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Weekly Commentary
01 April 2011
Data section contents (changes on the week) Spot and forward rates Equity indices World forex rates Bond yields Money market rates Commodities Long term rates
Highlights for the week ahead
Prev Fcst Cons
Mon IRL EBR UK Construction PMI
Tues Euro services PMI’s
Euro Composite PMI 57.5 57.5 UK Services PMI 52.6 52.9 FOMC minutes
US ISM Non-man 59.7 60.0
Wed UK Industrial Production 0.5% 0.4%
Thurs BOE 0.5% 0.5%
ECB 1.0% 1.25% 1.25%
IRL CPI 2.2% 2.6%
Spot rates More details in data section
EUR/GBP 0.8822 EUR/CHF 1.3067 EUR/USD 1.4158 EUR/JPY 118.49 GBP/USD 1.6047 EUR/CAD 1.3696 EUR/SEK 8.9385 EUR/PLN 4.0440 EUR/NOK 7.8232 EUR/ZAR 9.5592 EUR/HUF 266.50 EUR/CZK 24.457
Long term rates More details in data section
2 year 3 year 5 year 7 year 10 year 15 year 20 year EUR 2.45 2.78 3.19 3.46 3.73 4.03 4.11
GBP 1.97 2.43 3.08 3.53 3.92 4.22 4.27
USD 1.07 1.64 2.54 3.14 3.63 4.07 4.23
Official rates More details in data section
Current Q2’11 Q3’11 Q4’11
Fcst Cons Fcst Cons Fcst Cons
EUR 1.00 1.25 1.25 1.50 1.50 1.75 1.75
GBP 0.50 0.50 0.50 0.75 0.75 1.00 1.00
USD 0-0.25 0-0.25 0-0.25 0-0.25 0-0.25 0-0.25 0-0.25
Recent research
See all recent research (www.boi.ie/eru) See most recent versions of:
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All rates quoted are indicative market rates Economic Research Unit: (01) 609 4613
Themes from the week
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Portuguese bonds fall amid broad rise in longer term rates
Headlines for the week ahead
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Irish EBR, CPI; ECB and BOE rate decisions, FOMC minutes
Irish banks deemed to need
€
24bn following stress tests
Portugal and Ireland were the centre of market and media interest during the week. Bond yields in the former rose sharply, with the 10-year trading above 8.30% amid speculation that it would follow Ireland in requesting EU/IMF support. This occurred amid a general rise in longer dated interest rates in the euro zone as opinion hardened on the likelihood of an ECB rate rise at the upcoming meeting and on additional tightening over the course of the year. The euro finished the week higher against the dollar and sterling, trading above 88 cents against the latter. The yen was the weakest currency, with market tension about the impact of the nuclear incident in Japan continuing to dissipate. Equity markets also continued to make modest gains,
The Irish Central Bank announced the results of stress tests on four Irish banks with a view to drawing a line in the sand on the eventual capital required by these Institutions. The 2011 Prudential Capital Assessment Review (PCAR) was based on an independent loan loss assessment by BlackRock, a stress test and the outcome of a Prudential Liquidity Assessment Review (PLAR) including plans for deleveraging. Loan losses were derived over three years and a loan-lifetime horizon under a base and a stress scenario, with the latter throwing up total losses of €27bn or 10.1% of total loans , including 8% for Bank of Ireland, 9.1% for ILP, 9.4% for EBS and 13.4% for AIB.
The Central Bank then derived the capital required to meet a minimum Core Tier 1 capital ratio of 10.5% and a stress ratio of 6%, plus an additional buffer ‘for additional conservatism ... and to safeguard against loan losses beyond 2013’, with some of the latter coming in the form of contingent convertible debt (CoCo). As a result Bank of Ireland was deemed to need €4.2bn in equity capital plus another €1bn in CoCo, the total for AIB was €13.3bn (including €1.4bn CoCo), €1.5bn for EBS and €4bn for ILP, to give a total capital requirement of €24bn, including €3bn in CoCo form. The State will provide the capital from existing resources, the NPRF and if necessary by utilising some of the EU/IMF loan but the banks will be given some time to raise capital elsewhere. The Minister of Finance also announced a restructuring of the banking system, with two ‘Pillar’ banks, Bank of Ireland and a combined AIB/EBS, with ILP to sell its Life insurance subsidiary and other non-banking assets.
Finally, the banks will split assets into core and non-core, with deleveraging targets to be achieved by end-2013. These envisage a reduction in total loans of €72.6bn, via run-off and targeted asset disposals, leaving a projected loan figure of €183bn against deposits of €151bn or a loan deposit ratio of 122%. The Central bank believes ‘this will help reduce banks’ dependence on central bank funding and decouple bank risk from Sovereign risk’.
Dan McLaughlin
Data section contents
Data section showing % changes on the week
Spot and forward rates Long term fixed rates World forex rates Money market rates Equity indices Commodity prices Bond yields
2Bank of Ireland Global Markets
Europe
ECB still on course to raise interest rates this month
The ECB is still on course to raise interest rates at its monetary policy meeting next Thursday, judging by comments from a number of Governing Council members this week. Moreover, they indicated that an April increase would not be a one-off, but rather the start of a process of gradually raising interest rates. The head of the Slovakian central bank, Makuch, said an increase at the April meeting is “highly probable”, while Executive Board member, Bini Smaghi, said rates would be raised in a “gradual way”. This view was echoed by the ECB Chief Economist, Stark, who said it is time to normalise interest rates “step by step”, adding that “we cannot keep the rate at this level (1%) for a long time”. Indeed, Stark said that, since the ECB had cut interest rates aggressively during the economic and financial crisis in response to downside risks to inflation, it had to act symmetrically and raise rates given there are now upside risks to inflation. Moreover, Stark said the ECB had to be seen to act symmetrically to preserve its credibility and prevent a significant increase in long-term interest rates which would occur if investors demanded a higher inflation-risk premium. Incidentally, it is perhaps worth noting that the message conveyed by ECB members this week differs from the one conveyed by Trichet after the March monetary policy meeting, which was that an April rate increase, if it happened, was not the start of a series of hikes, though of as we know the market went ahead and priced in a series of increases nevertheless. The latter pushed up market interest rates further, of course, with the 2-year euro swap rate now almost 30bps higher – at around 2.40% - than a month ago. Euro swap rates have also risen relative to US swap rates over the past month, thus boosting the euro, which has risen from $1.39 to the dollar to well over $1.41. Interestingly though, the past week and a bit has seen US rates rise relative to euro rates (amid some hawkish Fed-speak), and so EUR/$ may now be in the process of topping out in and around current levels.
Ireland
Stress tests show Irish banks need €24bn more capital
This week saw the announcement of the results from the latest (and hopefully decisive) stress tests for the Irish banks (BOI, AIB, EBS, and ILP). The banking sector will be required to raise €24bn of additional capital to take their core tier one ratios to 10.5%. Most of the capital will come from the State with Bank of Ireland given until June to raise capital from private sources with the State then making up the shortfall if any. The amount of capital needed is in line with market expectations and is within the €35bn banking contingency fund put into place under the terms of the IMF/EU deal last November with the bulk of the funding coming from the State’s own pension reserve fund. There was no announcement of any new ECB financing facility and Central Bank Governor Honohan said there was no imminent prospect of obtaining a longer term financing facility for banks from the ECB. The ECB did announce however that all debt instruments issued or guaranteed by Ireland would fulfil the credit standards required for collateral in the Eurosystem regardless of ratings. Finance Minister Noonan said the Government would live within the parameters of the EU/IMF deal but they would like to change elements of it subject to negotiation and the Government accepted the broad outline of the consolidation needed. He also said the Government accepted the ECB’s objection to imposing burden sharing on senior bondholders but the Government still sees merit in making senior bondholders in Anglo Irish and Nationwide take losses as the institutions are no longer viable entities.
United Kingdom
Weale warns on inflation as growth prospects for Q1 improve
Bank of England MPC member, Weale, reiterated his call for an increase in UK interest rates, though the market has pushed out the timing of the expected first hike to around August from April/May. This has pushed down on Sterling which has weakened against both the Euro and the Dollar over the past week or so. Weale said he was more concerned about inflation than the central MPC view and he saw inflation risks from price expectations. He said the MPC must “remember that our task” is to meet the CPI target. While inflation continues to rise, the indicators for growth in Q1 have improved. The UK service index rose by 1.3% in January more than reversing the 1.1% fall in December. If t remains unchanged in February and March it would increase by 0.6% in Q1 following a
Data section contents
Data section showing % changes on the week
Spot and forward rates Long term fixed rates World forex rates Money market rates Equity indices Commodity prices Bond yields
0.6% fall in Q4. UK industrial output in January was 1.1% above its average level in Q4; if this was also the outcome for Q1 (and services grew by 0.6% increase in Q1), then industry and services together would contribute approx. 0.6% points to GDP growth with construction adding 0.1% or 0.2% more at least. Further out from Q1, growth may moderate somewhat as evidenced by March’s manufacturing PMI which fell to a five month low of 57.1 from 60.9 in February.
United States
“Hawkish” Fed-speak
At its monetary policy meeting in mid-March, the Fed decided, given that the unemployment rate remained “elevated” (though it has fallen by almost 1% point to 8.9% over the past three months) and underlying inflation was “somewhat low” (at around 1%), to continue with its $600bn asset purchases program (due to be completed by the end of June) and to keep the target range for the federal funds rate at 0 to ¼ per cent. It also reiterated that economic conditions were “likely to warrant exceptionally low levels of the federal funds rate for an extended period”. However, over the past week or so there has been increasing talk from Fed members about an “exit strategy” from the central banks current highly accommodative monetary policy stance. Perhaps, though, this is not too surprising, given what now seems to be the general view at the Fed that a self-sustaining recovery in private demand is taking hold. As a result, there also now seems to be a general belief that further monetary stimulus will not be necessary beyond the completion of QE2 (i.e. the $600bn asset purchases program) at the end of June. Hence the question then naturally turns to the exit strategy and when and how to start withdrawing some of the extraordinary stimulus that has been injected into the economy over the past couple of years through a combination of zero interest rates and QE1 and QE2. Views on this differ, with some members believing that the withdrawal of stimulus should start “in the not too distant future”, while others think the Fed can wait for some time beyond the completion of Q2 before reversing policy. From the markets’ perspective, though, the important point is that the exit strategy is now on the agenda, hence it was not too surprising to see government bond yields back up this week with 2- and 10-year yields both rising by around 10bps. Rising US yields have helped steady the dollar, which in trade-weighted terms has risen by around 0.8% over the past week or so.
Japan
Markets consolidate as Japan begins to rebuild
It was another week of consolidation for Japan on the markets while the nation deals with the ongoing problems at the Fukushima nuclear plant, housing earthquake refugees and starting rebuilding stricken areas of the country. The Nikkei posted a 1.8% gain for the week, its second successive weekly gain, but that is still not close to its level in the days before the earthquake. On the currency markets, the Yen depreciated somewhat against the dollar this week. It weakened to well over Y83 by Friday from Y81 to the dollar the start of this week. This is welcome news for the Japanese authorities as export demand is virtually the only source of growth in the economy. Data this week showed that industrial production rose by 0.4% in February, a signal that the economy was in recovery before March’s earthquake. However, a fall in production can now be expected in March and the disaster has changed everything for the economy in the short term.
4Bank of Ireland Global Markets
Data section – changes on the week
Spot and forward rates Change on the week
EUR/GBP Change Spot 0.8822 0.47% 1M -2 3M -5 6M -11 12M -26 EUR/USD Change Spot 1.4158 0.55% 1M -8 3M -26 6M -60 12M -144 GBP/USD Change Spot 1.6047 0.07% 1M -6 3M -21 6M -50 12M -119
World forex rates Change on the week
EUR currency pairs
Change EUR/CAD 1.3696 -0.83% EUR/AUD 1.3666 -0.42% EUR/NZD 1.8536 -0.82% EUR/CHF 1.3067 0.91% EUR/JPY 118.49 3.42% EUR/SEK 8.9385 -0.47% EUR/NOK 7.8232 -0.91% EUR/HUF 266.50 0.02% EUR/PLN 4.0440 0.75% EUR/ZAR 9.5592 -0.79% EUR/CZK 24.457 -0.11%
USD currency pairs
Change USD/CAD 0.9674 -1.33% USD/AUD 0.9654 -0.96% USD/NZD 1.3098 -1.40% USD/CHF 0.9229 0.35% USD/JPY 83.68 2.91% USD/CNY 6.5477 -0.14% USD/MXN 11.8602 -1.07% USD/SGD 1.2618 0.02% USD/BRL 1.6304 -1.81% USD/THB 30.26 0.03% USD/ZAR 6.7505 -1.77% GBP currency pairs Change GBP/CAD 1.5525 -1.23% GBP/AUD 1.5490 -0.16% GBP/NZD 2.1011 -1.27% GBP/CHF 1.4812 0.40% GBP/JPY 134.30 2.94% GBP/SGD 2.0247 0.09% GBP/MYR 4.8547 0.08% GBP/NOK 8.8645 -1.10% GBP/HKD 12.4846 -0.12% GBP/SEK 10.1316 -0.96% GBP/DKK 8.4511 -0.44% GBP/ZAR 10.8319 -1.71%
Money market rates Change on the Week
Base O'night 1 week 2 week 1 M 2 M 3 M 6 M 9 M 12 M
EUR 1.00 0.57 0.74 0.82 0.93 1.05 1.19 1.51 1.74 1.96
GBP 0.50 0.47 0.47 0.49 — 0.58 0.63 0.73 1.01 1.24 1.47
USD 0-0.25 0.16 0.23 0.26 0.29 — 0.33 0.33 0.47 0.62 — 0.84
Long term rates Change on the Week
2 year Chng 5 year Chng 7 year Chng 10 year Chng
EUR 2.45 0.10 3.19 0.13 3.46 0.11 3.73 0.10
GBP 1.97 0.11 3.08 0.13 3.53 0.13 3.92 0.11
USD 1.07 0.08 2.54 0.11 3.14 0.09 3.63 0.05
Government bond yields (YTM) Change on the Week
2 year Chng 5 year Chng 10 year Chng 30 year Chng
Ireland 9.53 -0.13 10.78 0.30 9.92 0.00
Germany 1.82 0.11 2.71 0.14 3.38 0.11 3.85 0.08
US 0.85 0.11 2.30 0.14 3.49 0.04 4.52 0.02
UK 1.37 0.09 2.49 0.12 3.73 0.14 4.37 0.04
Equity indices Change on the Week
Change ISEQ 2919 1.29% DOW Jones 12320 0.81% S&P 500 1326 0.92% SMI 6358 0.08% Nasdaq 2781 1.39% FTSE 100 5964 1.07% Eurostoxx 50 2935 0.82% Nikkei • 9708 1.81% Prime Rate
Bank of Ireland prime rate 1.42
Commodities Change on the Week Change Brent 117.65 1.78% WTI Cushing 107.20 1.71% Gold 1434.25 0.39% Wheat 760.00 3.65% Emissions Allowance 17.00 2.60%
Contacts
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e-mail: [email protected]
Economic Research Unit (ERU)
Chief Economist, Bank of Ireland: Dr. Dan McLaughlin Tel: +353 1 609 3341
Senior Economist: Michael Crowley e-mail: [email protected]
Economist: Patrick Mullane Listen to Daily Commentary on Freephone: 1800 60 70 60
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Global Markets United Kingdom (UK)
Head of UK: Liam Whelan 0044 207 4299 111 P.O. Box 62929, Bow Bells House, 1 Bread Street, London EC4P 4BF Head of Specialised Treasury: Mark Doody 0044 207 4299 103 Tel: +44 (0) 20 7429 9111
Head of Corporate Sales: Kai Fisher 0044 207 4299 109 GB Treasury Sales Team Freephone: 0800 039 0038 Business Banking Sales: Sandra Perry 0044 207 4299 121 Tel: +44 (0) 7429 9121; Treasury Sales Team: 0800 776 616
Global Markets United States (US)
Head of US: Darsh Mariyappa 300 First Stamford Place, Stamford, CT 06902, US Head of US Business Development: Joe Connolly Tel: +1 203 391 5555
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Market data su pplie d by Tho mson R eut ers
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