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Global Equity Strategy

Italy: reform and momentum why it
remains a key overweight
June 2015

Alex Hymers
+44 20 7888 9710
alex.hym [email protected]
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Italy: reform and momentum why it remains a key overweight

Italy has to change: Growth in GDP per capita has been worse than Japan since 2000; its ease of doing business is, according to the
World Bank's Ease of Doing Business Survey, worse than Rwanda and it has poor demographics, with a low birth rate of just 9 births per
1,000 population (compared to 12 in the UK and France, and 11 in Spain).
Following this weeks strong PMI Manufacturing release (including the strongest new orders release since February 2011), we re-iterate
the degree of reform that is actually taking place (Article 18 has been abolished for new employees; steps have been taken to cut
non-wage costs; cuts in corporate tax; electoral reform; judicial reform; product reform; a rise in foreign ownership; a likely change in the
mortgage repossession law to reduce repossession times by 2 years; a wish to set up a bad bank (if it can be found in accordance EU
state aid rules). See Recovery and Reforms: A New Italian Renaissance? from our economists.
Secondly, our optimism on growth is beginning to be reflected in survey data. Italian PMI Manufacturing new orders rose in May to
their highest level since February 2011 and PMI new orders less inventories are consistent with around 5% IP growth. In addition,
consumer confidence is close to a 13 year high; real M1 growth is consistent with an acceleration in GDP. The government has also
contributed with a 10bn tax cut for workers earning less than 26,000. Importantly, with SME lending rates of over 4.5% (compared to
c.3% in the core), there is still significant scope for lending rates to fall, and as this happens so GDP should recover further (consensus
of 0.6% this year and 1.2% next year will, in our view, prove too cautious). As shown on slide 6, employment expectations are at a 7-year
high and full time open ended contracts are now up 51% Y/Y.
Thirdly, there are some signs of life in housing: mortgage growth is rising at 30% Y/Y and in many regions mortgage rates are well
below rental yields.
Fourthly, the loss of competitiveness in Italy might be exaggerated. Using labour cost to deflate real effective exchange rates, Italy
has lost competitiveness, but this is far less extreme if we use producer prices. Absolute labour costs are not especially high (nearly 20%
below those of France). Italy's export market share has held up (the performance has been no worse than the UK or France), and a PWC
survey suggested that there has been more on shoring in Italy than any other European country. Finally, Italy's strong current account
position (with a surplus of 2.5% of GDP) is a further sign that Italy's remains relatively competitive.
Fifthly, the fiscal position is potentially not as problematic as headlines suggest. Italy is running a primary budget surplus of 1.4%
of GDP (cyclically adjusted of 3.4%) and thus needs half the amount of fiscal tightening of France to stabilise government debt to GDP
(and its interest payments should fall to 2% of GDP from 5% of GDP by 2020 on current rates). Moreover its aggregate leverage (i.e.
combining private and public sector leverage) is the fifth lowest in Europe.

Global Equity Strategy

Italy: reform and momentum why it remains a key overweight

Finally, equity valuations appear cheap. The P/B (excluding financials) of Italian equities is on a 25% discount to European markets
(the middle of its historic range), the PE relative is on a 5% discount to Europe (again, mid-range), the PE on normalised margins is
9.3x (one of the cheapest markets). The aggregate P/B is the cheapest of any region.
Funds flow: Flows into Italian equity funds have been strong, with EPFR data suggesting 3 month annualised inflows of 16% of AuM.
To us, many roads lead to Italian banks: they are largely retail (an area we prefer), private sector credit to GDP is the lowest in
Europe (Italy never had a credit or housing boom prior to 2009); NPLs of c20% (more than 90 days past due) and c13% (less than 30
days) should improve under a more buoyant economy, a change in mortgage repossession rules and very low mortgage rates (real
estate is the majority of banks collateral); the cost of funding to Italian banks should fall; there is a cost cutting story (Italy has triple
the number of bank branches of the UK) and an asset gathering story (Italian banks tend to have strong asset management
organisations).
Italian stocks rated Outperform by Credit Suisse analysts are: Intesa Sanpaolo, UBI, Pirelli, Prysmian, Mediaset, Rai Way
We keep to an overweight of the periphery. It performs better in periods of euro consolidation and is a play on a European recovery
from an economic perspective (because exports outside the Euro area account for only 14% and 11% of Italian and Spanish GDP
respectively, compared to 26% in Germany) and stock market exposure (i.e. peripheral equity markets more exposed to domestic
Europe than the Eurostoxx in aggregate). Hence, if the euro stabilises, Italian equities outperform the DAX. We struggle to see a
dollar surge from here given very high speculative positions and real rate differentials only in line with the current exchange rate.
Peripheral Europe is cheap on measures of normalised earnings (or its proxy, price to book) and relative PMIs continue to be strong.
The main risk is Greece at a time when peripheral Europe is expensive on actual earnings (though not Italy), and thus a concept of
normalised earnings has to be believed in. Our view on Greece remains that there is a strong incentive ultimately for a deal, but a deal
is only likely to be done at the last possible moment, with a critical catalyst likely to be a loss of popularity for Syriza. A word of caution
is that the derivatives market is quite complacent in pricing in Greek risk premium: skew is at a 2 year extreme and implied volatility is
below realised volatility.

Global Equity Strategy

Three problems: (1) Italy ranks poorly at the Ease of Doing Business survey
(56th ease of doing business - below Rwanda). Enforcing contracts 147th (below
Guatemala)-time to enforce contract 1185 days (double OECD norm).

Italys ranking at the ease of doing business (out of 190 countries)

Topics
Overall
Starting a Business
Dealing with Construction Permits
Getting Electricity
Registering Property
Getting Credit
Protecting Minority Investors
Paying Taxes
Trading Across Borders
Enforcing Contracts
Resolving Insolvency

DB 2015 Rank

DB 2014 Rank

56
46
116
102
41
89
21
141
37
147
29

52
61
114
97
41
86
19
137
34
147
27

Change in
Rank
-4
15
-2
-5
No change
-3
-2
-4
-3
No change
-2

Source: World Bank, Thomson Reuters, Credit Suisse research

Global Equity Strategy

(2) GDP growth per capita has been poor - much worse than Japan since
1990 and only in line with Greece since 2000 (3) Italy has the worst birth rate
in Western Europe only 9 births per 1,000 people.

GDP per capita comparison since 1990

150

GDP per capita: Italy vs Greece since 2000

GDP per capita, 1990=100

170

140

160

130

150

GDP per capita

2000 = 100
Italy
Greece

140

120
130

110
120

Spain
Italy
Euro zone
Germany

100

90
1990

1994

1998

2002

France
Japan
USA

110
100

2006

2010

2014

00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15

Source: Credit Suisse European economists, Thomson

Reuters, Credit Suisse research

Global Equity Strategy

What are the positives? Reform, reform, reform

Article 18 has been abolished (for new employees), reducing job protection and
increasing flexibility for firms. Specifically, firms with more than 15 employees will now
be able to fire workers for business reasons, without the risk of having to reinstate
them, even if a dismissal is ruled unlawful. The enabling law is expected to be
completed in the coming months. The key is that total payoff limited to 2 years. Open
ended contracts were up 51% Y/Y in April.
Boosting the role of employment agencies (where temporary workers can be 20%
of the workforce on a rolling 3-year basis).
Companies do not have to pay social security contributions for the first three years
for new permanent hires in 2015, as long as the new hire was previously unemployed
(this applies to SME companies). The non-wage cost of employment in Italy is 28% of
total costs, according to Eurostat. Additionally on a permanent basis, 80 per
month tax credit for workers earning less than 26K (costing 10bn).
Cut in the corporate tax rate. In specific, the government decided to deduct the
labour component (related to permanent workers) from the tax base of the Italian
regional production tax (3.9%), which should reduce the rate by c10%. Additional, 15%
tax credit on investment in capital spending above 10,000 and 25% tax credit on
incremental R&D, 50% tax credit on ultra-fast broad band).
Reforming the cooperative banks, with ten banks having to transform into joint-stock
companies within 18 months. If they have more than 8bn of assets, then they have to
be a joint stock company.
Global Equity Strategy

Reform, reform, reform (continued)

Putting in a system that allows politicians to make changes. Electoral reform (just been
finalised, but effective as of July 2016) includes a "majority premium" to the party that achieves at
least 40% of the votes (in that case the party would get 55% of seats), Parties of less than 3% of
vote excluded; Reforming the institutional setting with a new architecture of the parliament, limiting
the power of the Senate (set to be completed by end 2015). Constitutional reform (stopping veto of
Senate in process, likely in 2016/17).
Reform of the judicial system. This will involve amalgamation of small courts, strengthening
special courts for companies, with a goal to limit the length of proceedings, digitalisating legal
system. Also, the government created an anti-corruption agency and we find it encouraging that the
statute of limitations will be extended by 2 years as will the prison sentence for anti-corruption.
Product market reforms: "Destinazione Italia" took steps to liberalise the energy sector, and
opened up closed professions.
Change law on mortgage repossessions to reduce repossession time from 7 years to 5 years
(compared to 2-3 years elsewhere).
Rise in foreign ownership: Etihad-Alitalia; KIA-Fondo Strategico Italiano; State Grid for China and
CDP Reti; Hitachi and Ansaldo; Whirlpool-Indesit; Allianz-Milano Assicurazioni.
Other encouraging measures enacted: REIT status (helps to securitise real estate); avenues of
finance (mini-bonds guaranteed by Central Guarantee Fund and allow insurance companies to lend
to corporates)
Trying to set up a bad bank if EU Commission will allow them to do so.
We would also highlight that there has been limited trade union opposition so far to reforms.
Additionally, although the poor result of the PD in the regional elections represents a setback for Renzi,
it is unlikely to derail the overall reform effort or threaten political stability.

Global Equity Strategy

More scope for fall in SME lending rates than anywhere else and this will help growth (SMEs are 75% of
GDP and on the latest survey 15% of SMEs continue to have little or no access to finance) and when SME
lending rates fell in Spain, growth rebounded. Furthermore consumer confidence is implying a further rise
in PMIs and PMI new orders versus inventories point to an acceleration in industrial production.
Italian PMI new orders inventories are in line with
industrial production growing by 5%

Italian consumer confidence is off its 13-year high and

is consistent with a rise in PMI new orders
70

Italy manufacturing PMI, new orders

65

Italian consumer confidence, rhs

13

Italian IP, 4m lag y/y % rhs

8

-5

60

Italian manufacturing PMI new orders - inventory

17

Real M1 growth is pointing to an

acceleration in GDP

-10

55

-15

50

-2

-3

-20

-7

-25

45

-13

-12

-30

40

-17

-35

35

-23

-22

-40

30

-45
1999

2001

2003

2004

2006

2008

2009

2011

2013

-33

2015

Lending rates for peripheral European SMEs continue

to be above those for core European SMEs
Lending rates to
non-financial SMEs,
1-5yrs, up to 1m, %

7.0
6.5

-27

2004

2005

2007

2009

2011

2013

2015

Italian PMIs seem to be in line with rising SME lending rates

Italy PMI new orders
Lending rates to non-financial SMEs %, rhs, inverted

65

4.0

60

4.5

6.0
5.5

55

5.0

50

5.0

5.5

4.5
45

4.0

6.0

40

3.5

3.0
2.5

Germany

Spain

France

Italy

30

2.0
2003

2004

2006

2007

2008

2009

2010

2011

6.5

35

2013

2014

2015

7.0
2003

2004

2006

2007

2008

2009

2010

2011

2013

2014

2015

Source: Thomson Reuters, European Economics Team, Credit Suisse research

Global Equity Strategy

There are signs of life on the housing side and employment growth is
picking up
Strong increase in new mortgages
50%

Loan demand from households has improved

Italy - new mortgage growth, y/y%, 6mma

40%
30%
20%
10%
0%
-10%
-20%
-30%

-40%
-50%

-60%
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

Employment expectations are at a 7-year high

Participation rate at an all-time high

5
Italy, EC survey, employment expectations

3
1
-1
-3

-5
-7
-9
-11

-13
-15
03

04

05

06

07

08

09

10

11

12

13

14

15

Source: European Economics Team

Global Equity Strategy

The loss of competitiveness may have been overstated

A loss of price-competitiveness in the economy as
a whole since 2000

but there is less negative assessment when looking

at producer prices

Labour costs for new permanent hires should decrease

substantially in 2015

A relatively contained loss in export market share

Italy has moved into a clear current account surplus

3%
Italy current account 3m ann., % GDP

2%
1%
0%
-1%
-2%
-3%
-4%
-5%
2001

2003

2005

2007

2009

2011

2013

2015

Source: Thomson Reuters, European Economics Team, Credit Suisse research

Global Equity Strategy

10

Aggregate leverage is not high and Italy only needs to tighten fiscal policy by 2% of
GDP to stabilize government debt to GDP (half the amount of France). Interest
payments could fall to 2% of GDP from 5% of GDP by 2020. Valuations are middling
compared to core Europe, but Italy is cheap on measures of normalized earnings..
Italian aggregate leverage is relatively low

Italy's 2015 primary budget surplus is among the

largest of any developed nations

400%

Private sector debt % GDP

3.00

350%

Public sector debt % GDP

2.00

Italy is the cheapest of all major equity markets

3.0

2015 primary budget balance,

IMF estimate (ex. Greece)

P/B for major global markets

2.5

1.00

300%

0.00

250%

2.0

-1.00

200%

-2.00

150%

-3.00

100%

-4.00

1.5

1.0

-5.00

50%

-6.00

0%

Portugal

MSCI Italy PB rel Cont. Europe ex fin

125%

Average (+/- 1SD)

Average (+/- 1SD)

30
25

100%

21.7

20

Italy

Spain

Japan

France

Portugal

UK

12m fwd P/E on normalised margins,nonfinancials

20.1

18.5

105%

17.0
14.9

15

80%
95%

14.4
9.3

10

70%
60%

Ireland

Europe

Germany

Australia

27.2

115%

90%

Sweden

Switzerland

Italy is cheaper than the core markets on P/E with

normalized margins

MSCI Italy 12m fwd PE rel Cont. Europe

110%

0.0
USA

Greece

Germany

Italy

Ireland

Czech Republic

Canada

Spain

France

United States

Australia

United Kingdom

Japan

Austria

Switzerland

Norway

United Kingdom

Singapore

Italy

United States

Canada

Hong Kong SAR

Sweden

France

Denmark

Belgium

Netherlands

Portugal

Ireland

the same is the case with its 12m

forward P/E relative

Italy is middling on P/B relatives

120%

0.5

-7.00

7.8
5.6

85%

75%

2000

2005

2010

2015

2003

2006

2009

2012

2015

Austria

Italy

Spain

EMU

Portugal

65%
2000

Netherlands

1995

France

30%
1990

Germany

40%

Ireland

Belgium

50%

Source: Thomson Reuters, Credit Suisse research

Global Equity Strategy

11

The banks look very cheap on HOLT and P/PPP. However we acknowledge
that earnings revisions just turned negative relative European banks and
Italian banks are overbought relative to the Italian market.
Italian banks have the third highest discount rate in
HOLT

60%

12

Italy banks: 13-week earnings revisions relative to Cont Europe

banks

40%

Discount Rate
10 Year Median

10

Italian banks' relative earnings revisions

just turned negative

20%

0%
-20%

-40%

-60%
India

Canada

Australia

US

Japan

Turkey

Global

Brazil

Spain

UK

Thailand

Taiwan

Italy

China

France

-80%
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

Price momentum rel. to continental

Europe is back to more neutral levels
20%

Italian banks rel. cont. Europe banks, 6mma

15%
10%
5%
0%
-5%
-10%
-15%
2005

2006

2007

2008

2009

2010

2012

2013

2014

2015

Source: Thomson Reuters, CS HOLT, Credit Suisse research, MSCI, IBES

Global Equity Strategy

12

Stocks screens: Outperform-rated Italian stocks, and stocks which

are cheap on HOLT with positive earnings momentum
Italian stocks rated Outperform by Credit Suisse analysts
-----P/E (12m fwd) ------

2015e, %

------ P/B -------

Name

Abs

rel to
Industry

rel to mkt %
above/below
average

Abs

rel to mkt %
above/below
average

Intesa Sanpaolo

15.9

136%

25%

1.2

Mediaset

38.7

200%

65%

2.2

Pirelli

15.1

135%

21%

Prysmian

16.9

103%

48%

Rai Way

29.5

152%

4%

Unione Di Banche
Italian

17.4

150%

35%

HOLT

2015e Momentum, %

FCY

DY

Price, %
change to
best

-25%

na

3.7

4.7

8.3

1.8

2.4

Outperform

-46%

3.6

1.7

5.1

-15.0

-0.4

3.0

Outperform

3.0

104%

2.7

2.7

30.7

-4.3

-0.7

2.9

Outperform

3.8

-12%

6.9

2.2

-11.5

-3.5

2.8

2.0

Outperform

7.6

-6%

na

3.1

na

-0.7

-0.6

1.7

Outperform

0.7

-28%

na

1.9

14.5

-8.0

-0.5

2.8

Outperform

3m EPS

Consensus
Credit Suisse
recommendation
rating
(1=Buy; 5=Sell)

3m Sales

Italian stocks which are cheap on HOLT with positive earnings momentum
-----P/E (12m fwd) ------

HOLT

2015e, %

------ P/B -------

2015e Momentum, %

Name

Abs

rel to
Industry

rel to mkt %
above/below
average

Abs

rel to mkt %
above/below
average

FCY

DY

Price, %
change to
best

3m EPS

3m Sales

Consensus
Credit Suisse
recommendation
rating
(1=Buy; 5=Sell)

Banco Popolare

16.0

136%

38%

0.7

-44%

na

1.5

34.5

16.1

-1.2

2.5

Not Rated

Intesa Sanpaolo

15.8

134%

23%

1.2

-24%

na

3.6

1.2

8.9

1.7

2.4

Outperform

Amplifon

25.5

136%

37%

3.5

-3%

5.6

0.7

6.4

6.0

5.8

2.1

Not Rated

Anima Holding

17.3

117%

35%

3.5

40%

na

2.6

32.0

18.0

12.6

2.3

Not Rated

Ansaldo Sts

21.2

134%

38%

3.3

-26%

na

1.6

17.9

0.7

0.5

3.0

Not Rated

Azimut Holding

16.1

109%

10%

6.3

48%

na

5.1

69.9

31.4

21.1

2.4

Not Rated

Beni Stabili

16.0

65%

-33%

0.9

-9%

0.0

4.0

22.2

10.0

-5.2

2.2

Not Rated

Buzzi Unicem

18.5

99%

22%

1.3

-21%

-13.0

0.9

67.4

8.9

1.9

2.6

Not Rated

Cattolica Assicurazioni

11.2

94%

-19%

0.7

-51%

na

5.0

20.8

3.8

na

2.7

Not Rated

Cerved Info.Solutions

17.9

121%

11%

na

na

6.9

3.4

46.5

2.4

-0.1

2.0

Not Rated

Erg

20.0

87%

41%

1.0

-35%

na

4.3

26.3

1.2

-13.3

1.5

Not Rated

Freni Brembo

16.1

144%

0%

4.8

41%

na

1.9

10.0

16.9

3.1

2.3

Not Rated

Saras

11.5

50%

-61%

2.1

4%

-494.1

2.6

83.0

436.7

-2.7

2.0

Not Rated

Source: Thomson Reuters, CS HOLT, Credit Suisse research, MSCI, IBES

Global Equity Strategy

13

We are overweight the periphery and added on 20th March: (1)The periphery, both by
market exposure and economic exposure, is much more domestic than the core.

0.56

1.3

0.54

1.2
1.1
1.0
2008

2009

2010

2011

2012

2013

-30

1.3

20%

10%

-130

-180

0.50

-230

15%

1.2

-80

0.52

0.48
2015

2014

25%

1.1
Euro vs US 2-year real rates (with
2015 CS est), gap, bps
EUR/USD, rhs

-280
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

5%
0%

1
0.9

France

0.58

1.4

20

Greece

1.4

30%

Spain

0.60

70

Portugal

1.5

1.5

120

Italy

0.62

Exports outside the Euro Area as % of GDP

35%

Austria

1.6

170

Finland

0.64

Netherlands

Peripheral Europe relative to Continental Europe (rhs)

Germany

0.66

EURUSD

Peripheral Europe has a much more domestic focus

40%

Ireland

1.7

The 2-year real yield differential is consistent with a

EUR/USD of c1.1 (if we use our rates strategists
forecasts)
1.6

Belgium

The performance of the periphery is closely

correlated to the Euro

The periphery outperforms when the Euro strengthens

Domestic sectors account for more than 50% of peripheral

equity market cap

0.6

80%

Relative price perf correlation with Euro

0.5

Sectors % of mkt cap

70%

0.4

60%

0.3
0.2

50%

0.1

40%

-0.1

30%

-0.2

20%

-0.3

10%

-0.4

0%

France

Denmark

Germany

Ireland

Finland

Belgium

Portugal

Italy

Spain

Austria

Greece

-0.5

Spain

Italy
Financials

France
Telecoms

Germany

Utilities

Source: Thomson Reuters, Credit Suisse research

Global Equity Strategy

14

(2) The periphery is cheap on normalized earnings and P/B and (3) SME lending rates
can fall further. (4) Relative PMIs have picked up.
and the periphery is cheap on normalised 12m fwd PE
23.9

25

23.1
19.5

20

120%

Peripheral Europe ex financials P/B rel core

Average (+/- 1sd)

16.4
13.9

15

12.9
9.0

10

6.5

5.9

Austria

130%

18.2

Portugal

The P/B of the periphery (ex-financials) relative to the

core is still 0.6 standard deviation below average

12m fwd P/E on normalised margins,nonfinancials

110%

90%

Italy

Spain

Netherlands

EMU

France

Germany

100%

Ireland

Belgium

Peripheral PMIs are higher than core

Manufacturing PMI new orders

80%
7

Peripheral Europe rel Core Europe

70%
60%
1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015

-3

-8

-13
2004

2006

2008

2009

2011

2013

2015

Source: Thomson Reuters, Credit Suisse research

Global Equity Strategy

15

The key positive vs 2011-12: significant adjustment has already happened in the periphery: it
is running a current account surplus (i.e. can generate excess savings to fund its debt); and
REERs have already adjusted. However, the fiscal debt arithmetic is unsustainable without
mutualisation or growth (aggregate debt is 95% and budget deficit is 2.6%-a small primary
surplus).
REER deflated by ULC have already
adjusted (with the exception of Italy)

Peripheral Europe is running a current

account surplus of 0.7% of GDP
2%

130

Periphery current account 3m ann., % GDP

1%

125

0%

120

-1%

115

-2%

110

-3%

105

-4%

100

-5%

95

-6%

90

Ireland

Greece

Spain

Italy

Portugal

REER deflated by ULC

85

-7%
-8%
2001

Germany

80

2003

2005

2007

2009

2011

99

2013

01

03

05

07

09

11

13

Debt arithmetic is unsustainable on current growth rates. Peripheral countries would need to tighten fiscal
policy by 2-4pp of GDP in a scenario of 1% nominal growth
Government debt to
GDP (2014)

Fiscal tightening required to

Fiscal tightening required to
Primary budget balance stabilise debt with 1% nominal stabilise debt with 3% nominal
2015 (% GDP)
growth (% GDP)
growth (% GDP)

Germany

73

1.5

-0.6

France

95

-2.0

3.1

-2.1
1.2

Italy

132

1.4

1.6

-1.0

Spain

98

-1.6

3.8

1.9

Greece

177

1.5

1.0

-2.6

Ireland

110

0.6

2.0

-0.2

Portugal

130

1.7

2.1

-0.5

Source: Thomson Reuters, Credit Suisse research

Global Equity Strategy

16

The negatives are: (1) Bond spreads are already very low - Spanish and Italian 10-year
bond yields are now c20bps below that of the US.
Peripheral banks moved in line with peripheral spreads
180

0.5

Periphery (Ita,Esp,Por), 2yrs ago=100

160

1.0

140

1.5

120

2.0

100

2.5

Peripheral utilities have performed better than what is implied by the

narrowing of peripheral spreads
0.3

Periphery (Ita,Esp,Por)/Core (Ger,Fra), 2yrs ago=100

135

Utilities
0.8

Peripheral 10y spread %, rhs ,inv

125

1.3

115

1.8
2.3

105

2.8

80

3.0

Peripheral banks rel

95
3.3

Peripheral 10y spread %, rhs ,inv

60
May-13

Nov-13

May-14

3.5
May-15

Nov-14

Peripheral Europe relative performance vs the core has

been in line with the performance of European banks
160

85
May-13

Nov-13

May-14

Nov-14

May-15

US 10-year yield is now above that of Italy

2.0

135

1.0
140

125

120

115

100

105

80

95

0.0
-1.0
-2.0
-3.0
US 10-yr less Italy 10-yr bond yield

-4.0
60

85

Euro area banks rel

40

20
2005

European periphery (IT, ES & PT)

versus core (BD & FR), rhs

2007

2009

2011

2013

2015

US 10-yr less Spain 10-yr bond yield

-5.0

75

-6.0

65

-7.0
1995

1998

2002

2005

2008

2012

2015

Source: Thomson Reuters, Credit Suisse research

Global Equity Strategy

17

(2) the periphery is expensive on 12m forward P/E relative to the core, (3) Relative earnings momentum
has rolled over and is now negative (4) From an index perspective, 30% of IBEX earnings is GEM related
(around 25% is LatAm - an area where we remain particularly negative because of the falling commodity
prices).

The periphery is expensive relative the core on 12m forward P/E

115%

Peripheral Europe ex financials 12m fwd P/E rel core

Earnings momentum in the periphery relative to the core has

rolled over sharply
45%

Average (+/- 1sd)

110%

35%

105%

25%

Peripheral Europe: 3-month earnings revisions rel core

15%

100%

5%

95%

-5%

90%

-15%

85%

-25%

80%

-35%

75%
1995

-45%
2001

1999

2003

2007

2011

2015

2003

2005

2007

2009

2011

2013

2015

Source: Thomson Reuters, Credit Suisse research

Global Equity Strategy

18

The equity market does not seem to be pricing in much Greek risk
premium
Implied volatility is trading at a discount to short-term realised
volatility, while it usually tends to be the opposite

The Euro Stoxx put skew is 2 std below average , indicating that
investors have not been buying protection on Euro Stoxx

Source: Thomson Reuters, Credit Suisse research

Global Equity Strategy

19

Greece is not a done deal

We see a risk of a disorderly outcome for the following reasons:

Signs of backtracking on reform (labour reforms, pension reforms, a 'restart the economy' law that permits overdue tax to be
paid in 100 instalments);
A loss of trust with the European partners (seeking to pass a law to deem the two bailouts as illegal, political rhetoric of
seeking Second World War reparations);
Recent opinion polls showing that twice as many Germans want Greece out of the euro than in it (which makes compromise
for Chancellor Merkel harder), with strong rhetoric from other peripheral countries and France that there should be no
compromise with Greece; The IMF has maintained a hard line in the negotiations;
The high popularity of Syriza (which is still at c45%), when a third of the party is on the far left and more open to a Grexit,
keeps the risk of a disorderly outcome still reasonably high, in our opinion.

Nonetheless, we think that a compromise is likely ultimately for the following reasons:

70% of the Greek population want to remain in the euro, according to recent polls. Thus if Greece were to have policies
inconsistent with being in the euro, we believe that there would be a referendum/election on whether to stay in the euro and
accept the new measures (and with it a probable change in the coalition);
Greece has a primary budget deficit without EU aid (there is little point defaulting if there is a primary budget deficit);
The loan to deposit ratio is already 120% and thus leaves the Greek banking system totally dependent on Emergency Liquidity
Assistance funding from the ECB (if Greece defaults, the ECB would likely cut off the banks from the ELA);
Despite approval ratings for the government still being high at c45%, they have fallen from more than 70% three months ago.
The more its popularity falls, the easier it may be for it to compromise (and take part in actions to avoid another election).
From a German perspective, the ECB and EFSF own 70% of Greek debt and if Greece left the Euro, there would be a default
on this debt.
There is potential geopolitical risk to the euro area from a Greek exit.
A 2-year Greek bond yield of 24% is at least discounting some of these risks.
Source: Credit Suisse research

Global Equity Strategy

20

Calendar of Greek repayments: 1.5bn IMF in June (June 5th, 12th, 16th and
19th) and 6.7bn ECB-held bonds in July/August (3.5bn in July 20th, 3.2bn in
August 20th)

Source: Credit Suisse European Economics Team

Global Equity Strategy

21

Companies Mentioned (Price as of 01-Jun-2015)

Credit Suisse provided investment banking services to the subject company (WHR.N, 000270.KS, ALVG.DE, ISP.MI) within the past 12 months.

Allianz SE (ALVG.DE, 142.6)

Hitachi (6501.T, 844)
Intesa Sanpaolo (ISP.MI, 3.28)
Kia Motor (000270.KS, W47,350)
Mediaset (MS.MI, 4.42)
Pirelli (PECI.MI, 15.51)
Prysmian (PRY.MI, 20.29)
Rai Way (RWAY.MI, 4.32)
UBI Banca (UBI.MI, 7.35)
Whirlpool (WHR.N, $186.96)

Credit Suisse provided non-investment banking services to the subject company (000270.KS, RWAY.MI) within the past 12 months
Credit Suisse has managed or co-managed a public offering of securities for the subject company (ISP.MI) within the past 12 months.
Credit Suisse has received investment banking related compensation from the subject company (WHR.N, 000270.KS, ALVG.DE, ISP.MI) within the
past 12 months
Credit Suisse expects to receive or intends to seek investment banking related compensation from the subject company (WHR.N, 6501.T, 000270.KS,
ALVG.DE, PRY.MI, ISP.MI, RWAY.MI, PECI.MI, MS.MI) within the next 3 months.
Credit Suisse has received compensation for products and services other than investment banking services from the subject company (000270.KS,
RWAY.MI) within the past 12 months

Disclosure Appendix

As of the date of this report, Credit Suisse makes a market in the following subject companies (WHR.N).

Important Global Disclosures

The analysts identified in this report each certify, with respect to the companies or securities that the individual analyzes, that (1) the views expressed in
this report accurately reflect his or her personal views about all of the subject companies and securities and (2) no part of his or her compensation was,
is or will be directly or indirectly related to the specific recommendations or views expressed in this report.
The analyst(s) responsible for preparing this research report received Compensation that is based upon various factors including Credit Suisse's total
revenues, a portion of which are generated by Credit Suisse's investment banking activities

As of the end of the preceding month, Credit Suisse beneficially own 1% or more of a class of common equity securities of (ALVG.DE, PRY.MI, UBI.MI,
PECI.MI).
For other important disclosures concerning companies featured in this report, including price charts, please visit the website at https://rave.creditsuisse.com/disclosures or call +1 (877) 291-2683.

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As of December 10, 2012 Analysts stock rating are defined as follows:

The analyst(s) involved in the preparation of this report have not visited the material operations of the subject company (WHR.N, 6501.T, 000270.KS,
ALVG.DE, PRY.MI, ISP.MI, RWAY.MI, UBI.MI, PECI.MI, MS.MI) within the past 12 months

Outperform (O) : The stocks total return is expected to outperform the relevant benchmark*over the next 12 months.
Neutral (N) : The stocks total return is expected to be in line with the relevant benchmark* over the next 12 months.

Restrictions on certain Canadian securities are indicated by the following abbreviations: NVS--Non-Voting shares; RVS--Restricted Voting Shares; SVS-Subordinate Voting Shares.

Underperform (U) : The stocks total return is expected to underperform the relevant benchmark* over the next 12 months.
*Relevant benchmark by region: As of 10th December 2012, Japanese ratings are based on a stocks total return relative to the analyst's coverage universe which
consists of all companies covered by the analyst within the relevant sector, with Outperforms representing the most attractiv e, Neutrals the less attractive, and
Underperforms the least attractive investment opportunities. As of 2nd October 2012, U.S. and Canadian as well as European ra tings are based on a stocks total return
relative to the analyst's coverage universe which consists of all companies covered by the analyst within the relevant sector, with Outperforms representing the most
attractive, Neutrals the less attractive, and Underperforms the least attractive investment opportunities. For Latin American and non-Japan Asia stocks, ratings are
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assigned where an ETR is greater than or equal to 7.5%; Underperform where an ETR less than or equal to 5%. A Neutral may be assign ed where the ETR is between 5% and 15%. The overlapping rating range allows analysts to assign a rating that puts ETR in the conte xt of associated risks. Prior to 18 May 2015, ETR ranges for
Outperform and Underperform ratings did not overlap with Neutral thresholds between 15% and 7.5%, which was in operation from 7 July 2011.

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Principal is not guaranteed in the case of equities because equity prices are variable.

Volatility Indicator [V] : A stock is defined as volatile if the stock price has moved up or down by 20% or more in a month in at least 8 of the past 24
months or the analyst expects significant volatility going forward.
Analysts sector weightings are distinct from analysts stock ratings and are based on the analysts expectations for the fundamentals and/or valuation of
the sector* relative to the groups historic fundamentals and/or valuation:
Overweight : The analysts expectation for the sectors fundamentals and/or valuation is favorable over the next 12 months.

For Credit Suisse Securities (Canada), Inc.'s policies and procedures regarding the dissemination of equity research, please visit https://www.creditsuisse.com/sites/disclaimers-ib/en/canada-research-policy.html.
The following disclosed European company/ies have estimates that comply with IFRS: (ALVG.DE, ISP.MI, MS.MI).
Credit Suisse has acted as lead manager or syndicate member in a public offering of securities for the subject company (ISP.MI, MS.MI) within the past
3 years.
As of the date of this report, Credit Suisse acts as a market maker or liquidity provider in the equities securities that are the subject of this report.
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FINRA. The non-U.S. research analysts listed below may not be associated persons of CSSU and therefore may not be subject to the NASD Rule 2711
and NYSE Rule 472 restrictions on communications with a subject company, public appearances and trading securities held by a research analyst
account.
Credit Suisse Securities (Europe) Limited.........Andrew Garthwaite ; Marina Pronina ; Robert Griffiths ; Yiagos Alexopoulos ; Nicolas Wylenzek

Market Weight : The analysts expectation for the sectors fundamentals and/or valuation is neutral over the next 12 months.

Important MSCI Disclosures

Underweight : The analysts expectation for the sectors fundamentals and/or valuation is cautious over the next 12 months.

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Credit Suisse's distribution of stock ratings (and banking clients) is:

Global Ratings Distribution

Rating

Versus universe (%)

Of which banking clients (%)

Outperform/Buy*
42%
(53% banking clients)
Neutral/Hold*
39%
(50% banking clients)
Underperform/Sell*
16%
(44% banking clients)
Restricted
3%
*For purposes of the NYSE and NASD ratings distribution disclosure requirements, our stock ratings of Outperform, Neutral, an d Underperform most closely correspond
to Buy, Hold, and Sell, respectively; however, the meanings are not the same, as our stock ratings are determined on a relative basis. (Please refer to definitions above.)
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institution other than Credit Suisse AG, or its affiliates, that financial institution is solely responsible for distribution. Clients of that institution should contact that institution to effect a transaction in the securities
mentioned in this report or require further information. This report does not constitute investment advice by Credit Suisse to the clients of the distributing financial institution, and neither Credit Suisse AG, its
affiliates, and their respective officers, directors and employees accept any liability whatsoever for any direct or consequential loss arising from their use of this report or its content. Principal is not guaranteed.
Commission is the commission rate or the amount agreed with a customer when setting up an account or at any time after that.
Copyright 2015 CREDIT SUISSE AG and/or its affiliates. All rights reserved.

Investment principal on bonds can be eroded depending on sale price or market price. In addition, there are bonds on which investment principal can be
eroded due to changes in redemption amounts. Care is required when investing in such instruments.
When you purchase non-listed Japanese fixed income securities (Japanese government bonds, Japanese municipal bonds, Japanese government guaranteed bonds, Japanese corporate bonds) from CS as a
seller, you will be requested to pay the purchase price only