Sectors

The financial sector is regaining some momentum after this year's consolidation, and the S&P asset management and custody bank (AMCB) index has the potential to take a leadership role. AMCB remains one of the most undervalued of all the financial sector groups, even though its main profit drivers are experiencing a synchronized improvement. There is a budding shift from bond to equity products, which should gather steam based on the steady improvement in global economic sentiment, as measured by the stock-to-bond ratio (second panel). The latter is already supporting strong M&A activity and a surge in margin debt to new highs. Both of these factors suggest that AMCB earnings drivers are accelerating. The bottom line is that the undervalued AMCB index has significant catch-up potential, especially if interest rate expectations stabilize near current levels. Stay overweight. The ticker symbols for the stocks in the S&P asset manager & custody banks index are: BLBG: S5AMGT-BK, BLK, STT, AMP, NTRS, TROW, BEN, IVZ, AMG. Asset Managers Are Due For A Catch Up Phase Asset Managers Are Due For A Catch Up Phase

Highlights Portfolio Strategy The consumer staples recovery is sales-driven, underscoring that additional outperformance lies ahead. The lagging hypermarkets and retail food industries are starting to play catch up, reflecting a shift in consumer spending patterns. Use the drubbing in air freight shares to upgrade to overweight. Recent Changes S&P Air Freight & Logistics - Upgrade to overweight from neutral. Table 1Sector Performance Returns (%) Pricing Power Comeback Pricing Power Comeback Feature Equities caught a bid last week, after holding at the bottom end of their tactical trading range. The overall consolidation phase likely has further to run, but should ultimately be resolved in a positive fashion. Chart 1Ongoing Margin Expansion Ongoing Margin Expansion Ongoing Margin Expansion Real economic performance continues to lag relative to exuberant 'soft' economic survey data, while the odds of meaningful pro-cyclical U.S. fiscal largesse fade. Inflation expectations are softening as commodity prices dip, while the yield curve is narrowing. These factors are likely to sustain ambiguity about the durability and strength of the expansion. But in the background, the corporate sector continues to heal slowly, aided by the hiatus in the U.S. dollar bull market. The latter is enabling some corporate pricing power revival. Our pricing power diffusion index has surged alongside our pricing power proxy (Chart 1, second panel). The broadening of selling price inflation bodes well for the sustainability of corporate sector pricing power gains. We have updated our industry group pricing power gauges (see Table 2), comprising the respective CPI, PPI, PCE and commodity year-over-year changes for 60 industry groups. The table details the most recent annual and 3-month pricing power trends and each industry's spread to overall inflation in order to identify potential profit winners and losers. Our analysis reveals that ¾ of the industries tracked are experiencing rising selling prices, and half are also besting overall inflation rates. Only 14 of 60 industries are in outright deflation, versus 19 in January and 23 last September. Importantly, 31 of 60 industry groups are enjoying a rising pricing trend, a 50% increase from last quarter, 9 are moving laterally and only 20 are fading. The implication is that upward momentum in pricing power is gathering steam. Importantly, the rate of selling price inflation is outpacing wage bill growth, which heralds some incremental near-term torque for profit margins (Chart 1, bottom panel). Are there any themes of note? Cyclical sectors continue to dominate the table with energy and materials taking the top two spots, although recent corrective action in the commodity pits suggests that these gains may peter out. The technology sector is a notable exception within deep cyclicals, as most tech sub-groups still have to slash prices (Table 2). Early cyclicals (or interest rate-sensitives) also show strength, with banks, insurers, and media-related groups managing to lift selling prices at a decent rate. Select defensives like health care and utilities are expanding pricing power, but the overall consumer staples and telecom services sectors are lagging. Table 2Industry Group Pricing Power Pricing Power Comeback Pricing Power Comeback Adding it all up, there are tentative signs that the profit advantage may be starting to slowly shift away from defensives. In that light, we are closely monitoring several factors that could expedite a transition to a more balanced portfolio from our current defensive bias. First, the gap between hard and soft data remains unusually wide (Chart 2). The longer hard data takes to play catch up, the less likely the Fed will be re-priced more aggressively. History shows that until this gap narrows, defensive sectors are likely to retain the upper hand in terms of relative performance (Chart 2), while financials could continue to languish owing to uncertainty about the path of future Fed policy. Second, commodity prices and the U.S. dollar - especially versus emerging market (EM) currencies - are still signaling that the cyclical/defensive ratio has more downside (Chart 3). Finally, within the context of the current broad equity market consolidation, it should continue to pay to remain with a defensive over cyclical portfolio tilt for a little while longer (Chart 4, top panel). Chart 2The Gap ##br##Is Closing The Gap Is Closing The Gap Is Closing Chart 3Monitoring The U.S. ##br##Dollar And Commodities1 Monitoring The U.S. Dollar And Commodities Monitoring The U.S. Dollar And Commodities Chart 4Stick With Defensives##br## For A While Longer Stick With Defensives For A While Longer Stick With Defensives For A While Longer Nevertheless, we will likely use this phase to make additional portfolio adjustments. The wide gap between emerging/developing markets performance and the cyclical/defensive share price ratio has narrowed significantly year-to-date, suggesting that defensive outperformance may be in the late stages. In sum, equity markets are in a transition phase and we are further tweaking our intra-industrials positioning after using recent underperformance to upgrade to neutral. We are also updating our high-conviction consumer staples view, and two unloved staples sub-groups. The Consumer Staples Sector Remains Appealing As part of this year's defensive sector leadership, the consumer staples sector has confounded its critics and registered a solid year-to-date relative performance gain. We expect additional near-term upside on the back of both internal and external drivers. Consumer staples companies are enjoying a revenue renaissance. Domestically, non-discretionary retail sales are gaining market share from discretionary outlays (Chart 5), reflecting consumers structurally ingrained propensity to save vs. spend since the financial crisis. Even exports are contributing to rising revenues, despite the U.S. dollar's appreciation (Chart 5). Easing monetary conditions in the emerging markets are underpinning domestic demand, benefiting U.S. staples exporters. Improving demand and cost containment are boosting operating profit margins (Chart 5, fourth panel). This should ensure that the sector continues to register meaningful free cash flow growth, a refreshing difference with the overall corporate sector. Meanwhile, external factors also point to a further relative performance recovery. The bond-to-stock ratio is joined at the hip with relative performance momentum, and a mean reversion phase is unfolding (Chart 6). Geopolitical uncertainty, the risk of a cooling in economic momentum following the downturn in the Economic Surprise Index could fuel flows into this non-cyclical sector. Chart 5Domestic And International##br## Positive Demand Drivers Domestic And International Positive Demand Drivers Domestic And International Positive Demand Drivers Chart 6Financial Variables ##br##Reinforce Staples Bid Financial Variables Reinforce Staples Bid Financial Variables Reinforce Staples Bid There is both valuation and technical motivation for capital inflows. Chart 6 shows that our Technical Indicator has troughed near one standard deviation below the historical mean. Every time this has occurred in the last decade, a sizable relative share price recovery has ensued. There are no valuation roadblocks, countering the assertion that defensive sectors are all overvalued in relative terms (Chart 6). As a result, this sector remains a high-conviction overweight, especially with two previous lagging groups now exhibiting signs of a recovery. Hypermarket Green-Shoots The hypermarkets industry is sprouting a number of green-shoots that should further propel the recent advance in relative share price performance. The industry is enjoying profit margin support on two fronts. Import prices are still deflating (Chart 7), and the nascent rebuilding in Asian manufacturing inventories suggests that pricing pressure will persist. On the revenue front, Wal-Mart recently noted that store traffic continues to improve, albeit aided by discounting. A tight labor market is supporting aggregate wage growth, especially those in lower income brackets, which is supportive of total hypermarkets sales. Importantly, the need to slash prices to attract more customers should abate courtesy of improving demand. The overall retail sales price deflator has climbed into positive territory. Hypermarket sales growth is highly correlated with overall retail selling price inflation (Chart 8). Chart 7Input Costs Will Remain Contained Input Costs Will Remain Contained Input Costs Will Remain Contained Chart 8Low Profit Hurdle Low Profit Hurdle Low Profit Hurdle At least some of the improvement in pricing power reflects an easing in food industry deflation, which implies that the intensity of price wars with food retailers will diminish. Total outlays on food and beverages are climbing as a share of total consumer spending after falling for six consecutive years (Chart 8). These elements are captured by our hypermarkets earnings pressure gauge, which is signaling a rosier sales and EPS growth backdrop (Chart 8, fourth panel). If the border adjustment tax continues to lose momentum, the risk premium for this group should narrow. Food Retailers Are Down, But Not Out Elsewhere, the drubbing in food retailers looks overdone. The relative share price ratio is at a multi-decade low. Investor fears have concentrated on industry selling price deflation, which has weighed on already razor thin profit margins. Nevertheless, a turnaround is afoot, and we would lean against extreme bearishness. As noted previously, consumer spending on food and beverages are gaining a foothold relative to overall outlays. That is supporting a reacceleration in grocery store same-store sales. With the unemployment rate this low, wage inflation is expected to sustain recent gains. Rising incomes are synonymous with higher consumer spending power. Thus, the rebound in industry sales has more upside (Chart 9). The upshot of consumers' increased food appetite is that the food CPI is exiting deflation (Chart 10). That should go a long way in allaying investor profit margin concerns. Chart 9Buy The Wash ##br##Out In Food Retailers... Buy The Wash Out In Food Retailers... Buy The Wash Out In Food Retailers... Chart 10...Because The Deflation##br## Threat Is Diminishing ...Because The Deflation Threat Is Diminishing ...Because The Deflation Threat Is Diminishing Previous pricing pressure forced grocers to refocus on productivity. The industry's total wage bill has cooled significantly. Our productivity proxy, defined as sales/employee, is accelerating, hitting growth rates last seen more than five years ago, when share prices were trading at much higher valuations (Chart 10). Bottom Line: We reiterate our overweight stance both in the S&P hypermarkets and the compellingly valued S&P food retail index. The ticker symbols for the stocks in these indexes are: WMT, COST and KR, WFM, respectively. Air Freight Stocks Will Spread Their Wings The sell-off in transportation stocks has progressed to the point where pockets of value are materializing. Specifically, air freight and logistics stocks have been pummeled, trading down to the bottom of their post-GFC trading range (Chart 11). This is a playable opportunity. Relative performance has returned to levels first reached in the depths of the GFC. Bears have pushed valuations and technical conditions to extremely washed out levels. Both the forward P/E and price-to-sales ratios have collapsed, trading significantly below their historical means and at a steep discount to the S&P 500 (Chart 11). To be sure, a number of forces have fueled the selling. Industry activity is running below capacity, as evidenced by weakness in industry average weekly hours worked (Chart 11). The loss of momentum in internet sales compared with bricks and mortar retail sales may be causing some concern about the pace of future land deliveries (Chart 11). Walmart's news that it is offering an in-store pick up option for online orders has also spooled investors. Amazon's push for its own delivery service is a longer-term yellow flag. Nevertheless, deeply discounted valuations and depressed earnings growth expectations imply that these drags are already reflected in prices. In fact, more recently analysts have pushed the net earnings revision ratio back into positive territory. We expect additional upside as global trade improves. While we were concerned about global trade last November when we downgraded to neutral, there is more evidence now that global revenue ton miles will reaccelerate. The surge in BCA's boom/bust indicator and advance in the business sales-to-inventories (S/I) ratio are both signaling that global trade will continue to recover (Chart 12). The sustainability of the S/I improvement looks solid. The global manufacturing PMI has shot higher on the back of a synchronized developed and emerging market final demand improvement, which heralds accelerating global export volumes (Chart 12). hiatus in the U.S. dollar bull market has also provided much needed reflationary relief to the emerging world. We expect these global forces to overwhelm recent domestic freight demand concerns. Importantly, global exports have been positively correlated with air freight pricing power and the current message is to expect price hikes to stick (Chart 13, third and fourth panels). Keep in mind that air freight companies typically command greater pricing power when the supply chain is lean and lead times begin to lengthen, because companies will pay up to ensure product/parts availability. Chart 11Grim News Is Well Discounted Grim News Is Well Discounted Grim News Is Well Discounted Chart 12Recovering Global Trade... Recovering Global Trade... Recovering Global Trade... Chart 13...Is A Boon To Air Freight Pricing Power ...Is A Boon To Air Freight Pricing Power ...Is A Boon To Air Freight Pricing Power In sum, a durable recovery in global trade should ignite an earnings led relative outperformance phase in the S&P air freight & logistics index. Bottom Line: Boost exposure to overweight in the S&P air freight & logistics sub-group. The ticker symbols for the stocks in this index are: BLBG: S5AIRFX - UPS, FDX, CHRW, EXPD. Current Recommendations Current Trades Size And Style Views Favor small over large caps and stay neutral growth over value.

Bank stocks have been under pressure for the past six weeks, undermined by uninspiring bank earnings, a flattening yield curve and jump in global geopolitical uncertainty. As the Economic Surprise Index mean reverts, commodity prices correct and inflation expectations ease, there could be some additional near-term underperformance risk. Nevertheless, improving value should eventually lead to a buying opportunity. U.S. banks are adequately capitalized owing to the Fed's strict supervision, non-performing loans are at cycle lows and charge-offs remain muted. If the jump in animal spirits begins to lift real economic activity later this year, capital demands could finally break out of their slump and reinvigorate moribund loan demand. We remain underweight, but will look for buying opportunities. The S&P banks index is now on upgrade alert. The ticker symbols for the stocks in the S&P banks index are: BLBG: S5BANKX - WFC, JPM, BAC, C, USB, PNC, BBT, STI, MTB, FITB, CFG, RF, KEY, HBAN, CMA, ZION, PBCT. Is The Bank Correction Almost Over? Is The Bank Correction Almost Over?

Utilities stocks are gathering pace relative to the broad market, and there are good odds that the sector will break above key resistance at its 40-week moving average. The Economic Surprise Index is starting to roll over (shown inverted, top panel), which is putting a solid bid under the Treasury market. 10-year yields have additional downside as inflation expectations decelerate, given the valuation starting point. History shows that forward utilities returns are strong when Treasury yields retreat from undervalued levels. Importantly, sector pricing power has surged as a consequence of increased output, an upturn in utilization rates and stronger natural gas prices. We reiterate our recent upgrade to a tactical overweight stance. Utilities Are Charging Ahead Utilities Are Charging Ahead

Highlights The July 2016 to January 2017 doubling of the global bond yield was possibly the sharpest ever 6-month spike in modern economic history. Its toll is a global growth pause - evidenced by the post February 2017 synchronized retracement of bond yields, commodity prices, steel production, and cyclical equity prices. Until bank credit flows stabilize, stay cyclically overweight bonds - especially T-bonds... ...and stay underweight bank equities, but overweight real estate equities. Fade any knee-jerk move in the CAC40 after the French Presidential Election first round result. Feature Since February, world bond yields have edged down in synchronized fashion; commodity prices - including the global bellwether Dr. Copper - have fallen together (Chart I-2); global steel production has suffered an abrupt reversal; and cyclical sectors in the stock market have rolled over (Chart I-3). Chart of the WeekSharpest Proportionate Change In Bond Yields... Ever? Sharpest Proportionate Change In Bond Yields... Ever? Sharpest Proportionate Change In Bond Yields... Ever? Chart I-2Compelling Evidence Of A Global Growth Pause: ##br##Bond Yields And Commodity Prices Have Rolled Over Compelling Evidence Of A Global Growth Pause: Bond Yields And Commodity Prices Have Rolled Over Compelling Evidence Of A Global Growth Pause: Bond Yields And Commodity Prices Have Rolled Over Chart I-3Steel Production And Cyclical Equity##br## Sectors Have Rolled Over Too Steel Production And Cyclical Equity Sectors Have Rolled Over Too Steel Production And Cyclical Equity Sectors Have Rolled Over Too For us, the synchronized decline in the four separate indicators - bond yields, commodity prices, steel production, and cyclical equity prices - can mean only one thing: a global growth pause. The Largest Proportionate Increase In Bond Yields Ever... To make sense of what is happening, let's ask a simple but crucial question. If interest rates go up, from say 1% to 2%, is it the absolute increase - of 1% - that matters more for the economy, or is it the proportionate increase - a doubling - that matters more? We ask this simple question because the 0.75% absolute increase in the global government bond yield through July 2016 to January 2017 amounted to one of the sharpest rises in the past decade (Chart I-4). But when it comes to the proportionate increase, the doubling of the global yield in 6 months was the sharpest spike in at least 70 years, and quite possibly the sharpest 6-month spike ever in economic history! (Chart I-5 and Chart of the Week). Chart I-4A Sharp Absolute Spike In ##br##Global Bond Yields... A Sharp Absolute Spike In Global Bond Yields... A Sharp Absolute Spike In Global Bond Yields... Chart I-5...But An Extremely Sharp ##br##Proportionate Spike ...But An Extremely Sharp Proportionate Spike ...But An Extremely Sharp Proportionate Spike Anybody with a mortgage knows that it is not the absolute change in the mortgage rate that matters for your budget; it is the proportionate change that matters. A 1% rise in rates hurts much less when rates start high than when they start low. One way to see this is that to note that a 1% spike in U.K. bond yields over six months was extremely common in the 1970s and 80s - when the level of yields was already high. But outside this era of high nominal numbers, a 1% yield spike over six months is almost unheard of (Chart I-6 and Chart I-7). Chart I-6A 1% Rise In Bond Yields Over Six Months Was Very Common In The 70s And 80s A 1% Rise In Bond Yields Over Six Months Was Very Common In The 70s And 80s A 1% Rise In Bond Yields Over Six Months Was Very Common In The 70s And 80s Chart I-7But Today A 1% Rise Equates To An Extreme Proportionate Increase But Today A 1% Rise Equates To An Extreme Proportionate Increase But Today A 1% Rise Equates To An Extreme Proportionate Increase Some people might counter that interest payments are just a transfer from borrowers to savers. For every borrower who complains at a doubling of his interest outlays, there is a mirror-image saver who rejoices at a doubling of his interest income. But understand that higher interest rates do not just redistribute spending power from borrowers to savers. The much more important economic effect almost always comes from the impact on bank lending. Fractional reserve banking allows banks to create money out of thin air. When a bank issues a new loan, the borrower's spending power instantaneously goes up, but there is no equal and opposite saver whose spending power goes down. ...Takes Its Toll On Bank Lending Our thesis is that the change in bank lending depends on the proportionate change in long-term interest rates. If long-term rates rise by, say, 1% then a certain proportion of investment projects will suddenly become unprofitable. Firms (and households) would stop borrowing for such projects, and the drop in borrowing would equal the proportion of projects impacted. It should be clear that the distribution of investment project returns is much wider in an era of high nominal numbers when interest rates are, say, 10% than in an era of low nominal numbers when interest rates are, say, 1%. So the impact on borrowing of a 1% rise in rates is much less when rates are high - as they were in the 1970s and 80s - than when rates are low - as they are today. In other words, the impact depends on the proportionate increase in interest rates. And this explains why a 1% spike in U.K. bond yields over six months was extremely common in the 1970s and 80s, but is almost unheard of now. Some commentators point out that working in the other direction are so-called "animal spirits" - increased optimism about the future and the returns that all investment projects will generate. But as we explained in Credit Slumps While Animal Spirits Soar, Why? 1 the greatest proportionate 6-month increase in global bond yields for at least 70 years has understandably trumped these putative animal spirits. Bank credit flows have slumped. In practice, changes in borrowing can take 3-6 months to impact spending. For this reason, we tend to monitor the change in the credit flow in the last 6 months versus the preceding 6 months. Recently, this global 6-month credit impulse has headed sharply lower (Chart I-8). Chart I-8The Global 6-Month Credit Impulse Has Headed Sharply Lower The Global 6-Month Credit Impulse Has Headed Sharply Lower The Global 6-Month Credit Impulse Has Headed Sharply Lower Putting this all together, the sharpest spike in global bond yields in living memory has taken an understandable toll on bank credit creation and the global 6-month credit impulse. In turn, the slump in the credit impulse is now weighing on the global growth mini-cycle - as signaled by the synchronized retracement in bond yields, commodity prices, steel production and cyclical equity performance. The evidence compellingly suggests that we are two months into a global growth pause. But mini down-cycles tend to last, on average, about six months. So for the time being, and at least until bank credit flows stabilize, own bonds - especially T-bonds - and avoid cyclical equity exposure. Furthermore, as we presciently argued in our February 16 report The Contrarian Case For Bonds, when bond yields decline, bank equities are losers and real estate equities are winners. These arguments still hold. A Brief Comment On Upcoming Elections: France And The U.K. Ahead of the French Presidential Election first round on April 23, we would like to remind readers of two facts. First, the CAC40, like most mainstream European equity indexes, is a collection of large multinational companies. As such, it is not a play on French economics or politics. Indeed, compared to other European indexes, the CAC40 underexposure to banks actually makes it one of the more defensive European equity indexes. Given the loose connection between the index and domestic economics and politics, fade any knee-jerk move that happens after the first round result: sell any relative rally; buy any relative dip. Second, euro area sovereign credit spreads must ultimately relate to the relative competitiveness of their national economies, as this is what would determine the size and direction of redenomination were the euro to break up. In this regard, there is now no difference in competitiveness between France and Spain (Chart I-9), yet Bonos still yield more than OATs. So for long-term investors, it is still right to be long Spanish Bonos versus French OATs. Chart I-9France And Spain Have Converged On Competitiveness France And Spain Have Converged On Competitiveness France And Spain Have Converged On Competitiveness We will wait until the more important second round vote on May 7 to present a more detailed assessment of the impact of French politics on the European economic and investment landscape. Lastly, a quick comment on the likely snap U.K. General Election on June 8: the conventional wisdom states that U.K. politics will drive the type of Brexit; and the type of Brexit will drive the long-term destiny of the U.K. economy. But for us, the causality runs the other way round. The U.K. economy will drive the type of Brexit - the weaker the economy gets, the softer that Brexit will get (and vice-versa); and the type of Brexit will drive the long-term destiny of U.K. politics. Therefore, for us, the General Election does not appear to be a game changer - unless it delivers a shock result. I am on holiday right now, so I will cover this topic in more depth on my return next week. Dhaval Joshi, Senior Vice President European Investment Strategy dhaval@bcaresearch.com 1 Published on March 30, 207 and available at eis.bcaresearch.com Fractal Trading Model There are no new trades this week, but all three open positions are now in profit, having produced classic liquidity-triggered trend reversals. For any investment, excessive trend following and groupthink can reach a natural point of instability, at which point the established trend is highly likely to break down with or without an external catalyst. An early warning sign is the investment's fractal dimension approaching its natural lower bound. Encouragingly, this trigger has consistently identified countertrend moves of various magnitudes across all asset classes. Chart I-10 Short Basic Materials Equities Short Basic Materials Equities * For more details please see the European Investment Strategy Special Report "Fractals, Liquidity & A Trading Model," dated December 11, 2014, available at eis.bcaresearch.com The post-June 9, 2016 fractal trading model rules are: When the fractal dimension approaches the lower limit after an investment has been in an established trend it is a potential trigger for a liquidity-triggered trend reversal. Therefore, open a countertrend position. The profit target is a one-third reversal of the preceding 13-week move. Apply a symmetrical stop-loss. Close the position at the profit target or stop-loss. Otherwise close the position after 13 weeks. Use the position size multiple to control risk. The position size will be smaller for more risky positions. Fractal Trading Model Recommendations Equities Bond & Interest Rates Currency & Other Positions Closed Fractal Trades Trades Closed Trades Asset Performance Currency & Bond Equity Sector Country Equity Indicators Bond Yields Chart II-1Indicators To Watch - Bond Yields Indicators To Watch - Bond Yields Indicators To Watch - Bond Yields Chart II-2Indicators To Watch - Bond Yields Indicators To Watch - Bond Yields Indicators To Watch - Bond Yields Chart II-3Indicators To Watch - Bond Yields Indicators To Watch - Bond Yields Indicators To Watch - Bond Yields Chart II-4Indicators To Watch - Bond Yields Indicators To Watch - Bond Yields Indicators To Watch - Bond Yields Interest Rate Chart II-5Indicators To Watch##br## - Interest Rate Expectations Indicators To Watch - Interest Rate Expectations Indicators To Watch - Interest Rate Expectations Chart II-6Indicators To Watch##br## - Interest Rate Expectations Indicators To Watch - Interest Rate Expectations Indicators To Watch - Interest Rate Expectations Chart II-7Indicators To Watch##br## - Interest Rate Expectations Indicators To Watch - Interest Rate Expectations Indicators To Watch - Interest Rate Expectations Chart II-8Indicators To Watch##br## - Interest Rate Expectations Indicators To Watch - Interest Rate Expectations Indicators To Watch - Interest Rate Expectations

The S&P managed care index is poised to break out to new, sustainable, all-time relative performance highs. The impetus behind upward momentum is fundamentally-driven. United Health raised its full year guidance, a trend that could spread through the industry if our indicators are a good guide. Many companies are exiting unprofitable business lines, most notably health care exchanges, while those remaining are experiencing a meaningful reduction in cost inflation. Indeed, our managed care cost proxy has plunged, reflecting a broad-based easing in both goods and services costs. This indicator suggests that the medical loss ratio will remain low. Importantly, consumers are gradually allocating fewer dollars to health care outlays, which signals that the payers of health care services (such as insurers) are at an earnings advantage compared to the providers of these services (such as hospitals). When relative spending accelerates, managed care lags, and decelerations/contractions tend to coincide with share price strength. Against this backdrop, a profit-led relative performance breakout is in the offing for the S&P managed care index. Stay overweight. The ticker symbols for the stocks in this index are: BLBG: S5MANH - UNH, AET, ANTM, CI, HUM, CNC. Managed Care Is The Right Portfolio Tonic Managed Care Is The Right Portfolio Tonic

Highlights Portfolio Strategy Operating leverage could surprise on the strong side this year, based on the message from our pricing power and wage growth indicators. REITs are experiencing a playable recovery following the Fed-induced sell-off earlier this year, and overweight positions will continue to pay off. Energy services activity is set to steadily accelerate this year, powering an earnings-led share price outperformance phase. Recent Changes There are no changes to our portfolio this week. Table 1 Operating Leverage To The Rescue? Operating Leverage To The Rescue? Feature Volatility has climbed to the highest level since the U.S. election, signaling that the broad market is not yet out of the woods. As stocks recalibrate to a cooling in economic growth momentum and an escalation in geopolitical threats, downside risks should be reasonably contained by mounting signs of a healthier corporate sector. Last week we posited that stronger top line revenue growth is necessary to sustain the profit upcycle, and provide justification for historically rich valuations. Chart 1 shows sales and EPS growth over the long-term. Chart 1Joined At The Hip Joined At The Hip Joined At The Hip Obviously, the two move closely together, with earnings enjoying more powerful growth phases when revenue accelerates. Since 1960, regression analysis shows that operating leverage for the S&P 500's is 1.4X. In other words, a 5% increase in sales growth typically leads to 7% EPS growth. When sales are initially recovering from a deep slump operating leverage can be even higher, with earnings often rising two to three times as fast as revenue. Clearly, that is not sustainable, but can give the illusion of powerful and sustained growth for brief periods of time. At the current juncture, there are reasons to expect investors to embrace the durability of the profit expansion. Our corporate pricing power proxy has vaulted higher. Importantly, the breadth of this surge has been impressive, which bodes well for its staying power (Chart 2, second panel). On the flip side, rising labor costs look set to take a breather. Compensation growth has crested, and according to our diffusion index, fewer than half of the 18 industries tracked have higher wages than last year. The wage growth diffusion index provides a reliable leading indication for the trend in labor expenses. In other words, pricing power is rising on a broad basis while wage inflation is decelerating on a broad basis. Consequently, there are decent odds that resilient forward operating margin expectations can be matched (Chart 2, bottom panel). Elsewhere, a revival in animal spirits, the potential for easier fiscal policy and prospects for a hiatus in the U.S. dollar bull market bode well for brisk business activity. While the budding recovery in global trade could sputter if protectionism proliferates, our working assumption is that the U.S. Administrations' bark will be worse than its bite. Thus, a self-reinforcing sales and profit upcycle could be materializing. The objective message from our S&P 500 EPS model concurs (Chart 3), underscoring that high single digit/low double digit profit growth could be broadly perceived as attainable this year. Chart 2Profit Margins Can Expand Profit Margins Can Expand Profit Margins Can Expand Chart 3Few Sectors Control The Fate Of S&P 500 EPS Few Sectors Control The Fate Of S&P500 EPS Few Sectors Control The Fate Of S&P500 EPS True, our model has recently shown tentative signs of cresting, but difficult comparisons will only arise later this year. Indeed, Q3 and Q4 2016 were all-time high EPS numbers, implying that 12% estimated growth rates are a tall order (Chart 3, middle panel). Importantly, dissecting the profit growth sectorial contribution is instructive. Calendar 2017 over 2016 S&P 500 earnings growth is concentrated in four sectors: tech, energy, health care and financials comprise over 87% of the incremental profit growth expected (Chart 3, bottom panel). The upshot is that there is a high degree of concentration risk to fulfilling overall profit growth expectations. Energy profits are wholly dependent on the oil price, and financial sector profit optimism appears to have embedded a healthy increase in both interest rates and capital markets activity. In addition, tech sector earnings are heavily influenced by the U.S. dollar. Consequently, it will be critical for monetary conditions to stay loose, otherwise estimates will be at risk of downward revisions. Adding it up, the corporate sector sales pendulum is finally swinging in a positive direction, which should support the cyclical overshoot in stocks for a while longer, notwithstanding our expectation that the current corrective phase has further to run. This week we are updating our high-conviction overweight views on both the lagging energy services index and REIT sector. Revisiting REITs REITs have staged a mini V-shaped rebound after being punished alongside rising bond yields and worries about aggressive Fed rate hikes earlier this year. As outlined in recent Weekly Reports, the reflation theme is likely to lose steam in the second half of the year as economic momentum cools, providing additional impetus for capital inflows into the more stable income profile of REITs. Even if the economy proves more resilient and Treasury yields move higher, there are few barriers to additional outperformance. Our Technical Indicator, a combination of rates of change and moving average divergences, is extremely oversold. Forward intermediate and cyclical relative returns from current readings have been solid, as occurred in 2004, 2008 and 2014 (Chart 4). REIT valuations are more than one standard deviation below normal, according to our gauge. This suggests that poor operating performance and/or higher discount rates are already expected. There may be a limit as to how high bond yields can climb, given that they are already deep in undervalued territory according to the BCA 10-year Treasury Bond Valuation Index (Chart 4). Regardless, history shows that REITs have typically had a more positive than negative correlation with bond yields. The inverse correlation has only been in place since the financial crisis, when zero interest rate policies pushed massive capital flows into all yield generating assets. Chart 5 shows that prior to 2008, REITs outperformed during periods of both rising and falling Treasury yields. Chart 4Unloved And Undervalued Unloved And Undervalued Unloved And Undervalued Chart 5No Concrete Correlation Pre GFC No Concrete Correlation Pre GFC No Concrete Correlation Pre GFC Similarly, REITs have a solid track record during periods of rising inflation pressures. Since 1975, there have been six periods of rising core PCE inflation: REITs have enjoyed meaningful rallies during five of these phases (Chart 6). Hard assets tend to hold their stock market value well when overall inflation moves higher, with REIT net asset values providing solid support to share price performance. Chart 6Buy REITs In Times Of Inflation Buy REITs In Times Of Inflation Buy REITs In Times Of Inflation Looking ahead, REITs should continue to enjoy success in boosting rental rates. Occupancy rates continue to rise (Chart 7). The unemployment rate is low, consumption is decent and businesses are growing increasingly confident. That is a recipe for higher rental demand. Our Rental Rate Composite has crested on a growth rate basis, but the advance in the CPI for homeowner's equivalent rent, a good proxy for REITs, suggests that the path of least resistance remains higher (Chart 7). REIT supply growth has also leveled off, which provides additional confidence that rental inflation will remain solid. Nevertheless, there are some areas of concern. Banks are tightening lending standards on commercial real estate loans. Some sub-categories are experiencing a mild deterioration in credit quality. For instance, Chart 8 shows that delinquency rates in the retail and office spaces have edged higher. Retail and mall REITs are likely under structural pressure owing to online competition from the likes of Amazon. Chart 7Rental Demand##br## Is Solid Rental Demand Is Solid Rental Demand Is Solid Chart 8Watch Delinquencies As ##br##Banks Tighten Credit Standards Watch Delinquencies As Banks Tighten Credit Standards Watch Delinquencies As Banks Tighten Credit Standards Overall vacancy rates are still very low (Chart 8), but if credit becomes too tight, then the relentless advance in commercial property prices may cool. For now, our REIT Demand Indicator is not signaling any imminent stress. In fact, the economy is strong enough to expect occupancy rates to keep climbing, to the benefit of underlying property valuations and rental income (Chart 7, bottom panel). In sum, the budding rebound in REIT relative performance should be embraced as the start of a sustained trend. Total return potential is very attractive on a relative basis. Bottom Line: REITs remain a very attractive high-conviction overweight. Energy Servicers Are Cleaning Up Their Act We put the S&P energy services index on our high-conviction overweight list at the start of the year, because three critical factors that typically lead to a playable rally existed, namely; the global rig count had hit an inflection point, oil supplies were easing and global oil production growth had begun to decelerate. While the pullback in oil prices has undermined relative performance for the time being, there is scope for a full recovery, and more. Oil prices have firmed, underpinned by a revival in the geopolitical risk premium following the U.S. bombing campaign in Syria. There is already a wide gap between share prices and oil prices (Chart 9, top panel), and a narrowing is probable, especially as earnings drivers reaccelerate. There are tentative signs that capital spending cuts are finally reversing. The global rig count has rebounded, and is a good leading indicator for investment (Chart 10). This message is corroborated by our Global Capex Indicator, which has recently surged anew (Chart 10). Chart 9Room For ##br##Margin Improvement... Room For Margin Improvement... Room For Margin Improvement... Chart 10...As Deflation Eases ##br##And Capex Rebounds ...As Deflation Eases And Capex Rebounds ...As Deflation Eases And Capex Rebounds The longer that oil prices can stay in their current trading range, or beyond, the more time E&P balance sheets have to heal and the greater the odds that the cost of capital will be reduced. Against this backdrop, there are high odds that previously mothballed exploration projects will be restored. The V-shaped recovery in the global oil rig count, albeit from a very low base, will eventually absorb excess capacity and allow the industry to escape deflation. A major improvement in day rates is unlikely given the scale of the previous capacity boom, but even a modest pricing power improvement should provide a nice boost given high operating leverage. EBITDA margins have considerable room to improve if pricing power grows anew (Chart 9, bottom panel). Importantly, the shifting composition of global production will allow service companies with domestic exposure to shine. Shale oil producers should recapture lost market share, given that the onus to rebalance markets has been taken on by OPEC. OPEC production is contracting, while non-OPEC output is starting to recover (Chart 11, bottom panel), culminating in a widening in the Brent-WTI oil price spread. Production restraint is helping to rebalance physical oil markets. Total OECD inventory growth is reversing, and anecdotal reports are surfacing that floating storage is rapidly being depleted. Oil supply at Cushing is on the cusp of contracting, which is notable given that this has had a high correlation with relative share price performance for the past decade (oil supply shown inverted, Chart 11). On a global basis, global inventory drawdowns have been correlated with a firming industry relative profitability, and vice versa. OECD oil supply growth is rapidly receding, which augurs well for an extension of budding earnings outperformance (Chart 12, middle panel). Chart 11Receding Inventories ##br##Should Boost Performance... Receding Inventories Should Boost Performance… Receding Inventories Should Boost Performance… Chart 12...EPS And##br## Valuations ...EPS And Valuations ...EPS And Valuations The rise in clean tanker rates reinforces that oil demand is rising quickly enough to expect additional inventory depletion (Chart 12, bottom panel). Typically, tanker rates and energy service relative valuations are positively correlated. Adding it up, a rising global rig count, decelerating inventories and restrained oil production continue to bode well for a playable rally in the high-beta S&P energy services group. Bottom Line: We reiterate our high-conviction overweight stance in the S&P energy services index. The ticker symbols for the stocks in this index are: BLBG: S5ENRE - SLB, HAL, BHI, NOV, FTI, HP, RIG. Current Recommendations Current Trades Size And Style Views Favor small over large caps and stay neutral growth over value.

Highlights Chinese capex and EM domestic demand will falter again in the second half of this year. This is not contingent on a growth slowdown in the advanced economies, but due to a further slowdown in bank lending in EM and lower commodities prices. The direction of EM share prices in absolute terms and relative to the S&P 500 is determined by EPS trajectory, not equity valuations. We expect EM EPS to drop in absolute terms and to underperform U.S. EPS. India's deleveraging cycle is well advanced, especially when compared with other EM economies. Maintain an overweight position in Indian equities within the EM universe. Continue betting on yield curve steepening. Stay long the Czech koruna versus the euro. Feature EM/China growth will relapse in the second half of this year. Share prices, presuming they are forward-looking, will roll over beforehand. Chinese interest rates have risen, which typically heralds a downtrend in the mainland's credit impulse and business cycle (Chart I-1). Chinese interest rates are shown as an annual percentage change, inverted and advanced. This is a typical relationship between interest rates and credit cycles, and there is currently no reason why it will play out any differently in China. Given the mainland has a lingering credit bubble, rising borrowing costs and regulatory tightening of banks and the shadow banking system are guaranteed to lead to a relapse in credit origination, and in turn economic growth. China's yield curve has been flattening in recent months. This often precedes a selloff in both EM share prices and industrial metals (Chart I-2). Chart I-1China: Interest Rates ##br##And Credit/Business Cycles China: Interest Rates And Credit/Business Cycles China: Interest Rates And Credit/Business Cycles Chart I-2A Flattening Yield Curve In China Is ##br##A Bad Omen For EM And Commodities A Flattening Yield Curve In China Is A Bad Omen For EM And Commodities A Flattening Yield Curve In China Is A Bad Omen For EM And Commodities The Chinese yield curve has been experiencing bear flattening - front-end rates have risen more than long-term rates. Bear flattening in yield curves typically occurs before a major top in growth, when current conditions are still robust but the fixed-income market begins to question growth sustainability going forward. A flattening yield curve is consistent with our assessment: a lack of follow-through from last year's stimulus combined with the recent policy tightening will cause growth to downshift materially very soon. EM narrow (M1) money growth has rolled over decisively, and historically it has been a good leading indicator for EM earnings per share (EPS) (Chart I-3). The former has historically led the latter by about nine months. Chart I-3EM EPS To Roll Over In the Second Half 2017 EM EPS To Roll Over In the Second Half 2017 EM EPS To Roll Over In the Second Half 2017 The same is true in the case of China - the M1 impulse (the second derivative of M1) leads industrial profits by about six months and heralds an imminent reversal (Chart I-4). Chart I-4China's Industrial Profit Growth Recovery Is At A Risk China's Industrial Profit Growth Recovery Is At A Risk China's Industrial Profit Growth Recovery Is At A Risk The commodities currency index (an equally weighted average of AUD, NZD and CAD) has relapsed against the greenback. This index points to global growth deceleration in the second half of this year (Chart I-5). Similarly, these commodities currencies also lead commodities prices, and presently signal a top in the commodities complex (Chart I-6). Chart I-5Commodities Currencies Signify Weakness In Global Trade Commodities Currencies Signify Weakness In Global Trade Commodities Currencies Signify Weakness In Global Trade Chart I-6Commodities Currencies Point To Relapse In Commodities Prices Commodities Currencies Point To Relapse In Commodities Prices Commodities Currencies Point To Relapse In Commodities Prices In EM ex-China, Korea and Taiwan, bank loan growth has still been decelerating despite the global growth recovery of the past 12 months (Chart I-7, top panel). Besides, retail sales volume growth in EM ex-China, Korea and Taiwan has not ameliorated yet (Chart I-7, bottom panel). All of these economic aggregates are equity market cap-weighted. Similarly, auto sales in EM ex-China, Korea and Taiwan have been stabilizing at very low levels but have not recovered at all (Chart I-8). Hence, we infer that domestic demand in EM ex-China has stabilized, but it has not recovered. For example, manufacturing production in Brazil, Russia, South Africa and Indonesia has been rather subdued (Chart I-9). Chart I-7EM Ex-China, Korea And Taiwan: ##br##Domestic Demand Has Not Recovered EM Ex-China, Korea And Taiwan: Domestic Demand Has Not Recovered EM Ex-China, Korea And Taiwan: Domestic Demand Has Not Recovered Chart I-8EM Ex-China, Korea And Taiwan: ##br##Auto Sales Are Stabilizing At Low levels EM Ex-China, Korea And Taiwan: Auto Sales Are Stabilizing At Low levels EM Ex-China, Korea And Taiwan: Auto Sales Are Stabilizing At Low levels Chart I-9Synchronized Global Recovery? Synchronized Global Recovery? Synchronized Global Recovery? As EM ex-China credit growth decelerates further due to the lingering credit excesses and poor banking system health, their domestic demand will disappoint. This is a major risk to the EM profit outlook. Bottom Line: Chinese and EM domestic demand and by extension corporate earnings will falter again in the second half of this year. This view is not contingent on a growth slowdown in the advanced economies but will be the outcome of further slowdown in bank lending in EM and lower commodities prices. A reversal in Chinese imports from other EM is the link that explains how a relapse in the mainland's growth in the second half this year will hurt the rest of the world in general, and EM in particular. Profits Hold The Key Chart I-10Profits, Not Valuations, Hold The Key Profits, Not Valuations, Hold The Key Profits, Not Valuations, Hold The Key Emerging markets' relative performance versus the S&P 500 has historically been driven by EPS (Chart I-10). In the past 12 months, EM EPS has improved modestly but has not outperformed U.S. EPS in U.S. dollar terms. Consistently, EM stocks have failed to outperform the S&P 500 in common currency terms; they have been flat at low levels in the past 12 months. An important message from this chart is that equity valuations are not critical to EM versus U.S. relative equity performance. It is all about corporate profit cycles. The widely held view within the investment community is that EM stocks are cheaper than those in the U.S., and therefore will outperform based on more attractive valuations. The fact that EM stocks are indeed cheaper versus the S&P 500 only reflects the fact that U.S. equity valuations are expensive and EM equity valuations are neutral in absolute terms. Equity valuations may affect the degree of out- and underperformance, but they do not determine the direction of relative performance as vividly illustrated by Chart I-10. The same can be said about EM stocks' absolute performance. Equity valuations do not determine the direction of share prices; the latter rise when profits expand, and fall when EPS contracts. However, valuations affect the magnitude of the move in equity prices: cheap valuations and growing EPS will produce a larger rally compared to neutral equity valuations and identical growth in EPS. We discussed EM equity valuations at great length in our Weekly Report published two weeks ago.1 In absolute terms, EM equity valuations are presently neutral. Therefore, they have no bearing on the direction of share prices. If EM EPS expands, stocks will continue to rally. If EPS growth stalls or turns negative, EM stocks will stumble. As Charts I-3 and I-4 on page 3 illustrate, EM EPS will soon relapse. In addition, U.S. return on equity (RoE) remains well above EM's RoE (Chart I-11), reflecting better equity capital utilization in the U.S. versus the EM. Looking forward, one variable that has had a reasonably good track record in gauging relative performance of EM versus U.S. share prices is the ratio of industrial metals to U.S. lumber prices (Chart I-12). Industrial metals prices are a proxy for economic growth in China/EM, while U.S. lumber prices are indicative of America's business cycle. Industrial metals prices (the LMEX index) have lately underperformed U.S. lumber prices, pointing to renewed EM underperformance versus the S&P 500. Chart I-11EM RoE Is Below U.S. RoE EM RoE Is Below U.S. RoE EM RoE Is Below U.S. RoE Chart I-12EM Stocks To Underperform The S&P 500 EM Stocks To Underperform The S&P 500 EM Stocks To Underperform The S&P 500 Our view is that EM EPS growth will contract again within a cyclical investment horizon (over the next 12 months). While not all sectors' earnings are set to shrink, our view is that banks' profits will decline driven by credit growth deceleration and a rise in non-performing loans in a number of countries. Besides, commodities producers' EPS will drop anew if, as we expect, commodities prices head south again. Table I-1 illustrates the weights of each EM equity sector within total EM-listed companies' profits. Financials account for 24%, while energy and materials comprise 7.5% each of the aggregate EM equity market cap, respectively. In aggregate, these sectors make up 50% of EM EPS and 40% of the stock index. Table I-1EM Sectors: Equity Market Caps ##br##And EPS's Share Of Total EPS Signs Of An EM/China Growth Reversal Signs Of An EM/China Growth Reversal We remain positive on the technology/internet sector's growth outlook. While this sector's weight in terms of both market cap and EPS is very large, it is not yet sufficient to lift the overall EM equity index if other large sectors falter. In fact, technology/internet stocks have already rallied dramatically and are presently overbought. They will likely correct along with the rest of the universe. Nevertheless, we continue to recommend an overweight stance in technology stocks within the EM benchmark. Bottom Line: The direction of EM share prices in absolute terms and relative to the S&P 500 is determined by EPS trajectory, not equity valuations. We expect EM EPS to drop in absolute terms and to underperform U.S. EPS. Consistently, we maintain our long-standing strategy of being short EM / long the S&P 500. Taking Profits On Short Korean Auto Stocks Initiated on July 3, 2013, this recommendation has generated a 35% gain (Chart I-13, top panel). Notably, Korean auto stocks have failed to rally in the past 12 months. Furthermore, Korean auto stocks have underperformed the overall EM equity index by a whopping 22% since our recommendation (Chart I-13, bottom panel). For dedicated investors, we recommend lifting the allocation to this sector from underweight to neutral. In regard to allocation to the KOSPI overall, we maintain our overweight stance within an EM equity portfolio for now. Geopolitical volatility could create near-term disturbance but the primary trend in Korea's relative performance against the EM benchmark is up (Chart I-14). Within the KOSPI, we continue to overweight technology stocks, companies with exposure to DM growth and domestic industries. Meanwhile, companies with exposure to China's capital spending should be avoided. Chart I-13Take Profits On Short ##br##Korean Stocks Recommendation Take Profits On Short Korean Stocks Recommendation Take Profits On Short Korean Stocks Recommendation Chart I-14Korean Equities ##br##Relative To EM Overall Korean Equities Relative To EM Overall Korean Equities Relative To EM Overall Arthur Budaghyan, Senior Vice President Emerging Markets Strategy arthurb@bcaresearch.com 1 Please refer to the Emerging Markets Strategy Weekly Report, titled "EM Equity Valuations Revisited", dated March 29, 2017, link available on page 21. India: Beyond De-Monetization The growth-dampening effects from India's de-monetization program are beginning to dissipate. Both services and manufacturing PMIs are recovering (Chart II-1). As more cash is injected back into the system, consumer sector growth will improve. Beyond the recovery in consumption, however, capital spending - the key driver of productivity and non-inflationary growth - is still anemic because of structural reasons that began well before de-monetization was announced (Chart II-2). Chart II-1PMIs Are Recovering PMIs Are Recovering PMIs Are Recovering Chart II-2Capital Spending Is Depressed Capital Spending Is Depressed Capital Spending Is Depressed Public Banks: Is Deleveraging Advanced? The Indian authorities appear serious about restructuring their public banks, and the banking downturn cycle is likely approaching its final stages (Chart II-3). As and when India's public banks find themselves on more solid footing, industrial credit growth will pick up meaningfully and capital expenditures will follow. The previous credit boom that occurred in the infrastructure, mining, and materials sectors left a large number of failed and stalled projects. Chart II-4 shows the number of stalled projects remains stubbornly high and is not yet declining. These mal-investments have ended up as non-performing loans primarily on public banks' balance sheets: Non-performing loans (NPLs) currently amount to 11.8% and distressed assets (DRA) stand at around 4% of total loans on Indian public banks' balance sheets. This has forced public banks to curtail credit growth to the industrial sector (Chart II-5). Chart II-3Bank Credit Growth Is At All Time Low Bank Credit Growth Is At All Time Low Bank Credit Growth Is At All Time Low Chart II-4Plenty Of Projects Stalled Plenty Of Projects Stalled Plenty Of Projects Stalled Chart II-5Bank Credit Growth To Industries Is Contracting Bank Credit Growth To Industries Is Contracting Bank Credit Growth To Industries Is Contracting Public banks' NPLs and DRAs have spiked because the Reserve Bank of India (RBI) is forcing commercial banks to acknowledge and provision for these bad loans via the central bank's Asset Quality Review (AQR) program. This is eroding public banks' capital and constraining their ability to grow their loan book. However, the program is bullish for India's economy in the long run and stands in stark contrast to other EM countries where authorities are turning a blind eye on banks attempting to window dress their NPLs. India's government and the RBI are currently working with commercial banks and proposing measures to recover loans from defaulters. The government is also injecting capital into public banks. It has announced 100 billion INR in capital injections for this fiscal year and will inject more if needed. It is also forcing banks to raise more capital by ridding their books of non-core businesses. We have performed a scenario analysis on public banks (presented in Table II-1) to gauge their stock valuations. In all scenarios, we assume that DRAs will be constant at 5% of total loans, and also assume a 70% recovery rate on DRAs. We examine various scenarios for NPLs - the latter vary from 12-15% of total loans (the current actual NPL rate is 11.8%). Equity valuations are very sensitive to the recovery rate on NPLs. We stress test for recovery rates of 30%, 40%, 50% and 60%. If one assumes a 12% NPL ratio and a recovery rate of 60%, public bank stocks would be 30% cheap - their adjusted (post provisions, capital impairment, and recapitalization) price-to-book value (PBV) ratio will be 0.7, which is 30% less than its historical mean PBV ratio for public banks of 1.0. By contrast, assuming a 15% NPL ratio and a 30% recovery rate, banks' equity valuations would be 50% expensive - their adjusted (post provisions, capital impairment, and recapitalization) PBV ratio would be 1.5. Table II-1Under/Overvaluation (In %) Of Public Banks Stocks For A Given NPL Ratio And Recovery Ratio* Signs Of An EM/China Growth Reversal Signs Of An EM/China Growth Reversal Our bias is to believe that the NPL ratio is somewhere between 14-15% and the recovery rate near 40%. In such a case, public bank stocks would presently be 10-20% expensive. This does not offer a great buying opportunity at current levels, but suggests the downside is probably smaller than in other EM bank stocks. Overall, India is much more advanced in terms of recognizing and provisioning for NPLs as well as re-capitalization of its banking system than many other EM countries. Therefore, we believe India's deleveraging cycle is well advanced, especially when compared with other EM economies. Due to this and the fact that this economy is not exposed to China/commodities prices, we still recommend an overweight position in Indian equities within the EM universe. Inflation And Fixed-Income Strategy While headline inflation is easing due to temporarily lower food prices, core inflation remains sticky. The central government's overall and current expenditures - which often drive inflation - are rising rapidly (Chart II-6). Likewise, state governments' current expenditures are also booming and state development loans - borrowing by state governments - are growing at an extremely fast pace. In addition, in June 2016, the Indian central government announced it will raise salaries, allowances and pensions of government employees by 23%. The central government also raised the minimum wage for non-agriculture laborers by 42% in August 2016, and the Ministry of Labor followed by doubling the minimum wage of agricultural workers in March 2017. All of this will entail accumulating inflationary pressures, even if oil and food prices remain tame. The central bank hiked the reverse repo rate last week to absorb excess liquidity from the banking system. Even though it cited service sector inflation as a concern, we believe it will lag behind accumulating inflationary pressures. This warrants a steeper yield curve. Investors should continue to bet on yield curve steepening by paying 10-year swaps / receiving 1-year swap rates (Chart II-7). Chart II-6Government Expenditures Are Rising Government Expenditures Are Rising Government Expenditures Are Rising Chart II-7Bet On A Yield Curve Steepening Bet On A Yield Curve Steepening Bet On A Yield Curve Steepening Rising inflationary pressures and higher bond yields could weigh on Indian stocks in absolute terms, but will likely not preclude them outperforming the EM equity benchmark. Ayman Kawtharani, Associate Editor aymank@bcaresearch.com Stay Long Czech Koruna Versus Euro On September 28th 2016, we recommended going long CZK / short EUR on the back of expectations that the Czech National Bank (CNB) would abandon its currency peg. Last week, the CNB has floated the koruna. We expect this currency to appreciate versus the euro further and suggest keeping this position. Inflationary pressures in the Czech economy are genuine and heightening. The 1.5% appreciation in the koruna versus the euro since last week will not tighten monetary conditions enough to cap inflation. As such, we expect the CNB to eventually start raising interest rates, leading to further koruna appreciation versus the euro (Chart III-1). The output gap is turning positive, which historically has led to a rise in core inflation (Chart III-2). Chart III-1The Czech Koruna Has More Catch-Up To Do The Czech Koruna Has More Catch-Up To Do The Czech Koruna Has More Catch-Up To Do Chart III-2Output Gap And Inflation Output Gap And Inflation Output Gap And Inflation The labor market is tight - the Czech unemployment rate is the lowest in Europe. Both wages and until labor costs growth are robust and trimmed-mean consumer price inflation is accelerating (Chart III-3). The CNB's foreign exchange reserve accumulation has generated an overflow of liquidity in the Czech financial/banking system (Chart III-4). Chart III-3Inflationary Pressures Are Broad-Based Inflationary Pressures Are Broad-Based Inflationary Pressures Are Broad-Based Chart III-4Money And Credit Growth Are Very Strong Money And Credit Growth Are Very Strong Money And Credit Growth Are Very Strong The rapid expansion of liquidity has led to strong credit growth (Chart III-4, bottom panel), and a rapid appreciation in real estate prices. This warrants higher interest rates to prevent the formation of a bubble. Furthermore, the Czech economy has been benefiting from the recovery in European economic growth in general and manufacturing in particular. Tourist arrivals have also been robust. Notably, the nation's current account surplus stands at 1% of GDP. Chart III-5The Koruna Is Mildly Cheap The Koruna Is Mildly Cheap The Koruna Is Mildly Cheap With regards to currency valuations, the koruna is silently cheap and as such has further room to appreciate (Chart III-5). Either the koruna will gradually appreciate over the next few months, tightening monetary conditions to an extent where the CNB does not need to hike interest rates, or the CNB is eventually forced to hike rates considerably. The latter will push up the value of the Czech currency. We suspect that the CNB is still intervening in the forex market in order to prevent a dramatic appreciation in the koruna. The central bank has stated in its last press conference that it stands ready to intervene to mitigate exchange rate fluctuations if needed. However, in an economy with open capital account, the central bank cannot target the exchange rate and interest rates simultaneously. If the CNB desires to cap inflation, it has to hike interest rates or allow the currency to appreciate considerably. If it chooses the former, the koruna will still rally dramatically. Bottom Line: Stay long the Czech koruna versus the euro. Stephan Gabillard, Senior Analyst stephang@bcaresearch.com Equity Recommendations Fixed-Income, Credit And Currency Recommendations

Portfolio Strategy Any meaningful weakness in the U.S. dollar could accelerate the budding recovery in corporate revenue growth after a multiyear malaise. Following this year's underperformance, lift the industrials sector to neutral via an upgrade in machinery stocks. The recent jump in auto parts stocks is a selling opportunity. Recent Changes S&P Industrial Machinery - Boost to overweight from underweight. S&P Construction Machinery & Heavy Trucks - Lift to neutral from underweight. S&P Industrials Sector - Remove from high conviction underweight and augment to neutral. Table 1Sector Performance Returns (%) Revenue Revival Revenue Revival Consolidation remains the dominant tactical market theme. The question is whether momentum behind the cyclical advance will fade at the same time? Our sense is that the overshoot will reassert itself once the corrective phase has run its course. Two weeks ago we updated a number of qualitative factors that suggested that a major market peak had not yet arrived, even though the rally is approaching retirement age and valuations are full. Other variables concur. For instance, while cash holdings are being depleted, they are not yet running on empty, gauging from survey data or depicted as a share of total market capitalization. Surprisingly, there are still a large number of bearish individual investors (Chart 1). Thus, drawing sidelined cash back into stocks at current stretched valuations and with buoyant expectations requires a resumption of top-line growth. Revenue growth has been conspicuously absent throughout the past few years of the bull market. Companies have supported per share profits through cost cutting and aggressive share buybacks, typically funded through debt issuance. Sustaining high valuations without reinvesting for growth is hard enough, but it becomes an even more onerous task without top-line expansion. There is room for cautious optimism. Deflation pressures have abated, and companies are enjoying a modest pricing power revival. As outlined in our regular industry group pricing power updates, the majority of sectors and industries are now able to lift selling prices, and an increasing number are able to keep pace with overall inflation. Our pricing power proxy has moved decisively back into positive territory (Chart 2), following a pattern typically reserved for when the economy exits recession. Even deflation in the chronically challenged retailing sector is ebbing. Chart 1Bears Still Have A Little Cash Bears Still Have A Little Cash Bears Still Have A Little Cash Chart 2Revenue Revival Revenue Revival Revenue Revival Importantly, both core inflation and inflation expectations remain well below the zone that would cause the Fed to tighten more aggressively than is currently expected (Chart 3). If financial conditions remain relatively easy, then business activity should stay sufficiently brisk to foster further pricing power improvement, i.e. a return to deflation is unlikely. The readings from both the ISM services and manufacturing sectors, and firming business confidence (Chart 2), indicate brighter revenue opportunities. The pickup in world trade volumes implies that goods and services are flowing more freely than they have for several years, and provided protectionist policies do not gain traction, a rebound in global growth should be supportive of total business sales. We doubt there is a vigorous top-line thrust ahead given that potential GDP growth around the world is limited, but modest growth is probable. If the U.S. dollar were to weaken substantially, especially if it occurred within the context of better economic growth abroad, then revenue upside would increase. Chart 4 shows that S&P 500 sales advanced significantly after the last two major U.S. dollar bull markets peaked. Chart 3The Fed Still Has Latitude The Fed Still Has Latitude The Fed Still Has Latitude Chart 4A Top-Line Boom ##br##Requires Dollar Depreciation A Top-Line Boom Requires Dollar Depreciation A Top-Line Boom Requires Dollar Depreciation In sum, the sales outlook has brightened, which is critical to absorbing the increase in labor costs and cushioning the profit margin squeeze. If investors begin to factor in sales-driven earnings growth, rather than buyback and cost cutting-dependent improvement, then it is plausible that the overshoot in stocks will be extended for a while longer. As outlined in recent weeks, the easing in the U.S. dollar allows for some selective bargain hunting in the lagging deep cyclical sectors, which have underperformed this year. This week we are prospecting in the industrials sector. The Wheels Are Turning: Upgrade Machinery Machinery stocks have been stronger than we anticipated. It is doubtful that an underweight position will pay off even if the broad market stays in a corrective phase. Many of the sales and earnings drags on the broad machinery industry, which comprises both industrial machinery and construction machinery & heavy trucks indexes, are lifting. Our primary concerns had been that the overhang from a lack of resource-related investment and a strong U.S. dollar would undermine sales performance (Chart 5). The former may not change much given poor resource balance sheet health, but the U.S. dollar has stopped appreciating. The currency bull market may have gone on extended hiatus if foreign growth continues to improve and the recent disappointing U.S. labor market report was the beginning of a period of economic cooling, as we expect. Despite the resilience of relative share performance, the machinery group is not overpriced based on a normalized relative forward P/E basis (Chart 5). A move to above average valuations requires an acceleration in relative profits. The objective message from our models has turned upbeat. Our Global Capital Spending Indicator has climbed back into positive territory. That primarily reflects the firming in global purchasing manager's surveys. G3 capital goods order momentum has not yet pushed above zero, but should soon recover based on our model (Chart 6). Chart 5Two Drags, But... Two Drags, But... Two Drags, But... Chart 6... Other Engines Are Revving ... Other Engines Are Revving ... Other Engines Are Revving Developing economies may soon participate to a greater degree, if the budding turnaround in long moribund Chinese loan demand gains traction (Chart 6). While China has begun to target a cooler housing market, the improvement in overall credit demand should provide an important offset. Other developing countries are easing policy and trying to spur growth, which should help machinery consumption. When global output growth recovers, machinery demand tends to demonstrate its high beta characteristics. Chart 6 shows that our global, excluding the U.S., machinery new orders proxy has jumped sharply in recent months, consistent with our global machinery exports proxy (Chart 6). While the previously strong U.S. dollar threatened to divert this demand to non-U.S. competitors, the playing field has leveled: U.S. machinery new orders have accelerated. The revival in coal prices is a major plus, given that the coal industry is a key source of domestic machinery demand (Chart 7, second panel). The new order jump, especially compared with inventories, bodes well for additional strength in machinery output (Chart 7, middle panel). Faster production should further propel our productivity proxy, which already suggests analyst earnings upgrades lie ahead (Chart 7). Better machinery sales prospects will add to the productivity gains already evident from cost control and capacity restraint. Chart 8 shows that machinery companies have had a clear focus on profit margin preservation. Headcount continues to contract, while inventories at both the wholesale and manufacturing levels are lean. Chart 7New Order Recovery New Order Recovery New Order Recovery Chart 8Lean Lean Lean There is corroborating evidence of tight supplies, as machinery selling prices are climbing anew even though factory utilization rates are not far off their lows (Chart 8). If demand strength persists, then additional pricing power upside is probable. All of this argues for making a full shift from underweight to overweight in the S&P industrial machinery group. This full upgrade does not extend to the S&P construction machinery & heavy trucks sub-component. Heavy truck sales are very weak, and the outlook for agriculture and food prices is shaky. Food commodity prices remain depressed (Chart 9), which will limit agricultural spending budgets. There is a high correlation between raw food price inflation and relative forward earnings estimates. Moreover, we remain skeptical that the resource industry is about to embark on a major expansion. Instead, only maintenance capital spending is probable, which is not conducive to driving a meaningful increase in construction machinery demand. It is notable that Caterpillar's machine sales to dealers continue to contract throughout most regions of the world. As such, chronic pricing power pressure will persist, keeping relative forward earnings under wraps (Chart 9). In sum, we are shifting our industrial machinery recommendation from underweight to overweight, to reflect the hiatus in the U.S. dollar bull market and firming in other leading top-line growth indicators. The S&P construction machinery & heavy trucks index only warrants an upgrade to neutral. These allocation changes argue for removing the overall industrials sector from our high-conviction underweight list, protecting the profit that accrued from year-to-date underperformance. From an industrials sector standpoint, it has paid to be skeptical of extrapolating the scale of the surge in leading sentiment indicators, such as capital spending intentions. However, enough evidence has now materialized to expect that the contraction in industrials sector relative forward earnings momentum should soon draw to a close. Core durable goods orders recently returned to growth territory, supporting the budding upturn in our Cyclical Macro Indicator (Chart 10). Both herald profit stabilization. Pricing power has rebounded, although capital goods import prices are still deflating, albeit at a lesser rate. Chart 9A Laggard A Laggard A Laggard Chart 10Our Models Have Perked Up Our Models Have Perked Up Our Models Have Perked Up Importantly, U.S. export price inflation is no longer lagging the rest of the world, suggesting that the U.S. manufacturers are regaining competitiveness (Chart 10). The upshot is that deflationary pressures are easing. Bottom Line: Lift the S&P industrial machinery index to overweight and the S&P construction machinery & heavy trucks index to neutral. We are also taking the industrials sector off of our high-conviction underweight list and raising allocations to neutral, partially to protect against a continued lateral move in the U.S. dollar. The ticker symbols for the stocks in the S&P construction machinery & heavy truck index are: BLBG: S5CSTF-CAT, PCAR, CMI. The ticker symbols for the stocks in the S&P industrial machinery index are: BLBG: S5INDM-ITW, IR, PH, SWK, FTV, DOV, PNR, SNA, XYL, FLS. Auto Components: Engine Trouble While we are upbeat on the broad consumer discretionary index and recently augmented restaurants to overweight, the niche S&P auto components index remains in the underweight column. Is such bearishness still warranted, especially following recent signs of life in share prices? The short answer is yes. Vehicle sales have plateaued and are unlikely to reaccelerate because pent-up demand has been fully exhausted and auto credit is harder to come by. Banks have started tightening the screws on auto loans. Auto loan delinquency rates are hooking up and charge-off rates have been rising sequentially since Q2/2016 according to the latest FDIC Quarterly Banking Profile. That reflects previous lax lending standards, especially in the sub-prime category. As credit availability dries up, auto loan growth will continue to deteriorate. Chart 11 shows that subprime auto loan originations have an excellent track record in leading light vehicle sales, given that they represent the marginal buyer. Moreover, rising interest rates are also denting affordability (Chart 11, bottom panel). All of this suggests low odds of renewed strength in vehicle demand. The last time vehicle sales flat-lined was in the middle of the last decade, from 2003 to 2007, share prices underperformed reflecting a relative valuation squeeze (Chart 11). Importantly, deflation has taken root in the auto industry and will likely intensify in the coming months. Auto factories are reasonably quiet, in sharp contrast with the recovery in overall industrial production (Chart 12). Chart 11Tighter Auto Loan Standards... Tighter Auto Loan Standards... Tighter Auto Loan Standards... Chart 12... Will Sustain Deflationary Forces ... Will Sustain Deflationary Forces ... Will Sustain Deflationary Forces The auto shipments-to-inventories ratio is probing multi-decade lows and car parts inventories both at the retail and manufacturing levels are beginning to pile up (Chart 13). Without a resurgence in vehicle sales, inventory liquidation pressures will rise, reinforcing the deflationary impulse and warning that industry earnings will likely underwhelm. Moreover, used car prices have nosedived. Used car prices tend to lead new car price inflation (Chart 12). Recent anecdotes of cutthroat competition in dealerships, with massive incentives failing to turn around sales, signal that deflation along the supply chain will likely become entrenched. Finally, international sales are unlikely to fill in the domestic void. Emerging markets (ex-China) automobile sales have been contracting, heralding an underperformance phase for the S&P auto components index (Chart 14, top panel). Chart 13Too Much Supply Too Much Supply Too Much Supply Chart 14No Global Relief No Global Relief No Global Relief There could be a respite if the U.S. dollar weakens substantially (Chart 14, second panel), but historically high relative valuations warn that optimism has already run ahead of the cloudy earnings outlook (Chart 14, bottom panel). Adding it up, auto demand will remain uninspiring as banks tighten their grip on auto loan lending standards, industry deflation is gaining steam owing to inventory accumulation, and there is no sizeable offset from foreign sales. This is recipe for an underweight position. Bottom Line: We reiterate our underweight stance in the S&P auto components index. The ticker symbols for the stocks in the S&P 1500 auto components index are: DLPH, GT, BWA, GNTX, DAN, DORM, LCII, CTB, CPS, THRM, AXL, FOXF, SMP, MPAA, SUP. Current Recommendations Current Trades Size And Style Views Favor small over large caps and stay neutral growth over value.

Feature The on-going Second Machine Age - the ushering in of Artificial Intelligence (AI) - is obsoleting human jobs at an alarming pace. But an analysis of the data reveals an interesting pattern. Jobs typically done by men have suffered disproportionately, and continue to be in grave danger. On the other hand, jobs that are typically performed by women are thriving. Chart I-1AFemale Labour Participation ##br##Can Rise A Lot Further Female Labour Participation Can Rise A Lot Further Female Labour Participation Can Rise A Lot Further Chart I-1BFemale Labour Participation ##br##Can Rise A Lot Further Female Labour Participation Can Rise A Lot Further Female Labour Participation Can Rise A Lot Further AI Is A Greater Threat To Men Despite decades of progress in workplace equality, most jobs and professions still have a very strong gender bias. The big problem for men is that automation is ideally suited to replace jobs in male-dominated middle-income jobs in manufacturing, construction and transport (Table I-1). For example, the advent of autonomous or semi-autonomous vehicles will destroy livelihoods that involve driving. And 95% of truck drivers are men. Table I-1AI Is A Greater Threat To Men Female Participation: Another Mega-Trend Female Participation: Another Mega-Trend Even among more-skilled jobs, male-dominated professions - such as finance - are under threat. As we explained in The Superstar Economy: Part 2,1 seemingly difficult human tasks that AI finds very easy are those that require the application of complex algorithms and pattern recognition to large quantities of data. This includes tasks such as calculating a credit score or insurance premium, or managing a stock portfolio. Conversely, seemingly easy human tasks that AI finds very difficult are those that require everyday human sensorimotor skills. Tasks such as walking up a flight of stairs or picking up random objects from random places. AI is also incapable (thus far) of reading and responding to peoples' emotions and intentions. A job that requires a range of these human skills is especially secure. This is because AI excels at replicating a narrowly defined task rather than a job which needs a breadth of talents. If your job involves controlling and teaching a disruptive class of seven year olds, or calming a nervous patient before giving an injection, AI will not threaten your livelihood for the foreseeable future. Hence, Education, Human Health and Social Work - the employment sectors that most require a combination of sensorimotor, emotional and communication skills - have seen the strongest job gains over the past two decades. And almost 80% of workers in Education, Human Health and Social Work are women. With AI still in its infancy, the established pattern of job destruction and creation will continue to favour women over men. Improved Parental Leave Helps Women Chart I-2Japan: Labour Force Participation Rate Japan: Labour Force Participation Rate Japan: Labour Force Participation Rate A second structural driver that is boosting female employment is improved parental leave policies. Japan provides an excellent example of what is possible. Starting in 1995, the Japanese government introduced a raft of policies to encourage women to join the labour force: paid maternity leave, subsidised childcare, and paid parental leave for both parents. Today in Japan, both mothers and fathers can take more than a year of paid parental leave at an average rate of 60% of earnings. The policies have had their desired effect. The proportion of Japanese women in the labour force has surged from 57% to 67%, while the male labour participation rate has stayed unchanged at 85%. Therefore, all of the growth in the Japanese labour force through the past 20 years has come from women (Chart I-2). Europe tells a similar tale. Through the past couple of decades, parental leave policies have become steadily more generous. Today, new mothers are guaranteed 58 weeks of paid leave in Germany, 48 in Italy, and 42 in France (Table I-2). New fathers are guaranteed 28 weeks in France and 9 weeks in Germany (Table I-3). Moreover, even after the paid parental leave ends, heavily subsidised childcare costs in the major euro area countries are affordable, averaging around a tenth of the average wage (Table I-4). Table I-2Generous Maternity Pay ##br##In Europe And Japan Female Participation: Another Mega-Trend Female Participation: Another Mega-Trend Table I-3Improving Paternity Pay##br## In Europe And Japan Female Participation: Another Mega-Trend Female Participation: Another Mega-Trend Table I-4Affordable Childcare##br## In Europe And Japan Female Participation: Another Mega-Trend Female Participation: Another Mega-Trend Unsurprisingly, the proportion of European women in the labour force has also surged from 57% to 67%, while the male labour participation rate has stayed flat at 78%. As in Japan, all of the growth in European labour force participation through the past 20 years has come from women (Chart I-3). The surge in female participation also explains why the percentage of the euro area working-age population in employment now stands close to at an all-time high (Chart I-4) - a fact which stuns many people. Chart I-3EU28: Labour Force##br## Participation Rate EU28: Labour Force Participation Rate EU28: Labour Force Participation Rate Chart I-4Increased Female Participation Lifts Euro Area ##br##Employment To Population Near An All Time High Increased Female Participation Lifts Euro Area Employment To Population Near An All Time High Increased Female Participation Lifts Euro Area Employment To Population Near An All Time High The trend is for further improvements in parental leave, with the focus now on improving paternity leave. The important point is that the sharing of parental responsibilities between mothers and fathers allows more women to enter and stay in the labour force. Therefore, we expect the structural rise in European female labour force participation to continue. France at 67% and especially Italy at 55% are still some way behind Germany at 73% and Spain at 70% (Chart I-5, Chart I-6, Chart I-7, Chart I-8 and Chart I-9). For the ultimate end-point in the trend, look to the Scandinavian countries which have had generous parental leave policies for decades. In Sweden, labour force participation for women is almost identical to that for men: 80% versus 83%. If the EU eventually reaches the Scandinavian end-point, it would mean another 20 million women in the EU labour force (Feature Chart). The one major world economy that goes against the trend is the United States. Over the past 20 years, the proportion of American women who are in the labour force has actually declined from 70% to 67%. Why? Possibly because in the U.S. new parents have no guarantee of paid leave. And the cost of childcare has been increasing much faster than overall inflation. Childcare now costs close to half the average wage, making it unaffordable for many low-income workers. Nevertheless, even in the U.S., labour force participation for women is outperforming that for men. Because the decline in participation for women is mild, whereas the decline for men is more severe (Chart I-10). Chart I-5Germany:##br## Labour Force Participation Rate Germany: Labour Force Participation Rate Germany: Labour Force Participation Rate Chart I-6France: ##br##Labour Force Participation Rate France: Labour Force Participation Rate France: Labour Force Participation Rate Chart I-7Italy:##br## Labour Force Participation Rate Italy: Labour Force Participation Rate Italy: Labour Force Participation Rate Chart I-8Spain:##br## Labour Force Participation Rate Spain: Labour Force Participation Rate Spain: Labour Force Participation Rate Chart I-9U.K.:##br## Labour Force Participation Rate U.K.: Labour Force Participation Rate U.K.: Labour Force Participation Rate Chart I-10U.S.: ##br##Labour Force Participation Rate U.S.: Labour Force Participation Rate U.S.: Labour Force Participation Rate The Structural Investment Theme: Personal Products The two factors driving increased female participation in the total labour force have much further to run. First, AI is a much greater threat to jobs and professions that are male-dominated than to those that are female-dominated. Second, further improvements in parental leave policies will allow labour force participation for women to gradually converge with that for men. All mega-trends have an associated structural investment theme. And in this case the theme is the Personal Products sector. According to Euromonitor, 90% of personal product sales are to women. For cosmetics, the proportion is close to 100%. Therefore, as the percentage of women in the labour force continues to rise, the sales and profits of Personal Products will continue to outperform those from other sectors. The highly defensive nature of personal product demand is also a big advantage in a lower-growth world. Once again, Japan provides an excellent example of what is possible. Since its crisis in 1990, overall equity market profits and prices have gone nowhere, but the profits of the Personal Products sector - led by Shiseido and Kao - have increased fivefold. The European Personal Products sector is now following the Japanese template with a reassuring similarity (Chart I-11). Chart I-11Japan Is The Template Japan Is The Template Japan Is The Template Buy and hold L'Oréal, Beiersdorf and Unilever as long-term investments. Dhaval Joshi, Senior Vice President European Investment Strategy dhaval@bcaresearch.com 1 Published on January 19, 2017 and available at eis.bcaresearch.com