>GOLD QUARTERLY REPORT SEPTEMBER 2009

EXECUTIVE SUMMARY
Gold, a symbol of wealth, has been traditionally considered as a hedge against inflation, mostly moving in tandem with rising inflation and inversely with the dollar. Gold bullion has been maintaining an upward trend with a phenomenal CAGR of more than 15 percent since 2001. It has gained for eight consecutive years as the decline in the dollar and increasing financial volatility boosted demand for the yellow metal.

The precious metal continued to glitter in the year 2009 with more than 18 percent surge in gold prices till-date. Dollar weakness and seasonal buying spurred up the demand for this yellow metal and resulting in, the bullion settled the quarter with 8.8 percent jump in the prices. This was the highest since the three month ended March 31, 2008. The dollar index, a measure of greenback against the world’s six-major, remained the driving force for gold prices. The gauge dropped 3.74 percent during this quarter, completing 7.24 percent decline till-September in the year 2009.

In regard to investment demand, assets held by exchange-traded funds backed by gold bullion jumped 55 percent in 2009 as the financial turmoil and inflation concerns boosted the metal’s appeal as an alternative investment. Holdings at the SPDR gold ETF have increased by 41 percent this year and climbed to a record-high in June.

Moreover, prices have shot up sharply in the last couple of months because key producers have been implementing a major de-hedging exercise. De-hedging involves a company buying back such “hedged” gold in expectation of price rises. With Barrick Gold Corp, the world’s largest gold producer, at the forefront of the move, the indication is that producers are accelerating the process of buying back hedges to get full exposure to the metal, in anticipation that prices will rise further.

HEADLINES
■ On 7th Oct 2009, gold prices made a record high of $1,049 levels during intra-day sessions.

■ On Sep 23, dollar index fell to 75.89 levels, close to one-year low.

■ The recently concluded G-20 Nations Summit acknowledged the recovery remains dependent on emergency government measures. The group of 20 will also avoid any premature withdrawals of stimulus which will further encourage investors to take on more risk. The G-20 leaders also paved the way to overhaul the banking industry. Going forward, the broader G-20 will supplant the Group of 8, a club of the most highly developed nations plus Russia.

■ The recent FOMC meet has concluded with keeping its benchmark interest rate intact at 0.25 percent.

■ IMF approved to sell 403.3 metric tons gold via market. China has shown its interest to buy gold from IMF as the country is increasingly investing in gold reserves to diversify its forex reserves.

■ Zimbabwe, once the third-largest gold producer in Africa, has also re-opened many of its gold-mines which could result in more than a quarter increases in its total production to 4.5 MT against 3.5 MT last year.

■ The G-20 nations won’t stop infusing liquidity into the system in the immediate future. They may call for reduction in international trade imbalances and help other currencies to rise.

■ The world’s largest gold producer, Barrick Gold Corp plans to record $5.6 billion in Q3 costs to eliminate fix-price contracts as the company bets that prices for the previous metal will climb.

■ The US president Barack Obama revised its trade deficit forecasts to $9.1 trillion between 2010 and 2019, in comparison with $7.108 trillion forecast earlier this year. In this response, the US plans to borrow an unprecedented $6.78 trillion to finance its burgeoning trade deficit.

■ Many countries are planning to reduce their reliance on dollar and diversify their foreign currency reserves. In this context, Russia and Brazil have already planned to buy $20 billion of bonds from the IMF, hence cutting their investments in US treasuries. Russia stands 3rd in terms of forex reserves with a whopping $413 billion, as on July 2009. The investments in dollar itself are valued at $140 billion. China plans to buy $50 billion and India may also announce similar funding.

To see the full report: GOLD

>Leverage – no longer a dirty word! (MACQUARIE RESEARCH)

Event
■ Corporate Asia is, arguably, undergeared. We identify companies that could see a significant ROE uplift over the course of the next cycle by taking on more debt.

Outlook
■ Scarred by the events of the 1997–98 Asian financial crisis, Asia’s CEOs have spent the last decade paying down debt. By the end of last year, net debt to equity had reached 27.2% in Asia, a fraction of the 65% it was at its peak in 1998 (see chart in grey column opposite).

■ This placed Asia in very good stead to weather the recent financial crisis. There were fewer corporate bankruptcies than there otherwise would have been, and the economic downturn was less severe than would have been the case had debt levels been higher. Equity markets would have also fallen even more than they did, as high-leverage companies were punished more than
low-leverage companies during the crisis.

■ But with the financial crisis now largely past, the benefits of low leverage are much diminished. Indeed, there is a strong argument that Asian corporates are underleveraged from an efficient balance sheet perspective. At 27.2%, the aggregate net debt to equity level is low by any standard, and, with two-thirds of the companies in our universe having an ROA that is above their effective interest rate (EIR), there are clearly many companies with the potential to
increase ROE by leveraging up their balance sheet.

■ The companies that have the greatest potential here are those where leverage is currently low and the financial incentive to take on debt is large (ie, the gap between ROA and the company’s EIR is significant).

To see the full report: ASIA STRATEGY

>Cash has left the building (MERRILL LYNCH)

■ Bullish on equities, but no euphoria
The October FMS shows equities remain in a sweet spot: investors believe double-dip risks are receding, inflation is distant and risk appetite is rising (to +44 from +40). But bullishness is still not euphoric: the equity overweight (+38%) is below danger levels (+50-55%), hedge fund’s net exposure remains low and investors remain stubbornly underweight global banks.

■ New highs for profit expectations
Two-thirds of investors view a double-dip recession as unlikely (vs. 47% last month). But two thirds also expect growth and inflation to be "below-trend". With inflation and interest rates low, a net 72% expect higher corporate profits, the most bullish reading on profits since December 2003.

■ Cash has left the building
The lack of a September correction (and perhaps also large corporate issuance) has forced investors to sharply cut cash balances from 4.1% in September to 3.7% in October. Asset allocators cut cash to 7% UW, the lowest cash allocation in 5 years. This benefited equities: the net % OW rose from 27% to +38%.

■ Europe rising from the ashes
Investors remain OW Emerging Markets. But Europe is the favoured developed market. 11% of asset allocators are OW, a massive shift from -40% in March. A net 30% of global PMs view EU as the most undervalued region. In contrast, panellists are giving up on Japan fuelled by perception of ¥ overvaluation.

■ Investors are still UW global banks
Despite strong performance in recent months investors turned more bearish on global banks in October. Technology remains the favoured global sector; while positioning in energy, industrials and materials all increased at the expense of consumer sectors, with discretionary now the least loved global sector.

■ Dollar sentiment cracks but yet to plumb '08 lows
A net 20% of investors see the $ as undervalued, a sharp drop from September but a long way from the 50% undervalued readings of spring 2008. In contrast readings on yen overvaluation are extreme by historic standards and suggest Bank of Japan currency intervention would have some success.

■ Pain trades galore
For uber-contrarians the October FMS offers the following trades: long T-bills, short EM equities; long Japan, short EM or EU equities; long consumer disc., short materials; long utilities, short tech; long UK, short EU equities.

To read the full report: MANAGER SURVEY

>Asian Equity Funds The Unloved Ones (CITI)

■ Foreign liquidity remains buoyant but Asian dedicated equity funds not benefiting — Inflows to EM and Global/International equity funds continued running at billions of dollars for the fifth week since September, yet Asian funds reported outflows. Based on the 1,000 Asian funds tracked by EPFR on a weekly basis, flows turned marginally negative last week to US$37m of outflows compared with small inflows of US$59m two weeks ago.

■ YTD net inflows to Asian funds total US$14b — This covers 71% of the money redeemed in 2008 and contrasts to US$20.4b of fresh money to GEM funds, which is 2.2x last year’s outflows. GEM funds continue to be liked by foreign investors and new money taken in last week remained US$1b+ vs. an initial sign of weakening inflows to Global/International funds (halved for two consecutive weeks to less than US$500m last week). Pacific funds saw inflows for the first time in five weeks after the RBA surprised by raising interest rates on Tuesday.

■ Out of Greater China into India, Korea and TIP — Outflows from China, Hong Kong, Taiwan and Greater China regional funds added up to US$366m last week. By contrast, inflows to India, Indonesia, Korea and Thailand totaled US$304m, the largest in ten weeks. Relative to the size of assets under management (AUM), inflows to Thailand and Indonesia were the strongest, representing 12%-13% of corresponding AUM vs. 0.5% for India funds where inflows were the biggest in dollar amounts.

To see the full report: FUN WITH FLOWS

>ASIAN OIL & PETROCHEMICALS (MACQUARIE RESEARCH)

Slow demand put pressure on margin

Event
■ Last week, the Asian oil refining margin continued to decline while petrochemical margins were mixed.

Impact
■ Asian gross refining margins keeps sliding: Last week, the Singapore gross refining margin (GRM) continued its decline to US$1.40, down 29% WoW. Gasoline margin dropped 11% on weak demand and a 3mbl jump in US inventory. Diesel and kerosene margins declined 22% and 10%, respectively, as inventories of middle distillates increased 865,000bbl to a record 15.4mbl in Singapore. The negative fuel oil spread continued to widen as demand switch from gasoline to fuel oil is delayed by record distillate inventories.

■ Asian producers reducing operating rate amid sluggish demands: Ethylene and propylene margins continue to be squeezed on sluggish demand and dwindling buying interest from the poor downstream market. Already, Asian crackers are cutting October production to cope with the low margins. In Japan, Mitsui Chemicals, Sanyo Petrochemical and Sumitomo Chemical said they would run crackers at below 90%. In Taiwan, CPC Taiwan may run its three crackers around 90%, and Formosa Petrochemical may reduce its Miliao crackers operating rates to 90%. In Korea, KPIC and Honam were reported to have reduced their cracker operating rate to 85–90%.

■ Petrochemical margins continue to weaken: Spreads continue to weaken for downstream products, as demand was thin during China’s October holiday last week. PE and PP spreads shrank 2.6% and 2.7%, respectively. PX spread improved 8.1%. However, pressure from new capacity addition remains, as Shanghai Petrochemical’s 600ktpa PX plant has kicked off production last week. ABS spreads slid 3% on sustained slow buying activity. The market is hoping that Christmas demand for toys and electrical applicants would stimulate demand for ABS.

Outlook
■ In the Taiwan space, the weak refining margins and reduction of operating rate confirms our Underperform rating on FCFC and FPCC. We reiterate our Outperform rating on Nan Ya Plastics with emphasis on the benefit from its Tech portfolio. Its performance during the past month continues to stand out from the regional peers.

■ Last week's margin decline confirms our cautious view on the Korean oil refining and petrochemical sector. Earnings season will kick off starting from 13 October (Tuesday this week) with LG Chem. We believe Korean oil refining and petrochemical companies earnings should generally improve QoQ but think most of positives are already in the share prices. We think investors will more focus on 4Q outlook as margins are continuously declining from September, and expect the profit-taking to continue after the earnings releases. We expect Korean oil refining and petrochemical stocks to remain under downward pressure during 4Q.

To see the full report: ASIAN OIL & PETROCHEMICALS