Fixed Income and FX updateSofter growth data dominates

Bjørn Roger WilhelmsenChief FI/FX Strategistbrw@first.no

9.May 2011

Good morning,

• In our weekly Fixed Income and FX update two weeks ago we highlighted a couple of short-term risk factors for the NOK exchange rate. These risk factors were 1) A sudden drop in the supply risk premium in the oil price and 2) FX purchases by the Norges Bank.

• Both materialized in the first week of May. True, the sharp decline in the oil price last week (some 15%) was partly a result of softer global macro data (i.e. weaker demand), which also motivated a correction in risky assets – and the NOK exchange rate is normally positively correlated with risk appetite. But there are also reasons to believe that concerns of supply disruptions in the oil market diminished somewhat last week, for instance as reflected by the fact that the oil price fell more than metal prices last week amid developments in the Middle East / North Africa.

2

that the oil price fell more than metal prices last week amid developments in the Middle East / North Africa.

• Turning to interest rates, the slope of the NOK yield curve continued to flatten last week, also relative to partners (in line with one of our trade recommendations), as the decline in long-term rates exceeded the reduction in short-term interest rate expectations. Evidence of weaker growth momentum, in particular in the US, contributed to the rally, even though the payroll report exceeded expectations.

• Data for Norway were mixed last week. Retail sales were weaker than expected also in March, indicating weak if any growth in private consumption in Q1. Home prices fell in April, which might be a sign of stabilization after several months of strong increases (but this is too early to say). On the other hand, growth in manufacturing production and housing starts were stronger than expected. Meanwhile, an important Norges Bank survey (Regional Network) signals robust above-trend growth in the economy and the labour market continues to tighten.

• Taken together, recent events have not strengthened our call for a 25 bp interest rate hike this week. However, while we emphasize the somewhat higher uncertainty, we still see a hike as the most likely outcome (for details, see our Norges Bank Preview distributed on Friday).

• Also watch tomorrow’s CPI data (we expect slightly higher core inflation) and the revised 2011 National Budget (which will provide more information about the outlook for FX purchases to the pension fund).

• Bull flattening of yield curves

• FX: Significant corrections last week

3

• FX: Significant corrections last week

• Norges Bank Board meeting: We expect a hike, but it’s a close call

Fixed income rally mainly reflects softer global macro data

Interest rates further down last week

-8.0

-6.0

-4.0

-2.0

0.0

Interest rate moves last weekInterest rate swaps bp

Norway

Sweden

Euro area

US

4

-14.0

-12.0

-10.0

2y 5y 10y

US

The slope of the yield curve continued to flatten last wek

Curves: Bull flattening

5

Developments in fixed income markets are benefitting our 2-10 NOK-SEK box trade, now hovering at around +33 (trade was opened at +40 for a target of -10), see chart to the right

Money market: FRA-rates continue down

FRA-rates, change from last week

0 100

-0.075

-0.050

-0.025

0.000

0 100

-0.075

-0.050

-0.025

0.000%-points

NOK FRA curve

3.50

3.75

4.00

4.25

3.50

3.75

4.00

4.25Last week

Now

6

NOK EUR SEKSource: EcoWin, First Securities

Jun-11 Dec-11 Jun-12 Dec-12-0.150

-0.125

-0.100

-0.150

-0.125

-0.100

Source: EcoWin, First Securities

Jun-11 Dec-11 Jun-12 Dec-122.75

3.00

3.25

2.75

3.00

3.25

But our recommendation to pay 3m NOK FRA in dec-12 has suffered in recent weeks and the current level (3.95%) is below opening levels of trade (4.0%). Our target is 4.5%, with s/l at 3.75%NOK FRA-rates are likely to increase somewhat this week if Norges Bank decides to hike its key policy rate to 2.25%, as we expect. However, our call is now finely balanced due to recent macro events

Mind the gap between gov. bond yields and equity prices

7

The gap between US equities and governmet bond yields narrowed last week10y UST yield in the lower end of our “fair-value” band

Partly a “weaker demand” story, but the risk premium on the oil price fell too

Sharp decline in commodity prices

Global PMI

45

50

55

60

65

45

50

55

60

65Services

8

Source: EcoWin, First Securities

98 00 02 04 06 08 1030

35

40

30

35

40

ManufacturingFirst, Markit, JPMorgan

Data increase risks to ur call for a 25 bp hike this week

Norway data: House prices and retail sales softer than expected last week

9

Industrial surveys are still consistent with robust growth

IP growth higher than expected, but surveys slighly down

Manufacturing production

1

5

9

13

105

110

115

120Index

10

Source: EcoWin, First Securities

06 07 08 09 10 11-11

-7

-3

90

95

100

FIRSTChange y/y

This important survey supports our call for a hike this week

Norges Bank Regional Network signals robust GDP growth

GDP vs. Norges Bank's Regional NetworkActual vs. reported growth

234567

1.01.52.02.53.03.5

GDP Mainland y/y

NBs forecast

11

Source: EcoWin, First Securities

02 03 04 05 06 07 08 09 10 11 12 13-3-2-101

-1.5-1.0-0.50.00.5

Network, reported growth

• Bull flattening of yield curves

• FX: Significant corrections last week

12

• FX: Significant corrections last week

• Norges Bank Board meeting: We expect a hike, but it’s a close call

NOK sharply down on ”risk off” and plunging commodity prices

NOK exchange rate

7.80

7.85

7.90

7.95

8.00

5.5

5.6

5.7

5.8

5.9

6.0

…and Norges Bank’s decision to resum FX purchases may have contributed too

13

EURNOK USDNOKSource: EcoWin, First Securities

Dec10

Jan11

Feb Mar Apr May7.65

7.70

7.75

5.2

5.3

5.4

Most of the NOK sell off can be attributed to a correction in the oilprice and risky assets

The gap between the NOK TWI and interest rate differentials (vs. trading partners) narrowed last week

14

As we predicted, Norges Bank resumed FX purchases to the pension fund in May

FX purchases to pension fund contributes to weaker NOK trend

60.0

110.0

160.0

210.0

-6.0 %

-4.0 %

-2.0 %

0.0 %

2.0 %

Non-oil budget deficit vs FX purchases

Non-oil budget surplus

FX purchases

15

(40.0)

10.0

-10.0 %

-8.0 %

2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012

Norges Bank purchases FX equivalent to NOK 300 mill. per day in MayWe expect more FX purhcases in coming months

NOK TWI back in line with Norges Bank rate path

NOK TWI (I-44)

89

90

91

92

93

89

90

91

92

93

NBs forecast

16

Source: EcoWin, First Securities

10 11 1286

87

88

86

87

88 NBs forecast

EURNOK continues to trade the 7.75-7.95 range

Techincal: EURNOK at 200 day moving average

EURNOK, resistance levels7.50

7.75

8.00

8.25

7.50

7.75

8.00

8.25

EURNOK

NOK EUR7.507.758.008.258.508 75

7.507.758.008.258.508 75

17

Source: EcoWin, First Securities

Sep09

Dec10

Mar Jun Sep Dec11

Mar

8.50

8.75

9.00

8.50

8.75

9.00

200 day moving average

Source: EcoWin, First Securities

05 06 07 08 09 10 11

8.759.009.259.509.75

10.00

8.759.009.259.509.75

10.00

• Bull flattening of yield curves

• FX: Significant corrections last week

18

• FX: Significant corrections last week

• Norges Bank Board meeting: We expect a hike, but it’s a close call

Under doubt we expect Norges Bank to increase its key policy rate by 25 bp to 2.25% at the upcomingBoard meeting. This would be the first change in the key policy rate since May 2010. However, recentNorwegian economic news has on balance not strengthened our case. In addition, the sharp fall in commodity prices yesterday is a “wait-and-see” argument.The Norges Bank’s conditional interest rate path is consistent with a 25 bp hike by the end of the first half of 2011, but it was ambiguous whether the move will occur in May or June. But judging from episodes in the past when the Monetary Policy Report assigns a 50-50 chance of a move at the next meeting, theNorges Bank is inclined to move at the first occasion. It makes no sense to publish a dovish statement after a decision to hike rates. Consequently, the short-end of the yield curve should sell off, the slope of the yield curve in 2-10 swaps should flatten and the

Under doubt, we still see a hike as the most likely outcome

Norges Bank Preview: May or May not hike

end of the yield curve should sell off, the slope of the yield curve in 2-10 swaps should flatten and theNOK exchange rate should appreciate. However, the reaction in the market may be somewhat restricted ifthe press release emphasises that the decision was close by mentioning that “the Executive Boardconsidered the alternative of leaving interest rates on hold” – which we expect.

19

Disclaimer

This document was prepared exclusively for the benefit and internal use of selected parties in order to evaluate the feasibility of a possible transaction or transactions and does not carry any right of publication or disclosure to any other party. This document is incomplete without reference to, and should be viewed solely in conjunction with, the oral briefing provided by First Securities AS. This presentation may not be used for any other purposes without the prior written consent of First Securities AS. This presentation is not prepared in accordance with the requirements applying to investment researches.This document does not constitute or form part of an offer or invitation or recommendation to subscribe for or purchase any securities. The distribution of this document may be restricted by law in certain jurisdictions and person into whose possession this document comes should inform themselves about, and observe, any such restriction. Any failure to comply with these restrictions may constitute a violation of the laws of any such jurisdiction. First Securities AS shall not have any responsibility for any such violations. Any decision to purchase or subscribe for securities in any responsibility for any such violations. Any decision to purchase or subscribe for securities in any offering must be made solely on the basis of the information contained in the prospectus or other offering circular issued in connection with such offering. In preparing this document we have relied upon and assumed, without independent verification, the accuracy and completeness of all information available from public sources or which was provided to us or otherwise reviewed by us. The information contained in this document has been taken from sources deemed to be reliable. We do not represent that such information is accurate or complete and it should not be relied on as such. Any opinions expressed herein reflect our judgement at this date, all of which are accordingly subject to change. First Securities AS accept no liability whatsoever for any direct, indirect or consequential loss rising from the use of this document or its contentsFirst Securities AS and/or their employees may hold shares, options or other securities of any issuer referred to in this document and may, as principal or agent, buy or sell such securities. First Securities AS may have other financial interests in transactions involving these securities.

20