BPV Capital Market Update - May 2016

BPV Capital Market UpdateM

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GLOBAL MARKET SUMMARY

CONFIDENTIAL INFORMATION | © 2016 BPV Capital Management. All rights reserved. Institutional only. 2

Stabilizing global economy pushed equities and interest rates higher in May

United StatesEconomic: Economic data in May came in better than expected overall, with retail sales rebounding and housing data being particularly strongBusiness Cycle: Late-cycle dynamics are taking shape and the domestic economy looks poised for an extended late cycle.

Equities

US Equities continued their momentum from April and were up another 1.8% in May as economic data improved. Poor Q1 earnings growth did not have a large effect on the market as whole.

Fixed Income

US short-term interest rates increased with positive economic data and hawkish Fed minutes. Long-term rates remained low as inflation expectations decreased in the month.

Mortgage Backed Securities

Mortgage Backed Securities outperformed US Treasuries as demand during the month was very strong.

Currencies

The dollar was stronger in the month due to the hawkish Fed minutes and increase in interest rates.

Volatility

The VIX and OVX are near one-year lows as equities and oil continue their recent rallies.

Commodities

Oil continued to rally as US production declines, but a stronger dollar pressured other commodities during the month.

Europe

While Greece headlines did not produce meaningful action within the country, they did support equities and led Europe to outperform the US for the second straight month.

China

Chinese economic data was mixed in the month as PMI and trade data remains weak while retail sales are strong. The yuan depreciated by 1.66% in the month due largely to dollar strength.

May 2016

CHART OF THE MONTH


Rate hike probabilities spiked in May after the FOMC’s April minutes suggested that a June rate increase was still a possibility. This caught investors off guard because Yellen had been very dovish in all of her public appearances since the March Fed meeting, and the May employment report was mixed with strong wage gains but a slowdown in job growth.

As you can see in the adjacent chart, following the March Fed meeting the market implied probability of a June rate hike fell from 53% to just 4% the day before the April minutes were released. After the April minutes were released, the probability shot up all the way back to 34% before drifting slightly lower into the end of the month.

This unexpected hawkishness from the Fed impacted most asset classes. The dollar strengthened versus most currencies, short-term yields increased, gold fell over 6%, and rate sensitive sectors like utilities began to underperform while banks outperformed.

So what caused the Fed to change their position? Economic growth in Q2 is showing signs of rebounding from the weakness in Q1, with notable strength in housing and retail sales. Financial conditions have eased considerably from the volatile first few months of the year. Concerns over global growth have eased with China stabilizing and Europe and Japan both posting better than expected growth in Q1. All of these things point to the possibility of a rate hike happening sooner, rather than later.

On the other hand, the Fed has made it very clear through their actions earlier this year that they do not like global uncertainties. With that being said, will the Fed be willing to raise rates at the June meeting, just days before British citizens head to the polls to decide if the UK will remain in the European Union?

Chance of summer rate hike drastically increased in May

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EQUITY PERFORMANCE


Data as of May 31, 2016

PRICE 1 MONTH QTD YTD 1 YEAR

S&P 500 2,096.96 1.80% 2.19% 3.57% 1.71%

Consumer Discretionary 628.78 0.14% 0.28% 1.88% 5.69%

Consumer Staples 539.07 0.77% (0.52%) 5.02% 10.78%

Energy 496.54 (0.58%) 8.07% 12.41% (10.13%)

Financials 319.34 2.03% 5.50% 0.16% (1.33%)

Healthcare 822.36 2.20% 5.19% (0.60%) (3.29%)

Industrials 483.71 (0.48%) 0.41% 5.42% 3.29%

Information Technology 733.57 5.60% (0.09%) 2.51% 3.12%

Materials 293.99 (0.29%) 4.65% 8.43% (5.02%)

Telecommunications 167.07 0.02% (2.09%) 14.18% 11.80%

Utilities 248.16 1.51% (0.94%) 14.48% 14.63%

Russell 2000 1,154.79 2.25% 3.86% 2.27% (5.98%)

Europe (Stoxx 600) 347.45 2.67% 4.59% (2.71%) (10.05%)

Germany (DAX) 10,262.74 2.23% 2.98% (4.47%) (10.08%)

China (Shanghai Composite) 2,916.62 (0.70%) (2.84%) (17.53%) (38.69%)

Japan (Nikkei) 17,234.98 1.74% 1.18% (10.16%) (16.05%)

FIXED INCOME PERFORMANCE


1 MONTH QTD YTD 1 YEAR

Barclay's US Treasury 1-3 YR (0.11%) (0.07%) 0.83% 0.81%Barclay's US Treasury 7-10 YR (0.09%) (0.17%) 4.50% 5.19%Barclay's US Treasury 20+ YR 0.85% 0.32% 8.83% 10.38%BofAML 1-3YR Agency and Treasury (0.10%) (0.07%) 0.83% 0.82%Bloomberg Corporate Bond Index (0.10%) 1.27% 5.24% 3.61%Bloomberg High Yield Bond Index 0.58% 4.50% 8.36% (0.20%)

YIELD 1 MONTH QTD YTD 1 YEAR

US 2 YR 0.88% 0.78% 0.72% 1.05% 0.61%US 5 YR 1.37% 1.29% 1.20% 1.76% 1.49%US 10 YR 1.85% 1.83% 1.77% 2.27% 2.12%US 30 YR 2.65% 2.68% 2.61% 3.02% 2.88%5 YR Breakeven 1.49% 1.60% 1.51% 1.28% 1.61%10 YR Breakeven 1.58% 1.71% 1.63% 1.58% 1.83%Germany 0.14% 0.27% 0.15% 0.63% 0.49%France 0.48% 0.63% 0.49% 0.99% 0.79%Italy 1.35% 1.49% 1.22% 1.59% 1.85%Spain 1.47% 1.59% 1.43% 1.77% 1.83%UK 1.43% 1.60% 1.42% 1.96% 1.81%Japan (0.12%) (0.08%) (0.04%) 0.26% 0.39%Data as of May 31, 2016

CURRENCIES PERFORMANCE




USD/JPY 110.73 3.97% (1.63%) (8.15%) (10.81%)

EUR/USD 1.11 (2.79%) (2.18%) 2.54% 1.33%

GBP/USD 1.45 (0.88%) 0.86% (1.78%) (5.28%)

USD/CHF 0.99 3.54% 3.34% (0.75%) 5.70%

USD/CAD 1.31 4.28% 0.68% (5.50%) 5.13%

USD/SEK 8.33 3.75% 2.65% (1.49%) (2.18%)

AUD/USD 0.72 (4.85%) (5.52%) (0.94%) (5.38%)

DXY Index 95.89 3.02% 1.38% (2.83%) (1.05%)

JPMorgan Emerging Markets Currency Index 66.59 (4.19%) (2.69%) 1.47% (10.67%)

COMMODITIES PERFORMANCE



Bloomberg Commodity Index 85.34 (0.21%) 8.26% 9.54% (15.46%)

Natural Gas USD/MMBtu 2.29 (1.46%) 6.27% (8.22%) (24.49%)WTI USD/bbl. 49.10 5.16% 20.67% 19.20% (21.67%)Brent USD/bbl. 49.89 4.50% 21.03% 19.61% (28.47%)WTI-Brent USD/bbl. (0.59) (2.21) (1.26) (0.46) (5.26)Gasoline USd/gal. 161.34 0.31% 10.59% 6.17% (17.33%)Heating Oil USd/gal. 149.71 7.37% 22.56% 21.07% (25.94%)

Copper USd/lb. 209.55 (8.23%) (4.36%) 0.14% (23.88%)Aluminum USD/MT 1,556.00 (7.33%) 2.37% 5.63% (10.57%)Zinc USD/MT 1,919.75 (0.79%) 5.79% 21.60% (12.98%)Nickel USD/MT 8,398.50 (10.92%) (0.99%) (1.59%) (34.12%)

Gold USD/t oz. 1,215.32 (6.05%) (1.41%) 13.09% 2.08%Silver USD/t oz. 16.00 (10.37%) 3.62% 15.30% (4.50%)Platinum USD/t oz. 979.40 (9.01%) 0.38% 10.85% (11.95%)Palladium USD/t oz. 547.07 (12.16%) (3.02%) 1.22% (29.62%)

Corn USd/bu. 404.75 3.32% 13.77% 11.27% 3.52%Soybean USd/bu. 1,078.50 4.73% 17.52% 24.29% 16.56%Live Cattle USd/lb. 118.05 5.00% (1.77%) (4.59%) (18.53%)Cocoa USD/MT 3,026.00 (6.37%) 2.75% (2.89%) 0.17%Coffee USd/lb. 121.55 0.04% (6.18%) (5.00%) (13.09%)Lean Hog USd/lb. 81.45 (0.40%) 0.80% 4.79% 3.23%Sugar USd/lb. 17.49 7.17% 13.20% 21.54% 27.76%Wheat USd/bu. 464.50 (4.91%) (3.38%) (1.64%) (11.57%)Cotton USd/lb. 63.94 0.27% 9.66% (0.42%) (2.37%)


MACROECONOMIC SUMMARY

United States

• GDP: First quarter GDP was revised higher from last month’s initial estimate, increasing to 0.8% from 0.5%. Initial estimates for second quarter GDP are showing a significant rebound in activity and data has been positive. The first Q2 GDP release is July 29.

• Employment: The April employment report showed job growth has slowed down to a more moderate pace, with the economy adding 171k jobs in April. Wage growth is showing signs of picking up and recorded a strong 2.5% YoY growth in April.

• Consumer: The consumer sector rebounded after a rough start to the year and retail sales had their highest reading since March 2015 at 1.3%. Personal spending grew by 1% MoM in April, the highest reading since August 2009.

• Housing: Housing data showed broad-based strength in the month with pending homes, new homes, and existing homes all growing at a very strong pace. New home sales were particularly strong, growing at their highest levels since 2009 with 16.6% growth MoM.


Economic data in the US is beginning to improveRetail sales have improved from poor Q1

April housing data showed a significant MoM increase

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BUSINESS CYCLE


Currently in beginning stages of prolonged late cycleOperating margins continue to decline

Lack of inflation could prolong late cycle

Indicators of the Late Cycle• Above trend rates of inflation• GDP and Industrial Production begin to hit slower

growth rates• Monetary policy tightens• Profit margins deteriorate• Inventories tend to build unexpectedly as sales decline• During the late cycle equities historically average annual

returns of 5%, slowing down from 15% a year in the mid-cycle.

Late Cycle Transition: We believe that the US economy is currently at the beginning of the late stage of the business cycle. The economy is showing signs of moderating, with profit margins starting to decline, lackluster GDP growth, and poor manufacturing data. While inflation is currently increasing and the Fed is at the beginning of a tightening cycle, both are occurring at a much slower pace than usual.

• The late cycle typically lasts roughly one year in length before transitioning to a recession, but the lack of inflation and monetary tightening suggests the business cycle, specifically the late cycle, could last longer than its historical average.

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EQUITIES


Equities up in May amidst positive economic environment

Valuations at highest levels since the financial crisis

Financials rallied with Fed minutes, utilities underperformedFirst Quarter Earnings: Earnings announcements for the first quarter are virtually finished, with only six companies left to report. First quarter earnings were overall very poor, showing a 6.9% decline YoY. The energy sector was the largest detractor, however financials and materials reported 12.2% and 14.5% contractions respectively. One bright spot was consumer discretionary, which had 20.9% growth YoY. The poor first quarter has led to downward revisions for 2016 as a whole, with 2016 earnings growth now expected to come in at just 0.81%.

Information Technology: After losses of over 6% in April, tech rebounded in May to be the best performing sector. Large-cap names that caused the April losses also led to the May gains, with Apple and Google both posting gains better than 5% during the month.

Banks: Regional banks performed very well as strong economic data increased the chances of a summer rate hike. Since the release of the Fed minutes on May 18, regional banks have increased by 6.7%.

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FIXED INCOME


Short-term interest rates increased with Fed expectationsThe yield curve flattened in MayYield Curve: Interest rates in the front end of the curve increased

in May as Fed minutes suggested that a rate hike might come sooner rather than later. The 2-year saw the largest increase, going from 0.78% to 0.88%. However, the 10-year and 30-year did not move much in the month as inflation expectations decreased and US interest rates look attractive versus other developed economies. The Fed’s minutes suggested that improving economic data would cause the Fed to raise interest rates before market expectations. With economic data coming in positive post-minutes release, interest rates continued to rise. Prior to the meeting markets expected the next increase in December; now market expectations are for a July increase. Interest Rate Changes

1M 2YR 5YR 10YR 30YR

04/29/16 0.15% 0.78% 1.29% 1.83% 2.68%

05/31/16 0.18% 0.88% 1.37% 1.85% 2.65%

Change 0.03% 0.10% 0.08% 0.02% (0.03%)

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“If incoming data were consistent with economic growth picking up in the second quarter…then it likely would be

appropriate for the Committee to increase the target range for the federal funds rate in June.”

- FOMC April Minutes

FIXED INCOME


High yield spreads continue to come down with increases in commodity prices

High yield spreads are now 6.08%High Yield: High yield spreads continued to decrease during the month and are now at 6.08%, down from 7.25% in March and the 8.96% February high. This was largely due to a continued rally in oil that has eased worries on defaults from producers.

• While the spread seems low compared to highs seen in the first quarter of 2016, it is still 0.58% above the five-year average of 5.40% and remains elevated due to the low oil price environment.

Breakevens: 10-year inflation expectations decreased throughout the month from 1.71% to 1.57% despite a large increase in oil prices.

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FIXED INCOME


Interest rate matrix shows yield curves around the worldMaturity

1 2 3 4 5 6 7 8 9 10 15 20 30Switzerland (0.87%) (0.90%) (0.93%) (0.84%) (0.77%) (0.70%) (0.63%) (0.50%) (0.42%) (0.35%) (0.11%) 0.02% 0.18%Netherlands (0.54%) (0.47%) (0.44%) (0.39%) (0.17%) (0.05%) 0.07% 0.22% 0.35% 0.66% 0.75% 0.97%Finland (0.51%) (0.47%) (0.44%) (0.31%) (0.26%) (0.09%) (0.02%) 0.10% 0.24% 0.41% 0.76% 1.00%Sweden (0.61%) (0.44%) (0.19%) 0.10% 0.33% 0.50% 1.30%France (0.49%) (0.44%) (0.40%) (0.32%) (0.19%) (0.12%) 0.01% 0.15% 0.33% 0.48% 0.92% 1.23% 1.43%Greece 7.00% 7.37% 7.18% 7.34% 7.32%Italy (0.17%) (0.08%) (0.02%) 0.10% 0.29% 0.62% 0.84% 1.05% 1.19% 1.35% 1.79% 2.12% 2.53%Spain (0.21%) (0.11%) (0.01%) 0.27% 0.47% 0.51% 0.76% 1.14% 1.29% 1.47% 1.90% 2.35% 2.70%Portugal 0.03% 0.48% 1.04% 1.47% 1.80% 2.30% 2.78% 2.86% 3.05% 3.50% 3.85% 4.04%Germany (0.55%) (0.52%) (0.53%) (0.48%) (0.38%) (0.33%) (0.24%) (0.14%) (0.01%) 0.14% 0.29% 0.56% 0.85%United Kingdom 0.40% 0.43% 0.63% 0.80% 0.90% 1.08% 1.20% 1.33% 1.31% 1.43% 1.93% 2.10% 2.22%Japan (0.27%) (0.25%) (0.24%) (0.24%) (0.24%) (0.23%) (0.23%) (0.21%) (0.16%) (0.12%) 0.03% 0.25% 0.30%China 2.35% 2.43% 2.56% 2.70% 2.74% 2.88% 2.98% 2.98%Russia 9.64% 9.41% 9.40% 9.20% 9.11% 9.02% 8.87% 8.90%India 7.04% 7.12% 7.22% 7.35% 7.47% 7.59% 7.59% 7.60% 7.65% 7.47%Brazil 13.38% 12.86% 12.82% 12.89% 12.94% 13.03% 12.99%Mexico 4.31% 4.32% 4.96% 5.61% 5.78% 5.95% 6.14% 6.50% 6.77% 6.88%Canada 0.60% 0.61% 0.60% 0.67% 0.74% 0.87% 0.98% 1.10% 1.20% 1.32% 1.94% 1.96%United States 0.67% 0.88% 1.03% 1.37% 1.66% 1.85% 2.65%

MORTGAGE BACKED SECURITIES


MBS generally outperformed Treasuries due to high demand

Agency MBS has outperformed Treasuries overall with

lower coupons showing better performance and the market largely shrugging off a potential rate hike this summer. Short duration MBS, however, has exhibited

negative performance due to the large increase in short term interest rates.

Demand remains strong in MBS, helping maintain high valuations. For example, Japan’s MBS purchases were highest since 2010 earlier this month.

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Short-term MBS outperformed Treasuries in May

CURRENCIES


Dollar strengthens with Fed expectations and positive dataEUR/USD at 1.11, USD/JPY above 110

GBP slightly weaker in May with Brexit headlines

USD: The dollar was stronger against most major currencies as the Fed minutes and commentary were more hawkish than expected. The dollar finished the month 3.97% higher versus the yen and 2.79% higher versus the euro. The dollar was also strong against emerging market currencies, gaining 4.19% versus the JPMorgan Emerging Markets Currency Index.

Yen: The yen resumed its weakening trend in May after a Bank of Japan surprise in April and despite surprising economic data as Japanese Q1 GDP came in much higher than expected at 1.7%.

Pound: The pound resumed its weaker trend, declining by 0.88% versus the dollar in May. Brexit polls were largely mixed throughout the month, but the pound slightly weakened as there is still uncertainty regarding the June 23 referendum. Economists expect that a Brexit would be a negative for the UK economy and therefore would weaken the currency, so any downside surprise will cause pound weakness.

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COMMODITIES


Oil continues rally with improving fundamentals, strong dollar hurts other commodities

Base metals resumed weaker trend, Gold weaker with Fed minutes

Oil continues to rally with US production declinesOil: Oil continued to rally throughout the month and has now had its longest run of monthly gains in more than five years. The focus has been on falling US production and declining inventories. OPEC is scheduled to meet in June, but no action is expected after the discord stemming from their previous meeting in April.

• Storage concerns also relaxed during the month, which provided a further tailwind to oil. Inventories declined in May and have now declined 6.3mn barrels from their peak on April 29. However, Cushing inventories did hit a new high on May 13 and still pose a risk to oil prices if the hub were to reach full capacity.

Base Metals: Base metals resumed their weaker trend in May due to the stronger dollar and a return to global growth concerns. While stable, the growth outlook for China remains poor with weaker industrial production and PMI data. China was the primary driver for base metals demand for the last fifteen years, so any growth concerns from the country directly affect base metals prices.

Gold: Gold was one of the worst performing commodities in May, losing 6.1% during the month. This was largely due to the Fed minutes release which caused a stronger dollar and increased chances of a summer rate increase.

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VOLATILITY


The VIX traded in a low range for much of the monthVIX and OVX have hovered near one-year lowsVIX: Both the VIX and OVX (Oil Volatility) have come down

substantially since January YTD highs as oil prices and equity markets have increased. Volatility continues to hover near one-year lows. This further emphasizes the commentary that the recent rally in asset prices has been primarily driven by oil.

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EUROPE


European equities outperformed again in MayGreece: Greece made headlines again as it was announced it formally agreed to bailout measures with creditors. This caused a sharp rally in European equity markets, but that enthusiasm was later dampened as the IMF refuted those reports and insisted they have not yet agreed to anything but further discussions. Nevertheless, European equity markets held their gains and finished the month 2.05% higher.

United Kingdom: Europe is now focused on various Brexit polls on almost a daily basis. Recent polls have leaned towards the Remain camp, but a poll by the Guardian on May 31 showed the Leave camp had a slight lead. This indecision will put further importance on the polls leading up to the June 23 vote.

Europe outperformed again in May

Citi Economic Surprise Index is now positive for Europe

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CHINA


Chinese economy showing signs of stabilizingEconomic Data: Chinese economic data was mixed in May. PMIs remain weak, but May readings came in largely as expected and are consistent with prior readings. Trade data missed expectations and was unexpectedly poor. The one bright spot within the Chinese economy continues to be retail sales, which grew 10.1% YoY in April.

Yuan: The yuan quietly depreciated by the largest amount since August 2015 as it declined 1.66% versus the dollar. As previously mentioned, the dollar was stronger across the board in May which allowed China to depreciate the yuan slowly and without the consequences seen in August’s depreciation.

Equities: Equity markets were essentially flat in May, with the Shanghai Composite losing 0.76%. Equity volumes in May were down by 75% YoY and have remained subdued as Chinese investors have focused on other asset classes, such as commodities.

Equity markets have been quiet in Q2

The yuan slowly depreciated in May

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DISCLOSURES

The Volatility Index (VIX) shows the market’s expectation of 30-day volatility. It is constructed using the implied volatilities of a wide range of S&P 500 index options. You can not invest directly in an index.

The S&P 500 Total Return Index is the total return of the Standard & Poor’s composite index of 500 stocks, a widely recognized, unmanaged index of common stock prices. You cannot invest directly in an index.

The Shanghai Composite is a stock market index of all stocks (A shares and B shares) that are traded at the Shanghai Stock Exchange. You cannot invest directly in an index.

The Russell 2000 Index tracks the stocks of the 2,000 smallest companies in the Russell 3000 index. It is considered the benchmark index of the small-cap U.S. equity universe. You cannot invest directly in an index.

The STOXX 600 tracks 600 publicly-traded companies based in one of 18 EU countries. The index includes small cap, medium cap, and large cap companies. You cannot invest directly in an index.

The DAX (Deutscher Aktienindex (Germanstock index)) is a blue chip stock market index consisting of the 30 major German companies trading on the Frankfurt Stock Exchange. You cannot invest directly in an index.


DISCLOSURES

The Nikkei 225 Stock Average, or Nikkei, is the leading index of Japanese stocks. It is a price-weighted index comprised of Japan’s top 225 blue-chip companies on the Tokyo Stock Exchange. You cannot invest directly in an index.

The Bloomberg US Corporate Bond Index is a rules-based market-value weighted index engineered to measure the investment grade, fixed-rate, taxable, corporate bond market. You cannot invest directly in an index.

The Bloomberg US High Yield Corporate Bond Index is a rules-based market-value weighted index engineered to measure the non-investment grade, fixed-rate, taxable, global corporate bond market. You cannot invest directly in an index.

The Barclay's 1-3 Year Treasury Index is an unmanaged index tracking short-term government securities with maturities between 1 and 2.99 years. You cannot invest directly in an index.

The Barclay’s 7-10 Year Treasury Index is an unmanaged index tracking medium-term government securities with maturities between 7 and 9.99 years. You cannot invest directly in an index.

The Barclay’s 20+ Year Treasury Index is an unmanaged index tracking long-term government securities with maturities greater than 20 years. You cannot invest directly in an index.


DISCLOSURES

JP Morgan Emerging Market Currency Index is comprised of the spot prices of 10 emerging market currencies relative to the U.S. dollar. You cannot invest directly in an index.

The Bloomberg Commodity Index is a broadly diversified commodity price index designed to allow investors to track commodity futures through a single, simple measure. The index is designed to minimize concentration in any one commodity or sector.

The MSCI Emerging Markets Index is a free float-adjusted market capitalization index that is designed to measure emerging markets equity performance. You cannot invest directly in an index.

The opinions expressed are as of the date written and may change as subsequent conditions vary. This paper is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. There is no guarantee that any forecasts made will come to pass. Reliance upon information in this paper is at the sole discretion of the reader.


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Economy & Finance

BPV Capital Market Update - May 2016