best practices for maximizing cash returns in uncertain ... · best practices for maximizing cash...

J.P. Morgan Asset Management

New York February 2–3, 2011

Best Practices for Maximizing Cash Returns in Uncertain MarketsApril 2013

Stephen Parry, Executive Director, J.P. Morgan Global [email protected] 315 5754

FOR INSTITUTIONAL AND PROFESSIONAL USE ONLY NOT FOR PUBLIC DISTRIBUTION

OverviewOverview

Foreign central banks have flooded the markets with liquidity Foreign central banks have flooded the markets with liquidity

What are corporate treasurers doing now?

Regulatory reform - what is the potential impact for investors? Regulatory reform what is the potential impact for investors?

Interest rates are low, but will they head higher soon?

When rates normalize how will my portfolio perform?y p p

Which way are credit spreads heading?

In summary – what are the issues and opportunities?

FOR INSTITUTIONAL AND PROFESSIONAL USE ONLY NOT FOR PUBLIC DISTRIBUTION1

Foreign central banks have flooded the markets with liquidity


2

Bond markets reflect a global monetary experimentBond markets reflect a global monetary experimentUnprecedented Central Bank Intervention… …Has Driven Down Developed Market Yields…

Size of central bank balance sheet (in Millions of USD) US & German 2 Year Yields (%) Japanese 2 Year Yields (%)

3 500 000

4,000,000

4,500,000

3 500 000

4,000,000

4,500,000Federal Reserve

Bank of Japan

Bank of England

European Central Bank1.0

1.2

6

7 US 2 Year RatesGerman 2 Year RatesJapanese 2 Year Rates

2,500,000

3,000,000

3,500,000

2,500,000

3,000,000

3,500,000

0.84

5

1,500,000

2,000,000

1,500,000

2,000,000

0.4

0.6

2

3

500,000

1,000,000

500,000

1,000,000

0.20

1

Source: Bloomberg Data as of February 28 2013 S Bl b JPMSI D t f M h 27 2013

00

Dec

-99

Jun-

00D

ec-0

0Ju

n-01

Dec

-01

Jun-

02D

ec-0

2Ju

n-03

Dec

-03

Jun-

04D

ec-0

4Ju

n-05

Dec

-05

Jun-

06D

ec-0

6Ju

n-07

Dec

-07

Jun-

08D

ec-0

8Ju

n-09

Dec

-09

Jun-

10D

ec-1

0Ju

n-11

Dec

-11

Jun-

12D

ec-1

2

0.0-1

Dec

-99

Jul-0

0M

ar-0

1O

ct-0

1M

ay-0

2D

ec-0

2Ju

l-03

Feb-

04S

ep-0

4A

pr-0

5N

ov-0

5Ju

n-06

Jan-

07A

ug-0

7M

ar-0

8O

ct-0

8M

ay-0

9D

ec-0

9Ju

l-10

Feb-

11S

ep-1

1A

pr-1

2N

ov-1

2


Source: Bloomberg. Data as of February 28, 2013.

3

Source: Bloomberg, JPMSI. Data as of March 27, 2013

Mutual fund flows show money moving out of stocks and money market funds and into bond fundsfunds and into bond funds

Fund Flows

Billions, USD AUMYTD 2013 2012 2011 2010 2009 2008 2007 2006 2005 2004 2003 2002 2001 2000 1999

Domestic Equity 4 608 17 (156) (132) (81) (29) (149) (65) 0 18 101 120 (26) 55 261 176Domestic Equity 4,608 17 (156) (132) (81) (29) (149) (65) 0 18 101 120 (26) 55 261 176World Equity 1,689 35 3 4 58 28 (80) 139 149 106 71 24 (3) (22) 53 11Taxable Bond 2,899 43 254 137 224 310 21 98 45 27 5 40 125 76 (36) 8Tax-Exempt Bond 593 10 50 (12) 11 69 8 11 15 5 (15) (7) 17 11 (14) (12)Hybrid 1,042 18 46 29 29 12 (25) 41 18 37 48 38 8 9 (36) (14)Money Market 2,653 (43) 0 (124) (525) (539) 637 654 245 62 (157) (263) (46) 375 159 194Money Market 2,653 (43) 0 (124) (525) (539) 637 654 245 62 (157) (263) (46) 375 159 194

$140,000Municipals

High Yield and Bank Loans

+$129 Bln

Mutual Fund and ETF Fixed Income Flows for 2012

$1,600

Cumulative Flows into Stock & Bond FundsIncludes both mutual funds and ETFs, $ billions

$80,000

$100,000

$120,000 High Yield and Bank Loans

Governments

Intermediate Term

Long Term

Multisector and Absolute Return

$800

$1,000

$1,200

$1,400 Feb. ’13: $1,447 billion into bond funds and fixed income ETFs since ’07

$20,000

$40,000

$60,000 +$53 Bln+$46 Bln

+$18 Bln+$28 Bln

$200

$400

$600

$800

Bonds

Feb. ’13: $278 billion into stock funds and equity ETFs since ’07

Source: Investment Company Institute, J.P. Morgan Asset ManagementData include flows through February 2013 and exclude ETFs. ICI data are subject to periodic revisions. World equity flows are inclusive of emerging market, global equity and regional equity flows. Hybrid flows include asset

ll ti b l d f d fl ibl f d fl ibl tf li d i d i fl D t f 3/31/13

-$20,000

$0

-$0.637 Bln

Source: Morningstar US Open end ETF and MM Flows as of February 2013

$0'07 '08 '09 '10 '11 '12 '13

Stocks


allocation, balanced fund, flexible fund, flexible portfolio and mixed income flows. Data are as of 3/31/13.

4

Source: Morningstar, US Open-end, ETF, and MM Flows as of February 2013.

Strong technicals and good fundamentals have driven spreads and yields lowerlowerAs February 28, 2013

Option Adjusted Spread (bps) Yield (%)

700

800

Option Adjusted Spread (bps)BofA Merrill Lynch 1-5 Year Corporate A and above

Yield (%)BofA Merrill Lynch 1-5 Year Corporate A and above

8

9

500

600

6

7

300

400

Average spread

Average spread 12/31/09 – 2/28/13:

128 bps3

4

5

0

100

200g p

12/31/02 – 8/31/07: 56 bps

128 bps

1

2

0

Dec

-96

Feb-

98

Feb-

99

Feb-

00

Feb-

01

Feb-

02

Feb-

03

Feb-

04

Feb-

05

Feb-

06

Feb-

07

Feb-

08

Feb-

09

Feb-

10

Feb-

11

Feb-

12

Feb-

13

Source: BofA Merrill Lynch Indices. The above graph is shown for illustrative purposes only. Opinions and statements of financial market trends that are based on current market conditions constitute our judgment and are subject to change without notice

0

Dec

-96

Feb-

98

Feb-

99

Feb-

00

Feb-

01

Feb-

02

Feb-

03

Feb-

04

Feb-

05

Feb-

06

Feb-

07

Feb-

08

Feb-

09

Feb-

10

Feb-

11

Feb-

12

Feb-

13


5

Opinions and statements of financial market trends that are based on current market conditions constitute our judgment and are subject to change without notice

What are corporate treasurers doing now?


6

Segmenting liquidity needs for return optimizationSegmenting liquidity needs for return optimization

Risk ProfileTotal balance

sheet cashRisk Profile sheet cash

Strategiccash

Restrictedcash

Reservecash

O ti R

Operatingcash

cash

R t i t d St t iOperating

Cash typically used for daily operating needs may be subject to unforeseen

Reserve

Investment horizon of six to nine months or longer

Fairly static, d

Restricted

Balances trapped in highly regulated jurisdictions or with repatriation-related tax issues

Strategic

No short-term forecasted use

Cash on balance sheet that has not b hi t i llunforeseen

volatility

Requires preservation of principal

Late-day access

S d li idit

same-day access not needed

Cash set aside for possible acquisition, stock buy back or R&D

tax issues

Cash collateral tied to credit agreements or derivative contracts

been historically used

Investment horizon of one year or longer

The above chart is for illustrative purposes only

Same-day liquidity


The above chart is for illustrative purposes only.

Deploying corporate cashDeploying corporate cashCorporate Cash as a % of Current AssetsS&P 500 companies – cash and cash equivalents, quarterly30%

Corporate Growth

Capital Expenditures M&A Activity

$bn, nonfarm nonfinancial capex, quarterly value of deals completed

$1 400

$1,600

$

$1,300

20%

22%

24%

26%

28%

$600

$800

$1,000

$1,200

$1,400

$900

$1,000

$1,100

$1,200

Cash Returned to ShareholdersDividend Payout Ratio

'00 '01 '02 '03 '04 '05 '06 '07 '08 '09 '10 '11 '1214%

16%

18%

$0

$200

$400

$600

$700

$800

'00 '01 '02 '03 '04 '05 '06 '07 '08 '09 '10 '11 '12

$100

$120

$140

$160

$27

$30

$33

50%

60%

Cash Returned to ShareholdersDividend Payout RatioS&P 500 companies, rolling 4-quarter averages, billions USDS&P 500 companies, LTM

Dividends per Share

$40

$60

$80

$100

$18

$21

$24

30%

40%

Share Buybacks

$20$15'00 '01 '02 '03 '04 '05 '06 '07 '08 '09 '10 '11 '12 '13'00 '01 '02 '03 '04 '05 '06 '07 '08 '09 '10 '11 '12

20%

Source: Standard & Poor’s, FRB, Bloomberg, FactSet, J.P. Morgan Securities, J.P. Morgan Asset Management.

(Top left) Standard & Poor’s, FactSet, J.P. Morgan Asset Management. (Top right) M&A activity is the quarterly value of deals completed and capital expenditures are for nonfarm nonfinancial corporate business. (Bottom left) Standard & Poor’s, FactSet, J.P. Morgan A sse t Management. (Bottom right) Standard & Poor’s, Compustat, FactSet, J.P. Morgan Asset Management. Data are as of 3/31/13.


Strategies with more yield are attracting corporate cashStrategies with more yield are attracting corporate cash

Money Market Fund AUM ($)

40 000 000 000600 000 000 000

Managed Reserves & Short Duration AUM ($)

30,000,000,000

35,000,000,000

40,000,000,000

550,000,000,000

600,000,000,000JPMorgan Money Market Funds Managed Reserves Short Duration

20,000,000,000

25,000,000,000

450,000,000,000

500,000,000,000

10,000,000,000

15,000,000,000400,000,000,000

0

5,000,000,000

300,000,000,000

350,000,000,000

7 7 7 8 8 8 8 8 8 9 9 9 9 9 9 0 0 0 0 0 0 1 1 1 1 1 1 2 2 2 2 2 2 3

Chart shown for illustrative and discussion purposes only. Source: J.P. Morgan Asset Management. Data as of February 28, 2013.Opinions and statements of financial market trends that are based on c rrent market conditions constit te o r j dgment and are s bject to change itho t notice

Aug

-0O

ct-0

Dec

-0Fe

b-0

Apr

-0Ju

n-0

Aug

-0O

ct-0

Dec

-0Fe

b-0

Apr

-0Ju

n-0

Aug

-0O

ct-0

Dec

-0Fe

b-1

Apr

-1Ju

n-1

Aug

-1O

ct-1

Dec

-1Fe

b-1

Apr

-1Ju

n-1

Aug

-1O

ct-1

Dec

-1Fe

b-1

Apr

-1Ju

n-1

Aug

-1O

ct-1

Dec

-1Fe

b-1



After narrowing dramatically, yield spreads among strategies appear to have stabilizedhave stabilized

Yield (%)1.81.8

Liquidity Managed Reserves Short Duration 1-5 Years

1.4

1.6

1.4

1.6

0 8

1.0

1.2

0 8

1.0

1.2

0.4

0.6

0.8

0.4

0.6

0.8

0.0

0.2

0.0

0.2

1 1 1 1 1 1 1 2 2 2 2 2 2 2 2 2 2 2 3 3 3

Source: JPMorgan Asset Management. Data as of March 20, 2013Past performance is not indicati e of f t re res lts

Jun-

11

Jul-1

1

Aug

-11

Sep

-11

Oct

-11

Nov

-11

Dec

-11

Jan-

12

Mar

-12

Apr

-12

May

-12

Jun-

12

Jul-1

2

Aug

-12

Sep

-12

Oct

-12

Nov

-12

Dec

-12

Jan-

13

Feb-

13

Mar

-13


Past performance is not indicative of future results.

What are the options today?What are the options today?

Type of Portfolio Credit Quality Minimum Duration (yrs) Average Market

Yield (%)

Go ernment Mone Market A 1+ 0 1 0 16Government Money Market A-1+ 0.1 0.16

Credit Money Market A-1 0.1 0.26

Managed Reserves A 0.72 0.43g

Managed Reserves BBB 0.74 0.47

Short Duration A 2.60 0.80

Short Duration BBB 2.60 0.90

Data as of March 26, 2013The above is shown for illustrative purposes only


11

The above is shown for illustrative purposes only.

Regulatory reform – what is the potential impact for investors?


12

Money market fund regulation: Where are we going and what does it mean?

Investors value a stable NAV

Current Situation Possible SEC Proposal(s) Potential Impact

After significant reform in 2010, regulators are committed to additional

Money market fund regulation: Where are we going and what does it mean?

The FSOC proposed three alternatives in November 2012

more than additional yield. Cash moves from Prime Funds into Government Funds

Supply/demand imbalance may occur as demand for short

Prime Funds = Floating NAV

Treasury & Agency Funds = Stable NAV

regulators are committed to additional reform

Floating NAV

U.S.Stable NAV with “buffer” and

Treasuries, Agencies, and Repo backed by Treasuries and/or Agencies increases.

Yields on short Treasuries and Agencies may fall.

Muni Funds = Stable NAV ?

Stable NAV with buffer and minimum balance at risk

Stable NAV with “buffer” and other measures

Spread between Treasuries/ Agencies and “credit” widen → yield differential between Gov’tand Credit MMF’s may widen.

Demand may increase for t t ?

Concerns will remain around tax and accounting issues until a firm

ruling is made.

There remains a wide range of separate accounts?

─ Customization / Control

─ Search for Yield

Potential for greater use of

•Stand-by liquidity facility•Ability to suspend redemptions•Enhanced transparency

Other optionsThere remains a wide range of regulatory proposals that must be viewed/considered in the wider context of the Cash Management industry as a whole.

bank deposits

In Europe, Bloomberg recently received a report from the European Commission about it’s proposal for money market reform. Solution is coalescing around French style money market funds (floating rate NAV for all fund types). There is the potential to keep stable NAV, but must have a 3% buffer (held in cash).


Interest rates are low, but will they head higher soon?


14

Macro scenario probabilities & investment expectations: 2Q13

Base Case (80%): Sub Trend Recovery continues through 2013GDP 0 3%; Inflation 1 3%

Macro scenario probabilities & investment expectations: 2Q13ContractionExpansion

Recession (5%) GDP <0%; Inflation 0%– GDP 0-3%; Inflation 1-3%

– For the fifth consecutive year, we are forecasting below trend growth indeveloped and emerging economies

– Positives for global GDP include: the recovery in U.S. housing,bottoming of growth in China & Brazil, and averting a serious recessionin Europe due to austerity fatigue. Continuing central bank debt

ti ti l i k t f fi i l t d h

– GDP <0%; Inflation ~0%– We reduced our expectation for recession, as the lagged effect of negative

real rates is expected to boost growth in 2013– Recession could still result from public sector austerity leading to reduced

consumption leading to a slower rate of employment gains in a negativefeedback loop

monetization also improves markets for financial assets, and hence,funding

– Headwinds to growth include fiscal drag in the U.S., official restraint ofthe property sector in China, and continuing imbalances betweennorthern and southern Europe

– High yield, local emerging market debt and IG financials are the team’s

– Government bonds yields have risen sufficiently to offer attractive returns inthis scenario

Crisis (5%)– The most likely tail event is geopolitical (MENA, East Asia)– A smaller concern is that social unrest in southern Europe boils overfavorite sectors

Above Trend Growth (10%)– GDP >3%; Inflation ~2.5%– Unemployment rates continue to fall in the U.S., leading to a virtuous

cycle of income growth and spending. Pent up demand for autos and

– A smaller concern is that social unrest in southern Europe boils over,causing capital flight from a weak European country

– We are underweight safe haven assets, as we do not consider this scenariolikely

Stagflation (0%)GDP 0% I fl ti 3%cycle of income growth and spending. Pent up demand for autos and

housing sustain the growth– The weaker Japanese yen leads to more domestic consumption and

capital spending in Japan– A pick up in spending on infrastructure in Brazil (World Cup 2014,

Olympics 2016) and China (social housing) leads to stronger thanexpected EM growth

– GDP <0%; Inflation >3%– Central banks tacitly permit inflation to rise, targeting nominal GDP as real

growth falls– In order to avoid debt deflation, inflation picks up even as real demand

remains tepid while savings rates rise.– Commodities and inflation protected government bonds perform bestexpected EM growth

– Fears that QE3 will end during 2013 cause government bond yields torise sharply throughout the world

– Investors concerned about a growth scare favored shorting Treasuriesand going long EMFX to benefit from global rebalancing

p g p

Source: GFICC Investment Strategy Team. As of March 12, 2013. Opinions, estimates, forecasts, projections and statements of financial market trends that are based on current market conditions constitute our judgment and are subject to change itho t notice There can be no g arantee the ill be met


15

without notice. There can be no guarantee they will be met.

In spite of massive fiscal and monetary stimulus GDP growth remains below trendbelow trend

Size of Fed’s balance sheet ($ Millions)

U.S. GDP Quarterly (% Annualized)

103 500 000

Trend GDP

6

8

10

3,000,000

3,500,000

Federal Reserve Balance Sheet US GDP Quarterly (Annualized)

Trend GDP

0

2

4

2,000,000

2,500,000

-4

-2

1,000,000

1,500,000

-10

-8

-6

0

500,000

Source: Bloomberg As of March 28 2013

Dec

-99

Apr

-00

Aug

-00

Dec

-00

Apr

-01

Aug

-01

Dec

-01

Apr

-02

Aug

-02

Dec

-02

Apr

-03

Aug

-03

Dec

-03

Apr

-04

Aug

-04

Dec

-04

Apr

-05

Aug

-05

Dec

-05

Apr

-06

Aug

-06

Dec

-06

Apr

-07

Aug

-07

Dec

-07

Apr

-08

Aug

-08

Dec

-08

Apr

-09

Aug

-09

Dec

-09

Apr

-10

Aug

-10

Dec

-10

Apr

-11

Aug

-11

Dec

-11

Apr

-12

Aug

-12

Dec

-12


16

Source: Bloomberg. As of March 28, 2013

Interest rates can stay low for a long timeInterest rates can stay low for a long time

10-year Government Bond Rates (%)

5 0

4.0

4.5

5.0

Japanese 10-year Rates US, UK, Germany 10-year Rates equally weighted: starting June 2008

2.5

3.0

3.5

1.0

1.5

2.0

0.0

0.5

n-95

n-95

v-95

r-96

p-96

b-97

ul-9

7c-

97y-

98ct

-98

r-99

g-99

n-00

n-00

v-00

r-01

p-01

b-02

ul-0

2c-

02y-

03ct

-03

r-04

g-04

n-05

n-05

v-05

r-06

p-06

b-07

ul-0

7c-

07y-

08ct

-08

r-09

g-09

n-10

n-10

v-10

r-11

p-11

b-12

ul-1

2c-

12

Jan

Jun

Nov Ap Sep

Feb

Ju Dec

May Oc

Ma

Aug

Jan

Jun

Nov Ap Sep

Feb

Ju Dec

May Oc

Ma

Aug

Jan

Jun

Nov Ap Sep

Feb

Ju Dec

May Oc

Ma

Aug

Jan

Jun

Nov Ap Sep

Feb

Ju Dec

Source: JPMSI Data as of March 31 2013 The chart is shown for illustrative purposes only


17

Source: JPMSI. Data as of March 31, 2013. The chart is shown for illustrative purposes only.

When will the Fed end its zero interest rate policy?

10

When will the Fed end its zero interest rate policy?U.S. Unemployment Rate (%) U.S. Labor Force Participation Rate (%)

966

7

8

7.6%65

6

6.5

64

4

5

n-07

n-08

n-09

n-10

n-11

n-12

n-13

63Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13

63.3%

Jan

Jan

Jan

Jan

Jan

Jan

Jan

S Bl b D t f 4/5/13 Th b i h f ill t ti l O i i d f t b d t k t diti d bj t t h ith t ti

Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13


Source: Bloomberg. Data as of 4/5/13. The above is shown for illustrative purposes only. Opinions and forecasts are based on current market conditions and are subject to change without notice.

When does the market expect interest rates to rise?When does the market expect interest rates to rise?

When does the market expect interest rates to rise?When does the Fed expect interest rates to rise?

Appropriate Timing of Policy Firming

Fed Funds (%)

0.713

14

Number of Respondents

Appropriate Timing of Policy Firming March 2013 FOMC Meeting

0.5

0.6

10

12

0.3

0.4

4

6

8

0.1

0.2

1

4

12

4

Source: Bloomberg. Left Chart: Data as of March 20, 2013. Right Chart: Data as of March 31, 2013.The chart is shown for illustrative purposes only

0

Mar

-13

May

-13

Jul-1

3

Sep

-13

Nov

-13

Jan-

14

Mar

-14

May

-14

Jul-1

4

Sep

-14

Nov

-14

Jan-

15

Mar

-15

May

-15

Jul-1

5

Sep

-15

Nov

-15

Jan-

16

02013 2014 2015 2016


19

The chart is shown for illustrative purposes only.

When rates normalize how will my portfolio perform?


20

Historical rising rate environments

STRICTLY PRIVATE/CONFIDENTIAL

10.00 2 Year Treasury Yield 5 year Treasury Yield Fed Funds Target Rate

Historical rising rate environmentsTreasury Yields and Fed Funds Rate, %

6.00

7.00

8.00

9.00

3.00

4.00

5.00

-

1.00

2.00

n-90

ul-9

0ec

-90

ay-9

1ct

-91

ar-9

2g-

92n-

93n-

93ov

-93

pr-9

4p-

94b-

95ul

-95

ec-9

5ay

-96

ct-9

6ar

-97

g-97

n-98

n-98

ov-9

8pr

-99

p-99

b-00

ul-0

0ec

-00

ay-0

1ct

-01

ar-0

2g-

02n-

03n-

03ov

-03

pr-0

4p-

04b-

05ul

-05

ec-0

5ay

-06

ct-0

6ar

-07

g-07

n-08

n-08

ov-0

8pr

-09

p-09

b-10

ul-1

0ec

-10

ay-1

1ct

-11

ar-1

2g-

12n-

13

Ja J u De

Ma Oc

Ma

Au Ja Ju No Ap

Se Fe Ju De

Ma Oc

Ma

Au Ja Ju No Ap

Se Fe Ju De

Ma Oc

Ma

Au Ja Ju No Ap

Se Fe Ju De

Ma Oc

Ma

Au Ja Ju No Ap

Se Fe Ju De

Ma Oc

Ma

Au Ja

BofA Merrill Lynch 1-5 Gov/Corp Index 1993 1994 2004 2005 2006 2012

Price Return (%) 0.43 -6.77 -2.26 -2.69 -0.45 -0.03Income Return (%) 6.70 6.21 4.03 4.14 4.69 2.50

Source: Bloomberg. Data as of February 28, 2013.Shaded areas represent rising rate periods

Total Return (%) 7.13 -0.56 1.77 1.45 4.24 2.47

YTM (%) 4.62 7.82 3.42 3.95 2.93 0.69


21

Shaded areas represent rising rate periods.

Fund flows when the Fed turns: 1993 – 1994 fed funds rate +250 bps

8%9%6%

Fed Funds Target 5 Year U.S. Treasury Yield

Fund flows when the Fed turns: 1993 – 1994 fed funds rate +250 bps

Target Rate

Fed Funds Target and 5 Year Treasury Yield

Yield

3%4%5%6%7%8%

2%

3%

4%

5%Fed Funds Target 5 Year U.S. Treasury Yield

0%1%2%

0%

1%

1993 1994

M t l F d d ETF Fi d I Fl 1993 M t l F d d ETF Fi d I Fl 1994

$15 000

$20,000

$25,000

MunicipalsHigh Yield and Bank Loans$15 000

$20,000

$25,000

MunicipalsHigh Yield and Bank Loans

Mutual Fund and ETF Fixed Income Flows 1993

5 Year UST Yield:6.0% 5.2% ( -83bps)

Mutual Fund and ETF Fixed Income Flows 1994

Millions Millions 5 Year UST Yield:5.2% 7.8% ( +263bps)

-$5,000

$0

$5,000

$10,000

$15,000GovernmentsMultisector and Absolute Return

$10 000

-$5,000

$0

$5,000

$10,000

$15,000GovernmentsMultisector and Absolute Return

-$25,000

-$20,000

-$15,000

-$10,000

-$25,000

-$20,000

-$15,000

-$10,000

Source (Top): Bloomberg March 2013 Source (Bottom): Morningstar US Open end ETF and MM Flows as of February 2013 Data includes equity and bond mutual funds and ETF flows

Note: Data begins February 19931993 1994


22

Source (Top): Bloomberg March 2013. Source (Bottom): Morningstar, US Open-end, ETF, and MM Flows as of February 2013. Data includes equity and bond mutual funds and ETF flows.

Today there is less of a coupon cushion to offset a negative price moveToday there is less of a coupon cushion to offset a negative price move

9%15% P i R t C R t YTM

Coupon vs. Price Returns: BofA ML 1-5 Yr US Gov/Corp Index

Returns YTM

7.62%7.82%

8%

9%

10%

15% Price Return Coupon Return YTM

5 42%

5.20%

5 42%

6.05% 5.83%

6.59%

5.82%6%

7%

5%5.42%

4.62%

5.42%

4.97%4.00%

3.42%

3.95%4%

5%

0%

2.50% 2.45%

2.93%

2.07%

2.07%

2%

3%

-5%

1.37% 1.37%1.08%

0.69%

0%

1%

-10%90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12

Source: Bloomberg BofA Merrill Lynch Indices


23

Source: Bloomberg, BofA Merrill Lynch Indices

Estimated effect of rising rates on the sample portfoliosEstimated effect of rising rates on the sample portfolios From 5/31/04 to 6/30/06, interest rates rose approximately 200 bps

If rates rose the same amount over the next two years, assuming a linear upward move, we could see the following:

2.0

2.5

3.0Yield (%)

2.0

2.5

3.0

Yield (%)

0.5

1.0

1.5

0.5

1.0

1.5

2.0

Managed Reserves (A minimum rating)

As of March 1, 2013: Starting Yield 0.47%, Duration 0.72 years

Short Duration Portfolio (A minimum rating)

As of March 1, 2013: Starting Yield 0.80%, Duration 2.60 years

0.0March 2013 March 2014 March 2015

0.0March 2013 March 2014 March 2015

As of March 1, 2013: Starting Yield 0.47%, Duration 0.72 years As of March 1, 2013: Starting Yield 0.80%, Duration 2.60 years

Rate Shift over 2yrs Yield Return % Price Return Total Return (% Market Value)

200 2.86% -1.43% 1.43%150 2.38% -1.07% 1.31%100 1.90% -0.71% 1.18%

Rate Shift over 2yrs Yield Return % Price Return Total Return (% Market Value)

200 3.52% -5.19% -1.67%150 3.04% -3.90% -0.86%100 2.56% -2.60% -0.04%

Data as of March 1, 2013The above is shown for illustrative purposes only These figures are subject to change based on market conditions

50 1.42% -0.35% 1.06%- 0.94% 0.00% 0.94%(50) 0.46% 0.36% 0.82%

50 2.08% -1.30% 0.78%- 1.60% 0.01% 1.61%(50) 1.12% 1.33% 2.45%


24

The above is shown for illustrative purposes only. These figures are subject to change based on market conditions.

Which way are credit spreads headed?


25

Yields are at historic lows but spreads are notAs of March 31, 2013BofA Merrill Lynch 1-5 Year Corporate

OAS (bps) Yield (%)

Yields are at historic lows but spreads are not

6

7

8

9

10

500

600

700

800OAS Yield to Worst

1

2

3

4

5

100

200

300

400

00

Oct

-94

Mar

-95

Aug-

95

Jan-

96

Jun-

96

Nov

-96

Apr

-97

Sep-

97

Feb-

98Ju

l-98

Dec

-98

May

-99

Oct

-99

Mar

-00

Aug

-00

Jan-

01Ju

n-01

Nov

-01

Apr

-02

Sep-

02

Feb-

03Ju

l-03

Dec

-03

May

-04

Oct

-04

Mar

-05

Aug

-05

Jan-

06Ju

n-06

Nov

-06

Apr

-07

Sep-

07

Feb-

08Ju

l-08

Dec

-08

May

-09

Oct

-09

Mar

-10

Aug

-10

Jan-

11Ju

n-11

Nov

-11

Apr

-12

Sep-

12

Feb-

13

BofA Merrill Lynch Corporate

1-5 yearYTD 2012

Total Return 6.59%

P i R t 2 37%

BofA Merrill Lynch Corporate

1-5 yearYTD 2012

Total Return 6.59%

Fi i l 9 30%

Source: BofA Merrill Lynch Indices. The above graph is shown for illustrative purposes only. Opinions and statements of financial market trends that are based on current market conditions constitute our judgment and are subject to change without notice

Price Return 2.37%

Coupon Return 4.22%

3-year Treasury Total Return 0.57%

Financials 9.30%

Industrials 4.55%

Utilities 4.56%



26

Corporate finances are in good shapeCorporate finances are in good shape

240%$1,600

Corporate Financing GapNonfarm nonfinancial corporate business, billions USD

Total Internal Funds

Total LeverageS&P 500, ratio of total debt to total equity, quarterly

220%

$1,000

$1,200

$1,400

Total Internal Funds

Total Capital Expenditures

Companies must

borrow

180%

200%

'94 '96 '98 '00 '02 '04 '06 '08 '10 '12$400

$600

$800

Companies can fund internally

Average: 173%

160%

7x

8x

9x

Interest Coverage Ratio (EBIT / Net Interest)S&P 500, quarterly

3Q12:7.2x

120%

140%

2

3x

4x

5x

6x

Source: Federal Reserve, Compustat, Standard & Poor’s, FactSet, J.P. Morgan Asset Management. Data are as of 3/31/13.(Top Left): All data is from the Fed’s Flow of Funds tables report Z 1 F 102 lines 9 and 11 Total internal funds equal retained earnings plus depreciation

'94 '96 '98 '00 '02 '04 '06 '08 '10 '12100%

'94 '96 '98 '00 '02 '04 '06 '08 '10 '120x

1x

2x

4Q12 : 108%


(Top Left): All data is from the Fed s Flow of Funds tables report Z.1, F.102 lines 9 and 11. Total internal funds equal retained earnings plus depreciation.

27

LBO risk is back security selection will be paramount

$168%$115

LBO risk is back, security selection will be paramount

Price $

Dell 5.4% 9/10/2040 Price and Yield Change YTD Dell Equity Price History YTD

Price $Yield

$147%$110

PriceYield

$10

$12

5%

6%

$100

$105Dell stock has rallied over 30%The benchmark Dell

dropped 20 points while yields rose 152 bps

$6

$8

3%

4%

$90

$95

$2

$4

1%

2%

$80

$85

$0

$2

12/31/2012 1/31/2013 3/3/20130%

1%

$75

$80

12/31/2012 1/31/2013 3/3/2013

Source: Bloomberg as of March 2013Source: Bloomberg as of March 2013


28

Source: Bloomberg as of March 2013.Source: Bloomberg as of March 2013.

In summary – what are the issues and opportunities?


29

SummarySummary

Foreign Central Banks have driven down interest rates and flooded the system with liquidity Foreign Central Banks have driven down interest rates and flooded the system with liquidity

The search for yield has forced investors into higher yielding investments narrowing credit spreads

Corporate treasurers are looking to put more money out the curve as cash balances grow and the need for moreCorporate treasurers are looking to put more money out the curve as cash balances grow and the need for more yield increases, diversification and cash forecasting remains critical

Floating rate NAVs are likely to be imposed on prime money market funds

We do not think interest rates are headed higher anytime soon

With interest rates low there is little cushion to offset any rise in interest rates

W i t ti dit d We remain constructive on credit spreads


30

J P Morgan Asset ManagementJ.P. Morgan Asset ManagementFor Professional/ Institutional Clients only – not for Retail use or distribution.

This document has been produced for information purposes only and as such the views contained herein are not to be taken as an advice or recommendation to buy or sell any investment or interest thereto. Reliance upon information in this material is at the sole discretion of the reader. Any research in this document has been obtained and may have been acted upon by J.P. Morgan Asset Management for its own purpose. The results of such research are being made available as additional information and do not necessarily reflect the views of J.P.Morgan Asset Management. Any forecasts, figures, opinions, statements of financial market trends or investment techniques and strategies expressed are unless otherwise stated J P Morgan Asset Management’s own at the date of this document They are considered to be reliable at the time of writing may not necessarily be all inclusive and are not guaranteed as to accuracy They may be subject to change withoutstated, J.P. Morgan Asset Management s own at the date of this document. They are considered to be reliable at the time of writing, may not necessarily be all-inclusive and are not guaranteed as to accuracy. They may be subject to change without reference or notification to you. Both past performance and yield may not be a reliable guide to future performance and you should be aware that the value of securities and any income arising from them may fluctuate in accordance with market conditions. There is no guarantee that any forecast made will come to pass.

Fixed Income Risks: The strategy is subject to management risk and may not achieve its objective if the adviser’s expectations regarding particular securities or markets are not met. The strategy mainly invests in bonds and other debt securities. These securities will increase or decrease in value based on changes in interest rates. If rates increase, the value of the Strategy’s investments generally declines. On the other hand, if rates fall, the value of the investments generally increases. Your investment will decline in value if the value of the investments decreases. Securities with greater interest rate sensitivity and longer maturities tend to produce higher yields, but are subject to greater fluctuations in value. Usually, the changes in the value of fixed income securities will not affect cash income generated, but may affect the value of your investment. The strategy’s investments are subject to the risk that a counterparty will fail to make payments when due or default completely. If an issuer’s financial condition worsens, the credit quality of the issuer may deteriorate making it difficult for the manager to sell such investments. The manager may use derivatives in connection with its investment strategies. Derivatives may be q y y g g g y g yriskier than other types of investments because they may be more sensitive to changes in economic or market conditions than other types of investments and could result in losses that significantly exceed the strategy’s original investments. Certain derivatives may give rise to a form of leverage. As a result, the strategy may be more volatile than if the strategy had not been leveraged because the leverage tends to exaggerate the effect of any increase or decrease in the value of the portfolio’s securities. Derivatives are also subject to the risk that changes in the value of a derivative may not correlate perfectly with the underlying asset, rate or index. The use of derivatives for hedging or risk management purposes or to increase income or gain may not be successful, resulting in losses to a portfolio, and the cost of such strategies may reduce a portfolio’s returns. Derivatives would also expose a portfolio to the credit risk of the derivative counterparty.

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