bond market monthly - citi · bond market monthly⎥ october 7, 2011 3 relative value sector...

Bond Market Monthly

Investment Products: Not FDIC Insured • No Bank Guarantee • May Lose Value

INTERNAL USE ONLY

October 7, 2011

Trapped

Asset Class Views and Recommendations

■ The rally in high quality government bonds fueled by European debt concerns and slowing growth continues. Risk aversion has fueled safe haven demand, while disappointing economic data has driven inflation expectations lower. We expect interest rates to remain low for an extended period of time.

■ Central banks continue to employ non-traditional measures. The Federal Reserve has supplemented its latest efforts with a duration-extension program (Operation Twist). The Bank of England and the European Central Bank have both resurrected bond purchase programs.

■ Declining trading volumes have exacerbated volatility in the less liquid fixed income markets. This includes emerging market debt, where spreads have significantly widened and prices continue to fall. Despite improved credit quality and lower default risks, we still expect emerging market bonds to remain under pressure.

■ Long duration high grade corporate debt remains our top conviction, as low interest rates and strong underlying fundamentals are likely to drive outperformance. We expect fiscal and geopolitical concerns to keep the financial sector volatile; favor defensive non-cyclical sectors.

Source: Citi Private Bank Global Fixed Income Strategy. CMBS = commercial mortgage-backed security.

Global Head, Fixed Income Strategy Michael Brandes +1-212-559-1098 [email protected]

Kris Xippolitos +1-212-559-1277 [email protected]

Figure 1. Market performance views and recommendations

Sectors Focus recommendations Developed market (core) sovereigns Risk aversion, slow growth and fading inflation to keep rates low; Curves to bull-flatten, esp. in Europe; Favor long Gilts

EU periphery sovereigns Yields and CDS to stay at record highs; Current proposals not sufficient to stabilize periphery; Avoid any exposure

Developing market sovereigns EM markets under pressure due to capital flight fueled by growth fears and EU periphery; Stay defensive in higher quality issuers

Global inflation-linked Breakevens have fallen as growth prospects decline; Inflation expectations to drop further; Should underperform nominals

Supranationals/US agencies Valuations are historically attractive; Prefer 7-10yr US agencies, callable GSE debt and non-European supranationals

Agency mortgage-backed Higher refi’s and potential government actions fueling volatility; Favor high coupon pass-thrus & short-dated CMO supports

Asset-backed/CMBS Still attractive valuations for asset backed bonds and CMBS; Favor AAA auto and credit card ABS, and AAA CMBS

Global covered debt Pressure on EU periphery issuers to continue to weigh on covered bond spreads; Favor Canadian and Core EU issuers

High grade corporates Fundamentals remain solid and valuations have become more compelling; Favor long-dated bonds and defensive sectors

High yield corporates We remain cautious near-term and await a better entry point despite improved valuations; Favor BB issuers

Hybrid debt securities Volatility to stay high with financials under pressure and regulatory uncertainty; Prefer US vs. European hybrids

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Bond Market Monthly⎥ October 7, 2011 2

Relative value sector recommendations

Figure 2. High quality DM sovereigns have outperformed… Figure 3. …as long-dated government yield plummet

Source: The Yield Book. Source: Bloomberg.

3.08

4.445.32

7.257.91

8.86

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Corps Agencies MBS ABS Bunds Treasuries Gilts

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Jan-11 Apr-11 Jul-11 Oct-11

Yie

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30-year US Treasury25-year UK Gilt30-year German Bund

Sovereign debt Comments and recommendations Developed markets

The rally in high quality government bonds fueled by European debt concerns and slowing growth continues. Safe haven sentiment has fueled risk aversion, while disappointing economic data has driven spot and forward inflation expectations lower. Futures markets have decisively shifted from discounting central bank rate hikes to rate cuts (e.g., at the ECB). Even in emerging nations – where inflation pressures are more prevalent– tighter monetary policy has been postponed, and some easing has transpired (e.g., Brazil and Turkey). These conditions have generated a rally that has been nothing short of stunning since the end of July. The 30-year US Treasury yield has declined by 55% since its peak on February 10, and 10-year yields fell to a record low of 1.72%. Sovereigns have posted the largest gains in the market this year, led by UK Gilts, US Treasuries, and German Bunds (Fig 2).

Our thesis is unchanged – we expect interest rates to remain low (and trend lower still) for an extended period of time. We expect flatter yield curves as even lower long-term government rates discount declining growth and earnings expectations. Forward curves and consensus currently reflect a more optimistic scenario than we believe. If our assumptions are correct, high quality bond markets are poised to capture additional gains.

Demands for fiscal austerity ensure that faltering growth prospects will not be offset by new government stimulus. Political leaders in Western countries face massive structural deficits requiring deep cuts in expenditures to appease credit rating analysts and an angry electorate. This features prominently in the UK, where fiscal belt-tightening has inhibited growth (2Q GDP reported on October 4 was 0.1%). In the United States, where the spending debate has fostered a tense political stalemate ahead of the presidential election next year.

The onus continues to be on central banks. Policymakers are doing everything possible to support recoveries and avert deflation. On August 9, the Fed committed to keep its policy rate at zero until mid-2013, and on Sept 21 announced a $400 billion effort to swap short term Treasury debt (less than 3-years to maturity) on its balance sheet for longer-dated (6-year to 30-year) bonds. The Bank of England has followed the Fed’s example. On October 6, the BoE announced that it would not only restart bond purchases, but also increase the size of its program. The nine-member Monetary Policy Committee increased the purchase ceiling by £75 billion to £275 billion, the largest expansion since stimulus began in March 2009. On the same day, the ECB kept their overnight rate at 1.5% and restarted their covered bond purchase program. We expect the ECB to cut its overnight rate back to 1.0% by year-end.

Rating agency actions in the Eurozone have exacerbated fragile market sentiment focused on looming government deficits and anemic growth. Moody’s Investors Service cut Italy’s credit rating by three notches on October 4, from Aa2 to A2 (this follows Standard & Poor’s downgrade of Italy’s debt on September 20), citing the huge challenges it faces to reduce the EU’s second largest debt burden. While the downgrades to Italy’s debt were not entirely unexpected (we discussed it here 4 months ago), Moody’s also said that “all but the strongest euro-area sovereigns are likely to face sustained negative pressure on their ratings.” This is an ominous warning for the Eurozone, since lower credit ratings typically drive borrowing costs higher.

Headline risks are poised to remain intense with periphery countries on the precipice, Combined with slower growth, we expect highly-rated (core AAA) EU sovereign markets to post gains. At the long end of the curve, we continue to favor UK Gilts given our view that increased QE measure will push yields lower, and as worsening economic prospects generate lower inflation pressures.

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Figure 4. Quality divergence between EM and DM has narrowed Figure 5. US forward breakeven rates have declined sharply


-0.465

-0.415

-0.365

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Sep-09 May-10 Jan-11 Sep-11

WGBI S&P Rating (LHS)

ESBI S&P Rating (RHS)

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AA

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2.25

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3.25


Rat

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5y5y US Forward Breakevens

Sovereign debt Comments and recommendations Emerging markets September was challenging for EM debt. Global dollar-denominated debt widened by 115 basis points and prices fell

by nearly 6.5 points, producing a 5% loss in September. Returns have fallen to 2.2% YTD, after peaking at 7.5% through the start of September. The sell-off has been driven by flight to quality and liquidity as concerns about the European debt crisis escalate. EM markets have enjoyed massive inflows during the last few years ($170 billion). Last week, EM funds faced $3.5 billion of redemptions, the largest weekly outflow on record,.

Local markets have fared better than external debt. In local currency terms, these markets were lower by only 0.5% in September. That said, investors who did not hedge currency exposures fared poorly. Currency spot rates fell by more than 7% last month (in US$ terms), generating an 11% decline in local market debt. In our view, EM will remain under pressure as prevailing uncertainties persist. Potential underperformance will continue to be more technical than fundamentally-driven. Default risks have fallen and credit quality among EM issuers has improved enough to converge with many developed nations (Fig. X). Although we favor EM debt over the long-term, returns are likely to be limited until some stability returns to global markets. In this climate, we prefer US dollar denominated EM bonds issued by highly-rated countries (i.e. Mexico, Brazil and Malaysia).

Inflation linked Comments and recommendations The impressive gains garnered by inflation-linked government debt during the first half of this year have recently

been eclipsed by gains in conventional government bonds. The reversal is due to downward revisions of global growth expectations and slowing activity in the emerging world. This has prompted a broad decline in commodity prices and a compression in spot breakeven spreads. Forward breakeven rates have also declined across the board, led by the United States where 5-year/5-year forward breakevens fell by around 100 basis points during the last few months (Fig. 5). Lower liquidity compared to nominal debt also plays a role in the performance of these securities since the I/L sector typically does not benefit from heightened flight-to-quality demand (even though these are direct government obligations). While a few upward surprises to inflation data has boosted short-term breakeven rates recently (particularly in Europe, due mostly to Italian inflation and energy prices), these trends will fade during the fourth quarter, in our view. Even though breakevens have largely retreated below long-term norms, we are reluctant to add exposure as we expect conventional government debt to outperform.

Gov’t related Comments and recommendations Supranationals/ agencies

US agency debt spreads are near a 12-month high as even high quality spread markets fail to track the rally in government debt. While uncertainties about housing finance in the United States persists, credit risks are almost entirely mitigated in the sector by strong issuer ties to the federal government. Indeed, the housing-related finance companies that issue this debt (largely Fannie Mae and Freddie Mac) retain AAA ratings since they were placed in government conservatorship in 2008. Investors seeking a high quality substitute for US Treasury debt should consider agency securities; we favor long-dated agency bullets. While supranational bond spreads overall have risen to their highest levels in more than two years overall, the market is clearly making a distinction between European and non-EU issuers. European debt trades at nearly twice the risk premium given investor worries about the impact of the debt crisis on that continent. A strong appetite for AAA supra’s will continue to exist given the multiple sovereign backing and the credit-enhancing structures of these entities. However, since headline risks are poised to remain center-stage in Europe, we favor adding exposure to high quality non-EU names.

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Figure 6. Even high quality CMBS has deteriorated Figure 7. Covered bond spread remain near all-time highs

Source: Barclays Capital. Source: Barclays Capital.

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175

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275


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(bp)

BarCap US CMBS AAA Index

250

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100

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250


Spr

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(bp)

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Germany Covered Bond Spreads (LHS)France Covered Bond Spreads (LHS)Spain Covered Bond Spreads (RHS)

Securitized Comments and recommendations Securitized debt markets are benefitting from the up-in-quality demand fueled by global growth and geopolitical

uncertainties. The Federal Reserve’s surprise decision to reinvest maturing proceeds from its massive $2.65 trillion portfolio into agency mortgage backed securities (MBS) beginning on October 3 bolsters market technicals (i.e.; the supply/demand outlook) in conventional bonds well into next year. Overall, mortgage valuations remain attractive, in our view, despite concerns about potentially higher prepayment rates driven by lower long-term borrowing costs. Refinancings in the US have risen to their highest levels since November 2010.

Asset backed securities remain relatively stable compared to the volatility witnessed in rates and other spread markets. Demand for on-the-run benchmark names continues to be driven by investors seeking highly-rated short-dated paper. As a result, spreads have held in well. We continue to recommend that investors avoid student loan ABS and off-the-run issues. While we expect low absolute yields and a large new issuance pipeline in ABS to limit gains near term, we favor credit card and auto loan ABS for fixed income investors seeking high quality, short-term instruments. Worsening economic prospects and higher market volatility have prompted us to become more cautious about commercial mortgage backed securities (CMBS) (Fig. 6). While AAA CMBS valuations are fundamentally at their most attractive levels in more than a year, the sector remains a high-beta asset class that is especially vulnerable to sudden broad-based market selloffs. Given prevailing macro uncertainties, we suspect that there will be a more attractive entry point for investors seeking to add CMBS exposure.

Covered debt Comments and recommendations Spreads in the euro covered bond market remain near all-time highs (Fig. 7). That said, the sell-off slowed in recent

weeks due to rising expectations that the European Central Bank would restart a covered-bond purchase program. As such, on October 6, ECB president Jean-Claude Trichet announced a €40 billion purchase program for both primary and secondary markets. The program is expected to begin in November and terminate by October 2012. In 2009, the ECB purchased €60 billion of covered bonds in an effort to bolster bank balance sheets and encourage lending activity. While the new program is likely to generate some spread tightening near term (especially among core AAA euro-nation issuers), it is likely to be short-lived, in our view. The high quality structure inherent to covered debt should appeal to today’s risk-averse investors. However, uncertainty in the Euro-periphery is bound to continue and cause upward pressure on spreads. Given the magnitude of current uncertainties, we recommend that fixed income investors limit portfolio exposures to core developed European countries and Canadian issuers. We favor covered bonds from highly rated countries like Germany (e.g. Pfandbriefe). Although these securities feature less compelling valuations, they are likely to be more resilient in a choppy market environment and retain superior liquidity compared to periphery covered debt.

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Figure 8. US corporates have fared better than Euro issuers Figure 9. Corporate leverage has substantially declined


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USBIG Corp Index Price (LHS)EuroBIG Corp Index Price (RHS)

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Oct-01 Oct-03 Oct-05 Oct-07 Oct-09 Oct-11

Per

cent

(%)

Net Debt to EBITDA

Corporate debt Comments and recommendations Investment grade Global high grade corporate spreads continued to widen by 50bp in September, rising to 290 basis points. Despite

the widest spreads since July 2009, bond prices continued to be resilient. Prices declined by only one point as yields rose by 30 basis points to just under 4.0%. US corporates continued to outperform as the market participants demand higher risk premiums for European securities due to deep concerns about the troubled periphery countries. Year to date, US corporates have outperformed Euro corporates by 315bp (6.05% vs. 2.91%, respectively), and bond prices are still higher year-to-date (Fig. 8).

High grade corporate debt remains our strongest conviction for fixed income investors. Notwithstanding the volatility in bank and finance sectors, the fundamental backdrop for corporate balance sheets continues to improve. Most companies have taken advantage of the low interest rate environment to refinance debt, extend debt maturities and enhance liquidity profiles. Cash balances remain high and debt leverage ratios are much-improved. For example, net debt to EBITDA (a key gauge on leverage) for industrial companies in the S&P 500 is at its lowest level since 2001 (Fig. 9).

We favor corporate bond with longer dated maturities (consistent with our preference for long duration high quality securities). We expect interest rates in the core developed nations to remain low (or move lower) for the foreseeable future and expect corporate bond spreads to normalize over time. Current spread levels are mainly a reflection of the rally in risk-free rates (as we mention above, bond prices have been resilient). When the market’s focus finally shifts away from concerns about Europe to slowing global growth, we expect corporate bond spreads to compress.

We are aware that spread valuations appear more compelling in intermediate-term maturities. Spreads in the broad corporate index are virtually flat past three years (and, in some instances, invert). That said, potential returns from any change in spread only partially impacts corporate bond total returns. The longer the duration of a fixed income security, the more sensitive that security becomes to changes in interest rates. Thus, if interest rates decline, an investor would garner a larger total return with longer-dated debt. As our expected return analysis shows, a decline in interest rates and spread compression causes longer term bonds to greatly outperform (Fig. 13). If interest rates rise due to an improved growth environment, corporate spreads would compress and attractive coupon returns would be poised to buffer potential principal losses.

Despite relatively strong balance sheets and limited exposures to euro-periphery debt in the US, we expect the entire bank and finance sector to continue to underperform. Indeed, further spread widening is likely even among the highest quality financial issuers. We expect volatility to persist until a substantial resolution for the European periphery occurs. We still prefer US versus European financials, and expect senior debt to outperform subordinated issues, especially as prospects for EU bank recapitalization intensifies.

We continue to favor defensive non-cyclical sectors, such as tobacco, food and healthcare. We also recommend cable/media issuers due to their relatively better resilience during periods of economic uncertainty.

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Corporate market expected total return analysis Figure 10. Current spread levels remain constant

Figure 11. Spreads widen as yields fall, tighten as yields rise Assumes recent spread/UST correlation continues, +/- 50bps of spread change

Maturity Ranges Changes in

interest rates Market 1-5 yrs 6-10 yrs 11-20 yrs 21+ yrs

down 50bp 7.77 3.51 8.11 12.28 15.06

down 25bp 5.72 3.26 6.58 7.98 8.83

no change 4.26 2.84 5.13 5.50 5.34

up 25bp 3.37 2.44 4.25 4.11 3.51

up 50bp 1.98 2.01 2.84 1.76 0.28

Maturity Ranges

Changes in interest rates Market 1-5 yrs 6-10 yrs 11-20 yrs 21+ yrs

down 50bp 4.83 2.61 5.23 7.33 8.03

down 25bp 2.92 2.37 3.75 3.32 2.40

no change 4.26 2.84 5.13 5.50 5.34

up 25bp 6.20 3.34 7.10 8.83 10.05

up 50bp 4.71 2.89 5.64 6.32 6.49

Source: The Yield Book. Source: The Yield Book.

Figure 12. Spreads widen across all rate scenarios Assumes moderate fundamental credit deterioration credit, 50bps of widening

Figure 13. Corporate spreads tighten across all rate scenarios Assumes Europe debt crisis is over, market normalizes, 50bps of tightening

Maturity Ranges Changes in

interest rates Market 1-5 yrs 6-10 yrs 11-20 yrs 21+ yrs

down 50bp 4.83 2.61 5.23 7.33 8.03

down 25bp 2.92 2.37 3.75 3.32 2.40

no change 1.55 1.95 2.35 1.00 -0.77

up 25bp 0.71 1.56 1.50 -0.31 -2.43

up 50bp -0.60 1.13 0.14 -2.51 -5.37

Maturity Ranges

Changes in interest rates Market 1-5 yrs 6-10 yrs 11-20 yrs 21+ yrs

down 50bp 10.91 4.42 11.09 17.53 22.80

down 25bp 8.70 4.17 9.50 12.93 15.92

no change 7.14 3.74 8.00 10.30 12.07

up 25bp 6.20 3.34 7.10 8.83 10.05

up 50bp 4.71 2.89 5.64 6.32 6.50


Assumptions: 12-month time horizon, parallel yield curve shifts up and down 50 basis points, reinvestment at 3M T-Bill rate (US) Xxxxxxxx – Base case scenario 1. Citi Broad Investment Grade Credit Index is used as the market.

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Figure 14. Higher quality double-B issuers have outperformed Figure 15. Hybrids have sold off as Euro concerns escalate

Source: The Yield Book. Source: Bloomberg; Wells Fargo.

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BB B CCC

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Wells Fargo Hybrid Financial Index (LHS)SOVX Western Europe (RHS)

WHPSF vs. SOVX R2: -0.71

High yield Comments and recommendations High yield corporate debt continued to face steep declines in September as prices declined by more than six points.

High yield securities fell by 3.0% last month, lifting its decline to 6.5% since the beginning of August. The negative momentum has clearly carried over into the early stages of October (the market is lower by another 1.5% as we go to press). The high yield corporate index yield eclipsed 10% on October 4, its highest since October 2010. Global high yield spreads are now approaching 900 basis points (bp); European high yield bonds are already well above 1000 bp, its widest since September 2009.

Slowing global growth and uncertainties about the European periphery have been the principal drivers behind the sharp correction in high yield debt. Although current spread and absolute yield levels have become more compelling, we are still reluctant to recommend that investors add exposure. Headline risks are not poised to recede, which will weigh heavily on high yield debt despite attractive fundamentals. For example, we don’t expect to see a forceful resolution in the Euro-zone that would calm volatility anytime soon, and political uncertainty in the US will heighten in coming months.

We remain underweight high yield. Investors seeking allocations to this sector should continue to focus on double-B rated issuers. Double B issuers have outperformed the broad high yield market by 350bp year-to-date; we expect this higher-quality trend to continue as risk aversion persists (Fig. 14).

Hybrid debt Comments and recommendations The hybrid debt market is again testing the lowest levels of the year as year-to-date returns turn negative (-3.5%).

Hybrid debt prices are still 5.0% above the low levels reached in August. However, negative momentum has become more entrenched as the European periphery crisis persists. We expect that the concerns surrounding bank recapitalizations in Europe due to potential periphery sovereign defaults will continue to haunt the hybrid market. Not surprisingly, correlations between the hybrid market and the Euro-zone crisis have been fairly strong during the last three months, especially among financial issuers (Fig 15). In our view, as long as the Euro-zone sovereign debt crisis persists, low capital structure securities will be subject to heightened volatility and limited demand. We continue to doubt that a near-term resolution is likely. As such, we reduced our medium-term view on hybrid debt to “underperform” last month.

To be sure, several of our trade recommendations remain intact. We still believe US banks are likely to proceed with necessary balance sheet repairs in an effort to meet the requirements of the Dodd-Frank law (scheduled to begin in January 2013). Trust preferred securities (TruPs) - which will no longer qualify as Tier 1 capital - are likely to be redeemed at the onset of new bank reform, or on the security’s first call date. Considering the recent sell-off, we advise investors to focus on issues featuring the highest coupons with strip prices (price less accreted dividends) near par.

We remain cautious on European financials despite attractive yields on the largest bank issuers. While valuations look cheap, they could get cheaper, in our view. We believe that short-term opportunities exist in certain non-financial senior note structures. Although the yields are significantly lower than bank-issued names, some of these securities feature attractive yields to their first call date.

INTERNAL USE ONLY


Market performance views and recommendations Figure 12. Market performance views and recommendations

Sectors Short-term

outlook1 6- to 12-month view2 Focus recommendations

Developed market core sovereigns

Outperform Risk aversion, slow growth and fading inflation to keep rates low;

Curves to bull-flatten, esp. in Europe; Favor long Gilts

EU periphery sovereigns

Underperform Yields and CDS to stay at record highs; Current proposals not sufficient to stabilize periphery; Avoid any exposure

Emerging market sovereigns USD USD Market

Perform EM markets under pressure due to capital flight fueled by growth fears and EU periphery; Stay defensive in higher quality issuers;

Easing inflation pressures should buffer market strains Local Local Market Perform

Global inflation-linked

Market Perform Breakevens have fallen as growth prospects decline; Inflation expectations to drop further; Should underperform nominals

Supranationals/US agencies Outperform Valuations are historically attractive; Prefer 7-10yr US agencies, callable GSE debt and non-European supranationals

Agency mortgage-backed

Outperform Higher refi’s and potential government actions fueling volatility; Favor high coupon pass-thrus & short-dated CMO supports

Asset-backed/CMBS Market perform Still attractive valuations for asset backed bonds and CMBS; Favor AAA auto and credit card ABS, and AAA CMBS

Covered bond

Market perform Pressure on EU periphery issuers to continue to weigh on covered bond spreads; Favor Canadian and Core EU issuers

High grade corporates Outperform Fundamentals remain solid and valuations have become more compelling; Favor long-dated bonds and defensive sectors

High yield corporates Underperform We remain cautious near-term and await a better entry point despite improved valuations; Favor BB issuers

Hybrid debt securities Underperform Volatility to stay high with financials under pressure and regulatory uncertainty; Prefer US vs. European hybrids

Source: Citi Private Bank Global Fixed Income Strategy. 1Near-term direction of price and/or spread; 2Return expectations versus the Citi World Broad Investment Grade Index.

Figure 16. Global fixed income index returns YTD Figure 17. Global fixed income index returns trailing 12 months

Source: Barclays Capital, Wells Fargo. Source: Barclays Capital, Wells Fargo.

-8.56

-3.59

-0.52

-0.37

0.51

1.94

3.00

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6.49

7.77

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Euro High Yield Corp

US High Yield Corp

Hybrid/Preferreds

Euro HG Corp

Global Emerging Mkts

Japan JGBs

GBP HG Corp

Covered Debt

US Agency

**Global Aggregate Index

Global MBS

USD Supranationals

US MBS

US HG Corp

EUR Supranationals

Global ABS

US Municipals

Global I-Linked

German Bunds

US Treasury

UK Gilts

-9.87

-2.43

-1.47

-1.29

-0.85

-0.14

0.62

0.68

2.36

2.81

2.82

2.90

2.95

3.43

3.70

3.98

4.81

5.06

5.63

6.14

9.56

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Euro High Yield Corp

Euro HG Corp

US High Yield Corp

Global Emerging Mkts

Hybrid/Preferreds

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Covered Debt

Japan JGBs

**Global Aggregate Index

US HG Corp

EUR Supranationals

US Agency

USD Supranationals

US Municipals

Global ABS

Global MBS

German Bunds

US MBS

US Treasury

Global I-Linked

UK Gilts

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Fixed income tactical asset allocations Figure 18. Fixed income allocation risk level I1 Core positions

The largest tactical overweight remains corporate investment g

overweight position versus the strategic benchmark. Developed sovereign remains at a 9% underweight position, dr

inflation-linked bonds (–3.5%) and Japanese sovereign (–6.5% Positions in US municipal bonds (1%), peripheral Europe (–3.5

remain unchanged. Supranational and emerging sovereign remain unchanged, wit

respectively.

Figures in brackets are the difference versus the strategic benchmark Cash

Global fixed income

Global equities

Hedge funds Source: Citi Private Bank Global Investment Committee.

Figure 19. Fixed income sovereign allocation risk level III2 Figure 20. Fixed income credit allocation risk level III2

Source: Citi Private Bank Global Investment Committee. Source: Citi Private Bank Global Investment Committee.

1. Risk level I is designed for investors with a short-time horizon (defined as 3–5 years) who are seeking to maintain purchasing power, preserve capital, meet income needs and achieve the

consistent real growth of wealth. These portfolios include assets that may be considered illiquid. 2. Risk level III, which includes an allocation to illiquid assets, is designed for investors who have a time horizon of 5–10 years and who seek modest wealth enhancement.

Strategic = benchmark; tactical = the Citi Private Bank Global Investment Committee’s current view; and active = the difference between strategic and tactical.

Cash (0.0%), 21.0%

Developed Sovereign (-9.0%), 33.0%

Emerging Sovereign (2.0%), 4.0%

Supranational/ Agencies (-3.5%),

1.5%

Corporate Investment Grade (11.0%), 22.0%

Corporate High Yield (0.5%), 2.5%

Securitized Fixed Income (-1.0%),

12.0%

Hedge Funds (0.0%), 4.0%

Core Europe

North AmericaEmerging MarketsSupranational / AgencyUnited Kingdom

EU Periphery

6.0%6.0%3.0%2.0%1.0%0.0%

18.0%

0.0%0.0%

Global Inflation-linkedJapan

Corp. Investment grade

Corp. High-yield

Securitised

15.5%

1%

4.5%

21.0%

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Corporate bond relative value lists—bank and finance sector

Figure 18. Bank and finance sector (USD, euro and sterling denominated) Issuer Coup Maturity Debt Class FX S&P Moody Price YTW1 Spread2 Sub-Sector Country

GOLDMAN SACHS GROUP INC 6.000 5/1/2014 SR UNSECURED USD A A1 103.13 4.68 433 Banks United States BARCLAYS BANK PLC 5.200 7/10/2014 SR UNSECURED USD AA- Aa3 102.86 4.09 369 Banks United Kingdom

BANCO BRADESCO (CAYMAN) 4.100 3/23/2015 SR UNSUB USD BBB Baa1 101.75 3.56 299 Banks Brazil

SBERBANK (SB CAP SA) 5.499 7/7/2015 SR UNSECURED USD A3 99.22 5.73 508 Banks Russia

BANK OF AMERICA CORP 3.700 9/1/2015 SR UNSECURED USD A Baa1 91.25 6.27 558 Banks United States

MORGAN STANLEY 3.450 11/2/2015 SR UNSECURED USD A A2 87.83 6.94 620 Banks United States

BANCOLOMBIA SA 4.250 1/12/2016 SR UNSECURED USD Baa2 98.00 4.77 399 Banks Colombia

HSBC FINANCE CORP 5.500 1/19/2016 SR UNSECURED USD A A3 104.39 4.36 357 Div. Finance United Kingdom

PRUDENTIAL FINANCIAL INC 6.000 12/1/2017 SR UNSECURED USD A Baa2 105.79 4.89 362 Insurance United States

HCP INC 6.700 1/30/2018 SR UNSECURED USD BBB Baa2 108.32 5.14 382 REITS United States

JPMORGAN CHASE & CO 4.400 7/22/2020 SR UNSECURED USD A+ Aa3 100.67 4.31 253 Banks United States

CREDIT SUISSE NEW YORK 4.375 8/5/2020 SR UNSECURED USD A+ Aa1 95.57 5.00 322 Banks Switzerland

GENERAL ELEC CAP CORP 6.750 3/15/2032 SR UNSECURED USD AA+ Aa2 111.11 5.81 332 Div. Finance United States

METLIFE INC 5.700 6/15/2035 SR UNSECURED USD A- A3 106.77 5.20 258 Insurance United States

MERRILL LYNCH & CO 6.750 5/21/2013 SR UNSECURED EUR A Baa1 99.17 7.28 666 Div. Finance United States GOLDMAN SACHS GROUP INC 5.125 10/16/2014 SR UNSECURED EUR A A1 99.07 5.47 471 Banks United States

MORGAN STANLEY 4.500 10/29/2014 SENIOR NOTES EUR A A2 91.50 7.73 697 Banks United States

BARCLAYS BANK PLC 3.500 3/18/2015 SR UNSECURED EUR AA- Aa3 98.12 4.09 324 Banks United Kingdom

JPMORGAN CHASE & CO 3.750 6/15/2016 SR UNSECURED EUR A+ Aa3 98.80 4.03 290 Banks United States

HSBC FINANCE CORP 4.875 5/30/2017 SR UNSECURED EUR A A3 100.55 4.76 343 Div. Finance United Kingdom

GE CAPITAL EURO FUNDING 5.375 1/16/2018 COMPANY GUARNT EUR AA+ Aa2 107.14 4.06 264 Div. Finance United States

MORGAN STANLEY 5.375 11/14/2013 SR UNSECURED GBP A A2 95.53 7.73 702 Banks United States JPMORGAN CHASE & CO 4.250 1/25/2017 SR UNSECURED GBP A+ Aa3 101.12 4.01 257 Banks United States

GE CAPITAL UK FUNDING 5.875 11/4/2020 COMPANY GUARNT GBP AA+ Aa2 105.44 5.11 280 Div. Finance United States Source: Bloomberg and Citi Private Bank Global Fixed Income Strategy. Prices as of October 6, 2011 and are for indication only. Individual recommendations are produced by using various qualitative and quantitative screenings to determine relative value. Independent sector views and fundamental inputs are incorporated to determine our positioning. Some securities may not be available for purchase in all regions. In our view, bonds listed below investment grade are appropriate for speculative accounts only. 1Yield to worst, the lower of either yield to maturity or yield to call; 2Spread to the underlying risk-free rate, which is determined by the bond’s currency-matched yield curve.

Figure 19. Financial corp index spreads, Oct 2006 to Oct 2011 Figure 20. Financial corporate index sector returns, YTD

Source: Barclay’s Capital. Source: The Yield Book.

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Corporate bond relative value lists – non-financial sectors

Figure 21. Non-finance sector (USD, euro and sterling denominated) Issuer Coup Maturity Call Date Debt Class FX S&P Moody Price YTW1 Spread2 Sub-Sector Country WYNDHAM WORLDWIDE 6.000 12/1/2016 SR UNSECURED USD BBB- Ba1 107.25 4.42 345 Lodging United States PETROBRAS INTL FIN 5.875 3/1/2018 SR UNSECURED USD BBB- A3 109.65 4.15 285 Oil & Gas Brazil GAZPROM 8.146 4/11/2018 SR UNSECURED USD BBB Baa1 117.50 4.99 365 Oil & Gas Russia VOTO-VOTORANTIM 6.625 9/25/2019 SR UNSECURED USD BBB 105.85 5.71 406 Bldg Materials Brazil HCA INC 7.875 2/15/2020 8/15/2014 SR SECURED USD BB Ba3 106.55 6.52 536 Healthcare United States ODEBRECHT FIN 7.000 4/21/2020 4/21/2015 SR UNSECURED USD BB+ Baa3 108.85 5.16 464 Construction Brazil FIBRIA OVERSEAS FIN 7.500 5/4/2020 5/4/2015 SR UNSECURED USD BB Ba1 101.00 7.30 595 Pulp/Paper Brazil RELIANCE HOLDINGS USA 4.500 10/19/2020 SR UNSECURED USD BBB Baa2 94.20 5.31 346 Oil & Gas India ALTRIA GROUP INC 4.750 5/5/2021 SR UNSECURED USD BBB Baa1 104.94 4.12 216 Agriculture United States ALCOA INC 5.900 2/1/2027 SR UNSECURED USD BBB- Baa3 100.38 5.86 350 Mining United States DOW CHEMICAL CO 7.375 11/1/2029 SR UNSECURED USD BBB Baa3 125.58 5.18 264 Chemicals United States COMCAST CORP 6.500 11/15/2035 SR UNSECURED USD BBB+ Baa1 114.90 5.39 271 Media United States AT&T INC 6.300 1/15/2038 SR UNSECURED USD A- A2 115.43 5.21 247 Telecom United States ARCELORMITTAL 7.000 10/15/2039 SR UNSECURED USD BBB- Baa3 96.48 7.30 411 Iron/Steel Luxembourg KRAFT FOODS INC 6.500 2/9/2040 SR UNSECURED USD BBB- Baa2 122.61 5.00 216 Food United States GAZPROM 5.875 6/1/2015 SR UNSECURED EUR BBB Baa1 102.75 5.03 418 Oil&Gas Russia HUTCH WHAMPOA FIN 4.750 11/14/2016 SR UNSECURED EUR A- A3 103.44 3.99 276 Diversified Hong Kong ARCELORMITTAL 4.625 11/17/2017 SR UNSECURED EUR BBB- Baa3 89.46 6.79 539 Iron/Steel Luxembourg IMPERIAL TOBACCO FIN 4.500 7/5/2018 SR UNSECURED EUR BBB Baa3 102.47 4.07 260 Agriculture United Kingdom DEUTSCHE TELEKOM INT 6.500 4/8/2022 SR UNSECURED GBP BBB+ Baa1 116.41 4.51 194 Telecom United Kingdom IMPERIAL TOBACCO FIN 8.125 3/15/2024 SR UNSECURED GBP BBB Baa3 127.97 5.04 238 Agriculture United Kingdom Source: Bloomberg, Citi Private Bank Global Fixed Income Strategy. Prices as of October 6, 2011 and are for indication only. Individual recommendations are produced by using various qualitative and quantitative screenings to determine relative value. Independent sector views and fundamental inputs are incorporated to determine our positioning. Some securities may not be available for purchase in all regions. In our view, bonds listed below investment grade are appropriate for speculative accounts only. 1Yield to worst, the lower of either yield to maturity or yield to call; 2Spread to the underlying risk-free rate, which is determined by the bond’s currency-matched yield curve.

Figure 22. Global investment grade corporate non-financial index spreads, October 2006 to October 2011

Source: Barclays Capital.

Figure 23. US$ corporate non-financial sector 1-week returns Figure 24. EUR corporate non-financial sector 1-week returns


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Corporate bond relative value lists—hybrid debt

Figure 25. Hybrid debt (USD, euro denominated)

Issuer Symbol Coupon 1st Call Dt Price Strip Price Yield1

Yield to Call Moody's S&P Sub-Sector FX Country

$25 Par US Financials (TruPs)

MBNA CAPITAL D KRB D 8.125 10/14/2011 23.80 23.75 8.55 84.21 Baa3 BB+ Div. Finance USD United States FIFTH THIRD CAP FTB B 7.250 11/15/2012 24.96 24.68 7.34 8.51 Baa3 BB Banks USD United States

MORGAN ST CAP TR MSZ 6.600 10/15/2011 21.64 21.60 7.64 *** Baa2 BB+ Div. Finance USD United States JPM CAP XXIX JPM C 6.700 4/2/2015 25.19 25.15 6.66 6.51 A2 BBB+ Div. Finance USD United States KEYCORP CAP IX KEY E 6.750 12/15/2011 24.87 24.76 6.82 12.68 Baa3 BB Banks USD United States $25 Par Euro Financials

ING GROEP NV IGK 8.500 9/15/2013 22.98 22.77 9.33 13.73 Ba1 BBB- Insurance USD Netherlands BARCLAYS BK PLC BCS D 8.125 6/15/2013 23.23 23.03 8.82 13.32 Baa3 A- Banks USD United Kingdom

DB CONT CAP TR V DKT 8.050 6/30/2018 24.05 24.00 8.39 8.86 Baa2 BBB Banks USD Germany HSBC HOLDINGS HCS B 8.000 12/15/2015 25.20 24.99 8.00 7.94 A3 A- Banks USD United Kingdom

$25 Par Non-Financials2

CBS CORP CPV 6.750 3/27/2012 25.18 25.05 6.74 5.77 Baa2 BBB- Media USD United States CONSTELLAT ENER CEG A 8.625 6/15/2013 26.94 26.80 8.05 4.20 Ba1 BB

/* Electric USD United States

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JPM CAP XXVII 7.000 100.33 6.97 A2 BBB+ Div. Finance USD United States RABOBANK 8.375 7/26/2016 99.23 7.77 8.57 Banks USD Netherlands

CREDIT SUISSE 7.875 12/12/2015 95.75 8.24 9.12 BBB+ Banks USD Switzerland DAI-ICHI MUTUAL 7.250 7/25/2021 100.88 6.04 7.12 A3 BBB+ Insurance USD Japan

ING GROEP NV 8.000 4/18/2013 89.93 8.93 15.85 Ba1 BBB- Insurance EUR Netherlands DB CAP FNDG XI 9.500 3/31/2015 98.33 9.66 10.05 Baa2 BBB Banks EUR Germany

Source: Bloomberg, Citi Private Bank Global Fixed Income Strategy. Prices as of October 6, 2011 and are for indication only. Individual recommendations are produced by using various qualitative and quantitative screenings to determine relative value. Independent sector views and fundamental inputs are incorporated to determine our positioning. Some securities may not be available for purchase in all regions. In our view, bonds listed below investment grade are appropriate for speculative accounts only. 1Strip yield for $25 par preferred securities; 2Relative value to the securities first call date.

Figure 26. Wells Fargo Hybrid and Preferred Security Index spread analysis, September 2006 to September 2011

Source: Private Bank Fixed Income Strategy; Wells Fargo; The Yield Book.

Figure 27. Monthly total returns, trailing 12 months Figure 28. Pfd Index versus financials 10+ maturities, trailing 12

Source: Wells Fargo. Source: Wells Fargo; The Yield Book.

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Government bond benchmark yield curves Figure 29. Germany, Japan, UK, US government yield curves Figure 30. US government bond yield curve

Source: Bloomberg. Source: Bloomberg. Figure 31. Japan government bond yield curve Figure 32. German government bond yield curve

Source: Bloomberg. Source: Bloomberg. Figure 33. UK government bond yield curve Figure 34. Australia government bond yield curve

Source: Bloomberg. Source: Bloomberg.

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Long-term historical bond yields Figure 35. US Treasury 10-year benchmark yield, October 1956 to October 2011

Source: Private Bank Fixed Income Strategy; Wells Fargo; The Yield Book. Figure 36. Citi US Corporate Index yield, October 1981 to October 2011

Source: Private Bank Fixed Income Strategy; Wells Fargo; The Yield Book. Figure 37. Citi High Yield Market Index yield, October 1991 to October 2011

Source: Private Bank Fixed Income Strategy; Wells Fargo; The Yield Book.

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Citi Investment Research & Analysis interest rate forecasts Figure 38. Interest rate and bond market forecasts (end of period)

US 4Q 11 1Q 12 2Q 12 3Q 12 4Q 12 Policy Rate (Fed) 0.25 0.25 0.25 0.25 0.25 3-Month Libor 0.38 0.40 0.45 0.50 0.60 2 Year Treasury Yield 0.25 0.25 0.35 0.40 0.65 5 Year Treasury Yield 0.95 0.95 1.25 1.35 1.60 10 Year Treasury Yield 2.00 2.00 2.30 2.60 2.90 30 Year Treasury Yield 3.10 3.10 3.35 3.60 3.90 2-10 Year Treasury Curve 175 175 195 220 225 2 Year Swap Spread 34 34 35 35 35 10 Year Swap Spread 20 20 20 22 25 30 Year Mortgage Yield 4.10 4.10 4.30 4.40 4.70 10 Year Breakeven Inflation 195 205 215 225 240 Germany 4Q 11 1Q 12 2Q 12 3Q 12 4Q 12 Policy Rate (ECB) 1.00 1.00 1.00 1.00 1.00 3-Month Libor 1.10 0.70 0.70 0.80 0.90 2 Year Bund Yield 0.25 0.25 0.25 0.30 0.35 5 Year Bund Yield 0.80 0.75 0.65 0.70 0.75 10 Year Bund Yield 1.50 1.25 1.35 1.50 1.50 30 Year Bund Yield 2.35 2.15 2.10 2.25 2.20 2-10 Year Bund Curve 125 100 110 120 115 10 Year Swap Spread 85 80 75 70 60 10 Year Breakeven Inflation 125 115 120 125 130 Japan 4Q 11 1Q 12 2Q 12 3Q 12 4Q 12 Policy Rate (BOJ) 0.10 0.10 0.10 0.10 0.10 3-Month Libor 0.19 0.17 0.15 0.15 0.15 2 Year JGB Yield 0.15 0.15 0.15 0.10 0.10 5 Year JGB Yield 0.35 0.45 0.45 0.40 0.35 10 Year JGB Yield 1.20 1.20 1.10 1.05 1.05 30 Year JGB Yield 2.00 2.10 2.10 2.05 2.00 2-10 Year JGB Curve 105 105 95 95 95 2 Year Swap Spread 20 24 24 22 20 10 Year Swap Spread 1 5 5 3 1 UK 4Q 11 1Q 12 2Q 12 3Q 12 4Q 12 Policy Rate (BOE) 0.50 0.50 0.50 0.50 0.50 3-Month Libor 1.00 0.90 0.85 0.85 0.85 2 Year Gilt Yield 0.45 0.40 0.30 0.35 0.45 5 Year Gilt Yield 1.25 1.20 1.10 1.15 1.30 10 Year Gilt Yield 2.00 1.65 1.65 1.80 1.80 30 Year Gilt Yield 3.30 3.10 3.00 3.00 3.00 2-10 Year Gilt Curve 155 125 135 145 135 10 Year Swap Spread 45 60 60 60 60 10 Year Breakeven Inflation 245 225 235 250 265

Source: Citi Investment Research & Analysis; Global Economic Outlook and Strategy, September 28, 2011.

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Global fixed income benchmark monitor Figure 39. Historical market monitor

Short-Term Indicators 10/6/2011 1 Month 3 Months 6 Months 12 Months G4 Central Bank Policy Rates US Federal Reserve 0.25 0.25 0.25 0.25 0.25 European Central Bank 1.50 1.50 1.25 1.00 1.00 Bank of England 0.50 0.50 0.50 0.50 0.50 Bank of Japan 0.10 0.10 0.10 0.10 0.10 G12 Central Policy Rates Reserve Bank of Australia 3.00 3.25 4.25 6.00 7.25 Bank of Canada 1.00 1.00 1.00 1.00 1.00 Swiss National Bank 0.00 0.00 0.25 0.25 0.25 Emerging Markets Central Bank Policy Rates (BRIC) Central Bank of Brazil 12.00 12.00 12.25 11.75 10.75 Bank of Russia 4.47 3.88 3.79 3.14 2.65 Reserve Bank of India 7.25 7.00 6.50 5.75 5.00 Bank of China (1 Year Lending) 6.56 6.56 6.31 6.06 5.31 Inter-Bank Lending Rates 3-Month US LIBOR 0.39 0.34 0.25 0.29 0.29 3-Month EURIBOR 1.56 1.53 1.57 1.27 0.96 3-Month UK LIBOR 0.96 0.89 0.83 0.82 0.74 Short Term Spread Indicators (bps) 10/6/2011 1 Month 3 Months 6 Months 12 Months 3 Month LIBOR less Fed Funds 14 9 (0) 4 4 3 Month Euribor less ECB Target 6 3 31.9 27 (4) 3 Month US LIBOR less T-Bill (TED Spread) 39 34 25 29 29 2 Year Treasury less Fed Funds 1 (5) 17 58 13 2 Year Euro Swap Rate less ECB Target 7 67 92 140 40 3 Month US LIBOR-OIS (Overnight Index Swap) 30 23 14 17 11 3 Month EURIBOR-OIS (EUR) 73 20 24 23 26 3 Month LIBOR-OIS (UK) 43 37 30 18 24 Key Inflation Indicators 10/6/2011 1 Month 3 Months 6 Months 12 Months US TIPS 5 Year / 5 Year Forward Breakeven (bps) 219 237 297 259 254 10-Year US TIPS Breakeven 186 195 235 258 194 10-Year UK Gilts Breakeven 274 259 308 329 270 10-Year Eurozone Breakeven 184 193 220 237 178 8-Year Japan Breakeven (3) (24) (31) (81) (59) G4 Sovereign Benchmark Yields 10/6/2011 1 Month 3 Months 6 Months 12 Months United States (Treasuries) 2 Year 0.26 0.20 0.42 0.83 0.38 5 Year 0.98 0.88 1.66 2.31 1.16 10 Year 1.95 1.98 3.11 3.55 2.40 30 Year 2.91 3.27 4.36 4.59 3.67 Eurozone (German Bunds) 2 Year 0.62 0.44 1.58 1.84 0.77 5 Year 1.22 0.97 2.17 2.74 1.41 10 Year 1.93 1.85 2.93 3.43 2.22 30 Year 2.71 2.84 3.59 3.90 2.82 United Kingdom (Gilts) 2 Year 0.61 0.58 0.79 1.40 0.63 5 Year 1.33 1.21 1.93 2.52 1.57 10 Year 2.37 2.29 3.25 3.76 2.90 Japan (JGBs) 2 Year 0.15 0.14 0.17 0.22 0.12 5 Year 0.34 0.31 0.45 0.53 0.21 10 Year 0.98 0.99 1.18 1.30 0.85 Swap Spreads (bps) 10/6/2011 1 Month 3 Months 6 Months 12 Months US 2-year Swaps 37 32 26 17 18 US 5-year Swaps 35 30 30 20 28 US 10-year Swaps 22 21 14 10 10 Euro 2-year Swaps 96 97 59 57 63 Euro 5-year Swaps 81 101 58 41 51 Euro 10-year Swaps 66 78 42 27 35

Source: Bloomberg; Markit.

INTERNAL USE ONLY


Global credit default swap monitor Figure 40. Global credit default swap monitor US 10/6/2011 1 Month 3 Month 6 Months 12 Months CDX North America Inv Grade 142 129 92 93 98 CDX North America High Yield 834 695 460 432 528 CDX North America High Vol 265 213 151 152 159 Markit MCDX Municipal Index 209 178 134 153 210 EMEA 10/6/2011 1 Month 3 Month 6 Months 12 Months iTraxx Europe Index Inv Grade 192 184 110 95 102 iTraxx Europe Crossover Index 823 757 412 360 487 iTraxx Europe Senior Financial 269 275 168 122 127 iTraxx SOVX Western Europe 373 329 244 166 156 Germany 108 82 45 38 38 United Kingdom 96 80 68 48 63 Italy 474 452 219 130 193 Greece 5247 2559 2168 997 772 Portugal 56 54 48 45 61 Ireland 712 837 838 531 442 Spain 376 422 294 201 230 Turkey 289 243 182 142 147 Russia 313 207 144 122 145 South Africa 208 170 128 116 131 Asia-Pacific 10/6/2011 1 Month 3 Month 6 Months 12 Months iTraxx Japan Inv Grade 232 155 125 139 98 iTraxx Japan 80 Index 119 83 97 103 112 iTraxx Australia Inv Grade 240 177 112 101 117 iTraxx Asia ex-Japan Inv Grade 257 160 114 102 110 iTraxx Asia ex-Japan High Yield 533 468 453 453 409 Japan 157 111 89 90 56 China 193 118 87 68 60 Australia 100 79 58 49 40 New Zealand 126 88 68 63 51 Vietnam 521 398 319 291 233 Indonesia 304 179 138 138 132 Philippines 258 171 135 128 131 Thailand 239 142 126 110 91 South Korea 217 139 102 96 88 Malaysia 203 127 90 72 70 Latin America (USD) 10/6/2011 1 Month 3 Month 6 Months 12 Months CDX Emerging Markets 364 292 210 199 204 Mexico 197 159 107 100 108 Brazil 198 159 109 107 105 Columbia 200 159 107 105 106 Peru 201 165 127 150 111 Chile 156 103 75 58 67 Argentina 1145 860 591 564 734 Venezuela 1187 1143 968 984 1051 Source: Bloomberg; Markit.

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Fixed income market returns Figure 41. Citi Broad Investment Grade Index total returns (%), September 2011

Index Value Principal Total Past 3 Months

Past 6 Months Year to Date

Past 12 Months

Broad Investment-Grade Bond Index 1439.08 0.44 0.75 3.93 6.31 6.69 5.26 Treasury/Govt. Sponsored/Credit 1414.59 0.76 1.03 4.70 7.07 7.32 5.07 Treasury/Govt. Sponsored 1347.11 1.36 1.56 5.91 8.24 8.12 5.60 Treasury/Agency 1347.42 1.41 1.62 6.03 8.37 8.23 5.68 Treasury 1342.50 1.56 1.76 6.43 8.92 8.71 5.92 Govt. Sponsored 1338.96 0.23 0.47 3.12 4.69 5.00 3.82 Agency 1338.34 0.35 0.59 3.29 4.74 4.99 3.98 Supranational 1423.79 (0.18) 0.03 2.51 4.57 5.22 3.19 Collateralized 1523.65 (0.19) 0.16 2.38 4.78 5.42 5.65 Mortgage 1523.72 (0.20) 0.16 2.38 4.78 5.42 5.66 Asset-Backed 441.18 0.62 0.96 3.55 5.62 6.21 4.70 Credit 1628.00 (0.26) 0.13 2.70 5.14 6.00 4.23 AAA/AA 1427.10 0.44 0.73 3.78 5.74 6.01 4.44 AAA 1339.71 0.55 0.78 3.94 5.36 5.77 4.46 AA 1505.57 0.40 0.72 3.73 5.99 6.18 4.43 A 1619.16 (0.24) 0.15 2.42 4.72 5.52 3.53 BBB 1883.34 (0.66) (0.21) 2.46 5.34 6.63 4.99 BBB/BB NA (2.11) (1.60) (1.49) 1.33 4.77 5.15 US Inflation-Linked Securities Index 269.26 (0.13) 0.00 4.95 8.78 10.99 10.15 High-Yield Market Index 623.19 (3.58) (2.93) (5.55) (4.67) (0.85) 2.38 ESBI 552.54 (4.23) (3.71) (1.24) 2.66 3.41 1.68

Source: The Yield Book.

Figure 42. World Broad Investment Grade Index total returns (%), local currency terms, September 2011

Index Value Principal Total Past 3 Months Year to Date

Past 12 Months

WorldBIG Index 182.94 0.46 0.73 3.29 4.87 3.05 Govt./Govt. Sponsored 173.17 0.81 1.04 3.90 5.02 2.76 Sovereign/Sov-Guaranteed 169.75 0.85 1.07 3.92 5.02 2.69 o Domestic Sovereign (WGBI) 168.53 0.91 1.13 3.99 5.03 2.67 o Foreign Sovereign 215.06 (2.04) (1.64) 0.13 4.03 1.31 o Sovereign Guaranteed 183.04 0.55 0.81 3.65 4.97 3.60 Govt. Sponsored/Regional Govt. 197.30 0.41 0.67 3.67 5.01 3.40 o Agency 198.74 0.19 0.44 3.07 4.53 3.38 o Supranational 194.88 0.76 1.01 4.43 6.05 3.67 o Regional Government 199.09 0.49 0.77 4.19 4.99 2.81 Collateralized 203.94 (0.19) 0.15 2.37 5.03 4.74 MBS 212.59 (0.20) 0.16 2.38 5.42 5.66 Covered 171.96 (0.23) 0.08 2.23 3.43 1.10 o Jumbo Pfandbrief 174.95 0.19 0.47 2.80 3.22 2.68 Asset Backed 214.10 1.27 1.66 5.09 6.93 4.89 Corporate 202.59 (0.43) (0.04) 1.48 3.88 2.17 o AAA 188.94 1.58 1.89 6.12 7.71 5.12 o AA 197.95 0.35 0.69 2.93 4.86 2.93 o A 198.70 (0.57) (0.18) 1.10 3.36 1.55 o BBB 210.37 (0.82) (0.38) 0.95 3.90 2.59

Source: The Yield Book.

INTERNAL USE ONLY


Bond market fund flows Figure 43. Total net assets—total bonds versus money markets Figure 44. Total net assets—total bonds versus total equity

Source: Investment Company Institute. Source: Investment Company Institute. Figure 45. Total net assets—taxable fixed income bonds Figure 46. Total net assets—tax-free bonds

Source: Investment Company Institute. Source: Investment Company Institute. Figure 47. Monthly net flows—high grade bonds Figure 48. Monthly net flows—high yield bonds

Source: Investment Company Institute. Source: Investment Company Institute.

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INTERNAL USE ONLY


Notes

INTERNAL USE ONLY


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Bonds are affected by a number of risks, including fluctuations in interest rates, credit risk and prepayment risk. In general, as prevailing interest rates rise, fixed income securities prices will fall. Bonds face credit risk if a decline in an issuer’s credit rating, or creditworthiness, causes a bond’s price to decline. High yield bonds are subject to additional risks such as increased risk of default and greater volatility because of the lower credit quality of the issues. Finally, bonds can be subject to prepayment risk. When interest rates fall, an issuer may choose to borrow money at a lower interest rate, while paying off its previously issued bonds. As a consequence, underlying bonds will lose the interest payments from the investment and will be forced to reinvest in a market where prevailing interest rates are lower than when the initial investment was made. 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These include changes in the level of industrial activity using industrial metals (including the availability of substitutes such as man-made or synthetic substitutes); disruptions in the supply chain, from mining to storage to smelting or refining; adjustments to inventory; variations in production costs, including storage, labor and energy costs; costs associated with regulatory compliance, including environmental regulations; and changes in industrial, government and consumer demand, both in individual consuming nations and internationally. Index components concentrated in futures contracts on agricultural products, including grains, may be subject to a number of additional factors specific to agricultural products that might cause price volatility. These include weather conditions, including floods, drought and freezing conditions; changes in government policies; planting decisions; and changes in demand for agricultural products, both with end users and as inputs into various industries The information contained herein is not intended to be an exhaustive discussion of the strategies or concepts mentioned herein or tax or legal advice. Readers interested in the strategies or concepts should consult their tax, legal, or other advisors, as appropriate. Citi and Citi with Arc Design are registered service marks of Citigroup Inc. or its affiliates. © Copyright 2011, Citigroup Inc.

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Published October 7, 2011

bond market monthly - citi · bond market monthly⎥ october 7, 2011 3 relative value sector...

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