Deutsche Bank

Deutsche Bank Markets Research United States Economics Rates Credit US Fixed Income Weekly a Markets are fixated on the potential for Fed normalization to start earlier than currently priced and whether China's recent FX adjustment is the beginning or the end. Date 4 September 2015 Dominic Konstam Research Analyst Aieksandar Kocic Research Analyst Joseph LaVorgna Economist ▪ At a superficial level there appears to be conflicting influences on rates.. The Fed and China may undermine risk asset performance but the consensus is that if risk assets find support, fewer FX reserves are likely to pressure rates higher. Alex Li ▪ On the contrary, we think the most important thing is that both the Fed and China's FX (ongoing?) unwind represent a tightening of global liquidity that clearly is negative for risk assets and clearly, at least for the last decade, has been positive for real rates and the curve. 5y5y is well correlated with changes in global liquidity and based on recent trends should be closer to 2 percent. ▪ This reinforces our view that the Fed is in danger of committing policy error. Not because one and done is a non issue but because the market will initially struggle to price "done" after "one". And the Fed's communication skills hardly lend themselves to over achievement. More likely in our view, is that one in September will lead to a December pricing and additional hikes in 2016, suggesting 2s could easily trade to 1 1/4 percent. This may well be an overshoot but it could imply another leg lower for risk assets and a sharp reflattening of the yield curve. Decline in liquidity implies a lower 5y5y 30 7.0 25 Fed plus fx reserves oy 5y5y rhs 6.0 5.0 4.0 3.0 2.0 1 0 0.0 20 15 10 5 0 -5 10 20001 20061 20121 sower Fed an CI DeurSea bale Stuart Sparks Research Analyst Daniel Send Reeteereh Aretrat Steven Zeng. CFA Maya Bhave Economist r4 ITable of Content US Overview Page 06 US Credit Strategy Page 23 Chart Pack Page 28 Deutsche Bank Securities Inc. DISCLOSURES AND ANALYST CERTIFICATIONS ARE LOCATED IN APPENDIX 1. MCI IP) 124/04/2015. EFTA01097815 co NJ Deutsche Bank Securities Inc 2015 Outlook Recommendations Trade Detail Rationale Risks Opened Entry Current P/L Option Buy 1x1, 1y1y receiver spreads with strikes ATMF and ATMS The post-Fed sell-off has left the spot/forward spread near multi-year post-crisis highs. Maximum total loss is the premium outlay 12/19/14 29c Swaps RV Pay 3y1y versus 2y1y This curve segment might be expected to steepen if, for example, higher inflation produces greater pricing power, or if the long-absent cyclical increase in productivity finally materializes. Curve flattens 12/19/14 +40 bp Option Sell 1X2 payer spreads at the short end: Sell $100mn 6M3Y ATMF vs. buy $200mn 34.5bp OTM payers at zero net cost The repricing of Fed hikes could begin in Q2 with the short end rebounding sharply after initial rally. Vulnerable to rally below the breakevens, with potentially unlimited downside. 12/19/14 Option Sell $100mn 6M10Y straddles vs. buy $300mn 6M3Y straddles for a net premium of 175K With expectations of Fed hikes, volatility should move to the front end of the curve, while the back end movements remains Unilateral spike in backend vol. 12/19/14 Option Quiet flatteners: sell $1bn 6M 5s/10s 9.5bp OTM curve cap vs. buy$1bn 6M 5s/1Os atmf/9.5 curve floor spread at zero cost Potential for considerable bear flattening should the market reprice the Fed hikes. Curve steepens. 12/19/14 Option Quiet bulls: Sell $100mn 1Y10Y 50bp OTM payers vs. buy $100mn 1Y10Y ATMF/33 receiver spreads costless This captures the risk of bullish flattening of the curve where growth is unable to take off either due to fundamental weakness or in response to a policy mistake of premature hikes. Sell-off beyond 3.10%. 12/19/14 Option Buy $100mn 1Y30Y receivers, struck at spot, at 1270c Bull/flatteners at the back end. Loss equal to the options premium 12/19/14 Option 6M dual digital: 2sa F+10bp & 10s < F-10bp offer 11.5% This is a leveraged expression of a policy-mistake trade where premature hikes cause a rally at the back end. Loss equal to the options premium 12/19/14 SONO. Dootiao Salk EFTA01097816 Deutsche Bank Securities Inc. 2015 Outlook Recommendations Trade Detail Rationale Risks Opened Entry Current P/L Treasury Sell RV rich bond futures against cheap off-the-run bonds The classic bond futures look rich in the long end Further outperformance of the 6.25s of 5/2030 in the long end 12/19/14 +21 bp +5 bp (Closed on 2125) +1,249k Inflation Swaps Buy 2yr2yr forward breakevens The 2yr2yr inflation appears attractive on a long- term history Further decline in medium-term inflation expectations 12/19/14 1.95% 1.60% -1,367k Inflation Buy long end inflation The long and inflation market looks undervalued on a long-term perspective, with the 30-year TIPS breakevens trading below 2.00%. Inflation markets further underperform. 12/19/14 1.92% 1.71% -3,400k Inflation Buy 5yr5yr forward breakevens as a hedge to high rates The 5yr5yr forward breakevens have dropped to their multi-year lows. Decline in energy prices and a stronger dollar 12/19/14 2.18% 1.97% -848k Agencies Buy 3nc1 y and 5nc6m implied callables vs. matched-maturity bullets With the Fed moving closer to its first rate hike in a low-inflation, moderate-growth environment, there are few themes as sure as the flattening of the curve, likely going beyond the forwards. Higher vol cheapens callables relative to bullets 12/19/14 Agencies 2-year vs. 5-year agency spread curve flattener On the bullet agency curve, spreads are relatively tight to the level of rates volatility, and they risk widening 5.10bp from current levels on our model incorporating forward vols and the projected level of outstanding debt. Increased GSE risk widens intermediate spreads 12/19/14 US Credit US High Yield: Sell covered puts on HY CDX With CCC energy bonds trading at 60 cents on the dollar, and oil just S10 away from matching the most severe percentage drop in oil prices over 1997-8, our sense is that we may be reaching the latter stages of a pronounced move lower in a commodities-driven decline in HY credit valuations Widening of credit spreads beyond the breakeven point as well as a rally in credit beyond the breakeven, with potentially unlimited downside in either scenario 12/19/14 Sane: Oeussono hat EFTA01097817 01 'Other Current Recommendations o (D a Deutsche Bank Securities Inc Trade Detail Rationale Risks Opened Entry Current P/L Treasury RV Short 10s versus 5s and 30s 10s look rich on the curve against 5s and 30s 10s richen further 5/8115 +9 bp +8 bp -6k Treasury Sell RV rich bond futures against cheap off-the-run bonds Sell the rich classic bond futures versus off-the-ru n bonds in the 2026 to 2028 sector Classic bond futures richen 11/26/14 +21 bp +20 by -106k Inflation 10s/30s breakeven curve steepener Long end TIPS offer good value 30yr underperforrns 6/26/2015 relative to 10yr 0.13% 0.30% +1,042k Inflation Long front end TIPS breakevens Front end TIPS look cheap to our inflation forecast Energy prices drop 4/10/2015 1.23% -1.45% -1,563k Inflation Real yield curve steepeners, either 10s-30s or 5s-30s. Possibly delayed first Fed rate hike is likely to help intermediate sector outperform in real yields, steepening the real yield curve. Long end outperforms 1/20/2015 5s/30* -00.65% 10&[email protected]% 6s/[email protected]% 105/[email protected]% +3,484k Inflation Long 10yr inflation swaps versus 10yr TIPS breakevens The spread between 10yr inflation swaps and TIPS breakevens is too tight TIPS outperform inflation swaps 1/20/2015 +21 bp +17 bp -248k Inflation Long 1/2029 breakevens vs 10yr breakevens 10yr TIPS to 1/2029 breakeven curve is too flat 1/2029 breakeven cheapen further 10/3/14 +2 bp +6 bp +502k Inflation Long 30yr TIPS breakevens The long end inflation market looks undervalued; 30yr TIPS breakevens near multi-year lows Long term inflation expectations decline 12/12/14 1.91% 131% -2,107k Inflation Swaps Long 1yr1yr inflation swaps We like lyrlyr forward inflation swaps. Front end breakevens look attractive. Inflation expectations decline 3/3/15 1.84% 1.22% 4362k Inflation swaps Long 2yr2yr inflation swaps We like being long 2yr2yr or 2yr3yr forward breakevens to take advantage of cheap 5s, while avoiding negative carry in front end TIPS Medium term inflation expectations decline 12/12/14 1.77°S 1.68% -868k Agencies Buy long-dated GSE debt: Buy 3100mm FNMA 6.625 11/30s vs. T 5.325 2/31s Legislative momentum of Johnson- Crapo on GSE reform is credit bullish for long-dated GSE debt. Reform bill stalls in Congress or language on government modified. 3/14/14 +48 bp +62 bp -953k Muni Receive $100m 3y3y SIFMA ratio at 78.2%. (Sorid) Attractive roll down profile Further ratio curve steepening 4/25/13 78.2% 72.0% +941k Option 1X2 1Y 5Y5Y ATMF/41 receiver spreads costless Long-end rallies on premature or fast rate hikes (policy mistake) Rally below the breakevens; unlimited downside 9/26/14 0c -18.4c 411k EFTA01097818 Deutsche Bank Secunties Inc. Other Current Recommendations Trade Detail Rationale Risks Opened Entry Current P/L Option Buy $100mn 2Y2Y ATMF receivers vs. sell $22.7mn 2Y10Y ATMF receivers for the net takenut of $55K Trend growth and law inflation limit the rise of long rates Recessionary mode with bull flattening of forwards 1013!13 -6 bp -99 bp -925k Option Payer wreeds: Sell $500mn 2Y2Y 92bp OTM payers vs. buy $50mn 2Y30Y 25bp OTM payers at zero net cost Vol differential is favorable for initiating a positive carry baar steepening trade The curve baar gatten 1/2114 +2 bp .0 bp -25k Swaps Rv Receive $1,023.4mm 2y1y rata versus pay $1,002.7mm tyty rata Positive carry look at repricing Fed The curve baar steepens 5/20/14 +95 bp +95 bp +2,305k Swaps Rv Receive $1,023.4mm 2y1y rata versus pay $431.2mm tyty rata and $597mm 3y1y rata Funher rally via Fed delay benefits 2yly rata 2y1y undemerformance 5/20/14 -10 bp -17 bp +405k Swaps Rv Forward fly: Pay fixed on $298.6 mm 10y5y versus receive fixed on $72.9 mm 5y5y and 5257.6 mm 15y5y 5y rata, 10y forward is hestorically rich versus 5y rata, 5y forward and 5y rats, 15yloward Funher 10y5y outperformance 4/29/14 +22 bp +21 bp -416k Cross Market Buy $10m each of SPNTAB 2.95%3/16; SPABOL 5/16; DNBNOR 2.90% 3/16 on ASW. (Sond) Risk-on retightening of covered bonds in stable rates regime Bank credit underperforms; Eurozone credit crunch; Widening in a rata sell-off 7/25/13 +25 bp +37 bp +31 bp +30 bp +25 bp +31 bp -930k Cross Market US-Europe spread tightener: Receive fixed in $244 mm rare USD 5y5y rata vs. pay fixed on E165.8mm EUR 5y5y US recovery disappoints Spread witlens 1/24/14 +127 bp +136 bp -10k PIL as of 09/03/2015 prices. We sond &Dobnp dra performance otaw bacie recommendatrons on Jane r$ 20,0 P, s tabre shows out amant open recommendatem a rabh of our closed pos:jeans d in die bock atlas pubkaten Bod, rabies wik bes regular feature im the Weatdy. Ftrdomance ~bers are based on bader end-obday marka end do not ;obiad° lad/offer spreads w transaction casts. We tonda Nie relevant benchmant lor our tredes to benzen‚ positie& gaven rhe hieraged or geneally market neutra, aspecrs of these tat Historica! performance is nora guaraniee afhouw performance Spotte 0—ara EFTA01097819 4 September 2015 US Fixed Income Weekly United States US Overview Rates Gov. Bonds & Swaps Rates Volatility Dominic Konstam Research Analyst Aleksander Kocic Research Analyst • Markets are fixated on the potential for Fed normalization to start earlier than currently priced and whether China's recent FX adjustment is the Alex Li beginning or the end. • At a superficial level there appears to be conflicting influences on rates. !MEP The Fed and China may undermine risk asset performance but the consensus is that if risk assets find support, fewer FX reserves are likely to Stuart Sparks pressure rates higher. Research Analyst • On the contrary, we think the most important thing is that both the Fed and China's FX (ongoing?) unwind represent a tightening of global liquidity that clearly is negative for risk assets and clearly, at least for the last Daniel Send decade, has been positive for real rates and the curve. 5y5y is well correlated with changes in global liquidity and based on recent trends Research Anal should be closer to 2 percent. • This reinforces our view that the Fed is in danger of committing policy error. Not because one and done is a non issue but because the market Steven Zeng. CFA will initially struggle to price "done" after "one". And the Fed's Research Analyst communication skills hardly lend themselves to over achievement. More likely in our view, is that one in September will lead to a December pricing and additional hikes in 2016, suggesting 2s could easily trade to 1 Yi percent. This may well be an overshoot but it could imply another leg Aditya Bhave lower for risk assets and a sharp reflattening of the yield curve. • We think risk/reward has shifted toward paying spreads in the front end. Financing is challenging with term GC trading high relative to LIBOR, but we think rolling the position ovemight should allow investors to average in financing better than LIBOR, providing some backstop against tightening if significant additional intervention-related selling does not materialize. • We like being long front end breakevens in forwards, e.g., one-year breakevens implied by short maturity TIPS, such as the 7/2016s and the 7/2017s. One can also hedge out energy prices in that trade to create a synthetic exposure to core CPI. A simpler version of the implied front end forward breakevens is to be long front end breakevens outright. They have lagged oil prices. • 5-year inflation basis has recovered, while 30-year inflation basis has done less well, and remains in the low end of the long term trading range. Investors should consider inflation basis steepeners by being long 30-year inflation basis against 5-year inflation basis. The case for more liquidity Investors are rightly concerned about the impact of both a possible early start to Fed normalization and the probably yet-to-be-resolved Chinese FX adjustment. There is a reasonable consensus that both encourage further downside to risk assets. There is more uncertainty around bond yields. Potential FX intervention might imply selling of Treasuries, especially the front end where most reserves are held. But if higher short rates from either those sales or Fed tightening, undermine equities, bond yields might actually fall. • Page 6 Deutsche Bank Securities Inc. EFTA01097820 4 September 2015 US Fixed Income Weekly The right framework to view potential Fed tightening as well as China's FX adjustment is in the context of global liquidity and that relationship with financial assets. Liquidity in the broadest sense tends to support growth momentum, particularly when it is in excess of current nominal growth. Positive changes in liquidity should therefore be equity bullish and bond price negative. Central bank liquidity is a large part of broad liquidity and, subject to bank multipliers, the same holds true. Both Fed tightening and China's FX adjustment imply a tightening of liquidity conditions that, all else equal, implies a loss in output momentum. Typically this should be associated with lower yields. This runs counter to a common perception that forex intervention that leads to Treasury sales pushes up yields. To the extent that it does, we suspect this is a short lived temporary affair and will easily be dominated by the more sinister implications of dwindling global liquidity. We note that the recent weakness in global nominal growth that we highlighted last week is highly consistent with weaker global liquidity and that the weakening in liquidity is not new news but has been ongoing since late last year. Not only has it been driven by falling FX reserves but also by the slowing of the Fed's balance sheet. To the extent that other central banks have tried to expand liquidity, in terms of historic relationships to financial assets, FX reserves and the Fed's balance sheet are more important. We think this reflects the role of the dollar as the reserve currency in the global financial system. Let's start from some basics. Global liquidity can be thought of as the sum of all central banks' balance sheets (liabilities side) expressed in dollar terms. We then have the case of completely flexible exchange rates versus one of fixed exchange rates. In the event that one central bank, say the Fed, is expanding its balance sheet, they will add to global liquidity directly. If exchange rates are flexible this will also mean the dollar tends to weaken so that the value of other central banks' liabilities in the global system goes up in dollar terms. Dollar weakness thus might contribute to a higher dollar price for dollar denominated global commodities, as an example. If exchange rates are pegged then to achieve that peg other central banks will need to expand their own balance sheets and take on dollar FX reserves on the asset side. Global liquidity is therefore increased initially by the Fed but, secondly, by further liability expansion, by the other central banks. Depending on the sensitivity of exchange rates to relative balance sheet adjustments, it is not an a priori case that the same balance sheet expansion by the Fed leads to greater or less global liquidity expansion under either exchange rate regime. Hence the mere existence of a massive build up in FX reserves shouldn't be viewed as a massive expansion of global liquidity per se - although as we shall show later, the empirical observation is that this is a more powerful force for the "impact" of changes in global liquidity on financial assets. The chart below shows the RMB vs. the ratio of PBOC to Fed balance sheets, using prevailing exchange rates at the time as the conversion factor. The initial post crisis period sees the Fed balance sheet expand relatively while the exchange rate is unchanged. There is then a phase of RMB appreciation and relative stability in the balance sheet ratio and then the PBOC balance sheet expands with continued RMB appreciation. Deutsche Bank Securities Inc. Page 7 EFTA01097821 4 September 2015 US Fixed Income Weekly I RMB vs. ratio of Fed to PBOC balance sheet 1.7 6.9 1.6 - 6.8 6.7 6.6 6.5 6 4 6.3 6.2 6.1 6.0 1.5 1.4 1.3 ratIn of P 1.2 1.1 -rr— 1 sheets .(fogisrpis 20084 20114 20144 Sane. Mbnbogron Daman avn. The table below highlights these three periods in terms of the actual notional impact on global liquidity via the combined effects of revaluing the PBOC balance sheet as well as the changes in the underlying domestic liquidity. Under a relatively stable currency the PBOC expanded its balance sheet aggressively in the first phase, presumably in part being obliged to accelerated FX reserve accumulation; the Fed was more or less in between expanding their balance sheet. The second phase saw the more dramatic currency appreciation with a strong Fed expansion but also strong PBOC liquidity expansion. The third phase saw even stronger Fed balance sheet expansion but weaker PBOC expansion and more modest RMB appreciation. The last two phases combined saw global central bank liquidity expand by notionally similar amounts i.e. $1500 billion. More than double the first phase when the currency was more stable and the Fed was quieter. However note that as expected, the reserve accumulation was almost the same in each period, around 500-600+ billion. So even though the Fed wasn't expanding the balance sheet much, the hangover of the previous expansion and capital flows in general required a more aggressive intervention by PBOC to acquire reserves and maintain the a stable currency. So a notionally less aggressive expansion in global central bank liquidity under a stable exchange rate regime was disproportionately more skewed to reserve accumulation. IChanges in central bank balance sheet liquidity ...Wu as dig ChM PAIS &meg WI On %68• 88416060 dunte 14214 knew, chi Ste bit Wait MUM, bit bit 201022-200824 41% 93 173% 3586 684 682 23% 532 622 508 201.241.201040 252% MI 142% 3534 6)7 631 7.2616 827 1.41:6 657 201981-82120 393% 1126 7.734 2274 624 609 251% 492 1618 510 Sayre. e Maya, a Daman &Mk The next issue is given changes to liquidity how does it impact asset prices. We can think of the three components of liquidity: the Fed's balance sheet, the accumulation of FX reserves by other central banks; and the residual of other central banks' liquidity expansion after the accumulation of FX reserves. As the chart below shows in terms of growth the explosion of the Fed stands out during the crisis but there have been strong expansions in other central banks' liquidity excluding reserve increases. FX reserve accumulation has been quite weak since 2012 and is now negative. In absolute terms liquidity is strongest in FX reserves and other central banks ex reserves by a factor of three times for the Fed's balance sheet. Page 8 Deutsche Bank Securities Inc. EFTA01097822 4 September 2015 US Fixed Income Weekly Sources of central bank liquidity - change yoy 180 160 140 120 100 80 60 ao ry 20 20 20031 20081 20131 Saar ObowboR g teal Deutsch, Dint Sources of central bank liquidity - $ billion 16000 14000 12000 10000 8000 6000 4000 2000 0 —FX reserves —Fed r B s ex Reserves 20031 20081 20131 Sown IN oombep ow Detach s rank Let's start with risk assets, proxied by global equity prices. It would appear at first glance that the correlation is negative in that when central bank liquidity is expanding, equities are falling and vice versa. Of course this likely suggests a policy response in that central banks are typically "late" so that they react once equities are falling and then equities tend to recover. If we shift liquidity forward 6 quarters we can see that the market "leads" anticipated" additional liquidity by something similar. This is very worrying now in that it suggests that equity price appreciation could decelerate easily to -20 or even 40 percent based on near zero central bank liquidity, assuming similar multipliers to the post crisis period. From q2 levels that implies an MSCI level of around 1350 for 2015q4 (reference q2 @ 1735), the end August level was 1645 i.e. still another 10-15 percent decline. World equities yoy vs. central bank liquidity yoy 50 40 WORLD EQUITIES YOY 40 35 25 20 30 Fed plus fx reserve lu then c (ex fx) yoy rhs 20 10 0 10 j \ s/ 15 10 5 0 20 30 -40 50 20041 20101 Sages Bbornbug and Darse-no &ht. World equities yoy vs. components of liquidity yoy 50 30 10 10 30 FX e es 50 Othe ks ex Reserves —world quitiesyoy 20031 20081 20131 Source Beonnboop one Wound* Mat Interestingly, the components of liquidity themselves behave a little differently with FX reserves and Fed balance sheet being more in line recently than other central bank liquidity. This reflects the ECB and BoJ tardier reactions to balance sheet expansion in the post crisis period. If we only consider the FX and Fed components of liquidity there appears to be a tighter and more contemporaneous relationship with equity prices. The suggestion is at one Deutsche Bank Securities Inc. Page 9 EFTA01097823 4 September 2015 US Fixed Income Weekly level still the same, absent Fed and FX reserve expansion, equity prices look more likely to decelerate and quite sharply. The tie out, presumably with the "leading" indicator of other central bank action is that other central banks have been instrumental in supporting equities in the past. The largest of course being the ECB and BoJ. If the Fed isn't going doing its job, it is good to know someone is willing to do the job for them, albeit there is a "lag" before they appreciate the extent of someone else's policy "failure". And just to ram home the point — this differential relationship is entirely consistent with the idea that FX reserves are accumulate don the back of Fed balance sheet expansion and so if the Fed's balance sheet is not expanding then it is a double whammy that FX reserves are also not expanding and as we shall see below are contracting! World equities yoy lead by 6 qtrs vs. central bank liquidity yoy 50 40 40 WORLD EQUITIES YO 35 30 25 30 Fed plus fx reserves other ohs (ex fx) yoy rhs 20 10 ‘ 0 10 20 15 10 5 0 20 1 1/4\ fsv 30 40 50 20041 20101 San! ObornantmlOwitrehr Am* World equities yoy vs. Fed plus FX reserves change yoy 50 30 . .WORLD EQU ES TOY - 25 20 - 15 10 - 5 -0 40 Fed pl re rves yoy 30 20 10 A i- 0 10 20 30 -40 -50 -5 20001 20061 20121 swore: tilonOrgeetietacne Bore So now let's be a little more specific on the Fed balance sheet and FX reserves now. The next chart shows both are decelerating sharply. The Fed's balance sheet is almost flat on the year and reserves are down around 5 percent and counting. The two as we have demonstrated are clearly connected. In the reverse scenario (as opposed to the above, when we demonstrated the connection when the Fed was expanding its balance sheet), tighter Fed policy forces other central banks to spend reserves to defend their currency peg and in principle shrink their balance sheets. This is the example recently with the adjustment in China's FX regime to accommodate more market based fixings. The ensuing unwind of the China carry trade has solicited what appears to have been significant FX intervention, judging by the move in front end swap spreads and dealer inventory of shorter dated Treasuries. The main point however is that it is not a change in FX regime per se that drives the loss of liquidity but that that change emanates from a tighter Fed balance sheet. Hence in the event that the Fed raises rates and we start to worry about balance sheet unwind this becomes a much more significant issue going forward. The Fed's balance sheet for example could easily be negative 5 percent this time next year, depending on how they manage the SOMA portfolio and would be associated with further FX reserve loss unless countries, including China allowed for a much weaker currency. This would be a great concern for global (central bank liquidity) So one counter is that FX reserve loss can be offset by other central banks' liquidity injection. At one level this is tempting but flawed; at another level it is more plausible. The first level is that FX reserve loss typically is "sterilized". The shock to a country's financial system from the sudden loss of liquidity Page 10 Deutsche Bank Securities Inc. EFTA01097824 I PBOC injection of funds vs. CNY 600 —10 day total of net injection of funds by PBoC (8n Yuan) 6.45 6.40 400 200 6.35 6.30 6.25 6.20 -200 • 6.15 6.10 4 September 2015 US Fixed Income Weekly needs to be offset and recently in the case of China the PBOC has acted to reinstate domestic liquidity and also has cut reserve requirements. However as we demonstrated above this component of liquidity seems to have a lagged impact on say (equity) financial assets relative to either the Fed or FX reserves themselves This is actually quite intuitive. The liquidation of FX reserve holdings reflects forced redemptions of domestic currency holdings. Simply forcing currency back into the system to satisfy those redemptions shouldn't be associated with restoring asset prices to where they were before. Ultimately in a fiat money system asset prices reflect "outside" i.e. central bank money and the extent to which it multiplied through the banking system. The loss of reserves represents not just a direct loss of outside money but also a reduction in the multiplier. There should be no expectation that the multiplier is quickly restored through offsetting central bank operations. —USOCNY (rhs) -400 6.05 -600 6.00 Jan-14 Jul-14 Sane! Obowbent Anwar [Pond Damon. Bent Jan-15 Jul-15 1 We now move on to interest rates. If equities have a negative correlation with liquidity, it is not surprising to find that interest rates have a positive correlation at least since the crisis. Again in line with the above analysis regarding equities, the correlation in contemporaneous time is better if we focus on Fed and FX reserves. However even then we notice the correlation is a little loose at times. This raises an obvious issue in terms of how one thinks about nominal yields in terms of additional central bank liquidity and FX reserve accumulation. On the one hand the more Fed may help lower real yields but raise inflation expectations; more FX reserve accumulation may be just lower nominal yields and if anything real yields to the extent that by accommodating Fed monetary policy expansion the US "exports" inflation risk. Running across everything is the problem that equities are generally stronger (weaker) of liquidity is expanding (falling). Deutsche Bank Securities Inc. Page 11 EFTA01097825 4 September 2015 US Fixed Income Weekly 10 yr yield vs. FX/Fed defined liquidity 30 7.0 25 6.0 5.0 4.0 3.0 2.0 1 0 0.0 20 15 10 5 0 Fed tx 1 plus reserves yoy rhs -5 10 20001 20061 20121 Son Obornbagt ham. LPercl °mute S, 10 yr yield vs. broader defined liquidity 7.0 - 6.0 - 5.0 - 4.0 - 3.0 2.0 1.0 40 35 30 25 20 15 10 5 0 —red plus hc reserves plus other k 4 yey —10y rhs -5 10 0.0 20001 20061 20121 Swear fel and Davtich :0 Sent Breaking down the breakeven and real yield components verifies that central bank liquidity has been more associated with real yields then breakevens, however the relationship is perverse! Real yields have tended to fall when balance sheet expansion is slowing while breakevens have generally been more sticky. This suggests that risk assets drive (real) yields and that breakevens anticipate a (delayed) liquidity injection. This is corroborated by also considering the curve. Like real yields 5s10s is well correlated (positively) with real yields. Note that prior to the crisis the relationship looked more "normal" in that expanding liquidity drive yields lower and vice versa. So something has changed since the crisis—this we think is very important and again, will revisit below. Liquidity vs. 10 yr real yields 50 3.3 ao - 2.8 - 2.3 1.8 1.3 30 20 10 0.8 0.3 -0.3 0.8 0 —FX + Fed balance sheet yo .—Q.17yr real rhs -10 20001 20061 20121 Son abomtarpHano• Wend Dautzleba Bank Liquidity vs. 10 yr breakevens 50 2.8 40 - 2.6 - 2A 2 30 20 1 - 2.0 2 - 1.8 1.6 10 0 —FX+ Fed balance In et yoy - 1.4 1.2 . ..i.0 yr bel rhs 10 1.0 20001 20061 20121 Saud: Fad M Mean* The relationship between 5s10s and 10s in real terms screams 5y5y! And indeed we overlay 5y5y to liquidity there is a very tight, almost scary, relationship. The relationship even predates the crisis. Tighter liquidity essentially forces the 5y5y nominal rate lower reflecting some combination of a flatter curve and higher yields with a steeper curve and lower yields. Fundamentally we think this ultimately speaks to a lower terminal policy rate so that it doesn't really matter whether the term structure is trying to shift higher or lower but the curve will more than compensate so that if the trend is towards less central bank liquidity, the terminal rate is falling. Page 12 Deutsche Bank Securities Inc. EFTA01097826 4 September 2015 US Fixed Income Weekly Right now the decline is central bank liquidity suggest 5y5y should be closer to 2 percent or below not 3 percent to above. And this is before the Fed has tightened and China has potentially "finished" its adjustment. Liquidity vs. 5s10s 30 1.6 25 • Fed plus fx reserves oy 5s10s rhs 1.4 1.2 1.0 0.8 0.6 20 15 10 5 D.4 0.2 0.0 .0.2 0 5 10 -0.4 20001 20061 20121 Saves amity faun (Pend Deuiseba Rant Liquidity vs. 5y5y 30 7.0 25 Fed plus fx reserves oy , .5y5y rhs 6.0 5.0 4.0 3.0 2.0 1.0 0.0 20 15 10 5 0 -5 10 20001 20061 20121 Swat Fig mar...se* Boni And of course the breakdown in 5y5y between real and inflation reinforces the story that it is the real rate not inflation expectations that drive this result. And this is again consistent with the risk asset concern that it is the lack of liquidity that undermines risk assets that in turn drives real yields lower, despite keeping breakevens relatively inflated. One conclusion is that if investors believe that liquidity is likely to continue to fall one should not sell real yields but buy them and be more worried about risk assets than anything else. This flies in the face of recent concerns that China's potential liquidation of Treasuries for FX intervention is a Treasury negative and should drive real yields higher. It is possible that if risk assets do very well then maybe the correlation with interest rates is broken. But like all these relationships for us, it is easier to work with the correlations that currently persist rather than to predict random breaks. And the potential breaks should be more cheaply hedged rather than making for a core portfolio allocation. I.e. cheap SPX calls based on rates lower. More generally the simple point is that falling reserves should be the least of worries for rates - as they have so far proven to be since late 2014 and instead, rates need to focus more on risk assets. Liquidity vs. 5y5y real 30 3.5 2S 3.0 20 2.S 15 2.0 10 1.5 S 1.0 0 5 —fed plus fx reserves yoy 0.5 0.0 —spy real Ms 10 -OS 20001 20061 20121 Smear bomb"' raawa tPrd On,ssche Bank Liquidity vs. 5y5y BEI 30 3.0 25 - 2.5 2.0 1.5 20 15 10 1.0 0.5 0.0 5 0 5 —Fed plus fx reserves yoy —sysy bee rhs 10 20001 20061 20121 I Soutar fed and Donn. Sent Deutsche Bank Securities Inc. Page 13 EFTA01097827 4 September 2015 US Fixed Income Weekly Even without considering the empirical relationships, it is also clear that FX intervention is very much a short term affair. As the chart below shows the recent jump in dealer positions in less than three years is consistent with the Treasury data for 2014 that shows the preponderance of foreign official Treasury holdings is held in the sub 3 year sector. Very little is held in longer dated maturities so any FX intervention is anyway more likely to flatten the yield curve than steepen it. l About 56% foreign official holdings of Treasuries are under three years in maturity 60% Distribution of Maturities in Treasuries Held by Foreign Investors 50% 40% • Official Institutions 0 Ore.-ate investors 30% 20% 10% 0% a 0.3y Sant. rneanywq Otwexere BW 3-5y 5-10/ 10y. I Dealer positions in Treasuries maturing in 3 years or less S E 30,000 20.00:: 10,000 I 0 t -10,000 1 -20,000 Jan-14 Jul-14 Spumy fee and Axon. emit —Dealer Net Outright Position: Govt Coupon Securities,Due 3- Yr or Less(EOP,MilS) The relationship between central bank liquidity and the byproduct of FX reserve accumulation is clearly central to risk asset performance and therefore interest rates. The simplistic error is to assume that all assets are treated equally. They are not - or at least have not been especially since the crisis. If liquidity weakens and risk assets trade badly, rates are most likely to rally not sell off. It doesn't matter how many Treasury bills are redeemed or USD cash is liquidated from foreign central bank assets, US rates are more likely to fall than rise especially further out the curve. In some ways this really shouldn't be that hard to appreciate. After all central bank liquidity drives broader measures of liquidity that also drives, with a lag, economic activity. The indicators of excess liquidity (see below) are but derivatives of central bank liquidity and the bank or "inside" money multipliers. If liquidity is tightening relatively to nominal growth, real growth will tend to slowdown later. Right now the message is not good for the OECD, excess liquidity indicators point to real growth losing momentum. The IMF seems to get the picture. China is probably getting the picture but faces the conundrum of how to manage the carry trade unwind with minimal disruption. The grass is definitely though greener if the currency is weaker and they hang onto most of their reserves. Ironically the excess liquidity indicator has recently improved for China although this is as much to do with decelerating nominal growth. Page 14 Deutsche Bank Securities Inc. EFTA01097828 4 September 2015 US Fixed Income Weekly 'Excess liquidity indicator vs. output: OECD 30% 1 —Global excess liquidity yoy + m lead OECD 20% —OECD output momentum 10% • 0% -10% -20% -30% 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 San. geowbvg amakrisraro &,* 'Excess liquidity indicator vs. output: Chin.:: 40% 30% 20% 10% 0% -10% -20% — China excess liquidity yoy +12m lead China — China output momentum 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 SorremOrcentimewW0erinawarrerr The more sinister undercurrent is that as the relationship between negative rates has tightened with weaker liquidity since the crisis, there is a sense that policy is being priced to "fail" rather than succeed. Real rates fall when central banks back away from stimulus presumably because they "think" they have done enough and the (global) economy is on a healing trajectory. This could be viewed as a damning indictment of policy and is not unrelated to other structural factors that make policy less effective than it would be otherwise -- including the self evident break in bank multipliers due to new regulations and capital requirements. Of course our definition of "failure" may also be a little zealous. After all why should equities always rise in value? Why should debt holders be expected to afford their debt burden? There are plenty of altemative viable equilibria with SPX half its value, longevity liabilities in default and debt deflation in abundance. In those equilibria traditional QE ceases to work and the only road back to what we think is the current desired equilibrium is via true helicopter money via fiscal stimulus where there are no independent central banks. One step at a time... 6mly-2y2y as a carry-efficient flattener We recommend a 6mly-2y2y flattener as an optimal carry proxy for USD 2s5s. The 6mly-2y2y can be thought of a leveraged version of the 2s5s spot: it has a 98% correlation and a beta of 1.74 with the latter over the last 12 months. Because of the 1.74x leverage, the beta-adjusted 3m carry is -2.Obp instead of -2.9bp for 2s5s, a 31% improvement. This flattener takes advantage of a recent 2.3 standard deviation decline in the (negative) roll for the 6mly paying leg, which compares to a 1.7 standard deviation decline in the 2y spot. The positive roll for receiving the 2y2y is also more attractive; it had just a 0.5 standard deviation reduction compared to a 0.7 standard deviation reduction in the 5y spot. Historically, 2s5s flatteners have performed well going into a tightening cycle, with nearly 70 percent of trades put on within three months of the liftoff beating their ex-ante forwards and thus being profitable. The market clearly thinks Friday's mixed jobs report was not enough to take a September liftoff completely off the table. DEC15 Fed funds future sold off 1.5bp after payrolls, and the implied probability of hiking in September rose slightly from Thursday to 34% at the time of writing. The 2s5s slope also flattened 2.5bp to 71.5bp, but still remains 7bp+ above its 2015 lows. A policy error by the Fed (i.e. hiking more than once this year in spite of declining global liquidity and falling inflation) can easily flatten 2s5s to 50bp or below. The risk to this trade is if the Fed relents in September but we think they will more likely than not do a Deutsche Bank Securities Inc. Page 15 EFTA01097829 4 September 2015 US Fixed Income Weekly "dirty" relent, which is to keep October and December FOMC dates in play. In this case 2s5s could steepen slightly but such a move would be short lived and limited in magnitude, if not for a hyped expectation of an October liftoff it would be because China's FX intervention flows continue to exert a flattening pressure on the curve, which we discussed earlier in this note. I6m1y-2y2y as a leveraged proxy for 2s5s spot 'Flattening carry is 31% better in 6m1y-2y2y than in 2s5s —finsly-2y2y (left se) —2s5s spot (right axis) Correlation 98.4% Bela- 1.74 Sep Oct Nov Dec Ian Feb Mar Apr May kin Jul Aug Sep S000t goonsche gag SS Level (N Dv01 i Ratio 3M carry (bp) Beta 2y spol 0.83 1.983 (8.3) 5y spot 1.54 4.838 5.3 2y-5y spot 0.71 2.44x (2.9) 1.00 6m1y 0.82 0.992 (15.1) 2y2y 1.87 1.927 11.6 6mly-2y2y 1.05 1.94x (3.5) 1.74 Santa OeunctelLvg Beta- adjusted Improve carry (bp) ment (2.9; (2.0) 31% Risk/reward shifting towards paying front end spreads Front end spread tightening has been considerable given concems about possible intervention-related selling, and has reached levels we think offer value. At the time of writing the most recent Chinese reserves data have not been released, and markets will naturally be looking for concrete evidence that intervention-related sales have indeed been material. While this may introduce event risk into paid positions in spreads, we think risk reward should be biased toward spread re-widening from current levels. There are three primary supporting arguments. The first is that China will be increasingly defensive of its reserves, and is more likely to devalue in a larger increment to discourage new speculation against the RMB and trap speculative capital. A large enough increment should significantly reduce further speculation on the margin and hence reduce the need to liquidate Treasury positions to sell dollars and buy domestic currency. The second is that there remains some possibility that if the Fed does indeed raise rates (which we think would increase the probability of further devaluation in a lumpy increment) that IOER will have to be set higher than the top of the desired band for overnight effective funds in order to create adequate incentive for banks to do the "arb" whereby they absorb cash balances in the overnight market and then deposit them at the Fed. Third, both a devaluation and the likely risk-off market environment that would accompany it should bias spreads wider. If, as remains our central expectation, the Fed does not raise rates, then we would expect speculative pressure against the RMB to decrease somewhat, slowing reserve loss and Treasury liquidation. So even though diminished financial stress might work against spreads in this scenario, intervention- related selling could well decline. Financing is obviously critical with front end spreads, and this trade is complicated somewhat by high term repo rates relative to LIBOR. The September 2y note, given current levels, is likely to a reopening of the Page 16 Deutsche Bank Securities Inc. EFTA01097830 4 September 2015 US Fixed Income Weekly September 2017 5y note, which means the large issue is unlikely to trade tighter than GC. We note that as usual this September 2y should be the CTD issue into the December TU contract. In fact 3m GC has traded at levels above LIBOR as financing markets price defensively for the possibility of a September rate hike. This would effectively mean borrowing to fund the position at higher rates than offered by the Treasury asset itself. In this case investors are likely better served by rolling on open rather than locking in term financing. September month/quarter end could see elevated ovemight GC levels, which would argue for exiting the trade at or shortly following the RAC meeting. Naturally the trade is exposed to further spread tightening, and in theory potential losses are unlimited. However, more pragmatically, financing spreads offer some support against dramatic spread tightening. Dealer positions in Treasuries maturing in 2 years or less 30.0 25.0 20.0 15.0 c 0 -.4 10.0 .0 5.0 0.0 -5.0 -10.0 —Primary dealer inventory <2 y :4" yb Nts St' 41' N e, N, ,tb & 64 e; C4. D. C 4: . (< S + Of 9 ,ke 4, Sans &obi.) Anew matrons &wok Did dealer positions tell much about intervention flows in the past? The concentration of foreign official holdings of Treasuries in the front end of yield curve suggests foreign reserve losses lead to yield curve flatteners to the extent that central banks sell their Treasury holdings. Treasury's TIC data shows that about 56% foreign official holdings of Treasuries mature within three years as of June 2014, up from about 48% as of June 2010. We note that primary dealer positions in short dated coupon Treasuries and TIPS have increased rapidly over the past few weeks. For example, dealer positions in Treasuries maturing in three years and less jumped to $18.6 billion on August 26; they were as low as -$11 billion in early July. Dealer positions in short dated TIPS set a record high on August 19. Deutsche Bank Securities Inc. Page 17 EFTA01097831 4 September 2015 US Fixed Income Weekly There has been an increased concentration in short Dealer positions in TIPS maturing in less than or equal to dated Treasury holdings by foreign official institutions 2 years 60% - SO% 40% - 30% 20% - 10% 0% - Save* Tv Mal 1 Percentage of Treasury Maturities Held by Foreign Official Institutions 7,000 6,000 02010 • 2014 5,000 4,000 3,000 E 69 2,000 • 3.5y S.lOv 10y. -1,000 Jan-14 —Rimary Dealer Positions: TIPS Due in Less than or Equal to 2 Years (EOP,MiLS) .Sava. Fed awotvyur Binif Jul-14 How much did intervention-related flows affect dealer positions in the past? To answer that question, we analyzed Japan's foreign exchange operations in US dollars and dealer positions in short dated coupon Treasuries from 1991 to the present. The most recent operations occurred in 2010 and 2011, when Japan bought US dollars and sold yen. The operations that sold US dollars and bought yen were less frequent and have not occurred since 1998. It was evident that dollar buying foreign exchange operations coincided with a decline in dealer positions in short dated Treasuries, but the effects were not overwhelming. On a related note, there has been an uptick in PBoC's OMO net injections of funds recently, in the order of CNY215 billion in the second half of August, which came along with the CNY depreciation. Last time when the net injections in this order of magnitude occurred was late February. Opportunities abound in inflation markets Volatility in inflation markets has continued along with commodities and equities, creating opportunities for active traders. We like being long front end breakevens in forwards, e.g., one-year breakevens implied by short maturity TIPS, such as the 7/2016s and the 7/2017s, currently trades around 1.3%. One can also hedge out energy prices in that trade to create a synthetic exposure to core CPI. For example, one can use gasoline RBOB futures Dec16 and Dec17, which have higher open interest than neighboring contracts, taking advantage of the contango. The average core CPI over the past ten years is about 1.9%. Only briefly in 2010, did the year-over-year core CPI dipped below 1.0%. Page 18 Deutsche Bank Securities Inc. EFTA01097832 4 September 2015 US Fixed Income Weekly 'Long forward breakevens, either outright or hedged with energy futures 2.2 2.0 1.0 - 1y fwd implied 8E from 7/15/16 to 7/15/17 - lyfwd implied 8E from 1/15/17 to 1/15/18 8/1/15 2/1/15 3/1/15 4/1/15 5/1/15 6/1/15 7/1/15 Sane Sxmbrcr hunre [Pond Desna Banc 9/1/15 A simpler version of the implied front end forward breakevens is to be long front end breakevens outright. They have lagged oil prices. A regression of five-year TIPS breakevens against oil prices on past six months' data suggests breakevens are too low by 15bp to 20bp, given the current oil prices. Similarly, 5s/10s breakeven curve appears too steep and have room to flatten relative to oil prices. So the weakness in front end breakevens appears to be more than a function of energy prices. Dealer positions in TIPS maturing in less than or equal to 2 years are at a record high. 'Front end TIPS breakevens have lagged oil prices I5stl0s breakeven curve appears to have room to flatten 1.8 1.7 1.6 p 1.5 1.4 - a ▪ 1.3 1.2 .• • 1.1 • 1.0 38 40 42 44 46 48 50 52 Oil Prices y= 0.0234 0.3417 = 0.7756 • •#* • * • • • # • • *. * • •*, • • Last limos data •9/4/2015 Sane eeonamtiverOoman an 54 56 58 60 0.45 0.40 0.35 C• •▪ 0.30 to -I 0.25 - dt. • 0.20 • • • ••• • y=.0.0073x 0.6339 * • ♦* * = 0.5603 a • • 0.15 • s • 410• * ,••• 40 '1 •t.a. difr ciP• • • • • • * • • • • • •Last limos data X9/4/2015 • • 62 36 38 40 42 44 46 48 50 52 54 56 58 60 62 Oil Prices I Source: tornixeg one Oeuerest BIM 5-year inflation basis has recovered, while 30-year inflation basis has done less well, and remains in the low end of the long term trading range. The 5-year inflation basis traded as low as +13bp in April and has bounced to about +25bp lately. The 30-year inflation basis currently trades about +25bp as well, having widened from about +18bp in late May. Over the past one year, the spread between the two basis spread has averaged around +6bp. Investors should consider inflation basis steepeners by being long 30-year inflation basis against 5-year inflation basis. Deutsche Bank Securities Inc. Page 19 EFTA01097833 4 September 2015 US Fixed Income Weekly 5-year inflation basis has recovered, ... 0.50 0.45 0A0 0.35 0.30 0.25 0.20 0.15 0.10 -5yr inflation swaps minus TIPS BEs Jan-13 Jan-14 Jan-15 Jan-10 Jan-11 Jan-12 ...while 30-year inflation basis has remained in the low end of the long term trading range 0.7 0.6 0.5 0.4 0.3 0.2 -30yr inflation swaps minus TIPS BEs Jan-13 Jan-14 Jan-15 Jan-10 Jan-11 Jan-12 Sawa Bbornbav and Dane* a.s Sane. Biborthesp.intlDouracilo Bang US CPI-U NSA y/y, actual and forecast MoM CPI-U, actual and forecast (non-seasonally- adjusted) 6.0 6.0 4.0 3.0 2.0 1.0 0.0 -1.0 -2.0 -3.0 Aug-04 Aug-06 Aug-06 Aug-10 Aug-12 Smear luau ollaborasevelos ., Dwane ant Aug-I6 0.7 CI liMoM NSA 0.6 - Projected 0.5 0.4 0.3 0.2 0.1 o.o -0.1 lul - -0.2 -0.3 <4.4, v¢', i VY 00 4 CP:d r, 140 , Sane fr anc Lire SlIonsros sad Deutsche Bart Auction Preview: 3s, 10s, and Bonds Treasury will sell a total of $58 billion notional securities worth roughly the same in ten-year cash equivalent through three- and ten-year notes and 30- year bond auction next week. The auction will settle on Tuesday, September 15, against an estimated $32 billion of coupon securities on the same day. The combined customer participation of this set of auction decreased for the third straight month to 63% from 64.2% in July, but remained above its one-year average of 62.2%. Direct bidders declined to a three-year record low of 7.7% from 11.9% in July (1yr avg. 12.3%). However, indirect bidders took down 55.3% of the supply up from July's 52.2%, and beat the average 49.9% for the seventh month in a row. 3-year note Indirect bidder participation increased to 52.8% from July's 47.7%, above the one-year average of 45.7% in every month since last December. However, Page 20 Deutsche Bank Securities Inc. EFTA01097834 4 September 2015 US Fixed Income Weekly direct bidders dropped to 8.2% from 13.9% in July (12.3% average). The combined customer participation of 61.0% was close to the 61.6% in July and remained above its one-year average 58% for the sixth straight month. Allotments share to investment funds rose to a record 45.3% from July's 38.9%, and compares with the one-year average of 35.4%. However, the allotments share to foreign and international investors dropped to 13.5% from July's 20.1%, and was soft as compared to the average 19.2% for the first time since April. The bid-to-cover ratio bounced back to 3.34 from 3.16 in July, above the average of 3.29. The auction stopped on the screws for the second straight month. Dealer positioning in two- to three-year Treasuries increased by $1.6 billion from the last auction to $1billion as of August 26. 13-year note auction statistics Size ($bn) Primary Dealers Direct Bidders Indirect Bidders Cover Ratio Stop-out 1PM WI Yield Bid BP Tail 1yr Avg $24.8 42.0% 12.3% 45.7% 3.29 -0.2 Aug-15 $24.0 39.0% 8.2% 52.8% 3.34 1.013 1.013 0.0 Jul-15 $24.0 38.4% 13.9% 47.7% 3.16 0.932 0.933 0.0 Jun-15 $24.0 39.6% 9.7% 50.7% 3.33 1.125 1.124 0.1 May-15 $24.0 35.7% 11.6% 52.7% 3.34 1.000 1.005 -0.5 Apr-15 $24.0 39.5% 11.1% 49.4% 3.25 0.865 0.866 -0.1 Mar-15 $24.0 40.5% 8.0% 51.4% 3.33 1.104 1.110 -0.6 Feb-15 $24.0 43.9% 7.2% 48.9% 3.34 1.050 1.056 -0.6 Jan-15 $24.0 39.4% 14S% 45.8% 3.33 0.926 0.933 -0.6 Dec-14 $25.0 47.7% 10.1% 42.2% 3.24 1.066 1.066 0.0 Nov-14 $26.0 47.1% 15.2% 37.7% 3.18 0.998 0.997 0.1 Oct-14 $27.0 47.0% 17.4% 35.5% 3.42 0.994 0.997 -0.3 Sep-14 $27.0 46.6% 20.3% 33.1% 3.17 1.066 1.064 0.2 &war US revenefited Davao* Bent 10-year note Indirect bidder participation increased to 60.1% from July's 58.1%, beating its one-year average of 54.9% for the seventh straight month. Direct bidders took down 5.8% of the supply, their lowest of the last three years and compares with the average 11.1%. The combined customer participation declined to 66% from 70.2% in July, in line with the one-year average. The allotments share to investment funds decreased to 41.3% from 45.3% of the auction in July, but was still above its one-year average 40.1%. However, foreign and international investor share increased to 22.7% from July's 21.7%, a touch below the average 23.0%. The bid-to-cover ratio fell to 2.40 from July's 2.72, the lowest since March 2009, and well below the average of 2.65. The auction tailed by 0.8bp for the first time in the last seven months. Dealer net shorts in seven-to eleven-year Treasuries increased by $1.8 billion from around the last auction to $3.9 billion as of August 26. Deutsche Bank Securities Inc. Page 21 EFTA01097835 4 September 2015 US Fixed Income Weekly 110-year note auction statistics Size ($bn) Primary Dealers Direct Bidders Indirect Bidders Cover Ratio Stop-out 1PM WI Yield Bid BP Tail Tyr Avg $ 22.0 34.0% 11.1% 54.9% 265 -0.2 Aug-15 $ 24.0 34.0% 5.8% 60.1% 2.40 2.115 2.107 0.8 Jul-15 $ 21.0 29.8% 12.1% 58.1% 2.72 2.225 2.232 -0.7 Jun-15 $ 21.0 30.0% 12.1% 57.9% 2.74 2.461 2.473 -1.2 May-15 $ 24.0 18.9% 20.9% 60.2% 2.72 2.237 2.256 -1.9 Apr-15 $ 21.0 32.2% 9.3% 58.5% 2.62 1.925 t928 -0.3 Mar-15 $ 21.0 31.2% 10.2% 58.6% 2.65 2.139 2.147 -0.8 Feb-15 $ 24.0 27.8% 12.7% 59.5% 2.62 2.000 2.011 -1.1 Jan-15 $ 21.0 40.8% 9.2% 50.0% 2.61 1.930 1.917 1.3 Dec-14 $ 21.0 39.3% 6.9% 53.8% 2.97 2.214 2.217 -0.3 Nov-14 $ 24.0 42.0% 13.4% 44.7% 2.52 2.365 2.37 -0.5 Oct-14 $ 21.0 49.0% 6.6% 44.4% 2.52 2.381 2.366 1.5 Sep-14 $ 21.0 33.5% 13.5% 53.0% 2.71 2.535 2.532 0.3 sc.no! us Threw, end ovate hat 30-year bond Direct bidder participation increased to 9.9% of the supply from 8.1% in July, but still below the one-year average of 14.4%. Indirect bidders took down 51.9% in August, almost unchanged from July and beat their one-year average of 49.4% for the seventh straight month. The combined customer participation increased to 61.8% from 59.2% in July, but remained below its one-year average of 63.8% for the second straight month. Allotments share to investment funds declined to 48.1% from 49.1% in July, below the one-year average of 483% for the first time in the last four months. The allotments share to foreign and intemational investors increased to 11.4% from 7.7% of the auction in July, but remained below the average of 12.5%.The bid-to-cover ratio of 2.26 was almost the same as in July and compares with the average 2.36. The last auction tailed by 2.2bp, the most in the last five refunding auctions. Dealer net longs in more than eleven-year Treasuries increased by $1.1 billion to $12.6 billion over the week ended on August 26 130-year bond auction statistics Size ($bn) Primary Dealers Direct Bidders Indirect Bidders Cover Ratio Stop-out 1PM WI Yield Bid BP Tail Tyr Avg $14.0 36.2% 144% 49.4% 236 0.8 Aug-15 $ 16.0 38.2% 9.9% 51.9% 2.26 2.880 2.858 2.2 Jul-15 $ 13.0 40.8% 8.1% 51.1% 2.23 3.084 3.070 1.4 Jun-15 $ 13.0 33.6% 14.4% 52.0% 2.54 3.138 3.149 -1.1 May-15 $ 16.0 38.0% 11.1% 50.8% 2.20 3.044 3.023 2.1 Apr-15 $ 13.0 41.8% 7.0% 51.3% 2.18 2.597 2.567 3.0 Mar-15 $ 13.0 36.6% 11.6% 51.9% 2.18 2.681 2.662 1.9 Feb-15 $ 16.0 35.1% 15.5% 49.4% 2.26 2.560 2.555 0.5 Jan-15 $ 13.0 37.4% 13.7% 48.9% 2.32 2.430 2.411 1.9 Dec-14 $ 13.0 25.9% 24.3% 49.8% 2.76 2.848 2.872 -2.4 Nov-14 $ 16.0 42.5% 13.8% 43.8% 2.29 3.092 3.078 1.4 Oct-14 $ 13.0 32.2% 21.5% 46.2% 2.40 3.074 3.071 0.3 Sep-14 $ 13.0 32.8% 21.8% 45.5% 2.67 3.240 3.261 -2.1 Save* ut l alsuryaN AllAUMe Bank Page 22 Deutsche Bank Securities Inc. EFTA01097836 4 September 2015 US Fixed Income Weekly United States Credit HY Strategy IG Strategy US Credit Strategy Volatility This High Tends To Last Aftershocks lasting for weeks/months usually follow spikes like this As the dust from initial shake-up in global risk assets last week began to settle, markets turned to soul-searching. Was that a flash crash or not? How much did poor summer liquidity contribute? What part did new regulations play? Did markets "overreact", or was the move supported by deteriorating macro fundamentals? Will the Fed hike or do ClE4? Rarely did opinions appear to vary this greatly over such a wide set of important issues. The extent of volatility was of course incredible. From a 7x sigma move in equities and all-time high change in vol of vol on Monday, to 700pts of total travel distance by S&P500 during the week, to four consecutive days of 6x- plus sigma moves in oil, recent trading sessions were nothing short of extraordinary. One particular development that gained some attention but still lacks proper appreciation by the market, in our view, is a failure to price dozens of equity ETFs on last Monday opening, a development that could have long-lasting repercussions for this $2tr1n AUM industry. As it often happens, this surprise development exposed how far off the reality perceptions stood on the topic of liquidity. Whereas so many pundits predicted the day when HY/IG ETFs will fail to clear, plain-vanilla equity ETFs failed to do so, while no issues were reported in credit space. The VIX index has closed at above 30pts for three days in a row early last week, and returned there this Tuesday. The significance of this level comes from historical experience shown in two graphs on the right. Here, for the sake of better readability, we have broken down its time series to 1997-2003 and 2007-2011, and highlighted the 30pt level with a red line (2004-2006 and 2012- 2015 are omitted as the index never reached 30pts in those years). The graphs seem to suggest that once volatility jumps to 30pts on the VIX scale, it tends to stay there for at least a few weeks or even months, with a total of seven distinct periods confirming this observation. The only exceptions that happened during the past 20 years have taken place in early 2000 and late 2007/early 2008. So technically speaking, even periods of quick reversal from a 30pt VIX levels have previously proven to be prescient indicators of more volatility to come down the road. We would thus caution our readers not to be too quick in dismissing what happened over the past two weeks as simple "overreaction". We explore the volatility angle of this developing story in greater detail on the following pages. In the credit world, spreads have naturally widened during this past week, albeit to a much lesser extent than what would have been expected given the volatility in equities. Our DM USD HY index has widened initially from 550bp earlier last week to 600 by Monday, and then retraced most of that range, closing at 566. In IG, the identical range was 157 - 165 - 163. Negative fund flows have reemerged in credit, with EPFR showing $5bn out of HY last week, the sevenths-largest reading on record. Combined HY outflows since June have claimed $18bn, compared to a $38bn withdrawal in 2H 2014. The takeaway here is that HY market's ability to offset outflows was poorer in this episode compared to 2H 2014, as evidenced by a similar degree of widening (+130bp last 3 mo vs +150bp in 2014) on half the size of outflows. Oleg Melentyev, CFA Strategist Daniel Sone Figure 1: VIX index 1997-2003 so 4$ 40 35 15 1997 995 1939 1300 —vu1916.20,9 VIX index 2006-2011 50 45 35 30 LS 2401 NW 2003 iR4 2034 Swim Numb. Ow* AI 2002 3010 —vtl 10091011 1011 1 Deutsche Bank Securities Inc. Page 23 EFTA01097837 4 September 2015 US Fixed Income Weekly Following the recent moves across asset classes, our relative value models are showing HY as being 50.75bp tight to IG, and 75-85bp tight to implied volatility in equities, FX, and rates. Additionally, we estimate that HY bonds are trading about 65bps wide relative to their equity valuations, as shown in Figure 2 below. In other words, equities still appear to be the most overpriced asset in our relative valuation framework. To arrive at our relative equity-vs-HY signal, we take all public HY issuers with a minimum of $1bn of debt outstanding and Total Debt/Enterprise Value ratio in the rage of 20% - 85%. The cutoff points here are used to exclude low- levered names with little meaningful spread sensitivity to equity values, and those deeply distressed names with D/EVs approaching 100%. Live equity valuations are reflected in this calculation as components of enterprise value. We then aggregate these values up to a market level and apply total debt weights capped at 2% to each issuer D/EV metric. On the bond side, we take 5yr benchmark-sized most recently issued senior unsecured bond spread levels, and aggregate them up using the same weighting methodology. The resulting combination provides a clean view of relative bond-vs-equity valuations adjusted for leverage and matched issuer-by-issuer. Each dot on the scatter plot represents a weekly observation going back to Jan 2010. Our sample includes only about 120 issuers, given the restrictions on bond liquidity/issuer size described above. At current levels, spreads in are about 65bps wide to respective debt/EV readings, or equity valuations adjusted for leverage. IFigure 2: US HY Issuer spreads vs Debt/Enterprise Ratio, combined for the market, total-debt weighted 700 650 600 550 S00 450 400 350 300 • j • • •.... * aa it • • a • at a • b • a y • -1.1129x2 4 131.54x - 3326.5 R2 e 0.6121 250 1 43 Sane! Ammar Blot 48 53 58 63 150 100 50 0 50 100 2010 2011 2012 2013 2014 2015 . .11Y OAS Actual ex Estimated on Debt/EV Other measures of relative value we have recently introduced, the proportion of distressed issuers in HY stood at 18.3% in US, versus 23.6% in EM following market repricing. Our argument here remains that this differential should be substantially wider (more EM names trading distressed vs US), given that EM HY market has twice as much weight in commodity names relative to US. Furthermore, our GDP-weighted basket of EM currencies devalued further in recent days, losing 2% since Aug 21, and bringing the cumulative devaluation in EM to 41% since a year ago. This factor is important in two respects: (a) it points to potential headwinds many EM corp issuers are facing in servicing their USD denominated debt and (2) currencies continued to devalue even over the past week on top of extreme weakness going into it. As we have Page 24 Deutsche Bank Securities Inc. EFTA01097838 4 September 2015 US Fixed Income Weekly shown in our last oat issuers in many important EM domiciles, such as Chile, Mexico, Brazil, Indonesia, Russia, and Turkey have more than half of their total debt denominated in external currencies, predominantly in USD. It is also important to keep in mind that China's corporates have the lowest external debt burden of all major EM countries, at less than 20%. The focus thus should not be just China, but a potential for spillovers to the rest of EM. Finally, we have suggested that some EM IG commodity names are still trading tight, in our opinion, given the prevailing macro environment. Following the market repricing last week, all these names are now trading meaningfully wider, including Pemex at 255bp (+25bp), Ecopetrol at 375 (+15), Vale at 310 (+20), Codelco at 235 (+20). While we view this move as one in the right direction, it still falls short of where it needs to be in this environment. In all cases, these EM names are trading roughly in line with US-domiciled issuers in the same industries with similar leverage, something that is unsustainable longer-term, in our opinion. We note that EM oil names have traded wider in the past week even in the face of a net 15% rebound in oil prices. Additionally, three largest Brazilian banks - Banco do Brasil, Bradesco, and ITAU - are all trading in the 450-500bp spread range, while all being technically rated as IG at this point'. We view these levels as incompatible with being IG in the longer run, particularly for a financial institution, relying heavily on its ability to access capital markets. Volatility risk premia Because the VIX has breached a level of 30 so rarely over the past decade, we looked to expand the number of recent historical parallels to last week's equity market shock through an alternative measure of implied vol relative to the level of volatility actually experienced in the market over the prior year. What we find is that such shocks tend to involve an extended period of market choppiness that runs its course over a period measured in weeks and months, not in days. The implied-vs-realized vol measure is considered to be a proxy for the volatility risk premium that rises and falls based upon investor risk version and expectations that volatility might break out from trend levels. In the years leading up to the financial crisis of 2008, for example, realized volatility was substantially lower than it is today, which created a lower threshold for implied volatilities to signal extreme levels of investor fear. Similarly, amid the choppiness of the equity markets during the period immediately after the 2008 financial crisis, implied volatilities remained high on an absolute basis but were actually lower than the trend at the time, suggesting an improvement of market conditions. Looking most recently, implied volatility on three-month, at-the-money SPX options reached a level that was nearly double the level of realized volatility over the past 12 months, and has since settled into a 50% premium. The table shown here lists the ten prior episodes when the ratio of 3m ATM implied to 12m realized volatility exceeded 1.5x, as well as the number of days that implied vols remained above the equity market performance over the episode. (We measure equity performance beginning a week before the day when the vol risk premium rose above 1.5x against the low print on the S&P 500 over the episode.) One observation is that these episodes are associated with an average decline in the S&P index of 12%, or if the 2007-8 crisis episodes are I ITAU is a five-8 split-rated issuer. 2 See. for example, httplanww.bes.org/publiqtrpdfir_qt1409v.htm IFigure 3: High vol premium episodes Stan Length S&P Days Drop to S&P Low Jul '04 17 -3% 17 May '06 57 -5% 22 Feb '07 6 -6% 6 Jun '07 83 -8% 50 Oct '07 110 -16% 95 Oct '08 45 -35% 44 May '10 57 -15% 57 Aug '11 66 -17% 62 Oct'14 10 -5% 5 Dec '14 50 -5% 5 Aug '15 12 -11% 4 Avg 50 -12% 36 ex '07-8 38 -8% 25 SOur00. Qruatlw Bank Deutsche Bank Securities Inc. Page 25 EFTA01097839 4 September 2015 US Fixed Income Weekly removed, 8%. This puts the current episode's maximum decline of 11% in good company with historical episodes. But other aspects of the historical record suggest that we may not out of the woods yet. For one, previous episodes of shocks to the volatility risk premium tend to last substantially longer than two weeks; they take an average of 50 days, or 38 days if the crisis-era episodes are excluded. (While there are some previous examples of "short" vol shocks in early 2007 and October 2014, these might be more appropriately viewed as early warning indicators for more extended periods of high volatility, and less as standalone examples.) Also, the equity markets have tended to hit rock bottom during these episodes an average of 30 days or so after implied volatility rises. The S&P 500 hit its low just four days after the vol shock, which seems out of line with historical pattems. Figure 4: Equity implied volatility relative to realized vol 2.25 2.00 1.75 150 1.25 1.00 2004 2005 2006 2007 2009 2009 2010 2011 2012 2011 2014 2015 —3m Implied/12m Realised Vol Ratio, SPX Sane! Deuncia&tn. IFigure 5: S&P level during elevated volatility episodes 2,300 2,100 1,900 1,700 1,500 1,300 1,100 900 700 2004 2005 2006 2007 2009 2009 2010 2011 2012 2013 2014 2015 —SPX —Implied/Reelired > 1.Sx Source: Oruro* Seat The shock to the VIX index can be attributed to three inter-related measures of equity volatility: the general level of at-the-money volatility relative to the trend of realized volatility, the premium for options expiring in the near-term (1m) relative to somewhat longer-expiry (3m) options, as well as the premium for out-of-the-money strikes over at-the-money strikes. An additional way to measure the magnitude of last week's equity market shock is to consider the elevated level of volatility risk premium, measured here as the degree to which option-implied volatility exceeds realized volatility. Finally, it's worth observing that credit markets are also participating in these developments. The implied- to-realized ratio on the CDX indices is also elevated, sitting in the 90thh percentile over the last 3.5 years for lm options on IG CDX, while the equity risk premium is in the 99th percentile over the same period. Conclusions Overall, we find market moves over the past week were in line with our expectations, directionally, although their speed, volatility, and reversals were certainly as much a surprise to us as they were to most other investors. We thought equities and other risk asset classes were much closer to what we perceive to be fair value at their bottom last Tuesday than they were following a retracement. Developments in China could have significant repercussions for broader EM universe, and we don't find EM credit spreads to be properly reflecting those consequences. We see main risks associated with EM credit assets being forced to re-price more substantially and having second-order effects on US credit markets. Additionally, historical evidence suggests that periods of extreme volatility similar to those witnessed over the past few sessions tend to exhibit propensity for aftershocks, usually lasting for weeks if not months. IFigure 6: Seasonality trends in HY/IG Average HY OAS monthly change 20 15 to 5 0 - .5 - .30 - .a - 20 0 Mn fa Mar hat Wig Ns hl tug 500 Oct Nov Oec el* keno, OW olPerszb A 70 10 50 tl 30 20 rage 1G OAS monthly change 00 • • 70 60 50 • T 20 1 20 CO 0 Ma lob Ms e kW Am M A.5 Sop 03 Nov On •I60,NO3f{04 • • c to. ,tootnifrothe SocroavOeunone Bent Page 26 Deutsche Bank Securities Inc. EFTA01097840 4 September 2015 US Fixed Income Weekly In terms of relative value we find IG to be priced most attractively here, although this is unlikely to prevent it from widening in absolute terms, if broad market volatility persists. A +120bp repricing in HY over the past three months has moved valuations closer to reality, in our opinion, although it continues to trade 50.75bp tight to IG, and 75-85bp tight to implied volatility in equities, FX, and rates. At the same time HY is trading 65bp wide to a basket of issuer- matched equities adjusted for leverage (via debt/EV ratios), and this still suggests to us further vulnerability in broader equity space. Finally, September is the last month of the May-Sept seasonally-weak stretch in credit (Figure 3). Our targets in US credit thus remain 650bp all-in HY and 575bp ex-energy (+85bp and +70bp from here respectively), and 170bp in IG (+6bp). The Fed Last week's volatility naturally triggered a discussion whether the Fed is going to be able to proceed with its intentions to raise rates in the near future. Earlier voices and opinions on this matter seemed to side on with the view that it is unlikely to be able to do so, and interest rate derivatives have shown a substantially lower probability of the move in September. And yet Fed speakers who had a chance to react to recent events publicly recently have mostly sided with the narrative that while additional level of uncertainty has been introduced by recent volatility, the initial move in September, and even October, are still very much on the table. As a result, the forwards were still pricing in three full, and potentially four rate hikes before Dec 2016, and the 2yr Treasury yield was at 72bp, or 3bp away from its 2015 highs, at the time of this writing. This reaction is not surprising to us, as we have expressed our opinion that the bar is set very high for the Fed to pull the plug on its intentions to raise rates later this year. We continue to believe that it would take a lot more than S&P500 at 5% below its average level in 2015, where it stands today, for the Fed to seriously consider changing its plans. We would have to see more volatility and more negative (and sustained) reaction in US markets before the Fed is forced to step back. And while this view almost creates a breeding ground for more volatility, it also sets the stage for its eventual undoing as the risk of Fed weighing in against the market weakness will remain ever more present in coming weeks and months. The full list of our existing and past trade recommendations is available under » Legal » US Credit Strategy. Deutsche Bank Securities Inc. Page 27 EFTA01097841 4 September 2015 US Fixed Income Weekly Chart Pack IDB Treasury Yield Forecasts 2Y 5Y 10Y 30Y 2015 03 0.75 1.60 2.25 2.95 2015 04 1.15 1.90 2.45 3.10 2016 01 1.20 2.00 2.75 3.15 2016 02 1.20 2.25 3.00 3.25 Source. Llognets sent Ikact &sans ,Mrs avaca6Arti I or atimariviod. I2-5-10 butterfly, 50/50 weight, long bullet 40 — Butterfly 2-5.10 [ 2-3-5 butterfly, 50/50 weight, long bullet 20 0 -20 -40 -60 -80 -100 —ButterfIy23.5 NAmtievA 03 04 05 06 07 08 09 10 11 12 13 14 15 Same: Davao* Oink 12-10-30 butterfly, 50/50 weight, long bullet 120 -Butterfly 2-10-30 30 100 20 10 0 -10 -20 -30 .40 03 04 05 06 07 08 09 10 11 12 13 14 15 &vim 0 *Ma* an 5-10-30 butterfly, 50/50 weight, long bullet 55 45 35 25 15 5 -5 15 — Butterfly 5.1030 09 10 11 12 13 14 02 03 04 05 06 07 08 Savor: 0 tkitla0 SW* 80 60 40 20 0 20 03 04 05 06 07 08 03 10 11 12 13 14 15 Sauter Davao* ftw* 15-7-10 butterfly, 50/50 weight, tong bullet 10 —Butterfly5.7-10 8 6 4 2 0 -2 12 Sep-12 Mar-13 Sep-13 Mar-14 Sep-14 Mar-15 Sep-15 Page 28 Deutsche Bank Securities Inc. EFTA01097842 4 September 2015 US Fixed Income Weekly 2-5-10 butterfly (PCA 65.88% and 34.12% risk on the wings) 60 —Butterfly2-5-10 54 48 42 36 30 24 18 Mar-14 Sep-14 Mar-15 Sep-13 SavectOeuedreft•nt Sep-15 2-10-30 butterfly (PCA 26.14% and 73.86% risk on the wings) 6 2 - -2 -6 - -10 - -14 - -18 - -22 - -26 —Butterfly2-10,30 Sep-13 Mar-14 Sep-14 Mar-15 Sep-15 5-10-30 butterfly (PCA 34.92% and 65.08% risk on the wings) -15 -20 25 - -30 — Butterfly5-10-30 tk • Sep-13 Mar-14 Sep-14 Mat-15 Se[:- I 5 Seirce Oriorikiasie Deutsche Bank Securities Inc. Page 29 EFTA01097843 4 September 2015 US Fixed Income Weekly I30Y Treasury yield seasonals (Change since Jan-1) 70 —2005-2014 —1997-2014 —2015 50 30 10 -10 I10Y Treasury yield seasonals (Change since Jan-1) 42 . .2005-2014 —1997-2014 —2015 32 22 12 2 -8 -18 -28 -38 -50 -48 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec I5Y Treasury yield seasonals (Change since Jan-1) 25 15 5 -5 -15 -25 -35 -45 . 2005-2014 —1997-2014 —2015 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Same: °area* ant I2Y/5Y slope seasonals (Change since Jan-1) 15 10 5 0 -5 -10 -15 -20 25 2005-2014 1997 2010 2015 Aug Sep Oct Nov Dec Jan Feb Mar Apr May Jun Jul Jul Aug Sep Oct Nov Dec J n Feb Mar Apr May Jun 2Y Treasury yield seasonals (Change since Jan-1) 25 -2005-2014 -19972014 -2015 15 -15 -25 -35 J n Feb Mar Apt May Jun Jul Aug Sep Oct Nov Dec Sweet Davao* ant I2Y/10Y slope seasonals (Change since Jan-1) 40 —2005-2014 —1997-2014 —2015 30 20 10 0 -10 -20 -30 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Sante. Claututs Borg Page 30 Deutsche Bank Securities Inc. EFTA01097844 4 September 2015 US Fixed Income Weekly I2Y/30Y slope seasonals (Change since Jan-1) 62 52 42 32 22 12 2 -8 -18 28 J n Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec 2005-2014 . 1997-2014 2015 I5Y/30Y slope seasonals (Change since Jan-1) 50 — 20^5 2011 19972014 —2015 40 30 20 10 0 10 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Soon». Do~o ibnk 130Y swap spread seasonals (Change since Jan-1) .i .2C05-2014 —1997 2014 2015 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Sweet. Do~oBánk 15Y/10Y slope seasonals (Change since Jan-1) 27 22 17 12 7 2 -8 , 2005-2011 —1997-2014 . 2015 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec I10Y/30Y slope seasonals (Change since Jan-1) 2W 2014 —19972014 . .2015 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Source. D~cellánk I10Y swap spread seasonals (Change since Jan-1) 7 , .2005-2014 - 1997 2014 2015 5 3 1 -1 -3 -5 -7 -9 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Sane: ~so» (Oak Deutsche Bank Securities Inc. Page 31 EFTA01097845 4 September 2015 US Fixed Income Weekly I5Y swap spread seasonals (Change since Jan-1) 8 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Semen: 0~ Hat 12Y swap spread seasonals (Change since Jan-1) 2005-2014 -1997 2014 • .2015 2005-2014 1997-2014 2015 IS&P Index seasonals (Change since Dec-31) 8% 2005-2014 .--.1997 2011 2015 -8% -10% J n Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Boonvr Demo» Bank I5Y10Y Implied vol seasonals (Change since Dec-31) 7 5 3 1 -1 -3 -5 -7 .2005-2014 . .1997-2014 .2015 Jul Aug Sep Oct Nov Dec Jan Feb Mar Apr May Jun Swore: &vase» St* 0 -2 -4 -6 -a -10 -12 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec &sum,: ~ea, e Bank I3M10Y Implied vol seasonals (Change since Dec-31) . 2095-2014 -1997-2014 -2015 25 20 15 10 5 0 -6 -10 -15 -20 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Swear ~be Bart Page 32 Deutsche Bank Securities Inc. EFTA01097846 4 September 2015 US Fixed Income Weekly I30Y Treasury roll business days from auction 1.7 1.3 0.9 0.5 0.1 -0.3 -0.7 -1.1 -1.5 -1.9 -2.3 - 2 875%08/45 - 2.500%02/45 - 3.000% 11/44 3.000% 05/45 0 20 40 60 80 Bus mess days tram the Melia. date 100 1 OY Treasury roll business days from auction 2.5 2.0 1.5 1.0 0.5 0.0 -0.5 -1.0 -1.5 2.0 120 0 20 40 60 80 100 120 Business days from the auction Ste — 2.000%08/25 - 2.000%02/25 -2.250%11/24 - 2.125% 05)25 IT( Treasury roll business days from auction - 875% 08/22 - 2 000%07/22 2.0 1.5 1.0 0.5 0.0 -0.5 1.0 0 10 20 30 40 Business days tram the b/Cticto date 50 Soomnberroono Sank — 2.125% 06/22 —1.875%05/22 60 1311 Treasury roll business days from auction - 1.000%06118 4.5 -1.125%06118 4.1 3.7 3.3 2.9 2.5 2.1 1.7 1.3 0.9 0.5 - 0.875% 07/18 - 1.000% 05/18 I5Y Treasury roll business days from auction 3.5 3.0 2.5 • 2.0 1.5 1.0 0.5 0.0 - -1.0 - 1.375% 08/20 - 1.625%06/20 - 1.50D% 05/20 - 1.625%07)20 50 O 10 20 30 40 Bus mess days from the action date Swear Ocersafe Ant 60 I211 Treasury roll business days from auction — 0.625% 08/17 -0 .820% 07/17 - 0.625% 06/17 -0.625% 05/17 4.7 4.2 3.7 3.2 • 2.7 2.2 • 1.7 1.2 • 0.7 0.2 0 10 20 30 40 50 60 -0.3 Business days from the auction date Sant: *Qty.*. ZiteM SMAT070.0301.9Pnt O 10 20 30 40 Business days from the auction date 50 60 Deutsche Bank Securities Inc. Page 33 EFTA01097847 4 September 2015 US Fixed Income Weekly Top 15 USD Flatteners fl .:-.k T,] , 1, Co. ry Iry Vo' Rot o I lirairilrEMEMEEMM:MISEIIIIEENEXICEI Percentile lAin 25th Median 75th Max I EME/MEMMIENEMOISEMEREIME111321 F MENCEEIMMUMEEILEICEMEEICI 11M Y3Y d.7 29.2 -0.2 EiriMINEMEMENCEIMMEEICIKIMMEEI 15 -1.3 0.1 0.5 0.9 4.0 Z022MMEEME3MMISEICEIEENEEICEI IIMICINTEMETIrMEEMIEENCEIFII MZEN CI MiEM ElEI IM CM I:3 El <`1'..faIMIEMMUMEXIOCIEBEIllallin - EMI MEM CUM CM ra MI ilM ETU ISEINTI mm EMUIMEMMIEEMIZZIIMDMEEIIEEICEIIIEEIIEI 1 ElliZi CM Win MIME= MEI CI CM [EMI MITENTIMETIrMEEIIITIETNITIFII 3M3Y5V -6.1 18.4 -0.4 29 -13 -0.5 0.0 DA 01 ' LthaMEEMMEENCEIMMEICIEMIKIIEMEI &war Desire Ow* ITop 15 EUR Flatteners r urrir irL i..1721122Erinr= 0.3 07 3.7 I 3/.12Y3Y 66 94 0.7 73 -2.0 03 2 6M2Y3Y 80 9.3 0.6 72 •1.7 6.3 0.2 0.7 2.4 3 1Y 2Y3Y 5.2 9.5 0.5 74 -12 -02 0.2 DA 1.6 4 36121T1 13.3 29.0 0.5 89 -1.8 -0.4 0.1 DA 3.0 5 6tA2YSY 12.2 26.0 0.5 70 -1.5 -0.3 0.1 DS 1.8 6 1Y 2Y5Y 10.3 24.4 0.4 75 -1.1 -0.3 0.1 DA 1.3 7 61.13Y5Y 82 16.9 0.4 72 -12 -0.3 0.1 DA 1.2 8 3612Y7Y 15.5 44.3 0.3 87 -1.8 -0.4 0.1 0.5 29 9 6M 2Y7Y 14,0 40.5 0.3 70 -1.4 -0.3 0.1 DA 1.8 10 3M3Y5Y 86 19.3 0.3 89 -1.3 -0.3 0.1 DA 1.4 11 1Y 3Y5Y 5.1 15.5 0.3 78 -1.0 -0.3 0.1 0.3 1.0 12 1Y 2Y7Y 11.3 37/ 0.3 76 -1.0 -0.3 0.1 0.3 1.1 13 6M 3Y7Y 7.9 31.6 0.3 78 -1.1 -0.4 0.0 02 1.0 14 3M 3Y7Y 88 386 02 70 -1.4 -0.4 0.0 0.3 1.4 15 1Y 3Y7Y II 29.5 02 93 -0.9 -0.3 0.0 02 08 &tom thmacts Sant ITop 15 JPY Flatteners Rank 1 Trade 1Y 2Y3Y 1y Carry 3.8 Imp. Vol 4.3 Ratio 0.9 Pe rcent- TillnP2919 99 .1A 0.1 0.5 7511171111W 06 1.0 2 6M 2Y3Y 4.5 5.6 OA 88 -13 0.2 0.5 0.7 1.7 3 1Y 255Y 7.9 11.4 03 83 -16 0.1 0.5 DA 1.2 4 3M 2Y3Y 5.4 82 03 72 -1.4 0.1 0.4 0.7 21 5 6M 2Y5Y 9.0 15.2 0.8 63 -1.8 0.1 0.5 0.7 1.8 13 1Y 1Y5Y 10.9 19.8 06 54 -1.8 0.3 0.5 0.7 1.4 7 3/A 21Te 10.0 18.3 0.5 43 -1.5 0.1 0.5 0.7 24 8 61.11Y5Y 12.1 23.2 0.5 50 -2.0 0.3 0.5 0.7 1.9 9 IV 1V3V BS 13.4 0.5 57 -1.8 0.2 0.5 0.7 1.9 10 61.11Y3Y 7.5 14.9 0.5 53 -1.9 0.2 0.5 0.7 29 If 1Y 217Y 9.7 20.0 0.5 58 -16 0.1 0.4 DA 1.1 12 1Y 3Y5Y 4.0 8.4 0.5 55 -1.4 0.0 0.4 DA 1.2 13 31.42Y7Y 122 25.8 0.5 55 -1.8 0.1 0.4 DA 20 14 GM2Y7Y 11.1 23.2 0.5 54 -15 0.1 0.4 DA 1.6 15 111 MY 12.7 27.2 0.5 413 .1.8 0.3 0.5 DA 1.2 Top 15 USD Steepeners Rank Trade 1, Caoy i to Vol Rat J Percentile Min 25th Median 75th Max ECNIMMEMEEMariffillirl KM= MENEEEMEEMOCEIEBEEMIIIEZI MEIIIMMEMMEMEINOMEEIEBEIMECIIII 4 3M5Y2ON* 30.9 375 OA 70 -1.0 0.2 0.5 CO 2.0 SIELITEMMEEMNIEMEINOISEICIEIMECI III KM EMIMIKINEEMMEINOISEIEMEEMECIM 0 3M re2ov WM rIE 05 69 EMTWENITIITI El ELIMMIEMEMEEMEIMOISEICEICEMIIIEEI Ea EZ=MIEMESMEINOMEEICEICENIMIE3 El rrarIMETIWIrrinwrimrn marEMIKEMIliiamcnnEEIKENIIIIIII EFIEEEMIEMENIENEINflISEILKIEENIIIIM ERIEZETIMINIrrEEITO rarrICIFIETZ Inn 14 3M 5Y2ST 322 41.1 05 68 -13 0.2 0.5 0.9 2.0 KEIEEMMEEMIEMEINOISEICEICIENECIE3 Sarre* OetraOrreitterk Top 15 EUR Steepeners Trade 3M ISY25Y 1 y Canyalmp-1/6 67 93 Ratio 0.7 Percentile Min 25th Median 75th Max 1 78 -0.1 0.3 0.5 0.7 1.6 2 I Y 15Y2DY 4.4 62 0.7 90 0.0 0.3 0.5 0.6 0.9 3 3M IST2ON 4.3 6.1 0.7 83 -0.1 0.3 0.5 0.7 1.4 4 3M ISY3ON 7.7 11.0 0.7 81 -0.1 0.2 0.4 0.6 1.4 5 1 Y 15N2ST 88 9.9 0.7 91 0.0 0.3 0.5 0.6 08 6 1 Y 10N2ST 136 20.1 0.7 72 -0.1 0.3 0.5 0.7 1.0 7 3M2DY25N 2.4 3.5 0.7 85 -0.1 0.2 0.4 06 1.3 8 1 Y 10N2DY 11.3 16.9 0.7 69 -0.1 0.3 0.5 0.7 1.1 9 1 Y 10Y3OT 14.5 218 0.7 77 -0.1 0.3 0.5 0.7 09 10 6M 10T3ON 143 216 0.7 77 -0.1 0.3 0.5 06 1.1 11 6M10Y2SY 133 202 0.7 71 0.0 0.3 0.5 0.7 1.2 12 6M 15Y20`1 4.3 6.6 0.7 93 0.0 0.3 0.5 0.6 1.1 13 6M 10Y2ON 10.9 18.7 0.7 69 0.0 0.3 0.5 0.7 1.2 14 6M 15Y251l 87 10.3 0.6 78 0.0 0.3 0.5 0.6 1.1 IS 3M IDY30`1 14.1 21.9 0.6 68 -0.1 0.3 0.5 0.7 1.4 Sago, Oman* ant ITop 15 JPY Steepeners Runk Trade 1 y Carry lap. Vol ' alio Pits Nn Mil 1 6/6 IST201 21 6.6 0.3 16 .1.3 0.4 0.7 0.9 IS 2 I Y 15Y2DY 24 8.6 0.3 6 -0.3 0.5 0.7 DS 1.6 3 35115Y2ON 1.8 72 0.3 14 -35 0.4 0.8 DS 24 4 6/A 10Y2Ti 1.7 132 0.1 9 -0.8 0.3 0.8 0.8 1.9 5 I le 10Y2DY 22 18.5 0.1 5 -0.3 0.3 0.8 0.8 1.5 6 3/A 10Y2ON 12 122 0.1 10 -12 0.3 0.5 0.8 2.7 7 6M 15Y30,1 52 108.9 0.0 1 -0.5 0.1 0.3 0.7 1.7 8 1 Y 15Y3OT 5.8 125.1 0.0 1 -0.3 0.1 0.2 0.8 1.2 9 6M IDY30`i 4.9 109.4 0.0 4 -0.6 0.1 0.3 0.7 1.7 10 1Y 7Y2DY 1.1 24.3 0.0 7 -0.3 0.2 0.4 0.6 1.1 II IY 10Y3OT 5.4 133.7 0.0 4 -0.4 0.1 0.3 0.8 1.2 12 3M 15Yri 5.0 128.6 0.0 2 -1.3 0.1 0.2 06 2.4 13 3M IDY3ON 4.4 130.9 0.0 4 -0.9 0.1 0.3 06 24 14 6M20Y30Y 3.2 102.2 0.0 2 -0.5 0.1 0.1 DA 1.4 16 1Y MOY 4.3 137.3 0.0 6 -02 0.1 0.3 06 1.2 Save or Deutsche SW Carry is calculated for neat 3 months and shown in annualized form. Volatility is calculated as Im realized for CAD and swatted from swaptions prices for other currencies. Percentile statistics are calculated from a W year history. Page 34 Deutsche Bank Securities Inc. EFTA01097848 4 September 2015 US Fixed Income Weekly I Top 15 CAD Flatteners ea Ltrade I y Carry. Errs Alzd Vol Elm Ratio min Percentile n Alm en 25Th En Median rm In-th ni Max MI IMEMM 2 3M 2Y3Y CM. CM Mr III Eli EH M EnliTEMI CM WIN KM =I= En MEI Er] Ea =KUM Ella WM KM MI= En lin Mr EU 5 6M rev Ell•WIENTE 59 runnun MnISTIZIEZEMEEN Clan EMI NM In® CI CM EMU WEI MEM EX. CM Min in EU rim raurrEnn ma FM WIWI CFI 9 1Y 3Y5Y MENEM 0.5 97 in Cirri M MEE= Min MEEM:311 M:I= IEEI CM NM in En MINIMUM CM BIM WM =::::= lEti Crain En 12 wren 1 nom marl Inn In III KEICI ELM t2iN WES an MEM in En in InIallil MEM REIM MI= En CM CM In El MCA ElmoryaNM =7=En En MINIM En Sa.v.. Ow.aseno Rank ITop 15 AUD Flatteners Rank Trade 3M 3Y5Y I y Carry 41.9 Inc. Vol 48.7 Ratio 09 Peron* Min 4.4 25th -0.6 Median 0.0 75th 0.6 Max 18 I 69 2 3M 2Y5Y 668 84.1 0.8 90 -1.2 -0.2 0.3 0.8 1A 3 3M 1Y5Y 938 1318 0.7 78 -1.3 -0.1 0.5 0.7 1.4 4 6M 2Y3Y 284 37.8 0.7 77 -IA 0.3 0.5 0.7 1.5 5 3M 1Y7Y 90.7 147.3 0.8 77 -12 -0.1 OA 0.8 1.3 6 3M 2Y7Y 837 109.0 0.8 92 -09 -0.2 02 OA 1.0 7 3M 2Y3Y 242 44A 0.8 78 -OS 02 OA OA 1.3 8 6M 21T( 43A 79.7 0.5 92 -IA -0.1 0.3 OA 0.9 9 1Y 1Y3Y 37.3 71.3 0.5 62 -09 0.1 0.3 06 1.0 10 6M IVEY 813 122.3 0.5 78 -1.1 -0.1 0.4 0.6 1.0 II 3M 1Y3Y 519 101.4 0.5 82 -IA 0.1 0.4 OA 1.5 12 1 Y 2Y3Y 21.7 42.7 0.5 81 -0.9 02 0.4 OA 1.1 13 3M 3Y7Y 388 78.9 03 93 -0.8 -0.4 0.0 0.3 1.0 14 66I 1Y3Y 483 928 0.5 73 -IA 0.1 OA 0.6 12 IS I 3M1Y10Y 836 170.9 0.5 74 -1.1 -0.1 0.3 0.6 1.1 Sane Deutsche Sank Top 15 GBP Flatteners Rank Trade EMI ly Carry MEM Imp Vol MIZE Ratio MIMI Percentile Mtn 25th Median 75th Max NZ IM7i= Ell En CHM In MEMIEMEMEN MEM MB MEM En En KEN In ES! ©®m CM MB ila En En EINEM CI 4 66I 1Y3Y 02 27.3 0.0 28 -1.1 0.0 0.3 06 3A MIEITIZI WEN MEM KEN M:= En lal Kinn in MCIMIEM ELM KM Ma En en MB In EU fl u ®m EIMWM ®Ern MTN in a iyIY3Y WEE rEMICEMOZEI IMEIM7110 ES MEM Ca Mai =1::= CI in WEI in ECIEZIMINEEM EMU MEM MEM En MEI MB In EU 11 3M 1Y7Y En En rra n ER era Enin in COMER tin MEM MEMEEI IIIMEEIIII En EEC MEM MEM KEN Oen IIIWEE1123 In On. - 9r . MITE n!EN MEM En En rim rn In NM 1Y 2Y3Y ®MEN EEO MMM CI III CM nal Swan °Noche Sant Top 15 CAD Steepeners L Tiede 3M 1Y2Y 1y Carry. 23.1 RDA Vol 10.0 Ratio I 22 Percentile 91 Min -12.8 25th -1.5 Median -0.5 7600148 0.5 18.5 I 2 31.410Y2ON 12.8 12.8 1.0 81 -21 0.3 0.8 0.9 2.3 3 051.110Y2ON 127 13.1 1.0 80 -10 0.3 0.8 0.9 1.7 4 )IA 10Y251r 15.1 15.9 1.0 84 -1/ 0.3 0.8 OA 2.1 5 3/410Y151l 7.6 82 0.9 88 -17 02 03 0.8 3.1 6 inIA 10Y25N 15.0 182 09 84 -0.8 0.3 0.8 0.8 1.5 7 l YlOY20Y 13.5 15.1 0.9 80 -DS 0.3 0.8 0.8 1.5 8 8/A 10Y15N 7.7 86 09 ea -1.9 0.3 03 02 18 9 6M 7•420If 10.7 187 09 93 -0.5 02 0.5 0.8 1.8 10 IY ICY'S? 8.4 9.7 09 90 -IA 0.3 0.5 0.7 1.3 11 IY7V20•0 IBA 19.0 09 81 -D2 02 0.5 0.8 1.7 12 BM TY25V lel 20.1 08 79 -DA 02 03 0.8 1.5 13 6M10Y3ON 165 210 08 BB -D.7 0.3 0.5 0.7 12 14 3M10Y3ON 166 211 08 es -1.3 0.3 0.5 0.7 23 15 IY10Y2SY 15.8 19.3 08 81 -0.4 0.3 0.6 0.8 12 Scioto. Dounone Mr* !Top 15 AUD Steepeners Rank 'Isaac le Cane IMMO I'm, Vol ra Rat o NM Percent MT= Min En 251h ECI Median MB 75th En Max En ER NNE= ME rro n am En In EMMEN 3 6M7Y10Y 56 28.0 02 75 0.2 In 0.1 0.2 0.7 MEMO] KM KIM NM WI= En In E:EM M En KZ EZThrli MI= ra ff:EMM:M En In KIM ED In rIll CI= WM WI= NM MZ= Ilninrilll In MI MIMI Ma CCM WM WE= En In KIM ED In KZ WEEMEMEIMMEM En1:31•31 ED in EP MEE:MEMO CHM MB M 111 10 IY3YIDY 8.4 104.2 0.1 11 0.1 In 02 0.3 OA En EZIEUI MEM t:37 NM =::= lin MEMO In m® ®o NM =:= En Inn In in so 111=171 ESTE Errs ento sxm rim mien in lairillrEN NEENEM MMI En In KEN M In KI3 taua MEM Ma EMI =:= EMEIM311:3Mn Sateartesebe Sank I Top 15 GBP Steepeners Rank Tt.iJc [Mal le Carry WEN Inc.Vol ilia Ratio EINIIMME21 Percentile Min 25th Median 75th Max Ma In NM In En NC MEM MEE MIR =:::= CI CB WES in 111 ©i MEE Ellif CM =3= CM MEM En 111 4 8M5Y25Y 218 28.4 09 81 -OA 0.1 OA 0.8 3.3 ©cm= ELM CM KIM MIS EH EEO MIN EU III NOZINCEEINflIESIEEININEEIEn MI= WM re MTM En In WM In En 8 BM/ TAY MIME MIME:ENO IM OM NM in ® KM EMEMI EOM KM Ell =I= Mtn KEN EU in EMI= CM Ca KM= In En MIN EU En II 8M3Y20Y trronnammtnnEnra m .1 . ..wrlz Win MUM MIS Minn Elf in Ell KENED=IMEN MEM WEN MS 11:13 III Eli in EU in Ur= EWE MTN =Tr In MIZE ITI In 15 8M 7Y33Y MEM CR KEN MI= En In EMI M in Carty is calculated for next 3 months and shown in annualized form. VothoTay is calculated as lm realized for CAD and extracted from swaptions prices for other currencies. Percentile statistics are calculated from a Ulmer history. Deutsche Bank Securities Inc. Page 35 EFTA01097849 4 September 2015 US Fixed Income Weekly Top 15 CHF Flatteners Rank Trade ly Carry Imp. Vol Ratio MEMUTE Percent M7M Min UM 25th CFI Median KM 75th ITV Max III MISEEMIIEM ta 31.12Y5Y 98 19.3 03 63 EU CE1 Er EU El la ran onto EEMMI:MICEI CI KEN al NEI EP FIGEZI Mina MEM MEMO lal O3 MIN EU MI NM 3M2Y7Y EMMEN:EN Se Enrannini EICIN3M13M EZEMM ELI CI EINEM]] Ma FIGEZIMENKEN KENO ISO 1:31 MIN 111 EEI WE CI ETWE CM =7= En !TIMM Min o 3M2Y3Y MINEINEEMMZSEEICIIMMEE1 Ell KC. Enmi ra n KENO CI CI NIM EU KO KM MEM MIS Ca WEN M2EM CI CI MIN EU EEI WI IV 2V3Y EMMEN ETEMTM Ell Ell Ern Itirl KEN IIIIMI MMEIIEN KENO lal CB CM 111 ESI El MEM MIS MTh KENO CM CI CM al EU NM El= WIMENIN NTEMTMETI Ell MTN Illfri Soutoe. Otacho Sank I ITop 15 SEK Flatteners 3M6Y7Y -0.5 01 8.0 122.4 18.4 8.6 1 .1 .5 2 1Y 7YIDY 37.1 10.4 3.6 99 .4.6 .1.6 .0.9 -02 4.0 3 1Y 5YIDY 75.1 28.6 2.6 99 -AI -1.6 4.6 0.2 2.9 4 1Y 1 YIDY 417.9 172.6 2.4 56 -4.5 -1.2 18 3.6 7.0 5 3M5Y10Y 2768 133.6 2.1 103 -3.3 -1.8 -0.6 -02 22 6 I Y I WY 380.8 181.5 2.1 50 -42 -1.0 2.1 3.9 68 7 1 Y 517Y 380 19.3 2.0 99 -3.3 -1.2 -0.3 05 22 6 1Y 3YIDY 169.5 92.4 18 97 4.7 -IA 0.1 1.1 22 9 1Y1Y5Y 3428 199.0 1.7 41 -4.3 -0.8 2.4 42 7.6 ID I Y 3Y7Y 132A 63.0 18 42 -4.3 -1.1 OA 1.4 2.5 II 1Y3Y5Y 94.4 64.6 1.5 68 -4.0 -08 OA 1.7 32 12 6615Y7Y 08.2 34.1 1.4 99 -27 -I.5 -0.5 0.2 IS 13 3/A 7Y10Y 154.5 112.4 1.4 96 -38 -IA -1.1 4.5 3.4 14 6M5Y10Y 111.3 104.6 1.1 96 -3.3 -1.7 -0.9 42 2.5 15 3M3Y10Y 3728 379.3 1.0 95 -3.0 -1.7 -0.4 OA 1.5 Spume. Oemmote Os* Spread of Swap Spreads Trades Trade Current Carry Current Level Percentile Min 25th Median 75th 2Y3Y 1.03 -1.6 59 -4.9 -25 -1.8 -1.0 2Y5Y -0.14 -4.4 70 -13.4 -9.2 5.6 -3.6 2Y7Y -0.51 -11.0 52 -22.1 -16.0 -11.4 -5.5 2Y10Y -0.23 -8.2 47 -22.1 -12.7 -7.5 -2.8 2Y30Y -0.60 -37.3 25 -53.9 -37.0 -22.1 -14.8 3Y5Y -1.17 -2.8 69 -11.2 -6.8 -4.6 -2.2 3Y7Y -1.54 -9.4 49 -19.8 -13.3 -9.2 -4.2 3Y10Y -1.26 -6.6 44 -19.9 -10.3 -5.6 -1.6 3Y30Y -1.63 -35.7 23 50.8 -33.6 -20.3 -13.8 5Y7Y -0.37 -6.6 25 -10.1 -6.6 -4.2 -1.8 5Y10Y -0.09 -3.8 24 -10.2 -3.7 -1.6 0.6 5Y30Y -0.47 -32.9 11 -42.3 -27.2 -16.3 -11.2 7Y10Y 0.28 28 52 -3.1 1.1 2.7 3.9 7Y30Y -0.09 -26.3 10 -33.0 -19.9 -12.4 -9.2 10Y30Y -0.37 -29.1 10 -35.1 -23.4 -14.8 -12.7 Same: °made ae Top 15 CHF Steepeners FIrrw Tract, ly Carry Frp Vol Raho Percent Min 25th Median 75th Max ILI LE_II=WENETEMIUMIrrirliTNITI I _ I IZEZTIMEMZEMMMIEEICEIEENCI MEI MENITIIIiMEMMISCIEEMENECIM ElEarlirM CM fl EIMICREIE1 M =imam M!!!M CEICEI Ninon __Ei7III5MIEMEIRMESEXIMMINEIEIM COMM MIMMI= ECI CB CM al m Errnirrwro n en Ell MTN IT1 ITI IIIMITIME 1_ EIMMINEEMEIN Ma MINMEM a Ma EICIIII CC MIMEO EINIZEI CU M __ E=MEEMEMEMINMIMIICIIEEMEMEEI MEM MEM WM NW= MEM ETNITI Oil MI _ =lira = ESIIIIMMME2MIN monzra KIM ria riMMIMIEIEEIMMEEI no MIMEIMEEIMINEEI ra ern rn Rim m Oil Oil un Soave*. Dourstho Sank I !Top 15 SEK Steepeners : fiZTEIC=IMMAI4=1 61.11Y3Y 458.3 1478.4 0.3 ...a... I in -05 th 19 adorn 2.2 ath 39 ax 8.1 1 2 6/.11Y5Y 402.1 1480.3 0.3 5 -DS 1i 1.7 3.2 49 3 GM 1Y7Y 353.9 was 02 8 -DA 1.1 1.7 3.2 BA 4 61111Y10Y 290.8 1488.5 02 5 -DA 1.1 1.9 3.2 8.3 5 31A 1Y3Y 1266.6 11439.0 0.1 1 -OA 21 5.7 9.9 21.1 6 31111Y5Y 1170.6 11687.5 0.1 1 -DA 23 5.1 9.1 14.6 7 31A 1Y7Y 1048.4 117059 0.1 1 -DA 2.0 5.0 LIS 14.9 8 3/A IY10Y 883.9 11818.3 0.1 1 -0.3 2.8 5.0 9.0 15.0 9 31113Y5Y -940 248.5 -114 33 -2A -0.6 -0.1 OS 32 ID 6143Y5Y -582 141.6 -04 36 -29 -0.7 -0.1 0.9 28 II 6M3Y7Y -104.4 171.4 -0.6 24 -2A -DA 0.0 1.3 32 12 6/43Y10Y -167.5 244.6 -0.7 17 -1.9 -DS 0.4 1.8 3A 13 3/43Y7Y -218A 266.9 -08 18 -2.1 -DA 0.0 IA 3.5 14 6/4 7Y10Y 43.1 732 -0.9 8 -38 0.5 1.1 1.8 38 IS 1Y 1Y3Y -2484 261.7 -a9 86 -9.5 -0.7 -28 08 4.9 Patrice Otreteche Bent I-Values as of September 3rd 2015 Tenor Repo Spot Swap Spread 1M Fwd. Swap Spread 2 15.00 13.5 13.8 3 16.00 11.9 13.3 5 7.50 9.1 9.3 7 9.50 2.5 2.3 10 2.50 53 5.4 30 11.50 -23.8 -24A Swot& Oa date awe Page 36 Deutsche Bank Securities Inc. EFTA01097850 4 September 2015 US Fixed Income Weekly IDGX and DVX across different market regimes 220 —DGX -T-TTTT - 200 - DVX(right) 180 I 160 I i 140 I i 120 100 80 60 40 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 160 140 120 100 80 60 40 'Ratios of 2Y to 10Y tenors (quartiles, 5-year history) 1.4 1m 3m 6m 1y 2Y 5y 7y by Saner Desire tank ........... 2Y Tenors,10Y Toms • mean OLast 'Ratios of 30Y to 10Y tenors (quartiles, 5-year history) 2.4 2.2 2 1.8 1.6 1.4 1.2 0.8 0.6 tm 3m 6m 1y 2y Sy Same: Deutsche lent 30V Tenors/10Y Tenors EIVean lo Last 7y lOy 'Term structure of 2Y vol 130 120 /4.4‘)V• 110 100 90 80 70 60 50 40 sown: Dolasolo H_ 0 5 10 15 20 3-Sep-15 earn 5-Sep-13 3-Sep-10 'Term structure of 10Y vol 140 130 120 110 100 90 80 70 60 10 15 20 Sane. Ocean* Etont 'Term structure of 30Y vol 130 120 110 100 90 80 70 60 50 5 10 15 20 0 $an °wasn't8w* s 3.8611.15 •5•Sep.13 o—.3•Sep.10 imas i 3-Sep- 15 .Lisr.5-Sep-13 --u— 3-Sep- 10 Deutsche Bank Securities Inc. Page 37 EFTA01097851 4 September 2015 US Fixed Income Weekly 3M carry across different expiries (ATMF receivers) 6 4 2 80 -2 -4 6 Tenor 'Breakdown of 3M carry for 6M expiries (% premium) —0-6m --1}-1y —a-2y 80% IUS surprise index: 10Y Treasury yield SWAY: Dourses Bonk 'Combined put/call ratio in Treasury futures 2.25 2.00 —Put/call ratio —Average 1.75 1.50 1.25 1.00 0.75 0.50 0.25 9/1/07 9/1/09 9/1/11 9/1/13 9/1/15 Sant Dowattabak and aME Gm. 60% 40% 20% 0/ -20% -40% 6mly 6m2y 6rrty 6m7y 6m10y 6m15y 6m20y 6m30y Scvere:Onotso Sant 'Trade weighted dollar surprise index 110 203 90 80 70 60 so 40 30 Au 44 M AY\14 —surprise —Deutsche Bankl/C0 tracieweightedindex 04.146 Aug-06 Aur10 Aug-12 Aug-14 100 95 90 85 80 75 70 65 60 55 50 Page 38 Deutsche Bank Securities Inc. EFTA01097852 4 September 2015 US Fixed Income Weekly / IUS Treasury Coupon Auction Calendar Ticker/Coupon/Maturity Date Tap/New Issue Size T TIM 9/18 Tuesday, September 08 New Issue 24btn T2.00% 8/25 Wednesday, September 09 Tap 21bIn T 2.875% 8/45 Thursday, September 10 Tap 13bIn IUS Economics & Events Calendar Event DB Forecast Mon. Sep 07 2015 Labor Day Holiday All markets closed Tue, Sep 08 2015 Consumer Credit +20.08 Wed, Sep 09 2015 July JOLTS data released 10:00 AM Thu, Sep 10 2015 Wholesale Inventories +0.1% Fri, Sep 11 2015 PI Total -0.1% Core +0.2% Consumer Sentiment 95.0 Deutsche Bank Securities Inc. Page 39 EFTA01097853 4 September 2015 US Fixed Income Weekly IEuropean Economics & Events Calendar Date Economic Releases Political Events Bond RedemptiordSupply Sep 07 Germany: Industrial Production SAYoY Sep 08 Eurozone: GDP SAYoY Germany: Schaeuble Presents 2016 Federal Draft Budget in Parliament Germany to Sell EUR1 Bln 0.5% UL 2030 Bonds IDE0001030559) Sep 09 Greece: CPI EU Harmonized YoY Germany: Merkel Delivers Remarks in Parliament Keyed to 2016 Budget Germany to Sell EUR4 Bln 1.0%2025 Bonds IDE0001102382) Italy to Sell Bonds Sep 10 Spain: Industrial Output NSA YoY Portugal: CPI EU Harmonized YoY France: Industrial Production YoY Ireland: CPI EU Harmonized YoY Ireland to Sell Bonds Sep 11 Spain: CPI EU Harmonized YoY Germany: CPI EU Harmonized YoY Italy: Industrial Production Vol' (Total/excess return forecasts in HY, IG, leveraged loans HY IR Syr Trsy 10yr Trsy Loans 2yr Trsy Spreads/Yields Spreads/Yields Current 561 163 149 218 Current 540 57 Target 650 170 160 225 Target 575 75 Change 89 7 11 7 Predicted Change 35 18 Rate Duration 1.0 Duration 4.6 6.5 4.8 8.5 Spread Duration 2.7 Change in Yield 100 17 11 7 Avg Par Coupon 440 Change in Price -462 -107 -53 -60 Libor/Tsy Change 18 Current Yield 701 409 Total Change in Yield 53 Current Price 95.8 104.3 Repricings -50 Default Rate 3.5 0.0 Capital Gain -163 Recovery 40 Credit Loss -204 0 Current Yield 440 Default Rate 3.5 Price Return -6.9 -1.0 Price 99.9 Total Return 0.1 3.1 Credit Loss 87 Excess Return -0.9 1.9 Total Return 1.9 Page 40 Deutsche Bank Securities Inc. EFTA01097854 Deutsche Bank Securities Inc. Closed Trade Recommendations Trade Detail Rationale Risks Opened Entry Closed Exit P/L Inflation Underweight 30yr TIPS 30y r tends to cheapen ahead of supply 30yr outperforms 6/5/15 +11 bp 6/17/15 +12 bp -60k Inflation Short 1/2026 breakevens vs 5yr and 30yr breakevens 10s look rich; sell the rich 1/2026s 10s richen further 1/23/15 +15 bp 6/11/15 +5 bp +308k Inflation Long 30yr TIPS breakevens versus 10yr TIPS breakevens 10s-30s breakeven curve appears too flat on a long term basis Long term inflation expectations decline 11/26/14 +16 bp 6/5/15 6.54 bp 152K Inflation Long 2019 TIPS breakevens versus 2016 TIPS breakevens Being long 2019 BEs versus 2016 BEs has positive carry, and is less correlated with energy prices than 1yr BEs 2019 breakevens drop more than 2016 breakevens 11/26/14 +41 bp 2/25/15 +22 bp +4,014k Inflation Long 30yr TIPS breakevens Bond TIPS look cheap on a relative value basis Inflation expectations decline 10/17/14 2.08% 12/9/14 1.97% -1,171k Inflation Buy 2023 TIPS vs. 7/2019 and 1/2025 TIPS on ASW The intermediate sector in inflation markets is cheap relative to the wings cheapening of the cheapen markets belly in be • relative to the wings 12/6/13 +38 bp 12/19/14 +8 bp +2,263k Inflation Swaps Long 2y2y inflation swap 2y2y inflation looks attractive on historical basis Forward inflation falls 10/3/14 2.1% 12/9/14 2.0% -309k Inflation Swaps Sell the 5yr5yr inflation swaps The spread between 5yr5yr inflation swaps and 5yr5yr TIPS breakevens is wide. Selling the 5yr5yr inflation swaps looks attractive. 5yr5yr inflation swaps rise 11/7/14 2.58% 12/18/14 2.43% +1,361k Option Buy $100mn 6M 2y1y 25bp OTM MC payers vs. Sell 100mn 1Y 4Y1Y 45bp OTM MC payers at zero net cost Curve flattens on a hawkish FOMC Curve bear steepens 9/12114 Ort 3/11/15 -0.74 -32k Option Sell $100mn 6M5Y ATMF vs. buy $200mn 6M5Y 30bp OTM payers at zero net cost Skew trades rich in a sell-off Rates sell off half-way and stay there till the expiry 9/12/14 0 bp 3/11/15 0.0 bp -2k Option MM-curve payer: Sell $100mn 1Y nigrItnniiMIIAITir Fvepayers vs. buy payers for the net takeout of 28c 5Y5Y has a limited upside while 1Y2Y could see significant repricing due to adjustments of monetary policy The curve bear steepens 3/14/14 -184 3/13/15 0.04 +184k Option Conditional bull steepeners: Sell S32.8mn 3M10Y ATMF receivers vs. buy $100mn 3M3Y ATMF receivers at net takeout lc Front-end gets re-priced in a delayed Fed hike Curve bull flattens; unlimited downside 9/26/14 -1 by 12/30/14 0 by +19k Option Buy 1X2 3M3Y ATMF/13.5bp receiver spreads for zero net cost Short-term risk off and short covering Rally below the breakevens; unlimited downside 9/26/14 0 bp 12/30/14 0 bp +28k Option Buy $1,000mm 6m single reset cap on CMS10-CMS5 strike 89bp for 9.75c Carry pays for option, repriced fed suggests 5y outperformance Curve flattening, max loss premium 5/20/14 +9 by 11/20/14 0 by -875k Option Sell $100mn 3M5Y straddles vs. buy $100mn 3M5Y 22bp OTM payers for net takeout of 100c. No big changes in vol near term Rates rally 9/19/14 -100 bp 12/30/14 0 bp +1,028k So woe: Down». Sant EFTA01097855 2014 Outlook Closed Trades Trade Detail Rationale Risks Opened Entry Closed Exit P/L Option 1y 3s10s conditional bearish flattener for zero premium: Buy 1y3y + 25 bp payer, sell DVOI weighted 1y10y +41.5 bp payer for zero premium. The curve should bear flatten as soon the Fed tapers and front end sells off Curve steepens as rates rise 1216/13 +212.5 bp 12/19/14 +17 bp Ok Option Receiver spreads: Buy $100mm 2y2y ATMF/25 bp receiver spreads at 28 bp Macro data disappoints, curve bull flattens Rates rise as recovery strengthens 1216/13 +28 bp 12/19/14 +29 bp +19k Option Contingent payers: Buy 1y30y ATMF payers subject to 5s< ATMF+50 bp at 259 b • a 57% discount to vanilla Rate hikes unbundled from taper, long end sells off while 5 remains anchored Curve flattens 12/6/13 12/19/14 Option Dual digital option on 5s and 10s: Buy a 6m dual digital that pays out if 5s a 2% & 10s< 3.50%, offer 17% (6:1 leverage) Curve flattens beyond the current forwards; adding additional l rage by shorting the correlation between 5y and 1 i rates Either of the two conditions is not true at expiration; maximum loss is premium outlay 12/6/13 12/19/14 Option Contingent curve cap: Buy 6M 5s10s ATMF curve caps subject to 10s < 3.50%, 5.25c offer, a 40% discount to vanilla at 9c Front-end of the curve remains anchored, limited sell off in 10s Curve flattens 12/6/13 12/19/14 Option Curve caps: Buy 1y single reset, ATMF 5s30s curve cap at 21.5 bp Economic recovery disappoints and curve remains steep Curve flattens 12/6/13 +21.5 bp 12/19/14 0 bp -197k Swaps Rv Forward steepener. Receive fixed on $11 .85 mm 5.71 mm 1y10, pay fixed on $54 1v30v Slope of 10s30s too flat given level of 10y Rate Curve flattens 3/28/14 +45 bp 3/27115 +33 bp -3,109k Swaps RV Receive $208.2mm 6m5y rate versus pay $292.9mm 10y5y rate 15y par rate rich, 6m5y exposed to repricing Fed with positive carry Curve flattenening 5/20/14 +219 bp 11/19/14 +320 bp -7,274k Swaps RV Receive 3y1y/2y1y rate spread at 108 bp Curve slope is near its historic . curve revels; is likely to flatten in both sell-off or rail Curve steepens 12/6/13 +108 bp 12/19/14 +80bp +222k US Credit Underweight high-yield into Taper HY spreads should widen upon the onset of the taper Tapers gets delayed 12/6/13 12/19/14 Sowee (*tante Minh Pert comince numenn we based an "sob r onsTabby awks. an Iclo not vat* AS" er spreaor Mix!., costs 14P avoroVe the eatontlenOvnyr• kg an ususs to be romPOSWOR 9v7 Me breiViyK4 0, generavyinorter ntatelOWOMS altos, ark. Holorem oaf <mime a note Downey of Neve pogarance • Deutsche Bank Securities Inc EFTA01097856 4 September 2015 US Fixed Income Weekly Appendix 1 Important Disclosures Additional information available upon request *Prices are current as of the end of the previous trading session unless otherwise indicated and are sourced from local exchanges via Reuters, Bloomberg and other vendors . Other information is sourced from Deutsche Bank, subject companies, and other sources. For disclosures pertaining to recommendations or estimates made on securities other than the primary subject of this research, please see the most recently published company report or visit our global disclosure look-up page on our website at http://gm.db.corn/ger/disclosure/DisclosureDirectory.eqsr Analyst Certification The views expressed in this report accurately reflect the personal views of the undersigned lead analyst(s). 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