Headlines. Wednesday, 21 September Rates: BoJ tweaks modalities QQE; Fed next. Currencies: USD/JPY gains about one yen post-boj.

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1 Rates: BoJ tweaks modalities QQE; Fed next Core bonds erased most of the initial post-boj losses this morning. The central bank didn t add stimulus but tweaked the modalities of its QQE-programme. The countdown to the Fed meeting continues. We expect lower dots and an unchanged rate decision. That should put a lid on LT yields and also spark a (temporary) dovish reaction at the front end of the curve. Currencies: USD/JPY gains about one yen post-boj The BOJ recalibrated its asset purchase programme with focus on curve management. The changes in policy are modest, but the market reaction is constructive. A rise in USD/JPY also supports the USD across the board. The focus now turns to the Fed policy decision. An unchanged decision might be slightly negative for the dollar. Calendar Headlines S&P Eurostoxx50 Nikkei Oil CRB Gold 2 yr US 10 yr US 2 yr EMU 10 yr EMU EUR/USD USD/JPY EUR/GBP US Equities mitigated their gains yesterday to end the session marginally higher as investors stayed side lined ahead of today s FOMC decision. This morning, Asian shares trade in positive territory. Japanese stocks outperform gaining 2-3% after the BOJ announced an overhaul of its monetary policy. The Bank of Japan overhauled its policy framework by introducing an interest rate target for 10yr government bonds, saying it commits to keep them around zero. The policy rate was kept unchanged at -0.10% and asset purchases will continue with the aim of reaching the 80 trillion yen target a year. The BOJ strengthened its commitment to reach the 2% inflation target as quickly as possible, saying it will continue quantitative easing until inflation exceeds 2%. ECB s Praet said in a French newspaper that asset purchases will continue until there is a lasting adjustment in inflation in line with the ECB s target, adding that banks must adapt to negative rates. Praet also said Germany relies too much on export demand and should reform now because the good times may not last. The UK economy will slow in the near term, but perhaps not as much as expected because of support from loose financial conditions and the underlying advantages of the economy, BoE s Saunders said in his first public comments since joining the central bank. Brent crude oil prices rebounded yesterday from important support levels after API inventory data showed an unexpected drop. The Brent oil price hovers currently around $46.50/barrel and the WTI just below $45/barrel. Today, all eyes will be on the FOMC decision followed by a speech of Fed Chairwoman Yellen. Ahead of the decision, only UK public finance data will be released. P. 1

2 Rates Some bond gains ahead of Fed meeting German bonds had good run; US Treasuries more cautious No sign of pre FOMC fear Peripheral spreads narrowed for second day on a row on risk-on. US yield -1d 2 0,7866 0, ,2116-0, ,7084 0, ,4567 0,0145 DE yield -1d 2-0,6650-0, ,4990-0, ,0140-0, ,5833-0,0574 BOJ decision targets negative consequences of policy, but no additional measures, suggesting no lasting success on growth and inflation Yesterday, global core bonds had a good run, admittedly in thin dealings. The Bund gradually climbed higher from the start of the session and never looked back. The Bund is now about in the middle of the LT trading range between 163 and US Treasuries did well too, but erased some part of the gains towards the end of the session, probably due to the upcoming FOMC meeting. It is difficult, even impossible, to pinpoint a single trigger for the buying. Germany announced it will lower its Q4 bond issuance while oil remained under pressure and tested first key support at $45.32 barrel (Brent). No break occurred yet. The US housing permits and starts disappointed, even as special factors might have been at play. The curves bull flattened, which looks to us a sign that markets are optimistic that the FOMC won t hike rates and may lower its gradual projected rate path. Markets also didn t seem to be afraid of the BOJ decision (which looks a right bet given today s outcome) In a daily perspective, German rates are 1.1 bp (2-yr) to 6.6 bps (30-yr) lower. US yields declined between 0.4 bps (2-yr) and 2.4 bps (30-yr). BOJ tweaks policy, but no new measures The BOJ kept its policy rate unchanged at -0.1% and kept its QQE target stable at 80 trillion yen (annually). The BOJ said for the first time that it will continue to expand the monetary base until inflation is stable above 2%. The above is a novelty. Other central banks may go in a similar direction of raising their inflation target. In the case of Japan, the problem is not the target though, but the inability to bring inflation to the target. We see little in the measures that may succeed in doing that. The BOJ tweaked its QQE to avoid the negative consequences of negative rates on e.g. banks, by scraping its average maturity target of JGB holdings. The BOJ clearly targets LT rates and wants a steep(er) curve. In this respect it starts with fixed rate purchase operations. Of course, the BOJ added it can still lower rates, expand purchases and cut the target level of rates if needed, but it didn t do it now, which might disappoint markets. We still need to wait on the BOJ governor s press conference to get a better view on the decision. The first reaction was a weaker yen and higher equities. Especially banks and real estate fared well, probably as the BOJ did not lower its purchases. The yen weakened following the strengthening ahead of the meeting in previous days. Yields went higher but reversed half of the rise. We need a few days to see the underlying market view of the measures. T-Note future (black) and S&P future (orange) intraday: Treasuries recoup losses after BOJ decision. Tricky to interpret ahead of FOMC Nikkei good, but no spectacular gains with especially banks and real estate gaining. Initial JGB10-year yield increase largely undone.. P. 2

3 Germany concludes this week s scheduled bond supply The German Finanzagentur taps the on the run 5-yr Bobl ( 4B 0% Oct2021). Total bids averaged only 4.26B at the previous four Bobl auctions and we expect some improvement. The bond traded stable in ASW spread terms going into the auction, but is a tad cheap on the German curve. The auction will be supported by a tiny Bund redemption ( 0.75B 5.625% Sep2016) and last week s Schatz redemption. Additionally, Germany s debt management agency said yesterday that it would cut back on issuing capital and money market instruments in the last three months of the year ( 7B less than planned), reflecting reduced funding pressures on the government s federal budget. R2 165,67-1d R1 164,29 BUND 163,94 0,2200 S1 163 S2 162,56 Consolidation ahead of FOMC Overnight, Asian equities trade positive with Japan outperforming following the BoJ decision. The BoJ didn t add stimulus, but tweaked the modalities of its QQE-programme (see above & currencies). The Japanese yield curve initially bear steepened, but that changed into bear flattening. The US Note future spiked lower, but erased losses as European trading gets going. The Bund might nevertheless still open slightly lower. Today s eco calendar is empty ahead of the FOMC policy decision. We expect the dots in the new Summary of Economic Projections to be lowered, which should put a lid on long term US yields. The Fed will probably postpone a new rate hike to December. Given that markets attach a 22% probability to a move tonight, this could initially spark a slightly dovish reaction, but focus should rapidly turn to a (pre-announced?) move later this year. If the Fed surprises with a rate hike, the front end of the US yield curve will suffer. Concluding: limited reaction in case of no hike and lower dots; underperformance front end in case of rate hike and lower dots; steeper curve in case of unchanged dots irrespective of interest rate decision. Technically, both the Bund and the US Note future extensively tested important support levels, respectively at 163 and at The tests failed, even if the supports, at least for the Note future are still within reach. Yield resistances for US 10- and 30-yr are 1.75%- 2% and 2.50%- 2.75% respectively. At this stage, we think that the down-move in the Bund and US Note future was corrective in nature as it lacked a real genuine driver. German Bund: Sell-off after ECB meeting, but bounced off first technical support (163-aread) US Note future: Consolidation going into FOMC decision P. 3

4 Currencies USD/JPY gains about one yen post-boj USD little changed ahead of BOJ/Fed decisions. R2 1,1366-1d R1 1,1252 EUR/USD 1,113-0,0044 S1 1,1123 S2 1,1046 USD/JPY rebounds as BOJ QE turns focus to curve management On Monday, more counting down to today s BOJ and Fed decisions was still the name of the game, resulting in directionless trading in the major dollar cross rates. EUR/USD traded again close to, mostly slightly below The dollar was a bit better bid late in USD dealings and closed the session at (from ). In the same context, USD/JPY hovered in the high 101 area for most of the session. The pair finished the session at (from ). This morning, the BOJ left its policy rate unchanged (-0.10%). The Bank doesn t change its monetary base target, but tweaks its implementation. It still intends to expand the monetary base by JPY 80 trillion per year, but the bank allows more execution flexibility as it wants to control shape of the yield curve. In this respect, the BOJ intends to buy JGBs so that 10-year yields holds near current levels (around 0%).The BOJ also wants to overshoot of the inflation target as it aims to expand the monetary base until inflation will be stable above 2%. Regarding ETF buying, the Bank will focus its purchases now on partly tracking the Topix ETFS. The BOJ keeps all options open to ease policy further if needed. Even as the modifications to the programme are modest, the initial market reaction is constructive. USD/JPY rebounds about one yen the area. Japanese equities profit from ETF topix buying and from positive reaction of the banking stocks to keep the yields curve relatively steep. The intention to overshoot the 2% policy target might be a slightly positive, too. The rise of USD/JPY also filters through in some other USD cross rates. EUR/USD declines from the area to the area. EUR/USD tests support on global USD strength post BOJ USD/JPY: gains about one yen as BOJ recalibrates AP programme Dollar better bid after BOJ decision, but unchanged Fed decision might still be slightly negative for the USD Our base scenario is for today s Fed meeting is a delay of a rate hike till the December meeting. At the same time, the expected Fed rate path and the long term neutral rate may be lowered. (for an in depth analysis see the FI part of the report). The market gives already quite a high probability to such a scenario. However, as the market currently still maintains a 20% chance for a rate hike today, an unchanged scenario might initially still be slightly USD negative. EUR/USD is currently testing the support in the wake of the BOJ policy decision. As we don t expect the post-boj USD/JPY rally to go far and in case of an unchanged Fed decision, a sustained break of this level is unllikely. P. 4

5 If the Fed would raise rates today, a break and a return to EUR/USD or even becomes a real possibility. This is not our preferred scenario. USD/JPY was in the defensive of late. Markets were reluctant to hold big yen shorts going into the BOJ policy decision. The first reaction the BOJ decision is constructive. However, with no big additional stimulus, the case for a further big decline of the yen is not that compelling. This would a fortiori be the case if the Fed remains relatively soft. So, we stay cautious on USD/JPY long exposure. That said, the 99.54/99.02 area will probably remain a strong support is the first main resistance. We expect the established 99.89/ range to hold. R2 0,8725-1d R1 0,8582 EUR/GBP 0,8576 0,0008 S1 0,8344 S2 0,8251 Sterling correction to slow temporary? On Thursday, ssentiment on sterling remained negative. There were again no hard events to pinpoint the negative sentiment, but fears on a hard Brexit lingered on markets. For example, there were several articles how the system of financial passports that UK-based banks use when they operate in the EU, will be handle in the Brexit-negotiations. The debate is seen as another illustration of the potential hurdles in the Brexit negotiations. This kind of issues reinforced the negative sterling sentiment. EUR/GBP rebounded north of However, a modest decline of the euro late in the session and a slight comeback of cable, finally limited the loses of sterling against the euro. EUR/GBP closed the session at (from ). Cable dropped again below 1.30 and finished the day at Today, monthly UK budget data will be published. However, they are usually no market mover. So, the focus for sterling trading will be on the global market context. A cautious risk-on sentiment might be slightly supportive for sterling. Maybe there is also room for some short-term consolidation after the recent GBP decline. That said, the fear for a hard Brexit might still resurface. In this context, we don t expect any GBP rebound to go really far. A sell-on-sterling on upticks approach remains preferred. EUR/GBP: sterling remains in the defensive GBP/USD: sterling drops below 1.30 level P. 5

6 Calendar Wednesday, 21 September Consensus Previous US 13:00 MBA Mortgage Applications % 20:00 FOMC Rate Decision (Lower Upper Bound) % % New Zealand 23:00 RBNZ Official Cash Rate 2.00% 2.00% Canada 14:30 Wholesale Trade Sales MoM (Jul) 0.2% 0.7% Japan 06:18 BOJ Annual Rise in Monetary Base A 80t 80t 06:18 BOJ Policy Rate A % % 01:50 Trade Balance Adjusted (Aug) A 408.4b 317.6b 01:50 Imports / Exports YoY (Aug) A -17.3/ / :00 Supermarket Sales YoY (Aug) A -2.9% 0.2% 08:00 Machine Tool Orders YoY (Aug F) A -8.4% -8.4% 08:00 Nationwide Dept Sales YoY (Aug) % 08:00 Tokyo Dept Store Sales YoY (Aug) % UK 10:30 Public Finances (PSNCR) (Aug) b 10:30 Central Government NCR (Aug) b 10:30 Public Sector Net Borrowing (Aug) 10.3b -1.5b 10:30 PSNB ex Banking Groups (Aug) 10.2b -1.0b Norway 10:00 Unemployment Rate AKU (Jul) 4.8% 4.8% Events BOJ Monetary Policy Statement 09:30 Riksbank Minutes from Monetary Policy Meeting Published 15:50 Bank of England Bond-Buying Operation Results 20:00 Fed Summary of Economic Projections 20:30 Fed s Yellen Holds Press Conference Denmark DGB Auction (0.25% 2018 & 1.75% 2025) Sweden Bond Auction (SEK2.0B 4.25% Feb2019 & SEK1.5B 1.5% Nov2023) Germany Bobl Auction ( 4B 0% Oct2021) P. 6

7 Contacts 10-year td - 1d 2 -year td - 1d STOCKS - 1d US 1,71 0,01 US 0,79 0,01 DOW ,96 DE -0,01-0,03 DE -0,66-0,01 NASDAQ for Exch - NQI #VALUE! BE 0,23-0,02 BE -0,59-0,01 NIKKEI ,62 UK 0,80-0,07 UK 0,10-0,04 DAX 10393, ,86 JP -0,02 0,03 JP -0,21 0,04 DJ euro ,86 USD td -1d IRS EUR USD (3M) GBP EUR -1d -2d Eonia EUR -0,346 0,001 3y -0,208 1,094 0,440 Euribor-1-0,37 0,00 Libor-1 USD 0,27 0,27 5y -0,110 1,224 0,521 Euribor-3-0,30 0,00 Libor-3 USD 0,38 0,38 10y 0,359 1,536 0,821 Euribor-6-0,20 0,00 Libor-6 USD 0,52 0,52 Currencies - 1d Currencies - 1d Commoditie CRB GOLD BRENT EUR/USD 1,1131-0,0044 EUR/JPY 114,14 0,32 182, ,55 USD/JPY 102,55 0,70 EUR/GBP 0,8575 0,0007-1d 1,33 0,69 0,77 GBP/USD 1,2974-0,0065 EUR/CHF 1,0916-0,0036 AUD/USD 0,7552 0,0012 EUR/SEK 9,5795 0,01 USD/CAD 1,3181-0,0023 EUR/NOK 9,2517-0,01 Brussels Research (KBC) Global Sales Force Piet Lammens Brussels Peter Wuyts Corporate Desk Joke Mertens Institutional Desk Mathias van der Jeugt France Dublin Research London Austin Hughes Singapore Shawn Britton Prague Research (CSOB) Jan Cermak Prague Jan Bures Petr Baca Bratislava Research (CSOB) Marek Gabris Bratislava Budapest Research David Nemeth Budapest ALL OUR REPORTS ARE AVAILABLE ON This non-exhaustive non exhaustive information information is based on short-term is based forecasts on for expected short developments term forecasts on the financial for expected markets. KBC Bank developments cannot guarantee that these forecasts will materialize and cannot be held liable in any way for direct or consequential loss arising from any use of this document or its content. The document is not intended as personalized investment advice and does not constitute a recommendation to buy, sell or hold investments described herein. Although information has been obtained from and is based upon sources KBC believes to be reliable, KBC does not guarantee the accuracy of this information, which may be incomplete or condensed. All opinions and estimates constitute a KBC judgment as of the data of the report and are subject to change without notice. P. 7