Strategy Snapshot - Credit Suisse

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Strategy Snapshot Global Strategy

Low yields no barrier to a risk recovery July’s rally of both risky assets and US rates appears to present a paradox of equity markets calling for recovery, while Treasuries appear to be calling for a “double dip.” We think no such paradox exists and the current outlook in rates simply reflects market expectations for much easier monetary policy for far longer than previously anticipated. Empirical evidence in the TIPS market and forward rates markets supports this view.

In this environment, we expect both spread product and rates to continue to trade well. Equity markets, as well, appear to be embracing lower rates, boosting the performance of several ETFs that contain higher-dividend-paying companies relative to the S&P 500.

Our Japan rates strategist presents his views on the Japanese experience with a concave-up yield curve, and we explore trades that can profit should the US curve develop such a shape. Additionally, we add to duration longs in US rates in our recommended portfolio and expire a long copper trade in the money.

Elsewhere, our FX strategists conclude that the USD weakness seen in recent weeks is likely to continue and the market appears to be unprepared for further JPY strength. Our European credit strategists shift to a tactical long risk position in Itraxx Main versus Itraxx Xover and CDX IG. The US Mortgage Strategy team discusses the prospects for a government-induced, refi shock and favors a long basis position in US agency MBS.

Exhibit 1: View summary Strongest View Preferred Expression Market Strategy Don’t fight the carry provided by the Fed. Easy money policy will prove to be

supportive of long duration, long spread, and long risk trades. We add duration through TYZ0 124-127 call spreads and establish 1/3 of a position that benefits from a concave-up shape in US rates.

FX Short the USD. In our August FX Monthly we argue the mix of rising risk appetite and falling US yields is bad for the USD and good for the JPY.

Commodities The natural gas commodity curve is too flat. Sell October 2010 / Buy January 2011 Natural Gas EM No more rate hikes by Brazilian CB. Long receiver options on Jan 12 PRE-CDI contracts, long NTNBs

and NTNFs in the ten-year sector USD Rates As expectations for Fed tightening are pushed further into the future, we expect the

yield curve to become increasingly concave. This would be consistent with the Japan experience. First the spot short rate declines fastest, then the near-term forwards, then slightly longer expiry forwards and so on. This process leads to a flattening of the curve at the front end that slowly but surely creeps out to the belly of the curve and eventually beyond.

Our favored trade is the 3s4s5s tightener, six months forward as recommended in the July 22 US Interest Rate Strategy Weekly.

EUR Rates We expect the positive cash flows in August to support peripheral spread tightening. Buy 10y Spain vs. Austria. JPY Rates Higher possibility that JGB ten-year yields fall below 1.0%. JGB 5y/10y flattener, long ten-year swap spreads. EUR Credit Reduced systemic concerns and improved sentiment should benefit iTraxx1 main

given its underperformance this year on sovereign and financial concerns. Long iTraxx Main, short iTraxx Crossover.

We expect the improvement in outlook for Europe relative to US to be reflected in the relative performance of the investment grade credit markets.

Long iTraxx Main, short CDX IG.

MBS Long MBS basis to swaps. Buy 30-year 4s versus 5-year swaps (using 91% hedge ratio). Technical Analysis Risk on, euro recovery and US$ erosion. Long EUR/USD for 1.3510. Source: Credit Suisse

1 iTraxx is a trademark of International Index Company Limited.

03 August 2010Fixed Income Research

http://www.credit-suisse.com/researchandanalytics

Contributors

Credit Suisse Fixed Income Strategy Teams

(see inside for contributor names

03 August 2010

Strategy Snapshot 2

Table of Contents Recommended Strategies 3

Overlay Portfolio 9

Global Strategy 12

FX 13

Commodities 15

US Rates 17

European Rates 18

Japan Rates 19

European Credit 19

US Mortgages 21

Emerging Markets 22

Technical Analysis 23

Systematic Strategies 25

03 August 2010

Strategy Snapshot 3

Recommended Strategies Over the past month, many investors have been puzzled over the seeming contradiction between equity and risky asset prices and bond prices. The S&P 500 now trades north of 10% off of its July 2 lows, while the ten-year Treasury has rallied by 8 bp in the same time, and 110 bp from its April highs. As the argument goes, either the bond market is right or the equity market is right, but both cannot possibly be correct.

Such a statement assumes at its core that US rates are pricing in the dreaded “double dip” scenario, that the US economy will once again plunge into a deflationary period, and that policymakers will be required to engage in fiscal stimulus and new and creative attempts at quantitative easing. These scenarios have been addressed extensively by our economics and global strategy teams, and are not in their baseline forecasts. There is, however, another possibility that rationalizes the performance of bonds to equities and risky assets. Simply put, the market is coming to the realization that while the probability of a double dip is low, the tail risk presented to it is so severe that policymakers are not willing to risk such an outcome. In this scenario, monetary policy would err on the easy side until signs of inflationary pressure mount.

Evidence for this scenario can be found in several markets. The most obvious expression of the view comes from the US rates market, where forward short rate expectations are declining, while longer-dated rate expectations are rising. Exhibit 2 below illustrates this by plotting the 2y swap rate two years forward, ten years forward, and the spread between the two (right axis). The decline in 2y2y rates in recent months indicates market expectations for lower rates for longer. By contrast, the 10y2y rate has stabilized in recent weeks and is now rising, trading at levels last seen in late May 2010. The spread between them, meanwhile, has widened to 253 bp and threatens the 265 bp high last seen in 2003. By contrast, the experience in 2008 would suggest that recessionary fears would likely result in a flatter curve from 10y2y – 2y2y.

Exhibit 2: Forward rate expectations are rising 2y2y, 10y2y, and 10y2y - 2y2y spread

1

2

3

4

5

6

7

8

9

Sep-95 Sep-97 Sep-99 Sep-01 Sep-03 Sep-05 Sep-07 Sep-09-100

-50

0

50

100

150

200

250

300

2y10y 2y2y 2y10y - 2y2y

Source: Credit Suisse

The TIPS market provides some additional confirmation that current bond market pricing does not reflect recessionary fears (see Exhibit 3). In 2008, one of the most notable trades that took place in the US rates market was a severe compression of TIPS breakeven spreads to zero and even negative levels. This was partially driven by the relative illiquidity

Sean Shepley Managing Director +44 20 7888 1333

[email protected]

David Homan Director

+1 212 325 5134 [email protected]

03 August 2010

Strategy Snapshot 4

of the TIPS market as levered investors unwound positions, but too, it marked a shift in sentiment in investor expectations for forward inflation. During this period of time, real yields rose as nominal rates fell, compressing the spread. By contrast, in recent months TIPS breakevens have declined, reflecting moderation of inflationary views, but have stabilized at relatively wide levels (182.5bp in ten-years). More notable, in our view, is that TIPS are able to sustain a rally to lower real yields, albeit at a slower pace than their nominal counterparts.

Exhibit 3: Real yields are falling Five- and ten-year real yields and five-year nominal yields in Treasuries

-1.0

0.0

1.0

2.0

3.0

4.0

5.0

Aug-07 Feb-08 Aug-08 Feb-09 Aug-09 Feb-10

Yiel

d %

5yr Real Yield 10yr Real Yield 5yr Nominal Yield Source: Credit Suisse

Even the equity markets in the US seem to be embracing the carry story. Consider, for example, the relative performance of two high-dividend-paying ETFs in the US versus the S&P 500. The first is the SDY, which replicates the S&P High Yield Dividend Aristocrats Index, and the second is XLU, a utilities ETF. The SDY trades with a 3.38% dividend yield, while the XLU trades with a 4.06% dividend yield. Both offer high pickups relative to the SPY, which trades at 1.87% yield. Since the April 5, 2010 peak in US Treasury yields, the SDY has outperformed SPY by 4.1%, while XLU has outperformed SPY by 8.2%.

Exhibit 4: Equity markets have shown a preference for yield too Relative performance SDY, XLU versus SPY

0.85

0.90

0.95

1.00

1.05

1.10

Aug-09 Nov-09 Feb-10 May-10 Aug-10

Rel

ativ

e pe

rform

ance

ver

sus

SP

Y

SDY vs SPY XLU vs SPY Source: Credit Suisse

03 August 2010

Strategy Snapshot 5

In such an environment, where expectations for Fed tightening are pushed out further and further on the curve, and real yields are declining, we would expect that demand for yield and spread will remain strong. Barring another systemic shock, pullbacks in prices caused by shifts in investor sentiment are likely to present excellent buying opportunities in spread product such as corporates and emerging markets, where the fundamental story for performance remains strong. In our opinion, carry trades in the rates markets are not to be fought as long as Fed policy remains friendly.

One other potential outcome if the Fed does indeed keep rates low for a very long time is the development of a “concave-up” yield curve (i.e., the second derivative of yields with respect to maturity is positive). Our Japan Rates Strategist presents his thoughts on the Japanese experience with this curve shape below. We follow with some ideas that we expect to perform should a concave-up curve develop in the US. Elsewhere, in the overlay portfolio, we add to our long duration position in US rates and expire our long copper trade in the money.

A concave-up yield curve – the Japanese experience In the US Treasury market, the intermediate-term sector has been outperforming the curve and the yield curve is getting much more concave-up as expectations for prolonged on-hold monetary policy by the Fed grow. As Bernanke suggested during his latest testimony, modifications in wording for the current policy duration could be a possibility in the future. We think this would cause a significant change in yield curve formation.

Looking at past episodes in Japan, we find that after the BoJ introduced quantitative easing with a strong policy duration commitment linked to CPI growth, the JGB yield curve became a concave yield curve.

While environments are different between the US now and the episode in Japan in various ways, we think it is worth reviewing the Japanese experience, particularly how the concave-up curve emerged and how it was justified.

Exhibit 5: JGB 2y/5y/10y butterfly spread (= 2y5y/3 – 5y10y/5)

0.40.60.81.01.21.41.61.82.02.22.4

12/97 12/99 12/01 12/03 12/05 12/07 12/09

10y

JGB

yie

ld (%

)

(15)

(10)

(5)

0

5

10

15

2y/5

y/10

y sp

d (b

p)

JGB 10y (LHS)2y5y/3 - 5y10y/5 (RHS)

introduction of QE(19 March 2001)


The BoJ introduced "a strong commitment in terms of policy duration" when it introduced "Quantitative Easing" on March 19, 2001, stating that "the new procedure will continue until the CPI registers stably a zero percent or an increase year on year." Since then, the new yield curve emerged: a concave-up yield curve in an upward slope environment.

After the market realized how strong the impact of the commitment was, the short end of the curve stabilized significantly, which resulted in a flattening of the 2y/5y part of the

Kenro Kawano Director

+81 3 81 3 4550 9498 [email protected]

The JGB curve exhibited a concave

shape after the introduction of “policy duration commitment”

Strong policy duration commitment by the BoJ

mailto:[email protected]�

03 August 2010

Strategy Snapshot 6

curve. Meanwhile, in contrast, considering the possibility that the BoJ would fall behind the curve when it was necessary to exit policy, there were significant uncertainties about what might happen before the explicit commitment was fulfilled. The uncertainties made the volatility of the long end higher at first.

However, as time passed, the stability of the short end extended toward longer duration, which eventually made the yield curve bull flatten. The curve flattening of 5y/10y part of the JGB curve actually started in August 2002. The bullish flattening in the over ten-year part of the curve occurred only after ten-year JGB yield fell below 1% in December 2002.

Exhibit 6: JGB10y yield and 10y/20y, 5y/10y and 2y/5y spreads

0.40.6

0.81.0

1.21.4

1.61.8

2.0

9/30/00 9/30/01 9/30/02 9/30/03

10y

yiel

d (%

)

0

15

30

45

60

75

90

spre

ad (b

p)

JGB 10y yield (LHS) JGB 5y/10y spd (RHS)JGB 10y/20y spd (RHS) JGB 2y/5y yield (RHS)

introduction of QE (19March 2001)

over-10y flatteningstarted in Dec 2002


In gauging a possibility of a concave-up yield curve in an upward slope environment, we think it is important to consider the term structure of the volatility, which probably expresses relative risks and uncertainties between the sectors.

At first, shorter duration volatility started to decline. Look at the term structure of historical yield volatility, volatilities in the short end declined first, while those of the long end increased because of future uncertainties under the policy.

We think the concave-up yield curve was justified because of the changes of the term structure of the volatility. In fact, if we draw a risk-return profile of the curve, we got a straight line even though the normal yield curve with years to maturity on the x-axis showed a concave shape. In the exhibit below, we take price volatility using 1m historical yield volatility as risk and six-month carry and rolldown as return.

Exhibit 7: Risk/return profile (15 August 2001) Exhibit 8: 1m historical yield volatility

0.0%

0.2%

0.4%

0.6%0.8%

1.0%

1.2%

1.4%

1.6%

0.00% 0.05% 0.10% 0.15% 0.20% 0.25%daily volatility

6m c

arry

+ ro

lldow

n (e

xpec

ted

retu

rn)

8/15/2001

5yr

10yr

7yr3yr

0.0

1.0

2.0

3.0

4.0

5.0

0 5 10 15 20years to maturity

Yie

ld V

olat

ility

(bp/

day)

9/14/01 8/15/015/1/01 2/28/01

Source: Credit Suisse Source: Credit Suisse

The JGB curve steepened in over five-

year sector at first

Changes in term structure of yield

volatility

03 August 2010

Strategy Snapshot 7

One reason for the bullish flattening in the 5y/10y and over ten-year sectors was substantial demands for carry profits as well as capital profits by domestic banks. At that time, domestic banks suffered a huge amount of losses from non-performing loans and needed to accumulate profits to cancel out the cost of write-offs. Domestic banks led the bullish flattening of the curve.

During the period, as bank shares weighed on the Japanese equity markets, the Nikkei index continued to fall until May 2003, when the government decided to nationalize one of the mega banks.

Exhibit 9: Nikkei 225 and USDJPY

5000

10000

15000

20000

1/5/98 5/20/99 10/1/00 2/13/02 6/28/03 11/9/04 3/24/06

NKY

708090100110120130140150

USD

JPY

NKY (LHS)USDJPY (RHS)

Introduction of QE


Also we should note that, even during the period the JGB yield curve was under the strong policy duration commitment, the JGB market experienced market corrections from time to time. However, these corrections happened when the intermediate-term sector faced substantial selling pressure and showed fragility.

This time around, the JGB curve has already entered into a concave-up shape without any explicit commitment by the BoJ. We think this is largely because Japanese investors strongly believe what will happen under the current circumstances. While the UST curve has appeared to start pricing in a prolonged on-hold policy, the JGB curve is likely to move in a different manner, i.e., bullish flattening.

Positioning for concavity Investors who believe that the US yield curve will develop the concave-up shape characteristic of Japanese rates can position for this trade in several ways. The simplest expression of the trade is to simply receive the belly on almost any butterfly spread on the yield curve. As Exhibit 10 shows, carry on these positions is flat to slightly positive on a three-month horizon and is increasing. The extent of the recent performance of the butterfly spreads may give some investors pause, however. Consider, for example, that 2s5s10s has moved from an average spread of 26.5bp in April to -3 bp as of the time of this publication.

It is understandable that many investors would hesitate to enter trades that favor further outperformance of bullets versus barbells when valuations appear to be at extremes. Nonetheless, we expect that further rally in yields will likely result in exactly this outcome. Accordingly, we favor trade implementations done conditionally upon a rally, using the strike of the belly to achieve a zero-cost structure. Exhibit 11 and Exhibit 12 consider two such implementations of the 3y5y7y and 3y7y10y butterflies, respectively, for six-month expirations. Wing strikes are chosen 25 bp out of the money, and the belly is struck 32 bp out of the money in 3y5y7y and 34.25bp out of the money for 3y7y10y.

No positive impact on equity markets

03 August 2010

Strategy Snapshot 8

There is no free lunch, of course, and option pricing reflects the possibility of a concave-up shape developing in these flys over the next six months. Nonetheless, the conditional and zero-cost nature of the structures appeal to us, and we would recommend establishing one-third of a target position at these levels today, with the goal to add if pricing improves after Friday’s non-farm payrolls. The risk on these trades is potentially unlimited in scenarios where all three strikes are in the money and the butterfly spread does not trade at lower spread levels than implied by the strikes.

Exhibit 10: Three-month carries for forward-starting fly tighteners


Exhibit 11: Trade detail: Buying 32bp OTM 6m5y receiver versus selling 25bp OTM 6m3y receiver and 25bp OTM 6m7y receiver for zero cost B/S NPA Instrument Expiry Tenor Strike ATMF Spot DV01 ($) Vega ($) Gamma ($) Sell 81MM 25bp OTM Receiver 6m 3y 1.070 1.320 1.012 23,955 -6,016 -219 Buy 100MM 32bp OTM Receiver 6m 5y 1.715 2.035 1.709 -47,914 11,978 323 Sell 37MM 25bp OTM Receiver 6m 7y 2.336 2.586 2.315 23,958 -6,324 -160 0.011 0.081 0.046 0 -362 -56 Source: Credit Suisse

Exhibit 12: Trade detail: Buying 34.25bp OTM 6m7y receiver versus selling 25bp OTM 6m3y receiver and 25bp OTM 6m10y receiver for zero cost B/S NPA Instrument Expiry Tenor Strike ATMF Spot DV01 ($) Vega ($) Gamma ($) Sell 111MM 25bp OTM Receiver 6m 3y 1.070 1.320 1.012 32,508 -8,163 -298 Buy 100MM 34.25bp OTM Receiver 6m 7y 2.246 2.589 2.315 -65,017 16,092 412 Sell 37MM 25bp OTM Receiver 6m 10y 2.835 3.085 2.876 32,508 -8,617 -211 0.294 0.387 0.371 0 -688 -97 Source: Credit Suisse

03 August 2010

Strategy Snapshot 9

Overlay Portfolio We review the performance and update our views on trades recommended in recent weeks below.

Three-month USD worst of AUD, CHF, JPY option

Recommendation: HOLD Established: 27-July-2010

In last week’s Strategy Snapshot, we noted our bearish view on the USD and suggested investors buy a worst-of option that shorts the USD versus the AUD, CHF, and JPY. The three-month worst-of struck ATM spot cost 0.42% of the notional amount, versus 2.32% for an average of the three vanilla options. At expiration date, the option returns the maximum of zero or the worst performing currency’s performance versus the US dollar. On a mark-to-market basis, the option is now worth about 0.63% of face as the dollar fares poorly against other major trading partners. We recommend investors hold this position as we expect further weakness in the US dollar in the months to come.

Buy upside in SPX funded with ten-year Treasury puts Recommendation: Exit 50% at a 400k profit Established: 13-July-2010

Two weeks ago, we suggested that investors buy SPX upside using 1110 strike August calls on $50mm notional versus selling $152mm 3.25% (102-02+) strike puts on cash ten-year Treasuries for zero cost. The weightings were based on our factor analysis across a variety of different markets that suggested a 1% move in the SPX should correspond to about a 4bp move in ten-year Treasuries. We think it is likely that a lower-for-longer view on easy Fed policy will keep Treasuries supported, and tame inflation prints should prevent a severe sell-off in Treasuries in the short term. Against this backdrop, we believe it still remains possible for equities to stage a good performance off of recent lows as long as our economists’ view for economic recovery to continue is not severely disrupted. We summarized our view as “the best short in Treasuries is a long in the S&P 500.”

Assuming a spot reference of 105-02 on ten-year Treasuries (2.90% yield) the Treasury option is currently offered at 4.5/32nds. Meanwhile, with the S&P e-Mini futures contract at 1119, the SPX option trades on the bid side at 22.5. This implies total profit of $800k USD on the combined trade, which corresponds to a 6bp yield profit on $150mm ten-year Treasuries, or 1.6% in SPX returns. We recommend taking profit on 50% of the position with an eye to run the remaining 50% into expiration.

Receive 2y EUR Spreads/Pay 10y EUR Spreads

Recommendation: HOLD Established: 13-July-2010

We suggested that investors receive 2y EUR spreads versus paying 10y EUR spreads as an expression of renormalization of funding stress and risk ahead of the results of the European financial stress tests. Our expectation was for forward EURIBOR to fall relative to EONIA should the stress tests garner a positive reception from investors, and two-year swap spreads would likely compress relative to ten-year spreads. We recommended entry around a 42.5bp level on the spread (Exhibit 13) and the spread now trades around 37bp for a 7.5bp gain. We suggest bullish investors hold the position at current levels, and target an exit point in the mid 20s.

David Homan Director


Sean Shepley Managing Director +44 20 7888 1333

[email protected]

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03 August 2010

Strategy Snapshot 10

Exhibit 13: EUR swap spreads are renormalizing 2s-10s EUR swaps less 2s-10s German sovereign curve (bp)

-10

0

10

20

30

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50

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70

Aug-06 Feb-07 Aug-07 Feb-08 Aug-08 Feb-09 Aug-09 Feb-10 Aug-10


Buy Call Spreads on TYU0 / Buy 6m10y Receiver Spreads Recommendation: ADD 50% of initial position size Established: 4-May-10 History: ROLL 30%-50% and ADD to position on 20-July-2010 @ 49/64ths ROLL Balance of position on 27-July-2010 @ 30/64ths

We have advocated long duration positions in US rates since early May and continue to like long duration trades with a focus on TYZ0 call spreads as a limited risk way to establish longs. From July 20-July 27, we advocated investors roll existing positions in TYU0 call spreads into TYZ0 124-127 call spreads and increase their size. We recommended averaging in with this new position at a net price of about 39.5/64ths. As of the time of this publication, TYZ0 traded at 122-30+ and the call spread was valued at 53/64ths mid-market. We continue to like longs and suggest adding on strength at these levels, effectively doubling the risk from May.

Pay 6m1y AUD / Receive 6m5y AUD Recommendation: Hold with a 55bp stop, target 30bp-25bp Established: 22-Jun-10

History: Added 50% to Position on 12-July at 45bp

We initially recommended 6m1y- 6m5y AUD yield curve flatteners on June 22 at a level of 57.5bp and added to the recommendation recently at 45bp. The CPI report on July 28 did not prove to be the catalyst for further flattening, as we had anticipated. Indeed, if anything, CPI printed on the tame side and resulted in a modest retracement of the yield curve from the lows of 39bp to 43bp. Our Australian Rates strategists are now focused on August SoMP forecasts, due for release on August 6, as the next indicator of inflation expectations and a guide for monetary policy.

On balance, our Australian strategists continue to be biased to higher rates in the antipodes, and as such, we retain our flattening curve view, but we will stick with a 55bp yield curve stop on the recommended position should we be wrong.

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03 August 2010


Exhibit 14: AUD curve continues flattening trend 6m1y - 6m5y Yield Curve

-50

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50

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250

Jul-07 Nov-07 Mar-08 Jul-08 Nov-08 Mar-09 Jul-09 Nov-09 Mar-10 Jul-10


Buy 1y GBPAUD 2.2415 One-Touch Call

Recommendation: HOLD Established: 22-Jun-10

On June 22 we recommended that investors buy the 2.2415 one-year, one-touch call for 15% on GBPAUD as a long-term fair value play. While we are fundamentally bullish on commodity prices and the AUD, we think that GBPAUD upside is at attractive levels and we would expect the cross to perform well in periods of market concern over growth. Since June 22 GBPAUD has ranged from 1.70 to 1.7522 and the one-touch option is about unchanged.

Buy Copper Calls and Call Spreads

Recommendation: EXPIRED at a profit Established: 15-Jun-10

On June 15 we had noted the dramatic underperformance of industrial metals in recent weeks and suggested that stabilization of risk appetite, combined with our expectations for continuing growth in China, could result in a recovery of the asset class. With LME spot prices at 6654, we suggested investors buy the August 7000 call, 7000-7500 call spread, or 7000-8000 call spread as ways to position for recovery. At the time of publication these call structures cost $290, $145, and $215. LME spot copper settled on expiration date at $7485, implying a per-contract profit of $195, $340, and $270, respectively.

Sell 12-month USD/CNY NDF

Recommendation: HOLD Established: 15-Jun-10

Our recommendation to short the 12-month USD/CNY NDF on June 15 was based on our belief that the market was pricing a relatively low degree of appreciation in the CNY, that global growth would remain intact, and that pressure from the US Congress on China to allow its currency to appreciate would gain traction. USD/CNY continues to trade lower from levels that prevailed on June 15, and we would hold this position.

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03 August 2010


Global Strategy The July PMIs are consistent with a further slowdown in global growth momentum, with a five-point drop in ISM New Orders (the most important lead indicators for global production) but also show some noteworthy divergence at the country level. While the PMIs for Japan, Brazil and the US declined, India and China moved sideways and a pickup in the euro area, UK and Russian PMI New Orders actually points to stronger Q3 European output.

It’s also worth noting that although macro data have overall continued to weaken, recent releases have started to beat expectations. Our economists’ data surprise index is showing a rebound for both the US and Europe. This is consistent with the notion that we have passed the peak of uncertainty that has dominated markets in past months. We think we will likely see a stretch of weaker output growth as a result but if uncertainty further dissipates, growth momentum should recover strongly into 2011. We have changed our Global IP forecast to reflect this and now expect Global IP Momentum to slow from 10% in July to about 4% in Q4 before rebounding (see our Global IP Scorecard for more details).

The risk-on trade carried on in the past week even as G3 bonds re-rallied. G3+ ten-year yields are back at their early-July levels, although the S&P 500 has risen 10% since, CDX IG spreads are back below 100bp and commodities, industrial metals in particular, have seen strong gains. Despite the strong bond performance, global risk appetite has risen to -0.3 but remains at overall depressed levels relative to the growth backdrop. Equity-only risk appetite (which excludes bonds) continues to outperform global risk appetite and has risen to +1.2.

Exhibit 15: Global Risk Appetite and Global IP Momentum

Exhibit 16: G3 and BRIC PMIs

-24%-20%-16%-12%

-8%-4%0%4%8%

12%

16%20%

97 99 01 03 05 07 09 11-10

-8

-6

-4

-2

0

2

4

6

Global IP Momentum

Global Risk Appetite (daily, rhs)

20

25

30

35

40

45

50

55

60

65

Jun-08 Dec-08 Jun-09 Dec-09 Jun-10

US Brazil

Euro Area China

India Russia

Japan


James Sweeney Director


Matthias Klein Vice President


http://doc.research-and-analytics.csfb.com/docView?language=ENG&source=ulg&format=PDF&document_id=857353091&serialid=QMEfTscl7vZ94n1XMJPij7BbEEFfyJVKXxjI1copkb4%3d�

03 August 2010


FX USD: revenge of the cycle In our August FX Monthly published yesterday, we argue the mix of rising risk appetite and falling US yields is pushing markets back into a dollar-funded carry trade. Our focus is on USD weakness vs. the antipodeans and the higher carry elements of emerging markets, the SEK, and the GBP. However, we also see further yen strength with a breach below 85 to the dollar a distinct possibility.

We read Exhibit 17 comparing the current USD bear market with the 1985-1995 USD bear market as supporting our view. This comparison is appropriate because balance sheet destruction in the wake of a property market bust is the core problem for the USD in both cycles, in our view. A key difference it is that the current bust is much larger than the 1988-1992 bust.

We draw several broad take-aways from this comparison of cycles.

1) The dollar’s lack of yield should keep it weak, if not weaken it somewhat further, for at least the next year.

Exhibit 17: The USD is following its historical bear market pattern...

Exhibit 18: ...An implication is bouts of drift similar to January- 2 August 2010

Bank of England USD trade-weighted index, rebased to 100 at peaks Returns to an equally weighted basket of CS FX Metrics FX styles portfolios

50556065707580859095

100

1 201 401 601 801 1001120114011601180120012201240126012801

From Feb 1985 peak

From Jan 2002 peak

Days from peak in USD TWI

|

29-Jan-10 01-Mar-10 31-Mar-10 01-May-10 31-May-10 01-Jul-10

0.975

1.000

1.025

Carry Momentum Benchmark Source: Credit Suisse, the BLOOMBERG PROFESSIONAL™ service Source: Credit Suisse Locus

2) The historical pattern is that USD weakness at this stage of the cycle comes mainly in fits and starts in an otherwise choppy, low momentum market. Our August 2 FX Metrics report highlights this point, showing that FX as an asset class is essentially flat for the year2. Why is G10 FX so relatively directionless?

• With the Fed, ECB, and the BoJ on hold within 100bp of each other, arguably through this side of the Olympics, core G10 FX lacks an underlying driver.

• Valuation is no longer an overwhelming driver for the USD vs. the G10 because the USD is no longer expensive to our estimates of fair value (Exhibit 19). In contrast, we estimate the dollar remains expensive to much of the EM FX universe and specifically Asia.

• Neither M&A nor equities has provided a large trend flow to drive G10 FX this year outside of the AUD, which has received significant M&A inflows (Exhibit 20).

2 Our equally weighted FX styles index is up 1.0% year to date through August 2 including carry but excluding transactions costs.

Ray Farris Director


Daniel Katzive Director


http://doc.research-and-analytics.csfb.com/docView?language=ENG&source=ulg&format=PDF&document_id=857303961&serialid=rUECSaVhchfWp918ena3JmbG75NmiVMSPKkgZ5CY1cc%3d�

http://doc.research-and-analytics.csfb.com/docView?language=ENG&source=ulg&format=PDF&document_id=803429540&serialid=dA%2byLWb9mtjQ%2fKSZb6TUyHUFFHTiXVpwK6gDBQWOJMw%3d�

http://doc.research-and-analytics.csfb.com/docView?language=ENG&source=ulg&format=PDF&document_id=803429540&serialid=dA%2byLWb9mtjQ%2fKSZb6TUyHUFFHTiXVpwK6gDBQWOJMw%3d�

03 August 2010


Exhibit 19: USD has fallen from expensive to fair value in 2002 to slightly cheap

Exhibit 20: M&A flows remain modest so far this year

CS Fair Value estimates for Fed USD major currency trade-weighted index

65

75

85

95

105

115

125

135

145

1984 1988 1992 1996 2000 2004 200865

75

85

95

105

115

125

135

145USD TWI "Majors" FV +/-1 StDev

Swiss

Can Jpn

NorEur Swe

USUK

Aus

China Brazil

-2.0%

-1.5%

-1.0%

-0.5%

0.0%

0.5%

1.0%

1.5% 2010 net M&Aannouncements, %nominal GDP

Source: Credit Suisse Source: Credit Suisse, the BLOOMBERG PROFESSIONAL™ service

Finally, we note that the capitulation that called the bottom of the 1985-1995 dollar bear market came via a surge in the yen. Although the parallels with today are by no means perfect and we think it is far too early for the dollar to bottom compellingly, the potential for USDJPY to trade below our three-month forecast of 85 as US rates fall is high:

• We believe that the market is not positioned for yen strength. If anything, much of the speculative market still loves to hate the yen. The divergence between USDJPY risk reversals and spot over the past month suggests investors have been buying JPY topside options rather than embracing yen strength.

• Although our model of USDJPY based on interest rate spreads and equities suggests USDJPY should trade at about 88 for US 2y Treasury yields at 40bp, the pair would not be two standard deviations below this point estimate until about 82.

Exhibit 21: The market still loves to hate the JPY

30-Sep-09 30-Dec-09 31-Mar-10 01-Jul-10

-0.03

-0.02

-0.01

0.00

87.5

90.0

92.5

95.0

USDJPY 1m 25 delta risk reversal USDJPY (RHS) Source: Credit Suisse Locus

03 August 2010


Commodities Natural Gas Calendar Spread Trade (Sell Oct10/Buy Jan11) We suspect that some of the recent strength in the front of the natural gas curve has been bolstered by positions on calendar spreads. Given our views on fundamentals, we expect the curve to steepen and therefore recently recommended that investors consider a calendar spread.

• Last week, Oct10/Jan11 recorded the tightest all-time spread moving in by $0.235 wow to settle at -$.457 or a staggering 34% correction. The only fundamental reason the curve would flatten to such a degree would be a short-term event that would significantly tighten the balances. Certainly, the current strong cash environment would suggest that electric power demand might be significant enough to warrant such a move. Alternatively, the expectation that Gulf-based hurricanes would temporarily disrupt supply would also flatten the curve. However, in our view, these events are transitory and would not significantly impair end-of-season storage levels; therefore, the curve is simply too flat at the moment.

• We believe that the curve should steepen under most market scenarios (i.e., full or even insufficient end-of-season storage). For example, last year (“full storage scenario”), the expectation of full storage allowed the Oct/Jan spread to widen significantly from an average level of -$1.75 during the summer to -$2.31 when the cash market collapsed in early September. In 2005 (“hurricane scenario”), the Oct/Jan spread tightened by 28% during the week Hurricane Katrina hit the coast; however, the spread widened significantly thereafter as the market became pre-occupied with winter reliability. The year following in 2006, the market’s concerns about supply disruptions kept the Oct/Jan spread at an average price of -$3.55 for the injection season, with the spread further widening in September (the peak-hurricane month).

• We note that the Oct/Jan contract has begun to correct and therefore recently recommended that investors consider selling the October 2010 contract and buying the January 2011 contract at -$0.55 or better. We would risk $0.15 on the spread (stop/loss exit at -$0.40) and take profit at -$0.80 or better.

Exhibit 22: US working gas in storage, end-of-month balances (Bcf)

2009/2010 2008/2009 2007/2008 2006/2007 2005/2006 2004/2005 5-Year

Average NOV 3,833 3,346 3,442 3,407 3,189 3,245 3,326 DEC 3,131 2,840 2,879 3,070 2,635 2,696 2,824 JAN 2,319 2,141 2,056 2,383 2,371 1,994 2,189 FEB 1,696 1,761 1,465 1,652 1,886 1,564 1,665 MAR 1,660 1,656 1,266 1,603 1,692 1,284 1,500 APR 1,995 1,903 1,436 1,723 1,945 1,499 1,701 MAY 2,395 2,367 1,840 2,181 2,310 1,875 2,115 JUN 2,395 2,752 2,178 2,583 2,617 2,197 2,465 JUL 2,956 3,086 2,517 2,896 2,779 2,450 2,746 AUG 2,956 3,352 2,866 3,021 2,969 2,662 2,974 SEP 3,530 3,643 3,161 3,315 3,323 2,932 3,275 OCT 3,804 3,807 3,399 3,565 3,452 3,194 3,484 Source: EIA and Credit Suisse estimates

Edward Morse Managing Director


Ric Deverell Director


Teri Viswanath Director


03 August 2010


Exhibit 23: The Oct10/Jan11 spread appears too flat

$(1.25)

$(1.15)

$(1.05)

$(0.95)

$(0.85)

$(0.75)

$(0.65)

$(0.55)

$(0.45)

1-Fe

b-07

1-A

pr-0

7

1-Ju

n-07

1-A

ug-0

7

1-O

ct-0

7

1-D

ec-0

7

1-Fe

b-08

1-A

pr-0

8

1-Ju

n-08

1-A

ug-0

8

1-O

ct-0

8

1-D

ec-0

8

1-Fe

b-09

1-A

pr-0

9

1-Ju

n-09

1-A

ug-0

9

1-O

ct-0

9

1-D

ec-0

9

1-Fe

b-10

1-A

pr-1

0

1-Ju

n-10


Exhibit 24: High storage outlook (Oct09-Jan10) Exhibit 25: Low storage outlook (Oct08-Jan09)

$(2.50)$(2.35)$(2.20)$(2.05)$(1.90)$(1.75)$(1.60)$(1.45)$(1.30)$(1.15)$(1.00)$(0.85)$(0.70)$(0.55)

3-O

ct-0

5

3-Fe

b-06

3-Ju

n-06

3-O

ct-0

6

3-Fe

b-07

3-Ju

n-07

3-O

ct-0

7

3-Fe

b-08

3-Ju

n-08

3-O

ct-0

8

3-Fe

b-09

3-Ju

n-09

$(2.50)$(2.35)$(2.20)$(2.05)$(1.90)$(1.75)$(1.60)$(1.45)$(1.30)$(1.15)$(1.00)$(0.85)$(0.70)$(0.55)

3-O

ct-0

5

3-Ja

n-06

3-Ap

r-06

3-Ju

l-06

3-O

ct-0

6

3-Ja

n-07

3-Ap

r-07

3-Ju

l-07

3-O

ct-0

7

3-Ja

n-08

3-Ap

r-08

3-Ju

l-08


Exhibit 26: High demand (Oct07-Jan08) Exhibit 27: Hurricane fear (Oct06-Jan07)

$(2.50)$(2.35)$(2.20)$(2.05)$(1.90)$(1.75)$(1.60)$(1.45)$(1.30)$(1.15)$(1.00)$(0.85)

1-Au

g-05

1-N

ov-0

5

1-Fe

b-06

1-M

ay-0

6

1-Au

g-06

1-N

ov-0

6

1-Fe

b-07

1-M

ay-0

7

1-Au

g-07

$(4.75)$(4.50)$(4.25)$(4.00)$(3.75)$(3.50)$(3.25)$(3.00)$(2.75)$(2.50)$(2.25)$(2.00)$(1.75)$(1.50)

3-Ja

n-06

3-Fe

b-06

3-M

ar-0

6

3-Ap

r-06

3-M

ay-0

6

3-Ju

n-06

3-Ju

l-06

3-Au

g-06

3-Se

p-06


03 August 2010


US Rates With the jobs market apparently stalling and the prospects of a bold new fiscal initiative dimming amid the “austerity” movement, the Fed is left to contemplate the means by which it might be able to deliver fresh stimulus to the economy.

We expect the August 10 FOMC to be unabashedly dovish. However, we think it is safe to assume that the FOMC remains unsure about the next step.

The most likely course of action for the Fed is a stronger commitment to holding rates lower for longer. This may include setting an explicit time frame during which it does not expect to hike (as the Bank of Canada did last year) or laying out more explicitly the economic mileposts that it expects to see achieved before tightening policy.

Either way, we expect to see a stronger commitment to a long period of low rates at the August FOMC.

As expectations for Fed tightening are pushed further into the future, we expect the yield curve to become increasingly concave. This would be consistent with the Japan experience. First the spot short rate declines fastest, then the near-term forwards, then slightly longer expiry forwards, and so on. This process leads to a flattening of the curve at the front end that slowly but surely creeps out to the belly of the curve and eventually beyond.

As this process unfolds, the long end can stay quite steep – indeed it can steepen as seen in 5s30s and 10s30s this week – because the very long-dated forwards price for an eventual return to more normal short rates at some point in the (increasingly distant) future. In this environment, the belly can richen beyond levels suggested by the historical US experience.

In our view, all the serial swap curve flies – e.g., 1s2s3s, 2s3s4s, 3s4s5s, etc – should invert through the first ten years of the spot curve. Our favored trade currently is the 3s4s5s tightener, six months forward as recommended in the July 22 US Interest Rate Strategy Weekly.

Exhibit 28: Compression of forward short rates leads to outperformance of the belly as the front end bull flattens


Exhibit 28 above shows the compression that has occurred between the spot one-year rate and the various forwards – 1y1y, 2y1y, 3y1y – that has pushed the lower-for-longer theme more assertively to the belly of the curve.

Ultimately, we look for the USD curve to become concave at least out to the ten-year point. This would mirror the shape of the curve in JPY as shown below and imply even tighter butterfly spreads. Crowded positioning, albeit reduced after today’s moves, could increase the speed by which the market reprices.

Carl Lantz Director


Eric Van Nostrand Analyst


http://doc.research-and-analytics.csfb.com/docView?language=ENG&source=ulg&format=PDF&document_id=803393740&serialid=u3ztM9glRviogFwgmr5V9hJaU6X4wAoXjQKuK8OPVck%3d�

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03 August 2010


Exhibit 29: Going concave


European Rates Following the success of the European bank stress results, we expect the market to focus primarily on European growth prospects and the outlook for excess reserve balances in the European banking system. We do not expect any major policy innovation at the August ECB meeting, but believe at the September meeting the ECB is likely to extend its commitment to maintaining full allotment refunding operations into 2011.

The next large ECB open market redemption occurs at the end of September, where €225bn matures from 3m, 6m and 12m LTRO operations. We expect a significant portion of this total to be rolled into other operations; however, gradually improving market conditions are likely to allow some portion of the maturing funding to be replaced with private market alternatives. This implies a falling balance of excess liquidity and gradually increasing EONIA fixings.

Exhibit 30: We continue to expect overnight EONIA to set low as excess liquidity remains high Excess liquidity = Total lending via open market operations + Covered bond purchase program – (Autonomous factors + Current account reserve requirement)

0

0.2

0.4

0.6

0.8

1

1.2

1.4

0 50 100 150 200 250 300 350 400 450Excess liquidity (€ bns, OMO uptake - Liquidity needs)

O/N

Eon

ia (%

)

May09 - current

Since July

2/8/2010


Stuart Sparks Director


Thushka Maharaj Associate


03 August 2010


With regard to growth, we expect ongoing, if slow, normalization. In this scenario, reasonable growth in Germany, France and Italy is driven by exports outside the euro zone. Demand in these core economies is then expected to partially cushion the burden of fiscal consolidation in the periphery, which export heavily within the euro area and to these economies in particular. In this way the core buoys growth in the periphery. The key in this scenario is external growth. The corresponding risk is a double dip in the US, a discontinuous slowdown in China, or other exogenous growth shocks to the external sector.

We continue to expect the influx of coupon and redemption of cash during August to be supportive for the periphery in the short term. Our strongest view remains that a supportive, if slower, growth environment in Q3, together with ECB provision of full allotment refinancing operations, will continue to favor positive risk sentiment and outperformance of peripheral sovereigns versus core.

Japan Rates • The volatility of the market has trended lower recently. However, growing awareness of

a slowing recovery, subdued price trends and growth of the bank deposit/lending gap have supported the JGB market. Lowering volatility and strengthening the firmness of the market are likely to make longer-term rates lower and the yield curve flatter.

• As the supply-demand condition has been and will probably be the most important factor under current conditions, JGB auctions are likely to be key events. The ten-year auction held today went successfully. Of the regular monthly auctions, the 10y auction has the greatest supply of delta and is often a turning point for the market. With preference for longer maturities growing, the 40y JGB auction scheduled for Thursday should also go well.

• We are bullish on the JGB market. We recommend taking long positions in the inexpensive ten-year to take advantage of a possible decline in the 10y yield to below 1.0% in a month’s horizon. For Investors who prefer relative value positions, we recommend a JGB 5y/10y flattener, considering the limited room for yield decline in the five-year sector. We also continue to recommend a long ten-year swap spread position, which we think offers a decent amount of positive carry.

European Credit The short-term outlook for credit remains supportive. We favor iTraxx Main over iTraxx Crossover and CDX IG as likely to benefit most from the continued reduction in systemic risk concerns.

The economic and fundamental backdrop remains constructive for credit and we have seen a broad-based rally in the iTraxx indices over the last two months. European economic data releases and corporate earnings results are fundamentally supportive and sentiment is positive. The short covering that drove much of last week’s rally now appears to have cleared, and on the new issue side, demand remains extremely strong.

We believe the majority of the rally to date has been driven by a decline in the systemic risk premium to more normal levels. With the backdrop of supportive fundamentals, while the recent rally has been impressive and takes us back to index levels last seen at the beginning of May, we see no short-term catalyst for a meaningful back-up in spreads. The main risks remain a return to sovereign or financial system concerns on one hand or the re-emergence of LBO or other M&A activity on the other. However, we believe these are unlikely to materialize before the autumn.

Kenro Kawano Director

+81 3 81 3 4550 9498 [email protected]

Helen Haworth Vice President


Christian Schwarz Vice President


William Porter Managing Director +44 20 7888 1207

[email protected]


03 August 2010


We favor iTraxx Main over iTraxx Crossover and CDX IG as likely to benefit most from the continued reduction in systemic risk concerns and the short-term relative strength of Europe over the US. We recommend the following trades, as outlined in more detail in our recent European Credit Views publication:

1. Sell protection on iTraxx Main vs. buy protection on Xover iTraxx Xover has outperformed Main almost continuously over the last year, in both rallying and widening markets. The main reason has been the nature and degree of systemic risk fears in the markets following the financial crisis and the resulting fiscal and financial deterioration at the sovereign level. Xover is less diversified and on aggregate is rated worse than Main. It is therefore less prone and sensitive to systemic issues and hence was well positioned to outperform Main.

We do not think that the recent strong rally in credit spreads has been adequately reflected in the relationship between Xover and Main. As iTraxx Main has a higher correlation with the Financial Senior sub-index than Xover, the positive developments on the financial side recently should translate more directly into an outperformance of Main versus Xover. However Xover’s outperformance has not yet broken, resulting in significant potential for decompression between the two indices.

2. Sell protection on iTraxx Main vs. buy protection on CDX IG Similarly, systemic concerns in Europe and its sovereigns were the main reason for CDX IG to outperform iTraxx Main over the last year. Recently, however, the economic recovery in the US seems to be slowing leading to renewed concerns of a double dip, while European economies, especially those of the UK and Germany, are growing more quickly.

The rating distribution of CDX IG vs. iTraxx Main also suggests that, being lower-rated on average, CDX IG should trade wider than iTraxx Main, which currently is not the case.

Exhibit 31: Current 5y spreads vs. historical range – iTraxx Main looks cheap relative to other indices Whisker charts of iTraxx and CDX indices. The red dot represents the current spread, the boxes the lower and upper quartiles and the vertical lines the maximum and minimum over the last year.

-40

10

60

110

160

210

CDX Investment Grade 5Y OTR iTraxx Europe 5Y OTR iTraxx Financials Sen 5Y OTR iTraxx SovX 5Y OTR


http://doc.research-and-analytics.csfb.com/docView?language=ENG&format=PDF&document_id=857298341&source_id=em&serialid=BdZaxqV6EeeK3xb7tAUrRgRv%2fk%2boZFZACiyB33AW6Vc%3d�

03 August 2010


Exhibit 32: Current 5y spreads vs. historical range of Xover Whisker charts of iTraxx Xover. The red dot represents the current spread, the boxes the lower and upper quartiles and the vertical lines the maximum and minimum over the last year.

300

350

400

450

500

550

600

650

700

iTraxx Crossover 5Y OTR


US Mortgages We recommend getting long the MBS basis following its sharp underperformance recently. FN 4s have underperformed five-year swaps by more than ½ point over the last week (Exhibit 33). Favorable supply/demand technicals, high carry and a benign prepay outlook should keep MBS spreads structurally tight.

The “chatter” in the press and the market about government-induced refis has grown loud recently. Some have proposed it as a panacea to avoid foreclosures and stimulate the economy. The premise of smoothing the refi machinery is appealing in principle, but it faces significant logistical challenges and potentially disruptive market impact, including the need to call on the Fed’s balance sheet as a nuclear option. This makes such a program a tail event, in our view.

If successful, a government-induced refi spike will be far from costless. The Fed will have to be called in to absorb the $200+B 10s supply of duration including $150+B of non-TBA deliverable product. It may take six to nine months to process all of the refinancing volume due to originator capacity constraints. Furthermore, there is potential for a 50bp-75bp increase in mortgage rates due to wider spreads, increased duration supply, and closing time delays. We project incremental annual savings to homeowners of roughly $10 billion-$15 billion from such a program if every borrower underlying 80+ LTV 5.5+ coupon 2005-2008 vintage successfully refinances.

There is increased media discussion about the potential for the Fed to reinvest paydowns in the event of economic weakness. Our expectation has always been that reinvestments will not be in MBS. It could come in Treasuries, but the impact on overall rates and MBS basis should be relatively small.

The scale of reinvestments would be quite small. We estimate around $100 billion-$150billion annually depending on prepay rate. However, we believe that reinvesting in MBS is unlikely to help much because we already have record low mortgage rates and near-record tight mortgage spreads. By not allowing the float to rebuild, the Fed's reinvestment could continue to exacerbate float scarcity on low coupons. Reinvesting in Treasuries is nominally a basis widener, but the impact will likely be muted given that it will be stretched over time and given that there is the potential for purchases to be spread out across various maturities.

Mahesh Swaminathan Director


Mukul Chhabra Associate


03 August 2010


Exhibit 33: MBS basis trade has underperformed sharply over last week Performance of FN 30-year 4.5s versus 5-year swaps over last month

Source: Credit Suisse (US Mortgage Strategy)

Emerging Markets EM: Inflows into local market funds flatten local yield curves Inflows into EM bond funds invested in local markets beat inflows into traditional hard currency bond funds by a large margin this year, according to the mutual fund data collected by EPFR – see Exhibit 34. Moreover, inflows so far this year measured as the fraction of the assets under management are at a record high. A significant portion of these inflows are destined for funds benchmarked against local market global bond indices, in our estimate. We think these inflows have started to affect local bond markets.

Exhibit 34: Flows into local mutual funds have exceeded flows into hard currency funds by a large margin this year Annual inflows as percent of the starting assets under management. Funds are classified as Local, Blended and Hard Currency

-40%

-30%

-20%

-10%

0%

10%

20%

06 07 08 09 10 YTDYear

% o

f AUM

Local HC Blended

Source: EPFR Global, Credit Suisse

Colombia, Chile and Brazil are among countries seeking to capitalize on external demand for local-currency assets by issuing global bonds denominated in their respective local currencies. Chile had an inaugural issue of 2010 CLP global bonds on July 29, while Colombia issued (and later re-tapped) a new ten-year bond in April of this year. Both bonds were well oversubscribed. Prior to 2010, Brazil and Colombia issued several global FX bonds in the bull market of 2005-2007.

Igor Arsenin Director



03 August 2010


The global FX bonds trade at a significant premium to domestic bonds (see exhibits below) because they allow international investors easy access to local markets. International investors face taxes, registration requirements and potential capital controls in domestic markets in these countries, while global bonds are tax-free, and the coupon and amortization payments settle in USD, eliminating convertibility risk.

For benchmarked investors, at least in the short run, volatility and tracking error of a local bond portfolio is dominated by foreign exchange rate volatility (rather than by yield volatility). Therefore investors are willing to purchase international bonds at a significant yield disadvantage to local bonds, in our view.

The existence of expensive and well supported external issues at the long end of the curve is likely to support domestic issues as well and should lead to a flattening of the domestic bond and swap curves in this market.

Exhibit 35: Chile: peso off-shore bonds trade at a premium to on-shore bonds.

Exhibit 36: Colombia: off-shore bonds are even tighter in Colombia

S/A convention. As of August 3, 2010. Annualized swap yields. On July 29, 2010.

BCP 10yBCP 5y

Global 20 CLP

2.02.53.03.54.04.55.05.56.06.5

0 1 2 3 4 5 6 7 8 9 10Maturity (years)

Yiel

d (S

A)

BCPCLP SwapGlobal 20

1620 24

15

2721

3.0%3.5%4.0%4.5%5.0%5.5%6.0%6.5%7.0%7.5%8.0%

0 2 4 6 8 10 12 14 16 18 20Maturity (years)

Yiel

d (a

nn)

TESGLBSwaps (ann)


Technical Analysis Technicals: DXY bear risk, GBP/USD and EUR/USD soaring through resistance A more negative USD tone has been reinforced through July with a defensive posture indicated across G10. This points to further USD erosion into August and in particular sees a more negative DXY theme with a firmer GBP/USD and EUR/USD outlook.

DXY surrenders key 200-day MA. August risk is now to 78.68/45 support area.

Since the July 1 top confirmation with the violation of 85.13/09, a gradual slide through further support factors from the rally from late 2009 has reinforced a negative tone into August. The breach this week of the 50% retrace of the aforementioned rally at 81.44 reinforces the negative posture and points to further losses this month. Downside threat: Today through support at the 200-day moving average, the risk is for a continuation through here to the chart/61.8% retrace support cluster at 80.03/79.51. Beyond here targets significant chart levels at 78.68/45. Upside risk: Only back above 82.36 eases downside risk; above 83.45 sees a more neutral tone.

David Sneddon Managing Director +44 20 7888 7173

[email protected]

Steve Miley Director


Christopher Hine Vice President


03 August 2010


The GBP/USD break above the 1.5635 retrace hurdle establishes a stronger recovery into August. Risk now to 1.6280/1.6460.

The decisive extension through significant resistance at 1.5635, the 50% retrace of the 2009/10 decline has secured a substantial base into August reinforced above the 1.5820 chart hurdle and aims now at further upside challenges this month. Resistance focus: The spotlight is now on the 61.8% retracement level at 1.5970, which we would look to hold at first. However, should price action extend directly this would open the door to the early year price peaks at 1.6280/1.6460. Downside risk: Below 1.5475 would ease the upside pressure, but through trend support at 1.5315 is needed to signal a top

Exhibit 37: DXY, US$ Index - Daily Exhibit 38: GBP/USD - Weekly

Source: CQG, Credit Suisse Source: CQG, Credit Suisse

EUR/USD surge through the 38.2% retrace hurdle at 1.3125. August risk to 1.3510/70.

A robust bullish extension through its first major upside test at 1.3125, the 38.2% retracement of the 2009-2010 decline. This should now favor further August upside with a notable swing high from May at 1.3360 next with scope to the 50% retracement at 1.3510. Just above here sees the critical, falling 200-day moving average, currently 13570. Support risk: Below 1.2980 would ease the immediate upward pressure. Through 1.2730 required for a near-term top.

03 August 2010


Systematic Strategies Algo Monitor Over the last week and month, the best returns from the set of systematic strategies that we monitor have come from cross asset, risk-appetite-based indexes that continue to benefit from the recovery in risk appetite. Pro-risk strategies such as FX carry and terms of trade gave back some of the returns from the last week, while FX volatility continued its underperformance.

Exhibit 39: Selected Credit Suisse systematic strategies Return Sharpe ratio 1 week 1 month 1 year 1 year Cross-Asset RAII 0.9% 5.7% 1.3% 0.20 Commodities Vol-enhanced Momentum -2.0% -7.8% -12.6% -1.30 FX FX Factor -0.6% -1.6% -1.6% -0.30 FX Carry -0.6% 1.1% 5.4% 0.70 FX Value 0.9% -0.2% 1.0% 0.20 FX Momentum -0.5% -0.8% -1.4% -0.19 FX Growth -0.6% -1.9% 6.2% 1.19 FX Emerging markets 0.8% 0.9% 1.0% 0.18 FX Terms of Trade -1.2% 0.2% -4.9% -0.77 FX Volatility -2.0% -3.9% 6.7% 0.60 Rates Volatility 0.0% 0.1% 3.0% 3.00 Rates Fortinbras Momentum 0.2% 0.5% 1.9% 0.80 Source: Credit Suisse

Within Europe, our measure of sovereign market stress (market-cap-weighted spreads in the 7y-10y sector of the curve) continued to decline from the recent highs.

Exhibit 40: EUR sovereign spreads: market-cap-weighted spreads 7-10yr asset swap spreads to Germany weighted by Credit Suisse EURGI market cap weights; daily data

0

20

40

60

80

100

120

140

160

180

200

1/3/2006 1/3/2007 1/3/2008 1/3/2009 1/3/2010


Sean Shepley +44 20 7888 1333

[email protected]

03 August 2010


The below exhibits show the performance of the G10 & EM low debt / high debt portfolios recommended in our Strategy Snapshot report dated July 13, 2010.

Exhibit 41: G10 low debt / high debt portfolio Long two currencies with lowest sovereign CDS, short two currencies with highest sovereign CDS. Jan 2008 = 100 G10 basket: USD, EUR, JPY, GBP, NOK, SEK, AUD

90

100

110

120

130

140

150

160

170

180

12/31/2007 6/30/2008 12/31/2008 6/30/2009 12/31/2009 6/30/2010


Exhibit 42: EM low debt / high debt portfolio Long two currencies with lowest sovereign CDS, short two currencies with highest sovereign CDS. Jan 2008 = 100 EM basket: KRW, PLN, HUF, CZK, TRY, ZAR, BRL, MXN.

75

80

85

90

95

100

12/31/2007 6/30/2008 12/31/2008 6/30/2009 12/31/2009 6/30/2010


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..

GLOBAL STRATEGY RESEARCH

Lara Warner, Managing Director Global Head of Fixed Income and Economic Research

+1 212 538 4804

Emerging Markets Japan Rates Kasper Bartholdy, Managing Director +44 20 7883 4907 [email protected]

Kenro Kawano, Director +81 3 4550 9498 [email protected]

European Credit

Mortgage Backed Securities William Porter, Managing Director +44 20 7888 1207 [email protected]

Mahesh Swaminathan, Director +1 212 325 8789 [email protected]

European Rates FX Stuart Sparks, Director +44 20 7888 6687 [email protected]

Ray Farris, Director +44 20 7888 2529 [email protected]

Global Strategy

Technical Analysis Jonathan Wilmot, Managing Director +44 20 7888 3807 [email protected]

David Sneddon, Managing Director +44 20 7888 7173 [email protected]

Market Strategies and Product Development

US Rates Sean Shepley, Managing Director +44 20 7888 1333 [email protected]

Carl Lantz, Director +1 212 538 5081 [email protected]

Fixed Income Global Product Marketing

Commodities Katie Iorio +1 212 538 6386 [email protected]

Edward Morse, Managing Director +1 212 325 1013 [email protected]

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