12.10.09 1 Market Snapshot: Summary of rate movements and important - - PowerPoint PPT Presentation

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12.10.09

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Economics Watch:

Market Snapshot: Summary of rate movements and important announcements

Monday: RICS housing market survey BRC quarterly economic survey BRC retail sales monitor (total %y/y) UK BoE 2022‐2034 reverse gilt auction Tuesday: UK CPI, RPI and RPIX released (%m/m) BoE 2036‐2055 reverse gilt auction Wednesday: Claimant Count unemployment (change, thousands) ILO unemployment rate (%) UK average earnings growth (%) UK BoE 2013‐2019 reverse gilt auction Thursday: ECB President Trichet speaks on “Lessons from the Crisis” ECB monthly bulletin published

Source: Barclays Capital

Contents:

Equities 3 Credit 4 Nominal Yields 5 Inflation 6 Real Yields 7 Appendix 8 Manager Selection – Process 40 Ongoing Monitoring – Monthly Solvency Reporting 45 Redington Education – Setting a Level Playing Field 51

“Another notable result was the consolidation of Redington’s position, building from its impressive debut last year. It secured best overall asset liability management/liability driven investment (ALM/LDI) advice

• provider. In addition to being voted the best source for strategic advice,

Redington matched its performance last year by coming third overall of the consultants, proving that youth is no barrier when it comes to pension consulting.”

Source: Life & Pensions, September 2009

• Equity markets rebounded spectacularly this week. The S&P 500 and the FTSE

100 were up around 4.5% with the Eurstoxx 50 rising by around 6%

• A key driver for the rise in equity markets was the strong start in the Q3 US

reporting season.

81% of the 31 S&P 500 companies having reported so far have beaten

estimates

18% of companies beat earnings per share (EPS) predictions

• After aggressive government stimulus, markets are rallying in unison, there are

important differences between the world’s major economies as the upturn

• begins. Although the US and Europe have seen the most damage to credit

markets, the US remains in a more precarious position. Factors that could hinder the rally in equity markets include:

High unemployment The damage done to banks and securitised markets The deterioration in household finances

• Figure 2 demonstrates the difference in potential returns that can be made by

selectively choosing which equity markets one invests in. Looking at the chart, the Price/Earnings (P/E) ratio‐ the ratio of the price of the stock to the earnings per share‐ and forward earnings growth are most favourable in Europe.

Figure 2: P/E versus Earnings Growth

Source: Bloomberg, Redington Source: Bloomberg, Redington

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“The rally continues once more...”

50 60 70 80 90 100 110 Sep 2008 Dec 2008 Mar 2009 Jun 2009 Sep 2009 Total Return S&P 500 FTSE 100

Figure 1: Total Return on major Equity Indices

‐100 100 200 300 400 500 600 700 800 Feb 2008 May 2008 Aug 2008 Nov 2008 Feb 2009 May 2009 Aug 2009 Libor Spread AAA AA A BBB

• Corporate spreads as measured by the Barclays Sterling Non‐Gilt index remained

constant for the AA and narrowed by 2 and 6bps for A and BBB. On a sector basis, spreads on senior financials and cyclicals narrowed by 2bps however sub‐financials narrowed significantly by 16bps. Spreads on non cyclical and telecoms were slightly wider by 1‐2bps.

• Despite the weak non‐farm payroll data and other economic releases in the weak

ending on October 2nd , tightening resumed at the beginning of last week and may have been influenced by the release of the US ISM Non‐manufacturing data. This is an indicator of the size of the US Services sector which showed growth as the index moved from 50.9 from 48.4 in August. (A reading of 50 or above means growth).

• The commencement of Q3 earnings season is likely to have a significant impact on

credit spreads. For the rally to continue, investors must see net income increases from real end‐user demand increases as opposed to cost cutting. Credit is still likely to be well supported as central bank policies help maintain liquidity in the markets and as such investor inflows to credit searching for high yields may continue.

• The Bank of England’s Q3 Credit Conditions survey showed supply of credit to non‐

financial corporates rose. An interesting point to note is that large companies are choosing to access credit through bond issuance as opposed to through bank loans.

Figure 3:Barclays Sterling Non‐Gilt Corporate by Rating Figure 4: Barclays Sterling Non‐Gilt by Sector

Source: Barclays Capital Source: Barclays Capital

“Q3 earnings will be important for credit...”

Figure 5: Lending to Non‐Financial Corporates

Source: IBoxx, Barclays Capital

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200 400 600 800 1,000 1,200 Feb 2008 May 2008 Aug 2008 Nov 2008 Feb 2009 May 2009 Aug 2009 Libor Spread Cyclicals Non‐Cyclicals Senior‐Financials Sub‐Financials Telecoms‐Utilities

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“DMO announces UKT 2060 syndication...”

• Over the last week 30Y and 50Y gilt swap spreads have become more positive

and are at 12bps and 18bps, as the respective gilt yields rose by 4 and 7 bps, whilst swap rates were largely unchanged at the long‐end.

• Gilt rates still remain above swaps at all maturities after 25 years. Despite QE

narrowing the swap spread, external supply and demand dynamics are still impacting the long‐end of the curve.

• The past week has been a big week in fixed income supply:

On 6th October DMO reopened UKT2013 for a notional amount of £5bn. On 14th October there will be a £3.5bn auction of UKT 2020

• The DMO has announced the syndication of an ultra long 2060 Gilt later this

month, to follow a new coupon schedule 22 Jan/22 July. One would expect this issuance to erode the premium long‐dated investors are willing to pay fort he 2055, which following the syndication will no longer be the sole instrument

• ffering duration to hedge ultra long dated liabilities. The Z‐spread of the UKT

55 increased by 7bps over the week.

Figure 7: Nominal Swap Spreads on Selected Gilts

Source: Barclays Capital, Redington Source: Bloomberg, Redington

Figure 6: Nominal Term Structure of Gilts vs. Swaps

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“IL42 auction goes well...”

• On the 7th October the DMO reopened £750m notional of the IL42. There was

sufficient demand to clear the additional supply.

• Over the last week, gilt breakeven inflation has risen by 5‐9bps at the 20‐50Y
• tenors. Inflation swap levels at the long end have risen 2‐4bps over the week.

Inflation swaps are now at a spread of 14.5bps and ‐4bps to Gilt breakevens at the 30Y and 50Y points.

• The distortion between gilt breakeven and swap RPI inflation remains,

particularly at the 20 year point and this is shown clearly in figures 8 and 9.

Source: Bloomberg, Redington

Figure 8: Gilt breakeven inflation term structure vs. swaps Figure 9: Swap Inflation‐ Gilt Breakeven Inflation

Source: Barclays Capital, Redington

• Swap real yields remain negative at the short end for both gilts and swaps.

The differential between swap and gilt real yields widens significantly across the middle of the curve due to the low levels of gilt breakeven inflation relative to

• swaps. The difference reduces at longer maturities.
• Z‐Spreads are the weighted average constant spread added to the swap zero

curve to get the market price of the gilt. They are used as a relative value measure between cash and the swap market.

• Z‐spreads on linkers remain positive, but over the week there has been

relatively little change. The IL20 remains flat over the week, the IL2037 and IL 2055 have risen 2.5 and 5.1 bps. However the impact of the upcoming Gilt 2060 syndication may be a significant factor affecting the 2055 Z‐spreads.

Source: Bloomberg

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“ Yield enhancements from switching to linkers have increased again...”

Figure 11: Z‐spread on selected linkers

Source: Barclays Capital, Redington Source: Bloomberg, Redington

Figure 10: Real Gilt yield term Structure vs. Swaps

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Appendix: Summary Tables

Figure 12: Growth Assets Figure 13:Traditional Liability Matching Assets:

* In normal market conditions, z‐spreads on linkers are negative (a negative spread must be added to the swap zero curve to get the market price of the gilt). Last year this trend had reversed although the effects of QE are helping to reduce z‐spreads.

*

** * * *IPD Property Index is as of August

UK Gilts Level 1 WeekChange 1 Month Change 1 Year Change 10Y 3.45 1.4 (-22.2) (-99.0) 20Y 3.98 1.4 (-12.8) (-55.7) 30Y 4.06 3.5 (-10.9) (-21.8) 50Y 4.08 6.8 (-6.8) (-9.5) UK Nominal Swaps Level 1 WeekChange 1 Month Change 1 Year Change 10Y 3.77 3.2 (-19.1) (-97.7) 20Y 4.06 3.1 (-12.4) (-35.6) 30Y 3.94 0.6 (-10.8) (-6.4) 50Y 3.90 0.7 (-6.6) 12.6 Gilt Breakeven Inflation Level 1 WeekChange 1 Month Change 1 Year Change 10Y 2.94 8.6 30.3 33.2 20Y 3.24 9.4 13.0 8.3 30Y 3.50 5.2 (-1.8) 13.2 50Y 3.65 6.4 1.0 3.7 UK RPI Swap Level 1 WeekChange 1 Month Change 1 Year Change 10Y 3.39 9.5 8.7 (-3.8) 20Y 3.65 3.7 5.5 (-12.7) 30Y 3.64 2.4 4.1 (-21.2) 50Y 3.61 2.0 3.5 9.5 Z-Spreads Level 1 WeekChange 1 Month Change 1 Year Change UKT 2020 (-23.8) 0.4 (-1.1) (-0.6) UKT 2038 10.5 3.4 (-0.6) (-15.3) UKT 2055 17.9 6.8 0.4 (-18.5) UKTI 2020 13.0 0.0 (-18.7) (-41.6) UKTI 2037 19.9 2.5 5.5 (-74.0) UKTI 2055 15.3 5.1 1.4 (-48.5) Equities Level 1 WeekChange 1 Month Change 1 Year Change FTSE 100 5,162 3.5% 4.3% 18.2% S&P 500 1,071 4.5% 4.5% 8.8% Eurostoxx 50 2,882 4.4% 3.4% 7.0% Nikkei 225 10,016 2.9% (-4%) 8.8% FX Level 1 WeekChange 1 Month Change 1 Year Change GBPUSD 1.58 (-%) (-4%) (-4%) GBPEUR 1.08 (-1%) (-5%) (-5%) EURUSD 1.47 0.9% 1.5% 1.5% Credit Spread by Sector Level 1 WeekChange 1 Month Change 1 Year Change Cyclicals 195 (-1.2) (-17) (-96.7) Non-Cyclicals 118 0.9 (-2.6) (-43.3) Senior-Financials 206 (-1.9) (-24.6) (-202.9) Sub-Financials 416 (-15.5) (-53) (-146.4) Telecoms-Utilities 136 1.9 (-0.1) (-63.5) Credit Spreads by Rating Level 1 WeekChange 1 Month Change 1 Year Change Aa 27 0.1 (-5.1) (-13.7) A 158 (-1.5) (-11.4) (-150.5) Baa 238 (-5.7) (-29.1) (-160.6) IPD Property Index Level 1 Month Change 3 Month Change YTD Property Return 606 0.9% 1.5%

• 8.3%

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Disclaimer

Disclaimer For professional investors only. Not suitable for private customers. The information herein was obtained from various sources. We do not guarantee every aspect of its accuracy. The information is for your private information and is for discussion purposes only. A variety

• f market factors and assumptions may affect this analysis, and this analysis does not reflect all possible loss scenarios. There is no certainty that the parameters and assumptions used in this analysis can

be duplicated with actual trades. Any historical exchange rates, interest rates or other reference rates or prices which appear above are not necessarily indicative of future exchange rates, interest rates, or

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delivery costs. Any reference to the terms of executed transactions should be treated as preliminary and subject to further due diligence . Please note, the accurate calculation of the liability profile used as the basis for implementing any capital markets transactions is the sole responsibility of the Trustees' actuarial advisors. Redington Ltd will estimate the liabilities if required but will not be held responsible for any loss or damage howsoever sustained as a result of inaccuracies in that estimation. Additionally, the client recognizes that Redington Ltd does not owe any party a duty of care in this respect. Redington Ltd are investment consultants regulated by the Financial Services Authority. We do not advise on all implications of the transactions described herein. This information is for discussion purposes and prior to undertaking any trade, you should also discuss with your professional tax, accounting and / or other relevant advisers how such particular trade(s) affect you. All analysis (whether in respect of tax, accounting, law or of any other nature), should be treated as illustrative only and not relied upon as accurate.

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