Best Ideas 10.3

North America Equity Research
3 October 2011
Be s t Equ ity Ne a r-Te rm Id e a s

J.P. Morgans Roadmap for Equity Investors
This third edition of J.P. Morgans Best Equity Near-Term Ideas highlights 40 of our fundamental analysts best ideas for the upcoming three months and includes commentary from our equity strategist. In addition, our Equity Derivatives & Delta One Strategy team has created a new basket (JPUS4Q11 on Bloomberg) leveraging our analysts' best ideas.
Macro Equity Strategy............................................... 3 Accounting and Valuation .............................. 9 Delta One Strategy ...................................... 12 Capital Goods/Industrials Boeing (BA) .................................................. 17 Union Pacific (UNP) ..................................... 18 Canadian National (CNI) .............................. 18 Quanta Services (PWR)............................... 19 Deere (DE) ................................................... 20 Consumer United Continental Holdings (UAL) .............. 21 Harman Intl. (HAR)...................................... 22 Las Vegas Sands Corp. (LVS) ..................... 23 Owens Corning (OC) ................................... 24 Brinker International (EAT) .......................... 25 Home Depot (HD) ........................................ 26 Reynolds American (RAI) ............................ 27 Energy ITC Holdings (ITC) ....................................... 29 Cimarex Energy (XEC) ................................ 30 Noble Corporation (NE) ............................... 31 Financials Wells Fargo (WFC) ...................................... 33 Comerica (CMA) .......................................... 34 CME Group Inc. (CME) ................................ 35 Reinsurance Group of America (RGA) ........ 36 Aon Corp. (AON).......................................... 37 Simon Property Group (SPG) ...................... 38 Ares Capital (ARCC) .................................... 39 Health Care Celgene (CELG) .......................................... 41 Ariad (ARIA) ................................................. 42 CVS Caremark (CVS) .................................. 43 St. Jude Medical (STJ)................................. 44 Agilent (A) .................................................... 45 Pfizer (PFE).................................................. 46 Watson Pharmaceuticals (WPI) ................... 47 Materials LyondellBasell Industries (LYB) ................... 49 Kinross (KGC) .............................................. 50 Freeport-McMoRan (FCX) ........................... 51 Rock-Tenn (RKT) ......................................... 52 Media & Telecom Verisk Analytics (VRSK) .............................. 53 Yahoo! (YHOO) ............................................ 54 American Tower (AMT) ................................ 55 Technology NCR (NCR) .................................................. 57 Apple (AAPL) ............................................... 58 Broadcom (BRCM) ....................................... 59 Synopsys (SNPS) ........................................ 61
Note: Unless otherwise noted, all stock prices and ratings in this report are as of the close on 27 September 2011.
Bloomberg JPUS4Q11 <INDEX> <GO> Bloomberg subscribers can use the ticker JPUS4Q11 to access tracking information on a basket created by the J.P. Morgan Delta One desk to leverage the theme discussed in this report. Over time, the performance of JPUS4Q11 could diverge from returns quoted in this report, because of differences in methodology. J.P. Morgan Research does not provide research coverage of this basket and investors should not expect continuous analysis or additional reports relating to it. For information on JPUS4Q11, please contact your J.P. Morgan salesperson or the Delta One Desk.
See page 62 for analyst certification and important disclosures, including non-US analyst disclosures.
J.P. Morgan does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as a single factor in making their investment decision.
North America Equity Research October 2011
J.P. Morgan Map Best Near-Term Ideas
Equity Strategy Macro

Valuations Approaching March 2009 Levels but Still Significant Event Risk from Europe
Thomas J Lee, CFA AC
(1-212) 622-6505 thomas.lee@jpmorgan.com
Daniel M McElligott
(1-212) 622-5598 daniel.m.mcelligott@jpmorgan.com J.P. Morgan Securities LLC
Significant headwinds have pressured equities since late July, as the spreading of European sovereign concerns, coupled with the US political rancor, has undermined investor confidence. And unfortunately, as weeks have passed, liquidity in risky markets continues to deteriorate, putting more downside pressure on US equities. For equities to regain their footing, in our view, requires Europe leaders to visibly move in a direction to contain the crisis. That said, the current high volatility continues to point to equities making a sizable move in the next few monthseither a downside or upside break. We believe the move is to the upside (similar to 98) predicated on the notion that European leaders successfully leverage the EFSF.
Recent Leadership from Discretionary, Technology, and Utilities

Since the July 2011 highs, the market has seen 8 discrete sell-offs/rallies, which represents significant volatility and we believe is reflective of the conflicting forces of: (i) worsening European outlook (although stabilizing recently); (ii) concerns about Asia/China growth and (iii) sell-offs in commodities offset by still expansionary data in the US. One of the surprises, recently, has been the outperformance seen at the sector level. Take a look at Figure 1 below. Over the last few weeks of rallies/declines, three groups have been consistent in outperformance: Discretionary, Technology, and Utilities. The outperformances of the first two are reflective, in our view, of an economy still in expansion. In other words, despite fears of a US recession, the data is more consistent with a slowdownand not contraction.
Figure 1: Sector Performance Since July 2011

7/22 - 8/8 S&P500 8/8 - 8/17 8/17 - 8/22 8/22 - 8/31 8/31 - 9/9 9/9 - 9/16 9/16 - 9/22 9/22 - Now 7/22 - Now
-16.8%
6.6%
-5.9%
8.5%
-5.3%
5.4%
-7.1%
2.2%
-14.2%
Sectors Relative Performance: Cyclicals -1.2% Materials Industrials Discretionary Technology
-0.1% 1.8% -0.9% 0.1% -1.4%
-0.9% -1.3% -0.8% -0.1% -1.4%
1.4% 1.8% 2.1% 1.4% 0.3%
-0.4% -0.7% -1.6% -0.5% 1.3%
0.9% -0.9% 1.0% 1.6% 1.7%
-1.1% -4.8% -2.1% 0.3% 2.3%
-0.7% -2.4% 1.3% -0.7% -0.7%
-2.1% -9.4% -4.3% 1.1% 4.1%
-3.4% -3.0% -0.5% 2.2%
Near Cyclicals Energy Financials
-4.4% -4.4% -4.4%
1.5% 2.2% 0.9%
-2.0% -1.9% -2.1%
1.7% 0.1% 3.3%
-1.7% -0.1% -3.4%
-0.3% -1.3% 0.6%
-3.6% -3.8% -3.4%
1.1% -0.2% 2.4%
-8.0% -9.1% -7.0%
Defensives Staples HealthCare Telecom Utilities
5.0% 7.8% 1.4% 4.8% 5.8%
0.3% -1.7% -0.1% 0.8% 2.3%
3.2% 3.8% 2.4% 2.9% 3.7%
-3.6% -4.3% -1.0% -5.4% -3.6%
1.7% 2.3% 1.0% 1.7% 1.9%
-1.3% -2.0% -1.7% -0.9% -0.7%
3.1% 2.8% 2.4% 2.7% 4.5%
-0.1% -1.0% -0.2% 0.8% 0.2%
8.9% 8.8% 4.5% 7.8% 14.4%
Source: J.P. Morgan and FactSet
Valuation: 53% of Stocks with P/E <12X67% in 3/09

We believe investors need to be mindful that valuation levels are getting close to levels that we have not seen since the March 2009 lows. Currently, 53% of stocks have a P/E less than 12x and 33% less than 10x, which is higher than anytime since the 2009 lows. At the 3/09 low, the % of stocks with a P/E NTM less than 12x was 67%we are basically looking at valuations that are very similar to 3/09 lows. In contrast, on the day of Lehmans failure (the market was already off 20%), the % of stocks with a P/E less than 12x was 27%we are double that today. Think about this: The market appears cheaper today than it did during the height of the US financial crisiswe believe this is a strong argument that the sell-off we are seeing, while significant, is not consistent with equities having further significant downside.
Figure 2: % of Stocks with P/E <12X

Since 2007
% stocks with P/E less than 12x 100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% Bear Stearns collapse 3/6/08 24% Bear market bottom 3/5/09 65% 9/22/11 53% Current Key Dates
9/11/08 28%
Lehman bankruptcy
1/07 4/07 7/07 10/07 1/08 4/08 7/08 10/08 1/09 4/09 7/09 10/09 1/10 4/10 7/10 10/10 1/11 4/11 7/11 10/11 1/12
Source: J.P. Morgan and FactSet.
Equity Risk Premium at 50-Year Highs

We believe another useful measure of relative value is the equity risk premium. We calculate this by using an equity discount rate (5-yr div discount model to calculate this discount rate) and compare it to real 10-yr yields (10-yr less expected inflation). Currently, this figure is at 6.27%, a 55-year high Figure 3: This is higher than seen at major stock market lows of 74,80 and 09. This is even higher than the levels seen at the height of the Asia crisis and subprime crisis. What Is This Telling Us? Reflects Concerns About Contagion, Recession, and Risk Aversion Of course, when investors are fearful (look at the VIX), relative value does not matter, in our view. This tells us that investors are risk-off and, of course, reflects anxiety about Europe. However, this anxiety is greater than at any time in the past 55 years. The fact that investors are worried is obviously reasonable, but we believe the question is really whether the magnitude of fear is warranted.
Figure 3: Equity Risk Premium at 50-Year Highs
Calculated as Earnings Yield Less Real 10Y Yield (10Y Less Inflation)
Equity Risk Premia 7.00 6.00 5.00 4.00 3.00 2.00 1.00 0.00 -1.00 -2.00 '57 '61 '65 '69 '73 '77 '81 '85 '89 '93 '97 '01 '05 '09 10yr Avg 3.82 10yr Avg
Market low Market low at 60-year highs...
Asia Crisis
Subprime Crisis
Euro Crisis
9/11 6.27
Source: J.P. Morgan Asset Allocation Team. 5
Two Different Outcomes: What Worked in Both 98 and 08? Growth and Higher Valuations...Semis, Tech Hardware and Retail
We noted a few weeks ago that we saw the market at a juncture similar to both 98 and 08 (see Europe Severe but Some Reasons Closer to Asia 98 dated 09/15), with both involving a financial crisis. In fact, in some aspects, this crisis more resembles Asia (but with larger consequences) given the need for the weaker Euro periphery to delever (need to devalue, which cannot be done without leaving the Eurozone). We looked at both periods to see what outperformed in the six months following each crisispost-98 (test and passed) and post-Lehmans failure (test and failure). This is important, as the S&P 500 direction could not be more differentup 40% post-98, down 40% post-Lehman. Five Industries (Figure 4): There were five industries (GICS level 2) that outperformed in both periods: Semiconductors, Consumer Services, Software, Tech Hardware, and Retail. Doesnt this look like Early Cycle? Five Styles (Figure 5): There were also five styles that outperformed: High P/B, Pure Growth (Citigroup Pure Growth), High P/E, High EV/EBITDA, and More Liked (FC Mean). The takeaway? It seems that whether this crisis resolves positively or negatively, Early Cycle, Growth/Consensus (FC Mean), and more expensive stocks could outperform.
Figure 4: Industry Groups that Outperformed in Both Periods % chg vs S&P 500: 6-mos after event Post-Lehman '08 Industry '98 crisis Combined
S&P 500 performance 40% -40%
Figure 5: Styles that Outperformed in Both Periods
Style S&P 500 performance
% chg vs S&P 500: 6-mos after event Post-Lehman '08 '98 crisis Combined 40% -40%
Relative performance (vs S&P 500) Semiconductors 41% Consumer Svcs Software & Svcs Tech Hardware & Equip Retailing
Relative performance (vs S&P 500)
11% 10% 7% 6% 4%
26% 13% 33% 27% 20%
15% 58% 49% 35%
Expensive P/B Pure Growth Expensive P/E Expensive EV/EBITDA More Liked
49% 40% 32% 28% 22%
4% 6% 2% 2% 1%
26% 23% 17% 15% 12%
Figure 6: Relative Six-Month Performance of Industry Groups After Past Crises

Outperformed in both periods
Outperformed after Lehman failure
Pharma, Biotech & Life Sciences Food & Staples Retailing Telecom Services Food Beverage & Tobacco Consumer Svcs 18.0% 8.0% Utilities Energy HH & Personal Products
Semiconductors Retailing
Software & Svcs
Relative Perf in 6 mos after Lehman bankruptcy
Tech Hardware & Equip
-2.0%
Health Care Equip & Svcs Commercial Svcs & Supplies Materials Transportation Consumer Durables & Apparel Capital Goods Banks Insurance Autos & Components
Media
-12.0%
Diversified Financials
-22.0%
-32.0% -52.0%
-32.0%
-12.0%
8.0%
28.0%
48.0%
68.0%
Relative Perf in 6 mos after 1998 Low
Outperformed after '98 Low
Figure 7: Relative Six-Month Performance of Styles After Past Crises

Outperformed in both periods
Outperformed after Lehman failure
7.0%
Defensive Low Beta
Pure Growth Expensive P/B Expensive EV/EBITDA Expensive P/E More Liked Market Cap Larger Cyclical Low Price S&P Low Quality Cheap EV/EBITDA Low Momentum Pure Value Cheap P/B Cheap P/E High Be
Relative Perf in 6 mos after Lehman bankruptcy
2.0% Market Cap Smaller -3.0% High Momentum S&P High Quality High Price Less Liked
-8.0%
-13.0% -50.0%
-30.0%
-10.0%
10.0%
30.0%
50.0%
70.0%
Relative Perf in 6 mos after 1998 Low

Outperformed after '98 Low
Market Strategy: 40 Best Near-Term Stock Ideas

In the context of a challenging macro environment and investors currently focused on risk aversion, J.P. Morgans fundamental analysts have compiled a list of their best near-term stock ideas over the next three months. The 40 names compiled by our analysts are shown in Figure 8 (long ideas) and Figure 9 (short idea) below.
Figure 8: J.P. Morgan Fundamental Analysts Best Near-Term Stock Ideas LONG STOCK IDEAS
$ in mm; Priced as of 9/27/11
JPM Coverage Current Name 1 Cimarex Energy Co. 2 Freeport-McMoRan Copper & Gold Inc. 3 United Continental Holdings Inc. 4 Ly ondellBasell Industries N.V. Cl A 5 Ow ens Corning 6 Noble Corp. 7 Wells Fargo & Co. 8 Harman International Industries Inc. 9 Rock-Tenn Co. Cl A 10 Kinross Gold Corp. 11 Agilent Technologies Inc. 12 Ariad Pharmaceuticals Inc. 13 St. Jude Medical Inc. 14 CVS Caremark Corp. 15 Deere & Co. 16 Boeing Co. 17 Pfizer Inc. 18 Reinsurance Group of America Inc. 19 Union Pacific Corp. 20 Brinker International Inc. 21 Comerica Inc. 22 Sy nopsy s Inc. 23 Las Vegas Sands Corp. 24 Apple Inc. 25 AON Corp. 26 Broadcom Corp. 27 ITC Holdings Corp. 28 Ares Capital Corp. 29 Simon Property Group Inc. 30 NCR Corp. 31 CME Group Inc. Cl A 32 Quanta Serv ices Inc. 33 Home Depot Inc. 34 Celgene Corp. 35 Yahoo! Inc. 36 American Tow er Corp. 37 Verisk Analy tics Inc. (Cl A) 38 Watson Pharmaceuticals Inc. 39 Rey nolds American Inc. Average Industry Oil Gas & Consumable Fuels Metals & Mining Airlines Chemicals Building Products Energy Equipment & Serv ices Commercial Banks Household Durables Containers & Packaging Metals & Mining Life Sciences Tools & Serv ices Biotechnology Health Care Equipment & Supplies Food & Staples Retailing Machinery Aerospace & Defense Pharmaceuticals Insurance Road & Rail Hotels Restaurants & Leisure Commercial Banks Softw are Hotels Restaurants & Leisure Computers & Peripherals Insurance Semiconductors & Semiconductor Equipment Electric Utilities Capital Markets Real Estate Inv estment Trusts (REITs) Computers & Peripherals Div ersified Financial Serv ices Construction & Engineering Specialty Retail Biotechnology Internet Softw are & Serv ices Wireless Telecommunication Serv ices Professional Serv ices Pharmaceuticals Tobacco Ticker XEC FCX UAL LYB OC NE WFC HAR RKT KGC A ARIA STJ CVS DE BA PFE RGA UNP EAT CMA SNPS LVS AAPL AON BRCM ITC ARCC SPG NCR CME PWR HD CELG YHOO AMT VRSK WPI RAI Price $60.01 $34.82 $20.43 $29.59 $23.45 $31.89 $32.18 $52.09 $15.02 $33.56 $10.14 $38.97 $34.69 $69.48 $62.78 $48.05 $85.66 $22.34 $23.41 $24.91 $44.69 $41.21 $35.04 $75.70 $13.78 $113.60 $18.01 $262.29 $19.43 $33.88 $63.97 $14.54 $54.58 $34.49 $72.10 $37.24 Market Cap $5,135 $33,005 $6,758 $16,913 $2,894 $8,331 $2,250 $3,709 $17,070 $11,653 $1,344 $12,841 $46,653 $28,759 $46,526 $3,560 $41,810 $1,847 $4,705 $3,588 $32,632 $13,463 $16,854 $3,883 $2,827 $33,375 $2,833 $17,537 $4,030 $52,998 $29,350 $18,358 $21,600 $5,175 $9,671 $21,708 JPM Rtg JPM Analy st OW Joseph Allman, CFA OW Michael F. Gambardella OW Jamie Baker OW Jeffrey J. Zekauskas OW Michael Rehaut, CFA OW J. Dav id Anderson, PE, CFA OW Viv ek Juneja OW Himanshu Patel, CFA OW Phil Gresh, CFA OW John Bridges CFA, ACSM OW Ty cho W. Peterson OW Cory Kasimov OW Michael Weinstein OW Lisa C. Gill OW Ann Duignan OW Joseph B. Nadol III OW Chris Schott, CFA OW Jimmy S. Bhullar, CFA OW Thomas R. Wadew itz OW John Iv ankoe OW Stev en Alex opoulos, CFA OW Sterling Auty , CFA OW Joseph Greff OW Mark Moskow itz OW Matthew G Heimermann OW Harlan Sur OW Stefka Gerov a, CFA OW Richard Shane OW Michael W. Mueller, CFA OW Paul Coster, CFA OW Scott Lev ine OW Christopher Horv ers, CFA OW Geoffrey Meacham, Ph.D. N Doug Anmuth OW Philip Cusick, CFA OW Michael A. Meltz, CFA OW Chris Schott, CFA OW Rae Maile 41% Target Implied Price Upside $132.00 $74.00 $36.00 $50.00 $39.00 $53.00 $41.00 $50.00 $80.00 $23.00 $50.00 $15.00 $57.00 $50.00 $100.00 $89.00 $25.00 $67.00 $119.00 $31.00 $32.00 $33.00 $59.00 $525.00 $53.00 $45.00 $95.00 $17.00 $140.00 $22.00 $23.50 $40.00 $75.00 $17.00 $60.00 $36.00 $73.00 120% 113% 76% 69% 66% 66% 64% 55% 54% 53% 49% 48% 46% 44% 44% 42% 41% 39% 39% 39% 37% 32% 32% 31% 29% 28% 25% 23% 23% 22% 22% 21% 18% 17% 17% 10% 4% 1% $2.20 $1.80 $1.90 $27.68 $3.40 $2.96 $3.33 $1.40 $2.57 $1.82 $17.41 $0.70 $2.35 $3.60 $0.74 $1.03 $1.64 $4.46 $2.65 10.6x 13.8x 23.5x 14.4x 12.1x 11.8x 22.7x 9.8x 44.2x 9.9x 15.1x 27.8x 14.4x 17.8x 19.7x 53.1x 21.0x 16.2x 14.1x 12.8x 2.63x 3.26x 2.28x $5.32 $0.87 $2.91 -$0.80 $3.27 $2.78 $6.43 $4.24 $2.25 $7.08 $6.51 11.9x 12.5x 10.8x 14.8x 7.9x 6.8x 13.2x 9.8x 17.3x 11.5x EPS & Valuation 2011E EPS $6.35 $5.89 $3.64 $4.93 $2.23 $1.72 $2.81 P/E ('11E) 9.4x 5.9x 5.6x 6.0x 10.5x 18.6x 8.9x P/B 1.78x 2.28x 3.48x 1.24x 0.76x 1.11x 1.05x 1.58x 1.05x 1.14x 2.78x 168.59x 2.65x 1.22x 3.82x 9.82x 1.57x 0.67x 2.28x 4.22x 0.69x 1.69x 4.49x 5.34x 1.60x 3.19x 3.26x 0.90x 7.02x 2.95x 0.84x 1.24x 2.92x 4.91x 1.46x 6.07x
$24.96 $131,785
$17.75 $138,488
$399.26 $370,150
OW Kenneth B. Worthington, CFA $320.00
Figure 9: J.P. Morgan Fundamental Analysts Best Near-Term Stock Ideas SHORT STOCK IDEA
$ in mm; Priced as of 9/27/11
JPM Coverage Current Name 1 Canadian National Railw ay Co. Average Industry Road & Rail Ticker CNI Price $68.12 Market Cap $30,451 JPM Rtg JPM Analy st N Thomas R. Wadew itz Target Implied Price Upside $75.00 10% 10% EPS & Valuation 2011E EPS $4.77 P/E ('11E) 14.3x 14.3x P/B 2.58x 2.58x
Accounting and Valuation

Elevated Pension Risk
Dane Mott, CFA, CPA AC
(1-415) 315-5905 dane.mott@jpmorgan.com
Year-to-date pension trends imply funded status deterioration if these conditions hold through year-end Pension performance is primarily driven by two factors: 1) discount rates and 2) asset returns. The year-to-date performance of both of these factors imply that we should expect pension plan funded status deterioration if these trends hold or worsen between now and companies fiscal yearends. If this perfect storm of poor plan asset performance and substantial increases in pension obligations due to large yearover-year decreases in discount rates holds through December, the deterioration in 2011 pension funding levels could be the worst pension performance over the past decade, which has already seen two particularly bad years in 2002 and 2008. The Moodys Aa rate fell to 3.94 on September 22. If current trends in Aa or higher corporate credit rates hold through yearend, it could result in some Decemberyearend companies lowering discount rate assumptions by as much as 125 basis points for some companies. The implication of this discount rate trend would be higher pension projected benefit obligations (PBOs).
Figure 10: YOY Moodys Aa Corporate Bonds Index Month-end Performance, 2010 and YTD 2011
YOY Moody's Aa Bond Index Monthend Rates
5.75 5.50 5.25 5.00
Rate
Amy Schmidt
(1-415) 315-6705 amy.m.schmidt @jpmorgan.com J.P. Morgan Securities LLC
4.75 4.50 4.25 4.00 3.75 Lower YOY rate means higher PBO
Month
2010 2011
Source: Moody's and J.P. Morgan Estimates.
With the S&P 500 down 10% since December 31, 2010, many pension plans could see material declines in plan asset balances if trends hold through yearend.
Figure 11: S&P 500 Index, 2010 and YTD 2011
YOY S&P 500 Index Monthend Prices

1,400 1,350
Month-End Price
1,300 1,250 1,200 1,150 1,100 1,050 1,000
Negative YOY trends in equity values
Month
2010 2011
Source: Standard and Poors and J.P. Morgan Estimates.
Volatile markets elevate the need to consider pension exposure when making investment decisions Pension plans represent a very real source of risk for companies. In the worst case scenario, an unhealthy pension plan can push an otherwise healthy company with a value-creating portfolio of operating businesses into financial distress or bankruptcy. As we have said in prior research, one of the problems with pension exposure is that it has the potential to create situations where the tail wags the dog. That is, pensions have the potential to create very serious problems at a company when the size of the pension plan begins to be comparable or larger than the size of the "operating businesses." A big pension plan can make even a seemingly straightforward business model very complicated. In some situations, how someone thinks about the risks associated with a companys pension exposure should change how they think about a stock, because it may alter the risk-reward tradeoff of the investment in a material way. As we had often stated, we think about pension plans like insurance entities. From our perspective, having exposure to a pension plan is analogous to having exposure to a business segment that is an insurance entity managing a book of annuity contract obligations. Consistent with this philosophy, we take a two-step approach to pension analysis in the valuation process. Those steps are: Step 1. Identify companies with elevated levels of pension risk. Identify companies where the pension plans are large enough that an investor should think of the pension plan as a materially large business unit; and Step 2. Model the companies with the highest levels of pension risk. Once a company has been isolated as having a materially-large pension risk exposure, we
10
recommend modeling the pension to forecast the balance-sheet, income-statement, and cash-flow effects associated with the pension plan. We have various resources that can help clients conduct this two-step analysis. Contact us if you would like copies of our most recent pension risk ratio analysis research or if you would like a copy of our proprietary model that you can use to forecast pension and other post-retirement plan behavior for up to 6 years. JPMorgan Chase & Co. and its affiliates do not provide tax advice or advice on tax accounting matters. Accordingly, this material is not intended or written to be used, and cannot be used or relied upon, by any recipient in connection with promotion, marketing or a recommendation for the purpose of avoiding U.S. tax-related penalties. Each client should consult his/her personal tax and/or legal advisor to learn about any potential tax or other implications that may result from acting on a particular recommendation.
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Delta One Strategy

J.P. Morgan US Best Near-Term Ideas Basket JPUS4Q11 <Index>
Derivatives & Delta One Strategy Marko Kolanovic
(1-212) 272-1438 mkolanovic@jpmorgan.com
Basket Methodology and Composition

The J.P. Morgan U.S. Best Near-Term Ideas Basket for Q4 2011 (<JPUS4Q11> Index on Bloomberg) represents a portfolio of US stocks that J.P. Morgan Equity Research Analysts have selected as their best ideas for investors over the next three months. The rationale for each stocks selection is provided by the analysts in their individual sector notes. The basket is equally weighted, and is well diversified across sectors and capitalization segments. The tables below show the current sector composition and individual members of the J.P. Morgan U.S. Best NearTerm Ideas for 4Q 2011Basket.
Materials 10% C. Staples 5% Energy 8% Utilities 3%
Kapil Dhingra
(1-212) 272-7823 kapil.dhingra@jpmorgan.com
Adam Rudd
(1-212) 272-1215 adam.ch.rudd@jpmorgan.com
Amyn Bharwani
(1-212) 622-8030 amyn.x.bharwani@jpmorgan.com J.P. Morgan Securities LLC
Figure 12: Sector Composition of the J.P. Morgan US Best Near-Term Ideas Basket JPUS4Q11 <Index>, as of Sep 27, 2011 (close)
Health Care 15% Telecom 3%
Basket Details
Bloomberg Ticker Benchmark Number of Components Weighting Scheme
Source: J.P. Morgan.
JPUS4Q11 <Index> SPX Index 39 Equally Weighted
C. Discretion 10%
Financials 18%
Industrials 18%
Source: J.P. Morgan Derivatives & Delta One Strategy, Bloomberg.
Technology 10%
Bloomberg subscribers can use the ticker JPUS4Q11 to access tracking information on a basket created by the J.P. Morgan Delta One desk to leverage the theme discussed in this report. Over time, the performance of JPUS4Q11 could diverge from returns quoted in this report, because of differences in methodology. J.P. Morgan Research does not provide research coverage of this basket and investors should not expect continuous analysis or additional reports relating to it. For information on JPUS4Q11, please contact your J.P. Morgan salesperson or the Delta One Desk.
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Figure 13: Market Capitalization Breakdown of the J.P. Morgan US Best Near-Term Ideas Basket JPUS4Q11 <Index>, as of Sep 27, 2011 (close)
Small cap (< $10 bn) 44%
Large cap (> $20 bn) 38%
Mid cap ($10 - $20 bn) 18%

Figure 14: Composition of the J.P. Morgan US Best Near-Term Ideas Basket JPUS4Q11 <Index>, as of Sep 27, 2011 (close)
Ticker
AAPL PFE WFC HD BA CVS UNP SPG LVS FCX CELG DE RAI AMT BRCM CME YHOO KGC LYB AON STJ A WPI NE UAL VRSK XEC CMA PWR ITC RKT SNPS RGA ARCC OC NCR HAR EAT ARIA
Name
Apple Inc Pfizer Inc Wells Fargo & Co Home Depot Inc Boeing Co/The Cvs Caremark Cor Union Pac Corp Simon Property Las Vegas Sands Freeport-Mcmoran Celgene Corp Deere & Co Reynolds America American Tower-A Broadcom Corp-A Cme Group Inc Yahoo! Inc Kinross Gold Lyondellbasell-A Aon Corp St Jude Medical Agilent Tech Inc Watson Pharm Noble Corp United Continent Verisk Analyti-A Cimarex Energy C Comerica Inc Quanta Services Itc Holdings Cor Rock-Tenn Co-A Synopsys Inc Reinsurance Grou Ares Capital Cor Owens Corning Ncr Corp Harman Intl Brinker Intl Ariad Pharm
Sector
Technology Health Care Financials C. Discretion Industrials C. Staples Industrials Financials C. Discretion Materials Health Care Industrials C. Staples Telecom Technology Financials Technology Materials Materials Financials Health Care Health Care Health Care Energy Industrials Industrials Energy Financials Industrials Utilities Materials Technology Financials Financials Industrials Technology C. Discretion C. Discretion Health Care
Industry
Analyst
Wgt Mkt. Cap JPM Last 3M ADV (%) ($B) Rating Price ($) ($M)
$ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ 370.15 138.49 131.78 53.00 46.53 46.65 41.81 33.32 32.63 33.01 29.35 28.76 21.71 21.60 18.75 17.59 18.36 17.07 16.81 13.46 12.84 11.65 9.67 8.05 6.76 5.68 5.13 4.70 4.12 3.88 3.71 3.59 3.56 2.83 2.89 2.83 2.25 1.85 1.34 OW OW OW OW OW OW OW OW OW OW OW OW OW OW OW OW N OW OW OW OW OW OW OW OW OW OW OW OW OW OW OW OW OW OW OW OW OW OW $ 399.26 $ $ 17.75 $ $ 24.96 $ $ 33.88 $ $ 62.78 $ $ 34.69 $ $ 85.66 $ $ 113.60 $ $ 44.69 $ $ 34.82 $ $ 63.97 $ $ 69.48 $ $ 37.24 $ $ 54.58 $ $ 35.04 $ $ 262.29 $ $ 14.54 $ $ 15.02 $ $ 29.59 $ $ 41.21 $ $ 38.97 $ $ 33.56 $ $ 72.10 $ $ 31.89 $ $ 20.43 $ $ 34.49 $ $ 60.01 $ $ 23.41 $ $ 19.43 $ $ 75.70 $ $ 52.09 $ $ 24.91 $ $ 48.05 $ $ 13.78 $ $ 23.45 $ $ 18.01 $ $ 32.18 $ $ 22.34 $ $ 10.14 $ 8,535 930 1,067 493 414 358 310 262 853 682 247 408 123 181 317 142 484 141 140 105 138 187 101 144 148 28 77 99 46 24 55 29 30 28 45 37 33 48 39
Computers & Peripherals Mark Moskowitz 2.56% Pharmaceuticals Chris Schott, CFA 2.56% Commercial Banks Vivek Juneja 2.56% Specialty Retail Christopher Horvers, CFA 2.56% Aerospace & Defense Joseph B. Nadol III 2.56% Food & Staples Retailing Lisa C. Gill 2.56% Road & Rail Thomas R. Wadewitz 2.56% Real Estate Investment Trusts Michael W. Mueller, CFA/A2.56% Hotels Restaurants & Leisure Joseph Greff 2.56% Metals & Mining Michael F. Gambardella 2.56% Biotechnology Geoffrey Meacham, Ph.D. 2.56% Machinery Ann Duignan 2.56% Tobacco Rae Maile 2.56% Wireless Telecommunication SerPhilip Cusick, CFA 2.56% Semiconductors & Semiconduct Harlan Sur 2.56% Diversified Financial Services Kenneth B. Worthington, C 2.56% Internet Software & Services Doug Anmuth 2.56% Metals & Mining John Bridges CFA, ACSM 2.56% Chemicals Jeffrey J. Zekauskas 2.56% Insurance Matthew G Heimermann 2.56% Health Care Equipment & SuppliMichael Weinstein 2.56% Life Sciences Tools & Services Tycho W. Peterson 2.56% Pharmaceuticals Chris Schott, CFA 2.56% Energy Equipment & Services J. David Anderson, PE, CFA2.56% Airlines Jamie Baker 2.56% Professional Services Michael A. Meltz, CFA 2.56% Oil, Gas & Consumable Fuels Joseph Allman, CFA 2.56% Commercial Banks Steven Alexopoulos, CFA 2.56% Construction & Engineering Scott Levine 2.56% Electric Utilities Stefka Gerova 2.56% Containers & Packaging Phil Gresh 2.56% Software Sterling Auty, CFA 2.56% Insurance Jimmy S. Bhullar, CFA 2.56% Capital Markets Richard Shane 2.56% Building Products Michael Rehaut, CFA 2.56% Computers & Peripherals Paul Coster, CFA 2.56% Household Durables Himanshu Patel, CFA 2.56% Hotels Restaurants & Leisure John Ivankoe 2.56% Biotechnology Cory Kasimov 2.56%
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Basket Performance
In this section, we examine the hypothetical performance of the J.P. Morgan US Best Near-Term Ideas Basket for Q4 2011 over the last three years. The J.P. Morgan US Best Near-Term Ideas Basket JPUS4Q11 <Index> would have significantly outperformed the S&P 500 Index over the past three years. The annualized return of the J.P. Morgan US Best Near-Term Ideas Basket would have been ~5.6% (while the annualized S&P 500 Index return during the same time period was 2%). The correlation of the basket returns to the S&P 500 Index returns has been 97%, and the recent six-month realized volatility of the basket has been 28.7% (the realized volatility of the S&P 500 Index over the same time frame has been 25%). The figures below show the performance and volatility of the J.P. Morgan US Best Near-Term Ideas Basket vs. that of the S&P 500 Index. The historical beta and correlation of the basket to the S&P 500 is also shown in the charts below.
Figure 15: Performance of the J.P. Morgan US Best Near-Term Ideas Basket (JPUS4Q11 Index) and S&P 500 Index (since past 3 years)
160
Basket Daily Return (%)
Figure 16: Daily Returns of the J.P. Morgan US Best Near-Term Ideas Basket (JPUS4Q11 Index) vs. S&P 500 Index Return
15% R = 95%
140 120 100 80 60 40 20
JPUS4Q11
S&P 500
10% 5% 0% -5% -10% -15% -15%
0 Sep-08 Feb-09 Jul-09 Dec-09 May-10 Oct-10 Mar-11 Aug-11
-10%
-5%
0%
5%
10%
15%
S&P 500 Daily Return (%)
Source: J.P. Morgan Derivatives & Delta One Strategy, Bloomberg. Source: J.P. Morgan Derivatives & Delta One Strategy, Bloomberg. Note: All price performance excludes commissions and fees. Past Performance is not indicative Note: All price performance excludes commissions and fees. Past Performance is not indicative of future returns. of future returns.
Figure 17: 6M Realized Volatility of the J.P. Morgan US Best Near-Term Figure 18: 6M Beta and 6M Correlation of the J.P. Morgan US Best Ideas Basket (JPUS4Q11 Index) vs. S&P 500 Index Near-Term Ideas Basket (JPUS4Q11 Index) vs. S&P 500 Index
70% 60% 50% 40% 30% 20% 10% 0% Mar,09 Sep,09 Mar,10 Sep,10 Mar,11 Sep,11 Basket 6M Realized Vol. S&P 500 6M Realized Vol. 99% 98% 97% 96% 95% 94% 93% 92% Mar,09 0.9 6M Correl. (Left) Aug,09 Jan,10 Jun,10 6M Beta (Right) Nov,10 Apr,11 0.8 Sep,11 1.1 1.0 1.3 1.2
Source: J.P. Morgan Derivatives & Delta One Strategy, Bloomberg. Source: J.P. Morgan Derivatives & Delta One Strategy, Bloomberg. Note: All price performance excludes commissions and fees. Past Performance is not indicative Note: All price performance excludes commissions and fees. Past Performance is not indicative of future returns. of future returns.
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Additional Basket Methodology In order to keep the basket relevant to the investment theme, J.P. Morgan reserves the right to review the following at any time: Basket methodology. This is to ensure the rules of the basket remain relevant following any structural changes to the theme. This may include ensuring that the sector exposure of the basket remains broadly consistent with the investment theme. Basket change implementation. J.P. Morgan will consider extending the implementation of changes to the basket composition from one trading session to any period up to five trading sessions in the event that a material increase in the liquidity or capacity of the basket is required to minimize market impact. Corporate actions may affect the J.P. Morgan US Best Near-Term Ideas Basket. The composition of a custom basket is typically adjusted in the following manner: Cash Merger. The divisor is adjusted, and we remove the merging company from the basket on the day of merger and redistribute gains into remaining companies according to recalculated market cap weights of surviving constituents in the basket. Stock Merger. If the acquirer is a member of the basket, then the weight allocated to the acquired will transfer to the surviving entity on the close of the last day it trades. If the acquirer is not a part of the basket, then proceeds (losses) from the acquired company will be redistributed to the surviving basket constituents based on the recalculated weighting on the close of its last trading day. Spinoffs. The spinoff company and parent will be included in the basket, and both the spinoff and parent company weights will be readjusted according to new market capitalizations after the spinoff date. Tender Offers and Share Buybacks. The company remains in the basket and its weight is adjusted according to the impact the tender/buyback has on the stocks market value. Delisting/Insolvency/Bankruptcy. The company is removed from the basket as of the close of the last trading day, and the proceeds (losses) will be redistributed into remaining companies according to re-calculated weights of remaining companies in the basket. If a stock trades on pink sheets it will not be included in the basket.
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16
Aerospace & Defense Capital Goods / Industrials

Boeing: An Attractive Investment Backdrop with Several Potential Near-Term Catalysts
Joseph B. Nadol AC
(1-212) 622-6548 joseph.nadol@jpmorgan.com
Boeing (BA $62.78 Overweight)

We see potential for Boeing to outperform over the next three months. The stock trades at only 12x 2012E EPS vs 15x next years earnings on average over the past 10 years, yet the company is preparing for a significant ramp in commercial aircraft production. Macro risk is a concern, but we believe Boeings dependence on emerging market demand leaves it well-positioned to weather the current global headwinds, which are concentrated in the US and Europe for the most part, and that rate increases will move ahead in all but the most dire economic scenarios, thanks in part to a solid commercial backlog of 3,505 aircraft. The 787 is a key driver of the coming increase in rates, and just this week the company finally began delivering the aircraft. We see the achievement of this longawaited milestone as a development that could help attract investors back into the stock. In addition, we see potential for more commercial aircraft orders, including for the recently launched 737 MAX, and these could support the stock as well. Widebody demand should drive continued orders for the 777 and the 787, particularly if Boeing launches the new 787-10 variant in the coming months. Other potential drivers for Boeing include improving 787 cash flow and falling R&D in the coming years, neither of which is dependent on macro developments. 787 inventory growth of ~$8/share this year should slow as rates ramp up, and cash flow on the program should eventually turn positive, driving FCF of $10/share in 2014E if all goes well. On R&D, activity on the 787 and 747-8 should ramp down, driving R&D lower in both 2012 and 2013, even with the development of the 737 MAX. We are modeling an $850 mn decline between 2010 and 2013, adding 75-80 cents to EPS.
Seth M. Seifman, CFA

(1-212) 622-5597 seth.m.seifman@jpmorgan.com
Christopher Sands
(1-212) 622-9224 christopher.sands@jpmorgan.com J.P. Morgan Securities LLC
17
Airfreight and Surface Transportation

Legacy Repricing Supports UNP Upside; Pair with CNI Helps Offset Macro Risk
Thomas R. Wadewitz AC
(1-212) 622-6461 thomas.r.wadewitz@jpmorgan.com
Long Union Pacific (UNP $85.66 Overweight) Short Canadian National (CNI $68.12 Neutral)
Over the next three months, we recommend a pair trade of taking a long position in OW-rated UNP to capture the companys strong legacy contract repricing story and robust near-term PRB coal volumes, while offsetting the macro risk by taking a short position in N-rated CNI. UNP should realize a significant tailwind in 2012 from repricing ~$1.05 bn in revenue of old contracts (legacy intermodal and coal), where pricing is likely to rise sharply. We estimate that the combined revenue increase resulting from repricing the legacy contracts is ~$490 mm in 2012 or ~$0.63/share, which contributes 9.7%points to earnings growth. In contrast, we expect the pricing outlook to be somewhat more muted for CNI, which does not have any meaningful legacy contracts remaining in its book of business. CNI is also exposed to Canadian regulated grain, which has limited pricing opportunity. In our view, the revenue mix for UNP is more defensive with ~38% of 2010 revenues from the less economically sensitive coal and agricultural segments compared to only ~24% of CNIs revenues. Although we are recommending a short position in CNI against a long UNP in this pair trade, we continue to rate CNI Neutral, as we believe the stock already reflects a reasonably optimistic outlook. We believe CNI is likely to realize modest margin expansion in the medium term, but our sense is that volume and revenue growth are the more important drivers of the CNI story. On our 2012 EPS estimates, UNP trades at 11.9x and CNI trades at 13.6x. The longterm average historical P/E range for UNP and CNI is 11x-15x, but we note that during the positive rail pricing story of 2004 2008 the rail group realized stronger valuation in the 13x 17x range. In our view, the more defensive book of business and strong legacy contract repricing story should likely drive a stronger valuation for UNP relative to CNI. We note that the YTD stock performance for UNP is down 7.6%, while CNI is up 2.5% and the S&P 500 is down 8.5%.
Michael R. Weinz, CFA

(1-212) 622-6383 michael.r.weinz@jpmorgan.com
Alexander K. Johnson
(1-212) 622-6513 alexander.k.johnson@jpmorgan.com J.P. Morgan Securities LLC
18
Engineering & Construction

PWR Poised for a Move Up into Year-End
Scott Levine AC
(1-212) 622-5609 scott.j.levine@jpmorgan.com
Quanta Services (PWR $19.43 Overweight)

Growth poised to accelerate into 2012, fueled by transmission. Although earnings have remained relatively flattish y/y in 1H, revenue growth has begun to accelerate, reflecting recent increases in backlog (+18% y/y in Q2) that have been driven primarily by Electric Power (+23% y/y) and, more recently, Telecom (+125% y/y). Given recent growth in backlog, we think revenue growth is set to accelerate into year-end, fueled by increased activity on transmission projects, with PWR having booked several in recent quarters, many of which are expected to ramp into year-end (PWR is expecting to be active on ten projects by YE11). We expect the transmission bid funnel to remain active going forward, and PWR has expressed comfort with its ability to take on additional work despite tightening industry capacity, which could play to its favor as the transmission cycle matures. Visibility in Natural Gas & Pipeline could also improve by year-end. The Natural Gas & Pipeline business has been disappointing in 2011 (revenues -20% y/y in Q2), and while we dont expect much improvement in Q3, the business could be poised for a turn in 2012, with visibility perhaps to improve by Q4. Pipeline bidding season typically commences in October, and management has cited a healthy pipeline, suggesting we could see a better performace in 2012 (we assume flat revenues in 2012). In addition, the proposed Keystone XL pipeline could be approved by yearend (the EIS was approved by the State Dept. in late August, providing a positive and necessary step), which could benefit PWR (a leader in pipeline construction that has a strong relationship with sponsor TransCanada) and would likely drive tighter industry capacity trends, which could benefit the industry as a whole in 2012-13. Broadening base of growth drivers could drive a strong close to 2011. PWR shares have been fairly range-bound over the past year despite steady increases in backlog, as weather and regulatory delays have impacted a number of businesses (notably Pipeline & Transmission), causing earnings to trail initial expectations. At 9.2x 2011 and 6.8x 2012 EV-EBITDA estimates, PWR is trading at a premium to the peer group, which we think is warranted given the growth potential in a number of businesses (notably transmission). We think valuation (and sentiment) should improve as growth accelerates, with businesses such as Telecom and Pipeline better compelementing the Electric Power business, thereby driving accelerating earnings growth.
Rodney C. Clayton
(1-212) 622-2873 rodney.c.clayton@jpmorgan.com
Ankit Varmani
(1-212) 622-5654 ankit.varmani@jpmorgan.com J.P. Morgan Securities LLC
19
Machinery
Global Agriculture Fundamentals Strong; Overweight DE
Ann Duignan AC
(1-212) 622-0381 ann.duignan@jpmorgan.com
Deere (DE $69.48 Overweight)

Our Overweight rating on DE is predicated on the companys exposure to global agriculture, where fundamentals remain strong. The stock has underperformed peers YTD, as investors feared that equipment sales in NA are at, or close to, peak as the replacement cycle is over. We disagree, as Census data shows that we have only replaced about 16% of crop farm equipment this cycle, and there is no replacement cycle. Farmers spend money when they have money, and cash receipts should hit a record level in the 2011/12 season. The recent World Agriculture Supply and Demand Estimate (WASDE) report from the USDA forecasted slight increases in year-end stocks-to-use projections, but overall major crop receipts expectations remain strong. We currently expect $151.6 billion in major crop receipts for 2011/12, up 25% YoY. In Brazil, key crop prices remain elevated in 2011 to date; we note that daily sugar prices are up an average of 35% YTD. Soybean prices are up 23% YTD, and government support continues with the Brazilian government passing $54 billion of farm financing packages, which lifts some uncertainty for farmers in the region. In Europe, dairy and livestock are important sectors (combined ~58% of the market); milk and meat prices have increased substantially YTD in 2011. Milk prices increased 15% in 2010 in Europe, according to the USDA, and production is expected to increase a further 1% in 2011. Through August 2011, the FAO's Dairy Price index is up 14% YTD and up 16% YoY, while the Meat Price index is up 6% YTD and 9% YoY. In China, pork prices have risen 43% YTD, and China accounts for 50% of global pork production; farmers are making RMB600-1000 per head, more than double the normal profit. Longer term, modernization and consolidation in pig farming as well as gradual shift to corn or soybean-based feed are ongoing trends; currently, leftover human food makes up a substantial portion of feed on smaller farms. As a result, we remain bullish on DEs ability to deliver strong earnings growth into 2012 and beyond. In an environment of economic uncertainty, we like DEs exposure to 1) global end markets and 2) agriculture, which we view as less cyclical. Additionally, earnings estimates for 2012 look conservative with EPS growth of 12% expected vs. its peer group average at growth of 33%. We believe this should result in less downside risk in the near term.
Ingrid Aja, CFA

(1-212) 622-3730 ingrid.c.aja@jpmorgan.com
Michael Shlisky
(1-212) 622-6656 michael.d.shlisky@jpmorgan.com J.P. Morgan Securities LLC
20
Airlines Consumer
UAL: Priced for Turbulence, but We See Friendlier Skies Ahead
Jamie Baker AC
(1-212) 622-6713 jamie.baker@jpmorgan.com
United Continental Holdings, Inc. (UAL $20.43 Overweight)

Lets not lose sight of the bigger picture. The airline industry has realized over $8 billion of annualized fuel cost savings versus April highs. This represents ~6% of industry revenue. Could revenue decline by this amount and completely offset the savings? Anything is possible, but only 9/11 and the financial crisis in 2009 have ever resulted in demand so weak. As such, we recommend UAL as one of our best near-term ideas for the following: Compelling valuation: Current airline enterprise values have returned to their 2009 lows, a time when revenue declines were without precedent and liquidity was rapidly deteriorating. Market valuation today implies things are going to be just as dire this time as when the global financial situation teetered on the brink of collapse, despite the fact that the industry is more consolidated and currently profitable with liquidity stronger across the board. For investors believing in a macro outcome any less severe than in 2009, airline equities, in particular, deserve a close look. To put things in perspective, UALs enterprise value adjusted for CAL is within ~3% of its 2Q09 level and currently trades lowest among its peers at 3.6x 2011E EV/EBITDAR vs. 4.1x at DAL, 5.2x at LCC, and 12.1x at AMR. With UAL trading at 3.6x EV/EBITDAR, at the low end of historical ranges, we see potential near-term upside opportunity from here. Strong balance sheet: Relative to peers, we believe UAL has one of the strongest balance sheets. At 2.6x Net Debt/LTM EBITDAR, UAL has the lowest leverage ratio among legacies, excluding Alaska. Additionally, in terms of liquidity, UAL is current at 24% of LTM revenues as of 2Q11, better than any legacy airline excluding Alaska. Down 30 in 30 in effect: Granted, Continental is no longer with us, but we see no reason UAL cant continue the trend. Since 1993, there were 27 instances in which CAL triggered this rule. In all 27, upside potential then followed, ranging from 5% to 468% with a mean of approximately 105%. Alternatively, 74% of observations resulted in 50% upside or greater. UAL continues to offer a compelling valuation, in our view, and with oil prices declining followed by capacity cuts expected to take effect in Q4, we believe there is upside opportunity in the stock. However, UALs share price is down more than 10% year to date. We believe this is overdone and a near-term correction will follow. As such, UAL is one of our best near-term ideas.
Scott Tan, CFA

(1-212) 622-5541 scott.b.tan@jpmorgan.com
Joseph Abboud
(1-212) 622-7059 joseph.g.abboud@jpmorgan.com J.P. Morgan Securities LLC
21
Autos and Auto Parts

Harman Intl: Defensive German Luxury Play; Top Near-Term Pick
Himanshu Patel, CFAAC
(1-212) 622-3906 himanshu.patel@jpmorgan.com
Harman Intl. (HAR $32.18 Overweight)

While we remain cautious on the Autos space given macro uncertainty, we view HAR as particularly attractive relative to other auto suppliers in our coverage due to HARs product mix, its exposure to a relatively resilient global luxury vehicle market, and limited downside potential after the recent sell-off. We highlight three key points to our bullish call: Resilient customer/product exposure: We view HAR as being more defensive in nature than other suppliers in our space: ~45% of the companys total sales are from German luxury OEMs: Mercedes, BMW, and Audi, whose sales have held up vs. the broader industry. Even if we were to fall into a moderate global recession, we believe luxury sales should continue to be resilient (e.g., luxury sales in China have grown 23% YTD, while overall auto sales are up 5%). Secondly 20% of HARs revenues are professional audio (audio for concerts, sporting events, etc.), which, too, did not see a precipitous decline during a recession in 2008, professional audio only fell 20% peak to trough vs. ~30% for the automotive business. Oct. 26th analyst day could be a catalyst: We think HARs analyst day on Oct. 26th will be used by the company as an opportunity to provide investors with positive mid-decade operating margin targets. We highlight HARs fairly bullish tone at the recent J.P. Morgan All Stars conference and expect the company to give encouraging three-year backlog figures in Oct. Further, HARs recent trouble in rare earth elements (used in speaker magnets), which has caused the company to guide down earnings for FY2012, is beginning to see some reversal rare earth prices are down ~20% from recent highs. Valuation: We remain Overweight on HAR and believe the stock has solid earnings growth potential with minimal downside from the current price.
Vivek Aalok
(1-212) 622-0798 vivek.x.aalok@jpmorgan.com
Michael Kimlat
(1-212) 622-0458 michael.x.kimlat@jpmorgan.com
Amy L Carroll
(1-212) 622-1206 amy.l.carroll@jpmorgan.com J.P. Morgan Securities LLC
22
Gaming
LVS: Several Catalysts Should Drive Near-Term Share Performance
Joseph Greff AC
(1-212) 622-0548 joseph.greff@jpmorgan.com
Las Vegas Sands Corp. (LVS $44.69 Overweight)

Within the Gaming & Lodging sectors, we believe the most attractive fundamentals continue to be in Asia (Macau and Singapore), where gaming growth continues to surpass expectations, as opposed to the low growth domestic markets and uncertain European economic environment. Given these dynamics, we believe LVSs growth prospects are superior to anything else in our coverage universe, given its strong positioning in the growth markets of Macau and Singapore, which account for ~90% of 2012E EBITDA. We believe LVS is an attractive growth story with a ~40%+ EPS CAGR and ~30% EBITDA CAGR (2011-2013E). While we recently raised our 3Q11, 2011 and out-year estimates on stronger-than-expected Macau and Singapore market strength, we believe there is still room for potential future positive revisions. Please see our note (LVS: Upping Estimates & PT; Positive Catalyst Ahead) from September 9 for additional information. Potential near-term catalysts. We think near-term catalysts include (1) a number of gaming investors going to the gaming industry confab, G2E, in Las Vegas this week, coming back bullish on LVS; (2) September Macau market revenue results (early October; we think anything above MOP 21.5B will be well received); (3) a potentially strong Golden Week period in October; (4) 3Q11 reported results in late October; (5) Macau junket progress in late 4Q11/early 1Q12; (6) investors under appreciation of relatively easy Singapore VIP volume comparisons in 4Q11, (7) potential announcement of Singapore expansion (VIP rooms/suites) in early 2012; and (8) a staggered 2012 Cotai Central opening, for which we believe there are relatively low investor expectations. Investment thesis. Our positive view on LVS is based on our belief that (1) Marina Bay Sands (MBS) can continue to achieve a solid EBITDA ramp throughout 2011 and 2012; (2) LVSs Macau properties will continue to generate attractive EBITDA growth, with upside potential, due to mass market positioning and potentially improving junket volumes and unit growth in Sites 5&6; (3) LVS will generate relatively stronger LV Strip results compared to its peers given its convention focus and solid position in the Asian baccarat segment (assuming normal table hold, of course); and (4) LVS has the ability to compete for new casino/convention resorts in Asia (South Korea, Japan) and other potential jurisdictions (Europe) given its successes in Macau and Singapore, its proven ability to develop successful integrated casino resorts, and its growing and meaningful free cash flow and low balance sheet leverage.
James Omstrom, CFA

(1-212) 622-1306 james.omstrom@jpmorgan.com
Jonathan Mohraz
(1-212) 622-1111 jonathan.mohraz@jpmorgan.com J.P. Morgan Securities LLC
23
Building Products
We Highlight Overweight-Rated OC as Our Best Near-Term Idea Amid Market Turmoil
Michael Rehaut AC
(1-212) 622-6696 michael.rehaut@jpmorgan.com
Owens Corning (OC $23.45 Overweight)

We continue to highlight OC as our Top Near-Term Pick among our Building Products universe and find this name to be particularly compelling even within todays more challenging market fundamentals and lower degree of demand visibility. Our Overweight rating continues to be based on our positive outlook regarding the companys three core segments. First, Roofing should continue to generate above average margins, in our view, as pricing power is supported by the structure of the industry, characterized by no import competition and customer fragmentation, as well as the more recently consolidated competitive landscape, with three major players currently representing roughly 80% of the industry. Additionally, while OCs improved cost structure should at a minimum generate 13% margins, we expect margins to remain in the mid-teens over the next several years to the extent that demand is stable to slightly improving over the next two years, which we note is also generally supportive of pricing. Regarding Insulation, we expect profit improvement in 2012 given the non-recurrence of conversion costs in 2011 from the companys new EcoTouch insulation product, as well as other cost saving actions, which gives us comfort that the loss should narrow even if housing starts do not improve in 2012. Finally, regarding Composites, while OC is currently dealing with an inventory glut in China, we expect the business to continue to demonstrate solid longer-term secular growth, as we believe it can continue to grow at 1.5-2.0x global GDP, and generate low-double-digit margins over time. Relative to other stocks in our universe, we believe OC is less risky, as we estimate only 10% exposure to new residential construction, as well as the roofing industrys more stable demand backdrop and a diversified global Composites business that historically has grown at 1.5-2.0x global GDP.
Jason A Marcus
(1-212) 622-4906 jason.a.marcus@jpmorgan.com
William W Wong
(1-212) 622-1442 william.w.wong@jpmorgan.com J.P. Morgan Securities LLC
24
Restaurants
Right Time, Right Price to Buy Brinker International
John Ivankoe AC
(1-212) 622-6487 john.ivankoe@jpmorgan.com
Brinker International (EAT $22.34 Overweight)

EAT is our best near-term idea, as we believe three key drivers comps, structural margin initiatives offsetting commodities, and FCF-driven share repurchases are intact, and at 10.9x C12E EPS the stock is simply too cheap for the ~20-25% earnings growth we expect in F12 and F13 and low-mid teens growth longer-term. Chilis traffic up 1.2% in the past two quarters vs. down 0.2% for casual dining based on KnappTrack, but overall comps were 0.9% vs. Knapps 1.6%. We believe, over the past few months, Chilis has not only maintained its traffic gap to Knapp but is now ahead on overall comps as well. Remodels allow Chilis to maintain/grow competitive positioning. After years of iterations, the company has settled on a $225k-$250k per unit package. Out of the ~865 company units, approximately 250 should be done by F12 and the entire system by 2014. While sales-lift targets are a modest 3%, the program should deliver 15%+ returns and add a point to annual comps. Remodels were already part of the capital budget, but the encouraging takeaway is that the cost/benefit is finally in balance. Margins likely to expand despite commodities and in a slow overall sales environment. Current commodity levels reflected in forecasts for a 10-60bp COGS impact, but several recently implemented and upcoming store-level operational changes should grow margins in both F12 and F13. While the company is currently lapping the 100-bp savings from Team Service, the Kitchen Prep process that became fully efficient in 4Q11 is providing 75bps+ of savings, or better than original 50-bp guidance. A new POS/Menu Link system should provide a 50-bp benefit on a run rate as the system is rolled out over the next year. Finally, the company is rolling out its kitchen of the future to 3-4 stores per market to serve as training vehicles for stores nearby, which should be fully rolled out by early F13 at a 100-bp+ benefit. Ending F11 share count, FCF + cash + additional borrowing should reduce F12 shares by 11%, F13 by 3%. We expect the company to buy back $165m of stock in F12, after payment of a 3% dividend yield and $25m of amortization on current $525m of debt driven by use of $125-135m of FCF after $155m of capex, $75m of new debt, and $30m of excess cash on balance sheet. We expect approximately $195m of FCF to be directed towards shareholders in F13, which includes capex of $125m, which at this point assumes new unit development remains at zero. To the extent F13 capex does include new units, this will be a function of continued strong sales and profit success at the brands. Despite broad industry concern around slowing sales matched with higher commodities, we believe it is highly unlikely that Brinkers guidance goes down. Our and consensus F12 estimates of $1.82 is relative to company guidance of $1.80$1.95. Both our estimate and company guidance includes $2.8m ($0.02) in deferred financing expenses in F1Q12, associated with the upsize of the companys term loan in August. At the current 10.9x C12E multiple, we believe the stock is discounting (calculating what comp is necessary to lower earnings to a 15.5x multiple) a major comp miss of approximately -3% vs. our ~2.0% forecast. Given recent and current trends and customer focused operational change, we believe such results would only occur through major job losses in the US economy an unlikely scenario given proposed stimulus/election politics, in our view.
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Amod Gautam
(1-212) 622-6417 amod.gautam@jpmorgan.com
Shaurja Ray
(1-212) 622-2039 shaurja.ray@jpmorgan.com J.P. Morgan Securities LLC
Hardlines Retailing
Home Depot The Orange Box Under the Christmas Tree
Christopher Horvers AC
(1-212) 622-1316 christopher.horvers@jpmorgan.com
Home Depot (HD $33.88 Overweight)

HD is our favorite name for the next three months based on our expectations for: (1) market share growth; (2) margin expansion driving earnings upside; (3) favorable stock seasonality; and (4) easy compares during the spring Christmas season. HD engine running on all cylinders. The internal momentum at HD continues to gain strength as comps accelerate and the margin profile improves (see chart below). These internal initiatives are likely to yield higher incremental margins, FCF, and EBITDA, thus resulting in greater buybacks and dividends. We expect HD to repurchase 7-8% of shares per year, and the stock has a 3% dividend yield. Combined with the duopoly nature of the industry, this should buffer potential downside on top of the compelling reasons to own the stock. Margin dynamics building. We see a solid runway to both gross margin and SG&A leverage as HD benefits from its internal initiatives. On the gross margin side, we expect benefits of ~20 bps/quarter from HDs supply chain transformation. On SG&A, HDs current installation of systematic labor scheduling tools replaces excelbased processes, which should provide substantial cost opportunities given payroll is the single biggest expense line item. Home improvement has historically outperformed into year-end. Going back to 1990, overall retail has historically rallied 2x the market in the last two months of the year, up 3.5% in November and 1.4% in December over the last 15 years, on average. Home improvement retail has historically outperformed the S&P by a factor of 3x, up 4.5% in November and 5.7% in December. HD should rally ahead of 1Q12 against easy compares. HD should also benefit from easier compares in 1Q, as comps declined 0.6% in 1Q11. As a reminder, March and April were the wettest months nationally going back the last 20 years. Furthermore, the Northeast was particularly hard hit, as it experienced rainfall in roughly 25 of the 30 calendar days in April (where HD has 20% of its store base). While most retailers experience Christmas in December, HD and LOW get theirs in the spring as consumers get back into the backyard.
Mark Becks
(1-212) 622-5265 mark.a.becks@jpmorgan.com
Aaron Goldstein
(1-212) 622-1336 aaron.goldstein@jpmorgan.com
Rachel Stubins
(1-212) 622-4245 rachel.stubins@jpmorgan.com J.P. Morgan Securities LLC
Figure 19: HD Comp Sales Performance vs. LOW

4.0% 3.0% 2.0% 1.0% 0.0% -1.0% -2.0% -3.0% -4.0% -5.0%
Source: Company reports and J.P. Morgan estimates.
26
Tobacco
RAI: A Solidity of Earnings Expectations that Is Difficult to Beat
Rae Maile AC
(44) 20 7155 6102 rae.maile@jpmorgan.com J.P. Morgan Securities Ltd.
Reynolds American (RAI $37.24 Overweight)

Although the stock market has become more concerned regarding the outlook for the consumer and for economies more generally over the course of the last few months, in our view, trading in the tobacco sector globally and in the US remains robust. The habit forming nature of the product continues to offer firm support to pricing, while the scale of industry consolidation over the last decade has resulted in the industry now being controlled by a small number of rational players. The interim results season in July/August saw company guidance for the full year at least maintained by the US domestic players, and increased in the case of Philip Morris International (which has also recently increased its quarterly dividend by 20%). More recent statements during investor conferences have re-iterated earnings guidance for the current year and medium-term objectives. Generally, we believe this level of confidence in estimates differentiates the tobacco sector from other sectors of the stock market. We do note that in the US market, CPI data for tobacco inflation has fallen from ~5% a year ago to around 2% now. While this may increase some concerns with respect to pricing trends, we highlight that in the absence of tax increases, and given the increased incidence of tax on retail prices, a 2% retail price increase actually reflects a 4-5% increase in manufacturers prices. This is fully in keeping with both our expectations and company earnings guidance, we believe. Our top pick in the US sector remains Reynolds American. The company modestly increased its mid-point for earnings guidance for the full year in its recent Q2 results to $2.66 (from $2.65), implying 7% EPS growth for the year. We continue to expect a resolution to the ongoing negotiations for release of overpayments to the Master Settlement Agreement, although, in our view, the balance sheet is already strong enough to support the recommencement of share repurchases. Although the 2012E PER has risen to 12.9x, on our estimates, which is in line with international peers, this is not out of line with the longer run history of the sector. The 2012E dividend yield of 6.1% is generous and well supported by earnings and the prodigious cash generation of the company, in our view.
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28
Electric Utilities Energy

ITC Offers Defensive Growth
Stefka Gerova AC
(1-212) 622-0549 stefka.g.gerova@jpmorgan.com
ITC Holdings (ITC $75.70 Overweight)

Limited exposure to deteriorating economic trends should provide support, with ample upside potential ITC is the only pure-play transmission company in the US, and we believe it will continue to benefit from supportive FERC policy on transmission. Furthermore, ITCs revenue and profitability are not linked to the volume of electricity it transports, or sells. Accordingly, we believe there is limited downside risk to ITCs earnings (mostly related to potential longer-term project delays), so the biggest risk we see to our thesis in the near term is a deterioration in market multiples. However, in the event of continued pressure on the overall market, we would expect utility multiples to hold up better than the overall market multiple as investors flee to defensive names, thus providing support for the stock. Best risk/reward proposition in our coverage with limited risk ITC offers one of the best risk/reward propositions in our coverage universe, in our view. As the only pure-play transmission company in the US, ITC remains best positioned to benefit from a supportive FERC framework for transmission infrastructure investments and incentive mechanisms, including higher authorized returns, prospective rate making and hypothetical capital structure. Furthermore, we anticipate ITC to benefit from recent and upcoming environmental regulations that are likely to reshape the existing configuration of the US grid, thus potentially creating additional outlets for capital deployment for ITC. Despite premium valuation (~25% on 2012E EPS) relative to the regulated peer group, we continue to believe that ITCs long-term growth prospects (15-17% EPS CAGR) are superior to the peer group average of 4-6% and are not fully priced in. Finally, we note that ITC is trading below its historical premium to the group of over 40%.
Andrew Smith
(1-713) 216-7681 andrew.l.smith@jpmorgan.com J.P. Morgan Securities LLC
29
Oil & Gas Exploration and Production

Cimarex Energy: Strong Balance Sheet, Visible Growth from Core Assets
Joseph Allman AC
(1-212) 622-4864 joseph.d.allman@jpmorgan.com
Cimarex Energy (XEC $60.01 Overweight)

Among the E&Ps, we believe XEC is one of the cheapest stocks, has one of the strongest balance sheets and has visible operational catalysts. Cimarex stands out from many other E&Ps with its explicit focus on rates of return for every well it drills. In a bad economy, XEC shares, of course, could still decline. However, its balance sheet, relatively low-cost operations and superior rates of return would help it to outperform its peers, in our view. In a recovery, the stock has enough leverage to oil and gas and to operational catalysts that it should outperform. Further delineation of its Cana-Woodford play, continued strong results from its Wolfcamp Shale horizontal drilling program and shallower production declines from the Gulf Coast region could be positive catalysts for the stock. We think the market has focused too much on the Gulf Coast region, an area that yields the companys best returns but has witnessed recent production declines (because of above-average success in that region in 2009 and 2010). The Gulf Coast makes up only 20% of total company production and 7% of 2011 capex, but attracts ~75% of the questions the company receives from investors. With new production from current drilling, the Gulf Coast production declines have a good chance of easing from here. We expect sequential production growth starting in 3Q11, and we forecast 16% YoY production growth in 2012 and 21% in 2013. At NYMEX futures prices and using the JPM US E&P price deck, the stock has over 50% upside to reach our NAV estimates. Even using long-term prices of $5 Henry Hub gas and $80 WTI oil, we estimate the stock is worth $81 now, offering ~40% potential upside.
Jessica Lee
(1-212) 622-9812 jessica.s.lee@jpmorgan.com
Jeanine Wai
(1-212) 622-6489 jeanine.wai@jpmorgan.com J.P. Morgan Securities LLC
30
Oilfield Services & Equipment

Noble Corporation: Expect Sentiment to Improve in the Near Term
J. David Anderson, PE, CFA AC
(1-212) 622-6684 jdavid.anderson@jpmorgan.com
Noble Corporation (NE $31.89 Overweight)

In todays volatile market, we view Offshore Drillers as relatively defensive investments with now fewer incremental sellers and earnings estimates that are at or near a bottom. Within the group, we believe Noble Corp is best positioned in the current environment with more pricing leverage, improving fleet quality, and attractive valuation. Through the cycle, we believe there are better investment opportunities than Offshore Drillers (returns target cost of capital, after all), but right now we see quite a bit of opportunity. As for the group, a near-term overcapacity of deepwater rigs has weighed on dayrates over the past 12+ months, but they are starting to show subtle signs of improvement. Weaker dayrates have led earnings for the group progressively lower in recent quarters, but we believe theyre at or near a bottom. Assuming rigs start being signed again, we expect dayrates to move modestly higherthey really cant get much lower. This should be driven by increased exploration activity (largely immune from oil prices) and offshore development (projects have been on hold for several years). So while investors fret about downward earnings revisions for large cap services, we really dont see much downside in offshore driller estimates. Furthermore, sentiment has been quite negative for some time now (especially by us), so there are fewer incremental sellers in the event the market deteriorates further. Noble Corporation looks particularly attractive within the group, in our view, for several reasons: (1) More backlog pricing leverage: Nobles contracted backlog is priced 4% below market rates over the next two years, resetting higher once off contract; (2) Lower contracted fleet status: only 42% of floater days are contracted for 2013, which we view positively in light of increased dayrates; and (3) Improving asset quality: Noble is aggressively building out its fleet with 7 floaters and 6 highspec jackup rigs being delivered over the next three years. While Noble has historically struggled with execution issues such as newbuild construction delays and cost containment, we believe this is already embedded in the stock, trading at 8.1x on 2012E consensus EPS or an 11% discount to the group average multiple. Over the next three months, we expect industry rigs to be signed at modestly higher dayrates, with Noble benefitting the most for its operating leverage and attractive valuation.
Samantha Hoh, CFA

(1-212) 622-5248 samantha.k.hoh@jpmorgan.com J.P. Morgan Securities LLC
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32
Large Cap Banks Financials

Wells Fargo Should Outperform in Near Term
Vivek Juneja AC
(1-212) 622-6455 vivek.juneja@jpmorgan.com
Wells Fargo (WFC $24.96 Overweight)

With uncertainty about the economy in the US and globally, especially the Euro zone, and political and regulatory issues, we remain defensively positioned in the sector near term. The timing of improvement in the overhang from Europe remains unknown. We favor Wells Fargo (WFC) over the next three months as one of our defensive names because of its diversified mix of revenues, benefits from share buybacks, small exposure to foreign activities, relatively lower exposure to political and regulatory headwinds, and some expense levers. Wells also has sizable loan loss reserves as a buffer for a US economic slowdown. Mortgage banking revenues should rebound in 3Q. WFC should benefit from recent increase in refinancing activity and spreads, which should, in turn, help mortgage banking fees and partially offset ongoing pressure on net interest margins. Wells Fargo is growing new sources of revenues. Wells recently acquired some commercial real estate loan portfolios, a hedge fund servicing and administration business, and a book of business and a team of bankers from Citadel, and is also adding people de novo to its investment banking businesses. Sizable share repurchases. WFCs strong capital position and generation is allowing it to buy back stock. Wells Fargo began repurchases in 2Q and is likely to have increased them in 3Q. Wells Fargo has some expense levers to drive earnings. WFC is guiding to an $11bn quarterly run rate for expenses by 4Q12, down about 12% versus $12.5bn reported in 2Q11. Cost cuts are to be led by reduction in loss mitigation expenses, non-client facing staff cuts, and elimination of M&I charges.
John P Grassano
(1-212) 622-5605 john.p.grassano@jpmorgan.com J.P. Morgan Securities LLC
In addition, the whole large bank sector is attractively valued, in our view, and well below historical multiples. We believe Wells Fargo is also attractively valued at 7.5 times 12E EPS, which is the lowest multiple among our regional banks despite its strong longterm track record that is one of the best in the large cap bank group. On price to tangible book value basis, WFC trades at 1.4x, above peers but typically so due to this superior track record and less useful as a metric as the industry recovers and gets closer to normalized earnings. Given what we view as its high quality, lower risk and attractive valuation, we expect WFC to outperform the group in the near term.
33
Mid- and Small-Cap Banks

Worst of NIM Pressure Likely Realized; CMA Is Our Top Near-Term Idea
Steven Alexopoulos AC
(1-212) 622-6041 steven.a.alexopoulos@jpmorgan.com
Comerica (CMA $23.41 Overweight)

On a combination of the pace of the economic recovery stalling and the yield curve flattening, we now believe the timeline for the industry to reach normalized earnings has been extended to 2015. Growth aside, with the Fed indicating that interest rates are likely to remain very low through mid-2013 and recently announcing Operation Twist, which could further pressure the yield curve, this implies to us that it will not be until 2014 that the bank industry starts to realize and deliver value to its shareholders from the key funding source that separates the bank industry from all other companies: core deposits. While we continue to believe that core deposits are ultimately what drive the value of a bank franchise over the longer term, we think over the near-term very few banks are positioned to deliver a return on equity that exceeds their cost of equity capital. Turning to Comerica, over the past three months the companys stock price has fallen ~30% compared with the CBNKs down 17% and the SPX down 8%. While we think it is justifiable that equities have declined, with profit margins getting squeezed and top-line growth prospects dimming, we believe the underperformance of CMA shares relative to the broader bank index is a short-term overreaction, in part due to a recent flattening of the yield curve (10-year treasury yield down 120 bps QTD). While Comerica is indeed asset sensitive, we believe the markets perceived risk of NIM compression is overstated and that CMA is actually in a slightly stronger position than many banks. In terms of NIM pressure, while loan and securities yields will likely continue to tighten, we view the following positively: (1) with 80% of loans floating (70% of which are Libor-based), most of the reduction in NIM has already been experienced and Libor has actually trended higher thus far into 3Q; (2) the company is sitting on $2.5 billion in excess liquidity that it can now more confidently put to work in a securities portfolio; and (3) both its loan and securities yields are each already very low, at 3.79% and 3.2%, respectively. Over the next month, we see the company positively surprising on the net interest margin as a catalyst to start correcting the recent overreaction. Furthermore, the company utilizing its strong capital cushion to buy back shares should provide some support to the stock. Longer term, on the growth side, while the economy growing ~1% per year will not support double-digit growth for the bank, items helping the growth picture along are (1) auto industry sales have reached a point where Michigan is now positively contributing to the growth picture at the bank; (2) the increase in commitments seen by the company remains impressive, with the bank not seeing clients wanting to reduce lines of available credit (for which they pay a fee); (3) Texas remains one of the few economies creating jobs; and (4) parts of California are benefitting from wealth being created in the social media industry.
Preeti Dixit
(1-212) 622-9864 preeti.s.dixit @jpmorgan.com J.P. Morgan Securities LLC
Valuation
CMA shares trade at only 0.74x adjusted TBV (adjusted for SBIB deal), which is a 30% discount to the peer avearge, and we believe the valuation of CMA shares compensates investors for a challenged growth outlook. Once loan growth turns, depending on magnitude and sustainability, we expect to see CMA shares revalued to either a peer multiple or even a modest premium to peers given its strong core deposit funding base.
34
Asset Managers, Brokers and Exchanges

CME Is a Top Defensive Investment Idea in an Uncertain Market
Kenneth B. Worthington, CFA AC
(1-212) 622-6613 kenneth.b.worthington@jpmorgan.com
CME Group Inc. (CME $262.29 Overweight)

We think CME is a compelling investment idea in the near term as equity markets remain uncertain and volatility remains high. In the immediate term, average daily volume (ADV) is ~9% higher in 3QTD versus the 2Q level, driven by significant volume increase in equity, FX and metals futures. Interest rate futures ADV is ~2% higher in 3QTD vs. 2Q, though ADV has reduced this month after the drop in open interest at the end of the roll. In the medium term, we expect volume to revert back to a normal level if markets recover and remain high if investors remain uncertain. Accordingly, we see CME benefitting from the recent market environment, not being harmed by it. Also, we view CME as a high quality company with high margins, strong cash flow generation and strong competitive positioning. We believe there are growth opportunities that CMEs management is pursuing to bridge earnings growth until the global economy recovers and rates rise, including i) a revamped sales initiative that should bring in new clients and drive greater volume, ii) migration to long-end fixed income products that should help volume and pricing, and iii) changes in interest rate outlook that increase both hedging and speculation following the raise of the debt ceiling and the Feds potential action to flatten out the long end of the yield curve by purchasing long-term treasuries. CME currently trades at 14.7x our 2011 EPS estimate of $17.53 and 13.5x our 2012 estimate of $19.02. CME has historically traded at 20x forward-year earnings, a valuation earned by what we view as the highest quality asset managers over time business models with many similarities to the futures exchanges. Given CMEs relatively high margins, strong cash flow generation, and strong competitive positioning, we think a rebound in valuation to high teens over the next three months is possible.
Rahul Nevatia
(1-212) 622-6454 rahul.nevatia@jpmorgan.com J.P. Morgan Securities LLC
35
Life Insurance
RGA: Strong Capital Position, Conservative Portfolio, and Marginal Equity Exposure
Jimmy Bhullar, CFA AC
(1-212) 622-6397 jimmy.s.bhullar@jpmorgan.com
Reinsurance Group of America (RGA $48.05 Overweight)

In our opinion, above-average returns, strong operating trends, and limited exposure to low interest rates and equity market sensitive businesses will enable RGA to outperform the life insurance sector given current macro uncertainty. We expect topline growth in the US business to be pressured by declining cession rates, but pricing should remain firm given favorable industry competitive dynamics. Furthermore, we believe heightened financial uncertainty could result in reduced liquidity in the securitization markets, potentially increasing demand for reinsurance if primary insurers need to free capital. Additionally, we expect earnings in RGAs international business to grow at a double-digit pace as the company expands into new countries and increases penetration rates in existing markets. RGA currently trades in line with the sector, but we expect it to garner a premium multiple as concerns regarding pricing adequacy in its book dissipate. We believe RGA is defensively positioned in the current economic environment as a result of the following factors: Strong financial position: In our view, RGA is adequately capitalized despite declines in equity markets and interest rates, and we forecast the company to generate about $200 million in annual free cash flow. Additionally, the company has marginal liquidity risk, as it has no debt maturities until 2017 (excluding $200 million of debt due in 4Q11, which has already been pre-funded). Conservative investment portfolio: RGA has marginal exposure to European corporate and sovereign debt, commercial real estate, and RMBS, which should limit realized losses and impairments if macro conditions deteriorate further. In addition, RGA employs low leverage (investments are 5x equity vs. the group median of 7x) and has a relatively conservative fixed income portfolio (74% rated A or higher vs. the group median of 61%). Limited earnings exposure to low interest rates and a weak equity market: The majority of RGAs earnings are driven by mortality margins, and we calculate that a prolonged period of low interest rates and equity market declines would impact the companys results significantly less than those of other life insurers.
Matthew Byrnes
(1-212) 622-0695 matthew.p.byrnes@jpmorgan.com
Erik Bass, CFA

(1-212) 622-2295 erik.bass@jpmorgan.com J.P. Morgan Securities LLC
36
Insurance Non-Life
Aon Corporation: Bringing a Bit of Visibility to an Uncertain Market
Matthew G. Heimermann AC
(1-212) 622-6545 matthew.g.heimermann@jpmorgan.com
Aon Corp. (AON $41.21 Overweight)

AON, in our view, offers investors the most attractive short-term risk-reward in our coverage universe. Investors rationally, we believe, revalued insurance brokerage stocks down with the rest of the market, reflecting concerns that medium-term growth rates may need to be revised given a weaker economic outlook. However, we believe the financial outlook is likely not as bad as the market is implying for AON. The reason is that growth, margins, and capital management, in our view, should not deviate from trend levels over the short term. Meanwhile, we believe investors overreacted to 2Q 2011 results, setting the stage for 3Q 2011 results to act as a positive catalyst for the name. Specifically: Revenue trends likely to benefit from existing pipeline and mix. AONs Brokerage growth has been driven disproportionally by South America, Non-US North America, and Asia over the past 24 months. We believe these operations should continue to provide positive growth over the foreseeable future. Reinsurance growth prospects also appear to be improving both in treaty and in capital markets, which have been weak. Meanwhile, existing pipelines in Consulting should allow growth to expand as well. In total, we do not think it is unreasonable for organic growth to hold in the 1%-2% range. Margins likely to benefit from merger-related cost savings. A key driver of margin improvement over the next several years should be tied to cost-savings related to the Hewitt merger. On a standalone-basis, savings could yield an almost 20% improvement to earnings relative to 2010 levels. While margin improvements in Brokerage will be somewhat tied to organic growth, we see GRIP and other commission-enhancement efforts as positive over the medium term. We also highlight that AONs Brokerage segment should be helped by stabilizing Reinsurance growth, which carries a higher than consolidated margin. Capital flexibility and cash flow dynamics still strong. Even if growth were to moderate from current levels, we believe current distributable cash flow could exceed $1.0 billion per year. As a result, we believe share repurchase will remain the primary aspect of the investment story, helping liquidity from a trading standpoint as well as creating EPS growth even if growth rates moderate in subsequent years. This strong distributable cash flow also should allow the company to contribute additional monies to its pension plans as needed (on top of our estimate of $300 million per year). 3Q results likely to be positive mirror image of 2Q results. AON reported a mediocre quarter in 2Q 2011, in our view, with underlying margins a bit weaker than consensus estimates. While we agree the quarter was nothing to get excited about, we believe a number of market participants over-reacted to the quarter, believing it represented a secular change in the business. We disagree for three reasons: First, capital markets and investment spending, which is lumpy, negatively affected margins, which we dont expect in 3Q. Second, 2Q is the seasonally weakest revenue quarter for Consulting, including Hewitt, on a pro forma basis, while 3Q is generally one of the strongest. Third, overall growth rates are likely to remain more positive over the short term than the many believe due to revenue mix and still decent pipelines.
Donald H. Chen
(1-212) 622-2875 donald.h.chen@jpmorgan.com
Mei Feng Zhang

(1-212) 622-6445 meifeng.a.zhang@jpmorgan.com J.P. Morgan Securities LLC
37
REITs
Simon Appears Well Positioned for Defense and Offense
Michael W. Mueller AC
(1-212) 622-6689 michael.w.mueller@jpmorgan.com
Simon Property Group (SPG $113.60 Overweight)

Overweight-rated Simon Property Group (SPG) is our best near-term REIT idea. Our constructive outlook for the stock is based on three items: 1) portfolio positioning in the current environment, 2) valuation, and 3) potential short-term catalysts. We believe SPGs portfolio is well positioned for the current turbulent environment. The bulk of the portfolio is comprised of high productivity regional mall assets that were proven to be quite defensive in the last downturn. Higher productivity properties generally maintained occupancy and pricing power better than middlemarket centers, as these locations were more valuable to retailers due to higher sales volumes. Additionally, roughly one-third of SPGs EBITDA is derived from outlet/value projects, which cater toward retailers growth plans and a more cautious consumer. Absolute and relative valuation look attractive to us, and we see room for further improvement. We calculate the stocks implied cap rate is in the high 5% range, despite having among the highest portfolio quality in the sector, and our view continues to be that scarcity value could keep pressure on high quality mall/outlet cap rates pushing values higher. Additionally, SPGs AFFO multiples are roughly in line to those of the REIT group. While we are comfortable with SPGs fundamental position and valuation levels, we do see two positive near-term catalysts for the stock. First, we expect a 4Q dividend increase that will exceed the markets expectations. Secondly, we continue to believe that guidance is too low and will be raised again with 3Q earnings. We also suspect that there could be upside to 2012 estimates.
Anthony Paolone
(1-212) 622-6682 anthony.paolone@jpmorgan.com
Cindy True
(1-212) 622-6748 cindy.l.true@jpmorgan.com
Joseph Dazio, CFA

(1-212) 622-6416 joseph.c.dazio@jpmorgan.com J.P. Morgan Securities LLC
38
Specialty and Consumer Finance

Ares Capital: Port in the Storm
Richard Shane AC
(1-415) 315-6701 richard.b.shane@jpmorgan.com
Ares Capital (ARCC $13.78 Overweight)

We believe Ares Capital represents an attractive and defensive stock during this period of heightened uncertainty. We believe the underlying fundamentals of ARCCs middle market loan portfolio have been relatively stable despite market volatility. Ares generates a stable 10.2% dividend yield, and it has the best liquidity in the sector with $920M of immediately available capital (over 20% of its entire portfolio.) The recent macroeconomic developments have caused a global contraction from risk assets. As a result, we have seen a widening of high-yield spreads (J.P. Morgan Domestic High-Yield Index increased to 8.7% as of 9/22/11 from 7.1% in 6/30/11). While this may result in a reduction to NAV when ARCC reports 3Q results, it also creates an opportunity to deploy capital at wider spreads. Over the past 12 months, Ares has diversified and extended its funding (70% of the total debt has maturity longer than a year with closest maturity in 2016.) Furthermore, in addition to $920M of immediately available capital, ARCC is only levered to 0.51x debt-to-equity, well below the 1x debt-to-equity limit. Consequently, we view ARCC as one of the bestfunded and defensive BDCs in our coverage. At the end of 2Q11, ARCC had almost $920M of available capital. Since 6/30/11, the company has announced a $59M investment in a second lien debt of a natural gas power plant and $622M of new investments in various industrial companies through SSLP (SSLP is a $5.1B co-investment vehicle set up between ARCC and GE Capital ARCC has committed $958M of total capital. The vehicle had $1.6B of capital available for new investments as of 2Q11.) The announced investments during the quarter indicate robust origination activity despite the market volatility. We believe the new investments have likely benefitted from widening HY spreads. Accordingly, we estimate ARCC will generate around $500M of net portfolio growth in 3Q11 at wider margins.
Daniel Kim
(1-212) 622-6557 daniel.x.kim@jpmorgan.com
Jonathan Philpot
(1-415) 315-6725 jonathan.philpot@jpmorgan.com J.P. Morgan Securities LLC
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40
Biotechnology Health Care

Celgene a Solid Defensive Pick in a Volatile Market
Geoff Meacham AC
(1-212) 622-6531 geoffery.c.meacham@jpmorgan.com
Celgene (CELG $63.97 Overweight)

Celgene continues to be one of our favorite names in biotech. The fundamentals for Celgene look quite strong coming out of 2Q11, highlighted by strong performance of flagship drug Revlimid. In our opinion, Celgene should continue to outperform over the next 3 months. 3Q11 earnings should be a catalyst. Revlimid has outperformed consensus in 1H11, leading to two Revlimd guidance raises. Impressively, this has been done in the face of concerns over secondary primary malignancies (SPMs) associated with the drug. Our expectation is that Revlimid will continue to put up robust sales in 2H11, driven by increasing treatment duration and market share penetration. We would not be surprised with another beat and raise in 3Q11. Resolution of the Article 20 complete; look to 1H12 Revlimid expansion for first-line maintenance in the EU. In September, after EU regulators had started a safety review for SPMs earlier in the year, the agency concluded that the benefit/risk profile of Revlimid favored benefit in relapse/refractory multiple myeloma (R/R MM). Our focus now shifts to first-line maintenance approval in the EU, and the decision in R/R MM does show that EU regulators are reasonably comfortable with the SPM issue. We continue to expect Revlimid label expansion in the EU in 1H12 and note we estimate ~$1.7B in sales in the first-line maintenance setting in the EU alone by 2015. We expect increased interest in the pipeline in the coming months. We see plenty of potential catalysts for Celgene in 2012. Beyond the EU approval of Revlimid in first-line maintenance, two important pipeline agents to watch will be pomalidomide (relapse/refractory multiple myeloma and myelofibrosis) and apremilast (psoriasis and psoriatic arthritis). For pomalidomide, an accelerated regulatory strategy is likely to be pursued. Given the unmet need in relapse/refractory multiple myeloma, we would not rule out a possible accelerated approval. For apremilast, phase 3 data is expected in 2012. Importantly, neither of these agents is currently in our model.
Anupam Rama
(1-212) 622-0105 anupam.rama@jpmorgan.com
Michael E Ulz
(1-212) 622-0900 michael.e.ulz@jpmorgan.com
G Krishna Gorti, MD
(1-212) 622-4986 krishna.gorti@jpmorgan.com J.P. Morgan Securities LLC
41
SMid Biotechnology
Ariads Key Drug Attempting to Set the PACE into Year-End
Cory W KasimovAC
(1-212) 622-5266 cory.w.kasimov@jpmorgan.com
Ariad (ARIA $10.14 Overweight)

We view ARIA as an attractive emerging oncology company with two drugs potentially reaching the market by YE12. We expect ponatinib to continue to drive investor interest in the remainder of the year, with interim data from the pivotal PACE trial for ponatinib in chronic myeloid leukemia (CML) being presented at ASH (Dec 10-13). The pivotal PACE trial has enrolled well ahead of schedule, with enrollment now expected to be ~400 patients vs. the 320 patients originally planned. We believe the data presented at ASH showing preliminary responses of CML patients will be the companys next main event. Pending positive PACE data, ARIA expects to file for US and EU approval by mid-2012, with potential approval in the US by the end of 2012. ARIA believes that among new patient starts for frontline CML, ~20% currently receive a 2nd-generation BCR-ABL inhibitor (either Sprycel or Tasigna) and that this could grow to ~50% by 2015 (when Gleevec goes generic in the US). With this in mind, ARIA has global sales projections for ponatinib in CML/Ph+ ALL of over $600M in year 5 with use in only resistant/intolerant patients (>$900M at peak) and over $800M in year 5 with use in newly diagnosed CML patients (>$1.5B at peak). These projections are not risk-adjusted, and pricing remains an uncertain yet critical dynamic. That said, these numbers only assume use in the incidence population and not in the prevalence population. A second drug, ridaforolmus, is under review with the EMA, and ARIAs partner, Merck, just recently filed for US approval with the FDA. While we view ridaforolimus as more of a secondary value driver to ponatinib (and potentially even '113, down the road), we believe the asset has some important attributes (aside from its commercial outlook), including 1) non-dilutive financing associated with the drugs progress (i.e. US approval triggers a $25M milestone payment from Merck to ARIA, and EU approval, including pricing approval, will secure a further $10M), and 2) under its co-promote option, Merck will pay 100% of the costs associated with the ramp-up of ARIAs commercial operations, which the company can ultimately leverage for ponatinibs launch.
Karen E Jay
(1-212) 622-4668 karen.e.jay@jpmorgan.com
Matthew J Lowe
(1-212) 622-0848 matthew.j.lowe@jpmorgan.com J.P. Morgan Securities LLC
42
Healthcare Technology & Distribution

CVS Caremark Top Near-Term Pick Based on Key Upcoming Catalysts
Lisa C. Gill AC
(1-212) 622-6466 lisa.c.gill@jpmorgan.com
CVS Caremark (CVS $34.69 Overweight)

Our best short-term idea for the next three months is CVS Caremark. Recall that we added CVS to the J.P. Morgan Analyst Focus List on August 1. We believe strong year-over-year improvement in the companys PBM business, coupled with stability on the companys retail business, should lead to accelerating earnings growth in 2012, which should improve investor sentiment and drive multiple expansion. We have a high degree of confidence in our 2012 EPS forecast, and note that based on the companys strong free cash flow generation, CVS has the financial flexibility to do additional share repurchases, which could provide upside to 2012 EPS estimates (the company recently announced a new $4 billion share repurchase authorization). From a fundamental standpoint, we believe the near-term and longer-term outlooks remain strong. We believe the company can deliver double-digit PBM EBIT growth in 2012. Key expected drivers of this growth include new generic launches (given the pending generics wave), net new business wins (including FEP mail and CalPERS), and PBM streamlining (which should shift from a headwind in 2011 to a tailwind in 2012). Further, based on marketplace developments, we believe the company is well-positioned for the 2013 PBM selling season. On the retail side of the business, script trends have remained relatively steady, and we dont expect a dramatic reduction in pharmaceutical utilization from current levels going forward. On the front end, we dont believe there is a significant risk related to the economy and note that over 80% of the companys front end sales are non-discretionary. We believe the companys Analyst Meeting on December 20 will provide a key catalyst for the name, as the company should provide its initial 2012 guidance, which we expect to be well-received. To a lesser extent, 3Q11 earnings in early November could also provide a catalyst, as we should get a final update on how the company fared in the 2012 PBM selling season. In our view, valuation remains attractive, with shares currently trade at 11.0x our 2012 EPS estimate of $3.16, which is far below the average 15.6x forward P/E multiple since 2002 and also below our longer-term forecast of earnings growth in the low- to mid-teens range.
Michael R. Minchak, CFA

(1-212) 622-6506 michael.minchak@jpmorgan.com
Gavin S. Weiss
(1-212) 622-5451 gavin.s.weiss@jpmorgan.com J.P. Morgan Securities LLC
43
Medical Supplies & Devices

STJ: Multiple Catalysts Should Refocus Attention on the Best Pipeline in MedTech
Michael Weinstein AC
(1-212) 622-6635 mike.weinstein@jpmorgan.com
St. Jude Medical (STJ $38.97 Overweight)

St. Jude is our favorite near-term idea in large-cap MedTech, as we see a number of catalysts between now and the end of the year that should shift investor attention away from the struggling ICD market and back toward the companys burgeoning pipeline. The non-CRM story at St. Jude is compelling, in our view, and should allow the company to deliver 6-7% organic revenue growth and 12-13% EPS growth going forward, as good or better than virtually any other large-cap MedTech name despite ongoing headwinds from its ICD and pacemaker businesses. We see several catalysts over the next few months that should bring St. Judes pipeline opportunities back to the front of investors minds. These include: 1) the long-awaited US approval of Quadra; 2) an FDA advisory panel for CardioMEMS; 3) case reports and early physician feedback on the Portico transcatheter aortic valve; and 4) more details on the companys renal denervation program for treatmentresistant hypertension. Collectively, these products represent new market opportunities measured in the billions of dollars, and yet today, with the exception of Quadra, the Street has modeled little, if any, revenue contribution from them. Starting with Quadra, our sense remains that approval could come at any time. To the best of our knowledge, St. Jude has not been asked for any additional information from the FDA, with the delay instead emblematic of elongated timelines at the agency nowadays. While this is frustrating for investors, we note that St. Judes ICD business has performed well (on a relative basis at least) in Quadras absence. The companys 2Q market share of 29.6% was its highest ever, even better than its 2Q10 showing during Bostons ship hold and up a full 550bps from 2Q09. CardioMEMS is, in our view, the next big launch in cardiovascular devices behind Edwards Sapien transcatheter valve. Data from the CHAMPION trial demonstrated that use of its pulmonary artery pressure sensor resulted in a 30-40% reduction in heart failure hospitalizations in NYHA Class III patients without exposing the patient to significant incremental risk. With similarly compelling outcomes in the CRT-D subgroup analysis, we expect CardioMEMS to become the standard of care in CRT-D patients, a market opportunity that we estimate at $800900M in the US alone. CardioMEMS is likely headed to a November or early December FDA panel, which should be announced in the next few weeks, and were confident that at panel the sensor will get a positive vote in favor of approval. Post panel, we look for St. Jude to exercise its option to purchase CardioMEMS, acquiring the company prior to FDA approval in early 2012. Meanwhile, TCT will showcase the potential growth drivers of St. Judes Cardiovascular business over the coming decade. At the upcoming meeting (Nov 7-11; San Francisco), we expect case reports and early physician feedback on the companys Portico transcatheter valve, which began first-in-man implants in June. Assuming everything goes smoothly, St. Jude could be ready to start a CE Mark trial and clarify its US clinical strategy by early 2012, positioning itself as the third major competitor to enter this market. Finally, we expect St. Jude to unveil its approach to the emerging hypertension market at TCT as well, an opportunity which we expect investors to focus more on in coming quarters as Medtronic makes headway with its own HTN-3 US pivotal trial.
Christopher Pasquale
(1-212) 622-6590 christopher.t.pasquale@jpmorgan.com
Kimberly Gailun
(1-617) 310-0740 kimberly.w.gailun@jpmorgan.com
Ross Comeaux
(1-212) 622-1895 ross.w.comeaux@jpmorgan.com J.P. Morgan Securities LLC
44
Life Sciences Tools and Diagnostics

Seeking Attractive Risk-Reward into End of Year in Light of Uncertainty on Recession
Tycho Peterson AC
(1-212) 622-6568 tycho.peterson@jpmorgan.com
Agilent (A $33.56 Overweight)

Agilent (A, co-covered with JPM analyst Anthony Luscri), which has pulled back 42% from its high in May, remains one of our top picks, as the company continues to increase share in a number of key markets, while expanding its footprint in Asia. Agilents electronic measurement business (EMG) gives the company an outsized footprint and channel in Asia, which has emerged as the key growth driver for the life sciences sector. Given what we view as compelling valuation, a strong operational history, and likely upside to consensus from Varian Inc. synergies, we remain positive on Agilent for 2011, as we think the stock is now fully discounting a serious downturn. Although we expect near-term headwinds in the semiconductor industry to likely create noise around the stock into year-end, portfolio changes (acquisitions and divestitures) in recent years have made the company significantly less cyclical than many fear and better positioned, in our view, in the event of a significant recession. We believe the significant move downwards over the last few months has been related primarily to concerns around the companys EMG business, which has some exposure to the semiconductor and aerospace/defense end-markets. With a strong balance sheet (~$1B net cash, although the vast majority trapped overseas) and robust cash flow, we believe the company has several opportunities to continue to use disciplined capital deployment to create shareholder value (management is compensated based on ROIC). Due to several restructuring changes in 2008-2009 (reduction in fixed costs), the company is also positioned to be more profitable at every point in the cycle. As a result, we expect earnings to trough significantly higher (likely >2x) than in 2009, due to improved profitability in EMG.
Evan Lodes
(1-212) 622-5650 evan.lodes@jpmorgan.com
Ramesh Donthamsetty
(1-212) 622-6580 ramesh.c.donthamsetty@jpmorgan.com J.P. Morgan Securities LLC
45
Pharmaceuticals Major
Pfizer: Entering New Product Cycle; Defensive Play in a Choppy Market
Christopher Schott, CFA AC
(1-212) 622-5676 christopher.t.schott@jpmorgan.com
Pfizer (PFE $17.75 Overweight)

Against the backdrop of a difficult market, Pfizer stands out as the defensive play in our coverage universe, offering an attractive mix of 1) inexpensive valuation (8.1x 11E and 7.9x 12E EPS), 2) an approaching near-term new product cycle with, 3) a high FCF/dividend yield, and 4) limited earnings risk, in our view. Along these lines, we see the recent market sell-off creating an attractive entry point for a company whose fundamental outlook has not changed, and we are reiterating our Overweight rating. PFE: Strong new launch cycle ahead. We believe the positive results from the ARISTOTLE study for Eliquis (atrial fibrillation), coupled with the recent approval of Xalkori (ALK-positive lung cancer), represent the start of a significant new product cycle for Pfizer, including four $1bn+ product opportunities. Beyond these assets, we anticipate additional phase III tofacitinib data (ACR in November), and approval of Prevnar 13 in adults (Jan 2012) will represent incremental positive catalysts for the shares. This core portfolio of pipeline assets should enable Pfizer to return to modest top-line growth beyond the companys 2012 patent expiration cycle. Beyond pipeline catalysts, we see the companys business unit divestitures as unlocking significant value and believe a December 2011 dividend increase represents another potential catalyst on the horizon. Compelling valuation at current levels. Pfizer now trades at 8x our 11 and 12 EPS estimates. We continue to believe a 10-12x multiple of trough EPS is warranted given the post-2012 growth prospects of the company (a multiple that is supported by our DCF and SOTP analysis). From a cash flow perspective, PFE now trades at a low-double-digit FCF yield and offers a 4.5% dividend yield, with its dividend expected to move higher in December. Our sum-of-the-parts analysis for Pfizer points to values between $23-$29/share. Limited exposure to healthcare pressures. While healthcare reimbursement concerns have re-emerged as an overhang on the sector (dual eligibles, etc), these issues are certainly not new for the group, and we note that Pfizer was one of the best insulated pharma names from the last round of healthcare reform (2010 austerity measures and implementation of US cost measures). Over that timeframe, Pfizer's earnings saw minimal impact from these measures, which combined had only a 5% impact to 2011E EPS.
Jessica Fye
(1-212) 622-4165 jessica.m.fye@jpmorgan.com
Dewey Steadman, CFA

(1-212) 622-5350 dewey.d.steadman@jpmorgan.com J.P. Morgan Securities LLC
46
Pharmaceuticals Specialty
Watson Poised for Significant Near-Term Upside
Chris Schott, CFA AC
(1-212) 622-5676 christopher.t.schott@jpmorgan.com
Watson Pharmaceuticals (WPI $72.10 Overweight)

We view Watson as the best positioned name in our specialty pharmaceutical coverage universe for near-term upside. Over the next several months, we expect continued upward revisions to sales and EPS estimates based on the strength of the companys core portfolio as well as the late November launch of Watson's authorized generic for Lipitor and the companys launch of generic version of Lovenox. These opportunities, coupled with reasonable valuation, create a short-term upside opportunity in WPI shares, in our view. Significant opportunity with generic Lipitor. Watson plans to launch its authorized generic version of Lipitor in late November. While we see lingering uncertainty with the potential for a Ranbaxy generic approval, we believe most potential generic Lipitor market formation outcomes would represent an upside event relative to Street estimates for Watson. Generic Lovenox represents another near-term upside driver. The recent approval of Amphastars generic Lovenox (Watsons partner) represents a near-term earnings upside driver, in our view. The product had largely been written off by the Street and we estimate represents a $0.15 - $0.30 annual EPS opportunity for the company. Watson plans to sell the product into retail channels (~$1.2bn branded sales opportunity) starting in 4Q/11. Prochieve PDUFA positions branded portfolio for accelerating growth. We anticipate Prochieve will receive FDA approval for the prevention of pre-term birth at its February 2012 PDUFDA and see the product as a $300mm sales opportunity over time.
Dewey Steadman, CFA

(1-212) 622-5350 dewey.d.steadman@jpmorgan.com
Jessica Fye
(1-212) 622-4165 jessica.m.fye@jpmorgan.com J.P. Morgan Securities LLC
47
48
Chemicals Specialty, Commodity & Agricultural Materials

LyondellBasell: Undervalued and Underappreciated
Jeffrey J. Zekauskas AC
(1-212) 622-6644 jeffrey.zekauskas@jpmorgan.com
LyondellBasell Industries (LYB $29.59 Overweight)

LyondellBasell represents good value. LyondellBasell has consistently generated 10%-15% of its share price in free cash flow and has an unleveraged balance sheet. We believe the share price performance of LyondellBasell should improve when investors key in on the consistency of cash flow and free cash flow generation in a weak global demand environment. We believe the market underestimates the magnitude of sustainable profitability of LyondellBasell given its low-cost US natural gas feedstock position relative to oil-based feedstock used by global competitors. LyondellBasell shares and the shares of many of its commodity chemical peers have underperformed since early May 2011. LYB shares have declined (35%) from ~$46 to $30 versus a (14%) decline in the S&P 500. The sources of the underperformance are multiple, in our view: a general retreat from commodity equities in general, decreasing petrochemical product prices, some decrease in oil prices from peaks reached in April, and a market preference for both later-cycle, less cyclical companies, and consumer companies. We are constructive on LyondellBasells prospects for 2012. LyondellBasells ethane-based North American ethylene profits should remain robust. We believe profit levels for LyondellBasells North American operations are likely to remain high in 2012 as LYB benefits from solid ethylene margins stemming from the wide spread between crude oil and natural gas values. We expect the North American ethane advantage to become more apparent in 2012 due to incremental fractionation capacity scheduled to come on-stream in 4Q:11 and 1Q:12. North American natural gas values are low relative to global energy values due to a greater supply of domestic shale gas and associated natural gas liquids, including ethane. High but level 2012 EPS projections should follow a strong 2011. Our full year 2011 EPS estimate for LyondellBasell is $4.85. Our 2012 EPS projection for LYB is $4.75. Our 2012 projection assumes a slower global growth environment and a small step-down from 2011 levels across most of LyondellBasell's business segments. Our 2013 EPS projection is $5.75. LyondellBasell shares trade at a discount to peers. LyondellBasell is a commodity petrochemical company with significant refining assets trading at 3.1x EV/EBITDA for 2011E and 2.8x EV/EBITDA for 2012E. The valuation of LyondellBasell compares to comparable EV/EBITDA multiples of 4.0x and 3.9x for 2011E and 2012E for Westlake, and 5.9x and 4.9x for Dow Chemical.
Silke Kueck
(1-212) 622-6503 silke.x.kueck@jpmorgan.com
Olga Guteneva
(1-212) 622-6488 olga.v.guteneva@jpmorgan.com
Ben Richardson
(1-212) 622-6455 ben.richardson@jpmorgan.com J.P. Morgan Securities LLC
49
Gold & Precious Metals

Kinross Should Benefit from Weaker Resource Currencies, Oil and New Discoveries Prices
John Bridges AC
(1-212) 622-6430 john.bridges@jpmorgan.com
Kinross (KGC $15.02 Overweight)

Gold equities have underperformed the actual metal since the start of the Q2 2011. We believe golds record price levels made investors a little cautious and they tried to play the lower-risk metal. Now, weakening resource currencies and lower oil prices are helping miners margins, which could attract investors to the underperforming equities. A wild card would be new gold discoveries reported with Q3 results.
Figure 20: Weakening Resource Currencies
Sadhak Bindal
(1-212) 622-2684 sadhak.x.bindal@jpmorgan.com J.P. Morgan Securities LLC
1.8 1.6 1.4 1.2 1 0.8 0.6 Jan-10 Apr-10 Jul-10
BRL
AUD
CAD
1.3 1.25 1.2 1.15 1.1 1.05 1 0.95 0.9
Oct-10
Jan-11
Apr-11
Jul-11
Source: Bloomberg
We believe Kinross could benefit from the weakening resource currencies such as Brazils real and also the euro as it builds its big asset in Mauritania. Also, any new positive results from the drilling at the new targets it identified at the Tasiast mine could help the stock price as it reports Q3. We visited the mine in March11 and came back impressed with prospects for new targets on the property. Currently we estimate most of the gold equities are discounting a gold price around $1200/oz gold price, but we believe if gold prices remain at higher levels we could see gold equities move higher, implying higher gold prices. Assuming an implied gold price of $1300/oz, we believe KGC offers significant potential upside. In the next five years, we estimate KGC offers significant production growth of about 70% to 4.5-4.9mozs. We believe KGC is currently undervalued as investors wait for the promised growth.
50
Metals & Mining

FCX Seems to Be Discounting Too Low of a Copper Price, Ignoring Financial Strength
Michael F. Gambardella AC
(1-212) 622-6446 michael.gambardella@jpmorgan.com
Freeport-McMoRan (FCX $34.82 Overweight)

Since July, mounting fears of a recession in developed markets and a deteriorating growth outlook in emerging markets has weighed especially heavily on metal prices and equities. Copper is now down 22% to $3.42/lb since July 15, while FCX is down 37% to $34.82. We believe, however, that FCXs stock price is pricing in too negative an outlook for copper prices and not fully valuing the financial strength and flexibility of the company. FCXs stock now appears to be pricing in a copper price for 2012 of $2.80/lb, as this number (assuming current gold and moly prices of $1,650/oz and $14.35/lb, respectively) would have the stock trading at its historical forward EV/EBITDA multiple of 5.5x. Additionally, assuming current metal prices for all of 2012 would have FCX trading at a 2012E EV/EBITDA multiple of 4.0x and a FCF yield of 10%, by our estimates. We also dont believe FCXs current stock price is fully reflecting the companys strong balance sheet. As of 2Q11, the companys net cash position stood at $836mm, which (excluding the potential impact of the strike in Indonesia) we estimate would grow to roughly $1.7bn by year end if we held current metal prices flat for the remainder of the year. With its regular quarterly dividend of $0.25/share, FCX has a dividend yield of 2.9%. However, if we were to include the supplemental dividend of $0.50/share that FCX paid on both Dec. 30, 2010 and Jun. 1, 2011 as regular payments going forward, FCXs dividend yield would increase to 5.8%. Finally, given the companys track record of shareholder friendly actions (dividend increases, special dividends, and share repurchases), we would not be surprised to see the company take additional actions if the stock remains near these levels.
Tyler J. Langton
(1-212) 622-5234 tyler.j.langton@jpmorgan.com
Brian P. Ossenbeck
(1-212) 622-1023 brian.p.ossenbeck@jpmorgan.com J.P. Morgan Securities LLC
51
Paper & Packaging

RKT Could Show Relative Near-Term Outperformance on SSCC Synergies
Phil M. Gresh, CFA AC
(1-212) 622-4861 phil.m.gresh@jpmorgan.com
Rock-Tenn (RKT $52.09 Overweight)

In the context of the overall group, where we are concerned about near-term risk around earnings revisions, particularly around 2012, we think RKT is the best positioned to outperform. We believe expectations for RKT, on a relative basis, are among the lowest in the group, while the probability of an earnings beat in F4Q (calendar 3Q) is among the highest. One of the key drivers of our view is that we think synergies around the SSCC deal will continue to track well ahead of expectations, providing the company an earnings hedge against macro risk that others in the sector do not have. Further, with the prospect of OCC prices pulling back, a commodity to which RKT has the most exposure, this could also limit near-term risk around earnings degradation. For all of these reasons, we think RKT would be the best name to own into the 3Q earnings reporting season, particularly with the stock trading in the low-$50s.
Ariel Avila
(1-212) 622-8021 ariel.x.avila@jpmorgan.com J.P. Morgan Securities LLC
52
Information Services Media & Telecom

Verisk Provides Attractive Risk/Reward with Possible Upside from Analytics Verticals
Michael Meltz, CFA AC
(1-212) 622-0416 michael.meltz@jpmorgan.com
Verisk Analytics (VRSK $34.49 Overweight)

Verisk is a leading provider of risk management solutions and analytics to the insurance, mortgage, supply chain and healthcare industries. The companys databases and tools are used by customers (property and casualty insurers, mortgage lenders, healthcare organizations, etc.) to measure risk, predict losses, and prevent and detect fraud. The companys ISO brand dominates in its niche, with need-tohave databases, software, and tools for P&C insurers. A clearinghouse model results in high barriers to entry and above-average pricing power. The stock has performed well year to date 2011 (+1% v. the S&P 500s -7%) but we see room for upside. We find valuation attractive at 19.2 times 2012E EPS and 11.4 times 2012E EBITDA versus most peers trading between 12-24 times 2012E EPS. The subscription nature of the business implies relatively less inherent leverage to an economic slowdown. Verisk generates nearly 70% of revenues from a subscription model that visibility could limit the downside if market volatility persists. The companys subscription revenue skew is near the high end of our coverage universe. Verisks key vertical, P&C customers (~57% of revenues), is steadily recovering. The company drives strong cash flow and maintains a healthy balance sheet (1.8 times net debt/ EBITDA). Verisk has diversified in recent years with acquisitions of faster-growing Decision Analytics properties. The Analytics unit (57% of revenues) lifted 12% in Q2. Verisk is rapidly expanding its addressable market into data solutions and analytics for emerging verticals including: mortgage (~12% revenues), healthcare (~8% revenues) and supply chain. We like Verisks valuation, consistency and cash flow. A stronger-than-expected recovery in Verisks mortgage vertical could provide modest upside to near-term estimates. The recent spike in mortgage refis could boost front-end business activity.
David Lewis, CPA

(1-212) 622-6435 david.m.lewis@jpmorgan.com
Nadia Lovell
(1-212) 622-4885 nadia.s.lovell@jpmorgan.com J.P. Morgan Securities LLC
53
Internet
Despite Weak Fundamentals, Yahoo! Offers Potential Near-Term Upside Catalysts
Douglas Anmuth AC
(1-212) 622-6571 douglas.anmuth@jpmorgan.com
Yahoo! (YHOO $14.37 Neutral)

We are selecting YHOO as our best idea over the next three months. Though we expect fundamentals in YHOOs search and display businesses to remain weak (and thus maintain our Neutral rating), we think the stock is likely to outperform our coverage in the near term due to a higher likelihood of a value-unlocking corporate action as has been reported in the Wall Street Journal. Our sum-of-the-parts analysis yields a $17 per share value for the company, which we believe is more achievable now than in the past given: 1) the core US business trades at just ~1x 2013E EBITDA; 2) there appears to be renewed interest from financial and strategic buyers post the CEOs departure, including renewed activist shareholder activity; and 3) significant continued interest in YHOOs ~40% ownership of Alibaba. We believe a deal for Yahoo! would be complicated and would likely have to involve multiple parties. Despite having virtually no enterprise value, Yahoo! maintains a $17 billion market cap due to its Asian assets and cash. For private equity investors to get to the core Yahoo! businessthe part that can generate solid free cash flow and potentially be levered upthey would likely need to find a strategic party for the Asian assets, especially Yahoo!s 40% stake in Alibaba Group. That could involve Alibabas management team themselves or another strategic investor or corporate. We think Alibaba management, in conjunction with a corporate buyer, is a more likely acquirer relative to a strategic or corporate acquirer. We value Yahoo!s Asia assets at $7.58/share applying a 30-40% tax/illiquidity discount to our valuation of Yahoo!s stakes in Alibaba.com, Taobao, and Yahoo! Japan. Alibaba Group's Taobao unit remains private, and the case for investment in Yahoo! is contingent upon the market attributing a public market value to these assets through an IPO or some other means of monetization which may still be years away. Our base case valuation for Taobao is ~$16B, which assumes $140B in 2012 GMV (Gross Merchandise Value), a 1.5% revenue take rate and 15% EBITDA margin. We believe our estimates are appropriate given the company expected to double GMV in 2010 to $61B after more than doubling in the previous two years. Moreover, we believe our revenue take rate assumption of 1.1% in 2010 is reasonable given Alibaba Group (ex Alibaba.com) revenue in 2010 was $748MM. Alibaba Group (ex Alibaba.com) revenue primarily consisted of Taobao (89%), Alipay, and Alimama (advertising) revenue. Though our base case EV/EBITDA multiple of 50x 2012E appears high, we believe it is fair when considering EBITDA growth of over 100% for the next several years. Our valuation implies a 2012 revenue multiple of 7.5x. We are not currently assigning any value to Alipay despite the recent resolution around this asset, which could ultimately mean between $2B and $6 billion for Alibaba Group. Note that a group of investors including Silver Lake Partners and Digital Sky Technologies recently agreed to invest $1.6B in Alibaba Group at a $32B valuation. We value Yahoo!s 35% stake in Yahoo! Japan at $2.96 using a 40% illiquidity/tax discount. Yahoo! has indicated it is looking at various strategic options to monetize its stake in Yahoo! Japan, though this is also complicated by ownership issues and taxes. A spin-off would be difficult, in our view, unless Yahoo! bundles a material amount of assets into the new co such that its spinning an overall asset it controls. And a tracking stock, while isolating core Yahoo!, would be more cosmetic and not truly change the companys structure.
Kaizad Gotla, CFA

(1-212) 622-6436 kaizad.gotla@jpmorgan.com
Shelby Taffer
(1-212) 622-6518 shelby.x.taffer@jpmorgan.com J.P. Morgan Securities LLC
54
Telecom Services and Towers

AMT Marching to REIT Conversion; US and International Growth Remain Robust
Phil Cusick, CFA AC
(1-212) 622-1444 philip.cusick@jpmorgan.com
American Tower (AMT $54.58 Overweight)

We have an Overweight rating on AMT and believe the company is on track to execute its REIT conversion expected for Jan 1, 2012. American Tower, with its scale, conservative financial position, and focus on profitability, has been the most stable tower company and offers an attractive risk/reward at this level, in our view. International opportunities could drive higher returns in comparison to those in domestic markets, and the company has diversified into eight countries already, with no country but the US accounting for more than 10% of revenue. The firms relatively low leverage at 3.3x EBITDA provides us with additional comfort and we believe gives AMT the ability to consider a larger tower deal or buy back stock. Current business seems in line with expectations, with potential upside from wireless buildouts. We believe the domestic environment continues to be robust, with AT&T and Verizon rapidly building out LTE networks and adding capacity. Sprint and T-Mobile have hit fairly low expectations so far. Sprint needs to augment its CDMA network for its Network Vision plan, and we could see upside from an amendment agreement with Sprint. AMT has not built in any expectations for unfunded carriers like Lightsquared, SpectrumCo, DISH, or public safety. Any news of a buildout from these parties could be a significant catalyst for AMT. REIT conversion on track for 01/01/12. American Tower has created a new company called AMT REIT that meets all ownership tests of being a REIT and was declared effective on September 22. The board has approved a merger of the existing company into AMT REIT, and there is a shareholder meeting to approve it on November 29. After that AMT will pay out its retained earnings (<$200m or <$0.50/share) in December and become a REIT effective January 1. We expect the company to pay a 1-2% dividend starting in 2012. AMT will leave its domestic services and DAS businesses outside of the REIT as well as its international business, but if those grow too big, it could bring portions of the business like a country into the REIT structure. AMT expects to be able to continue to grow without a need to raise additional equity. International continues to grow and gain scale. American Towers international business is gaining scale. We model the business going from 44% of sites today to 46% by year-end 2011. We could see a higher international mix of tower builds come in at the high end of the range at 1,500 vs. our 880 estimate (720 international). As AMT leases up its international towers and margins expand, we expect the segment to reduce its drag on the overall business.
Richard Choe
(1-212) 622-6708 richard.choe@jpmorgan.com
Derya Erdemli, CFA

(1-212) 622-8529 derya.erdemli@jpmorgan.com J.P. Morgan Securities LLC
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56
Applied and Emerging Technologies Technology

NCR Is Poised to Climb the Wall of Worry
Paul Coster, CFA AC
(1-212) 622-6425 paul.coster@jpmorgan.com
NCR (NCR $18.01 Overweight)

NCR is our preferred near-term idea. We believe the firms focus on industrywide multichannel solutions, on software innovation, and on growth segments, makes NCR a preferred investment relative to near-peer Diebold (DBD/UW). Aside from potential multiple expansion especially if we avoid a double-dip recession the stock should be on investors radar owing to a series of potentially positive catalysts ahead, including reduced pension funding costs, improved margins post integration of Radiant, cost-save initiatives, and new contracts in emerging markets (e.g., Brazil and China). Based on a recent visit to the company, we believe bookings momentum remains solid heading into late 3Q, but macro headwinds present risk. Demand recovery and need for automation. We believe NCR can generate EPS above current 2013 expectations owing to improving demand from regional banks deposit automation and an upgrade cycle spurred by new product introductions, skewed toward the needs of emerging markets. We are looking for revenue growth of just 2-3% in 2013, reflecting our still-cautious view of investment activity in the retail and financial services verticals. That said, we do expect continued margin expansion owing to a shift toward higher-margin growth segments (e.g., Radiant), and the ongoing efficiency initiatives, particularly in the global services organization. We like the Radiant acquisition, owing to the acquired businesss growth and margin profile and our sense that there is a first-time penetration opportunity for hospitality/restaurant PoS that should yield long-term growth (a recent trip to Europe underscored for us how slow US restaurants have been to adopt mobile PoS). We believe Verifones F3Q results validated the timing of NCRs acquisition, with the competitor stating that global demand remains stable. Integration of Radiant will take place slowly. Near term, the priorities are to not disrupt Radiant's momentum, to avoid disrupting customers, and to retain talent. Peers cite bookings momentum in 2011. Diebold (DBD/UW), ZBRA (ZBRA/OW), and Intermec (IN/NR) all stated strong y/y bookings momentum heading into 2011, citing growth in Asia Pacific and cyclical recovery in some end markets (e.g., retail). ScanSource (SCSC/NR) and Ingram Micro (IM/NR) have also signaled growth in 2011, and a need to hold higher inventory levels to meet demand. We remain cautious regarding the broader demand environment. Recent macro data signal slow growth near term and the risk of a recession. Financial services industry participants in Europe could rein in spending owing to balance sheet and liquidity stresses caused by the European debt crisis. That said, NCR is not seeing any evidence of a global or European slowdown, though management is conducting ongoing scenario analyses. But for the meantime it is business as usual, and the company has recently won at least two major contracts in Europe (UK retailer, European bank). NCR believes it is winning market share. We think this stock can climb the wall of worry, with the multiple already de-risking the story to a large extent.
Marija Krgovic
(1-212) 622-5552 marija.krgovic@jpmorgan.com
Mark Strouse, CFA

(1-212) 622-8244 mark.w.strouse@jpmorgan.com J.P. Morgan Securities LLC
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IT Hardware
Apples Stock Should Outperform Near Term with or without Macroeconomic Stabilization
Mark Moskowitz AC
(1-415) 315-6704 mark.a.moskowitz@jpmorgan.com
Apple (AAPL $399.26 Overweight)

We think Apple is one of the few companies in our coverage list whereby Street consensus estimates stand to increase in the near to mid term. Potential upcoming catalysts include the looming iPhone 5/4-plus launches, which we highlighted in a company report on September 19. Also, we think the iPad stands to dominate the holiday season in tablets, as a number two tablet vendor has not materialized yet. Add in the Mac business and Asia-Pacific market penetration opportunities, and we expect Apples above-peer growth profile to keep expanding. It is important to note that Apple navigated the prior global downturn in 2008-09 better than most tech companies, and we think Apples current model is even stronger. Global economic challenges are not likely to dissipate in the near to mid term, but we see plenty of partial offsets at Apple. Break-out revenue growth, upward-trending margins, and incremental market penetration opportunities are offsets at Apple that most tech companies do not possess collectively. Add in iTunes and iCloud, and we think Apples digital way of life underpins a formidable moat to fend off competitive and economic challenges. In our view, Apple is trading as a value stock and not as the high-growth story in large cap equities. At 13.3x our C2012 EPS estimate, versus the peer group of 10.8x, Apple is trading well below its three-year average of 16.6x. Apples trough valuation level over the last five years has been approximately 11x price-to-earnings. At our current C2012E EPS estimate of $30.04, a trough valuation of 11x would imply downside support at around $330.
Anthony Luscri
(1-415) 315-6702 anthony.s.luscri@jpmorgan.com
Mike Kim
(1-415) 315-6755 mike.j.kim@jpmorgan.com J.P. Morgan Securities LLC
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SMid Semiconductors
Technology Market Trends and Tier-1 Customers Should Help BRCM Weather Macro Uncertainty
Harlan Sur AC
(1-415) 315-6700 Harlan.Sur@jpmorgan.com
Broadcom (BRCM $35.04 Overweight)

Broadcom is the company in our universe that has the most exposure to the fastest growing segments within the technology market. Smartphones, tablets, 3G/4G wireless infrastructure, datacenter, and broadband proliferation in emerging markets are just some of the trends that should drive growth for the company through 2012. Combine all of this with multiple new product cycles that we believe will drive ~60% of BRCMs incremental growth within all three of its segments (mobile/wireless, networking, broadband), and we believe the company should experience solid growth for the next several years. The companys two largest customers Apple (>10% of revenues, iPhone, iPad, Macbook, iMac) and Samsung (>10% of revenues, smartphones and tablets) should each drive 20%+ growth this year for Broadcom. We believe such broad-based end-market and customer strength should help BRCM navigate the uncertain macro environment better than many of its SMid semi peers. Additionally, we believe management has a solid track record of effective cost improvements and disciplined expense controls, and we expect ~200 basis points of operating margin expansion through the end of next year. We believe that as the company continues to drive revenue and earnings growth above consensus expectations, a combination of multiple expansion and higher earnings revisions will drive the stock higher over the next year. We believe solid demand for AAPL iPhones/iPads is leading the charge for BRCM's mobile/wireless business, which we estimate contributed ~$22-24M in incremental sales in 2Q and provided another ~$50-55M in 3Q. Also, upcoming iPhone and iPad refreshes should further boost growth at AAPL. In addition to iPhones/iPads, BRCMs connectivity (WiFi, BT), Ethernet controller, and touch controller solutions are also widely utilized in AAPLs Macbook Air, Macbook Pro, Mac Mini, and Apple TV. In addition to the AAPL business, BRCM is seeing connectivity ramps into Samsung, HTC, and Sony Ericsson and 3G-Android baseband ramps into Samsung and China domestic handset suppliers. Continued strength in service provider (wireless backhaul), access (FTTH), and enterprise (networking switching/routing) should boost infrastructure/networking, while emerging market demand (cable triple play) should drive broadband growth.
John S. Ahn
(1-415) 315-6758 John.S.Ahn@jpmorgan.com J.P. Morgan Securities LLC
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Software
Economic Weakness Presents Risk to September Earnings Reports
John DiFucci AC
(1-212) 622-2341 john.s.difucci@jpmorgan.com
Kenneth R Talanian Jr.

(1-212) 622-1303 kenneth.r.talanian@jpmorgan.com
Darren Jue
(1-212) 622-4071 darren.r.jue@jpmorgan.com
We continue to believe the European region will be weak and the US wont make up the difference in the global economy. Typically, we would encourage investors to buy value stocks in these market conditions. However, we believe many companies are at risk to miss September quarter numbers, including CA (OW), QSFT (OW), MSFT (N), and SYMC (OW). See our note Lowering Estimates Based on Europe, US Government, and Financial Services dated September 6, 2011 for additional detail. We would encourage investors to buy any of the following stocks in the event of a miss: CA, QSFT, and SYMC.
Marc P Griffin
(1-212) 622-5615 marc.p.griffin@jpmorgan.com
Sandeep Madhur
(1-212) 622-6516 sandeep.madhur@jpmorgan.com J.P. Morgan Securities LLC
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Software Technology
Synopsys: Bookings and Cash Flow Should Have Legs Through 1H12
Sterling Auty, CFA AC
(1-212) 622-6389 sterling.auty@jpmorgan.com
Synopsys (SNPS $24.91 Overweight)

Contracts up for renewal are stronger in FY11 and 1H12, which should drive continued upside to bookings/cash flow, and stock outperformance. In addition, if the market regains confidence in the macro outlook, the semiconductor sector should be an early cyclical beneficiary, taking EDA stocks with it. Contract renewal cycle strongest in FY11 and 1H12 Synopsys is a leader in the Electronic Design Automation (EDA) market, and thus maintains high renewal rates. Because of this, customers tend to renew contracts and add on additional product near expiration, usually in three years. So, periods of strength usually reoccur every three years, with growth depending on the semi R&D spending environment. In FY11-1H12, we look back to FY08 normalized bookings, which we estimate were up 19% y/y. More contract renewals should drive upside to bookings, and therefore cash flow, which we think is the key valuation metric for the stock. Next catalyst likely 4Q11 report, with backlog results and FY12 guidance We believe the next catalyst will be the 4Q11 earnings release. Recall, SNPS only provides bookings results annually, on its 4Q11 call, and we believe there will be upside. Furthermore, SNPS should provide annual FY12 guidance, which we believe could also show some upside. We note, however, that SNPS raised cash flow guidance every quarter during FY11, starting at ~$230M, with current guidance now at greater than $400M, so we view this as a management team that has underpromised and over-delivered. SNPS should benefit in macro upturn and cash repatriation A macro upturn should benefit SNPS both from a fundamental and trading perspective given its high correlation with the SOXX index (proxy for semis). Recall, with SNPS 90%+ ratable revenue model, a potential upturn would not immediately affect revenue/EPS results. However, since SNPS has ~69% correlation with the SOXX, as we show in the figure below, a potential macro upturn could benefit semi stocks and therefore SNPS shares. In addition, SNPS has ~$7/share in net cash (no debt), of which ~67% is offshore. So if the US government were to ease restrictions on cash repatriation, we believe SNPS would be a clear beneficiary.
Figure 21: SNPS Has ~69% Correlation with SOXX Over the Last 3 Years
Lauren Choi
(1-212) 622-6102 lauren.coi@jpmorgan.com
Saket Kalia
(1-212) 622-6477 saket.kalia@jpmorgan.com J.P. Morgan Securities LLC
Source: Bloomberg 61
Other Companies Recommended in This Report (all prices in this report as of market close on 27 September 2011) CA Technologies (CA/$20.56/Overweight), Microsoft (MSFT/$25.67/Neutral), Quest Software (QSFT/$16.60/Overweight), Symantec (SYMC/$17.15/Overweight)
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North America Equity Research

Be s t Equ ity Ne a r-Te rm Id e a s

North America Equity Research October 2011

J.P. Morgan Map Best Near-Term Ideas

North America Equity Research October 2011

J.P. Morgan Map Best Near-Term Ideas

Equity Strategy Macro

Recent Leadership from Discretionary, Technology, and Utilities

North America Equity Research October 2011

J.P. Morgan Map Best Near-Term Ideas

Figure 1: Sector Performance Since July 2011

Sectors Relative Performance: Cyclicals -1.2% Materials Industrials Discretionary Technology

-0.1% 1.8% -0.9% 0.1% -1.4%

-0.9% -1.3% -0.8% -0.1% -1.4%

1.4% 1.8% 2.1% 1.4% 0.3%

-0.4% -0.7% -1.6% -0.5% 1.3%

0.9% -0.9% 1.0% 1.6% 1.7%

-1.1% -4.8% -2.1% 0.3% 2.3%

-0.7% -2.4% 1.3% -0.7% -0.7%

-2.1% -9.4% -4.3% 1.1% 4.1%

-3.4% -3.0% -0.5% 2.2%

Near Cyclicals Energy Financials

-4.4% -4.4% -4.4%

1.5% 2.2% 0.9%

-2.0% -1.9% -2.1%

1.7% 0.1% 3.3%

-1.7% -0.1% -3.4%

-0.3% -1.3% 0.6%

-3.6% -3.8% -3.4%

1.1% -0.2% 2.4%

-8.0% -9.1% -7.0%

Defensives Staples HealthCare Telecom Utilities

5.0% 7.8% 1.4% 4.8% 5.8%

0.3% -1.7% -0.1% 0.8% 2.3%

3.2% 3.8% 2.4% 2.9% 3.7%

-3.6% -4.3% -1.0% -5.4% -3.6%

1.7% 2.3% 1.0% 1.7% 1.9%

-1.3% -2.0% -1.7% -0.9% -0.7%

3.1% 2.8% 2.4% 2.7% 4.5%

-0.1% -1.0% -0.2% 0.8% 0.2%

8.9% 8.8% 4.5% 7.8% 14.4%

Source: J.P. Morgan and FactSet

Valuation: 53% of Stocks with P/E <12X67% in 3/09

North America Equity Research October 2011

J.P. Morgan Map Best Near-Term Ideas

Figure 2: % of Stocks with P/E <12X

Source: J.P. Morgan and FactSet.

Equity Risk Premium at 50-Year Highs

Market low Market low at 60-year highs...

Source: J.P. Morgan Asset Allocation Team. 5

North America Equity Research October 2011

J.P. Morgan Map Best Near-Term Ideas

Figure 5: Styles that Outperformed in Both Periods

Style S&P 500 performance

Relative performance (vs S&P 500)

26% 13% 33% 27% 20%

15% 58% 49% 35%

49% 40% 32% 28% 22%

26% 23% 17% 15% 12%

North America Equity Research October 2011

J.P. Morgan Map Best Near-Term Ideas

Figure 6: Relative Six-Month Performance of Industry Groups After Past Crises

Outperformed after Lehman failure