Market Volatility. The Royal Bank of Scotland, January Source: Royal Bank of Scotland.

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1 Market Volatility Sell everything except high quality bonds. This is about return of capital, not return on capital. In a crowded hall, exit doors are small. The Royal Bank of Scotland, January 2016 Source: Royal Bank of Scotland.

2 Sovereign Debt Defaults Brazil Ecuador Greece Nigeria Russia Turkey Venezuela Sources: This Time is Different Chartbook: Country Histories on Debt, Default, and Financial Crises, Carmen M. Reinhart / Milken Institute

3 Assets of the 4 Biggest Banks (% of GDP, 2015) Source: IMF GDP estimates 2015, Thomson Reuters (4/07/16).

4 "Progress always involves risk; you can't steal second base and keep your foot on first." Frederick Wilcox

5 The only strategy that is guaranteed to fail is not taking risks. Mark Zuckerberg

6 A cash current account surplus? Not really China Balance of Payments (BOP) Current Account vs. SAFE Data on Net Payments (as of December 31, 2015) USD (Billions) Q06 4Q06 3Q07 2Q08 1Q09 4Q09 3Q10 2Q11 1Q12 4Q12 3Q13 2Q14 1Q15 4Q SAFE Data on Net Payments China BOP Current Account #MIGlobal Source: CEIC and State Administration of Foreign Exchange of the People s Republic of China (SAFE).

7 The Chinese banking system s H-bomb The rapid expansion of Chinese banks wealth management products (WMPs) presents a growing threat to financial stability WMPs held off-balance sheet are akin to western banks conduits/structured investment vehicles (SIVs) in 2008 WMPs are more toxic and much larger than western bank asset-backed conduits & SIVs: o China s WMPs: 9% of total assets and rising at YE2015 o Western bank conduits/sivs: 2.5% of total assets for western banks in : Western Banks Total SIVs Total Bank Assets SIVs / Bank Assets Citibank 1 $147bn $2,187bn 6.7% ABN AMRO 83bn 1,481bn 5.6% Bank : Chinese Banks Total SIVs Total Bank Assets SIVs / Bank Assets China Merchants 1,820bn 5,208bn 35% Bank 3 China Everbright 876bn 3,167bn 28% Bank Company 3 #MIGlobal Source: Bloomberg and Company Financials. 1 FY FY FY 2015.

8 It s getting harder to find domestic suckers China corporate credit defaults accelerating The 16 defaults YTD (through April 21) have already exceeded defaults for all of 2015 and more telling, 8 of the 16 defaults are related to state-owned enterprises Number of Corporate Credit Defaults in China credit defaults are on pace to more than quintuple 2015 levels 51 While local governments have historically helped support struggling enterprises, there is a limit to support that state sponsors can provide, especially to companies in structurally challenged industries It shows the government is taking away the implicit guarantee Now risk awareness is rising, so we will see which issuers are swimming naked. - Quote from the Chief Economist at a Hong Kong Bank #MIGlobal Source: JP Morgan, Caixin, Quote taken from a Bloomberg News article (April 18, 2016) & company information.

9 Institutional Investor Base for Non-investment Grade Loans Loan mutual funds, financial and insurance companies Hedge,distressed and high-yield funds CLOs Banks 100% 80% 60% 40% 20% 0% Sources: S&P LCD (4/11/16).

10 Concentration of Three Largest Banks Total assets of top 3 banks as a percentage of home country s gross domestic product 250% 197% of GDP ($4.9 trillion) 200% 150% 100% 50% 0% Societe Generale Credit Agricole BNP Paribas France 34% of GDP ($6.2T) J.P. Morgan Bank of America Wells Fargo United States Source: Bloomberg (4/20/2016).

11 Source: Bloomberg. What s changed? 5,000 4,500 4,000 3,500 3,000 2,500 2,000 1,500 1, Apr 00 High Yield YTW & 10 YR UST Rate (%) Apr 01 Apr 02 Apr 03 Apr 04 Apr 05 Apr 06 Apr 07 Apr 08 Apr 09 Apr 10 Apr 11 Apr 12 Apr 13 Apr 14 Apr 15 S&P 500 Index & Fed Balance Sheet ($bns) HY YTW Fed Balance Sheet S&P Yr UST

12 Levels: Pre- & Post-Crisis FACTORS Common Uncommon GEO POLITICAL Middle East Brexit China / Russia Zika: Impact of a Pandemic Japan: Long term Negative Growth Petro politics REGULATORY CAPITAL MARKETS Shrinking Broker Dealer balance sheets Market volatility Bank lending standards Near end of credit cycle Greater price volatility Continued low rates despite end of QE Increased demand for private capital More barriers for managers Growth in exogenous risks Mutual fund liquidity rules Extra innings for this credit cycle New Gap Up/Down world PE ratio / debt issuance Kicking the can on fiscal policy Source: Crescent.

13 Skate to where the puck is going, not to where it is. Wayne Gretzky

14 Defensive Stocks are Trading at Significant Premium to Cyclical Stocks MSCI World Index, January 2000 March % 80% Defensive Stocks at Premium 60% 40% 43% 20% 0% 20% 40% 60% Defensive Stocks at Discount 80% Note: The Forward P/E of a stock is its price divided by the consensus EPS estimate for the next twelve months. Premium/Discount is the median forward P/E ratio of the most defensive quintile divided by the median forward P/E ratio of the most cyclical quintile, less 100%. The cyclicality of a stock is calculated as its 60-month beta to the monthly performance spread between the Russell Global Dynamic and Russell Global Defensive indices. Universe consists of the constituents of the MSCI World Index. #MIGlobal Source: FactSet, MSCI, Russell Investment Indices

15 MSCI World Value vs. MSCI World Growth Relative Ratio of 12-month Rolling Returns, March 1992 March Growth Outperformance Value Outperformance /1/1991 6/1/ /1/1992 6/1/ /1/1993 6/1/ /1/1994 6/1/ /1/1995 6/1/ /1/1996 6/1/ /1/1997 6/1/ /1/1998 6/1/ /1/1999 6/1/ /1/2000 6/1/ /1/2001 6/1/ /1/2002 6/1/ /1/2003 6/1/ /1/2004 6/1/ /1/2005 6/1/ /1/2006 6/1/ /1/2007 6/1/ /1/2008 6/1/ /1/2009 6/1/ /1/2010 6/1/ /1/2011 6/1/ /1/2012 6/1/ /1/2013 6/1/ /1/2014 6/1/ /1/2015 #MIGlobal Source: FactSet.

16 Financials are Not Participating in 2016 Value Rally YTD Local Currency performance of Value Factor Components MSCI World Universe as of April 19, % 7.5% 5.0% 2.5% 0.0% Div Yield B/P (WORLD) B/P (EAFE) E/P E/P NTM 2.5% 5.0% ex Financials Full Universe #MIGlobal Source: Bloomberg.

17 Valuation Gaps amongst Sectors MSCI World Book-to-Price Intra-sector Valuation Dispersion (current relative to history) December 1999 March 2016 Standard Deviations #MIGlobal Source: FactSet, Causeway Analytics.

18 The beauty of compounding Are Return Expectations Realistic? $1 Invested Since 1AD at 5% $2,391,102,204,613,620,000,000,000,000,000,000,000,000,000 5%: 2.4 x %: 1.6 x10 17 Stars in the universe 1 x #MIGlobal Source: CQS analysis, as at 31 March 2016.

19 Regulatory danger to derivatives market US$ trillions #MIGlobal Source: BIS, Global OTC Derivatives Market notional amounts outstanding (6/10/2015).

20 Why very low interest rates may stick around Long term interest rates 20% In the long arc of history, high interest rates from 1970 to 2007 look like the aberration, not the norm 15% 10% U.S. 5% Britain 0% #MIGlobal US Civil War World War I World War II Global Financial Crisis Source: New York Times (12/2015) and Global Finance Group.

21 Central Bank Target Interest Rates Remain Low Percent Bank of England U.S. Fed European Central Bank Bank of Japan Source: Bloomberg 2/5/15.