institutional seminar

Institutional seminar

Hôtel Scribe

Paris, December 7, 2016

1. 2.

2 Paris, 07/12/16

Momentum in rates stalling,

global diversification calling!

Peter De CoenselMember of the Management Board Degroof Petercam AM, CIO Fixed Income

Can European equities finally outperform?

Guy Lerminiaux Member of the Management Board Degroof Petercam AM, CIO Fundamental Equity


global diversification calling!Peter De Coensel

CIO Fixed Income

Paris, 07/12/164

Conclusion

The end of the Secular Bond Bull ?

QuantitativeEasing

Momentumin Rates and impact on spreads

Global Diversification

Trump

Paris, 07/12/165

Are we experiencing the end of the 35 year bull market in

bonds at this moment?

US 10Y Nominal Rates

6

How does a bull market looks like! (past 35 years)

Source: Bloomberg & Degroof Petercam

Paris, 07/12/16

US 10Y Nominal Rates

7 Paris, 07/12/16

Looking at the past 116 years

Source: R. Shiller database & Degroof Petercam

US 10Y REAL Rates is main driver

8 Paris, 07/12/16

Controlling inflation only a partial explanation!

Source: FRED, Bloomberg & Degroof Petercam

Real rates pressured by SECULAR forces

9 Paris, 07/12/16

Animal spirits were suppressed!

Source: Laubach & Williams (2013), Bloomberg & Degroof Petercam

Great Financial Crisis

Long Term Outlook

10 Paris, 07/12/16

Demographics will continue to push trend growth down

Source: United Nations & Degroof Petercam

Long Term Outlook

11 Paris, 07/12/16

Some Saving &Investment factors will become less severe (e.g. Oil, Emerging markets savings glut since 1998)

Source: IMF & Degroof Petercam

Long Term Outlook

12 Paris, 07/12/16

Will we resolve the productivity puzzle?

Source: John G. Fernald, "A Quarterly, Utilization-Adjusted Series on Total Factor Productivity." FRBSF Working Paper 2012-19 (updated 2016). & Degroof Petercam

Long Term Outlook

13 Paris, 07/12/16

With what we know today - we only can expect a modest and gradual “lowmalisation” of real rates over next 5-15 years

Source: Secular drivers of the global real interest rate, Lukasz Rachel and Thomas D Smith (Bank of England) & Degroof Petercam | global real rate is median LT government bond - inflation expectations

Paris, 07/12/1614

End of 35 year bull market: YES

Start of a long term bear market: NO

Paris, 07/12/1615

Conclusion


QuantitativeEasing



Trump

Paris, 07/12/1616

Can « Trumponomics » awake the animal spirits?

Fiscal spending to the rescue

17 Paris, 07/12/16

We should encounter limits to the use of debt financed growth … might increase credit risk over the medium term


Protectionism to the rescue

18 Paris, 07/12/16

Let’s make inflation linked bonds great again ☺


Paris, 07/12/1619

Conclusion


QuantitativeEasing



Trump

Overview QE

20 Paris, 07/12/16

Fed has passed the baton!

Source: Deutsche Bank, Bloomberg & Degroof Petercam

USD bln/Month

Overview QE

21 Paris, 07/12/16

ECB will not disappoint on QE during 2017 and act as backstop to high political uncertainty

QE Extension till September – December 2017

No official net tapering during 2017

Flexibility in execution

Status quo in policy rates (-0.40% & 0.00%) and TLTRO

Paris, 07/12/1622

Conclusion


QuantitativeEasing



Trump

Paris, 07/12/1623

EUR rates

24

EUR Rates Outlook

Expect steeper curves

Term premiums are distorted by QE design. Anticipate that ECB will introduce more flexibility

in QE design which handles scarcity premium. Better inflation and growth outlook +

international spill-over effects should lead to steeper curves going forward.

Expect higher core rates throughout the year

Economic recovery should continue over 2017. EUR core rates however remain at historical

low levels. Secular outlook remains challenging for euro area but gradual rise towards to a

new low equilibrium level seem most likely path forward.

Expect Inflation linked bonds to perform

Current valuations are cheap and discount a scenario that the ECB will NOT achieve its target

over the next 5-10 years. If real rates remain well anchored and inflation gradually picks

up/surprises to the upside - inflation linked bonds can provide interesting risk-returns

characteristics

Expect temporary spread volatility to present opportunities

Busy political calendar in Europe. Financial market have been spooked by surprise results in

outcome of Brexit and US elections. Spreads will trade in wider ranges but ECB will prevent a

huge tightening of financial conditions.

Paris, 07/12/16

EUR Rates Outlook

25 Paris, 07/12/16

While we are not the only ones facing lowflation troubles …


EUR Rates Outlook

26 Paris, 07/12/16

… Inflation is finally surprising to the upside

Source: Citigroup & Degroof PetercamInflation surprise indices measure inflation surprises relative to market expectations. A positive reading implies inflation is higher than expected and a negative reading indicates lower than expected.

EUR Rates

27 Paris, 07/12/16

Supply will not be an issue in 2017 (without ECB tapering)

Source: Morgan Stanley, Bloomberg & Degroof PetercamEstimates assume Fed continues to reinvest maturing debt ; ECB start tapering in 2018 and ends PSPP in May 2018,; BoJ continues to buythropughout 2017 and reduces to 60 trillion Yen in 2018

No ECB Tapering 2018

Paris, 07/12/1628

US rates

US

Rates O

utlo

ok

29

Pa

ris, 07

/12

/16

Cu

rrent in

flation

is close to

LT

mean

of 2%

bu

t can b

e vo

latile

Sou

rce: R. S

hiller&

Degroof P

etercam

0 5

10

15

20

25

30

Less

-11% to -10%

-10% to -9%

-9% to -8%

-8% to -7%

-7% to -6%

-6% to -5%

-5% to -4%

-4% to -3%

-3% to -2%

-2% to -1%

-1% to %

% to 1%

1% to 2%

2% to 3%

3% to 4%

4% to 5%

5% to 6%

6% to 7%

7% to 8%

8% to 9%

9% to 10%

10% to 11%

11% to 12%

12% to 13%

13% to 14%

14% to 15%

15% to 16%

16% to 17%

More

US

Infla

tion

distrib

utio

n sin

ce 1

87

1

US Rates Outlook

30 Paris, 07/12/16

Fed: “High Pressure Economy” (Yellen, 14-Oct)

Source: BLS & Degroof Petercam

-

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0

-

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0

Mar-07 Mar-08 Mar-09 Mar-10 Mar-11 Mar-12 Mar-13 Mar-14 Mar-15 Mar-16

Average Hourly Earnings

Consistent with a slow hiking path with potential to overshoot inflation target

Signs of US inflation pressure building via labour market

Any stimulus from Trump will add to the pressure

Great Financial

Crisis

US Rates Outlook

31 Paris, 07/12/16

Market expects yield curve to flatten … we agree and see value in the long end


1 hike = 0.25%, we assume 1 more hike in 2016, we also expect 2 hikes in both 2017 and 2018, expecting 1.50% - 1.75% by 2019

0.5

1

1.5

2

2.5

3

3.5

2Y 3Y 5Y 7Y 10Y 30Y

Expected Future US Curve

Current

1 Yr Forward

3 Yr Forward

Market: 1 hike in 2016, 1-2 hikes in 2017

Market: 2-3 hikes in 2018-19

US Rates Outlook

32 Paris, 07/12/16

Especially like US TIPS. Market expects US yield curve to flatten but real rates to increase less than nominal rates …


-0.6

-0.4

-0.2

0

0.2

0.4

0.6

0.8

1

1.2

2Y 3Y 4Y 5Y 6Y 7Y 8Y 9Y 10Y 20Y 30Y

Expected Future US Real Curves

Current

1 Yr Forward

3 Yr Forward

Market is pricing more stability in real rates

Inflation linked bonds more immune to rates moves driven by inflation. Evidenced by surge in 10 year inflation expectations of 0.60% since July

Paris, 07/12/1633

EU and US IG credit

European IG Credit Outlook

34 Paris, 07/12/16

Fundamentals are not in the spread driving seat …

Source: BofAML, Bloombnerg & Degroof Petercam

European IG Credit Outlook

35 Paris, 07/12/16

The unabated drop in rates has made IG fragile to normalization of rates: carry protection near lows

Source: BofAML, Bloombnerg & Degroof Petercam

At the current yield of 1%, an adverse move of 20bp would

wipe out a year’s carry

EU versus US corporate leverage cycle

36 Paris, 07/12/16

Prudent EU versus confident US

Source: Commerzbank & Degroof Petercam

EU versus US capital expenditure cycle

37 Paris, 07/12/16

Both EU and US act prudently

Source: Commerzbank & Degroof Petercam

Net leverage for EU corporates has been stable but so has been organic growth

38

EUR & US IG Credit Outlook

Continuous support of CSPP over 2017 by ECB for EU and US IG

We expect in addition to the current € 46bn purchased since launch early June 2016, that

over 2017 an additional € 80 to € 100bn investment grade corporate bonds are taken out of

the market.

Expect IG spreads in EU and US to act as a buffer against upward rates pressure

We are aware of the tight spread buffer in the EU but see the ‘protected’ asset class as a prime diversifier going into a charged political year for the EU. Given measured allocation to periphery we see diversification benefits for the defensive long term investor. In the US we select strong IG issuers with a domestic tilt and with a stable rating outlook.

Positive

� Commercial Real Estate� Construction and

Building Materials� Banks� Healthcare (increasing

risks)� Chemicals� Paper, Pulp and

Packaging (HY)� Personal Household

Neutral

� Utilities

� Oil and Gas� Metals & Mining� Retail� Food & Beverage� UK Banks

Negative

� Industrials Goods & Servivces

� IT

Paris, 07/12/16

Paris, 07/12/1639

EU and US HY credit

40

EUR & US HY Credit Outlook

Expect a non-linear path for spreads in 2017, with bouts of high volatility

We expect less momentum driven markets as the continuous spread tightening trend

is challenged by normalizing pressure on core rates. That will unnerve tactical

institutional and retail cash & ETF investors into next year.

Default risk not to rise significantly in Europe over 2017

Main cohort of HY companies are situated in BB rating bucket (65% of BM). The latter

receive refinancing support in second order from ECB CSPP program. With spreads

around 400bp we are covered for an average 5 year cumulative default cycle resulting

in our neutral stance.

US: Default cycle to decline from an awkward 5.6%, 7.5%+ including energy

Trailing twelve months US High Yield defaults rose to 5.6% October 2016 (vs. 2.8% end

2015). Going into 2017, we expect defaults to decline somewhat as weaker

commodity related companies have been weeded out and the environment still

remains issuer friendly for refinancing.

Prefer high to mid credit quality

Moving further and later into the cycle we look for high quality carry: BB rated

companies and lower levered Bs are preferred over CCC. Curve-wise, shorter duration

(< 7 years) carries our preference.

EUR

HY

EUR HY

US HY

Paris, 07/12/16

EUR HY Credit Outlook (2017 scenario)

41 Paris, 07/12/16

Spreads expected to widen … from tight base but expect to be saved by carry

Source: Barclays, Bloomberg & Degroof Petercam

Despite higher underlying rates and wider spreads, carry

expected to be sufficient to end the year with a 2.7% return

EUR HY Credit Outlook

42 Paris, 07/12/16

Spreads below average but not at historical tights


US HY Credit Outlook (2017 scenario)

43 Paris, 07/12/16

Spreads expected to widen … given a higher shareholder focus and a declining credit quality


Despite higher underlying rates and

wider spreads, US HY is expected to return 1.4%

in 2017

US HY Credit Outlook

44 Paris, 07/12/16

Spreads half a standard deviation tighter than average


Paris, 07/12/1645

Emerging Market Government Bonds

Emerging Market Government Bond Outlook

46 Paris, 07/12/16

Valuation, Valuation, Valuation

Source: JP Morgan, Bloomberg & Degroof Petercam


47 Paris, 07/12/16

Emerging markets growth differential turned the corner.

Expect EM markets to continue recovery, backed by relative political and economic stability

Source: IMF, Bloomberg & Degroof Petercam


48 Paris, 07/12/16

Diversification benefits between main EM FX pairs are sound as correlations range between 0.3 and 0.6



49 Paris, 07/12/16

Correlations frontier markets close to non-existent


Paris, 07/12/1650

Conclusion


QuantitativeEasing



Trump

Long Term Expected Returns

51 Paris, 07/12/16

Looking at the respective index investment horizons!

Source: BofAML, JP Morgan, Barclays, Bloomberg & Degroof Petercam

Building Robust Portfolios

52 Paris, 07/12/16

Staying at home!

Source: BofAML, JP Morgan, Barclays, Bloomberg & Degroof PetercamExpected volatility is modeled via a dynamic GARCH model Diversification ratio highlights the nr. of independent risk factors (higher is better)

1.94%Expected

return

3.9%Expectedvolatility

1.22Diversification

Ratio

0.49Expected

Risk/Return

6.37Duration


Building Robust Portfolios

53 Paris, 07/12/16

Global diversification without FX exposure 2.05%Expected

return


1.25Diversification

Ratio

0.55Expected

Risk/Return

6.78Duration


LT expected returns

54 Paris, 07/12/16

Full global diversification 2.78%Expected

return


1.42Diversification

Ratio

0.63Expected

Risk/Return

6.71Duration

Paris, 07/12/1655

Conclusion


QuantitativeEasing



Trump

UW

2017 Recommendations

56 Paris, 07/12/16

OW

N

EUR Rates, US HY

Global Rates, EUR Inflation, EUR HY

EM Local Debt, EUR & USD Credit, Global Inflation

2017

Main Conclusions

57 Paris, 07/12/16

Bond vigilantes woke up given short term upside inflation uncertainty

Steepening pressure given Treasury intent to fund at long end of rate curves and increased potential for lesser central bank support

Flattening pressure due to negative growth surprise waning (versus what’s currently priced in)

Secular forces (demographics, growth, saving & investment preferences) anchor long term real rates

Global fixed income opportunity set should be tapped in order to seek sound diversification and be less affected by political and company

specific events/volatility

Smart portfolio construction across fixed income sectors and styles (benchmarked & unconstrained) based on quality security selection

Bond portfolios must be prepared for the unexpected in order to weather tail risk events during 2017


global diversification calling!Peter De Coensel

CIO Fixed Income

Can European equities finally outperform?Guy Lerminiaux

CIO Fundamental Equity

61

The start of a new Reagan-style bull market ?

Paris, 07/12/16

62 Paris, 07/12/16

What about interest rates?

63

Earnings yield vs corporate bond yield in Europe

Paris, 07/12/16

64 Paris, 07/12/16

The DPAM European Dividend example

85

105

125

145

165

185

205

225

245

265

0.00

1.00

2.00

3.00

4.00

5.00

6.00

7.00

8.00

9.00

Oct-02 Oct-04 Oct-06 Oct-08 Oct-10 Oct-12 Oct-14 Oct-16

Dividend Yield -

Petercam EU

Equity High DVD

Price - Petercam

EU High Dividend

IG Corporate

Bond Yield - EUR

65

Absolute performance

Jan 2010 = 100, in USD

Paris, 07/12/16

66 Paris, 07/12/16

Is mean reversal possible?

67

Disappointing earnings in Europe

Paris, 07/12/16

68

Earnings underperform expectations

Paris, 07/12/16

69

… and recently even in the USA

Paris, 07/12/16

70 Paris, 07/12/16

A glimmer of hope?

71 Paris, 07/12/16

A glimmer of hope?

72 Paris, 07/12/16

Flow into Western Europe equity funds

73 Paris, 07/12/16

Flow into Western Europe bond funds

74 Paris, 07/12/16

Current Outlook on Thematic investing

� Tax & Litigation wars (Apple, Deutsche Bank): impact on

multinationals vs local midcaps

� Low interest rates: threats (insurance under pressure)

and opportunities (M&A, refinancing)

� Selective EM exposure: focus on specific countries

(Banco Santander) and categories (Remy Cointreau)

� Commodities back to normal cyclicality: cost focus and

capital allocation discipline (Royal Dutch Shell)

� Disruption of traditional industries offers opportunities:

Electric vehicles (Umicore, Infineon), Renewable Energy

(Dong), E-Commerce (Zalando)

75 Paris, 07/12/16


� Overweight selective midcaps with secular growth story

irrespective of macro-environment (Umicore, Amadeus,

Essilor, Cellnex, Teleperformance), “reluctant sellers”

here.

� Global travel growth remains a theme via Autogrill,

Airbus, Accor, Ryanair & Amadeus

� Be careful on broken business models, especially those

with too much gearing (retailers, power generators)

� Potential impact of new reflation policies, avoid

expensive bond proxies

Bond proxies = food&bev+hpc + health Care + utilities + telcos + real estate => underperforming … as BY toppish...?

Bond proxies vs BondYield

Attention for bond proxies!

76 Paris, 07/12/16

Bond proxies have been consensual Long … mind the outflows !

Mind the bond proxies...

77 Paris, 07/12/16

Financials vs Staples

…Bond… again!

78 Paris, 07/12/16

79 Paris, 07/12/16


� Risks: sequence of elections (Italy, US, France &

Germany) over next 12 months, higher volatility but also

market opportunities

� New themes: Security/terrorism (Thales), Infrastructure

spending (roads, telecom networks, buildings…), Trump

� Brexit: opportunities and risks, pragmatic approach

Large caps vs small caps

80 Paris, 07/12/16

81 Paris, 07/12/16

Small caps vs large caps in Europe

Long term superior performance: Some statistics from the US.

What are the long term arguments to invest in small caps?

82 Paris, 07/12/16

Statistics of us large caps vs us small caps since 1950

Performance small caps (annualised) 13.1%

Performance large caps (annualised) 10.5%

Outperformance (annualised) 2.6%

Wealth effect of holding small vs large caps 4.55x

% of years small caps outperformed 61.0%

% of 10 year rolling periods small caps outperformed large caps 73.0%

# of 10 years rolling periods with a negative absolute performance 0

What are the long term arguments to invest in small caps?

83 Paris, 07/12/16

Small caps represent a big part of the European equity market

(in number of stocks)

� Investing in large caps = neglecting more than 87% of the European market

� Large caps’ market cap is 4X bigger

� 10X more Large cap funds than small cap ones

European Universe: number of stocks

European Universe: Total market capitalization

Company size

(EUR)

Number of

companies% of total

100m - 4bn 2,886 87%

> 4bn 420 13%

Company sizeTotal mkt cap

(bn EUR)% of total

100m - 4bn 2,088 20%

> 4bn 8,185 80%

1. Valuation

What about small caps after the strong (relative) performance of the last years?

84 Paris, 07/12/16

18.2x

Hist. Avg; 14.3x

Top Third; 15.4x

Bottom Third; 13.4x

8.0x

10.0x

12.0x

14.0x

16.0x

18.0x

20.0x

22.0x

'90 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09 '10 '11 '12 '13 '14 '15 '16 2016E(IBES)

SM

id C

aps

P/E

(Y

r+1)

Expensive

Cheap

-0.4xHist. Avg; -1.1x

Top Third; -0.3x

Bottom Third; -0.8x

-6.0x

-4.0x

-2.0x

0.0x

2.0x

'90 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09 '10 '11 '12 '13 '14 '15 '16 2016E(IBES)

SM

id le

ss L

arg

e P

/E (

Yr+

1) Expensive

Cheap

Evolution of Price Earnings ratio of European small caps: not cheap anymore

Relative Price Earnings of Europe small vs large caps: Small caps trading at a small discount

2. Earnings

What about small caps after the strong (relative) performance of the last years?

85 Paris, 07/12/16

Small cap earnings have really grown,whileLarge cap earnings have been in recession

… and this explains the outperformance of European small vs large caps

European small cap earnings are a call on the direction of the European economy/business cycle

Source: Company data, Datastream, Morgan Stanley Research, 31/10/16

300-400bp

margin

50-150bp

gap

Ebitda/EV yield margin over local 5yr swap rate:

Quest for yield: yield gap still at high levels

86 Paris, 07/12/16

Still sound gap between property yield and cost of debt

Property yields vs 10Y interest rates (%)

Who’s afraid of rising interest rates?

87 Paris, 07/12/16

There is effectively no relationship between property yields and nominal interest rates.

Interest rates are at a 30 year low but property yields are broadly in line with their

historic average.

If interest rate’s rise slowly for the good reason: positive for real estate

NAV valuation and NAV growth (%) Pan-Europe property sector

Valuation : Discount to NAV and NAV growth

88 Paris, 07/12/16

Sector Beta gradually back to historical levels

Correlation with MSCI Europe

89 Paris, 07/12/16

90 Paris, 07/12/16

Strong relative performance mainly a story of better visibility of earnings

Efficiency of listed real estate vs equities

Indexed 12m trailing EPS for real estate compared to European equities

soruce : Factset, MSCI, Exane BNP Paribas, 09/2016

91 Paris, 07/12/16

US REITS versus Europe

Can European equities finally outperform?

YES we should.Guy Lerminiaux

CIO Fundamental Equity

institutional seminar

Investor Relations