Investment Strategy Webinar

July 17, 2013

2

Presenters

Bob Penter, CFA, PartnerPension Risk ManagementPhone: 770.690.7674Email: bob.penter.2@aonhewitt.com

Francois Otieno, Senior ConsultantGIM / Fixed IncomePhone: 312.715.3344Email: francois.otieno@aonhewitt.com

Saif Choudhury, ConsultantInvestment SolutionsPhone: 312-715-4367Email: saif.choudhury@aonhewitt.com

Lucinda Downing, Sr. Research AnalystGlobal Asset Allocation TeamPhone: 011 +44 207 086 9440Email: lucinda.downing@aonhewitt.com

Beth Hanig, Associate PartnerInvestment ConsultingPhone: 203.523.8161Email: beth.hanig@aonhewitt.com

3

Discussion Topics

Opening Remarks Market Outlook: Focus on Recent Volatility Spotlight on Fixed Income Thought Leadership Solution Packages Overview Defined Contribution Lifetime Income Solutions Closing RemarksQ&A Session

Market Outlook: Focus on Recent Volatility

Lucinda Downing

5

Global Economic Environment Remains Weak

Macroeconomic support for equities is not strong

However, economic news flow has improved. Even the struggling UK and Eurozone economies have delivered positive surprises. China, however, continues to report weak economic data

Good US jobs data and rising house prices but fiscal cuts have hit economic activity

Citigroup Economic Surprise Indicator (G10 economies)

-80

-60

-40

-20

0

20

40

60

Dec-10 Jun-11 Dec-11 Jun-12 Dec-12 Jun-13

Mixed US Economic Indicators

48

49

50

51

52

53

54

55

56

57

Apr-12 Jul-12 Oct-12 Jan-13 Apr-13

Manufacturing ISM Non-manufacturing ISM

6

Equities are Focused on the Short-Term

6% US equity market correction, but now back to all time highs -25% on year-ago levels

Fed’s tapering statement on May 22nd was nothing new, but markets appear to have been unprepared for it

Market has returned to short-term focus and is once again ignoring the challenge of less stimulus in the future

Emerging markets continue to fall but, as a consequence, valuations have become compelling

Valuations CheapeningEmerging market valuations as a ratio to developed

0.4

0.5

0.6

0.7

0.8

0.9

1

1.1

1.2

1.3

Apr-03 Apr-04 Apr-05 Apr-06 Apr-07 Apr-08 Apr-09 Apr-10 Apr-11 Apr-12 Apr-13Price to Book Ratio Forw ard Price-Earnings Ratio

Emerging markets cheaper

Emerging markets more expensive

Source: Datastream

S&P500 makes new highs

600

800

1000

1200

1400

1600

1800

2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

7

Pronounced Move Up in Bond Yields

Bond yields rose strongly since May and are now back up to levels last reached in August 2012

TIPS real yields are up significantly (120bp rise in real yields since April)

Relative move indicates more confidence in the economic recovery

We expect some correction to this upward move, although multi-year bond bear market will remain intact

We have increased our yield expectations over next 5 years as the risk of a policy error has increased

Aon Hewitt expectationMarket

Expectation*20yr

durationIncrease from

todayIncrease from

todayNow 3.5%In 1yrs 4.0% 0.5% 0.2%In 3yrs 4.3% 0.8% 0.5%In 5yrs 4.7% 1.2% 0.7%

* Based on end June 2013 yield curve

US real yields have risen more than nominal yields

0.0%

0.5%

1.0%

1.5%

2.0%

2.5%

3.0%

3.5%

4.0%

Dec 10 Mar 11 Jun 11 Sep 11 Dec 11 Mar 12 Jun 12 Sep 12 Dec 12 Mar 13 Jun 13-1.5%

-1.0%

-0.5%

0.0%

0.5%

1.0%

1.5%

10 year US Treasury 10 year US Index Linked Treasury

8

Uncertain Future is Not Fully Reflected in Markets

Equity volatility has fallen with new highs reached by S&P 500

Falling gold price reflects market perception of low risk of extreme events

FX markets have been destabilized by the huge move in the Yen and emerging currencies

Excessive bullish sentiment vulnerable to further upsets

Source: Deutsche Bank’s CVIX

Gold price is trending down

0

500

1000

1500

2000

2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

Currency volatility has moved up

0

5

10

15

20

25

2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

Equity volatility has rapidly fallen from June peak

10

12

14

16

18

20

22

Jan 2013 Feb 2013 Mar 2013 Apr 2013 May 2013 Jun 2013 Jul 2013

9

Which Uncertainties Dominate?

Will global economic conditions hold up? Major economic downside risk is small as long as yields rise gradually

How disruptive will the sovereign bond environment be?This is a bigger risk than macro risk

Will monetary stimulus be withdrawn in an orderly way?QE stimulus to continue for another year as economic removal conditions not yet achieved. Move to higher rates is a long way out

We expect equities will avoid a period of sustained decline BUT underlying trend in equities is turning flatter as the risk-reward in equities has deteriorated

We don’t anticipate a bond market meltdown. Yields are likely to normalize over several years

Uncertainties around monetary policy mean that there is likely to be more equity and bond market volatility

Spotlight on Fixed Income

Francois Otieno

11

Fixed Income Market Review – Index Returns

-9.0

-7.0

-5.0

-3.0

-1.0

1.0

3.0

BarclaysAggregate

BarclaysLong

Govt/Credit

BofA ML USHigh YieldMaster II

CSLeveraged

Loan

JPM EMBIGlobal

Diversified

JPM GBI-EMGlobal

Unhedged

JPM CEMBI

Ret

urns

(%)

Index Returns

June 2013

3-Month

YTD (June 2013)

Sources: eVestment, Barclays Live

12

Manager Performance by Strategy Type: Bank Loans

-4.0%

-3.0%

-2.0%

-1.0%

0.0%

1.0%

2.0%

3.0%

4.0%

June Q2 YTD

Ret

urns

Bank Loans

Average Return

CSAM Leveraged Loan Index

Average Excess Return

Sources: eVestment, Managers

13

Manager Performance by Strategy Type: EMD

*50% JPM EMBI Global Diversified, 40% JPM GBI-EM Global Unhedged, 10% JPM CEMBI

-8.0%

-7.0%

-6.0%

-5.0%

-4.0%

-3.0%

-2.0%

-1.0%

0.0%

June Q2 YTD

Ret

urns

EMD Blended

Average Return

JPM EMD Custom Weighted Index*

Average Excess Return

Sources: eVestment, Managers

14

Manager Performance by Strategy Type: Unconstrained

-4.0%

-3.0%

-2.0%

-1.0%

0.0%

1.0%

2.0%

3.0%

4.0%

June Q2 YTD

Ret

urns

Unconstrained

Average Return

Barclays Aggregate Index

Average Excess Return*

3-Month LIBOR**

*Against the Barclays Aggregate**Standard Benchmark

Sources: eVestment, Barclays Live, Managers

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Managers have generally characterized this recent sell off as a re-pricing of risk, which is vastly different from what we experienced in the last credit cycle of 2007/2008

In general, managers are staying the course but are selectively taking advantage of investment opportunities in light of the recent market pullback

HEK continues to advocate Bank Loans; EMD; and Unconstrained Bond Strategies

Opportunities Within Fixed Income Going Forward

16

Portfolio Implications for Switching from BC Aggregate to the BC Intermediate Index

Portfolio Implications Investors looking to manage the volatility of the return-seeking portfolio should consider investing the

risk-reducing portfolio in intermediate fixed income For those that are concerned about cash flow yield, recognize the yield reduction relative to the

volatility reduction is minimal− Reposition from Aggregate Index to Intermediate Aggregate Index− Shorten the duration by 1.35 years− Yield reduction of 30 basis points− One year breakeven yield change is only 22 basis points

Implementation Considerations Separate account clients could switch their BC Aggregate mandate to the Intermediate Aggregate

Index with the same manager There are also a number of Mutual Fund and/or Commingled Fund options available

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Defined Contribution Lifetime Income Solutions

Beth HanigSaif Choudhury

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Type of Option

Managed Payout—Existing Funds

Managed Payout—New Fund

Deferred Guaranteed Monthly Withdrawal Benefit

Deferred Guaranteed Monthly Income Benefit

Deferred Fixed Annuity

Traditional annuity—End of Plan*

Annuity Platform*

Longevity Insurance*

What is Retirement Income?

* Out of Plan Annuity Options

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Plan Sponsor 2013 priorities (highest to lowest)*– Participation Rates– Diversification– Leakage– Savings Rates– Retirement Readiness– Distributions (retirement income)

Current Market

Regulatory / Fiduciary Issues– Treasury Department proposed guidance on lifetime income options– Government continue not to mandate, but to encourage– Current Safe Harbor passed in 2008 provides greater fiduciary clarity– Due diligence assistance is paramount– Counterparty risk is top of mind

* 2013 Aon Hewitt Hot Topics in Retirement

20

1%

2%

6%

14%

14%

12%

18%

44%

3%

6%

5%

16%

20%

Ability to transfer assetsto a DB plan to receive

annuity

In-plan Annuity

In-plan managed payoutfunds

Annuities outside the plan

In-plan managedaccounts with drawdown

feature

Distributions fromplan/auto payment

Online modeling toolsretirement planning

Very likely in 2013 Somewhat likely in 2013

3%

10%

12%

13%

19%

37%

61%

Ability to transfer assetsto a DB plan to receive

annuity

In-plan Annuity

In-plan managed payoutfunds

Annuities outside the plan

In-plan managedaccounts with drawdown

feature

Distributions fromplan/auto payment

Online modeling toolsretirement planning

Already offer

Prevalence—Currently Available Plans for 2013 Among Those Not Already Offering

Plan Sponsor Adoption*

Last year, plans sponsors continued to add new lifetime income options. The largest increase was managed payout with drawdown feature (9%). In-plan annuity additions were flat.

* 2013 Aon Hewitt Hot Topics in Retirement

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Fiduciary Implications

Criteria for selection process includes:

1. Engaging in objective, thorough, analytical search

2. Assessing insurers future claim paying abilities

3. Considering all fees relative to benefits under contract

4. Assessing whether insurer is financially viable at time of selection

5. Consulting with expert(s) to assist with assessment as necessary

The selection of an annuity provider for benefit distributions from an individual account plan satisfies the requirements of section 404(a)(1)(B)

of ERISA if the fiduciary complies with the following criteria

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Projected Income by Age—All OptionsExpected, Downside, and Upside Scenarios

$0

$10,000

$20,000

$30,000

$40,000

$50,000

$60,000

$70,000

$80,000

65 70 75 80 85 90 95 100 105

Annu

al In

come

Age

Annual Income for All Options 50th Percentile

4% Systematic Withdrawal GMWB Age 65 Annuity Managed Account

$0

$5,000

$10,000

$15,000

$20,000

$25,000

$30,000

$35,000

65 70 75 80 85 90 95 100 105

Annu

al In

come

Age

Annual Income for All Options 5th Percentile

4% Systematic Withdrawal GMWB Age 65 Annuity Managed Account

$0

$20,000

$40,000

$60,000

$80,000

$100,000

$120,000

$140,000

$160,000

$180,000

65 70 75 80 85 90 95 100 105

Annu

al In

come

Age

Annual Income for All Options 95th Percentile

4% Systematic Withdrawal GMWB Age 65 Annuity Managed Account

23

Projected Account Balance (Bequest) by Age—All OptionsExpected, Downside, and Upside Scenarios

$0

$50,000

$100,000

$150,000

$200,000

$250,000

$300,000

$350,000

$400,000

$450,000

65 70 75 80 85 90 95 100 105

Accoun

t Balan

ce

Age

Account Balance for All Options 5th Percentile

4% Systematic Withdrawal GMWB Age 65 Annuity Managed Account

$0

$100,000

$200,000

$300,000

$400,000

$500,000

$600,000

$700,000

$800,000

$900,000

$1,000,000

65 70 75 80 85 90 95 100 105

Accoun

t Balan

ce

Age

Account Balance for All Options 50th Percentile

4% Systematic Withdrawal GMWB Age 65 Annuity Managed Account

$0

$500,000

$1,000,000

$1,500,000

$2,000,000

$2,500,000

$3,000,000

$3,500,000

65 70 75 80 85 90 95 100 105

Accoun

t Balan

ce

Age

Account Balance for All Options 95th Percentile

4% Systematic Withdrawal GMWB Age 65 Annuity Managed Account

24

Percentile of Income by Age—All OptionsMultiple of Final Pay, Inflation-Adjusted

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

65 70 75 80 85 90 95 100 105

Annu

al In

come as a % of Final Pay

(adjusted for inflatio

n)

Age

4% Systematic Withdrawal

5% to 10% 10% to 25% 25% to 50% 50% to 75% 75% to 90% 90% to 95%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

65 70 75 80 85 90 95 100 105

Annu

al In

come as a % of Final Pay

(adjusted for inflatio

n)

Age

Age 65 Annuity

5% to 10% 10% to 25% 25% to 50% 50% to 75% 75% to 90% 90% to 95%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

65 70 75 80 85 90 95 100 105

Annu

al In

come as a % of Final Pay

(adjusted for inflatio

n)

Age

GMWB

5% to 10% 10% to 25% 25% to 50% 50% to 75% 75% to 90% 90% to 95%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

65 70 75 80 85 90 95 100 105

Annu

al In

come as a % of Final Pay

(adjusted for inflatio

n)

Age

Managed Account

5% to 10% 10% to 25% 25% to 50% 50% to 75% 75% to 90% 90% to 95%

25

Our Advisory Position

Generally supportive of Lifetime Income options

– DC plans will become critical source for generating retirement income

– Product landscape has evolved

– Major corporations have began to implement these solutions

– Government has provided solid fiduciary guidance and support

Initial concerns are being mitigated

– Greater fee transparency and improved portability through middleware

– Lower counterparty risk through better risk structures

– Design changes through integration with target date funds

Sponsors need to continue assessing these options

– Contemplate non-insurer and insurer solutions

– Need to assess the right time to add these options

– Assess any short term and long term fiduciary implications

26

Retirement Income Implementation Plan

Process Steps Goals and ObjectivesPhase One: General Overview, Scoping and Asset Class Decision Making

• Review the current market and trends• Understand the asset classes• Focus on optimal plan design and participant needs• Determine most suitable asset classes for further review

Phase Two: Product Analysis and Review

• Understand detailed due diligence on asset classes• Review of products and nuances• Focus on plan demographics and need

Phase Three: Final Fiduciary Analysis, Product Manufacturer Meeting and Finalist Interviews

• Understand Safe Harbor guidance and fiduciary implications

• Review benchmarking rules and participant disclosures• Contemplate future on-going due diligence requirements• Meet with income providers and select best solution(s)

Phase Four: Recordkeeping and Product Implementation

• Focus on Participant Experience and Integration• Review Participant Communication• Discuss Rollout Strategy• Review and understand timeframe for Record-keeper

implementation

Closing Remarks

Bob Penter, CFA

28

Question & Answer

Questions may be submitted at any time during the web seminar by typing the question in the "Ask a Question" text field and clicking "Submit." Questions will be answered live as time permits during the question and answer session.

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Our next investment strategy update call is scheduled for Wednesday, August 21, at 10 a.m. CDT.