29 March 2012 Fixed Income Research http://www.credit-suisse.com/researchandanalytics US Interest Rate Strategy Weekly Interest Rate Strategy Research Analysts Strategy Michael Chang +1 212 325 1962 • Bernanke’s remarks earlier this week brought thoughts of further firstname.lastname@example.org accommodation back onto the table. Ira Jersey • We investigate the pros and cons of various asset purchase options beyond +1 212 325 4674 the June completion of the “maturity extension program” and suggest that an email@example.com extension of “twist” through year-end could be an ideal compromise. Carl Lantz +1 212 538 5081 • We continue to expect rates to remain rangebound and look for 10-year firstname.lastname@example.org Treasury yields to trade between 2.10% and 2.40%. George Oomman • But even as we approach the low end of this range, we are biased to lean +1 212 325 7361 slightly long duration heading into month-end and quarter-end. email@example.com • We expect swap spreads to widen modestly on underwhelming financial Carlos Pro +1 212 538 1863 issuance. firstname.lastname@example.org Derivatives Scott Sherman +1 212 325 3586 • We believe over the next few weeks swap spreads have scope to widen email@example.com modestly as financial issuance is likely to underwhelm and reduce fixed-to- Eric Van Nostrand floating swapping needs. Thus we recommend swap spread wideners as a +1 212 538 6631 tactical trade. But structurally we continue to expect swap spreads to remain firstname.lastname@example.org at the low end of their historical ranges in the current low rate regime. Treasuries • We investigate the seasonal decline in T-bill supply due to tax filing behavior. • We recommend real money investors consider shifting into the July 5 bill. Inflation • TIPS breakevens have eased off their mid-month highs, and amid weakening core inflation, we do not expect a major move upward until clearer QE signaling materializes. • We look to our fitted real yield curve on Locus to help gauge relative value in global linker markets. Recent dislocations lead us to favor BTPei 2017s vs. 2016s, and OATei 2027s vs. 2022s. Supranationals, Agencies & Sovereigns • Agency benchmark issuance so far in 2012 has outpaced that of the first quarter of the past two years. • We review net issuance patterns and distribution statistics so far in 2012 compared with data of the prior two years. ANALYST CERTIFICATIONS AND IMPORTANT DISCLOSURES ARE IN THE DISCLOSURE APPENDIX. FOR OTHER IMPORTANT DISCLOSURES, PLEASE REFER TO https://firesearchdisclosure.credit-suisse.com. 29 March 2012 Table of Contents Trade Update 3 Strategy 5 Derivatives 12 Treasuries 16 Inflation 19 Supranationals, Agencies & Sovereigns 24 Technical Analysis 28 Economics 30 Databank 32 US Interest Rate Strategy Weekly 2 29 March 2012 Trade Update YTD Total P&L: $2,644,356 Total P&L weekly change: $484,716 Current Trade Recommendations P&L change on Trade Start Date Last Mark P&L ($) week ($) Target/ Stop-out ($) 5y swap spreads widener 29-Mar-12 29-Mar-12 0 0 250k / (200k) Long 10s on the fly vs. 7s and 30s 22-Mar-12 28-Mar-12 46,429 46,429 200k / (100k) Long Jan 21s TIPS vs. July 21s 22-Mar-12 28-Mar-12 -11,992 -11,992 250k / (125k) Long 1y5y ATM straddles vs. 3m5y & 3y5y ATM straddles 22-Mar-12 28-Mar-12 197 197 350k / (200k) ED Z3/Z4/Z5 20-Mar-12 28-Mar-12 -6,261 -37,511 250k / (175k) 3m Fwd 2s4s7s fly 15-Mar-12 28-Mar-12 -40,079 -47,824 250k / (175k) Sell FHLB 5.375s 5/16 vs. FHLMC 2.5 5/16 9-Mar-12 28-Mar-12 -21,361 -30,518 100k / (50k) Sell FHLMC 4.75s 1/16 vs. 4.75 11/15 9-Mar-12 28-Mar-12 23,470 29,205 100k / (50k) EDU2 bull risk reversal 9-Mar-12 28-Mar-12 6,253 50,001 100k / (50k) 2y fwd 10s30s bear steepener 1-Mar-12 29-Mar-12 -121,320 160,310 250k / (175k) ED11-ED19 Steepener vs. 4s10s swaps flattener 23-Feb-12 28-Mar-12 76,665 -100,953 250k / (175k) Long 30y TIPS Breakevens vs. 30y CPI Swaps 16-Feb-12 28-Mar-12 350,798 -202 500k / (250k) Long FNMA 12/16s vs. FHLB 12/16s 2-Feb-12 28-Mar-12 -37,280 24,824 225k / (125k) 6m1y 3s1s Basis Steepener 25-Jan-12 28-Mar-12 -260 -12,359 150k / (75k) 2Y Fwd 7s30s Steepener 26-Jan-12 28-Mar-12 2,796 176,296 300k / (200k) EUR-denominated Trade Recommendations P&L change on Target/ Stop-out Start Date Last Mark P&L (EUR) week (EUR) (EUR) Long BTPei 17s vs. BTPei16s 29-Mar-12 29-Mar-12 0 0 375k / (250k) Long OATei 27s vs. OATei22s 29-Mar-12 29-Mar-12 0 0 375k / (250k) Trades closed year-to-date in 2012 P&L change on Target/Stop-out P&L Trade Start Date Closed Date Final P&L ($) week ($) ($) 1Y Fwd 2s10s CMS Straddle 27-Oct-11 28-Mar-12 282,675 238,813 250k / (175k) Short 10y inflation basis 9-Mar-12 20-Mar-12 -234,702 -61,202 250k / (200k) 1s2s Flattener 15-Mar-12 20-Mar-12 -162,390 -162,390 160k / (120k) Long FFJ2 7-Oct-11 21-Mar-12 -29,984 -90,001 420k / (300k) Long 10y20y TIPS Breakevens 25-Jan-12 20-Mar-12 454,871 11,417 750k / (375k) 10s30s Flattener 9-Mar-12 16-Mar-12 362,082 160,967 300k / (225k) 3m5y Payer Ladder 16-Feb-12 14-Mar-12 -319,608 N/A 250k / (200k) Buy 1y3y, 4y2y vs. 1y5y Straddles 9-Mar-12 13-Mar-12 -437,941 N/A 250k / (175k) Sell 25 OTM 3m10y Payer vs. Receiver 9-Feb-12 14-Mar-12 -299,096 N/A 350k / (200k) 1y10y Payer Ladder 19-Jan-12 14-Mar-12 -217,468 N/A 300k / (200k) Long Jul 15 TIPS BE vs. CLZ4 Oil 1-Mar-12 14-Mar-12 683,213 N/A 750k / 350k ED mid-curve put spread 19-Jan-12 14-Mar-12 -143,750 N/A 250k / (150k) Long Jan 22 TIPS vs. Jul 21 TIPS 2-Feb-12 8-Mar-12 45,811 N/A 500k / (250k) Long 7s on the fly vs. 5s and 10s 2-Nov-11 8-Mar-12 174,145 N/A 160k / (80k) 7s30s Steepener 29-Feb-12 8-Mar-12 659,477 N/A 800k/(400k) Short FRA/OIS (IMM2) at 37.5 bps 23-Feb-12 6-Mar-12 125,366 N/A 250k / (175k) Buy 6m30y Strangle vs. 6m10y Strangle 2-Feb-12 16-Feb-12 -205,460 N/A 300k / (200k) 5s10s Flattener (110bps target) 8-Feb-12 16-Feb-12 299,805 N/A 450k / (300k) TSY Switch: Long 3.625 8/15/19, Short 8.125 8/15/19 8-Feb-12 15-Feb-12 201,309 N/A 200k / (100k) 7s30s Steepener (adjusted from 5s30s Steepener on 2/2/12) 25-Jan-12 13-Feb-12 18,043 N/A 700k / (400k) Short 5y5y inflation basis 6-Jan-12 15-Feb-12 18,447 N/A 500k / (300k) EDG2/EDH2 Flattener 24-Jan-12 13-Feb-12 56,002 N/A 120k / (60k) US Interest Rate Strategy Weekly 3 29 March 2012 Tsy Switch: Long 3.25s 6/30/16, Short 1.5s 6/30/16 6-Jan-12 16-Feb-12 -53,608 N/A 225k / (115k) Shift from Tsy 1% 5/14 to 4.75% 5/14 15-Sep-11 8-Feb-12 -50,146 N/A 200k / (150k) Shift from Tsy 0.75% 12/13 to 2% 11/13 13-Sep-11 8-Feb-12 3,248 N/A 200k / (150k) Tsy switch: Long 3 5/8% 2/15/20, Short 8 1/2% 2/15/20 26-Aug-11 8-Feb-12 -177,255 N/A 250k / (175k) Long FHLMC 2.5s of 01/07/2014 vs. T 0.125s of 12/31/2013 6-Jan-12 8-Feb-12 110,268 N/A 120k / (60k) Pay the 5-year 6s3s basis at 7.5bps 21-Jan-11 8-Feb-12 169,839 N/A 250k / (175k) 3s1s widener (EDH2 roll) 17-Nov-11 8-Feb-12 -186,052 N/A 500k / (250k) Buy 5y10y OTM payer vs. 1y10y OTM payers costless 13-Oct-11 2-Feb-12 1,018,258 N/A 1000k / 0k Receive 3y2y Fwd 1-Dec-12 26-Jan-12 3,081,610 N/A 2750k / 1000k 3m Fwd 3s5s10s Receiver Fly Tightener 6-Jan-12 31-Jan-12 322,582 N/A 300k / (200k) Sell 2x4 Cap/Floor Straddle vs. 2y2y Swaption Straddles 29-Sep-11 30-Jan-12 256,009 N/A 250k / (175k) 2y Fwd 2s5s10s fly tightener 03-Nov-11 19-Jan-12 205,764 N/A 500k / (250k) 3m Fwd 2s5s10s Receiver Fly Tightener 17-Nov-11 19-Jan-12 155,794 N/A 300k / (200k) Long 5y5y real yield 8-Dec-11 17-Jan-12 600,703 N/A 500k / (300k) Long July 2021 TIPS vs. January 2021 TIPS 15-Sep-11 18-Jan-12 22,191 N/A 500k / (250k) 3m10y 43.5 OTM rec vs. 50 OTM payer 17-Oct-11 11-Jan-12 174,6121 N/A 1000k / (1000k) Short EDH2 10-Jan-12 12-Jan-12 -150,000 N/A 300k / (150k) Summary of trades in 2011 Profit making trades P&L $26,686,020 Loss making trades P&L ($11,385,029) Net P&L (2011) $15,300,991 Source: Credit Suisse Structured Securities, Derivatives, and Options Disclaimer Structured securities, derivatives, and options (including OTC derivatives and options) are complex instruments that are not suitable for every investor, may involve a high degree of risk, and may be appropriate investments only for sophisticated investors who are capable of understanding and assuming the risks involved. 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US Interest Rate Strategy Weekly 4 29 March 2012 Strategy Bernanke’s comeback • Bernanke’s remarks earlier this week brought thoughts of further accommodation back onto the table. • We investigate the pros and cons of various asset purchase options beyond the June completion of the “maturity extension program” and suggest that an extension of “twist” through year-end could be an ideal compromise. • We continue to expect rates to remain rangebound and look for 10-year Treasury yields to trade between 2.10% and 2.40%. • But even as we approach the low end of this range, we are biased to lean slightly long duration heading into month-end and quarter-end. • We expect swap spreads to widen modestly on underwhelming financial issuance. Carl Lantz We continue to expect rates to remain rangebound and look for 10-year Treasury yields to +1 212 538 5081 trade between 2.10% and 2.40%. But even as we approach the low end of this range, we email@example.com are biased to lean slightly long duration heading into month-end and quarter-end. Ira Jersey +1 212 325 4674 The market generally does well at month-end with rallies from the seven-year auction stop firstname.lastname@example.org to month-end occurring the vast majority of the time. There could be an even stronger Michael Chang case this quarter-end given the very large outperformance of equities in Q1 (S&P 500 is +1 212 325 1962 up 10.8% YTD while aggregate bond market performance is up around 0.62%), which email@example.com potentially can lead to rebalancing flow out of equities and into bonds. Scott Sherman +1 212 325 3586 Generally speaking, empirical evidence for the “rebalancing trade” has been relatively firstname.lastname@example.org tenuous and unconvincing. But focusing solely on the first quarter-end of each year, we find that there is a tendency for rates to do well when equities have outperformed fixed income by a meaningful amount on a total return basis. Exhibit 1 shows the relative cumulative change in 10-year Treasury yields in days preceding and following each year’s first quarter-end where the S&P 500 outperformed the US bond market by 5% or more since 1989. There has been six such occurrences and the 10-year Treasury yield had declined over the two trading days following quarter-end for all of them. On average, the market has rallied approximately 10 bps from the two days before to the two days after quarter-end. The market should be well supported over the next few days but we look to exit the long duration recommendation ahead of the FOMC minutes on Tuesday in anticipation of setup trades ahead of payrolls at the end of next week. US Interest Rate Strategy Weekly 5 29 March 2012 Exhibit 1: Rates tend to do well around the first quarter-end of each year when equities have significantly outperformed fixed income Relative cumulative change in 10-year Treasury yield in days preceding and following each year’s first quarter-end where the S&P 500 outperformed the US bond market by 5% or more Relative Change in 10yr Tsy Yield (bps) 20 10 0 -10 -20 -6 -5 -4 -3 -2 -1 0 1 2 3 4 5 Days Before/After Quarter-end Avg 3/1989 3/1991 3/1996 3/1998 3/1999 3/2011 Source: Credit Suisse We believe over the next few weeks swap spreads have scope to widen modestly as financial issuance is likely to underwhelm and reduce fixed-to-floating swapping needs. Structurally we continue to expect swap spreads to remain at the low end of their historical ranges in the current low rate regime. We expect financial issuance in April to be somewhat lower than it has been the last three months as domestic borrowers are unable to issue due to earnings blackout periods. Five-year spreads tend to have the best correlation to financial issuance, and there we suggest swap spread wideners as a tactical trade. Twisted Sisters: Options for Asset Purchases Beyond June Carl Lantz Chairman Bernanke’s remarks on Monday were interpreted as mildly dovish, pushing +1 212 538 5081 email@example.com expectations for the first policy rate increase back a bit and reclaiming some of the expectation for additional asset purchases. Scott Sherman +1 212 325 3586 This followed apparent market disappointment with the March FOMC statement. After the firstname.lastname@example.org statement’s release, market participants pushed forward their rate hike expectations and Mahesh Swaminathan priced out the probability of further asset purchases. +1 212 325 8789 email@example.com This is an exact excerpt from the US Interest Rate Strategy Focus: Twisted Sisters, published 29 March 2012 US Interest Rate Strategy Weekly 6 29 March 2012 Exhibit 2: The market brought forward Fed tightening expectations after the March FOMC but reversed course after Bernanke’s comments: Probability distribution of initial Fed hike in a given quarter See methodology in our March 23 US Interest Rate Focus: Take a Hike Source: Credit Suisse We still think the market is underpricing the likelihood of additional purchases. Indeed, if the March 7 Wall Street Journal article is to be believed, the Fed is likely debating among several potential routes when it comes to further asset purchases, including outright QE, sterilized QE, and an extension of its maturity extension program (Twist). We investigate the pros and cons of the three options and suggest that an extension of “twist” through year-end could be an ideal compromise. QE3 Pros The benefit of the Fed reverting back to outright reserve creation is that it would provide for greater stimulus than could be achieved through maturity extension, as it wouldn’t be limited by the assets available to sell. It would also better enable the FOMC to target the most relevant borrowing rates. In its maturity extension program, the limited volume of saleable assets prompted the Fed to direct a greater proportion of its purchases into the long end than had been the case in QE1 or QE2 in order to achieve similar duration extraction. In contrast, without similar constraints, the Fed could focus its purchases where it would most impact borrowing costs, despite less efficient duration extraction. Balance sheet expansion would most directly allow the Fed to target assistance to the mortgage market by creating incremental net demand. We estimate that an incremental MBS-only program of $250 billion in outright purchases should contribute to roughly 25bp of tightening in MBS basis to Treasuries. This is consistent with the market reaction following the Fed’s 20 September 2011 announcement regarding reinvesting MBS pay- downs. Coincident purchases of longer-dated Treasuries would reduce the magnitude of basis tightening, but could still result in effectively lowering mortgage rates. US Interest Rate Strategy Weekly 7 29 March 2012 Cons The main drawback of outright QE is the reaction that it would elicit from monetarists about the potential impact of a further increase in excess reserves on inflation. The Fed largely discounts any impact of higher reserve levels on inflation in the current environment and has emphasized its capability to keep this cash in its hands even as the economy recovers through its TDF (term deposit facility), RRPs (reverse repos), and adjustments to IOER (interest on excess reserves). Nonetheless, inflation expectations are a psychological phenomenon that can be self- fulfilling, so if enough people believe reserves will feed inflation, it could happen despite any fundamental cause. Sterilized asset purchases Pros The benefits of a sterilized purchase program would be essentially the same as QE3. The one additional benefit is the fact that it would not raise the alarm bells of monetarists concerned about another increase in reserves. Cons One drawback of sterilizing a portion of QE would be the impact on front-end rates. The purpose of the Fed’s sterilization programs, when they become necessary, will be to prevent the fed funds effective rate from sagging below the target rate during a cycle of rates. Implementing those facilities now should put some upward pressure on short rates. Sterilization would likely dampen the positive impact of the Fed’s MBS purchases compared to outright transactions because potential increases in short-term rates would reduce carry. Assuming a $250 billion reverse repo operation increased the cost of funds by roughly 5bp, MBS carry would decline by roughly 2%-3%. On its own, such a small reduction in carry would not have a meaningful impact on overall MBS demand/valuations. However, if markets start extrapolating to much higher front-end rates, it could reduce the attractiveness of MBS to private investors, thus reducing the demand tailwind. The primary drawback is the potential hit to Fed credibility. Chairman Bernanke and other influential FOMC members have long expressed confidence that the current level of reserves is not an issue and that draining them in the future will not present a problem. To now arbitrarily sterilize a portion of excess reserves would seem to contradict that view and lend credence to those concerned about reserve levels. Indeed, we discussed in our March 9 weekly the fact that sterilization would largely represent window dressing, as the draining tools are unlikely to be sufficient to suck out all the reserves. As such, any further increases in excess reserves should further complicate the Fed’s eventual need to drain, whether or not the purchases are sterilized. US Interest Rate Strategy Weekly 8 29 March 2012 Exhibit 3: If we assume $500 billion in additional QE in H2 2012, and $1 trillion in ultimate draining Exhibit 4: If we assume the same purchase capacity via RRPs and term deposits, the Fed would program, but fully sterilized, the Fed would still be be sitting with over $1 trillion in excess reserves it sitting with over $1 trillion in excess reserves it would be unable to drain without asset sales would be unable to drain without asset sales $ Blns $ Blns $500 bln in sterilization 2,500 $1 trillion in sterilization capacity 2,500 Reserves beyond draining capacity $500 bln in sterilization capacity Proj. excess with add. $500 bln of QE Reserves beyond draining capacity 2,000 Excess reserves Proj. excess with add. $500 bln of QE 2,000 Excess reserves 1,500 1,500 1,000 1,000 500 500 - - J-08 O-08 A-09 J-10 M-11 J-12 O-12 J-08 O-08 A-09 J-10 M-11 J-12 O-12 Source: Haver Analytics®, Federal Reserve, Credit Suisse Source: Haver Analytics®, Federal Reserve, Credit Suisse Extension of “Twist” Pros We noted in our February 16 weekly that if the Fed were willing to extend the maturity range of its sellable securities out to the four-year point, it could continue to extract the same net duration from the market as it is currently through the end of the calendar year. There are several advantages we see for an extension of Twist. First, it would avoid the potential policy mistake of withdrawing stimulus prematurely. Second, given that it is the status quo, it would not really represent a change in policy and could be used to push off a directional decision until after the November elections. Third, it should be relatively uncontroversial, as it seems to be viewed as more of a technical operation by the political class. Taken together, an extension of twist would likely fly under the political radar while continuing to support longer-term rates until after the elections. Another potential direction the Fed could take with twist would be to extend it in a hybridized fashion, selling short-dated Treasuries, but reinvesting the proceeds into a combination of Treasuries and agency MBS. The main benefit of this hybrid approach would be the targeted support to mortgage rates that Fed officials appear anxious to provide, while still remaining relatively innocuous to monetarists. Although the pace of net duration extraction would necessarily be lower than that of a Treasury-specific twist due to the lower duration of agency MBS, the greater focus on mortgage borrowing rates would likely appeal to the FOMC. In our proposed format, we assume the sale of the same $300 billion in short-dated Treasuries outlined above, but reinvest $200 billion into Agency MBS and $100 billion in Treasuries. US Interest Rate Strategy Weekly 9 29 March 2012 Exhibit 5: : The Fed can accomplish similar duration extraction as Twist 1.0 if the maturity range of sellable Treasuries is extended to the four-year point Operation Twist 1.0 Operation Twist 1.5 Operation Twist 1.5 75% of holdings thru 6/15) 75% of holdings thru 12/15) 75% of holdings thru 12/16) Size (B) 400 165 300 Duration (months) 9 6 6 Sales/Purchases per Month (B) 44.4 27.5 50.0 Monthly Duration Sold (10y Equiv) 7.3 4.40 14.75 Monthly Duration Purchased (10y Equiv) 59.1 36.9 67.2 Net Duration Purchased Per Month (10y Equiv) 51.8 32.5 52.4 Total Duration Purchased (net, 10y Equiv) 466.2 195.2 314.4 Total Duration Purchased (gross, 10y Equiv) 531.9 221.6 402.9 Monthly Purchase ($B) 44.4 27.5 50.0 TIPS 1.3 0.8 1.5 6-8 14.2 8.8 16.0 8-10 14.2 8.8 16.0 10-20 1.8 1.1 2.0 20-30 12.9 8.0 14.5 Monthly DV01 Purchase (10y Equiv) 59.7 36.9 67.2 TIPS 1.2 0.7 1.3 6-8 11.4 7.1 12.9 8-10 13.8 8.5 15.5 10-20 3.0 1.9 3.4 20-30 30.3 18.7 34.0 Monthly Purchase (% of notional) TIPS 3% 3% 3% 6-8 32% 32% 32% 8-10 32% 32% 32% 10-20 4% 4% 4% 20-30 29% 29% 29% Source: Credit Suisse We estimate that $200 billion of Agency MBS purchases under such a program should contribute to roughly 15bp of spread tightening. Purchases of $100 billion in longer-term Treasuries should dampen the basis tightening compared to a roughly 20bp impact a $200 billion MBS-only program could generate. Nevertheless, the combination should reduce mortgage rates by around 20bp over time. US Interest Rate Strategy Weekly 10 29 March 2012 Exhibit 6: A hybridized Twist extension would extract less net duration but would target mortgage rates more directly while still remaining relatively reserve neutral Operation Twist 1.0 Operation Twist 1.5 Operation Twist 1.5 with MBS 75% of holdings thru 6/15) 75% of holdings thru 12/16) 75% of holdings thru 12/16) Size (B) 400 300 300 Duration (months) 9 6 6 Max Maturity it will ultimately sell Jun-15 Dec-16 Dec-16 Sales/Purchases per Month (B) 44.4 50.0 50.0 Monthly Duration Sold (10y Equiv) 7.3 14.75 14.75 Monthly Duration Purchased (10y Equiv) 59.1 67.2 44.6 Net Duration Purchased Per Month (10y Equiv) 51.8 52.4 29.9 Total Duration Purchased (net, 10y Equiv) 466.2 314.4 179.1 Total Duration Purchased (gross, 10y Equiv) 531.9 402.9 267.6 Treasuries 400 300 100 Monthly Purchase ($B) 44.4 50.0 16.7 TIPS 1.3 1.5 0.5 6-8 14.2 16.0 5.3 8-10 14.2 16.0 5.3 10-20 1.8 2.0 0.7 20-30 12.9 14.5 4.8 Monthly DV01 Purchase (10y Equiv) 59.7 67.2 22.4 TIPS 1.2 1.3 0.4 6-8 11.4 12.9 4.3 8-10 13.8 15.5 5.2 10-20 3.0 3.4 1.1 20-30 30.3 34.0 11.3 MBS 100 100 200 Monthly Purchase ($B) 0 0 33.3 3.00% 0 0 22.2 3.50% 0 0 11.1 Monthly DV01 Purchase (10y Equiv) 0 0 22.2 3.00% 0 0 15.4 3.50% 0 0 6.8 Source: Credit Suisse Cons The drawback to either form of twist is the fact that there are limited quantities of assets to sell to support the purchases. If the Fed desired to be more impactful than its maturity extension program has been, an extension is unlikely to be sufficient. Another complication is the impact on the front end of the coupon curve of such a high volume of Fed selling. Since the implementation of Twist, the 2-year Treasury spread to OIS immediately widened in anticipation of front-end sales. The spread would likely widen further upon an extension. US Interest Rate Strategy Weekly 11 29 March 2012 Derivatives Recommend tactically paying in five-year swap spreads Michael Chang +1 212 325 1962 • We believe over the next few weeks swap spreads have scope to widen firstname.lastname@example.org modestly as financial issuance is likely to underwhelm and reduce fixed-to- Ira Jersey floating swapping needs. Thus we recommend swap spread wideners as a +1 212 325 4674 tactical trade. But structurally we continue to expect swap spreads to remain at email@example.com the low end of their historical ranges in the current low rate regime. Structurally we continue to expect swap spreads to remain at the low end of their historical ranges in the current low rate regime. However, over the very near term we believe the lack of fixed-to-floating swapping needs due to the financial issuance calendar could move spreads wider. We expect financial issuance in April to be somewhat lower than it has been the last three months as domestic borrowers are unable to issue due to earnings blackout periods. Exhibit 7: Intermediate swap spreads have been trending to the low end of their historical range since the end of last year 100 Bps 50 0 01-Jul-02 30-Dec-04 01-Jul-07 30-Dec-09 5yr Swap Spread 10yr Swap Spread Source: Credit Suisse Locus Seasonally, April has been one of the lower fixed coupon financial issuance months (Exhibit 8). The risk to this coming April is that Yankee bank issuers could come to market if spreads continue to tighten and rates don’t backup meaningfully, offering more attractive all-in-coupon levels This lack of issuance should pressure five-year swap spreads wider from the current level but create some choppiness around issuance over the next month – which tends to occur on the heels of earnings releases. Thus we recommend tactically paying in five-year swap spreads heading into April with the understanding that the potential spread widening would likely be temporary. The trade carries approximately -1bp per month at current repo levels. US Interest Rate Strategy Weekly 12 29 March 2012 Exhibit 8: Fixed-rate financial issuance, which tends to be swapped to floating, is expected to be relatively light in April 60.0 Avg 2001-2011 Avg 2009-2011 50.0 2012 40.0 Issuance ($B) 30.0 20.0 10.0 0.0 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Source: Credit Suisse Locus Typically financial companies would issue fixed-rate debt and swap to floating rate to match their exposure to rates. Thus a smaller amount of fixed-rate financial issuance flow would suggest less swapping needs (less need to receive fixed rate in swaps) and should bias swap spreads wider. Exhibit 9 shows that historically monthly changes in five-year swap spreads have broadly tracked monthly fixed-rate financial issuance flows. The relationship is the most pronounced in the five year sector because corporate issuance is usually focused in that area and longer maturity corporates are often left unswapped. Exhibit 9: Smaller fixed-rate financial issuance would suggest less swapping needs (less need to receive fixed) and should bias swap spreads wider 70.0 -30.00 Fixed-rate financial issuance Change in 5y swap spread (RHS, inverted scale) -25.00 60.0 -20.00 50.0 -15.00 Spread Change -10.00 Issunace ($B) 40.0 -5.00 30.0 0.00 20.0 5.00 10.00 10.0 15.00 0.0 20.00 Apr-07 Apr-09 Apr-11 Source: Credit Suisse Locus On an intraday basis, US financials that leave blackout periods are more likely to come to market – particularly banks and diversified financials. The four charts below show expected reporting dates with the market capitalization and number of S&P 1500 firms reporting each day. Banks and diversified financials are currently expected to report earlier in the month, with insurance companies later (Exhibits 10 and 12). We also provide the same information for the whole S&P 1500 universe (Exhibits 11 and 13). US Interest Rate Strategy Weekly 13 29 March 2012 Exhibit 10: Market capitalization of firms reporting Exhibit 11: Market capitalization of firms reporting US$ bn, Dates subject to change US$ bn, Dates subject to change $400 $3,000 Insurance $350 Non-Financials Diversified Financials $2,500 $300 Financials Banks $2,000 $250 $200 $1,500 $150 $1,000 $100 $0,500 $50 $0 $0,00 4/9 4/13 4/17 4/21 4/25 4/29 5/3 5/7 4/9 4/14 4/19 4/24 4/29 5/4 5/9 Source: Company reports, Credit Suisse Quantitative Equity Strategy Source: Company reports, Credit Suisse Quantitative Equity Strategy Exhibit 12: Number of firms reporting each day Exhibit 13: Number of firms reporting each day Dates subject to change Dates subject to change 35 Insurance 300 30 250 Diversified Non-Financials 25 Financials 200 Financials Banks 20 150 15 100 10 5 50 0 0 4/9 4/13 4/17 4/21 4/25 4/29 5/3 5/7 4/9 4/14 4/19 4/24 4/29 5/4 5/9 Source: Company reports, Credit Suisse Source: Company reports, Credit Suisse During the depths of the financial crisis financial issuance was sporadic and issuance had little, if any, correlation to spreads on an intraday basis. However, in 2010 the correlation began to right itself, with days of light or no financial issuance starting to see swap spreads widen, while spreads appear to tighten more often than not during days with heavy issuance. Exhibit 14 shows daily swap spread changes against financial issuance for the April 2010 reporting season suggesting that more often than not, the lack of issuance has meant wider spreads. US Interest Rate Strategy Weekly 14 29 March 2012 Exhibit 14: April 2010 swap spreads widened without financial issuance Financial issuance in US$ millions 6.0 3,500 2010 Issuance (rhs) Change in 5yr Swap Spread (bps) 4.0 3,000 2010 Swap Spread Chg 2,500 2.0 2,000 0.0 1,500 -2.0 Widening 1,000 without -4.0 500 Issuance -6.0 0 1 3 5 7 9 11 13 15 17 19 21 23 25 27 29 31 33 Days into reporting period (April 1st) Source: Credit Suisse The trade detail shows that the one-month carry is approximately -1bp assuming a repo rate of -5bps. The primary risk to the trade is an unexpected pick up in swapped issuance through April. Exhibit 15: Trade construction for long five-year spread position 1m Fwd Position Notional ($) Instrument Rate/Yield DV01 (bps) DV01 ($) Repo Rate/Yld Pay 100,000,000 5-year Swap 1.237% 4.88 48,808 - 1.248% Buy 100,427,984 T 1.000 3/31/17 1.010% 4.86 -48,808 -0.05% 1.032% 0.227% 0.216% Source: Credit Suisse Alternatively, investors can structure a conditional bearish version of the swap spread widener by selling puts on five-year Treasury futures and buying matched-maturity swaption payers to express the view that the swap spread is more likely to widen in a rate sell-off. Based on the current vol ratio between Treasury futures vol and swaption vol, investors can get into the zero-cost conditional trade at an implied invoice spread (20.5bps) that is flat to the current invoice spread (20.5bps). The primary risk to the trade is that the Treasury future sells off at a faster pace than swap rates. Exhibit 16: Trade construction for the zero-cost conditional bear swap spread widener Notional / Start Date / Implied Current Position Instrument Strike Expiration Maturity Quantity Last Delivery Invoice Spread Invoice Spread Buy 122 MM Payers 1.23% 25-May 7/5/2012 8/31/2016 - - Sell 1,000 FVM2 Puts 122 25-May 7/5/2012 8/31/2016 20.5 bps 20.5 bps Source: Credit Suisse Locus US Interest Rate Strategy Weekly 15 29 March 2012 Treasuries T-bill supply due to contract sharply Scott Sherman +1 212 325 3586 • We investigate the seasonal decline in T-bill supply due to tax filing behavior firstname.lastname@example.org • We recommend real money investors consider shifting into the July 5 bill Treasury bill issuance rose sharply through February and March, a well-recognized seasonal pattern driven by the Treasury’s issuance of refunds to individual taxpayers who had too much withheld during the year. These taxpayers have an incentive to file their taxes well before the April deadline. Factoring in both the increase in weekly T-bill issuance and a couple of substantial longer-maturity cash management bills, the total outstanding volume of Treasury bills has increased by just under $160 billion since the end of 2011. However, with tax season upon us, refunds will soon be replaced by last-minute tax payments from those taxpayers that owe additional taxes and have the incentive to file as late as possible. This sudden inflow of cash in mid-April leaves the Treasury flush with cash, reducing the need to have all those previously issued bills outstanding. Given the Treasury can’t simply keep large cash balances, outstanding bill supply tends to contract sharply in mid-April. This happens through two channels. The first is through the issuance of the previously mentioned cash management bills, as the Treasury sets the maturity dates on and around the tax deadline. In addition, weekly issuance tends to drop sharply, particularly for the 4- week bill. Although we don’t anticipate a collapse in issuance down to the most extreme levels ($8 billion 4-week bills), we anticipate the total bill supply to contract by approximately $90 billion from the current level by the middle of May. Exhibit 17: T-bill supply has risen sharply since the end of 2011, but is due to contract sharply in mid-April Cumulative change in T-bill supply since the end of 2011 $Blns 180 change in T-bill supply projected change in since Dec 2011 supply post tax date 160 140 120 100 80 60 40 20 0 -20 1/2 1/16 1/30 2/13 2/27 3/12 3/26 4/9 4/23 5/7 5/21 Source: Haver Analytics®, US Treasury, Credit Suisse US Interest Rate Strategy Weekly 16 29 March 2012 In past years, this seasonal swing in supply has resulted in a fairly consistent pattern of richening in short-dated T-bills from early April to early May. Indeed, since 2000, the yield on the 4-week bill has tended to richen by 5bps, on average, over the seven business days heading into April tax date and another 6bps over the four weeks beyond the tax date (we excluded 2008 due to large swings in short rates). Exhibit 18: Four-week bill yields tend to richen both into and out of the April tax deadline due to a contraction in available supply Change in 4-week bill rates into and out of the April tax deadline Source: Credit Suisse Locus Conversely, the cyclical richening in the 3-month sector is not nearly as defined. Although the 3-month T-bill rate does tend to richen over the same period, the pattern is less defined and of smaller magnitude. Exhibit 19: Thirteen-week bills show much less seasonality around tax season Change in 13-week bill rates into and out of April tax deadline Source: Credit Suisse Locus US Interest Rate Strategy Weekly 17 29 March 2012 We suggest bill market investors considering shifting into the July 5 bill. Although other bills that will ultimately be in the 1- to 2-month maturity range in mid-May have rallied heading into quarter end, the July 5 bill has barely budged. In addition, the bill gets investors beyond the turn for Q2, a fact that should only increase demand for the specific issue as we head into the second quarter. Looking at data extending back to 2002 (excluding the high volatility of short rates in 2008), the first T-bill to mature in July has richened by an average of 8bps from early April through mid-May. The risk is that T-bill issuance is greater than anticipated or quarter-end demand less than expected. Exhibit 20: The first T-bill to mature beyond Q2 has richened by an average of 8bps from early April through mid-May for data going back to 2002 Yield change on the first T-bill maturing in July in each year going back to 2002 (excluding 2008) % 0.2 0.1 0 -0.1 -0.2 2011 2010 2009 2007 2006 2005 -0.3 2004 2003 2002 Avg -0.4 Days to May 15 -29 -27 -25 -23 -21 -19 -17 -15 -13 -11 -9 -7 -5 -3 -1 Source: US Treasury, the BLOOMBERG PROFESSIONAL™ service, Credit Suisse US Interest Rate Strategy Weekly 18 29 March 2012 Inflation Global Dislocations Eric Van Nostrand +1 212 538 6631 • TIPS breakevens have eased off their mid-month highs, and amid weakening email@example.com core inflation, we do not expect a major move upward until clearer QE signaling materializes. • We look to our fitted real yield curve on Locus to help gauge relative value in global linker markets. Recent dislocations lead us to favor BTPei 2017s vs. 2016s, and OATei 2027s vs. 2022s. The strength in US inflation expectations from the first half of the month has retreated as nominal yields fade the sharp post-FOMC sell-off. Although expectations for domestic monetary tightening have moved back out, as described in this week’s Strategy section, softening oil prices and a weak backdrop for spot inflation restrains our enthusiasm for rising inflation expectations. As shown below, 10-year TIPS breakevens are trading largely in line with or slightly rich to our fundamentals-based model. Exhibit 21: 10-year US breakevens are trading in line with (or slightly rich to) fundamentals 10-year TIPS breakevens vs. fundamental model based on fed funds expectations, US dollar, gold, oil, ISM 3.00% 2.50% 2.00% Modeled 10yr TIPS breakeven 1.50% Actual 10yr TIPS breakeven 1.00% Residual 0.50% 0.00% -0.50% -1.00% 2005 2006 2007 2008 2009 2010 2011 2012 Source: Credit Suisse From here, we think a new dovish surprise from the Fed is needed to help breakevens re- test their 2011 highs. In the long term, we remain bullish breakevens given the Fed’s commitment to policies that will tend to stoke them. But with next week’s FOMC minutes unlikely to move the QE needle materially – and the Credit Suisse economics team calling for softer realized inflation in the US, UK, and Europe in their Inflation Watch – we do not expect major near-term repricing. This week, we turn our focus to trades with a more micro focus, using our fitted real yield curve to help identify dislocations in global inflation markets. Inflation on Locus: Fitting the Real Yield Curve Central to our new suite of global inflation tools on our Locus analytics system is a global fitted real yield curve tool. Herein we review the methodology behind our fitted curve for TIPS and linkers abroad and consider some global trades to benefit from dislocations on the curve. US Interest Rate Strategy Weekly 19 29 March 2012 Fitting a linker curve is a more complex process than a nominal bond curve because there are legitimate reasons for the curve to be discontinuous, such as inflation seasonality and floor premia. Such dislocations might appear at first glance to be relative value opportunities, but since they can be justified by the bond technicals, we would not want to trade off them. So we use inflation markets to value the floors and remove the optionality from the market values of our bonds. Similarly, we adjust the market values of bonds maturing in different months by the expected seasonal benefit/detriment of inflation at maturity. Finally, we select the spline par yield curve that results in the smallest error between the (adjusted) real yields and the curve-implied real yields. We do this accounting for all cash flows of the bond, so that particularly high (low) coupon bonds do not appear particularly rich (cheap) to the curve for only that reason. Below we show the fitted par yield curve for the TIPS universe, available on the Locus “Inflation-Linked Bond Curve” page. Listed below the curve on Locus is a table of the rich/cheap spreads (spread to fitted yield of each bond.) The curve highlights the recent cheapness of the Jan 21, which we recommended overweighting in last week’s US Interest Rate Strategy Weekly. Exhibit 22: Fitted TIPS Real Yield Curve TIPS fitted par curve vs. seasonality and deflation floor Source: Credit Suisse Locus US Interest Rate Strategy Weekly 20 29 March 2012 Favor BTPei 2017s vs. 2016s In Italian linker space, the BTPei 2017 appears 8bps cheap to the fitted curve in real yield terms while the preceding bond, the BTPei 2016, is 8bps rich. Exhibit 23: In Italian linker space, the BTPei 2017 has sharply cheapened to the BTPei 2016 Source: Credit Suisse Locus This dislocation has not been very long-standing, with the curve between the two issues steepening to a two-standard deviation extreme in the past few weeks, as shown below in Exhibit 24. Exhibit 24: In Italian linker space, the BTPei 2017 has sharply cheapened to the BTPei 2016 Source: Credit Suisse Locus We recommend that real money investors overweight the 17s relative to the 16s to profit from the unusually steep curve here. We enter the switch in our model portfolio at a size of 25k/01, at a real yield spread of 45bps. The primary risk to the trade is continued dislocation between the two issues. We target a 15bp correction in the real yield curve. Favor OATei 2027s vs. 2022s Similar dislocation can be found in French inflation space, where 10-year OATeis (French bonds linked to European HICP as opposed to domestic French inflation) have seen strong inflows in recent weeks. As a result, 2020 and 2022 OATeis have richened sharply relative to longer instruments, bringing the 2022-2027 OATei real yield curve out to a two- standard-deviation extreme. US Interest Rate Strategy Weekly 21 29 March 2012 Exhibit 25: 10s15s OATei real yield curve has steepened sharply in recent weeks Source: Credit Suisse Locus One reason we think this “flow-related” dislocation can be faded (and not an economically meaningful term structure shift) is that we have seen a concurrent swing in the iota curve, shown below in Exhibit 26. Iota is the spread of linker z-spread to nominal z-spread, and is an effective metric of relative value between cash linkers and nominals. The spread of iota on the 2027s and 2022s tends to be mean reverting, as shown below. Exhibit 26: The dislocation of the past few weeks has occurred in iota space Source: Credit Suisse Locus The 10bps of real yield curve steepening in recent weeks has been paralleled with 10bps of iota steepening, suggesting a flow-related dislocation. Usually, the 2022-2027 real yield is directional with the level of 2022 real yields, but the historically low level of rates does not justify the current steepness, as shown in the regression below. US Interest Rate Strategy Weekly 22 29 March 2012 Exhibit 27: The curve is directional with the level of real yields, but is currently dislocated to the steep side 2022-2027 OATei real yield curve vs. OATei 2022 real yields Source: Credit Suisse Locus We recommend real money investors with an OATei mandate similarly overweight 27s versus 22s to profit from a correction in the real yield curve. We enter the switch into our model portfolio at a size of 30k/01, at a spread of 39.5 bps. The risk to the trade is continued steepening in the 10s15s OATei real yield curve. We target a 15bp correction in the curve. US Interest Rate Strategy Weekly 23 29 March 2012 Supranationals, Agencies & Sovereigns Bullet Supply Ira Jersey +1 212 325 4674 • Agency benchmark issuance so far in 2012 has outpaced that of the first firstname.lastname@example.org quarter of the past two years. • We review net issuance patterns and distribution statistics so far in 2012 compared with data of the prior two years. Agency issuance during the first quarter has outpaced that of the past two years by about $10 billion. Although gross debt outstanding continues to shrink thanks to smaller balance sheets, tight spreads and low yields have created an incentive for the GSEs to come earlier in the year. We expect benchmark issuance later in the year to slow somewhat. There has been nearly $40 billion of benchmark Exhibit 28: GSE 1Q issuance issuance so far this year, helping to increase price US$ billions discovery and liquidity for those issuers which have Jan - March Issuance come to market. Exhibit 28 shows the new (non- 2010 $27.40 reopened) issuance so far. 2011 $28.30 Even with this relatively heavy calendar compared 2012 $39.00 with that of the past few years, demand remains Source: Credit Suisse robust. Issuance beyond 5-years was limited mostly to reopenings in the past few years, but in mid-January Freddie Mac came with a 10-year that priced at T+52bp over Treasuries and is currently about T+37.5bp. Fannie Mae’s 5- year issued a week before at T+40bp is now trading about 22bp tighter at T+17.5bp. The spread rally has accelerated amid the recent backup in rates, and while we are tempted to fade it, we suspect that the supply/demand dynamics will remain supportive of spreads. Exhibit 29: Agency net issuance by quarter US$ bn 200 150 Long Term Agency Net Issuance 100 Short Term Agency Net Issuance 50 0 -50 -100 -150 -200 Q4 08 Q2 09 Q4 09 Q2 10 Q4 10 Q2 11 Q4 11 Source: Credit Suisse, SIFMA Exhibit 29 shows aggregate GSE net debt issuance by quarter over the past few years. While this has generally supported spreads, in 2010 and 2011 aggregate net issuance over particular time periods (including callables, MTNs, etc) appears to have had an influence on spreads as noted in Exhibit 30. Exhibits 31 and 32 highlight the outstanding term and short-term debt respectively by issuer. We note that much of the decline in total outstanding debt has come from run-off and calls of short-term debt. US Interest Rate Strategy Weekly 24 29 March 2012 Exhibit 30: Spreads was correlated with issuance in 2010 and 2011 40,000 AGY Net Issuance >1yr (lhs, US$ bn) 20 20,000 3-5yr AGY Spread Chg (rhs, bps) 15 0 10 -20,000 5 -40,000 0 -60,000 -5 -80,000 -100,000 -10 -120,000 -15 Mar-10 Jun-10 Sep-10 Dec-10 Mar-11 Jun-11 Sep-11 Dec-11 Source: Credit Suisse Locus, SIFMA Exhibit 31: Outstanding GSE debt by issuer due in more than a year US$ bn FNMA FHLMC FFCB FHLB FARMER/TVA 2,000 1,500 1,000 500 0 Q3 08 Q1 09 Q3 09 Q1 10 Q3 10 Q1 11 Q3 11 Source: Credit Suisse, SIFMA Exhibit 32: Outstanding GSE debt by issuer due in less than a year US$ bn 1,200 FNMA FHLMC FFCB FHLB FARMER/TVA 1,000 800 600 400 200 0 Q3 08 Q1 09 Q3 09 Q1 10 Q3 10 Q1 11 Q3 11 Source: Credit Suisse, SIFMA US Interest Rate Strategy Weekly 25 29 March 2012 Exhibit 33: 2010 Agency benchmark distribution Exhibit 34: 2011 Agency benchmark distribution 2010 Other Other 12.6% Europe Europe13.4% 3.1% 2.7% Asia Asia 12.7% 17.9% US/North America US/North 66.4% America 2011 71.2% Source: Company reports, Credit Suisse Source: Company reports, Credit Suisse As shown in Exhibits 33 Exhibit 35: 2012 Agency benchmark distribution through 35, the distribution of GSE benchmarks has become more domestic in nature over time. In 2010 Other Europe 16.1% about two thirds of issuance 2.6% was taken down by domestic buyers, while Asia almost 18% was purchased 8.6% by Asia. US/North So far in 2012 Asia has only America represented about 8.6% of 72.7% new issue purchases, while North America has 2012 YTD increased to just under three quarters of purchases. Source: Company reports, Credit Suisse Although spreads remain tight, asset managers continue to be large purchasers of GSE debt at new issue. Exhibits 36 through 38 show purchases by investor type. Although demand generally has decreased from Asia, Central Bank purchases continue to be robust – still representing over 20% of new issuance demand, although this is down from over a quarter in 2010. Investment managers and Insurance demand appears to have picked up the slack, both having meaningful increases in purchases so far this year compared with that of the recent past. Investment managers now represent about 55% of Agency primary market purchases, after having represented under 45% in the prior two years. US Interest Rate Strategy Weekly 26 29 March 2012 Exhibit 36: 2010 Agency benchmark distribution Exhibit 37: 2011 Agency benchmark distribution Insurance/ 2010 Insurance/ Others Pension Others 2011 Pension 5% 4% 7% 4% Other Other Investment Financial Financial Investment Mgr 10% 11% Mgr 41% Banks/Stat 44% e & Local Banks/Stat Govt Central e & Local 10% Central Bank Govt Bank 26% 10% 28% Source: Company reports, Credit Suisse Source: Company reports, Credit Suisse Exhibit 38: 2011 Agency benchmark distribution Others Insurance/ 2% 2012 YTD Other Pension Financial 9% 5% Banks/Stat e & Local Govt 5% Central Bank 21% Inv. Mgr 55% Source: Company reports, Credit Suisse US Interest Rate Strategy Weekly 27 29 March 2012 Technical Analysis David Sneddon +44 20 7888 7173 • Nasdaq 100 all but achieves our 2800/2900 core bull target. email@example.com • Background indicators are warning of a stalling in the S&P 500 rally. Christopher Hine +1 212 538 5727 • Corrective equity weakness may help to continue to support bonds further. Chirstopher.@credit-suisse.com The relentless move higher in the US equity market has seen the Nasdaq 100 extend its uptrend to within a whisker of our 2800/2900 core bull target. This represents not only the 50% retracement of the entire 2000/2002 bear market, but the “neckline” to the 2000 top. Nasdaq 100 has all With momentum stalling and daily DeMark warning of potential exhaustion, we look for but achieved our evidence of a top. Given the size/importance of Apple, we shall also continue to monitor 2800/2900 core bull this stock closely. target. A push into the 2800/2900 should still be allowed for, with 2842 our “ideal” target. However, we look for failure here for a slide back to the recent low and rising 13-day average at 2728/14. Below here is needed to mark the completion of a minor top, clearing the way for a slide back to 2650, potentially 2575. Above 2900 would suggest the immediate trend can remain higher for 2990 next. This is seen as the trigger to the 61.8% retracement of the 2000/2002 bear market at 3280. Bigger picture, our bias is to view this anticipated weakness as a corrective decline only for now. Exhibit 39: Nasdaq 100 – Monthly Source: the BLOOMBERG PROFESSIONAL™ service, Credit Suisse US Interest Rate Strategy Weekly 28 29 March 2012 Volume has shown For the broad S&P 500, strength has extended to within a whisker of key price and the first sign of medium-term channel resistance at 1432/40, and our bias has been for this to cap at first, prompting a correction lower. stalling for the S&P 500 since last Indeed, when we look at OnBalanceVolume, which has been confirming the uptrend for October’s low. the past year, for the first time since last October, we are now seeing a bearish divergence, with the volume indicator not confirming the recent move to a new price high. Additionally, the Advance/Decline breadth line is also stalling (although has yet to top), but more importantly, RSI momentum is sporting a clear bearish divergence (c.f. lower panel below). Only below 1386 Our bias is thus for a top to form ahead of 1440, for a corrective phase lower. Below the would mark a small 1386 recent low is needed to confirm a minor reversal, which would also see the 13-day accelerated moving average removed. If achieved, this should then clear the way for a top though. slide back to 1340/20. We would expect fresh buyers to show here. Bigger picture, our bias at present is to this anticipated weakness as a corrective decline only. Should strength extend above 1440, this would raise the possibility of an eventual move back to the 1576 record high. Exhibit 40: S&P 500, Breadth, Volume & Momentum – Daily Source: the BLOOMBERG PROFESSIONAL™ service, Credit Suisse US Interest Rate Strategy Weekly 29 29 March 2012 Economics Jonathan Basile This is an excerpt from the US Economics Digest published 27 March 2012. Director +1 212 538 1436 firstname.lastname@example.org A Flow of Funds Anthology: Three Short Stories Jay Feldman We view the quarterly “Flow of Funds Accounts of the United States,” compiled by the Director Federal Reserve, as an anthology, brimming with stories about the financial life of the US. +1 212 325 7634 email@example.com In this research note, we highlight three of these stories, using the Q4-2011 “Flow of Funds” report released this month. Dana Saporta Director • Story One: Look who’s borrowing +1 212 538 3163 firstname.lastname@example.org Domestic credit outstanding grew by an annualized $1.3 trillion in Q4-2011, marking the seventh consecutive quarterly increase. The household sector was a net borrower for the Neal Soss Managing Director first time since mid-2008. Meanwhile, for 2011 as a whole, state and local debt declined +1 212 325 3335 nearly 2%, its first annual decrease since 1996. email@example.com • Story Two: Household finances on a rollercoaster A nearly $1.2trn gain in household net worth in Q4 put the total rebound from the mid- crisis trough at $8.0trn, approaching the halfway mark in recovering the $16.4trn that was lost during the crisis. But household wealth has become much more volatile in recent years, fuelling heightened risk aversion among consumers and retail investors. • Story Three: Corporations build a cash cushion Healthy profits, combined with opportunistic borrowing at very favorable market interest rates, are providing corporations with a cushion against any renewed business downturn. The ratio of liquid assets to total assets on nonfinancial corporate balance sheets reached a new 48-year high. US Interest Rate Strategy Weekly 30 29 March 2012 Events Credit Suisse Market Prior Events estimates estimates results Monday, April 2 10:00AM ISM Manufacturing (Mar) 52.5 53.5 52.4 -Prices Paid NA 62.1 61.5 10:00AM Help Wanted Online Ads (Mar) NA NA 39.9K 10:00AM Construction Spending (Feb) NA 0.8% -0.1% 10:00AM St. Louis Fed’s Bullard speech on “Monetary Policy in a Global Setting: China & the US” (Non-Voter) 12:35PM Cleveland Fed’s Pianalto speaks on “The Fed and The Economy: Striving for Stability” (Voter) Tuesday, April 3 7:45AM ICSC-GS Chain Store Sales, Wk/Wk (Mar 31) NA NA -0.5% 8:55AM Redbook Retail Store Sales, MoM (Mar 31) NA NA 0.5% 9:45AM ISM New York (Mar) NA NA 63.1 10:00AM Factory Orders (Feb) 1.5% 1.4% -1.0% AM ASA Staffing Index, Wk/Wk (Mar 25) NA NA 0.6% 2:00PM FOMC Minutes (Mar 13 meeting) 4:05PM San Francisco Fed’s Williams speaks at FOMC meeting simulation at UC San Diego (Voter) PM Total Vehicle Sales (Mar) 14.5M 14.7M 15.0M -Domestic Vehicle Sales 11.3M 11.5M 11.7M Wednesday, April 4 7:45AM ECB Rate Announcement 1.00% 1.00% 1.00% 8:15AM ADP Employment (Mar) NA 200K 216K 10:00AM ISM Non-Manufacturing (Mar) 56.5 56.8 57.3 10:30AM DOE Crude Oil Stocks, mn/bbl (chg) (Mar 30) NA NA 353.4 (7.1) 11:00AM San Francisco Fed’s Williams speaks to San Francisco Planning & Urban Research (Voter) Thursday, April 5 7:00AM BoE Rate Announcement 0.50% 0.50% 0.50% 7:30AM Challenger Job Cuts (Mar) NA NA 51,728 8:30AM Initial Jobless Claims (Mar 31) 370K NA 359K 9:10AM St. Louis Fed’s Bullard speaks on US economy and monetary policy (Non-Voter) AM ICSC Chain Store Sales, YoY (Mar) NA NA 4.1% AM St. Louis Financial Stress Index (Mar 30) NA NA 0.19 Friday, April 6 AM Monster Employment Index (Mar) NA NA 143 8:30AM Employment Report (Mar) -Non-Farm Payrolls 235K 210K 227K -Private Payrolls 245K 220K 233K -Unemployment Rate 8.2% 8.2% 8.3% -Average Hourly Earnings 0.2% 0.2% 0.1% 3:00PM Consumer Credit (Feb) $10.5B $12.0B $17.8B Source: the BLOOMBERG PROFESSIONAL™ service, © 2012 Thomson Reuters Limited, Credit Suisse estimates. US Interest Rate Strategy Weekly 31 29 March 2012 Databank Exhibit 41: Treasury yields (03/29/2012) Exhibit 42: Treasuries yield weekly change Exhibit 43: Treasuries asset swap yield-yield (daily) Exhibit 44: Treasuries asset swap yield-yield weekly change Exhibit 45: Eurodollar strip Exhibit 46: AGY, TSY, swap weekly change Exhibit 47: US Treasuries 2s10s Exhibit 48: UST 2s-5s-10s fly Source for all: Credit Suisse Locus Link to intra-week updates US Interest Rate Strategy Weekly 32 29 March 2012 Exhibit 49: USD forward yield (%) March 29, 2012 closing values Exhibit 50: Forward swap curves Exhibit 51: Forward swap rates Exhibit 52: Forward 2s10s curve Exhibit 53: Forward 5s30s curve Source for all: Credit Suisse Locus Link to intra-week updates US Interest Rate Strategy Weekly 33 29 March 2012 Exhibit 54: 10yr Treasury seasonals Exhibit 55: 2s-10s Treasury curve seasonals Exhibit 56: 10yr swap spread seasonals Exhibit 57: 3m10y vol. seasonals Exhibit 58: AGY OTR 10yr spread to TSY OTR 10yr seasonals Exhibit 59: LUCI+ benchmark spread seasonals Exhibit 60: 10yr Treasury roll around auctions Exhibit 61: 5yr Treasury roll around auctions Source for all: Credit Suisse Locus Link to intra-week updates US Interest Rate Strategy Weekly 34 29 March 2012 Exhibit 62: 2yr and 10yr swap spreads Exhibit 63: FNMA sr. debt vs. MBS spreads Exhibit 64: FNMA asset swaps Exhibit 65: FNMA spread to Treasuries Exhibit 66: Corporate 5yr CDS spreads Exhibit 67: Bank & broker CDS vs. swap spreads Exhibit 68: IG corporate bond term structure (LUCI Index) Exhibit 69: VIX Index Source for all: Credit Suisse Locus Link to intra-week updates US Interest Rate Strategy Weekly 35 29 March 2012 Exhibit 70: Current coupon vs. agency debt Exhibit 71: Mortgage Index Price Exhibit 72: Extension/contraction risk imbalance vs. Exhibit 73: Rolling 1m beta: 10yr spreads vs. 10-yr duration levels OTR yields Exhibit 74: USD vol. term structure; Exhibit 75: USD vol. term structure; 10-year swap rate 2-year swap rate Exhibit 76: USD, 10-year swap volatility cones Exhibit 77: USD, 2-year swap volatility cones Source for all: Credit Suisse Locus Link to intra-week updates US Interest Rate Strategy Weekly 36 29 March 2012 Exhibit 78: FNMA 2s-5s spread to Treasury curve Exhibit 79: FNMA 2s-3s spread to Treasury curve Exhibit 80: FNMA 2s-10s spread to Treasury curve Exhibit 81: FNMA 5s-10s spread to Treasury curve Exhibit 82: FHLMC 2s-5s asset swap curve Exhibit 83: FHLMC 2s-3s asset swap curve Exhibit 84: FHLMC 2s-10s asset swap curve Exhibit 85: FHLMC 5s-10s asset swap curve Source for all: Credit Suisse Locus Link to intra-week updates US Interest Rate Strategy Weekly 37 29 March 2012 Exhibit 86: Basis point swaption vol ratio to 6mo-10yr March 29, 2012. Color evaluated over the last three months. Color extreme is three standard deviations from average. Source: Credit Suisse Exhibit 87: Credit Suisse interest rate forecasts US - Treasuries Last 2012 Q1 2012 Q2 2012 Q3 2012 Q4 Fed Funds 0-0.25 0 –0 .25 0 –0 .25 0 – 0.25 0 – 0.25 2-Yr Yield 0.34 0.30 0.30 0.35 0.40 5-Yr Yield 1.01 1.10 1.15 1.20 1.20 10-Yr Yield 2.16 2.25 2.35 2.45 2.50 30-Yr Yield 3.27 3.50 3.60 3.70 3.80 UK - Gilts Last 2012 Q1 2012 Q2 2012 Q3 2012 Q4 Base Rate 0.50 0.50 0.50 0.50 0.50 2-Yr Yield 0.44 0.45 0.45 0.50 0.50 5-Yr Yield 1.05 1.00 1.10 1.25 1.30 10-Yr Yield 2.21 2.20 2.25 2.30 2.35 30-Yr Yield 3.35 3.30 3.40 3.50 3.55 Euro - German Benchmarks Last 2012 Q1 2012 Q2 2012 Q3 2012 Q4 ECB Repo 1.00 1.00 1.00 1.00 1.00 2-Yr Yield 0.22 0.20 0.20 0.20 0.40 5-Yr Yield 0.81 1.00 1.10 1.35 1.45 10-Yr Yield 1.81 2.00 2.20 2.45 2.55 30-Yr Yield 2.48 2.60 2.80 3.00 3.20 Japan - JGBs Last 2012 Q2 2012 Q3 2012 Q4 2013 Q1 Overnight 0-0.10 0-0.10 0-0.10 0-0.10 0-0.10 2-Yr Yield 0.11 0.10 0.10 0.10 0.10 5-Yr Yield 0.33 0.30 0.35 0.35 0.35 10-Yr Yield 1.01 1.20 0.90 1.00 1.00 30-Yr Yield 1.95 2.15 1.90 2.00 2.00 Source: Credit Suisse US Interest Rate Strategy Weekly 38 US Interest Rate Strategy Weekly Exhibit 88: Credit Suisse global economic, growth, and interest rate forecasts (as of March 22) 2010 2011E 2012E Q4/Q4 Annual Avg. Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 09 10 11E 12E 10 11E 12E 13E US Real GDP 3.7 1.7 2.6 3.1 0.4 1.3 1.8 3.0 2.2 2.2 2.3 2.3 -0.5 3.1 1.6 2.2 3.0 1.7 2.3 2.0 IP 1.5 6.5 6.9 6.3 5.5 3.8 3.7 3.7 3.4 4.3 3.6 3.7 -5.5 6.3 3.9 3.4 5.3 4.2 3.7 3.0 Inflation 2.4 1.8 1.2 1.2 2.1 3.3 3.8 3.3 2.8 2.0 1.7 1.7 1.5 1.2 3.3 1.7 1.6 3.1 2.0 1.7 Credit Suisse Official Effective Fed Funds 0 – .25 0 – .25 0 – .25 0 - .25 0 - .25 0 - .25 0-.25 0 – .25 0 – .25 0-.25 0 – .25 0 – .25 ... … … … ... ... ... 2-Yr Yield 0.95 0.72 0.48 0.60 0.68 0.40 0.24 0.24 0.30 0.30 0.35 0.40 … … … … … … … 5-Yr Yield 2.42 1.99 1.40 1.92 2.10 1.56 0.95 0.83 1.10 1.15 1.20 1.20 … … … … … … … 10-Yr Yield 3.72 3.19 2.64 3.28 3.40 2.99 1.92 1.88 2.25 2.35 2.45 2.50 … … … … … … … 30-Yr Yield 4.65 4.13 3.77 4.42 4.51 4.23 2.91 2.89 3.50 3.60 3.70 3.80 … … … … … … … Global Real GDP 5.1 5.2 4.9 4.6 4.5 3.9 3.8 3.5 3.4 3.5 3.5 3.8 2.1 4.9 3.5 3.8 5.1 3.8 3.5 4.2 IP 10.4 11.1 9.0 8.0 6.7 4.9 5.2 3.7 3.7 4.7 4.6 5.9 1.3 8.0 3.5 5.9 9.6 5.0 4.7 ... Inflation 3.4 3.5 3.4 3.7 4.4 4.9 5.0 4.6 3.8 3.6 3.5 3.6 2.4 3.8 4.6 3.6 3.5 4.7 3.6 3.6 Japan Real GDP 9.1 0.2 3.8 -3.0 -6.9 -1.2 7.1 -0.7 0.9 1.8 1.5 1.7 -0.6 3.2 -0.6 1.5 4.4 -0.7 1.5 1.6 IP 27.5 21.0 13.5 4.9 -2.6 -6.8 -2.1 -2.8 4.5 10.2 6.6 7.6 -5.1 0.0 -2.8 7.6 16.5 -3.5 7.2 2.8 Inflation -1.2 -1.2 -1.1 -0.5 -0.8 -0.3 0.2 -0.2 0.0 0.0 0.0 0.0 -1.7 0.0 -0.2 0.0 -1.0 -0.3 0.0 -0.1 Overnight Call Rate 0.10 0.10 0.10 0.10 0-0.10 0-0.10 0-0.10 0-0.10 0-0.10 0-0.10 ... … … … … … … 10-Yr Bond Yield 1.34 1.21 1.06 1.19 1.25 1.13 1.03 0.99 1.10 1.20 0.90 1.00 ... … … … … … ... Euro-16 Real GDP 1.6 4.0 1.3 1.1 3.1 0.6 0.5 -1.3 0.0 0.1 0.7 1.5 -2.1 2.0 0.7 0.5 1.8 1.5 0.0 1.7 IP 4.6 8.9 7.0 6.3 6.7 4.2 3.9 -0.2 -1.5 -1.8 -2.0 0.5 -7.1 8.2 -0.2 0.5 7.4 3.6 -1.2 3.6 Inflation 1.1 1.6 1.7 2.0 2.5 2.8 2.7 2.9 2.3 2.1 2.0 1.9 0.9 2.2 2.7 1.9 1.6 2.7 2.1 1.6 ECB Repo Rate 1.00 1.00 1.00 1.00 1.00 1.25 1.50 1.00 1.00 1.00 1.00 1.00 … … … … … … 10-Yr Bund Yield 3.12 2.62 2.34 2.96 3.25 2.97 1.89 1.83 2.00 2.20 2.45 2.55 ... … … … … … … UK Real GDP 1.2 4.6 2.9 1.8 1.7 0.0 2.3 -0.8 0.0 0.8 2.0 2.4 -0.8 1.7 0.8 1.3 2.1 0.9 0.7 2.4 IP 0.2 1.5 3.2 3.5 2.0 -0.8 -1.4 -2.5 -2.9 -1.3 -0.4 1.0 -6.0 3.3 -2.5 1.0 2.1 -0.7 -0.9 2.0 Inflation 3.2 3.4 3.1 3.1 4.1 4.4 4.7 4.7 3.5 2.9 2.7 2.3 2.1 3.4 4.7 2.3 3.3 4.5 2.9 2.5 BOE Base Rate 0.50 0.50 0.50 0.50 0.50 0.50 0.50 0.50 0.50 0.50 ... … … … … … … 10-Yr Gilt Yield 3.91 3.32 3.02 3.50 3.29 3.24 2.43 1.98 3.00 3.40 3.50 3.55 ... … … … … … … IMF PPP weights are used to compute regional and global aggregate figures. GDP growth is quarter/quarter annualized, except for global GDP, which is year/year. Industrial production and inflation are expressed as year/year changes. US, UK, and Euro-16 inflation rates are headline, whereas Japan inflation rates are excluding fresh food. Fed fund target rate changed to effective rate starting Q1 2008, and annual forecasts are year-end forecasts. Actual reported quarterly interest rates are the average of closing rates over the last month of the quarter. Source: Credit Suisse 29 March 2012 39 Disclosure Appendix Analyst Certification The analysts identified in this report each certify, with respect to the companies or securities that the individual analyzes, that (1) the views expressed in this report accurately reflect his or her personal views about all of the subject companies and securities and (2) no part of his or her compensation was, is or will be directly or indirectly related to the specific recommendations or views expressed in this report. 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