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									Equity Market Comment                                                                            30 October 2008

                                                                                                                         GLOBAL MONETARY POLICY CONTINuEs TO EAsE

Fed cuts by 50bps, PBOC by 27bps
ECB and Bank of England likely to also cut next week

The Fed cuts interest rates by 50bps at its scheduled Federal Open Market Committee (FOMC)
Meeting yesterday, bringing the key target rate to 1%. The Fed funds rate is now back to the level
it was in 2003. Although frozen lending markets are gradually thawing, credit conditions continue to
be tight and it is possible that further cuts could be forthcoming, pushing the Fed funds rate towards
zero. The People’s Bank of China also cut its benchmark one-year lending rate by 27bps, the third
time in seven weeks.

It is likely that we will also see at least a 50bps cut by both the European Central Bank and the Bank
of England next week. There is even a possibility that the Bank of Japan may cut interest rates at
its meeting tomorrow.

Apart from lowering interest rates, policymakers are also likely to be increasing their emphasis
on fiscal policy i.e. spending and cutting taxes. Other unconventional policies are also available
to policymakers. Overall, it is likely that massive policy action will be taken to prevent a deep
and prolonged recession, an outcome equity markets are pricing. Although equity valuations have
become attractive, the current environment of extreme volatility is however likely to keep investors
on the sidelines in the near term.

Fed Funds Target Rate







             100                                                                                                    1%

                Jan-00           Jan-01       Jan-02   Jan-03       Jan-04    Jan-05    Jan-06    Jan-07   Jan-08

                                                                Fed Funds Target Rate
          Source: Bloomberg 30 October 2008

Source: Bloomberg, 30 October 2008                                                                                                                                  1
Equity Market Comment                                                            30 October 2008

                                                                                                              GLOBAL MONETARY POLICY CONTINuEs TO EAsE
Fed funds target rate could be cut further
When the credit crisis first erupted last August, the Fed was extremely aggressive in lowering the
key Fed funds target rate, bringing it down by 325bps over the course of seven months. After the
April FOMC, the Fed however signaled that it was on hold at 2%. One consequence of the Fed’s
aggressive easing was the sharp depreciation of the US dollar, the accompanying explosion in
commodity prices, and consequent spike in inflation.

At the last scheduled FOMC meeting on September 16th, the Fed still elected to keep the target
rate unchanged. On the previous day however Lehman Brothers had filed for bankruptcy protection
and this set off the events which triggered the crisis on Wall Street. On October 8th, the Fed lowered
interest rates by 50bps in a coordinated move with the other major central banks.

The 50bps cut yesterday brings the Fed funds rate to 1%, the level it was at in 2003, following
the bursting of the Internet bubble. Unlike in 2002-2003, the cuts in interest rates this cycle have
not been as effective given the dislocation in lending markets. With financials conditions having
seriously worsened since September, there are some expectations that the Fed could cut interest
rates again, pushing the Fed funds rate towards zero.

An indicator of whether interest rates are low enough is the slope of the yield curve. In downturns,
Fed typically keeps cutting interest rates till the difference between the yield on 10-year US
Treasuries and the Fed funds rate is 350bps - 400bps. The difference is currently 287bps.

US yield curve slope

        400    bps






          Jan-06        Jan-07       Jan-08     Jan-09        Jan-10        Jan-11       Jan-12

                                          Yield Curve Slope (10-Treasury Yield minus Fed Funds Target Rate)
                                          Average Yield Curve Slope During S&L Crisis and Tech Bubble

Source: Bloomberg, 30 October 2008

Equity Market Comment                                                           30 October 2008

                                                                                                             GLOBAL MONETARY POLICY CONTINuEs TO EAsE
One reason why the FOMC kept interest rates unchanged between April and September was
because of the rise in inflation and inflation expectations. The collapse of oil and other commodity
prices since July has removed inflation fears and in fact, things have swung in the opposite directions
and there are now some fears of deflation.

There was also a deflation scare in 2002-2003 after the Internet bubble burst. Mr. Bernanke, who
was then a Fed governor said at that time that “when inflation is already low and the fundamentals
of the economy suddenly deteriorate, the central bank should act more preemptively and more
aggressively than usual in cutting rates”.

One concern about lowering the Fed funds rate to zero is that it could affect money market funds. A
very low rate will make it difficult for money market funds to cover their cost and still offer a positive
yield to investors, especially for Treasury-only money market funds. Three-month Treasury bills
are currently trading at just 56bps. If rates were to fall further, investors might move out of money
markets and cause more dislocation in the credit markets. In Japan, there was a sharp decline in
money market activity between 1999 and 2006 when the policy interest rate fell to zero. The Fed
has however set up a money market investor funding facility for money market funds to park their
assets in the event of mass redemptions.

Three-month US Treasuries yields

        600          bps




                                                                                              56 bps

          Jan-07               Apr-07       Jul-07   Oct-07   Jan-08   Apr-08     Jul-08    Oct-08

        Source: Bloomberg 30 October 2008

Source: Bloomberg, 30 October 2008

Equity Market Comment                                                                     30 October 2008

                                                                                                               GLOBAL MONETARY POLICY CONTINuEs TO EAsE
PBOC also likely to ease further
The People’s Bank of China (PBOC) lowered its one-year benchmark lending and deposit rate by
27bps yesterday, the third time in seven weeks. The three-year and five-year deposit rates were cut
by 36bps and 45bps respectively. The interest rate on housing mortgages was cut by 27bps.

It is likely that there are further cuts to come as the downside risks to China’s growth have increased
in recent weeks and inflation has been coming down. Other policy actions likely to be undertaken
include the cuts in the reserve requirement ratio and the scrapping of the bank lending quotas. The
Central Economic Work Conference is taking place next month and the authorities could announce
a package to boost economic growth.

PBOC’s one-year benchmark lending rate

            8        %




            6                                                                                          6.70%


           Jan-00           Jan-01           Jan-02   Jan-03   Jan-04   Jan-05   Jan-06   Jan-07   Jan-08

        Source: Bloomberrg 30 October 2008

Source: Bloomberg, 30 October 2008

ECB and Bank of England also likely to cut by 50bps next week
The European Central Bank (ECB) and the Bank of England had, until the recent crisis on Wall
Street, remained hawkish even though European and UK banks have been similarly affected by
the credit crisis. Both the Eurozone and UK economies are already in contraction and with the ECB
refinancing rate at 3.75% and the Bank of England overnight rate at 4.75%, there is plenty of scope
for easing.

The market is expecting aggressive easing by the ECB and the yield on 10-year German government
bunds has recently fallen below that of US 10-year Treasuries. The Bank of England is also likely
to ease aggressively although a further sharp decline in sterling could hamper cuts. There are
now even some suggestions that the Bank of Japan may cut interest rates by 25bps at its meeting
tomorrow. A cut by the Bank of Japan could help stabilise the Japanese yen, which has risen
sharply in recent days with the unwinding of “carry trades”.

Equity Market Comment                                                                              30 October 2008

                                                                                                                                      GLOBAL MONETARY POLICY CONTINuEs TO EAsE
Difference between 10-year US Treasuries and 10-year German Bunds

          60         bps








                Jul-07                                                                                  Jul-08
                           Aug-07 Sep-07 Oct-07 Nov-07 Dec-07 Jan-08 Feb-08 Mar-08 Apr-08 May-08 Jun-08        Aug-08 Sep-08 Oct-08
       Source: Bloomberg 30 October 2008

Source: Bloomberg, 30 October 2008

More emphasis also on fiscal policy
Although continued cuts in interest rates are no doubt needed, the still dislocated credit markets
mean that the full effect of interest rate cuts will not feed into the economy, especially in the
G7 economies. Fiscal policy i.e. government spending and cutting taxes, will likely increase in
prominence in the coming months. This would be particularly so in the US where the potential
election of a Democratic president would mean that Democrats control both the executive and
the legislature branches of government and a large fiscal package could be put together relatively
swiftly after the presidential elections next month.

Government spending will be important in helping the global economy avoid a deep and prolonged
recession. One reason for the Great Depression in the 1930s was because there was very little
government spending to make up for the collapse in private sector spending. In the US, government
spending was around 3%1 of US GDP in the 1920s while today it makes up 20% of US GDP.

Unconventional measures also available
The severity of the credit crunch has led to concerns of whether the deployment of conventional
monetary and fiscal policy will be sufficient to prevent a depression. Although there is still a
high degree of uncertainty over many aspects of the crisis, policymakers are aware that there is
significant risk of a depression and will keep using all available means to stabilise financial markets
and support the economy.

    Source: BCA Global Investment Strategy, 17 October 2008                                                                                                                      5
Equity Market Comment                                                    30 October 2008

                                                                                                          GLOBAL MONETARY POLICY CONTINuEs TO EAsE
Possible unconventional policies include:

•   Lowering official interest rates to zero.
•   Central banks engaging in unsecured lending to banks. The central banks are currently lending
    against collateral.
•   Central banks or government buying equities and corporate bonds directly. This occurred in
    Hong Kong during the Asian Crisis, when the Hong Kong authorities established a fund to
    stabilise the Hong Kong equity market.
•   Central banks could also make loans to the private sector directly in order to alleviate the credit
    crunch. The Fed this week began buying commercial paper from the private sector.
•   Governments could ‘persuade’ banks to keep lending to the private sector, in particular those who
    have received capital injections. This is the case in the UK bank recapitalisation programme.

Equities priced for a deep recession
Equity valuations are now at their lowest for the past 20 years and at a 2009 Price/Earnings ratio
of 10.2x, global equity markets are pricing a deep recession. Valuations have become attractive for
investors with a medium term horizon. However, as highlighted in our previous note, the redemption
pressures faced by mutual funds and hedge funds have led to mass liquidations and this has made
the current environment extremely volatile. Until volatility subsides, investors are likely to remain
on the sidelines for a while.

Global Forward Price/Earnings Multiples






        10                        12.9x                                              10.2x

         Dec-87                             Dec-91   Dec-95   Dec-99     Dec-03          Dec-07
      Source: Datastream, 29 October 2008

Source: Datastream, 29 October 2008

Equity Market Comment                                                      30 October 2008

                                                                                             GLOBAL MONETARY POLICY CONTINuEs TO EAsE
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Equity Market Comment                                                    30 October 2008

                                                                                                           GLOBAL MONETARY POLICY CONTINuEs TO EAsE
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