managing fixed income investments in a rising inflation ... · managing fixed income investments in...

Asset Management

Executive Summary

As the combination of geopolitical pressures, expansionary fiscal and monetary policies in developed nations, and strong economic growth in emerging countries is likely to ignite long-dormant global inflationary pressures over time, pension plan sponsors—many already underfunded—must be ready to reconcile the need to achieve higher returns in a still low-yield environment with the rising threats of inflation and interest-rate risks.

While there is no “one-size-fits-all” solution, our analysis suggests that plan sponsors can mitigate these risks by adopting a mix of fixed income strategies that—in aggregate—aims at achieving two primary goals: a) Shift part of one’s fixed income exposure from primarily interest-rate-sensitive to predominantly credit-sensitive sectors; and b) add inflation hedges.

To achieve these goals, we start by exploring the driving forces behind this expected shift in the fixed income landscape toward higher inflation and interest rates, including the consequences of fiscal and monetary expansion in developed countries as well as the improving fundamentals and decreasing indebtedness of emerging nations.

We then examine the performance of various asset classes in rising interest-rate environments in an effort to identify historically optimal fixed income exposure in such environments. We subsequently build and analyze a hypothetical portfolio to empirically test our proposed diversified approach. The result of our analysis suggests that, in practical terms, investors can mitigate inflation and interest-rate risks in a rising-rate environment by pursuing the following strategies:

Managing Fixed Income Investments in a Rising Inflation and Interest-Rate Environment

David Russ Managing Director, Head, Investment Strategies and Solutions

Yogi Thambiah Managing Director, Investment Strategies and Solutions

For more information on the views expressed here, please write to us at [email protected]

March 2011 WHITE PAPER

Nicolo’ Foscari Director, Investment Strategies and Solutions

Ɓ Shifting part of the fixed income exposure to floating-rate instruments, such as senior loans, floating-rate notes, floating-rate debentures and interest-rate swaps;

Ɓ Including select high yield. As economic conditions improve, we believe default rates on high yield investments are likely to drop, making credit exposure an attractive proposition in a still fairly low-yielding environment;

Ɓ Exploring distressed debt. This particular asset class has traditionally performed well in rising interest-rate environments, as demand from less risk-averse investors—combined with improved economic conditions—tend to bolster prices;

Ɓ Gaining exposure to emerging markets debt. This sector has exhibited strong fundamentals, paving the way, in our view, for sovereign risk premiums to continue to decline; and

Ɓ Including inflation-indexed strategies (e.g., Treasury Inflation Protected Securities or TIPS) to mitigate inflation risk.

I. A Shifting Fixed Income Landscape


Display 1: The long-term downward trend for interest rates appears to be ending

Data from December 31, 1871 to December 31, 2010Source: US Federal Reserve, Robert Shiller and Credit Suisse Asset Management

2 | Credit Suisse Asset Management

Average 4.7%

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The global fixed income landscape is, in our view, shifting from a secular, 30-year-long downward trend in interest rates toward a period of higher inflation and rising rates (Display 1). We believe that two main forces are driving this move:

a) Loose fiscal and monetary policies in the developed world (especially the launch of quantitative easing programs—QE1 and QE2—in the US); and

b) Unprecedented growth and rising consumer spending in emerging markets (EM), which will continue to drive upward pressure on inflation (partly due to a rise in commodity prices), prompting policy makers to raise rates. In fact, several emerging countries tightened monetary policy in 2010 and early 2011, notably Australia, Brazil, China, India, Russia, South Korea and Thailand.

Additionally, stimulative policies in the developed world have contributed to increase governments’ debt-to-GDP ratios, intensifying upward pressure on interest rates. For example, the debt crisis experienced by several peripheral economies in the Eurozone (particularly Greece and Ireland) in 2010 as well as fears of contagion to other nations—such as Spain, Portugal and Italy—have both contributed to widen bond spreads.

These crises have made European debt markets more volatile, and, in some cases, resulted in downgrades to stressed countries’ credit ratings. These sovereign issues have also created a greater degree of uncertainty for fixed income investors as they attempt to gauge the potential impact on the European fixed income market as a whole.

The uncertainty surrounding developed nations’ debt, in our view, is likely to continue to add upward pressure on global interest rates, and contribute to a shift towards dearer money in the long run.


Display 2: Fundamentals in emerging market debt suggest valuations can still improve

1 The Barclays Capital Emerging Markets Sovereign Bond Index is a diversified basket of dollar-denominated sovereign debt and uses GDP to determine countries’ security weights within the basket. Constituents include: Argentina, Belarus, Belize, Brazil, Bulgaria, Colombia, Croatia, Dominican Republic, Ecuador, Egypt, El Salvador, Gabon, Georgia, Ghana, Hungary, Indonesia, Ivory Coast, Jamaica, Jordan, Lebanon, Lithuania, Mexico, Nigeria, Pakistan, Panama, Peru, Philippines, Russia, Serbia, South Africa, Sri Lanka, Tunisa, Turkey, Ukraine, Uruguay, Venezuela and Vietnam.

2 International Monetary Fund World Economic Outlook, October 2010. Debt-to-GDP ratios for 2010 are estimates. G7 countries are those with the seventh largest economies as measured by purchasing-power-parity (PPP): United States, Japan, Germany, France, Italy, United Kingdom and Canada. The IMF bases data for emerging and developing economies on the 150 countries not classified as advanced economies, weighted by GDP valued at PPP.

Credit Suisse Asset Management | 3

November 28, 2008: 704 bps

December 31, 2010: 269 bps

May 31, 2007: 141 bps

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EM Sovereign Spread and Fundamentals

We believe, however, that despite expected higher rates, EM sovereign debt remains attractive relative to developed nations’ debt from a valuation standpoint.

As shown in Display 2, the improvement in EM fundamentals has not, in our view, been fully reflected in prices. Take, for example, the market’s post-Great-Recession behavior. The spread between 10-year EM sovereign bonds (as measured by

the Barclays Capital Emerging Markets Sovereign Bond Index)1 and the corresponding US Treasury dropped from a peak of 704 basis points on November 28, 2008 to 269 points on December 31, 2010—still well above the pre-crisis low of 141 points reached on May 31, 2007. Meanwhile, EM debt-to-GDP ratios are—in aggregate—lower today than they were in 2006, whereas developed nations’ debt-to-GDP ratios ballooned from 83.4% in 2006 to an estimated 109.6% in 2010.2

Data from December 2000 to December 2010Debt-to-GDP ratios for 2010 are International Monetary Fund estimates. Source: Barclays Capital and International Monetary Fund World Economic Outlook, October 2010



Display 3: EM, distressed debt and senior loans tend to perform best in rising-rate environments

II. Understanding Asset Class Performance in Periods of Rising Interest Rates

Given our assumptions about the future direction of inflation and interest rates, we examined the relationship of key asset classes during periods of rising borrowing costs3 in an effort to identify optimal exposure during such periods. Display 3 illustrates the outcome of this analysis using data for the past 17 years through February 2011.

The data show, for example, that emerging markets debt, distressed debt and senior loans were the best performing fixed income instruments in periods when yields were rising, while mortgage-backed securities as well as US core (Treasuries and investment-grade corporate bonds) posted the least best performance. The table also illustrates how distressed debt and senior loans figured prominently among the top performers in each individual rising-yield period.

It is important to note that our analysis is not free of caveats.The unprecedented intervention by the US Federal Reserve in bond markets starting in November 2008 with quantitative easing and its extended low-interest-rate policy, for example, could have future effects and implications that might differ from historical patterns.

Unusually strong investor appetite for “safe-haven” assets—such as US Treasuries or German Bunds—could also change market behavior relative to past rising-rate periods, especially in the wake of the global financial crisis and the Eurozone sovereign debt issues.

Jan 94—Nov 94 Jan 96—Aug 96 Sep 98—Jan 00 June 05—June 06 Dec 08—June 09

Overall Rankings During Periods of Rising Yields (Jan 94—Feb 11)

Highest Return

Commodities Commodities US Equities Gold High Yield EM Debt

Senior Loans Distressed Debt EM Debt Commodities Senior Loans Commodities

Distressed Debt EM Debt Distressed Debt Distressed Debt EM Debt US Equities

ABS Senior Loans Commodities US Equities ABS Distressed Debt

US Equities US Equities Senior Loans Senior Loans Distressed Debt Senior Loans

High Yield High Yield High Yield EM Debt Inflation-Linked Gold

Gold ABS Inflation-Linked High Yield Gold High Yield

MBS MBS ABS ABS Commodities ABS

US Core US Core MBS MBS US Equities Inflation-Linked

Lowest Return

EM Debt Gold US Core US Core MBS MBS

Inflation-Linked Inflation-Linked Gold Inflation-Linked US Core US Core

In the analyzed period, inflation—as measured by the US CPI urban consumers year-over-year NSA—rose from 2.5% to 2.7% in the rising-rate period from January 1994 to November 1994; it rose from 2.7% to 3.0% in the period from January 1996 to August 1996; it rose from 1.5% to 2.7% during the September 1998 to January 2000 period; it rose from 2.5% to 4.3% in the period from June 2005 to June 2006; and fell from 0.1% to -1.4% for the period from December 2008 to June 2009.

Indices used as proxies for asset classes are: US Equities (S&P 500 Index); Commodities (DJ UBS Commodity Index); Gold (S&P GSCI Gold Spot Index); Inflation-Linked (Barclays Capital US TIPS Index); Senior Loans (Credit Suisse Leveraged Loan Index); Asset-Backed Securities (Barclays Capital Asset-Backed Securities Index); High Yield (Barclays Capital US Corporate High Yield Index); US Core (Barclays Capital US Aggregate Bond Index); Mortgage-Backed Securities (Barclays Capital US Mortgage-Backed Security Bond Index); Distressed Debt (Dow Jones Credit Suisse Event Driven–Distressed Credit Hedge Fund Index); and Emerging Markets Debt (Barclays Capital Emerging Markets Sovereign Bond Index).Source: Bloomberg and Credit Suisse Asset Management

3 We define periods of rising yields as those in which the US 10-Year Treasury yield rose on a monthly basis for a period of six months or more.

III. Our Proposed Fixed Income Diversification Strategy


For illustrative purposes only. Forward-looking statements are subject to a number of risks and uncertainties.Indices used as proxies for asset classes in Display 4: US Equities (S&P 500 Index); US Core (Barclays Capital US Aggregate Bond Index); Inflation-Linked (Barclays Capital US TIPS Index); Senior Loans (Credit Suisse Leveraged Loan Index); High Yield (Barclays Capital US Corporate High Yield Index); Distressed Debt (Dow Jones Credit Suisse Event Driven–Distressed Credit Hedge Fund Index); and EM Debt (Barclays Capital Emerging Markets Sovereign Bond Index).Source: Bloomberg and Credit Suisse Asset Management


As we combined our assumptions for the direction of inflation and interest rates, our views on emerging markets, and the insight provided by the historical analysis shown in Display 3, we sought empirical evidence to validate our approach by creating a fixed income portfolio that both mitigates the rise of certain risks—e.g., interest rate and inflation—while seeking to potentially enhance overall returns.

To achieve that goal and balance our risk-mitigation techniques, we decided to focus on five specific asset classes: senior loans, high yield bonds, distressed debt, emerging markets debt and inflation-linked bonds.

In brief, here is our rationale for these specific instruments:

Senior loans: Because of their floating interest rates, we believe that senior loans (also known as leveraged loans) are an essential part of the mix for investors seeking to mitigate the potential risks associated with a rising interest-rate environment. Senior loans’ coupons typically pay the London Interbank Offered Rate (LIBOR) plus an additional spread. As LIBOR rises or falls, usually in tandem with movements in the US short-term interest rates, the coupon adjusts accordingly, usually on a quarterly basis. Further, senior loans have a negative implied correlation to core fixed income bonds (as measured by the Barclays Capital US Aggregate Bond Index),

making them an effective diversifier of a fixed income portfolio (Display 4).

Additionally, although originated from below investment-grade (IG) companies, senior loans sit at the top of the capital structure, and are secured with collateral. These attributes tend to help improve recovery rates for investors in the event of a distressed situation. Further, average annual default rates for senior loan issuers have improved, falling from a high of 9.7% at the end of 2009 to 2.6% as of year-end 2010.4

It is also important to note that senior loans have no inherent interest rate “bet” to dilute their coupon, whereas investing in corporate bonds implies, in our view, an interest-rate “bet” that, once subtracted, often yields less than senior loans.

Investors should, however, consider the size of the senior loan market when making allocation decisions. Although relatively large and liquid—at the end of 2010, the global senior loan market was approximately $2.1 trillion, with the US accounting for approximately $1.4 trillion5—this market is still much smaller than the US investment grade corporate bond market, which stood at approximately $7.4 trillion6 as of end of the third quarter 2010.

Display 4: Low correlations between certain fixed income sectors provide diversification benefits

US Equities US Core

Inflation-Linked

Senior Loans High Yield

Distressed Debt EM Debt

US Equities 1.00

US Core 0.31 1.00

Inflation-Linked 0.12 0.67 1.00

Senior Loans 0.15 -0.10 -0.10 1.00

High Yield 0.43 0.37 0.17 0.49 1.00

Distressed Debt 0.47 0.07 -0.19 0.30 0.28 1.00

EM Debt 0.54 0.56 0.41 0.16 0.48 0.56 1.00

4 Default rate is calculated as a percentage of issuers. Credit Suisse 2011 Leveraged Finance Outlook and 2010 Annual Review.5 Credit Suisse Leveraged Finance Market Update, February 4, 2011.6 Credit Suisse Leveraged Finance, Data as of September 30, 2010 .



High yield bonds: We include an allocation to high yield bonds for several reasons. First, they are less sensitive to interest rate risk than IG holdings in the core portfolio. Second, the sector, which has performed well during the recovery from the global financial crisis, may continue to show positive performance as global economies continue to improve, which we believe could create conditions for lower default rates. It is worth noting that the size of the US market is $1.1 trillion, and that the western European market is much smaller at $154.4 billion as of year-end 2010.7 Emerging markets debt: Despite the growing importance of this sector, Credit Suisse Fixed Income Research has indicated that emerging markets still represent a fairly small portion of institutional portfolios—US and European pension funds on average have low single-digit allocations. Including EM sovereign debt, the market size was approximately $6.8 trillion for local-currency debt, and $1.4 trillion for US dollar-denominated debt as of end of 2009.8 The EM corporate debt market is relatively small at approximately $450 billion,9 despite quadrupling in size in the last 10 years.

Further, successful investing in EM debt requires a balancing act among several drivers of return, especially carry (spread over US Treasury for external debt or spread over cost of funding for local debt) and convergence (spread/rate compression). As noted previously, we believe that current spreads remain high considering credit quality improvements in major EM countries. Also, real rates in most EM markets are high and, we believe, overestimate the default/macro risk premia. Lastly, EM currencies are, in our view, mostly undervalued as evidenced by balance of payments surpluses, as well as productivity and interest rate differentials vis-à-vis developed economies.

Distressed debt: Historically, this sector has been among the better performers in rising rate environments, as issuers’ fundamentals are traditionally supported by improving economic conditions. Higher interest rates, however, can present a challenge, as servicing distressed companies’ debt becomes more expensive when rolled over in environments with higher borrowing costs. This market’s size is somewhat constrained, estimated at approximately $1 trillion globally as of year-end of 2009, down over $2 trillion from $3.6 trillion10 at year-end 2008, as many distressed bonds recovered from their valuations during the global financial crisis and were thus no longer considered distressed.

Inflation-linked securities: With the threat of higher inflation looming, we believe allocations to inflation-linked bonds will grow. We also note that these securities are not included in many core portfolios, as they are not part of the Barclays Capital US Aggregate Bond Index benchmark.

Using these instruments, we tested our solution holistically through a representative case study that illustrates a few ways to configure a fixed income portfolio when adding exposure to these asset classes (Display 5, next page). We start with a “core” fixed income portfolio, which consists mainly of US Treasuries and investment grade corporate bonds (as proxied by the Barclays Capital US Aggregate Bond Index). The next basket, the “core-plus” portfolio, consists of a 20% allocation to non-core fixed income instruments, namely US senior loans, US high yield and emerging markets debt. The third mix, the diversified portfolio, improves on the core-plus allocation by adding exposure to inflation-linked and distressed securities.

7 Credit Suisse Leveraged Finance Market Update, February 4, 2011.8 Data from HSBC/Halbis, as of December 31, 2009.9 Credit Suisse Fixed Income Research: Investment Themes—Outlook for 2011.10 Altman, Edward I. and Brenda Karlin. “The Investment Performance and Market Dynamics of Defaulted Bonds and Bank Loans: 2009 Review and 2010 Outlook.”

NYU Stern School of Business; February, 2010.

Sector Exposure Core Portfolio Core-Plus Portfolio Diversified Portfolio

US Core 100.0% 80.0% 60.0%

Senior Loans — 10.0 10.0

High Yield — 7.5 5.0

EM Debt — 2.5 5.0

Distressed Debt — — 7.5

Inflation-Linked — — 12.5

Portfolio Metrics

Target Return (%) 3.3 4.1 4.7

Standard Deviation 4.1 3.7 3.5

Return-per-Unit-of-Risk 0.8 1.1 1.3

Effective Duration of the Portfolio (years) 5.0 4.5 4.3


Display 5: Exposure to non-core fixed income may help mitigate inflation and interest-rate risks

This combination of reduced volatility and higher returns in the core-plus and diversified portfolios resulted in a significant improvement in the return-per-unit-of-risk. The improvement in both the absolute returns and return-per-unit-of-risk will likely help reduce the funding gap for underfunded pensions, while continuing to meet fixed income risk targets. Further, our analysis shows that, by diversifying our fixed income allocation, we shortened effective duration to 4.3 years for the diversified basket from 5.0 for the core portfolio.

The results of the case study show significant changes in the risk/return profile of the fixed income allocation, and, in our view, suggest a portfolio that is better suited for our expected fixed income environment of higher inflation and rising rates.For starters, the diversified portfolios are markedly less volatile: The standard deviation decreased from 4.1% in the core portfolio to 3.7% in the core-plus portfolio and 3.5% in the diversified portfolio. Nominal returns are also highest in the diversified basket at 4.7%, while the core-plus return of 4.1% significantly outperforms the core portfolio with a return of 3.3%.

Three-year forward-looking projections as of January 1, 2011.For illustrative purposes only. Forward-looking statements subject to a number of risks and uncertainties. Please see the “Important Information Regarding Performance” section at the end of this paper for a description of our modeling methodology.Indices used as proxies for asset classes in Display 5: US Core (Barclays Capital US Aggregate Bond Index); Inflation-Linked (Barclays Capital US TIPS Index); Senior Loans (Credit Suisse Leveraged Loan Index); High Yield (Barclays Capital US Corporate High Yield Index); Distressed Debt (Dow Jones Credit Suisse Event Driven–Distressed Credit Hedge Fund Index); and EM Debt (Barclays Capital Emerging Markets Sovereign Bond Index).Source: Credit Suisse Asset Management



IV. Interest-Rate Sensitivity Analysis

We also wanted to test how our representative fixed income portfolios would react to interest-rate movements. To do so, we used a three-factor-model approach. Specifically, the approach is based on principal component analysis (PCA), and assumes that the term-structure movement of interest rates can be described by three main components: level (the parallel shift in the curve), steepness (the slope of the curve, measured as the 10-year US Treasury yield minus the two-year yield), and curvature (measured as twice the five-year US Treasury yield minus the sum of the two-year and 10-year yields).

According to empirical studies, these three factors account for approximately 96% of variability in the data,11 which provides sufficient confidence when describing the changes observed in the term structure of the yield curve. The shapes of the curve for level, steepness and curvature (Display 6) show the impact

of a unit (100 basis point) change in interest rates for a given maturity of a US Treasury.

This approach, known as key rate duration, enables us to better understand the interest-rate sensitivity for each point on the yield curve, unlike the more commonly used measurement of effective duration, which does not provide information on individual maturities on the curve. The three-factor model thus helps provide attribution for changes in the shape of the yield curve over time.12

We then applied principal component analysis to understand interest rate sensitivity in our representative case study, where we estimated each of our three portfolios’ sensitivity to shifts in level, steepness and curvature (Display 7, next page). The total measure of sensitivity for level, steepness and curvature is calculated as the weighted sum of the three respective components for each given maturity in the yield curve.

Time to Maturity (Years)

0.25 0.50 2 5 10 20 30

Level 0.45 0.45 0.38 0.26 0.16 0.10 0.08

Steepness 0.30 0.28 0.00 -0.33 -0.41 -0.38 -0.41

Curvature 0.45 0.19 -0.34 -0.25 0.09 0.16 0.60

Display 6: PCA enhances our understanding of interest-rate sensitivity of fixed income portfolios

Factor component analysis estimates interest-rate sensitivity for the US Treasury yield curve assuming a 100 basis point change in interest rates for a given maturity, using the three components of level, steepness and curvature. Source: Litterman, Robert, and José Scheinkman. Common Factors Affecting Bond Returns. The Journal of Fixed Income. June 1991.

11 Litterman, Robert, and José Scheinkman. Common Factors Affecting Bond Returns. The Journal of Fixed Income. June 1991.12 The values presented in the table in Display 6 represent the sensitivity to a one percent interest rate movement for a particular maturity on the US Treasury

yield curve. The number can thus be positive or negative depending on the direction of the change.


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Across all three portfolios, we observed the greatest level of sensitivity occurring between 5-to-10 years to maturity, while the most significant discrepancy in interest-rate sensitivity among the core, core-plus and the diversified portfolios was observed at the long-end of the curve (10-to-30 years to maturity) as the diversified portfolios have less sensitivity to long-yield movements. Also, the core was the most impacted by level, steepness and curvature, while the diversified portfolio

Time to Maturity (Years)

0.5 2 5 10 20 30

Core Portfolio

Level 0.06 0.25 0.36 0.21 0.07 0.05

Steepness 0.03 0.00 -0.46 -0.56 -0.29 -0.28

Curvature 0.02 -0.22 -0.34 0.12 0.13 0.40

Sensitivity per Maturity 0.25 1.34 2.79 2.73 1.56 1.35

Core-Plus Portfolio

Level 0.05 0.22 0.33 0.19 0.06 0.04

Steepness 0.03 0.00 -0.42 -0.51 -0.26 -0.23

Curvature 0.02 -0.20 -0.32 0.11 0.11 0.34


Diversified Portfolio

Level 0.04 0.17 0.41 0.18 0.05 0.04

Steepness 0.02 0.00 -0.52 -0.48 -0.21 -0.19

Curvature 0.02 -0.15 -0.39 0.10 0.09 0.27


Total Sensitivity to Yield Curve Movements

Core Portfolio Core-Plus Portfolio Diversified Portfolio

Level 1.00 0.91 0.88

Steepness -1.55 -1.39 -1.36

Curvature 0.10 0.06 -0.06

exhibited the least sensitivity to level and steepness. It is also important to note that the curvature shift was the least significant factor in terms of impacting interest-rate sensitivity across all three portfolios.

To summarize, the optimal diversified allocation diminishes interest-rate sensitivity in the duration of the portfolio while increasing the targeted returns and return-per-unit-of-risk, as shown in the previous section’s case study.

Methodology and factors considered are included in “Important Information Regarding Performance” at the end of this paper. Source: Credit Suisse Asset Management.

Display 7: Diversified allocations also impact interest-rate sensitivity of the portfolios


V. Conclusion


The low-yield environment has been challenging for many investors, particularly pension plan sponsors who are underfunded and need to “catch up” while keeping risk at target levels.

An expected shift towards higher interest rates, a harbinger of which could already be seen in the US—where the 10-year US Treasury yield rose over 130 basis points in roughly four months, from a low of 2.38% in October 2010 to 3.74% in February 2011—may pose challenges to pension plan sponsors.


We believe investors can better manage the challenges associated with interest-rate and inflation risks, as well as enhance the yield in their bond portfolios, by adopting a diversified approach to fixed income investing.

As illustrated in our case study, this approach focused on decreasing exposure to primarily interest-rate sensitive sectors and increasing allocations to predominantly credit-sensitive and inflation-hedging sectors. The results showed better returns-per-unit-of-risk for the more diversified portfolios along with shortened durations.

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The Anatomy of a Modern Emerging Markets PortfolioNovember 2010—This paper examines the quickly evolving emerging markets investment landscape and argues that the proliferation of sophisticated investment vehicles in these markets presents an opportunity for investors to augment the efficiency of their emerging markets portfolios.

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Risk Parity—A Risk-Based Approach to Portfolio StructuringNovember 2009—This paper discusses a different approach to portfolio risk management, called risk parity, which aims to equate the contribution of risk across asset classes and, as a result, create a portfolio which performs better in a variety of market conditions.

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Credit Suisse Asset Management Publications



The views and opinions expressed within these publications are those of the authors, are based on matters as they exist as of the date of preparation and not as of any future date, and will not be updated or otherwise revised to reflect information that subsequently becomes available or circumstances existing, or changes occurring, after the date hereof.

For a copy of any of these papers, please contact your relationship manager or visit our website at www.credit-suisse.com.

Important Information Regarding Performance

1. Description of ModellingDeriving long-term asset class expectations:Targeted Returns and Expected Risk refer to long term assumptions (3 years) on market indices which are considered representative of each asset class.To derive these expectations, the Investment Strategies and Solutions team (ISS) relies on a quantitative approach that is built on the following precepts:Consistency with economic theory and practice: an array of economic and market factors are combined in order to derive return targets for each asset class.Consistency across business cycles: Macroeconomic factors are chosen for their ability to explain returns over multiple economic cycles.Consistency across asset classes: Target returns reflect congruent pricing of risk, measured by the exposure of each asset class to economic and financial factors.Capture dynamic market features: Interaction between economic and financial signals and the variations in asset classes’ potential returns and risks over time.

Factors Considered:Long-term economic forecasts anchored to potential growth are derived from a production function linking input and output variables of an economy.The short end of long-term forecasts reflects macroeconomic forecasts for the long term based on a demand-side approach.

A fair-value-model approach is used based on long-term macroeconomic factors for our interest-rate forecasts. Also, countries’ regression equations are estimated simultaneously with a Three-Stage-Least-Squares (3SLS) procedure.

Non-credit-related indices (government bond indices) are modelled as a function of a time trend, GDP and CPI indices using an error-correction framework. Credit-related indices are modelled as a function of a time trend, pure credit and government bond total-return indices, as well as equity volatility.

Target returns for equities are estimated using a variant of the Gordon Growth model, which includes a mean-reversion component for the P/E ratio.In order to forecast commodity index and other alternative assets returns, a multiple linear-regression model is employed.

Methodology:In addition to the econometric model, we apply a scoring model as a consistency check and for scenario analysis.

Relation to other asset classes is established using a stepwise regressive approach.

In-sample and out-of-sample forecasts are made and residuals reviewed for consistency.

Results provide relationship in terms of systemic risk.

Expectations are then derived using a building block approach.

Analyses are conducted in real terms.

GARCH approach is used to model volatility.

There are limitations inherent in our model results. These results do not represent actual trading and they may not reflect the impact that material economic and market factors might have on the ISS decision-making process. Risks and limitations of our approach could consist in: Asset classes or indices may not reach the results described above, or may experience different behavior than forecasted as macroeconomic and financial conditions can change rapidly. Some of these asset classes are not suitable for every investor, as they may involve a high degree of risk, and may be appropriate investments only for sophisticated investors who are capable of understanding and assuming the risks involved.

The investment strategy described herein may limit the upside potential of your investments.

The investment strategy described herein does not provide for a downside protection therefore the investor remains exposed to losses in their investments.

The investment strategy described herein relies on proprietary models and predictions with regard to the performance of an asset class or particular investment generated by these models, and may not be accurate because of imperfections in the models, their deterioration over time, or other factors, such as the quality of the data input into the model, which involves the exercise of judgment. Even if the model functions as anticipated, it cannot account for all factors that may influence the prices of the investments, such as event risk. Investing entails risks, including possible loss of some or all of the investor’s principal.


2. Historical Data Input for Modelling

Past performance does not guarantee future results.

Asset-class-driven data was modelled using the following indices:

Asset-Backed Securities: Barclays Capital Asset-Backed Securities Index – this index measures the US agency mortgage pass-through sector

Commodities: Dow Jones UBS Commodities Index–A Benchmark for investment performance in the commodity markets calculated primarily on a world production-weighted basis and comprised of the principal physical commodities that are the subject of active, liquid futures markets.

Distressed Debt: Dow Jones Credit Suisse Event Drive–Distressed Credit Hedge Fund Index

Emerging Markets Debt: Barclays Capital Emerging Markets Sovereign Bond Index

Gold: S&P GSCI Gold Spot Index

Inflation-Linked Bonds/US TIPS: Barclays Capital US Treasury US TIPS Index – Measures the performance of the US TIPS market. It is the largest market in the Barclays Global Inflation-Linked Bond Index. Inflation-linked indices include only capital indexed bonds with a remaining maturity of one year or more.

Senior Loans: Credit Suisse Leveraged Loan Index

US Equities: S&P 500 Index–Value weighted index published since 1957 of the prices of 500 large-cap common stocks actively traded in the United States.

US High Yield Bonds: Barclays Capital US Corporate High Yield Index–an index with issues that have at least $150 million par value outstanding and a maximum credit rating of Ba1 and at least one year to maturity.

US Investment Grade Bonds: Barclays Capital US Aggregate Bond Index–an index comprised of the Government/Corporate Bond Index, Mortgage-Backed Securities Index, and Asset-Backed Securities Index, including securities that are of investment-grade quality or better, have at least one year to maturity, and have a coupon that is fixed or steps according to a predetermined schedule.

US Mortgage-Backed Securities: Barclays Capital Mortgage-Backed Securities Index – an unmanaged index composed of mortgage-backed securities pools by GNMA, FNMA and the FHLMC, including GNMA Graduated Payment Mortgages. Important Information Regarding Hypothetical, Back-Tested or Simulated Performance

Hypothetical back-tested performance shown is for illustrative purposes only and does not represent actual performance of any client account. Credit Suisse Asset Management, LLC (“Credit Suisse”) did not manage any accounts using the data and modeling for the periods shown and does not represent that the hypothetical returns would be similar to actual performance had the firm actually managed accounts in this manner.

Hypothetical, back-tested or simulated performances have many inherent limitations only some of which are described as follows: (i) It is designed with the benefit of hindsight, based on historical data, and does not reflect the impact that certain economic and market factors might have had on the decision-making process. No hypothetical, back-tested or simulated performance can completely account for the impact of financial risk in actual performance. Therefore, it will invariably show positive rates of return. (ii) It does not reflect actual client asset trading and cannot accurately account for the impact of financial risk or the ability to withstand losses. (iii) The information is based, in part, on hypothetical assumptions made for modeling purposes that may not be realized in the actual management of accounts. No representation or warranty is made as to the reasonableness of the assumptions made or that all assumptions used in achieving the returns have been stated or fully considered. Assumption changes may have a material impact on the model returns presented. This material is not representative of any particular client’s experience. Investors should not assume that they will have an investment experience similar to the hypothetical, back-tested or simulated performance shown. There are frequently material differences between hypothetical, back-tested or simulated performance results and actual results subsequently achieved by any investment strategy.

Unlike an actual performance record based on trading actual client portfolios, hypothetical, back-tested or simulated results are achieved by means of the retroactive application of a back-tested model itself designed with the benefit of hindsight. Hypothetical, back-tested or simulated performance does not reflect the impact that material economic or market factors might have on an adviser’s decision making process if the adviser were actually managing a client’s portfolio. The back-testing of performance differs from actual account performance because the investment strategy may be adjusted at any time, for any reason and can continue to be changed until desired or better performance results are achieved. The back-tested performance includes hypothetical results that do not reflect the reinvestment of dividends and other earnings or the deduction of advisory fees, brokerage or other commissions, and any other expenses that a client would have paid or actually paid. No representation is made that any account will or is likely to achieve profits or losses similar to those shown. Alternative modeling techniques or assumptions might produce significantly different results and prove to be more appropriate. Past hypothetical, back-test or simulated results are neither indicators nor guarantees of future returns. In fact, there are frequently sharp differences between hypothetical, back-tested and simulated performance results and the actual results subsequently achieved. As a sophisticated investor, you accept and agree to use such information only for the purpose of discussing with Credit Suisse your preliminary interest in investing in the strategy described herein.


Important Legal Information for Investors in the US

This material has been prepared by Credit Suisse Asset Management, LLC. (“Credit Suisse”) on the basis of publicly available information, internally developed data and other third party sources believed to be reliable. Credit Suisse has not sought to independently verify information obtained from public and third party sources and makes no representations or warranties as to accuracy, completeness or reliability of such information. All opinions and views constitute judgments as of the date of writing without regard to the date on which the reader may receive or access the information, and are subject to change at any time without notice and with no obligation to update. This material is for informational and illustrative purposes only and is intended solely for the information of those to whom it is distributed by Credit Suisse. No part of this material may be reproduced or retransmitted in any manner without the prior written permission of Credit Suisse. Credit Suisse does not represent, warrant or guarantee that this information is suitable for any investment purpose other than as specifically contemplated by a written agreement with Credit Suisse and it should not be used as a basis for investment decisions. This material does not purport to contain all of the information that a prospective investor may wish to consider. This material is not to be relied upon as such or used in substitution for the exercise of independent judgment. Past performance does not guarantee or indicate future results.

This material should not be viewed as a current or past recommendation or a solicitation of an offer to buy or sell any securities or investment products or to adopt any investment strategy. The securities identified and described do not represent all of the securities purchased, sold or recommended for client accounts. The reader should not assume that any investments in companies, securities, sectors, strategies and/or markets identified or described herein were or will be profitable and no representation is made that any investor will or is likely to achieve results comparable to those shown or will make any profit or will be able to avoid incurring substantial losses. This informational report does not constitute research and may not be used or relied upon in connection with any offer or sale of a security or hedge fund or fund of hedge funds. Performance differences for certain investors may occur due to various factors, including timing of investment and eligibility to participate in new issues. Investment return will fluctuate and may be volatile, especially over short time horizons. Investing entails risks, including possible loss of some or all of the investor’s principal. The investment views and market opinions/analyses expressed herein may not reflect those of Credit Suisse Group AG as a whole and different views may be expressed based on different investment styles, objectives, views or philosophies.

Investments in hedge funds are speculative and involve a high degree of risk. Hedge funds may exhibit volatility and investors may lose all or substantially all of their investment. A hedge fund manager typically controls trading of the fund and the use of a single advisor’s trading program may result in a lack of diversification. Hedge funds also may use leverage and trade on foreign markets, which may carry additional risks. Investments in illiquid securities or other illiquid assets and the use of short sales, options, leverage, futures, swaps, and other derivative instruments may create special risks and substantially increase the impact of adverse price movements. Hedge funds typically charge higher fees than many other types of investments, which can offset trading profits, if any. Interests in hedge funds may be subject to limitations on transferability. Hedge funds are illiquid and no secondary market for interests typically exists or is likely to develop. The incentive fee may create an incentive for the hedge fund manager to make investments that are riskier than it would otherwise make.

In addition, the investment strategy described herein relies on proprietary models and predictions with regard to the performance of an asset class or particular investment generated by these models and may not be accurate because of imperfections in the models, their deterioration over time, or other factors, such as the quality of the data input into the model, which involves the exercise of judgment. Even if the model functions as anticipated, it cannot account for all factors that may influence the prices of the investments, such as event risk.

The asset management business of Credit Suisse Group AG is comprised of a network of entities around the world. Each legal entity is subject to distinct regulatory requirements and certain asset management products and services may not be available in all jurisdictions or to all client types. There is no intention to offer products or services in countries or jurisdictions where such offer would be unlawful under the relevant domestic law.

The charts, tables and graphs contained in this document are not intended to be used to assist the reader in determining which securities to buy or sell or when to buy or sell securities. Benchmarks are used solely for purposes of comparison and the comparison does not mean that there will necessarily be a correlation between the returns described herein and the benchmarks. There are limitations in using financial indices for comparison purposes because, among other reasons, such indices may have different volatility, diversification, credit and other material characteristics (such as number or type of instrument or security).

Certain information contained in this document constitutes “Forward-Looking Statements” (including observations about markets and industry and regulatory trends as of the original date of this document), which can be identified by the use of forward-looking terminology such as “may”, “will”, “should”, “expect”, “anticipate”, “target”, “project”, “estimate”, “intend”, “continue” or “believe”, or the negatives thereof or other variations thereon or comparable terminology. Due to various risks and uncertainties beyond our control, actual events, results or performance may differ materially from those reflected or contemplated in such forward-looking statements. Readers are cautioned not to place undue reliance on such statements. Credit Suisse has no obligation to update any of the forward-looking statements in this document.


Important Legal Information for Investors in Spain

This material has been prepared by the Asset Management Division of Credit Suisse and not by Credit Suisse’s Research Department. It is not investment research or a research recommendation for regulatory purposes as it does not constitute substantive research or analysis. This material is provided for information purposes, is intended for your use only and does not constitute an invitation or offer to subscribe for or purchase any of the products or services mentioned. The information contained in this webcast has been provided as a general market commentary only and does not constitute any form of regulated financial advice or other regulated financial service. It does not take into account the financial objectives, situation or needs of any person which are necessary considerations before making any invest-ment decision. The information provided is not intended to provide a sufficient basis on which to make an investment decision and is not a personal recommendation or investment advice. It is intended only to provide observations and views of the said individual Asset Management personnel, which may be different from, or incon-sistent with, the observations and views of Credit Suisse analysts or other Credit Suisse Asset Management personnel, or the proprietary positions of Credit Suisse. Observations and views of the individual Asset Management personnel may change at any time without notice. To the extent that these materials contain statements about future performance, such statements are forward looking and subject to a number of risks and uncertainties. Information and opinions presented in this material have been obtained or derived from sources believed by Credit Suisse to be reliable, but Credit Suisse makes no representation as to their accuracy or completeness. Credit Suisse accepts no liability for loss arising from the use of this material. This material is not directed at, or intended for distribution to or use by, any person or entity who is a citizen or resident of or located in any jurisdiction where such distribution, publication, availability or use would be contrary to applicable law or regulation or which would subject Credit Suisse and/or its subsidiaries or affiliates to any registration or licensing requirement within such jurisdiction. All valuations are subject to Credit Suisse valuation terms.

Important Legal Information for Investors in Canada

This information is distributed in Canada by Credit Suisse Securities (Canada), Inc. (“CSSC”), a Canadian registered investment dealer and futures commission merchant. The observations and views contained herein may be different from or inconsistent with the observations and views of CSSC. The information contained herein is for informational purposes only and is not, and under no circumstances is to be construed as, a prospectus, an advertisement, a public offering, an offer to sell securities described herein, solicitation of an offer to buy securities described herein, in Canada or any province or territory thereof. Any offer or sale of the securi-ties described herein in Canada will be made only under an exemption from the requirements to file a prospectus with the relevant Canadian securities regulators and only by a dealer properly registered under applicable securities laws or, alternatively, pursuant to an exemption from the dealer registration requirement in the relevant province or territory of Canada in which such offer or sale is made. Under no circumstances is the information contained herein to be construed as investment advice in any province or territory of Canada and is not tailored to the needs of the recipient. To the extent that the information contained herein references securities of an issuer incorporated, formed or created under the laws of Canada or a province or territory of Canada, any trades in such securities must be conducted through a dealer registered in Canada. No securities commission or similar regulatory authority in Canada has reviewed or in any way passed upon these materials, the information contained herein or the merits of the securities described herein and any representation to the contrary is an offence.


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