How To Read A Weekly Commentary On The Markets

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1 Contact your treasury specialist Corporate Treasury or Business Banking Treasury Institutional Treasury Specialised Finance +353 (0) UK Sales Team (within the UK) US Sales Team Keep in touch with the markets, visit Weekly Commentary 08 February 2013 Data section contents (changes on the week) Themes from the week Euro falters, Ireland secures Prom note deal Headlines for the week ahead G20 Meeting, UK CPI and Inflation report Ireland swaps Prom note for longer term bonds It was an eventful week for Ireland. In the early hours of Thursday morning Parliament passed a bill putting IBRC (largely the former Anglo Irish bank) under the control of a special liquidator, with any unsold assets to be purchased by Nama. The Irish Central Bank was left with the Promissory note used as collateral by IBRC to access funds but on Thursday afternoon a deal was announced which replaced the note with 25bn of longer dated Irish Government bonds. The bonds will carry a floating coupon, linked to 6-month euribor, and carried various maturities, ranging from 25 to 40 years. The deal is expected to reduce Ireland s call on the market by around 2bn a year for the next decade (the interest on the new bonds will be offset by the savings on the Prom note payment) before rising again, while the effect on the annual General Government deficit will be around 1bn per year over the next few years before gradually declining and again turning modestly negative. The deficit will therefore be around 0.6% of GDP lower in 2014 and 2015, all things equal, implying a smaller fiscal adjustment assuming unchanged deficit targets. The bonds can be funded by the Central Bank at the ECB refinance rate, hence implying a large profit which is transferred to the Exchequer annually, although that was also the case for the Prom note so the short term impact is limited. The Central Bank can also sell the bonds, albeit to a schedule and not in any significant size till The market reaction was positive, with yields falling by 20bp on the week in the 8-year benchmark. Commodities Highlights for the week ahead Prev Fcst Cons Tues UK RICS 0% 2% UK CPI 2.7% 2.7% Wed IRL External Trade UK Inflation report US Retail Sales 0.5% 0.1% Thurs G20 Meeting Euro GDP q4-0.1% -0.4% Fri UK Retail sales -0.1% 0.5% US Industrial production 0.3% 0.2% Spot rates EUR/GBP EUR/CHF EUR/USD EUR/JPY GBP/USD EUR/CAD EUR/SEK EUR/PLN EUR/NOK EUR/ZAR EUR/HUF EUR/CZK Elsewhere, the euro fell sharply against all the major currencies and by over 2% against the US dollar. The single currency had looked overbought and the catalyst for the profit-taking was the ECB press conference, with the President noting that a sustained appreciation would alter the outlook for growth and inflation. European equity markets also fell over the week despite an upward revision to the flash euro zone PMI from 48.2 to 48.6 and against 47.2 a month earlier. The index is still signalling contraction, nonetheless, and the scale of the fall in euro area GDP in the final months of 2012 will be revealed on Thursday. Sterling recovered some ground from a very oversold position, outperforming most of the majors and appreciating by just under 3% against the euro. The Bank of England left policy unchanged but issued a statement explaining its decision and stating it was ready to provide additional stimulus if warranted. The Governor elect of The Bank gave testimony in parliament implying no immediate change to the stance of policy. There was little data of note in the US other than a surprise fall in December s trade deficit which may prompt an upward revision to the initial GDP reading for q4. Dan McLaughlin 2 year 3 year 5 year 7 year 10 year 15 year 20 year EUR GBP USD Official rates Current Q1 13 Q2 13 Q3 13 Fcst Cons Fcst Cons Fcst Cons EUR GBP USD Recent research View recently published reports at including: The Bulletin (monthly analysis of international and Irish markets) UK View (monthly analysis of trends in the UK economy) The Outlook (quarterly analysis of trends in the Irish economy) Irish Property Review (quarterly analysis of Irish property trends) Market Newsflash (up-to-the-minute analysis of key economic developments) All rates quoted are indicative market rates

2 Data section contents Data section showing % changes on the week Long term fixed rates Commodity prices Europe Euro falls sharply after ECB meeting The euro fell quite sharply post the ECB s Governing Council meeting on Thursday, with Draghi addressing the currency s exchange rate more directly than might have been expected. The formal statement issued after the meeting said the recent appreciation of the currency posed a downside risk to inflation, although the Bank still sees the risks to prices overall as broadly balanced. Draghi elaborated on this in the subsequent press conference, saying that, while the currency s rise partly reflected improved sentiment in the Euro area, and even though the euro s trade-weighted exchange rate was in line with the historical average, the exchange rate is important for growth and inflation and the ECB wants to see whether the appreciation is sustained and whether that affects the outlook for the zone (all else equal, a rise in the currency dampens both growth and inflation). Draghi also noted that the ECB will have new economic projections to hand at next month s meeting. The Bank s latest forecasts (from last December) are predicated on a EUR/$ exchange rate of $1.28 and assumes a fall in the euro s trade-weighted exchange rate relative to its average level in 2012, so recent movements are acting to weaken growth and inflation relative to the December projections. In the meantime, the ECB s monetary policy is accommodative, according to Draghi, and will still remain so after the early repayment of some of the LTRO 3-year loans to the banking system. On the Euro area economy, the ECB said the weakness in activity is expected to prevail in the early part of 2013 but that a gradual recovery should take hold later in 2013 supported by our accommodative monetary policy stance, the improvement in financial market confidence and a strengthening of global demand The upshot of all of this was that the euro finished the week trading at around $1.34 against the dollar, down from a (intra-week) high of over $1.37, and at 85p against sterling, down from a high of around 87p. Swap rates also eased back this week after a recent run-up, with the 3-year falling by around 10bps. Ireland Deal done on Prom notes We finally have the long awaited deal on the promissory notes. After some late night drama in the Dáil overnight on Wednesday a deal was finally announced on Thursday once the ECB Governing Council had unanimously noted it. The new arrangement sees the Government replace 25bn of promissory notes with new long term government bonds which will have an average maturity of 34 years and a floating interest rate benchmarked off 6-month Euribor. As part of the deal, the IBRC will be liquidated and its assets transferred to NAMA. The deal eases the borrowing burden for the Government in the medium term, reducing the funding requirement for the State by about 20bn over the next 10 years. The general government deficit will be reduced by circa 1bn (or circa 0.6% of GDP) in 2014 and 2015, thus easing the burden of fiscal adjustment planned to By stretching out the principal repayment this should reduce the real value of the debt when it needs to be refinanced. 25bn of debt as a percentage of 2012 GDP represents about 15.3% of GDP; if we assume an average nominal GDP growth rate of 4% (2% inflation and 2% growth) over the next 34 years then, by 2046, 25bn would be only 4% of GDP making it a much easier task for the State to refinance at that time. The new arrangement will have little impact on the stock of Government debt as the prom notes were already included in this. There will be additional costs to liquidating the IBRC this year but there will be saving in 2014 and 2015 from the projected lower deficits in those years. Netting all of this implies just a small impact of the General Government debt which is forecast to be about 116% of GDP in United Kingdom Bank stays on hold The Bank of England met on Thursday and left policy on hold. It said the UK economy has been broadly flat recently but is set for a slow but sustained recovery with inflation likely to remain above the 2% target for the next two years. Hence, the Bank judged it appropriate to keep policy on hold but said it still stood ready to provide additional monetary stimulus if warranted. Sterling has fallen sharply over the past month and, while this might have an upward impact on inflation, the Bank is not too worried as it had called the previous rise in Sterling an unwelcome development. Sterling started this week at close to 87p to the single currency but by the end of the week had gained to under 85p, largely on the back of comments by President Draghi after the ECB meeting that the ECB saw risks in the Euro s current appreciation. On the data front, the news was quite positive with the Services PMI reading for January stronger than expected at 51.5, taking the reading back into expansionary territory after a brief dip to 48.9 in December. Industrial production rose by 1.1% in December following a 0.2% rise in 2 Bank of Ireland Global Markets

3 Data section contents Data section showing % changes on the week Long term fixed rates Commodity prices November. However, the weakness of September and October meant that industrial output fell by 1.9% in Q4. The strength of December s numbers make the outlook for Q1 somewhat brighter, as the level of output in December is already 0.8% above its Q4 average. United States ease a little The focus was on Europe this week, so US markets took something of a back seat. Stocks were marginally lower while government bond yields eased back a little after the recent move higher, with the benchmark 10-year yield falling by around 4bps from last Friday to 1.98% (but by around 10bps from its intra-week high). The dollar rose against the euro but actually ended slightly lower against the yen (at Y92.5, though it had traded up to as high as Y94) and sterling (at $1.58). Economic data were thin on the ground. The ISM non-manufacturing index fell slightly in January but at just over 55 it is still signalling rising output in this part of the economy (mainly services). The number of new jobless claimants was unchanged last week from the previous week and the 4-week average, at around 350k, is consistent with employment growth of around 200k a month. There is a heavier schedule of data next week, with retail sales, consumer confidence and industrial output all due for release. Japan Shirakawa to leave early The Dollar rose to a fresh high against the Yen during the week, of over 93.5Y, as the fall in the Japanese currency continued. The downward move in the Yen midweek came after Governor Shirakawa of the Bank of Japan announced he would resign his position a month earlier than expected. This move is perceived to be under pressure from the Government who are pushing for more and more aggressive monetary (and fiscal) policies to end deflation. The new Government s policies have been the catalyst that has seen the Yen s trade weighted value fall by about 17% since November. Shirakawa s early resignation will allow the Government to replace up to 1/3 of the monetary policy board in March with individuals who support the Government s call for more monetary easing to end deflation. The Bank of Japan had announced further quantitative easing at its last meeting, but only to begin in 2014 but with a new Governor in place soon we may well see that timetable brought forward. However, the Yen did regain some ground at the end of week with the dollar cross moving to about 92.50Y after reported comments by Finance Minister Aso that the pace of yen weakening was too fast. 3 Bank of Ireland Global Markets

4 Data section changes on the week EUR/GBP Spot % 1M 3 3M 9 6M 17 12M 31 EUR/USD Spot % 1M 3 3M 8 6M 15 12M 29 GBP/USD on the week Spot % 1M -3 3M -8 6M M -25 EUR currency pairs EUR/CAD % EUR/AUD % EUR/NZD % EUR/CHF % EUR/JPY % EUR/SEK % EUR/NOK % EUR/HUF % EUR/PLN % EUR/ZAR % EUR/CZK % USD currency pairs USD/CAD % USD/AUD % USD/NZD % USD/CHF % USD/JPY % USD/CNY % USD/MXN % USD/SGD % USD/BRL % USD/THB USD/ZAR % GBP currency pairs on the week GBP/CAD % GBP/AUD % GBP/NZD % GBP/CHF % GBP/JPY % GBP/SGD % GBP/MYR % GBP/NOK % GBP/HKD % GBP/SEK % GBP/DKK % GBP/ZAR % on the Week Base O'night 1 week 2 week 1 M 2 M 3 M 6 M 9 M 12 M EUR GBP USD on the Week 2 year Chng 5 year Chng 7 year Chng 10 year Chng EUR GBP USD Government bond yields (YTM) on the Week 2 year Chng 5 year Chng 10 year Chng 30 year Chng Ireland Germany US UK Prime Rate Bank of Ireland prime rate 0.72 on the Week ISEQ % DOW Jones % S&P % SMI % Nasdaq % FTSE % Eurostoxx % Nikkei % Commodities on the Week Brent % WTI Cushing % Gold % Wheat % Emissions Allowance % 4 Bank of Ireland Global Markets

5 Contacts Economic Research Unit (ERU) To discuss any aspect of this report, contact your treasury specialist or our Economic Research Unit (ERU): Chief Economist, Bank of Ireland: Dr. Dan McLaughlin Tel: +353 (0) Senior Economist: Michael Crowley Economist: Patrick Mullane Contact your treasury specialist Corporate Treasury or Business Banking Treasury Institutional Treasury Specialised Finance +353 (0) UK Sales Team (within the UK) US Sales Team Our Offices Dublin 2 Burlington Plaza, Burlington Road, Dublin 4, Ireland Tel +353 (0) London Bow Bells House, 1 Bread Street, London EC4P 4BP, UK Tel +44 (0) Belfast 1 Donegall Square South, Belfast, BT1 5LR, UK Tel +44 (0) Stamford (US) 300 First Stamford Place, Stamford CT 06902, US Tel Keep in touch with the markets, visit Market data supplied by Thomson Reuters Disclaimer This document has been prepared by the Economic Research Unit at Bank of Ireland Global Markets ( GM ) for information purposes only and GM is not soliciting any action based upon it. GM believes any information contained herein to be accurate but GM does not warrant its accuracy and accepts no responsibility, other than any responsibility it may owe to any party under the European Communities (Markets in Financial Instruments) Regulations 2007 as may be amended from time to time, and under the Financial Services Authority rules (where the client is resident in the UK), for any loss or damage caused by any act or omission taken as a result of the information contained in this document. No prices or rates mentioned are bids or offers by GM to purchase or sell any currencies, securities or financial instruments. Except as otherwise may be specifically agreed, GM has not acted nor will act as a fiduciary, financial or investment adviser with respect to any currency or derivative transaction that it has executed or will execute. Any decision made by a party after reading this document shall be on the basis of its own research and not be influenced or based on any view expressed by GM. This document does not address all risks. Any party should obtain independent professional advice before making any investment decision. Any expressions of opinion reflect current opinions as at 08 February This publication is based on information available before this date. This document is property of GM. The content may not be reproduced, either in whole or in part, without the express written consent of a suitably authorised member of GM staff. Bank of Ireland is regulated by the Central Bank of Ireland. In the UK, Bank of Ireland is authorised by the Central Bank of Ireland and authorised and subject to limited regulation by the Financial Services Authority. Details about the extent of our authorisation and regulation by the Financial Services Authority are available from us on request. Bank of Ireland incorporated in Ireland with limited liability. Registered Office - Head Office, 40 Mespil Road, Dublin 4, Ireland.Registered Number - C-1. Bank of Ireland Global Markets