Introducing the Green Bond Index

Transcription

1 Itroducig the Gree Bod Idex Bod Idices Global 3 October 214 Uauthorized redistributio of this report is prohibited. This report is iteded for phil.galdi@baml.com. Itroducig the Gree Bod Idex BofA Merrill Lych Research is itroducig a ew idex that tracks the performace of the rapidly growig gree bod market. Specifically, The BofA Merrill Lych Gree Bod Idex (ticker GREN) icludes gree use of proceeds bods. That is, bods issued by quasi-govermets ad corporatios where the proceeds of the issue are to be used solely for projects ad activities that promote climate or other evirometal sustaiability purposes. (p 2) Gree Bods: a rapidly growig market We trace the first gree bod back to 27 (EIB % 6/28/212, issued i Jue 27). Additioal issuace was iitially slow but has surged i the last two years ad could cotiue o that trajectory for some time to come. (p 2) Corporates are eterig the game Iitially, the idex was comprised etirely of AAA-rated quasi-govermet debt. But ow Corporate issuers are eterig the game, with Utilities leadig the charge. That has had a sigificat impact o the idex average ratig ad spread. Corporate gree bods have had about a 6bp pick-up over quasi-govermets, o average, this year. (p 3, 6) More retur, less volatility Compared to other flagship ivestmet grade global bod idices, the Gree Bod Idex would have the highest retur over the last 3¾ years. The Global Corporate Idex came the closest to matchig the Gree Bod Idex retur, but it had sigificatly more volatility. You had to look below ivestmet grade to fid a higher retur. But the Global High Yield Idex had more tha twice the volatility (6.48% vs 2.86%) ad therefore a much lower risk-adjusted retur (.38% vs.61%). (p 4) Idices published daily o public platforms The BofA Merrill Lych Gree Bod Idex is compiled ad published daily o the BofA Merrill Lych Global Idex System which is available o Bloomberg (IND<Go>), the BofA Merrill Lych istitutioal cliet website ( ad the BofA Merrill Lych public idex website ( as well as may third party delivery services. Phil Galdi Research Aalyst MLPF&S phil.galdi@baml.com Access to BofA Merrill Lych Bod Idices O Bloomberg: IND<GO> O Mercury (istitutioal cliet website): Public website: BofA Merrill Lych Idex Hotlie: New York: Lodo: mlidex@ml.com Table of Cotets Itroducig the Gree Bod Idex 2 Idex performace 5 Curret idex compositio 7 Idex Rules 1 Idex calculatios 12 BofA Merrill Lych does ad seeks to do busiess with compaies covered i its research reports. As a result, ivestors should be aware that the firm may have a coflict of iterest that could affect the objectivity of this report. Ivestors should cosider this report as oly a sigle factor i makig their ivestmet decisio. Refer to importat disclosures o page 16 to

2 We itroduce a ew idex that tracks the performace of the rapidly growig gree bod market. The first gree bod was issued i 27. Additioal issuace was iitially slow but has surged i the last two years ad could cotiue o that trajectory for some time to come. The idex curretly captures 77% of the total capitalizatio of the gree bod market. Itroducig the Gree Bod Idex BofA Merrill Lych Research is itroducig a ew idex that tracks the performace of the rapidly growig gree bod market. Specifically, The BofA Merrill Lych Gree Bod Idex (ticker GREN) icludes gree use of proceeds bods. These are bods issued by quasi-govermets ad corporatios where the proceeds of the issue are to be used solely for projects ad activities that promote climate or other evirometal sustaiability purposes. Curretly, the idex has 51 costituets with a combied face value totalig $31b, which is just a drop i the bucket compared to the $66t i debt tracked by our global family of bod idices. So why are we payig so much attetio to gree bods? The aswer lies i the recet surge i issuace of these bods ad the potetial that it is just the tip of the iceberg. Though we trace the first gree bod back to 27 (EIB % 6/28/212, issued i Jue 27), through the ed of 212 oly $9b i gree bods had bee issued. But the thigs dramatically chaged ad the amout issued over that 5½ year period was more tha matched i 213 ($13b), the doubled agai i the first 9 moths of 214 ($28b) with aother $4b to be added at the ext rebalacig. That tred could very well cotiue for some time to come. A recet research publicatio issued by our Thematic Ivestig team, Fixig the Future: Gree Bods Primer, oted that the world eeds up to $53t i eergy ivestmets by 235E, icludig US$39t to shift away from fossil fuels ad $14t for eergy efficiecy. It further commets that Gree Bods are a game chager i coectig private capital with the US$53t fudig gap i evirometal fiacig. By broadeig the pool of potetial ivestors ad eablig access to loger-term debt, Gree Bods allow issuers to access a lower cost of capital. As of September 3, 214 there were 19 gree bods issued ad outstadig (idetified by Bloomberg use of proceeds flag = Gree Bod). Of those, oly 51 qualified for iclusio i the idices, or less tha 3% of the uiverse. Most of the excluded securities were filtered out due to lack of ratigs or failure to meet the miimum size requiremets for the idex. However, the 51 icluded securities represet 77% of the total capitalizatio of the gree bod uiverse (Chart 1). So the qualifyig selectio criteria effectively improve the liquidity of the idex without impairig its ability to represet the broad asset class (see Idex Rules for a complete list of selectio criteria). Chart 1: Gree Bod Idex coverage of the gree use of proceeds uiverse (Sep 3, 214) 1% 9% 8% 7% 6% 5% 4% 3% 2% 1% % 9,63 31,247 Face Value (USD MM) # bods Icluded Excluded, Bloomberg 2

3 A iflux of Corporate issuace over the last year has lowered the average idex ratig ad icreased its spread. The sudde surge i ew issue additios to the idex over the last two years (Chart 2) has ot oly icreased its size but also begu to fudametally alter its compositio. Through its formative years the idex would have bee comprised etirely of AAA-rated quasi-govermet debt (Chart 3). Iitially, a meaigful portio of that debt was deomiated i emergig market currecies (BRL ad ZAR) (Chart 4). But ow Corporate issuers are eterig the game ad that has had a impact o the idex average ratig (Chart 3) ad spread (Charts 5 ad 6) as the Corporate gree bods have had about a 6bp pick-up over quasigovermets, o average, this year. Ad most issuace is ow i EUR ad USD, which curretly make up 6% ad 24% of the idex, respectively, as the EM FX exposure has shruk to uder 5%. Chart 2: Gree Bod Idex 9/3/214 costituets by issue year (USD face value) 18, 16, 14, 12, 1, 8, 6, 4, 2, moths Chart 3: Gree Bod Idex sector allocatio ad average ratig 1% 9% 8% 7% 6% 5% 4% 3% 2% 1% % Dec-1 Mar-11 Ju-11 Sep-11 Dec-11 Mar-12 Ju-12 Sep-12 Dec-12 Mar-13 Ju-13 Sep-13 Dec-13 Mar-14 Ju-14 Sep-14 Quasi Govt Corporate Ratig 3.5 AAA AA AA2 1.5 Chart 4: Gree Bod Idex currecy allocatio 1% 9% 8% 7% 6% 5% 4% 3% 2% 1% % Developed Market Currecies Emergig Market Currecies Dec-1 Mar-11 Ju-11 Sep-11 Dec-11 Mar-12 Ju-12 Sep-12 Dec-12 Mar-13 Ju-13 Sep-13 Dec-13 Mar-14 Ju-14 Sep-14 3

4 Chart 5: Gree Bod Idex yield ad spread Chart 6: Gree Bod Idex spread by sector Dec-1 Mar-11 Ju-11 Sep-11 Dec-11 Mar-12 Ju-12 Sep-12 Dec-12 Mar-13 Ju-13 Sep-13 Dec-13 Mar-14 Ju-14 Sep Dec-13 Ja-14 Feb-14 Mar-14 Mar-14 Apr-14 May-14 May-14 Ju-14 Jul-14 Jul-14 Aug-14 Sep-14 Sep-14 OAS (LHS) Effective Yield (RHS) Quasi-Govermet Corporate 4

5 Compared to other flagship ivestmet grade global bod idices, the Gree Bod Idex has the highest retur over the last 3¾ years. The Global Corporate Idex came the closest to matchig the Gree Bod Idex retur but had sigificatly more volatility. To date, spread performace has ot bee a sigificat cotributor to overall idex returs. Idex performace 1 Sice the chose iceptio date of 12/31/1, the Gree Bod Idex would have performed well i compariso to other flagship ivestmet grade idices, rakig first i its iaugural year ad secod out of five i every period thereafter (Chart 7). For the cumulative 3¾ year period the Gree Bod Idex would have raked first with a 6.15% aualized retur. That represets close to 2% better tha the Global Broad Market Idex, the Global Govermet Idex ad the Global Quasi- Govermet Idex over that same time period. The compariso to the Global Quasi-Govermet Idex is the most relevat give that util a year ago the Gree Bod Idex was etirely comprised of quasi-govermet debt ad today quasi-govermet issuers still make up two-thirds of its capitalizatio. Withi the ivestmet grade area, Corporates came the closest to matchig the performace of the Gree Bod Idex with a 5.83% aualized retur sice 211. But it did so with sigificatly more credit risk (A3 average ratig curretly vs AA2 for the Gree Bod Idex). Ad it also had sigificatly more retur volatility (3.56% vs 2.86% aualized stadard deviatio of mothly returs). You had to look below ivestmet grade to fid a higher retur. But the Global High Yield Idex (8.64% aualized retur) had more tha twice the volatility (6.48% vs 2.86%) ad therefore a much lower risk-adjusted retur (.38% vs.61%). I most years, the curve would have bee the largest retur factor for the Gree Bod Idex (Chart 8). But cumulatively sice iceptio, it is icome that would have accouted for almost two-thirds of the idex performace. The curve factor geerated a third of the idex retur leavig less tha 5% of performace attributed to spread tighteig gais. That is certaily a reflectio of the very high quality of the uderlyig debt i the idex, which util oly recetly had a AAA average ratig. Ad eve ow, with a 38bp OAS the spread chage retur factor is ot likely to be a sigificat positive cotributor to performace i the ear future. Note: Performace of the Gree Bod Idex icludes back-tested performace. The Idex starts o the chose iceptio date idicated above. Performace prior to the date the Gree Bod Idex was itroduced i a research report icludes back tested data ad reflects the applicatio of the idex methodology over the stated period as if the idex had bee i existece at that time. Pre-itroductio performace is hypothetical i ature ad is ot idicative of actual performace. Idex performace is for illustrative purposes oly ad does ot represet actual ivestmet performace. Idex performace returs do ot reflect trasactio costs ad fees ad other ivestmet expeses such as advisory or maagemet fees. Idices are umaaged ad it is ot possible to ivest i a idex directly. Past performace is ot a idicatio of future results. 1 Pre-iceptio idex performace is hypothetical i ature as the idex was ot i existece at that time. There is o assurace that the idex will perform similarly goig forward. 5

6 Chart 7: Gree Bod Idex total retur (i local currecy terms) vs other global IG idices Sep 214 YTD Cumulative aualized Gree Bod Idex (GREN) Global Broad Mkt (GBMI) Global IG Quasi-Govt (GBQ) Global IG Govt (WG1) Global IG Corp GBC) Source: BofA Merrill Lych Bod Idex Chart 8: Gree Bod Idex retur factors 12.% 1.% 8.% 6.% 4.% 2.%.% -2.% -4.% YTD Aualized sice iceptio Icome Curve Spread Chg Source: BofA Merrill Lych Bod Idex 6

7 The AAA allocatio dropped from 1% just a year ago to just over 5% ow. The Utility sector is the big growth area. Curret idex compositio While it is still a very high quality idex, the AAA allocatio dropped from 1% just a year ago to just over 5% ow. The sigle-a segmet has emerged as the ext largest compoet with a 23% share. There is a fairly eve distributio of debt across the curve with 2-3% i the -3 year, 3-5 year, 5-7 year ad 7+ year maturity buckets. The Euro has bee the preferred currecy of deomiatio, accoutig for 6% of the idex capitalizatio, followed by the UD dollar (24%). EM currecies are icluded, but have shruk to less tha a 5% share of the idex. Quasi-Govermet issuers (66%) domiate the idex with Supraatioals (43%) the biggest compoet of that segmet. However the Corporate allocatio, which was il just a year ago, has reached 34% with Utilities leadig the charge. Chart 9: Gree Bod Idex % distributio by composite ratig Chart 1: Gree Bod Idex % distributio by maturity AAA -3 Year 27 AA 3-5 Year Year 24 A 7-1 Year 16 BBB 1+ Year Chart 11: Gree Bod Idex % distributio by currecy Chart 12: Gree Bod Idex % distributio by sector EUR 59.5 Utility 21.3 USD SEK GBP CAD AUD ZAR BRL TRY Real Estate Bakig Cosumer Goods Services Techology Fiacial Services Supraatioal Govt Agecy Govt Guarateed CNH.2 Local Authority

8 Table 1: The BofA Merrill Lych Gree Bod Idex (GREN) characteristics as of 9/3/214 # Bods MktVal (USD MM) % wgt Eff duratio Cotr to duratio Yield OAS Ratig AAA 31 17, AA 8 5, A 7 7, BBB 5 2, Total 51 32, Currecy AUD BRL CAD CNH EUR 16 19, GBP 2 1, SEK 5 1, TRY USD 16 7, ZAR Total 51 32, Sector Agecy 5 3, Govermet Guarateed 2 2, Local-Authority 3 1, Supraatioal 27 13, Quasi & Foreig Govermet (Total) 37 21, Bakig Fiacial Services Fiacial (Sub Total) 3 1, Real Estate 3 1, Services Techology & Electroics Cosumer Goods Idustrials (Sub Total) 6 2, Utility 5 6, Corporate (Total) 14 1, Total 51 32, Maturity -3 Year 23 8, Year 12 6, Year 4 7, Year 7 5, Year 5 4, Total 51 32,

9 Table 2: The BofA Merrill Lych Gree Bod Idex (GREN) costituets as of 9/3/214 Face Face Composite Coutry Value Value % Mkt Effective Effective Ticker Coupo Maturity Ratig Currecy of Risk Sector Sub-sector (LOC) (USD) Value Duratio Yield OAS ADSEMI /24/217 BBB2 USD TW Corporate Techology & Electroics AFDB.75 1/18/216 AAA USD SNAT Quasi-Govermet Supraatioal AGFRNC /17/224 AA2 EUR FR Quasi-Govermet Agecy 1, 1, ASIA /21/215 AAA TRY SNAT Quasi-Govermet Supraatioal BAC /21/216 A3 USD US Corporate Bakig EBRD /1/218 AAA USD SNAT Quasi-Govermet Supraatioal EDC.875 1/3/217 AAA USD CA Quasi-Govermet Govermet Guarateed EDF /27/221 A1 EUR FR Corporate Utility 1,4 1, EIB /17/215 AAA SEK SNAT Quasi-Govermet Supraatioal 2, EIB 8 3/16/215 AAA BRL SNAT Quasi-Govermet Supraatioal EIB /15/217 AAA ZAR SNAT Quasi-Govermet Supraatioal 1, EIB 3 4/23/219 AAA SEK SNAT Quasi-Govermet Supraatioal 3, EIB /15/219 AAA EUR SNAT Quasi-Govermet Supraatioal 2,6 3, EIB /7/22 AAA GBP SNAT Quasi-Govermet Supraatioal EIB /13/226 AAA EUR SNAT Quasi-Govermet Supraatioal EIBKOR /27/218 AA3 USD KR Quasi-Govermet Agecy GSZFP /19/22 A2 EUR FR Corporate Utility 1,2 1, GSZFP /19/226 A2 EUR FR Corporate Utility 1,3 1, HERIM /4/224 BBB2 EUR IT Corporate Utility IBESM 2.5 1/24/222 BBB1 EUR ES Corporate Utility IBRD /12/214 AAA SEK SNAT Quasi-Govermet Supraatioal 3, IBRD.375 8/24/215 AAA USD SNAT Quasi-Govermet Supraatioal IBRD.5 9/6/216 AAA ZAR SNAT Quasi-Govermet Supraatioal 1, IBRD.65 9/23/216 AAA USD SNAT Quasi-Govermet Supraatioal IBRD 6 2/15/217 AAA AUD SNAT Quasi-Govermet Supraatioal IBRD /1/217 AAA ZAR SNAT Quasi-Govermet Supraatioal IBRD 9.5 3/2/217 AAA BRL SNAT Quasi-Govermet Supraatioal IBRD.25 3/2/217 AAA EUR SNAT Quasi-Govermet Supraatioal IBRD /15/217 AAA SEK SNAT Quasi-Govermet Supraatioal 1, IBRD 3.5 4/29/219 AAA AUD SNAT Quasi-Govermet Supraatioal IBRD /23/219 AAA SEK SNAT Quasi-Govermet Supraatioal 1, IDF /27/224 AA2 EUR FR Quasi-Govermet Local-Authority IDF /24/226 AA2 EUR FR Quasi-Govermet Local-Authority IFC.5 5/15/215 AAA USD SNAT Quasi-Govermet Supraatioal IFC.5 5/16/216 AAA USD SNAT Quasi-Govermet Supraatioal 1, 1, IFC /15/216 AAA USD SNAT Quasi-Govermet Supraatioal 1, 1, IFC 2 6/26/217 AAA CNH SNAT Quasi-Govermet Supraatioal KBN.75 11/21/216 AAA USD NO Quasi-Govermet Agecy KFW.375 7/22/219 AAA EUR DE Quasi-Govermet Govermet Guarateed 1,5 1, MASSIN /1/238 AAA USD US Corporate Services NEDFIN /13/218 AA1 EUR NL Quasi-Govermet Agecy NEDWBK.625 7/3/219 AA1 EUR NL Quasi-Govermet Agecy NIB /19/215 AAA ZAR SNAT Quasi-Govermet Supraatioal 1, NIB /3/221 AAA USD SNAT Quasi-Govermet Supraatioal NRWBK.75 11/28/217 AA1 EUR DE Quasi-Govermet Local-Authority REG /15/224 BBB2 USD US Corporate Real Estate TD /3/217 AA1 CAD CA Corporate Bakig THPPRT /31/246 A3 CAD CA Corporate Fiacial Services ULFP 2.5 2/26/224 A2 EUR FR Corporate Real Estate UNANA 2 12/19/218 A1 GBP GB Corporate Cosumer Goods VNO 2.5 6/3/219 BBB2 USD US Corporate Real Estate

10 Idex Rules The BofA Merrill Lych Gree Bod Idex (ticker GREN) is desiged to track the performace of securities issued for qualified gree" purposes. Qualifyig bods must have a clearly desigated use of proceeds that is solely applied toward projects or activities that promote climate chage mitigatio or adaptatio or other evirometal sustaiability purposes. Geeral debt obligatios of corporatios that are ivolved i gree idustries are ot icluded. The idex icludes debt of corporate ad quasi-govermet issuers, but excludes securitized ad collateralized securities. Qualifyig securities must have a ivestmet grade ratig (based o a average of Moody s, S&P ad Fitch), at least 18 moths to fial maturity at the time of issuace, at least oe moth remaiig term to fial maturity as of the rebalacig date ad a fixed coupo schedule. Qualifyig securities must be deomiated i specified developed market ad emergig market currecies. Securities deomiated i a qualifyig emergig market currecy must settle o Euroclear. Qualifyig developed markets currecies ad their correspodig gree bod miimum size requiremets (i local currecy terms, millios) are: AUD 1; CAD 1; EUR 25; GBP 1; JPY 2,; SEK 1,25; ad USD 25. Qualifyig emergig markets currecies are selected aually each Jue 3 with ay resultat chages implemeted at the September 3 rebalacig. To be icluded i the idex a currecy (i) must be other tha a FX G1 or Wester Europea currecy, (ii) must have at least $1b USD equivalet i outstadig omial local currecy sovereig debt that meets the criteria for iclusio i the local currecy sovereig idex. Coversio of local currecy outstadig face value ito USD terms is based o the average of the previous 12 moth-ed exchage rates up to ad icludig the Jue 3th evaluatio date. Dual currecy bods (bods deomiated i a EM currecy but that settle i a hard currecy, such as USD) are icluded i the idex. Curretly qualifyig emergig markets currecies ad their correspodig gree bod miimum size requiremets (i local currecy terms, millios) are: BRL 15; CLP 5,; CNH 5; CNY 5; COP 2,; CZK 2,; EGP 5; HKD 75; HUF 2,; IDR 1,,; ILS 3; INR 5,; KRW 1,; MAD 75; MXN 1,25; MYR 3; NGN 15,; PEN 25; PHP 4,; PLN 3; RON 3; RUB 3,; SGD 1; THB 3,; TRY 15; TWD 3,; VND 2,,; ZAR 75. Origial issue zero coupo bods ad pay-i-kid securities, icludig toggle otes, qualify for iclusio. Callable perpetual securities qualify provided they are at least oe year from the first call date. Fixed-to-floatig rate securities also qualify provided they are callable withi the fixed rate period ad are at least oe moth from the last call prior to the date the bod trasitios from a fixed to a floatig rate security. Cotiget capital securities ( cocos ) are excluded, but capital securities where coversio ca be madated by a regulatory authority, but which have o specified trigger, are icluded. Other hybrid capital securities, such as those that potetially covert ito preferece shares, those with both cumulative ad o-cumulative coupo deferral provisios, ad those with alterative coupo satisfactio mechaisms, are also icluded i the idex. U.S. tax-exempt securities as well as iflatio-liked, equity-liked ad legally defaulted securities are excluded from the idex. Idex costituets are capitalizatio-weighted based o their curret amout outstadig times the market price plus accrued iterest. Accrued iterest is calculated assumig ext-day settlemet. Cash flows from bod paymets that are received durig the moth are retaied i the idex util the ed of the moth 1

11 ad the are removed as part of the rebalacig. Cash does ot ear ay reivestmet icome while it is held i the idex. Iformatio cocerig costituet bod prices, timig ad covetios is provided i the BofA Merrill Lych Bod Idex Guide, which ca be accessed o Bloomberg (IND2<go>, 4<go>), or by ig a request to mlidex@ml.com. The idex is rebalaced o the last caledar day of the moth, based o iformatio available up to ad icludig the third busiess day before the last busiess day of the moth. No chages are made to costituet holdigs other tha o moth ed rebalacig dates. 11

12 Idex calculatios Calculatig local currecy bod returs Moth-to-date returs are calculated daily for each bod i its currecy of deomiatio (i.e., local total retur) as follows: ad where: BTRR BPRR = ( P + AI ) ( P + AI ) P P = P + AI + C 1 P + AI BTRR = idividual bod moth-to-date total retur o day i local currecy terms BPRR = idividual bod moth-to-date price retur o day i local currecy terms P = curret day closig price P = prior moth-ed closig price AI = curret day accrued iterest (calculated for ext day settlemet) AI = prior moth-ed accrued iterest (calculated for ext day settlemet) C = coupo paymets received durig the period (icludig capital paymets at curret market value) r = reivestmet rate (curretly zero) t = umber of days betwee the receipt of the cash flow ad day d = day cout covetio for the referece LIBID istrumet (i.e., 36 or 365) Costituet valuatios Costituet prices are obtaied from idepedet third party price providers based o bid side valuatios as of the local market close. Iteractive Data Corporatio (IDC) is the primary pricig service used for the Gree Bod Idex. IDC prices are take as of the local market close. Currecy coversios are based o Lodo closig spot rates provided by WM Compay 2. Accrued iterest is calculated assumig settlemet o the ext caledar day.. Complete iformatio cocerig costituet bod prices, timig ad covetios is provided i the BofA Merrill Lych Bod Idex Guide, which ca be accessed o Bloomberg (IND2<go>, 4<go>), or o request by ig mlidex@ml.com). Note: BofA Merrill Lych Bod Idex costituet pricig data ca oly be used iterally for purposes of bechmarkig, performace attributio, research, aalysis ad risk/compliace reportig related activities performed solely i coectio with the BofA Merrill Lych bod idices. Idex costituet pricig data may ot be used as a source for valuig a fud/portfolio uless you have etered ito a direct agreemet with the relevat primary pricig source that BofAML has used to compile the Idex which permits such use. + t r d 2 The WM/Reuters Closig Spot Rates are provided by The WM Compay plc i cojuctio with Reuters. The WM Compay plc shall ot be liable for ay errors i or delays i providig or makig available the data cotaied withi this service or for ay actios take i reliace o the same except to the extet that the same is directly caused by its or its employees 12

13 Reivestmet of Cash Flows Cash flows from bod paymets that are received durig the moth are retaied i the idex util the ed of the moth ad the are removed as part of the rebalacig. Cash does ot ear ay reivestmet icome while it is held i the Idex. Calculatig local currecy idex returs The moth-to-date Idex retur is equal to the sum of the idividual bod returs times their begiig-of-moth capitalizatio weights. TRR = k i= 1 BiTRR BiWgt ad PRR = k i= 1 B PRR i BWgt i where: TRR = Idex moth-to-date total retur o day B i TRR = moth-to-date total retur o day of bod i PRR = Idex moth-to-date price retur o day B i PRR = moth-to-date price retur o day of bod i B i Wgt = prior moth-ed capitalizatio weight of bod i k = the umber of bods i the Idex Calculatig the daily closig idex values The daily closig Idex value is a fuctio of the prior moth-ed Idex value ad the curret moth-to-date total retur: where: ( ) IV = IV 1+ TRR IV = closig total retur Idex value o day IV = prior moth-ed closig total retur Idex value TRR = the Idex moth-to-date total retur o day 13

14 Derivig periodic returs from idex values Periodic returs betwee ay two dates ca be derived from the begiig- ad ed-of-period Idex values 3 as follows: IV TRR = IV 1 where: TRR = the periodic total rate of retur IV = the closig Idex value o the ed-of-period date IV = the closig Idex value o the begiig-of-period date Calculatig aualized returs Aualized returs are derived from the periodic returs: 365 ( 1+ ) 1 = d ATRR TRR where: ATRR = aualized total rate of retur for period TRR = periodic total retur for period d = umber of actual days i period Calculatig uhedged coverted returs The returs of ay Merrill Lych bod idex ca be re-based ito ay of 41 available currecies. The coverted retur is equal to the product of the local total retur times the currecy retur. Currecy retur is equal to the edig FX rate (stated i terms of the umber of uits of the base currecy per oe uit of the currecy of deomiatio of the bod) divided by the begiig FX rate. CRR FX = FX 1 where: CRR = currecy retur for period FX = ed-of-period FX rate (stated i terms of the umber of uits of the base currecy per oe uit of the currecy of deomiatio of the bod) FX = begiig-of-period FX rate (stated i terms of the umber of uits of the base currecy per oe uit of the currecy of deomiatio of the bod) TRR coverted [( 1+ TRR ) ( 1+ )] 1 = CRR local where: TRR coverted = total retur of the bod coverted ito the base currecy TRR local = local total retur of the bod CRR = currecy retur 3 Sice Idex values represet closig levels, period returs will iclude market movemet o the ed-of-period date but exclude market movemet o the begiig-of-period date. Therefore, to capture returs for the moth of Jue, divide the Jue 3 Idex value by the May 31 Idex value. 14

15 Calculatig hedged returs Hedged returs are calculated o the basis of a rollig 1-moth hedge. 1-moth forward rates are purchased at the begiig of the moth i a amout equal to the full value (icludig accrued iterest) of the Idex. Appreciatio or depreciatio i the value of the Idex durig the course of the moth is left uhedged. The hedged retur at the ed of the moth is equal to: - Local total retur, plus - Currecy retur o uhedged local total returs, plus - Hedge retur (forward retur mius the currecy retur) The hedged Idex value ca the be calculated by multiplyig the prior mothed hedged Idex value by oe plus the hedged total retur for the curret moth. To calculate itra-moth returs ad Idex values, there is oe additioal compoet to be take accout of the reversal of the 1-moth forward positio purchased at the begiig of the moth. For example, to calculate returs ad Idex values as of July 14, 17-day forwards (the umber of days remaiig i the moth) are sold, reversig the 1-moth forward positio iitially purchased o Jue 3. 15

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