Search for yield conf.ppt [Read-Only] · [Presentation main title as per title page] 9 The Drivers to the US Bond Bull Market –Decomposing the Fall in Nominal Yields Charts and

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Is the search for yield a dangerous game?Gary Dugan, Chief Investment Officer, Asia & Middle East

Oct 2012

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Remember this bubble…..

Charts and scenarios are for illustrative purposes only and historical performance is no guarantee for future performance. Please refer to the Important Information at the end of this document for more details.

$9.67“I am financially ruined by this meltdown. Why some people take pleasure in that is beyond me.”Nov-01

$66.00“I have owned Enron since it was formed and will be able to retire next year at 44 when the stock hits $100 so just shut up and buy.”Jun-00

$56.38“The vision of the company 15 years ago was that the returns would be sound for the next 20 years. What an understatement. Hold and enjoy. This is a hundred year investment at worse.”

Jan-00

$35.00“As an Enron employee and a holder of options as well as their stock in my portfolio, I see nothing but wealth ahead. All you naysayers go, there will be others to pick up your future gains.”

Oct-99

$26.47“Enron is a wonderful company, and I am very upbeat as to the company’s long-term potential. I expect that I’ll begin thinking about selling somewhere around 2017.”

Dec-98

Stock PriceAnonymous message on the Yahoo! BoardDate

Source: Felton, Kim; “Warnings from the Enron Message Board”; 2002; Journal of Institutional Investors, Merrill Lynch, Bloomberg

Enron Price History

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100

Apr-88

Apr-89

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Apr-97

Apr-98

Apr-99

Apr-00

Apr-01

Apr-02

Apr-03

Apr-04

Apr-05

0

500,000,000

1,000,000,000

1,500,000,000

2,000,000,000

2,500,000,000

3,000,000,000

3,500,000,000

4,000,000,000

4,500,000,000

5,000,000,000

5,500,000,000

6,000,000,000

Trading Volume (RS)

Enron Stock Price (LS)

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Bond Bubble in the making?


“It might be a bubble but I will know when to get out.”Aug-Oct 2012

“I only want risk-free bonds.”2010

“Soon there will be no government debt left.”2001

“Inflation is structurally falling.”1982-1995

RationaleDate

US10yr Bond Yield (% Inversed)

Source: Bloomberg

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US10yr Bond Yield (%Inversed)

4Charts and scenarios are for illustrative purposes only and historical performance is no guarantee for future performance. Please refer to the Important Information at the end of this document for more details.

US, UK, Japan & German 10yr Govt Bond Yield (%)

Source: Bloomberg

Bond Bull Market – Since 1990

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1990

1991

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14

UK10yr Yield (%)

Japan10yr Yield (%)

German10yr Yield (%)

US10yr Yield (%)

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If you are in a herd you are not alone


FTSE All-Share Index versus Net Fund Flows into UK Investment Funds (Historical)

Source: JPMorgan, Datastream, Feri, Emirates NBD

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12000

14000

2002 2003 2004 2005 2006 2007 Ytd

0

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FTSE All-Share Index (Annual Average RS)

Net fund flows into UK Investment funds (LS)

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If you are in a herd you are not alone


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The Drivers to the US Bond Bull Market – Falling Inflation Expectations

[Presentation main title as per title page] 8

The Drivers to the US Bond Bull Market – Falling Real Yields

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The Drivers to the US Bond Bull Market – Decomposing the Fall in Nominal Yields


US 10yr Govt Bond Yield (%) minus US CPI (YoY%), in %Spread

Source: Bloomberg

Real Yield Low by Historic Standards

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1998

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2012

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-2

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10

US10yrYield - CPI (%spread)

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No surplus just a massive deficit…

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Fair Value for Bonds?


• Yield versus Nominal GDP Growth

• Yield adjustment for quantitative easing

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10-year Bond tracks nominal GDP growth… but a gap has opened


US 10yr Govt Bond Yield (%) vs US Nominal GDP Growth (YoY% Chg)

Source: Bloomberg

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US10yr Yield (%)

US Nominal GDP YoY%


Japan Experience suggests that deviations from “Fair Value” can persist

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Year-on year change in US 10 year total return Index

Source: Bloomberg

Bonds can Lose You Money

-20

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35

1993

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2011

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2013

US10+Yr TR YoY% Chg


US Govt10+yr TR YoY% Chg Relative to US Govt 10yr Yield

Source: Bloomberg

Never have yields been so low after extraordinary returns from bonds

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1994

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2013

-20

-10

0

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30

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US Govt 10y Yield

US10+Yr TR YoY% Chg

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US Govt10yr Yield (%) vs 3y Average Bond Return (%)

Source: Bloomberg


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3y Avg Bond Return (%)

US Govt 10y Yield (%)


Subsequent one year Bond Return (YoY% Chg) vs Average Bond Return *Less 10yr Bond Yield (%)

Source: Bloomberg


*Annual Return, 3yrs Moving Average

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1yr Bond Return (YoY%), 1yr-lagg ing

Average Bond Return *Less 10yr Bond Yield (%)

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Markit US Investment Grade 5yr CDS Spread (bps)

Source: Bloomberg

Credit spreads have narrowed – difficult to say that 2012=2007

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US IG (CDS bps spread)


Markit Asia ex Japan Investment Grade 5yr CDS Spread (bps)

Source: Bloomberg

Asia spread targeting 100bps

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Asia ex Japan IG (CDS bps spread)

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JPMorgan Asia IG & Non-IG Corporates (Ytm%)

Source: Bloomberg


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Asia IG (Ytm%)

Asia Non-IG (Ytm%)


FINRA US IG & High Yield Corporates (Avg Ytm%)

Source: Bloomberg


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US Corporate IG (Avg Ytm %)

US Corporate High Yield (Avg Ytm%)

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Best income idea - Equities

0.7%3.3%Hong Kong

1.6%4.0%UK

1.6%3.5%Germany

0.8%2.1%Japan

1.7%2.1%US

10 year bond yieldCurrent Equity Dividend YieldMarket


Higher income typically requires illiquidity

Invest in a portfolio of Italian bank loans – 17%

Invest in UK bridging loans – 8%

Invest in English Premier League TV rights – 15%

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In summary

Beware the end of the bond bull market – do not follow the herd

Safe income investing is not for capital gains

Equities offer ‘safer’ income

If you are prepared to take illiquidity invest where the banks won’t venture

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Important Information

The above sample scenarios might be over simplified for illustration purposes. Unforeseeable market movements may result in higher potential losses as well as gains. Certain investments carry a higher degree of risk than others and are,

therefore, unsuitable for some investors. Investors should discuss their individual circumstances with the Private Banker before marking any commitments. If in any doubt over a transaction, you should seek independent advice.

The value of investments, and the income from them, can go down as well as up, and you may not recover the amount of your original investment. Past performance, whether actual or simulated, is not necessarily a guide to future performance. Leverage can skew the risks of investments. The risks of any chosen investment strategy and investments may, and in certain instances will, increase significantly if investments are made using borrowed funds. In some instances use of leverage may result in the risks of the investments falling outside and/or exceeding your risk appetite and tolerance. The use of borrowed funds may also impair the ability to execute any chosen investment strategy where you are unable to meet margin top up calls as required.

Where an investment involves exposure to a foreign currency, changes in rates of exchange may cause the value of the investment, and the income from it, to go down or up. In the case of some investments, there is no recognised market for them and it may therefore be difficult for you to deal in them or obtain reliable information about their value or the extent of the risks to which they are exposed.

The securities, collective investment schemes or investment products covered herein are intended solely for non-US investors and are not registered under the US Securities Act of 1933, as amended (the ‘1933 Act’), nor under any similar or analogous law enacted by any state of jurisdiction other than the US. In addition, the securities, collective investment schemes or investment products may not be offered, sold or transferred directly or indirectly in or into the US or to any US person (as defined in Regulation S under the 1933 Act).

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Search for yield conf.ppt [Read-Only] · [Presentation main title as per title page] 9 The Drivers to the US Bond Bull Market –Decomposing the Fall in Nominal Yields Charts and