Pondering Projections | Week of September 11, 2017

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September 8, 2017

Pondering Projections | Week of September 11, 2017 U.S. Economics: Treasuries a Safe Haven during the Storm, Sal Guatieri   

More Fed voters are getting antsy about extending the rate cycle in the face of a persistent inflation undershoot Hurricanes will muddle the data in coming months, reinforcing the Fed’s caution about raising rates this year Globalization, automation and e-commerce will continue to depress the prices of goods and services, but not assets

Special: T-Bill Issuance during Debt Ceiling Extension, Margaret Kerins, CFA   

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Net T-bill issuance through September could increase by $100bn if Treasury decides to increase auction sizes to near historic highs. This would bring Q3:17 net bill issuance to $170bn for the quarter bringing cash balance up over $100bn. Net bill issuance is expected to be volatile as issuance increases in coming months only to decline into the expiration of the debt ceiling extension and then ramp back up into year-end. We estimate that from December through February, about $285bn in extraordinary measures would be available. This increases to $323bn in March due to an estimated onetime suspension of principle and interest that may occur in March. However, February and March federal budget outlays exceed receipts and average net receipts since 2012 from December through February and March totaled -$189bn and -$302bn since 2012. While there is inherent uncertainty surrounding the predicting spring tax season net receipts, exhaustion of extraordinary measures by March is clearly possible which should put pressure on bills expiring in March if Treasury enters into another period of extraordinary measures.

U.S. Rates: Pondering Projections, Ian Lyngen, CFA; Aaron Kohli, CFA 

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In the week ahead, the impact of the recent hurricanes will be assessed and we’ll get a better sense of the pace of consumption and inflation during the third-quarter via the CPI and Retail Sales data. The risks in that context are somewhat skewed because of the storm damage, as it will ultimately be the September and October data that are used in gauging the impact of Harvey and Irma. Even a strong bounce in core-inflation and consumption will be readily dismissed as images of shuttered refiners and flooded interstates continue to dominate the media’s attention. We’ve already seen the odds for a December move effectively priced out as futures currently point to an uninspired onein-five shot at this point. Any further pricing out of the Fed risks a flatter OIS curve as investors interpret an on-hold Fed as more than a single-meeting event. The tendency for the market to respond to skipping one meeting in a tightening campaign by pricing out future moves may be exaggerated by the sluggishness of core-inflation during the current cycle.

High Quality Spreads: Swap Spreads and the Debt Ceiling II, Dan Krieter, CFA; Dan Belton, PhD   

We are expecting swap spreads to narrow in the near term, with high quality spreads lagging the move. For the time being, we recommend switching hedges to Treasuries and will look to reinitiate high quality asset swaps in late November or early December when technicals turn in favor of wider swap spreads. We find it likely that the heavy bill issuance to come following the resolution of the debt ceiling debate will result in another episode of negative correlation between Libor/GC and Treasury cash balances as GC rates move higher faster than Libor in the near term. This places downward pressure on short end swap spreads in the near term. However, we expect the narrowing in swap spreads to be short-lived, with most indicators pointing to wider spreads in the medium and long term.

CAD RV: Lessons Learned from the BoC, Benjamin Reitzes, Darren Campbell, Abhisar Srivastava 

We learned the following this week: 1) The C$ doesn’t seem to have the impact on policy it once did. Coming over from EDC, it was common place to believe Mr. Poloz wanted a weaker C$ and his policy decisions appeared to bear that out. That changed this week. 2) Every meeting is live. Despite directing the market ahead of the July hike, the BoC felt no need to deliver even the slightest hint for September. 3) There remains “considerable monetary policy stimulus” in place. 4) Following those two points, a solid run of data into the October meeting could mean a third straight hike.

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September 8, 2017

Economics: Treasuries a Safe Haven during the Storm Sal Guatieri, Senior Economist   

More Fed voters are getting antsy about extending the rate cycle in the face of a persistent inflation undershoot Hurricanes will muddle the data in coming months, reinforcing the Fed’s caution about raising rates this year Globalization, automation and e-commerce will continue to depress the prices of goods and services, but not assets

A Barrage of Bad News 

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The 10-year Treasury yield careened toward 2.0% on Friday morning, the lowest since election day and 60 basis points below the high for the year. The market is feasting on a barrage of cyclical bad news and secular supportive forces that are simply swamping two adverse factors: the weakening U.S. dollar, whose 9% spill from 14-year highs will provide a modest, albeit temporary, lift to inflation, and the almost certain announcement of reinvestment tapering at the September 20th FOMC meeting. However, the program has been so well telegraphed (the combined tapering of maturing Treasury notes and mortgage bonds will start at $10 billion per month and increase by a similar amount every quarter until reaching $50 billion) that it is largely priced into the market. BMO estimates that each $100 billion of portfolio shrinkage will add roughly 5 basis points to long Treasury yields. So, shrinking the balance sheet by a trillion dollars will add only half a percentage point to yields, spread over a few years. The Fed’s normalization of policy rates, rather than its balance sheet, will have the bigger influence on Treasury yields. We currently expect the fed funds target rate to rise in December and three more times to 2.13% at year-end 2018. But the odds on a December move are sinking by the day (and, in fact, the futures market sees just a 29% chance). A steady stream of dovish talk from Fed officials suggests more voting members are becoming nervous about extending rate hikes in the face of a persistent inflation undershoot (and it doesn’t help that unit labor costs have fallen in the past year, the core PCE rate slipped to a 1½ year low of 1.4% in July, while the risk for next week’s August core CPI rate is on the downside). This week, Brainard, Kashkari and Kaplan all stressed the need for patience until inflation shows some sign of returning to target. Even Dudley (whose views are usually aligned with the Chair’s) appears to be less certain about the timing of the next rate increase, noting that surprisingly low inflation could be related to “more fundamental structural changes”, though he also said that easier financial conditions would, all else equal, warrant higher rates. Besides low inflation, other factors are weighing against a December rate hike. First, although a particularly devastating hurricane season will likely have a neutral long-term effect on the national economy, it will greatly muddle the economic data in coming months, making the Fed’s job of reading the tea leaves more difficult. Even if the economy rebounds in Q4, the Fed won’t know for sure how much is due to underlying strength and how much is simply a temporary lift from reconstruction activity. Moreover, even if core inflation turns up, the Fed won’t know how much is due to supply disruptions and rising raw material costs stemming from the storms. Second, the federal government’s punting of the continuing resolution and debt ceiling issues to December 8 raises the risk of a partial government shutdown occurring just days before the December 13 FOMC meeting. It also likely pushes out the timing of any legislation on tax reform to next spring, at the earliest, as the President’s tango with Democratic leaders can only widen the deep divide between hardline fiscal conservatives and moderates in the House. Third, the resignation of Vice-chair Fischer and uncertainty about the next Chair could weigh, at the margin, toward inaction among an already-cautious FOMC. So, barring a sustained, broad-based move higher in core inflation and/or meaningful decline in the jobless rate, the Fed could well stand pat on rates through year-end. Couple a wavering Fed with 1) safe-haven demand arising from North Korea’s saber-rattling, and 2) the ECB’s turtle-like moves toward tapering asset purchases, and it’s little wonder 10-year Treasury yields are skidding lower. And, we haven’t even addressed the long-run structural influences stemming from an aging population seeking fixed-income securities, and the ongoing forces of globalization, technology and e-commerce in holding down inflation. Low inflation also begets low inflation says Fed Governor Brainard, as it dampens price expectations and wage settlements. Effectively, workers are getting real wage gains via aggressive discounting rather than wage hikes. The Fed’s Beige Book also made a

Page 3 of 43

September 8, 2017

noteworthy comment that businesses are addressing labor shortages not by raising wages to attract workers but by not increasing output (i.e., forgoing business). This strategy makes sense if productivity is still low and doesn’t justify higher wages for less-skilled workers, as raising wages would lead to losses. That’s a sea-change in mindset from the bad old days when businesses would simply raise prices to cover higher wages, while central banks would often accommodate the price increase by keeping policy loose. The implication is that labor shortages today are more likely to lead to slower growth than higher inflation, putting downward pressure on Treasury yields. Moreover, if central banks maintain a loose policy to address below-target inflation, they run the risk of inflating assets. And, as we saw a decade ago, the bursting of an asset bubble can create just as much economic damage as runaway inflation. That’s one more reason for Treasury holders to smile the longer it takes for the Fed to normalize policy rates.

Keys for Next Week 

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Consumer Prices—Thursday, 8:30 am: Though it made landfall late in the month, Hurricane Harvey will buffet most of the August data releases. For the CPI, the main thrust is from higher gasoline prices, but supply disruptions and higher material costs will also exert some upward pressure. A 6% jump (s.a.) in fuel costs will add nearly 0.2 ppts to the headline index. By contrast, grocery wars stemming from price cuts at Whole Foods could clip food bills. Overall, we see the index rising 0.4% in the month and 1.9% y/y, up two tenths from July. Core prices are due for a 0.2% pop, the most in six months, assuming prices of motor vehicles and household furnishings stop falling. This would hold the annual core rate at 1.7% for a fourth straight month, though a “high” year-ago comparison suggests downside risk. Retail Sales—Friday, 8:30 am: After splurging in July, shoppers look to have pulled back in August, partly because of Harvey. New auto sales dropped nearly 4% last month, and many retail outlets were closed in the Houston area. A partial offset will emerge from inflated gas station receipts. Overall, retail sales likely rose 0.2%, and by a similar amount excluding autos and gas stations. Harvey will actually boost sales in September as homeowners replace lost and damaged items. For Q3, consumer spending likely slowed to a still-decent 2.4% pace after jumping 3.3% in Q2. Households remain well supported by steady job gains, sprightly spirits and rising wealth. Industrial Production—Friday, 9:15 am: Of all the monthly indicators, industrial production will be the most affected by Harvey due to the storm’s disruption to energy production, manufacturing, utilities demand and business activity along the Gulf Coast. We estimate industrial production plunged 0.6% in August, slightly more than the average of the past 10 costliest hurricanes, according to Strategas. This would mark the first drop in seven months, which should fully retrace in the next two months. The drop in production could slash the capacity utilization rate to 76.2%, keeping producer prices on low simmer.

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September 8, 2017

T-Bill Issuance during Debt Ceiling Extension Margaret Kerins, CFA, MD We expect Treasury to begin to increase bill sizes as soon as Monday’s 4wk bill announcement as long as the debt limit extension is signed by then. We estimate that Treasury could increase net bills by about $100bn from September 11th through month end. However, bill issuance is likely to decline into the December 8th extension deadline and ramp back up into year-end. If the debt ceiling is not extended again or lifted, bills maturing in March should come under pressure as extraordinary measures may be exhausted as federal budget outlays exceed receipts in February and March.   

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Net T-bill issuance through September could increase by $100bn if Treasury decides to increase auction sizes to near historic highs. This would bring Q3:17 net bill issuance to $170bn for the quarter bringing cash balance up over $100bn. Net bill issuance is expected to be volatile as issuance increases in coming months only to decline into the expiration of the debt ceiling extension and then ramp back up into year-end. Even if Treasury is operating under extraordinary measures after December 8th, there should be adequate room for an increase in bills given net coupon issuance of $57bn, holding coupon auctions unchanged. There will only be three weeks to issue with seven scheduled bill auctions set to be announced after December 8th, excluding cash management bills. We think that net bill issuance during this time frame could easily total over $100bn as cash balances are brought up into year-end. However, it is unlikely that cash balances will reach $360bn projected in the last Quarterly refunding. Since this was a $300bn increase over the projected Q3:17 ending levels, bill issuance is likely to be much smaller than originally anticipated unless the debt ceiling is raised or extended well before December 8th. For example, if cash balances end December near September levels, net bill issuance may be $71bn for the entire quarter. If December ends $100bn higher than September, it may be $171bn so there is substantial variance in estimates depending on how much they increase cash in the third quarter. We estimate that from December through February, about $285bn in extraordinary measures would be available. This increases to $323bn in March due to an estimated onetime suspension of principle and interest that may occur in March (Figure 2 & 3). However, February and March federal budget outlays exceed receipts and average net receipts since 2012 from December through February and March totaled -$189bn and -$302bn since 2012 (Figure 4). While there is inherent uncertainty surrounding the predicting spring tax season net receipts, exhaustion of extraordinary measures by March is clearly possible which should put pressure on bills expiring in March if Treasury enters into another period of extraordinary measures.

Debt Ceiling Extension Details 

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Congress is in the process of passing legislation to extend the debt limit to Friday, December 8, 2017. On December 9th, 2017, the debt limit will reset to include all of the debt issued during the extension period. This basically provides room for all of the issuance that was and is needed to fund the deficit spending from the time that the debt ceiling was reached on March 15th through December 9th. Similar to the 2015 legislation, the bill limits issuance to what is necessary to fund an appropriated expense and prohibits the creation of a cash reserve above normal operating balances in anticipation of expiration of the extension period. This basically prohibits issuance to fund a cash buffer that would reset the debt limit higher to provide room once the suspension period ends. Therefore, while Treasury can rebuild cash balances during the suspension period, it is likely that they will bring them back down as the end of the suspension approaches (Figure 1). While the extension is set to last only 88 days if it is signed over the weekend, we still expect Treasury to increase its cash balance to at least $100bn and possibly to the $150bn minimum from its cash balance policy in the interim.

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September 8, 2017

Figure 1: Cash Balances - Prior Extensions

Figure 2: Extraordinary Measures Estimates

500

$Bn

Measures Available (Est)

Date

400 300

Impacted Funds

March - Sept 2017

Dec 2017- Feb 2018

200

CSRDF

141

28

66

G Fund

225

235

235

100

Debt Ceiling Suspension

Sep-17

Jan-17

May-17

Sep-16

Jan-16

May-16

Sep-15

May-15

Jan-15

Sep-14

Jan-14

May-14

Sep-13

Jan-13

May-13

0

Dec 2017- Mar 2018

ESF

22

22

22

Totals

388

285

323

Source: BMO CM, Treasury

Cash Balances

Min Cash

Source: BMO CM, Treasury

Potential Bill Issuance in September 

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Cash balances are currently $39bn and likely to be higher than the $60bn projected in the last Quarterly Refunding if they begin to ramp up auction sizes as soon as September 11th. There are seven scheduled bill auctions that are left to be announced before the end of September with announce dates beginning on September 11th, excluding cash management bills. In this simple example, increasing the remaining auctions to near the highest sizes historically, we estimate that Treasury could issue $100bn in net bills though month-end. For example, there is $90bn in 4wk bills left to mature through month-end, and increasing the remaining 4wk bill auctions to $60bn would raise net issuance by $90bn. A $3bn increase in the 13wk ($42bn) and a $2bn increase in the 26wk ($35bn) would add $10bn and bring the sizes up near the highs. Therefore, in this example, Treasury could issue an additional $100bn in net bill issuance through the end of the month. This would bring Q3:17 net bill issuance to $170bn for the quarter bringing cash balance up over $100bn.

Potential Bill Issuance in Q4:17 

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The cash balance is unlikely to increase to the $360bn projected by the end of December so net bill issuance is likely to be much less than projected at the time of the last Quarterly Refunding. BMO Economics projects a Q4:17 deficit of $187bn. Net coupon issuance is projected at $116bn; holding auction sizes constant implying $71bn in net bill issuance for the quarter to simply fund the deficit1. In other words, if there was no increase in cash in the quarter this is the level needed. The Quarterly Refunding estimated $501bn in net marketable debt issuance for the quarter with an ending cash balance of $360bn for a $300bn increase in the quarter. Therefore, bill supply was projected to be extremely heavy even if Treasury increased coupon auction sizes. If cash balances end December closer to the $100bn to $150bn range and that is near the Q3:17 ending level, then net bill issuance should be much lower than expected prior to the debt ceiling extension. If Treasury raises the debt ceiling or extends it again, cash balances could be brought up to higher levels by year-end, but the amount may still be constrained depending on how close it is to year-end. If Treasury is once again operating under extraordinary measure after December 8th, issuance capability will be somewhat constrained, but there should be plenty of room for December net issuance. For example, the $183bn in coupons set to be auctioned in December settle after the debt ceiling extension date, holding auction sizes constant. Net coupon issuance would total $57bn given $126bn in maturities. The increase in net coupon issuance should easily be This included SOMA add-ons if they beginning tapering reinvestments on October 1 st at the runoff caps.

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September 8, 2017

covered by extraordinary measures in December. For example, the G-fund balance should total over $225bn and the full amount will be available to be suspended daily to free up room under the debt ceiling limit. With a net increase in coupons of $57bn, there would still be plenty of room for bill issuance under extraordinary measures. However, if cash balances are brought down to $23bn by December 8th, there will only be three weeks until year-end with only seven bill auctions with announcement dates following December 8th that settle before year-end, excluding cash management bills to both fund the remaining deficit and increase cash balances. Therefore, net bill issuance could ramp up in a similar fashion to our September example above resulting in about $100bn. In this case, cash balance would end the year above $100bn, but nowhere close to the $360bn projected in the Quarterly Refunding.

What Happens on December 9th? 

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If Congress does not raise or extend the debt limit by December 8th, extraordinary measures would once again be utilized to fund the government. However, it is likely that they will not last as long because of the timing of some of the large one time measures and the net outlays during the spring tax season. We estimate that from December through February, about $285bn in extraordinary measures would be available. This increases to $323bn in March due to an estimated onetime suspension of principle and interest that may occur in March (Figure 3). The largest portion would come from the G-Fund which would be immediately available to free up room under the debt ceiling as it rolls over daily while the remaining categories are smaller or time sensitive (Figure 3). Also, February and March outlays exceed receipts with 2017 net revenues of -$192bn and -$176bn for a total of -$368bn (Figure 4). Average net receipts since 2012 from December through February and March totaled -$189bn and -$302bn since 2012. While there is inherent uncertainty surrounding the predicting spring tax season net receipts, exhaustion of extraordinary measures by March is clearly possible given the $323bn in estimate room under extraordinary measures versus the average -$302bn in net revenues since 2012. This should put pressure on bills expiring in March if Treasury enters into another period of extraordinary measures. Figure 3: Extraordinary Measure – Monthly Levels and Change $Bn

Intergovernment Debt Holdings CSRDF

PSRHBF G- Fund

Change

SLGS

ESF

CSRDF

11/30/16

866

51

226

115

22

12/31/16

875

51

222

110

22

10

1/31/17

871

51

224

108

22

2/28/17

867

51

226

106

22

3/31/17

836

49

117

106

4/30/17

836

49

60

5/31/17

836

49

6/30/17

767

7/31/17

752

PSRHBF G- Fund

SLGS

ESF

0

-3

-5

0

-4

0

1

-2

0

-4

-1

2

-2

0

22

-31

-1

-109

0

0

103

22

0

0

-56

-3

0

37

100

22

0

0

-23

-3

0

47

84

91

22

-68

-3

47

-8

0

46

35

85

22

-15

-1

-49

-7

0

8/31/17 752 46 Source: BMO CM, Treasury

32

81

22

0

0

-4

-4

0

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September 8, 2017

Figure 4: US Federal Budget: Net Receipts vs. Net Outlays $Bn

2012

2013

2014

2015

2016

2017

Average

Jan

-27

3

-10

-15

55

51

9

Feb

-232

-204

-194

-192

-193

-192

-201

Mar

-198

-107

-37

-53

-108

-176

-113

Apr

59

113

107

157

106

182

121

May

-125

-139

-130

-84

-53

-88

-103

Jun

-60

117

71

50

6

-90

16

Jul

-70

-98

-95

-149

-113

-43

-94

Aug

-191

-148

-129

-64

-107

-128

Sep

75

75

106

91

33

76

Oct

-120

-91

-122

-137

-44

-103

Nov

-172

-135

-57

-65

-137

-113

Dec

-1

53

2

-14

-27

2

-260

-147

-202

-222

-165

-141

-189

-254

-239

-275

-273

-317

-302

Dec -Feb

Dec- March -458 Source: BMO CM, Bloomberg

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September 8, 2017

U.S. Rates: Pondering Projections Ian Lyngen, CFA, MD, Head of US Rates Strategy, Aaron Kohli, CFA, Director, Rates Strategy Weekly Musings 

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In the week ahead, the impact of the recent hurricanes will be assessed and we’ll get a better sense of the pace of consumption and inflation during the third-quarter via the CPI and Retail Sales data. The risks in that context are somewhat skewed because of the storm damage, as it will ultimately be the September and October data that are used in gauging the impact of Harvey and Irma. Even a strong bounce in core-inflation and consumption will be readily dismissed as images of shuttered refiners and flooded interstates continue to dominate the media’s attention. It will surely take months, at least, to have a sense of the full extent of the economic damage and while we’re onboard with the Fed’s assessment that it shouldn’t fundamentally change the trajectory of the domestic economy, it risks muddying the data to such an extent that the FOMC skips a December rate hike in favor of a wait-and-see approach. We’ve already seen the odds for a December move effectively priced out as futures currently point to an uninspired onein-five shot at this point. Any further pricing out of the Fed risks a flatter OIS curve as investors interpret an on-hold Fed as more than a single-meeting event. The tendency for the market to respond to skipping one meeting in a tightening campaign by pricing out future moves may be exaggerated by the sluggishness of core-inflation during this particular cycle. Fed-speakers have acknowledged the realities of the data, but the extent to which it will shift the presumed path of monetary policy is still very much an open question. As we move into the pre-FOMC Fed blackout period, further insight into the Fed’s reaction-function to stubbornly lower core inflation will have to wait for the September 20th meeting. With the groundwork so well established for a balance sheet tapering announcement the market (ourselves included) is convinced that it’s a foregone conclusion, we’re content to offer that, if anything, the odds are marginally lower than just two weeks ago. That said, we believe that the chances for a taper announcement are still very high, with the caveat that we haven’t come across any effective way of measuring the probability save anecdotes and pundits’ predictions. The Fed’s accompanying forecasts will be our focus as we contemplate the ways in which the FOMC might alter its policy signaling. Our baseline assumption in this regard is that the Committee’s core-PCE estimates will be dropped from the current level of 1.7% in 2017 and 2.0% in 2018. Moreover, we’ll also be watching the unemployment rate and real GDP estimates, which currently stand at 4.3% and 2.2%, respectively, for any sign that the recent storms will impact the aggregate 2017 numbers. It’s challenging to imagine that we’ll see any lowered economic projections beyond 2018. The median Fed Funds projection at 1.375% for 2017 certainly seems high in light of the 20% odds priced in the futures market for a December hike, but the number of lowered dots needed to drop the median suggests this estimate could prove stickier that investors’ forecasts. In fact, to get 2017 down five of the eight dots at 1.375% must drop to 1.125% -- since, against convention, Fischer is attending his last meeting. This leaves the 2018 median at 2.1% as the most vulnerable for downward revisions, which would ultimately support the belly of the Treasury curve and fits well with our continued bias to see 5s/30s steepening. In the very near-term however, we see a period of consolidation as any supply accommodation leaves higher yields as the path of least resistance early in the week.

Charts of the week 

Our charts of the week offer some perspective on the potential for slowing consumption in the medium term. With ‘Hurricane September’ a theme as we approach the FOMC’s widely anticipated SOMA rollover taper announcement, our concerns have turned to the potential for the storm damage to undermine the pace of consumer spending. Friday’s retail sales report is unlikely to be materially impacted by the weather, although looking forward this will certainly be an area of interest – particularly in the wake of Dudley’s comments last week that it will be difficult to assess the economy in the coming months although he doesn’t expect the storms will change the “underlying trajectory of the national economy.”

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September 8, 2017

Our first chart looks at the relationship between gasoline prices and retail sales. We maintain that higher energy costs will function as a tax on the consumer rather than risk pass-through to core inflation. Below we see that sharp spikes in gas prices have 1) historically been linked to the beginning of an economic slowdown and 2) eroded retail sales in other categories. We’re comparing retails sales in ‘necessities’ ex-gas, which is represented by groceries and health/personal consumption, with ‘non-necessities’ that includes everything else. It isn’t surprising to see that whenever there is a significant run-up in gas prices it takes away from spending on non-necessities. We find ourselves cautious that this could become the primary narrative as we move forward into year-end and domestic refining capacity struggles to come back on line.

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Our final two charts this week offer another take on retail sales. Instead of breaking down the series into its components, we’ve simply offered the aggregate YoY rate of change and compared it with the trend in the household savings rate. To eliminate the noise, we’ve used the 6-month moving average of both series to demonstrate how the savings rate leads consumption patterns, we’ve lagged sales by 18 months. The correlation is pretty impressive visually, although point-forpoint the R-squared of 0.31 confirms it’s just one of several factors. Nonetheless, the intuition here is relatively straightforward; if consumption comes at the expense of savings the pace of spending is increasingly vulnerable. »

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September 8, 2017

Strategic Bias 

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This week’s primary data influences won’t hit until later, via Thursday’s CPI and Friday’s retail sales. With a light calendar to start, we’re open to a period of consolidation that allows for an accommodation of the upcoming nominal Treasury auctions. The biggest wildcard at the moment is assessing the hurricane damage and as we write reports of another category-4 hurricane, this one named Jose, leave us concerned that it’s too soon to expect clear sailing once Irma has passed. Equally as important however, will be the amount of technical progress that has been made toward lower rates and the benefit of establishing another volume base. The 2.016% downward-sloping trendline in 10-year yields has held rather well and that fact certainly adds to the relevance of the level as resistance. As a theme, momentum is overbought across all of the major benchmarks and, as such, this points to at least an extension of Friday’s in-range back-up in yields. With the key projections that we’ve been tracking having been fulfilled (i.e. downward-sloping channel projection, outside-day higher in yields, 74-day moving-

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September 8, 2017

average, 200-day moving-average) the technical slate is clean, as it were. We continue to see 2.00% as a very difficult level to break on the first attempt and while current yields leave little question regarding the ongoing bullish underpinnings for the Treasury market, we find ourselves leaning bearishly for a tactical trade. The supply dynamic isn’t wasted on us and the Treasury Department has once again moved forward the auction schedule to allow a buffer-day for potential settlement issues. Monday brings $24 bn 3-years, followed by $20 bn 10s on Tuesday and $12 bn 30s on Wednesday. This gross issuance figure of $56 bn is only partially offset by $27 bn in matching maturities, leaving the level of net new cash needed to fund supply at $29 bn. This net issuance need is the highest for this trio since October 2014 and certainly points to the need for a more significant consolidation than we’ve recently seen. We’re also cautious of non-dealer demand for the 10- and 30-year reopenings at the low yield marks of 2017. The 3-year sector has become a bit more interesting in light of where we ‘might’ be in the rates cycle as the market struggles with the potential for the Fed to skip a meeting in December. With 2-year yields trading as low as 1.254% (i.e. the upper-band for the Fed funds target), it’s difficult to argue that there is a great deal more upside in the very front-end of the curve, until the notion of a potential rate-cut gains wider (or some) acceptance. The 3-year technical chart shows yields flirting with the 2017 low mark of 1.347%, but stalling shy of that potential. A breakout toward lower yields on, perhaps an unexpectedly strong auction or a deterioration of the situation in the Korean Peninsula certainly isn’t off the table. In the event, there is a downward-sloping channel projection that points below 1.30% and is still a meaningful distance from the pre-election range of 93 bp to 106 bp. We’ll be the first to concede that Fed expectations are the most relevant driver for this sector, which places the emphasis on the September SEP and dotplot to trigger a move of any compelling magnitude.

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Trading View 

We’re keeping our trading view limited this week and while we’re content hold our tactical 5s/30s steepening trade for a while longer, we’ll concede that it has shifted (for now) to be more about supply accommodation and an in-range consolidation. This is in part due to the magnitude of the most recent leg of the rally that bought 30-year yields down to

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

September 8, 2017

2.638% -- which momentarily returned yields to the pre-election range. By comparison, that would be the equivalent in 10s of yields touching 1.83%, so to suggest the long-bond has been outperforming post-election goes without saying. Shifting focus to the very front-end of the curve, the 2-year sector trades rich versus any meaningful expectations for another rate-hike in this cycle. A bearish bias on the front end finds solace in how close 2-year yields are to target and effective funds. Below are two charts that illustrate this point and we’ll added that the 1.254% 2-year yield seen last week was this cycle’s narrowest to the Fed’s upper target of the range. Looking back even further to the days of a single rate (i.e. pre-crisis), 2s only trade through funds when there is either an inflection point for Fed expectations as a tightening campaign comes to an end or the FOMC is actively engaged in an easing cycle. While we’re cautious of suggesting that anything below 1.25% in 2-year yields would be pricing in a rate cut over the next two years, it is safer to say that if we get to 1.16% (the effective Fed funds rate) that we’ve completely priced out any more rate hikes. The second chart in the below series offers a glimpse at effective funds versus 2s as well.

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September 8, 2017

Technical Analysis 

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2s – We’ve made the case for a tactical short in the 2-year sector and the bias also finds support in the technicals. First, 2year yields have failed to sustainably hold below the 200-day moving-average of 1.27%. Second, momentum measures are extended well into overbought territory and stochastic point toward a more significant correction. In a selloff, we’ll be watching the breakout level of 1.286% and then a volume bulge at 1.315%. Through there is the 40-day movingaverage at 1.332%. We also have a large opening-gap overhead that comes in at 1.330% to 1.342%, which once filled clears the way to an isolated yield peak at 1.359%. For resistance, the 200-day at 1.270% is the first stop, followed by the low yield-close at 1.266% and then the intraday low-yield mark of 1.254%. 1.25% holds significance as the upper-bound of the Fed’s target range, as does the effective Fed funds rate of 1.16%, although the latter level should prove very difficult to reach without a more material rethink of the policy outlook. 5s – Yields in the belly of the curve have once again achieved new lows for 2017 and in doing so managed to redefine the range. The severity of the price action itself points toward overbought conditions and while that was true, with both fast and slow stochastics now back above 20, those conditions appear to be working off via a modest in-range backup. In the event of a more significant rally, we’re watching last week’s low yield close of 1.622% before the bottom of the range at 1.599%. There is a broken-channel projection that offers a target at 1.55% and that will be preceded by an opening gap at 1.559% to 1.587%. A further selloff finds support at an opening gap of 1.679% to 1.684% as the first stop, with the 21day moving-average at 1.732%. There is a second overhead opening gap of relevance that comes in at 1.720% to 1.740%, before the 40-day moving-average at 1.777%, which also represents the top of the prior downward-sloping channel. TY – Despite the recent rally, momentum measures are not as overbought as one might otherwise have assumed. To be fair, stochastics are just slightly below 80, but by simply grinding sideways it’s conceivable these conditions will be worked off without an inevitable correction. For resistance the most immediate level is the high close of 127-245 and then the top of last week’s trading range that comes in at 127-305. The Bollinger band top of 127-27 could also prove relevant. A broken-channel projects to a target of 128-15+. Support is easily identifiable at two meaningful opening gaps, the first at 127-11 to 127-16+ and the second at 126-30+ to 127-04+. The Bollinger mid was 127-034 and the 21-day MA is 126-304 – both providing some important support as well. In a more dramatic selloff, we’ll be watching the channel bottom of 126-18 and the 40-day moving-average at 126-165.

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

September 8, 2017

10s – Momentum in the 10-year sector is decidedly overbought and points toward a corrective selloff as the most compelling near-term direction for yields. In a back-up, we’ll watch an opening gap at 2.099% to 2.103% as the initial resistance before a more significant gap at 2.15% to 2.169% -- note that 2.169% is also the top of the range from last week’s outside day higher in yields. The 21-day moving-average comes in at 2.159% before the cross of the 40- and 74day moving-averages at 2.22%. 2.25% holds obvious significance, as does the 200-day MA at 2.336% -- which we now appear to have sustainably broken. For initial resistance, we like Thursday’s close of 2.037% which is immediately followed by the 2.016% low yield market for 2017. 2.012% is where we see the trendline to start the week and that quickly slops to 2.00% -- an important sell target for many market participants. 30s – Having only modestly backed off the low yield marks for 2017, as well as the pre-election range top, the long bond has performed comparatively week. With that context, we find it interesting that stochastics remain shy of overbought conditions with room to rally further, at least from a technical perspective. We are more concerned about the immediacy of supply considerations however and wouldn’t fade a selloff. For initial support we have an opening gap at 2.714% to 2.723% before the 21-day moving-average at 2.754%. There is another gap at 2.77% to 2.777% (also the close from last week’s outside day). The 2.804% 40-day moving-average offers particularly strong support, as does the downwardsloping trendline at 2.854%. The most obvious resistance is last week’s low yield close of 2.656% before the range bottom of 2.638%. Beyond there is very little before a volume bulge in the pre-election range at 2.591%.

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September 8, 2017

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September 8, 2017

High Quality Spreads: Swap Spreads and the Debt Ceiling II Dan Krieter, CFA, VP; Margaret Kerins, CFA, MD; Dan Belton, PhD, Associate The story of the high quality spread market this week was the suspension of the debt ceiling following a deal between President Trump and Congressional Democrats. However, until a more permanent resolution is achieved, the debt ceiling will continue to dictate the direction of swap spreads. In the near-term, we expect that heavy T-bill issuance coupled with seasonal trends will influence swap spreads narrower. In the medium and long term, several factors point to a medium-term widening in spreads, including the renewal of debt ceiling drama in December. 

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We are expecting swap spreads to narrow in the near term, with high quality spreads lagging the move. For the time being, we recommend switching hedges to Treasuries and will look to reinitiate high quality asset swaps in late November or early December when technicals turn in favor of wider swap spreads. Net T-bill issuance through September could increase by $100bn if Treasury decides to increase auction sizes to near historic highs. This would bring Q3:17 net bill issuance to $170bn for the quarter bringing cash balance up over $100bn. Net bill issuance is expected to be volatile as issuance increases in coming months only to decline into the expiration of the debt ceiling extension and then ramp back up into year-end. While there is inherent uncertainty surrounding the predicting spring tax season net receipts, exhaustion of extraordinary measures by March is clearly possible which should put pressure on bills expiring in March if Treasury enters into another period of extraordinary measures. We find it likely that the heavy bill issuance to come following the resolution of the debt ceiling debate will result in another episode of negative correlation between Libor/GC and Treasury cash balances as GC rates move higher faster than Libor in the near term. This places downward pressure on short end swap spreads in the near term. Seasonal trends reinforce our view for narrower swap spreads in the near term. At year-end, investors tend to clean up books and close out positions to lock in P&L, which pressures swap spreads narrower as asset swaps are unwound. In addition, balance sheet becomes much dearer surrounding year-end as banks dress the windows for annual financials. However, we expect the narrowing in swap spreads to be short-lived, with most indicators pointing to wider spreads in the medium and long term. First, as the debt ceiling approaches in early December, Treasury will have to pay down bills once again, which puts widening pressure on swap spreads. Secondly, the Fed is expected to begin tapering reinvestments in the fall, which should also place widening pressure on swap spreads. Third, the prospect for other Trump initiatives such as bank deregulation and corporate tax reform are higher in 2018, which would likely widen swap spreads. Investors may begin to speculate on these initiatives in late 2017/early 2018. Finally, seasonals become less supportive into the very end of the year, with the narrowing pressure typically only lasting from October to early/midDecember.

High Quality Spreads Trading Near the Middle of the Range 

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High quality spreads are set to the end the week narrower compared to swaps and unchanged/wider against Treasuries following a widening of swap spreads. On an absolute value basis, high quality spreads are trading near the middle of the range compared to both Treasuries and swaps, slightly on the rich side (Figure 1). The big news of the week was the temporary resolution of the debt ceiling after President Trump struck a deal with Congressional Democrats. We discuss the mechanics of the debt ceiling and its ramifications in further detail below, but its impact on high quality spreads will be felt primarily through swap spreads.

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September 8, 2017

Figure 1: High Quality Spreads versus Treasuries and Swaps vs. TSY US Agency Global Supra European Supra European Agency Canadian Province Covered Bond

2 8 16 19 29 37 51

9/8/2017 3 5 8 9 16 18 20 22 28 31 38 40 52 53

9/8/2017 2 3 5 US Agency -16 -12 -2 Global Supra -8 -4 10 European Supra -5 0 13 European Agency 6 6 19 Canadian Province 13 17 31 Covered Bond 27 33 44 Source: BMO CM, Bloomberg vs. Swaps

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7 10 17 16 36 43 --

7 13 20 19 36 44 --

10 22 19 20 40 48 --

10 25 22 24 43 51 --

2 0 1 1 0 -1 3

2 -3 -2 -3 -3 -4 -1

1wk Change 3 5 7 0 3 1 -1 0 0 0 2 1 2 4 3 1 2 3 -1 2 --

1wk Change 3 5 7 -2 -2 -1 -2 -2 -1 -2 -2 -1 -1 -2 -1 -1 -2 -1 -2 -1 --

10 2 1 1 1 2 --

2 -3 -6 -8 -9 -5 0

10 0 -1 -1 -1 0 --

2 1 0 -5 -5 -1 -2

3m Change 3 5 -1 -7 -5 -1 -6 -2 -8 -6 -3 4 -6 -7

3 1 -1 -1 -5 2 -2

7 -4 -3 -3 -3 0 --

10 -11 2 -6 -3 2 --

2 -0.9 -1.2 -1.5 -1.3 -0.7 -1.6

12m Z-Score 3 5 7 -0.5 -1.4 -1.2 -1.0 -0.8 -0.8 -1.4 -0.9 -1.6 -1.5 -1.2 -1.1 -1.0 -0.4 -0.8 -2.0 -1.4 --

10 -1.6 -0.6 -1.6 -0.5 -0.8 --

3m Change 5 7 -3 -5 1 -2 -2 -3 -4 -3 2 -1 -6 --

10 -11 2 -5 -4 1 --

2 0.1 -0.4 -1.1 -0.7 -0.1 -1.3

12m Z-Score 3 5 7 -0.1 -1.1 -1.0 -0.4 -0.3 -1.0 -1.2 -1.2 -1.5 -1.6 -1.3 -1.3 -1.1 -0.6 -1.0 -1.4 -1.1 --

10 -1.5 -0.6 -1.3 -1.6 -0.8 --

We are expecting swap spreads to narrow in the near term, with high quality spreads lagging the move. For the time being, we recommend switching hedges to Treasuries and will look to reinitiate high quality asset swaps in late November or early December when technicals turn in favor of wider swap spreads. While we are bearish on all high quality products across the credit spectrum, from an RV perspective we favor global supranationals and US agencies over higher beta alternatives. Figure 2 shows that the higher quality options appear most attractive compared to debt further out the credit curve. Figure 2: 3yr Intersector Spreads 3yr vs. Swaps US Agency Washington Supra Euro Supra Euro Agency CAD Provie Covered US Agency --0.5 -1.2 -1.4 -1.0 -1.8 Washington Supra 0.5 --1.6 -1.8 -1.0 -2.2 Euro Supra 1.2 1.6 --1.2 0.4 -0.2 Euro Agency 1.4 1.8 1.2 -1.1 0.6 CAD Provie 1.0 1.0 -0.4 -1.1 --0.4 Covered 1.8 2.2 0.2 -0.6 0.4 -Source: BMO CM, Bloomberg

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European SSAs, CAD provies, and covered bonds have each outperformed global supras over the past 18 months, undoubtedly a product of the yield grab environment generated by persistently low yields and volatility (Figure 3). We expect spreads to return to historical norms and think that the sectors that have tightened relative to global supras are particularly susceptible to underperformance on any event that brings wider spreads.

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September 8, 2017

Figure 3: 3yr Spreads to Global Supras 70 60 50

bp

40 30 20 10 0

-10 Apr-16

Jun-16 Aug-16 Oct-16

Dec-16

Euro Supra to Global Supra

Feb-17 Apr-17

Jun-17 Aug-17

CAD Provie to Global Supra

Covered Bond to Global Supra

Source: BMO CM, Bloomberg

Near Term Outlook for Swap Spreads 

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With the debt ceiling issue now resolved for the time being, Treasury is able to increase cash balances once more, at least temporarily, by increasing T-bill issuance. As discussed in further detail in our Special section, we are expecting heavy T-bill issuance necessary to fund a growing deficit. To try to estimate the impact this heavy T-bill issuance will have on short end swap spreads, we analyze the impact of Treasury cash balances on our preferred indicator for the direction of short end swap spreads: the Libor/GC spread. Historically, Treasury cash balances are positively correlated with the Libor/GC spread, which argues that swap spreads should naturally widen in response to Treasury running a higher cash balance. This relationship makes sense intuitively because as Treasury issues debt to fund higher cash balances, reserves are removed from the financial system. With less available dollars, the cost of USD funding goes up and Libor widens. However, Libor tends to be sticky, and the widening effect from higher Treasury cash balances does not necessarily mean wider swap spreads in the near term. Rather, we theorize that during periods of large changes in Treasury cash balances or other sources of market stress, repo levels can change at a faster pace than Libor and cause an unexpected move in the Libor/GC spread. According to our hypothesis, the impact of a large change in Treasury cash balances is felt first in the repo market. With more collateral in the form of T-bills, repo rates increase and Libor/GC moves narrower before Libor catches up. To test this theory, we looked at the monthly correlation between Treasury cash balances and Libor/GC in each month of the past two years. Of the 23 months in our study, the correlation was positive in more than half of them as we would expect. However, the correlation was negative in 10 of the 23, which are highlighted red in the middle column. Is there any discernible pattern to for when Treasury cash balances were negatively correlated with the Libor/GC spread? In the left hand column, we used yellow to highlight any month during which there was a more than one standard deviation change in Treasury cash balances, as our projection indicate will happen with the debt ceiling now resolved. There were five such occasions, and in those, Libor/GC was negatively correlated with Treasury cash balances in three of them. But what about the other seven months of negative correlation? Five of those seven months occurred between May and October 2016, when repo market stress from the transition away from prime money market funds was at its highest. These months are shown with red font in the left hand column. That leaves only two months of negative correlation between Libor/GC and Treasury cash balances that we cannot explain by stress in the repo market or large changes in Treasury’s cash balance.

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September 8, 2017

Figure 5: Correlation between Libor/GC and Treasury Cash Balance

Date Aug-17 Jul-17 Jun-17 May-17 Apr-17 Mar-17 Feb-17 Jan-17 Dec-16 Nov-16 Oct-16 Sep-16 Aug-16 Jul-16 Jun-16 May-16 Apr-16 Mar-16 Feb-16 Jan-16 Dec-15 Nov-15 Oct-15

Correlation -0.74 0.72 -0.46 0.79 -0.60 0.75 0.44 0.47 0.83 0.79 -0.27 -0.27 -0.39 0.70 -0.64 -0.41 0.53 0.24 0.33 -0.80 0.86 -0.29 0.55

Event Cash Balance

Cash Balance Cash Balance

Prime Fund Outflow Prime Fund Outflow Prime Fund Outflow Prime Fund Outflow Prime Fund Outflow Prime Fund Outflow Prime Fund Outflow

Both Cash Balance

Success? Y Y N Y Y Y N Y Y Y Y Y Y N Y Y N Y Y N Y Y N

Yellow=Large Treasury Balance Swing Red=Negative Correlation Red Font=Large Outflow from Prime Funds Source: BMO CM, Bloomberg

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In total, our indicator was successful in 74% of months in the past two years. Further supporting our hypothesis, Figure 6 shows the correlation between Libor/GC and Treasury cash balances with Libor/GC lagged by the number of weeks along the x-axis. For example, Libor/GC has a modestly positive correlation of .22 with Treasury cash balances when using the same time horizon. However, the correlation grows stronger as GC/Libor is lagged, reaching a maximum about three months after a change in cash balances. We find it likely that the heavy bill issuance to come following the resolution of the debt ceiling debate will result in another episode of negative correlation between Libor/GC and Treasury cash balances as GC rates move higher faster than Libor in the near term. This places downward pressure on short end swap spreads in the near term. Seasonal trends reinforce our view for narrower swap spreads in the near term. At year-end, investors tend to clean up books and close out positions to lock in P&L, which pressures swap spreads narrower as asset swaps are unwound. In addition, balance sheet becomes much dearer surrounding year-end as banks dress the windows for annual financials. Banks have a preference to conduct repo with atypical counterparties at year-end as they are allowed to net these transactions which helps balance sheets look good for year-end financials. With all banks having this same preference, repo rates tend to move significantly higher than where banks typically do repo with end users.

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September 8, 2017

As Figure 7 shows, in each of the past three years, swap spreads have narrowed between October and December. Even in 2016, when money market reform had such a strong widening influence on swap spreads, seasonals were strong enough to push swap spreads modestly lower. Figure 6: Lagged Correlation between Libor/GC and Treasury Cash Balance

Figure 7: Swap Spreads (bp) 50

40

0.50

30

20

0.40 bp

Correlation

0.45

0.35

10

0

0.30

-10

0.25

-20

18wk

17wk

16wk

15wk

14wk

13wk

12wk

11wk

9wk

10wk

8wk

7wk

6wk

5wk

4wk

3wk

2wk

0

1wk

0.20

-30 Oct-14

Feb-15

Jun-15

Oct-15 2yr

# of weeks Libor/GC lagged

Feb-16 3yr

5yr

Jun-16 7yr

Oct-16

Feb-17

Jun-17

10yr

Source: BMO CM, Bloomberg Source: BMO CM, Bloomberg

Model-Implied Short-End Swap Spreads 

We turn to our econometric model for swap spreads to reinforce our view for narrower spreads. Our swap spreads model calls for 2yr and 3yr swap spreads at 22bp and 16bp, just a few bp narrow than actual spreads but is calling for fairly substantially wider spreads in the 7-10yr segment of the curve (Figure 8). The model missed the mark on spreads around year-end 2015, when they narrowed by about 15bp. Since then, front-end swap spreads have been trading around fair value, if not slightly wide (Figure 9). Figure 8: Swap Spread Curve

Figure 9: 3yr Swap Spreads vs Predicted

30

35

20

30

10

25

20 bp

bp

0 -10

15 10

-20 5

-30 0

-40

-5 May-13

Jan-14

Sep-14

May-15

Jan-16

Sep-16

May-17

-50 2yr 3yr

5yr

7yr Fair Value


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10yr

30yr Actual Value

3Y Swap Spread

Predicted 3Y Swap Spread


Of the inputs in our model, we view three as having the potential to bring persistently wider spreads: the spread between overnight Libor and overnight GC, financial market stress, and higher yield levels. None of these factors influence frontend swap spreads as strongly as the Libor-GC spread. To put this in context, our estimates suggest that the average absolute weekly move in Libor-GC over the course of this year can be expected to move swap spreads about 2-3bp in either direction.

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September 8, 2017

Medium/Long Term Outlook for Swap Spreads 

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As discussed in the Special section, the suspension of the debt ceiling is very short term and expires on December 8. Therefore, the window for Treasury to increase cash balances is narrow and they will have to be down to current levels once again on December 8, absent a more permanent resolution. As a result, we expect the narrowing in swap spreads to be short-lived, with most indicators pointing to wider spreads in the medium and long term. First, as the debt ceiling approaches in early December, Treasury will have to pay down bills once again, which puts widening pressure on swap spreads. Secondly, the Fed is expected to begin tapering reinvestments in the fall, which should also place widening pressure on swap spreads. Third, the prospect for other Trump initiatives such as bank deregulation and corporate tax reform are higher in 2018, which would likely widen swap spreads. Investors may begin to speculate on these initiatives in late 2017/early 2018. Finally, seasonals become less supportive into the very end of the year, with the narrowing pressure typically only lasting from October to early/mid-December. With this outlook in mind, we close our 3/10 swap spread flattener at a profit of 9bp since June. We also initiate and short position in 2yr and 3yr swap spreads and maintain our overweight on high quality debt versus Treasuries. We anticipate holding these positions for about two months, with an eye towards taking advantage of widening swap spreads in late November/early December.

Past Trade Performance Figure 10: Trade Recommendations Entry Date

Trade

Benchmark

9/8/2017 8/18/2017 8/4/2017 7/28/2017 7/7/2017 6/23/2017 6/16/2017 6/2/2017 5/19/2017 5/12/2017 5/5/2017

Short 2yr Swap Spreads Overweight 5yr Treasuries; Underweight 5yr Global Supras Overweight 3yr U.S. AGY; Underweight 3yr Global Supras Overweight 10yr CAD Provincials; Underweight 10yr U.S. AGY Overweight 7yr Global Supras; Underweight 7yr Euro Supras Long 5yr Japanese SSAs 3s10s Swap Spread Flattener Overweight 5yr Euro. Agencies; Underweight 5yr Euro Supras Long 10yr European Agencies Long 5yr U.S. AGY Overweight 2yr Provincials; Underweight 2yr Global Supras

Treasuries Treasuries Treasuries Swaps Swaps Swaps Treasuries Swaps Swaps Swaps Swaps

Source: BMO CM, Bloomberg, T radeWeb

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Entry Spread (bp) Last Spread (bp) 23.9 -8.0 -7.5 24.1 -3.4 54.1 19.6 7.5 48.1 4.0 20.7

-8.9 -7.6 25.0 -1.9 48.7 24.5 9.0 45.0 0.1 18.5

Carry (bp/mo)

P&L (bp)

-2.1 -0.6 1.7 0.1 4.1 1.6 0.2 3.2 -0.1 2.0

-0.5 -0.3 1.4 -1.3 11.1 9.4 -1.2 10.4 3.7 2.7

Target Active/Closed Horizon 1-3w Active 1m Active 1m Closed 1-2m Active Long-Term Active 1m Closed Long-Term Closed 1m Closed 2-3m Closed 1m Closed Short-Term Closed

Exit Date

8/24/2017

8/4/2017 9/8/2017 7/28/2017 7/28/2017 7/28/2017 5/12/2017 9/8/17 11:44 EST

We close our swap spreads trade this week, taking profits on a 3s10s flattener which we entered in mid-June ahead of the debt ceiling. We had intended on exiting the position ahead of the resolution, but expected that the situation might take longer to resolve. We maintain three open positions in addition to the one we recommend today. We continue our recommendation to overweight 10yr CAD Provies and underweight 10yr US Agencies, which has taken modest profits. We also continue to underweight European supras, looking towards the much anticipated ECB tapering announcement which may come next month, with the expectation that the announcement will be bearish for European SSA spreads.

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September 8, 2017

Spread Market Chart Pack High Quality Spreads to Treasuries and Swaps (bp)

vs. TSY US Agency Global Supra European Supra European Agency Canadian Province Covered Bond

vs. Swaps US Agency Global Supra European Supra European Agency Canadian Province Covered Bond

2 8 16 19 29 37 51

9/8/2017 3 5 8 9 16 18 20 22 28 31 38 40 52 53

7 10 17 16 36 43 --

2 -16 -8 -5 6 13 27

9/8/2017 3 5 -12 -2 -4 10 0 13 6 19 17 31 33 44

7 13 20 19 36 44 --

10 22 19 20 40 48 --

1wk Change 3 5 7 0 3 1 -1 0 0 0 2 1 2 4 3 1 2 3 -1 2 --

2 0 1 1 0 -1 3

10 25 22 24 43 51 --

2 -3 -2 -3 -3 -4 -1

10 2 1 1 1 2 --

1wk Change 3 5 7 -2 -2 -1 -2 -2 -1 -2 -2 -1 -1 -2 -1 -1 -2 -1 -2 -1 --

2 -3 -6 -8 -9 -5 0

10 0 -1 -1 -1 0 --

2 1 0 -5 -5 -1 -2

3m Change 3 5 -1 -7 -5 -1 -6 -2 -8 -6 -3 4 -6 -7

3 1 -1 -1 -5 2 -2

7 -4 -3 -3 -3 0 --

10 -11 2 -6 -3 2 --

2 -0.9 -1.2 -1.5 -1.3 -0.7 -1.6

12m Z-Score 3 5 7 -0.5 -1.4 -1.2 -1.0 -0.8 -0.8 -1.4 -0.9 -1.6 -1.5 -1.2 -1.1 -1.0 -0.4 -0.8 -2.0 -1.4 --

10 -1.6 -0.6 -1.6 -0.5 -0.8 --

3m Change 5 7 -3 -5 1 -2 -2 -3 -4 -3 2 -1 -6 --

10 -11 2 -5 -4 1 --

2 0.1 -0.4 -1.1 -0.7 -0.1 -1.3

12m Z-Score 3 5 7 -0.1 -1.1 -1.0 -0.4 -0.3 -1.0 -1.2 -1.2 -1.5 -1.6 -1.3 -1.3 -1.1 -0.6 -1.0 -1.4 -1.1 --

10 -1.5 -0.6 -1.3 -1.6 -0.8 --

Source: TradeWeb

Swap Spreads (bp)

Swap Spreads (bp, Weekly Change) 3.0

30

2.5 20

bp

bp

2.0 10

1.5

0

1.0 -10

0.5 -20 Apr-14

Oct-14

Apr-15 2yr

3yr


Oct-15 5yr

Apr-16 7yr

Oct-16 10yr

Apr-17

0.0 2yr

3yr


5yr

7yr

10yr

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Intersector Spreads 2yr Intersector Spreads (bp) 2yr vs. Swaps US Agency Washington Supra Euro Supra Euro Agency CAD Provie Covered US Agency -8.5 11.5 22.3 29.7 42.9 Washington Supra -8.5 -3.0 13.8 21.2 34.4 Euro Supra -11.5 -3.0 -10.8 18.2 31.4 Euro Agency -22.3 -13.8 -10.8 -7.4 20.6 CAD Provie -29.7 -21.2 -18.2 -7.4 -13.2 Covered -42.9 -34.4 -31.4 -20.6 -13.2 --

2yr vs. Swaps US Agency Washington Supra Euro Supra Euro Agency CAD Provie Covered US Agency --0.6 -1.2 -0.7 -0.2 -1.3 Washington Supra 0.6 --1.5 -0.2 0.5 -1.3 Euro Supra 1.2 1.5 -0.9 1.9 -0.3 Euro Agency 0.7 0.2 -0.9 -0.8 -0.9 CAD Provie 0.2 -0.5 -1.9 -0.8 --1.4 Covered 1.3 1.3 0.3 0.9 1.4 -Source: BMO CM, TradeWeb

3yr Intersector Spreads (bp) 3yr vs. Swaps US Agency Washington Supra Euro Supra Euro Agency CAD Provie Covered US Agency -8.0 12.3 18.8 29.1 44.9 Washington Supra -8.0 -4.3 10.8 21.1 36.9 Euro Supra -12.3 -4.3 -6.5 16.8 32.6 Euro Agency -18.8 -10.8 -6.5 -10.3 26.1 CAD Provie -29.1 -21.1 -16.8 -10.3 -15.8 Covered -44.9 -36.9 -32.6 -26.1 -15.8 --

3yr vs. Swaps US Agency Washington Supra Euro Supra Euro Agency CAD Provie Covered US Agency --0.5 -1.2 -1.4 -1.0 -1.8 Washington Supra 0.5 --1.6 -1.8 -1.0 -2.2 Euro Supra 1.2 1.6 --1.2 0.4 -0.2 Euro Agency 1.4 1.8 1.2 -1.1 0.6 CAD Provie 1.0 1.0 -0.4 -1.1 --0.4 Covered 1.8 2.2 0.2 -0.6 0.4 -Source: BMO CM, TradeWeb

5yr Intersector Spreads (bp) 5yr vs. Swaps US Agency Washington Supra Euro Supra Euro Agency CAD Provie Covered US Agency -12.1 14.3 20.9 32.5 45.7 Washington Supra -12.1 -2.2 8.8 20.4 33.7 Euro Supra -14.3 -2.2 -6.6 18.2 31.5 Euro Agency -20.9 -8.8 -6.6 -11.6 24.9 CAD Provie -32.5 -20.4 -18.2 -11.6 -13.3 Covered -45.7 -33.7 -31.5 -24.9 -13.3 -5yr vs. Swaps US Agency Washington Supra Euro Supra Euro Agency CAD Provie Covered US Agency -1.7 -0.3 -0.8 0.7 -0.3 Washington Supra -1.7 --1.5 -1.7 -0.8 -1.4 Euro Supra 0.3 1.5 --1.1 1.1 0.1 Euro Agency 0.8 1.7 1.1 -1.7 0.8 CAD Provie -0.7 0.8 -1.1 -1.7 --0.9 Covered 0.3 1.4 -0.1 -0.8 0.9 -Source: BMO CM, TradeWeb

September 8, 2017

Page 26 of 43

7yr Intersector Spreads (bp)

7yr vs. Swaps US Agency Washington Supra Euro Supra Euro Agency CAD Provie US Agency -6.9 5.7 23.1 31.5 Washington Supra -6.9 --1.1 16.2 24.6 Euro Supra -5.7 1.1 -17.3 25.7 Euro Agency -23.1 -16.2 -17.3 -8.4 CAD Provie -31.5 -24.6 -25.7 -8.4 --

7yr vs. Swaps US Agency Washington Supra Euro Supra Euro Agency CAD Provie US Agency -0.9 -0.8 -0.5 -0.4 Washington Supra -0.9 --1.4 -1.0 -0.8 Euro Supra 0.8 1.4 --0.1 0.4 Euro Agency 0.5 1.0 0.1 -0.3 CAD Provie 0.4 0.8 -0.4 -0.3 -Source: BMO CM, TradeWeb

10yr Intersector Spreads (bp)

10yr vs. Swaps US Agency Washington Supra Euro Supra Euro Agency CAD Provie US Agency --3.0 -1.6 17.6 25.7 Washington Supra 3.0 -1.4 20.6 28.6 Euro Supra 1.6 -1.4 -19.2 27.2 Euro Agency -17.6 -20.6 -19.2 -8.0 CAD Provie -25.7 -28.6 -27.2 -8.0 -10yr vs. Swaps US Agency Washington Supra Euro Supra Euro Agency CAD Provie US Agency -1.4 1.2 1.3 1.3 Washington Supra -1.4 --1.3 -0.4 -0.7 Euro Supra -1.2 1.3 -1.0 0.8 Euro Agency -1.3 0.4 -1.0 --0.2 CAD Provie -1.3 0.7 -0.8 0.2 -Source: BMO CM, TradeWeb

September 8, 2017

Page 27 of 43

September 8, 2017

US Agencies vs. TSY Last

1wk Chg 1m Chg 3m Chg 3m Avg 6m Avg 12m Avg 3m Z Score 6m Z Score 12m Z Score

2

7.7

-0.2

0.4

-1.9

7.7

9.1

9.6

-0.1

-0.8

-0.9

3

8.3

0.2

-0.5

-0.7

8.1

8.9

9.3

0.1

-0.4

-0.5

5

9.3

3.2

-1.5

-4.5

10.7

11.6

12.8

-0.6

-1.1

-1.4

7

10.1

0.6

1.8

-1.0

9.4

12.0

15.2

0.7

-0.6

-1.2

10

22.2

2.1

1.2

-6.9

23.0

28.6

32.1

-0.3

-1.0

-1.6

vs. TSY Last


2s3s

0.6

0.4

-0.9

1.3

0.4

-0.3

-0.2

0.1

0.6

0.4

3s5s

1.0

3.0

-0.9

-3.9

2.5

2.7

3.5

-0.7

-0.8

-1.1

3s7s

1.8

0.4

2.3

-0.3

1.3

3.1

5.8

0.5

-0.5

-0.9

5s7s

0.9

-2.6

3.2

3.6

-1.2

0.4

2.4

1.1

0.1

-0.4

7s10s

12.1

1.5

-0.6

-5.9

13.6

16.6

16.9

-0.8

-1.3

-1.6

vs. Swaps Last


2

-16.2

-3.4

2.5

-5.9

-15.8

-17.3

-16.8

-0.2

0.3

0.1

3

-12.4

-1.7

2.4

-2.7

-12.1

-13.9

-11.7

-0.1

0.5

-0.1

5

-1.6

-1.9

-0.5

-5.6

0.6

0.9

5.2

-1.0

-1.1

-1.1

7

12.9

-1.1

1.6

-0.4

12.3

14.3

21.3

0.7

-0.6

-1.0

10

25.4

0.0

0.3

-8.0

26.5

31.9

39.6

-0.5

-1.1

-1.5

vs. Swaps Last


2s3s

3.8

1.7

-0.1

3.2

3.7

3.3

5.0

0.1

0.3

-0.5

3s5s

10.8

-0.2

-3.0

-2.9

12.7

14.9

16.9

-1.9

-1.7

-2.0

3s7s

25.3

0.6

-0.9

2.3

24.4

28.2

33.0

0.5

-0.6

-1.2

5s7s

14.5

0.8

2.1

5.2

11.7

13.4

16.1

1.4

0.4

-0.4

7s10s

12.5

1.1

-1.2

-7.6

14.2

17.6

18.3

-0.8

-1.3

-1.9

Source: BMO CM, TradeWeb

Page 28 of 43

September 8, 2017

US Agency Technicals Gross YTD Issuance 7/31/17 $bn DNs Bullets Callables Floaters Total Non-DN Total

FNMA 338 8 6 0 14

FHLMC 224 12 41 13 66

FHLB 1,167 40 20 298 359

FFCB 103 11 11 27 48

Total 1,832 71 78 338 488

353

290

1,526

151

2,320

Source: BMO CM, FNMA, FHLMC, FHLB, FFCB Net YTD Issuance 7/31/17 $bn DNs Bullets Callables Floaters Total Non-DN Total

FNMA -7 -16 -6 -5 -26

FHLMC -11 -26 17 -9 -18

FHLB 1 -17 4 46 33

FFCB -5 -2 7 -1 5

Total -21 -60 22 31 -7

-33

-29

34

0

-27

US Agency Maturities ($ bn)

US Agency Benchmark Issuance ($ bn)

70

18 16 14

50

12

40

10 8

30

6

20

4 2

10

0 May- Dec-12 Jul-13 Feb-14 Sep-14 Apr-15 Nov-15 Jun-16 Jan-17 Aug-17 12

0 Jan

Feb Mar Apr May Jun FNMA

FHLMC

Jul

Aug Sep

FHLB

FFCB

Oct

Nov Dec

2yr

US Agency Discount Notes Outstanding ($ bn)

3yr

5yr

7yr

10yr

Source: BMO CM, Bloomberg; O:\All Strategy\Belton\Chart Pack FNMA/FHLMC Mortgage Portfolios and FHFA Sheets\Swap Spreads.xlsx

Cap ($ bn)

60%

900

50%

700

30% $ bn

% Outstanding

800

40%

20%

600 500 400

10%

300

0% Jan-11

Jan-12

Jan-13 FNMA

Jan-14 FHLMC

Jan-15

Jan-16

FHLB

Jan-17

200 Jan-08

Jan-10 FNMA

Jan-12

Jan-14 FHLMC

Jan-16

Jan-18

FHFA Cap

Source: BMO CM, Bloomberg; O:\All Strategy\Belton\Chart Pack

Source: BMO CM, FNMA, FHLMC, FHLB, FFCB Sheets\Swap Spreads.xlsx

Source: BMO CM, Bloomberg; O:\All Strategy\Belton\Chart Pack Sheets\Swap Spreads.xlsx

$ bn

$ bn

60

Page 29 of 43

September 8, 2017

Washington Supras vs. TSY Last


2

16.2

0.7

1.5

-1.6

15.9

18.5

20.7

0.3

-0.7

-1.2

3

16.1

-0.5

1.8

-1.0

15.7

17.1

20.4

0.4

-0.5

-1.0

5

18.3

-0.2

1.3

-0.4

17.9

18.3

20.5

0.3

0.0

-0.8

7

17.0

0.5

0.9

-1.1

17.0

18.6

19.5

0.0

-0.6

-0.8

10

19.2

1.0

1.6

1.4

18.2

18.2

21.9

1.3

0.4

-0.6

vs. TSY Last


2s3s

0.0

-1.3

0.3

0.6

-0.2

-1.4

-0.3

0.2

0.6

0.1

3s5s

2.2

0.3

-0.6

0.6

2.2

1.2

0.1

0.0

0.5

0.6

3s7s

0.9

1.0

-1.0

-0.1

1.3

1.5

-0.9

-0.5

-0.3

0.3

5s7s

-1.3

0.7

-0.4

-0.7

-0.9

0.3

-1.0

-0.3

-0.7

-0.1

7s10s

2.2

0.5

0.7

2.5

1.2

-0.5

2.4

0.9

1.1

0.0

vs. Swaps Last


2

-7.8

-2.5

3.6

-5.4

-7.7

-8.8

-6.0

0.0

0.3

-0.4

3

-4.4

-2.3

4.5

-3.1

-4.3

-5.5

-2.4

-0.1

0.4

-0.4

5

10.5

-2.2

1.5

1.2

9.7

8.0

12.4

0.5

1.0

-0.3

7

19.7

-1.2

0.6

-0.7

19.9

21.0

24.8

-0.2

-0.8

-1.0

10

22.4

-1.0

0.7

0.2

21.8

21.7

26.5

0.4

0.4

-0.6

vs. Swaps Last


2s3s

3.3

0.1

0.9

2.3

3.4

3.3

3.6

-0.1

0.0

-0.2

3s5s

14.9

0.1

-3.0

4.3

14.0

13.5

14.8

0.3

0.7

0.0

3s7s

24.2

1.1

-3.9

2.4

24.2

26.5

27.2

0.0

-0.7

-1.1

5s7s

9.3

1.0

-0.9

-1.9

10.1

13.0

12.4

-0.7

-1.1

-1.1

7s10s

2.7

0.2

0.1

0.9

2.0

0.7

1.7

0.6

1.0

0.3


Page 30 of 43

September 8, 2017

European Supras vs. TSY Last


2

19.1

0.5

-1.0

-4.6

20.6

24.4

27.0

-0.7

-1.2

-1.5

3

20.4

-0.1

0.3

-4.5

21.3

24.1

27.8

-0.6

-0.9

-1.4

5

22.4

1.6

1.8

-2.0

21.9

25.6

28.8

0.3

-0.5

-0.9

7

15.9

1.0

1.6

-7.5

17.7

22.0

23.7

-0.5

-1.2

-1.6

10

20.0

0.6

-1.3

-2.4

21.0

24.3

26.8

-1.1

-1.0

-1.6

vs. TSY Last


2s3s

1.3

-0.6

1.3

0.1

0.7

-0.3

0.7

0.5

0.6

0.2

3s5s

1.9

1.7

1.5

2.5

0.6

1.5

1.0

1.6

0.1

0.2

3s7s

-4.6

1.1

1.3

-3.0

-3.6

-2.1

-4.0

-0.4

-0.8

-0.2

5s7s

-6.5

-0.6

-0.2

-5.5

-4.2

-3.7

-5.0

-1.0

-0.5

-0.3

7s10s

4.1

-0.4

-2.8

5.2

3.3

2.3

3.0

0.3

0.7

0.4

vs. Swaps Last


2

-4.8

-2.7

1.1

-8.4

-3.0

-2.1

0.1

-0.5

-0.8

-1.1

3

-0.1

-1.8

2.5

-6.7

1.6

1.9

6.9

-0.7

-0.8

-1.2

5

12.7

-2.3

0.5

-4.6

14.4

15.3

21.0

-0.9

-1.0

-1.2

7

18.6

-0.7

0.8

-2.9

19.3

23.8

30.2

-0.6

-1.0

-1.5

10

23.8

-0.8

-1.0

-2.1

24.5

27.8

34.4

-0.6

-1.0

-1.3

vs. Swaps Last


2s3s

4.7

0.9

1.3

1.7

4.6

4.1

6.7

0.0

0.3

-0.6

3s5s

12.8

-0.4

-2.0

2.1

12.8

13.4

14.2

0.0

-0.4

-0.7

3s7s

18.7

1.1

-1.6

3.8

17.6

21.9

23.3

0.5

-0.6

-1.0

5s7s

5.9

1.6

0.3

1.6

4.9

8.5

9.2

0.8

-0.6

-0.9

7s10s

5.2

-0.1

-1.9

0.8

5.2

3.9

4.2

0.0

0.7

0.4


Page 31 of 43

September 8, 2017

European Agencies vs. TSY Last


2

29.4

-0.2

0.6

-3.4

30.1

34.8

35.8

-0.5

-1.0

-1.3

3

28.4

1.7

-1.8

-5.3

30.0

34.7

37.2

-0.9

-1.1

-1.5

5

31.2

3.7

-0.5

0.0

30.9

36.1

40.5

0.2

-0.7

-1.2

7

35.7

3.0

1.6

-0.2

34.9

41.4

43.0

0.8

-0.7

-1.1

10

40.1

1.4

0.4

-3.4

41.1

43.0

41.6

-0.8

-1.3

-0.5

vs. TSY Last


2s3s

-1.0

2.0

-2.4

-1.9

-0.1

0.0

1.4

-0.7

-0.4

-0.7

3s5s

2.8

1.9

1.4

5.3

0.9

1.4

3.3

1.1

0.4

-0.1

3s7s

7.3

1.2

3.4

5.1

4.9

6.7

5.8

1.5

0.1

0.3

5s7s

4.5

-0.7

2.0

-0.2

4.0

5.3

2.5

0.4

-0.2

0.4

7s10s

4.5

-1.5

-1.2

-3.2

6.2

1.6

-1.4

-1.8

0.4

1.0

vs. Swaps Last


2

6.0

-2.9

3.1

-6.5

6.6

7.4

8.4

-0.2

-0.5

-0.7

3

6.4

-1.4

-0.5

-8.7

9.6

11.9

16.5

-1.1

-1.5

-1.6

5

19.2

-2.4

-1.3

-2.6

21.0

23.5

31.0

-1.6

-1.2

-1.3

7

35.9

-1.2

0.9

-1.1

36.5

41.4

48.0

-0.6

-0.7

-1.3

10

43.0

-0.9

-0.2

-4.0

44.3

46.3

49.1

-1.2

-1.4

-1.6

vs. Swaps Last


2s3s

0.4

1.5

-3.6

-2.2

3.0

4.5

8.1

-1.8

-1.6

-1.5

3s5s

12.9

-1.0

-0.9

6.1

11.4

11.6

14.6

0.5

0.5

-0.4

3s7s

29.5

0.2

1.4

7.7

26.9

29.5

31.3

0.8

0.0

-0.3

5s7s

16.7

1.2

2.3

1.6

15.5

17.9

16.8

1.2

-0.3

0.0

7s10s

7.1

0.3

-1.2

-2.9

7.8

4.9

1.2

-0.7

0.3

0.8


Page 32 of 43

September 8, 2017

SSA Technicals 2017 SSA Borrowing Programs ($ bn, as of 9/6/2017)

European Supra EUR/USD Decision (bp)

European Agency EUR/USD Decision (bp)

30

30

20

20 10

10

↑ EUR

bp

0 bp

0

↑ EUR ↓ USD

↓ USD

-10

-10 -20

-20 -30

-30

-40

-40 -50 Jan-15

-50 Jan-15 Apr-15

Jul-15 2yr

Jan-16 3yr

Jul-16 5yr

7yr

Jan-17 10yr

Jul-17

Jul-15

Oct-15 Jan-16 Apr-16

2yr

3yr

5yr

Jul-16

7yr

Oct-16 Jan-17 Apr-17

10yr

Jul-17

Page 33 of 43

September 8, 2017

2017 USD SSA Maturities ($ bn)

Seasonal SSA Issuance by Month (%)

30

18% 16%

25 14%

$ bn

20

12% 10%

15 8% 10

6%

4% 5

2% 0

0% Jan

Feb Mar Apr May Jun

Jul

Aug Sep

Oct

Nov Dec

Jan

Feb

Mar

Apr

May

Jun

Jul

Aug

Sep

Oct

Nov

Source: BMO CM, Bloomberg, TradeWeb

New Issues (Recent) Ticker Moody's Rating S&P Rating Announce_dt Maturity Tenor Date Month Amount (mn) KOMINS Aaa AAA 5/16/2017 6/1/2021 4 Year 5/16/2017 May 500 EIB Aaa 5/17/2017 8/14/2020 3 Year 5/17/2017 May 3,000 EIB Aaa 5/17/2017 5/24/2027 10 Year 5/17/2017 May 1,500 KFW Aaa AAA 5/22/2017 5/29/2020 3 Year 5/22/2017 May 5,000 EDC Aaa AAA 5/23/2017 6/1/2020 3 Year 5/23/2017 May 500 JBIC A1 A+ 5/24/2017 6/1/2020 3 Year 5/24/2017 May 1,500 JBIC A1 A+ 5/24/2017 6/1/2022 5 Year 5/24/2017 May 1,500 JBIC A1 A+ 5/24/2017 6/1/2027 10 Year 5/24/2017 May 1,500 ASIA Aaa AAA 5/30/2017 6/8/2021 4 Year 5/30/2017 May 1,750 KOMMUN Aaa 6/1/2017 6/12/2020 3 Year 6/1/2017 Jun 1,000 TOKYO A+ 42887 6/8/2022 5 Year 6/1/2017 Jun 500 KFW Aaa AAA 6/6/2017 12/14/2018 2 Year 6/6/2017 Jun 1,000 KBN Aaa AAA 6/13/2017 9/15/2020 3 Year 6/13/2017 Jun 1,000 SFILFR Aa3 AA 6/20/2017 6/30/2020 3 Year 6/20/2017 Jun 1,000 IADB Aaa 6/27/2017 7/7/2027 10 Year 6/27/2017 Jun 2,300 KUNTA Aa1 AA+ 7/11/2017 9/18/2020 3 Year 7/11/2017 Jul 1,000 CAF Aa3 AA7/11/2017 7/18/2020 3 Year 7/11/2017 Jul 1,250 JBIC A1 A+ 7/12/2017 7/21/2020 3 Year 7/12/2017 Jul 1,500 JBIC A1 A+ 7/13/2017 7/21/2022 5 Year 7/13/2017 Jul 1,250 JBIC A1 A+ 7/13/2017 7/21/2027 10 Year 7/13/2017 Jul 1,250 SWED Aaa 7/18/2017 7/25/2019 2 Year 7/18/2017 Jul 2,750 NRW Aa1 7/17/2017 7/25/2019 2 Year 7/17/2017 Jul 1,500 ALTA Aa1 7/19/2017 7/26/2022 5 Year 7/19/2017 Jul 1,500 FMSWER Aaa 7/25/2017 8/1/2022 5 Year 7/25/2017 Jul 1,500 KFW Aaa 7/31/2017 9/15/2021 4 Year 7/31/2017 Jul 1,000 ASIA Aaa AAA 8/1/2017 8/10/2022 5 Year 8/1/2017 Aug 750 ASIA Aaa AAA 8/1/2017 8/10/2027 10 Year 8/1/2017 Aug 500 NIB Aaa 8/2/2017 8/9/2019 2 Year 8/2/2017 Aug 500 NRWBK 8/8/2017 8/17/2020 3 Year 8/8/2017 Aug 1,000 FMSWER Aaae 8/8/2017 8/9/2019 2 Year 8/8/2017 Aug 1,000 KBN Aaa AAA 8/16/2017 11/23/2018 1 Year 8/16/2017 Aug 500 SEK Aa1 AA+ 8/22/2017 8/30/2022 5 Year 8/22/2017 Aug 1,000 IBRD Aaa AAA 8/22/2017 9/4/2020 3 Year 8/22/2017 Aug 3,000 KFW Aaa AAA 8/22/2017 9/9/2019 2 Year 8/22/2017 Aug 4,000 DBJJP A1 A+ 8/22/2017 9/1/2022 5 Year 8/22/2017 Aug 1,000 DBJJP A1 A+ 8/22/2017 9/1/2027 10 Year 8/22/2017 Aug 800 KBN 8/30/2017 9/9/2019 2 Year 8/30/2017 Aug 1,000 JFM A1 8/31/2017 9/8/2020 3 Year 8/31/2017 Aug 1,000 ASIA Aaa AAA 9/6/2017 9/13/2022 5 Year 9/6/2017 Sep 4,000 IADB Aaae 9/6/2017 9/14/2022 5 Year 9/6/2017 Sep 3,000 AGFRNC AA 9/7/2017 9/14/2020 3 Year 9/7/2017 Sep 1,250

*Green font denotes green bond

Format Launch vs MS Launch vs UST Global 10 41.45 Global 4 26 Global 33 25.3 Global 1 21.7 Global -3 17.3 Global 48 68.5 Global 64 71.9 Global 70 64.5 Global 7 38.05 RegS 5 26.1 144A/RegS 66 73.7 Global -7 7.6 Global 8 Global 33 49.3 Global 24 21.3 Global 7 Global 45 65.6 Global 39 57.6 Global 51 57.1 Global 67 62.1 144A/RegS -6 17.3 RegS 7 30 Global 34 41.5 Global 12 19.25 Global 5 36.1 Global 9 16.3 Global 25 20.5 Global -6 18.5 Global 11 32.15 Global -4 22.7 144A/RegS -2 13.8 Global 20 25.9 Global -4 16.7 Global -4 21.5 144A/RegS 42 48.1 144A/RegS 59 53.2 144A/RegS 4 25.1 144A/RegS 47 66.1 Global 12 19.45 Global 12 20.35 RegS 34 54.6

Dec

Page 34 of 43

September 8, 2017

Canadian Provinces vs. TSY Last


2

37.2

-0.7

1.9

1.1

35.7

39.0

40.6

1.1

-0.4

-0.7

3

38.1

1.2

0.7

-1.3

38.2

40.6

43.2

-0.1

-0.6

-1.0

5

40.3

1.7

2.1

2.3

39.1

38.4

41.9

1.3

1.2

-0.4

7

43.2

2.7

1.4

0.2

42.2

43.1

47.5

1.3

0.1

-0.8

10

48.1

1.9

1.6

0.8

47.3

48.1

51.5

1.3

0.0

-0.8

vs. TSY Last


2s3s

0.8

1.9

-1.2

-2.4

2.4

1.5

2.7

-0.7

-0.3

-0.5

3s5s

2.2

0.4

1.4

3.6

1.0

-2.1

-1.3

0.9

1.0

0.6

3s7s

5.1

1.5

0.7

1.5

4.0

2.5

4.2

1.0

1.0

0.2

5s7s

2.9

1.1

-0.7

-2.1

3.1

4.7

5.5

-0.2

-0.7

-0.9

7s10s

4.9

-0.9

0.2

0.6

5.1

5.0

4.1

-0.2

-0.1

0.4

vs. Swaps Last


2

13.4

-3.8

4.1

-3.2

12.4

12.4

13.8

0.4

0.4

-0.1

3

16.7

-1.4

2.0

-4.4

18.3

18.2

22.6

-0.8

-0.5

-1.1

5

30.8

-2.0

3.8

2.0

29.9

29.1

35.2

0.5

0.8

-0.6

7

44.3

-0.6

0.8

-0.6

44.4

45.2

53.8

-0.1

-0.5

-1.0

10

51.1

-0.4

1.0

0.1

50.6

50.0

58.4

0.4

0.6

-0.8

vs. Swaps Last


2s3s

3.2

2.4

-2.1

-1.2

5.9

5.8

8.8

-1.0

-0.9

-1.2

3s5s

14.2

-0.6

1.8

6.4

11.5

10.9

12.7

0.9

1.3

0.4

3s7s

27.6

0.8

-1.2

3.8

26.1

27.0

31.3

0.7

0.3

-0.6

5s7s

13.5

1.4

-3.0

-2.6

14.5

16.1

18.6

-0.7

-1.2

-1.5

7s10s

6.8

0.2

0.2

0.7

6.2

4.8

4.5

0.5

1.0

1.1


Page 35 of 43

September 8, 2017

Provincial Technicals % of FY17/18 Borrowing Program Completed

Ontario CAD/USD Funding Decision (bp)

100%

25

90%

20

80%

15

70%

10

bp

60% 50%

5 0

40% 30%

-5

20%

-10

10%

-15 Sep-16

0% BRCOL

ALTA

SCDA

MP

ONT

Q

NBRNS

Nov-16

NS

Jan-17 3yr

Mar-17

5yr

Covered Bonds vs. TSY Last

1wk Chg

1m Chg

3m Chg

3m Avg

6m Avg

12m Avg 3m Z Score 6m Z Score 12m Z Score

2

50.6

2.6

-3.6

-6.3

54.7

55.0

57.9

-1.0

-1.2

-1.6

3

52.1

-1.2

-0.6

-7.1

56.4

58.8

60.7

-1.6

-1.6

-2.0

5

53.1

2.3

0.3

-5.4

55.3

58.0

60.6

-0.6

-1.0

-1.4

Last

1wk Chg

1m Chg

3m Chg

3m Avg

6m Avg

2s3s

1.5

-3.8

3.0

-0.8

1.7

3.9

2.8

0.0

-0.5

-0.3

2s5s

2.5

-0.3

4.0

0.9

0.6

3.0

2.7

0.6

-0.1

0.0

3s5s

1.0

3.5

0.9

1.7

-1.0

-0.8

0.0

0.7

0.4

0.2

vs. TSY 12m Avg 3m Z Score 6m Z Score 12m Z Score

vs. Swaps Last

1wk Chg

1m Chg

3m Chg

3m Avg

6m Avg

2

26.7

-0.6

-1.6

-9.4

31.5

30.5

12m Avg 3m Z Score 6m Z Score 12m Z Score 32.6

-1.0

-0.9

-1.3

3

32.5

-2.0

1.7

-7.9

37.4

36.5

40.0

-1.4

-1.3

-1.4

5

44.1

-0.8

2.9

-3.2

45.9

46.8

52.1

-0.6

-0.8

-1.1

Last

1wk Chg

1m Chg

3m Chg

3m Avg

6m Avg

2s3s

5.8

-1.4

3.3

1.5

6.0

6.0

7.4

0.0

0.0

-0.4

2s5s

17.5

-0.2

4.4

6.2

14.4

16.4

19.5

0.7

0.2

-0.4

3s5s

11.6

1.2

1.2

4.7

8.5

10.3

12.1

1.3

0.4

-0.1

vs. Swaps


12m Avg 3m Z Score 6m Z Score 12m Z Score

7yr

May-17 10yr

Jul-17

Page 36 of 43

September 8, 2017

CAD RV: Lessons Learned from the BoC Darren Campbell, Benjamin Reitzes, Abhisar Srivastava 







We were wrong on the BoC with a hike coming this week, and beyond that, the statement did nothing to dissuade markets from pricing more aggressive tightening. Indeed, it seems hard to fathom that the BoC would want this outcome, but there’s little doubt they were aware of what markets would think with that statement accompanying a rate hike. In addition to being humbled, we learned the following this week: 1) The C$ doesn’t seem to have the impact on policy it once did. Coming over from EDC, it was common place to believe Mr. Poloz wanted a weaker C$ and his policy decisions appeared to bear that out. That changed this week, with the Bank seemingly giving the currency the green light to rocket higher. 2) Every meeting is live. Despite directing the market ahead of the July hike, the BoC felt no need to deliver even the slightest hint for September. A better understanding of the Bank’s reaction function would be helpful, but for now: better-than-expected data = rate hike. 3) There remains “considerable monetary policy stimulus” in place. The word “considerable” was added and given that the output gap is closing fast, it appears the BoC thinks there’s plenty more stimulus to remove. 4) Following those two points, a solid run of data into the October meeting could mean a third straight hike. Poor Start for July Data…It’s early, but economic momentum seems to have slowed sharply in July. Given the upside surprises in most indicators over the past year, we’re not going to jump to any conclusion quite yet, but that’s our bias for now. The July trade data were absolutely horrendous, with exports and imports falling in nominal and volume terms. Historically, that’s been consistent with broadly weaker economic activity. July home sales were down, and after a huge month in June, construction could see some retracement. And, the seasonals for oil production are the second least favourable of the year, which could weigh heavily. So, we’ll be watching the data over the next few weeks to see if they confirm our suspicions of July softness. One big caveat is that hours worked surged in July, so we’ll have to wait for more evidence. Curve thoughts post-BoC…Friday’s mediocre jobs report couldn’t stop the relentless selling. The cash curve is pricing about 60 bps in tightening by late 2018, with only 20 more bps or so over the next three years. Interestingly, that 2-to-4 year part of the curve (2019 to 2021) also had a 20 bp slope pre-rate hike.

Chart 1: Bank of Canada OIS Meeting Gap Curve (%)

1.60 1.50

8-Sep-17 11-Aug-17 7-Jul-17

1.40 1.30 1.20 1.10 1.00 0.90

Chart 2: Poor Trade Warning on July GDP

Chart 3: First Positive Spread in 3 Years Canada-US 5-Year spread (ppts)

Page 37 of 43

September 8, 2017

Given the current momentum, we would not fade this Canada weakness until we see at least a bit of stability. With little data out next week to halt the selling, Canada could continue the flattening trend for a little bit still. However, we’ll be watching the July data closely, and if the softer data thesis outlined above shows signs of being correct, we’ll start to look at getting long the front end. In the meantime, start small with any positions and build it over the next few weeks. Meantime, Canada-US looks ridiculous, but the BoC’s apparent total lack of concern about the currency suggests there could still be room for further Canada underperformance.

Open Trades CAD IRS 2s7s steepener

New Trade 2s7s CAD IRS steepener @ 22.5 bps

Entry Date Entry Lvl 8-Sep-17

22.5 bp

Target

Current

Stop

32.5 bp

22.5 bp 17.5 bp

P&L -

3m Carry/Roll: 3.75 bp

Closed Trades

Entry Date Exit Date Entry Lvl

Pay CAD IRS 5s10s vs US

4-Aug-17

5-Sep-17

Long Canada 2s vs US (old 2s now)

14-Jul-17

1-Sep-17

Rec Jan18 BoC meeting gap

4-Jul-17

13-Jul-17

Jul/Oct BoC meeting gap steepener

30-Jun-17

11-Jul-17

Pay CAD 5yr vs USD 5yr IRS

24-Feb-17

Rec CAD 5y5y vs US Rec CAD 10s30s vs USD 10s30s IRS CAN Jun19sJun24s steepener

0 bp

Target Exit Lvl 10 bp

P&L

-5.0 bp

5.5 bp*

-9.3 bp*

-20.0 bp -4.3 bp

4.7 bp*

102.5 bp

97.5 bp 106.5 bp

4.0 bp

14.2 bp

19.0 bp 19.0 bp

4.8 bp

29-Jun-17

-57.0 bp

-20.0 bp -20.0 bp 38.0 bp*

19-Jun-17

21-Jun-17

-25.0 bp

-30.0 bp -30.0 bp 5.0 bp*

9-Feb-17

14-Jun-17

22.5 bp

10.0 bp

6-Jun-17

9.0 bp

12.7 bp*

12-Jun-17

40.0 bp

44.0 bp 37.5 bp

5s30s CAD IRS flattener vs GBP

31-Mar-17 30-May-17

35.0 bp

25.0 bp 24.5 bp 10.0 bp*

Rec CAD 5y5y vs US

17-May-17 25-May-17 -30.0 bp

Pay CAD IRS 5s10s30s

12-Apr-17

5-May-17

-5.5 bp

0.0 bp

-4.0 bp

1.5 bp

Buy CAN Aug18sSep19sJun20s cash fly

17-Mar-17 27-Mar-17

3.0 bp

0.0 bp

0.0 bp

3.0 bp

Buy Canada 5yr Sep 21s vs US 5yr 1.125 Oct 21s

18-Nov-16

23-Feb-17 -78.0 bp

-78.0 bp -76.0 bp 8.0 bp*

Buy PQ Sep 23s ASW

27-Jan-17

16-Feb-17

42.5 bp 42.5 bp

Reverse Asset Swap Can 0.5% Feb19s

6-Jan-17

18-Jan-17 -33.75 bp -30.0 bp -30.0 bp 3.75 bp*

47.5 bp

2.5 bp*

-36.0 bp -36.0 bp 5.1 bp*

4.5 bp

Page 38 of 43

September 8, 2017

Cross Market Swaps Relative Value: Blue box in the CAD-US column on the far right implies that going by the 3m Z-scores, CAD is too flat/rich relative to US and vice-versa. SWAPS Tenors 2s 3s 5s 7s 10s 30s 2/5 CAD 2/10 5/10 5/30 10/30 2/3/5 2/5/10 5/7/10 5/10/30

Last 1.874 1.945 2.051 2.101 2.255 2.505 17.6 38.0 20.4 45.5 25.1 -3.5 -2.8 -10.3 -4.7

Last Month

Tenors 2s 3s 5s 7s 10s 30s 2/5 GBP 2/10 5/10 5/30 10/30 2/3/5 2/5/10 5/7/10 5/10/30

Last 0.544 0.620 0.763 0.901 1.095 1.412 21.9 55.1 33.2 64.9 31.7 -6.7 -11.3 -5.6 1.5

Last Month

3m Z-Score 2.1 1.9 1.4 1.1 0.8 0.5 -2.9 -3.5 -3.5 -2.9 -1.7 2.6 0.3 0.1 -1.6

3m Z-Score -1.1 -1.1 -1.3 -1.4 -1.5 -1.4 -1.5 -1.6 -1.4 -0.3 1.2 2.0 -0.7 -1.8 -2.1

Tenors 2s 3s 5s 7s 10s 30s 2/5 USD 2/10 5/10 5/30 10/30 2/3/5 2/5/10 5/7/10 5/10/30

Last 1.519 1.598 1.736 1.869 2.031 2.344 21.8 51.2 29.4 60.8 31.4 -5.8 -7.6 -3.0 -1.9

Last Month

Tenors 2s 3s 5s 7s 10s 30s 2/5 EUR 2/10 5/10 5/30 10/30 2/3/5 2/5/10 5/7/10 5/10/30

Last -0.201 -0.103 0.145 0.411 0.785 1.485 34.6 98.6 64.0 134.0 70.0 -15.0 -29.4 -10.8 -6.0

Last Month

3m Z-Score -2.0 -2.2 -2.3 -2.3 -2.3 -2.2 -2.2 -2.3 -1.9 -0.2 1.2 1.9 -1.8 -1.9 -2.3

2 -2 CM RV with Z-Score >2 highlighted CAD-US CAD-GBP CAD-EUR 2s 4.1 3.2 3.7 3s 4.1 3.0 3.4 5s 3.7 2.7 2.7 7s 3.4 2.5 2.3 10s 3.1 2.3 1.8 30s 2.6 1.8 1.2 2/5 -0.7 -1.4 -1.9 2/10 -1.2 -2.0 -2.8 5/10 -1.6 -2.0 -3.6 5/30 -2.7 -2.6 -4.0 10/30 -3.0 -2.9 -3.5 2/3/5 0.7 0.5 2.3 2/5/10 2.1 1.0 1.9 5/7/10 2.0 1.9 1.1 5/10/30 0.7 0.4 -0.6

3m Z-Score -1.6 -1.5 -1.3 -1.1 -1.0 -0.7 -1.0 -0.7 0.1 1.1 1.7 0.3 -1.6 -1.0 -1.1

2s 3s 5s 7s 10s 30s 2/5 2/10 5/10 5/30 10/30 2/3/5 2/5/10 5/7/10 5/10/30

GBP-EUR 0.5 0.4 0.0 -0.3 -0.5 -0.7 -0.4 -0.9 -1.5 -1.4 -0.6 1.7 0.9 -0.8 -1.0

GBP-USD 0.9 1.1 1.0 0.9 0.8 0.8 0.8 0.7 0.4 -0.1 -0.1 0.1 1.1 0.1 0.3

USD-EUR -0.4 -0.7 -1.0 -1.1 -1.3 -1.5 -1.2 -1.6 -2.0 -1.3 -0.5 1.6 -0.2 -0.9 -1.3

Trade Themes Round-up 



There are no prizes for guessing Canada is cheap outright and cross market. Back to back hikes would do that any fixed income market—just take a look at the cross market grid on page 3. While we are holding off for now to be outright long ahead of the weekend amid concerns of North Korea tensions, we are happy to look at the Canada curve itself for opportunities. Good carry/roll should be at the top of the list when picking a trade in Canada right now. Couple that with good risk/reward and we have the 2s7s curve which looks like a good place to be. The Canada curve has flattened hard as 2s have been crushed. When the BoC hiked back in July, 2s7s closed pretty much unchanged on the week. The move was well relayed to the market and didn’t cause any jitters. The latest flattening was largely because the market prepared for the hike/hikes to be brought forward. The BoC did hike and we indeed have aggressive tightening priced in now. With two full hikes priced in by Mar/Apr18, the extent of flattening even on an Oct hike (if the run in data persists), cannot be as dramatic as the last time around. We know the next meeting is on Oct25. Even if we chop around till then with US 10s flirting with the 2% mark amidst global uncertainty, the trade collects 2-2.5bps in carry/roll per month. Given the risk/reward and a controlled stop, this trade has an upside of more than 10bps. We got stopped out of the 5s10s CAD/US trade on the back of the BoC move (details in the grid below). We have removed the Rec CAD 2s5s10s trade from our watch list for now, as it did not get to our target entry level but performed nevertheless.

* Closed trades PnL includes cost of carry/roll; open trades do not.

Page 39 of 43

September 8, 2017

Government of Canada Bonds Relative Value Summary GoC bonds

7-Sep 1d chg bps 3.4 3.4 2.9 4.4 4.2 4.4 4.4 4.5 4.4 4.4 4.0 4.0 4.3 4.3 4.5 4.5 4.6 4.4 4.7 5.6 5.6 5.3 5.3 5.3 3.2 3.0 3.0 3.0 3.0 3.0

1-Sep 1wk chg bps 18.3 17.6 16.9 18.7 18.0 18.2 18.2 18.5 17.8 17.4 16.2 15.2 16.2 14.9 13.7 13.5 12.6 12.0 11.7 9.8 8.8 7.3 6.5 6.4 6.0 5.6 5.3 5.2 5.3 5.4

Current bps 20.0 47.3 83.8 27.3 63.8 36.5

1d chg bps 0.1 0.9 (1.4) 0.8 (1.6) (2.3)

1wk chg bps (5.5) (10.8) (12.8) (5.3) (7.3) (2.0)

10Y 30Y 30Y 30Y

Current bps (7.3) (43.8) 10.8 (9.2)

1d chg bps (0.7) 1.7 3.2 3.1

1wk chg bps (0.3) 1.7 (8.8) (3.3)

Nov-18 Feb-19 May-19 Jun-19 Sep-19 Mar-20 Mar-21 Sep-21 Mar-22 Jun-22 Jun-23 Jun-25 Jun-26 Dec-45 Dec-48

Current bps 1.4 3.5 2.0 1.4 1.5 3.3 2.9 4.8 3.8 8.6 7.5 5.6 3.7 (2.0) (4.7)

1d chg bps 0.0 1.0 (0.0) 0.2 (0.0) (0.4) 0.2 0.2 0.1 (0.1) 0.3 0.0 (0.3) 0.0 (0.0)

1wk chg bps (0.6) 1.0 (0.5) 0.2 (0.4) (1.6) (0.2) (1.2) (1.1) (1.5) (0.3) (1.0) (1.5) 0.1 0.1

Coupon Maturity M.Dur. 0.50 11/1/18 1.12 0.50 2/1/19 1.37 1.75 3/1/19 1.45 0.75 5/1/19 1.61 3.75 6/1/19 1.65 0.75 8/1/19 1.86 1.75 9/1/19 1.93 1.25 11/1/19 2.10 1.50 3/1/20 2.41 3.50 6/1/20 2.58 0.75 9/1/20 2.92 0.75 3/1/21 3.40 3.25 6/1/21 3.48 0.75 9/1/21 3.88 0.50 3/1/22 4.39 2.75 6/1/22 4.40 1.00 9/1/22 4.82 1.50 6/1/23 5.43 2.50 6/1/24 6.14 2.25 6/1/25 7.03 1.50 6/1/26 8.08 1.00 6/1/27 9.14 2.00 6/1/28 9.58 5.75 6/1/29 8.99 5.75 6/1/33 11.30 5.00 6/1/37 13.70 4.00 6/1/41 16.29 3.50 12/1/45 18.86 2.75 12/1/48 21.21 2.75 12/1/64 27.44

CURVES 2Y 2Y 2Y 5Y 5Y 10Y

5Y 10Y 30Y 10Y 30Y 30Y

FLYs 2Y 2Y 2Y 5Y

ROLLs 2s

3s

5s

7s 10s 30s ULs

5Y 5Y 10Y 10Y

Feb-19 May-19 Aug-19 Sep-19 Mar-20 Sep-20 Sep-21 Mar-22 Sep-22 Jun-23 Jun-24 Jun-26 Jun-27 Dec-48 Dec-64

8-Sep Yield % 1.450 1.464 1.459 1.499 1.512 1.519 1.526 1.536 1.541 1.568 1.574 1.604 1.618 1.633 1.681 1.681 1.719 1.767 1.842 1.899 1.955 1.992 2.049 2.102 2.205 2.306 2.369 2.377 2.357 2.310

Yield: 3-month range Max Min Quartile % % 1.416 0.678 Max 1.430 0.688 Max 1.430 0.694 Max 1.455 0.715 Max 1.470 0.723 Max 1.475 0.742 Max 1.482 0.732 Max 1.491 1.243 Max 1.497 0.773 Max 1.524 0.783 Max 1.534 0.820 Max 1.564 0.858 Max 1.575 0.863 Max 1.592 0.891 Max 1.647 0.934 Max 1.657 0.952 Max 1.691 0.986 Max 1.762 1.043 Max 1.847 1.137 4 1.926 1.221 4 1.997 1.308 4 2.056 1.410 4 2.131 1.904 3 2.179 1.578 4 2.311 1.766 4 2.411 1.895 4 2.471 1.966 4 2.484 1.981 4 2.462 1.957 4 2.425 1.922 4 3-month Range Avg Max Min Zbps bps bps score 29.4 37.4 19.9 (2.2) 62.6 73.8 46.4 (2.8) 105.7 129.1 85.2 (2.9) 33.2 42.7 26.5 (2.1) 76.3 104.0 65.4 (1.5) 43.1 61.3 33.9 (1.0) 3-month Range Avg Max Min Zbps bps bps score (3.9) 3.1 (18.2) (0.8) (47.0) (31.1) (79.2) 0.3 19.5 35.1 2.9 (0.9) (9.9) (1.1) (20.4) 0.1 3-month Range Avg Max Min Zbps bps bps score 1.4 2.5 1.0 0.0 2.6 3.4 2.1 3.0 2.9 3.7 2.0 (1.9) 1.4 2.3 0.9 (0.0) 3.9 5.6 1.5 (2.0) 5.7 8.1 3.7 (2.2) 4.6 8.0 0.4 (1.2) 5.1 6.6 3.7 (0.4) 4.9 5.6 3.7 (3.1) 9.2 10.9 6.4 (0.5) 7.2 9.4 5.4 0.4 6.8 9.0 5.6 (1.8) 6.6 10.4 4.0 (2.0) (2.4) (1.9) (2.9) 1.4 (3.7) (2.8) (4.8) (2.2) Avg % 1.102 1.116 1.120 1.142 1.163 1.171 1.177 1.303 1.215 1.242 1.272 1.318 1.335 1.364 1.415 1.430 1.464 1.522 1.594 1.662 1.730 1.797 1.974 1.925 2.060 2.173 2.239 2.251 2.228 2.190

Spread to Spline (bps) Current 3mo 3mo spread avg Z-score 1.5 2.6 (0.4) (0.3) 1.2 (0.5) (1.7) 0.8 (0.8) 0.4 1.2 (0.2) 0.9 2.3 (0.5) 0.0 1.4 (0.4) 0.0 1.2 (0.4) (0.2) 1.2 (0.5) (1.3) 0.4 (0.5) 0.4 0.8 (0.1) 0.0 1.5 (0.4) 0.6 1.5 (0.2) 0.4 0.9 (0.1) (0.0) 1.3 (0.3) 0.4 1.5 (0.3) (1.9) 0.5 (0.6) (0.1) 1.6 (0.5) 0.2 1.1 (0.2) 0.2 1.1 (0.2) (0.2) 1.0 (0.3) 0.1 1.0 (0.2) (0.1) 0.8 (0.2) 2.3 1.3 0.3 4.0 2.5 0.4 (0.0) 0.6 (0.2) (0.0) 0.6 (0.2) 0.0 0.9 (0.3) 0.2 1.2 (0.3) (0.5) (0.6) 0.0 (4.9) (4.3) (0.2) Vs. Spline CURVES (bps) Current 3mo 3mo Spd avg Z-score 0.6 0.9 (0.1) (0.1) (1.4) 0.2 0.0 (1.6) 0.2 (0.7) (2.3) 0.6 (0.6) (2.6) 0.2 0.1 (0.2) 0.1 Vs. Spline CURVES (bps) Current 3mo 3mo Spd avg Z-score 1.3 3.3 (0.4) 1.2 3.5 (0.2) (0.2) (1.1) 0.1 (0.8) (2.1) 0.2

1-month horizon Carry Roll C+R bps bps bps 3.4 0.6 4.1 2.9 0.6 3.5 2.7 0.6 3.3 2.6 0.6 3.2 2.7 0.6 3.2 2.3 0.5 2.9 2.3 0.5 2.8 2.2 0.5 2.6 1.9 0.4 2.3 1.9 0.4 2.3 1.7 0.4 2.1 1.5 0.4 1.9 1.5 0.5 2.0 1.4 0.6 1.9 1.3 0.7 2.0 1.3 0.7 2.0 1.2 0.7 1.9 1.2 0.5 1.7 1.1 0.5 1.7 1.1 0.4 1.4 1.0 0.4 1.4 0.9 0.3 1.2 0.9 0.3 1.2 1.0 0.3 1.4 0.9 0.3 1.1 0.8 0.2 0.9 0.7 0.1 0.8 0.6 (0.0) 0.6 0.5 0.0 0.5 0.4 0.0 0.4 1-month horizon Carry Roll C+R bps bps bps (1.6) 0.1 (1.4) (1.9) (0.2) (2.1) (2.3) (0.5) (2.8) (0.5) (0.3) (0.8) (0.9) (0.7) (1.6) (0.5) (0.3) (0.8) 1-month horizon Carry Roll C+R bps bps bps (1.3) 0.4 (0.8) (0.9) 0.8 (0.1) (1.6) 0.2 (1.4) (0.2) 0.0 (0.2) 1-month horizon Carry Roll C+R bps bps bps (1.4) (0.0) (1.4) (0.9) (0.0) (0.9) (0.8) (0.0) (0.8) (0.9) (0.0) (0.9) (0.9) (0.1) (1.0) (0.6) (0.0) (0.6) (0.4) 0.1 (0.2) (0.3) 0.1 (0.2) (0.3) (0.0) (0.3) (0.3) (0.2) (0.5) (0.2) (0.0) (0.2) (0.2) 0.0 (0.2) (0.2) (0.1) (0.3) (0.1) 0.0 (0.1) (0.2) 0.0 (0.2)

Chg in Carry per 10bps chg in Repo 0.8 0.6 0.6 0.5 0.5 0.5 0.4 0.4 0.4 0.3 0.3 0.2 0.2 0.2 0.2 0.2 0.2 0.2 0.1 0.1 0.1 0.1 0.1 0.1 0.1 0.1 0.1 0.0 0.0 0.0 Chg in Carry per 10bps chg in Repo (0.3) (0.4) (0.4) (0.1) (0.1) (0.1) Chg in Carry per 10bps chg in Repo (0.2) (0.2) (0.3) (0.0) Chg in Carry per 10bps chg in Repo (0.2) (0.1) (0.1) (0.1) (0.1) (0.1) (0.0) (0.0) (0.0) (0.0) (0.0) (0.0) (0.0) (0.0) (0.0)

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Definitions/Assumptions: The quartile indicator for yields ranks the current yield within its 3-month range. The quartile scale is from 1 to 4, 1 indicating the lowest quartile and 4 the highest. A bond yield sitting in the 1st quartile would be near its 3-month lows while one sitting in the 4th would be near its 3-month highs. Maximum and minimum are calculated with closing levels; the quartile is calculated with respect to the current price. If a price is outside its 3-month range it would show as “Max” or “Min”. Historical averages are calculated as of previous closing price. Current spread to spline indicates the difference between the current yield and the current spline level. The Spline is calculated through a cubic spline interpolation of BMO constant maturity indices. BMO constant maturity indices are quoted as of previous closing levels. Therefore the current spline would reflect previous day closing yields. Z-score is the difference between the current value and its 3-month average divided by its 3-month standard deviation. The Z-score indicates how many standard deviations away from its 3-month average a current spread sits today. 95.5% of the time a spread is expected to be within 2 standard deviations of its average. Therefore, a Z-score above 2 would indicate a level far above its 3-month range (cheap highlighted in green, rich highlighted in red), and vice versa. Repo and reverse repo rates are assumed to be the same for all maturities, at 0.75%/0.65% respectively

Sources: BMO Capital markets, Bloomberg

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CONTACTS Margaret Kerins, CFA, MD, Head of FI Strategy [email protected], 312-845-2687

Michael Gregory, CFA, MD, Dep. Chief Economist [email protected], 416-359-4747

Aaron Kohli, CFA, Director, FI Strategy [email protected], 212-702-1252 Dan Krieter, CFA, Vice President, FI Strategy [email protected], 312-845-4015

Sal Guatieri, Director, Sr. Economist [email protected], 416-359-5295 Jennifer Lee, Director, Sr. Economist [email protected], 416-359-4092

Dan Belton, PhD, Associate, FI Strategy [email protected], 312-845-5068

Benjamin Reitzes, Director, Canadian Rates & Macro Strategist [email protected], 416-359-5628

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