Focussing on the central bank meetings of FOMC, ECB and BoE

US Markets
Citigroup Inc's (C, $37.65, CSFB recommendation: Outperform) stock price has declined by 20.03% YTD, while S&P 500 Diversified Financial Services index has lost 20.10% and S&P 500 has declined by 21.53%. Citigroup share price has declined mainly due to weak US economic data and bad press. Nevertheless, recent history has shown that Citigroup management seems to have been forthcoming with the regulators as Citigroup CEO recently voluntarily met with New York Attorney General, Elliot Spitzer. Furthermore the company has officially decided to separate its brokerage and investment banking departments. Further details should in the near future be disclosed regarding the separation. At this point our main concern is exactly how the company would be able to generate revenues with an independent equity research unit. So far, we know that the company plans to use transfer pricing to allow corporate profits and earnings from the institutional area to support the research budget.

We do not believe that the rally we have been observing on Citigroup stock price would mitigate the downside risk. Headline, and credit risks remain. According to a study by Friedman Billings Ramsey, Chapter 11 bankruptcies have fallen since 4Q 2000. However the number of bankruptcies and the size of several credit problems have significantly eroded investors' confidence, putting credit concerns on the top of investment decision. Six of the 10 largest bankruptcies in history occurred in the last 12 months.

A bevy of syndicated lenders (JP Morgan Chase & Co., Citigroup Inc. etc.) have suffered significantly this year. We believe credit risk has not yet abated, as the economy remains weak.

Although the last better-than-expected earnings report should serve to sooth investors' nerves for the time being, we reiterate our hold recommendation on Citigroup Inc.

Last Friday a federal judge approved the settlement between Microsoft (MSFT, $53, CSFB recommendation: Not rated) and the Bush administration rejecting the latter's demands for stricter penalties. The approval of the settlement ends years of debate on Microsoft's business practices and quasi monopoly status. The seven plaintiff states wanted Microsoft to remove its Internet browser from the Windows platform in order to give the consumer the opportunity to choose his browser. Another measure the plaintiffs called for was access to more source codes of Windows, to enable competing products to be compatible with Windows. To MSFT, this would have been a serious infringement on intellectual property and would have sent out the wrong message, if it were not to be protected. However Microsoft will have to give the top 20 computer makers identical contract terms for licensing Windows, and will be penalised if they attempt to threaten them with retaliation if they are found to be offering products other than Microsoft products.

The result is quite satisfactory for Microsoft, even if the company will be under scrutiny to follow the terms fixed by the settlement. But now that the issue has been settled, Microsoft can continue to follow its strategy of diversifying into new areas of growth, such as server applications and software for mobile device applications. The .Net strategy may also involve certain acquisitions, which Microsoft could not pursue as long as long as the court ruling was pending. The result is definitely positive for Microsoft. The company is however not completely out of the woods, as it is still under investigation by the European Commission, which is still deliberating and is expected to issue a preliminary statement by the end of the year. There is also the possibility of an appeal by the plaintiffs, which we feel has little chance of succeeding. The path to growth is now clearer and we should see further positive momentum in Microsoft share price following the ruling.


European Equities

• Despite weak economic data out of the USA equity markets remained very resilient. The Euro STOXX50 closed the week 1.25% higher

• We reduce Celanese to HOLD

On the back of weak economic data out of the USA and in line or slightly better than expected news out of Europe the Euro managed to climb briefly above parity last Friday. Against fundamental logic, equity markets took the weak employment report and ISM figures as a relief and posted a strong rally on Friday and Monday. European equity markets (basis Euro STOXX; +20.33%) have outperformed the S&P500 (+17.03%) since reaching the lows on October 9, 2002. The German DAX (+29.29%) has posted an impressive rebound after the strong September losses in the banking and cyclical sectors.

We believe that the latest rally was mainly driven by expectations of a concerted rate cut this week and whisper estimates for the ISM and employment figures that were much lower. We expect the FOMC to lower interest rates while we do not expect the ECB to act before December. However, we believe that any rate cut is more than priced at these levels and given the latest rally in global equities we see little upside from here. Additionally, we remain concerned that the latest rally has pushed the bullish investor sentiment again well ahead of the 50% mark. With greed coming back into the market so quickly and economic data remaining so weak we cannot see any reason for this rally to be sustainable. Hence we continue to recommend lightening up positions in this rally.

Aventis (AVE FP; EUR 60.20) reported an excellent set of results. 3Q02 EPS grew 21% to EUR 0.71 vs. forecasts of EUR 0.69. Sales increased by 11%, which was broadly in line with expectations. Operating profits gained 18%, well ahead of forecasts, which caused margins to grow by 3.5%-points to 26.5%. Aventis reiterated its full year guidance for sales growth between 11%-12% and EPS growth of 25%-30%, which should not be too difficult to achieve, as 9-month EPS growth was 29%. With the exception of Lovenox (thrombosis) all key blockbusters achieved sales above or in line with expectations. Despite all these positive points Aventis closed the day 6.50% lower on the day of the earnings release as the market remains obsessed with threats to Allegra's sales from the possible emergence of OTC Claritin (Schering-Plough) in 2003 in the USA. We do not believe that such an event would have a dramatic impact on Allegra's sales (sales grew 33% in Q3) as 25% of Allegra patients account for 75% of subscriptions in the US, and these are chronic users who are unlikely to switch brands. Additionally, we do not expect Schering-Plough to price Claritin at a highly discounted level, so that sales of its own new antihistamine Clarinex do not suffer.

We believe that the market misses Aventis' attraction. In the current environment where corporate profits are uncertain Aventis manages to deliver high earnings growth and even if Allegra sales are somewhat affected by OTC Claritin it still offers amongst the highest growth rates in the pharma industry and in the general corporate world.

Even though the Allegra uncertainty is likely to remain in the market until 2Q03 we recommend long-term investors to pick up the stock in the current weakness. Once the market realises that these concerns are overdone Aventis' share price will react positively.

An alternative to buying the stock outright would be to purchase an equity-linked-note (ELN). As an example, a 90%-strike ELN on Aventis yields around 24% annually. The corresponding break even price where investors start loosing money is below EUR 50 - a level at which the stock traded last time only in March 2000.

Celanese (CZZ GY; EUR 19.10), the German chemical company, reported strong third quarter results. Whereas sales of EUR 1.1bln were in line with expectations the company managed to post very strong EBITDA figures of EUR 142 (+61%) million, well ahead of the EUR 89 million consensus. This performance is all the more impressive as it was achieved in the face of unhelpful currency (-7%), price (-1%) and volume (-1%) trends versus the prior period. Net income was EUR 39 million or an increase of 95%.

Despite its high cyclical nature we continue to like the stock as a very well managed and cash rich mid-cap that will benefit from an economic recovery. However, with growth forecasts for next year uncertain the company did not come up with any guidance for next year yet. We are aware that it might take some more time to for the full upside of Celanese's stock price to come through but we believe that the current valuation does already take most of the bad news into account. However, given the uncertain growth forecasts we reduce the stock to HOLD.

Oil stocks were volatile on the back BP's and Royal Dutch's earnings report. BP (BP/ LN; GBP 4.1150) disappointed as it reduced its output target for the year to 3% from 4%. This reflects the third downgrade this year. The group reported 3Q02 net income of USD 2.29bln, which was at the low end of expectations and 13% below the year-ago period. Profits for the 9-month period fell to USD 6.06bln or 38%.

Royal Dutch/Shell (RDA NA; EUR 43.99) surprised the market with a better than expected 3Q02 profit of USD 2.24bln after stripping out special items. This reflects a decline of 17%. Royal Dutch/Shell also confirmed that it would reach its 2002 production target of 3.8 million barrels a day. The impact of the strong production was partly offset by weak refining margins and one-offs.

We reiterate our preference for TotalFinaElf (FP FP; EUR 139) and ENI (ENI IM; EUR 13.907) as we believe that higher output targets or around 6% until 2005 and more attractive valuation and dividend yield (ENI: 5.39%) favours these two counters as a hedge against the political uncertainties in the Middle East.

Deutsche Bank (DBK GY; EUR 47.25) reported disappointing 3Q02 results yesterday. The company posted a pre-tax loss of EUR 181 million compared to consensus estimates that were looking for a profit of EUR 226 million. The bank's performance was hit by a sharp increase in bad loans provisions from EUR 135 million to EUR 753 million and a hefty write-off of EUR 266 million on equity investments and private equity. Investment banking, which generated 80% of last year's group profit, posted a loss of EUR 238 million. Deutsche Bank was among the worst performing banking stocks in October, losing 4.23%. The well-known problems in the investment banking industry make us cautious on this type of banks. We prefer the more retail oriented banks such as BNP (BNP FP; EUR 41.60).