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APPENDIX 1 Notes and charts used by Mr. Fisher in his presentation Page 1 Summary, Manager's Notes FOMC Meeting March 31, 1998 1. G-3 short-term, forward interest rate curves remain relatively flat. 2. Greed eclipses fear in asset markets, except in Japan. 3. The flat forward pricing of short-term interest rates reflects a "clearing price" between divergent views about the direction of the Committee's next move, not a conviction about the likelihood of steady policy. Q: Why hasn't a risk premium, associated with this uncertainty, been more evident in the Treasury yield curve? In general, expanding risk appetites have consumed it. In particular, reductions in Treasury supply (both actual and anticipated), combined with the flat, forward money market curve, have recently been encouraging dealers to extend duration, tending to flatten the Treasury yield curve. 4. The Desk is preparing for the heavy tax inflows of April and May to cause a sharp rise in the Treasury balance leading, once again, to the need for much larger operations than normal. Page 2 3-Month Deposit Rates July 1, 1997 - March 27, 1998 Current Euro-deposit Rate and Rates Implied by Traded Forward Rate Agreements LIBOR Fixing 3-mo. forward 9-mo. forward Germany ............. .............. - - - - Japan .............. - - - United States Percent Percent United States New Year FOMC Humphrey 1998 Feb 4 Hawkins 6.4 Feb 24 6.2 6.2 5.8 5.8 5.6 5.4 5.6 5.4 5.2 5.6 4.4 4.4 Germany 4.4 4.2 4.2 4.0 4.0 3.8 3.8 3.6 3.6 3.4 3.4 3 .2 3 .2 1.4 1.4 Japan 1.2 1.2 1.0 1.0 0.8 0.8 0.4 0.2 7/1 7/15 1997 7/29 8/12 8/26 9/9 9/23 10/7 10/21 11/4 11/18 12/2 12/16 12/30 1/13 1998 1/27 2/10 2/24 3/10 3/24 0.2 Page 3 Greed eclipses fear, except in Japan. Re-Indexed G-3 Equity Indices and Indexed G-3 Option Implied Volatility on Equity and Bond Futures * (Rebased to July 1, 1997) Total Return Bond Indices * Performance (Rebased to July 1,1997) *U.S. Index 7/1/97= 100 Germany, and Japan 10 Yr Constant Maturity Total Return Indices, in local currency terms. Source: J.P. Morgan *Bonds: Implied Volatility of At-the-Money options on futures of 10 Yr bonds. Source: Merrill Index 7/1/97=100 130 130 Lynch & Bloomberg, L.P. Equities: Implied Volatility of At-the Money options on futures of Index S&P, DAX, and Nikkei. Source: Bloomberg, L.P Index 7/1/97=100 240 New FOMC Year Feb 220 200 Index 7/1/97=100 140 8/26 9/23 10/21 11/18 12/16 1/13 2/10 1998 180 180 160 160 140 140 120 120 Index 7/1/97=100 80 80 60 60 7/1 1997 Index 7/29 8/26 9/23 10/21 11/18 12/16 1/13 2/10 3/10 1998 240 220 DAX - New Year 1998 240 220 200 200 180 180 160 160 140 140 120 12 0 100 100 80 80 60 90 7/1 7/29 1997 Index 7/1/97=100 8/26 9/23 10/21 11/18 12/16 1/13 2/10 1998 120 120 60 40 German 10 Yr 7/1 3/10 Index 7/1/97=100 40 Index 7/1/97=100 260 7/1/97=100 260 130 100 10Yr 40 3/10 200 S&P 100 7/1 7/29 1997 7/1/97=100 240 HH Feb 24 220 7/29 8/26 9/23 10/21 11/18 12/16 1/13 Inde 2/10 3/10 1998 9 97 Index 7/1/9 7=100 7/1/97=100 260 260 New Year 240 220 200 180 160 - 160 140 140 120 120 100 100 80 10 Yr JGB 7/1 7/29 1997 8/26 9/23 10/21 11/18 12/16 1/13 2/10 1998 3/10 60 7/1 7/29 1997 8/26 9/23 10/21 11/18 12/16 1/13 2/10 1998 3/10 60 -- - OLD PARADIGM Growth needs to be moderate, or slowed, to avoid a rise in inflation. NEW PARADIGM -- Growth can be strong, even accelerate, without a rise in inflation because of investment, productivity growth, competition and technological innovation. August 1997 Pessimist Optimist Optimist Pessimist View of the economy: INFLATION is about to break out! It's hiding in the lags. Inflation is probably coming; but how soon is hard to tell. It's a new era: productivity growth is taming inflation. DEFLATION is here! There's no pricing power. Global capacity glut looms ahead. View of the Fed: Behind the curve; providing too much liquidity. Doing a good job; maybe they can pull this off for a few more quarters Doing a great job! Greenspan is a genius! Maybe they can pull this off forever Way too tight; only making the deflation worse. Response to low inflation and strong activity (e.g., 8/13 PPI and retail sales) Sells stocks short; sells bonds short at low yields. Buys stocks and bonds on dips; sells them on rallies. Buys loads of stock and some bonds whenever possible. Sells stocks short; buys Treasuries. Portfolio consistent with outlook: Leveraged: 60% short stocks 40% short bonds Cash, trading in & out of: 60% long stocks 40% long bonds Leveraged: buy and hold 60% long stocks 40% long bonds Leveraged: 60% short stocks Unleveraged: 40% long bonds Result to date: CRUSHED Keeping up with the indices Beating the indices NEGATIVE RETURNS: losses in short stock positions overwhelm profits in long bond position NOW Page 5 Implied Yields on Fed Funds Futures Contracts Percent Percent 5.8 5.8 August 19, 1997 5.7 5.7 March 27, 1998 5.6 5.6 5.5 5.5 5.4 5.4 January 9, 1998 5.3 5.3 5.2 5.2 5.1 Aug 97 Oct 97 Jan 98 Mar 98 May 98 Jul 98 5.1 Sep 98 U.S. Treasury Yield Curves 6.8 Percent 6.8 6.6 6.6 Percent Percent 6.4 6.4 August 19, 1997 6.2 6.2 6.0 6.0 March 27, 1998 5.8 5.8 5.6 5.6 5.4 5.4 January 9, 1998 5.2 5.0 5.2 2 3 30 5.0 Page 6 Positive Carry of On-the-Run Treasuries Percent Percent March 21, 1997 March 27, 1998 10-Year On-the-Run Yield Fed Funds Target Term to Date RP Rate 10-Year On-the-Run (5-day moving average) 10-Year Settlement Dates 18-Mar-97 30-Apr-97 12-Jun-97 25-Jul-97 March 21, 1997 Percent 20-Oct-97 5-Sep-97 16-Jan-98 March 27, 1998 Percent 7 3-Dec-97 3-Mar-98 Percent 7 Yield Curve 66 Yield Curve Fed Funds Target (5.25%) Fed Funds Target (5.50%) Term to Date RP Rates Term to Date RP Rates 23 30 5 23 5 Positive Carry in Basis Points 2 Year 3 Year 5 Year 10 Year 30 Year 3/21/97 164 140 142 250 215 3/27/98 31 68 68 226 91 Page 7 Forecast and Actual Federal Budget Receipts 1997 Forecast Percent ($Billions) Error* Treasury as of Oct 96 338.5 3.0% Board as of Dec 96 333.0 FRBNY as of Dec 96 333.0 January - March Actual April - June Forecast ($Billions) Percent Error* Treasury as of Feb 97 443.3 10.7% 4.6% Board as of Mar 97 460.0 7.3% 4.6% FRBNY as of Mar 97 452.0 8.9% 496.4 Actual 349.1 1998 January - March April - June Forecast ($Billions) Forecast ($Billions) Percent Error* Treasury as of Oct 97 376.0 0.3% Treasury as of Mar 98 525.6 Board as of Dec 97 369.0 2.2% Board as of Mar 98 516.0 FRBNY as of Dec 97 366.7 2.8% FRBNY as of Mar 98 547.6 Preliminary Actual 377.2 *Percent error = ((Actual-Forecast)/Actual)*100 Forecasts of Daily Treasury Balances April 9 - May 20, 1998 $billions $ 70 60 70 60 New York Estimates 50 50 1998 40 (1997 Actual Actual Balance) 1998 Maintenance Periods 30 40 30 Board Estimates 20 20 10 10 0 4/9 4/13 4/15 4/17 4/21 4/23 4/27 4/29 5/1 JB,VJC 3/27/98 5/5 5/7 5/11 5/13 5/15 5/19 0 APPENDIX 2 Chart used by Mr. Kohn in his presentation M2 Growth Percent Ratio Scale Percentage Points Ratio Scale 2.10 M2 Velocitu ty (left scale Quarterly 6 2.05 4 2.00 2 1.95 M2 Opportunity Cost (right scale) 1994 1996 97H1 97Q3 97Q4 1995 1996 1997 1998 98Q1 *Two-quarter moving average. Possible Reasons for Velocity Decline * Special factors * Flat yield curve * Asset portfolio rebalancing * Income or spending scale variable * Noise in the relationship M2 Growth and Nominal GDP Growth(Q4 to Q4) Percent ..... Percent M2 Nominal GDP 16 12 4 0 1962 1966 1970 1974 1978 1982 1986 1990 1994 1998
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