Morgan Stanley -Strategy Forum by riteshbhansali

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									                                                                                                     MORGAN STANLEY RESEARCH
                                                                                                                                 Morgan Stanley & Co. LLC




June 4, 2012


Morgan Stanley                                                        Contributors to this Issue
                                                                      Global Cross-Asset Strategy
Strategy Forum                                                        Greg Peters (New York) +1 212 761-1488

                                                                      US Economics
Introduction: The global economy is slowing, and last
                                                                      Vincent Reinhart (New York) +1 212 761-3537
week’s performance was a clear wake-up call for most
investors. EM FX is down pretty significantly over the past           US Interest Rate Strategy
month, and the same goes for commodities. The                         Matthew Hornbach (New York) +1 212 761-1837
European crisis is clearly producing a self-reinforcing
                                                                      US Equity Strategy
cycle, and the question we get repeatedly is this: Can
                                                                      Adam Parker (New York) +1 212 761-1755
central banks save the world?
                                                                      EM Fixed Income Strategy
My view is that any potential bounce produced by central-             Rashique Rahman (London) +44 20 7677-7295
bank actions will be short-lived. If you look at the first slide
                                                                      See appendix for Strategy Forum slide package.
in the attached Appendix, which shows government bond
yields going back to 1900, you can see that we are at all-            Morgan Stanley entities:
                                                                      New York – Morgan Stanley & Co. LLC
time low yields. So we are in a new regime, and while we              London – Morgan Stanley & Co. International plc+
may hear about the crisis being solved in Europe or other
developments, if you look at where we are over the long
term, we are in a very different place. This should help to
illuminate the struggle that we now face as investors.

Today we have Vincent Reinhart and Matt Hornbach to
talk about their outlook for Federal Reserve activity and its
impact on the rates market. Adam Parker discusses how
to generate alpha among the top 100 global stocks. And
Rashique Rahman addresses the weakness we are
seeing in emerging markets. — Greg Peters

US Economics
Fed Likely to Take Further Action
Vincent Reinhart (New York) +1 212 761-3537

Our forecast has been for a while that the economy would
settle back to a trend rate of about 2% real GDP growth,
consistent with the unemployment rate moving sideways.
That’s about what we got in the May unemployment report
(see my first slide in Appendix). The report was much              Morgan Stanley does and seeks to do business with
weaker than generally expected and included net                    companies covered in Morgan Stanley Research. As a
downward revisions to previous months. The workweek                result, investors should be aware that the firm may have
                                                                   a conflict of interest that could affect the objectivity of
posted a decline, and average hourly earnings only edged
                                                                   Morgan Stanley Research. Investors should consider
up. GDP growth for the first quarter was revised down to           Morgan Stanley Research as only a single factor in
1.9%, and most importantly final domestic demand grew at           making their investment decision.
ony about 1 ¾%. Incorporating the recent data, we think            For analyst certification and other important
Q2 GDP is running about 2 ¼%.                                      disclosures, refer to the Disclosure Section,
                                                                   located at the end of this report.
(continued on page 2)
                                                                   += Analysts employed by non-U.S. affiliates are not registered with FINRA, may not be
                                                                   associated persons of the member and may not be subject to NASD/NYSE restrictions on
                                                                   communications with a subject company, public appearances and trading securities held by a
                                                                   research analyst account.
                                                                   MORGAN STANLEY RESEARCH

                                                                   June 4, 2012
                                                                   Strategy Forum




                                                                   support the housing and mortgage markets, and the Fed will
US Economics                                                       probably want to encourage progress made to date. Third,
(continued from page 1)                                            the technical dislocations that the previous program caused in
                                                                   the MBS market have dissipated, as shown in my second
The Federal Reserve had already been expecting to fall short       Appendix chart, which looks at the number of securities that
of its dual mandate of stable prices and full employment. In       have not been delivered to buyers as promised. The level of
its most recent survey of economic projections, the                fails has since fallen back to more normal levels, and should
unemployment rate ran above its long-term level and inflation      not inhibit more buying.
was below the Fed’s goal of 2%. This shortfall has certainly       We assign an 80% probability that the Fed will do
become larger based on the run of weaker data, combined            something later this month, but what kind of program do we
with recent events in Europe and the looming US “fiscal cliff”     expect and what will be the impact on the bond market? The
at year-end. In addition, financial conditions have tightened,     impact will depend on the type of program, so let’s quickly run
and we think they would tighten further if the Fed were not to     through the options. (1) The Fed could embark on QE3 –
act at its June 19-20 meeting. Given our economic forecast         which means financing the program by creating reserves in
we think the odds of additional Fed action at the June meeting     the banking system. We think this is the most likely path.
are about 4 out of 5, as Matt Hornbach describes in his            (2) The Fed could also continue with its current Maturity
following comments.                                                Extension Program – known as Operation Twist – but we
                                                                   think the central bank will want to avoid extending the maturity
                                                                   range of the bonds it has been selling. And (3) the Fed could
US Interest Rate Strategy                                          finance a buying program with other sterilization techniques
                                                                   involving its reverse repo program or its term deposit facility.
Expecting Fed Action                                               We would call this Sterilized QE. Breaking down the
Matthew Hornbach (New York) +1 212 761-1837                        probabilities, we see a 20% chance of inaction, a 56% chance
How long will the Federal Reserve buy bonds, how much              of QE3, and a 24% chance of either an extension of Twist or a
will they buy, and what will they buy? We addressed these          Sterilized QE.
questions in our US Interest Rate Strategist of June 1. First,     We can use the market reaction to the previous programs
we think that a program announced in June that would begin         as guides for the future. In the past, the market has reacted
in July would run for a period of nine months to the end of the    to the expansion of the Fed’s balance sheet and concurrent
first quarter of next year. The program would likely be set to     increase in the monetary base by raising inflation
remove enough duration to be in line with the Fed’s previous       expectations and term premiums across the yield curve. But
two programs, but it would be skewed slightly to the more          Operation Twist neither expanded the Fed’s balance sheet
aggressive side.                                                   nor the monetary base, and the market reacted by keeping
We think the Fed will buy both Treasuries and Agency               term premiums low and pushing real yields lower. Sterilized
Mortgage-Backed Securities, as well as continuing to               QE would be new to the market because it would expand the
reinvest the prepayments from its existing portfolio, putting      Fed’s balance sheet but not the monetary base. We suspect
them back into mortgages. Given that the Fed has avoided           an initial reaction would send Treasury yields higher in the
buying mortgages apart from prepay reinvestment for some           case of balance sheet expansion; however, this effect would
time, why do we think the Fed will buy MBS this time? There        later be tempered due to the fact that the amount of money in
are three reasons.                                                 the economy is not likely to increase.

First, the Fed and other official institutions globally own over
half of the outstanding balance of Treasuries, and the effect of   Global Equity Strategy
this ownership structure has been to depress term premiums
into negative territory. But term premiums (as displayed in my     Screening Mega Caps for Alpha
first Appendix chart) have been pushed to levels on the Fed’s      Adam Parker (New York) +1 212 761-1755
model beyond what might be considered healthy. The Fed
                                                                   Markets have been in a risk-off period recently, and we
will probably want to focus some of its influence elsewhere.
                                                                   think a focus on the largest stocks around the world is natural
Second, the purpose of its previous MBS program was to
                                                                   for global portfolio managers today. In today’s note (Top 10

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Favored/Disfavored Global Stock Ideas Among the 100               $96, JP Morgan Chase $32, Bayer €49, ICBC HK$4.65,
Largest Companies), together with our EM (Jonathan Garner)        Novartis SFr 50, Bristol Myers Squibb $33, L’Oreal €88,
and Europe (Graham Secker) equity strategists, we rank            Procter & Gamble $61, Amazon $208 , Abbott Laboratories
order 100 mega cap stocks around the world. Alpha                 $60, Unilever €25, Roche SFr 149, AmBev $36, Coca-Cola
generation among these stocks is possible (see my first slide     $73, and POSCO KRW 353,000
in Appendix), and these stocks are 1/3 of the global equity
market capitalization, so a methodology for comparing these
stocks is crucial.                                                EM Fixed Income Strategy
We used eight variables to compare these stocks: We               Still Risks, But Better Priced
compared Morgan Stanley’s fundamental analysts’ growth
                                                                  Rashique Rahman (London) +44 20 7677-7295
outlook to what’s in the price today (see Appendix), developed
a five-factor quantitative approach, assessed bull-bear ratios,   Relative performance in emerging markets was very weak
emerging market exposure, free cash flow yield,                   for May, albeit still a bit better than what we saw for broader
attractiveness on price-to-forward earnings, and recent capital   risk for the month. If EM is the market of the future, then
spending-to-sales trends to assess these global mega caps.        based on recent performance, maybe it always will be. June
We ranked each stock within their respective regions              is likely to be an especially event-driven and volatile month,
according to these eight variables, and then computed a           with no clear direction and markets trading in a broad range.
weighted sum of these ranks to obtain a blended score using       Yet after last month’s correction, risk/reward is, for the first
the weighting scheme shown on my third slide in Appendix.         time since February, more evenly balanced. For details see
We ranked these blended scores across all 100 stocks to           our Global EM Investor of June 1, 2012.
obtain an overall rank, which we then used to identify the 10
                                                                  We have shifted our tactical market stance to hold from
most favored and 10 not favored stocks.
                                                                  reduce. We see limited scope for further material downside
The results of our backtest of a strategy based on our            in EM risk markets at this stage, absent a pricing in of a
mega cap screen showed that top-quartile performance is           disruptive event in Europe. We certainly don’t rule out further
meaningfully above bottom-quartile performance over time,         modest weakness in the immediate term, on European
indicating that alpha generation among the mega caps is           uncertainties and/or the feed-through to prospectively weaker
feasible, dispelling the notion that the largest stocks are so    global growth. Dollar demand and bank deleveraging remain
picked over that making bets there is imprudent.                  headwinds. At the same time, anticipation of policy action –
                                                                  including US quantitative easing – may begin to stabilise
Our analysis focused on the biggest 100 stocks globally,
                                                                  markets, and valuations are increasingly attractive across EM
based on free-float market capitalization, under Morgan
                                                                  currency and credit.
Stanley fundamental coverage by the middle of May 2012
when we started this analysis. Specifically, our universe         We see three drags, or headwinds, behind the downward
includes the largest 50 stocks from the US, the largest 25        re-pricing in EM asset markets: (1) Dollar demand –
stocks from Europe, and the largest 25 stocks from Emerging       external funding requirements for EM economies. (2)
Markets in an attempt to mirror what a globally indexed           Deleveraging – Western Europe bank deleveraging and the
portfolio manager would be considering.                           decline in credit exposures to EM economies. (3) Downturn –
                                                                  growth moderation in EM and declining external demand in
Favored ideas: Our ten top ideas, rated Overweight by our
                                                                  developed markets. We believe that all three will continue to
fundamental analysts and screening attractively across the
                                                                  drive price action and investor sentiment in 2H12 as much as
universe of eight factors we considered, are WFC, Sanofi,
                                                                  we have seen in 1H12. We touch on each point below and
Hyundai Motor, CNOOC, HSBC, CVX, JPM, Bayer, ICBC,
                                                                  discuss these issues in greater detail in our June 1 monthly
and Novartis.
                                                                  report cited above.
Not favored ideas: Our ten least favorite names include
                                                                  Funding market conditions: The heavy reliance of EM
BMY, L’Oreal, PG, AMZN, ABT, Unilever, Roche, AmBev,
                                                                  economies and particularly the private sector on –
KO, and POSCO.
                                                                  predominantly – US dollar financing suggests that a seizing
Stock prices: Wells Fargo $30, Sanofi €53, Hyundai Motor          up of funding markets leaves dollars scarce and EM
KRW 234,000, CNOOC HK$13.38, HSBC HK$60, Chevron                  currencies dear, pushing USD/EM higher. This was the


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immediate cause of the sharp EM currency sell-offs in 3Q11
and in 3Q08. And it explains recent price action as well – to
some degree.

European bank deleveraging: Another related dimension to
consider is bank deleveraging and its impact on EM asset
prices. The funding needs of European banks and the
prospects for balance sheet reduction may well be a
consideration for further EM asset price weakness. In fact,
the bank deleveraging process has been well under way, with
eurozone bank claims on EM down 9.4% from peak levels
seen in 1Q11, according to BIS data. And there is a strong
correlation between European bank deleveraging and EM
currency performance. So it could very well be that recent
poor performance for EM currencies and credit, in the midst of
only modest deterioration in funding market conditions, is
related to the process of European bank deleveraging.

Global/EM growth conditions: Yet another factor playing
into the prospect for more potential EM asset price weakness
relates to future EM growth conditions. More specifically, a
downturn in exports, deteriorating terms of trade and
weakening domestic and external demand conditions all
compromise the outlook for economic growth and feed in to
lower asset prices.




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Appendix – Morgan Stanley Strategy Forum

June 4, 2012




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                    Morgan Stanley & Co. LLC




                 Greg Peters

                   Global
                 Cross-Asset
                  Strategy



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Government Bond Yields Are Remarkably Low
Government Bond Yields (10Year+)

  %

 18

 16
                                                           United Kingdom
 14

 12

 10

   8
                                                     Germany
   6

   4
                                                                        United States
   2

   0
   1900                  1920                 1940             1960             1980     2000

Source: NBER, UK DMO, Bloomberg, Morgan Stanley Research




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                 Morgan Stanley & Co. LLC




     Vincent Reinhart

         US Economics




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Morgan Stanley Forecast

May Employment Report                                                      Real GDP
                                                                           % Change Q-o-Q (SAAR)
                                     Feb-12   Mar-12    Apr-12   May-12    4.0
Nonfarm Payrolls (Change, 000s)        259      143        77        69

 Manufacturing                          30        42        9        12    3.5

 Construction                           (1)     (14)       (5)     (28)                                                    Morgan Stanley
                                                                           3.0                                              2Q Tracking
 Retail Trade                          (15)     (15)       27         2                                                      Estimate

 Prof & Bus Services                    89        18       37        (1)
                                                                           2.5
   Temps                                50      (13)       13         9

 Government                              5        (4)     (10)     (13)    2.0

 Other                                 151      116        19        97
                                                                           1.5
Average Workweek (Hours)               34.6     34.5      34.5     34.4

 Manufacturing                         40.9     40.7      40.8     40.5
                                                                           1.0
Aggregate Hours (% Change)              0.5     (0.1)      0.0     (0.2)

 Manufacturing                          0.2     (0.1)      0.2     (0.6)   0.5
Average Hourly Earnings (% Change)      0.2      0.2       0.1      0.1

Unemployment Rate                       8.3      8.2       8.1      8.2    0.0
                                                                                  1Q11      2Q11    3Q11     4Q11      1Q12       2Q12

Source: Bureau of Labor Statistics                                          Source: Bureau of Economic Analysis, Morgan Stanley




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What Does it Mean for the Fed?

The Fed’s Forecast Shows it Falling Short of                             Financial Conditions Have Tightened
its Mandate                                                              Morgan Stanley Financial Conditions Index
                                     Central tendency                     Index Z-Score
                                                             Longer
Company                     2012        2013        2014       Run        2.5
                                                                                              MEP        Financial Conditions Tighter
Change in Real GDP       2.4 - 2.9   2.7 - 3.1   3.1 - 3.6   2.3 - 2.6    2.0
 January Projection      2.2 - 2.7   2.8 - 3.2   3.3 - 4.0   2.3 - 2.6           ‘Mid-2013’                      FX Swap Lines
                                                                          1.5

Unemployment Rate        7.8 - 8.0   7.3 - 7.7   6.7 - 7.4   5.2 - 6.0
                                                                          1.0
 January Projection      8.2 - 8.5   7.4 - 8.1   6.7 - 7.6   5.2 - 6.0                                               Index = 1
                                                                          0.5

PCE Inflation            1.9 - 2.0   1.6 - 2.0   1.7 - 2.0         2.0
 January Projection      1.4 - 1.8   1.4 - 2.0   1.6 - 2.0         2.0    0.0
                                                                                                                MS FCI

                                                                         (0.5)
Core PCE Inflation       1.8 - 2.0   1.7 - 2.0   1.8 - 2.0                        Financial Conditions Looser
 January Projection      1.5 - 1.8   1.5 - 2.0   1.6 - 2.0               (1.0)
                                                                           May 11             Aug 11    Nov 11           Feb 12     May 12



Note:   The central tendency excludes the three highest and
        three lowest projections for each variable in each year.
Source: Federal Reserve Board                                             Source: Bloomberg, Morgan Stanley Research




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                 Morgan Stanley & Co. LLC




 Matthew Hornbach

             US Interest
            Rate Strategy




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What Would They Buy?

10-Year Term Premiums in the Fed’s Eyes                       MBS Failed to Deliver
%                                                             (4 Week Moving Average)
                                                              US$ Billions
 1.5                                                          900

                                                              800

 1.0
                                                              700

                                                              600                                                  Fail penalty
                                                                                                                   takes effect
 0.5                                                                                   MBS
                                                              500                  purchase
                                                                                    program
                                                              400                  increases
 0.0
                                                              300 MBS purchase
                                                                  program begins                 MBS purchase
                                                              200                                program ends
(0.5)             Kim/Wright (2005) 10-Year
                 Zero Coupon Term Premium
                                                              100

(1.0)                                                           0
   May-07    May-08       May-09   May-10   May-11   May-12     May-07         May-08   May-09   May-10   May-11    May-12

Source: Federal Reserve                                         Source: Morgan Stanley Research, New York Fed




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What Kind of Program and What Impact?

Morgan Stanley Balance Sheet Action Tree      Federal Reserve Balance Sheet vs. Monetary Base
                                              US$ Billions

                                              3,500
                    Chance of     Chance of                                    MEP
                    Fed Action    No Action
                                              3,000
                       80%          20%
                                                      Federal Reserve Total Assets                 S-QE

                                              2,500
                                                         QE1

       QE3        MEP2 or S-QE                2,000

       70%             30%                                                               QE2
                                              1,500

                                                                   Monetary Base
                                              1,000


      MEP2             S-QE        Hybrid       500
       25%              25%         50%
                                                   0
                                                   Jun-07         Jun-09           Jun-11          Jun-13

Source: Morgan Stanley Research                 Source: Morgan Stanley Research, Federal Reserve




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                   Morgan Stanley & Co. LLC




            Adam Parker

                 US Equity
                  Strategy




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Historically, Generating Alpha Among the Mega Caps
Was Quite Feasible
Mega Caps: 75%-ile to 25%-ile Return Spread for Simulated Portfolios with a
Basic Weighting Scheme, 1964 – 2011
Spread in Annual Returns
 14

 12

 10

   8

   6

   4

   2

   0
       64      67      70      73      76   79   82   85   88     91        94   97   00   03   06   09

Source: FactSet, Morgan Stanley Research




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The Market Cap Contribution of Our Top 100 Stocks to
the Various Regional Indices


                                                    Contribution to
                                                 Regional Index MarketCap

                                               $ Trn                 %

               MSCI AC World                     8.5                33%

               MSCI Europe                       1.9                34%

               MSCI EM                           0.9                28%

               S&P 500                           5.7                48%




Source: FactSet, Morgan Stanley Research




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The Eight Variables Used for Our Blended Rankings


      Variable Name                    Description                                                         Weight:
      MS LTG - WITP                    Morgan Stanley's LT Growth Estimate Less ‘What's In The Price’       25%
      5-Factor Model                   Our ‘quant model’ using the five factors below:                      25%
                                       Price-to-Book                                                         5%
                                       Year over Year Change in ROE                                          5%
                                       3-Month EPS Revisions (2013E)                                         5%
                                       Indicated Dividend Yield                                              5%
                                       6-Month Price Momentum                                                5%
                                       Ratio between the % of upside to bull case and % downside to bear
      Bull/Bear Ratio                                                                                       25%
                                       case
      MS Analyst Rating                Morgan Stanley's Analyst stock rating: ‘1’ means ‘Overweight’         5%
      %-ile PEF vs. History            The percentile versus history of the current forward P/E              5%
      % of Revenues from EM            Percentage of revenues derived from Emerging Markets                  5%
      FCF Yield                        Free Cash Flow Yield                                                  5%
      YoY Chg in CapEx/Sales           Year over Year Change in CapEx                                        5%

Source: FactSet, Morgan Stanley Research estimates




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MS Analysts Are Most Optimistic Relative to
What’s in the Price for These Stocks
Top 20 Ranked Stocks:
Morgan Stanley Analyst Long-Term Growth Estimate Less ‘What's In The Price’
 %
 40

 35

 30

 25

 20

 15

 10

   5

   0
       Telefonica    Sanofi         Banco       Chevron      Sasol Ltd.   AstraZeneca Amazon.com Wells Fargo         CNOOC       UnitedHealth
                                   Bradesco                                   PLC        Inc.      & Co.              Ltd.        Group Inc.

               Itau       Hon Hai        Hyundai      Samsung         China        Infosys         AIG         Oracle          Union     Schlumberger
             Unibanco     Precision       Motor                        Life          Ltd.                      Corp.          Pacific         Ltd.
                                                                                                                               Corp.
Source: FactSet, Morgan Stanley Research. For important disclosures regarding companies that are the subject of this screen, please see the
        Morgan Stanley Research Disclosure Website at www.morganstanley.com/researchdisclosures.




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These Stocks Are Most Expensive Relative to Their
Own Histories
Bottom 20 Ranked Stocks: ‘Percentile of Current Forward P/E vs. History’

 %
 100


   80


   60


   40


   20


     0
         Companhia    Philip     Naspers          Altria      Diageo       Bristol-        British      Master-       Nestle    McDonald's
         de Bebidas   Morris       Ltd.           Group        PLC          Myers         American       Card          S.A.       Corp.
                                                   Inc.
             Amazon.com      Verizon       Novo          POSCO       Home           AT&T         Vodafone     Unilever       Visa    MTN Group
                 Inc.                     Nordisk                  Depot Inc.        Inc.                       N.V.         Inc.         Ltd.
                                            A/S
Source: FactSet, Morgan Stanley Research. Companhia de Bebidas: AmBev. For important disclosures regarding companies that are the subject of
        this screen, please see the Morgan Stanley Research Disclosure Website at www.morganstanley.com/researchdisclosures.




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Our Top Favored Global Mega Cap Picks
Largest 10 Stocks Globally, by Market Cap, Highly Ranked
by Our 8-Factor Model, and Rated Overweight by MS Analyst

                                                                                                   Market Cap
            Ticker            Company Name                                                           ($MM)                   Region
            WFC               Wells Fargo & Co.                                                      169,913                    US

            567173            Sanofi S.A.                                                             79,837                   EUR
            645105            Hyundai Motor Co. Ltd.                                                  31,877                    EM
            B00G0S            CNOOC Ltd.                                                              32,324                    EM

            054052            HSBC Holdings PLC                                                      138,939                   EUR
            CVX               Chevron Corp.                                                          193,983                    US
            JPM               JPMorgan Chase & Co.                                                   126,700                    US

            506921            Bayer AG                                                                49,906                   EUR
            B1G1QD            Industrial & Commercial Bank of China Ltd.                              36,951                    EM
            710306            Novartis AG                                                            118,341                   EUR



Source: FactSet, Morgan Stanley Research. For important disclosures regarding companies that are the subject of this screen, please see the
        Morgan Stanley Research Disclosure Website at www.morganstanley.com/researchdisclosures.




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Our Top Ten Disfavored Global Mega Cap Picks
Bottom 10 Stocks Globally, by Market Cap, Poorly Ranked
by Our 8-Factor Model, and Rated Equal-Weight/Underweight by MS Analyst

                                                                                                   Market Cap
            Ticker            Company Name                                                           ($MM)                   Region
            BMY               Bristol-Myers Squibb Co.                                                56,311                    US

            405780            L'Oreal S.A.                                                            26,299                   EUR
            PG                Procter & Gamble Co.                                                   170,681                    US
            AMZN              Amazon.com Inc.                                                         95,810                    US
            ABT               Abbott Laboratories                                                     97,220                    US

            B12T3J            Unilever N.V.                                                           49,784                   EUR
            711038            Roche Holding AG                                                       108,498                   EUR
            236197            AmBev                                                                   28,708                    EM

            KO                Coca-Cola Co.                                                          168,666                    US
            669323            POSCO                                                                   20,056                    EM



Source: FactSet, Morgan Stanley Research. For important disclosures regarding companies that are the subject of this screen, please see the
        Morgan Stanley Research Disclosure Website at www.morganstanley.com/researchdisclosures.




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                 Morgan Stanley & Co. International plc+




   Rashique Rahman

         EM Fixed
      Income Strategy




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EM Performance

Comparative EM Market Performance                                   USD / EM and EM Credit Spreads

  2                                                                 102

  0                                                                                                      USD / EM           375
                                                                    100                                  (left scale)
 (2)
                                                                     98
                                                                                                                            325
 (4)
                                                                     96
 (6)

                                                                     94                                                     275
 (8)    MTD (%)

        YTD (%)
(10)                                                                 92

                                                                                              EM 5-Year CDX, bp             225
(12)                                                                                          (right scale)
                                                                     90

(14)
                                                                     88                                                     175
       EM FX      AXJ FX CEEMEA   LatAm   S&P 500 MSCI EM
                           FX       FX                                May-11 Jul-11    Sep-11 Nov-11 Jan-12 Mar-12 May-12



                                          Source: Morgan Stanley Research, Bloomberg




                                                                                                                                  23
                                                MORGAN STANLEY RESEARCH

                                                June 4, 2012
                                                Strategy Forum




What Explains This Performance for EM Currencies?


  Dollar Demand
       External funding requirements for EM economies


  Deleveraging
       West European bank deleveraging and decline in credit exposures to EM economies


  Downturn
       Growth moderation in EM and declining external demand in DM




Source: Morgan Stanley Research




                                                                                          24
                                                          MORGAN STANLEY RESEARCH

                                                          June 4, 2012
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Dollar Demand – EM Economies’ External Financing Needs

EM Funding Market Stress Index vs. USD / EM               EM Gross External Funding Requirement (EFR*)
                                                          US$ Billion
 45      MS EM                                      102   200
         Funding Stress Index
         (left scale)
                                                    100
 40
                                                          160

                                                    98
 35
                                                          120
                                                    96
 30

                       USD / EM Index               94     80
                       (right scale)
 25
                                                    92
                                                           40
 20
                                                    90

                                                            0
 15                                                 88
                                                                COP




                                                                 THB




                                                                MXN
                                                                PHP




                                                                 CLP




                                                                  ILS




                                                                CNY

                                                                TRY
                                                                 BRL
                                                                RUB

                                                                RON




                                                                 INR
                                                                PEN

                                                                MYR




                                                                 IDR
                                                                ZAR




                                                                 PLN
                                                                HUF
                                                                CZK

                                                                ARS


                                                                KRW
 May-11 Jul-11 Sep-11 Nov-11 Jan-12 Mar-12 May-12

                                                           * EFR = 2012F C/A deficit + S-T ext debt + 12m forward
                                                             amortisation of m-t debt.
Source: Morgan Stanley Research                            Source: Morgan Stanley Research, Bloomberg, Haver Analytics




                                                                                                                         25
                             MORGAN STANLEY RESEARCH

                             June 4, 2012
                             Strategy Forum




Deleveraging – The Slow, Steady Retreat
                             Q-o-Q Change in Eurozone Bank Claims on
Eurozone Bank Claims on EM   EM and Q-o-Q Change EMFX Performance
USDBn                        Q-o-Q % Change in EMFX Indices

2,500                         15
        AXJ
        CEEMEA
                              10 EMFX Depreciation
        LatAm                    vs. USD
2,000
                                5


1,500                           0


                              (5)                                                   AXJ
1,000                                                                               CEEMEA
                                                                                    LatAm
                             (10)


 500                         (15)                                        Eurozone Bank
                                                                         Deleveraging

                             (20)
   0                         (200,000)        (100,000)       0          100,000     200,000
        D-11
        J-07




        J-11
        S-11
        D-10
        J-06




        S-10
        J-08



        J-09



        J-10
        S-06




        S-08



        S-09
        M-09




        M-11
        S-07
        D-07



        D-08



        D-09
        M-10
        M-07
        D-06
        M-06




        M-08




                                              Q-o-Q Level Change in Eurozone Bank
                                              Claims on EM by Region, US$ Million

Source: BIS                   Source: Morgan Stanley, BIS




                                                                                               26
                                                                 MORGAN STANLEY RESEARCH

                                                                 June 4, 2012
                                                                 Strategy Forum




Downturn – Growth Slowdown, Weaker
External Demand

EM Manufacturing PMIs and Commodity Prices                      EM Growth Surprise (IP) Metric

60                                                        500    2.5
                                                                         IP Above Expectations
                                                                 2.0
                                        EM PMI            450
55                                      (left scale)             1.5

                                                          400    1.0

                                                                 0.5
50
                                                          350
                                                                 0.0

                                                                (0.5)
                                                          300
45
                                       CRB Index                (1.0)
                                       (right scale)                                             EM IP y/y% (Actual – Survey)
                                                          250   (1.5)
40
                                                                (2.0)
                                                          200
                                                                (2.5)
                                                                        IP Below Expectations
35                                                        150   (3.0)

  Jan-07   Jan-08    Jan-09   Jan-10   Jan-11    Jan-12            Jan-07     Jan-08   Jan-09    Jan-10    Jan-11    Jan-12



Source: Morgan Stanley, IMF CPIS                                  Source: Morgan Stanley Research




                                                                                                                                27
                                           MORGAN STANLEY RESEARCH

                                           June 4, 2012
                                           Strategy Forum




EM Local Rates – Slower to Follow
Hikes / Cuts Priced-In to EM Rate Markets (6M)
   Bp
   60

   50              EM

   40

   30

   20
                G4
   10

    0

 (10)

 (20)

 (30)

 (40)

    Mar-11               Jun-11   Sep-11                Dec-11       Mar-12


Source: Morgan Stanley




                                                                              28
                                                                                      MORGAN STANLEY RESEARCH

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Morgan Stanley is acting as financial advisor to Chevron U.S.A. Inc. ("Chevron") in connection with its definitive agreement to sell
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Please refer to the notes at the end of the report.




                                                                                                                                    29
                                                                                                 MORGAN STANLEY RESEARCH

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                                                                                                                                                     30
                                                                                                               MORGAN STANLEY RESEARCH

                                                                                                               June 4, 2012
                                                                                                               Strategy Forum




                             Coverage Universe    Investment Banking Clients (IBC)
                                            % of                   % of % of Rating
    Stock Rating Category       Count       Total     Count Total IBC Category
Overweight/Buy                   1133          38%          471          43%           42%
Equal-weight/Hold                1250          42%          472          43%           38%
Not-Rated/Hold                     99           3%           27           2%           27%
Underweight/Sell                  461          16%          121          11%           26%
Total                           2,943                      1091

Data include common stock and ADRs currently assigned ratings. An investor's decision to buy or sell a stock should depend on individual
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                                                                                                                                                                          31
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                                                                                                                                                                              32
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                                                                                                                                                                       33
                                                         MORGAN STANLEY RESEARCH




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