PEAK OIL AND CLIMATE CHANGE

Washington“We are all extraordinary skepticalof the "peak oil" stuff. We know of no reliable information that suggests that we're going to be running significantly short of any fossil fuel in this century…It certainly won't happen with any significant price on carbon.”“We've done a few 300-year scenarios that have some shortages in them, but even that may not be realistic. This is especially so with coal!”“The Chinese say they have enough coal for centuries…”The price of oil has increased almost continuously since 1999.If oil gets too high the economy becomes unstuckIf oil gets too low new investment is halted
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■ EU Fiscal Crisis. A restructuring of Greece’s debt is likely long-term. While the short-term risk for Greece has eased due to the recent package, market pressures on the rest of the peripheral euro area may force new fiscal measures. On any further deterioration in this situation, GEMs will be hit via rising risk aversion, weaker trade flows and falling commodity prices;■ Chinese Property Bubble. Our economists now believe that official efforts to bring property prices down could cut Chinese GDP growth by 3 percentage points in a full year. Signs of a property correction could, however, delay rate rises in China. Emerging markets that will lose out from slower Chinese growth are those that sell commodities (or other general exports) to China.■ Massive Show of Force:■ - €500bn from the EU (€440bn from SPV), over three years;■ - €250bn from the IMF;■ - ECB to buy up government and private sector securities in market;■ - Reactivation of swap lines;■ - More fiscal tightening to be imposed;■ - Also, Greece (€110bn) package fully passed.■ Conclusions/Thoughts■ - Ireland, Portugal, Spain 3-year borrowing needs (€550bn) covered;■ - Therefore, none of Greece, Ireland, Portugal, Spain need to go to capital markets;■ - European (and EMEA) GDP forecasts likely to be cut;■ - ECB not likely to raise rates until around mid-2011;■ - Vicious circle of falling GDP, rising deficits not broken;■ - Debt restructurings still likely in certain countries.■ Policy Bind Remains: i) no flexibility of exchange rates (and the dollar is now rising); ii) no flexibility of monetary policy, therefore; iii) weak fiscal policy; iv) dubious economic data; v) truculent trade unions.■ Contagion Model. Negatives from Greece situation: i) several countries with same symptoms; ii) expensive valuations (page 17); Positives: i) a ‘big wealthy neighbor’; ii) small equity market and economy; iii) no surprise; iv) immature bull market. The Big Unknowns: i) default?; ii) banking crisis?; iii) risk to global economy?To read the full report: EMERGING MARKETS
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>INDUSIND BANK: Into the next orbit (IDFC SSKI)
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After a spectacular turnaround, IndusInd Bank is working to gain scale. Marked improvement is evident in operating metrics, and the initial three-year targets have been accomplished in just two years. Now, ‘profitability with scalability’ is the new mantra with a clear intent to fast-track growth. With focus on fortifying the liability franchise (700 branches by FY13E), we expect 41% CAGR in the bank’s earnings over FY10-12. To account for higher loan growth and increasing comfort on asset quality, we upgrade our FY11E and FY12E earnings by 6.8% and 9.4% respectively. While the stock has outperformed the Sensex by a hefty 80% since September 2009, we expect strong growth in earnings as also assets to drive stock performance hereon. In view of RoA expansion of 30bp over FY10-12E to 1.4%, we see stock returns outpacing the ~25% CAGR in assets. IndusInd Bank remains our top mid-cap pick among financials.■ Remarkable progress over the last two years: A strong and well-incentivized management has enabled the bank to acquire a strong footprint despite its late entry in the crowded banking space. Over FY08-10, NIMs have surged by 150bp to 2.8%, fee income has grown 85% and cost efficiency has improved (cost to income down from 67% to 51%) – all converging into RoA expansion of 80bp to 1.1% in FY10.■ Fast-tracking future growth: IndusInd Bank plans to aggressively expand its branch network from 210 currently to ~350 by FY11 and 700 by FY13. A stronger branch network as also liability base in a recovering economy place the bank in a sweet spot to achieve ~30% CAGR in its loan book in next two years – well above the industry average of 20%. Also, NIMs are expected to expand to 3.1% as the liability mix turns favorable (CASA deposits seen at 28% by FY12) and elevated yields on retail loans.■ Strong earnings ahead; outperformance to continue: Above-industry loan growth, improving margins, increasing efficiency and lower provisioning costs are expected to drive RoA expansion of 30bp to 1.4% in FY12. Despite the recent re-rating on market cap to assets metric, the stock still trades at a discount of 20%+ to peers. Going forward, on the back of above-industry growth and a consistent rise in RoA, we expect stock returns to outpace growth in assets. At 2.5x FY12E adjusted book, we reiterate Outperformer.To read the full report: INDUSIND BANK
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>GMR INFRASTRUCTURE: Infrastructure giant
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With a broad portfolio of infrastructure projects supported by a track record of good execution, GMR looks ready to deliver flagship projects in airports and power. We value GMR on an NAV basis, leading to our TP of Rs78.4. Recent long term fund raising has strengthened the balance sheet; we initiate with a Buy.GMR enjoys first-mover advantage in the high entry barrier infra developer spaceIn the high entry barrier infrastructure developer space, GMR has a first-mover advantage as it aggressively builds a portfolio in transport (airports and roads), energy (thermal and hydro power, mines) and urban infrastructure (real estate and special economic zones (SEZ)). GMR's majority-management and financial control of projects have given it a strong execution track record in Indian infrastructure, in which overruns on time and costs are usual.Largest airport developer in India should benefit from 15% CAGR in trafficWe forecast GMR's airport division, with controlling stakes in Delhi and Hyderabad airports,commanding nearly 27% of India's air traffic, will grow at 15% CAGR in FY10-13F. Building on its first-mover advantage in the sector, we believe GMR has created a strong brand by giving international-quality service to Indian consumers. Supported by an open sky policy and project funding, we believe GMR offers a safe play on air traffic growth. GMR derives nearly 27% of its SOTP value from airports, which we see as more stable than cyclical airlines or the hotel industry. The adjoining premium land parcels supporting airport capex contribute 17% of our SOTP value.Ambitious power portfolio to start delivery in FY13F; will reduce project-specific riskGMR's judicious mix of fuel, customer profile, geography and fuel supply security in its energy business should lead to a sharp ramp-up in performance beginning in FY13F. Meanwhile, with a recent equity fundraising of US$510m, management appears on course to nearly triple sales, with an 85% CAGR in EPS FY10-13F. We value GMR on a SOTP basis at Rs78.4, in which we value projects on NPV of free cash flow to equity (FCFE), the highgrowth EPC division at an FY12F PE of 12x, and InterGen and Homeland at book value. GMR's monopoly in premium assets, good mix of regulated and market return projects, and ROE supported by government policy merit a premium valuation, in our view. We initiate with a Buy.To read the full report: GMR INFRASTRUCTURE

A lower loss is still a loss

lower loss is still a lossThe government has agreed to provide an additional cash subsidy of INR140bn (in addition to the earlier announced INR120bn) to oil marketing companies (OMC) to partly fund losses incurred by the OMCs on the sale of controlled petroleum products – e.g., gasoline, diesel, LPG and kerosene – below market prices. While this is good news for OMCs, we do not believe this is enough.ValuationBPCL and HPCL: We value both BPCL and HPCL using a sum-of-the-parts valuation of the core refining and marketing businesses and investments. We use a combination of PE-based (50% weight) and EV/EBITDA-based (50% weight) multiples.We use a target PE of 10.0x for BPCL and 9.5x for HPCL on the basis of the last six-month average. We value listed investments at market price and others at book value. We use a target EV/EBITDA multiple of 5.5x for HPCL and BPCL. We also value BPCL’s E&P portfolio at INR50/share. As HPCL’s investments in E&P are still at an initial stage, we have not accorded any value to its E&P portfolio.RisksThe most important risk to our Underweight (V) ratings for both stocks is a complete reimbursement of under-recovery amounts. The generic risks to our ratings include materially higher refining margins and lower oil price and dollar exchange rates, leading to lower under-recoveries than those assumed for our long-term forecasts. Key company-specific risks follow.BPCL: BPCL is slated to commence production at its 6 MMtpa refinery at Bina during FY11. A faster ramp-up and earlier commissioning are risks. BPCL has an indirect 12.5% stake in a Brazilian oil field BC-30 which reported a discovery recently. We have ascribed about 2bn barrels (at 3P resource level) in place volume to this discovery. Discovery of significantly higher volume is a risk to our rating.HPCL: We expect HPCL to commence production at its 9 MMtpa joint venture refinery at Bhatinda during FY12. Early commencement of production is a risk to our rating. Additionally, HPCL has invested in upstream exploration blocks. Significant success in these blocks could be an upward trigger for the stock price.

To read the full report: OIL MARKETING COMPANIES

GREED AND FEAR

The predictable EU/IMF joint €110bn package for Greece has not led to the short-covering trade that GREED & fear had expected. The euro bounced a little late last week but has sincecollapsed, while spreads have widened since Tuesday after narrowing somewhat in recent days.Thus, the euro rose from US$1.32/€ on 28 April to US$1.33/€ on Friday and has since fallen toa 14-month low of 1.28/€ (see Figure 1). Similarly, the PIIGS spread fell from 282bps on 28April to 229bps on Monday and has since risen to 321bps (see Figure 2). Such market action isnot impressive given the time, or at least benign interlude, that the announced €110bn shouldbuy.The lack of a more positive response reflects surely the market’s realisation that this is only thebeginning, not the end, of the deflationary dynamic caused by Euroland’s incompatible mix ofmonetary union without political union. There are also the uncertainties caused by the potentialfor massive strikes in Greece as will by the issue of whether Germany or other countries’legislatures will actually pass the agreement. There is also the position of Germany’sIt is true that the deal commits Greece on paper at least to real austerity while the economicprojections seem more realistic. Thus, under the deal, Greece plans to cut the fiscal deficit from13.6% of GDP last year to 8.1% this year and to 2.6% in 2014 (see Figure 3). While Greek realGDP is projected to decline by 4% this year and by 2.6% in 2011 (see Figure 4). It is also truethat the only way a socialist government has a chance of persuading private-sector Greeks topay their taxes is via a radical reform of the public sector. This is now part of the IMF conditions. Still GREED & fear remains of the view that Greece would be better off opting for a return to the drachma and debt restructuring in line with the sort of classic IMF programme implemented in countless emerging market restructurings before; most particularly as foreigners own about 70% of Greek government debt. Imagine, for example, the boom in Greek tourism that would follow a big devaluation.

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