Prudential International Investments Advisers, LLC. Global Investment Strategy May 2008

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1 Prudential International Investments Advisers, LLC. Global Investment Strategy May 2008 By John Praveen, Chief Investment Strategist For Market Commentary Interviews Contact: Lisa Villareal, Financial Market Outlook & Strategy: Markets Stabilize Further. Near-Term Gains For Stocks. Bonds Under Pressure John Praveen s Global Investment Strategy May 2008 sees equity markets currently in the process of bottoming. In the near-term, stocks are likely to post further gains on optimism about a U.S. economic recovery as the fiscal stimulus takes effect, and an earnings rebound in H2 as Financials losses taper off. Also supporting stocks are expectations of further new measures to stabilize the housing market, attractive valuations, and multiple expansion. While stocks are likely to gain in the near-term, in the medium-term, the macro challenges (weak growth and elevated inflation) and earnings uncertainty/potential disappointments are likely to bring renewed pressure on stocks, and keep volatility high. Given the expectations for further stock gains in the near-term, we have increased our equity overweight. We have reduced Bonds to underweight. Bonds are likely to remain under pressure with the U.S. avoiding a recession in Q1 and poised for a modest rebound, inflation remaining elevated and central banks on hold. Further stabilization in credit markets reduces bond s safe haven appeal. However, elevated inflation and further stabilization of financial markets are likely to limit bond gains. We have reduced cash to fund the increase in equity overweight. Within stocks, we remain overweight in the U.S and Emerging Markets and raised the U.K. to overweight, and remain underweight on Eurozone and Japan. Within bonds, we are overweight on U.S. Treasuries, neutral on Japanese bonds (JGBs) and U.K. Gilts, and underweight on Eurozone bonds. Among Sectors, we have raised Financials and Materials to a modest overweight but downgraded Consumer Staples and Telecomms to underweight. Financial Market Outlook: Markets Stabilize Further. Near-Term Stock Gains. Bonds Under Pressure Stocks: Stocks Bottoming. Further Gains in Near-term. Medium-term Uncertainty Stocks posted strong gains in April to give a solid start to Q2 after a miserable Q1. Stocks extended their gains from the mid-march lows as credit markets continued to stabilize, risk aversion declined, and U.S. Q1 GDP was positive, while Q1 earnings were betterthan-expected. Global macro conditions remain challenging. The U.S. managed to skirt a recession in Q1 and the fiscal stimulus is expected to boost GDP in Q2 and Q3. However, the U.S. economy is likely to remain weak for an extended period beyond Q3. Further, growth is slowing to below trend pace in Europe and Japan after the upside surprises in Q1. China, India and other emerging economies are moderating from the strong pace in Headline inflation remains elevated from surging energy and food prices. The rise in headline inflation is making it difficult for developed central banks to cut rates in response to slowing growth, and forcing emerging central banks to raise interest rates. In Europe, the European Central Bank (ECB) left rates on hold at 4 percent in May and maintained a tough stance on inflation. The Bank of England (BoE) also remained on hold in May. The Bank of Japan (BoJ) is expected to remain on hold after shifting its policy stance to neutral in April. China and India are tightening policy, raising their cash reserve ratios. The Fed lowered the funds rate by 25 bps to 2 percent at its April 30 meeting. The policy statement was balanced, pointing to a pause in June. In addition to the rate cut, the Fed expanded its liquidity measures, along with the ECB and the SNB, to address continued stress in inter-bank markets. The measures included increasing the size of the cash auctions and expanding the acceptable collateral. U.S. Q1 earnings, while negative, were better than expected with earnings tracking around -15 percent. Financials earnings (-73 percent) were the major drag on Q1 earnings growth. Excluding Financials, Q1 earnings are tracking around 10 percent. Consensus expectations are for Q2 earnings to decline around -5 percent and an earnings recovery in H2 with earnings growth of 16 percent in Q3 and around 65 percent in Q4. While earnings are likely to recover in H2, the recovery is likely to be more muted than current consensus expectations. Since early 2008, stocks have become even cheaper relative to bonds, with stock yields rising (on falling P/E multiples) and bond yields falling. With the Fed having cut rates aggressively, P/E multiples are likely to expand as markets stabilize further, offsetting slower earnings growth. Currently, equity markets appear to be bottoming. In the near-term, stocks are likely to post further gains on optimism about a U.S. economic recovery as the fiscal stimulus takes effect, and an earnings rebound in H2 as Financials losses taper off. Also supporting stocks are expectations of further new measures to stabilize the housing market, attractive valuations, and multiple expansion. While stocks are likely to gain in the near-term, in the medium-term, the macro challenges (weak growth and elevated inflation) and earnings uncertainty/potential disappointments are likely to bring renewed pressure on stocks, and keep volatility high. For Informational Use Only. Not Intended As Investment Advice. Page 1

2 Bonds: Bonds Remain Under Pressure with U.S. Growth Recovery, Elevated Inflation and Steady Rates Global bonds sold off in April after posting strong gains in Q1 as credit markets began to stabilize and equity markets recovered, reducing bonds safe haven appeal. Though the global economy continued to show signs of slowing, this was offset by elevated inflation and changing interest rate expectations. Heightened inflation concerns have led the BoJ and ECB to remain on hold, while the BoE has turned more hawkish on surging inflation. Further, the market has started to price in the end to the current Fed easing cycle, after the 25 bps cut in late April. Looking ahead, bonds are likely to remain under pressure with the U.S. avoiding a recession in Q1 and poised for a modest rebound as the fiscal stimulus takes effect, job losses declining and steady business confidence, while inflation remains elevated due to surging energy and food prices. Yields are also likely to be under upward pressure with the Fed on pause and the ECB, BoE and BoJ on hold on inflation concerns. Further stabilization in credit markets is also limiting bonds safe haven appeal. Investment Strategy: Markets Stabilizing. Increase Equity Allocation ASSET ALLOCATION: Stocks, Bonds, Cash Increase Stock Overweight: Stocks likely to post further gains on optimism about U.S. economic recovery and earnings rebound in H2. Other positives - expectations of new measures to stabilize housing market, attractive valuations, and multiple expansion. Underweight Cash: Reduce cash to fund the increase in equity overweight. Underweight Bonds: Yields likely to remain under pressure with the U.S. avoiding a recession in Q1 and set for a modest rebound, inflation remaining elevated and central banks on hold. Further stabilization in credit markets limits bond s safe haven appeal. GLOBAL BONDS Overweight: U.S. U.S. real GDP eked out a 0.6 percent gain in Q1 but domestic demand fell -0.4 percent. While fiscal stimulus likely to boost GDP in Q2 & Q3, the U.S. economy likely to remain weak for an extended period with continued housing drag and weak consumer spending with tightening credit and high oil and food prices. Inflation elevated now, but likely to ease. Neutral: Japan, U.K. 1) JGBs likely to remain range bound as slowing growth outlook is offset by the sharp rise in inflation and the BoJ remaining on hold. 2) U.K. gilts supported by deteriorating growth outlook but inflation risks likely to pressure yields. Underweight: Eurozone. Eurozone yields likely to remain under pressure with Q1 GDP surprising on the upside, inflation remaining well above ECB target, and ECB on hold. Valuations expensive. GLOBAL EQUITIES Overweight: Emerging Markets, U.S., U.K. 1) Emerging Markets: Macro outlook positive as solid domestic demand and intraemerging market trade offsets U.S. slowdown; Earnings remain solid. 2) U.S.: Modest GDP and earnings recovery in H2; Credit markets stabilizing with spreads continuing to narrow; Risk aversion also declines; Fed cuts rates by 25bps in April and also expands its liquidity measures to help ease pressure in LIBOR markets. 3) U.K.: Attractive valuations, but weaker earnings; Sector composition is positive. Underweight: Eurozone & Japan. 1) Eurozone: GDP slowing after solid Q1; ECB on hold on inflationary concerns; Rate cuts pushed out; Strong euro is a negative; Slower earnings with Financials losses. 2) Japan: Growth outlook weak; Earnings revisions negative; strong Yen is another negative. GLOBAL SECTORS Overweight: Energy, Info. Technology Modest Overweight: Materials, Healthcare, Financials Neutral: Industrials Underweight: Consumer Discretionary, Consumer Staples, Telecomm, Utilities CURRENCIES Overweight: U.S. Dollar; Underweight: Euro, Yen & Sterling. Dollar posted a broad rally in April, rising to $1.56/euro and 104 yen. In the near-term, the dollar is likely to post further gains against the euro on expectations of a U.S. growth recovery in H2 and the Fed near the end of the easing cycle. Eurozone growth slows to below trend pace. Yen is likely to weaken due to slowing growth and increase in carry trade as risk appetite grows. Sterling remains in a downtrend with slowing U.K. growth. Stock Market Outlook & Strategy: Stocks Bottoming. Further Gains in Near-term. Medium-term Uncertainty Stocks are likely to post further gains on optimism about a U.S. economic recovery as the fiscal stimulus takes effect and an earnings rebound in H2 as Financials losses taper off. Also supporting stocks are expectations of further new measures to stabilize the housing market, attractive valuations, and multiple expansion, which has typically followed Fed rate cuts. However, beyond the fiscal stimulus boosted rebound in Q2 and Q3, the U.S. economy is likely to face an extended period of anemic, below-trend growth with weak domestic demand with: a) the housing drag continuing with the housing market not showing any signs of bottoming; b) the credit crunch persisting as weak balance sheets impair bank s ability to extend credit despite aggressive Fed rate cuts; and c) the rise in gas and food prices eroding consumers real income and depressing spending. Further macro conditions in other regions are also challenging with Europe and Japan slowing to below-trend growth and high inflation For Informational Use Only. Not Intended As Investment Advice. Page 2

3 preventing central banks from acting aggressively to offset growth risks. In addition, while earnings are poised to recover in H2, the recovery is likely to be more muted than current consensus expectations with below-trend growth in the U.S., Europe and Japan, and growth moderating in Emerging Markets. Thus, while stocks are likely to gain in the near-term, in the medium-term, the macro challenges and earnings uncertainty/potential disappointments are likely to bring renewed pressure on stocks, and keep volatility high. Regional Equity Strategy Emerging Markets: Macro fundamentals remain solid, although China, India and other emerging economies are slowing from the strong pace in Domestic demand and intra-emerging market trade offsets U.S. slowdown. Inflation surges in China and India, but inflation outside food and energy largely contained. Emerging Market (EM) earnings expectations for 2008 are slower than the strong pace in 2007, but still remain solid around 15 percent due to large exposure to Energy and Commodity sectors. Valuations remain expensive compared to Developed Markets both on relative and historical basis. Modest policy tightening in some markets is a negative. Fed s rate cuts are a positive as EM have historically outperformed in the twelve months following Fed rate cuts. Reduction in risk aversion is positive. Price momentum factor is a positive for EM stocks. Remain Overweight. U.S.: The U.S. managed to skirt a recession in Q1 and the fiscal stimulus is expected to boost GDP over the next two quarters. But anemic, below-trend growth is expected beyond Q3. Credit markets stabilizing with spreads continuing to narrow, though spreads still remain high relative to last October s levels. Risk aversion also declined with the equity VIX index falling to 18.6 in early May from over 32 in mid-march. The Fed cut rates by 25bps in April. The statement was balanced, providing room for the Fed to pause. The Fed also expanded its liquidity measures, increasing the size of the cash auctions and expanding the acceptable collateral. This should help ease pressure in LIBOR markets. Earnings growth in Q1 was negative, but better than expected. Expectations are for a 5 percent decline in Q2 and a recovery in H2. Expectations of over 20 percent earnings rebound in H2 appear overly optimistic. Remain Overweight. U.K.: Growth slowing on tighter credit conditions, falling housing market and dismal consumer confidence. The BoE remained on hold in May. However, expectations of a rate cut have been pushed back due to heightened inflation concerns at the BoE. Sterling weakness is positive for stocks. Valuations are attractive relative to other markets. Weak earnings outlook a negative. Sector composition is positive due to exposure to Energy. Upgrade to Overweight. Eurozone: Eurozone GDP growth posted an upside surprise in Q1, but likely to slow in Q2 due to weak consumption and investment spending. Surging euro and slower global growth are likely to depress exports. The ECB remained on hold in May and maintained that inflation risks remained "clearly on the upside," but conceded "downside risks" to growth. Rate cuts pushed out to late Q3. Earnings revisions negative on further losses at Financials. Slowing GDP growth, strong euro, and surging energy prices also dampening earnings. Remain Underweight. Japan: Growth surprised on the upside in Q1 due to seasonal factors, but likely to be slower in Q2 due to weak investment spending, soft consumption, and slower exports. BoJ on hold in April and downgrades its growth outlook. Stronger yen is a negative for stocks. Earnings expectations revised down due to slower global growth, strong yen and drag from Financials. Remain Underweight. Bond Market Outlook & Strategy: Modest Bond Gains with Slower Growth & Further Rate Cuts Bonds are likely to remain under pressure with the U.S. avoiding a recession in Q1 and poised for a modest rebound as the fiscal stimulus takes effect, job losses declining and steady business confidence, while inflation remains elevated due to surging energy and food prices. Yields are also likely to be under upward pressure with the Fed on pause and the ECB and BoJ firmly on hold on inflation concerns. Further stabilization in credit markets is also limiting bonds safe haven appeal. Regional Bond Strategy USA: Treasuries under pressure near-term as U.S. GDP likely to post a modest recovery in Q2 and Q3 as the fiscal stimulus boosts consumption spending, headline inflation under pressure from energy and food prices, Fed on pause, credit markets stabilizing and further stock market gains. U.S. real GDP eked out a modest 0.6 percent quarter-on-quarter (QoQ) annualized gain in Q However, while headline GDP was positive, domestic demand fell 0.4 percent as consumer spending slowed, investment spending declined modestly, while housing construction continued to decline at a record pace. While fiscal stimulus is likely to boost GDP in Q2 & Q3, the U.S. economy is likely to remain weak for an extended period beyond Q3 with housing remaining a drag on growth and consumer spending remaining weak with the headwinds of tightening credit and high oil and food prices. Fed cut rates by 25 bps at the end of April and the statement was more balanced, pointing to a pause in June as the Fed assesses the impact of prior rate cuts and liquidity measures. U.S. headline inflation remains elevated at 3.9 percent year-on-year (YoY) in April and likely to see continued pressure from record high oil prices, which will keep pressure on yields. Remain Overweight Treasuries Japan: Japan s GDP growth surprised in Q1 at 3.3 percent annualized due to seasonal factors. Growth is likely to be slower in Q2 due to weaker exports, soft consumption and weak investment spending. The BoJ on hold at 0.5 percent in April. The BoJ s April report downgraded its growth outlook, and moved its policy stance to neutral. BoJ likely to remain on hold in coming quarters. JGB yields likely to be under upward pressure as core inflation accelerated to a ten-year high of 1.2 percent YoY in March. Remain Neutral JGBs For Informational Use Only. Not Intended As Investment Advice. Page 3

4 U.K.: U.K. gilts are supported by deteriorating growth outlook with tighter credit conditions, slumping housing market, and weakening business and consumer confidence. Growth expected to fall below 2 percent in Q2 after 2.5 percent in Q1. Expectations of further BoE rate cuts have been pushed back as the BoE has turned hawkish with the sharp surge in April inflation. Inflation risks likely to pressure gilt yields. Headline inflation jumped to 3 percent YoY in April. New taxes on alcohol and tobacco and rising petrol prices should push inflation higher. Real rates and historical yields are low, while valuations are expensive. Remain Neutral U.K. Gilts Eurozone: Inflation remains high at 3.3 percent YoY in April and the European Commission recently upgraded its 2008 inflation estimate to 3.2 percent. The ECB remained on hold in May, and maintained a tough stance on inflation. ECB s hawkish tone has pushed back rate cut expectations to late Q3, which should put pressure on yields. Eurozone GDP surprised on the upside in Q1 due to recovering consumption and surge in German construction. Sharp GDP growth payback likely in Q2. The deteriorating growth outlook and a potential change in ECB stance should support Eurozone bonds later in the year. Remain Underweight Eurozone Bonds Global Sector Strategy Our global sector model ranks sectors on a comparative basis using macro factors, valuation, earnings and risk measures Energy: Oil prices surged to record highs in April/ early May, crossing $120. Tight supplies, supply disruptions, and still solid EM demand more than offset effects of global growth slowdown. Earnings revisions positive. Relative sector valuations on par with market. High energy prices positive for Integrated Operators. Positive outlook for Oil Services. Overweight. Information Technology: U.S. IT earnings around 15 percent in Q1. Solid non-u.s. demand and orders more than offset pricing pressures. Prefer large-cap, high quality firms that cater to Telecomm, and productivity enhancing products such as networking. M&A activity is positive, especially for Internet Software. Overweight. Healthcare: Sector valuations are attractive. U.S. Healthcare Q1 earnings solid, around 7 percent. Restructuring, attractive dividends, and weak dollar are positives. Biotechs are likely to benefit from investor demand for growth stocks. Modest Overweight. Financials: Earnings growth expectations in H1 remains negative due to continued loss write-downs, decline in capital market activity (M&As and leveraged buyouts (LBOs) and credit market turbulence. Loss write-downs and credit losses likely to have peaked in Q and Q U.S. Financials earnings expected to decline -73 percent and -39 percent in Q1 and Q2, respectively, before recovering to 14 percent in Q3. Valuations have become attractive after sharp equity correction. Upgrade to Modest Overweight. Materials: Supply constraints, low inventories, and still solid Emerging Market demand keeping commodity prices firm. However, U.S. Materials earnings around 8 percent in Q1 due to strong prices. Materials earnings outlook on par with other sectors. Valuations are expensive relative to other sectors. Price momentum factor is positive for sector. Upgrade to Modest Overweight. Industrials: Macro fundamentals weak with industrial activity weak in the U.S., Europe, and Japan. However, EM activity remains solid. Earnings outlook is negative. Relative valuations are attractive. Aerospace and Defense supported by defense orders. Conglomerates to benefit from EM exposure, dollar weakness, and style shift to large caps. Upgrade to Neutral. Telecomm Services: Sector is attractive both from dividend yield and dividend growth perspective. However, overall valuations are expensive. Restructuring, corporate demand, and new products are positives. Sector earnings outlook trailing broader market due to impact of growth slowdown, and weaker consumer fundamentals. Downgrade to Underweight. Consumer Staples: Financial markets stabilization is a negative as defensive appeal is reduced. Earnings outlook is negative. Price momentum is negative. Sector benefiting from restructuring. International growth and pricing power are positives. Dividend yield is attractive. Sector return on equity has improved significantly. Downgrade to Underweight. Consumer Discretionary: U.S. Discretionary earnings in Q1 estimated to have fallen -11 percent. Falling consumer confidence, sharp global growth slowdown, and ongoing U.S. housing decline are negatives. Earnings outlook negative due to slower consumer spending in most regions. Valuations are attractive after recent sharp sell-off. Price momentum is positive. Underweight. Utilities: Sector valuations are expensive relative to trend and other sectors. Support from M&A and LBOs has been removed. Earnings outlook is relatively weak. Price momentum is positive. Underweight. Strategy Summary: Markets Fragile, Uncertainty High. Maintain Defensive Allocation Asset Allocation Increase Stock Overweight, Reduce Bonds to Underweight, Reduce Cash. Global Bonds Overweight: U.S. Neutral: Japan & U.K. Underweight: Eurozone. Global Equities Overweight: Emerging Markets, U.S. & U.K. Underweight: Eurozone & Japan. Global Sectors Overweight: Energy, Healthcare, Info. Technology, Financials, Materials. Neutral: Industrials. Underweight: Telecomms, Consumer Discretionary, Utilities, Consumer Staples. Currencies Overweight: U.S. Dollar. Underweight: Euro, Yen and Sterling. For Informational Use Only. Not Intended As Investment Advice. Page 4

5 Disclosure: Prudential International Investments Advisers, LLC ( the Company ), a subsidiary of Prudential Financial, Inc., is an investment adviser registered with the Securities and Exchange Commission of the United States. The commentary presented is for informational purposes only, and is not intended as investment advice. This material has been prepared by the Company on the basis of publicly available information, internally developed data and other third party sources believed to be reliable. However, no assurances are provided regarding the reliability of such information. All opinions and views constitute judgments of the Company as of the date of this writing, and are subject to change at any time without notice. There can be no assurance that any forecast made herein will be realized. No part of this material may be reproduced or distributed further without the written approval of the Company. These materials are not intended for distribution to, or use by, any person in any jurisdiction where such distribution would be contrary to local, or international law or regulation. The companies, securities, sectors and/or markets referenced herein are included solely for illustrative purposes regarding economic trends and conditions or investment process and may or may not be held by accounts managed by the Company or by its affiliates. The strategies and asset allocations discussed do not refer to any service or product offered by the Company or by its affiliates. The global asset and strategy allocation models presented are hypothetical allocation models shown for illustrative purposes only, and does not necessarily reflect the management of any actual account. Following the allocation recommendations presented will not necessarily result in profitable investments. Past performance is not an assurance of future results. Nothing herein should be viewed as investment advice or as a recommendation, solicitation, or an offer to buy/sell any security, or to adopt any investment strategy, nor should it be considered an offer to provide investment advisory or other allocation services. Prudential Financial, Prudential and the Rock logo are registered service marks of The Prudential Insurance Company of America and its affiliates. None of these companies are affiliated with Prudential plc., which is headquartered in the United Kingdom. For Informational Use Only. Not Intended As Investment Advice. Page 5