EFTA01451139.pdf

9 January 2014 FX Blueprint: Thin end of the wedge Theme #1: Holler for dollars • We expect the Fed and a recovery in US equity urve Flattening Very Bullish USD inflows to be the two main pillars of support for the dollar in 2014. Buy USD vs. NZD, CHF and SGD on OfangeMOXYarcsaxlatarsonroves m 2Y••-10yrUSyiettrane cycle and extreme valuation. *Wet l Mata:ley • The Euro-area current account remains supportive 20% 'Reflatbre II for the euro, but tight liquidity is fully priced, the 15% 10% '13eflaikir risk of negative rates is material, portfolio inflows 6% are peaking and we are reaching the 20% FX over- 0% valuation bound. Buy 12m EUR/USD 1.40/1.31 risk -6% reversals for zero cost. -10% 4 5% Don't Rely on Fed Dovishness -20% Last year was all about pricing out QE, even though -25% tapering is just beginning. The overwhelming message gee, %mat 91M Car 11:4 ?Ws: Patten laden Fisren Steepen Steepen steepen is that the market front-runs major events, and that the timing of re-pricings is very unpredictable. Just as 2013 Sclece.Dane., ea IMF was about QE unwinds and higher long-end yields, we think this year will be about the re-pricing of "low for long" and higher short-end yields. IUST Selling Last Year Offset By Cash and Hedging First, US short-end expectations are exceptionally Cumulative US short-term pada° flows Intriect & ST benign. The market is not pricing the first rate hike until 2000 leans, bat USD1 Q3 2015, just in line with FOMC projections, and by 1600 which time a simple linear extrapolation of the US 1600 unemployment rate takes us well below 6%. Second, 1400 the US yield curve is close to all-time steepness 1200 extremes. On the one hand, this means that the risks 1000 are skewed towards flattening, historically one of the 800 most supportive yield curve environments (chart 1). On 600 the other hand, the forwards are extremely high, 400 suggesting that even if these are realized, the US dollar 200 will climb up the carry ladder and drop-out of the 0 bottom-3 yield ranking by year-end. 90 92 94 96 98 CO 02 04 06 CO 10 12 Foreigners to Come Late to the Party Sxma Esourscno Odra, abate*" Alma LA Csainom The second building block to our bullish USD view is our positive outlook on growth and by extension US Equity Valuations Not Extreme, Inflows Should Recover equity inflows. 2013 stood out for large dollar cash accumulation, on the back of UST liquidation and an —Relative PIE ratio, US vs wodr. 22m lead Ilhs adjustment of USD hedge ratios (chart 2). The year has 1.2 equity inflows (Ms. % gross flows) 120% also stood out for record outflows from US equities as Americans have invested large amounts offshore and 1.1 • 70% foreigners have refused to engage in the S&P 500 rally. 1.0 But looking at relative valuations, outflows have overshot what is a relatively benign valuation picture 0.9 20% for US stocks. Using the average P/E ratio of Hong Kong and UK stocks as a global proxy, we find that 0.8 -30% valuations are close to the medium-term average (chart 0.7 • 3). The odds therefore seem skewed towards higher -80% equity inflows into the US, which combined with a 0.6 • flatter US curve should see an improvement in portfolio flows that was lagging this year. 0.6 • ...... --e r-- •-r- 1--r -r- r --c -130% 96 97 98 99 00 01 03 04 05 06 07 0810 11 12 13 14 Source' Datirto Lb* Sarin Maw IA *twopmytrataiya. f diaMin Sip — — Deutsche Bank AG/London Page 3 CONFIDENTIAL — PURSUANT TO FED. R. CRIM. P. 6(e) DB-SDNY-0107376 CONFIDENTIAL SDNY_GM_00253560 EFTA01451139