1.1 1.0 -8% 86% 10.1 13.3 32% 0.5 0.6 30% 68% 8.4 13.0 54% 0.2 0.3 37% -3% 12.5 13.6 8% 1.2 1.1 -5% -1% 12.5 18.8 51% 2.0 2.0 -4% 39% 9.4 15.6 65% 2.4 2.6 11% 151% 5.0 10.0 101% 0.8 2.7 233% 334% 5.6 10.3 84% 0.4 0.7 78% 149% 13.6 18.7 38% 6.4 8.0 26% 33% 11.3 19.5 73% 2.0 2.4 18% 185% 9.8 15.2 55% 0.6 1.4 121% -18% 12.0 16.6 39% 1.9 2.1 11% 71% 8.0 12.3 54% 1.2 1.4 15% 81% 8.5 12.1 42% 0.6 1.3 101% 28% 9.2 12.6 37% 0.7 0.8 12% 41% 11.0 13.6 24% 1.2 1.4 17% -13% 0.8 0.9 13% 0.6 0.6 -4%
Europe Energy Chemicals Cons Mat Metals&Mining Capital Goods Transport Automobile Cons Durables Media Retailing Hotels,Rest&Leis Food&Drug Ret Food Bev&Tob HPC Healthcare Banks Insurance Real Estate Softw are&Svs TechHardw are Semicon Telecoms Utilities Cyclicals Defensives Cyc. vs Def.
Source: Datastream, MSCI, IBES. At CoB 6th Dec 2011, 12m Fwd P/E and two-year out P/E since 1995, Cycle-adjusted P/E since 1983, P/Book since 1980, P/Sales since 2000
102
UK sector valuations
In the UK, valuations are broadly neutral between Cyclicals and Defensives
UK sector valuations vs history

12m Fw d P/E Last 9.3 8.3 13.6 6.8 10.0 18.4 11.6 9.5 12.6 10.4 13.7 13.1 10.2 7.9 7.9 17.1 13.8 10.0 11.4 8.9 10.7 0.83 Median 12.9 14.0 13.6 11.5 12.3 12.3 13.5 12.8 9.1 18.2 14.2 14.3 14.7 13.6 18.2 16.3 10.9 10.6 21.8 16.3 18.0 25.8 13.9 12.2 13.7 14.3 0.92 % to m edian 38% 69% 0% 80% 23% -51% 58% 50% 13% 41% -1% 39% 59% 38% 33% 28% 18% 39% 8% 53% 34% 10% P/book Last Median 1.6 2.0 1.7 1.4 3.3 2.1 1.3 1.6 1.8 2.0 1.7 1.7 2.3 5.6 1.3 1.6 1.5 1.7 2.7 3.7 3.7 0.6 1.2 0.5 2.0 1.1 8.9 3.3 2.0 2.0 3.0 0.7 2.0 2.2 1.7 1.0 2.7 2.3 1.4 2.2 2.7 2.3 5.4 1.3 1.8 0.8 4.1 2.1 5.6 2.1 2.3 2.1 3.5 0.6 Cycle-adj P/E 2-year out P/E 12m Fw d P/Sales % to % to % to % to m edian Last Median m edian Last Median m edian Last Median m edian 19% 14.2 19.3 36% 8.9 11.9 35% 1.2 1.3 6% -17% 16.4 19.4 19% 7.8 13.6 75% 1.0 1.3 25% -38% 31.8 18.0 -44% 12.6 12.2 -3% 0.4 0.4 24% 23% 9.3 16.6 79% 10.4 13% 20.5 17.9 -13% 6.3 11.3 79% 1.6 1.6 -1% 21% 32% -25% -82% 108% 13.7 13.0 11.0 47.6 19.1 14.6 22.4 16.7 26.4 25.7 23.6 20.6 23.9 20.7 19.6 23.9 16.4 30.3 29.2 29.3 11.0 41.5 22.8 16.4 22.3 22.5 0.99 7% 72% 52% -45% 35% 113% 51% 24% -18% -17% 41% 254% 249% 116% 2% -52% -61% 46% 1% 20% 12% 8% 9.7 16.6 11.4 9.3 12.2 10.2 13.5 13.0 9.8 7.3 7.4 16.5 13.1 9.5 11.6 9.3 11.4 0.8 10.9 11.1 8.6 15.3 12.4 12.7 13.1 12.7 16.4 14.9 9.9 9.9 20.3 14.5 15.6 20.5 12.5 11.4 12.3 13.0 0.9 13% -48% 34% 33% 4% 28% -6% 26% 53% 35% 33% 23% 11% 31% -2% 32% 14% 18% 0.5 2.7 1.5 0.5 0.7 0.4 2.7 2.4 2.2 0.9 0.9 8.2 2.7 1.9 1.4 1.1 1.9 0.6 0.6 0.5 2.4 1.4 0.9 0.6 0.5 1.2 2.1 3.4 2.7 0.7 7.9 4.7 2.2 1.3 1.0 1.5 0.7 18% -14% -5% 70% -6% 21% -55% -11% 51% 195% -18% -3% 72% 18% -6% -12% -23% 11%
UK Energy Chemicals Cons Mat Metals&Mining Capital Goods Transport Automobile Cons Durables Media Retailing Hotels,Rest&Leis Food&Drug Ret Food Bev&Tob HPC Healthcare Banks Insurance Real Estate Softw are&Svs TechHardw are Semicon Telecoms Utilities Cyclicals Defensives Cyc. vs Def.
43% 11.1 -4% 13.6 30% 19.3 1% 25.2 -39% 23.6 46% 16.9 101% 4.6 42% 8.7 39% 13.5 103% 28.7 92% 22.7 -37% 106.2 -37% 15.6 17% 16.2 5% 18.7 14% 20.2 -9% 0.92
Source: Datastream, MSCI, IBES. At cob 6th Dec 2011, 12m Fwd P/E and two-year out P/E since 1995, Cycle-adjusted P/E since 1983, P/Book since 1980, P/Sales since 2000
103
MATERIALS: OVERWEIGHT Recent upgrade of Construction Materials to OW

We are OW Construction Materials for 2012. Since the peak of the last cycle the sector has derated back to near its historical trough P/Book relative to the market. Our economists expect both US residential and nonresidential spending to strengthen further next year. In China, which is the other key driver of the sector, our economists expect FAI growth to moderate from 25% pace in 11 to 18% rate in 12. Transport and infrastructure construction is expected to grow 20% next year, as compared to 9% to date this year.
Construction Materials P/Book relative
1.2 1.1 1.0 0.9 0.8 0.7 0.6 0.5 0.4 95 96 97 98 99 00 01 02 03 04 05 Avg 06 07 08 -1sd 09 10 +1sd 11
Construction Materials P/Book rel to Europe
US Private Non-residential construction put in place

60
34%
Chinese fixed asset investment for newly started projects
40
32%
30%
20
28%
0
26%
-20
24%
-40 01 02 03 04 05 06 07 08 09 10 11 12
22% 05 06 07 08 09 10 11
Private nonresidential construction put in place, %oya

Source: BEA, MSCI, Datastream
China FAI %yoy
104
Source: Bloomberg
MATERIALS: OVERWEIGHT Metals & Mining offers value key play on EM recovery
Metals & Mining is the 2nd worst performing European sector ytd and is offering a great entry point at present. The sector is trading cheap on 6.9x Fwd P/E, a 28% discount to the broader market. If one is OW EM vs DM, one has to be OW Mining. Easing EM inflation pressure is calls for a reversal in the monetary tightening drive. A less restrictive stance, in particular in China, as shown by the recent 50bp RRR cut, will be a key support to EM growth in 2012 and in turn to Mining.
Mining P/E relative
1.6 1.4 1.2 1.0 0.8 0.6 0.4 95 96 97 98 99 00 01 02 03 04 05 06 07 08 +1stdev 09 10 11 -1stdev
Metals & Mining 12mth Fwd P/E rel

Source: IBES
average
China headline CPI vs money multiplier

5.5 5.3 5.1 4.9 4.7 4.5 4.3 4.1 3.9 3.7 3.5 00 01 02 03 04 05 06 07 08 09 10 11 12 -2
-60%
MSCI EM rel to DM vs Mining rel to MSCI World (DM)

10 8 6 4 2 0
-40% 60%
40%
20%
0%
-20%
96
97
98
99
00
01
02
03
04
05
06
07
08
09
10
11
China M2/Reserve Base Ratio, leading by 14 months

Source: Bloomberg
China CPI, %yoy, rhs

Source: MSCI, J.P. Morgan
MSCI EM vs DM, %yoy
Mining vs World, %yoy
105
MATERIALS: OVERWEIGHT Restart of EM restocking is bullish for Mining

Despite recent sharp sell-off in hard commodities, commodity equities still trade at a discount. Our commodities analysts expect broadly flat commodity prices next year, pointing to limited risks of destocking due to no excess inventory relative to sales. Chinese copper inventories have fallen sharply in 2011, arguing for some restocking. Indeed, Chinese commodity imports have been picking up recently.
Met&Min price relative and CRB metals price index
0.60 0.55 0.50 0.45 0.40 0.35 0.30 0.25 0.20 0.15 0.10 0.05 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 MSCI Europe Metals&Mining price relative
Source: Datastream, CRB
China commodity imports

40 35 30 25 20 15 10 5 0 Mar-11 Apr-11 May-11 Jun-11 Jul-11 Aug-11 Sep-11 Oct-11
Refined Zinc ('000 tons)
Refined Copper & Alloys ('0000 tons)
Nickel&Alloys ('000 tons)
China copper inventories

650 600 550 500 450
210,000 190,000 170,000 150,000 130,000
400 350 300 250 200 CRB raw industrials spot price index (rhs)
Source: Bloomberg
110,000 90,000 70,000 50,000 Jan-10 Apr-10 Jul-10 Oct-10 Jan-11 Apr-11 Jul-11 Oct-11
Chinese Copper Inventory (tonnes)
106
MATERIALS: OVERWEIGHT Moving Chemicals to N

Chemicals have outperformed the market ytd and we reduce our stance to N. The sector is currently trading at the top of its historical valuation range relative to the market, at 11.5x Fwd P/E. Pricing momentum for diversified chemicals has proven resilient so far, but is likely to moderate going forward as raw material cost inflation eases. Consensus is expecting EBIT margins to go down next year, which is consistent with our expectations of volume deceleration for diversified chemicals.
Chemicals EBIT Margins
12.0% 11.5%
10% 100% 15%
Chemicals 12m Fwd P/E relative

1.4 1.3 1.2 1.1 1.0 0.9 0.8 0.7 0.6 95 96 97 98 99 00 01 02 03 04 05 06 07
+1stdev
08
09
10
11
Chemicals 12mth Fwd P/E rel
average
-1stdev
Chemicals pricing vs oil price

150%
11.0% 10.5% 10.0% 9.5% 9.0% 8.5% 8.0% 03 04 05 06 07 08 09 Forecast 10 11E 12E
-10% 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 -100% 0% 0% 5% 50%
-5%
-50%
Chemicals EBIT/Sales
EMU PPI - chemicals and basic pharmaceutical products %yoy
WTI ($/bbl, rhs)
Source: IBES, MSCI, Datastream
Source: Eurostat, Bloomberg
107
DISCRETIONARY: NEUTRAL Autos OW - Re-entered on 12th Sept after 25th July downgrade
We reversed our downgrade of the Auto sector from 25th July. The arguments we used to downgrade Autos from an OW rating were: sector is overowned, consensus long, and running out of positive catalysts. The sector has been very weak recently, down 30%, trailing the market by 16%. We do not believe it is overowned anymore The sector is trading today at a 6.4x forward P/E, which is lower than the worst P/E recorded during the '08'09 downturn. Global auto demand remains supportive and our sector analyst expects positive volume growth of 2-3% next year.
European sectors current Fwd P/E vs '08 trough
Current P/E 6.6 10.4 14.6 10.8 9.2 9.9 14.8 11.3 13.7 9.6 12.0 7.0 7.0 11.9 8.4 13.9 12.7 14.6 7.3 10.8 11.5 14.4 12.6 6.9 18.5 Worst P/E 7.2 9.6 12.4 8.8 7.4 7.8 10.7 7.7 9.3 6.4 7.7 4.5 4.3 7.3 5.0 8.0 7.1 8.1 4.0 5.7 6.0 6.7 5.1 2.8 Current vs Worst -9% 8% 18% 22% 26% 27% 37% 46% 48% 49% 56% 56% 64% 64% 67% 75% 79% 79% 84% 89% 91% 115% 146% 146% Worst P/E Date 24-Oct-08 22-Oct-08 9-Mar-09 3-Mar-09 27-Oct-08 3-Mar-09 3-Mar-09 27-Oct-08 28-Oct-08 27-Oct-08 10-Oct-08 21-Nov-08 20-Jan-09 27-Oct-08 10-Oct-08 27-Oct-08 28-Oct-08 21-Nov-08 28-Oct-08 27-Oct-08 27-Oct-08 21-Nov-08 27-Oct-08 28-Oct-08 18-Dec-08
65 60 55 50 45 40 35 00 01 02 03 04 05 06 07 08 09 10 11 Global Car Sales, mn unist saar
Source: JP Morgan Economic Research
Global Auto Sales
Automobile Food Drug Ret HPC Healthcare Telecoms Utilities Food Bev&Tob Media Software Europe Tech Hardware Div Fin Banks Hotels,Rest&Leis Energy Retailing Transport Cons Durables Insurance Cap Goods Chemicals Real Estate Cons Mat Met&Min Semicon
Source: IBES, J.P. Morgan
108
DISCRETIONARY: NEUTRAL EM to underpin robust Auto sales, lower oil price is a positive, sector is cheap
We expect EM, especially China, to remain the main growth driver for the sector. EM share of global auto sales has increased from 15% in 2000 to 46% currently (China 25%), but EM still remain relatively under-penetrated. The recent turn in Chinese monetary policy is supportive of the sector. There is a good inverse relationship between the relative performance of Autos and the oil price. A significant gap has opened at the start of the year, but it is closing now Autos are cheap trading near the lows on 0.2x EV/EBITDA and 0.13x EV/Sales
European Autos EV/EBITDA
8.0x 7.0x 6.0x 5.0x 4.0x 3.0x 2.0x 1.0x 0.0x 91 93 95 97 99 01 03 05 07 09 11
-50% 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 100% -25% 50% 0% 0% 25% -50% 50%
EM vs DM share of Global Auto Sales

85% 80% 75% 70% 65% 60% 55% 50% 99 00 01 02 03 04 05 06 07 08 09 10 DM Share of Global Auto Sales
Source: JP Morgan Economics Research
50% 45% 40% 35% 30% 25% 20% 15% EM Share of Global Auto Sales, rhs
Autos relative performance to Europe vs Oil price

-100%
European Autos EV/EBITDA

Source: J.P. Morgan Autos research
Auto rel to Europe (%yoy)
WTI (%yoy,RHS,rs)
109
Source: Datastream
DISCRETIONARY: NEUTRAL Retailing Downgrade to UW, trading at record stretched levels

We have downgraded Retailing to UW after its strong performance ytd. The sectors price relative is at a record high since 95. We find its valuations particularly expensive at 13.9x Fwd P/E, a 46% premium to the market. Consensus currently expects 13% EPS growth for 12 which we find too optimistic. The sector top-line is well correlated with consumer confidence. We expect spending activity to soften in Europe as fiscal drag intensifies.
European retail price relative
135
125
115
105
95
85
75
65 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11
Retail relative to Europe
Consumer confidence vs clothing and textile sales

5 0 -5 -10 -15 -20 -25 -30 -35 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 EU survey - consumer confidence indicator EMU Retail sales volume - textiles, clothing and footwear (%yoy, 3mma, rhs)
Source: Eurostat
Retailing 12m fwd P/E relative

7% 6% 5% 4% 3% 2% 1% 0% -1% -2% -3% -4%
0.8 95 96 97 98 99 00 01 02 03 04 average 05 06 07 08 09 10 11 Retailing 12mth Fwd P/E rel +1stdev -1stdev 1.0 0.9 1.2 1.1 1.4 1.3 1.6 1.5
110
DISCRETIONARY: NEUTRAL Hotels, Restaurants & Leisure, Media and Luxury Goods - Neutral
Near term consumer backdrop is mixed
EMU advertising spending vs GDP growth
We expect advertising spending to be down 2% next year in Eurozone, with the weakness likely concentrated in H1. H2 could benefit from major events such as US & French elections, Olympics, Euro 2012. We remain Neutral on the sector. Luxury Goods valuations appear stretched relative to the market. On one hand, the sector has pricing power, particularly in EM, but on the other hand, stretched valuations and consensus expectations for margins expansion might prove to be too optimistic in our view.
Consumer Durables EBIT margins expectations
18%
10%
5% 4%
5%
3% 2%
0%
1% 0%
-5%
-1% -2%
-10%
-3% -4%
-15% 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11e 12e Euro-area advertising spending (%yoy) EMU Real GDP (%yoy,rhs)
-5%
Source: Datastream J.P. Morgan estimates for 2011
Consumer Durables 12m fwd P/E relative

1.7
17%
1.6
16%
1.5
15%
1.4
14%
1.3
13%
1.2
12%
1.1
11%
1.0
10%
0.9
9% 99 00 01 02 03 04 05 06 07 08 Forecast 09 10 11E 12E
0.8 0.7 95 96 97 98 99 00 01 02 03 04 05 average 06 07 08 09 10 11
Cons Durables EBIT Margins
Source: J.P. Morgan
Consumer Durables 12mth Fwd P/E rel
+1stdev
-1stdev
111
IT: OVERWEIGHT Preference for Software & Semis - Weak Euro and M&A activity are supportive
Tech benefits from cash rich balance sheets, remains attractively priced, providing cushion to potential EPS cuts and supporting M&A activity. Weakening Euro is a positive, we are particularly bullish on Software.
US corporate profits vs Tech capex
50% 40% 30% 20% 10% 0%
Global semiconductors sales vs ISM

60% 65 60 55 20% 50 0% 45 -20% 40 -40% 35 30 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11
40%
-10% -20% -30% -40% 61 63 65 67 69 71 73 75 77 79 81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 11

Global semiconductors sales %yoy ISM (rhs)
-60%
US tech capex (%yoy)
US corporate profits (%yoy, brought forward 3 quarters)
Source: BEA, Datastream
Source: SIA, Bloomberg
IT net debt to equity

0.50
IT 12m fwd P/E relative

3.0 2.8 2.6 2.4 2.2 2.0 1.8 1.6 1.4 1.2 1.0
0.30
0.10
-0.10
-0.30
-0.50 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11e 12e IT Net Debt/Equity

Source: IBES, JP Morgan
95
96
97
98
99
00
01
02
03
04
05
06
07
08
09
10
11
IBES Forecast
IT 12mth Fwd P/E rel
average
-1stdev
+1stdev
112
Source: Datastream, IBES
BANKS: OVERWEIGHT Valuations attractive, but funding and cost of capital remain the key
Banks are currently trading at all time price relative lows, having underperformed the market by 23% ytd. The sector is offering a 47% discount to historical relative average. European Banks have to refinance 395bn of bonds in 2012 according to our sector analysts.
EMU Banks price relative
140 130 120 110 100 90 80 70 60 50 40 95
2013E 14.1 27.3 16.8 13.9 17.0 16.3 10.0 36.0 29.5 25.0 22.5 20.0 27.1 1.9 13.0 16.0 4.7 2.0 2.8 125.0 114.7 20.3 54.0 51.7 45.0 3.0 4.8 4.5 389 183 2014E 8.2 14.1 14.1 19.4 14.7 9.5 10.0 19.4 20.5 25.0 20.0 20.0 21.8 5.0 13.7 16.0 1.1 2.6 1.2 110.0 154.4 19.7 66.0 69.7 70.0 3.5 5.2 4.5 343 343 2015E 6.5 17.3 11.1 14.6 12.0 14.0 10.0 15.8 22.8 25.0 20.0 20.0 18.5 4.2 7.7 8.0 0.1 3.3 1.5 110.0 116.9 19.7 66.0 75.7 44.0 1.5 3.1 2.1 307 307
European banks funding needs for 2012

UBS Credit Suisse Societe Generale BNP Paribas Credit Agricole Deutsche Bank Commerzbank Intesa Unicredit Barclays Lloyds RBS HSBC Stan BBVA Santander Bankinter Popular Sabadell SHB Swed Nordea SEB DnB Danske RBI Erste KBC Total in billion LCR funding needs 2012E 9.4 16.8 12.5 20.0 12.0 20.0 8.0 22.0 33.6 25.0 25.0 20.0 31.7 3.8 10.9 15.0 3.8 6.5 4.0 211.0 112.5 28.9 70.0 33.6 55.0 4.6 5.3 4.5 395 334 2012E redemption as % of Assets 0.6% 1.6% 1.1% 1.1% 0.7% 0.9% 1.1% 3.2% 3.5% 1.7% 2.7% 1.4% 1.1% 0.6% 2.0% 1.1% 7.2% 5.2% 4.5% 8.0% 5.6% 4.4% 2.8% 1.4% 1.5% 3.0% 2.4% 1.3% 1.7%
96
97
98
99
00
01
02
03
04
05
06
07
08
09
10
11
MSCI EMU Banks Rel

Source: MSCI
EMU Banks price to book relative

1.5 1.4 1.3 1.2 1.1 1.0 0.9 0.8 0.7 0.6 0.5 0.4 0.3 81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 -1stdev 11
EMU Banks P/Book Rel, Datastream
average
+1stdev
Source: Datastream
113
Source: Datastream
BANKS: OVERWEIGHT Other concerns are capital shortfall and deleveraging

Funding is the key problem for banks at present and the re-opening of the unsecured market remains crucial for the rerating of the sector. Here we see the recent central banks coordinated action to cut dollar funding costs as a positive step in reducing near-term pressure on banks. Based on the EBA methodology, there is a capital shortfall of 115bn for European banks. JPM sees 200bn+ capital shortfall. In terms of deleveraging, our analysts forecast 2trn of asset reduction for European banking sector over the next three years, or 5% of total assets.
European Banks Capital Shortfall
Mn Euros Greece Spain Italy Germany France Portugal Belgium Austria Cyprus Norway Slovenia Netherlands Denmark Finland UK Hungary Ireland Luxembourg Malta Poland Sweden Total GIPS France & Germany Source: EBA Est. Target Capital 30,000 26,170 15,366 13,107 7,324 6,950 6,313 3,923 3,531 1,520 320 159 0 0 0 0 0 0 0 0 0 114,683 78,486 20,431
Itraxx European Senior Financials

360
310
260
210
160
110 Jan-11
Feb-11
Mar-11
Apr-11
May-11
Jun-11
Jul-11
Aug-11
Sep-11
Oct-11
Nov-11
Dec-11
iTraxx Europe Senior Financials On the run (5Y) Unfunded JPMorgan CDS Spread Mid
Source: J.P. Morgan
EMU Banks rel vs Itraxx Europe Senior Financial

0.65 0.60 0.55 0.50 0.45 0.40 0.35 0.30 0.25 0.20 08 EMU Banks Rel
30 80 130 180 230 280 09 10 11
iTraxx Europe Senior Financials, (5Yr on the run) CDS Spread, rhs inverted
114
INSURANCE: UNDERWEIGHT Moving to UW, low bond yields are the main headwind looking stretched vs Banks
We were OW Insurance in 2001 and the sector marginally outperformed the broader market despite a low bond yields environment. Rising bond yields are needed for rerating of the sector from both the balance sheet (rising EV), as well as the P&L perspective (higher reinvestment returns) Insurance has significantly outperformed Banks since early 10, by 30%. The sector is now above its peak price relative to Banks seen in March 09, at the past trough of the market. We advise going long Banks vs Insurance, as a sector neutral trade on Financials.
Insurance performance relative to Banks
120
Insurance P/Book and bond yields

3.5 3.0 2.5 2.0 1.5 1.0 0.5 0.0 00 01 02 03 04 05 06 07 08 09 10 11 7.0% 6.5% 6.0% 5.5% 5.0% 4.5% 4.0% 3.5% 3.0% 2.5% 2.0%
Life Insurance P/Book

Source: Datastream
US 10Y BDY
Insurance P/Book relative to Banks

1.8
110
1.6
100
1.4
90
80
1.2
70
1.0
60
0.8
50
0.6
40 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11
95
96
97
98
99
00
01
02
03
04
05
06
07
08
09
10
Insurance P/Book rel to Banks

Insurance perf relative to Banks
median
+1stdev
-1stdev
Source: Datastream
115
Source: Datastream
INSURANCE: UNDERWEIGHT Insurances exposure to sovereign and senior bank debt manageable
The sovereign credit exposure remains a concern, but we do not think it is as detrimental to the fortunes of Insurance as it is to Banks For senior bank debt to become impaired there has to be a credit event at the bank, in which case the equity of the bank would likely also be impaired Because we do not forecast this at the bank level, we see no particular risk in bank debt exposures for the insurers
Insurance exposure to senior bank debt
Insurance gross sovereign credit exposure % of Equity

Generali CNP Unipo l M apfre A xa A llianz A geas M unich Re Zurich SNS Reaal ING A viva Hanno ver Re Delta Llo yd Swiss Life A ego n P ho enix P rudential Swiss Re SCOR P o rt uga l 1 9% 24% 4% 6% 4% 1 % 7% 2% 2% 1 % 0% 1 % 0% It a ly Ire la nd G re e c e 31 % 1 1% 1 8% 1 % 51 22% 1 5% 222% 7% 1 % na 5% 3% 41 % 3% 1 % 59% 1 % 1 % 26% 6% 8% 1 6% 8% 3% 1 8% 2% 1 6% 5% 8% 1 % na 2% 1 % 1 % 4% 1 % 1 % 1 % 2% 0% 0% 0% 0% 1 % 1 % 0% 0% S pa in T o t a l 36% 385% 1 00% 31 3% 24% 257% 1 04% 1 30% 27% 75% 1 2% 74% 1 4% 60% 9% 37% 1 6% 37% 3% 25% 4% 1 4% 3% 1 2% 7% 9% 3% 8% 2% 7% 5% 6% 3% 0% 1 % 0% 0%
0%
Source: J.P. Morgan Insurance Equity Research, based on H111 numbers for Axa, CNP, Swisslife and Mapfre, 3Q11 for the rest.
116
Source: J.P. Morgan Insurance research team
INDUSTRIALS: OVERWEIGHT Beneficiary of an expected rebound in Global PMIs and EM easing bias
Sector is benefiting from continued improvement in Capex trends. Capital goods shipments are running as strong as they did at the turn of 09/10 Corporates have plenty of scope to support expansionary behavior give their strong balance sheet position Capital Goods valuations are elevated in the historical context, but have derated ytd and are not stretched in the context of the past 5 years.
Capital Goods 12m Fwd P/E
1.4 1.3 1.2 1.1 1.0 0.9 0.8 0.7 0.6 95 96 97 98 99 00 01 02 03 04
average
160% 150% 140% 130% 120% 110% 100% 90% 80% 70%
G3 capital goods shipments vs global capex

40 30 20 20 10 0 -10 -10 -20 -30 05 06 07 08 09 10 11 12 G3 Cap Goods Shipments, %3m/3m, saar Global Capex, %q/q saar, rhs -20 10 30
Source: J.P. Morgan
Capex as a share of internally generated funds
05
06
07
08
09
10
11
-1stdev
60% 52 54 56 58 60 62 64 66 68 70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 Nonfarm Nonfinancial Corporate Capital Expenditure as a % of Internal Funds
Capital Goods 12mth Fwd P/E rel
+1stdev
Source: IBES
Source: FRB
117
INDUSTRIALS: OVERWEIGHT Capex up-cycle not over yet, pricing power is sticky
Capex/GDP is still near record lows in many regions and it is likely to continue rebounding. JPM forecasts 2.5x the growth rate of capex compared to real GDP growth in 11 and in 12 . Industrial capex has already rebounded significantly in the US. On the flipside, construction capex is still very depressed and we expect the non-residential part to recover in 2012. Capital Goods pricing power remains firm.
US private fixed investment breakdown
Last cycle Peak U$ bn % GDP 2,282 16.3% 1,689 11.8% 595 4.1% 1,118 7.8% 550 3.9% 200 1.4% 204 1.5% 196 1.4% 813 6.2% 803 6.1% 10 0.1% Date 2Q07 1Q08 3Q08 1Q08 1Q08 3Q07 1Q06 3Q08 1Q06 1Q06 1Q06 Current (Q2'11) vs peak U$ bn % GDP ($bn) 1,907 12.5% -16% 1,570 10.3% -7% 423 2.8% -29% 1,147 7.5% 3% 568 3.7% 3% 202 1.3% 1% 165 1.1% -19% 212 1.4% 8% 337 2.2% -59% 328 2.2% -59% 9 0.1% -13%
Private fixe d investm ent Nonresidential Structures Equi pment and software IT equip.&softw are Industrial equipment Transportation equipment Agricultural machinery Residential Structures Equi pment
Source: BEA
JPM Forecast for GDP and Fixed Investment growth

GDP %oya US Euro Area UK Japan Dev Markets 2011 1.8% 1.6% 1.0% -0.2% 1.4% 2012 1.7% -0.7% 0.8% 2.0% 1.0% Fixed Investment %oya 2011 2012 7.2% 7.9% 2.4% -2.4% -1.7% 2.8% -0.3% 5.4% 4.1% 3.7%
70%
Capital Goods PPI vs VDMA orders

4.0%
50%
3.0%
30% 2.0% 10% 1.0% -10% 0.0%
Source: J.P. Morgan Economics Team
-30%
-50% 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 German machinery orders (%yoy, 3mma)

Source: Eurostat, Bloomberg
-1.0%
Capital Goods PPI %yoy (9m lag, rhs)
118
STAPLES: NEUTRAL EM exposure is a positive, but a lot priced in for now

We find the sector is trading expensive relative to the market, on 13.9x Fwd P/E, a 46% premium to the market vs. historical premium of 11% and is offering limited upside potential at present. High EM exposure is a long term positive for the sector, but we think that for the moment it is too much of a consensus trade. Market is already pricing record high profit margins, leaving little room for positive surprise in 12
Food, Beverages & Tobacco EBIT/Sales expectations
19%
21
Staples 12m fwd P/E relative

1.6 1.5 1.4 1.3 1.2 1.1 1.0 0.9 0.8 0.7 0.6 95 96 97 98 99 00 01 02 03 04 05 06 07
+1stdev
08
09
10
-1stdev
11
Staples 12mth Fwd P/E rel
average
Source: Bloomberg, Worldscope
Staples stocks EM exposure vs valuations
18% 17% 16% 15%

19 17 15 BN FP KESBV FH COLR BB SZU GR MRW LN SBRY LN AH NA DELB BB
BEI GY JMT PL
OR FP PLT IM NESN VX UNA NA RI FP DGE LN SAB LN BATS LN ABI BB
12m Fwd P/E
14% 13% 12% 11% 01 02 03 04 05 06 07 08 09 10 11e 12e
13 11 9 7 0
RB/ LN ABF LN CA FP RAL FP KYG ID IMT LN TSCO LN
HEIO NA
MEO GR
CARLB DC
10
20
30
40
50
60
70
Food, Beverages&Tobacco EBIT/Sales

Source: Datastream, Eurostat Source: MSCI, IBES
% EM revenues
119
ENERGY: NEUTRAL Consensus long, downside risk to oil price, unexciting valuations
Energy has had a strong run in the past 6 months, outperforming the overall market by 13% since mid May. 3 straight quarters of outperformance which could be difficult to sustain going forward Our commodities analysts expect oil price to remain at the same levels in 2012. However, net speculative positions remain high for oil. Hence we see more downside risk for the oil price next year leaving little room for EPS surprise Valuations have re-rated recently and are unexciting in the context of last 5 years
Net speculative oil positions- % of total open interest
1.3 1.2 1.1 1.0 0.9 0.8 0.7 0.6 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 Energy 12mth Fwd P/E rel
Source: IBES Source: CoT Data, Bloomberg
Energy price rel to MSCI Europe

116 114 112 110 108 106 104 102 100 98 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov
Energy price relative to Europe
Source: IBES
Energy P/E relative
average
+1stdev
-1stdev
120
TELECOMS: UNDERWEIGHT Attractive yield but ex-growth, 1H seasonality to be a headwind

The sector has the highest FCF yield across European sectors, but is trading expensive on PEG. Q4 is typically a good time for sector outperformance.
Telecoms seasonality
7% 6% 5% 4% 3% 2% 1% 0% -1% -2% -3% -4% 5.7%
40% 30% 20%
Telecoms relative performance vs relative CPI

4% 2% 0% -2% -4% -6% -8% 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12
5.1%
0.7% -0.3% -0.1% -1.3% -3.3% Q2
1.2%
10% 0% -10% -20% -30%
Q1
Q3
Q4
-40%
Telecoms rel to Europe (%qoq avg, since 1995)
Telecoms rel to Europe (%qoq median, since 1995)

Europe Tele coms relative to market (%6mom) Telecom CPI relative (%6mom, adv 3m, rhs)
Source: Datastream
Telecoms PEG relative to Europe

5.0 4.5 4.0 3.5 3.0 2.5 2.0 1.5 1.0 0.5 0.0 95 96 97 98 99 00 01 02 03 04 05 06 07 08 median 09 10 11
Telecoms FCF yield

14% 12% 10% 8% 6% 4% 2% 0% 2011e FCF yield pre-dividend 2012e FCF yield post-dividend 3.4% 3.5% 10.9% 11.6%
Telecoms PEG ratio relative
Source: IBES
121
HEALTHCARE: UNDERWEIGHT We still see it as a value trap UW since December 08

Healthcare has been among the best performing sectors ytd, purely driven by risk aversion in the broader market, but we don't think it will outperform for the second year in a row as the sector performance is ultimately driven by overall market direction. Though Health care looks cheap at 10.8x fwd PE offering 41% discount to average. However, the sector has significantly re-rated in last 2 years and is not looking as cheap as earlier. On a PEG ratio, Pharma is at 69% premium to the market
Healthcare relative performance regimes*
Healthcare Outperforms Market Up Market Down
Source: Datastream, MSCI, since 2000
Underperforms 50% 0%
8% 42%
Healthcare valuations
1.6 1.5 1.4 1.3 1.2 1.1 1.0 0.9 0.8 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11
+1stdev
2.2 2.0 1.8 1.6 1.4 1.2 1.0 0.8 0.6 0.4
Healthcare PEG relative
95
96
97
98
99
00
01
02
03
04
05
06
07 +1stdev
08
09
10
11
Healthcare 12mth Fwd P/E rel

Source: IBES
average
-1stdev
Healthcare PEG ratio relative
median
-1stdev
Source: IBES
122
UTILITIES: UNDERWEIGHT Political and regulatory risks are significant headwinds

Despite the significant underperformance of Utilities over the past few years, we remain UW the sector It is not trading outright cheap, political/regulatory risk is high and the bottoming out in relative EPS revisions is still not happening Pricing is unlikely to improve further given the stabilization in oil prices. Gas prices remain under pressure due to significant oversupply.
Oil vs Gas prices
160 140 120 100 80 60 40 20 0 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 WTI spot petroleum price Natural gas price - U.S. Henry Hub (rhs) 16 14 12 10 8 6 4 2 0
Source: Datastream
Utilities 12mth Fwd P/E relative

1.4 1.3 1.2 1.1 1.0 0.9 0.8 0.7 95 96 97 98 99 00 01 02 03 04 05 06 07
-1stdev
German electricity prices back to pre-March

62 61 60 59 58 57 56 55 54 53
08 09 10
+1stdev
11
52 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Second year baseload fwd electricity price, Germany
Source: Bloomberg
Utilities 12mth Fwd P/E rel

Source: IBES
average
123
Economic, Interest Rate and Exchange Rate Outlook

Real GDP % oy a 2010 United States Eurozone United Kingdom Japan Emerging markets Global 3.0 1.8 1.8 4.1 7.3 4.0 2011E 1.8 1.6 0.9 -0.3 5.7 2.6 2012E 1.8 -0.7 0.5 2 4.7 2 1Q11E 0.4 3.1 1.6 -2.7 7.0 2.6 2Q11E 1.3 0.7 0.4 -1.3 4.4 1.8 3Q11E 2.0 0.8 2.0 6.0 4.8 3.0 Real GDP % oqa, saar 4Q11E 3.0 -1.0 0.5 0.5 3.8 1.8 1Q12E 0.5 -1.5 0.0 2.8 4.2 1.3 2Q12E 1.5 -1.5 -1.5 1.5 5.5 1.7 3Q12E 2.5 -0.3 2.5 1.3 5.9 2.6 2Q11 3.3 2.8 4.4 -0.4 6.1 3.7 Consumer prices % oy a 4Q11E 3.3 2.9 4.6 -0.1 5.7 3.6 2Q12E 1.5 1.9 2.6 -0.5 4.9 2.4 4Q12E 1.2 1.5 1.9 -0.5 4.8 2.2
Forecast Official interest rate Federal funds rate Refi rate Bank Rate Ov ernight call rate next change On Hold Dec '11(-25 bps) On Hold On Hold Current 0.125 1.25 0.50 0.05 Dec 11 0.125 1.00 0.50 0.05 Mar 12 0.125 1.00 0.50 0.05
Forecast for Jun 12 0.125 1.00 0.50 0.05 Sep 12 0.125 1.00 0.50 0.05 Dec 12 0.125 1.00 0.50 0.05 US
10 Yr Govt BY Euro Area United Kingdom Japan 07-Dec-11 2.02 2.07 2.23 1.03 Mar 12E 1.70 1.55 1.80 0.90
Forecast for end of Jun 12E 2.50 1.25 1.50 0.95 Sep 12E 2.50 1.50 1.75 1.10 Dec 12E 2.50 1.75 1.95 1.15
Forecast for Exchange rates vs US$ EUR GBP CHF JPY 07-Dec-11 1.34 1.57 0.92 77.67 Mar 12 1.30 1.54 0.94 76 Jun 12 1.34 1.56 0.91 76 Sep 12 1.36 1.57 0.89 74 Dec 12 1.38 1.58 0.88 72 Commodities Brent Gold Copper Corn ($/bbl) ($/oz) ($/mton) ($/Bu) Current 110.6 1747 7465 6.07 4Q11E 108 2150 7250 6.40 1Q12E 105 1925 8250 6.70 2Q12E 110 1875 8500 7.00 3Q12E 115 1850 9250 6.80
Source: J.P. Morgan estimates, Datastream
124
Seasonality: After a poor September Q4 is typically better

European Equities tended to produce weak returns in May/June and September, but Q4 is typically better
Europe and UK equities seasonality

MSCI Europe Average January February March April May June July August September October November December 1.70% 0.90% 1.10% 2.20% -0.60% -0.50% 0.80% 0.20% -1.50% 0.30% 0.70% 1.90% Median 1.70% 0.50% 1.70% 2.30% -0.30% -0.50% 1.20% 0.80% -0.10% 1.60% 1.50% 2.10% Hit ratio* 71% 62% 64% 79% 49% 49% 61% 59% 49% 63% 66% 68% Average 2% 1% 1% 3% -1% -1% 1% 1% -1% 0% 0% 2% MSCI UK Median 2% 1% 1% 3% -1% -1% 1% 1% -1% 0% 0% 2% Hit ratio* 60% 55% 57% 83% 44% 41% 56% 61% 49% 63% 63% 76%
Source: Datastream, MSCI, * % time positive performance, since 1970. Average & median monthly returns
125
Technical indicators
AAII Bull/Bear ratio not in oversold territory anymore, but not stretched as well
AAII Bulls vs Bears index
75% 60% 45% 30% 15% 0% -15% -30% -45% -60% 04 05 06 07 08
AAII Bull - Bear
VIX index
90
-1% 0% 3% 3% 2% 4% 5% 5% 29% 09 10 11 -10% 0% 10% 20% 30% 40%

Europe 6m fwd average return
80 70 60 50 40 30 20 10 0 -10 04 05 VIX 06 6m avg 07 +1 sd 08 09 -1 sd 10 +2 sd 11 -2 sd
Source: Bloomberg, J.P. Morgan
Source: Datastream
Put Call ratio

2.75 2.50 2.25 2.00 1.75 1% 1.50 3% 1.25 1.00 0.75 0.50 04 05 06 07 08 S&P Put Call ratio 09 10 11 0.0% 2.0% 4.0% 3% 3% 5% 6.0% 8.0% 2% 3% 4% 7%
Skew
3.5 3.3 3.1 2.9 2.7 2.5 2.3 2.1 1.9 1.7 01
10% 5% 0% 2% -2% 1% -4% -9% -11% 02 03 04 05 06 07 08 09 10 11 -20% -10% 0% 10% 20%
EStoxx 1 year Skew
126
European Sector Allocation

Sector Allocation Energy Materials Chemicals Construction Materials Metals & Mining Industrials Capital Goods Transport Consumer Discretionary Automobile Consumer Durables Media Retailing Hotels,Restaurants&Leisure Consumer Staples Food & Drug Retailing Food Beverage & Tobacco Household Products Healthcare Financials Banks Diversified Financials Insurance Real Estate Information Technology Software and Services Technology Hardware Semicon & Semicon Equip Telecoms Utilities
MSCI Europe Weights 12.3% 9.9%
Allocation 12.0% 13.0%
Deviation -0.3% 3.1%
10.5%
13.0%
2.5%
8.3%
9.0%
0.7%
14.2%
14.0%
-0.2%
11.6% 17.9%
9.0% 18.0%
-2.6% 0.1%
3.0%
4.0%
1.0%
7.2% 5.1% 100.0%
5.0% 3.0% 100.0%
-2.2% -2.1% 0.0%
Recommendation Neutral Overweight = + + Overweight + = Neutral + = = = Neutral = = = Underweight Neutral + + = Overweight + = + Underweight Underweight Balanced
127
Asset Allocation
Asset Allocation Benchmark weighting Equities Bonds Cash 60% 30% 10% 100% Allocation 70% 25% 5% 100% Deviation 10% -5% -5% 0% Recommendation Overweight Underweight Underweight Balanced
Regional Asset Allocation MSCI Europe Weights Eurozone United Kingdom Others* 44% 35% 21% 100% Allocation 47% 32% 21% 100% Deviation 3% -3% 0% 0% Recommendation Oveweight Underweight Neutral Balanced
Index Targets Index Europe Eurozone United Kingdom

Source: MSCI, J.P. Morgan, Datastream *Others include Denmark, Norway, Sweden and Switzerland Note: We use the MSCI Europe index as the benchmark against which to determine our regional allocations. Our Overweight/Underweight recommendations reflect our belief that the relevant region will out- / underperform the index over the next six to 12 months.
YE 2012 1,150 150 6,150
MSCI Europe MSCI Eurozone FTSE 100
128
Global Equities Performance & Valuations

8-Dec-11 3M Pe r form ance US Europe UK Euro Sw itze rland Japan 12M Pe rfor m ance US Europe UK Euro Sw itze rland Japan P/Book (-1M ) US Europe UK Euro Sw itze rland Japan 12M Fr w Cons P/E pr e GW US Europe UK Euro Sw itze rland Japan Cons 12M EPS% pre GW US Europe UK Euro Sw itze rland Japan Divide nd Yie ld US Europe UK Euro Sw itze rland Japan 2.1 1.4 1.6 1.1 2.1 1.0 2.0 1.5 1.5 1.4 0.8 2.3 1.5 1.8 1.3 2.0 0.9 2.4 1.9 2.8 1.6 3.2 1.1 2.9 1.8 2.4 1.4 3.1 1.0 3.3 2.9 3.3 2.5 3.2 1.3 2.4 3.0 4.8 1.7 3.3 1.3 0.9 0.7 0.8 0.6 1.0 0.7 3.3 2.3 4.3 2.5 1.2 1.8 1.5 1.2 1.6 3.6 1.2 1.5 1.2 2.3 1.0 0.7 3.0% -12.0% -4.4% -17.1% -11.5% -16.2% 7.0% 2.3% 6.6% -1.5% 1.6% -4.6% -20.2% -21.9% -20.5% -13.8% -17.1% -0.5% -18.3% -1.2% -21.8% -15.7% -13.2% 4.6% -15.3% -3.7% -18.3% -14.7% -17.6% 10.3% 0.7% 10.2% -4.2% -5.8% 2.8% 9.9% 3.1% 9.6% 0.6% -1.5% -12.1% -11.8% -25.3% -23.7% -27.2% -23.7% -16.4% 5.6% -7.2% 44.0% -12.0% -20.8% 1.2% -8.9% 2.8% -16.8% -17.4% -4.4% 13.4% -15.0% 3.6% -21.0% -44.3% Mar k e t 4.9% 5.0% 4.2% 5.6% 4.9% -0.5% Ene rgy 4.5% 13.2% 12.3% 16.3% 7.6% Mate rials Indus trials Dis cre tionar y -0.2% 7.9% 6.4% 0.6% 3.5% 3.8% -3.8% 4.7% 5.9% 4.4% 2.1% 2.3% 5.5% 5.3% 3.1% -3.6% 0.3% 0.5% Staple s He althcare 3.2% 1.6% 6.5% 6.4% 6.2% 5.8% 9.1% 7.9% 3.7% 4.6% 3.9% -6.6% Financials 2.6% 3.4% -1.2% 4.9% 10.4% 0.1% IT 9.1% 3.9% 5.6% 5.3% 2.6% Te le com 3.1% 3.1% 5.9% 1.8% -5.8% -4.7% Utilitie s 4.6% 2.9% -2.8% 5.6% -10.5%
11.2 9.1 8.9 8.6 11.2 11.5
9.8 7.9 7.8 7.8 8.8
10.5 8.1 6.4 9.8 13.9 10.6
11.4 10.7 10.8 10.3 13.2 9.3
13.0 9.8 11.1 8.5 13.5 12.4
13.8 13.7 12.7 13.2 16.4 14.9
10.8 10.3 9.8 10.2 9.9 14.3
8.9 6.7 7.8 5.8 7.3 9.5
11.2 13.5 24.6 13.5 13.7
16.5 9.0 9.7 8.5 9.2 9.0
14.0 9.8 11.8 9.1 -
10.6 9.3 7.1 9.7 12.5 22.0
3.5 6.8 5.0 7.1 -23.0
9.8 6.0 6.9 3.5 15.7 25.7
13.4 8.9 9.5 10.7 7.1 12.1
13.1 6.5 9.4 4.1 16.3 66.9
8.5 9.3 8.8 10.0 8.8 17.9
5.6 1.9 -2.5 -2.0 7.3 2.5
25.2 20.3 13.7 23.3 20.8 -1.8
9.4 3.0 6.3 -5.5 21.1
10.7 2.8 4.5 0.7 -1.4 9.3
-2.0 10.3 7.2 11.5 -
2.7 4.8 4.3 5.8 3.3 2.6 Forw ard ROE
2.2 4.2 3.9 4.8 2.0
2.4 3.0 2.7 3.8 1.0 2.4 12M fw d P/E 11.2 9.1 8.9 8.6 11.0 11.1
2.6 4.1 3.5 5.0 1.0 2.5
2.1 3.6 3.6 4.0 1.2 1.8
3.1 3.6 4.0 3.3 3.3 2.3
3.1 4.5 5.3 4.7 4.3 4.0
2.6 6.5 5.4 8.2 4.5 3.4
2.0 3.1 1.4 3.3 2.3
6.2 8.8 5.8 11.2 6.2 2.5
4.3 7.4 5.9 8.1 3.6
Se ctor ne utral P/E 10.2 12.5 9.8 8.8 11.3
Dis count Se ctor ne utr al dis count -18.2% -20.1% -23.1% -1.9% -1.0% -8.9% 11.8% -12.1% -21.3% 1.2%
US Europe UK Euro Sw itze rland
18.4% 15.4% 18.2% 13.1% 19.0%
8.4% Japan Note: Swiss calculations exclude Energy and Utilities sectors
Source: IBES, MSCI, Datastream
129
Disclosures
Analyst Certification: The research analyst(s) denoted by an AC on the cover of this report certifies (or, where multiple research analysts are primarily responsible for this report, the research analyst denoted by an AC on the cover or within the document individually certifies, with respect to each security or issuer that the research analyst covers in this research) that: (1) all of the views expressed in this report accurately reflect his or her personal views about any and all of the subject securities or issuers; and (2) no part of any of the research analyst's compensation was, is, or will be directly or indirectly related to the specific recommendations or views expressed by the research analyst(s) in this report. Important Disclosures Market Maker: JPMS makes a market in the stock of ASML. Designated Sponsor: J.P. Morgan Securities Ltd. is the appointed designated sponsor to Brenntag. Lead or Co-manager: J.P. Morgan acted as lead or co-manager in a public offering of equity and/or debt securities for BP, BG Group, Saint-Gobain, Rio Tinto plc, ArcelorMittal, Vinci, Schneider Electric, Volvo, Brenntag, Deutsche Post DHL, Volkswagen, Michelin, Casino, Unilever NV, Bayer, Roche, Swedbank, HSBC Holdings plc, Deutsche Bank, Aegon, SAP, DnB ASA within the past 12 months. Director: A senior employee, executive officer or director of JPMorgan Chase & Co. and/or J.P. Morgan is a director and/or officer of Rio Tinto plc, Inditex. Beneficial Ownership (1% or more): J.P. Morgan beneficially owns 1% or more of a class of common equity securities of Nestle, HSBC Holdings plc, UBS, Inmarsat PLC. Client: J.P. Morgan currently has, or had within the past 12 months, the following company(ies) as clients: BP, BG Group, ENI, Saipem, Saint-Gobain, Arkema, Rio Tinto plc, Anglo & Overseas PLC, ArcelorMittal, EADS, Safran, Vinci, Schneider Electric, Siemens, Volvo, Brenntag, IAG, Deutsche Post DHL, Volkswagen, Michelin, Accor, Publicis Groupe, Inditex, British American Tobacco, Casino, Nestle, Unilever NV, Unilever plc, Bayer, Roche, Swedbank, HSBC Holdings plc, UBS, Deutsche Bank, Aberdeen Asset Management, Land Securities, Swiss Re, Aegon, Infineon Technologies, ASML, Imagination Technologies, SAP, Tele2, Inmarsat PLC, Enel, E.ON, HeidelbergCement, DnB ASA. Client/Investment Banking: J.P. Morgan currently has, or had within the past 12 months, the following company(ies) as investment banking clients: BP, BG Group, Saint-Gobain, Rio Tinto plc, Anglo & Overseas PLC, ArcelorMittal, Vinci, Schneider Electric, Volvo, Brenntag, Deutsche Post DHL, Volkswagen, Michelin, British American Tobacco, Casino, Unilever NV, Unilever plc, Bayer, Roche, Swedbank, HSBC Holdings plc, UBS, Deutsche Bank, Swiss Re, Aegon, Infineon Technologies, Imagination Technologies, SAP, Inmarsat PLC, Enel, E.ON, DnB ASA. Client/Non-Investment Banking, Securities-Related: J.P. Morgan currently has, or had within the past 12 months, the following company(ies) as clients, and the services provided were non-investment-banking, securities-related: BP, BG Group, ENI, Saint-Gobain, Arkema, Rio Tinto plc, ArcelorMittal, EADS, Safran, Vinci, Schneider Electric, Siemens, Volvo, Brenntag, IAG, Deutsche Post DHL, Volkswagen, Michelin, Accor, Publicis Groupe, Inditex, British American Tobacco, Casino, Nestle, Unilever NV, Unilever plc, Bayer, Roche, Swedbank, HSBC Holdings plc, UBS, Deutsche Bank, Aberdeen Asset Management, Land Securities, Swiss Re, Aegon, Infineon Technologies, ASML, SAP, Inmarsat PLC, Enel, E.ON, HeidelbergCement, DnB ASA. Client/Non-Securities-Related: J.P. Morgan currently has, or had within the past 12 months, the following company(ies) as clients, and the services provided were nonsecurities-related: BP, BG Group, ENI, Saint-Gobain, Rio Tinto plc, ArcelorMittal, Vinci, Schneider Electric, Brenntag, IAG, Deutsche Post DHL, Volkswagen, Michelin, British American Tobacco, Casino, Nestle, Unilever NV, Unilever plc, Bayer, Roche, Swedbank, HSBC Holdings plc, UBS, Deutsche Bank, Aberdeen Asset Management, Swiss Re, Aegon, SAP, Enel, E.ON, DnB ASA.
130
Disclosures
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*Percentage of investment banking clients in each rating category.
For purposes only of FINRA/NYSE ratings distribution rules, our Overweight rating falls into a buy rating category; our Neutral rating falls into a hold rating category; and our Underweight rating falls into a sell rating category.
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Equity Strategy: December 2011

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Equity Strategy: December 2011

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European Equity Research December 2011

Mislav Matejka, CFA AC (44 20) 7325 5242 mislav.matejka@jpmorgan.com

Emmanuel Cau, CFA (44 20) 7325 1684 emmanuel.b.cau@jpmorgan.com

Euro uncertainty continues, but some positive steps taken recently

6 reasons underpinning a positive risk-reward for equities

Our top sector picks are:

1. EMU situation remains precarious, but more aggressive intervention likely

Core* Euro area government bond spreads to Bunds

Core Countries Spread to Bunds (Bps)

Ratings and Outlook of selected Euro area countries

Source: JPM Economics Research

European Summit a step in the right direction

that could open the door to a broader ECB intervention

Redemptions 15 25 7 98 160 30 33 6 198 13 49 634

Total Funding Needs 25 38 14 180 186 42 51 20 235 22 94 908

ECB Balance Sheet Breakdown

ECB weekly purchases of Euro debt

Periphery Banks Repo

Core Banks Repo

Amount Purchased (Bn)

Source: ECB, National Central Banks

Source: JPM Fixed Income Research

Cumulative change in banks deposits ytd

Source: ECB, % of outstanding bonds

US & Euro zone banks leverage

Eurozone Banks Leverage

Source: BIS Quarterly Review Sep-11, J.P. Morgan Economics Research

Greek debt sustainability remains difficult even after 50% haircut

Greek debt dynamics after 50% haircut on privately held debt

Real GDP Government debt growth (%oya)

J.P. Morgan central scenario

160 140 120 100 09 11 13 15

1% growth and primary balance shortfall

Troika baseline (leaked Oct document)

Source: J.P. Morgan Economic Research

Source: J.P. Morgan Economic Research

Italy is the big risk More reforms needed quickly

Adjustments to meet Euro area debt rule

6.9 1.7 2.8 0.8 5.5 2.9 1 2 0.3 n/a n/a

% of non-domestic investors in government bonds

6.3 5.5 4.64 4.31

0.0 Italy Spain Greece Ireland Portugal

Average debt duration (, T-bills + Bonds)

Coupon cost on outstanding marketable debt (%)

Source : J.PMorgan fixed income research, as at end of 2009

2. Global growth sub-trend, but positive in 12

Peak to trough fall in GDP during the 08 downturn

Real GDP Global US EMU UK

Peak 08Q2 07Q4 08Q1 08Q1

Trough 09Q1 09Q2 09Q2 09Q2

Source: J.P. Morgan Economic research

Fiscal drag to intensify, but remains manageable

0 2007 2008 US 2009 EMU 2010 Japan UK 2011 2012

Source: J.P. Morgan economic research

Impact of fiscal policy on EMU and UK real GDP growth

Estimated contribution of fiscal policy to US GDP growth

Source: J.P. Morgan economic research

Source: J.P. Morgan economic research, % chg, saar

Lessening of the fiscal drag in 12 still possible in the US

Budget Control Tax

2.0 0.5 -0.8 -1.6

1.7 0.5 -1.3 -0.6