KDP ASSET MANAGEMENT, INC.

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1 ASSET MANAGEMENT, INC. High Yield Bond and Senior Secured Bank Loan Outlook November 2018 Asset Management, Inc. 24 Elm Street Montpelier, Vermont

2 High Yield Observations Fundamentals The US HY issuer default rate was unchanged in October unchanged at 2.6%. Defaults are projected to continue to be modest, remaining well below average historical levels. Near-term maturities are very low given the magnitude of ongoing refinancings. Earnings for HY companies have been improving in most industries. HY credit metrics continue to improve with higher EBDITA and moderating leverage. analysts continue to see supportive fundamentals. Technicals The HY market returned -1.6% in October compared with +0.6% in September, +0.7% in August and +1.10% in July. The decline was broad based with all HY sectors in negative territory. The decline was led by the sizable Energy sector that posted a -2.6% return for the month. In addition, the Building Materials sector was down 2.5%, the Automotive Sector -2.0% and the Technology sector -1.6%. Returns by rating reflected a risk off environment. For October CCCs returned -2.8%, Bs returned -1.6% and BBs, -1.4%. Indeed, October went against the 2018 trend of higher risk HY bonds outperforming. Primary new issuance was an inactive $11.0B compared with a larger, but still sluggish, $18.7B in September. The last nine months of issuance have been muted following January which saw the heaviest start to a calendar year since Net HY issuance remains well below historical monthly averages as proceeds have been primarily for refinancings, providing a positive technical tailwind. In fact, YTD net HY new issuance is down 37% from the corresponding year earlier period. HY weekly fund flows were a negative -$6.5B in October compared with a negative -$2.1B in September and an inflow of $1.5B in August. Valuations Market performance is currently more dependent on interest rate risk rather than credit risk, reflecting solid global economic activity and improving credit fundamentals. Higher-quality carry remains attractive, reflecting a broadly supportive macro environment. The risk/reward for CCCs is diminishing given impressive strong outperformance in recent years, the bifurcation of credit risk, and the negative implications of the cap on net interest deductibility to 30% of EBDITA with the enactment of tax reform. Macro Supportive global economic growth and low credit default expectations augur well for HY relative returns in the foreseeable future. believes that Defensive HY credits will continue to offer attractive risk/return opportunities compared to other fixed income classes given their: Significant spread advantages Relative shorter duration Lower correlation when interest rates rise maintains its up-in-quality preference given the relatively late stage of the credit cycle and potential geopolitical or policy uncertainties/missteps. 2

3 The Case for High Yield Fundamentals: Defaults Forecast to Remain Low and Well Below Long-Term Average Rates Technicals: HY Bond Issuance Has Significantly Lagged Recent Years, Providing a Positive Tailwind Source: J.P.Morgan, Default Monitor, 11/1/2018 Source: Goldman Sachs, The Credit Trader, 11/1/2018 Macro: Higher Quality HY Continues to Offer Best Risk / Reward Valuation: HY Bond Yields Highest in Two Years Following October s Volatility Source: Goldman Sachs, The Credit Trader, 11/1/ Source: Credit Suisse, CS Credit Strategy Daily Comment, 11/2/2018

4 Senior Secured Bank Loan Observations Fundamentals Default activity remains low but picked up a little in October with four loan defaults. There was only one leveraged loan default in September compared with none in August, only one in July and none in June. The par weighted default rate in October was 1.92% compared with September s 2.02%, August s 1.92%, July s 1.97% and June s 1.99%. The default rate excluding iheart was 1.29% in October. The overall low level of defaults reflects solid economic and credit fundamentals. No near-term maturity concerns reflecting record level of refinancing/repricing. Leverage beginning to increase as M&A activity picks up. Interest coverage levels remain at elevated levels. Technicals Loans produced a relatively flat -0.04% return in October significantly outperforming other fixed income assets. Loans returned +0.71% in September, +0.49% in August and +0.79% in July. Loans have outperformed HY Bonds in nine of the last thirteen months. In October, loans rated BB performed best with a return of % followed by Bs that returned %. Loans rated Split-B/CCC which have performed best most of the year lagged significantly with a return of -0.90%. Gross loan issuance in October was $64.8B compared with $35.0B in September, $39.0B in August and July s two-year low of $20.5B. For comparison, gross loan issuance in June was $88.3B Weekly loan fund flows were - $680 MM compared with +$859 MM in September, +$930 MM in August and $453MM in July. October reflected the first negative flow month after nine consecutive positive inflow months. Gross CLO issuance in October was $25.7B compared with the prior month s $17.4B, the lowest total in a year. CLO issuance was $27.0B in August, following $26.1B in July. Despite the dip in September, CLO issuance is on pace for a record year providing an additional bid for loans. Valuations Loan prices came under pressure in October falling to compared with in September. The percent of loans trading above par at the end of October was 36.2% compared with 64.9% at the end of September, 47.8% at the end of August, 47.9% at the end of July and up from 20.1% at the end of June. This is still significantly lower than the 75.1% in April. The spread to the 3-year takeout in October was 401bp compared with September s 382bp, August s 392bp which was the same as at the end of July. This compares with 419bp at year-end The yield to the 3-year takeout for the broad-loan market was 7.06% in October compared with 6.80% in September, 6.73% in August, 6.80% in July and 6.84% in June as swap rates continued to rise on Fed rate increases. YTD, the increase in LIBOR has been greater than the spread margin decrease. Loan volatility tends to be significantly lower when compared to HY bonds as loans are higher in the cap structure, have higher recovery levels, and are floating with LIBOR rates which are expected to continue rising. Macro Loans, due to their negative convexity and short duration, are a carry-asset trade. In the current environment, loans are also an attractive total return vehicle. High quality floating-rate bank loans are compelling given the attractive risk/reward adjusted returns, and portfolio diversification benefits. Elimination of the CLO risk retention rule has been a near-term tailwind for secondary loan prices and potentially wider spreads. Flows into leveraged loans projected to remain positive given higher Treasury yields, and strong CLO and Institutional demand. Floating-rate nature of bank loans provides a natural hedge to increasing interest rates and lowers duration risk. Negative correlation to Treasuries and low correlation to other asset classes. 4

5 The Case for Senior Secured Bank Loans Fundamentals: Defaults Forecast to Remain Low and Well Below Long-Term Average Rates Technicals: Loan Inflows Continue for Tenth Straight Month in October Source: J.P.Morgan, Default Monitor, 11/1/2018 Source: J.P. Morgan, High Yield and Leveraged Loan Market Monitor, 11/2/2018 Macro: Loans Are Very Attractive Given Their Seniority, Rising Carry, and Minimum Duration Risk Valuation: Loan Coupon Forecast to Continue to Rise as LIBOR Increases on Fed Hikes Source: Goldman Sachs, The Credit Trader, 11/1/ Source: Credit Suisse, CS Credit Strategy Daily Comment, 11/7/2018

6 This is an analytical piece and the asset classes discussed herein, and any other materials provided to you, are intended only for discussion purposes and are not intended as an offer or solicitation of an offer with respect to the purchase or sale of any security and should not be relied upon by you in evaluating the merits of investing in any securities. These materials are not intended for distribution to, or use by, any person or entity in any jurisdiction or country where such distribution or use is contrary to local law or regulation. Past performance is not indicative of future results. The asset classes discussed herein should not be perceived as investment recommendations. It should not be assumed that investments in any asset class discussed was or will prove profitable. The views expressed herein represent the opinions of Asset Management, Inc. and its affiliates and are not intended as a forecast or guarantee of future results. This material may not be reproduced or used in any form or medium without express written permission. Additional information on, including fee schedules can be found in Form ADV Part II which is available upon request. 6