Friday, 24 June 2016

P. 1

Rates: Core bonds surge as UK quits EU. Market tumult expected

The Brexit favours core bonds that make a huge step higher. We expect central bankers to promise unlimited liquidity to safeguard market stability. The Fed rate cycle might be aborted, while peripheral bonds may have a rough time and see spreads widen sharply. Swaps should underperform core bonds.

Currencies: Euro and sterling hammered as UK quits EU

This morning, global currency markets are wrong-footed by the UK deciding to leave the EU. Sterling and the euro are sold aggressively. The decline is reinforced as markets reduced pro-Bexit positions earlier this week. Cable dropped 17 big figures at some point. The yen and the dollar logically are the preferred safe havens.

Calendar

• The UK voted yesterday to leave the EU, setting the country on an uncertain

path. According to the BBC, projections showed voters backed the leave camp by 52% to 48%.

• Rating agency S&P warned that the UK is likely to lose its AAA credit rating as the political, financial and economic risks associated with the EU exit will likely lead to a credit downgrade in the near future.

• The Bank of England issued a statement saying it will take all necessary steps to meet its responsibilities for monetary and financial stability, adding that it has undertaken extensive contingency plans and is working closely with HM Treasury, other domestic authorities and overseas central banks.

• Sterling dropped more than 10% against the US dollar with cable trading at its highest level since 1985. EUR/GBP is trading around 0.81, above this year’s highs and the highest level in two years. The euro is hit hard too with EUR/USD trading around 1.10. USD/JPY dropped temporarily below 100, but reversed part of its losses, trading currently around 102.50.

• Global core bonds rally on safe haven flows, pushing yields sharply lower. The US 10yr yield drops almost 30 basis points, hovering around 1.45%. The German 10-yr yield trades 25 basis points lower around -0.15%.

• Gold profits from save haven demand, trading currently more than 5% higher. The gold price rose temporarily above $1350/ounce, but reversed some of its gains, trading currently around $1330/ounce. Crude oil prices suffer from risk-off sentiment with the Brent hovering around $48.5/barrel and the WTI around $47.5/barrel.

• Asian shares trade sharply lower this morning with Japanese ones hit the hardest (-8% for the Nikkei) due to a sharply higher yen boosted by safe haven flows. Elsewhere losses are more contained (-3%/-5%). Chinese stocks outperform (-1.5%) probably supported by state backed buying. +

Headlines

S&P Eurostoxx50

Nikkei Oil

CRB Gold

2 yr US 10 yr US

2 yr EMU 10 yr EMU

EUR/USD USD/JPY

EUR/GBP

Friday, 24 June 2016

P. 2

Core Bonds jump higher as UK leaves the EU

While final results are not yet available, it looks certain that the Leave side has won the Brexit referendum with an approximately 52%/48% outcome. The BBC and ITV have confirmed the Leave victory, as election specialist declared that the lead of the Leave cannot be made undone by the remainder of the votes to be counted. Markets react vigorously, as they were positioned for a “Remain” victory. Repositioning is the name of the game short time. This may lead to overreactions initially, that may be corrected partially. However, the long term consequences could afterwards deepen the initial market reactions.

Initial fundamental thoughts about the meaning of “Leave”

This is a political earthquake that will have reverberations for a very long time. It means the irrevocability of the ever closer economic and political boundaries between European states has been broken. It will never be the same again. This event might bolster euro scepticism in a number of other EU and EMU countries and might lead to more referenda and will oblige the European elite to change its politics profoundly. It also question the globalization that has alienated a large part of the populations, who felt that the benefits have gone to the so-called lucky 1% at the expense of the less fortunate big mass that haven’t profited from the advantages. The unthinkable has happened. It might influence the Spanish elections (next Sunday), French and German elections (next year) to the US (November). The establishment parties might be hit hard and fringe parties may book more successes. The response of Europe will become clearer later this morning and in the next months, but temptation about talking for more Europe doesn’t seem the right thing to do right now.

Uncertainty for long is a market negative; risk premia to rise

The result will bring a lot of uncertainty for markets for a long time. According to article 50, the UK must now officially notify its departure. That opens a period of two years during which negotiation will take place on the terms of departure. Here, the agenda will be decided by the EU, but the UK remains full member during this period. Higher risk premia are inevitable.

Rates

US yield -1d2 0,5738 -0,18535 0,9918 -0,225310 1,502 -0,200530 2,3458 -0,1691

DE yield -1d2 -0,6690 -0,09205 -0,5910 -0,140010 -0,1091 -0,177430 0,4448 -0,2211

US 10-year Note yield drops 30 basis points to 1.43% threatening all-time lows at 1.38%

Gold surges $100/ounce on Brexit.

US-Ger

Friday, 24 June 2016

P. 3

Economic uncertainty will mount and growth will get a hit in the UK, EMU and maybe even globally. This is positive for core bonds and negative riskier assets. We think the “Leave” vote will limit the powers of the ECB (even if the UK referendum concerned the EU not EMU). It is unlikely the ECB will be able, if needed, to make its policy even more aggressive. Especially Germany might draw a fat line in the sand. The ECB will increasingly be seen as part of the European unpopular elite. Inside the UK, the position of Cameron might soon become untenable and his replacement by Boris Johnson may follow. Given the outcome, it shouldn’t surprise that Scotland goes to another referendum and also the position of North Ireland is subject of uncertainty. The Divide between London (big Remain majority) and the rest of England is also subject of thought. Infighting in the Conservative party and even a split is possible. Labour is unpopular too, which might give space to populist parties.

Central bankers to safeguard stability

We think that central banks will do what they always do when market stability is threatened. It will promise to guarantee unlimited liquidity against good collateral to stabilize markets and avoid accidents. For eventual rate changes it is too early, but a Fed Summer rate hike is now completely off the table. It is followed by US presidential elections, which may bear surprises too, meaning that even a December rate hike has become unlikely.

UK future markets are unsure whether the outcome will lead to a rate cut or a hike. The former to offset economic weakness that now inevitably will follow or a rate hike to stabilize sterling. Historically, the BoE has chosen in such circumstances to cut rates and accept sterling weakness to rebalance the economy and support exports. UK bond markets haven’t opened yet, but we expect a flight to safety…to Gilts.

Market reacts straightforward

The market reaction was straightforward. Sterling is hammered (cable 1.34) and the euro loses moderately (1.10). USD/JPY fell at some point below 100. (see below for currencies). Asian equities crashed, especially Japan (-7/-8%) hit by yen strengthening. Other Asian bourses lose about 3%. European stocks will doubtless open with huge losses.

Commodities decline in general, but gold, of course, surged irresistible, at some point by $100/ounce, before some profit taking occurred.

Core bonds surge higher, German yields at new lows

US Treasuries were bought massively in overnight trading with the 10-year yield now down 30 basis points to 1.43%, reaching our first Brexit target. The 1.38% all-time low might be a next target. The US 2-year yield dropped 24 basis points to 0.53%. Fed Fund futures have now erased all chances for a rate hike in 2016 and 2017, de facto ending the US rate cycle. The US curve shifted lower by 17 to 30 basis points, the belly outperforming. Japanese yields dropped too, but to a lesser extent. The 10-year JGB yield drops 5.5 basis points to -0.19%, retesting the lows. The Japanese curve trades now negative to the 15-year sector.

R2 170 -1dR1 168,86BUND 166,93 0,9400S1 165,68S2 163,61

Friday, 24 June 2016

P. 4

Regarding European bond markets, the 10yr yield fell in the opening about 25 basis points to a new low at -0.17%, approaching our -0.25% target. It pushed the yield curve below zero till the 15-year tenor. The 30-year German yield fell an unbelievable 36 basis points to 0.367%, a new all-time low. Regarding the shape of the curve, in Germany, the curve bull flattens. Peripheral bonds are very vulnerable and should be sold sharply. Extra uncertainty as Spain holds parliamentary elections this weekend. The Spanish and Italian 10-year yield spread narrowed in recent days about 30 basis points from levels around 160 basis points. We expect this narrowing to be more than reversed and if the 160 basis points is broken, the widening may go further. Losses will be still bigger for the higher betas Portugal and Greece. Especially the latter may be vulnerable as it might be next in line to quit EMU (not necessarily EU). Of course, bonds and other markets may swing wild today, looking for a new equilibrium, but the medium term direction should be clear.

UK Brexit, the epilogue and nice eco calendar

Today, the eco calendar contains the German IFO business climate indicator, US durable goods orders and final reading of US university of Michigan consumer confidence. The ECB will announce the allotment of its first TLRTO II tender. We give some comments on these, but it will be Brexit and the market and authorities’ reactions that will drive the markets.

Bund future gaps open much higher, but somewhat lower now

T-Note future surges higher

U

Friday, 24 June 2016

P. 5

Dollar and yen: post-Brexit safe havens

On Thursday, the risk-on trade betting a Bremain outcome in the UK EU referendum slowed in Asia and early Europe. However, a sharp stop-loss unwinding of Brexit positions restarted later. EUR/JPY was a major beneficiary of this new risk-on move as both EUR/USD and USD/JPY rebounded. Markets had clearly adapted positions further to anticipate on a victory of the Remain camp in the UK EU referendum. EUR/USD closed the session at 1.1385. USD/JPY finished the day at 106.16 with all eyes then turning to the UK.

As the regional results from the UK vote filtered-through, it became soon clear that it would become a tough battle for the Remain camp. The results from Sunderland pulled the trigger for a first repositioning on global markets. Sterling nosedived and other markets were also wrong-footed. Asian equities and worldwide equity futures tumbled and triggered a ‘standard’ risk-off trade. USD/JPY fell off a cliff and dropped temporary below 100. The BOJ issued a statement that it will provide sufficient liquidity and use swaps to guarantee financial stability. Japan FM Aso, said that Japan is concerned on the consequences of Brexit, including on its impact on the currency market. However, the comments on potential interventions remain guarded. Still markets assume that chances on coordinated action in one way or another have risen. This helped to slow the rise of the yen beyond USD/JPY 100. There were also already unconfirmed rumour of BOJ rate checking. In the same context, there were ‘rumours that funds related to the government could enter the market. USD/JPY currently trades around 102.50 awaiting the open of the European markets. The onshore yuan dropped to USD/CNY 6.6165, the lowest level since early 2011. EUR/USD changed hands in the 1.14 area before the voting count started. The decline of sterling of EUR/JPY also pushed EUR/USD off a cliff. The pair dropped temporarily below the 1.10 barrier, but trades currently again around it.

Today,the eco data will be completely ignored. The focus will be on the fall-out from the UK Brexit vote. The Fed, the ECB and other major central banks will almost certainly announce measures to provide liquidity and support financial stability. Looking at the (absence) of comments from the BOJ on currency interventions, we assume that the major central banks will in a first stage abstain from openly targeting the swings on the currency markets, unless trading becomes really disorderly.

Currencies

R2 1,4128 -1dR1 1,1131EUR/USD 1,10515 -0,0286S1 1,0913S2 1,0826

EUR/UISD rebounds as risk-off trade eased Yesterday, currency markets were still confident on a positive outcome of the UK referendum

EUR/USD and even USD/JPY and EUR/JPY were captured by a risk-on move

EUR/USD tumbles as markets are wrong-footed by Brexit outcome

USD/JPY tests 100 barrier in the wake of the UK leaving the EU

Tion

Asian (currency) markets find themselves wrong-footed as the UK chooses for a Brexit

USD/JPY drops to the 100-area

EUR/USD falling below 1.10

Friday, 24 June 2016

P. 6

The corrections in the likes of EUR/USD, EUR/JPY and USD/JPY went already quite far. Except for the yen cross rates these moves often developed in thin market conditions. At the same time, there will still be a massive repositioning out of all kinds of European and risky assets. In this context, there is no good reason to row against the tide until this repositioning finds a new equilibrium. In this respect, we keep a close eye on the intra-EMU government bond spreads. Volatility will probably remain high for quite some time. The Spanish elections to be held this weekend are an additional source of uncertainty.

We will probably see plenty of stop-loss moves triggering strange correlations. For now, we assume that the euro has entered a sell-on uptick is markets until the risk-off repositioning enters calmer waters. The context remains intrinsically positive for the yen, but we have the impression that markets are reluctant to push USD/JPY aggressively below 100 as they feel uncomfortable with the risk of Japanese (or even coordinated) action. The global risk-off context will probably also weigh on smaller currencies, even the ones of countries with strong fundaments as investors will avoid assets and currencies that are at risk to become illiquid.

Sterling wrong-footed by Brexit decision

The UK currency still gained slight further ground before the publication of the first Brexit results. Cable even filled offers north of 1.50. However, as the first results came in, it became soon clear that the leave was much stronger than expected. The Sunderland results pulled the trigger for a sell-off of sterling and that move didn’t stop anymore till it was 100% clear that the UK would leave the EU. Cable touched an intraday low near 1.3230 and trades currently near 1.37. EUR/GBP jumped to the 0.8310./15 area and trades currently near 0.81.

Volatility remains high at the start of the European session The Bank of England already indicated that it will take all measures to assure financial stability. In this respect it cooperates with foreign authorities. S&P is considering to cut the UK credit rating. Regarding sterling trading, the moves in cable understandably are much more aggressive than in EUR/GBP. For now we assume that sterling has entered a sell-on-upticks pattern until global markets find a new short-term equilibrium. We don’t anticipated BoE interventions to support sterling. The Bank will probably accept this first repositioning and will only step in if the decline of sterling continues in a disorderly way from current ‘reset’ levels. We also thinkthat the BOE will in the first place try to address a potential negative impact on growth rather than defend the currency to prevent a temporary spike in inflation. In this context there is no reason to try to catch the falling sterling-knife.

R2 0,8314 -1dR1 0,8117EUR/GBP 0,8114 0,0437S1 0,7994S2 0,7717

The rebound of the yen slows as markets ponder the chance of official action

Small less liquid currencies are (very) vulnerable, even against a weak euro

Today, currency markets will be driven by the post-Brexit risk-off trade

The euro might remain under pressure

EUR/GBP jumps on Brexit vote

GBP/USD: from ‘top’ to’ below bottom’

Friday, 24 June 2016

P. 7

Friday, 24 June Consensus Previous US 14:30 Durable Goods Orders (May P) -0.5% 3.4% 14:30 Durables Ex Transportation (May P) 0.1% 0.5% 16:00 U. of Mich. Sentiment (Jun F) 94.1 94.3 16:00 U. of Mich. 1 Yr Inflation (Jun F) -- 2.4% 16:00 U. of Mich. 5-10 Yr Inflation (Jun F) -- 2.3% Japan 01:50 PPI Services YoY (May) A 0.2% 0.2% UK 10:30 BBA Loans for House Purchase (May) 37850 40104 Germany 10:00 IFO Business Climate (Jun) 107.4 107.7 10:00 IFO Current Assessment (Jun) 114.0 114.2 10:00 IFO Expectations (Jun) 101.2 101.6 France 08:45 GDP QoQ YoY (1Q F) 0.6% / 1.4% 0.6% / 1.4% 18:00 Total Jobseekers (May) 3506K 3511.1k 18:00 Jobseekers Net Change (May) -4.8 -19.9 Italy 10:00 Retail Sales MoM YoY (Apr) 0.4% -0.6% / 2.2% 11:00 Hourly Wages MoM YoY (May) -- 0.0% / 0.6% Events Moody’s Updates Ratings of Germany, Austria, Greece, Belgium and

Luxembourg

01:00 Fed's Kaplan Speaks in New York 11:30 ECB Allotment of First TLTRO-II Programme Saturday, 26 June Spanish General Elections

Calendar

Friday, 24 June 2016

P. 8

Brussels Research (KBC) Global Sales Force Piet Lammens +32 2 417 59 41 Brussels Peter Wuyts +32 2 417 32 35 Corporate Desk +32 2 417 45 82 Joke Mertens +32 2 417 30 59 Institutional Desk +32 2 417 46 25 Mathias van der Jeugt +32 2 417 51 94 France +32 2 417 32 65 Dublin Research London +44 207 256 4848 Austin Hughes +353 1 664 6889 Singapore +65 533 34 10 Shawn Britton +353 1 664 6892 Prague Research (CSOB) Jan Cermak +420 2 6135 3578 Prague +420 2 6135 3535 Jan Bures +420 2 6135 3574 Petr Baca +420 2 6135 3570 Bratislava Research (CSOB) Marek Gabris +421 2 5966 8809 Bratislava +421 2 5966 8820 Budapest Research David Nemeth +36 1 328 9989 Budapest +36 1 328 99 85

ALL OUR REPORTS ARE AVAILABLE ON WWW.KBCCORPORATES.COM/RESEARCH This non exhaustive information is based on short term forecasts for expected developments

This non-exhaustive information is based on short-term forecasts for expected developments on the financial markets. KBC Bank cannot guarantee that these forecasts will materialize and cannot be held liable in any way for direct or consequential loss arising from any use of this document or its content. The document is not intended as personalized investment advice and does not constitute a recommendation to buy, sell or hold investments described herein. Although information has been obtained from and is based upon sources KBC believes to be reliable, KBC does not guarantee the accuracy of this information, which may be incomplete or condensed. All opinions and estimates constitute a KBC judgment as of the data of the report and are subject to change without notice.

Contacts

10-year td - 1d 2 -year td - 1d STOCKS - 1dUS 1,50 -0,20 US 0,58 -0,18 DOW 18011 18011,07DE -0,11 -0,17 DE -0,66 -0,08 NASDAQ for Exch - NQI #VALUE!BE 0,38 -0,08 BE -0,57 -0,08 NIKKEI 14952 14952,02UK 1,36 0,04 UK 0,50 0,01 DAX 10257,03 10257,03JP -0,18 -0,04 JP -0,27 -0,03 DJ euro-50 3038 3037,86

USD td -1dIRS EUR USD (3M) GBP EUR -1d -2d Eonia EUR -0,345 -0,0053y -0,237 0,776 0,925 Euribor-1 -0,36 0,00 Libor-1 USD 0,51 0,515y -0,120 0,955 1,092 Euribor-3 -0,27 0,00 Libor-3 USD 0,59 0,5910y 0,370 1,361 1,445 Euribor-6 -0,16 0,00 Libor-6 USD 0,73 0,73

Currencies - 1d Currencies - 1d Commoditie CRB GOLD BRENTEUR/USD 1,1049 -0,0291 EUR/JPY 113,27 -4,98 193,5242 1319,8 48,7USD/JPY 102,5 -1,79 EUR/GBP 0,8111 0,0431 - 1d 1,72 52,40 -1,60GBP/USD 1,3617 -0,1146 EUR/CHF 1,0793 -0,0080AUD/USD 0,7368 -0,0163 EUR/SEK 9,4525 0,14USD/CAD 1,3028 0,0225 EUR/NOK 9,4701 0,11