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Market Economics | Interest Rate Strategy | Forex Strategy 16 December 2010

We wish all our readers Happy Holidays
Market Mover and a Happy New Year.
The next edition of Market Mover will be published on 6 January 2011

Market Outlook 2-3
„ Bond markets are desperately seeking support. Any
Fundamentals 4-30
rebound continues to prove short-lived and the market
„ Global: Fire and Ice 4-5
action shows little sign of a lasting reversal before the
„ US FOMC: Pricing Out Japan 6-7
turn of the year.
„ US: A Curious Case of Consumer 8-10
„ The market is oversold. Although better-than-expected
„ ECB: Room at the Top 11-15
economic data have been fuelling the sharp sell-off, poor
„ UK: HMS QE2 Sunk Before It Was 16-17
year-end liquidity conditions have been a key factor
exacerbating the move.
„ SNB: Governing Two Economies 18
„ Sweden: Further Tightening 19-20 „ The lows in yields are behind us. We have updated our
„ Norway: Hawkish Tone 21-22 forecasts to take into account recent moves and the
„ Turkey: Reserving Judgement 23-25 reduction in downside risks to growth as well as upward
„ Japan: Tankan Points to Soft Patch 26-28 surprises in inflation in several developed economies.
„ Japan: Marking Up 2010 Growth 29-30
„ As real money flows return, we expect yields to
Interest Rate Strategy 31-59 decline at the start of 2011, before resuming their rise
„ Bonds: Forecast Update 31-32
later in the year.
„ USD Rates Outlook in Q1 33-36 „ Curves remain mostly directional as do US/EUR
„ US: Ideal Timing for LT Bullish 37 spreads which have widened in the recent sell-off.
„ US: OIS Firm, Libor Under Pressure 38-39 „ JGBs continue to partly resist the sell-off in
„ MBS: 2011 Outlook – Status Quo 40-42 Treasuries. We expect the belly of the curve to
„ EUR: Flattening Trend Will Resume 43 underperform in the near term.
„ EUR: Excess Liquidity to Decline 44
Next Week
„ Sterling remains extremely vulnerable. We expect
„ EUR: Euribor Red/Greens 45
GBPUSD to target the 1.5300/1.5200 area.
„ EUR: 2011 EGB Issuance Preview 46-47
„ USDJPY has not (yet) reacted to the sharp move of the
US curve. A rally is likely if US data remain on the strong
„ Gilts: Strategic Trades for 2011 48
„ JGBs: Watch the Corporate Sector 49
„ Global Inflation Watch 50-53 „ We expect EURUSD to resume its downtrend going
„ Inflation: Post Mortem 2010 54-56 into 2011.
„ Technical Analysis 57-58
„ IR Strategy: Track Record for 2010 59
FX Strategy 60-65 Market Views
„ Looking for Value in the North 60-62
Current 1 Week 1 Month
„ Technical Strategy: USD Rebound 63-64
Tests Resistance UST 10y T-note Yield (%) 3.52 ↔ ↓
„ Trading Positions 65 2y/10y Spread (bp) 285 ↔ ↓
Forecasts & Calendars 66-80
„ 2 Week Economic Calendar 66-67
EGB 10y Bund Yield (%) 3.06 ↔ ↓
„ Key Data Preview 68-74
2y/10y Spread (bp) 199 ↔ ↓
„ 4 Week Calendar 75 JGB 10y JGB Yield (%) 1.28 ↔ ↔
„ Treasury & SAS Issuance 2y/10y Spread (bp) 105 ↔ ↔
„ Central Bank Watch 78
„ Economic & Interest Rate Forecasts 79
Forex EUR/USD 1.3218 ↓ ↓
„ FX Forecasts 80
USD/JPY 84.30 ↑ ↑
Contacts 81 IMPORTANT NOTICE. Please refer to important disclosures found at the end of
this report. Some sections of this report have been written by our strategy teams
(shown in blue). Such reports do not purport to be an exhaustive analysis and may
be subject to conflicts of interest resulting from their interaction with sales and trading which could affect the objectivity of this report.

Market Outlook
Further capitulation by Analysing the bond market sell-off has not been an easy exercise and, going
bond markets into the year-end, it remains unclear whether we have seen a fundamental
shift or an overdone correction – the reality probably lying in between. As
discussed in last week’s Market Mover, the recent sharp sell-off reflects a
mix of bad positioning, central bank and political news (US fiscal deal),
better economic data (except US payrolls) and year-end market conditions.
The difficulty lies in attaching weights to these different factors but, so far,
the QE2 sell-off looks similar to the QE1 sell-off seen in the spring of 2009.
The recent market action and the risk that upcoming data will continue to
surprise to the upside indicate that the lows in yields are behind us (see our
updated forecasts in the “Forecasts & Calendars” section). However,
although it may remain tough to fight the reflation trade going into 2011, the
big picture still favours a low-yield environment. The economic picture does
not look as bad as it did six months ago but the US output gap continues to
be unusually wide, final demand growth has been lacklustre and the
economic recovery faces substantial headwinds. In addition, underlying
inflation is very weak and will remain so for some time – the trough on core
inflation is still to come. Against this backdrop, policy rates will remain
exceptionally low in 2011 with QE2 targeting a rise in inflation expectations.

Both Real and Nominal Yields Should Drop in Q1
RY co re
3 .0 5 .5
3 .0 C ore , 6m th a hea d
C o re C P I, L H S

2 .5 5 .0
2 .5
4 .5
2 .0
U S 1 0y N o m in a l
2 .0
4 .0
1 .5
3 .5
1 .5
1 .0
3 .0
1 .0
0 .5 1 0y R e al Y ie ld
2 .5

0 .5 0 .0 2 .0

-0 .5 1 .5
0 .0
Ja n-0 3 J a n-0 5 J an-0 7 J an-0 9 Ja n-11

Source: BNP Paribas

The different measures of inflation expectations indicate that there has not
(yet) been a fundamental shift in expectations. The US 5y5y forward
breakeven has been rising over the past couple of months while the EUR
one has fallen but both remain in the ‘neutral’ zone. The flat(er) 10/30y
spreads in both the US and Europe also support this view.
Risk appetite remains solid Risk appetite remains solid and is still supported by ample global liquidity
conditions. Some recent data suggest that investment funds have been
switching their allocation from bonds to stocks. But, despite the collapse of
the bond market, there has been no acceleration of the bullish momentum in
equities. This highlights that, beyond some asset switches, the bond market
sell-off has, so far, more to do with wrong positioning − the latest surveys
suggest that the market may have to sell off more before reaching a turning
point. This probably also indicates concerns about possible political
decisions, rising inflation pressures in the emerging world as well as a
decoupling between the main western equity indices and the domestic
economy (household confidence) which is unlikely to last.
Looking for signs of a Overall, judging from the very poor liquidity in the bond market, year-end
stabilisation on Treasuries pressures to cut balance sheets appear to be a significant factor
exacerbating the recent move on Treasuries. The move so far has been
primarily cash driven but, over the past couple of sessions, the attendant

Cyril Beuzit 16 December 2010
Market Mover 2

swap spread widening indicates that convexity hedging flows have also
Early 2011 buying played a role. Peak mortgage negative convexity is in the 3.25 to 3.50%
opportunities range, which suggests that we may have seen most of the adjustment. From
this point onward, convexity flows should become a more modest force. With
mortgages finding support, the Treasury market should also become less
volatile, which should mark the beginning of the end to this sell-off.
Both the 2y and the 5y parts of the curve have cheapened on a forward
basis to levels close to the top end of their ranges of the past two years. For
instance, the 5y5y rate is around 5.28% within 20bp of the top since end-
2008. Therefore, the belly of the curve will offer a buying opportunity… but
probably not before the year-end.
In Europe the focus will remain on peripheral markets in coming weeks with
Renewed stress on EMU a big question mark about demand for early 2011 auctions (see “EUR: 2011
peripherals EGB Issuance Preview”). Spreads remain off their November highs but
renewed tensions look likely with Moody’s putting Spain’s rating on review
for a possible downgrade. It is unclear exactly how much progress will be
made towards deciding on a permanent rescue framework at the EU Heads
of State Summit given the extent of the divergence in views among the
individual EU members.
We remain neutral on EGBs going into 2011. Regarding the curve,
directionality is less significant on rebounds, as the short end has some
potential to rally at current levels of yields and the long end is still under
pressure in line with the Treasury market. This leads us to see the near-term
bias for the curve as neutral to slightly steeper − receiving the 2-10y will be
one of our key strategic trades for 2011.
JGBs are still The JGB market continues to follow the global bear trend in bond prices,
outperforming in the with the 10y yield now just below the psychologically important 1.3% level.
Correction pressures appear to have abated slightly, however, with many
sell-off investors prepared to buy into weakness at current levels. The super-long
sector has moved back into its historical range and the 10y sector has also
experienced a significant sell-off. Much is now likely to depend on the extent
to which yields rise for the short- to medium-term JGBs that constitute the
core of banks' bond portfolios.
The BoJ Monetary Policy Board will meet on Monday and Tuesday (20-21
December), but is not expected to announce any new measures. Monetary
policy still looks likely to remain highly accommodative for quite some time to
come and JGB market participants will therefore be focusing most of their
attention on rising stock prices (fuelled by an improvement in economic
sentiment) and the move in overseas rate markets.
Sterling is now in an extremely vulnerable position as the negative mix of
GBP is at risk higher inflation and slower growth dynamics in the UK economy leave the
BoE in a difficult position. Indeed, the sharp spike higher in the BoE’s
Inflation Expectations Survey is a particular concern suggesting that sterling
is now set to come under increasing pressure. We see GBPUSD as at
significant risk as the US continues to produce positive data surprises which,
together with the rise in yields, is providing the USD significant support. We
expect GBPUSD to target the 1.5300/1.5200 area.
However, it is interesting to note that USDJPY, which is traditionally the
USDJPY to push higher currency pair most closely correlated with the US yield curve, has remained
in a range over the past couple of weeks despite the sharp rise in yields.
This seems to be the result of Japanese investors’ continued hedging of
their bond portfolios. However, if US data remain strong, this could be
enough to encourage investors to unwind their hedges, triggering a sharp
move higher in USDJPY.
EURUSD to resume its The EUR is also expected to remain weak as the latest data provide further
downward trend evidence of increasing economic divergence within the eurozone. We expect
EURUSD to extend the major down trend into the end of the year and
through the first half of 2011 with the USD set to embark on a broad-based
Cyril Beuzit 16 December 2010
Market Mover 3

Global: Fire and Ice
requirements and credit restrictions), perhaps fearing
„ Some say the world will end in fire, some the currency implications of rate increases. Specific
say in ice. experiences vary from country to country, but the
„ The pendulum is swinging between these broader theme seems the same across emerging
two extremes. markets, from Turkey to China, including Brazil.

„ Market attention may shift from fears that How will it play out? Our take: global liquidity remains
things are getting too cold in developed abundant, with policies accommodative in the
economies… developed world. Capital flows to emerging markets
remain strong. Pressures for FX appreciation in EM
„ …to worries that things are getting too hot
persist. But EM policymakers are resisting these FX
in emerging markets.
pressures, and many EM central banks are falling
„ The problem is that policy stimulus in behind the curve. Policies remain too loose for too
developed economies is fuelling overheating in long. Inflation pressures are building across EM. The
emerging markets, which are resisting FX question is how policymakers will ultimately respond.
In all, market attention may well swing from fears that
things could get too cold in developed economies to
To quote from a poem by Robert Frost, “Some say worries that things are getting too hot in emerging
the world will end in fire, Some say in ice.” Earlier in markets. No one wants a repeat of the great
the year, observers feared that things might get too depression of the 1930s. But the inflationary 1970s
cold in developed economies. But as double-dip were not that great either.
fears fade, attention may shift to concerns that
emerging markets are getting too hot. Ultra-loose Hell is other people
policies in developed economies are fuelling capital At the heart of this ice-and-fire global policy dilemma
flows into emerging markets. But as EM are the tensions between what is seen as best for
policymakers are resisting FX appreciation, inflation developed economies at the current stage of the
pressures will intensify if central banks fall behind the global business cycle and what is seen as best for
curve and let their economies overheat. In all, are we emerging markets – especially when countries fail to
moving from concerns of recession ice in developed fully consider the global implications of their
economies to worries of inflation fire in emerging individual choices. In that context, each country
markets? thinks it is pursuing its own best interests, oblivious
to international spillovers. Hell is others.
Hot and cold
The cold front from the North seems mostly behind The US judges it is doing what is best for the US
us now. Earlier in the year, many feared a double dip economy (QE). If others (such as China) don't let
in growth performance, particularly in the US. their currencies appreciate against the USD, that is
However, in part on the heels of further policy their problem. For the US, the problem is lack of FX
accommodation in developed economies, global flexibility in EM. My currency, your problem. Hell is
growth seems to be finding a better footing. Double- emerging markets.
dip fears have faded, notwithstanding concerns
about sovereign risk in some eurozone economies. By contrast, EM policymakers judge they should not
just allow ultra-loose monetary conditions in
But the Fed's monetary easing is affecting markets developed economies to fuel bubbles in their
well beyond the US. Along with a weaker USD and markets. Emerging market countries do not want FX
rising commodity prices, capital flows to emerging to appreciate beyond what they judge is consistent
markets (EM) have intensified. The resulting with fundamentals. They cannot – and will not – allow
currency appreciation across emerging markets has their policies to be dictated by Washington DC. Hell
prompted policymakers to introduce measures to is the US.
cool these inflows, and to tighten monetary policy by
less than domestic demand considerations in EM As often in economic debates, there is some truth on
alone would dictate. In many cases, EM both sides. The US is right: it is harder and more
policymakers are increasingly resorting to measures painful to engineer global rebalancing if EM
other than outright rate hikes (such as higher reserve policymakers resist FX adjustment. But EMs are also

Marcelo Carvalho 16 December 2010
Market Mover 4

In a nutshell. All is much more painful – and probably more claim that hell is other people.right: it is hard to rely on the USD as a reliable Conclusion reserve currency for the international monetary Market attention may well start to swing from one system when the cornerstone country is pursuing extreme to the other – from concerns of recession ice domestic policies which are not optimal for others. The problem with the inflation route is that it policymakers are resisting currency appreciation.GlobalMarkets. can EM policymakers deliver stability without a credible and steady US policy anchor as the centre of the international monetary system? What happens if things fall apart and the centre cannot hold? Marcelo Carvalho 16 December 2010 Market Mover 5 www. .bnpparibas. then via higher overheating in emerging markets while EM inflation. in developed economies to worries of inflation fire in emerging markets. At the heart of the matter: policy Real FX adjustments tend to prevail in the long run – stimulus in the developed world is fuelling if not via nominal appreciation.

Chart 2: Retail Sales Firm. The rise is helping to and the market is reacting accordingly. However.GlobalMarkets. we our forecast to 2. output and employment continues to be slow". We think consumer meeting confirmed that the "pace of the recovery in spending and jobs are likely to meet in the middle. the recent data will prove to be a fleeting firm patch FOMC said that information received since the last unless we see hiring pick up. when the recovery looked to be on a moderate but reasonably steady track. Nonetheless. household net worth on track. November retail sales Higher rates threaten the recovery in an already- represented yet another data point suggesting we will fragile housing market and higher headline inflation get a solid gain in GDP in Q4. seem to have left the Japanese scenario behind for now. We have revised up will erode some of the stimulus. forecasts of significantly above-trend growth and fears of Source: Reuters EcoWin Pro inflation being built into longer-term rates are probably overdone.US FOMC: Pricing Out Japan Chart 1: Rates Rising Rapidly „ Bold moves by US policymakers have led investors to price out the Japan scenario. The FOMC made only minor changes to its policy statement and stayed the course on QE2. The Fed chose a conservative statement. This offset house price declines and keep the recovery in enthusiasm from investors is not without its risks. Meanwhile. US policymakers have shown a remarkable commitment to stimulate the US economy. But we have yet to see good follow-through to job There were very few changes to the December growth. something the FOMC emphasised in its FOMC statement. it indicated that information received moderate gains (rather than accelerating) and the since the last meeting confirms that the "recovery is jobs picture improving gradually. though at a rate that has been insufficient volatility in rates markets owes to technical factors. „ That said. Consumers have maintained a saving interpretation of recent data following the recent rate just under 6% throughout the recovery.6% q/q more than 3% since the November FOMC meeting They will prevent a Japanese scenario at all costs and nearly 11% for the year. „ The FOMC confirmed its resolve by interpreting incoming data conservatively and signalling its commitment to QE2 in the December FOMC statement. Need Follow- Through to Jobs Interest rates continued their steady march higher after the December FOMC meeting as markets continued to price out any possibility the US could get stuck in a Japanese-style scenario. suggesting that higher rates are here to stay. to bring down unemployment”. In the with consumer spending growth continuing to post latest statement. With the strong patch in spending yet to show reliable follow-through to job creation. equities are up the message from US policymakers has been clear. The 10- year Treasury is up more than 100 basis points since the announcement of QE2 (see Chart 1).com . The data flow on balance has been encouraging. Source: Reuters EcoWin Pro that only puts it back at the levels seen in April. In November. While some of the continuing. Julia Coronado 16 December 2010 Market Mover 6 www. Thus the back-up in the unemployment rate. incoming data suggests some they are getting some traction. we think the FOMC is correct in being cautious about incoming data.

Having previously said that measures of underlying One encouraging sign on the jobs front came from inflation have trended lower in recent quarters. gains in consumer spending have not come at the expense of a lower The pricing out of Japan likely means that higher saving rate. more entrenched dynamic. we think the spending growth will likely be dependent on forecasts of significantly above-trend growth and continued improvement in the labour market. Thus a send a signal of steady policy. and it is.Other changes were also modest. Therefore any acceleration in consumer rates are here to stay. This broader reference job creation has yet to come forward. this time it said the housing sector job growth early in prior recoveries. As shown in Chart 2. This perhaps suggests a slightly planning to hire. rising and downside risks are diminishing. There were few to no However. Julia Coronado 16 December 2010 Market Mover 7 www.8% after an upward-revised 1. We fears of inflation being built into longer-term Treasury expect that to be forthcoming but gradual. construction and finance that fuelled depressed. includes the decline in prices we have seen of late. the Fed remains cautious and sought to another sector weighing on the recovery. this the NFIB survey of small businesses for November. While the Fed economy lacks the cyclical turbo boosters of previously noted that housing starts continue to be .GlobalMarkets. This may sound small. However. The US rates are probably overdone.7% increase in October. it is up from the record low of -10% changes in the policy paragraphs and the parameters reached in March 2009 and has been rising steadily of the QE2 programme are virtually time it said that these measures “have continued to This reported that a net 4% of small companies are trend downward”. Small businesses have been expected. another engine of continues to be depressed. As in recent months. 0. move into positive territory confirms that the economy is making headway in its healing process Retail sales posted a solid gain in November.

US: A Curious Case of Consumer Deleveraging

Chart 1: Net Worth Rose in Q3
„ The Q3 Flow of Funds Accounts indicate a
pick-up in household net worth. This was driven
by capital gains on equity, partially offset by
losses in real estate wealth on the back of
house price declines. Also boosting net worth
were continued declines in both consumer
credit and net mortgage borrowing.
„ The recent pick-up in retail spending has
been supported by gradual improvement in the
labour market. However, consumer deleveraging
still represents a speed limit.
„ Three main factors appear to have
Source: Reuters EcoWin Pro
contributed to ongoing declines in revolving
credit: households continue to default on their Chart 2: Real Estate Values Declined in Q3
obligations; they are paying off a larger share of
their balances each month; and they are
financing less of their new spending with credit.

Household net worth rose in Q3 as capital gains
on equity holdings were partially offset by
declines in real estate values
The Flow of Funds Accounts for Q3 released last
week indicated that household net worth rose by
USD 1.19trn to USD 54.9trn last quarter, driven
Source: Reuters EcoWin Pro
mainly by capital gains on equity holdings. Broad
equity indices rebounded by 11.1% in Q3 after falling Chart 3: Debt Ratios Continued to Fall
11.4% in Q2 and have advanced roughly 8.5% since
then. This suggests net worth will likely continue
increasing in Q4.

As shown in Chart 1, net worth as a percentage of
disposable income in Q3 – while up from the trough
reached in Q1 2009 – was still below its level at the
end of 2009. Real estate values declined
substantially as the expiration of the tax credit
incentive pushed house prices down in Q3. Much of
the gain in equity prices has thus been offset by
falling home prices in a process that will likely persist
in Q4 (Chart 2).
Source: Reuters EcoWin Pro

Measures of consumer financial stress have tenant-occupied property, homeowners' insurance
painted different pictures and property tax payments, has dropped to levels
The US has not experienced a deleveraging cycle last seen in 2000. Meanwhile, the ratio of total
since the Great Depression. However, it is household debt to annual disposable personal
sometimes difficult to calibrate when households will income remained at 1.22 in Q3, not far below its
reach a new equilibrium and be ready to borrow peak of 1.35 at the beginning of the latest recession.
again in the aggregate. The Federal Reserve’s Both measures suggest consumers have improved
financial obligation ratio (FOR), which includes their balance sheets, albeit to dramatically different
automobile lease payments, rental payments on degrees (Chart 3). The FOR probably overstates the

Yelena Shulyatyeva 16 December 2010
Market Mover 8

progress consumers have made as it assumes Chart 4: Revolving Credit Continues to Decline
consumers can refinance all their debt at current low
rates. We know this is not the case, owing to tight
credit and underwater mortgages. But as some
people have been able to take advantage of low
rates to reduce their debt burdens, the true picture
probably lies somewhere between the two measures.

Consumer credit continues to decline…
Incoming data on consumer borrowing suggest
consumers are not yet content, however, as
borrowing continues to contract. Private sector
deleveraging continued at a rapid pace in Q3. In
particular, household borrowing contracted 1.7% in
Source: Reuters EcoWin Pro
Q3 following a 2.2% decline in Q2. Mortgage
borrowing fell by 2.5% after a drop of 2.3%. Chart 5: Charge-Off Rates Remain Elevated
Consumer credit contracted 1.5% in Q3 after falling
3.3% in Q2.

In October, consumers continued to deleverage.
Non-revolving credit growth has picked up lately,
supported by increases in student loans. People
continue to enter university to ride out the difficult
labour market recovery. Spending on autos has also
risen of late, probably accounting for some of the
pick-up. However, revolving credit, which tracks
credit card debt, continued to decline in October; it
dropped by USD 5.6bn (Chart 4).

...even as retail sales improve Source: Reuters EcoWin Pro

Retail sales posted a solid gain in November, rising Chart 6: Pay Down Rates Pick Up
0.8% after an upward-revised 1.7% increase in
October. In addition, consumer confidence, while still
at recessionary levels, has improved of late. The
University of Michigan index of buying conditions for
durables surged to the highest level since January
2008. Ongoing deleveraging suggests that high
saving rates still represent a speed limit, with further
acceleration dependent on improving labour market

Three main factors appear to have contributed to
ongoing declines in revolving credit
Consumers continued to reduce their debt, largely by
defaulting on their credit cards. While quarterly Source: Haver Analytics
government data on commercial banks suggest that
charge-off rates on credit cards eased from their all- the beginning in 2007 as economic conditions
time highs reached in Q2, they remain at an elevated worsened, “households began to pay off their card
8.4% of the average loan balance (Chart 5). In fact, debt at a significantly slower pace – a trend that
since the economy plunged into recession in 2008, extended into 2008 and 2009…the drop in the payoff
around 70% of the decline in consumer credit has rate has been more pronounced than in the
been caused by consumer defaults. recessions of 1990-91 and 2000-01” (Chart 6). More
recently, however, this trend has reversed. As of
At the recent Philadelphia Payment Cards Center September 2010, the repayment rate had risen to a
Conference, Fed Governor Elizabeth Duke more typical level. According to Governor Duke, “it
suggested that “accelerated payment rates on could also be attributed to a shift in the composition
existing balances do not seem to have contributed of cardholders in bank portfolios toward more
importantly to the drop in credit card debt outstanding creditworthy borrowers as charged-off accounts were
over the past couple of years”. She argued that, at replaced with new accounts underwritten using

Yelena Shulyatyeva 16 December 2010
Market Mover 9

stricter criteria”. Regardless of the cause, consumer Chart 7: Cash-In Refinances Surged This Year
credit is currently being paid down at an aggressive
rate, particularly when one considers that the uptrend
in pay downs between 2003 and 2007 owed in large
part to the substitution of home equity debt for credit
card borrowing. Both home equity and credit card
balances are declining.

Indeed, there has been a recent surge in “cash-in”
refinancing whereby homeowners have been
reducing their principal balances through a
refinancing transaction. This could be the result of
tighter lending standards and declining home values,
with lenders requiring homeowners to reduce their
Source: Reuters EcoWin Pro
loan balances to access lower mortgage rates.
However, it stands in stark contrast to the peak of the Chart 8: Demand for Credit Remains Sluggish
housing bubble in 2006 when “cash-outs” (refinances
resulting in loan amounts that were at least 5%
greater than the amortised unpaid principal balance
of the original loan) accounted for almost 90% of all
refinancing transactions. As the housing bubble burst
and home values dropped, the cash-out ratio
dropped to 18.5% as of Q3 2010 – the lowest level
since Freddie Mac records began in 1985. In
contrast, the proportion of cash-ins surged to 33% in
Q3 (Chart 7).

Some of the deleveraging can be attributed to a
reduction in new borrowing. According to the Federal
Source: Haver Analytics
Reserve Board’s quarterly Senior Loan Officer
Opinion Survey, despite a modest easing in lending Chart 9: Supply Factors Also Limit Credit
standards, demand for consumer loans remains Increases
weak (Chart 8). According to the quarterly report on
household debt and credit from the New York Fed,
the number of inquiries for new consumer credit is
significantly down from its pre-recession levels (Chart
9 – I).

Supply factors have also likely contributed to the
decline in overall credit card outstanding balances.
Households may be charging less because they had
less credit available. Indeed, the same survey shows
a significant decline in credit card limits since the
peak in mid-2008 (Chart 9 – II).

The relationship between consumers and credit is Source: Reuters EcoWin Pro
undergoing a fundamental change. While a solid
holiday shopping season should help keep the
recovery on track, there are no indications that credit
will soon become the accelerator it once was.

Yelena Shulyatyeva 16 December 2010
Market Mover 10

ECB: Room at the Top
Table 1: Executive Board Members
„ The ECB will have a new president from the
beginning of November 2011.
Name Nationality Term Ends
„ As the process of choosing a new president J-C Trichet France President 31/10/2011
is lengthy, speculation over who it will be could V Constancio Portugal V/President 31/05/2018
continue for some time yet. G Tumpel-Gugerell Austria Member 31/05/2011
J-M Gonzales-Paramo Spain Member 31/05/2012
„ A German president remains the most likely
L Bini-Smaghi Italy Member 31/05/2013
outcome, with Axel Weber the front runner. But
J Stark Germany Member 31/05/2014
alternative candidates are also in the frame. Source: ECB
„ Uncertainty over the change of leadership,
plus increased divergence within the eurozone, Table 2: Timetable for Naming the New ECB
implies a more uncertain policy outlook. President
Steps Likely timing
Heads of State discussions May-June 2011
The structure European Council official approval of
Candidate June-July 2011
The Governing Council of the ECB is made up of six
Executive Board members and the heads of each of ECB expresses opinion July 2011
the national central banks (NCBs) in the eurozone. Monetary & Economic Affairs Commission
The number of NCBs currently stands at 16 but will of EU Parliament hears the candidate September 2011
expand to 17 from the start of 2011 when Estonia EU Parliament expresses opinion September 2011
joins the eurozone. European Council formal nomination September 2011
New ECB President takes up duties 1 November 2011
The six members of the Executive Board of the ECB
serve a non-renewable eight-year term. They can be Source: BNP Paribas

removed only in the case of incapacity or serious
misconduct. The names of the current members are Table 3: Governing Council Membership
in Table 1, along with the expiry dates for their terms.

Jean-Claude Trichet’s eight-year term as president of Total Number of % of % of
the ECB will expire on 31 October 2011. Choosing Country NCB Head GC Members Members Capital Key
his replacement may be a lengthy process (Table 2). Germany A Weber 2 9.1 27.1
Who will get the job, when we will find out and what France C Noyer 2 9.1 20.4
this means for future policy are obviously a source of Italy M Draghi 2 9.1 17.9
Spain MF Ordoñez 2 9.1 11.9
considerable interest for markets.
Netherlands N Wellink 1 4.5 5.7
Belgium G Quaden 1 4.5 3.5
The nomination process Greece G Provopoulos 1 4.5 2.8
According to the ECB statutes, the members of the Austria E Nowotny 2 9.1 2.8
Executive Board should be persons of "recognised Portugal C Costa 2 9.1 2.5
standing and professional experience in monetary Finland E Liikanen 1 4.5 1.8
Ireland P Honohan 1 4.5 1.6
and banking matters" (Article 283 of the EU Treaty,
Slovakia J Makuch 1 4.5 1.0
effective since the ratification of the Lisbon Treaty). Slovenia M Kranjek 1 4.5 0.5
The Executive Board members are chosen by the Luxembourg Y Mersch 1 4.5 0.3
European Council, voting on a qualified majority Cyprus A Orphanides 1 4.5 0.2
basis, on the recommendation of the Council and Malta M Bonello 1 4.5 0.1
after the European Parliament and the Governing Source: ECB, BNP Paribas
Council of the ECB have expressed their opinions.

The timetable for choosing Mr Trichet to be president of July, the ECB had adopted a positive opinion on
of the ECB back in 2003 offers a template for how his nomination. The European Parliament approved
the procedure will evolve this time. Mr Trichet’s term the choice on 23 September, less than two weeks
began in November 2003. The European Council after the EU Commission for Economic and Monetary
officially chose him in mid-July that year. By the end Affairs had heard the candidate.

Dominique Barbet/Ken Wattret 16 December 2010
Market Mover 11

But in practice. an opportunity to Nationality is probably the more important issue. new president centred on the Bundesbank’s current president. They his or her position in setting the agenda and chairing are intended to prevent the voting rights of the largest countries being overly diluted as the monetary union the Governing Council meetings. However. we see four main scenarios for the relevant criteria can be president. and time of their nomination. with the increasing number or June next year. with three groups of Governors. This is because the term of current The system works as follows: Executive Board member Mrs Tumpel-Gugerell will Every Executive Board member always has a voting right. a voting right. The role of ECB president Different rules. The make recommendations to finance ministers about presidency of the ECB has not been held by the other aspects of economic policy. From January next Tumpel-Gugerell but with a high-profile portfolio year. any person from the eurozone who meets At the time of writing. Spain and the Netherlands. The suggestion is that a vote rights on a rotating basis.GlobalMarkets. The frequency of rotation deal could be struck in favour of the ECB president of the first group cannot be lower than that of the second being German as long as a France national fills the group. from the ECB or the European Parliament would not Since January 2009. France. Italy. Only when an 18 country joins EMU will the first group lose the fifth voting right it currently holds. Germany. replacing Mrs rights and the second group only 10. One of the features largest economy. Axel Weber. it is most likely Box 1: ECB Governing Council . is obliged to present and explain the policy decisions of the Governing Council in the press conference that follows the policy-setting meetings (which usually Source: EU Treaty. Dominique Barbet/Ken Wattret 16 December 2010 Market Mover 12 www. will apply The ECB president has just one vote like the other from the day the monetary union reaches 22 member members but has considerably more influence given countries. countries are defined according to two criteria: the size of GDP (with a weighting of 5/6). This is a key part of the job and an important issue for who is chosen – discussed below. These rules are also defined in Article 10. The main five as soon as the EU Summit on 16-17 December. Negative opinions Article 10 of Protocol 4 annexed to the EU Treaty). As a result the first group currently has 5 voting vacancy on the Executive Board. The so- Tumpel-Gugerell may be an indication of the likely called first group is currently composed of Governors from nationality of the new president. the ECB has secured specific seep through to the public domain before this as the voting rules insuring that no more than 21 people take European Council will want to ensure the candidate part in the voting (the voting system is described in the has sufficient support beforehand. the number of eurozone member necessarily block the appointment but would be very states has exceeded 15 and the new set of rules can damaging to the authority of the proposed president apply. so a successor will The Governors of the NCBs in the main five countries have to be nominated soon.Voting Rights that the new president of the ECB will be chosen at the Heads of State and Government meeting in May The principle for voting at the Governing Council is one member. What we know is that both previous presidents were experienced heads of national central banks at the The president also has to deliver a testimony. But it is not a necessity. The probabilities which we the horse-trading between member states over the have attached to each outcome are very fluid given key roles and responsibilities within the eurozone. Having run a central bank is answer questions. Who is in the frame? In He or she will usually attend the meetings of finance ministers of the eurozone. 10 of the 12 members of the second group will have th (such as the responsibility for economic analysis). An earlier indication of who will be the new president is also possible. effective since the ratification of the Lisbon Treaty occur on the first Thursday of each month).On the basis of the 2003 timetable. a year. the political nature of the decision. This could be discussed have at least four permanent voting . which is one reason why of Mr Trichet’s ECB presidency has been less public the initial focus of speculation over who will be the disagreement between the two camps. and the size of the national The nationality of the proposed successor to Mrs financial system (for the remaining 1/6 weighting). come to an end in May next year. Media reports have Germany. stick to the simple one member one vote system as long as the number of member countries remains below 18. the Governing Council can decide to and to the credibility of the ECB. the choice of the new president of the ECB which we choosing a President is a complicated process given discuss in turn below. It is likely that the nomination will of new eurozone members. in the European Parliament twice an obvious advantage. one vote. The ECB president expands its membership. However. suggested that Germany and France will discuss the The second group is composed of the Governors from the choice of the new Executive Board member and the other central banks and they share the remaining 10 or 11 new president in tandem.

experience in senior roles at the Bundesbank and the ECB. Mr Weber has the requisite experience of having running a central Other high-profile German nationals have also been bank. having spoken to the ECB. as Table 3 highlights. which is an issue. a Weber presidency was perceived by leads us to the third scenario… some to be a ‘done deal’. should Mr CEO of the EFSF. the Executive Board can be switched around. Germany feels that. The reservations over Mr Weber have led to Mr Duisenberg was a compromise option. though there is no formal obstacle to this happening. Wim Duisenberg. four years). he has extensive of the EU Council. from a core member state and sufficiently hawkish to placate Scenario 2: Another German (20%) Germany. Another is the There have never been two people from the same practical constraint of his current role at the EFSF. He was a speculation of an alternative outcome… highly experienced central banker. however. His eight-year term does not Wellink. be The initial front runner for the position and a very nominated to be president. central bank. related in part to Mr Weber’s tendency to express a different view to that Contrary to perceptions before the formation of the of the Governing Council as a whole. A former Executive Board member could. If Indeed. It happened only recently Board member Jürgen Stark. given the potential implications for future monetary policy. the been most vocal in relation to the Securities Markets job went to the Netherlands. got the job. Another member state of the eurozone may yet take the top job. credible candidate in many respects. the current Executive experience in the financial sector. or even had a senior position at a central bank. with Chancellor Merkel a strong supporter of his candidacy. eurozone. however. The implication of the probabilities attached to the Indeed. As the outgoing president is French. Though he has never with the choice of Herman Van Rompuy as president been the head of a central bank. To some of issues. starting a new term as the president is a different issue. But he has Bundesbank to become its new president. given the is an obstacle to Mr Weber securing the position. day when there has been insufficient support for the A potential alternative is the current ECB Executive ‘big country’ front runner. the larger countries are first two scenarios is that we believe it is more likely under-represented in relation to their contributions to than not that a German will be the next president of the ECB’s Germany took His reputation as a ‘hawk’ is also a concern for the the role of Chief Economist for the highly influential countries in most economic and financial distress Otmar Issing. it is its turn to hold the ECB presidency. including the current course. a Dominique Barbet/Ken Wattret 16 December 2010 Market Mover 13 www. however.e. Nout on the Executive Board. He has extensive Weber secure the presidency. That the newly appointed vice president of the ECB. be fair that a country representing just 6% of total However. If this extent this also applies to the Netherlands. is that Constancio. the former head of the Central Bank of Portugal. who would otherwise be seen as a credible expire until mid-2014. This makes it more likely that the new Executive Board member for another position on the president will be from a northern European country. A second problem is his role current head of the Netherlands central bank. nationality of the first ECB president. The head of the Dutch Programme (or SMP). another French His candidacy. there is a long tradition in Europe of a ‘small Mr Weber is too controversial a candidate. including at the Board member Jürgen Stark would then return to the German Finance Ministry and the IMF. It has looked less Scenario 3: A Compromise Candidate (20%) of a certainty recently. though only for half a term (i. Klaus Regling. as the largest economy in the Such a compromise option is also possible this time. But it is not a done deal. While responsibilities within candidate for the compromise option.GlobalMarkets. is from southern Europe is an additional it would not be possible to nominate an existing complication. First. German. is complicated by a couple national is highly unlikely to secure the role. This At one stage. he is probably viewed as ECB presidents? This would seem to rule out the more of a team player. The suggestion is . the ECB. country on the ECB Executive Board simultaneously. Mr Our understanding.Scenario 1: Axel Weber (40%) Board until his or her current term had expired. then an country’ compromise candidate emerging late in the option would be for another German to take the role. his reputation as a policy hawk. of floated as possible candidates. not run a central bank. is a highly respected economist and is. His dissent has ECB that its first president would be a German. as he has not showed the same degree of eurozone output accounted for two of the first three public dissent as Mr Weber. Would it really then the same reservations may apply to Mr Stark.

The best compromise option would be for Mr Trichet to stay in the role. This is more of The same question marks also apply to other ‘small a concern now than in the past. Weighing up all With so many member states seemingly out of the the information available. He has been a highly effective head of the Banca D’Italia. Given the issues highlighted above. however. the German economy struggled. We become the next president of the ECB. so presidency is the single most likely outcome. procedural obstacles. Rather. The advantages of continuity in While the ECB sets monetary policy for the eurozone these highly uncertain times are obvious. is the president Germany was also highly influential on policy in the of the Financial Stability Board. earned a doctorate in early 2000s but in the other direction. were contributory scenarios… factors behind the ECB’s decision to raise rates in July 2008 in the eye of the financial storm. has plenty of EU experience. The unemployment rate is at its One could argue. Does he have the experience required to tighter than otherwise monetary policy stance – much steer the Governing Council in these difficult times? too tight potentially for the periphery. such devastating consequences. A key issue in the way of his candidacy is the national politics More divided associated with choosing the leadership of the ECB. however. He also worked practical alternatives. this has led to speculation that the current is that the most probable outcome is that the next head of Finland’s central bank. This is not a of the role? Mr Duisenberg often struggled in dealing refection of Mr Draghi’s candidacy.GlobalMarkets. This contributed to the formation of asset price In contrast to some on the ECB Governing Council. for Governing Council meetings and is influential in Dominique Barbet/Ken Wattret 16 December 2010 Market Mover 14 www. Taylor Rule economics from MIT. The position of ECB president needs his credentials are impressive. Having two Southern Europeans at the helm is not But inasmuch as the president shapes the agenda acceptable for some. say. that these countries are lowest in almost two decades and skill shortages in already over-represented in senior EU positions. could president of the ECB will come from Germany. year spell running the Banca D’Italia. this will lead to a Council. given of the Governing Council will be influenced by what is the exceptional circumstances? There are. extensive private sector experience also. happening in their own countries or those near our bottom line assumption running. when the German economy was performing poorly. with the media. worked at the World Bank for analysis suggests that rates were low in relation to many years and unlike most of the candidates. difficult discussions on the Governing reputation takes the presidency. it looks in . largely centred on Benelux countries. bubbles in other countries which have now burst with he has kept a remarkably low profile in his near five. rule this option out. in our opinion at the time – for a faster pace of tightening in 2006 and 2007 and In a number of respects. fast growing sectors risk generating upward pressure on labour costs and inflation. predicting who will get the job is not straightforward. How about as a whole it is reasonable to assume that members extending his term for another four years. the most important boxes. has eurozone needs in the early years of EMU (Chart 1). He ticks many of hike in summer 2008. As stated above. we still believe that a Weber for the European Commission from 1995 to 2004. But given the lack of from a ‘neutral’ part of the eurozone. Now. Mr Draghi is a very credible this frustration was instrumental in the decision to candidate for the ECB presidency. That the German economy was going strong in early The nationality of the current ECB vice president is 2008 – GDP surged by over 5% annualised in Q1 – one of the obstacles in the way of the last of our four and wage pressures were building. It is unlikely in our view that the next president of the But is he the right fit given the specific requirements ECB will come from southern Europe. Germany Scenario 4: Mario Draghi (20%) had pushed hard – rightly. He has the are aware that Mr Weber’s candidacy has been requisite experience of running a central bank and is damaged by his outspokenness. it reflects the someone who can deal effectively and comfortably politics of the eurozone.key reason why Germany apparently pushed hard for Tough call Mr Constancio to get the job of vice president. given increasing divergence within the An obvious worry is that if a German with a hawkish eurozone. Mr Liikanen. ECB policy is not determined by the president alone. structurally strong. with a bombardment of questions on a variety of issues very shortly after the conclusion of what are Policy implications likely to be. The terms of Executive Board There is some historical experience of this in respect members are non-renewable which would appear to of German influence on ECB policy. In the early days of country’ names which have periodically cropped up EMU.

the speeches of Mr Weber suggesting that Looking to the longer-term. Add the increased increased emphasis on the solidity of the core was. on the 7.determining how the decisions will be made – on the Chart 1: ECB Policy & Taylor Rule basis of consensus-building like Mr Trichet. Dominique Barbet/Ken Wattret 16 December 2010 Market Mover 15 www. greater Sources: Reuters EcoWin Pro & BNP Paribas dissent and a higher degree of difficulty in forging a consensus are to be expected.0 ECB Refi 1.GlobalMarkets.0 9 Shifting to second 3 . with the eurozone looking increasingly divergent growth-wise. In this context.0 Eurozone highly the balance of 0 .g. This implies a need Chart 2: ECB Policy & Lending Growth for strong leadership .0 more responsive ECB.5 10 4 . the direction in which the speeches of policy is unlikely to be straightforward. internal divergence to the mix and forecasting ECB until recently. The president’s style is also going to be important when it comes to how the ECB will 4. 1 .5 0 supply and demand) and more sensitive to medium. With the ECB led by southern Europeans there could be a desire to reinforce the anti-inflation credibility of Another salient issue given recent developments is the ECB by raising interest rates earlier and more how sensitive. Weber and Mr Stark. the solidity of The bottom line is that we are entering an uncertain the core member states is far more important than era for ECB policy. Looking ahead. 4 . 18M th Lag R H S ) 11 stick together rather than creating dissent. This was a maintaining policy accommodation. their terms expire within two and a half years of the less than a quarter of that for Germany alone.0 A likely consequence of a German presidency would 2 . Market developments will also be key to comes to potential asset price bubbles. with faster decision-making. consequences of the global financial crisis. under Scenarios 1 and 2 the costs of too late an exit from monetary policy the bias would be towards tighter policy and a flatter accommodation would be greater than the costs of yield curve.0 4 ECB’s monetary policy strategy – monetary analysis. 3.0 the Governing Council feel frustrated that they are 98 99 00 01 02 03 04 05 06 07 08 09 10 not being heard. including from Mr at present but they are in the process of normalising. The combined output job and all members of the Executive Board will see share of Greece. would be to problems in the peripheral economies. -1. If this continues.5 13 12 style which can persuade the Governing Council to 5 . From a purely arithmetical perspective. Our forecast remains for the refinancing rate to stay at 1% until spring 2012. or otherwise. growth rates will look increasingly out of kilter with the emergency level of policy rates Forecast implications currently in place (Chart 2). a German-led ECB quickly than otherwise. Under Scenario 4. like governments. this would also lean towards higher ECB Sources: Reuters EcoWin Pro policy rates earlier. Ireland and Portugal is around 6%.0 interact with other policymakers.0 during a crisis. The vice president is new to the the problems in the periphery. 2.0 basis of simple voting or guided more strongly by the 6.0 A less consensus-driven approach could result in a 0.0 But it could also lead to more dissent if members of -2. Broad money and credit growth rates are not normal those most keen on ‘normalisation’.0 E C B R efi R ate (% ) 2 1 run determinants of inflation (e. consistent with low domestic There is also likely to be a greater tendency at a price pressures and subdued growth in the eurozone German-run ECB to 'lean against the wind' when it as a whole.0 Ban k Len ding (% y/y. were leaning. 0 .5 6 5 be an increased emphasis on the second pillar of the 2 . An next president taking up the role.5 3 If ECB policy were to become less sensitive to short 1 .but preferably a leadership 5 .com . as was evident in prominent theme of Mr Stark’s contributions to the the recent decision to maintain full allotment for all ECB’s conference last month on the causes and refinancing operations through Q1 2011. this is also possible.0 -1 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 term trends as signalled by the money and credit analysis. too early an exit are also significant.0 Executive Board – the choice of the new president is 5.5 8 7 3 .

people will doubt it is truly typically the medium-term outlook for inflation that aiming at 2%. Nonetheless. Rising inflation expectations are the last thing looking more and more marginal as time passes. End-of-year appraisal Given the time of year. It was a bad number projection 2 years earlier. following this week’s surprise. If inflation stays current inflation over the last two years. there is a risk that the BoE will hike Bank Rate during 2011. While it is above 2% for a long the peak is likely to be 3.1pp to 3.75pp points higher than the Bank’s pushes inflation even higher in January. Chart 1 shows where inflation contrary to earlier indications that we might have has actually been compared with the BoE’s seen a slight deceleration. We had projection. To its . opening concerns that the economy might flirt with the risk of the door to a second phase of quantitative easing. „ Given our view that GDP will grow much more slowly during 2011 than the BoE’s central projection.UK: HMS QE2 Sunk Before It Was Launched Chart 1: BoE CPI Inflation Forecasting Error 2- „ We have changed our Bank of England Years Ahead monetary policy forecast. QE1 worked. when this happens Bernanke made his Jackson Hole speech (by around (in 2012). the UK seems about the furthest from However. The economy has We had expected downward surprises on GDP recovered more swiftly than expected and growth during 2011 to provoke a downward revision unemployment is lower than feared. with including VAT. The fact remains that around 1pp of current experience that QE can have a perverse effect on inflation is related to increases in indirect taxes bond yields through inflation expectations.3% y/y.8% y/y with a significant risk of 4% y/y. Rising utility bills and petrol prices will add to Bank projects.6% y/y in the Bank to aim a little higher at the medium-term February. the BoE needs. US lessons The key reason the BoE hasn't begun QE2 already is There have been persistent upward surprises on worries about inflation expectations. „ Nonetheless. if inflation expectations rise abruptly and upside risks to wage inflation Source: Reuters EcoWin Pro. they definitely won't matters most for BoE policy. the Bank will have learned from the Fed's ahead. there should be a tendency for expected CPI inflation to peak at 3. the likely undershoot relative to target is 50bp). If we go to 4%. badly. Alan Clarke and Paul Mortimer-Lee 16 December 2010 Market Mover 16 www.GlobalMarkets. we still believe that the first interest rate hike is a long way off (2012). The shaded bars show that which is only likely to get worse in the coming it is incredibly rare for inflation to be lower than the months. However. what the BoE hasn’t done particularly well CPI inflation accelerated by 0. we no longer expect the Bank to engage in a second round of quantitative easing. the final nail in the coffin. horizon. it is worthwhile assessing Enough is enough what the BoE has done well and what it has done We have revised our BoE monetary policy forecast. „ Given higher than expected inflation and the threat this poses to inflation expectations. The latter will eventually drop out of breakevens having risen considerably since the y/y calculation. Tuesday’s upward surprise on inflation was deflation of the industrialised economies. deflation. However. In fact. on average inflation has been inflation in December. before the VAT hike to 20% around 0. posing an ever-bigger threat to inflation expectations and wages – with implications for inflation further Also. BoE emerge. is forecast inflation. near-term inflation is believe it. Contrary to to the Bank’s medium-term inflation outlook. Given this.

com . if inflation important degree a bigger pass-through of the expectations do rise appreciably and there are signs exchange rate shock from sterling's depreciation. Hence we no longer expect good job growth. hike from being delivered any time soon (not until 2012). We continue to believe that pay freezes being less widespread than before. Nonetheless. the Bank has aimed high with Faster-than-expected inflation seems to reflect to an regard to near-term inflation.Nominal GDP has been increasing at close to a 6% Conclusion y/y pace over the last year. possibly as a result of BoE Alan Clarke and Paul Mortimer-Lee 16 December 2010 Market Mover 17 www. In particular. expectations during 2011. Neither argues for more QE. It may be that the output gap is a lot smaller than the fall in output might suggest. that this is pushing wage inflation higher. disappointing growth will prevent the first interest rate Wage growth will probably pick up. during 2011. the obstruction to further The labour market in recent months has seen very QE now looks too big. and there is anecdotal evidence of QE2 to be launched.GlobalMarkets. and it is questionable Despite our view that GDP growth will disappoint whether the Bank would want to boost this further. there is Why has this happened? It could be that inflationary clearly a risk that the MPC begins to tighten policy expectations have held up better than normal.

robust domestic demand growth. there are expected at 1% rather than 1.5% this year. the drag from spare We will revisit our call first thing in the New Year – capacity is fading quite rapidly. Sectors independent of SNB policy. c. the SNB clearly doesn’t want to validate them. The monetary authority expects growth to slow to 1. With a smaller tensions early in 2011 when a large amount of euro output gap than elsewhere in Europe (we put it at area sovereign debt supply comes onto the market. „ We think growth will surprise to the upside but a hike as soon as March looks very challenging. net trade less. the outlook for policy is focused on the domestic market are in a strong dependent on the outlook for the exchange rate. particularly given benefit vibrant emerging-market demand. position to respond to the SNB’s zero interest rate Were the franc to depreciate significantly. The two sectors’ performance will diverge accordingly – domestic demand will contribute more to growth than in the past. For the domestic economy. to 1. „ The central bank remains extremely sensitive to the strength of the franc and the stress in the euro area periphery.2%. we would private nor public sector is characterised by the expect the SNB to hike. Eoin O’Callaghan 16 December 2010 Market Mover 18 www. The prospect of but the risk is clearly that the first hike comes later in stronger inflation in the future is evident in the SNB’s 2011. The dilemma for the SNB is setting a single policy variable for two sectors of the economy that are experiencing very different monetary conditions. Chart 2: SNB Inflation Forecasts As widely expected. We see risk to the With the franc delivering monetary tightening upside of that 2011 forecast (we have 2%). Despite the strength of the economic preferred gauge of core inflation – dynamic factor data since the last meeting. „ The timing of the first hike remains Source: Reuters EcoWin Pro dependent on the exchange rate. If any of the franc’s current strength reflects rate hike Source: Reuters EcoWin Pro expectations. growth on the combination of a strong franc and Since July. It is also tricky to think of reasons to expect outlook for inflation further.0. 2012 inflation is now the franc to soften between now and .5%). the SNB left the policy target and band unchanged in December.1% y/y in October 2009 expect a marked slowdown in growth in 2011.5% in 2011 from 2. imbalances evident in many parts of Europe. the SNB left the policy Chart 1: SNB Policy Rates target unchanged in December. the SNB continues to inflation – which rose from 0. closing more quickly.0% last month. But monetary conditions are tight for exporters. policy looks too loose. the subdued level of the SNB’s medium-term inflation The SNB also revised down the medium-term forecast. In the first increase will come later as the SNB awaits addition. But if the franc stays strong.GlobalMarkets. The strength of the franc continues to delay policy normalisation. „ The SNB continues to expect a marked slowdown in the coming quarters and has revised its inflation forecast down further. Swiss exports will That now looks very challenging. Shorter-term measures of momentum in the GDP deflator are also picking up. while net trade should contribute less to further evidence on the robustness of the economy.SNB: Governing Two Economies „ As widely expected. then given policy – employment growth is rising and neither the the strength of domestic fundamentals. we have had the first hike in March 2011. We are less widespread expectations of an escalation in market sanguine about medium-term

October 2010 forecasts in brackets 25bp rate hike in February.) (0.5 4.9) „ But there were no changes to policy rate projections as the Bank noted that economic 5.25%.3) (1. For Gizem Kara 16 December 2010 Market Mover 19 www.2 . Rate (%) (8. 0.00% to 1.6 3. given 2011.6) inflation forecasts for 2010 and 2011.5%.5) (1.2) (2.3 2.4) (7. In particular.1 1.3) „ Therefore.7) (2.3 2.4) October”.8) „ We believe the policy rate is still low given economic fundamentals.8) (2. compared with its previous projection of 1. Chart 1: Policy Rate (%) The Riksbank delivered its fourth rate hike in this cycle at its December meeting.7 1.5 7. the Bank revised up Revisions to the Riksbank’s forecasts its growth forecasts for the eurozone and the US. we continue to expect another Source: The Riksbank. The particular emphasis was on public finances in Europe as well as the weak housing and Source: Reuters EcoWin Pro labour markets in the US. 1.5) (1.25%.6) (3.6 CPI „ There were upward revisions to the GDP and (1. in line with market expectations. It As we had expected.0 6.8) (3.0% (2. The Bank’s rate projections were left unchanged. taking the policy rate from 1.3%. In terms of its latest projections.7) (2.4%). there were upward revisions to now expects eurozone GDP to grow by 1. robust growth in the Swedish economy was acknowledged in the policy statement.4 1.6 Unemp.4 7. On this the language was quite strong – the Riksbank described the economy as growing “at a record rate”.5 On consumption. taking the policy rate to 2010 2011 2012 2013 1. Source: Reuters EcoWin Pro In particular. Robust domestic economic growth Once again. 2. 8.5% in the Riksbank’s growth forecasts. the upturn was noted as being “broad based”. the Riksbank noted that they “are expected to increase as economic activity strengthens”.5) (2. projection was pushed up from 4. the 2010 GDP and US GDP by 3.2) (6. Uncertainty elsewhere Despite strong domestic growth. Repo Rate (%.7 2.4 GDP prospects remain “largely the same as in (4.9 CPIF (2.GlobalMarkets.6) (7.8% to 5. the Riksbank expects high Chart 2: Consumer Confidence and Private consumer confidence and “good finances” to Consumption (% y/y) contribute to further rises in private consumption.Sweden: Further Tightening Table 1: Riksbank’s Latest Forecasts (% y/y) „ The Riksbank delivered a 25bp rate hike at its December meeting.4 2. although underlying inflationary pressures were perceived to be low.2) (1.0 2. uncertainty over economic developments elsewhere was also mentioned. avg.3 ann.0) (1. stronger than expected Q3 GDP. On the inflation front.

and reduce the risk of imbalances building up in the Swedish economy”. December’s policy decision and statement we continue to argue that domestic interest rates are were broadly in line with our expectations. Although the Riksbank rightly mentions risk of imbalances mounting.4%.2011. Therefore. up from 3. the Bank’s assessment was that: ƒ ”While higher electricity prices and commodity prices temporarily push up inflation. As the Riksbank said in the uncertainty regarding external developments its statement.6% to 0. we expect As Sweden does not suffer from fiscal and other another 25bp rate hike to be delivered at the structural imbalances or a struggling banking sector. unit labour cost Source: Reuters EcoWin Pro forecasts for 2010 and 2011 were revised down. Riksbank’s next meeting in February. “a gradual rise in the repo rate can also abroad.2pp. What next? Given the upward revision to growth and inflation forecasts for next year.2% and 0. Once again. On the inflation front. inflation pressures are expected to build over the forecast horizon. given strong domestic demand.1-0. In line with this assessment.8% previously. Chart 4: Swedish Real GDP (Index.3% to 1. one could have expected an upward revision to rate projections.7%. we believe the strength of the domestic Riksbank’s rate projections.2%. it will remain robust and significantly exceed that in the eurozone. The 2011 and 2013 forecasts were revised down by 0. we believe this should not prevent it from contribute to slower growth in household borrowing implementing more increases. Both CPI and CPIF forecasts were revised up – CPI from 1. Q1 2005=100) However. Gizem Kara 16 December 2010 Market Mover 20 www. and CPIF from 1.4%. In terms of revisions to inflation forecasts. But the divergence between the Deputy Governors over the policy decision meant a revision at this stage was unlikely. These upward revisions again led to lower unemployment rate forecasts.2% to -2. if we do not it continues to outperform other advanced see a significant appreciation in the krona in the economies.7% to 2. we share economy should lead the Riksbank to deliver further the view of some Deputy Governors that there is a rate hikes. Deputy Governors Karolina Source: Reuters EcoWin Pro Ekholm and Lars Svensson entered a reservation against the decision to raise the repo rate and the repo rate path in the Monetary Policy Update. somewhat next year.GlobalMarkets. In particular. Although we expect growth to moderate meantime. Against this backdrop. Looking low in Sweden and see some upside risks to the ahead. from -1. the major change was in the 2011 projections. the Riksbank now expects GDP to grow by Chart 3: CPI & CPIF (% y/y) In . respectively. underlying inflationary pressures in the Swedish economy will be low as a result of low labour costs”.

Norway: Hawkish Tone Chart 1: Policy Rates (%) „ The Norges Bank left its policy rate at 2. „ The statement accompanying the policy decision was hawkish compared to October’s. In terms of external developments. in line with market expectations. it noted that “the consideration of guarding against the risk of future financial imbalances that may disturb activity and inflation somewhat further ahead suggests that the key policy Source: Reuters EcoWin Pro rate should not be kept low for too long”. a rate hike is likely in Q1. Risks around the policy outlook Although it again mentioned that “the low interest In terms of . Another positive factor Chart 3: Private Consumption & Retail Sales noted was the increase in oil prices. „ We expect the Norges Bank to deliver a rate hike in Q2 2011. That said. compared to its inflation up to target and the consideration of predecessor. the rate level has not triggered an increase in household Norges Bank noted that: debt growth so far”. „ If the krone does not appreciate significantly and economic data turn out to be stronger than the Bank’s expectations. In the opening paragraph of the statement. the Bank mentioned that “underlying inflation has been approximately as expected” and “growth has picked up”.00% at its December meeting. in line with market expectations. But the level of activity was perceived to be “probably still somewhat lower than normal”. Overall. in its in-depth assessment.00% at its December meeting. there was acknowledgement of the uncertainty regarding developments in Europe due to fiscal concerns. the statement had a hawkish tone. We Source: Reuters EcoWin Pro believe this mainly reflects stronger-than-expected growth in Sweden in Q3. The Norges Bank noted the high level of borrowing rates in peripheral eurozone countries. which provides a boost to the economy overall. In all. This was broadly the same as in the Norges Bank’s in-depth “Both the consideration of bringing consumer price assessment back in October. the Bank said that “growth has been unexpectedly high among several of Norway’s most important trading partners”.bnpparibas. Source: Reuters EcoWin Pro Chart 2: Real GDP (% y/y) Rates on hold The Norges Bank kept its policy rate at 2. while the Norges Bank kept its policy rate unchanged. the emphasis was still that “contagion to other markets has so far been limited”.GlobalMarkets. but a hawkish statement overall has increased the chances of a hike in Q1. stabilising developments in output and employment imply a low key policy rate”. there was particular emphasis on Gizem Kara 16 December 2010 Market Mover 21 www. Less positively.

the rise in house prices and consumer spending. developments in the period ahead will be key for the timing of the hike. We expect the next hike to come in Q2. Chart 4: Credit To Households and Non- Against this backdrop. However. Gizem Kara 16 December 2010 Market Mover 22 www.GlobalMarkets. the policy statement signalled that we might see an upward revision to the Norges Bank’s rate projections at its March meeting. in summer 2011). at the earliest. But Source: Reuters EcoWin Pro if tensions in financial markets intensify going into next year due to concerns over the . recent domestic developments suggest growth will pick up in the quarters ahead. Given the key policy rate is still low compared to what the neutral rate should be in Norway. the Bank will wait until Q2. but the hawkish statement has increased the risk of a Chart 5: Import-Weighted NOK rate hike in rates are not expected to remain low “for too long”. Deputy Governor Qvigstad mentioned that he sees no reason to change the Bank’s policy rate projections (the quarterly rate projections in the October Monetary Policy Report suggested the Bank intends to deliver a rate hike. economic data surprises to the upside and house prices increase markedly. Therefore. In particular. when the new Monetary Policy Report will be published. we expect rate Source: Reuters EcoWin Pro hikes. if we do not see a signicant appreciation in the currency. the Norges Bank remains Financial Corporations (% y/y) aware of the risk of financial imbalances building up in the economy. As we noted before. Policy ahead Overall. the Norges Bank is likely to deliver a rate hike in Q1. At the press conference after the policy decision.

which appears too An increasing 0 2 number of emerging market countries are looking for ways to manage monetary policy by avoiding outright -5 Cost of RR( Policy 1 rate-RR) rate hikes because they fear FX appreciation. requirements. If one believes First. 0 „ We believe the current suggested policy mix y a R. Paul Mortimer-Lee / Selim Cakir 16 December 2010 Market Mover 23 www.125% stake. then keeping rates down IMPORTANT DISCLOSURE: This analysis has been produced jointly by employees of BNP Paribas S. Requirement Ratios in Selected EMs Erdem Başçı. the Fed's inflation objective excludes food is far below nominal growth when the economy is at and energy. compared to its peers. which sounds a lot less coarse Although Turkey’s reserve requirement ratios are relatively low than capital controls. (“TEB”). Emerging markets’ worries are understandable We have sympathy with the authorities in emerging markets where achieving domestic balance requires higher interest rates but where achieving external and is affected by US policy. Chart 2: Required Reserves and Their Remuneration The Turkish central bank’s deputy governor. this week suggested that the CBT could cut interest rates and increase reserve 40 Credit Growth.Turkey: Reserving Judgement Chart 1: Credit Growth1 and Reserve „ The Turkish central bank’s deputy governor. It has been separately reviewed and approved by BNPP and TEB. Erdem 25 7 Başçı. (1) Latest available data. food).com . There are two things wrong with this. Source: CBT. of a reversal of inflows. potential. Ar C In appreciation through higher inflation and would do little to bolster financial stability in the event Source: ReutersEcowinPro. y/y. ISE prudential regulation. this week stated that to achieve the dual RRR (RHS) objectives of “price stability” and “financial stability”. abroad. local authorities. This analysis does not contain investment research recommendations. These measures are sometimes called macro. the inflation balance argues against that. in many countries. One of the main effects target is inconsistent with the US' obligations as of ultra-easy US monetary policy is on inflation issuer of THE reserve currency. 35 % „ This would be designed to maintain 30 monetary discipline in the economy while 25 avoiding undue appreciation of the exchange 20 rate. 5 3 Turkey is not alone in its endeavour.S. These effects are often manifested in oil and other commodity prices (e. % „ We have serious doubts about the 10 effectiveness of such a policy without support 5 from fiscal policy. BNPP is an indirect shareholder of TEB with 42. the CBT stopped paying remuneration on these reserves as of October 2010. ("BNPP") and Turk Ekonomi Bank A. 20 Market overnight rate 6 the optimal policy choice was to reduce the policy 15 5 rate to curb FX inflows and to tighten domestic conditions through use of tools other than the interest 10 Remuneration Rate of RR 4 rate (read: reserve requirements). Is the US shock temporary or more lasting? Clearly. 15 RRR. They -10 0 have adopted measures to discourage speculative Jan-08 Mar-08 May-08 Jul-08 Nov-08 Jan-09 Mar-09 May-09 Jul-09 Nov-09 Jan-10 Mar-10 May-10 Jul-10 Nov-10 Sep-08 Sep-09 Sep-10 inflows and address potential financial instability.g. Second.GlobalMarkets. it treats a big chunk of US inflation as that the US output gap is transitory and US inflation exogenous whereas we all know it is endogenous is low on a temporary basis. the level of interest rates However. sia ru a a na nd il a e az di tin si re Pe rk hi la ch ne In us is likely to result in real exchange rate Br Ko n Tu C Po ge ze R do S.A.

The Turkish equity markets rebounded strongly on the limiting US thrifts developed accounts that were exchange rate appreciation and achieving better designed to attract household deposits in the US IMPORTANT DISCLOSURE: This analysis has been produced jointly by employees of BNP Paribas S. 6 growth and inflation. nominal Source: BNP Paribas. The economy will thus continue to overheat and We are not the only ones to see the policy shift as ultimately inflation will be the price. In such a case. It has been separately reviewed and approved by BNPP and TEB. 60% to 70% of cost increase in the remuneration paid to deposits. Our concern in -4 several economies is that controls designed to lower the exchange rate are being inappropriately applied. ("BNPP") and Turk Ekonomi Bank A. liquidity it provides will find its way to credit. in some not possible prior to elections. sia si di in az re Pe rk la hi ne nt In ch us is more durable. the CBT should be ready to reduce in fact an easing in policy. supported by strict regulations by the Banking inflows while not reducing loan rates domestically. BNPP is an indirect shareholder of TEB with 42. and Most importantly. money Turkish credit growth is extremely rapid (Chart 1). not the recent past. but they are inappropriate if the US shock a a na nd a ey a ru il R. We are sceptical about such policies in general. We also fear that. and This increased wedge between loan and deposit possibly a tighter monetary policy would represent a rates is a reason why reserve requirements are a better policy choice for Turkey. effective in containing aggregate demand.S.125% stake. deficit. Ko Br Po C Tu ge do R ze S. We fear that it is strategy to work. GDP is likely to surprise on the upside and so will inflation. which is our view. Paul Mortimer-Lee / Selim Cakir 16 December 2010 Market Mover 24 www. In the though it needs a touch on the brake.A. expansionary. Turkey has a large current account rate brought about through . for the reserve requirement ratio this applies to the Turkish initiative. Turkey is more vulnerable to a sharp reversal of capital inflows. This analysis does not contain investment research recommendations. In Turkey. Accordingly. the CBT could have countries. we would requirements could work by lowering deposit rates argue that a much tighter cyclically adjusted fiscal available to foreigners and hence reducing FX policy. -6 They might be fine if the shock affecting the US were -8 temporary. If these options are favoured instrument now. We think the CBT would not allow that and the current account deficit (Chart 3). There will be a rise in the real exchange Unlike several other emerging market countries that also need to deal with capital inflows. Ar In C If such policies are applied inappropriately. Regulation and Supervision Authority (BRSA). the cost of raising RR by 1pp current account deficit wide.GlobalMarkets. also considered intensifying FX purchases and/or slack policy without owning up to it. As a result. How does lowering rates and increasing reserve requirements work? Lowering rates while increasing reserve post-inflow financial stability. The economy looks as increases the cost to banks by 15bp. administrative measures to curb short-term inflows. In the 1970s and 1980s. credit creation strong and the lending. This is of concern when TRY liquidity in the system. which we find concerning when growth 2) Lower the rate on deposits and raise the rate on is already good. they are a disguised way of running too. A tighter fiscal policy would be much more the country's borders. a large US output gap persists for many 2 years – which seems likely – and if US inflation stays low – also likely – then a permanent change in the 0 exchange rate is justified and rates should not stay -2 long below their domestic equilibrium. market rates would go above the CBT’s policy rate of The rapid growth is associated with a considerable 7%. with an increase in demand for Effects of higher reserve requirements risk avoid a temporary spike in the exchange rate Chart 3: 2010 Current Account Balances in against the USD is fine – that would just misallocate Selected EMs resources and disrupt the pattern of production. All this suggests that the policy is indeed expansionary. We have serious doubts about the effectiveness of 3) Tax bank intermediation and encourage non- such a policy without strong support from fiscal bank intermediation and intermediation outside policy. (“TEB”). banks were able to reflect around accelerator. 4 If however. Higher reserve requirements will: 1) Increase the cost of bank intermediation.

and 6) The policy operates on domestic deposits. admitting it is undervalued in the sense of being BCB found evidence of this in Brazil. IMPORTANT DISCLOSURE: This analysis has been produced jointly by employees of BNP Paribas S. the inability to simultaneously open capital account. Moreover. The IMF mentions South Korea. ("BNPP") and Turk Ekonomi Bank A. With an macroeconomics. For a country that has more or less closed 3) Circumvention of the controls is profitable and its output gap and which at the margin is broad liquidity will continue to rise quickly. i. This must encourage greater employment. we note that suggests that if capital flows are sustained (i. Turkey needs rather difficult in Turkey since the regulator to choose between nominal appreciation and (BRSA) applies the RR to every obligation of inflation.S.125% stake.A. It has been separately reviewed and approved by BNPP and TEB. to run an independent system that would reduce the effectiveness of monetary policy and to allow full capital mobility RR increases. the be the incentive to circumvent the regulations. not credit. which weaker than the market would price it left to its would reduce the rate effect. (“TEB”). At the same time. the The risk is inflation policy mix would do little to reduce the possible We have concerns that such a policy could end up damage to financial stability in the event of a future being inflationary. We believe that the current suggested policy mix is likely to result in real exchange rate appreciation.e in the circumventing the reserve requirement ratio is absence of effective capital controls). and exporters and those competing with imports.GlobalMarkets. Why? reversal of inflows. Paul Mortimer-Lee / Selim Cakir 16 December 2010 Market Mover 25 www. where reluctant to raise rates when they in fact need to Korean deposits went from 70% being in deposit rise and so stimulates demand (we see the stock centre banks in the 1970s to half that in 1992 as market reaction as strong evidence of this).e. a result of extensive use of RR and the consequent disintermediation of the banking 2) It feeds expectations that the central bank does system. to avoid the reserve requirements applying to 1) It feeds expectations that the central bank is banks. investment and cost tolerance by 5) People use non-taxed cash more. BNPP is an indirect shareholder of TEB with . own devices). the greater will and is running a big current account deficit. the current account deficit The famous “impossible trinity” of open economy widens and deposits are unchanged). The financing credit through external wholesale flows higher the reserve requirement. not want to see a rise in the exchange rate (while 4) Reduce stock returns to holders of bank equity. there will be leakage in the target the exchange rate. be it bonds or loans from other banks. money effects will be negligible (wholesale capital comes in. This analysis does not contain investment research recommendations. This will come about through inflation.

As for the retail trade. 0 „ While the outlook DI is weaker than -10 expected. chemicals. investment should continue picking up as long as the recovery in exports and production -60 continues. So long as the Fed does not expand QE2.9% y/y from -40 2. -20 „ Capital spending plans for large -30 manufacturers were marked up to 2. business confidence continued despite the stabilisation of department store sales to improve on the back of solid Asian demand for and the surge in last-minute demand for eco-friendly capital goods in industries such as general-purpose appliances ahead of the downsizing of the eco-point Ryutaro Kono/ Hiroshi Shiraishi 16 December 2010 Market Mover 26 www. the setback in business Interestingly. as Source: BoJ. Even so. programmes. 00 01 02 03 04 05 06 07 08 09 10 11 This indicates that the economy has entered a lull. the current drop). Weakness was pronounced in sectors conditions DI for large enterprises fell just one point affected by the end of stimulus programmes such as from September to +1. suggesting green car subsidies and yen appreciation had only that the negative factors weighing on the mood of limited adverse effects on overall business activity.4% in September. -20 -30 Manufacturing -40 Nonmanufacturing Modest decline in DIs confirms a soft patch -50 *Q1 2011 is forecast from December Tankan. the current survey to +5. 00 01 02 03 04 05 06 07 08 09 10 11 Source: BoJ. the business conditions DI for small confidence was not as bad as expected. BNP Paribas „ The BoJ’s next move depends on the Fed. survey results confirm that fallout from the end of improved two points from September. causing 10 the yen to strengthen against the dollar. 10 but the setback was not as bad as activity such as the wholesale trade and in areas Collateral damage was sustained by material. conditions diffusion index (DI) for large manufacturers fell three points from the September Moving on to non-manufacturers. business sentiment -60 modestly retreated for the first time in seven quarters. BNP Paribas corporate earnings have stalled due to slowing exports and the end of domestic stimulus machinery and shipbuilding/heavy machinery. 30 20 „ If the Fed takes additional action.GlobalMarkets. with Setback in confidence not as bad as expected the forecast DI for small makers showing an 11-point In terms of the Tankan’s headline index. and the manufacturers. connected to consumer spending like the retail trade supplying sectors such as non-ferrous metals and and services for individuals. but domestic -50 *Q1 2011 is forecast from December Tankan. In the December Tankan survey. However. Businesses are focusing more on expansion overseas. Chart 2: Business Conditions DI pressures are unlikely to intensify on the BoJ – Large Enterprises for further easing to counter appreciating pressures on the yen. we judge that sentiment DIs could rise modestly in the March Tankan. their larger manufacturing cousins have not filtered down (though the outlook does not look good. the BoJ will be pressed to do more to neutralise such 0 pressures by expanding the scale of its Asset -10 Purchase Programme. while remaining in negative territory. The setback in sentiment was motor vehicles or by ongoing inventory adjustments modest both in areas directly connected to factory in the global IT/digital sector like electrical .Japan: Tankan Points to Soft Patch Chart 1: Business Conditions DI „ The December Tankan showed that – All Enterprises business sentiment among large firms deteriorated for the first time in seven quarters.

com . However. Once it becomes clear that exports Q3 settlements marked up their spending plans.) (1. with US Christmas sales proving solid (so far).0% population. Source: BoJ. it is respectively. It seems that producers are quite Chart 4: Business Conditions DI concerned about the uncertainties surrounding – Small Enterprises demand for cars and home appliances. large manufacturers project a 2. At least for the time being. while many firms during annual projection. -40 Manufacturing brisk exports to these economies will likely offset the -50 Nonmanufacturing damage from higher commodity prices.9% y/y increase (Domestic demand. the upward projections for FY 2010 could well be revised upward. with their outlook DI falling Source: BoJ. when the next Tankan is released on 1 April we feel despite fallout from the probable rise in commodity business sentiment may not be all that weak.3%. -60 *Q1 2011 is forecast from December Tankan. are back on a recovery track. revisions for investment were concentrated in Ryutaro Kono/ Hiroshi Shiraishi 16 December 2010 Market Mover 27 www. it is -70 likely that inventory adjustments in the IT/digital 00 01 02 03 04 05 06 07 08 09 10 11 sectors will make faster headway. even modestly rise.0%.system in December. as we expect the export-led recovery to resume at the start of 2011. sales and profit alongside increased profit projections. 10 manufacturers is down just two points. will be too weak to (2. But the December Tankan 00 01 02 03 04 05 06 07 08 09 10 11 shows large manufacturers are more wary about the future than we expected. 20 and the DI for business-oriented services posted a 10 sharp increase. the latest sales and profit projections mark-up for land purchases. the forecast DIs showed that firms are quite cautious about the outlook.0%. Consequently. improving conditions in the real estate market. when profits surpassed expectations. it seems that these companies are non-manufacturers a rise of 4. Meanwhile.9% and -0.5%. the plunge in car sales Chart 3: Business Conditions DI following the end of fiscal incentives inevitably took a – Medium-Sized Enterprises greater toll on confidence. 0 manufacturers fell just one point to -22. domestic appetite for capex is not adjusted now to avoid large-scale revisions of the robustly picking up. Indeed. In fact. the DI for the communications industry was relatively strong.3%. The DI for small-sized non.1% y/y and large On the surface. following a first half year rates for both being negative at -0. Whether spending plans include real more likely that second-half forecasts are being estate or not. -10 -20 Outlook DI also shows weakness but… -30 While the decline in the current condition DIs were -40 Manufacturing smaller than expected. The upward revision for non-manufacturers is largely due to a Meanwhile. with the revisions pessimistic about the future. It could prices. But but forecasts for the latter half of the year have been GDP-based capital investment is closer to the marked down for both sales and profits.GlobalMarkets. BNP Paribas despite the downbeat tone of the latest forecast DIs. 0 -10 The resurgent commodities market reflects the -20 revival in global manufacturing. spearheaded by booming domestic demand in China and other -30 emerging economies. negative payback from eco-point sales fades. for a revision rate of 1. level of domestic demand following the end of -70 stimulus programmes. however. the outlook DI for large non. manufacturers project a rise of 4. with Capex plans largely unchanged from September momentum steadily growing from the spring as the With regard to the FY 2010 capital spending plans. BNP Paribas seven points. drive the economy due to the effects of an ageing Large non-manufacturers forecast gains of 3. In contrast.6%). We had -50 Nonmanufacturing caution about the outlook as it is difficult to gauge the -60 *Q1 2011 is forecast from December Tankan. for a revision rate of -1. Tankan’s “software and fixed investment excluding second-half profits for large enterprises (all land purchases”. Spending plans here show large industries) are now projected to drop a modest 1. as well as the squeeze on profit margins from resurgent commodity 20 prices.4% in September). which suggests show a slight upward revision for FY 2010 as a On the upside.

In such an event. More fiscal stimulus might give US effects of an ageing population (and the economic growth a firmer tone. the Fed seems likely to take a wait-and. Investment (%) manufacturers and non-manufacturers are both focusing more on expansion overseas. and the factor currently impacting the exchange rate most is US monetary policy. the US jobless rate will probably appreciation). if the action by the Fed causes headline inflation rate. pressures are unlikely to rate of interest is unlikely to be revived by such intensify on the BoJ for further easing to counter macro-stabilisation measures. being. Excluding Software domestic demand in emerging markets. but it will likely be only short. BNP Paribas As pointed out in earlier reports. This reflects that fact that global manufacturing 20 started to turn up again in October. global share prices and bond yields have crept higher and the greenback has appreciated of 30 late. So long as the Fed does not could move to ease further. US domestic demand is thus likely to Given that Japan depends on exports for growth. Japan cannot allow currency show only limited improvement and the core inflation appreciation to damage the export sectors. -10 spending plans show downward revision in the first -20 half of FY 2010. the Fed – fully aware appreciating pressures on the yen. If such weak conditions continue. could rise on the another wave of yen appreciation. and the BoJ will inevitably time for the US’s balance sheet troubles to be be pressed to do more to neutralise such pressures. we expect the BoJ resurgent commodities market and higher crude oil to respond by expanding the scale of its Asset prices). While America’s natural move to expand QE2. Japanese of this – will probably still undertake aggressive monetary policy should be unchanged for the time action. that the -10 recoveries in emerging economies are accelerating -20 reflects not just their autonomous growth dynamics -30 but also the effects of the Fed’s QE2 (via defence of Small Enterprises/Manufacturing fixed exchange rates). when concerns were mounting about a double dip in the US/Europe and yen -30 Large Enterprises/Manufacturing appreciation. But the plans for the second half are Large Enterprises/Nonmanufacturing -40 uniformly marked up as these uncertainties have 02 03 04 05 06 07 08 09 10 been dispelled. led by emerging 10 economies. as continue lacklustre. rather than 30 investment at home. Source: BoJ. 02 03 04 05 06 07 08 09 10 see stance for a while. Japanese monetary policy is influenced most by the exchange rate. rate will probably continue trending lower (the Consequently. however. Hence. Given this -50 backdrop. Owing to the Chart 5: Fixed Investment Including Land appreciation of the weak yen and the robustness of Purchasing Expenses. In this sense. Source: BoJ. unless the Fed acts Chart 6: Fixed Investment Including Land Purchasing Expenses. the Fed Purchase Programme (currently JPY 35 trillion). with the export-led recovery set to get back 0 on track in 2011. Hence the recovery in domestic 20 investment continues to lag that of profits. structure is not yet geared to benefit from yen lived. On this score. the yen is likely to strengthen That said. The manufacturing cycle in the developed world is also reviving on the back of 0 exports to booming EMs. even if revived exports trigger a domestic demand is chronically sluggish due to the cyclical recovery. On this score. As a . it will still take a considerable amount of further against the dollar. BNP Paribas BoJ policy: No policy change. Ryutaro Kono/ Hiroshi Shiraishi 16 December 2010 Market Mover 28 10 Even so. we believe domestic investment will continue to gradually pick up.spending on overseas plants. QE2 is starting -40 Small Enterprises/Nonmanufacturing to benefit the US economy (via exports). Excluding Software With the concern over a double-dip recession having Investment (%) faded. undone.

0% q/q were also released. was marked sharply down. -2. All quarterly Indeed. private capital investment was marked up (to 1. The robust growth registered in Q3 was essentially a there were steeper annualised drops in both Q4 2008 product of special factors that bolstered household (-11.4% growth in 2010 (up -1 from 3.8%). as expected. and government Growth in FY 2009 sharply marked down consumption (0. With nominal The new figures show that the swing in the inventory GDP growth being marked down to 0.2%). BNP Paribas „ Meanwhile.7% q/q. On a quarterly basis.6% q/q or 2. the final figures for last year show the economy contracted 6. 3 due to upward revisions in private capital 2 investment and inventory.1% q/q (4.3% in 2009 Chart 2: Real GDP (% q/q) (rather than 5.4%).3% q/q from 0. -5 External Demand „ Even so.4% y/y (from -2.5% annualised). the underlying pace of growth appears to readings thereafter have been revised up modestly.1%). Source: Cabinet Office.2% q/q from 0. hence the economy’s collapse in annualised (from 0. personal consumption and inventory. 1 „ But the robust tone of Q3 is essentially a 0 product of policies that triggered a surge in -1 demand for green car and cigarettes. reflecting sharper declines in and hoarding of cigarettes ahead of a tax hike). Ryutaro Kono/ Hiroshi Shiraishi 16 December 2010 Market Mover 29 www. (contribution of 0. reflecting the latest MOF survey of corporate financial statements.2pp from to -2. Meanwhile. pp) „ Growth in Q3 was marked up slightly more than projected.Japan: Marking Up 2010 Growth Forecast Chart 1: Contributions to Real GDP (% q/q.8%). Payback for the Q3 policy -4 Stocks factors is likely to see contraction in Q4. The economy’s collapse in the two quarters following the Lehman shock 4 was sharper than previously estimated while the 3 2 subsequent recovery was slightly faster.1%).4% from -1.2% q/q from 1. This compares to the preliminary (first estimate) reading of 0. the -2 Domestic Demand underlying pace of growth slowed alongside -3 (excluding Stocks) softening exports. 1 „ Following the revision of past GDP data.GlobalMarkets. our 0 new forecasts call for 4.9% q/q (3. coming in at 1. have slowed as export growth eased.6% in 2011 (1.4%) and Q1 2009 (-19. 2. On the .6%.9% spending (last-minute demand for eco-friendly cars rather than -15.5% on stronger -6 capital spending 06 07 08 09 10 In the second preliminary real GDP reading for Q3. to -6.3% from -5.6%) and 1. to 4. personal consumption (1. -2 -3 -4 The 1st preliminary -5 The 2nd preliminary Annualised growth rises to 4. with the global economy back on a -6 06/1Q 07/1Q 08/1Q 09/1Q 10/1Q recovery track.9% rather than -10.2%).8% (on a CY-basis.9% annualised).9% annualised). the latest report also There were also upward revisions to inventory indicates that deflationary pressures have not let up.5% annualised from 3. the final figures for growth in FY 2009 public investment was revised down to -1. and the wake of the Lehman shock was sharper and its the GDP deflator’s negative margin expanding to subsequent pace of recovery slightly faster. growth was marked up slightly more than we had Source: Cabinet Office. On the upside. BNP Paribas projected. Real GDP’s rate of contraction from -0.0%).9%. Japanese growth should resume in early 2011 and accelerate from the spring.1pp).6% cycle was greater.

New forecasts With the global economy back on a recovery path.1 % could depress Q4 GDP quarterly growth by roughly Annualized 520 0. data for machinery orders show overseas bookings grew at a double-digit rate in October.0% in Q4 and 1.7%) and 1. sa) should resume 570 Looking ahead.0% in Q3. Early indications for November suggest exports overall should pick up the pace. is 110 recovering again. effects of an ageing population. Based on the latest official GDP data. owing to the (annualised) are now -0. The large upward revision to our 2011 forecast early 2011. 1. Thus. Our quarterly forecasts lacks the vigour to drive the economy. while the Expenditure of Households (s.2% in Q1 2011. But the economy 4.4% in FY have touched bottom in October before starting to 2010 (up from 2. Japan’s largest trading partner. on a CY basis.a. In short. Were it through the effects of policy meddling) that are not for the revisions to past data. looking while Q2 and Q3 2010 were also revised up). fundamentals (the state of the economy. 560 These ‘policy-created fluctuations’ will become 550 apparent in Q4. Although exports have been stagnant. 140 135 Durable goods Semi-durable goods These policy-induced fluctuations make it hard to 130 Non-durable goods 125 Services gauge the economy’s true state. 2.6% in FY 2011 bounce back – were it not for misguided interventions (unchanged). BNP Paribas October. But we expect a 2.6pp. to resume in 2012. However. Q1 2008=100) economy might enjoy some support in Q4.6% in 2011 (1.4% in 2010 (3.5 % minus 10. Ryutaro Kono/ Hiroshi Shiraishi 16 December 2010 Market Mover 30 www. these two factors alone 530 7. On this score. rebounded in Source: Cabinet Office. just like the green car subsidies. In a similar vein. According to our estimates. domestic demand still and 1.6%) by the authorities.0% in Q2. thanks to the 510 downsizing of another stimulus programme – the 500 eco-point system. (The the eco-point system will have faded. we see Japan emerging from 105 its soft patch. by which time fallout from the end of path in the past several quarters noted above..4%). when negative payback will emerge 540 for the Q3 rush to buy green cars and cigarettes.6% in Q1 cyclical recovery. the recovery Chart 3: Real GDP (JPY trn. led by China. 100 95 partly owing to ongoing adjustments in the global 90 IT/digital industries. has only Chart 4: Domestic Final Consumption robbed demand from the future. the 120 outlook does not look too bad as there are growing 115 signs that global manufacturing. there will be comparable negative payback in Q1 2011. triggered by exports.9 % is unlikely to contract that much. we expect growth to be significantly affected by policy factors in the coming months. our new we suspect that Japan’s stalled factory sector would annual growth forecasts are as follows: 3.GlobalMarkets.7pp (2.8% in Q4. 2.8pp in annualised terms). they should start accelerating in 85 the not-too-distant future on the back of surging Q1'07 Q1'08 Q1'09 Q1'10 Asian demand. the eco-point system. our forecasts would probably driving the current stock market rally. It is these base effect for FY 2011 rose to 1.9pp from 1. That said. This programme for buying 02 03 04 05 06 07 08 09 10 11 energy-efficient appliances generated a surge in last- minute demand products such as LCD TVs in Source: Cabinet Office. BNP Paribas October and November. exports to China. The pace of growth should accelerate is largely due to the official revisions to the growth from the spring.After a modest contraction in Q4. not be significantly . 4.

10 0.25 0.30 4. End Period. Thereafter. We believe that the Fed is unlikely to hike rates expectations today and so raise prices and any time soon (not until late 2012). portion of the curve at that time (Chart 2). Given this. central bank and political news (US fiscal agreement). We believe that the Chart 2: 2s10s vs Fed Funds sell-off reflects a combination of bad positioning.10 0. this means the economy will grow significantly above trend for an unusually long period.15 3.00 1.40 Source: BNP Paribas. We expect 10-year Treasury Japan yields to reach 3.25 10-year 1.75 2.00 1.50 3.10 overdone and will partly reverse during Q1. the activity today by lowering real policy rates. and making exceptional helicopter drops of money to ƒ The USD's reserve currency status is fraying build up expectations that it will be able to avoid around the edges. which should flatten the 2s10s fiscal consolidation plans. The Fed is way off. Call Rate 0. There are no credible expect a sharp widening in that spread in anticipation of the first hike. we believe the sell-off is 2-year 0.00 1.30 1.00 1. should exert upward pressure on 10-year 3.40 1.00 3. Spot Rates as at 16 December In light of the surprisingly large jump in bond yields in recent weeks.35 3.90 3.08 1.28 1.25 3.Bonds: Forecast Update Table 1: Key Bond Yield Forecasts „ We have revised our government bond forecasts in light of the surprisingly large jump Spot Q1'11 Q2'11 Q3'11 Q4'11 Q1'12 in yields in recent weeks.25 0.75% by the end of 2011 and ODR 0.50 0.00 Eurozone „ Longer term.10 0.30 0. ƒ The Fed has made it clear that it wants to raise Putting this into the context of our bond yield inflation.GlobalMarkets.25 „ In the near term. Our view is that the stock of QE is a forecasts. Source: Reuters EcoWin Pro ƒ In the near term.6% a year later. We believe that the key influences on the outlook for yields are: ƒ There is an unusually large output gap.75 0. the recovery faces substantial headwinds and final demand growth has ƒ Also at some stage.25 0. among 2-year 1.00 1.75 4.85 1. deflation.30 0. we have revised up our yield forecasts Source: Reuters EcoWin Pro for the next two years (Table 1).10 0.25 0.40 1. Debt is rising quickly in relation to GDP. we believe that QE2 is a Refi 1. The difficulty is attaching weights to these different factors. At some stage. mortgage demand will return remained lacklustre. the Fed will sell Treasuries back to the market − an exceptional occurrence.30 0.25 0.70 other things.20 0.07 2.50 10-year yields. so for some time. ƒ We believe that the first Fed rate hike is a long ƒ Policy rates are exceptionally low. ƒ At some stage.30 0.25 0.66 0.30 0.25 0.00 1.00 1. US Fed Funds 0. 2-year yield should maintain a narrow spread to Fed funds through to mid-2012 (Chart 1). (it may be the middle of the decade but that ƒ Underlying inflation is very weak and will remain should affect bonds). 10-year 3.20 1. better economic data (except US payrolls) and year-end market conditions.00 commitment to create inflation . Paul Mortimer-Lee / Cyril Beuzit 16 December 2010 Market Mover 31 www. the 2-year yield will continue to be very promise to create excess inflation down the road much dependent on the outlook for the Fed funds (i.50 3.e.25 0. around 2014) that will raise inflation rate.10 2-year 0. we ƒ The budget deficit is unusually high.10 0.30 1.20 1.50 1.

it is noteworthy that risky assets have not extended their gains in the ƒ Inflation on the core measure to have troughed wake of the recent sharp setback on bonds. maybe Treasury sales by the Fed (the soft exchange rate policy favours the latter first). Paul Mortimer-Lee / Cyril Beuzit 16 December 2010 Market Mover 32 www. the ƒ Debt to be higher. will fluctuate. We expect the rally in the 10-year during Q1 to give Ahead of the 2003/04 hiking cycle yields were 3½%. The move so far has Based on a 3:1 relationship between policy and been primarily cash driven but. weeks ahead with a big question mark about the The last will be the most important. policy is currently 75bp appears to be a significant factor exacerbating the lower than ahead of the 2003/04 Fed-hiking cycle. uncertain. We rates are rising it argues for less demand via expect 10-year yields to rise to around 4. judging from the very poor liquidity in bond These factors argue for higher bond yields over the markets. but it seems likely that there will be a ƒ How much competition from the return of private reasonable risk premium in Treasuries. drivers – not Fed funds expectations. beyond some asset switches. over the past couple 10-year yields. This highlights that. ƒ Emerging market inflation to be higher. sell the fact’. so the long-term by year-end market conditions. Spreads remain off the belly of the curve. We expect 10-year bond will be unstable and hence the curve’s shape yields to move back down during Q1. The pace of the sell-off will depend on: During 2012. Risk appetite remains solid and supported by ample In one year’s time we would expect: liquidity conditions. from bonds to stocks. This and lower spot inflation argue for lower played a role. With inflation funding needs adds to yields (since mortgage rising. taking on board all of the above. Although we expect the ECB to 50bp or more of excess steepness compared with begin hiking rates earlier than the Fed. investment funds have been switching their allocation ƒ QE to have ended. In particular. but the deficit not much better. we continue past cycles. ƒ The extent that the market prices in an inflation The focus will remain on peripheral markets over the overshoot over the coming decade.Further out along the curve. like without that much solid macro ‘news’. but at a level below today's. though the flip side is more demand 2012. as new purchases recover). hence we target 3. yields should be higher by the end of 2011 than at we would expect 2s10s to flatten during 2012 as the the end of . while the trend in because long-term expectations about growth. this suggests that the 10-year yield of sessions. By ƒ Less central bank appetite. However. though by slightly less than in the US. temporarily steepening the curve. and In Europe. we believe that the lows More generally. way to a sell-off over the remainder of the year – in We believe that. Growth this the recent sell-off looks overdone. inflation and the deficit are going to be the main we expect a rally early in the new year. The political and fiscal prospects are highly yields. the curve is likely to fluctuate a lot in yields are behind us. we would expect at least a 100bp sell-off. yields is likely to be upwards through most of 2011. We would be surprised if this does not add up to possible downgrade. Expectations QE1 in 2009) and the move has been exacerbated about the future are very unstable. to expect Bunds to outperform Treasuries linked to the greater willingness of the Fed to deliver unconventional policy stimulus to raise inflation and inflation expectations.6% by end- refinancing. Nonetheless. the attendant swap spread widening should be around 25bp lower now compared with indicates that convexity hedging flows have also 2003/04. yields. first Fed rate hike approaches. particularly for demand for early 2011 auctions. bond market sell-off has so far more to do with wrong and positioning − the latest surveys of speculative positioning suggest that the market may have to sell ƒ The market to be looking for Fed rate hikes and off more before reaching a turning point. Thereafter. The start of the year has been very close to consensus expectations recent sell-off was primarily due to extreme market at the end of 2009 – yet the market has done a lot positioning (QE2’s ‘buy the rumour. turn. Recent data suggest that ƒ The recovery to be better established. We suspect that the their November highs but renewed stress looks likely commitment to excess inflation will be a temporary with Moody’s putting Spain’s rating on review for a one.75%. year-end pressures to cut balance sheets coming year.GlobalMarkets. the first Fed rate hike will be approaching and possibly even the start of a reversal ƒ How much the fiscal and debt premium adds to of QE. Overall. we have also revised up our forecast for Bund yields. recent moves on Treasuries.

30y 5% 6% 4% -1% -2% supply Source: BNP Paribas The peak in Treasury issuance was seen during 2008- 09. with which we expect to remain relatively stable through Treasury 2s5s10s reaching -75bp.30y 36 112 76 level. we are revising up our 5.7y 207 232 25 7 . 4 .5 . Why? Table 3: Fed Will Shift Purchases Away From Because rates along the curve do offer value in the 2y and 5-7y in Favour of 7-10y Sector near term thanks to all the factors cited above. the back-up in rates seen since 30y 168 November threw cold water on expectations that QE 5y TIPS 32 would put a soft cap on rates. core inflation at its lowest in decades.5y 14% 18% 5% -9% -13% 2. Therefore. The driving force in the USD rate market will continue to be yield 2y 420 grab. the 5y FY11 (see Table 1 for breakdown of issuance should still lead the way down. or somewhat above? That is 1. Since then the Treasury has cut issuance sizes and net as rates turn around? We are confident that we will not supply is now running at USD 100-110bn per month see the extent of richness we did at the time. Still we believe that after the turn of the year.5 Trillion into the system.4y 180 256 76 almost surely add fuel to the fire and bring expectations 4 .2.5y 21% 18% 20% -1% 2% 5. 7y 348 10y 264 Having said that.5y 45 280 235 how temporary or tentative it may prove to be. we would be hard pressed to see 10s30s IR Strategy NY 16 December 2010 Market Mover. There are clearly risks to either side of this 17 . Unless was the main beneficiary of the rally before the market the collective mindset of investors shifts toward reversed course in November. as much as the direction.5 . QE2. it is best to overweight per month that the Fed intends to purchase as part of the belly of the curve.10y 4% 10% 23% 19% 13% „ QE2 purchases will cancel out net Tsy 10 . Interestingly.10y 207 176 -31 earlier forecasts. (USD bn) Fed’s actions may actually have conspired to put a soft Expected Fed Gross Supply in Issuance Net of floor on the 10y and 30y rates. 3y 384 preference for (high-quality) spread products and 5y 420 selling convexity (think callables and mortgages).2. which will manifest itself in duration extension. more so than the 2y. investors will test long positions.5.GlobalMarkets. Maturity Purchases in Next 8 Months Fed Buying Next 8 Months Any improvement in the employment picture.17y 18 0 -18 end of Q1. persistently high unemployment and Net Issuance in Bills 120 Treasury purchases by the Fed are likely to prevent a Redemptions (ex-Bills) -755 runaway selloff in the early part of 2011. no matter 1. the 30y yield is unlikely to sectors it appears the Fed’s purchases will not perfectly drop precipitously because concerns about long-term match the supply in that sector (see Table 2) The 5y inflation in the face of QE are likely to persist. However. Is this likely to happen . below. would 2. giving rise to a compression of the This monthly figure closely matches the USD 110bn 2s10s30s spread.5 . look for a reversal in Maturity MBS Program 2009 Program New Allocation MBS Pattern 2009 Pattern rates – back to 3%.4y 11% 20% 20% 9% 0% not quite the point. at over USD 150bn of net supply per month.USD Rates Outlook in Q1 „ Macro environment supportive of low rates through Q1 Table 1: FY 2011 Treasury Coupon Issuance Forecast (USD bn) The confluence of lacklustre growth. putting the 10y at around 3% by the 10 . In other words.115 if they succeed. follow suit. What became apparent 10y TIPS 64 is that the Fed is doggedly going after inflation 30y TIPS 15 expectations. when looking at specific maturity Turning to the back end. Non-Objective Section 33 www.5 . trying to boost them in the long run. And Coupon Issuance: 2. So at Allocation in Allocation in Change vs Change vs the very least what we can say is.5 . then intermediate and long term rates Source: BNP Paribas have no reason to be anywhere near the lows of 2009 and 2010. even in the absence of a Table 2: 7y-17y Debt Outstanding is Shrinking material improvement in the economy in short order.5. and there is reason to believe they will given the amount of excess liquidity they are pumping Total Net Issuance 1. The 10y should also forecast). no Source: BNP Paribas longer held back by balance sheet constraints as they are now.17y 6% 7% 2% -4% -5% 17 .5 .7y 38% 21% 23% -15% 2% 7 . As a result.5y 180 280 100 for a faster recovery.

Yield Book local kinks on the return profile mark the sectors to buy (peaks) and the sectors to sell (troughs). In our view.8 continue as the overall disinflation theme also helps flatten the yield curve. we expect this to 0.2 under 1. or lagging massively in the event of a rally.4 Early 2017 forward rates. while issues maturing in early 2014 (Jan 80 0. 0. 0.4 Purchases will now focus on the 7-10y sector much more than the market was previously accustomed to. In fact.25% 05/16 and the 2y and 5y sectors will get fewer purchases 1.05 favour bullets over barbells (see Chart 2).10 bullish/bearish scenarios we find that issues maturing Debt Outstanding net 100 of Fed Purchases mid/late 2016 still look attractive from a return -0. a significant steepening in the back end Mid 2016 .bnpparibas. Tsy issuance IR Strategy NY 16 December 2010 Market Mover. the 10y 3m Nominal Returns 1.875% 02/14 or 1. Nevertheless. because of the implication for 1.move decisively below current levels of around 100bp – Chart 1: Projected 3-Month Treasury Returns even though that is still on the high side as far as the under an Unchanged Yield Curve (%) history of this spread.S.2 3m Nominal Returns (see Table 3). there are other pace of Treasury supply has historically had strong technical factors at play that lead us to foresee a explanatory power. Non-Objective Section 34 www.6 Sell 1. Issuance Forecast analyzing the Treasury universe under various 120 YoY Change in 1+ Yrs -0. Thus. and in the very long end the Fed will purchase Source: BNP Paribas.) perspective.75% 01/14 and 1. this should also keep 5y and 10y swap spreads from rising substantially due to the general directionality.15 bullish scenarios while limiting losses on bearish scenarios.25% area as of this writing. Treasury Direct With rates likely to be range-bound/moderately lower in the coming months.5yrs in maturity. and purchase only about half 0 of the supply out till the 5yr sector.GlobalMarkets. Yield Book about half of supply.2 forward 10y swap rate is in the 5. Having now backed away from record steep levels. -20 0. 1. Interestingly.10 in the event one were neutral on rates or overweight 0 0.875% 09/17 „ RV along the Treasury Curve 0. 140 -0. The most Chart 3: Declining Treasury Supply to Put prominent peak is in the mid 2016 to early 2017 sector Widening Pressure on Swap Spreads and newly issued 10y notes.00 2014 and Jan 2014) and late 2017 (Aug 2017 and Sept 60 2017) fall in the troughs of the return profile.6 On the flipside. Anything above 5% begins to look attractive for 1 2029 / 2030 / 2031 2014 long duration players such as pension funds and 0.05 (R. Newly Issued 10s is also rather unlikely.4 A quick look at Chart 1 shows us the various peaks and 2 3 4 5 6 7 troughs along the 3-month return profile of Treasuries Effective Duration under an unchanged yield curve environment. In the 7-10y sector 0 5 10 15 20 the Fed will be purchasing more than the monthly Effective Duration supply. and it seems this is set to decline in moderate upward bias in the coming months.20 96 98 00 02 04 06 08 10 „ Cautiously optimistic on swap spreads Source: BNP Paribas. Chart 2: Favour Bullets over Barbells in the 4-7y Another important point is that the market will have to Sector adjust to the Fed’s shift in purchase allocation. The Source: BNP Paribas. the support for the belly of the curve is greater.6 this backstop bid will likely keep the back end from selling .H. To provide some perspective. 40 the above mentioned portfolio would perform the best 20 10y Swap Spread 0. This was the rationale behind one of our top relative value trades since the November FOMC 1 meeting – the 5s10s Tsy flattener. 1. helping us 0.4 Late 2012 / Early 2013 For example the Fed will not purchases securities 0.875% 08/17 or 1. the very presence of 0. Log Scale Inv.15 In addition to the profile in an unchanged yield curve. Buy 3. The y/y the months ahead (see Chart 3).8 insurance companies.

with a 0 final resolution possible in H2 2011. Corporate issuance tends to weigh on swap spreads due to issuers 75 hedging their fixed liabilities by receiving in swaps. FHLB expect lower rates in Q1. This makes earning the carry an attractive proposition over that Chart 5: Carry and Rolldown in Agency Bullets time span. We expect investors to continue FHLBanks 314 340 391 Sub-Total 849 833 834 moving out the curve to pick up yield and extend Bullets Fannie Mae 86 77 69 duration. and a dearth of swapped issuance. We prefer Notes Freddie Mac 486 535 481 the 3y-5 sector. the deadline is unlikely 120 100 to be met given lack of progress on this issue. FHLMC. 60 Issuance tends to be below average near the end of the year so this should help spreads widen. due to the widely held Oct Jan Feb Mar Apr June Aug Sep May July Nov Dec view that the economic backdrop will not be conducive Source: BNP Paribas to a big spike in rates in the next few years. especially if yields start to come down again.GlobalMarkets. Freddie Mac 128 122 110 We also like callables for additional pick-up in yield and FHLBanks 148 170 196 Sub-Total 362 369 375 a wide band of outperformance relative to duration Total Issuance 3. bullet -80 5nc1y berm vs. Non-Objective Section 35 www. Since we Source: BNP Paribas. and Discount Fannie Mae 512 563 620 now offers biggest carry/rolldown package. the widening impact could be 13 17 21 25 25 20 7 magnified in the 10y sector in particular due to a 1 combination of net removal of Treasury supply in that -5 2y 3y 5y 7y 10y 30y sector as noted above.165 2. We like agencies due to carry/rolldown advantage over Table 4: Combined GSE Issuance Projections Treasuries. but also on vol Freddie Mac 216 206 185 adjusted .376 3. although 45 January tends to be one of the biggest issuance 30 months in the year so this will pose challenges (see Chart 4). Chart 6: 5y Agency Callable vs Bullet „ Agencies to do well. we would -60 5nc6m berm vs. -30 -20 -10 0 10 20 30 40 50 60 70 80 90 100 Parallel Shift (bps) In the interim. before gradually rising IR Strategy NY 16 December 2010 Market Mover. followed by the first draft in Q2 2011. We would expect the 10y swap spread to Source: BNP Paribas reach 20-25bp as a result. Go out to the 10yr sector though and the story changes somewhat. However. Fannie and Freddie continue be supported by unlimited backstop from the US Treasury Source: BNP Paribas and investors don’t seem to be worried. issuers appear to be comfortable swapping 0 from fixed to floating out to 5yrs. bullet think private recapitalization is on the cards. We 80 60 would expect a proposal to be presented by the 40 20 deadline. issuers are reluctant 28 15 31 12 to take a risk by getting into the carry game for fear that 25 10 4 rates may indeed back up briskly past the first few 19 27 years. Many issuers are content to 55 Rolldown 49 Carry lock in rates 10 years at the current levels (despite the 43 recent backup) as they still fall in the lower end of 37 26 historical (USD bn) There are other factors at play that will periodically tilt 90 Average Issuance since 2000 the balance one way or the other. The 5y sector was recently under pressure Proj Proj Proj in billions 2010 2011 2012 mostly due to temporary re-allocation related of Fed buying is going to have an even steeper Chart 4: Expect High Corp Issuance in January decline relative to what was seen in recent years.584 3. especially callables 220 200 GSE reform will start coming back into focus as we Total Rate of Return Difference (bp) 180 160 approach the congressional deadline of January 2011 140 for an overhaul plan.382 2. 15 In general. especially in the sell-off. FNMA. which not only provide best FHLBanks 1167 1284 1477 Sub-Total 2. Therefore. Although we don’t -20 -40 5nc3m berm vs. bullet expect that the government will guarantee both MBS -100 and debentures whatever the arrangement is.578 carry/rolldown along the agency curve at 49-51bp over Callables Fannie Mae 319 287 258 6m (see Chart 5) in absolute terms.787 matched bullets. In other words.

shorter 1. at 5% increase (Chart 9). an investor will give Market – Helping Keep Vol Relatively Low up some outperformance potential but widen the 200 6m5y Implied Volatility 0 outperformance range for any given horizon by moving from a 5nc3m berm to a 5nc6m berm (Chart 6). and -12 in the US the pattern has been quite strong (Chart 8) we recommend callables Chart 7: Agy Issuance Supplying Vega to Vol with 6m to 1y lockouts. In fact.4 trillion for 2010. -8 bound and this drives gamma vol lower vs vega vol. Inverted R.6trn and USD 3.5 2y Swap Rate (R. issuance in structured notes such as Agency callables picked up Chart 9: Actual Directionality in Implied Vol is during the period when rates remained low and Vastly Greater than That Implied by Skew investors searched for yield pick-up.3 „ Volatility surface may gradually rotate toward 2. and this should continue to be supported since sentiment picks up. with the other third in long-term 40 -140 callables and bullets.5 that of Japan's 1.through the rest of the year.S) 160 outperformance of ~150p over a duration-matched -40 bullet. Additionally. In general. Payer skew is already at historical strikes as opposed to ATM+50bp) if economic highs. 12 As the Fed-on-hold and low-rate environment becomes 8 more and more . primarily driven by re-growth of the advance business Chart 8: Upper-Left Vol Leads the Move at the FHLBanks. Projections for 2011 and 2012 Mar-09 Jun-09 Sep-09 Dec-09 Apr-10 Jul-10 Oct-10 are for total agency debt issuance to rise by ~6% per Source: BNP Paribas year. so has swaption implied vol.7 0. More specifically. A 180 Vega Vol Supply from Agy -20 5nc6m has a lower projected maximum Issuance ($mm. to USD 3.8trn respectively. investors will show interest in buying protection against when the market sells off and reaches those higher higher rates while rates are still low. payer skew is positive).5 0. All of these are symptoms of a low-rate environment. but will withstand a larger range of yield curve 140 shifts (from -20bp to +100bp) before underperforming -60 120 over the 6m horizon. even when considering that vol is higher at strike levels above the forward rates (i. -4 Also.H.e. -80 Total debt issuance for the three housing GSEs – 100 Fannie Mae.5 1. Jan-10 Apr-10 Jul-10 Oct-10 We certainly acknowledge the risk scenario of higher Source: BNP Paribas rates. and vol will likely rise in that scenario.7 1y2y/1y10y Vol Ratio 4 shrink their long-term debt issuance while filling in 1y2y/5y2y Vol Ratio financing gaps with increased discount note issuance 3. This 1 was not only because of realized volatility but also 0. but the 0 ratio of 2y tails over 10y tails are lower since short rates are not expected to be raised any time soon. Freddie Mac and the Federal Home Loan -100 80 Banks – is on pace to total ~USD 3.5 because the sell-off moved the front end of the curve out of the "anchoring" region of ultra-low rates. 3 1. Non-Objective Section 36 www.H. then it could be useful to look at the vol surface's evolution in Japan for some 4 guidance. volatilities will likely go back down especially Source: BNP Paribas for shorter expiry/front end.5 0 Taking into account our bullish view for the coming Mar-08 Sep-08 Apr-09 Oct-09 May-10 Nov-10 months. the ratio of short expiries over longer expiries is much lower since rates become increasingly range. Fannie and Freddie are likely to 1. IR Strategy NY 16 December 2010 Market Mover.g. Not only are levels of vol much lower. But even then one strikes then the vol at that particular strike still tends to can expect vol to rise for fixed strike levels (e.S) (see Table 4). This has supplied 1y10y ATM Vol Change on Week vol into the marketplace and if rates go back down a (ATM Vol) minus (Previous Week's Vol at that Strike) similar pattern is likely to play out (Chart 7). 0. -120 60 Just under two-thirds of this issuance has been in discount notes.1 2 As rates have risen since the FOMC delivered QE2.9 expiry/front end volatilities jumped significantly.

they carry well 0% 1% 2% 3% 4% 5% 6% and gain value in a rally. Non-Objective Research Section 37 www.063) Sell 4y10y Rec 3. Jan-01 Jun-03 Dec-05 Jun-08 Dec-10 Source: BNP Paribas We explore strategies with a limited upfront cost but large potential for gains if spot rates continue to stay Chart 2: PnL Profile at Expiry near current levels.00% strike at the time of writing) and sell twice the notional in a 10 200bp out-of-the-money receiver. norm vol) at just over 100%. This reduces the upfront cost and the only scenario where the trade PnL ($MM) 5 loses money at expiry beyond the premium is if the 10y spot rate is at ultra-low levels (below 1.US: Ideal Timing for LT Bullish Hedges Chart 1: Hedging Against a Wide Range of „ Much has been said recently about the Lower Rates (Profit Region at Expiry) failure of QE2 to drive rates lower. In the meantime. Table 1: Trade Details for Receiver Spread with Current Cost of 303c Structure Strike Norm Vol (bp) Notional ($) PV01 ($) Vega ($) Gamma ($) Theta ($) Buy 4y10y Rec 5.791) 739 924 Source: BNP Paribas Suvrat Prakash 16 December 2010 Market Mover. and Chart 2 shows a PnL profile.000. +50% in a -50bp move.871) (653) 3. thus they are often thought 10y Spot Rate at Expiry of as interim hedge assets.00% 115. our forecast for a prolonged period of relatively 7 10y Swap Rate low rates is based on the economic backdrop 6 of low/stable inflation and a high unemployment rate.391 (3.00%).8 100. The consensus across 5 Profit Region Wall Street economists is that this fundamental landscape is unlikely to improve much in the 4 coming quarters.080 1. 3 „ The recent rise in rates and vol has led to a much improved entry level on strategies such 2 as those which are long delta and short vol.222 (14.370) (658.000 34. After one Source: BNP Paribas year. The trade we show is to buy an 15 at-the-money 4y10y receiver (roughly . This has improved Note that the investor would be selling the receiver significantly from the 92-94% range it had been in skew (ratio of 3%-strike norm vol over 5%-strike during the three months prior to the recent selloff. the estimated PnL is +25% of the entry cost in an unchanged scenario. Table 1 shows the trade details and various greeks.987 Net 14.000) (20. (5) These types of structures have often been unwound (10) well before maturity. The carry is positive due to theta and rolldown in the 4y10y rate. and flat in a +50bp move.591 644. 1 „ STRATEGY: Consider receiver spreads in 0 vega space such as the structure 0 Chart 1 shows the profit region for the trade at expiry.2 (200.00% 116.GlobalMarkets. However.

40 30 20 10 OIS/Bor Steepeners 0 Nov-10 Jan-09 Jun-09 Mar-09 Sep-09 Dec-09 Feb-10 May-10 Aug-10 Sep-10 Dec-10 The OIS/Bor spread curve has been flattening mechanically during the sell-off as the reds and greens have pushed wider but OIS has remained Source: BNP Paribas fixed and 3m Libor settings have only nudged higher.GlobalMarkets. Non-Objective Research Section www.US: OIS Firm. We recommend adding a 70 Basis Spread (bp) long 2y swap spread position as protection in 60 case the European crisis intensifies and Libor 50 blows out. 20 15 „ Nerves are a bit frayed. driving 30 eurodollar futures lower and mechanically 25 pressuring OIS/Bor and swap spreads wider. Having experienced two prior waves of sharp increases in dollar funding pressures due to the European crisis – in early 2009 and spring of 2010 – we think most high credit quality European banks have already secured funding over the turn. European 0 sovereign debt came under renewed pressure ED1 ED2 ED3 ED4 ED5 ED6 ED7 ED8 Spot as Moody’s placed Spain (Aa1) on review for possible downgrade. 40 During yesterday’s sell-off. balance sheets still 10 need to shrink and funding pressures are likely 5 to intensify going into year-end. „ STRATEGY: We favour being in steepeners Chart 2: OIS/Bor Spread History in OIS/Bor spreads as the back-end of the curve 100 is simply much too flat (Chart 1) and we think 90 swap spreads will stay under pressure for the 80 OIS/Bor ED2 OIS/Bor ED6 next few 38 . In as the Fed renewed its commitment to maintain an 45 easing stance at Tuesday’s FOMC meeting. but front Libor settings Source: BNP Paribas barely nudged. -10 shrinking of balance sheet and seasonal withdrawal -20 of liquidity we think reds and greens could continue -30 to sell-off. The front of the curve should stay anchored as we Source: BNP Paribas think overnight to 3m Libor settings will stay tame. The current 4bp slope is below the average Basis Spread (bp) 10 slope of the past two years of ~8bp. Moreover. and Chart 3 tracks the slope between these two 20 spreads. the slope between M11 at -40 +35bp (ED2) to M12 at +39bp (ED6) is likely to -50 Nov-10 Jan-09 Jun-09 Mar-09 Sep-09 Dec-09 Feb-10 May-10 Aug-10 Sep-10 Dec-10 steepen going into year-end. Libor quotes are just that – quotes – and they enjoy (or suffer from) a potential disconnet Mary-Beth Fisher 16 December 2010 Market Mover. A 2-year history of 40 OIS/Bor spreads for ED2 and ED6 is shown in Chart 30 ED2/ED6 slope 2. convexity hedgers 35 OIS/Bor Spread (bps) finally materialized in the market. Given underlying 0 pressures in the market from convexity hedgers. Libor Under Pressure Chart 1: OIS/Bor Spread Curve „ OIS remains fixed in the front end. Chart 3: OIS/Bor Slope History The result has been that the OIS/Bor spread curve looks too flat (shown in Chart 1).

com 39 . steepener by being short the OIS/Bor M11 spread Mary-Beth Fisher 16 December 2010 Market Mover.GlobalMarkets. position is that an intensifying crisis in the Eurozone translates into sharply higher 3m Libor and this Longer-dated eurodollar futures. which should We recommend entering an OIS/Bor spread curve outperform if such a crisis occurs. To hedge that risk we recommend overlaying a long 2-year swap spread. appear to section of the spread curve inverts – similar to what be coming under renewed pressure from convexity occurred in the spring of 2010 and February of 2009. reality of where they and long the M12 spread. however. generating considerable paying in swaps and a bank’s perception vs. The primary risk to this can fund. while the inversion last spring endured for pushing spreads wider. Non-Objective Research Section www. hedgers who are squaring-up positions before year. The Feb09 inversion was sharp but only lasted a few end. several weeks.

reasonable mapping from primary mortgage rates „ We like buying lower coupon specified given current spread levels. 15Y 4 -0-30 5 -0-16 7 attractive carry and the low probability of a 30Y 5.6 26. we think that mortgage duration may have a ARMs offer attractive spreads and IO ARMs smooth ride in either rate direction going forward.5 -0-13 0 -0-05 5 government-induced refi wave in 40 .3 25 „ Prepays should remain contained on an 21.7 Nov 15.43%. With major convexity selling behind us.30% threshold was key in our mind higher coupon specifieds may not hold as much (roughly 75 bp in the money). should continue to prepay slower with limited The prepayment S-curve of the universe in prepay opportunities. the convexity profile of the mortgage universe capacity limits. flush behind us and should we rally back to rate lows or beyond.5s and 5s may Anish Lohokare / Timi Ajibola 16 December 2010 Market Mover. this is a point.MBS: 2011 Outlook – Status Quo „ We favour an overweight MBS position as Chart 1: FNM 30Y October 2010 S-Curve convexity flows are likely behind us with the 10Y selling off beyond 3.5 in a sell-off is not likely to be material. net supply is choked off as Fed prepays may have slowed from USD Chart 2: 15Y vs 30Y Performance by Coupon 32bn to USD 12bn due to the sell-off and should (12/15 close) be readily absorbed by other investors.1 30. aggregate is more relevant since servicers are the „ We like CMOs that benefit from the dominant convexity hedger in today’s market. Incremental extension 35 33. 2010 (10Y~ 3%) 24.50%.5 3. 15Y 5. 15Y 3. 15Y 5 0-03 0 0-05 1 30Y 6.GlobalMarkets. 10 8.5. lack of a further increase in indicates that the main choke off in prepays happens prepayments should keep overall convexity of the around the 3. In fact. More importantly.8 10Y ~ 3. if we rally beyond a certain numbers are expressed in 10Y terms.25% overall scale in a rally due to capacity 15 constraints. prepays for example in 4. 30Y 1M Performance 15Y 1M Performance 30Y 4.5 0-19 6 0-10 7 „ 15s/30s should underperform on the strength of the basis. In terms of the current pools as a cheap option against a rally but coupon the 4. „ STRATEGY: Overweight into 2011 with up in Prepays: Remain muted.6 „ The status quo is likely to prevail on GSE 5 3. with capacity limits at coupon bias. though specific coupon-vintages under threat We think that capacity constraints may have come Overweight mortgages with the major convexity into play in prepays over the past couple of months. GN/FNs should maintain Source: BNP The mortgages basis has suffered as the sell-off capacity constraints are likely to keep prepayments caused convexity selling. Of course.2 1m CPRs 20 10Y~ 3. as close exploration of every possibility 0 leads to a dead end. After convexity selling value.5 26.50% 1. leading to an overhang of relatively dampened. but if it rallies. 15Y 4. -50 -25 0 25 50 75 100 125 150 175 200 225 250 Moneyness „ Issuance should be about USD 100bn/month at current level of rates with net issuance about Source: BNP Paribas flat. Yield Book the status quo. TBA-ish IIOs look attractive vs the MBS. 30Y 5.50% 10Y treasury. Non-Objective Research Section www. low rates.50% mark on Wednesday.2 30. prepays in lower dealer inventory in lower coupons. with the current coupon overshooting to „ Short resets and higher coupon seasoned 4. As shown in Chart coupons are likely to be significant. 30 27. slowdown in speeds due to the sell-off that Servicer convexity flows do not depend on who holds locked out PACs.4 reform. like being overweight mortgages into the New Year. as Treasuries crossed the 3. While these universe at bay. we storied IIOs for the same reason.5.7 28. But once we hit 1. up in coupon in GNs could outperform on supply.5 -1-05 1 -0-16 2 „ We continue to favour up in coupon on 30Y 4.

0-2004 2004 48 183% 56 225% FNMA6. helping the reinvestment of Fed MBS paydowns into Treasuries. as a close exploration of every possibility leads to a dead end. FNMA5. 15s/30s should months to realize due to processing times. trade.0-2005 2005 10 35% 20 80% ceiling expected even without the GSEs. If any or both GSEs are merged with GNMA. capacity constraints are UIC should outperform likely to keep supply stuck at current levels.5-2006 2006 8 34% 18 69% scale. overseas investors and money 15/30s: Negative as 30Ys rebound managers easily taking up this slack. Anish Lohokare / Timi Ajibola 16 December 2010 Market Mover.5-2008 2008 0 0% 1 -25% FNMA5. Yield Book Even if the refi index were to increase beyond the highs reached recently. help up in coupon as well. we see banks.5-2003 2003 26 80% 40 175% significantly lower on portfolio size than mandated). we expect issuance to be around the current likely to be focussed on high level issues facing the USD 100bn/month levels at current rate levels. FNMA5. underperform.5s and MBS %Even OAS %Even OAS 5s down. As we expect up in coupon in 30Ys to do well. LLB 80 139% 85 117% MLB 56 140% 64 127% HLB 26 148% 32 143% Supply and demand Source: BNP Paribas.0-2008 2008 0 0% 0 0% FNMA5.5-2007 2007 4 26% 12 71% FNMA4. FNMA4.5-2003 2003 22 36% 38 77% FNMA4.0-2002 2002 22 44% 36 84% almost USD 5trn mortgage credit portfolio is also LLB 60 101% 72 87% 2005 12 33% 23 70% continuing to be in play. Net country.0-2005 2005 32 111% 36 120% merged.5-2002 2002 26 39% 38 72% Regulatory outlook: GSE reform too big to solve LLB 34 64% 46 43% MLB 22 51% 40 47% Status quo is likely to be maintained despite any HLB 16 60% 25 48% discussions of reform. but as the coming fully to fruition.0-2003 2003 20 51% 31 110% buyer with enough capital in this market to take on FNMA5. For The new-year brings in a gridlocked Congress that’s 41 . in FNMA6.5-2006 2006 8 72% 18 221% GSEs’ retained portfolio is already shrinking. but we may Lower coupon 15Ys performed very well in the sell- have to wait until the new year to see these flows off as lower coupon 30Ys underperformed.0-2006 2006 6 28% 6 27% palatable option due to the bloody battle over debt FNMA5. but once again this would mean the FNMA6. A sell-off Net supply however is a different story due to the is likely to cause up in coupon flows.5-2008 2008 0 0% 2 -250% (<30 CPR aggregate) to be maintained on an overall FNMA4. either after an incremental prepays on the Fed portfolio may take a couple of sell-off or in a further rally.5-2004 2004 20 76% 35 213% faster shrinkage is possible (though esp FRE is FNMA5.5-2002 2002 21 47% 45 124% A merger of the GSEs is possible but should not LLB 74 112% 82 91% MLB 60 120% 70 106% impact the overall marketability of securities. The possibility of a government induced issuance is likely to straddle the flat level.5-2007 2007 2 30% 8 173% low equity prices. Identifier Payup Payup Payup Payup Thus we expect the status quo of muted prepays FNMA4.0-2007 2007 0 0% 0 0% government balance sheet is unlikely to be a FNMA5. Equally unlikely is spinning off the MLB 38 83% 60 98% HLB 28 108% 36 116% companies as private firms due to considerable losses. Taking GSEs on the FNMA5. large delinquent loan portfolios and already FNMA5. down in coupon in 15Ys/30Ys may outperform.0-2007 2007 4 205% 8 141% addition to operational constraints. these lower mortgage basis rebounds. and a FNMA5. To find a FNMA5. Non-Objective Research Section www.5-2004 2004 18 37% 29 73% FNMA4. Given cheap valuations. refinancing wave is unlikely in our opinion.0-2004 2004 16 48% 26 115% FNMA5. Of course.0-2006 2006 16 407% 20 795% and underwriting standards would also have to be FNMA6.0-2002 2002 68 130% 70 177% unlikely. as a result. with specific coupon vintage prepay stories FNMA4.0-2003 2003 60 215% 60 282% government taking on GSE debt which seems FNMA6. as the overall Specified Pool Valuation (payup levels prepay speed remains the same while the indicative only) contribution of 4s increases pushing that of 4. both on a spread and rate basis. HLB 30 106% 32 93% Differences in operations would need to be ironed out. and sharply from a USD 32bn level to roughly USD 12bn. fee schedules FNMA6.0-2008 2008 2 -23% 2 -13% FNMA6.5-2005 2005 12 45% 28 105% FNMA5. A rally may hurt low coupons But due to the sell-off these may have reduced disproportionately due to convexity and supply.reduce while those in 4s pick up.GlobalMarkets.

the spread is about 152 bp/I at 25 CPR. Consider a locked out PAC off around 66 WALA FG 5s. 120 7 100 6 Spec pools: Comeback in a rally? 80 5 Pay-ups initially came under pressure at higher rates 60 4 as concerns moved away from call risk. amortizing ARMs as their refinancing options remain Consider two Inverse IOs off 6s.5s. loan mod-hamp 2010 2009 2008 2007 2006 2005 2004 and loan mod-non hamp. Starting in February 2011. Non-Objective Research Section www. For the to have been lagging the pricing in of slower speeds. Higher locked out feature helps protect the bond. At an indicative price of 107-04 as of Wednesday ARMs: Favour short resets and high coupon 3pm. Bloomberg sell off materially from already high rate levels. given the PAC structure. as have been quite significant. 15 One wild card could be the additional data provided 10 by GNMA. has 30 subsided considerably. If the data is not available Vintage then the pool would be a fail. this was not the case in the 160 10 limited data that was disclosed. As seen in recent prepayment reports. the YTF is this slowdown going into the New Year. The TBA-ish bond at a USD 11 handle as a 4. In terms of relative value. the CMO market appears about 16 CPR. We like loan balance collateral off lower coupons. another TBAish. as muted 0 0 prepayments reduce the need for call protection. We continue to favour selling 20 Spd/I WAL 1 seasoned higher coupon pools. the adverse 140 8 selection of pools could affect the TBA deliverability. a negative factor for 42 . seasoned collateral speeds for Q1-11). IO ARMs continue to offer call protection vs prepay speeds. Should we rally however. about the speed at which it paid in Nov. If we protected. this bond is only 63 bp to the I-curve at 40 seasoned ARMs CPR.65%.25% yield to forward (YTF) at 33 CPR. In fixed rates on the other hand. In the inverse IO and it sense. Anish Lohokare / Timi Ajibola 16 December 2010 Market Mover. the profile is still likely to be attractive. Seasoning Provides Call Protection We expect a status quo on the structure of the in ARMs GSEs. GNMA did release Source: eMBS some of this data for pools originated since May 2010 but the data provision was voluntary on part of Chart 5: WAL and I-Spread Profiles for a servicers. but at 12 CPR it improves to 11. but have 40 3 2 since stabilized. Chart 4: IO ARMs Continue to be Call GN/FN: status quo Protected. The 6 12 18 24 30 36 42 moneyness of the coupons implies that extension risk is not likely to come into the picture unless we Source: BNP Paribas. The PACs off seasoned 5s for example benefit from this TBA-ish collateral thus offers a much better YTF if theme. If the speed slows down to As the market has sold off.GlobalMarkets. which is quite collateral in ARMs picked up. Fed paydowns reinvested into 35 treasuries. newer However at a speed of 20 CPR.9% 10Y (our expectation to some extent in 5. responding to lower reasonable given the considerable slowdown in the rates while seasoned collateral remained call refi index. The coupon seasoned ARMs offer attractive spreads as average life profile is also quite protected at relevant well. CMOs: Pricing in the speed slowdown its November speed. the spread is much higher at 150 bp.7%. GNMA will 5 require servicers to collect loan purposes data with 0 possible values of purchase.25%. loan balance IIO which prepaid at about 18 CPR last We like the theme of picking bonds benefiting from month and priced roughly around 15-24. While there was talk of loss mitigation Locked-Out PAC Off Seasoned 5s loans having high CPR. Depending on the 9 statistics that ultimately come out. up 25 in coupon in GN/FNs should outperform as lower CPR 20 coupons may suffer due to increased supply. refi. selling bonds off the speed slowdown is maintained. as the we continue to like short resets into Q1-2011. the YTF improves to 16. and thus the premium attributed to the explicit 45 Libor IO Libor Amort guarantee for GNs is unlikely to change materially. in 5s and rally back to only about 2. as storied collateral in favour of TBAish collateral makes valuation is attractive after recent cheapening. provides excellent insurance in a rally. 40 With the sell-off. Locked out 4. one loan balance constrained.

Such a market curve. In the main. The gradual for a better tone on the belly of the curve. across the EUR curve as well. development will help the belly of the curve to rally yields at the short end will push higher. the flattening bias has been interrupted by strong steepening pressures. unlike in 2009. The belly of the curve severely hit by QE Same player shoots again… When. Source: BNP Paribas Inflation expectations will moderate easing from the peaks reached earlier this year. At the moment. Patrick Jacq 16 December 2010 Market Mover. So far. This is a significant move especially as. given contagion effects. current non-standard temporary. at least partly. in 2009. QE2 is raising inflation expectations. the recent bear-steepening bias has resulted in a steepening of the EUR 2-10y of more than 50bp. This will put rates at the front end under tracking actual inflation rates. the recent correction should prove „ STRATEGY: Receiving the 2-10y remains our key strategic trade for 2011. The A decline of inflation expectations is a precondition outlook for next year is less favourable. fuelling bear-steepening pressures across the US curve and. the Fed started QE1. the steepening correction was not aided by a decline in short-term rates. as the normalisation takes place. inflation expectations are measures. „ However. favouring lower rates at the short Chart 2: Higher Real Rates Will Help Flattening end. the US curve suffered bear-steepening pressures that persisted for roughly two months. but this has Strategy: Receiving the 2-10y remains our key not prevented the level of excess liquidity from strategic trade for 2011. although the bull flattening we expect in Q1 will The short end will be more exposed next year gradually give way to bear flattening.EUR: Flattening Trend Will Resume Chart 1: Expectations Track Actual Inflation „ Although the curve is still flatter than at the start of the . As core inflation modest upward pressures. Non-Objective Research Section 43 www. We expect normalisation of liquidity conditions will cause the the current rise in inflation expectations to prove ECB to remove. Flattening remains the structural theme for the curve next year. bearish Source: BNP Paribas pressures on the belly of the curve accompanied the ECB’s rate cuts. bias will therefore be reinforced during the year. this has not This will help to lower the inflation expectation spread significantly through the short end of the bond component on medium and long-term yields.GlobalMarkets. The flattening slightly in the early months of 2011. expectations should also decline. Hence there is now room for a return to the structural flattening trend. But. The resteepening that took place therefore seems too large to be consistent with structural factors. the EUR 2-10y sector steepened by more than 40bp in the sell-off. The ECB recently decided to extend its accommodative conditions for liquidity. The latest developments are similar in several respects. This also affected the EUR curve. the continues to moderate in the US and will remain market is discounting that normalisation will be subdued in Europe. Indeed. In 2009. So far. achieved at the start of Q4 2011.

6mth. As a result. However. When it comes to the split between 3mth and 13day Source: BNP Paribas tenders.EUR: Excess Liquidity to Decline Next Week Chart 1: Short-Term Liquidity is Increasing „ In addition to its regular weekly MRO. there will be a MRO on 29 Limited impact on rates near term December. The magnitude of the decrease in liquidity will set the tone in the eonia space. other things being equal. Neither do we expect strong to an extension of short-term liquidity in the total tensions at the end of the year. and the drop in liquidity is significant. more pronounced. the ECB will have to provide liquidity as EUR 200. As a result. When it comes to the 3mth LTRO expiring. in particular because liquidity fell significantly at the end of September despite the solid demand for the 3mth. or a EUR 30-50bn drop in liquidity. A EUR 40bn fall in tensions. This range is wide as uncertainty remains high. one can expect that Chart 2: Limited Impact Near Term at least a quarter will not be rolled. From the 1y tender which is maturing. liquidity provided by the significant upward pressures on eonias near term. as excess liquidity will remain play tactical OIS/BOR (IMM1) spread extension. liquidity provided at recent 3mth LTRO suggests that demand for this maturity is solid. Don’t expect elevated.9bn are expiring from 3mth and 1y tenders. At the moment. demand next week. as a significant liquidity provided in the eurosystem. „ STRATEGY: Benefit from the recent compression to play tactical OIS/BOR (IMM1) spread extension. as this corresponds to carry trades benefiting from the last 1y tender the ECB conducted in December 2009. It is difficult to see precisely where demand came from. liquidity will have therefore have limited impact on Strategy: Benefit from the recent compression to rates near term. A split of excess liquidity falls below EUR 40bn. which will provide short-term liquidity. „ We expect liquidity to drop on the back of next week’s operations. Further. EUR 130bn/EUR 30bn between the 3mth and the we expect limited impact given our expectations for 13day tenders would lead. proportion of liquidity in the system will run beyond the turn. There was evidence in the past After next week’s tenders. The eurosystem is running long of liquidity in the The ECB will do what is necessary to avoid year-end amount of around EUR 90bn. the total demand for both 3mth and 13day tenders next week could be in the EUR 150-170bn Non-Objective Research Section 44 www. it makes sense to see 3mth liquidity still elevated enough at this juncture. the impact will be provided by LTROs is slightly below EUR 350bn. 1y) that matured in September. we expect a higher that the impact on eonia is more significant when proportion to come from short-term . If MRO is less than EUR 190bn and the liquidity liquidity falls more significantly. Patrick Jacq 16 December 2010 Market Mover. it corresponds to the roll of different LTROs (3tmh. Demand at next week’s tenders The expiry of the 3mth (EUR 104bn) and the 1y (EUR 96.9bn) tenders next week will be offset by a new 3mth LTRO and a 13day quick tender that will Source: BNP Paribas provide liquidity beyond the turn of the year.

03 surprised to the upside).GlobalMarkets. USD 3/7/11 Gen Flies: „ Reds Euribor are back in cheap territory Cheapening More Pronounced On Euribor versus fronts and greens and also relative to Euro$. Current level: 5. 0. An additional panic sell-off. have bear steepened 0 almost 50bp from late-August’s low and are getting -80 -70 -60 -50 -40 -30 -20 -10 0 10 20 30 close to the 50% retracement of the November 2009.05 EUR 3/7/11 with USD 3/7/11 mid-November’s lows. 0. GBP. pricing in of a 65bp tightening on the eonia curve by U2H3 in the 4-6bp Area September 2012 seems excessive given current uncertainty regarding the eurozone.1 persist in the very near term fuelled by weak sterling 0. 1) Sell the U1U2U3 Euribor fly in the +12/15 area The +5/7bp area has tended to be a strong targeting -10 by late January. 80 rd th th Chart 1 shows the 3 /7 /11 generic flies on the 65 USD.025 Selling area remembering that a similar sell-off in December 2009 0. the Chart 3: 3/5-7/9 Euribor Box: Sell U1H2 vs. As Chart 3 shows. -10 would provide an attractive risk/reward for longs Sep -25 11 versus Sep 12 and Sep 13 targeting a return to Jan-09 Apr-09 Jul-09 Sep-09 Dec-09 Mar-10 Jun-10 Sep-10 Dec-10 3/5 vs 7/9 Euribor box 3/5 generic Eur spd the -5/-10bp area. Another way to underscore that 20 selling area cheapness is the position of the Euribor fly within its 5 distribution relative to the Eurodollar fly.0 August 2010 flattening trend. 1y calendar spreads.04 (November RPI data were again disappointing) and 0. -40 -55 -70 Jan-10 Mar-10 May-10 Jul-10 Sep-10 Nov-10 Reds Euribor below mid-November’s lows 3/7/11 Euribor fly 3/7/11 Sterling fly 3/7/11 Eurodollar fly In this article.035 Eurodollar contracts (the latest retail sales data 0.045 Peak at -10.005 currently Sep 11/Sep 12. 5 „ STRATEGY: Sell the U1U2U3 fly in the -10 +12/15 area or the U1H2-U2H3 box at +3/5 -25 targeting -10 on both. Euro$ One: Euribor Fly Getting Too High over the past week have pushed reds Euribor below 0. However. The rally seen at the short end in the wake of disappointing non-farm Chart 2: Distribution of 3/7/11 Gen Euribor Fly payrolls was short-lived and some stronger US data vs. such as the 3 /7 .02 was followed by a sharp rebound in January. pushing the Euribor fly to the high 10s. 50 Red Euribor decoupling from Eurodollar „ Further downward pressure – which is likely 35 in illiquid year-end market conditions – should 20 be used to enter bullish trades.015 rd th Even though August’s Source: BNP Paribas level on spreads should remain the cyclical low. Non-Objective Research Section www. the Sep 11/Mar 12-Sep 12/Mar 13 Strategy: box disinverted 12bp over the past week’s sell-off. The bearish dynamics should 0. 3/5 vs 9/11 Euribor box 7/9 generic Eur spd Another interesting RV trade on a final downward Source: BNP Paribas move would be to sell the front/red-red/green box.01 In addition. Eric Oynoyan 16 December 2010 Market Mover. Euro and GBP curves. resistance on the generic over the past year and the dollar one is trading 15bp below the Euribor one! 2) Sell the U1H2 – U2H3 box at +3/+5.EUR: Euribor Red/Greens Opportunities Chart 1: Eur. it is worth 0. The difference between 50 the Euribor and the Eurodollar flies is really overstretched pointing to the relative cheapness of 35 red Euribor. we focus on trading opportunities on Source: BNP Paribas Euribor flies and calendar 45 .

0 16.7 3 89 3 88 3 94 2 43 2 59 pressure points.7 Only AAA bond redemptions are scheduled for Source: BNP Paribas January.6 9. we expect 2011 in the 2009-2011 period for eurozone countries. Portugal.1 2.9 23. In EGB issuance of around EUR 827bn. Bond redemptions will Belgium 24. a direct comparison between 2010 and estimated 2011 issuance is distorted by the fact that 20 not all countries that issued paper in 2010 will issue 0 in 2011.7 16.0 40 34 41 10 16 Finland 5. ly ia d ria d e m y s n l ce ga lan an nd ai ec an Ita en iu st an rt u Sp re lg m nl la ov Ire Au Fr er Be Fi er G Po Sl th G Nevertheless. Bond redemptions will be higher in 2011 (by forecasts are subject to revision on the release of EUR 35bn).1 43.3 33. we expect both gross and net 2011 Ne issuance to decline since most European Source: BNP Paribas governments have adopted fiscal consolidation measures aimed at decreasing their budget deficits. down from percentage terms. 80 towards the EFSF but we do not believe this will be the case for Spain.8 90. Italy 155. France 91.0 180 195 207 48 74 terms of issuance with an estimated EUR 84bn Greece Ireland 27. Portugal will need to follow the same route 2009 2010 2011 est.4 18. In total.7 6.2 18 19 21 11 12 from EUR 430bn in 2010.EUR: 2011 EGB Issuance Preview Table 1: 2011 EGB Issuance Projections „ We expect gross EGB issuance of EUR 827bn in 2011 from EUR 943bn in 2010. Heavy AAA issuance in early January Chart 1: Gross Supply in 2009-2011 is historically linked to ASW compression. In net supply terms in 2011. we believe that.3 12 15 16 9 7 be EUR 35bn higher in 2011 at EUR 548bn.2 73.3 19 18 22 8 16 redemption profile as this often signals Slovenia Spain 1. Note these supply terms. 120 Net Supply In our central case scenario. 943bn in 2010 (-12%).GlobalMarkets. In net from EUR 430bn in 2010 (-28%). 160 120 80 Forecasting 2011 European government bond (EGB) 40 issuance has become more difficult lately given the 0 need to forecast not only how much a country will ia ly s ria d nd e m y n l ce ga nd an ec an ai issue in the coming year but also whether a country Ita en iu la st an rt u Sp re rla m lg nl ov Ire Au Fr Be Fi er G Po he Sl G will need to issue in the first place or not. consolidation efforts on gross supply.4 46 24 - - 18 22 - - 2 22 of EGB supply. we expect EUR 311bn in 2011 Austria 8. sooner 100 or later. In EUR Sovereign Financing: Projections for 2011 (EUR bn) Issuer 2010 Bond 2010 Net Redemptions Deficit Borrowing Needs Bond Issuance Issuance Net Issuance Issuance net supply terms. Belgium and Germany will Ioannis Sokos 16 December 2010 Market Mover. offsetting part of the impact of the fiscal eurozone countries’ funding plans for 2011. which we do not think faces the 60 same fate at the three smaller peripherals. but net supply will decrease significantly in the year ahead (see Charts 1 and 2 show the gross and net supply figures Table 1 for more details). a Portugal (-17%) and Italy (-13%) to see the biggest steeper reduction is expected to around EUR 311bn decrease in gross supply in the year ahead. 280 Gross Supply „ A more detailed research piece will follow 240 once the official funding plans of all eurozone 2009 2010 2011 est.0 182 180 188 88 105 January is expected to be the heaviest month in Germany 147. especially for weaker Total 548 343 894 827 943 311 430 sovereigns where concentration is higher. As a 40 result. We expect et N Greece and Ireland to stay away from the primary Source: BNP Paribas markets in 2011 as they are both under EU/IMF aid Chart 2: Net Supply in 2009-2011 mechanisms that cover state financing except for T-bills which will keep being rolled-on in the market.9 52 50 52 22 29 „ We present the full 2011 bond and bill Portugal 46 . Non-Objective Research Section www. we expect Belgium (-17%).0 228 225 260 70 88 Netherlands 27. 200 issuers have been released.0 45.3 10.

Germany will tap the 10y DBR Jan-21 for EUR 5bn.0 0.0 5.3 FRA 17. Out of these in the second week of the year.5 EUR 569bn is higher than the figure shown in NET 9. Ioannis Sokos 16 December 2010 Market Mover.4 0.5bn.1 IRE 2.1 1.5 0.0 0.0 0.2 6.0 0.5 87.0 2.1 FRA 33.5 4.2 4.0 3.8 0.3 6.5 0. AAA issuance in January is estimated at 2011 GER FRA ITA SPA NET BEL AUS POR FIN Total Jan 19.7 0.8 4.6 27.7 23.5 6.0 0.0 0.0 0. For Spain.4 1.3 In 2010.5 24.0 0. Countries with a higher FIN 0.5 7.8 1.0 0.9 2.2 as a percentage of the total. only AAA bond redemptions NET 13.0 0.0 5.0 0.7 6.0 0.4 0.1 0.0 0.2 7.0 16.0 93.3 0. In the table GER 11.0 2.5 569.0 0. stem from regional bonds in 2011 amount to around Austria and Netherlands are expected to issue bonds EUR 6. 3.0 19.1 2.0 2.6 1. Bonds Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec 2011 As we’ve seen over the course of 2010.5 3.7 7.0 35.0 0.0 0.2 27.0 57.0 17.6 1.5 0.1 14.0 0.0 4.2 2.7 1.4 3.4 604.5 0.9 1.4 1.9 21.3 14.GlobalMarkets. T-Bill issuance could decrease further.0 0.2 1.0 0.0 14. such as Portugal and Spain.0 9.0 1.0 0.3 0.0 4.6 6.0 redemption profile can signal pressure points for GER 23.7 20.0 0.0 21.0 0. Finally.0 5.1 0.0 0.6 2.0 0.8 2.0 0.0 In Table 3 we estimate the monthly issuance in each FIN 3. while for Portugal POR 0. the pressure points will be AUS 8.9 29.0 16.4 63.5 1.3 concentration in terms of accumulated redemptions Total 63.0 1.1 0.6 9.9 0.0 7.8 12.1 28.9 Table 1.2 0.6 39.7 3.2 7.3 in ASW in January.0 15.0 1.0 0.5 3.0 0.7 15.9 18.7 1.5 levels we do not think that the extra EFSF issuance Sep 20.5 EUR 5bn and 8bn of bonds in January.3 0.3 1.2 5.0 0.0 0. The redemptions of core countries ITA 17.0 16.6 28.1 Apr 19.4 4.1 8. EFSF’s Regling May 19.4 6.8 0.3 0. we calculate that redemptions that We also expect France to issue OATs that week.0 4.0 18. continuing the trend seen in 2010.0 0.5 0.2 8.2 1. for example.7 18.0 18.5 6.0 69.1 0.7 68.0 0.4 23.1 58.0 10.0 0.0 0.2 6.0 77.0 29.0 0.0 0. AUS 0.1 0.6 7.0 0. peripherals.0 0.5 23.9 around EUR 50bn.7 Jul 11.0 0.5 3.5 0.7 92.0 14.1 3. the ITA 0.7 1.0 180.3 0.7 20.0 0.0 19.2 46.8 15.4 2.0 4.0 0.0 0.3 0.0 30.4 0.0 6.0 13.0 1.0 0. In GRE 0.0 17.0 25.0 4.1 5.9 1.4 1.5 0.3 17.0 0.5 0.0 we include redemptions of bonds issued in all SPA 8.1 5.0 11. usually face higher pressure around their T-Bills Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec 2011 redemption dates.0 47.0 0.2 0.1 1.7 8.9 29.2 0.0 11.0 0. These and potentially Spain.0 0.0 Oct 12.0 0.0 0.0 1. the breakdown across different maturity buckets will not change much compared to 2010.1 5.6 3.0 12.2 2.8%.0 5.8 BEL 0.0 0.1 4.0 0.0 0.4 has already said that the EFSF may issue between Jun 18.5 2.8 0.0 0.0 0.0 6. As is usually the case.5 6.1 0.3 11.0 January.0 73.7 1.7 0.9 are scheduled.0 0.0 16.2 0.2 2.4% and 30y month Italian auctions which settle in the first days of issuance’s by 0.0 0.7 7.8 1.0 0.5 7. In the case of Germany which is one of the few countries that has released its funding plans. Bear in mind that EFSF and EGB Issuance EFSM issuance needs to be added on top of that figure.0 18.0 0.0 10.0 83.0 0.0 4.0 163.6 7.3 1.7 2.2 3.0 14.8 1.2 6.5 3.0 77.0 0.0 95.0 0.5bn versus a 50bn outstanding.0 issuance and the existing redemption profile.1 15.5 4.4 0.0 3.0 0.2 19.0 15.0 6.0 19.0 0.0 0.0 0.0 27.0 0.0 0.6 15.0 0.0 24.8 6.4 1.2 6.1 0.5 71.0 16.2 7.0 11. 2y and 5y issuance increases by 1. July and October in 2011.0 39.5 4.6 12.1 0.1 0.2 7.0 0.9 2.0 0.0 86.0 0.0 3.0 9.6 monthly bond and bill redemption profile for 2011.5 3.8 country taking into account the historical patterns of Total 99.8 0.2 6.0 0. repeating a seasonal pattern that Mar 16.6 8.3 weaker sovereigns.5 POR 3.0 24.0 0.0 16.5 79. Then.3 47 .4 1.0 0.0 0.0 0.0 0.9 2.0 0.4 5.0 16.4 0.0 17.7 2.8 currencies and this is why the total figure of BEL 5.2 0.7 0.0 1. Nov 20. for Spain.0 28.1 10.0 0. 2011.0 0.0 80.0 0.3 are better dispersed throughout the year.8 3.0 1.7 4.0 3.0 0.0 0.2 130.6 73.0 0.0 0. In the absence of Greece and figures are not high enough to be a threat right now Ireland. January is expected to be the Source: BNP Paribas heaviest month in terms of EGB issuance with a Table 3: Monthly/Country Breakdown of 2011 EUR 84bn forecast.0 11.9 0.0 0.0 3.1% as a percentage of total supply 2011 issuance starts in December with the end-of- while 10y issuance’s share falls by 1.4 46. The 30y sector’s share of total issuance was unchanged at 7%.3 0. we expect Portuguese and Spanish auctions since SPGB redemptions will be EUR 46bn in 2011 to be a barometer for investors’ appetite for and Spanish Letras another EUR 73bn.0 2.0 11.0 46.0 17.1 1.8 0.5 they lie in April and June.3 0. This could lead to a compression Feb 18.0 GRE 4.0 7.0 0. during the first week of January.5 3.5 3.4 Dec 10.0 22. taking into account the search for duration by real money accounts.3 35.1 88.0 1.9 will have an impact on AAA eurozone issuance.7bn will expire in November.8 14.0 in April. In 2011 we Source: BNP Paribas expect core countries to increase the duration of their debt.see the biggest falls although net supply will be much Table 2: Monthly Bond & Bill Redemptions lower in almost all eurozone countries in 2011.0 17.0 0. the 10y sector’s share of total issuance rose Total 195 180 225 88 50 34 19 18 15 824 to 31% from 27% in 2009.0 15.9 0.0 18.0 11.7 20.4 17.0 8.7 4.0 0.3 17.9 1. Non-Objective Research Section www.5 IRE 0.5 78.6 1.0 1.0 0.8 0.8 29.5 3.0 0. together with Italy EUR 6.3 8.0 0.6 0.0 8.2 6.0 0.0 has been seen in previous years.7 30. In Table 2 we present the SPA 0.0 0.0 15. At these Aug 13.6 46.8 1.5 0.3 1.4 66.2 4.0 147.7 0.

25% 2020 duration 0.0 0.4 0. crisis) were -1. steepening pressures on core yield curves 2003 2004 2005 2006 2007 2008 2009 2010 in the eurozone next year will be more pronounced Source: BNP Paribas than on the Gilt curve.0 still hovering in negative territory. Clearly.25% 2012 vs 0. swap spreads have been BNP Paribas Forecast relatively stable over the past month.9 strategic positions given the elevated macro 0. The BoE will be expected to Sell Bund 3. Accordingly eurozone to the euro periphery via the EFSF while we recommend short positions in the box at current Gilts could retain their status as safe haven assets. -1. It visited levels below -140bp in mid-2004 Note that the price return for the 7y-10y sectors in when the policy rate differential reached 2.25% 2039 asset swap around -1. Level correlation with Germany has increased above 0.D.25% 2012 vs buy Gilt 4.e. Source: BNP Paribas Gilts have recently been driven more by events in the Chart 2: Evolution of Gilt Issuance eurozone than domestic developments. The average 150 spreads on Short and Medium Gilts are unchanged whereas the average spread has widened by 3bp on 100 Long Gilts. Non-Objective Research Section www. We thus recommend playing the 0.5 Strategy: Buy Gilt 4. i. Of particular concern.75% Secondly. In contrast to 200 Gilt Issuance gyrations in yields.5 government-guaranteed debt will mature through 1. Bund 10y) - (RHS) Schatz 1. At the same time. Moreover.0 our view.5 normalisation of Long-Gilts swap spreads. -0.Gilts: Strategic Trades for 2011 Chart 1: Gilt/Bund Rolling Correlation „ Realised Gilt interest rate volatility has markedly increased since mid-October.6 Gilt 4.00% 2012 vs markedly different. sell Gilt 5. which are 0. is the still-high utilisation of wholesale Chart 3: Gilt/Bund 2s10s Box funding which exposes banks to refinancing risk as the SLS will not be renewed.6 0. Strategy: Sell Gilt 5.1 3M F.00% 2012 vs Bund 3.7 trades for investors with a medium-term 0.3 3M Corr (Gilt 10y. Firstly.0 1.26% respectively. In this 48 . markets are likely to price in increased exposure of core paper in the tighten earlier than the ECB. inflation and inflation expectations are 2020 duration weighted. It has 1.9 250 GBP bn since November (Chart 1). GBP 125bn of 1. Indeed.25% 2039 asset 0. Meanwhile. Bund 10y) Gilt/Bund 2s10s box.GlobalMarkets.5 „ STRATEGY: a) Buy Gilt 4. 0. interest rate volatility has markedly increased.2 0.25% 2020 duration weighted.8 horizon.0 repaid by February 2010. we think. In -2. levels. Matteo Regesta 16 December 2010 Market Mover. in Source: BNP Paribas our view.7 swap around 6M Libor +29bp. Corr(Gilt 10y.8 0. GBP 110bn is to be 2. 1998 2000 2002 2004 2006 2008 2010 2012 2014 Moody’s UK banking system outlook released on Monday remains negative.5 The Gilt/Bund 2s10s box is hovering around 40bp.75% 2020 duration weighted and buy and -1.75% Germany and in the UK in November (peak of Irish (Chart 3). b) sell the 0. gross financing 50 requirement is expected to remain stable around GBP 170bn in 2011 and to drop from GBP 143bn in 0 2012 to GBP 87bn in 2014 (Chart 2). Buy Schatz 1. we recommend two 0.0 April 2014.0 hence become a complex task to establish 0.5 Jan-09 Jul-09 Jan-10 Jul-10 Dec-10 weighted. the cost of liquidity (hence libor rates) will increase.9 uncertainty.0 6M Libor +29bp.

On the other hand. The focus of In addition. it will last until the results of the US Christmas sales are known. even though the vigorous. 16000 Overseas orders (JPY bn) 2 it was 3. Non-Objective Research Section www. After falling curtailing capital expenditure and employment.8%).1%.6% above the average for Q2 and 14000 shows that a slow recovery continues. However. after rising 6. 2007 2008 2009 2010 2011 „ We maintain a cautious stance on the belly Source: BNP Paribas of the curve.6% on hand will boost capital expenditure and potentially above the average for Q2 – indicating that a slow improve the employment environment. again picking up. released on the super long end are likely to outperform over the Wednesday. it was 3.0% m/m. expiry of support for environmentally friendly autos is acting to reduce output and earnings. of a pick-up in capex-related indicators. spring. their second domestic money flows consecutive drop.GlobalMarkets. If corporate Although the level of private sector orders in October behaviour becomes more aggressive.5% below the average for Q3. August: +10. The short end and DIs of the December BoJ Tankan. RHS) capital expenditure and potentially improve the 2000 0 employment environment.JGBs: Watch the Corporate Sector Chart 1: Machinery Orders and 5-year JGB Yield „ Although the level of private sector orders in October was 5. even though the 10000 expiry of support for environmentally friendly 1 8000 autos is acting to reduce output and earnings. declines in the last two The halt of yen appreciation and the retreat of months are a reaction to the summer surge (July: downside risk to global growth lie behind these signs +8. action could also have a major impact on domestic money flows. September: -10. the at the beginning of autumn.5% below the average for Q3. Corporate willingness to invest is recovering The Japanese economy.9% in How long will the improvement in expected growth September. the latter still faces fiscal risk over the longer term. will persist for some time. for the Chinese New Year. 1.5% m/m in November. Next for Japan will be the Not only were overseas orders strong (+19. persist? At the very least. ample funds on hand will boost 4000 5-year JGB (%. ample funds was 5. While the short end and the super-long end are likely to outperform over the near term. Corporate willingness to invest in investors will examine whether these events lead to plant and equipment is recovering. we note that the super-long end manufacturing cycle. In environmentally friendly autos. October machinery order data also revealed that orders from Machinery orders are trending higher overseas surged 16. As a result of so were private sector orders (+22. positive corporate behaviour. the global near term. machine tool orders are Japanese corporate sector is awash with cash. On this score. the manufacturing sector in Pressures for bear flattening. is experiencing a soft patch because of protracted bull steepening of the yield curve caused slowing exports and the termination of subsidies for by double-dip concerns. the current environment.4% m/m. Corporate recovery continues.5 aggressive.5%) but equity prices at March book closings. which had slowed from the still faces fiscal risk over the longer term. machine tool orders – a precursor of markets will shift after the start of the year to demand machinery orders – soared 20. 6000 „ If corporate behaviour becomes more 0. The 9 December release of October machinery orders (excluding ships and electric power) showed Corporate action could have a major impact on that private sector orders fell 1.3%). has started to reaccelerate. However.8% m/m. a reaction to the particular. Koji Shimamoto 16 December 2010 Market Mover. we maintain a cautious improvements have paused in business conditions stance on the belly of the 12000 „ Corporate willingness to invest in plant and Private demand (JPY bn) equipment is 49 .

That will be followed by the eurozone flash HICP on the second working day of the year. This strength in commodity prices should dominate a decline in core inflation. sliced) process has much further to go. Energy inflation is forecast to reach 8% y/y – its highest level since Source: Reuters EcoWin Pro. largely on a jump in clothing inflation. Luigi Speranza/Eoin O’Callaghan 16 December 2010 Market Mover 50 www. core inflation rose by 0. This strong German release should contribute to a rise in inflation across the euro area – headline inflation is expected to hit 2. 2 While most of the November inflation data is now out. BNP Paribas October 2008. in 02 03 04 05 06 07 08 09 10 most part thanks to a tobacco tax hike. It should remain around 2% until early spring 2011.3% low at the end of 2009.3% y/y. That will be followed the next day by the 0 first December data release in the euro area from -1 Germany. -3 In Japan. where this move has been exacerbated by the falling value of the euro in the second half of November.2pp increase. however. A large amount of this strength should therefore unwind in December. but not alcohol January. This is particularly true in the euro area. inflation jumped by 0. In Germany.1pp to reach -0. 1 Japan will publish its CPI release for the month on 28 December. December inflation should be marked by robust energy prices given the strong rise in oil prices between the end of November and mid-December.1% y/y on similar Source: Reuters EcoWin Pro. though the moderation in deflation should continue in the coming quarters. BNP Paribas dynamics.5pp in . and this Chart 3: German Clothing HICP (% m/m. when discounts come a month later than in 2009. The trimmed mean core measure of inflation also rose.78% y/y.2pp in Germany to 0. Food inflation should also gain – November’s 1% gain in food prices was the first concrete evidence of pass-through from the soft commodity shock to consumer prices.7% y/y in December. we are expecting headline CPI inflation to reach 1. the second consecutive 0. gaining Source: Reuters EcoWin Pro. This jump. Global Inflation Watch Inflation data over the holiday period Chart 1: Japanese CPI (% y/y) 3 There are some important inflation releases over the Core CPI holiday period and at the very beginning of January. In November. was driven by changing seasonality in the discounting of clothes in the run-up to the holiday period. In when energy base effects should drag it lower. That compares with its -1. we expect both the headline core CPI and trimmed mean Chart 2: EZ HICP Energy & Brent (EUR) measures of inflation to move sideways. 4 -2 CPI excluding energy and food. BNP Paribas 0.

3 216.6 120. 1.4 (1) Q2 2011 111. -1. 1.2 .0 2.2 0.97 0.2 218.4 220.87 -0.0 1.4 0. 1.2 (1) Q1 2011 110.5 0.3 118.0 .1 0.77 0.1 0.4 1.6 .2 .3 0. 1.4 123.3 2.5 .3 221. 1.25 0.3 119.5 119.5 119.4 217.5 1.7 110. .0 -0. 1.04 0.3 .02 0.8 .2 1.1 .3 0.6 1.0 1.5 220.4 1.8 121.6 0.5 217.6 0.0 109. 1.6 123.2 May 10 110.4 121.11 0.2 218.4 0.2 -0.8 .7 216. 1.3 .1 1.1 118.3 2.3 121.3 218. 0.2 .0 1. 2.2 0.4 0.6 1.9 0.0 110.1 Sep 10 110.1 .1 .6 -0. 2.4 216.6 218. 1.7 120.4 121.71 0.5 216.99 0.5 111.9 1.3 1.63 0.8 .0 .16 0.6 120.3 1. -0. 1.3 1.0 121.19 0.0 122.3 220.1 0.2 1. 1. 1.2 1.7 121.2 Nov 10 110.0 .1 1.5 Table 1: BNP Paribas' Inflation Forecasts Eurozone France US Headline HICP Ex-tobacco HICP Headline CPI Ex-tobacco CPI CPI Urban SA CPI Urban NSA Index % m/m % y/y Index % m/m % y/y Index % m/m % y/y index % m/m % y/y Index % m/m % y/y Index % m/m % y/y 2009 108.09 0.1 1. 0.7 109.7 -0.9 2.8 Q3 2010 109.6 0.1 1.09 0.3 220.0 1. 1.6 .2 1.1 .6 (1) 2011 111.4 .9 110.32 -0.7 0.4 0.2 1.70 0.5 109. 1.0 1.1 1.5 220.1 Oct 10 110.72 0.8 .2 .2 218. 1.4 .2 -0.0 .6 111.6 119.9 .3 1.1 217. 1.24 -0.2 2.4 .95 0.31 0.44 0.1 1.4 123. 0.6 .6 .6 120. -1.7 .3 1.5 0.6 215.3 1.2 2.6 Q4 2009 108.3 220.2 1.2 1.2 217.5 121. 1.8 0.58 0.5 217.3 1.8 120.7 .71 0.7 109.4 Q1 2010 108. the rebound in core goods has further to reversion to a downward trend from early next year.7 0. -0.4 1.7 .1 1.4 1. 1. 0.0 .0 0.6 0.4 107.0 218.9 1. 1.2 .6 221. While we expect core services end.5 111.7 119.6 Feb 10 108. 1.9 108.03 0.54 0.7 121.5 219.4 (1) May 11 111.3 .8 109.4 118.4 119.0 1.7 0. 1.1 1.5 (1) Mar 11 111. Luigi Speranza/Eoin O’Callaghan 16 December 2010 Market Mover 51 www.1 1.2 1.6 221.1 1.1 218.4 109.1 1.0 2.01 0.2 1.04 0.6 220.4 123.4 217.6 217.0 1.7 119.0 .5 220.58 0.6 121.3 Apr 10 109.9 Updated Dec 16 Dec 16 Dec 16 Next Dec Flash HICP (Jan 4) Dec CPI (Jan 13) Dec CPI (Jan 14) Release Source: BNP Paribas. We expect a brief interruption to the downward trend in core. 1.2 .5 1.3 1.3 -0.3 0.1 1.5 119.2 1.9 2.7 220.3 119.5 . 1.9 0.1 118. 1.9 0.1 .2 1.3 219.3 0.4 0.2 119.-0.1 1.6 1.1 108. 1. 1.4 .3 0.9 110.1 -0.27 0.27 0.5 111.1 1. -0.5 1.8 121. run.4 Q3 2009 108.7 121. 1.31 -0. 1.76 0.0 .4 .68 -0. 1.4 0.1 1.2 1.6 120.2 . (1) Forecasts Chart 4: Eurozone Core HICP (% y/y) Chart 5: US Core CPI (% y/y) Source: Reuters EcoWin Pro Source: Reuters EcoWin Pro Since printing an all-time low in April. 1.9 122.7 -0.01 0.8 0.3 0.2 0.8 .8 .2 1.3 218. 1.4 2.4 (1) 2010 109.1 1.74 0.2 217.80 0.2 218.1 214.5 121.9 119. 1.4 0.4 220.4 220.2 1.2 Aug 10 109.6 217.3 1.6 109.3 1.3 .3 214.3 120.2 1.89 0.0 217.7 0.6 0.1 110.9 0. 1.4 221.0 Jun 10 110. 1.3 107.9 -0.9 0.6 120.9 110.1 (1) Dec 10 111.6 -0.8 222.1 1.7 .5 120.2 1.4 218. 1.1 1.0 107. The renewed collapse in the housing market should see a inflation to head lower.0 0. 2.6 120.3 .97 -0.1 1.69 0.3 1.4 219.4 123.3 (1) Jan 11 110.16 0.5 218.4 108.1 Jul 10 109.2 216.7 0.4 121.83 0.1 1.3 2.6 122.90 0.6 119.6 0.4 1.6 217.3 1.5 .6 Jan 10 108.1 122.0 .18 0.5 2.1 1.88 -0.5 .5 1.7 .2 2.1 1. 1.59 0.8 218.1 110.2 (1) Q4 2010 110.7 221.5 121.8 . 1. -0. 1.4 0.24 0.9 121.0 1. core inflation has been a The downward trend in shelter inflation was recently interrupted touch stronger in recent months.2 218.6 .0 1.8 . 1.6 (1) Jun 11 111.7 -0.75 -0.3 1. 0.8 1.3 .1 1.8 120.2 .0 120. reflecting gains in both core and leading indicators suggest its strength will continue until year- goods and core services inflation.4 118.1 .0 .6 .9 .1 2. 1.3 1. 0.5 1.GlobalMarkets. 1.8 .6 109.1 1.5 121. 1.4 109.5 2.0 .5 218.5 121.1 2. 0.4 121.5 218.5 109.7 .10 0.0 1.2 1.3 (1) Feb 11 110.4 Q2 2010 110.0 0.6 .0 1.6 .1 1. 1.4 1.52 0.58 0.5 218.6 1.5 111. 1.4 215.1 2. 1. 1.4 .69 0.6 121.3 0.1 Mar 10 109.6 109.87 0.3 1.1 218. 1.6 219.4 (1) Apr 11 111. 0.0 1.0 .2 0.1 1.85 0.5 0.47 0.6 120.

3.7 4.0 -0.7 4.6 0.0 114.0 .6 .8 306.0 3.8 .6 -0.9 .2 191.4 302.2 0.8 (1) Q2 2011 98.9 .6 118.8 (1) Apr 11 98. 1.9 194.5 2.0 114.1 -0.3 3.0 .0 0.1 225.1 114.0 4.2 4.5 195.1 99.3 227.8 304.1 114.2 0.9 0.3 -0. 2.0 5.1 99. BNP Paribas Prices are expected to continue falling but the pace of decline is We expect inflation to remain above target for the remainder of the easing as the economy recovers.6 .6 115.6 193.0 -1.1 . -0.8 (1) Feb 11 98.2 0. -0.3 99.2 May 10 99.8 196.1 .7 222.3 233.5 3.3 110.3 -0.2 195.7 .5 0.3 191.2 Updated Nov 26 Dec 14 Dec 09 Next Nov CPI (Dec 28) Dec CPI (Jan 18) Dec CPI (Jan 13) Release Source: BNP Paribas.6 0.6 304.9 .6 0.2 .3 0.4 .0 225. 4. 4.8 .5 99.6 3.1 -0.8 0.2 99.3 0.2 5.6 Q4 2009 99.3 1.3 -0.5 196.7 Aug 10 98. -1.3 -1. 5.4 -0.3 .8 99.5 0.3 -0.3 .-0.3 4.2 0.2 4.3 1.1 -1.9 117.5 .3 -1.8 112.4 0.0 1.4 0.1 0.9 0.0 .2 224.4 5.5 230.1 0.0 3.5 0.2 112.2 1.2 3. 1.2 -0.6 116.0 0.0 303.1 Q3 2010 98.5 .5 305.3 223. 4.3 1.9 0.1 .3 0.4 220.9 .2 113. 1.7 0.0 0.3 -1.5 .0 99.0 0.3 100.4 299. although trending down.0 0.6 98.6 0.6 -0.0 . 3.2 4.6 0. -1.9 0.9 -0.0 2.1 99.7 .9 98.3 -0.3 .1 -1.1 -0.7 .7 0.6 .8 -0.5 0.9 0.2 0.0 301.8 0.9 . 0.2 .8 1.4 .6 305.6 98.3 1.2 194.6 115.8 4. 3.0 2.4 0.1 308.2 114. 2.9 0.1 -1. 3.6 116.5 (1) Jan 11 99.7 . 2.2 226.0 1.2 . -1.4 0.4 3.6 0. 3.2 .7 1.4 0.4 4. -1.6 .2 -0.5 114.0 -0.7 .3 223. -0.2 -0.2 112.3 Q1 2010 99.7 -0.6 196. -0.6 98.1 196.6 98.2 -0.7 306.3 195.7 306.0 219.6 1.2 .3 3.6 0.3 0.3 Q3 2009 99. -1.2 3.5 0.0 197.3 232.0 0.3 232.9 117.2 .3 -1.1 194.2 2.9 0. 1.3 100.5 Apr 10 99.7 (1) Q1 2011 98. 3.9 Jul 10 98.3 1. -1.4 0.7 0.7 Mar 10 99.2 3.3 0. 1.7 -0.1.0 309.7 .3 99.5 4.8 -0.4 0.1 99. 1.1 0. 4.9 .6 117.1 -0.1 309. -1.1 .1 -1.2 -1.1 .2 -1.1 197.6 303.2 1.1 0.3 232.6 -0.2 1. -1.6 -0.3 . 1.4 193. 1.1 (1) Jun 11 98.6 0.6 118.2 2.8 (1) Nov 10 99.1 (1) May 11 98.3 112.7 228.2 194. 3.3 .5 194.2 0.4 4.2 1.8 1.8 0.6 99.8 0. -1.0 (1) 2011 98.4 . year.6 -0.1 114.1 216.2 3.5 0.0 99.5 . -1.0 -0.1 -0.1 309.6 118.2 .5 .4 -0.6 Feb 10 99.4 -0.3 111. -1.6 Q2 2010 99.1 -1.6 118.5 3.9 3.3 .8 .7 -0.6 99. -0.7 306.6 3.4 3.8 0.3 2.1 302.3 -0.3 302.5 299.6 99.1 0.0 -0.2 Jan 10 99.3 0.3 1.9 98.6 . 4.3 3.2 0.4 0.7 .1 -0.7 301.7 (1) Q4 2010 99.8 1.7 302.2 -0.3 0.1 0.1 223. 1.-0.7 .6 99.1 1.9 0.0 -0.7 0.4 4.5 0.4 195.4 .6 -0.7 302. -0.0 194. -2.0 1.0 1.3 .0 -0.2 .2 99.0 -0.3 4.5 0. -0.9 (1) 2010 99.3 .1 194. -2.6 . -0.8 302.1 -1.6 98. -0.9 -0.2 114. -1.6 (1) Mar 11 98.2.6 228.6 229.1 309.2 195.GlobalMarkets. -1.1 302.0 -1.5 .9 . 1.9 .2 0.4 -0.4 0.1 98.8 0.6 2. Table 2: BNP Paribas' Inflation Forecasts Japan UK Sweden Core CPI SA Core CPI NSA Headline CPI RPI CPI CPIF Index % m/m % y/y Index % m/m % y/y Index % m/m % y/y Index % m/m % y/y Index % m/m % y/y Index % m/m % y/y 2009 100.2 0.8 .3 0. 4.3 0.2 219.4 223.2 99.2 1.5 214.4 -0.6 0. -1.3 .1 -0.7 0.1 194.2 -0.1 197.1 .8 Oct 10 99.8 0.1.5 195.1 2.6 0. 2.4 Sep 10 98.3 .3 .3 307.5 3.0 -1. Luigi Speranza/Eoin O’Callaghan 16 December 2010 Market Mover 52 www. 4.2 .6 0. 0.6 1.1 0.3 1.1 117.0 -1.7 0.1 -0.2 99.9 (1) Dec 10 99. 2.1 0.4 3.1 213. 2.4 217. 1.1 224.6 115.1 3.0 0.1 -1.1 Jun 10 99.7 0.7 299.0 194.1 197. 3. 2.0 -1. (1) Forecasts Chart 6: Japanese CPI (% y/y) Chart 7: UK CPI (% y/y) Source: Reuters EcoWin Pro Source: Reuters EcoWin Pro.1 224.6 301.8 .8 229.1 3.6 196.6 196.0 114.6 98.6 -1.5 -1.

.3 .0% n/a 10:15 11:15 CPI y/y : Dec 2.5 0.9 120. CPI Data Calendar for the Coming Week Day GMT Economy Indicator Previous BNPP F’cast Consensus Mon 20/12 07:00 08:00 PPI y/y : Nov 4. .6% 4.5 0. 2.6 1.3 1.4 (1) Q4 2010 117.8 2.6 1.2 . .8 (1) 2011 118. 3.6 125.6 0.0 1.4 0.3 0.6 3.9 Q3 2009 114.9 116.4 129.9 113.9 1.8 .4 129. 3.4% 0.0 0.7 1.3 . .5 2.8 0. .6 1.7% 1.4 115.0 1.6 2.7 0.4 2. 2.7 2.6 0.8 115.8 125.4 (1) Q2 2011 118. 2.3% n/a 12:00 07:00 Bank of Canada Core CPI m/m : Nov 0. .2 173.5 -0.4 1.2 1. .7 1.6 114. Table 3: BNP Paribas' Inflation Forecasts Canada Norway Australia CPI Core CPI Headline CPI Core CPI Core Index % q/q % y/y Index % q/q % y/y Index % q/q % y/y Index % q/q % y/y Index % q/q % y/y Index % q/q % y/y 2009 114.8 120.4 0.1 .3 178. suggesting that underlying Near-term inflation pressures should be muted but.9 128.9 -0.5 (1) Q1 2011 117.3 1. BNP Paribas Wage pressures appear subdued.7 1.6 1.6 167.4 168.1 0.0 1.5 1.8 129.8% n/a Release dates and forecasts as at c.1 Q2 2010 116.5% 09:00 10:00 HICP (Prel) y/y : Dec 1.3% 4.7 2.1 1.3 0.5 2.9 1.7 2.1 3. 3.2 0.b. 3. with the limited inflation should remain within the target range.6% Tue 21/12 12:00 07:00 CPI m/m : Nov 0.7 1.6 126. 2.9 1.9% 3.6 120.8 118. 2.3 113.1 2.2 -0.8 115.5 1.3% 4.6% n/a 23:30 08:30 CPI Tokyo y/y : Dec 0.8 114.8 .3 1.9 1.9 1. .6 1.2% n/a Thu 23/12 07:45 08:45 PPI y/y: Nov 4.6 2.4 2.0 171.3 0. spare capacity in the labour market being eroded.3 1.1 0.5 172.7 (1) 2010 .3 120. prior to the date of publication: See Daily Economic Spotlight for any revision Source: BNP Paribas Luigi Speranza/Eoin O’Callaghan 16 December 2010 Market Mover 53 www. .1 .8 1.6 1.4 1.6 3.2 2.5 Q4 2009 114.4 2. . (1) Forecasts Chart 8: Canadian Total Versus Core CPI Chart 9: Australian CPI (% y/y) Source: Reuters EcoWin Pro.8 117.1 116.2 1.1 1. 2.4 1.5 1.6 0.6% -0. BNP Paribas Source: Reuters EcoWin Pro. .4 119.9 1.5 0.8 .5% -0.6 0.4 Q1 2010 115. 3.2 116.0% n/a 23:30 08:30 Core CPI National y/y : Nov -0.2% 0.o.1 .1 177.1% n/a 23:30 08:30 Core CPI Tokyo y/y : Dec -0. 3.8 1.3 0.9 .GlobalMarkets.3 169.5% n/a Wed 29/12 09:00 10:00 States Cost of Living y/y : Dec 1. 2.6% 1.7 Q3 2010 116.6 Updated Nov 23 Dec 10 Oct 29 Next Nov CPI (Dec 21) Dec CPI (Jan 10) Q4 CPI (Jan 25) Release Source: BNP Paribas.4 130.1% n/a Tue 28/12 23:30 08:30 CPI National y/y : Nov 0.2 1.1 0.5 2.0 176.4 172. 1.6 1.0 121.9 .3 1.6 1.3 .0 1.2 118.2 130.6 128.2% 0.2 1.7 0.1 .4% 0.9 119.5% 1.0 2.3 .3 121.0 0.0 0.0 175. underlying inflation is likely to settle near the top of the RBA's target range.7 2.3 0.9 0.9 2.7 3.4 1.9 119.6 128.

bnpparibas. Fed. we note a marked improvement in 2010 (Chart 2). Based on BNPP data (note BNPP is number one in TIPS and top three in EZ secondary markets). 60 „ ASW: Strong despite stress on EGBs & vol. Bloomberg.Inflation: Post Mortem 2010 Chart 1: Inflation Supply „ Increasing supply and liquidity in 2010. In France. In 2010. Finally. Non-Objective Research Section 54 www. „ Volatility: Normalisation continues.GlobalMarkets. 40 Tomorrow. probably because of the launch of the CCT-eu programme. The UK issued GBP 31bn of UKTI EUR against GBP 28bn in 2009. Liquidity wise. 37% and 55% respectively. EUR bn. Italy is the only issuer to have reduced inflation supply. Deepening credit and balance-sheet 0 concerns. In the eurozone. The focus has also switched to structured solutions that reduce counterparty and funding risk. greater uncertainty and risk aversion. 80 „ Breakevens: At or below Jan levels. France 50 doubled linkers supply to EUR 24bn thanks to the launch of new 10y benchmarks in FRF and EUR inflation. HFs are coming back gradually but Chart 4: US 10y BE vs NY. Demand wise. the increase of the Livret A rate and of real yields is triggering some activity in swap in Q4. In this context. WTI and SPX ALM demand has stayed strong and ASW activity is still supporting activity in linkers and swap. with only Chart 3: TIPS TR vs Gold & ED15 EUR 14. AFT. Using official data. UK DMO Real Yields and Breakevens: Real yields mainly followed gold prices and weakening growth Herve Cros / Shahid Ladha / Sergey Bondarchuk 16 December 2010 Market Mover. pension funds have continued to be active in linkers despite deterioration in funding ratios while inflows in ETFs have declined compared to 2009. With EUR 11bn in 2010 compared to EUR 0 GBP 5bn in 2009. Source: BNP Paribas. EUR breakevens. sovereigns came back to inflation markets more aggressively in 2010. activity has jumped even more for German linkers while barely improving on BTPeis. UK and France by 21%. an 2003 2004 2005 2006 2007 2008 2009 2010 2011 YTD For increased regulatory burden and anxiety about inflation and deflation: 2010 has not been a year for Chart 2: Monthly Turnovers in Linkers the faint-hearted. turnover increased in the .5bn vs EUR 17bn in 2009. 1M Lehman Conso in 2009 Up in 2010 Supply & Demand: Thanks to the normalisation in 150 market conditions in 2009. distorting slightly further valuations vs. Germany stuck to its commitment to Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 issue EUR 2-3bn of linkers every quarter although it did not issue a new benchmark. use of TRS solutions should expand further. we will publish our main views for 2011 in 20 the Inflation Monitor but today we focus one last time on 2010. EUR bn US EMU UK JPY „ Real Yields: At or below Jan levels. The US USD 100 issued USD 87bn of TIPS in 2010 against only USD 59bn in 2009.

Overall.30% USD Implied Inflation Vol Volatility: Down but still 50% higher than 2.90% 1.10% rate swaptions market and arbitrage between local 0. 6% in Deflation . nominals against 16% outperformance in 2009. Non-Objective Research Section 55 www. 20 25 Given the context of volatility and stress in EGBs. TIPS have returned -2% 5% in 2010 vs.50% Dec-09 Mar-10 Jun-10 Sep-10 Dec-10 Source: BNP Paribas.e. 5: Quarterly Returns in Linkers 1y+ Indices fears surged during the summer but breakevens 6% EUR GBP USD have been more sensitive to oil and stocks than 5% Linkers nominals since the Jackson-Hole speech (Chart 4). breakevens are finishing the -1% year close to (US) or below (UK. the sell-off was huge in 3% November but real yields are finishing 2010 at (EUR) 2% 1% or a bit below (US & UK) levels prevailing in early 0% January. Q1-09 Q2-09 Q3-09 Q4-09 Q1-10 Q2-10 Q3-10 Q4-10 UK linkers have done better with 5% return in 2010 Chart 7: Linkers ASW: Return to 0 vs. 10% in 2009. slightly underperforming -4% vs. Therefore it is unsurprising that linkers have not Chart 6: Quarterly Returns in BE trades managed to repeat the same performance in 2010 as 8% EUR GBP USD in 2009. in local-currency terms.90% 0. relative to nominals. benefiting from an expected 30 UKTI improvement in governments’ deficits next year. performance has been TIPS Jan-19 Real ASW mixed between issuers. inflation volatility has declined in 1. 2009 -4% Q1-09 Q2-09 Q3-09 Q4-09 Q1-10 Q2-10 Q3-10 Q4-10 was a year of normalisation for distressed assets. 2% This also explains stocks’ strong performance. 0 OATei 15 Globally.30% nominal vol. especially in the EZ and the US (Chart 8).GlobalMarkets.expectations until November’s FOMC then rose in line with short-term contracts (Chart 3).70% during the summer. ASW discounts are finishing the year tighter -10 10 than in Jan. The carry trade has worked again in Dec-09 Mar-10 Jun-10 Sep-10 Dec-10 2010. i. we 20 10 highlight the stability in Linkers/Nominals ASW discounts. Despite a resurgence of deflation fears 1. After being UKTI20 R/N ASW Discount TIPS stable most of H1. Chart 8: Linkers R/N ASW Discounts: Tight 60 OATEI20 R/N ASW Discount 40 Asset Swap: Strong performance. in the eurozone.50% EUR 2010 (Chart 9) although it still trades 50% richer than 1. 4% Looking at the 10y maturity.70% inflations. 8% in 2009). -2% -3% Total returns: Late sell-off and EGB crisis. Clearly. Beyond the recent unwinding of the QE trade. the stress on EGBs and the need for fiscal 0 tightening are putting pressure on breakevens. EUR) Jan levels.50% EUR Implied Inflation Vol USD EUR Implied Interest Rate Vol 2. 2. Bloomberg Herve Cros / Shahid Ladha / Sergey Bondarchuk 16 December 2010 Market Mover. 0. Libor (Chart 7). BTPei underperformed both 60 in real and breakeven terms (around -4% return) while French and German linkers underperformed 40 only vs. OATEI20 Real ASW UKTI20 Real ASW Finally. We also expect the trend of switching out of Chart 9: Implied Vol P/P to proceeds ASW to continue in EZ in 2011. 3% less 20 than nominals (vs. nominals. linkers ASW have followed 50 TIPS Jan-19 R/N ASW Discount 35 nominals in H2 and are returning close to 0bp margin 40 VIX. EUR linkers have returned 1% in 2010 (vs. +3. We also note an expansion of the real 1. RHS 30 vs. 0% Overall. Meanwhile. UKTI has 80 barely outperformed against 8% differential in 2009. Still.5% outperformance in 2009). the market seems to be acknowledging the 6% Breakevens positive effects of loose monetary policy more on 4% growth (via higher real yields) than on inflation (inflation breakevens mainly stable since November).10% USD Implied Interest Rate Vol nominal. Dec-09 Mar-10 Jun-10 Sep-10 Dec-10 especially on BTPei.

1 4.7 4.1 2.7 -37.0 0.5 9.0 -4.6 0.2 -2.08% 1.0 OATi Jul-17 12.2 10y OATei Jul-20 7.8 -3.34% -4.3 -0.9 4.1 6.2 -9.1 -6.5 4.4 -1.0 -7.1 4.5 5.55% 5.2 11.7 1.8 2.0 2.0 -7.1 2.3 8.1 2.0 0.5 5y OATei Jul-15 0.5 2.7 -2.4 7.6 9.9 3.07% 5.7 -3.1 17.9 0.67% 2.78% 3.6 TIPS Feb-40 0.5 -6.2 -3.2 -16.9 6.1 OATI Jul-29 3.0 0.9 UKTi Nov-22 6.83% 3.65% 5.7 -1.7 11.3 2.0 0.7 27.4 9.8 -5.4 2.1 18.5 OATI Jul-13 -0.2 0.61% 1.3 -20.2 15.4 -4.8 30.6 -2.0 4.5 1.1 -3.3 0.2 -21.0 -1.2 3.3 1.8 21.8 10.7 49.0 0.37% -0.9 OATi Jul-17 0.7 OATI Jul-13 13.9 -3.GlobalMarkets.7 3.4 -3.1 7.6 -6.4 TIPS Jul-20 1.4 -5.5 -18.1 14.7 -9.8 6.2 -4. Table 1: BNP Paribas Carry Analysis Benchmark Carry Pricing Date 15-Dec-10 Term 1 Term 2 2m 3m 6m 12m Repo Rate 0.1 6.7 0.7 9.4 -1.4 0.6 17.9 7.1 -6.18% 1.02% 1.8 -0.1 -4.6 -14.9 OATI Jul-19 1.5 72.4 57.5 4.3 16.9 TIPS Apr-15 0.2 -0.9 24.7 12.2 9.3 4.05% -0.7 24.2 -4.9 -41.1 OATI Jul-29 1.3 UKTi Jul-16 0.5 1.3 8.6 23.09% 1.7 12.1 5y OATei Jul-15 0.44% 3.9 10.98% 2.5 UKTi Aug-13 -1.1 -2.5 0.0 0.1 -3.3 -29.8 2.8 15.6 49.3 2.4 5.9 6.7 -1.3 1.7 22.3 9.2 Short-end Term 1 -> Term 2 Term 1 -> Term 2 Term 2 -> 3m 3m -> 6m 6m -> 12m OATei Jul-12 30.69% 1.5 3.3 4.0 25.2 UKTi Jul-16 -1.2 48.4 66.4 11.4 -0.0 0.2 -0.3 2.9 13.6 -7.8 -2.9 -5.2 5.5 JGBI-16 June-18 0.2 -0.7 -77.2 5.9 -1.4 16.1 30.6 -3.7 -3.2 .72% 2.2 -1.8 -1.1 4.1 24.1 4.2 -2.8 1.42% 0.3 0.9 -0.8 8.1 -11.7 6.6 -3.4 26.2 2.3 4.6 -2.5 -7.9 -0.0 4.8 34.2 TIPS Feb-40 1.7 -3.2 5.4 17.5 7.5 -7.4 -18. Non-Objective Research Section 56 www.7 0.9 -2.6 -0.4 UKTI Mar-40 0.1 -5.62% 2.8 6.4 JGBI-16 June-18 1.5 -13.0 9.4 -6.0 -5. Date 16-Dec-10 01-Feb-11 01-Mar-11 16-Feb-11 16-Mar-11 16-Jun-11 16-Dec-11 Yield BE Real BE Real BE Real BE Real BE Real BE Real BE Short-end OATei Jul-12 -1.5 17.3 16.5 -1.2 10.6 -5.2 UKTi Nov-22 0.9 6.5 -0.0 8.71% 2.5 UKTI Mar-40 2.9 40.2 5.2 -4.7 TIPS Jul-12 -9.1 -8.0 9.1 4.1 25.1 TIPS Jul-12 -0.5 4.1 -8.14% 2.37% 1.5 -0.8 16.9 20.0 9.3 -2.0 -2.4 0.1 -0.83% 21.4 12.9 3.4 -7.8 -0.7 2.7 3.4 1.7 2.9 -6.0 -5.9 2.9 8.9 -4.5 3.34% 1.2 22.9 2.0 TIPS Apr-15 6.8 -3.59% 2.8 0.4 -18.5 -5.2 29.3 -55.7 -0.9 0.3 3.1 5.34% 0.9 2.0 1.3 -7.1 -42.7 -1.5 11.9 0.8 -2.6 40.6 0.6 -7.6 TIPS Jul-20 0.6 47.3 -0.7 5.9 1.5 14.8 -0.5 -1.8 5.3 JGBI-4 June-15 1.91% 3.9 -0.7 20.9 -1.0 0.5 3.3 -7.7 -8.8 26.98% 3.3 4.9 -4.5 -11.1 -0.5 51.7 5.0 4.0 -11.5 17.7 9.34% 0.1 2.05% 2.2 -6.4 -1.5 2.7 66.1 10.3 -16.2 -4.7 3.0 17.4 25.0 4.3 -2.3 3.5 -5.1 1.78% 1.8 -14.0 JGBI-4 June-15 -0.5 0.6 -40.9 -5.8 3.6 4.6 -3.6 3.1 -0.2 22.3 0.6 30y OATei Jul-40 2.6 38.22% 1.2 -11.62% 14.34% 0.3 -9.5 10.8 -4.2 -13.0 -13.9 13.2 18.3 2.2 10y OATei Jul-20 1.1 12.6 15.9 3.1 -79.2 7.6 18.2 15.5 24.7 0.51% 1.5 18.7 -1.1 18.7 18.4 4.06% 2.6 3.71% -0.2 3.2 16.9 -9.2 -7.0 -6.0 4.7 4.2 1.2 7.42% 0.0 0.3 29.3 0.0 6.1 -2.7 19.0 30y OATei Jul-40 1.3 1.0 -0.00% 1.7 -0.7 36.5 -6.26% 2.6 -6.4 -6.9 1.3 2.3 28.4 18.56% Sett.6 -10.8 30.8 6.1 18.0 14.7 11.1 -8.2 UKTi Aug-13 -5.1 13.5 9.9 Source: BNP Paribas Herve Cros / Shahid Ladha / Sergey Bondarchuk 16 December 2010 Market Mover.9 OATI Jul-19 5.1 -9.

2.0/8. Wait for a 56 test to sell Christian Séné 16 December 2010 Market Mover.8%).4 <= 4. it has started a correction (major wave “B”?) above the MT falling wedge resistance.68 (LT falling resistance line) & then on a breakout 4.15 (38.09 <= 3.68 (LT falling resistance line) & will start a ST consolidation towards 3. 50%) before..2 => 85.96 (wave “3” top) early December to then extend rising wave “5”.8%) „ US 10y: Break above 3.0 => 56.41) STRATEGY Waiting for a signal now US/EUR 10y bond: Is it developing the rising “C of ABC” of a major wave “B”?MT Trend: Neutral Range: 25/55 MT SCENARIO is up -20.8 -!!.68) „ Short-term contracts m1: ST toppish bias on ED (risk of top H&S) & Euribor (falling ABC to develop?) Equities & Commodities „ WTI (Cl1): Sill up MT within MT rising channel but stalling below 90. This strengthened MT bearish scenario with a move above critical 3.8%) calls for key 3.ST correction It will fail to extend rise beyond 3.7 After 5 waves down move (major wave “A”?) which reached key 0.08/3.8%) increased MT weak bias for LT falling resistance (3.6 support area.8 & 23.37 (MT 61.19 top with risk of further ST consolidation „ Equity markets: MT positive bias persists with new tops in US while European markets remain rather toppish US 10y: Break above 3.5 (ST 38.8/86.00/4.8%) initially with 57 .07 Market broke decisively above 2. First step would be a break below ST daily rising channel support (now at 3.25/3.4 (LT 61.5 => 119.0 (LT 50% & end-2009 low & last low) towards -21.8%) STRATEGY Long on 10/15 sold 30/40.37 (MT 61. It is perhaps still developing the rising wave “C” of ABC” towards 47. which is now targeting 3.58 MT SCENARIO remains up 2.80 <= 2.68 => 4.08 (ST 38.8%) & 56.07 (April top & LT 61.37 (MT 61.58 => 3. Trend indicators (DMI+MACD) are up oriented again ALTERNATIVE SCENARIO.37 –!– 3.11 (LT 38.0/8.2%+ 61.05/3.9/-21.8%) with intermediates on 33.25 & 3. sustained by trend indicators which have turned up oriented again ALTERNATIVE SCENARIO.00/4.68 MT Trend: Up Range: 3.47..0 <= 23.0/4.5 <= 33. 61. 61.2.Technical Analysis – Interest Rates & Commodities Bond & Short-Term Contracts „ Europe 10y: Still weak MT within a ST rising channel & now close to key 3.0) and will resume fall to perhaps develop the major wave “C” for a move below critical 0.94 <= 3.2/0. Non-Objective Research Section www.2%+MT 61.8%).2 (ST 50.Wave C to start Correction (major wave “B”?) could end now around ST 50% (47.

75 MT SCENARIO remains up 3.80/3.8%).8% (3. Beware of a ST rising channel break MT Trend: Up Range: 2. This break is strengthening last bullish bias & possible rising wave “5” scenario with 1246 (bottom H&S target) now reached.33 (ST 50%) & 3.80/3.GlobalMarkets. next targets being 1272 (ST rising wedge res).2%) with 2.ST correction Current ST correction in wave “3” will stall & end below key 3.23 <= 3. Non-Objective Research Section www.08/3.50 (wave “1” top) allowed the rising wave “3” to develop beyond key 2.49.83 (LT falling wedge resistance).2% extension) & then 1393 (LT rising channel res).14) is needed to rekindle the previous MT falling bias towards 2.64 <= 2. 50%) before.8% at 3.33 S/L 3.2%+MT 61.11 => 58 .79 & 2. we could see soon a continu- ation of the corrective wave “4” by developing a falling “C of ABC” towards 1156 (ST 38.14 <= 3.70 <= 2.8%) & 3.2%).11 (LT 38.80 UK 10y: Negative within ST rising wedge towards MT 61.00 => 4.8%) area initially within a ST rising channel. for 3.83 => 4.49) to extend correction towards 3.49 –!– 3.73 => 3.95 S/L 3.11 (MT 61. STRATEGY Sell stop 2.30 Break above bottom 2-dip neckline turned MT bias negative.95 –!– 3.73 (MT 61. A break below 61. 1299 (MT 138.8% (3.40/3.10 MT SCENARIO is still up 2.70 Negative break above MT falling channel and 2.8%) and it will then resume fall for a classic pullback towards 2.01 for 2.64 (LT falling wedge res) to extend MT rise towards key 3.53/3. we still have the risk of being within a wave “4” in irregular and not yet in a wave “5”.08/3.73 & take the way down again with a break then below MT rising wedge support (3.8%+LT falling wedge res + ST 38.8%. Indeed.79 (last low) STRATEGY Buy break below 3.70 (38..39 (LT 50%) then ALTERNATIVE SCENARIO. ALTERNATIVE SCENARIO…wave 4 not over The corrective wave “4” is not yet over.23 (ST 50%) initially.33 <= 3. Stay long above 1215 if you are Christian Séné 16 December 2010 Market Mover.55 (MT 50%+end-July top+2-dip target) now overcome for a move towards critical 3.70/2. S&P: Above key 1228 but is the corrective wave “IV” now over or not? MT Trend: Up Range: 1180/1260 MT SCENARIO is still up 1129 <= 1156 <= 1173 <= 1215/28 –!– 1287 => 1299 => 1393 Last sharp rise allowed now to slightly over- come 1220/28 (April top & LT 61. A break would see an extension towards 3. This would be confirmed with a move below ST rising wedge support (1215) STRATEGY: Sell only below 1215 for 1150/70 S/L 1228.Germany 10y: Stalling below MT 61.2.73) MT Trend: Up Range: 3. It took sharply the way up with Trend indicators (DMI & MACD) remain up but RSI looking expensive ALTERNATIVE SCENARIO… ST correction It will now stall below MT 61.62/64/69 (61. In this event.39 => 3. Slight bearish divergences on daily RSI could help such a scenario to develop.

0 #DIV/0! 2.1 2010 Valuation (EUR) 2010 Valuation (Basis Points) Short-term Linkers Cash/Swaps Box/Cross Options Short-term Linkers Cash/Swaps Box/Cross Options Total P/L (EUR k) 293 840 525 -13 -93 Total P/L (bp) 39 69 77 -10 -9 Share 23% 11% 44% 2% 20% Share 23% 11% 44% 2% 20% P/L contribution 19% 54% 34% -1% -6% P/L contribution 23% 42% 46% -6% -5% Avg. Risk analysis suggests a stabilisation of average risk per trade relative to 2009. In terms of currency distribution.9 #DIV/0! 4 % profitable 71% 100% 67% 0% 17% % profitable 71% 100% 70% 0% 17% Max profit 117 265 240 -13 66 Max profit 12 27 24 -10 11 Max loss -103 8 -122 -13 -80 Max loss -12 1 -16 -10 -9 P/L Contribution by Strategy (EUR P/L) P/L Contribution by Currency (EUR P/L) 1000 1200 EUR P/L by strategy 1000 800 EUR P/L by ccy 800 600 600 400 400 200 200 0 0 -200 -200 Money Market Linkers Curve Cross Ccy Options EUR USD GPB Other P/L Evolution in 2010 P/L Evolution over Three Years 1800 3000 EUR (k) EUR (k) 1600 Single Trade P/L Single Trade P/L 2500 Cumulatd EUR P/L 2010 Cumulated EUR P/L 1400 2000 1200 1000 1500 800 1000 600 500 400 0 200 0 -500 -200 -1000 Source for all Charts & Tables: BNP Paribas Interest Rate Strategy 16 December 2010 Market Mover. yield-curve and money-market strategies. P/L ratio 0.6 Avg.5 Risk/Reward 4.8 #DIV/0! 1. Non-Objective Research Section www. The 2010 investment environment has been characterised by abundant central bank liquidity. P/L ratio 1 #DIV/0! 0.0 Hit Ratio 63% Average P/L (EUR k) 59 .5 Risk/Reward 3. Profit 7 10 8 #DIV/0! 11 Avg. Profit 58 120 61 #DIV/0! 51 Avg. Loss -9 #DIV/0! -8 -10 -3 Avg. both EUR and GBP strategies contributed significantly (EUR+1600k). Track Record Summary 2010 Total number of trades 60 Tactical positions (near-term trade ideas) 35 Total P/L (bp) during the period 165 Hit ratio 61% Total P/L (EUR k) during the period 1550 Risk/Reward 2.2 Hit ratio 62% Strategic positions (medium-term trends) 25 Average dv01 (EUR k) 9. we proposed 60 strategies (25 of them medium-term) with an average hit ratio of 62% across all portfolios. Total P/L for the year stands at EUR 1550k with a significant contribution coming from linkers. high volatility in sovereign risk premia and a strong performance by risky Strategy: Track Record for 2010 During 2010. Loss -71 #DIV/0! -64 -13 -19 Avg.

Sweden in particular is a good proxy for the EUR given that it is part of the EU. the outlook for the Chart 1: Sweden GDP Outperformance eurozone is clouded by persistent problems in peripheral Europe. „ Look north for the value in Europe. with macroeconomic fundamentals in revenues. Growth in off environment. While the EUR outlook may be clouded by an assortment of risks. This would reduce tax markets jittery. the NOK would be the favoured the periphery will be constrained by fiscal austerity currency. Norway and Sweden. markets have shifted their focus to who will be recession. the key risk for Portugal was pressured by other states to take on a the EUR heading into 2011 is economic data from bailout package to prevent the fall of Spain. However. Heading into the New Year. we remain bullish on measures. The main risk for the SEK takes hold into 2011. „ The key risk for the EUR is data from Spain as the risk of a double-dip recession leaves the currency vulnerable to a larger-scale debt In either scenario. is the tightening in global liquidity as Asian central banks try to fend off inflationary pressures. Also. eurozone periphery continue to dominate as EURNOK investors question whether Portugal and Spain will be 60 . Spain. maintains strong balance sheets and has similar export characteristics to Germany. Note: Healthy government balances economic performance without worrying about should keep NOK well supported especially as the scrutiny sovereign debt vulnerabilities within EMU. „ We recommend buying both the NOK and SEK against the EUR going into 2011. It was reported that an impact on the eurozone. wages and higher taxes will reduce personal consumption. Large spending cuts including in public both the NOK and SEK against the EUR. Spain or both. the fourth-largest economy in the eurozone. Mary Nicola 16 December 2010 Market Mover. Non-Objective Research Section www. European constraints External trade will need to be the saving grace if the Now that Ireland and Greece have both been bailed peripheral nations are to be dragged out of out. Within Europe. This should provide further support for the SEK as growth remains subdued elsewhere Summary in the G10. increase fiscal spending. Investment is also likely to decline. In a risk. valuations against the euro suggest that there is further room for gains. Greece. the SEK and NOK serve as good proxies for the EUR without the burden of the problems in the periphery. „ Both countries have solid macro fundamentals with a tightening bias for monetary policy.Looking for Value in the North „ Heading into 2011. there are two shining stars in the north. Portugal and Ireland will all have next: Portugal. Norway and Sweden are good ways to position for the underlying strength in core Europe. Macroeconomic fundamentals give the Scandinavian countries the edge. cut asset values peripheral Europe set to keep the eurozone in a even more and worsen the banks’ balance sheets. However. Source: BNPP Bloomberg: The Swedish economy is expected to outperform the eurozone and US in the upcoming year. BNP Paribas. concerns over the Chart 2: Norway’s Government Surplus vs. It is the closest thing to betting on Germany’s Source: Bloomberg. The lack of a Our base-case scenario is that Spain will head into a unified message from EU officials has kept the double-dip recession. with both Sweden and Norway recovering well. vulnerable position as we head into 2011. this has not come to pass.

Sweden has been one which may lead to a decline in competitiveness of the fastest-growing economies in 2010. EURNOOK spot is trading around PPP through. the headline rate coming in at 1. speculation that the pace of tightening will be These dynamics alone warrant NOK appreciation. CPI figures have consistently 2011. 3. Mary Nicola 16 December 2010 Market Mover. BNP Paribas. qualities. With the more hawkish tone set by the Norges Bank. increasing an annual 5% in the March rather than the middle of the year. with undershot central-bank and market expectations. Non-Objective Research Section www.8% y/y in November. sheets. especially since Nevertheless. Chart 3: EURNOK Spot vs.GlobalMarkets. The Riksbank. the NOK and SEK will be proxies for performance of the eurozone core. increased the repo rate by 25bp to 1. three months through October. EURNOK PPP we expect them to be missed – only deepening the gloom over Spain. In light of of Europe and the periphery will add to pressure on potential tight liquidity in 2011. Norway’s consumer and government sectors are both relatively strong. which will likely lead to further rate hikes by both central banks in 2011. Low against Sweden’s trading partners. Growth in Germany is expected to moderate in 2011 but should remain strong. however. government debt and strong current account surpluses will appeal to investors. This divergence in growth within EMU will leave the ECB with a policy dilemma as one part of the eurozone will need loose monetary policy and the other part will need tighter monetary policy. it did adopt a more hawkish tone.Spain’s ambitious budget targets coincide with optimistic assumptions on nominal growth. As such. About 16% of total German exports end up in Asia. While the Norges Bank sat on its hands this week. With the strong growth seen over the last year. Chart 4: EURSEK Spot vs. Based on this. making clear in the accompanying statement that further hikes are in the BNPParibas. the strength of the domestic economy Sweden is part of the European Union – just not the underscores the need to hike interest rates. Economic fundamentals in both countries support a bullish view on the Scandies.8% and the Bank has been reluctant to hike interest rates due to inflation forecast was raised to 2. especially as emerging markets’ expansion continues. This growing divergence between the core levels after being significantly “undervalued” for some time.7% in softer inflation. EURSEK PPP Norway and Sweden: the favoured ones While the EUR will remain vulnerable to events in peripheral Europe. maintained into 2011.4% vs. CPI is nearing the Riksbank’s 2% target. leading indicators and PMI data underline the SEK appreciation against the EUR will only bring it to its “fair value” level. Interest rate Sweden: Europe’s outperformer differentials will spark further strength of the SEK. economy. the SEK is of particularly good value against the EUR as there is strong justification for further appreciation. Governor said that he personally tracks household credit when deciding rate policy. is this week’s hike from the Riksbank will lead to recovering well. The real EMU. While Source: Bloomberg. particularly the labour market. The central bank increased its While the economy is in good shape. Unlike the eurozone. The Riksbank compounding the NOK’s strength. The other problem the eurozone will face next year is the disparity in growth rates between core and peripheral Europe. expansionary trend in Norway. Note: Current EURSEK spot levels is much of the eurozone must restore its balance above EURSEK PPP. Rising oil prices will boost economic performance. Loose monetary policy may have to remain in place to allow the peripheral just to muddle Source: Bloomberg. Among European 61 . Swedish house prices have risen for eighteen we now expect speculation to build for a hike in consecutive months. the NOK is a safe trade given its defensive the euro.2% from 1. External demand will drive growth. Debt levels in Norway remain low and the current account surplus is robust. the Norges growth forecast for 2011 to 4.

characteristics of the SEK and NOK. Non-Objective Research Section www. Sweden serves as a good On the back of that. The USD was weakened as it was being used as a funding currency as prospects of QE2 came to light. it is important to note that it is not at extreme levels as appreciation against the EUR is warranted. This implies that further USD. Short USD positioning was at an extreme over the past few months. there are a few USDNOK PPP implying that NOK is “overvalued” against the USD. in a risk-on environment while the NOK gains in risk- off. then the risk. BNP Paribas. tightening more aggressively than they have been. seen in 2008. when China allowed faster appreciation currencies perform. BNP Paribas: USDNOK spot is also trading below While both currencies look attractive. This was for the SEK. The risks to NOK and SEK in 2011 Source: Bloomberg. Mary Nicola 16 December 2010 Market Mover. especially for the SEK. did not reap the same benefits as its defensive qualities kept it relatively stable. the USD was arguably used as a funding currency for much of 2008 and again in recent months on the anticipation of QE2. Moves against the USD will be a function of risk appetite as well. its key trading partner. However. suggesting that SEK is “overvalued” against the trading above the PPP level.The currency side of the story Chart 5: USDSEK Spot vs. if Asia allows for faster FX appreciation as will outperform the SEK. Like risks worth noting. Chart 6: USDNOK Spot vs. USDNOK PPP Against the USD. the NOK may outperform the SEK but they will both outperform the EUR. Note: USDSEK is currently trading trading around the PPP level while EURSEK is below the USDSEK PPP. If there is a significant rise in oil the SEK to outperform the NOK in early 2011. thereby limiting the ample global liquidity that had Weakness in the eurozone periphery will position the been provided by central banks around the world. the pace of rate hikes in Norway versus Sweden will to some degree depend on how the For example. But given the differing a way to offset inflationary pressures. Also. Second. Global risk appetite is of particular the SEK it is not trading at extreme levels as seen back in 2008 before the importance to these two countries. In 2011. both the NOK and SEK spot values are above the PPP values. We expect a fair price for oil. we recommend on environment will take hold and the SEK will likely buying both these currencies against the EUR. finding support appreciation was similar to that of the AUD. the NOK should outperform the proxy for Germany’s likely strong growth in 2011 SEK. Asia will have to start present roadblocks for the recovery. could are fairly limited). in particular the SEK as it benefited from the pick-up in risk appetite and the liquidity trade. As 2011 approaches and global liquidity drops off on the back of Asia policy tightening. From a valuation perspective. EURNOK is Source: Bloomberg. We expect the Riksbank to be of its currency in September. the SEK’s beta to CNY more hawkish than the Norges Bank. it is worth noting two things. The SEK benefits peak of the financial crisis and the start of the USD unwind. In addition. This may suggest that they are not good buys against the 62 .GlobalMarkets. but prices. This provided some support for both the EUR and SEK. they are no longer at extreme levels. The NOK. as shown in Charts 5 and 6. again the NOK should outperform the SEK. two Scandie currencies as the more favoured currencies by investors. However. gains will slow if risk appetite is challenged and NOK However. outperform the NOK. USDSEK PPP Growth and interest rate differentials suggest that both the NOK and SEK will outperform the EUR and even the USD in 2011. on the other hand. First. The Riksbank may nevertheless be mostly on the back of the improvement in risk cautious on hiking too fast as the SEK’s appreciation appetite rather than Sweden’s links to China (these against the EUR. OPEC is calling for USD 100/bbl as given their similar export But what is the story on the currency front? The market was significantly short USD on the back of the prospects of QE2.

24 suggest scope for holding above 1.9535 Dec 1 low. remains neutral. One caveat: despite the 10-cent secondary top near 1.1875 year-end.0030/50 resistance: a November collapse which created a bearish key subsequent break of 0. but also chart pattern. creating volatile swings in the process Based on data from the Chicago Mercantile has entered the oversold zone (28% on the 8-week Exchange.35 1. sparking a re-test of the 1. suggest a fair probability key liquidity during the latter part of December has a 1. As a result of overlapping moves. the 1.4160 decline off 1.2642 1. with a break of key 0.2970. GBP and JPY but now faces strong resistance „ This is reflected by strong EURUSD and GBPUSD support at “head” at the 1.2965-1. a key leader of the risk-on rally during the past six months. momentum indicators. with EURUSD holding tendency to exaggerate currency swings.2965 support as 1.60 and 80. EURUSD monthly momentum and even crack the 0.40 1.3625.2642. bearish weekly momentum Chart 1: EURUSD – Nears test of key 1.GlobalMarkets. and 1.3165 Although not a textbook example.USD Rebound Tests Resistance „ The USD recovery continued this week versus EUR.30-1.5485.2965 support At nearly 10 cents. 1.9750 support risking a medium-term sell-off „ The decline in IMM futures trading volume suggests the seasonal slowdown in FX trading activity has begun. Reduced chart pattern features. the important and 1. volatile swings could continue into year-end.28 1. Non-Objective Research Section www. However. and key resistance at shoulder” in a potential head and shoulders bearish 1.9750 support would be the reversal month amid one of the sharpest monthly initial signal for a deeper decline with scope to test declines on record. recent 1.3080 support.44 1. key support at 1.0183 Nov 5 peak).16 23-Apr-10 22-Jun-10 19-Aug-10 18-Oct-10 15-Dec-10 Source: BNP Paribas Andrew Chaveriat 16 December 2010 Market Mover.3165/1.9825. respectively.3690 a longer-term decline towards pivotal 1. this suggests watching key support at Tuesday’s 1.3498) have counter-trend features. the US Dollar Index (DXY) above 80.2965 support will hold.2590 August low. and between 1.3500/1. Currently EURUSD is under the reversal pattern (“left shoulder” at the 1.36 1.5485 and 0. These monthly and weekly volume in EURUSD futures falling 18% below the momentum factors. This risks breaking 1.40 „ AUDUSD. it seems the seasonal slowdown in FX stochastic) and is currently more oversold than at trading activity has begun.3165 and 1.4280 has the potential to kick-off 1.4280 severe November 1.35 for the rest of December.2965 support.2965) and the December rebound (1. combined with counter-trend 30-day moving average for volume.2590-1. Confirming recent USD strength will not only require Recent wide swings in EURUSD have muddled the knocking EURUSD below 1. On balance. On the bearish side. validation via driving GBPUSD and AUDUSD below both the powerful November decline (1.2965 erratic trading and pattern analysis 1. with Monday’s trading the 1.40 key 1.2965 point is that Aussie could be forming an important November 30 low.3080. Watch AUDUSD.0024 high smacks of the “right 1.32 1. resistance. Also. and strong USDJPY and US Dollar Index resistance at 84. is potentially forming a head and shoulders 63 .0003 bearish influence of declining weekly and daily October 15 high.20 trading occurs into 1.3335 support from the Aug/Sep base at 1.4280.

8085 medium-term decline 0.0180 example by any means. 1210 1115 1107 (61. The dollar rebound is driven by 1230 bullish weekly momentum.8315 support is an open question: but if seen. 1180 The support base at 1130 1167 is seen holding as a medium-term rebound 1130 extends toward 1190. Mixed 0. we favour a choppy rebound initially 0.84 0.8065 the next 2-4 weeks 0.8600.02 the past 2 months of A$ trading resemble a head & shoulders bearish 0. for the first time 0.9750 0.8425 since mid-Oct.8345 double-bottom.9535 high is stalling close to 0. Anchored by the recent 0.9220 resistance from the mid- 0.89 bullish daily momentum 0.8510 bullish weekly momentum to arrive 0.8140 and then 0.8940 Oct down channel plus 0.86 0. 0. Non-Objective Research Section www.83 0. currently as 1199 1185 strong as during the explosive Apr-May jump.82 0.8770 peak (“head”). We expect 0.94 0.8860 Oct high (“left shoulder”) below the 1.8565-0. a 0.86 momentum indicates a break below 64 .78 would be favoured 23-Apr-10 22-Jun-10 19-Aug-10 18-Oct-10 15-Dec-10 Source: BNP Paribas Chart 3: EURGBP – Retracing the autumn decline The breakout above the 0.8530 0. 0.85 soon.98 reversal pattern. this week’s 0.8810 and multiple bullish daily 0.8332/48 0.8% retracement of 1103 1080 the May-Nov decline).82 targeting 0.87 Oct-Dec decline is being retraced.80 23-Apr-10 22-Jun-10 19-Aug-10 18-Oct-10 15-Dec-10 Source: BNP Paribas Chart 4: USDKRW – Higher toward 1190 and potentially 1210 The April/Nov twin- bottom just above 1100 1330 psychological support is an ideal way to complete 1277 the May decline off 1277 1280 and begin a multi-month rebound. 1. and if exceeded.81 0.0183 Nov 0.88 divergence suggest the 0.8635/50 over 0. Chart 2: AUDUSD – Head and shoulders top may be forming Although not a classic 1. 07-Jan-10 08-Mar-10 05-May-10 02-Jul-10 31-Aug-10 28-Oct-10 Source: BNP Paribas Andrew Chaveriat 16 December 2010 Market Mover.9380 Critically.

2930 19 Nov 2010 EURCHF 1.2810 Short from 1. stop at 149.3475 achieved the 1.50. lower stop to 1. target 65 .bnpparibas.00 28 May 2010 Source: BNP Paribas Andrew Chaveriat 16 December 2010 Market Mover.3600.2775 target 17 Nov 2010 USDKZT 147.3400 Short 1.00. Currency Spot Trade Recommendations Date EURAUD 1.3930.56 Short at 147. Non-Objective Research Section www.GlobalMarkets. target 135.

7% n/a 08:30 09:30 Italy ISAE Consumer Confidence : Dec 108.8 112.3% n/a 12:00 07:00 CPI y/y : Nov 2.3% 4.8 109.0 09:00 10:00 Ifo Current Conditions : Dec 112.1bn JPY480.8% 13:30 08:30 GDP Deflator (Final.5% 3.9% 3.7bn GBP17.5% n/a 09:30 09:30 UK BoE MPC Minutes 09:30 09:30 GDP (Final) q/q : Q3 0.5% 12:00 07:00 Canada CPI m/m : Nov 0.5 09:00 10:00 Retail Sales y/y : Oct 0.0 n/a 10:00 11:00 Italy Unemployment Rate : Q3 8.3% n/a 07:45 08:45 PPI m/m : Nov 0.4% 07:00 08:00 PPI y/y : Nov 4.7% 1.4% 0.8% 1.5 14:00 15:00 Belgium Consumer Confidence : Nov 0 0 n/a 15:00 10:00 US Leading Indicators m/m : Nov 0. saar) q/q : Q3 2.0bn n/a 12:45 13:45 ECB’s Honohan Speaks in Dublin 09:00 10:00 EU EU Leaders Conclude Summit in Brussels 09:00 10:00 Italy Industrial Orders y/y : Oct 17.7% 2.3% -0.8% 09:30 09:30 Current Account : Q3 13:30 08:30 US GDP (Final.1% n/a 07:45 08:45 PPI y/y: Nov 4.43mn 4.1% Mon 20/12 07:00 08:00 Germany PPI m/m : Nov 0.71mn 15:00 10:00 FHFA House Prices m/m : Oct 15:30 10:30 EIA Oil Inventories 14:00 15:00 Belgium Business Confidence : Dec 0.1% n/a Market Economics 16 December 2010 Market Mover 66 www.4bn GBP14.3% 10:00 11:00 Wages y/y : Nov 1.7 08:00 09:00 Sweden Consumer Confidence : Dec 22.0 09:00 10:00 Ifo Expectations : Dec 106.3 109.0% 16.3 106.5% (p) 2.3 112.74mn 4.1% 0.2% n/a 12:00 07:00 Bank of Canada Core CPI m/m : Nov 0.8% (p) 1.8% 2.9% 20.3% 13:30 08:30 Corporate Profits (Rev.3% .6% 08:30 09:30 Neths Consumer Confidence : Dec -7 -5 n/a 09:00 10:00 Eurozone Current Account (sa) : Oct EUR-13.0% 09:00 10:00 Germany Ifo Business Climate : Dec 109.4% 2.8 106.8% (p) 0.0% n/a 08:30 09:30 Neths GDP (Final) q/q : Q3 -0.0% 1.1% n/a 07:45 08:45 Household Consumption y/y : Nov -0.6% 4.1bn (21/12) 08:30 09:30 Sweden PPI m/m : Nov -0.8% 09:30 09:30 GDP (Final) y/y : Q3 2.Economic Calendar: 17 .0 n/a Thu 23/12 Japan Public Holiday 07:45 08:45 France Household Consumption m/m : Nov -0.4% 0.3% 2.31 December GMT Local Previous Forecast Consensus Fri 17/12 07:45 08:45 France Industry Survey : Dec 100 102 102 08:00 09:00 Norway Unemployment Rate : Dec 2.4% 0. saar) q/q : Q3 2.8% (p) 2.7 5.0bn n/a Tue 21/12 Japan BoJ Rate Announcement 00:01 00:01 UK GfK Consumer Confidence : Dec -21 -22 -21 09:30 09:30 PSNCR : Nov GBP2.5% 09:00 10:00 Norway Unemployment Rate (sa) : Oct 3. saar) q/q : Q3 2.2% n/a 12:00 07:00 Bank of Canada Core CPI y/y : Nov 1.6 22.7% n/a 15:00 10:00 Existing Home Sales : Nov 4.1bn EUR-2.1% (p) -0.8% -0.8 1.5 5.8% n/a 10:15 11:15 Belgium CPI m/m : Dec 0.7% 0.3% n/a 08:30 09:30 PPI y/y : Nov 2.3bn JPY510.7bn n/a 09:30 09:30 PSNB : Nov GBP9.0bn GBP16.8bn 00:30 11:30 Australia RBA MPC Minutes 07:00 08:00 Germany GfK Consumer Confidence : Jan 5.1% n/a 08:30 09:30 GDP (Final) y/y : Q3 1.8% 08:45 09:45 Eurozone ECB’s Weber Speaks in Munich 10:00 11:00 Foreign Trade Balance (sa) : Oct EUR2.3% 4.4% 0.5% 1.5% 2.7% n/a Wed 22/12 23:50 08:50 Japan Trade Balance (nsa) : Nov JPY821.3% (p) 2.4bn EUR2.GlobalMarkets.7% n/a 10:15 11:15 CPI y/y : Dec 2.8% 0.8% (p) 2.

6% 09:00 10:00 M3 y/y (3-Mth) : Nov 1.5 61.5% 1.3% 13:30 08:30 Personal Spending m/m : Nov 0. Canada Japan BoJ Minutes 05:00 14:00 Housing Starts y/y : Nov 6.4% n/a 23:30 08:30 Unemployment Rate (sa) : Nov 5.3 0.2% 1. Italy.12 2.1% 5.0 61.1% 1.5% n/a 14:00 09:00 US S&P/Case-Shiller Home Price Index : Oct 15:00 10:00 Consumer Confidence : Dec 54.2% 0.8% 09:00 10:00 Eurozone M3 y/y : Nov 1.5 15:00 10:00 New Home Sales : Nov 283k 300k 300k 13:30 08:30 Canada GDP m/m : Oct Fri 24/12 US Public Holiday 10:00 11:00 Switzerland SNB Quarterly Bulletin 14:00 15:00 France Job Seekers (sa) : Nov -20k -10k n/a Mon 27/12 Holiday UK.1% 1.6% -0.0% n/a 23:30 08:30 Core CPI National y/y : Nov -0.6 74.3 52.08 n/a 15:30 10:30 US EIA Oil Inventories Thu 30/12 08:30 09:30 Italy ISAE Business Confidence : Dec 101.0 54.6% (Cont.6% n/a 23:30 08:30 CPI Tokyo y/y : Dec 0.) 13:30 08:30 Personal Income m/m : Nov 0.4% n/a 08:30 09:30 Retail Sales (nsa) y/y : Nov 5.5% n/a 23:30 08:30 Household Consumption y/y : Nov -0.3% n/a Week Nationwide House Prices Index y/y : Dec 0.0% n/a 08:30 09:30 Sweden Retail Sales (sa) m/m : Nov .4% (p) 0. Sweden During 29-31 UK Nationwide House Prices Index m/m : Dec -0.2% Germany States Cost of Living m/m : Dec 0.45 0.0% n/a 23:50 08:50 Retail Sales y/y : Nov -0.6% 1. 3-mths) y/y : Nov n/a HICP (Prel) y/y : Dec 1.3% -0.5% 1.5% -0.5 n/a Tue 28/12 Holiday UK.4% -0.0 Fri 31/12 Holiday US.3% n/a Release dates and forecasts as at c.1 57.o.0% n/a 23:50 08:50 Industrial Production (sa) m/m : Nov -2.2% 0.0% 1.0 n/a 08:30 09:30 Eurocoin : Dec 0.0% 0.3 74.4% -0.5% 0.1% 5.4% n/a 06:30 07:30 GDP (Final) y/y : Q3 1.3% 3.1% 1.2% 1.9% States Cost of Living y/y : Dec 1.5% HICP (Prel) m/m : Dec 0.8% n/a 07:45 08:45 Housing Starts (nsa.8% n/a 09:30 09:30 UK BoE Housing Equity Withdrawal : Q3 10:30 11:30 Switzerland KoF Leading Indicator : Dec 2.50 n/a 13:30 08:30 US Initial Claims 14:45 09:45 Chicago PMI : Dec 62. Spain.2% 0. Canada 23:30 08:30 Japan CPI National y/y : Nov 0.8% 0.5 Wed 29/12 08:00 09:00 Spain Retail Sales y/y : Nov -2.5% -0.4% -0.7% 1.1% n/a 23:30 08:30 Core CPI Tokyo y/y : Dec -0. prior to the date of publication: See Daily Economic Spotlight for any revision Source: BNP Paribas Market Economics 16 December 2010 Market Mover 67 www.8% (p) 1.6 08:10 09:10 Eurozone Retail PMI : Dec 51. Germany. GMT Local Previous Forecast Consensus Thu 23/12 13:30 08:30 US Durable Goods Orders m/m : Nov -3.GlobalMarkets.5% 13:30 08:30 Initial Claims 420k 425k 420k 14:55 09:55 Michigan Sentiment (Final) : Dec 71.5% 0.0% 1.4% 0.4% n/a (27/12) 06:30 07:30 France GDP (Final) q/q : Q3 0.4% 0.6% n/a 08:30 09:30 Neths Producer Confidence : Dec 0.

GlobalMarkets. which should support confidence Services 80 and output in the coming months.5) and we 80 expect a further improvement in December. the recession is being followed by 65 normalisation but no real catch-up. and we 100 forecast a production catch-up starting in . 100 The sub-indices measuring current business conditions 95 and future expectations both improved last month. from 99 to 102. with the economic Germany. for six months in October.8 strongest level since the early 1990s.7 106. including retail.3 107. contrary to what has 70 happened in Germany. orders have been 85 relatively robust recently.8 112. but there is no post-recession catch-up in sight.2 109. Outlook 10 8 8 -5 Europe and poor-performing southern Europe.8 growth relative to the spring peaks but domestic demand is picking up the baton. as the low capacity utilisation ratio shows. Market Economics 16 December 2010 Market Mover 68 www. There is still plenty of scope for production to SA Dec (f) Nov Oct Dec 09 increase.2 103. with industrial output rising at its fastest m/m rate expansion broadening out.3 105. rising above its high point during the previous expansion from 2005 to 2008. 95 90 Apart from the automobile industry. Headline indices for 00 01 02 03 04 05 06 07 08 09 10 services as well as for manufactured goods have both Source: Reuters EcoWin Pro been in a narrow range. We are thus moderately confident about the growth outlook for France. though this could be tempered by the recent sharp rise in bond yields. have Dec (f) Nov Oct Sep also shown a pronounced improvement more recently. 75 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 The improvement in Ifo’s sentiment surveys was initially due to the exceptional strength in the manufacturing and Source: Reuters EcoWin Pro export sectors but domestic sectors. with the 90 former at a very elevated level (see chart). 75 It is important to highlight that.9 have signalled a moderation in the rate of externally-driven Current Conditions 112. Key Point: We expect a technical recovery in manufacturing.8 106. This points to a further pick-up in expectations.8 109. This may Own Manuf.3 110. but it is also due to competitiveness. This should be temporary. should Services Index 102 102 101 90 demand be strong enough. during the last three months. The business climate index for the retail sector has risen to its Headline 109. Survey participants Expectations Chart 2: French Business Surveys (Normalised) BNP Paribas Forecast: Modest Gain 125 France: Monthly Industrial Survey (December) Manufacturing 120 Release Date: Friday 17 December 115 The correction of manufacturing confidence in November 110 can be partly explained by social unrest and its impact on 105 the chemical industry. Manufacturing Index 102 100 102 88 The French economy is trapped between dynamic northern Overall Manuf. Key Point: The latest ‘hard’ activity data have been strong in Sentiment will remain elevated. Outlook 14 11 16 4 have to do with geography. 85 The assessment of current business conditions in Germany is still a little short of its cycle high in 2006 (115.Key Data Preview Chart 1: German Ifo Business Climate BNP Paribas Forecast: Still Going Strong 120 Current Conditions Germany: Ifo Business Climate (December) 115 Release Date: Friday 17 December 110 Ifo’s business climate index improved for the sixth straight 105 Expectations (4-Mth Lag) month in November.

Real exports (adjusted for exchange -400 rate and price fluctuations) have also lost momentum since -600 May. we expect real exports and real imports will we expect overall real exports to pick up the pace in both expand. Food and energy prices are likely to push prices higher in November. and transportation prices make up 63. What is Trade balance (sa) 691.0 has been soaring since bottoming out in July).1 821.4 0. the slowdown by 00 01 02 03 04 05 06 07 08 09 10 exports to China. A moderation in shelter prices is likely to be followed by a decline in the coming months.3 788. there are signs that the manufacturing cycles in the US and EU are also starting to turn up. Shelter costs are likely to be a significant factor in November’s reading.4 0.2% y/y in November from a rate of 2.2% m/m in November.2 -0.GlobalMarkets. Thus. a CPI 0.4% y/y in October. m/m % Nov (f) Oct Sep Aug Going forward. On the other hand.5 611.1 strong CAD weighing on import costs.2 more.2 0. We are expecting moderation close to 0. nominal exports and imports have -200 been trending lower.3 580. Even so. Consequently.a.Key Data Preview Chart 3: Canadian Inflation BNP Paribas Forecast: Moderate Pressure Canada: CPI (November) Release Date: Tuesday 21 December We expect Canadian headline CPI to increase by 0. s.1% m/m—coming off the significant 0. headline inflation should moderate to 2.2 0. Shipments to China revived sharply in October and In November.3% in November.3 0. as higher energy prices continue to pressure headline inflation. we expect Key Point: the pace of export growth will strengthen moving forward. reflecting the fading impact of overseas inventory -800 restocking and fiscal stimulus. including a double-digit surge in October. with the result that the seasonally 400 adjusted trade surplus expands.5% of the headline Source: Reuters EcoWin Pro inflation index. show signs Source: Reuters EcoWin Pro of reaccelerating.1 deceleration in the growth of unit labour costs.5 84.0 578. The Bank of Canada core CPI is expected to increase by 0. and a more pronounced correction in the housing market should limit Key Point: core inflation growth. the main upside risks to the inflation outlook are higher commodity prices. we expect 800 nominal exports and nominal imports will both increase for 600 the month as a whole. Owing to the yen’s 200 appreciation (which causes yen-based prices to decline for 0 imports and exports).) BNP Paribas Forecast: Larger Surplus 1400 Japan: Trade data (November) 1200 Release Date: Wednesday 22 December 1000 Based on trade data through mid-November. Such strength dovetails with recent Chinese indicators JPYbn Nov (f) Oct Sep Aug showing domestic demand is expanding and the Chinese manufacturing cycle has recovered (manufacturing PMI Trade balance (nsa) 510. shelter. Japan’s top trading partner.6% increase in . the relatively Bank of Canada Core 0. Chart 4: Japan: Trade Balance (JPY bn. Note that food. Market Economics 16 December 2010 Market Mover 69 www.

% m/m 1.8 10.43 4. this could boost their turnover during the last weekend of November. Car sales will again drive the headline retail sales data in the last few months of this Key Point: year. The underlying trend should remain strong. Christmas sales are proving -4 -40 05 06 07 08 09 10 Some 90% of the retail sales decline in October was due to cars. printing strong gains vs.GlobalMarkets. more than offsetting the last month’s 2.2 3. As the incentive Volume index Nov (f) Oct Sep Nov 09 has been halved since last year (to EUR 500). volume) 7 0 Release Date: Thursday 23 December 6 5 -5 Household confidence has been rising since July despite 4 -10 social unrest.4% m/m in November. Correction of car sales should boost the November According to retailers. We expect a rebound of 6% m/m to 300k in November.4% y/y. weak 2009 levels. Chart 6: French Sales of Manuf. New home sales plunged 8. this 0 Household Confid. with the help of cold weather.3 -0.Key Data Preview Chart 5: US: Existing & Pending Home Sales BNP Paribas Forecast: Up US: Existing & New Home Sales (November) Release Date: Wednesday & Thursday 22 & 23 Dec Existing home sales are expected to jump 7% m/m to 4.1% in October to 283k annualised units. further supporting our forecast for an increase in existing home sales. mortgage applications to purchase surged 17.74 4.53 4.12 Key Point: Existing home sales are expected to jump 7% m/m to 4. in line with strong mortgage applications. in line with strong mortgage applications. The INSEE index is still very weak in 3 absolute terms. Car sales. show this. up 19% m/m but down % y/y -0. were boosted last year by car sales incentives. Pending sales that are based on contract signings and lead existing sales by one to two months jumped 10. The bulk of the benefit should be visible in the December data (due on 25 January 2011). (000s saar) 300 283 308 275 Existing Home Sales (millions saar) 4. durable goods 1 -20 sales ex-autos have been quite dynamic recently. Source: Reuters EcoWin Pro Both new and existing home sales remain low by historical standards and relatively small monthly changes in the Nov (f) Oct Sep Aug number of homes sold translate into relatively large swings New Home Sales in growth rates. (RHS) -25 momentum should continue. but the EU Commission puts confidence in -15 2 line with long-term average.2 November new car registrations.1 -0.2% decline. This -3 trend should continue. Market Economics 16 December 2010 Market Mover 70 . -1 Commission Survey -30 Sales of clothes have been relatively robust in the last few -2 -35 months. Goods Sales (% y/y. As a result.3 1. Goods (November) Manuf. we expect this to be corrected. the effect is SA-WDA weaker this year but has not totally disappeared.74mn annualised units while new home sales should rebound 6% to 300k in November. Goods BNP Paribas Forecast: Rebounding 8 5 France: Hh Consumption of Manuf.7 1. relatively dynamic. In addition.6 1. which are Source: Reuters EcoWin Pro included in the French overall retail sales data.74mn annualised units in November.9% m/m in November.

Source: Reuters EcoWin Pro % m/m Nov (f) Oct Sep Aug Durable Goods -0. The increase would be consistent with a healthy gain of between 2. subdued.2% suggesting a 0.5 -3. % m/m Nov (f) Oct Sep Aug Smoothing through the monthly volatility.2 0.9% where we expect it to be for the next four months.Key Data Preview Chart 7: US Confidence vs Consumption BNP Paribas Forecast: Solid Spending. which would hold the y/y steady at a record low gain in spending while income gains will be 0.0 0.5% in November after a similar gain in October. Meanwhile personal income is forecast to rise by a subdued .5 -2.8 Ex-Transport 1. reflecting a plunge in orders for Boeing aircraft. Meanwhile. Key Point: The core PCE price index is expected to be flat in A surge in holiday shopping should lead to a solid November. Market Economics 16 December 2010 Market Mover 71 www.3 2. we look for orders ex transportation to rise a solid 1.0 0.5% after plunging 2.0 -0.3% increase in real consumer spending.2% in November reflecting weakness in aggregate hours worked captured in the employment Source: Reuters EcoWin Pro surge that was driven by a more robust increase in wages and salaries. Therefore we look for a rebound which would leave equipment and software investment on a more moderate but still robust growth trajectory in Q4. wage and salary Personal Income 0. The October reading was disappointing and contradicts some of the resilience we have seen in other manufacturing indicators.4 5.0 0.5% and 3.0 0.5 0.0% in overall consumer spending in Q4 as consumers gain a little more confidence in the recovery.3 foundation for continued gains in spending.1 subdued increase in income should lead the personal saving rate to move lower.7 1.GlobalMarkets. Chart 8: US: ISM Points to Moderation BNP Paribas Forecast: Small Decline US: Durable Goods (November) Release Date: Thursday 23 December Durable goods orders are expected to fall 0.5 0. The more Core PCE Prices 0. The gain will be driven by a surge in retail holiday spending while auto purchases were flat on the month and we look for a modest increase in service expenditures. This comes on the heels of a 0. Headline inflation is expected to rise 0.5% in November.1 Key Point: A decline in the headline will mask a solid rebound in orders ex-transportation.7% a month prior.2 0.5 income is growing at a moderate pace serving as a Consumption 0.4 0. Subdued Income US: Personal Income & Spending (November) Release Date: Thursday 23 December Personal consumption is forecast to rise 0.

Core CPI -0.9 Key Point: Although one-off factors have made prices volatile of late.6 loaded demand. Market Economics 16 December 2010 Market Mover 72 www. 5.Key Data Preview Chart 9: Japanese Unemployment Rate (% sa) BNP Paribas Forecast: Slight Improvement 6.3% in November.0 0. though.1 5.0%. Key Point: The jobless rate continues to seesaw in the low 5% range.2 -0. the jobless rate is still seesawing in the low 5% range.GlobalMarkets.6% y/y. job growth continues to lag because 4. the rate of decline in the national core CPI improved a sharp 0. But even excluding such one-off policy factors.6 -0.5 February at 4.1 -1. Based on the Tokyo CPI numbers for 02 03 04 05 06 07 08 09 10 November (after making allowances for differences with the Source: Reuters EcoWin Pro national index). This index has been steadily on the mend since hitting a low of -1. especially since the economy looks headed for a momentary contraction in Q4 due to the winding down of % s.1pp to -0.52pp) – showed -2 CPI excluding energy and food. Despite the economy’s relatively robust expansion.6% in July 2009 ended in January- 4. but not alcohol an improvement of 0.6 -0.5 We expect the unemployment rate in November to drop 0. it will be some time before job growth clearly picks Source: Reuters EcoWin Pro .0 Basically.5pp from September to -0. Chart 10: Japanese CPI (% y/y) BNP Paribas Forecast: Modest Improvement 3 Japan: CPI (National.3% -3 in November 2009.0 5. due 1 in large part to the effects of a tobacco tax hike.28pp) and the earlier tuition fee exemptions for public high schools (+0.0 5.1pp to 5.a.9%. With the economy likely to contract in Q4. we estimate that the national core index in November will decline at the same 0.0 corporations are reluctant to aggressively hire owing to lingering perceptions of over-staffing. November) Core CPI Release Date: Tuesday 28 December 2 In October.0 Japan: Unemployment rate (November) Release Date: Tuesday 28 December 5. reversing the 0.5 Although perceptions of excessive employment are steadily 00 01 02 03 04 05 06 07 08 09 10 waning. a pattern that has continued since the rapid improvement from 5. 3.0 CPI 0.1pp increase in October. trend indicators (10% trimmed mean CPI) confirm deflation continues to moderate.6% rate as in October % y/y Nov (f) Oct Sep Aug and that the national 10% trimmed mean CPI will also move sideways. Nov (f) Oct Sep Aug stimulus programmes and negative payback for front- Unemployment rate 5. the “10% trimmed 0 mean CPI” – which excludes volatile special factors such as -1 the tobacco tax (contribution:+0. it will be some time before job growth clearly picks up. . 00 01 02 03 04 05 06 07 08 09 10 the cyclical outlook for the manufacturing cycle does not Source: Reuters EcoWin Pro look too bad as global manufacturing is recovering again. Retailers are anticipating a happier festive Source: Reuters EcoWin Pro season this year as the recovery gradually gains momentum.1 in the second half of the month.0 -1. s easonally adjusted) 115 140 Release Date: Tuesday 28 December 110 130 We expect production in November to expand 1. Michigan Sentiment 74. Key Point: However.0 in December from 54.1 in November. With exports slowing to a virtual 100 110 standstill. thanks to last-minute demand for of next year. which has % m/m 1. Indeed.Key Data Preview Chart 11: Japanese Production and Exports BNP Paribas Forecast: First Increase in Six Months 120 150 Japan: Industrial Production (November) (2005=100.6 The recovery in the manufacturing sector home appliances ahead of the downsizing of a should resume.GlobalMarkets. it seems safe to say that producers 65 50 are not especially downbeat about future demand. Indeed.4 74. The demand thus robbed from the future will have negative consequences on production in Q1 2011. saw the stock market bounce. with the pace becoming pronounced from stimulus program. 95 made worse by huge production cuts in October that were 100 90 triggered by the end of green car subsidies. 105 Production 120 the first rise in six months. Chart 12: US Consumer Confidence BNP Paribas Forecast: Up US: Consumer Confidence (December) Release Date: Tuesday 28 December The Conference Board Index of Consumer Confidence is expected to increase to 57. as the University of Michigan consumer sentiment index indicated. While such forecasts warrant Exports (RHS) 75 70 caution owing to the upward bias in the METI’s seasonally- 70 60 adjusted data in Q4. the proposed extension of tax cuts Dec (f) Dec 2H Dec p Nov and unemployment benefits should help boost confidence Conference Board 57. factories have hit a soft patch since the summer. we expect manufacturing to be supported by the Production in November should recover for the first resumption of brisk exports to emerging Asia from the start time in six months. early data suggest that more shoppers visited stores and websites over Black Friday weekend and on Cyber Monday and spent more than a year ago. But the 90 85 forecast index projects output will rebound in both 80 80 November and December.2 71. Consumers continued to gain confidence in early December. Consumers enjoyed putting the election behind them. Market Economics 16 December 2010 Market Mover 73 www.6 Key Point: The proposed extension of tax cuts and unemployment benefits should help boost confidence in the second half of the month.0 -2.0% m/m. the spring when fallout from the end of the eco-point system fades.3 74.5 triggered stronger-than-expected sales of LCD TVs and air conditioners. and retailers are luring them with discounts this holiday season. One note of caution is that production in Q4 is being Nov (f) Oct Sep Aug propped up by rush demand ahead of the downsizing of another stimulus programme (eco-point system).0 54.

0 1.0 The differential between narrow and broad money growth rates in the eurozone has narrowed The y/y growth rate of -2. Food inflation rose.1 y/y in October. Source: Reuters EcoWin Pro As with M3. Headline inflation should rise further as an increase in commodity inflation dominates a decline in core. Lending for mortgages is Private Sector Loans 1. having been in double digits for almost a year from mid-2009. however. inflation in Germany was pushed higher by a combination of stronger core inflation and a sharp increase in food prices.3 1. M3 1. meanwhile. rising by 2.) 1.0 Given the unusually large m/m drop in M3 in November 2009 (of 0. a 20-month low.6% y/y in October versus a trough of -2. as is typically the case.its highest level since October 2008. preliminary) Release Date: Wednesday 29 December In November.0 0. is expected to give up much of its November gain as the clothing discounts come one month later than 2009 and a household goods price base Key Point: effect washes out. In December.Key Data Preview Chart 13: Eurozone M3 & Bank Lending (% y/y) BNP Paribas Forecast: Trending Higher 12.1 value in November and a sharp rise in oil prices at the start CoL y/y 1. which continues to contract on a y/y basis.2 around 8% .1 0. it was almost 1½ percentage points above its cycle low in February 2010. October’s 1. Key Point: Lending to the non-financial corporate sector is lagging that The y/y rates of growth in M3 and bank lending are for households. has . That should push y/y energy inflation to HICP m/m 1. meanwhile. 5. The three-month average y/y rate of growth is forecast at 1.5 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 M1.1 -0. the y/y rate of increase in M3 is likely to M3 2. fell to 4.4 1. a 13-month high.GlobalMarkets.4% growth rate compares to a trough of -0.5 Private Sector Eurozone: Monetary Developments (November) Bank Lending Release Date: Wednesday 29 December 10. the y/y growth rate in bank lending remains low % y/y Nov (f) Oct Sep Aug but has been trending upwards. Still. to -0.1 0.2 1.9% y/y in October. up by 3.5 up. than consumer credit.7% in January 2010.1 -0.5%).5 October.5 rise in November this year.8% in October 2009.3 Core inflation. Core inflation rose by 0. HICP y/y 1. 0.6% y/y in October. at 1.2%. Chart 14: German CoL BNP Paribas Forecast: On The Rise Germany: CoL (October. we expect a further rise in German inflation as a sharp rise in energy prices over the month and a further gain in food inflation dominate a decline in core Source: Reuters EcoWin Pro inflation.7 1.8% y/y.1 0.8 1.3 of December.6 1.0 The y/y growth rate in M3 decelerated in the two months to 7.2 1. Energy prices are expected to have risen by nearly 2% % Dec (f) Nov Oct Sep m/m in December on a combination of a fall in the euro’s CoL m/m 1. as the sharp discounting in clothing prices last November dropped out of the y/y comparison and retailers increased their prices in November this year.2pp to 0.5 1.2 stronger.3 1.1 1.5 1. The rate of decline low by past standards but are trending higher.2 Loans to households have been the main driver of the pick- M3 (3-mth Avg.0%. as the impact of the soft commodity price shock finally began to show in the data. Market Economics 16 December 2010 Market Mover 74 www.4 1.8 0.

FHFA House Prices PPI Dec. Eurozone: Retail Sales Eurozone: Labour Nov. Household Neths: Producer Quarterly Industrial Dec. WPI Dec 17 January 18 January 19 January 20 January 21 January UK: Rightmove House Canada: BoC Rate Japan: Tertiary Index Nov Germany: PPI Dec Eurozone: PMIs Prices Jan Announcement Eurozone: Current Neths: Labour Dec. Retail Dec US: NFIB Small Business US: Import Prices Dec Neths: Retail Sales Nov. PMI (Final) Dec Dec Industrial Orders Oct. Manufacturing Jan. Consumer Credit Nov Canada: Labour Dec During Week: Germany Retail Sales Nov.b. BoE Rate Business inventories Announcement Nov Sweden: CPI Dec US: PPI Dec. UK Halifax House Prices Dec 10 January 11 January 12 January 13 January 14 January Australia: Retail Sales Australia: Trade Balance Japan: M2 Dec. See our Daily Spotlight for any revisions Market Economics 16 December 2010 Market Mover 75 www. Net Consumer Spain: IP Nov Dec Production Nov. Italy CPI Dec. CPI France: Industry Survey France: Housing Starts Rate Announcement Consumer Confidence National Dec. HICP Dec Production Nov Nov Production Nov Eurozone: ECB Rate Germany: HICP Dec Sweden: Industrial France: BoF Survey Dec France: Current Account Announcement & Press Spain: HICP Dec Production Nov UK: BRC Retail Sales Nov Conference UK: PPI Dec Norway: CPI Dec. PPI Monitor Dec UK: Trade Balance Nov France: CPI Dec US: CPI Dec. Spain: Retail Sales Dec Developments Dec Consumer Confidence Sweden: Labour Dec. Retail US: Factory Orders Nov. Nov.Economic Calendar: 3 – 28 January 3 January 4 January 5 January 6 January 7 January Eurozone: Manufacturing Eurozone: HICP (Flash) Eurozone: PPI Nov. Retail Sales Dec. Labour Jan Dec. Wholesale Industrial Production Nov Production Dec. NAHB Housing US: Housing Starts Dec Dec Index Jan During Week: Germany WPI Dec 24 January 25 January 26 January 27 January 28 January Australia: PPI Dec Australia: CPI Dec France: Job Seekers Dec Japan: Trade Balance Japan: BoJ Monetary Eurozone: Industrial Japan: BoJ Rate UK: BoE Minutes Dec Policy Meeting Minutes. Sales Dec. US: New Home Sales Jan Dec. Trade Balance Nov During Week: Germany Retail Sales Nov. (Flash) Jan UK: DCLG House Prices Account Nov Consumer confidence Jan Germany: Ifo Survey Nov. UK Nationwide House Prices Jan Source: BNP Paribas Release dates as at c. Industrial Optimism Dec. CPI Dec Belgium: Consumer US: Existing Home Sales Jan Germany: ZEW Survey Confidence Dec Dec Belgium: Business Jan UK: Labour Dec Confidence Dec US: Empire Canada: BoC Monetary UK: PSNCR Dec. Orders Nov Announcement Norway: Norges Bank Eurozone: Business and CPI Tokyo Jan. UoM Inventories Nov UK: Industrial Production Sentiment (Prel) Jan. Business and GDP (Final) Q3 Spain: HICP (Flash) Dec UK: CIPS Manufacturing Services (Final) Dec Consumer Confidence Germany: Industrial UK: Holiday Dec. Sales Nov FOMC Minutes US: Labour Dec. Pending Home Sales Nov During Week: Germany GfK Consumer Confidence Jan. prior to the date of this publication. Current Australia: Labour Dec Japan: CGPI Dec Nov Nov Account Nov Japan: Machinery Orders Eurozone: Trade France: Industrial Japan: Leading Indicator Eurozone: Industrial Nov Balance Nov. Mortgage US: ADP Employment UK: CIPS Services Dec Balance Nov US: ISM Manufacturing Approvals Nov Change Dec. Confidence Jan Survey Q1 Announcement Jan Retail Sales Dec UK: GDP (Adv) Q4 France: Consumer Eurozone: Eurocoin US: S&P/CaseShiller Confidence Jan Jan. Retail Sales Data Nov. GDP (Adv) Jan. Trade Switz: PMI Dec Credit Nov. UoM Sentiment Nov Confidence Jan (Final) Jan Canada: CPI Dec US: Durable Goods Orders Dec. US: ECI Q4. PMI Nov. TICS Policy Report PSNB ISM Germany: Factory Orders France: Trade Balance Dec Germany: Labour Nov Services Dec Nov Nov France: Consumer Neths: CPI Dec Norway: Industrial Confidence Dec Switz: CPI Dec Production Oct. Consumer Q4.GlobalMarkets. FOMC Rate Germany: HICP (Prel) Consumption Dec. Monetary House Prices .o.

to issue a 5-year EUR loan (EUR 1-2bn) and EUR or USD loans may be issued in the 2-5y maturity segment Slovak 7 Sep 2020 29 Dec 11:00 16:00 US Outright Treasury Coupon Purchase (2015-2016) USD 6-8bn 07/01 Fri 11:00 16:00 US Outright Treasury Coupon Purchase (2013-2014) USD 6-8bn 10/01 Mon Slovak Rep.3tn 11:00 10:00 Austria RAGBs 4 Jan EUR 1-2bn 10:30 10:30 UK Index-Linked Gilt 1.5bn 27/12 Mon 13:00 18:00 US Notes 2-year (new) 23 Dec USD 35bn 28/12 Tue 11:00 16:00 US Outright Treasury Coupon Purchase (2013-2014) USD 6-8bn 13:00 18:00 US Notes 5-year (new) 23 Dec USD 35bn 29/12 Wed 10:55 09:55 Italy CTZ 23 Dec EUR 2-3bn 11:00 16:00 US Outright Treasury Coupon Purchase (2012-2013) USD 4-6bn 13:00 18:00 US Notes 7-year (new) 23 Dec USD 29bn 30/12 Thu 10:55 09:55 Italy 3 & 10y BTPs and CCT 23 Dec EUR 5-8bn 03/01 Mon 11:00 16:00 US Outright Treasury Coupon Purchase (2018-2020) USD 7-9bn 04/01 Tue 11:00 16:00 US Outright TIPS Purchase (2012-2040) USD 1-2bn 05/01 Wed 11:00 10:00 Germany Bund 2.6tn 11:00 16:00 US Outright Treasury Coupon Purchase (2021-2027) USD 1.5-2.5bn 20/12 Mon 11:00 16:00 US Outright Treasury Coupon Purchase (2018-2020) USD 7-9bn Outright Treasury Coupon Purchase (2014-2016) USD 6-8bn 21/12 Tue 12:00 17:00 Canada Repurchase of 10 Cash Mgt Bonds (Jun11 . DDA) in Feb/Mar 2011 .6tn 10:30 09:30 Spain Bonos (TBC) 27 Dec EUR 3-5bn 10:55 09:55 Italy 5-year BTP and possibly 15. First BTF auction of 2011 will take place on 3 Jan. BNP Paribas Interest Rate Strategy 16 December 2010 Market Mover.GlobalMarkets.Treasuries: France: Cancelled its BTF auction initially planned for 27 Dec. Non-Objective Research Section 76 www.2tn 10:50 09:50 France OATs 31 Dec EUR 7-9bn 10:30 10:30 UK Gilt 3.Treasury and SAS Issuance Calendar Daily update onto https://globalmarkets. Mkt Calendar.currency denomination is to be defined Denmark: In 2011. one in Feb & the other in Mar Belgium: Likely to issue 3 new OLO benchmarks (launched through syndications) in 2011 .& 7y Notes (new) details on Thu 23 Dec FNMA: December syndicated auction.: Plans at least one eurobond benchmark in 2011 . Research & Apps.: Will open two new bond issues in 2011. SLOVGB 4% 27 Apr 2020 (#214) 6 Jan 11:00 16:00 US Outright Treasury Coupon Purchase (2018-2020) USD 7-9bn 11/01 Tue 12:00 03:00 Japan Auction for Enhanced-liquidity 4 Jan JPY 0.5bn Denmark DGBs 6 Jan 11:00 16:00 US Outright Treasury Coupon Purchase (2016-2017) USD 7-9bn 13:00 18:00 US Notes 3-year (new) 6 Jan USD 32bn 12/01 Wed 11:00 10:00 Germany OBL 26 Feb 2016 (Series 159) (new) EUR 6bn 11:00 10:00 Sweden T-bonds 5 Jan 10:30 10:30 Portugal OTs (To be confirmed) 6 Jan EUR 1-2bn 13:00 18:00 US Notes 10-year 6 Jan USD 21bn 13/01 Thu 12:00 03:00 Japan JGB 30-year 6 Jan JPY 0.5bn) and a 7y or 10y bond (EUR 3bn) Slovenia: Plans to issue Eurobond in H1 2011 During the week: US: Announcement of 2-.5-2. details announced on Mon 20 Dec Date Day Closing Country Issues Details BNPP forecasts Local GMT 17/12 Fri 11:00 16:00 US Outright Treasury Coupon Purchase (2028-2040) USD 1. settlement on 6 Jan Austria: Expects to make one or two syndicated issues in 2011 Germany: Intends to issue inflation-linked federal securities (EUR2-3bn quarterly) and reserves the right to issue foreign currency bonds in '11 Poland: May issue euro-denominated bonds as early as January 2011 UK: Index-Linked Gilt 30y-50y area (syndicated) in the second half of January 2011 and two mini tenders.exact timing yet to be announced.5% 4 Jan 2021 EUR 5bn 11:00 16:00 US Outright Treasury Coupon Purchase (2028-2040) USD 1.plans also to buy back bonds maturing in 2012 for EUR .com.25% 22 Nov 2032 4 Jan Neths DSL 15 Jan 2014 (new) EUR 2. Tools & Applications.or 30-year BTP 5 Jan EUR 7-9bn 13:00 18:00 US Bond 30-year 6 Jan USD 13bn Sources: Treasuries. Government Flows In the pipeline .19bn in 2011 Neths: DSL 10-year (new. may lead to changes in the regular issuance calendar Czech Rep.Jun12) CAD 1bn 11:00 16:00 US Outright Treasury Coupon Purchase (2016-2017) USD 7-9bn Outright TIPS Purchase (2012-2040) USD 1-2bn 22/12 Wed 12:00 03:00 Japan JGB 15 Jan 2013 JPY 2.5-2.5bn 06/01 Thu 12:00 03:00 Japan JGB 10-year 30 Dec JPY 2. a 3y zero-coupon bond (up to EUR 1.

0 0. For that reason.0 40 34 41 10 16 Finland 5.0 0.2 1.5 2011 EGB issuance .0 0.8tn Next week's Eurozone Coupons France BTF Mar 2011 EUR 3.5 0.0 11.0 0. 2 Ireland 4.2 46.9 21.1 58.0 0.2 7.5 0. we do not show the NET 13.8 0.6 0.0 3. We expect total EGB gross ITA 0.7 0.0 0.8 0.7 0.1 0. Breakdown 2011 GER FRA ITA SPA NET BEL AUS POR FIN Total Jan 19.0 18.1 5.0 5.0 0.0 0.0 0. FRA 17.4 0.4 Jun 18.GlobalMarkets.1 0.0 15.9 18.0 0.5 Sep 20.7 1.0 24.7 20.0 1.0 7.3 0.3 0.0 0.7 2.8 12.0 16.0 0.0 0.8 4.3 0.5bn 23/12 France BTF EUR 8.8bn EUR Sovereign Financing: Projections for 2011 (EUR bn) 2010 Bond 2010 Net T-Bill Dec 2011 CAD 2.7 6.5 2.5 87.0 25.0 0.1 8.6 5.8bn Issuer Redemptions Deficit Borrowing Needs Bond Issuance Issuance Net Issuance Issuance US T-Bills 4-week 20 Dec Austria 8.3 1. Our article “EUR: 2011 GRE 0.0 77.0 0.3 12 15 16 9 7 22/12 FNMA Bills 3-month & 6-month 20 Dec France 91.0 10.0 2.8bn 21/12 Spain Letras Mar 2011 20 Dec Letras Jun 2011 20 Dec Canada T-Bill Mar 2011 CAD 7.5 569.8 0.3 0.0 19.6 8.0 16. 22 Italy 155.0 0.2 6.3 Mar 16.0 180 195 207 48 74 Sources: Treasuries.0 0.0 0.0 0.0 6.4 66.0 0.2 73.8 EGB Issuance Preview” in this week’s Market Mover has BEL 0.8 1.0 0.6 9.0 1.0 0.0 0.2 4.4bn T-Bills Jun 2011 GBP 1.8 0.3 SPA 0.2 „ Outside the eurozone.9 0.6 28.0 0.5 24.3 0. Only Japan will issue paper Chart 3: Expected 2011 EGBs Issuance in the week ahead.0 17.1 1. Non-Objective Research Section 77 www.7 6.0 0.0 0. down from EUR 943bn in 2010.7bn FHLMC Bills 3-month & 6-month 17 Dec Total Long-term Coupon Payments EUR 0.0 14.1 Apr 19.4 16.0 0.8 0.9 0.0 4.0 POR 0.0 0.5 71.9 1.0 182 180 188 88 105 23/12 FHLB Discount Notes Germany 147.0 17.5 0.3 19 18 22 8 16 Slovenia 1.7 46 .0 19.0 35.0 0.1 0.7 23.9 23.2 6.7 18.0 0.0 7.9 Nov 20. 22 .5 78.5 0.0 0.0 16.0 21.0 3.5 0. BNP Paribas Greece 27.0 73.0 19.0 0.5bn US T-Bills Mar 2011 USD 29bn Italy EUR 0.5 3.0bn T-Bills Mar 2011 GBP 1bn 24/12 Greece GTB (13W) EUR 0.4 6.0 0.3 issuance of EUR 827bn.5 3.0 0.0 0.5 23.0 0.6 27.1 0.5 0.7 68.4 0.0 0.2 2.0 May 19.3 2.0 147.6 15.7 18.4 23.8 29.0 24.8 1.0 27.8 15.2 6.0 15.3 0.0 15.2 5.0 1.0 5.3 Total 195 180 225 88 50 34 19 18 15 824 All Charts Source: BNP Paribas Interest Rate Strategy 16 December 2010 Market Mover.7 1.1 10. 18 .6 46.0 4.7 89 88 94 43 59 Comments and charts Total 548 343 894 827 943 311 430 Chart 2: EGBs Redemptions in 2011 „ EGB supply is over for 2010 and our focus turns Bonds Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec 2011 now to 2011 issuance.0 12.0 9.0 6.5 3.2 18 19 21 11 12 FHLB Discount Notes Belgium 24.0 16.0 14.0 95.1 88.8 3.1bn T-Bills Jun 2011 (new) USD 28bn Belgium EUR 0.4 24 .1 0.7 20.0 5.0 16.0 0.8 90.3 10.5 4.0 13.5bn Country Amount BTF Dec 2011 EUR 1. Next week's T-Bills Supply Next week's Eurozone Redemptions Date Country Issues Details Date Country Details Amount 17/12 UK T-Bills Jan 2011 GBP 0.5 3.0 17.3 2010.0 83.4bn 20/12 Japan T-Bills Apr 2011 JPY 4. which settle and account for 2011 issuance.5 0.7 20.9 Feb 18.0 0.0 0.7 1.0 16.0 228 225 260 70 88 Netherlands 27.0 1.0 69.0 0.0 0.5 3.3 1.3 33.0 46.1 3 3 3 2 2 Spain 45.0 163.3 1.9 52 50 52 22 29 Portugal 9.0 0.5 3.0 In net supply terms.2 2.0 2. there will be no issuance in the US in the week ahead.7 Jul 11.6 1.5 79.0 0.4bn Chart 1: 2011 EGBs Issuance Projections T-Bill Jun 2011 CAD 2.0 0.0 0. we expect a fall to EUR 311bn in GER 23.0 1.0 0.2 7. IRE 0.7 3.0 0.6 9.7 30.0 17.0 77.7 0.0 0.0 0.4 1.0 29.0 0.1 43.0 0.1 0.0 5.0 0.1 0.0 1.0 0.0 0.0 15.9 2.9 1.5 3.5 0.0 0.5 6.0 0.2 19.0 0.4 Dec 10.0 Oct 12.5 „ Only the end-of-month Italian auctions remain in FIN 0.0 0. Total 63.0 39.0 80.7 4.0 0.0 0.6 12.6 2011 from EUR 430bn in 2010.2 0.3 6.5bn Total Eurozone Short-term Redemption EUR 8.0 16.0 4.0 18.0 0.0 0.0 18.0 0.9 2.0 9.0 16.9 1.5 Aug 13.0 0.2 27.0 more details.0 17.9 standard charts on the RHS but some general charts on AUS 8.0 1.

25 (15/2/11) hikes. It could well expand its asset -20bp purchase programme. the risk is that the rate Sight Deposit Rate 2. This should be enough to prompt a further rate rise in March. Source: BNP Paribas Change since our last weekly in bold and italics For the full EMK Central Bank Watch please see our Local Markets Mover Market Economics 16 December 2010 Market Mover 78 .25 (8/9/10) (1/6/11) year. However.25% (16/12/08) for an extended period. (5/3/09) We expect disappointing growth to delay the first hike until 2012. BRAZIL The BCB has been on hold since the last hike in July. +50bp +50bp as the inflation picture is worsening.25 No Change The FOMC is expected to maintain the funds rate at 0 to 0.56% liquidity controls. with 75bp of increases delivered by the end of next Bank Rate 1. AUSTRALIA The RBA’s December statement said policy is “appropriate for the economic outlook”.00 economic outlook in particular.5 No Change expectations mean that the next BoE move will be a tightening. SWITZERLAND -25bp +25bp Rates look inappropriate given the strength of the domestic 3 Mth LIBOR Target 0. Basic Loan Rate 0. Thus. DENMARK Higher money market rates in the eurozone are likely to -10bp Lending Rate 1. We expect the Riksbank to deliver the next rate hike at (15/12/10) February’s meeting.75 (12/3/09) (17/3/11) economy. depending mainly on moves in the yen.Central Bank Watch Date of Current Next Change in Interest Rate Last Comments Rate (%) Coming 6 Months Change EUROZONE Doubts about the sustainability of the recovery and low inflation -25bp No Change Minimum Bid Rate 1. suggesting it is now more data +25bp +25bp Cash Rate 4. the monetary authority is Selic Overnight Rate 10. Furthermore.GlobalMarkets. Given the +25bp +25bp Bank’s hawkish statement in December. to tame inflation expectations and pull inflation back towards the target.30 No Change (19/12/08) UK Persistent upward surprises on inflation and rising inflation -50bp Bank Rate 0. spurred on by the launch of QE2.75 No Change H1 2011. CHINA With growth momentum robust. It will execute its QE2 programme through +25bp Discount Rate 0.10 No Change We expect the BoJ to maintain its overnight call rate at 0 to (5/10/10) 0. RMB appreciation will also quicken. SWEDEN +25bp Strong domestic economic growth should lead to further rate +25bp Repo Rate further increases in (14/1/10) the interest rate on certificates of deposit are on the agenda. the PBOC will further tighten policy through RRR and 1Y Bank Lending +25bp +25bp 5. the BoC is pausing to allow (8/9/10) (1/6/11) further progress in the recovery.1% for an extended period. we expect three more 25bp rate Rate (19/10/10) (Dec 10) hikes in coming months: one before end-2010. Rate hikes should resume in +25bp +25bp June 2011.00 pressures imply no rise in the refinancing rate for a considerable (7/5/09) period of time: we expect the first increase only in H2 2012.75 dependent.00 (5/5/10) (12/5/11) hike comes in Q1 if economic data surprise to the upside and the krone does not appreciate significantly.05 No Change continue to put pressure on the krone. US -75bp Fed Funds Rate 0 to 0. CANADA +25bp +25bp In light of developments in global financial markets and the US Overnight Rate 1. with a high probability of an extension through H2 2011.75 (21/7/10) (19/1/11) likely to resume hiking rates by January 2011. (18/2/10) JAPAN -10bp Call Rate 0 to 0. one in Q1 and one in Q2. NORWAY We expect the Norges Bank to raise rates in Q2 2011. But the first hike is being delayed by financial stress in Range the markets and the exceptional strength of the CHF. We expect above-trend growth in late 2010 and (2/11/10) (1/3/11) early 2011 on the back of strength in Asia.

25 0.40 2.0 2.6 6.25 0.0 2.45 10-year yield 3.9 5.3 9.2 3.00 1.2 -4.35 2-year yield 0.35 3.4 2.25 0.10 0.9 -0.15 3.5 1.1 79 .7 Japan 2.6 Japan -21.7 4.8 5.35 0.10 0.75 3-month Rate 0.0 1.9 World (2) -0.2 10.30 2.0 4.0 10.25 1.0 -1.8 4.50 0.5 Eurozone -14.00 1.7 9.9 1.2 2.25 0.75 4.00 1.25 0.4 2.7 7.35 0.30 1.35 0.40 1.0 4.2 6.1 10.30 0.30 0.9 4.0 6.00 3.4 21.45 0.10 0.1 0.00 4.10 0.3 5.35 0.25 0.00 1.25 0.8 -1.5 1.7 9.50 1.2 9.00 1.9 5.50 3.1 4.7 2.30 0.4 2.1 4.15 0.85 1.6 5.25 0.8 4.8 Interest Rate Forecasts Interest Rate (3) Year 2011 2012 (%) ’09 ’10 (1) ’11 (1) Q1 (1) Q2 (1) Q3 (1) Q4 (1) Q1 (1) Q2 (1) Q3 (1) Q4 (1) US Fed Funds Rate 0.GlobalMarkets.75 3.25 0.00 1.10 2y/10y Spread (bp) 203 195 185 175 170 185 185 180 170 160 165 Japan O/N Call Rate 0.2 Eurozone -6.30 0.75 0.6 4.95 3.75 0.2 -8.6 9.25 0.40 1.1 3.90 3.4 1.1 1.3 Current Account Year General Government Year (1) (1) (1) (1) (% GDP) ’09 ’10 ’11 (% GDP) ’09 ’10 ’11 US -2.3 -6.35 0.40 1.3 1.00 1.30 1.5 3.2 1.2 2.2 Japan 5.1 1.25 0.6 1.25 0.1 10.35 1.30 0.6 -1.30 10-year yield 1.7 9.40 10-year yield 3.00 1.25 0.8 1.40 1.3 4.70 2.0 -8.30 0.90 2-year yield 1.50 2y/10y Spread (bp) 115 105 115 95 105 115 115 115 110 120 120 Footnotes: (1) Forecast (2) Country weights used to construct world growth are those in the IMF World Economic Outlook Update April 2010 (3) End Period (4) Fiscal year Figures are y/y percentage change unless otherwise indicated Source: BNP Paribas Market Economics / Interest Rate Strategy 16 December 2010 Market Mover www.9 15.3 -1.50 1.0 13.7 9.5 2.14 0.70 1.2 3.4 5.8 3.35 0.35 0.75 2.30 1.5 CPI Year 2010 2011 (% y/y) ’09 ’10 (1) ’11 (1) Q1 Q2 Q3 Q4 (1) Q1 (1) Q2 (1) Q3 (1) Q4 (1) US -0.5 -0.6 -0.6 1.25 0.1 5.9 1.25 0.5 9.1 1.3 0.0 1.5 3.0 1.3 0.3 US (4) -10.25 0.7 9.6 2.25 1.5 Eurozone -4.6 1.6 1.37 1.7 -1.2 Japan -5.4 1.25 3.5 1.50 1.9 1.9 Eurozone 0.0 10.4 2.8 1.0 10.1 -1.15 2.75 1.0 -1.40 1.7 -3.50 4.50 1.6 9.05 2.00 1.05 1.00 -0.60 1.4 3.8 1.2 Unemployment Rate Year 2010 2011 (%) ’09 ’10 (1) ’11 (1) Q1 Q2 Q3 Q4 (1) Q1 (1) Q2 (1) Q3 (1) Q4 (1) US 9.5 Japan -10.1 -0.46 0.3 1.35 2.9 -9.5 4.4 -3.8 2.35 1.10 0.9 2.25 0.7 1.75 3.4 -0.25 4.4 2.2 2.6 1.2 27.8 0.90 4.00 1.50 2.6 4.00 0.35 0.4 10.30 0.60 2y/10y Spread (bp) 269 275 275 250 250 265 275 290 275 235 220 Eurozone Refinancing Rate 1.30 0.0 4.4 1.6 Japan -1.3 Eurozone 9.2 1.10 3-month Rate 0.0 2.2 -6.2 5.2 Industrial Production Year 2010 2011 (% y/y) ’09 ’10 (1) ’11 (1) Q1 Q2 Q3 Q4 (1) Q1 (1) Q2 (1) Q3 (1) Q4 (1) US -9.4 6.2 3. Economic Forecasts GDP Year 2010 2011 (% y/y) ’09 ’10 (1) ’11 (1) Q1 Q2 Q3 Q4 (1) Q1 (1) Q2 (1) Q3 (1) Q4 (1) US -2.5 1.6 4.20 1.20 1.84 3.2 1.75 2.2 10.30 1.30 0.0 1.10 0.6 2.9 Eurozone -0.4 4.50 1.9 10.0 1.7 4.20 1.7 4.10 0.35 3.4 1.0 3.10 0.5 9.35 0.50 3.25 0.50 3-month Rate 0.7 9.10 0.6 1.10 0.2 1.30 1.00 2-year yield 1.10 1.

93 0.92 5.80 USD/RMB 6.66 1.12 2.09 3.00 41.83 0.96 0.80 7.50 7.29 4.83 2.46 7.68 4.28 1.35 1.46 1.85 0.80 7.49 5.45 6. Non-Objective Research Section 80 www.26 6.68 1.00 40.59 2.16 6.55 1.98 0.00 32.77 *End Quarter (1) Following the devaluation of the VEF.47 1.10 9.50 27.15 USD/COP 1830 1800 1750 1720 1700 1705 1730 1745 1760 1770 1780 USD/VEF (Priority) (1) 2.55 1.95 2.14 AUD/USD 1.GlobalMarkets.71 1.94 USD/NOK 6.80 12.00 USD/HKD 7.50 4.80 3.29 1.31 1.46 31.60 7.20 USD/TWD 30.56 83.83 0.20 9.30 7.00 27.95 0.29 4.46 7.09 1.23 6.63 1.58 7.00 1.9 23.30 12.50 40.99 0.46 7.25 1.41 27.8 24.50 41.46 7.29 4.06 1.41 1.45 1.10 9.46 7.44 4.29 4.93 0.61 1.59 2.70 7.08 1.30 1.59 2.5 EUR/RSD 110 105 115 105 100 98 97 96 95 93 92 Asia Bloc Q4 '10 Q1 '11 Q2 '11 Q3 '11 Q4 '11 Q1 '12 Q2 '12 Q3 '12 Q4 '12 Q1 '13 Q2 '13 USD/SGD 1.29 4.78 0.44 EUR/SEK 9.50 27.01 1.79 0.50 7.7 24.5 7.04 83.70 3.23 1.70 11.43 1.11 85.04 6.70 1.20 4.85 28.32 1.46 7.8 EUR/HUF 280 290 285 280 275 270 270 270 265 260 255 USD/ZAR 6.35 6.20 USD/RUB 32.20 4.48 28.13 4.29 4.10 EUR/DKK 7.20 1.20 USD/MYR 3.79 82.07 GBP/USD 1.80 7.50 41.51 84.64 0.30 5.08 6.07 28.81 30.46 1.70 28.36 4.88 2.74 0.70 29.50 39.75 USD/IDR 8800 8600 8400 8300 8200 8100 8000 7900 7800 7800 7800 USD/THB 30.04 7.9 7.20 4.95 1.20 7.46 7.30 7.02 1.87 2.82 0.50 29.00 29.70 27.00 39.45 1.65 6.59 2.80 7.59 2.00 39.0 7.60 7.89 6.46 7.77 2.00 43.90 7.33 1.00 40.59 5.80 7.00 28.85 2.5 7.8 7.5 24.02 1.50 1.40 6.67 1.28 1.30 7.38 1.68 5.70 28.00 42.80 3.30 1.69 0.90 0.00 39.30 EUR Bloc Q4 '10 Q1 '11 Q2 '11 Q3 '11 Q4 '11 Q1 '12 Q2 '12 Q3 '12 Q4 '12 Q1 '13 Q2 '13 EUR/JPY 110 108 105 106 113 119 130 145 158 158 158 EUR/GBP 0.46 Central Europe Q4 '10 Q1 '11 Q2 '11 Q3 '11 Q4 '11 Q1 '12 Q2 '12 Q3 '12 Q4 '12 Q1 '13 Q2 '13 USD/PLN 2.90 2.50 7.52 4.85 3.00 USD/KRW 1100 1080 1060 1050 1040 1030 1020 1010 1000 1000 1000 USD/INR 44.FX Forecasts* USD Bloc Q4 '10 Q1 '11 Q2 '11 Q3 '11 Q4 '11 Q1 '12 Q2 '12 Q3 '12 Q4 '12 Q1 '13 Q2 '13 EUR/USD 1.80 7.90 3.59 2.57 1.30 EUR/NOK 8.89 6.80 7.43 EUR/RON 4.75 3.09 7.50 42.11 1.00 28.29 8.65 30.05 1.50 42.63 1.80 8.29 4.9 7.22 83.65 1.80 2.24 1.30 1.5 7.00 28.00 40.35 4.70 1.60 4.25 1.76 5.65 1.92 0.90 3.50 USD/PHP 43.10 5.30 7.80 7.36 7.46 7.50 28.84 0.49 1.73 USD/CLP 480 473 467 463 458 460 462 465 471 473 475 USD/MXN 12.00 42.3 24.27 1.22 1.40 4.40 7.80 0.10 7.30 USD/VEF (Oil) (1) 4.25 1.98 4.26 83.10 USD/TRY 1.25 3.84 0.11 86.33 1.29 4.32 1.22 6.61 1.87 3.72 0.73 0.92 0.05 1.50 7.58 6.32 EUR/PLN 3.30 6.62 USD/SEK 6.5 7.50 11.59 2.50 4.97 1.67 0.00 28.82 0.30 9.10 9.08 12.27 1.96 2.84 2.90 7.20 9.20 4.99 6.85 3.82 0.87 0.11 1.40 1.10 31.93 0.26 1.5 7.40 7.00 40.75 USD/BRL 1.30 4.47 1.28 4.30 9.50 7.33 6.66 0.69 EUR/CZK 24.8 7.46 1.34 USD/JPY 82 85 84 88 92 95 100 110 120 119 118 USD/CHF 0.80 7.36 1.34 1.30 11.82 0.00 USD/VND 20500 20500 20500 20500 20500 20500 20500 20500 20500 20500 20500 LATAM Bloc Q4 '10 Q1 '11 Q2 '11 Q3 '11 Q4 '11 Q1 '12 Q2 '12 Q3 '12 Q4 '12 Q1 '13 Q2 '13 USD/ARS 3.50 43.00 11.40 7.00 12.40 29.46 7.79 EUR/CHF 1.78 2.25 9.5 24.00 41.49 6.4 24.10 3.86 27.50 28.63 84.30 28.90 3.06 1.95 3. there is now an official ‘priority’ exchange rate and a so-called ‘oil’ exchange rate used for certain transactions Source: BNP Paribas Foreign Exchange Strategy 16 December 2010 Market Mover.59 2.52 1.16 3.00 28.21 1.92 0.07 3.05 3.02 0.81 84.51 1.80 .50 40.11 29.90 7.34 1.45 11.77 5.05 4.80 Others Q4 '10 Q1 '11 Q2 '11 Q3 '11 Q4 '11 Q1 '12 Q2 '12 Q3 '12 Q4 '12 Q1 '13 Q2 '13 USD Index 78.52 1.05 1.00 8.30 11.85 NZD/USD 0.0 23.30 4.60 USD/UAH 8.56 7.20 4.52 6.3 24.0 23.70 USD/CAD 0.95 0.30 7.00 29.66 1.23 1.00 2.78 0.80 9.09 1.

com James Hellawell Quantitative Strategist London 44 20 7595 8485 Andy Chaveriat Technical Analyst New York 1 212 841 2408 Dominic Bryant Ian Stannard FX Strategist London 44 20 7595 8086 Luigi Speranza Head of Inflation Bülent Baygün Head of Interest Rate Strategy US New York 1 212 471 8043 Interest Rate Strategy Cyril Beuzit Global Head of Interest Rate Strategy London 44 20 7595 8639 Tomohisa Fujiki Japan Strategist Tokyo 81 3 6377 1703 Ken Wattret Chief Eurozone Market Economist London 44 20 7595 8657 Kiran Kowshik FX Strategist Singapore 65 6210 3264 Dominique Barbet Alessandro Tentori Chief Alpha Strategy Europe London 44 20 7595 8238 Makiko Fukuda Japan Tokyo 81 3 6377 1605 makiko.dybula@pl. Canada New York 1 212 841 2258 Eoin O’Callaghan Masahiro Kikuchi Japan Strategist Tokyo 81 3 6377 1703 Matteo Regesta Europe Alpha Strategist London 44 20 7595 8607 Emerging Markets FX & Interest Rate Strategy Drew Brick Head of FX & IR Strategy Asia Singapore 65 6210 3262 Bricklin Dwyer Suvrat Prakash US Strategist New York 1 917 472 4374 Shahid Ladha Inflation Strategist London 44 20 7 595 8573éné Xingdong Chen Chief China Economist Beijing 86 10 6561 1118 Gao Qi FX & IR Asia Strategist Shanghai 86 21 2896 2876 Isaac Y Meng China Beijing 86 10 6561 1118 81 .com Michal Dybula Central & Eastern Europe Warsaw 48 22 697 2354 Rohit Garg US Strategist New York 1212 841 3937 Mary Nicola FX Strategist New York 1 212 841 2492 Hiroshi Shiraishi Japan Tokyo 81 3 6377 1602 Robert Ryan FX & IR Asia Strategist Singapore 65 6210 3314 Chan Kok Peng Chief Economist South East Asia Singapore 65 6210 1946 Azusa Kato Japan Tokyo 81 3 6377 1603 azusa. Ireland London 44 20 7595 8226 Sergey Bondarchuk US Strategist New York 1 212 841 2026 Patrick Jacq Europe Strategist Paris 33 1 4316 9718 FX Strategy Hans Redeker Global Head of FX Strategy London 44 20 7595 8086 Bartosz Pawlowski Head of FX & IR Strategy CEEMEA London 44 20 7595 8195 Olurotimi Ajibola MBS Strategist New York 1 212 8413831 Camille de Courcel Europe Alpha Strategist London 44 20 7595 8295 Italo Lombardi Latin America New York 1 212 841 6599 Anish Lohokare MBS Strategist New York 1 212 841 2867 Gizem Kara Scandinavia London 44 20 7595 8783 gizem. France Paris 33 1 4298 1567 Mole Hau Asia Hong Kong 852 2108 5620 Coverage Market Economics Paul Mortimer-Lee Global Head of Market Economics London 44 20 7595 8551 Canada New York 1 212 471-7996 Ioannis Sokos Europe Alpha Strategist London 44 20 7595 8671 Richard Iley Head of Asia Economics Hong Kong 852 2108 5104 Julia Coronado Chief US Economist New York 1 212 841 2281 Marcelo Carvalho Head of Latin American Economics São Paulo 55 11 3841 3418 Ryutaro Kono Chief Economist Japan Tokyo 81 3 6377 1601 ryutaro. Italy London 44 20 7595 8322 Florencia Vazquez Latin American Economist Buenos Aires 54 11 4875 4363 Julia Tsepliaeva Russia & CIS Moscow 74 95 785 6022 Mary-Beth Fisher US Senior Strategist New York 1 212 841 2912 mary-beth. Australia Hong Kong 852 2108 5105 Alan Clarke UK London 44 20 7595 8476 Chin Loo Thio FX & IR Asia Strategist Singapore 65 6210 3263 Elisabeth Gruié FX & IR CEEMEA Strategist London 44 20 7595 8492 Hervé Cros Chief Inflation Strategist London 44 20 7595 8419 Jasmine Poh FX & IR Asia Strategist Singapore 65 6210 3418 Diego Donadio FX & IR Latin America Strategist São Paulo 55 11 3841 3421 Koji Shimamoto Head of Interest Rate Strategy Japan Tokyo 81 3 6377 1700 Yelena Shulyatyeva Christian Séné Technical Analyst Paris 33 1 4316 9717 Eric Oynoyan Europe Alpha Strategist London 44 20 7595 8613

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