Hedging Currency Risk

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3 Hedging Currency Risk Cashflows, long term behaviour, forwards vs options Quantitative Solutions Group FX London

4 An example of the cashflow problem: hedging BRL exposure Hedging FX exposure means that hedges may cost money The graphs illustrate the cost of hedging positive BRL exposure with forwards, ATMF options and OTM options Premium and payoff are netted Hedge losses must be paid out in cash, which is often undesirable These consistent losses are due to the carry trade Quarterly cashflows for 12m USDBRL hedges Cashflow in % of notional Cashflow in % of notional 40% 20% 0% -20% -40% -60% Dec-04 Dec-05 Dec-06 Dec-07 Dec-08 Dec-09 Dec-10 Dec-11 Dec-12 Dec-13 Forw ard Payout ATMF Call Payout-premium 25D Call Payout-premium Cumulative hedge cashflows for USDBRL 12m 0% -50% -100% -150% Dec-03 Dec-05 Dec-07 Dec-09 Dec-11 Dec-13 Cumulative ATMF Call payout - premium Cumulative forward payout Cumulative 25D Call payout - premium Source: Commerzbank Quantitative Solutions Group FX London 3

5 Hedging long currency exposures forwards vs options Example: Both forwards and options on average lose money but options lose less Average cashflow for 12m EM hedges (positive exposure) The forward hedge is short of the quote currency If a depreciation occurs which is greater than that implied by the interest rate differential, the forward hedge will have a positive return Avg cashflow in % notional 2% 0% -2% -4% -6% -8% -10% -12% -14% -16% EURCZK EURHUF EURPLN USDARS USDBRL USDCLP USDCOP USDCZK USDHKD USDIDR USDILS USDINR USDKRW USDMXN USDPHP USDPLN USDSGD USDTRY USDTWD USDZAR If the depreciation is less than this, the forward contracts will lose money Long Forward ATMF Call 25D call Long Forward Average ATMF Call Average 25D call Average Average cashflow for 12m G10 hedges (positive exposure) Exceptions are where the base currency tends to have higher interest rates, the anomalous carry currencies Avg cashflow in % notional 3% 2% 1% 0% -1% -2% -3% -4% -5% -6% -7% AUDUSD EURAUD EURCHF EURGBP EURJPY EURNOK EURUSD GBPUSD USDCAD USDCHF USDDKK USDJPY USDNOK USDSEK Source: Commerzbank Long Forward ATMF Call 25D call Long Forward Average ATMF Call Average 25D call Average Quantitative Solutions Group FX London 4

6 Hedging short currency exposures forwards vs options Example: Both forwards and options on average make money but options make less Average cashflow for 12m EM hedges (negative exposure) We saw previously that long forward hedges tend to lock in a loss; conversely, short forward hedges tend to lock in a profit The forward hedge is long of the EM currency, so if a depreciation occurs which is less than that implied by the interest rate differential, the forward hedge will have a positive return Avg cashflow in % notional 16% 14% 12% 10% 8% 6% 4% 2% 0% -2% -4% EURCZK EURHUF EURPLN USDARS USDBRL USDCLP USDCOP Average cashflow for 12m G10 hedges (negative exposure) USDCZK Short Forw ard ATMF Put 25D Put USDHKD Short Forw ard Average ATMF Put Average 25D call Average USDIDR USDILS USDINR USDKRW USDMXN USDPHP USDPLN USDSGD USDTRY USDTWD USDZAR Usually the depreciation is less than this, so the forward contracts on average make money Avg cashflow in % notional 8% 6% 4% 2% 0% -2% -4% AUDUSD EURAUD EURCHF EURGBP EURJPY EURNOK EURUSD GBPUSD USDCAD USDCHF USDDKK USDJPY USDNOK USDSEK Source: Commerzbank Short Forw ard ATMF Put 25D Put Short Forw ard Average ATMF Put Average 25D Put Average Quantitative Solutions Group FX London 5

7 Optimal hedges for currencies It becomes possible to see a highly consistent pattern in the historical data Optimal hedges 3 A surprisingly simple result emerges Exposure Risk Optimal hedge instrument Long quote 2 currency EM depreciation 25D OTM call option 1 Short quote currency EM appreciation Short forward 1. The call option is on the FX rate, so is a call on the base currency, and a put on the quote currency 2. Base currency is the left hand one of the rate, quote the right, so USDBRL has USD as base, BRL as quote 3. These are reversed for anomalous carry currencies like AUDUSD Source: Bloomberg, Commerzbank The situations we analyse are those where hedging is passive and constant rather than dynamic For those institutions with the capacity to vary their hedges with the market environment, other hedge strategies become available Quantitative Solutions Group FX London 6

8 What is happening? Historically, the forward rate is a biased indicator After the start of a contract, the spot rate at the inception of the deal is the best estimate of the spot rate at the end of the deal Inception of an option Spot rates do not tend to move to the forward The forward rate lies off to the side to the direction of depreciation of the higher yielding currency and is a biased predictor Spot rate at inception Forward rate The shaded area represents, schematically, the area where the spot rate is most likely to be ie, very large moves are unlikely Most likely range for spot at expiry Direction of increasing rate Source: Bloomberg, Commerzbank Quantitative Solutions Group FX London 7

9 Putting in the implied data History tends to prove the forward rate to be wrong We have inserted a distribution around the forward rate, which represents the implied distribution derived from the option volatility Historical vs implied means and distributions Implied data are not good predictors The forward rate and the implied distributions are assumed to be the best estimates of the future evolution of the deal when the premium of an option is calculated Spot rate at inception Forward rate but as we know, this is demonstrably not the case Most likely range for spot at expiry Direction of increasing rate Source: Bloomberg, Commerzbank Quantitative Solutions Group FX London 8

10 At the end of the deal the mispricings come home Now we have layered on the payouts to a put and a call option, and suddenly all becomes clear Option payouts Asymmetry give puts an advantage If we assume that the most likely scenario is that the spot rate at expiry lands in the shaded area then it s very clear that the put option has a good chance of making money while the call option is much more likely to lose its premium Long put payoff Spot rate at inception Forward rate Long call payoff Premium cost of ATMF option Most likely range for spot at expiry Direction of increasing rate Source: Bloomberg, Commerzbank Quantitative Solutions Group FX London 9

11 and the carry trade also becomes clear In the likely area, the carry trade makes money and it is better to hedge with calls than forwards We can now add the forward contract payoffs to the already rather complicated diagram, and we see the carry trade laid out Forward and option payouts Rationale behind carry trade is clear The short forward (betting against the forward rate) makes money, while the long forward loses it, and can for some cases lose more money than the option premium Spot rate at inception S hort forward payoff Forward rate L ong forward payoff These cases would occur for large interest rate differentials and low premium cost for the option Long put payoff Long call payoff Premium cost of ATMF option Most likely range for spot at expiry Direction of increasing rate Source: Bloomberg, Commerzbank Quantitative Solutions Group FX London 10

12 Is it just an Emerging Markets effect? Is the effect that we see purely caused by the EM elements in the portfolio? Though the effect is certainly stronger for EM pairs, it is by no means negligible for G10 pairs Forward and option payoutspayout/premium ratios for ATMF call and put options Effects stronger for EM pairs, but clear for G10 pairs Payout/Premium Ratio for ATMF Calls and Puts In the 12m tenor, G10 puts tend to pay back about 120% of their premium cost, but G10 calls pay back only about 80% The effect is not particularly dependent on period 140% 120% 100% 80% 60% 40% 20% 0% 1W 1M 3M 6M 12M 2Y 3Y G10 Calls EM Calls G10 Puts EM Puts Source: Bloomberg, Commerzbank Quantitative Solutions Group FX London 11

13 Disclaimer This document has been created and published by the Corporates & Markets division of Commerzbank AG, Frankfurt/Main or the group companies mentioned in the document ("Commerzbank"). Commerzbank Corporates & Markets is the investment banking division of Commerzbank, integrating research, debt, equities, interest rates and foreign exchange. This is a financial promotion/marketing communication (together communication ). It is not investment research or financial analysis as these terms are defined in applicable regulations and has not been prepared by a research analyst. The views in this communication may differ from the published views of Commerzbank Corporates & Markets Research Department and the communication has been prepared separately of such department. This communication may contain short term trading ideas. Any returns or future expectations referred to are not intended to forecast or predict future events. Any prices provided herein (other than those that are identified as being historical) are indicative only, and do not represent firm quotes as to either size or price. This communication is for information purposes only. The information contained herein does not constitute the provision of investment advice. It is not intended to be nor should it be construed as an offer or solicitation to acquire, or dispose of, any of the financial instruments and/or securities mentioned in this communication and will not form the basis or a part of any contract. Potential counterparties/ distributors should review independently and/or obtain independent professional advice and draw their own conclusions regarding the suitability/appropriateness of any transaction including the economic benefit and risks and the legal, regulatory, credit, tax and accounting aspects in relation to their particular circumstances. Levels, bases and relief from taxation may change from time to time. Any information in this communication is based on data obtained from sources believed by Commerzbank to be reliable, but no representations, guarantees or warranties are made by Commerzbank with regard to the accuracy, completeness or suitability of the data. The past performance of financial instruments is not indicative of future results. No assurance can be given that any financial instrument or issuer described herein would yield favourable investment results. This communication is intended solely for distribution to Professional Clients and/or Eligible Counterparties of Commerzbank. It is not intended to be distributed to Retail Clients or potential Retail Clients. Neither Commerzbank nor any of its respective directors, officers or employees accepts any responsibility or liability whatsoever for any expense, loss or damages arising out of or in any way connected with the use of all or any part of this communication. Commerzbank and/or its principals or employees may have a long or short position or may transact in financial instrument(s) and/or securities referred to herein or may trade in such financial instruments with other customers on a principal basis. The information may have been discussed between various Commerzbank personnel and such personnel may have already acted on the basis of this information (including trading for Commerzbank s own account or communication of the information to other customers of Commerzbank). Commerzbank may act as a market maker in the financial instruments or companies discussed herein and may also perform or seek to perform investment banking services for those companies. No part of this communication may be reproduced, distributed or transmitted in any manner without prior written permission of Commerzbank. This communication or the manner of its distribution may be restricted by law or regulation in certain countries. Persons into whose possession this document may come are required to inform themselves about, and to observe any such restriction. By accepting this communication, a recipient hereof agrees to be bound by the foregoing limitations. This communication is issued by Commerzbank AG and approved in the UK by Commerzbank AG London Branch, authorised by the German Federal Financial Supervisory Authority and the European Central Bank. Commerzbank AG London Branch is authorised and subject to limited regulation by the Financial Conduct Authority and Prudential Regulation Authority. Details about the extent of our regulation by the Financial Conduct authority and Prudential Regulatory Authority are available on request. Quantitative Solutions Group FX London 12

14 Disclaimer Italy: You should contact Commerzbank AG, London Branch if you wish to use our services to effect a transaction in any of the financial or other instruments mentioned in this communication. Dubai: This document has been approved for distribution in or from the DIFC, Dubai, United Arab Emirates (the U.A.E) under the applicable Regulatory Law 2004 and the DFSA Rules by Commerzbank AG Dubai Branch. This document may only be received in or from the DIFC, Dubai U.A.E by Market Counterparties and Professional Clients as defined in the DFSA Rulebook Conduct of Business Module Section 2.3. Commerzbank AG Dubai Branch is regulated by The Dubai Financial Services Authority (The DFSA ). Commerzbank Corporates & Markets, Commerzbank AG Dubai Branch, Suite 11-15, Gate Village 05, 4th Floor, Dubai International Financial Centre, PO Box , Dubai, United Arab Emirates, Tel.: Japan: The information available in the slide does not constitute and should not be construed as a "solicitation" under the Financial Instrument Exchange Act (FIEA). The information available through this material could be distributed in Japan solely to "professional investors" as defined in Section 2(31) of the FIEA and Section 23 of the Cabinet Ordinance Regarding Definition of Section 2 of the FIEA by Commerzbank AG, Tokyo Branch. Note, however, that Commerzbank AG, Tokyo Branch has not participated in its preparation. Not all financial or other instruments referred to in this document are available within Japan. You should contact Corporates & Markets division of Commerzbank AG or Commerzbank AG, Tokyo Branch for inquiries on availability of such instruments. [Commerzbank AG, Tokyo Branch] Registered Financial Institution: Director of Kanto Local Finance Bureau (Tokin) No. 641 / Member Association: Japanese Bankers Association. Singapore: This document is furnished in Singapore by Commerzbank AG, Singapore branch. It may only be received in Singapore by an institutional investor as defined in section 4A of the Securities and Futures Act, Chapter 289 of Singapore ( SFA ) pursuant to section 274 of the SFA. Hong Kong: This document is furnished in Hong Kong by Commerzbank AG, Hong Kong Branch, and may only be received in Hong Kong by professional investors within the meaning of the Securities and Futures Ordinance (Cap.571) of Hong Kong and any rules made there under, and persons whose ordinary business is to buy or sell shares or debentures. US: General and product specific risk disclosures in over-the-counter derivative transactions may have been provided to you during the account opening process of becoming a customer of Commerzbank. Please review the ISDA General Disclosure Statement for Transactions for a description of generic risks as well as specific material risks, conflicts of interest and material incentives related to entering into a transaction. Product specific risk disclosures can be found in the ISDA disclosure annex materials. If you would like another copy of these disclosures, please request them of your Commerzbank contact. Banking services in the U.S. will be provided by Commerzbank AG, New York Branch or Commerzbank AG, Grand Cayman Branch. Securities activities in the US are conducted through Commerz Markets LLC, a wholly owned broker dealer of Commerzbank AG, and member of FINRA and SIPC. Commerzbank AG is not a member of SIPC and is a provisionally registered swap dealer with the CFTC. Canada: Neither Commerzbank AG nor any affiliate acts, or holds itself out, as a dealer in derivatives with respect to any Canadian person, in Canada as a whole or in any Canadian province, and nothing contained in this document may be construed as an offer or indication that Commerzbank is or stands ready to (in each case, with respect to a Canadian counterparty or within Canada) intermediate derivatives trades, act as a market-maker in derivatives of any kind, trade derivatives with the intention of receiving remuneration or compensation, solicit (directly or indirectly) derivatives transactions, provide derivatives clearing services, trade with a non-qualified Canadian party that is not represented by a derivatives dealer or adviser, or engage in activities similar to those of a derivatives dealer. Copyright Commerzbank All rights reserved. Quantitative Solutions Group FX London 13

15 Commerzbank Corporates & Markets Frankfurt London Commerzbank AG Commerzbank AG London Branch DLZ Gebäude 2, Händlerhaus 30 Gresham Street Mainzer Landstraße 153 London Frankfurt am Main EC2P 2XY Tel: Tel: Fax: Quantitative Solutions Group FX London

16 Commerzbank Corporate Solutions Managing Risk and Cost of Hedging on Corporate Key Metrics Commerzbank Global Corporate Solutions September 2015

17 Commerzbank Emerging Market Framework A structured approach Exposure assessment Risk and impact analysis Peer exposure / policy review Source: Bloomberg, corporate annual reports Hedge optimisation Back-testing & Scenario Analysis Solution Commerzbank Global Corporate Solutions September

18 Case Study on Emerging Markets Framework: Russia Risk Example Co has exposure to Rouble exposing them to rating agency concern Example Co is increasing its FX exposure to Rouble by its necessary hedging of EUR-USD transaction risk Example Co hedges via ATMS Option purchases at an opportune time last Autumn Example Co realises value in Variable Instrument use over the long term, and proposes this to the board for approval Commerzbank Global Corporate Solutions September

19 Example Co: Risk to Key Rating Metrics from Russia FX GBP, CHF and RUB are the largest risk components to key metrics Net Debt /EBITDA FY13 = 2.8x Interest Cover [(CFO+ Int) / Int] = 3.0x 0.45x Stress Scenario 0.45x 0.40x 0.40x Stand alone risk 0.35x 0.35x 0.30x Risk as part of the portfolio 0.30x 0.25x 0.25x 0.20x 0.20x 0.15x 0.15x 0.10x 0.10x 0.05x 0.05x 0.00x 0.00x Total GBP CHF RUB USD CZK HUF RON PLN BRL TRY Total GBP CHF RUB USD CZK HUF RON PLN BRL TRY Gearing ( Debt / (Debt + Equity) ) = 42% CFO / Net Debt = 20% 5.0% 2.5% 4.5% 4.0% 2.0% 3.5% 3.0% 2.5% 2.0% 1.5% 1.0% 0.5% 0.0% Total GBP CHF RUB USD CZK HUF RON PLN BRL TRY 1.5% 1.0% 0.5% 0.0% Total GBP CHF RUB USD CZK HUF RON PLN BRL TRY Source: Bloomberg, Commerzbank. Stress scenario based upon max 12 month most over past 10 years for each currency Commerzbank Global Corporate Solutions September

20 Quantifying Portfolio Risk and Diversifier Benefits: EBITDA RUB is a large risk contributor after transaction hedges Portfolio risk % contribution at EBITDA level considering both FX transactions and translation Pre-hedges Post-hedges Weight x Volatility x Correlation 95 th perc. 46% CONTRIBUTORS DIVERSIFIERS 14% 14% 11% 8% 5% 3% 1% 0% 53% 19% 11% 6% Risk contributions are very different to the combined profile with CHF, GBP and RUB being the highest risk in after EUR-USD hedges 3% 3% 2% 1% 1% 0% EaR (95 th percentile; Implied volatility) = 6.3% - 2% USD CZK CHF HUF PLN GBP RON TRY BRL RUB CHF RUB GBP CZK USD HUF TRY RON PLN BRL Correlation and volatility noted as big drivers with Rouble risk much higher after hedges Portfolio exposure in a stressed environment Portfolio risk summary Implied Historic Annual EaR (EUR value) 572m 602m Annual EaR (% EBITDA) 6% 6.3% Implied or Historic volatility used to calculate stress test, 95% confidence level; incorporating correlation effects Example Co s FX-related EBITDA at risk is estimated as EUR 602m or 6.3% of EBITDA USD is the highest risk when combining transactions and translation on a portfolio basis; Rouble risk is negligible However, due to the example co existing transaction hedges in USD, Rouble becomes a major risk Source: Bloomberg, Commerzbank. Stress scenario based upon max 12 month most over past 10 years for each currency Commerzbank Global Corporate Solutions September

21 2bn FX Risk* on RUB asset RUB asset value could decrease by EUR 468m (95th percentile confid.), or more EUR/RUB FX rate 10 year history FX risk impact on purchase price Assessing FX Market conditions 1 EUR currently buys 52.2 RUB, at historic highs Assuming 1 year future risk period Equity hedging FX product considerations RUB Weakness RUB Strength EUR / RUB 2y Ago (Oct 12) 1y Ago (Oct 13) Current 95%conf (1y move) Max (1y move) +30% EUR/ RUB EUR/RUB mean reversion snapshot 12m Fwd Points vs 10y of history (42%) Spot vs 1y of history (100%) Spot vs 10y of history (100%) +23% 12m Fwd Points vs 1y of history (90%) 12m Implied Vol vs 1y of history (92%) Frequency distribution of 1y % changes over 10y RUB weakness (i.e. EUR/RUB biggest move higher) has been as high as 30% within a 1 year period. Tail risks are skewed towards RUB losses 95 th percentile = 23.5% spot rate EUR 2bn Asset Value impact (EUR) -468m -599m EUR Value (bn) 12m RR vs 10y of history (26%) 12m RR vs 1y of history (79%) 12m Implied Vol vs 10y of history (38%) Spot trades at historic highs making RUB equity hedging unattractive 1y hedging costs in the form of forward points, implied volatilities and risk-reversal however, still trade at reasonably inexpensive levels compared to 10y history making hedging against RUB volatility comparatively cheap Spot continues to trade at 10y historic highs. Hedging costs, i.e. 1Y forward points, implied volatility and risk-reversal however, trade relatively inexpensive levels making hedges still worth consideration. The graphs above depict how a EUR 2bn asset in Russia could potentially be exposed to fluctuations in EUR/RUB spot, due to the conversion of the RUB asset value in EUR in case of a disposal. Based on historical performance, leaving the FX exposure unhedged could result in a decrease in the RUB asset value by 468m due to RUB weakening (@95 th percentile in EUR/RUB moves over a 1 year horizon). *Based upon a 2bn asset located in Russia, exposed to RUB depreciation risk. Source: Bloomberg data, Commerzbank estimates Commerzbank Global Corporate Solutions September

22 Changes in Forward and ATM Spot hedging cost over time Option Premium / Implied Forward Differential (% of RUB) 35% 30% 25% 20% 15% 10% 5% Periods where ATMS premia are similar to forwards ATMS ATMF Forward 0% Receive money for hedging RUB risk -5% May-06 May-07 May-08 May-09 May-10 May-11 May-12 May-13 May-14 Volatility as the cost driver for ATMF options generally being correlated with higher forward market premia However the comparative cost of alternative strategies has varied over time with forwards in particular being expensive at times of crisis During these periods ATMS options are often close in premia to forward contracts Oct 2014 No Brainer Hedge: ATM Spot EUR call/rub put option premium: 9.20% Forward premium: 8.70% Periods where ATMS premia are significantly more expensive than forwards Source: Bloomberg, Commerzbank analysis Commerzbank Global Corporate Solutions September

23 Policy Design: Signals to indicate hedging actions in EUR/RUB Narrow bands and high volatility indicators are used to determine hedging actions Narrow bands: Identifies when spot rates are trading in narrow ranges Significant Devaluation: Identified when a major devaluation is in progress High Volatility indicator: Identifies when market risk sentiment is high No indicator/low volatility: Periods of low volatility are defined as being present when there is no other active indicator Spot Rate (log scale) Narrow Bands In a narrow band the opportunity exists to build up protection Significant devaluation periods High cost hedging periods exist but have also seen large devaluations 30 +/- 1 standard deviation +/- 2 standard deviation EUR-RUB spot EUR-RUB spot 1-year moving average Sep-05 Mar-06 Sep-06 Mar-07 Sep-07 Mar-08 Sep-08 Mar-09 Sep-09 Mar-10 Sep-10 Mar-11 Sep-11 Mar-12 Current indicator: High Volatility TIM Signal 6m ATMS Options or 6m Forwards Sep-12 Mar-13 Sep-13 Mar-14 Sep-14 Mar-15 Source : Bloomberg data, Commerzbank analysis Commerzbank Global Corporate Solutions September

24 Summary results for selected successful Strategies EURRUB - 12m exposures cashflows received between April 2006 April 2015 Pay-out combining underlying short Ruble position and hedge in % of EUR notional 15% 5% -5% -15% -25% -35% 15.6% 12.6% 13.9% 4.0% 0.1% -3.7% -4.5% -4.0% -4.2% -4.0% -21.3% -24.4% -22.9% -22.9% -30.3% Fwd / ATMS Unhedged / ATMS OTM 25D Forward Unhedged 15.6% 12.6% 5.0% -1.9% -2.6% -2.9% -15.3% -16.9% -15.6% C) Fwd / Sea / Fwd6m / 25DRR B) Fwd / Sea / Fwd6m / 25DOTM A) Fwd /Sea / Fwd6m / Un Strategy A B C In Narrow Band Spot > 3SDs High Vol Low Vol Unhedged 12m Fwds 12m Seagul 6m Fwds 25D OTM Option Max Average Min 25D Risk Reversal Benefits of the TIM Strategy: Reduced cost and risk, compared to static strategies Downside of the TIM Strategy: More resources required as strategy changes over time, compared to static strategies Static Strategies Example Co Strategy TIM Source : Bloomberg data, Commerzbank analysis Commerzbank Global Corporate Solutions September

25 EUR/RUB Mean Reversion Snapshot Current level in historic max (100%) min (0%) range EURRUB Analytics: 10y* relative value positioning Spot v 1y history Current :67% Previous :100% Forward 12m v 10y history Current :56% Previous :100% Spot v 10y history Current :76% Previous :100% Forward 12m v 1y history Current :43% Previous :100% Vol 1y v 1y history Current :36% Previous :90% RR25D 1y v 9.3y history Current :51% Previous :86% Vol 1y v 10y history Current :55% Previous :93% RR25D 1y v 1y history Current :36% Previous :89% 01-Sep Dec-14 High level indicates potential overbought position Currently EUR/RUB spot trades still at historic higher ranges but hedge premiums (forward, risk-reversal and implied volatility) have declined recently and are presenting better value for hedging in the 1-year horizon Source: Bloomberg. Note: Implied vol relates to ATM implied volatility. Risk reversal is option volatility for a 25 delta EUR call minus a 25 delta EUR put. Commerzbank Global Corporate Solutions September

26 Disclaimer This document has been created and published by the Corporates & Markets division of Commerzbank AG, Frankfurt/Main or the group companies mentioned in the document ("Commerzbank"). Commerzbank Corporates & Markets is the investment banking division of Commerzbank, integrating research, debt, equities, interest rates and foreign exchange. This is a financial promotion/marketing communication (together communication ). It is not investment research or financial analysis as these terms are defined in applicable regulations and has not been prepared by a research analyst. The views in this communication may differ from the published views of Commerzbank Corporates & Markets Research Department and the communication has been prepared separately of such department. This communication may contain short term trading ideas. Any returns or future expectations referred to are not intended to forecast or predict future events. Any prices provided herein (other than those that are identified as being historical) are indicative only, and do not represent firm quotes as to either size or price. This communication is for information purposes only. The information contained herein does not constitute the provision of investment advice. It is not intended to be nor should it be construed as an offer or solicitation to acquire, or dispose of, any of the financial instruments and/or securities mentioned in this communication and will not form the basis or a part of any contract. Potential counterparties/ distributors should review independently and/or obtain independent professional advice and draw their own conclusions regarding the suitability/appropriateness of any transaction including the economic benefit and risks and the legal, regulatory, credit, tax and accounting aspects in relation to their particular circumstances. Levels, bases and relief from taxation may change from time to time. Any information in this communication is based on data obtained from sources believed by Commerzbank to be reliable, but no representations, guarantees or warranties are made by Commerzbank with regard to the accuracy, completeness or suitability of the data. The past performance of financial instruments is not indicative of future results. No assurance can be given that any financial instrument or issuer described herein would yield favourable investment results. This communication is intended solely for distribution to Professional Clients and/or Eligible Counterparties of Commerzbank. It is not intended to be distributed to Retail Clients or potential Retail Clients. Neither Commerzbank nor any of its respective directors, officers or employees accepts any responsibility or liability whatsoever for any expense, loss or damages arising out of or in any way connected with the use of all or any part of this communication. Commerzbank and/or its principals or employees may have a long or short position or may transact in financial instrument(s) and/or securities referred to herein or may trade in such financial instruments with other customers on a principal basis. The information may have been discussed between various Commerzbank personnel and such personnel may have already acted on the basis of this information (including trading for Commerzbank s own account or communication of the information to other customers of Commerzbank). Commerzbank may act as a market maker in the financial instruments or companies discussed herein and may also perform or seek to perform investment banking services for those companies. No part of this communication may be reproduced, distributed or transmitted in any manner without prior written permission of Commerzbank. This communication or the manner of its distribution may be restricted by law or regulation in certain countries. Persons into whose possession this document may come are required to inform themselves about, and to observe any such restriction. By accepting this communication, a recipient hereof agrees to be bound by the foregoing limitations. This communication is issued by Commerzbank AG and approved in the UK by Commerzbank AG London Branch, authorised by the German Federal Financial Supervisory Authority and the European Central Bank. Commerzbank AG London Branch is authorised and subject to limited regulation by the Financial Conduct Authority and Prudential Regulation Authority. Details about the extent of our regulation by the Financial Conduct authority and Prudential Regulatory Authority are available on request. Commerzbank Global Corporate Solutions September

27 Disclaimer Italy: You should contact Commerzbank AG, London Branch if you wish to use our services to effect a transaction in any of the financial or other instruments mentioned in this communication. Dubai: This document has been approved for distribution in or from the DIFC, Dubai, United Arab Emirates (the U.A.E) under the applicable Regulatory Law 2004 and the DFSA Rules by Commerzbank AG Dubai Branch. This document may only be received in or from the DIFC, Dubai U.A.E by Market Counterparties and Professional Clients as defined in the DFSA Rulebook Conduct of Business Module Section 2.3. Commerzbank AG Dubai Branch is regulated by The Dubai Financial Services Authority (The DFSA ). Commerzbank Corporates & Markets, Commerzbank AG Dubai Branch, Suite 11-15, Gate Village 05, 4th Floor, Dubai International Financial Centre, PO Box , Dubai, United Arab Emirates, Tel.: Japan: The information available in the slide does not constitute and should not be construed as a "solicitation" under the Financial Instrument Exchange Act (FIEA). The information available through this material could be distributed in Japan solely to "professional investors" as defined in Section 2(31) of the FIEA and Section 23 of the Cabinet Ordinance Regarding Definition of Section 2 of the FIEA by Commerzbank AG, Tokyo Branch. Note, however, that Commerzbank AG, Tokyo Branch has not participated in its preparation. Not all financial or other instruments referred to in this document are available within Japan. You should contact Corporates & Markets division of Commerzbank AG or Commerzbank AG, Tokyo Branch for inquiries on availability of such instruments. [Commerzbank AG, Tokyo Branch] Registered Financial Institution: Director of Kanto Local Finance Bureau (Tokin) No. 641 / Member Association: Japanese Bankers Association. Singapore: This document is furnished in Singapore by Commerzbank AG, Singapore branch. It may only be received in Singapore by an institutional investor as defined in section 4A of the Securities and Futures Act, Chapter 289 of Singapore ( SFA ) pursuant to section 274 of the SFA. Hong Kong: This document is furnished in Hong Kong by Commerzbank AG, Hong Kong Branch, and may only be received in Hong Kong by professional investors within the meaning of the Securities and Futures Ordinance (Cap.571) of Hong Kong and any rules made there under, and persons whose ordinary business is to buy or sell shares or debentures. US: General and product specific risk disclosures in over-the-counter derivative transactions may have been provided to you during the account opening process of becoming a customer of Commerzbank. Please review the ISDA General Disclosure Statement for Transactions for a description of generic risks as well as specific material risks, conflicts of interest and material incentives related to entering into a transaction. Product specific risk disclosures can be found in the ISDA disclosure annex materials. If you would like another copy of these disclosures, please request them of your Commerzbank contact. Banking services in the U.S. will be provided by Commerzbank AG, New York Branch or Commerzbank AG, Grand Cayman Branch. Securities activities in the US are conducted through Commerz Markets LLC, a wholly owned broker dealer of Commerzbank AG, and member of FINRA and SIPC. Commerzbank AG is not a member of SIPC and is a provisionally registered swap dealer with the CFTC. Canada: Neither Commerzbank AG nor any affiliate acts, or holds itself out, as a dealer in derivatives with respect to any Canadian person, in Canada as a whole or in any Canadian province, and nothing contained in this document may be construed as an offer or indication that Commerzbank is or stands ready to (in each case, with respect to a Canadian counterparty or within Canada) intermediate derivatives trades, act as a market-maker in derivatives of any kind, trade derivatives with the intention of receiving remuneration or compensation, solicit (directly or indirectly) derivatives transactions, provide derivatives clearing services, trade with a non-qualified Canadian party that is not represented by a derivatives dealer or adviser, or engage in activities similar to those of a derivatives dealer. Copyright Commerzbank All rights reserved. Commerzbank Global Corporate Solutions September

28 Commerzbank Corporates & Markets Frankfurt London Commerzbank AG Commerzbank AG London Branch DLZ Gebäude 2, Händlerhaus 30 Gresham Street Mainzer Landstraße 153 London Frankfurt am Main EC2P 2XY Tel: Tel: Fax: Commerzbank Global Corporate Solutions September 2015

29 Pioneer Investments Managing Currency Risk Andreas Koenig, CFA Head of FX, Europe Fixed Income For Professional Investor Use Only and Not to be Distributed to the Public.

30 Managing Currency Risk Overview 1. Know your FX exposure 2. Decide how to manage this FX exposure 3. Establish the approach 4. Define the risk- and position management strategy Page 29 I For Professional Investor Use Only and Not to be Distributed to the Public.

31 1) Know your FX exposure FX exposure can be - simple and obvious or - complex and partly hidden All currency exposure in the portfolio that is caused by the underlying day to day investment business (equity, bonds, commodities etc.) has to be known in terms of: - Timing - Size - Structure - Stability It influences the result of the portfolio and is a source of risk. It has to be known and managed properly. Page 30 I For Professional Investor Use Only and Not to be Distributed to the Public.

32 2) Decide How to Manage this FX Exposure From passive to active currency management, or From fully hedged to actively using the currency markets to create FX alpha passive FX management e.g. Fully hedged Partly hedged e.g. 50% Not hedged Benchmark neutral hedge. active FX management e.g. Actively investing globally in all currency pairs using all available instruments Only certain currencies e.g. majors, OECD etc. Only certain instruments, e.g. forwards and plain vanilla options, no exotic options. With certain restrictions e.g. up to 10% per single currency pair, not more risk than.etc. We reduce complexity and provide a clear approach: Hedge the existing FX exposure in our Fixed Income portfolios to benchmark neutral (passive hedging); Add an FX overlay to portfolios which attempt to achieve return out of the global FX markets. Page 31 I For Professional Investor Use Only and Not to be Distributed to the Public.

33 3) Establish the Approach Hit Ratio vs. Win/Loss Ratio When FX is discussed it is often confined to a relatively tight range of topics and techniques forecasting future moves, finding influencing factors, analysing fundamental macro-economic developments and risk is predominantly seen as volatility. Hit Ratio Can it be improved? Win/Loss Ratio Is it easier to influence? Page 32 I For Professional Investor Use Only and Not to be Distributed to the Public.

34 3) Establish the Approach Hit Ratio The relationship between the number of profitable trades to the number of losing trades. - What is a good or realistic hit ratio? - Forecasting is dealing with the future uncertainty - Forecast accuracy? Change of Perspective: Evaluate today where a price of a currency will be at a certain point of time in the future OR Evaluate the circumstance today and assign probabilities to potential future moves Page 33 I For Professional Investor Use Only and Not to be Distributed to the Public.

35 3) Establish the Approach Win/Loss Ratio The relationship between how much a profitable trade wins compared to how much a losing trade loses. Factors influencing the win/loss ratio are less discussed than factors influencing the hit/ratio - they are more dependent on individual behaviour or rules of setup and approach. Risk and Position Management - Choice of instruments - drawdown/ take profit approach - Position entry and exit approach - Position size decisions etc. Page 34 I For Professional Investor Use Only and Not to be Distributed to the Public.

36 3) Establish the Approach Distinguishing The Statistics Hit ratio is about predicting the future Probability of moves and risk/chance relationship Win loss ratio is about process Drawdown and T/P process Entry and exit of positions Instrument policy Analysis of strength and weaknesses The win/loss ratio can be better controlled since it is more process dependant, based more on manual work and influenced to a lesser extent by market uncertainty than the hit ratio. Page 35 I For Professional Investor Use Only and Not to be Distributed to the Public.

37 3) Establish the Approach Our Process Illustrated Currency + Market analysis Positioning Decision Step I Fundamental/macro currency analysis macro view Step II Risk contribution Probabilities Sentiment Overall market situation Positioning Market expectations Possible event risks psychology Direction Long/short Entry At what level What instrument In one or more steps Exit At what level Why/when t/p, dd limit In one or more steps Currency Position hit ratio win/loss ratio risk and position management Page 36 I For Professional Investor Use Only and Not to be Distributed to the Public.

38 4) Defining the Risk and Position Management Strategy Volatility vs. Vulnerability When discussing risk, volatility is the predominant measure Volatility is a measure for variation of price of a currency over time In contrast, we believe risk for an investor is the possibility of loss - Volatility in connection with the hit ratio - Volatility: is it symmetric? - Volatility is mainly ex post - Vulnerability - the real risks Page 37 I For Professional Investor Use Only and Not to be Distributed to the Public.

39 4) Defining the Risk and Position Management Strategy Volatility vs. Vulnerability Focus on the vulnerability of a portfolio Changes in correlation Paradigm changes Regime changes Shocks that change correlations or bring correlations towards 1 Quick changes in volatility VAR shocks when positions have to be reduced in the market due to risk limits getting hit when volatility increases. Event risks Volatility of liquidity Volatility is an important measure of risk and integral to risk management but, in my view, offers little insight for predicting future uncertainties Finding out as much as possible about the vulnerability of a portfolio is key Page 38 I For Professional Investor Use Only and Not to be Distributed to the Public.

40 Important Information Unless otherwise stated all information contained in this document is from Pioneer Investments and is as at 31 August 2015 The investment schemes or strategies described in this document (the Scheme(s) ) may not be registered for sale with the relevant authority in your jurisdiction. Where unregistered, they may not be sold or offered except in the circumstances permitted by law. The Schemes and the services described herein may not be regulated or supervised by any governmental or similar authority in your jurisdiction. This material does not constitute an offer to buy or a solicitation to sell any units/shares of any Scheme or any services, by or to anyone in any jurisdiction in which such offer or solicitation would be unlawful or in which the person making such offer or solicitation is not qualified to do so or to anyone to whom it is unlawful to make such offer or solicitation. This information is not for distribution and does not constitute an offer to sell or the solicitation of any offer to buy any securities or services in the United States or in any of its territories or possessions subject to its jurisdiction to or for the benefit of any United States person (being residents and citizens of the United States or partnerships or corporations organized under United States laws). Past performance is not indicative of and does not guarantee future results. Unless otherwise stated, all views expressed are those of Pioneer Investments. These views are subject to change at any time based on market and other conditions and there can be no assurances that countries, markets or sectors will perform as expected. Investments involve certain risks, including political and currency risks. Investment return and principal value may go down as well as up and could result in the loss of all capital invested. More recent returns may be different than those shown. This document does not constitute investment advice and does not take account of the investment objectives or needs of or suitability for a specific investor. The content of this document is approved by Pioneer Global Investments Limited. In the UK, it is approved for distribution by Pioneer Global Investments Limited (London Branch), Portland House, 8th Floor, Bressenden Place, London SW1E 5BH. Pioneer Global Investments Limited is authorised and regulated by the Central Bank of Ireland and subject to limited regulation by the Financial Conduct Authority. Details about the extent of our regulation by the Financial Conduct Authority ( FCA ) are available from us on request. The Schemes are unregulated collective investment schemes under the UK Financial Services and Markets Act 2000 ( FSMA ) and therefore do not carry the protection provided by the UK regulatory system. This document is addressed only to those persons in the UK falling within one or more of the following exemptions from the restrictions in s 238 FSMA: authorised firms under FSMA and certain other investment professionals falling within article 14 of the FSMA (Promotion of Collective Investment Schemes) (Exemptions) Order 2001, as amended (the CIS Order ) and their directors, officers and employees acting for such entities in relation to investment; high value entities falling within article 22 CIS Order and their directors, officers and employees acting for such entities in relation to investment; other persons who are in accordance with the Rules of the FSA prior to 1 November 2007 classified as Intermediate Customers or Market Counterparties or on or thereafter classified as Professional Clients or Eligible Counterparties. The distribution of this document to any person in the UK not falling within one of the above categories is not permitted by Pioneer Global Investments Limited (London Branch) and may contravene FSMA. No person in the UK falling outside those categories should rely or act on it for any purposes whatever. Pioneer Investments is a trading name of the Pioneer Global Asset Management S.p.A. group of companies. This document is private and confidential and is for the sole use of the institutional or professional clients to whom it is addressed. It is not to be distributed to the public or to other third parties and the use of the information provided by anyone other than the addressee is not authorised. Date of First Use: 25 September 2015 Page 39 I For Professional Investor Use Only and Not to be Distributed to the Public.