Broad-based Business Upswing

During the 3rd quarter of 1989, Swiss industry continued to display a favorable trend. Higher domestic and foreign order volumes and significantly larger order backlogs are an indication that the uptrend will continue into the final quarter of 1989. Based on the capital spending programs for 1990, another increase in equipment outlays appears likely next year despite rising financing costs.

Industry: Over the coming months, production, sales and order backlogs will register continued growth, although the pace of the foreign order uptrend can be expected to slow.

Construction: Despite stagnating order volume, the already high order backlogs will enable construction activity to exceed its yeararlier level in the 4th quarter of 1989.

Retail trade: The majority of large retailers anticipate further sales increases and higher selling prices over the coming months.

Tourism: Following the gratifying summer season, the outlook for the 1989/90 winter season is viewed with optimism on the whole. Favorable Business Trend Again Reported by Swiss Industry

The favorable Swiss industrial trend continued during the 3rd quarter of 1989. Such key indicators as order volume, production, order backlogs, sales and employment expanded at least at the same pace as in the 2nd quarter of 1989 according to the approximately 200 companies participating in our September survey. Although the average industrial capacity utilization rate underwent a seasonal lull (summer holidays) during the 3rd quarter of 1989, it was still significantly higher than the corresponding level a year ago. Furthermore, significantly more personnel were hired.

The outlook for the 4th quarter 1989 remains bright. The firms queried expect domestic order volume, production, order backlogs, sales and employment levels to register a similar yearoear increase as in the 3rd quarter. However, a less pronounced increase is anticipated as far as foreign orders are concerned. The prospects for production and sales provoked the most optimism, since 56% of the companies surveyed project output to rise by 56% and sales to expand by 65% on a year-to-year basis. Furthermore, 72% predict that the anticipated favorable business trend in the 2nd half of 1989 will continue unabated into the 1st half of 1990.

As in the preceding year, Swiss industry sharply expanded its spending on plant and equipment. Our survey revealed that equipment outlays, in particular, will continue to maintain this rate of growth going into 1990.

Broken down by industrial sectors , varying trends again materialized. Above-average results on a yearoear basis measured in terms of production and sales were mainly reported by the chemical, plastics and textile industries, as well as by printing and graphics firms and major metals manufacturers. Business in the paper and foodstuffs sectors, on the other hand, fell significantly short of the Swiss industrial average. At the same time, however, roughly 60% of the companies queried in the food industry forecast a business upturn for the 4th quarter of 1989.

Unexpectedly High Order Volume

During the 3rd quarter, total order volume registered a somewhat higher yearoear increase than was predicted during our July survey. The key factor in this respect was the unexpected surge in foreign orders. The positive balance of increase and decrease reports rose from +41% in the 2nd quarter to +46% in the 3rd quarter and therefore exceeded expectations by 9 percentage points. In the domestic order volume sector, on the other hand, growth decelerated, with 33% reporting a yearoear increase in incoming orders for the 3rd quarter (2nd quarter: 41%). The upswing in new orders can be expected to maintain its impetus during the final three months of 1989, although a slowdown in new orders from abroad would come as no surprise.

Production and Order Backlogs Exceed Yeararlier Level

On a quarter-to-quarter basis, production levels stagnated at the majority of firms queried; but compared with the preceding year, output was reported up by 48% of these companies. Most participants in the survey expect a similar trend in the final quarter of 1989.

Although order backlogs at the end of September 1989 only rose during the preceding threeonth period at 19% of the firms, a yearoear improvement was reported by 37% of the survey participants. Aboveverage gains were recorded by the textile, chemical and plastics industries, as well as by major machine manufacturers. During the final quarter of 1989, growth in order backlogs is likely to be less pronounced, with yearnd levels expected to be lower than at the end of the 3rd quarter. Measured against the 4th quarter of 1988, however, 39% of the companies queried predict larger order backlogs.

High Capacity Utilization Rate, Rising Employment Levels

Due to a summer season lull, the average technical production capacity utilization rate eased from 88.8% in the 2nd quarter of 1989 to 88.3%; at the same time, however, it exceeded the yeararlier level by 1.5%. Based on the high level of order backlogs and bright sales outlook, significantly higher capacity utilization rates are foreseen by the firms in the paper, textile and printing/graphics industries, in particular.

Despite the drained labor market, 22% of the Swiss companies surveyed enlarged their personnel rolls during the past three months, with further hirings anticipated for the 4th quarter of 1989.

Rising Sales and Prices

During the 3rd quarter of 1989, 55% of the companies participating in our survey reported higher revenue and 49% an improvement in exports. For the remaining three months of 1989, this uptrend can be expected to continue.

Based on the favorable sales prospects at home and abroad, every sixth firm on average raised its selling prices between July and September. This price spiral will continue to escalate over the coming months, with one in five companies planning a price hike for the 4th quarter.

Positive Prognosis for the 1st Half of 1990

On the basis of the trend forecast for the 2nd half of 1989, more than 70% of the survey participants are confident that business results will remain favorable during the 1st half of 1990. Growth is only expected to accelerate in the food industry, while the paper and metals sectors are anticipating a slacker trend.

Ambitious Capital Spending Programs for 1990

In 1989, 29% of the firms surveyed have budgeted more, 54% unchanged and 17% less funds for plant construction projects. As far as equipment outlays are concerned, 46% reported an increase and 15% a decline, with the remainder unchanged. Despite the current high level of interest rates, 32% of the companies queried intend to expand their construction projects in 1990, while only 16% will scale back their investments in plant. Furthermore, spending on equipment will be increased by 45% and trimmed only by 12% of the firms surveyed. In view of the high capacity utilization rate and strained employment market, the need to streamline operations will again feature as the principal reason behind corporate investment programs.

Tourism in Switzerland: Present Position and Outlook

During the 1989 summer season (May to October), the Swiss hotel industry reported significantly better-than-expected results. Based on our September survey, 45 of 51 tourist resorts were confident that the number of overnight stays would exceed the corresponding yeararlier level. Guests from both Switzerland and abroad contributed to this positive trend. Overnight stays by visitors from abroad rose at 44 resorts. The biggest increases were registered by the Bernese Highlands and Central Switzerland. Domestic demand was significantly stronger than expected. Although only 30 resorts had anticipated an increase in Swiss guests, 40 centers actually reported a yearoear rise in domestic visitors. Once again, mountain spas in the Bernese Highlands averaged the biggest improvement, averaging +9.1%. Growth rates were also high in the Valais. Conversely, tourist demand at resorts in Eastern Switzerland tapered off. Other holiday accommodation displayed a general uptrend (apartments, camping). Overnight stays in nonotel accommodation was higher at 32 resorts, while demand remained unchanged at 13 other centers in Switzerland.

Although somewhat less optimistic, the outlook for the 1989/90 winter season (November to April) is still viewed positively. Of the winter resorts queried, 27 anticipate an upturn in overnight stays, while another 19 foresee no change. Not one is fearful of a decline. Optimism prevails at 25 of the tourist centers that guests will arrive in greater numbers from abroad.

A similar trend is anticipated for other holiday accommodation. Overnight stays are projected to rise at 20 resorts and remain unchanged at another 19 skiing centers.

Special international campaigns to attract more tourists to Switzerland are being waged by 75% of Swiss resorts absorbing a hefty chunk of their advertising budgets with the main target countries being West Germany, France and the United States. 1

UBS Launches Two New Money Market Funds

After the success of the first Money Market Special Funds, Intrag International, Luxembourg, as Management Company and Union de Banques Suisses (Luxembourg) S.A. as Custodian, together with Union Bank of Switzerland, will now launch two new Money Market Special Funds under Luxembourg law, UBS Money Market InvestCU and UBS Money Market Investen. The new instruments represent an attractive addition to the range of UBS money market investment funds, the first two being UBS Money Market Invest-U.S.-Dollar and -£ Sterling. As their names suggest, both new Special Funds will invest in prime money market paper, with emphasis on a diversified portfolio to reduce risks. The emphasis will be on Treasury bills, commercial paper, certificates of deposit, bankers' acceptances, floating rate notes and bonds with shortange maturities. The common feature of these instruments is their brief duration of less than twelve months under normal circumstances. Investment policy at the new Funds is geared towards achieving a high regular income, while giving primary consideration to capital security and high portfolio liquidity.

The two new Special Funds will enable investors, even with a relatively small stake, to benefit from the attractive ECU and yen money markets. The ECU exchange rate displays a high degree of stability against the Swiss franc, as does the yen. Furthermore, all annual distribution payments to unitholders will be exempted from withholding tax deductions, while purchase transactions will not be subject to federal stamp duty. Another advantage is that units of one Special Fund can be converted into units of all other Special Funds at any time, without any commission being charged.

The opening issue of the new UBS Money Market Special Funds will take place from October 2 to October 9, 1989, at a fixed price of ECU 500.- or Yen 100,000.- per unit, respectively. At the same time, the minimum amounts for initial subscriptions have been set at ECU 5,000.- and Yen 1,000,000.-, respectively. Moreover, it is planned to issue further units after this period, with the subsequent issue price being based on the daily net asset value per unit. Upon the request of unitholders, units can also be refunded free of charge on the basis of this daily price. Subscription applications can made to UBS Luxembourg, UBS Zurich or any other UBS offices or banking subsidiaries in Switzerland and abroad (with the exception of the United States and Canada).

Significant Change in Bank Balance Sheet Structures in 1988

After the growth spurt in the financial sector up to 1986 and the turnaround in 1987, Swiss banks underwent a consolidation phase in 1988. Detailed and comprehensive data on the latest Swiss banking trends are contained in the annual statistics that have now been published.

Total assets at the 626 banks and investment companies operating in Switzerland at the end of 1988 (+4) and employing 121,819 persons (+2.4%) in 4,286 branches (+84) registered a 7.2% yearoear increase to Fr. 967.6 billion. Net earnings, which had eased slightly in 1987, rebounded to Fr. 4.75 billion altogether. As, at the same time, depreciation and provisions diminished by almost 7%, total cash flow fell short of the corresponding yeararlier level. An analysis of the most important revenue items shows that net commission income sustained a setback which was offset, however, by the significant improvement in net interest income, higher income from securities trading and, most importantly, by successful cost controls.

Credit Financing by Reducing Liquidity

The 7% growth in total assets (dollard-ajusted: +4.3%) does not accurately reflect the brisk banking trend last year. The thriving international economy and relatively low Swissranc interest rates in 1988 resulted in loans to nonank customers increasing in volume by 14% and customer deposits by 8.5%. In the banking sector it can be clearly seen that loans to nonank customers easily exceeded customer deposits. In fact, an analysis of the flow of funds in the domestic customer sector shows that the application of funds exceeded the source of funds by almost Fr. 22 billion. This was in stark contrast to the preceding year when a net Fr. 1.5 billion inflow of funds was reported.

Interbank operations were also characterized by loans exceeding deposits, so that bank balance sheets underwent a marked structural change in 1988. Aside from the capitalarketriented items (bond issues, capital and reserves, securities holdings and participations), which generated a flow of funds totaling Fr. 5.9 billion, the net application of funds in the customer and interbank business sectors was mainly financed by the extensive utilization of liquid funds (0%) and reduction of bills and money market paper (5%). This trimming of liquid funds and easily realizable assets by a total of Fr. 22 billion was enabled, on the one hand, by the revised Swiss liquidity regulations that went into force at the beginning of 1988 and, on the other hand, by the banks' more efficient cash management following the launching of the new Swiss Interbank Clearing (SIC) system.

In 1989, the banks focused their attention on achieving a more balanced flow of funds statement in the nonank customer sector. They hoped to do this via their interbank business or by tapping the capital market. Amid an unbroken uptrend in lending volume, the marked interest rate surge in Switzerland has hitherto led to major shifts out of mediumerm deposits into shorterm customer deposits. This year, the banks have therefore been counting on the increased volume of deposits to counteract the resulting margin pressure. Following a further improvement in net commission income and still strict cost controls, most Swiss banks can be expected to report favorable results for the 1989 financial year.

World Economy: Waning Cyclical and Inflationary Momentum

During recent months, economic growth in the Western industrialized nations showed some first signs of decelerating. Generally speaking, foreign demand and capital spending continued to generate the strongest impetus. In the USA, a slight improvement in consumer sentiment also played a key role in fueling economic growth.

The ongoing high level of capacity utilization, recent rises in commodity and oil prices and the interest rate uptrend resulted in a sharp price escalation. During the 2nd quarter of 1989, inflation in the OECD area exceeded 5% for the first time since the end of 1984. This spurt in inflation was mainly due to the more expansive monetary policies introduced following the stock market crash two years ago. Since the autumn of 1988, however, most central banks have been adopting a significantly tighter policy which has paved the way for a more stable economic trend and less pronounced inflation. The success of this monetary restraint will only become fully evident in 1990 in most countries. Despite a slight easing in the 2nd quarter, the Fed will continue pursuing a restrictive monetary course until near the end of the year.

No Significant Interest Rate Cuts Anticipated

Money market rates in the USA can be expected to firm temporarily, but another slight downswing will probably materialize during the 4th quarter of 1989 after the economy has cooled somewhat. Still high inflation expectations will prevent a major decline in capital market rates. In Europe, interest rates will persist at a high level until the end of 1989, while Japanese rates will most likely undergo a further upturn by the end of the year. On the capital markets, lower yields will only materialize when inflation is successfully under control.

Dollar: Change of Fortune?

During recent months, the foreign exchange markets were characterized by a renewed dollar rally. The dollar's upswing can be expected to dwindle in the near future owing to the narrower U.S. interest differential. The anticipated easing of the Fed's monetary policy near the end of the year will tarnish the attractiveness of dollar investments. Therefore, along with America's structural problems, the dollar can be expected to lose value as the yearnd approaches. Despite the D-Mark's rebound within the EMS, there is little likelihood of a realignment before the end of 1990. The Swiss franc has overcome its lapse against the West German currency and, owing to Switzerland's narrower interest differential, can be expected to fluctuate around its present level over the coming months.

Still Favorable Growth Prospects

The industrialized nations are near to achieving nonnflationary growth impetus without a simultaneous sharp loss in cyclical momentum at the same time. Whereas this year's projected real GDP growth in excess of 3% can be expected to fuel inflation somewhat, it is envisaged that the anticipated slower 2.5% rate of expansion in 1990 can be maintained over the longer term without fanning inflation. Next year, the biggest slowdowns in economic momentum will be evident in the countries with the highest inflation rates. If the anticipated stabilization of oil prices materializes in 1990 amid slightly lower commodity prices and a drop in surplus demand, inflation can be expected to tend downwards on a global scale.

Stock Market

To Take or Not to Take Profits?

The surprisingly favorable stock market trend during the first five months of this year did not automatically trigger a counterreaction. On the contrary, the promising outlook persuaded us to expand the equity portions of our securities portfolios. But after further strong rallies on the major stock markets, we are now faced with the dilemma of whether to realize capital gains or to expand equity holdings. Profitaking should only be considered on a selective basis, however, as we still regard the environment for stocks and bonds as favorable over the long term. Furthermore, interest rates are likely to display greater upward momentum than was originally expected. This means that bond portfolios ought to be slightly trimmed in favor of money market investments. But the interest rate situation should not be dramatized. Inflation rates appear to be stabilizing in most industrialized nations or are even decelerating, so that a cooler economic trend is materializing. The risk factors cannot be discounted, however, since unexpected political or economic shocks can never be ruled out. Therefore, a situation is crystallizing where it is important in the interest of optimum performance to emphasize portfolio diversification.

The international stock market's excellent performance resulted in an automatic portfolio shift towards larger equity portions and, in turn, to greater risk exposure. In portfolios where benchmark limits have been reached, investors are recommended in some cases to take profits and raise their quota of fixedncome securities; an interesting pick would be the money market sector, where UBS has added ECU and Yen to its range of Money Market Special Funds (the first two being Dollar and Sterling). Conversely, the favorable estimates of equity performance would justify expanding holdings which have not yet reached their peak as far as risk potential is concerned. In order to benefit from the generally positive stock market outlook, investors are also advised to monitor the diversification of portfolio segments. For instance, in Switzerland, banks, insurance companies and the machinery industry should be increasingly in the spotlight, but the utilities, transportation and retail trade sectors appear to have the least potential for the time being. In West Germany, we recommend that the machine construction, steel, trade, communications and transportation sectors command the most investor interest, while the auto industry should be underweighted in securities portfolios. And in the USA, financials, pharmaceuticals and capital goods stocks appear to be the most attractive; conversely, it would be advisable to neglect the technology sector at the present time.

Money and Capital Markets

Delayed Interest Rate Downtrend

The widespread hopes last summer that interest rates would soon decline were disappointed in September. In fact, on most major financial markets, a slight interest rate uptrend materialized that only entered a consolidation phase towards the end of the month. To some extent, the USA represented an exception, since more optimistic initial expectations proved to be effective in slightly depressing interest rates for all categories of Treasury paper, although the yield level rose slightly once again during the second half of September. This diverging trend partly reflects exchange rate influences, since the chiefly firm dollar, which only lost ground immediately prior to monthnd, was not only the target of central bank intervention action but also required special interest rate measures to contain its upswing.

Renewed Tightening of U.S. Monetary Policy

Although the latest increases in producer and consumer prices are relatively mild, the intermediate and longererm threat of inflation has not yet been banished. In particular, inflation adjusted for energy and food price increases is showing no signs of waning. At the same time, production capacities are still heavily utilized due to the only slow deceleration in real economic growth; as a result, the cost spiral has remained within limits. The Fed has geared its monetary policy to take this situation into account and maintained federal funds rates at at a stable level of just under 9% despite the periodic dips in market rates. Consequently, the market's optimistic expectations of a sustained interest rate downtrend have again been frustrated.

In Europe, interest rates displayed a slightly firmer undertone in the wake of the generally favorable economic trend and the dollar's firm posture. Even after the interventionelated setback for the dollar, interest rates only entered a consolidation phase without actually tending downwards. A special feature of the interest rate uptrend was that it was mainly restricted to shorterm investments, with capital market rates only being affected around the edges. In West Germany, dayoay money almost reached the level of lombard rates, which raised expectations of another round of key interest rate increases, possibly throughout Europe. In Japan, too, the interest rate spiral on the money market continued its steady escalation. During the first half of the month, yields on federal government issues surged by a 1/4 percentage point before moving into a zigzag pattern and finally dipping sharply in response to the yen's rebound. Strained Swissranc Money and Capital Markets

In September, interest rates on the Swiss financial markets rose once again. Aside from the effects of currency movements and the need to align itself with international trends, Switzerland's latest interest rate increase was mainly due to the ongoing restrictive monetary policy pursued by the Swiss National Bank (SNB). Despite the sustained growth of bank balance sheet totals, their clearing balances at the SNB persisted at the low level of Fr. 3.2 billion in September. The resulting high refinancing requirements of financial institutes via the markets led to a 1/4% upturn in Eurofranc rates to 7 1/2%. This, in turn, affected time deposit rates which, in the case of UBS, were raised in two stages; longererm maturities, in particular, were subject to significant increases.

As this high-interest policy will continue for longer than was originally expected, capital market rates were subject to a renewed upward revision. The average yield on Swiss federal government bonds has been creeping upwards since the end of August and, at 5.40%, exceeded its previous annual high recorded in the final week of May. On the primary market, sluggish subscriptions and lower opening prices rendered it necessary for coupons on the batch of new cantonal and cantonal bank offerings to be raised to 5 3/4%. The Swiss Confederation also hand no other choice but to offer interest of 5 1/2% on its latest new issue floated at the beginning of October. Against this background, the rates offered on mediumerm notes by the banks no longer conformed to market conditions and also had to be revised upwards. Therefore, since September 13, UBS has been paying interest of 6% on 3 to 5ear notes and 5 3/4% on 6 to 8-year notes. This represents a 3/4% improvement for 5ear paper and a 1/2% increase for all other maturities.

Whereas issuing volume on the domestic capital market was relatively high at Fr. 1.1 billion in September, underwriting business in the market sector for Swissranc foreign issues was sluggish. Investor interest again focused primarily on floating rate notes, especially convertible and warrant issues by Japanese companies.

Precious Metals

Dependent on External Factors

During the first half of the month, preciousetal prices reflecting the stability of the dollar remained largely unchanged at a depressed level, having been propelled there by the dollar's rally during the summer. The yellow metal varied within a narrow range around the $ 360-per-ounce level, while the more volatile silver price fluctuated around $ 5.10-per-ounce mark. The temporary high achieved by the dollar sent both gold and silver tumbling to a temporary new low for the year.

Owing to the dollar's lapse, precious metals prices staged a recovery after mideptember. The pace of the rebound was accelerated by the squaring of short positions. Sales by producers, especially on the gold market, undercut the rally, however. Moreover, the high interest rate level and the milder inflation anxiety due to the restrictive monetary policies being pursued by the major industrialized nations prevented precious metals prices from skyrocketing. Gold prices in Swiss francs even eased somewhat.

On September 29, gold closed at $ 366.50 per ounce, silver at $ 5.23 per ounce and platinum at $ 493.50 per ounce.

Foreign Exchange Market

Central Banks Check Dollar Flight

In September, there was again less anxiety that the U.S. economy was heading for a rough landing. This gradual trend reversal along with expectations that the Fed would be most likely to tighten its monetary policy helped drive up the U.S. dollar to its highest level since mid-June. Concerted central bank intervention was unable, initially, to exercise any real restraint over the dollar. But when the finance ministers and central bank governors of the seven major industrialized nations (G) adopted a surprisingly stern posture during the IMF annual meeting and condemned the dollar's rally as being inconsistent with the longerange economic fundamentals, the U.S. currency sustained swift and substantial losses. The dollar's nosedive was accelerated by largecale intervention on the part of the central banks.

Dollar Battered by Intervention

Exchange rate trend $/Fr.: 1.6980 (Sept. 1), 1.7265 (11th), 1.6895 (14th), 1.7305 (15th) and 1.6235 (29th). Speculation that interest cuts were no longer necessary to boost the economy following unexpectedly positive U.S. employment data for August triggered a dollar flight in the first ten days of September. The roughly twelve central banks acting in concert were only able to restrain the dollar temporarily. The nonaterialization of interest rate increases in Europe and Japan further fueled its momentum. A sharp upsurge followed in the wake of the news that the U.S. trade gap had narrowed significantly in July. But the real dollar turnaround only occurred when the G nations issued a communiqué after their Washington summit stating that any further dollar gains would have a negative impact on the global economy and were therefore undesirable. Coupled with intensified intervention, this criticism resulted in a significant dollar setback.

D-Mark Cross Rates Firmer

Exchange rate trend $/DM: 1.9689 (Sept.1), 2.0035 (15th) and 1.8715 (29th). DM/Fr.: 86.28 (Sept.1) and 86.70 (29th). In view of the strong economic impetus in West Germany, renewed spurt in money supply growth and dollar euphoria, many investors anticipated an increase in key interest rates by the West German Bundesbank. As this failed to materialize, the D-Mark lapsed temporarily against the surging dollar. But West Germany's favorable fundamentals led to a general advance visis other major currencies.

Downward Drift by Sterling

Exchange rate trend £/$: 1.5670 (Sept. 1), 1.5350 (11th) and 1.6170 (29th). Owing to its still significant interest rate advantage, sterling fared generally well initially during dollar downswings. But it lost ground prior to monthnd when a massive British current account deficit of £ 2 billion was reported for August.

Prices in Switzerland

Stable Annual Inflation Rate

In August, the Swiss index of consumer prices rose by 0.3% to 115.3 points (December 1982: 100). Prices escalated in the education and recreation (+3.4%), heating and lighting (+1.4%) and beverages and tobacco (+1%) categories. These increases were fueled by higher prices for package tours, heating oil, retail products and restaurant services. A monthoonth price decline was registered by the foodstuffs (-1.3%) and transportation (-0.3%) index categories. On a year-to-year basis, the costfiving increase in August amounted to 3% and therefore conformed with the trend over the preceding three months. At the same time, prices for domestic goods went up by 2.9%, while imported merchandise appreciated by 3.1%. A somewhat higher annual inflation rate is projected for September.

The wholesale price index rose in August by 0.2% to 180.4 points (1963=100). Once again, imported products especially energy were mainly responsible for the upturn. Over the past twelve months, wholesale prices have advanced by 4.5%.