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Still standing
Credit growth has slowed in most Asian markets, but liquidity is
still flush across the region, and capital markets have stabilized
There are few signs of balance sheet stress in Asia, either in the
business or in the financial sector, allowing leverage to rebuild
Low policy rates will ultimately feed into cheaper funding costs as
well, likely stoking another boom in credit creation in coming years
credit growth accelerated recently. This evidently Source: CEIC, HSBC; NB: data through April 2009
2
Macro
Asian Economics abc
15 July 2009
2. Credit growth varies among countries (% y-o-y) 5. Provisions mostly adequate against non performing loans
30.0 6
150
25.0 5
20.0 4
100
15.0 3
10.0
50 2
5.0
1
0.0 n/a
0 0
-5.0
CH HK IN ID SK MY PH SG TH
CH HK IN ID SK MY PH SG SL TW TH
Credit grow th, latest Provisions % of NPLs NPL ratio % (RHS)
Source: CEIC, HSBC Source: IMF, CEIC, BSP, HSBC; NB: data is latest available
Western peers. The table below shows the share leverage up in the recent go-go years, leaving
of global write-offs among banks that are related corporate and household balance sheets relatively
in the broadest sense to the US subprime fiasco. fit and lean – a topic to which we will return
Asia, including Japan, accounts for a mere fraction below. This is now paying off: banks’ balance
of such crippling exposure. To put this into sheets, from a systemic view, remain quite robust,
perspective, it is also worth keeping in mind that especially considering the scale of the collapse of
the banking system in Asia is considerably larger activity, and we do not expect any nasty surprises
than in the Americas, although both are smaller in the pipeline.
than Europe’s by a substantial margin. Note
6. Loans as a share of deposits mostly well below 100%
further that the amount of capital raised in Asia is
150.0
far higher relative to write-offs than elsewhere.
3
Macro
Asian Economics abc
15 July 2009
loan-to-deposit ratios remain rather conservative financial system: this is beginning to change, for
in most Asian markets. Only Korea and Thailand sure, but most local corporate bond markets, as
have ratios over or near 100% although, in both well as equity issuance, are relatively small
cases, certificates of deposit, which are not compared with the size of bank lending. A closer
included in deposits because they are tradable look, of course, reveals some nuances: Korea,
securities, play a prominent role. Loan-to-deposit Hong Kong, Singapore, India, and Malaysia, for
ratios are also quite low historically. The chart instance, have more market-based systems. But
below makes the point clear: in recent months, the we contend that banks in all these cases are large
ratio has again fallen, boosting the overall level of enough to accommodate corporate financing in
available liquidity. Taking a longer-term view, the the face of capital market jitters.
ratio is higher than during the deleveraging years
Here, we offer two reasons for the historically low
of 1998 to 2007, when the region was recovering
loan-to-deposit ratios in Asia. First, as already
from the Asian Financial Crisis. Still, we regard
alluded to, bank credit expanded at a pace roughly
this period as somewhat of an aberration, given
in line with nominal GDP growth. As a result,
the long recovery process following the bust, and
deposits grew at an almost equally rapid clip. And
the ratio still remains well below the more
this remains the case: as the chart below shows,
“normal” period of the early to mid-1990s.
deposit growth reaccelerated in recent months,
7. Falling, and still well below pre-Asian Crisis levels depressing the loan-to-deposit ratio and leaving
110 banks with excess cash to deploy.
25
90
20
80
15
70
Jan-94 Jan-97 Jan-00 Jan-03 Jan-06 Jan-09
10
Loan to deposit ratios (Asia ex Jap, simple avg)
5
Source: CEIC, HSBC
97 98 99 00 01 02 03 04 05 06 07 08 09
Asia ex. JP simple weighted
One relevant question is why loan-to-deposit
Source: CEIC, HSBC
ratios have remained so low. One might surmise
that the growing prominence of capital markets in
The second reason is also of interest, especially
Asia has displaced bank lending and thus limited
when put in a broader context. Base money grew
the scope for credit expansion. But we doubt that
robustly in recent years, reflecting a relatively
this explanation holds much water: the essential
accommodative monetary stance. This reflects, for
character of financial systems, whether they are
the most part, aggressive central bank intervention
bank or market based, remains relatively static
in the foreign exchange market, with the build-up
over time, something that is exemplified by both
in dollar reserves not being fully sterilized. This
Germany and Japan, two countries where, after
matters for gauging the outlook for monetary
decades of capital markets development, banks
conditions, too – a subject to which we will return
remain at the centre of corporate financing. In
in the last chapter. Suffice it to say here that,
Asia, most countries retain a bank-centric
4
Macro
Asian Economics abc
15 July 2009
should central banks once more intervene in also boomed in recent years. But the difference is
foreign exchange markets and purchase dollars, that commercial banks had far less direct exposure
and there is evidence that they recently have, then to financial markets. This is crucial, since it leaves
base money growth is likely to pick up speed, Asian banks in a relatively robust position to take
helping to sustain deposit growth. the slack from slowing financial intermediation
via capital markets. As a result, the region has not
9. Base money growth: An accelerating trend (% y-o-y, avg)
been drawn into a full-blown credit crunch and
21
should emerge from the lingering effects of
19
17 financial constraints far more rapidly.
15
10. Spread of HSBC’s Asia Dollar Bond Index (bp)
13
11 1400
9 1200
7
1000
5
800
97 98 99 00 01 02 03 04 05 06 07 08
600
Asia x CH& JP (sim ave) Weighted
400
Source: CEIC, HSBC 200
0
As elsewhere in the world, of course, the region’s Nov-04 Oct-05 Sep-06 Aug-07 Jul-08 Jun-09
credit markets remain under stress. For example, high grade high yield
bond spreads based on HSBC’s Asia Dollar Bond Source: CEIC, HSBC
5
Macro
Asian Economics abc
15 July 2009
and expected to remain so for quite some time, 1997. This is easily documented by looking at
credit growth should reaccelerate and support debt-to-equity ratios for non-financial listed
economic growth. This is, in fact, what occurs in corporations in the region. To be sure, debt-to-
virtually every cyclical recession, and we still equity ratios rose again in 2008, but this in part
characterize Asia’s slump as such, even if it reflects the sudden gyrations in the stock market.
proved far more severe than usual, given that Also, the overall level of the debt-to-equity ratio
there is no evidence of a fundamental dislocation remains well below the peak years of the 1990s.
in the region’s financial systems.
12. Debt to equity ratios have come down over time
11. Bank lending spread over policy rate (%) 80%
12.0
60%
10.0
8.0 40%
6.0
20%
4.0
2.0 0%
0.0 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008
J an-9 5 Jan-98 J an-01 Jan-04 Jan -07 Asia ex Japan
A SE AN N IEs
Source: Bloomberg, HSBC; NB: for listed companies ex financial institutions
Source: CEIC, HSBC; NB: data through May 2009
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Macro
Asian Economics abc
15 July 2009
Asian firms went into the recent crisis in better 2002 to 2008, return on assets averaged 6.4%, a
shape than into the previous bust. Consider the full percentage point higher than during the earlier
quick ratio, which is defined as current assets (net pre-crisis episode. Better profitability has given
of inventories) as a share of current liabilities. For firms in Asia a little more buffer to weather the
most of this decade, the ratio gradually rose, sudden drop-off in demand and even provided room
leaving companies in a fairly robust position when to keep on staff during the downturn – something
the credit crunch suddenly struck. To be fair, in that is now paying off as demand rebounds.
2008, the quick ratio declined again, reflecting in
15. Return on Assets structural higher in recent years
part the need to draw on current assets to make
8.0%
ends meet in such extraordinary times. But, even
7.0%
now, the ratio is still at reasonably healthy levels. 6.0%
5.0%
14. Quick ratio increased in recent years 4.0%
3.0%
1.10
2.0%
1.0%
1.00
0.0%
0.90 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008
Asia Ex Japan
0.80
Source: Bloomberg, HSBC; NB: for listed companies ex financial institutions
0.70
1990 1993 1996 1999 2002 2005 2008 Engine’s still running
Asia Ex Japan
Asia’s financial systems remain in robust shape.
Source: Bloomberg, HSBC; NB: for listed companies ex financial institutions; quick ratio
defined as current assets, net of inventories, as a share of current liabilities
Balance sheets contained little direct exposure to
Western toxic assets, while Asian corporations are
The second reason why corporate Asia is in more nowadays far less vulnerable to a financing crunch
robust shape today is that profitability has increased than during the bust of 1997. The region still
over the years. In fact, macroeconomic data grapples with excess liquidity, which banks will
suggests that productivity growth has accelerated ultimately look to deploy. Contrary to other regions
since about 2005, allowing firms to churn out in the world, Asia remains in a strong position to
more goods per unit of input, thus raising their leverage up again and push up lending growth.
profitability and making them more immune to a With monetary conditions extremely loose, there is
sudden tightening of financial conditions, as well little reason to expect the traditional response of
as swings in end demand. financial institutions to low policy rates to fail.
Asia’s financial engine, in short, is still running.
The next chart shows the return on assets for
listed, non-financial companies in Asia ex Japan
over time. This series, of course, is rather volatile
from year to year but, when viewed over a longer
time horizon, one can detect a structural increase
in the profitability of Asian firms. Between 1990
and 1996, return on assets averaged 5.4% in the
region, dropping sharply thereafter as the Asian
Financial Crisis took its toll. For the period from
7
Macro
Asian Economics abc
15 July 2009
Bubble economics
Policy rates have hit a record low while monetary transmission is
still intact: a potent mix that has fuelled asset bubbles in the past
Lingering growth risks are not prohibitive of bubbles, but may in fact
fuel these as monetary policy remains overly loose for a long time
Loose financial conditions should push up especially property prices
over time, with a powerful wealth effect finally supporting growth
Where it shows asset prices lead banks to take on more risk, thus
further stoking financial leverage – a process that
What ultimately concerns us here is the economic
eventually begins to feed on itself.
impact of loose monetary conditions. Providing
that their balance sheets are not fundamentally 1. Asian policy rates (%, simple averages)
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Asian Economics abc
15 July 2009
The remarkable thing about such liquidity-driven ultimately require an outlet somewhere. There are
asset bubbles is their long-cycles, underlining the three principal avenues: public investment, private
eventual potency of loose monetary policy. Also, investment, or asset purchases. This to be sure, is
successive monetary tightening over the course of an extremely stylized view of an economy, but it
the bubble has apparently little impact: once the makes the essential point clear: savings will have
financial accelerator goes into full throttle, it takes to be deployed somewhere, especially since they
aggressive tightening to pop the bubble – and, remain in ample supply. Currently, the public
more often than not, policy-makers are reluctant sector is drawing on a big chunk of available
to step up for fear of bringing down the house. capital. This is most evident in China, where the
recent surge in bank lending is mostly tied to
In a world of globalized financial markets, there is
publicly sponsored infrastructure projects.
an added complication, to which we shall return in
Elsewhere, the public sector finances itself more
more detail below. Suffice it to say that monetary
via capital markets, but the overall impact on
conditions are today determined globally, not
financial conditions is essentially the same.
locally, as capital is mobile and exchange rates are
far stickier due to intervention than a neat, orthodox Still, public sector borrowing requirements are not
model of the world would prescribe. In the 1990s, sufficient to absorb the excess savings available,
Asia was to some extent hostage to Fed policy and, with budget deficits across the region forecast to
during this decade, the Fed was to some extent stay well below levels currently seen in the West,
hostage to Asian purchases of dollars, which kept even as local savings rates are far higher. In addition,
monetary conditions looser than the nominal rise in there appears little urgency for a drive to expand the
the federal funds rate would otherwise suggest. Now capital base of private industry given that the slump
we are risking a repeat of the 1990s: with the world’s leaves many sectors with excess capacity. As a
major central banks holding rates near zero, Asia result, the financing conditions for assets remain
is facing extremely loose monetary conditions and conducive for further price gains in years to come:
excess capital, after all, eventually finds an outlet.
arguably has limited room to tighten independently.
To underline, however: this is a multi-year process
What is the likely effect of such loose monetary rather than a short-term call on the direction of
conditions on Asia? The liquidity available will financial markets. As history shows, bubbles
2. Simplified time-line: Asian asset markets and the US Federal Funds rate (%)
9
Macro
Asian Economics abc
15 July 2009
develop only gradually and include occasional is the “wealth effect”, the notion that rising asset
corrections (which actually make it possible for prices, primarily for property and stocks, raises
the run-up to be sustained for quite a long period). the net worth of households and corporations,
spurring spending and investment.
Bubble economics
3. Marginal propensity to consume out of housing wealth
An often-heard objection is that loose monetary
Emerging Asia United States United
policy cannot stoke bubbles if the underlying Kingdom
economic fundamentals are not supportive of short-run 0.03-0.04 0.02-0.12 0.06
growth. This is misleading for three reasons. First, elasticities
long-run 0.08-0.14 0.09-0.14 0.07
the seeds of bubbles are laid by excessively loose elasticities
monetary policy. This, in turn, occurs, when Source: IMF
10
Macro
Asian Economics abc
15 July 2009
asset prices. With the relatively swift return of 4. Monetary conditions index (% change from 2005)
both property and stock prices in the region to last 15
year’s highs, it is reasonable to expect no lasting loosening
5 5
negative impact from the nine-month sell-off
through March of this year.
-5
-5
The third point relates to the definition of bubbles.
-15 tightening
Essentially, these mark a sustained divergence of
asset prices from their fundamental value – a -25 -15
process that is violently corrected when the bubble 99 00 01 02 03 04 05 06 07 08 09
bursts. The view, therefore, that Asia could not Asia ex CN & JN (RHS) Asia ex. JN
possibly experience an asset bubble in the coming Source: CEIC, HSBC
11
Macro
Asian Economics abc
15 July 2009
making them slow to respond to incipient asset 6. China financial conditions changing gradually
12
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Asian Economics abc
15 July 2009
7. Hong Kong financial conditions have loosened again 8. Singapore financial conditions loosening as well
15 20 6
loosening 4
15
10
10 2
5 0
5
-2
0 0
-4
-5 -6
-5 tightening -10 -8
-10 -15 -10
1994Q1 1996Q3 1999Q1 2001Q3 2004Q1 2006Q3 2009Q 1994Q1 1996Q3 1999Q1 2001Q3 2004Q1 2006Q3 2009Q1
FCI real GDP % Yr real GDP % Yr FCI
Elsewhere, prices have stabilized as well and have financial environment is conducive to the
started to move upward, rather than down, which emergence of asset bubbles. We want to
is, given the scale of economic collapse over the underline, however, that this is a multi-year
prior nine months, a rather extraordinary trend. process, with ups and downs along the way.
Take Korea, which only in the first quarter was
9. Property prices indices are pointing up again
gripped by panic about a balance-of-payments
190 50
squeeze. Property prices in Seoul have risen 3%
170
annualized in the three months to June, with the 40
150
prices in the more upscale Gangnam area jumping 130
more than 7% according to the official index, 30
110
which may well understate the true extent of 90 20
property reflation in Korea. 70
50 10
Singapore, too, is a case in point. The city-state Jan-94 Jan-97 Jan-00 Jan-03 Jan-06 Jan-09
was gripped by the most severe recession in Hong Kong Singapore (RHS)
decades, if not the entire history of the country.
Source: CEIC, HSBC; NB: HK to April (1999 = 100), SG to June (1998 = 100)
And yet, property prices are again moving up. The
resale index for Housing Development Board In fact, from a broader perspective, the recent sell-
flats, reflecting genuine local buying conditions off may be regarded as a temporary setback in a
more than other such measures, rose 5% longer bubble run that started in the second half of
annualized over the second quarter and reached an 2006 across Asia. The post-Lehman plunge in
all-time high. China, evidently, is also feeling asset markets, from this perspective, helped to
buoyant, with both equity and property benefiting prolong the bubble that was already under way:
from increasingly benign financial conditions. first by correcting asset values for a short while
Where it all leads and thus reshuffling investor participation, and
second because it loosened monetary policy
Taken together, monetary conditions for Asia
across the globe, re-energizing Asia’s bubble.
remain far too loose compared with the underlying
fundamentals, including the relative stability of
the region’s financial systems. With excess
savings to deploy, and no evident outlet, the
13
Macro
Asian Economics abc
15 July 2009
14
Macro
Asian Economics abc
15 July 2009
deeply established focus on competitiveness is have to choose between setting interest rates
hard to shake off; but it is difficult to see the independently and letting the exchange rate go, or
region tightening independently if exchange rates managing the exchange rate and learning to live
do not move: the notion that a country can choose with arbitrary monetary conditions. Historically,
its monetary stance freely as well as manage its Asian policy-makers have effectively chosen the
exchange rate has been proved mistaken, time and latter, living in the shadow of the Federal
time again. What is required for this to work is Reserve and buying and selling dollars to manage
watertight capital controls, but these have yet to their competitiveness.
be invented.
Supposedly, there is one short cut that officials
2. FX reserves have again risen in recent months (USDm) claim allows them to square the circle of the
3500 1450 trilemma: sterilization. This involves buying and
selling local currencies to match FX intervention,
3400
1400 insulating management of the monetary base (or,
3300
effectively, monetary policy) from management
3200 of the exchange rate. In reality, however, this type
1350
3100 of short cut does not work terribly well, especially
3000 1300 when the requirements of domestic monetary policy
Oct Jan Apr begin to diverge drastically from those found
Asia x J Asia x J C (RHS) elsewhere. This underlines our earlier point that
monetary – though not financial – conditions are
Source: CEIC, HSBC
nowadays a global phenomenon.
Back to school There are, in fact, three reasons why sterilization
It has become a well-rehearsed economic concept, does not work. First, maintaining interest rate
taught ad nauseam and appearing in all basic differentials between domestic and foreign
economics and management courses. We refer interest rates involves an indefinite commitment
here to the “trilemma”, or “unholy trinity”: the to the absorption, or issuance, of local currency.
economic impossibility of policy-makers to When central banks purchase dollars, which is the
pursue an independent monetary policy and more common case in Asia, they tend to issue
manage their exchange rate, all the while the local securities, thus reabsorbing excess local
currency is freely convertible. One of these has currency that was put in circulation via the
ultimately to give – either officials ignore intervention in the FX market. The trouble is that
movements in the exchange rate, or stop setting the stock of saleable securities that the central
interest rates independently, or prevent capital bank holds in finite. Once these run out, officials
from rushing across the border. We will spare you have to resort to other sterilization measures, such
a repeat of that dreaded lecture; suffice it to note as raising reserve requirements for the banking
that this classroom concept holds real-world system. But, progressively, these measures
lessons for officials. become ever more distortive and hamper the
smooth functioning of the financial system.
The point is this: with currencies convertible –
and virtually all are, over time, even if capital The second problem with sterilization is more
controls exist, because of the numerous ways of technical. While in theory it is possible to exactly
circumventing official rules – Asian officials will offset the initial expansion of the monetary base
15
Macro
Asian Economics abc
15 July 2009
with a subsequent contraction, in practice the conditions elsewhere. Consider, for example,
issue is not quite so straight-forward: the monetary equity flows. The chart below shows net equity
base itself needs to vary along with fluctuating inflows into Asia on a monthly basis. Evidently,
output, and it is difficult to determine what precise the crisis led to a rush for the exits, with equity
expansion or contraction of the monetary base is portfolio capital leaving in a hurry. In recent
required irrespective of FX intervention. months, however, the tide has turned as Asia’s
economic prospects have brightened. In May, equity
The third problem is a little more subtle, but is the
inflows into Asia were the highest on record, while
most important and involves market psychology.
April saw the third-highest net inflows on record.
Liquidity, whether defined as broad money growth
or, more narrowly, as capital market depth, is 3. Net equity flows into Asia ex Japan
-5
sterilizing the impact on the monetary base. But,
the rush of capital inflow most likely reflects a -10
16
Macro
Asian Economics abc
15 July 2009
environment, policy-makers will have to redirect in the face of asset bubbles in the future. For one,
their focus on domestic objectives to prevent the current cycle of asset reflation is needed to
bubbles from blowing ever larger. sustain growth, which arguably was not the case
previously, when booming exports held out the
Of course, at least notionally, officials across the
prospect of sustained growth. In addition, local
region have a more diverse set of targets than
monetary requirements are starting to diverge to
mere exchange rate competitiveness. On paper, a
the extreme from those needed elsewhere, and it is
number of central banks, including the authorities
difficult to see how the region could forcefully
in Korea, Thailand, the Philippines, and Malaysia,
tighten independently as the rest of the world
are inflation targeters. However, effectively, most
keeps monetary policy ultra-loose.
central banks tend to intervene in foreign
exchange markets as well, and not purely to What’ll happen
manage price pressures in the economy. This bias
In reality, of course, it is not quite as black and
has only been reinforced during the crisis, as
white as we have laid out in this text. At the
exports came under pressure, with the attendant
margin, policy-makers will try to contain the
risks for domestic economic and social stability.
bubble by rolling out various measures, including
Admittedly, there are already signs that Asian regulatory changes for banks, to take the froth out
officials are growing increasingly worried about of local asset markets. But there is a risk that this
the possibility of asset bubbles. The Bank of approach will prove insufficient over time to rein
Korea, for example, one the most hawkish central in the bubble, and we suspect that asset prices will
banks in the world when it comes to asset prices, therefore remain well supported for the coming
has already signalled its discomfort with excessive few years, especially with regard to property.
levels of local liquidity and the perk-up in local
Is this, then, an instance where you should place
property and stock prices. Meanwhile, the Chinese
all your hopes on flying asset prices? Not quite.
authorities are also signalling that asset prices
The path is strewn with risks, including that
movements are on their radar, and a gradual pick-
financial calamities in other parts of the world
up in money market rates at the time of writing
could snuff out risk appetite locally, too. Also,
was widely interpreted as an official warning shot
bubbles never expand smoothly. There are setbacks
for overly optimistic investors.
along the way that are well worth keeping in
In fact, both central banks have in the past shown mind. But the point is that we are entering a long
some tendency to target asset prices. The Bank of upcycle in Asia, underpinned by flush liquidity.
Korea, for example, hiked interest rates during the The most recent bubble, fortunately, will not be
last cycle more than the underlying inflation the last. Alas, neither was the recent bust.
outlook warranted, in part to take the steam out of
the local property rally. The authorities in China,
similarly, advised banks to curb lending last year
in order to cool down the economy and rein in a
fizzy real estate market.
17
Macro
Asian Economics abc
15 July 2009
Disclosure appendix
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The following analyst(s), who is(are) primarily responsible for this report, certifies(y) that the opinion(s) on the subject
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part of their compensation was, is or will be directly or indirectly related to the specific recommendation(s) or views contained
in this research report: Frederic Neumann
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18
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Asian Economics abc
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Nacional de Bancos y Seguros (CNBS). Banco HSBC Salvadoreño, S.A. is regulated by Superintendencia del Sistema Financiero (SSF).
HSBC Colombia S.A. is regulated by Superintendencia Financiera de Colombia. Banco HSBC Costa Rica S.A. is supervised by
Superintendencia General de Entidades Financieras (SUGEF). Banistmo Nicaragua, S.A. is authorized and regulated by Superintendencia de
Bancos y de Otras Instituciones Financieras (SIBOIF).
Any recommendations contained in it are intended for the professional investors to whom it is distributed. This material is not and should not
be construed as an offer to sell or the solicitation of an offer to purchase or subscribe for any investment. HSBC has based this document on
information obtained from sources it believes to be reliable but which it has not independently verified; HSBC makes no guarantee,
representation or warranty and accepts no responsibility or liability as to its accuracy or completeness. Expressions of opinion are those of
HSBC only and are subject to change without notice. The decision and responsibility on whether or not to invest must be taken by the reader.
HSBC and its affiliates and/or their officers, directors and employees may have positions in any securities mentioned in this document (or in
any related investment) and may from time to time add to or dispose of any such securities (or investment). HSBC and its affiliates may act as
market maker or have assumed an underwriting commitment in the securities of any companies discussed in this document (or in related
investments), may sell them to or buy them from customers on a principal basis and may also perform or seek to perform banking or
underwriting services for or relating to those companies. This material may not be further distributed in whole or in part for any purpose. No
consideration has been given to the particular investment objectives, financial situation or particular needs of any recipient. (070905)
© Copyright. The Hongkong and Shanghai Banking Corporation Limited 2009, ALL RIGHTS RESERVED. No part of this publication may
be reproduced, stored in a retrieval system, or transmitted, on any form or by any means, electronic, mechanical, photocopying, recording, or
otherwise, without the prior written permission of The Hongkong and Shanghai Banking Corporation Limited. MICA (P) 258/09/2008
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