Fed Up Fed27 February 2014

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Product UpdatesScenario Updates

I. Market Update

II. Fed Up Fed

III. Scenarios

IV. HiddenLevers Use Cases

Fed Up Fed

HiddenLevers

MARKET UPDATE

Market Update

Commodities Gains Stick

Home Prices Taking a Breather Chinese Economy Pooped

Markets Back in Black for 2014

Macro Snapshot

Are home prices about to shift down with rates, or vice-versa? Commodities are rebounding, but copper (global indicator) is weak. Unemployment and CPI A-OK.

FED UP FEDHiddenLevers

Fed 2014 – Consensus is Over

Fed’s Lockhart: Expect a 2015 Rate Hike19Feb

Fed’s Fisher:No Rethinking Pace of Taper14Feb

Yellen inherits fractious Fed, minutes show19Feb

Fed’s Plosser: Taper Process Might Need To Be Quicker14Feb

Yellen stresses continued low-rate policy19Feb

Fed 2014 – View on Inflation

LOL – Fed worried about unemployment going to low:tight labor market = people get paid more = inflationary

Inflation in check

dollar stable

Inflation should be higher as growth is higher

Right now – softer spending + production

Low inflation = Fed can maintain stimulus

Focus on Core inflation, not short term commodities hijinks

No inflationary pressure from tech sector doing well

Core CPI

sources: HiddenLevers

Fed 2014 – View on Unemployment

sources: HiddenLevers, Fortune

already irrelevant to

retail

expect volatility on days when

data comes out

youth unemployment

20%(still rising)

headline number not a good snapshot

labor market is increasingly

complex

Unemployment Lever is losing relevancy

Fed – no more focus on top line unemployment for policy stance

Don’t bank on previous Fed statements about 6.5% threshold

Also losing relevancy in 2014

marijuana prohibitions

celebrities in advertising

Fed 2014 – View on Taper

source: BusinessInsider, Kiplinger, MarketWatch

Depending on market reaction, rates may rise at a measured .05% per QE reduction, or at a more anxious .1% per step

10b/month trimming in place until April/May at least

Given current trajectory, taper will finish by Q4 2014 (Goldman forecast)

Given disagreement rising at the Fed, tread carefully.

Fed 2014 – View on Interest Rates

FOMC Dec 2013 projections:

• 1 year until first rate hike

• 3 years until 2% fed rate.

2013 projection of 2015 rate hike still holds.

Economists’ median forecast is rate hike in March 2015.

source: Fed Reserve Bank SF, KKR

End of QE ---> rate hike3-6 months of lag likely

Inflation is good, but not too much

commodities 2014 rise = inflation? too early

Fed Up Fed – Recap

unemployment top line = irrelevant

HiddenLevers

FED UP FED – SCENARIOS

Fed Stress Tests Overview

source: Federal Reserve

“The … Dodd-Frank Act (DFA) stress tests are regulatory tools the Federal Reserve uses to ensure that financial institutions have … adequate capital.”

Three scenarios released every Nov: • Baseline (Good)• Adverse (Bad)• Severely Adverse (Ugly)

2013 versus 2014 differences: • Equity downside risk much greater• Risk on = Loftier valuations • Baseline 10y yield forecast raised

Fed Stress Tests 2014: Baseline Scenario

source: Federal Reserve, HiddenLevers

Economic growth largely

unchanged

S&P up 10% from current

levels

10y rates up 120bp by Q1 2016

Q4 2016 rose 4% 4.4% YoY

Fed Stress Tests 2014: Adverse Scenario

Economy in slight recession

10y rates up almost 300bp by

Q1 2016

S&P drop raised-25% -34%

StagflationNot

Deflation

End of QE - Update

CPI lowerunemployment lower no stagflation

source: HiddenLevers

Goodbye Outlier Scenarios

Bond Exodus now priced in

Rates have risen, but so have markets

HL was wrong Bond Exodus based off

1994 bond crash

10y yields coming in

PIMCO dire straits: 2013 bond exodus, 2014 El-Erian exodus

10y yields

Scenario: End of QENot SureEasy Money,

No Hangover

GoodEconomy

Back on Track

BadDeflation

Strikes Back

Inflation needs to be monitored. We will introduce a runaway inflation scenario if needed. For now, it is imprudent re QE

We are back on track:10y target = 3%S&P target = 1900 Scenario priced in

Taper just began, and commodities spiking due to weather – deflation is paused

HiddenLevers

WINNERS + LOSERS

The Advisor Conundrum

Am I too late to the equities rally ?

Are bonds a safe harbor or a trap?

Winners + Losers (for the coming rate hike)

Losers• Intermediate + long bond funds• Mortgage REITs, BDCs, utilities

Winners• Individual bonds + bond ladders• Hold to maturity in HiddenLevers

Summer 2013bond funds sensitive to rates

source: HiddenLevers

HiddenLevers Use Cases

scenarioRising Interest

Rates

portfolio entryFixed Income

macro themesRising Raters

Winners

scenarioFed Stress Tests

scenarioEnd of QE

Fed up Fed

• Charting Redesign

• Economic Data Center – Active Tab

• Securities Risk Profile – fund characteristics

• Fixed Income – option to hold to maturity

• Grendel Integration – single sign on

Coming soon – Risk Monitoring Alpha:

- Run scenarios against whole book of business

- Auto stress test run nightly, summary stats emailed

- Basic dashboard showing most at risk portfolios

Product Update