Lazard Emerging Markets Debt

Transcription

1 Lazard Emerging Markets Debt 8/18 Platform Review Performance Summary as of 31 August 218 (All data in US dollars; %, unless otherwise noted) Benchmark-Aware Strategies Annualized 1 Month YTD 1 Year 3 Years 5 Years Since Inception (1 December 21) Emerging Markets Debt Core JPMorgan EMBI Global Diversified Index Excess Return Emerging Markets Debt Local Debt JPMorgan GBI-EM Global Diversified Index Excess Return Since Inception (1 March 216) Emerging Markets Debt Corporate Broad N/A N/A 8.27 JPMorgan CEMBI Broad Diversified Index N/A N/A 5.61 Excess Return N/A N/A +266 Since Inception (1 October 211) Emerging Markets Debt Blend % JPM EMBI Global Diversified/ 5% JPM GBI-EM Global Diversified Index Excess Return Benchmark-Unaware Strategy Since Inception (1 December 21) Emerging Markets Debt Total Return Performance is presented gross of fees. The performance quoted represents past performance. Past performance is not a reliable indicator of future results. Please refer to the Important Information section for a brief description of each composite. ESG: Moving from Niche to Mainstream Environmental, social, and governance (ESG) investing has grown from niche to mainstream due primarily to the growth and increasing sophistication of influential institutional investors who must align their investment objectives with the interests of their large constituencies. J.P. Morgan estimates that the size of the global socially responsible investing (SRI) market is roughly $23 trillion (Exhibit 1). ESG has traditionally been more widespread in equity investing, but the concept is increasingly incorporated into fixed income investing (Exhibit 2). Not long ago, emerging markets were largely considered beyond the reach of sustainable investing. The primary approach was to apply negative screens and restrictions on countries, industries, and companies that did not align with an investor s ethical values. Today, emerging markets investors have access to a wealth of data and information on ESG-related issues. Investors may harvest this data to enable a better understanding of how ESG issues affect risks and opportunities. Evidence suggests a clear correlation exists between a country s borrowing costs and the strengths of its governance and institutions, indicating that investors need not sacrifice returns to achieve their sustainable investing objectives. In other words, investors can do good and do well. Sustainable investing can be defined in numerous ways, but can be broadly described as expanding traditional return and risk objectives to reflect investors values and beliefs beyond pure financial metrics. Four ways that ESG goals can be incorporated in a portfolio are: negative screening, positive RD1217 For Financial Professional Use Only. Not for Public Distribution.

2 2 Exhibit 1 Global SRI Assets Have Surpassed $2 Trillion ($B) 15, 1, 5, Europe As of 31 December 216 North America Asia Source: Global Sustainable Investment Alliance, J.P. Morgan Australia Exhibit 2 ESG Investing Is Becoming More Prevalent in Fixed Income ESG Fund Universe by Asset Class Real Estate 2.9% Money Market 7.% Mixed Allocation 1.3% As of May 218 Fixed Income 15.8% Source: Bloomberg, J.P. Morgan Equity 59.9% Other 4.1% screening, ESG integration, and corporate engagement. Negative screening involves the exclusion of issuers or sectors involved in activities that are in conflict with ESG values. Examples may include weapon manufacturing, tobacco, alcohol, and nuclear power. On the other hand, positive screening seeks to encourage investment in issuers with desirable ESG characteristics. ESG integration involves the incorporation of ESG metrics in all aspects of the investment process, including expected returns and risk analysis. Lastly, corporate engagement is the process by which investors actively seek to influence corporations to address and improve ESG shortcomings. We believe the market for ESG investing is at a turning point where these factors are no longer just a consideration in the investment process. The availability and quality of ESG metrics and reporting have improved significantly, allowing for the creation of ESG benchmark indices. Regardless of how one defines sustainable investing, ESG factors should at a minimum be fully integrated into the decision-making process to ensure that ESG-related risks are adequately compensated along with other risk factors such as interest rate risk, credit risk, currency risk, and liquidity risk. ESG considerations are critical to a country s institutions and we have found that governance indicators tend to have a high correlation to sovereign spreads levels. Moreover, countries that have defaulted over the past two decades tend to score very low on governance indicators. In order to incorporate ESG factors into an investment process, one must first be able to measure and quantify these factors. Several third-party service providers and data aggregators have recently emerged to help investors identify issuers that follow better or worse practices in different ESG areas. This industry is still in its infancy and is rather fragmented. Our bottom-up research ranks countries across 14 indicators including: Transparency International s Corruption Perceptions Index World Bank s Ease of Doing Business Rankings World Bank s Rule of Law Indicators United Nations Human Development Indicators World Economic Forum s Global Competitiveness Index Fund for Peace s Fragile State Index Yale s Environmental Performance Index ESG issues are one of the many factors we evaluate as part of our bottom-up research process. In our fundamental assessment of sovereign credits, we assign a 5% weighting to ESG factors and a 5% weighting to economic factors. The large ESG weighting reflects our belief that institutional strength is the biggest driver of creditworthiness and, therefore, emerging markets credit spreads. As a result, we believe our evaluation of ESG considerations has been a key driver of performance over time. Ultimately, the goal of analyzing ESG factors is to determine whether we are adequately compensated for the risks. For example, Turkey has long suffered from weak governance and institutions and we believe that these risks, along with significant economic and financial risks, are not adequately compensated based on current valuations and thus, we have chosen not to hold an active position in the country. On the other hand, a country such as Venezuela also suffers from weak governance and institutions (as well as very high levels of economic and financial risk), however we believe these risks are well compensated based on current valuations and the potential for regime change. While it is difficult to forecast the timing of such a change and who may eventually rise to power, the change is likely to lead to a significant improvement in governance factors and a corresponding improvement in the Venezuelan economy. In addition to incorporating ESG factors into our research approach, we also believe it is important to engage with issuers, when possible, in order to monitor and influence progress on ESG factors. Influencing change in sovereign issuers is more of a challenge, but this can play an important role with corporate issuers. For example, we held an overweight position in the Brazilian oil and gas

3 3 company, Petrobras, for much of the past couple years partly due to the company s positive ESG trajectory and regularly met with company management to monitor and track progress on ESG issues. Petrobras was implicated in corruption investigations in Brazil, but the company s new management team stressed their intent to address past allegations. These efforts had a material impact as senior personnel from companies involved in the allegations were brought to justice by Brazilian, US, and Swiss authorities. The company also took the step of creating a compliance department and independent board subcommittees which significantly improved governance. Additionally, greater transparency on key decision-making processes, such as domestic fuel pricing policy, demonstrated the company s independence compared to the past, when Brazilian government officials heavily influenced decisions to favor their own agendas instead of the economics of Petrobras. For investors looking to incorporate ESG principles into their portfolio beyond the integration of these factors, a key development is J.P. Morgan s recent launch of a suite of ESG indices ( JESG ) around their widely used flagship emerging markets debt indices. This represents the first move by an emerging markets fixed income index provider to promote sustainable investing. More importantly, the JESG versions of the hard currency sovereign, local currency, and corporate indices have delivered comparable returns to the conventional counterparts dispelling the notion that sustainable investing requires sacrificing financial gains (Exhibit 3). As J.P. Morgan notes, this relative parity is achieved despite the modestly lower yields for the JESG indices from the exclusion of issuers with the weakest ESG scores, which are typically also associated with a higher risk premium. The JESG indices also have slightly higher overall credit quality than the baseline indices and during periods of low and negative returns on the asset class, the JESG indices tend to exhibit better resilience (Exhibit 4). The JESG benchmark construction methodology is systematic, quantifiable, and transparent. The first step in the index construction is to source ESG factor data for each issuer, including event-driven signals that leverage big data techniques as well as longer-term scores based on rigorous fundamental research. Each issuer is then scored on a scale of to 1 and issuer weightings in the JESG indices are formulaically rebalanced from the baseline weight. J.P. Morgan also incorporates a positive screen for green bonds1 that increases their index weight. Lastly, they apply a series of negative screens to exclude certain issuers. The negative screens are applied to issuers flagged for violating United Nations Global Compact principles by deriving revenues from thermal coal, tobacco, and weapons. Issuers with an ESG score of less than 2 are also flagged. We are committed to advancing sustainable investing principles and believe that in-depth analysis of ESG factors is critical to the investment decision-making process. Emerging markets have recently been challenged with countries with weak governance and institutions, such as Turkey, Argentina, and Russia. We do Exhibit 3 ESG Indices Have Earned Returns Comparable to Conventional Indices Hard Currency EMBI GD JESG EMBI GD Local Currency GBI-EM GD JESG GBI-EM GD CEMBI BD Corporate JESG CEMBI BD Return Standard Deviation For the period since JSEG inception (31 December 212) to 31 August 218 Source: J.P. Morgan Exhibit 4 ESG Indices Have Outperformed in Most Down Markets Hard Currency EMBI GD JESG EMBI GD Local Currency GBI-EM GD JESG GBI-EM GD CEMBI BD Corporate JESG CEMBI BD Dec 12 Jan Jan 16 Mar Mar 18 Aug As of 31 August 218 Source: J.P. Morgan not anticipate a prolonged period of emerging markets stress with the exception of some of the more vulnerable countries. Negative sentiment towards emerging markets has been building in recent months and raises the possibility of further consolidation in the near term. Factors contributing to the accumulation of negative sentiment towards emerging markets include China s slowing economy, escalating trade tensions, and in certain countries, election uncertainty, monetary tightening, and risk of sanctions. Despite these near-term headwinds, we remain constructive on the medium-term outlook for emerging markets. Emerging markets growth has rebounded both on an absolute basis and relative to developed markets. While growth expectations have receded in certain countries such as Brazil and Russia, most countries are unlikely to move into recession. Additionally, inflation differentials between emerging and developed markets have narrowed. Although recent currency depreciation and the rise in oil prices will have the inevitable pass through to inflation, we do not expect the effects to be beyond the scope of what central banks are prepared to handle. With few exceptions (e.g., Turkey), we view emerging markets as on much more stable ground than they were during the 213 Taper Tantrum as the vast majority of countries have made significant progress in correcting economic imbalances over the past five years. Recent volatility has been characterized by a degree of indiscriminate selling which has resulted in attractive valuations in a number of

4 4 countries with solid-to-improving fundamentals. Therefore, we have shifted risk towards bottom-up alpha opportunities. Risks that we are monitoring closely include trade policy, a potential slowdown in global growth, a policy error by the Federal Reserve, continued tightening of financial conditions, and the flattening of the US yield curve. Strategy Positioning and Performance Core The J.P. Morgan EMBI Global Diversified Index fell 1.73% in August, the largest monthly drop since February and the sixth monthly fall in 218. The asset class was roiled by a wave of global risk aversion, fueled by fears of trade protectionism amid an environment of continued global monetary tightening. These conditions brought a renewed focus on countries with external vulnerabilities, leading to a sharp sell-off in the Argentine peso, the Turkish lira, and the South African rand, in particular. Currency pressures in the former two countries reached crisis levels, with Argentina forced to sharply hike interest rates for the fifth time since May, seek accelerated disbursements from the IMF, and announce a new round of fiscal austerity measures. Turkey s currency crisis pressured banks and other corporates with large short-term external funding needs, and was exacerbated by government inaction in the face of the lira s extreme depreciation. High yielding credits, especially in sub-saharan Africa, also sold off sharply due to a decline in risk appetite. Treasury yields declined in August, but this move was more than offset by 44 basis points of spread widening which reached their highest levels since the post-us election sell-off in 216 before tightening somewhat to finish the month at 37 bps. Non-investment grade credits lost considerable ground in August, while investment grade credits registered slightly positive returns during the month, thanks to their safe haven characteristics. Top performers in August included off-the-run credits whose illiquidity shielded them from broader market weakness, including Suriname (+1.5%), Vietnam (+.9%), and Tajikistan and India (both +.7%). Low yielding, better quality credits like Peru (+.9%), China, and Malaysia (both +.8%) also outperformed. Zambia s 17.8% decline in August was driven by weak copper prices, as well as by worries about the government s commitment to an IMF program, especially after the IMF s resident representative announced he would leave the country at month-end. Argentina fell 11.9% and Turkey declined 9.5% as a result of their currency crises. Lazard Emerging Markets Debt Core underperformed the J.P. Morgan EMBI Global Diversified Index in August. The main detractor from relative performance was a large overweight in high yield countries, which underperformed their investment grade counterparts by 4%. From a bottom-up perspective, overweight positions in select high yield credits including Egypt, Venezuela, and Kenya were notable detractors. Egypt, which is our top overweight position, underperformed amid general negative sentiment towards higher yielding countries despite its improving fundamentals and IMF support. Kenya underperformed as its IMF program, which is set to expire in September, looks less likely to be renewed. Despite progress in implementing fiscal reform, Kenya has shown no progress on its willingness to remove interest rate caps, which is a key component to the renewal of the IMF program. The strategy s long-standing underweight positions in low yielding, higher quality countries based on unattractive valuations including China, the Philippines, Malaysia, and Poland also detracted as these countries outperformed alongside other safe haven credits. In Turkey, security selection detracted from relative performance, as we were overweight quasi-sovereign issuers, which underperformed amid the country s currency crisis in August. A small allocation to corporates in Turkey also detracted. We shifted to an underweight position in Turkey s sovereign debt early in the month as we are structurally negative on the country. These losses were tempered by an overweight position in the Dominican Republic which withstood the rise in global risk aversion. We maintain a favorable medium-term outlook on emerging markets external debt, especially with the significant improvement in valuations. Although we believe the global backdrop remains supportive over the medium term, we have reduced the strategy s risk budget in light of a more uncertain global backdrop that warrants a more prudent investment stance. We have not materially altered the strategy s top-down positioning although we have pared somewhat our overweight position in high yield credits and may look to further reduce this exposure as we increasingly see attractive opportunities in higher quality credits where valuations have improved significantly. From a bottom-up perspective, we continue to identify attractive idiosyncratic opportunities, especially in BB and B rated countries with improving credit profiles that offer yields in the 7% 9% range. The strategy s top overweight positions continue to include Egypt, Ukraine, Angola, and the Dominican Republic. We pared our overweight exposure to Costa Rica and Argentina during the month, shifted Lebanon to market weight, and reduced our Turkey overweight to a.8% underweight position. We offset the reduction in these high yield positions by reducing the strategy s underweight to Croatia, Peru, and the Philippines. We also shifted from a slight underweight to a slight overweight in Indonesia and increased our Paraguay overweight. We continue to see value in short-dated corporates, which offer an attractive yield pickup versus similar maturity sovereigns. Local After a short-lived rebound in July, emerging markets local debt experienced renewed volatility in August. The J.P. Morgan GBI-EM Global Diversified Index fell 6.9%, with spot depreciation in emerging markets currencies accounting for over 8% of the decline. The downturn in the index was largely driven by four countries: Argentina (-35.7%), Turkey (-34.3%), South Africa (-12.4%), and Russia (-1.5%). Thailand (+1.4%) was the only country in the index to post a positive return during the month.

5 5 While the US dollar was broadly stable against developed markets currencies, sanctions on Russia and Turkey sparked the sell-off as negative sentiment spread to other markets. Other country-specific factors also contributed to the drawdown in the asset class during the month. Argentina saw a renewed collapse in the peso as the authorities were forced to revise their funding needs higher and announced a more austere balance sheet consolidation program. Meanwhile, Turkey failed to instill investor confidence in the aftermath of sanctions announced by the United States. Turkish officials have resorted to short-term liquidity fixes rather than addressing structural external balance sheet vulnerabilities and banking system issues. South Africa also underperformed as ANC officials intensified discussions of land expropriation, including comments that called for the state to take land from owners of more than 12, hectares. The South African economy also remained in recession. Finally, Brazilian assets underperformed as the most market-friendly candidates in the large pool of potential candidates lost ground in the opinion polls ahead of the general elections scheduled to take place in October. Lazard Emerging Markets Debt Local underperformed the J.P. Morgan GBI-EM Global Diversified Index in August. Relative performance was mainly driven by positioning in local currencies. Within this allocation, the strategy s overweight positions in the Russian ruble and the Brazilian real were the most notable detractors. The ruble underperformed following the announcement of new US sanctions and fears of additional sanctions. Meanwhile, the real underperformed as leftist candidates gained in the polls ahead of next month s general election, the outcome of which remains highly uncertain and has increased the uncertainty as to whether the next president will succeed in passing much-needed pension reform. Positioning in local rates also detracted from relative performance. Notable detractors included the strategy s overweight position in Brazil and South Africa, which we pared during the month on increased risks in both markets. Our medium-term outlook for local currency debt remains constructive. However, we have continued to slightly reduce overall risk in the strategy in light of near-term downside risks. We have recently shifted risk away from the more beta-oriented positions that we held earlier in the year and redeployed risk towards bottom-up alpha opportunities. The strategy s top positions remained largely unchanged in August, but at reduced levels of active risk. We continue to hold overweight duration positions in South Africa and Brazil, albeit at reduced levels, and we maintained our large underweight duration position in central and eastern European countries, where yields are low and central banks have begun to turn more hawkish. In currencies, we reduced exposure to certain higher yielders including the Russian ruble and the South African rand. We also eliminated our relative value long position in the Singapore dollar, which we held against the Thai baht and initiated a long position in the Philippine peso against a short position in the Taiwan dollar. Corporates Emerging markets corporates declined in August as the J.P. Morgan CEMBI Broad Diversified Index fell 1.8%, largely driven by negative sentiment toward emerging markets. Spreads widened by 44 bps in August to end the month at 314 bps. As a result, investment grade corporates outperformed high yield corporates by 2.8%. From an industry standpoint, commodityrelated sectors underperformed as materials prices declined amid risk-off sentiment, ongoing concerns over trade protectionism, and weakening China demand. Meanwhile, the TMT, industrials, diversified, and real estate sectors were notable outperformers. From a regional standpoint, Asia outperformed, largely driven by lower US Treasury yields, while Europe continued to lag, largely owing to Turkey. Turkey was the main driver of negative performance in the index, as spreads widened significantly amid increased concerns surrounding the country s ability to fund ongoing deficits, which were exacerbated by policy inaction. Argentina was also a notable underperformer despite the country s recent policy actions, including hiking rates and a plan to eliminate its fiscal deficit. Primary market issuance of $17 billion increased from July, but was below the level of last August, bringing year-to-date issuance to $254 billion, which is roughly 2% below the level for the same period a year ago. Moreover, net issuance remains low at just $12 billion thus far in 218, with Asia the only region with positive net issuance. Defaults remain low at.5% of the high yield portion of the index. Defaults outside of the index have been slightly higher driven by China, although these were isolated cases and names held mainly by local investors. Lazard Emerging Markets Debt Corporate Broad underperformed the J.P. Morgan CEMBI Broad Diversified Index in August. Relative underperformance was driven mainly by country selection. Specifically, the strategy s overweight position in Argentina detracted as did underweight positions in Asian countries, which outperformed in August. In Argentina, the strategy s overweight position in an electricity generator was the most notable detractor as the company s bonds sold off due to a combination of macro concerns and allegations against the company s chairman, which resulted in his arrest. In our view, the issues leading to the chairman s arrest were related to actions during the Kirchner administration that were unrelated to the company. These losses were partially offset by sector selection, including an overweight position in the TMT sector, and security selection, notably bottom-up credit selection in the oil & gas sector, where the strategy is underweight Argentina and overweight South Korea. While volatility has increased due to a number of factors including central bank tightening, trade tensions, and elections, emerging markets corporates have outperformed other emerging markets asset classes since market volatility increased and we expect this to continue due to solid fundamentals, attractive valuations, and favorable technical factors. While risks to growth may be increasing, we continue to feel corporate balance sheets are well positioned

6 6 to weather increased market turbulence. Corporate fundamentals are solid and most companies have exhibited earnings growth and improved margins through cost-cutting efforts. As a result, leverage has declined and is on an improving trajectory. Liquidity profiles are also strong as companies took advantage of strong demand and low rates over the past couple of years to refinance their existing debt at attractive rates and longer maturities. We continue to monitor and reassess issuers credit strength and our investment theses as earnings results are released and the macro backdrop evolves in an effort to identify vulnerable credits in our holdings and potentially attractive opportunities outside our existing holdings. From a valuation standpoint, spreads and all-in yields have improved significantly since the beginning of the year. Emerging markets corporate valuations are attractive relative to their respective sovereigns, as well as similar quality developed markets corporates. Admittedly, the margin for error remains somewhat low, so we continue to be highly selective in our credit selection. Issuance has tapered off in recent months, creating a technical environment that lacks any substantial headwinds. We continue to seek to identify stable and improving bottom-up idiosyncratic stories and we expect volatility and dispersion to create attractive opportunities. We are comfortable maintaining a bias to high yield with a focus on companies whose solid credit profile is not fully reflected in valuations. We have maintained a bias towards short duration, higher quality companies within the strategy s high yield exposure and we have looked to deploy proceeds from calls, tenders, and maturities into solid credit where valuations have widened unjustifiably. Meanwhile, we continue to be proactive in repositioning out of bonds where valuations do not provide adequate compensation for fundamentals or liquidity risk. Blend Lazard Emerging Markets Debt Blend underperformed the 5% J.P. Morgan EMBI Global Diversified/5% J.P. Morgan GBI-EM Global Diversified Index in August. We continued to hold a neutral position from an overall asset allocation perspective and the main drivers of the strategy s relative performance were bottom-up positioning in sovereign credit and local currencies. In sovereign credit, we held a large overweight in high yield countries, which underperformed investment grade debt by 4% in August amid the general risk-off environment in emerging markets. On a countryspecific basis, the largest detractors were overweight positions in Egypt, Venezuela, and Kenya. Long-standing underweight positions in higher quality countries in Asia and Europe, including China, the Philippines, Malaysia, and Poland, also detracted as these safe haven credits outperformed during the month. Bottom-up positioning in local currency was also a key detractor from relative performance. Within this allocation, the largest detractor was the Russian ruble, which underperformed due to concerns regarding US sanctions. Entering the month, this was the strategy s largest currency overweight position as valuations are attractive given Russia s strong fundamentals. We reduced the position during the month as uncertainty on sanctions is likely to continue to weigh on the currency in the near term. To a lesser extent, overweight positions in other high yielding currencies such as the Brazilian real and Indonesian rupiah also detracted from performance. Lastly, in local rates overweight duration positions in South Africa and Brazil detracted from performance. We reduced the strategy s overweight duration positions in both countries during the month and have retained modest overweight positions. Real yields in South Africa and Brazil are some of the most attractive in emerging markets, although we expect to continue to reduce the strategy s position in Brazil, as uncertainty is likely to increase ahead of the October presidential election. We maintain a constructive medium-term outlook on emerging markets debt. Downside risks may persist in the near term, so we have pared the overall risk in the strategy although not in a significant manner. Recent volatility has led to attractive valuations and, in our view, should lead to greater differentiation between countries going forward. Accordingly, we continue to allocate the majority of our risk budget to bottom-up opportunities in external debt, where we see the greatest potential for risk-adjusted returns. In sovereign credit, the strategy s top overweight positions include Egypt, Ukraine, Angola, and the Dominican Republic, where credit profiles are solid-to-improving and yields remain attractive, in our view. We continued to reduce exposure to weaker and more vulnerable countries such as Argentina and Lebanon during the month. We also moved to an underweight position in Turkey, as we are structurally negative on the country, which is in need of major rebalancing. Meanwhile, we have rotated into higher quality countries where valuations have improved, such as Colombia, Peru, and Indonesia. We have also maintained a roughly 5% off-benchmark allocation to corporates, where we see value primarily in short-dated issues that offer an attractive yield pickup versus similar maturity sovereigns. In currencies, we eliminated our long Singapore dollar versus Thai baht position and added a long position in the Philippine peso against a short position in the Taiwan dollar. As we have pared exposure to some of the higher yielding currencies, we are evaluating opportunities in currencies where valuations are attractive, policy appears to be moving in the right direction, and there is less idiosyncratic risk, such as the Chilean peso. Total Return Lazard Emerging Markets Debt Total Return returned -3.67% in August, roughly in line with the broader asset class. Bottom-up positioning in local currencies and sovereign credit were the main detractors from absolute performance. The strategy s long position in emerging markets currencies, which we reduced from 25% to 15% during the month, detracted roughly 16 bps. Long positions in the South African rand, Brazilian real, and Russian ruble were among the key detractors within this allocation. The strategy s bottom-up positioning in sovereign credit detracted roughly 17 bps. We began the month with a long exposure of roughly 6% across more than 2 countries and a roughly 2% short risk position in

7 7 Mexico. On a country-specific basis, long positions in high yielding African credits including Egypt, Kenya, and Ghana were among the notable detractors from absolute returns, as these countries sold off on negative sentiment towards emerging markets countries. A long position in Argentina also detracted. We continued to reduce exposure to Argentina during the month as the economy is likely headed for recession and President Macri s approval ratings are likely to remain weak given recent developments. To a lesser extent, the strategy s roughly 2% net long position in corporate credit and idiosyncratic rates positions each detracted to the tune of about 3 bps each. Corporate credit outperformed other segments of the asset class, but was not immune to the broader sell-off in August. We have maintained our allocation and continue to identify attractive idiosyncratic opportunities. In local rates, the strategy s long positions in Russia, South Africa, and Brazil each detracted, and we eliminated our long position in Russia during the month as we see increased risks of further US sanctions in the near term. Although inflation is within the central bank s target range, inflationary pressures are increasing, partially owing to the depreciation of the ruble. These losses were partially offset by portfolio hedges in put options on a diversified basket of currencies intended to protect against broad asset class declines, which contributed roughly 3 bps to absolute performance. We maintain a favorable medium-term outlook on emerging markets debt and continue to deploy a significant amount of the strategy s overall risk budget. However, we continue to use hedging strategies to mitigate downside risks. Given the strategy s focus on risk-adjusted returns, we are always looking for inexpensive and efficient forms of insurance. As a result of attractive valuations and our constructive medium-term outlook, the strategy currently yields roughly 8%. The key investment themes that we have emphasized over the past several months remain largely unchanged. We see the greatest potential for risk-adjusted returns in sovereign credit, and we have allocated our risk budget accordingly with roughly 4% of the strategy s net exposure in dollar-denominated sovereign debt. During August, we continued to rotate away from more vulnerable countries and those that have exhibited significant policy error, such as Lebanon and Argentina, while reinstating a long position in a basket of long-dated bonds of higher quality countries to take advantage of steep credit curves in select markets such as Indonesia, Colombia, and Saudi Arabia. We also maintained the strategy s net long position in emerging markets currencies, albeit at reduced levels. Recent volatility has resulted in dislocations that have created bottom-up alpha opportunities, in our view, and we are deploying risk largely in relative value positions as opposed to the more betaoriented positions that we held earlier in the year. We continue to hold roughly 2% exposure to defensive corporates, which provide a modicum of yield with relatively low credit and interest rate risk. Finally, we hold exposure to local rates in select markets, namely South Africa and Brazil. Real yields in South Africa and Brazil are some of the most attractive in emerging markets, although we expect to continue to reduce our position in Brazil, as uncertainty is likely to increase ahead of the October presidential election. We have a high degree of conviction in our current positioning and believe that through these key themes, the strategy is well positioned to earn attractive risk-adjusted returns. Sincerely, Denise S. Simon Managing Director, Portfolio Manager/Analyst Arif T. Joshi, CFA Managing Director, Portfolio Manager/Analyst

8 8 Emerging Markets Debt Core Characteristics Lazard Benchmark 2 Yield to Maturity Duration (years) Average Coupon Key Hard Currency Exposure and Quasi- Lazard O/W or U/W Egypt 2.4 Ukraine 2.4 Angola 1.8 Dominican Republic 1.6 Sri Lanka 1.5 Costa Rica 1.5 Kenya 1.5 El Salvador 1.2 South Africa 1.1 Venezuela 1. Romania -1.4 Peru -1.7 Kazakhstan -2. Poland -2.1 Chile -2.2 Panama -2.2 Malaysia -2.6 Hungary -2.7 Philippines -2.8 China -4.5 Key Corporate Exposure Lazard O/W or U/W Brazil 1.5 Russia 1.2 Guatemala 1. Peru.7 Colombia.7 Sector Allocation External Corporate 1.5% Quality Distribution Investment Grade Lazard BB External Quasi 14.7% 45.5 Performance Attribution 2 B 27.3 External 73.1% 5.9 CCC & below J.P. Morgan EMBI Global Diversified Index 1 Month YTD Cash 1.7% Year Not Rated Since Inception 1 Hard Currency Country Selection Security Selection Local Debt Rates FX Corporates Cash Total Notes As of 31 August Inception date: 1 December 21 2 Relative to the J.P. Morgan EMBI Global Diversified Index. The allocations and specific securities are based upon a portfolio that represents the proposed investment for a fully discretionary account. Allocations and security selection are subject to change. Attribution is based upon a representative portfolio and is versus the benchmark noted. Attribution analysis is provided for illustrative purposes only, as values are calculated based on returns gross of fees. Performance would be lower if fees and expenses were included. Past performance is not a reliable indicator of future results. Lazard receives credit quality ratings on the underlying securities of the portfolio from the major reporting agencies Standard & Poor s (S&P), Moody s, and Fitch. The credit quality breakdown is provided by Lazard by using the S&P rating when the agencies assign the same rating to a security. In the event the ratings differ, Lazard will use the same of the two out of three ratings. If there are only two, Lazard uses the lower of the two. Lazard converts all ratings to the equivalent S&P major rating category for purposes of the categories shown. Bonds rated BBB and above are considered investment grade. Bonds rated below BBB are generally referred to as speculative grade securities. Bonds rated BB, B, or CCC are regarded as possessing a speculative capacity to pay debt service because of the negative factors or uncertainties for which there are no compensating positive factors. Ratings from BBB to CCC may be modified by the addition of a plus (+) or minus (-) sign to show relative standing within each of the major rating categories. An N/R category consists of rateable securities that have not been rated by a Nationally Recognized Statistical Rating Organization (NRSRO). Unrated securities do not necessarily indicate low quality. Ratings and the portfolio s credit quality distribution may change over time. The portfolio itself has not been rated by an independent rating agency. Source: Lazard, J.P. Morgan

9 9 Emerging Markets Debt Local Debt Characteristics Lazard Benchmark 2 Yield to Maturity Duration (years) Average Coupon Key Currency Exposure and Quasi- Lazard O/W or U/W Philippines 2. Mexico 1.4 Czech Republic 1.4 Chile 1.3 Russia 1.2 Indonesia 1. Nigeria.6 India -1.1 Taiwan -2.1 Hungary -2.5 Key Duration Exposure (DV1) Lazard O/W or U/W South Africa 12 Brazil 1 Chile 7 Peru 5 India 4 Romania -4 Malaysia -4 Poland -11 Thailand -12 Hungary -2 Gross Regional Allocation Asia 15.2 Eastern Europe Gross Sector Allocation Bonds..5.8 Quasi- Bonds Corporate Bonds Inflation Linked Gross Quality Distribution Latin America 11.7 Interest Rate Swaps 24.9 Forwards/ NDFs/ Options 15.8 Middle East & Africa USD Cash AAA/AA Lazard A BBB BB Not Rated J.P. Morgan GBI-EM Global Diversified Index B Forwards/ NDFs/IRS Performance Attribution 2 Total As of 31 August Inception Date: 1 December 21 2 Relative to the J.P. Morgan GBI-EM Global Diversified Index. The allocations and specific securities are based upon a portfolio that represents the proposed investment for a fully discretionary account. Allocations and security selection are subject to change. Attribution is based upon a representative portfolio and is versus the benchmark noted. Attribution analysis is provided for illustrative purposes only, as values are calculated based on returns gross of fees. Performance would be lower if fees and expenses were included. Past performance is not a reliable indicator of future results. Lazard receives credit quality ratings on the underlying securities of the portfolio from the major reporting agencies Standard & Poor s (S&P), Moody s, and Fitch. The credit quality breakdown is provided by Lazard by using the S&P rating when the agencies assign the same rating to a security. In the event the ratings differ, Lazard will use the same of the two out of three ratings. If there are only two, Lazard uses the lower of the two. Lazard converts all ratings to the equivalent S&P major rating category for purposes of the categories shown. Bonds rated BBB and above are considered investment grade. Bonds rated below BBB are generally referred to as speculative grade securities. Bonds rated BB, B, or CCC are regarded as possessing a speculative capacity to pay debt service because of the negative factors or uncertainties for which there are no compensating positive factors. Ratings from BBB to CCC may be modified by the addition of a plus (+) or minus (-) sign to show relative standing within each of the major rating categories. An N/R category consists of rateable securities that have not been rated by a Nationally Recognized Statistical Rating Organization (NRSRO). Unrated securities do not necessarily indicate low quality. Ratings and the portfolio s credit quality distribution may change over time. The portfolio itself has not been rated by an independent rating agency. Source: Lazard, J.P. Morgan 1 Month YTD 1 Year Since Inception 1 Rates FX

10 1 Emerging Markets Debt Corporate Broad Characteristics Lazard Benchmark 2 Yield to Worst Duration (years) Average Coupon Industry Exposure Lazard O/W or U/W Utilities 12.6 TMT 2.5 Metals & Mining 1.4 Pulp & Paper.9 Industrial.3 Transport.2 Infrastructure -.8 Oil & Gas -1.3 Diversified -2.2 Consumer -2.4 Real Estate -3.1 Financial -8.2 Key Country Exposure Lazard O/W or U/W Korea 4.3 Chile 3. Peru 2.6 Israel 2.1 Argentina 2.1 Nigeria 1.5 Georgia 1.4 Guatemala 1.4 Bangladesh 1.3 Zambia 1.3 Mexico -1.6 Kuwait -1.6 Singapore -1.6 Malaysia -1.6 Russia -1.9 Philippines -2. Qatar -2.1 Colombia -2.2 China -3.2 Hong Kong -4.2 Quality Distribution Investment Grade Lazard BB B CCC & Below J.P. Morgan CEMBI Broad Diversified Index Not Rated Performance Attribution² 1 Month YTD 1 Year Since Inception¹ Country Selection Industry Selection Security Selection Total As of 31 August Inception date: 1 March Relative to the J.P. Morgan Corporate Emerging Markets Bond Broad Diversified Index. The allocations and specific securities are based upon a portfolio that represents the proposed investment for a fully discretionary account. Allocations and security selection are subject to change. Attribution is based upon a representative portfolio and is versus the benchmark noted. Attribution analysis is provided for illustrative purposes only, as values are calculated based on returns gross of fees. Performance would be lower if fees and expenses were included. Past performance is not a reliable indicator of future results. Source: Lazard, J.P. Morgan

11 11 Emerging Markets Debt Blend Characteristics Lazard Benchmark 1 Yield to Maturity Duration (years) Average Coupon Hard Currency Local Currency Total Country Distribution Lazard O/W or U/W Brazil 3.8 Egypt 2.3 Ukraine 2.3 Russia 2.1 Dominican Republic 2. Angola 2. Kenya 1.5 Indonesia 1.5 Costa Rica 1.3 Venezuela 1.2 India -1. Panama -1.1 Poland -1.1 Kazakhstan -1.2 Oman -1.3 Mexico -1.3 Malaysia -1.8 Taiwan -2.1 China -2.3 Hungary -2.9 Historical Allocation Hard Currency Exposure Sector Allocation External 3. External Quasi 5.8 Corporate Bonds Local Nominal 215 Local Quasi Local Currency Exposure..1 Local Corporate Bonds.5 Local Inflation Linked 1.5 Forwards/ NDFs Cash As of 31 August Relative to a blended index consisting of 5% J.P. Morgan EMBI Global Diversified/5% J.P. Morgan GBI-EM Global Diversified Index. The allocations and specific securities are based upon a portfolio that represents the proposed investment for a fully discretionary account. Allocations and security selection are subject to change. Attribution is based upon a representative portfolio and is versus the benchmark noted. Attribution analysis is provided for illustrative purposes only, as values are calculated based on returns gross of fees. Performance would be lower if fees and expenses were included. Past performance is not a reliable indicator of future results. Source: Lazard, J.P. Morgan

12 12 Emerging Markets Debt Blend Performance Attribution 2 Overall Allocation Hard vs. Local 1 Month YTD 1 Year Since Inception Hard Currency Country Selection Security Selection Corporate Hard Currency Local Debt Rates FX Total Quality Distribution Investment Grade Lazard BB 28.4 B CCC & Below.. Not Rated 5% JPM EMBI Global Diversified/ 5% JPM GBI-EM Global Diversified Index. Forwards/ NDFs/IRS As of 31 August Inception date: 1 October Relative to a blended index consisting of 5% J.P. Morgan EMBI Global Diversified/5% J.P. Morgan GBI-EM Global Diversified Index. The allocations and specific securities are based upon a portfolio that represents the proposed investment for a fully discretionary account. Allocations and security selection are subject to change. Attribution is based upon a representative portfolio and is versus the benchmark noted. Attribution analysis is provided for illustrative purposes only, as values are calculated based on returns gross of fees. Performance would be lower if fees and expenses were included. Past performance is not a reliable indicator of future results. Lazard receives credit quality ratings on the underlying securities of the portfolio from the major reporting agencies Standard & Poor s (S&P), Moody s, and Fitch. The credit quality breakdown is provided by Lazard by using the S&P rating when the agencies assign the same rating to a security. In the event the ratings differ, Lazard will use the same of the two out of three ratings. If there are only two, Lazard uses the lower of the two. Lazard converts all ratings to the equivalent S&P major rating category for purposes of the categories shown. Bonds rated BBB and above are considered investment grade. Bonds rated below BBB are generally referred to as speculative grade securities. Bonds rated BB, B, or CCC are regarded as possessing a speculative capacity to pay debt service because of the negative factors or uncertainties for which there are no compensating positive factors. Ratings from BBB to CCC may be modified by the addition of a plus (+) or minus (-) sign to show relative standing within each of the major rating categories. An N/R category consists of rateable securities that have not been rated by a Nationally Recognized Statistical Rating Organization (NRSRO). Unrated securities do not necessarily indicate low quality. Ratings and the portfolio s credit quality distribution may change over time. The portfolio itself has not been rated by an independent rating agency. Source: Lazard, J.P. Morgan

13 13 Emerging Markets Debt Total Return Characteristics Lazard Yield to Maturity 8.11 Duration (years) 6.21 Average Coupon 6.71 Long Exposure Short Exposure 3.2 Net Exposure Gross Exposure Key Hard Currency Exposure and Quasi- Net % of Market Value Corporate Net % of Market Value Total Net % of Market Value Russia Indonesia Colombia Egypt Ghana Peru Saudi Arabia Costa Rica Dominican Republic Brazil Turkey Mexico Currency Exposure Lazard United States Poland 3.8 Indonesia 3.4 EUR 3.4 Russia 3.3 Singapore 2. South Africa 1.9 Brazil 1.9 Ghana.9 Nigeria.7 Uruguay.5 Mexico.5 India -1.4 Chile -2.6 Hungary -3.6 Key Local Rate Positions Bond IRS Total Brazil South Africa Historical Gross Exposures 2 Cash Long Credit Short Credit Long Local Short Local Relative Value As of 31 August 218 The allocations and specific securities are based upon a portfolio that represents the proposed investment for a fully discretionary account. Allocations and security selection are subject to change.

14 14 Emerging Markets Debt Total Return Gross Regional Allocation Performance Attribution 1 Month YTD 1 Year Since Inception 1 Hard Currency Long Short Long Corporates Short Corporates Asia Eastern Europe Latin America Middle East & Africa Local Debt Long Rates Short Rates -6-2 Gross Sector Allocation Long FX Short FX Relative Value 4 Total Hard Currency CDX/CDS Hard Currency Quasi- Hard Currency Corporate Local Nominal Bonds Local Inflation Linked Bonds Local Quasi- Bonds Local Corporate Bonds Interest Rate Swaps FX/NDFs/Options Cash Historical Long/Short Exposures 2 1 Long Short Net As of 31 August Inception date: 1 December 21 There is no benchmark for this strategy as it has an absolute return investment objective. The allocations and specific securities are based upon a portfolio that represents the proposed investment for a fully discretionary account. Allocations and security selection are subject to change. Attribution is based upon a representative portfolio and is versus the benchmark noted. Attribution analysis is provided for illustrative purposes only, as values are calculated based on returns gross of fees. Performance would be lower if fees and expenses were included. Past performance is not a reliable indicator of future results. Performance would be lower if fees and expenses were included. Past performance is not a reliable indicator of future results.