A short rally, but uncertainties on fundamentals remain over the short term

US Stocks

Among the largest companies Lockheed Martin Corp. (LMT, $65.60, CSFB recommendation: Buy) stock price gained 41% reflecting the higher defence expenses from the Bush administration since September 11th attacks. In spite of a low beta vs. the S&P 500 we do not recommend the stock due to an extremely high valuation. Current P/E is at 32x while the sector has a P/E of 25x. We prefer Boeing Co. (BA, $41.00, CSFB recommendation: Buy) due to stronger fundamentals.

The company has 3 major divisions: 1. Commercial aircraft, 2. Military aircraft & missiles and 3. Space & communication. The commercial aircraft division is the largest one, generating roughly 3 times the sales volume of the second one (military aircraft & missiles). Due to a weak civil aircraft business and a commercial aerospace recovery stock price should remain low and volatile as long as the U.S. economy remains slow. However, according to the current valuation (P/E at 12x), we believe current stock price represent an attractive long-term investment, as well as a recovery play when the civil aviation business picks up next year.

JP Morgan Chase & Co. (JPM, $26.35, CSFB recommendation: Buy): Although stock price is cheap, we believe it would remain weak and highly volatile. First the company is suffering from a lack of revenue growth. For example JPM's EPS before extraordinary items varied quarterly from $0.180 to $0.500 (the highest) y-o-y with the lowest at $-0.180, mainly due to a weak capital market business. Second, JP Morgan Chase & Co., being one of the largest lenders in the U.S. is exposed to further company bankruptcies. U.S. Airways Group Inc. (U, $2.45, CSFB recommendation: Hold) just announced it has filed for bankruptcy to help reorganise more than $7.83 billion of debt as losses worsened after the September 11th terrorist attacks. JPM was owed $71.4 million for a loan. Third, JPM would probably face lawsuits after Enron's bankruptcy. The company is under a Senate's investigation seeking if JPM helped Enron hiding debts. Finally JP Morgan Chase & Co. is exposed to headline risks, which could brake stock price according to investors' uncertainty. We do not believe that all above could spell the end of JPM. Nevertheless for the near-term we reiterate our hold recommendation.

We are more positive on Citigroup Inc. (C, $34.31, CSFB recommendation: Strong buy) than on JP Morgan Chase $ Co due to stronger fundamentals and a well-diversified business. Like JPM, headline risk remains high and regulatory/legal issues may not dissipate for several months. C could have to contend with lawsuits from Enron's shareholders, bondholders and pension funds. Like JPM, we recommend to hold the stock. However for investors capable to resist high volatility, we think Citigroup Inc. is an extremely diverse global franchise, capable of steady growth.

US Technology Stocks

On a week-on-week basis, the NASDAQ Composite Index gained 4.68% to 1306.12.

The last week's highlight was the long awaited earnings report of Cisco Systems (CSCO: $13.12; CSFB rating: Buy), which is seen as a bellwether for the technology industry. The company was able to make its numbers and on a pro forma base beat consensus forecast. The pro forma EPS of 14 cents was 2 cents above analyst estimates, according to First Call, but after charges, the earnings per share in fact would have been 2 cents below estimates. However the result was seen as positive, as the company gave a very conservative flat to slightly upside sequential sales guidance for the coming quarter. With the current book-to-bill ratio of close to one and the low visibility into the recovery of the IT spending for enterprises, this optimism deserves scrutiny. We would be cautious on the hardware side of the IT business over the near term, as fundamentals for the sector remain challenging. Orders might have been stabilising over the last quarter, but a real recovery would only be supported by a solid economic growth.


The general market reaction we saw after the earnings release of Cisco Systems, where the broad market started to rally, however looked more like short covering, than buying into strength. And the rally already started to run out of steam in Friday's trading session. We believe that there are to many economic data points, like the ISM manufacturing and non-manufacturing, that have deteriorated recently to underpin this last weeks rally. These numbers would have to improve again, in order to make the case for a recovery in IT spending and give reason for a sustainable upside in technology stocks.

European Equities

We had mixed news moving the market during the week. For the pharmaceutical industry Aventis disappointed, as the company announced it would end the development of a new hypertension treatment currently in phase 2, which was expected to be launched in 2006 and reach potential sales of between EUR500 million to EUR2 billion. This would have been an important drug to compensate the declining sales of its allergy drug Allegra, which went off patent and faces generic competition. But in the medium term the risks for Aventis remain moderate, as the growth in products currently on the market should sustain the expected growth for the company. It was not all negative for the pharmaceuticals, as Sanofi-Synthelabo won a new patent for its marketed coagulation inhibitor Plavix, the company's No2 drug, which active agent has been slightly modified.

This extends the protection from generic competition until 2019. Today Sanofi-Synthelabo announced that it also got the FDA approval for Eloxatin, its new chemotherapy treatment for advanced colon cancer. The FDA apparently reviewed the medicine in just 46 days, which is surprisingly quick. But this product was already filed once in 2000, and failed approval as the study did not go far enough in proving the drugs benefits. So this time the FDA had just to review a couple of additional figures. Eloxatin is expected to reach annual sales of EUR450 million or more, as there are not many effective treatments for advanced colorectal cancer on the market.

The Swiss company Novartis also filed a new drug with the FDA, called Lescol, a cholesterol lowering agent. Novartis expects a potential market of 1.8 million patients a year and will be filed in Europe as well in the coming months. The drug will be used to prevent cardiovascular attacks for patients who have undergone cardiovascular surgical interventions. There has been no drug of the same type, which filed for this application. Hence, this gives Novartis a good opportunity to boost sales if the filing is successful.