MARKET MOVER - BNP PARIBAS - Investment Services India

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EMU Debt Monitor: Trade Ideas This section is classified as non-objective research • We are maintaining our long-duration Bund call at 1.65-1.70%. The 10y Bund ASW is a buying opportunity in the -20/-22 area. • As regards non-core CDS, the sharp decline in the short end provides long CDS basis trade opportunities in 1y Italy and Spain. • The 10y Bono/BTP re-widened as we expected last week and has come back in the last few days. At current levels, we prefer 1y-2y compression trades in Spain vs. Italy. Chart 1: Rising Net Buying Flows in Bunds No change in our long-duration Bund call The Fed’s decision to embark on open-ended QE triggered a rally in risky assets and a return to the upper side of the 1.65/1.70% range for Bunds, a level that has been rapidly rejected to date. We do not see any reason to change our near-term call to increase duration in 10y Bunds in the 1.65/1.70% area after the Fed meeting. The Fed’s commitment to keep rate at exceptionally low levels until at least mid-2015 underpins to some extent our scenario of a lasting ECB zero interest-rate policy (ZIRP), as we expect both GDP growth and inflation to be lower in the eurozone than in the US. Last week, we noted three near-term supportive factors for Bunds: their cheap valuation due to a low flight-to-quality premium of around 10bp for a yield of 1.70%, a negative net core/semi-core supply through year end (compared with sizeable net positive supply in late 2011 and 2010) and rising demand from Asian investors above 1.60% (Chart 1). In addition, the relative valuation of 10y-30y Bunds to swaps has also reached very cheap levels (see our desknote published on 18 September, entitled 10y Bund ASW: buying opportunity in the -20/-22 area). This cheapness could herald a near-term decline in 10y Bund yields towards 1.40% over the coming weeks. Non-core CDS opportunities In mid-August, we underlined the extreme steepness of the short end of the Italian CDS curve, which implied a very high 1y1y forward CDS level – above the 5y spot – and recommended selling it (at that time, it was around 440/445). As Chart 2 shows, the decline has been much more pronounced than we expected, both in spot and the 1y1y forward CDS (- 190 vs. -90bp estimated). While non-core cash outperformed CDS in August, the move has now fully reversed. Another indicator of the excessive decline Source: BNP Paribas Chart 2: 1y1y CDS Has Collapsed Over the Past Month 700 600 500 400 300 200 Launch of SMP 2.0 ECB 3y LTRO Ann. 100 2nd ECB 3y LTRO 0 May-10 Feb-11 Nov-11 Aug-12 -190bp since Mid-Aug 1y Italy CDS 1y1y Italy CDS 1y Spain CDS 1y1y Spain CDS Source: BNP Paribas 200 150 100 50 0 Chart 3: 1y and 2y Italy CDS Basis: CDS Has Outperformed Cash Since Sep ECB Meeting cash rich ECB Aug Meeting ECB Sep Meeting -50 June EU Summit Draghi's + cash cheap comment -100 Mar-12 Apr-12 Apr-12 May-12 Jun-12 Jul-12 Jul-12 Aug-12 Sep-12 1y CDS basis 2y CDS basis Source: BNP Paribas in short-dated CDS, both in Italy and Spain, is the decoupling of the cash and country CDS. Indeed, 1y- 2y BTPs and Bonos have been fairly stable versus swaps, while 1y and 2y CDS have kept on declining in the past couple of weeks. This temporary break in Eric Oynoyan / Ioannis Sokos 20 September 2012 Market Mover 28 www.GlobalMarkets.bnpparibas.com
This section is classified as non-objective research correlation since the September ECB meeting has pushed the 1y and 2y non-core CDS basis below their late July lows, even though the ECB has committed to an unlimited amount of 1y-3y paper once a country asks for EFSF/ESM assistance. In trading terms, the safest option is to buy shortdated BTPs, such as BTP Nov 13, and 1y Italy CDS, at around -15/20bp, with a view to a 50bp outperformance of the cash, or Bono Oct 13 and 1y Spain CDS for a basis level of around -75bp. Peripheral cash curves Last week, we suggested a 10y Bono/BTP widener on the grounds that the 10y point has outperformed on the Spanish curve and the spread to Italy has returned to the bottom of its recent range. The spread widened from 60bp last week to 95bp on Monday and since then, it has come back down to 85bp. The current level is in the middle of the recent range and cannot be considered attractive, either for wider or tighter spreads. In fact, what we find interesting is the widening of the short-end spreads between Spain and Italy. The SPGB Oct-13 vs. BTP Nov-13 (115bp) and SPGB Apr-14 vs. BTP Apr-14 (110bp) are wider than the longer-dated spreads on the 2014-15 maturities. This can be seen in Chart 5. As Spain is expected to make an official request for financial aid before Italy, thus becoming OMT eligible, we would expect the short-end spreads between Spain and Italy to be tighter than the longer-dated ones. Even considering that these bonds will soon fall out of the OMT purchasing basket (1y-3y), this does not justify spreads of more than 100bp for such shortdated time horizons. Let’s not forget that political concern about Italy will intensify as we approach the Italian elections in 2013. And as we no longer find 10y spreads at these entry levels attractive, we prefer positioning ourselves for a compression in the Apr-14 spread between Bonos and BTPs. The spread is currently at 110bp and we are targeting a return to 80bp. The move in the CDS basis, shown in Chart 3, also favours tighter cash spreads at the short end. Under such a scenario, Spain is expected to outperform versus Italy based on its higher beta and its tendency to outperform in rallies and underperform in sell-offs. The Spanish auction on Thursday went well, and the size was above the pre-announced range. The supply rollercoaster continues with Italy in the week ahead, and this could work in favour of the compression trade at the short end of the curve. Chart 4: 1y and 2y Spain Basis: Inversion Move Back to Late July Lows 300 250 200 150 100 50 0 -50 June EU Summit -100 Draghi's + cash cheap comment -150 Mar-12 Apr-12 Apr-12 May-12 Jun-12 Jul-12 Jul-12 Aug-12 Sep-12 1y CDS basis Source: BNP Paribas 140 120 100 80 60 40 20 cash rich ECB Aug Meeting 2y CDS basis ECB Sep Meeting Chart 5: Spanish/Italian Yield Spreads 10-2013 4-2014 10-2014 4-2015 7-2015 0 01-Aug 08-Aug 15-Aug 22-Aug 29-Aug 05-Sep 12-Sep 19-Sep Source: BNP Paribas 250 200 150 100 50 0 10-2013 Chart 6: Spanish/Italian Spreads – 3m Candlestick Bono/BTP Spreads in Yield - 3m Range vs Current Spread 4-2014 10-2014 Source: BNP Paribas 4-2015 7-2015 4-2016 10-2016 7-2017 7-2018 10-2019 10-2020 4-2021 1-2022 Eric Oynoyan / Ioannis Sokos 20 September 2012 Market Mover 29 www.GlobalMarkets.bnpparibas.com
Page 1 and 2: Market Economics | Interest Rate St
Page 3 and 4: Spain set to present its new budget
Page 5 and 6: The methodology All of the above in
Page 7 and 8: Ireland: What to Expect When You Ar
Page 9 and 10: Spain: Inching Closer to a Request
Page 11 and 12: UK Inflation: No Pressure • UK in
Page 13 and 14: US Housing: New Channels for Policy
Page 15 and 16: Japan: The Eastern Fiscal Cliff •
Page 17 and 18: an agreement that all budget-relate
Page 19 and 20: This section is classified as non-o
Page 27: This section is classified as non-o
Page 33 and 34: Table 1: BNP Paribas' Inflation For
Page 35 and 36: Table 3: BNP Paribas' Inflation For
Page 43 and 44: Economic Calendar: 21 - 28 Sep (con
Page 45 and 46: Key Data Preview Chart 1: UK Cumula
Page 47 and 48: Key Data Preview Chart 5: German He
Page 49 and 50: Key Data Preview Chart 9: German ES
Page 51 and 52: Key Data Preview Chart 13: Japanese
Page 53 and 54: Key Data Preview 7000 6500 6000 550
Page 55 and 56: Treasury and SAS Issuance Calendar
Page 57 and 58: Central Bank Watch Interest Rate EU
Page 61: For Production and Distribution, pl

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