Left Brain Right B - the DBS Vickers Securities Equities Research

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Regional Equity Strategy 4Q 2009 Strategy Overview: Asia Equity excluding automobiles actually showed little sign of improvement. Obviously, this support to private consumption from government policy is one-off and not sustainable. Also, the labor market is mainly aided by a temporary job creation program adopted by the government. The jobless rate has fallen slightly, but the details show that employment growth concentrated in the areas of public administration and social work. In spite of the recovery in exports, the impact on jobs might be limited. Because of gains in productivity, manufacturing now accounts for only 17% of Korea’s total employment, much less than its 26% share in the GDP accounts; and employment growth in the manufacturing sector has been persistently negative in the past four years (an average of -1.3% in 2005-2008). Another fact is that 80% of the country’s employed persons work in small-and-medium sized enterprises that are undergoing debt rescheduling and corporate restructuring. With these uncertainties lingering over the outlook for the labor market, it would be difficult to expect private consumption to drive the economy, in our view. Monetary policy: asset inflation and credit/debt growth on watch Like elsewhere in the region, asset prices in Korea have risen due to domestic monetary easing and renewed foreign fund inflows. House prices corrected downward only slightly during the crisis, and began to pick up once again in 2Q09, especially in the metropolitan areas such as Seoul. Note that house prices had been rising fast ever since the bottom in 2000 (6.3% per annum in 2001-2008), although the authorities adopted various measures to cool the market. The nation-wide house prices do not appear to be overvalued, as judged by the priceto-rent ratio which has stayed near the long-term average. But housing valuation in Seoul is clearly high, and continues to appreciate. Moreover, the rebound in house prices is accompanied by a renewed expansion in mortgage lending and a continued buildup of household debt. Note that bank loans growth ran at 15% YoY in 2001-2008, persistently and significantly outpacing nominal GDP growth of 6.9%. The growth of households’ financial debt reaccelerated to 10% YoY in 2005- 2008 following a slowdown during the 2004 credit card crisis, also much faster than the 4.6% growth in household disposable income over the past four years. It is no surprise that the authorities are now concerned about the risks of a bubble in the property market and debt/credit problems in the household and banking sectors. The Financial Supervisory Service called on banks to lower the loan-to-value ratio for mortgage lending in Seoul and its vicinity (Jul 7th), and took further steps to impose a debt-to-income ratio on mortgage lending for a wider range of areas around Seoul (Sep 7th). The Bank of Korea has also begun to withdraw the liquidity it had injected into the financial system during the crisis period. The outstanding amount of monetary stabilization bonds has increased KRW 38trn from Nov08 to Jul09, and base money growth has fallen markedly on a sequential basis. It is widely anticipated that the BOK will raise interest rates as the next step. In our rate forecast, we have penciled in a total of 100bps of hikes for next year, starting from 1Q10 (25bps per quarter). That said, the odds of immediate and / or aggressive rate hikes (such as in 4Q09 or in 50bps increment) should be low. This is because the real economy has not fully recovered and the ability of the private sector to sustain the recovery remains a question. Administrative regulation may still be preferred over monetary tightening to cool the property and credit markets, in the near term. Currency outlook (by Philip Wee) We see Korean policymakers pursuing two goals in managing the exchange rate. First, they would probably prefer keeping the KRW aligned with the currencies of its major trading partners. This was best reflected by the high correlation between KRW and SGD, a popular proxy for Asian currencies. Second, they would probably continue to reduce exchange rate volatility in order to provide a more conducive environment to revive business investment. Besides, a less volatile exchange rate would also be consistent with a stable USD/CNY. The EUR will also be important given the target to finalize a free trade pact between Korea and its second largest export market, the European Union, by the end of 2009. Finally, the KRW should also draw support from expectations for Korea to be amongst the first countries to hike interest rates. The Bank of Korea (BOK) is uncomfortable with its exceptionally low base rate, which has stayed below inflation in 12 out of the past 15 months ending Aug09. With CPI inflation likely to have bottomed at 1.6% YoY in Jul09, and rebounding strongly to 2.2% in Aug09, the central bank is increasingly worried about asset price inflation, especially in the real estate sector, as the recovery picks up momentum. Currency and interest rate forecasts eop Close 4Q09 1Q10 2Q10 3Q10 4Q10 USD/KRW 1217 1190 1175 1155 1140 1120 7D repo 2.00 2.00 2.25 2.5 2.75 3.00 Page 33
Regional Equity Strategy 4Q 2009 Strategy Overview: Asia Equity Thailand: Mixed (Ramya Suryanarayanan, ramya@dbs.com, extracted from “Economics – Markets – Strategy, 4Q09” dated 17 September 2009) • GDP grew by 9% (QoQ, saar) in the second quarter, marking the end of recession; the breakdown was not as encouraging • One positive development was that government investment spending finally rose sharply • Political uncertainties continue to resurface, depressing domestic demand. A recovery will, therefore, have to come from exports • After another quarter of strong growth of 7% (QoQ, saar) in 3Q09, we expect growth momentum to drop to 3% in 4Q09 and 2010. This translates to 2009 and 2010 GDP growth of -3.2% and 4% • Inflation pressures are likely to be mild with the economy currently operating significantly below potential. We expect the central bank to start lifting rates only from 3Q10, when we expect 25bps of rate hikes Government stimulus There will be continued, albeit moderating support from fiscal stimulus going forward. The fiscal deficit (including spending on an additional stimulus package) is expected to average around 5% of GDP in 2009/10 (Oct09-Sep10), up from an estimated 4% of GDP in 2008/09. In 2010/11, the deficit will rise by less, to 5.5% of GDP. One positive development perhaps is that government investment spending finally rose sharply in 2Q (60% QoQ, saar), though from low levels - a possible sign that the government is committed to overcoming the challenges to project implementation that arise from political instability. External demand While exports did not stage a sharp recovery in Thailand in value or in volume terms until July, there are reasons to believe the outlook is not bleak. Export data already show a sharp 45% rise in exports to China and HK from the bottom, which may simply mean that China is leading the recovery. At the same time, imports are rebounding strongly, suggesting that the outlook for orders per se must be encouraging, given the large intermediate import content. Anecdotal evidence from manufacturers also supports this view. As such, we expect to see a significant rise in exports in 3Q09. This should restrict the contraction in full-year (nominal) exports to 14% (YoY). This should also be the key driver of GDP growth of 7% (QoQ, saar) in 3Q09 and limit the full-year rate of contraction in GDP this year to -3.2%. Inflation and monetary policy Inflation pressures are likely to be mild, with the economy currently operating significantly below potential. Indeed, we do not foresee output returning to the peak reached in 2008, until the second half of 2010. Therefore, although the growth rate of GDP is forecasted at 4% in 2010, a negative output gap should remain over most of 2010. As such, we see little reason for early monetary policy tightening. We see monthly prices rising by less than 2% (MoM, saar) on average until end-2010. This translates to average inflation of -1.1% and 2.1% in 2009 and 2010. Technical factors such as the unwinding of rebates previously introduced as part of stimulus plans may push the CPI higher, but this rise would be temporary and should not materially alter the timing or quantum of rate hikes. Consequently, we expect the central bank to start lifting rates only from 3Q10, when we expect 25bps of rate hikes. Further out, we reckon rate normalization should pick up pace with rates being lifted to 2.00% by end-2010, and 3.25% by end- 2011. Deficits and stability The flip side of weak domestic demand growth over the past five years is that the economy has significant room for higher spending without hurting indicators of fiscal stability. Importantly, from a currency perspective, the balance of payments remains particularly strong supported by continued current account surpluses and capital inflows. Running a large fiscal deficit of circa 5% of GDP this year and the next also does not alter the economy’s risk profile materially. Indeed, the real risk for Thailand is still politics and under-spending on infrastructure, rather than high fiscal deficits. The economy is sensitive to higher oil prices in part due to its high oil intensity. Building rail and road infrastructure is expected to ultimately improve productivity and reduce dependence on oil. . Page 34 “This report has been re-printed with permission from DBS Group Research (Regional Equity Strategy) of DBS Bank Limited” disclosures on page 37 of this report
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Left Brain Right B - the DBS Vickers Securities Equities Research

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