Us Fixed Income 2007-08-27

August 27, 2007 www.hshnfinsec.com/

US Fixed Income Market snapshot

1M 3M 6M

2Y 5Y 10Y

LIBOR current 27-Aug 5.503 5.506 4.411

last 16-Jul 5.320 5.360 5.387

SWAP RATES current last 27-Aug 16-Jul 4.979 5.366 5.057 5.517 5.263 5.699

2Y 5Y 10Y

SW/GV SPREAD current last 27-Aug 16-Jul 66.000 49.800 64.500 57.000 65.000 65.800

12M 2Y 5Y

ATM CAP current 27-Aug 23.090 22.250 20.150

VOLS last 16-Jul 8.450 13.120 15.200

Market commentary Markets around the world have been experiencing the effects of a liquidity crisis. In response the central banks intervened by extending terms of open market operations and accepting more collateral. The FED lowered the rate at the discount window by 50 bps and injected liquidity in the form of overnight/term repurchase agreements. However, the commercial paper markets, specifically ABCP markets, are still not trading. Money market funds that usually invest in ABCP have reallocated investments towards treasury bills, short term agency paper and other safe havens. This is creating a dislocation in the short end of the curve, where US treasuries trade 250 to 350 bps below the federal funds rate (as compared to the traditional 35bps), cash rates are higher and the forward curve implies an easing in monetary policy. Whereas the ABCP markets have dried up, there are pools of liquidity available, albeit at levels which are a slight premium to where we are accustomed to funding. The next 90 days with several trillion CPs maturing and waiting to be rolled will be crucial. If the CP market does not clear companies might have to draw on their secondary lines of credit or shrink their balance sheets.

How is economic growth affected by this financial turmoil? With equity markets around the world stabilizing or slightly recovering it is suggested that global growth is not severely endangered by an US Subprime crisis. There are however a couple of factors that might take a good chunk out of the US GDP: Sustained rise in risk premia, lengthy correction in equity markets and further declining of home prices. The first two factors can be attributed to a general deleveraging of the market, slower M&A activity and pricier leveraged buyouts. With investors backing up from ABCP programs it will be more difficult to restructure and sell credit through structured and complex securities – those types that were traditionally put into SIVs. Trends should go to simpler products. The last factor – falling home prices – is part of a slow correction in the residential real estate market. Experts think that the housing market will continue to cool down well into 2008. Current inventories are at new 16-year highs and reached levels of several months of demand. Foreclosures keep on rising with still more adjustable rate mortgages having rate adjustments in Q4 of 2007 and Q1 of 2008.

US Fixed income

8/27/2007

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Should there be a material deterioration markets expect that the FED will intervene by cutting the benchmark rate. This chance is currently priced in with expectations for the next FOMC steps wide spread. They are centered around a 50 bps ease in the September meeting, an additional 25 bps in October and unchanged in December. Volatility in short maturities is extremely high. With liquidity rushing into riskless treasury bills with maturities of 6 months and less short rates moved at times by more than 80 bps. Many market participants expect some more jitters probing financial institutions for weaknesses. Risk aversion is likely to persist and markets will be very sensitive to headline risk. [email protected] +1 212 905 7364

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