The Scream - Edvard Munch 1893 Current Market Update and Recent Developments

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1 2011 ANNUAL MEETING AND EDUCATION CONFERENCE American College of Investment Counsel New York, NY The Scream - Edvard Munch 1893 Current Market Update and Recent Developments Thursday, October 20, :30 a.m. 9:30 a.m. Peter L. Borowitz (Moderator) Loc McNew AIG Asset Management Michael G. Thilmany HSBC Securities (USA) Inc. Madhavi Venkatesan The Hartford Financial Services Group, Inc.

2 PRIVATE PLACEMENT MARKET OVERVIEW Presented by: Loc McNew Senior Managing Director Head of Private Debt Investments September 2011

3 Private Placement Market Overview Annual Private Placement Volume (USD billions) Monthly Private Placement Volume (USD billions) New Record? H11 Jan-10 Feb-10 Source: Volume estimates from Thomson Reuters , Bank of America Merrill Lynch 1H11 Mar-10 Apr-10 May-10 Jun-10 Jul-10 Aug-10 Sep-10 Oct-10 Nov-10 Dec-10 Jan-11 Feb-11 Mar-11 Apr-11 May-11 Jun-11 The Private Placement remains an attractive source of capital for borrowers around the world and continues to grow in importance. Private Placement volume averaged $33.9 billion annually during the 10 year period from , representing a 30% increase from the $26 billion average annual volume from The market is on a record pace through 1H11. Volume improved 34% in 1H11 when compared with the prior year period. 1H11 volume exceeded the annual total of 3 of the past 10 years and was only 4% below Activity declined considerably in July and August, but has resumed in September and remains on record pace. Historically low US Treasury yields and tight credit spreads creating attractive yield environment for issuers. 2

4 Private Placement Market Overview Issuer Environment Private Placement Volume by NAIC Designation Domestic vs. Cross Border Issuers 76% 73% 36% 61% 3% 56% 44% 27% 24% 0% 0% 0% 37.0% 63.0% 53.0% 47.0% 44.5% 55.5% 68.1% 31.9% H H11 NAIC 1 NAIC 2 NAIC 3 Domestic Cross-Border Cross border activity as a percentage of the market increased significantly in 1H11. Issuers attracted to Private Placement market for the flexibility in deal structure and tenors that may not otherwise be available in their domestic markets. European issuers accounted for the majority of cross border activity representing 39% of 1H11 Private Placement volume. Although investors remain cautious on certain sovereigns, strong issuers can still raise capital. Issuers from countries such as Belgium, Ireland, and Italy have successfully issued new Privates in 2011 despite heightened sovereign concerns. Many issuers using the low yield environment to reduce their weighted average cost of capital. Delayed Funding activity reached 14.8% of 2010 circled volume and was 12.4% of 1H11, compared with just 6.7% in 2009 and 4.5% in According to Bank of America Merrill Lynch data, 43% of recent circled volume included some form of deferred funding between 6 and 18 months.

5 Private Placement Market Overview Investor Environment Average Spread to US Treasuries vs. Volume Average New Deal Size ($ millions) Spread (bps) Volume ($ billions) Q07 2Q07 3Q07 4Q07 1Q08 2Q08 3Q08 4Q08 1Q09 2Q09 3Q09 4Q09 1Q10 2Q10 3Q10 4Q10 1Q11 2Q11 NAIC 1 NAIC 2 Volume (RHS) H11 Domestic Cross-Border and Bloomberg Competition for deals has been relatively intense. Private Placement investors have substantial capital to invest, which is keeping spreads tight and driving down yields in this historically low US Treasury rate environment. Deals have frequently been oversubscribed by multiples of the cover amount with some receiving multiple bids for the entire deal. Substantial deal oversubscriptions are driving down investor allocations. Bid sizes getting larger at many institutions, signaling deal interest, more capital to invest, or an attempt to improve allocations. Smaller allocations on agented deals contributing to more direct placement activity. Oversubscriptions providing issuers the opportunity to greatly upsize deals from the original cover amount. Average deal size has steadily increased for both domestic and cross-border issuers driving an increase in combined average deal size to $211 million in 2010 and $237 million in 1H11. 4

6 Private Placement Market Overview Investor Environment Average Deal Tenor (years) H11 Market Activity by Industry Sector H11 Industrial 22% 31% Utility 15% 15% Tech / Business Services 8% 12% Energy 17% 12% Real Estate 2% 11% Financials 7% 9% Food & Beverage 9% 5% Healthcare 4% 3% Gaming 1% 2% Consumer 6% 2% Sports 5% 1% Retail 2% 0% Education 0% 0% Government 2% 0% Media 1% 0% Deal tenors continue to increase with the 10 year maturity remaining the most common representing 25% of transactions. 77% of 1H11 deals between 5 and 20 year maturities. No deals less than 5 years have been completed this year. The defensive Industrial, Utility, and Energy sectors remain the most active. Investors willing to complete deals at competitive spreads in many out-of-favor industries if the credit story is appealing. Although risk tolerance is improving, the market remains disciplined as evidenced by some deals being pulled from the market due to concerns surrounding industry or country-at-risk. NAIC 3 issuers still not receiving much interest, though this is largely related to the substantial increase in risk-based-capital charge required of insurance company investors compared with NAIC 1 or NAIC 2 issuers. Attractive pricing for NAIC 3 transactions is prohibitive for issuers in most instances. 5

7 Private Placement Market Overview Documentation Progress Standard documentation terms continue to evolve with the changing regulatory and economic reality. Many provisions have become commonly accepted by Issuers as standard new deal terms, such as the following: Anti-Cookson Language: Ensures bank financing cannot achieve priority status over the Private Placement Notes. FAS 159 / IAS 39 Fair Value Accounting Prohibition: Fair value accounting for liabilities is ignored in calculating covenant compliance ratios. Purchase Offers without Make-Whole: Issuers permitted to make pro-rata offers to purchase outstanding Private Placement notes without Make-Whole if Noteholders tender their notes. Improvements in OFAC protections consistent with new model form language. Although not yet standard, often seeing mandatory prepayment offers tied to OFAC Events. Additional topics of interest to address going forward include: Enhancements to OFAC compliance to include Controlled Affiliates in both Representations and Covenants. Definition of GAAP: NAIC enforcing requirement that international issuers that do not report under acceptable GAAP standards must provide a reconciliation to US GAAP (SEC Form 20F) in order to receive a NAIC designation. Acceptable GAAP standards include: US GAAP, IFRS, Canadian GAAP, UK GAAP, and Australian GAAP. 6

8 Private Placement Market Overview Other Challenges and Trends Evolving NAIC enforcement mechanisms may alter investment decisions and deal structures for specific securities going forward. SSAP No. 43 R: Bonds such as CTLs and ETCs to be considered structured securities similar to mortgage-back or assetback securities when assigning a NAIC designation. Change will impact Risk Based Capital requirements and impair secondary market for such securities. Appetite for European issuance remains robust despite ongoing economic headwinds in the region, but will this continue if difficulties persist? Although certain jurisdictions and industries have faced increased scrutiny, strong issuers in countries with widely publicized sovereign risks are still able to secure financing. Will fears of contagion from peripheral countries facing default risk reduce investor appetite for the region entirely? Direct Placement process appears to be gaining favor among investors. Strong investor liquidity, weaker allocations on agented deals, and growing demand for the Private Placement product driving an increase in direct placement activity. Direct placement volume increasing in number and size. Direct deals of $100 million or more being completed in small club groups and through single institutions. 7

9 Private Placement Market Traditional Private Placement League Tables H11 Broker / Bank Issue Size 1 ($ millions) Market Share (%) No. of Issues Issue Size 1 ($ millions) Market Share (%) No. of Issues Bank of America Merrill Lynch 11, , JP Morgan 7, , RBS 4, , Citi 3, , Barclays Capital 2, , Wells Fargo & Co 1, HSBC Holdings PLC 1, Deutsche Bank AG 1, National Australia Bank 1, BNP Paribas SA 1, RBC Capital Markets Goldman Sachs & Co NA NA NA Mitsubishi UFJ Financial Group US Bancorp Credit Agricole CIB Other 1, NA 3, NA Industry Total 40, , Source: 2010 Thomson Reuters, 1H11 - Private Placement Letter. 1 Full Credit to Lead, Equal if Joint. 8