Markets live chat transcript for the chat ending at 12:10 on 12 Feb 2008. Participants in this chat were: Paul Murphy (PM) Neil Hume (NH)
PM: Hello and welcome to Markets Live, FT Alphaville’s daily markets chat
PM: Bear with us while we sync ourselves
NH: Morning all
NH: and morning Paul
PM: I’m in Hong Kong and Neil is in London
NH: are u there??
PM: I am — can’t get thru on the blower
NH: sorry can’t see any of my posts
NH: got big tech problems at the moment
NH: bear with us
NH: you were wrong VP
NH: this is very live
PM: VP think’s we’re scripted
PM: VP think’s we’re scripted
PM: VP think’s we’re scripted
NH: sorry about this
PM: Neil — let’s just busk it
NH: right, we are up and running this end
NH: Paul can u call too pls
PM: Tell us how the Footsie is doing
NH: 4238
PM: Reuters sucks all the guts out of my Dell pc this end
NH: FTSE 100 56.7 points better at 5,764.4
NH: started very brightly thanks to the turnaround on Wall Street overnight
NH: touched 5,773.9 early doors
PM: So AIG shakes the financial world
NH: but has faded a bit
PM: With news that it was 4bn or so out
NH: strangely it is banking stocks that are pushing us up
NH: and the miners
PM: Everyone things — uh-oh — Poopers are going to do this to everyone
NH: look at BARC:LSE
Barclays (BARC:LSE): Last: 439.75, up 10.5 (+2.45%), High: 441.25, Low: 425.00, Volume: 17.88m
PM: Give us more
NH: all quite vague at the moment
NH: seems the banks are being helped by some big technical call
NH: this is what I got from a broker
NH: mkt this morn, hearing somebody has called a double
bottom in the UK banks
NH: not sure that explains the move and we don’t have the note but am working on it
NH: now being told that Execution are pushing the banks today
NH: here is what they have been sending to clients
NH: UK BANKS VERSUS EUROPEANS – ADD TO THIS CALL – 12 FEB
This is a call we made back in January and it looks ready for
another leg up.
This recent sideways move looks like a consolidation to the
previous uptrend.
This relative is a basket of HSBC and RBS against an equally
weighted basket of DBK, GLE, UC and SAN. You can also now add
Credit Suisse to this short list (just broken the nearest low
on the relative v/s SX7P today)
PM: Interesting
PM: Seen this stuff from James Eden and Ian Gordon this morning?
PM: As well?
NH: These are the Dresdner Kleinwort banking analysts that decamped to SocGen, stayed for exactly give minutes, and then moved to BNP Paribas.
PM: Yes, tipped up at BNP in late October and – in their own words at that time:
PM: We are making some very big calls on stocks where investor fear seems to be detached from commercial reality.
NH: That meant top Eden picks for…
PM: Bradford & Bingley
PM: B&B will emerge triumphant from the current liquidity crisis
NH: Oh dear. Down from 300p to 236p since end-Oct
PM: And HBOS?
PM: Investors should reward Andy Hornby for trying to do International the hard way – through organic growth. It is much easier and quicker to boost International earnings by making a series of value destructive acquisitions!
NH: Down from 870 to 636p
PM: And outperform ratings too for RBS,
PM: ABN AMRO is now spilt milk. Fred is definitely the best man to manage the integration –he has a magnificent track record in this area.
NH: About 480 to 361p
PM: Alliance & Leicester
PM: “Don’t worry it’s duller than you think”
Actually, the company has a fairly predictable, low-risk earnings stream and a management team that is, if anything, unduly conservative.
NH: 790 to 580p
PM: and Barclays. ….
PM: Barclays’ shareholders owe Sir Fred Goodwin a large drink.
NH: 600p to 430p
NH: Enough !
NH: But it is easy to scoff of course.
PM: They’ve come out with their hands up this morning. Well, Gordon has at least one hand up, cos he broke his arm ice skating. And Eden’s been off with a high temperature.
NH: Brought on by fear of facing up to the clients, I guess.
PM: Well, actually just reading thru – they are sticking to their guns! Which is impressive, if nothing less:
PM: Year-to-date, the top three performing UK banks have been Alliance &
Leicester, Bradford & Bingley and HBOS – their first, second and fourth
favourites! The main blot on their track record is RBS, but a sizeable
dividend increase on 28 February (and no rights issue) should help there.
The halo has certainly started to slip from the perceived safe haven
stocks: Lloyds TSB is down 18% since James and Ian published “Toxic waste,
not safe haven!” (10 December), Standard Chartered is down 18% since they
published “It’s all downhill from here!” (5 December) and “De-coupling? You
must be d-reaming!” (4 January) and HSBC is down 23% since “Going to the
dogs?” (29 October).
PM: In 2008, ‘fear’ has already outperformed ‘safety’ by almost 3% – but we
believe this is only the beginning. In terms of why the strategy is
working, it is probably not because fear is abating (on the contrary, the
opposite appears to be true), but rather because fear stocks had got so
crazily undervalued and safety stocks had got so expensive. Value is king
in the alpha generation game.
PM:
We urge investors to keep buying fear,
especially Bradford & Bingley, HBOS and RBS, and keep selling safety, and
we look forward to providing you with regular updates during results
season.
NH: 
PM: Ok from the banks to the insurers — how are they this morning?
NH: under the kosh
NH: this AIG news is not good news
NH: if they can’t value this stuff
NH: what hope for the rest of them?
PM: Price please!
Old Mutual (OML:LSE): Last: 114.50, down 2 (-1.72%), High: 118.70, Low: 111.50, Volume: 17.06m
Standard Life (SL.:LSE): Last: 196.80, down 1.2 (-0.61%), High: 201.75, Low: 192.70, Volume: 4.06m
Admiral Group (ADM:LSE): Last: 902.50, down 32 (-3.42%), High: 945.00, Low: 885.00, Volume: 725.09k
Prudential (PRU:LSE): Last: 588.00, up 5 (+0.86%), High: 592.50, Low: 571.00, Volume: 7.40m
PM: Those are rather painful in a market where the footise is up 50 points
PM: Got any analysts response?
NH: got a good note from Cazenove
NH: on the impacts for the banks
NH: and the insurers
NH: want to see it??
PM: yes please
NH: European banks: Implications of AIG’s announcement
NH: Background AIG has changed the methodology for valuing its US$62.4bn super senior credit default swap (CDS) portfolio, which has substantially reduced the carrying value of the instruments. The mark-down as at 30 Nov 2007 increases from US$1.6bn to US$6.0bn. This appears to have been driven, at least in part, by the year end audit review with PWC identifying “a material weakness in [AIG's] internal control over financial reporting and oversight relating to the fair value valuation of [its] super senior CDS portfolio”.
NH: We see two possible implications for the banking sector.
1. Change in methodology may increase mono-line counterparty risk
AIG uses a modified version of a valuation model originally developed by Moody’s. The risk is that other mono-line insurers may use similar models and could be required to change the basis of valuation, in which case estimates of insurers’ mark-to-market losses may increase.
NH: We consider AIG to be a representative mono-line insurer given the size of its book compared with the four largest quoted mono-line insurers (MBIA, FGIC, Ambac and XL) which together insure US$100bn of ABS CDOs and sub-prime RMBS.
A change in the basis of valuation of CDS contracts could put further pressure on the companies’ capital bases and credit ratings, and could raise questions over the size of rescue plan that is required, and in which several European banks are involved according to press speculation (eg. FT).
NH: Given the bespoke nature of valuation models, of course, it may be that AIG proves to be an isolated case and other insurers’ exposures may already be valued using a similar method to that which AIG has now employed (based upon market-implied prices). For instance, we understand this to be the case at Dexia’s monoline subsidiary, FSA.
NH: 2. Gross exposure is of paramount importance
The AIG announcement raises the broader issue of gross versus net disclosures. For example, Merrill Lynch disclosed a US$4.8bn net ABS CDO position, but on a gross basis (before the anticipated benefit of mono-line insurance, hedges and other positions) its exposure is US$30bn.
NH: Knowing the gross exposure is of paramount importance if the value of hedges or insurance has declined, even if the reduction in value is only on a mark-to-market (or model) basis.
The majority of European banks have published only net disclosures, the exceptions being French banks which have updated the market recently. There is no consistent relationship that allows an external observer to derive the gross position from the stated net. Taking the case of sub-prime ABS CDOs, for example, Merrill’s US$4.8bn net exposure is much smaller than Bank of America’s (US$12.1bn) yet its gross position is nearly double (US$30bn versus US$16.5bn).
NH: We therefore expect 2007 results announcements to include more disclosure on balance sheet positions that are of concern to investors such as CDOs, and there is a risk that the gross size of a portfolio is materially larger than the net figure disclosed previously.
NH: Comment
The market has an insatiable appetite for information where capital markets exposures are concerned and we expect European banks to provide greater disclosure over the next few weeks. Until figures such as gross ABS CDO positions are published, however, concerns about the financial strength of mono-line insurance companies and news such as AIG’s announcement are likely to weigh on the share prices of banks with known (but unquantified) exposure. In the UK, this means Barclays (Outperform) and RBS (Underperform), and in Europe we highlight UBS (In-line).
PM: Plenty to digest there
NH: there’s more
NH: this on the insurers
NH: European insurance – On AIG and monolines
AIG increases CDS losses and raises valuation issues
AIG has been forced to restate its unrealised (mark-to-market) losses on CDO linked Credit Default Swaps (CDS) creating uncertainty about the appropriate valuation of CDS instruments. Insurers and banks offer or purchase credit protection on sub prime MBS and CDO exposures through CDS instruments.
NH: In addition, the company’s auditors (PWC) have concluded that AIG had a ‘material weakness in its internal control of financial reporting and oversight relating to the fair value valuation’ of its CDS exposures.
The negative mark-to-market cumulative loss of AIG’s CDS exposures was initially $1.6bn at 30 November 2007 but has been restated to (at least) a negative $5.2bn following an adjustment to the valuation methodology.
AIG claims in a 2007 presentation that its CDS valuation model is a modified version of a widely used model developed by Moody’s. The modification includes a positive valuation adjustment which is being questioned by AIG’s auditors.
NH: It is uncertain whether other market players have also modified the basic valuation methodology. Furthermore, AIG states it has ‘not yet determined’ the exact amount of negative revaluation losses on CDS instruments it will include in its final 2007 accounts.
NH: Monolines counterparty risk may rise
AIG essentially acts as a monoline insurer providing protection (or wrapping) CDO securities with CDS instruments. Insurance companies buy securities which include this credit protection or hedge their CDO/ABS exposures through CDS transactions. The US monoline insurers are an important provider of this protection to the insurance industry.
If we assume the AIG situation is not an isolated case (a big if), monoline insurers may face larger valuation losses on their CDS portfolios than have been disclosed up to now.
If the, as yet unrealised, larger valuation losses on CDS exposures are considered to become a permanent impairment by the auditors and rating agencies, this may put further pressure on the monoline industry’s capital base.
NH: The main implication of AIG disclosure is that it may increase the (monoline) counterparty risk for the insurance industry. The European insurance companies are net buyers of credit protection and have (diversified) exposures to the monoline insurers.
We have assumed the AIG issue is limited to the valuation of CDS securities that are aimed at offering protection to CDO and other complex and difficult to value ABS structures.
We have assumed that the valuation issues do not apply to plain vanilla CDS structures where government debt is swapped into corporate debt or protection is being bought/sold on underlying corporate names or indices (iTraxx/CDX). The underlying instruments that are used to value these CDS exposures are liquid and readily valued as opposed to the more complex subprime CDO structures.
Overall, the insurance industry exposure to monoliners is for only a modest proportion of invested assets and is largely diversified among a large number of counterparties. Only a proportion of the monoline guarantees is linked to subprime assets.
The economic impact of monoline counterparty risk is well below the notional amount insured and we believe is manageable as it is well spread.
Based on the information so far we believe the economic counterparty risk is the highest at Allianz (€1.5bn-€2.0bn) followed by ING (€955m). The least exposed seem AXA, Generali, Munich Re, RSA and ZFS.
NH: European insurance Monoline exposures
We have presented below the direct and indirect exposures. Direct exposures are defined as insurers holding direct equity or debt in a monoliner or having a pending claim than needs to be settled.
An indirect exposure is defined as purchased credit protection on underlying securities. The notional amount insured is given as the face value of the securities in the insurer’s investment portfolio which are protected by monoline insurer guarantees.
The focus is on the economic exposure which is defined as the mark-to-market impact of the securities losing the monoline guarantees (wrap) and therefore facing a downgrade of their credit rating by the rating agencies. In the case of Swiss Re, a reinsurance agreement with monoliner is only triggered by an actual loss, not by mark-to-market.
PM: So allianz are seen to be msot exposed here
NH: seems so
NH: the UK looks to be relatively OK
NH: I think the share price fall in Admiral also reflects fears that next month’s results could disappoint
PM:
PM: Lively debate about the use or otherwise of analysts below 
NH: we would be in a bigger mess without them
PM: This would be a content free zone
PM: Or a padding free zone
PM: No! taht was a joke
PM: We have lots of friends who are analysts
PM: And we are very grateful for the stuff they send us
NH: we are
PM: Putting their necks on the public line
NH: and as FXTrader says it is about so much more than buy and sell calls
NH: its about context and testing opinions
PM: Of course
PM: You know we really should launch an awards programme for analysts
PM: Something to rival Extel / Reuters
NH: what would we call it??
NH: the Alpha’s???
PM: Dunno
PM: Maybe the readers have suggestions
PM: Actually — thinking about it Neil — you should patent “The Alphas”
PM:
NH: right, think I have got the bottom of the move in the banks sector
NH: think it is down to barton biggs
NH: co-founder of hedge fund Traxis
Partners LLC
NH: but people probably remember him from his time at Morgan Stanley
PM: Of course — v v famous guy
NH: Feb. 11 (Bloomberg) — Barton Biggs, co-founder of hedge fund Traxis Partners LLC, said he’s “gradually increasing” his holdings of U.S. equities because he doesn’t expect a recession and shares are “very, very cheap.”
PM: Go for it
NH: Biggs, the former global investment strategist for Morgan Stanley, said
in a Bloomberg Television interview that the market is “at or very
close to an important bottom” and may be led higher by banks and
brokerages when a rally occurs. Some financial companies may advance 20
percent to 25 percent over periods of two to three weeks, said Biggs,
who helps manage $1.5 billion in Greenwich, Connecticut.
NH: The Standard & Poor’s 500 Index fell 6.1 percent in January, its biggest
monthly decline since September 2002 and its worst start to a year since
1990. During the month the index fell as much as 16 percent from its
Oct. 9 record.
NH: Financial companies in the index fell almost 21 percent in 2007, the
worst performance among 10 industry groups and their biggest drop since
1990. They trade for 14.8 times profits, compared with an average
price-earnings ratio of 15.5 this decade, according to data compiled by
Bloomberg.
The S&P 500 trades for 18.1 times earnings, 31 percent below its monthly
average this decade, according to data compiled by Bloomberg.
NH: Biggs correctly forecast U.S. equities would rebound from declines in
March and August last year. On March 16, following a 5 percent decline
by the S&P 500 from its Feb. 20 peak, he said stocks were approaching a
bottom and predicted a gain of as much as 15 percent for the index in
2007.
The S&P 500 rose as much as 12 percent from that level before retreating
to end the year with a 3.5 percent gain.
On Aug. 16, after a 9 percent decline by the index, Biggs said it was
bottoming and predicted a rebound. The benchmark rose almost 11 percent
over the next seven weeks.
PM: Hmm. But was Briggs saying this before the AIG stuff came out?
NH: not sure
PM: That’s enough financials
PM:
PM: What else is moving
NH: we had some questions about Xstrata below
PM: yes it was in the 6am cut
NH: the story that is
PM: Xstrata has rejected an informal cash and paper offer from Brazil’s Vale pitched at just under £40 a share, worth just under £40bn, the FT has learned. Glencore, which owns 35 per cent of Xstrata, is believed to be holding out for £45 a share. However, disagreements over the structure of a possible offer – as well as price – may now cause the Brazilians to walk away.
PM: This was a Rebecca Bream scoop
PM: V good story
PM: Rather punctured any early deal celebrations
PM: How have the share reacted??
NH: down 59p at £37.47
NH: have been as low as £36.85
PM: What’s the view in London?
NH: well, no one I have talked to
NH: thought that Vale would get Xstrata with a £40 a share offer
PM: so this is an opening shot
NH: I would assume so
NH: look, there is no way that Glencore is going to sell out at that price
NH: they could want anything up to £50 a share
NH: depending on the structure of the deal
PM: what do u mean by that?
NH: well, if Vale take pref shares
NH: instead of cash
NH: they will be entitled to a seat of the Vale board
NH: the threshold for a board seat is 10%
NH: Now I sort of think they will want a board seat
NH: because they want the visibility
NH: the want to know how the market for metals is developing
NH: as that will help their metals trading business
NH: at the moment, they have that because they effectively control Xstrata
NH: Glencore will also want to retain or be compensated for the marketing rights they have for Xstrata’s production
PM: so there are some tough negotiations ahead
NH: yep
NH: but our story is interesting because Vale have ACTUALLY made a move
NH: but it does look like an opening shot
NH: And this process could take a couple of weeks before it is sorted out
PM:
PM: Now, Neil has just thought of someone he can pester on this
PM: So i will take the reins
PM: 
PM: Note the point below on Minerva
PM: We tipped as French bid jsut as the sector was going into a full blow seizure
PM: I would remind Monkey of the escape shutes we granted our selves
PM: As for Mr Biggs…
PM: Obviously a superstar
PM: But I also remember, when he was at MS, he declared the growth of hedge funds to be a serious bubble with terrible consequences
NH: off the phone now
PM: Then we went off and started a hedge fund
PM:
PM: Ah, thanks for rejoining us Neil.
PM: Waddya got?
NH: right the view from people who know Xstrata and Glencore well is this
NH: the chief of Glencore
NH: is a tough negotiator
NH: but has never let a deal he wants fall apart
NH: but the issue is that he has to balance the price he wants with retaining the marketing rights
NH: the more he has of one the less he gets of the other
NH: anyway given the performance in the mining sector
NH: Glencore has long given up the idea of getting £45-£46
NH: this deal will be down between £40 and £45
NH: and within that range, if Glencore keeps the marketing rights, the price will be lower
NH: if it is the other way round, the price will be higher
PM: Hmm, guessing where that all came from, id say its “educated”
PM: So we reckon this is brinkmanship
PM:
PM: Now we should not ignore Resolution which was raised below
PM: That is one deal that is looking v v shakt, no?
NH: Resolution shares fell sharply yesterday
NH: after another delay to the 720p a share bid from Pearl
PM: What’s wrong this time??
NH: well, being insurance this is not going to be easy to explain
NH: but, it seems the FSA told Pearl last week its plans to withdraw capital from its closed life funds was too aggressive
PM: ok
NH: apparently, the FSA based its decision on info on the funds it got from Resolution
NH: for some reason – and there has been plenty of mud slinging on this – Resolution did not share the data with Pearl
NH: we are not sure why
NH: and anyway RSL deny that
NH: but this was never a friendly deal, so I imagine Resolution never went out of there way to be helpful
PM: so is this deal in real trouble??
NH: in theory, yes
NH: contacts who have looked at the scheme doc say Pearl and its bidding partner Royal London could make the offer lapse if the FSA imposes conditions to
the transactions that they don’t agree with
PM: So basically, the key condition of this deal is FSA approval
NH: yep
PM: and if Pearl find the FSA’s terms too onerous they could walk
NH: but is is questionable whether the Takover Panel would like Resolution work on such a technicality
NH: anyway, in practice I can’t see Pearl walking
NH: let’s not forget, Pearl own 26% of Resolution
NH: if the deal is off the price will tank
NH: : and Pearl will be banned for bidding for another 12 months
PM: So how much cash are Pearl lookng to take out??
NH: around a £1bn
NH: which would be used to pay off some of the debt I reckon
NH: However, I can’t see the FSA imposing really strict conditions on this
NH: as Rahodeb says below after the Crock debacle they must be seen to do the right thing
Readers may also know this former bank as Northern Rock.
PM: where are they this morning??
NH: they are up 17p at 689p
PM: Resolution that is
NH: think we saw a lot of rate of return funds sell out yesterday
NH: market still v nervous at the moment
NH: and any hint of problems with deals people tend to sell and ask questions later
PM: Do we have any analysts comment on this?
NH: this is from MF Global
NH: When Pearl launched its bid on Resolution it was “funds certain”, such that if Pearl could not complete (e.g. it went bust) the advisers to Pearl would be on the hook for the money.
NH: However, the deal itself was conditional on FSA regulatory approval within a certain timescale, expiring this week we understand. As the FSA has not yet given its approval an extension was sought by Pearl, which has been granted as is
clear from the RNS.
NH: It is our understanding that Pearl is attempting to engineer certain legal restructuring, while at the same time submitting a capital plan to the FSA. Bearing in mind that Resolution has a sizeable quantum of capital surpluses, together with a rapid run-off of certain of its funds, there is the possibility of releasing a lot of capital out of Resolution over the coming few years (indeed, one of the very reasons why Pearl
wanted Resolution).
NH: Further, we might presume, though do not know, that the financing that Pearl had
obtained to fund the purchase of Resolution may have been relatively short term in nature and anticipated some of those very capital releases to repay the principal. Thus, it is clearly in Pearl’s best interests to recover as much capital out of the situation in as short a timescale as possible. All very logical, given the
complexities involved and their importance, that if the FSA and Pearl need more time to study and discuss Pearl’s plan then such an extension should be granted.
Part of the Pearl business model has been to engineer a higher yield on its portfolios for the benefit of both policyholders and of course shareholders. Indeed, this was a significant differential between Pearl and Resolution, with Resolution’s model being to extract capital through restructuring of liabilities and
legal structures and the gathering of synergies, rather than to get more aggressive on the asset side of the balance sheet. We can only speculate that the recent turmoil in equity markets has left the FSA concerned to ensure that any future capital plans of Pearl give due regard for policyholder protection.
NH: In this respect, it would seem reasonable for the FSA to take a long cold look at post-completion distributions of capital to ensure it is acting with due regard for policyholders. While it is possible that Pearl could at any time walk away from this deal on the basis that it could not get the FSA to approve the transaction in the timetable agreed, there are many reasons why Pearl would be
seeking to complete this transaction.
NH: Firstly, the deal is value enhancing for Pearl and there are
substantial synergies to come from the transaction itself, which we have written about before. Given how hard Pearl fought for the deal it is hard to believe they would wish to walk away. Some have speculated that the EV decline of RSL may be responsible, yet the low levels of exposure to equity markets in the RSL portfolio means, while not immune, any falls are unlikely to be material enough to cause second
thoughts at Pearl.
NH: Secondly, Pearl are sitting on a 25%-odd shareholding in Resolution.
Should the deal not complete, Pearl would likely be sitting on a very large loss as we would expect Resolution shares to plummet. We have no idea how this £1bn plus shareholding was financed, but we might speculate that there was sizeable leverage involved. If Pearl were to pull out, it could get nasty for them.
Thirdly, Pearl’s entire business model would be in jeopardy as it is hard to imagine anyone in the industry ever wishing to do business with them again should they pull out of this deal.
NH: We see four possible outcomes:
1) The change of control is approved by the FSA without further conditions. RSL shareholders get their
720p sometime in mid March.
2) The FSA agree a further extension with Pearl before finally agreeing. RSL shareholders get their 720p
but sometime later.
3) The FSA agree the change of control but with conditions for Pearl (such as a less aggressive return of
capital). Pearl may have certain problems under such a scenario, but RSL shareholders would still
get their 720p.
4) The FSA does not agree the change of control and the deal fails. RSL shareholders suffer.
NH: On the last point, it is impossible to know where RSL shares would end up. While the company would still have a substantial tangible embedded value of around 615p end 2007, which would probably be around 600p now, as well as significant other business (asset management, management services, new
business franchise and a possible 35p EV uplift from a fund merger that was planned for 2008), we would concede that, based on current valuations of UK life stocks, it would be more likely to trade at 600p or
below.
However, with Pearl’s shareholding acting as a 25% overhang (and Pearl possibly being a forced seller) the shares would probably plummet well below the 600p level. Anybody’s guess where it would stop.
This makes it difficult to give investment advice. On the one hand, because of the downside to Pearl and therefore the strong alignment of interests, we believe that there is only a small chance of the deal failing.
Both sides want it and in Pearl’s case they may even need it. If the sticking point with the FSA is simply over the amount of capital to come out of the business post completion, then this should not be insurmountable, even if Pearl is forced to take a more conservative view of future capital releases (better that than face the consequences of the deal failing, noted above).
NH: On the other hand, it has to be conceded that there is a chance of the deal failing.
Being objective, there is possibly up to 150p of downside if the deal fails (pure guess) whereas the upside is probably only 50p (minus time value). However, the probability in our view is more weighted to the deal succeeding than failing. Taking these together, and if our guess of the upside/downside potential is right,
the fall in the share price yesterday feels reasonably rational, promoting a much greater likelihood of the deal succeeding than failing (roughly 75%/25%). It is hard to say with any level of certainty where we go
from here, though we would hold out a greater likelihood of the deal succeeding than the 75% the market is currently implying. In essence, we therefore think there is money to be made on this trade, but there are also significant and unquantifiable risk factors.
We have left our target price intact, with our core view being that the deal will succeed.
PM: Right — plenty to digest there
PM: Thanks for all that
PM: And thanks to the MF Global analyst for writing it
NH: indeed
NH: good point from Maximus below
NH: I think Vale and the Brazilian govt want to do this deal
PM: Wot on Glencore Xstrata
NH: they can see what is happening in the mining sector
NH: potentially BHP and Rio will create a super major
NH: the chinese are obviously trying to position themselves
NH: if they let xstrata go they may not get another chance
NH: it may or may not be the top of the market but this could be there only shot
NH: to create a company big enough to go toe to toe with BHP/RIO and the chinese
PM: Deciding whether this is the end of the commods cycle — or whether commods stick to history and run in super-cycles is very difficult.
PM: I think you are right. Cannot underestimte the ambition of these new powers from emerging markets
NH: while we are back on the miners
NH: Lonmin think the shares are up coz the platinum price has touched a record high
NH: for a ninth straight day
NH: ironaically that’s due to the power shortages in SA
NH: which can’t help LMI’s production
NH: but the price is up 30% in three weeks
NH: and LMI price will track that to some extend
Lonmin (LMI:LSE): Last: 3,284, up 178 (+5.73%), High: 3,300, Low: 3,102, Volume: 1.27m
PM:
PM: Now look — havent we done enough heavy stuff
PM: take me to a lighter sector!
PM: Even if its the heavy end of something lighter
NH: we could look at retail
NH: but before we do
NH: the point on Cowdery selling out of RSL
NH: is a debatable one
NH: remember he borrowed a load of cash from Goldman to take up his rights in a cash call
NH: that had to be repaid
NH: and the smart thing to do would be to sell ahead of the CGT changes
PM: Am with you on that
NH: right, back to something lighter
NH: retailers under a bit of pressure this morning after the BRC data
Marks and Spencer Group (MKS:LSE): Last: 414.25, down 0.75 (-0.18%), High: 419.00, Low: 411.00, Volume: 7.22m
WH SMITH (SMWH:LSE): Last: 357.25, down 8.25 (-2.26%), High: 367.00, Low: 356.75, Volume: 364.33k
DSG INTERNATIONAL (DSGI:LSE): Last: 67.75, down 2 (-2.87%), High: 71.00, Low: 67.75, Volume: 7.48m
PM: Hmm not surprising really
PM: Tough jan for retail
NH: no, pretty gloomy for the clothing retailers especially
NH: got a merrill note on it
PM: Do a share
NH: looks at the read across to M&S
NH: Despite the context of a more positive LFL result for January than expected, the
BRC overnight confirmed that clothing retailers had seen sales decline in January
for the fourth month in a row.
As discussed in our recent sector piece we expect General merchandise retailers
to see LFL declines of c5% for up to two quarters this year and we believe this
quarter will be very difficult.
We have also highlighted the fact that M&S has not proved defensive in either of
the last two sector downturns. In both cases its LFLs declined by more than the
market. This time around it is stepping up space addition as the market slows,
which we expect to result in increased cannibalisation.
We have also seen TNS data for the period to mid January, which measures
market share data for the major clothing retailers. This shows that over the last 24
week period, M&S’s market share in womenswear fell from 14.5% for the
corresponding period a year ago, to 14.1%. This is a further shift down from the
last data we had seen. Its overall market share through peak season also fell, and
that’s despite having 70% of its store portfolio now trading in refurbished form.
By contrast its two major quoted rivals have either held or slightly increased their
market share.
It doesn’t appear that things are very much better on food either since there were
press reports last week of M&S trying to claw back additional discount from food
suppliers on the back of its space expansion in food.
ML forecast for YE March 2008 was cut to £975m (41.4p EPS) vs revised
consensus of £1bn (EPS 42p) and for Y2 ML is again forecasting £975m (EPS
42p) which is now consensus in a very wide range. Assumptions are general
merchandise LFL decline of 3% and gross margin decline of 20bp. As highlighted
in our last note, if we adopted more bearish assumptions on both divisions (-5%
in GM and -3% in food) the net earnings risk in Y2 even taking into account the
current share buyback is c12-13%.
Unlike many of its peers (as discussed in our sector note, Shopping for Bargains)
we do not believe M&S is discounting the ongoing earnings risk, which is
intensified by the now fairly stretched balance sheet – remember that M&S still
has a pension deficit to clear. We remain Sellers.
PM: Still sellers of M&S
PM: Lord Rose will not be happy
PM:
NH: just got some RIO Tinto flashes
NH: *BHP, RIO COMBINATION `NOT IN PUBLIC INTEREST,’ IISI SAYS
*BHP, RIO MERGER SHOULD BE BLOCKED, IISI SAYS
PM: Internationaol Iron and Steel institute
NH: The International Iron and Steel Institute (IISI) is one of the largest and most dynamic industry associations in the world. IISI represents approximately 180 steel producers (including 19 of the world’s 20 largest steel companies), national and regional steel industry associations, and steel research institutes. IISI members produce around 75% of the world’s steel (excluding China) and the growing membership in China now accounts for over 20% of Chinese production.
NH: not sure how influential they are
PM: Still, indicative of just how controversial this deal is
NH: indeed
NH:
NH: we had a question below about Oxford Biomedica
NH: we have no more on the bid rumours
NH: don’t think sanofi have said anything with their results today
NH: that said, there is some stake building going on
NH: large block traded yesterday
NH: around 19m shares or 3.5% of the company traded in one block
NH: that trade seems to have printed twice though
NH: once yesterday and once today
NH: but that is all down to these new MIFID rules that are supposed to be making the market more transparent. in reality it means people can print trades in a number of place and the whole market does not get to see them unless they know what they are looking for
PM: Bound to be the case
NH: if any readers have thoughts on this and in particular the banks printing trades on Boat pls get in touch
NH: think this could be a good area for debate
PM:
PM: Thanks for all that
PM: Just one extra quick thing
PM: We have mentioned here our plans to launch a new type of forum
PM: Not a free for all
PM: Something taht we hope wilbe a little exclusive
PM: We need a few volunteers to test ideas/designs
PM: Lunch etc on us
PM: And secrecy etc
PM: Email me at paul.murphy@ft.com if you can help
PM: One other msg specifically for James Browne
PM: JB — can you email support@ftalphville.ft.com
PM: Or mail me
PM: We should be able to sort something without having to alert your employers
NH: right are we done
NH: got a lunch at the Wharf
PM: Yep — let’s go
PM: I have a dinner
NH: and can we have a bit of colour on Hong Kong tomorrow pls Paul
PM: Havent seen any yet. been working
NH: yeah, right
PM: Thanks for joining us — and thanks for all the comments
NH: bye
PM: We wil be back tomorrow ! at 11am
PM: Google — VERY GOOD POINT
PM: Will post a note in comment section
PM: