1

Strange Things Happen When You Drive with Two Feet

AAM’s Investment Outlook Webinar

Wednesday, February 7, 2018

2

Today’s Presenters:

Macroeconomic Review and Outlook

Marco Bravo, CFASenior Portfolio Manager

Market Outlook

Reed J. Nuttall, CFAChief Investment Officer

Corporate Securities

Elizabeth Henderson, CFADirector of Corporate Credit

High Yield Sector

Scott A. Skowronski, CFASenior Portfolio Manager

Structured Products

Scott A. Edwards, CFADirector of Structured Products

Municipal Market

Gregory A. Bell, CFA, CPADirector of Municipal Products and Municipal Bond Trader

Convertible Market Overview

Tim Senechalle, CFASenior Portfolio Manager

3

Market Outlook

Reed J. Nuttall, CFAChief Investment Officer

4

Asset Class Returns

2017 Returns by Asset Class

Investment Grade

Bloomberg Barclays US Aggregate 3.07%

Treasuries 2.31%

Corporates 6.42%

CMBS 3.35%

MBS 2.47%

Tax Exempt Municipals 5.45%

Surplus Growth

High Yield 7.48%

US Equities 20.48%

Convertibles 21.54%

Source: Bloomberg Barclays Index Series, S&P 500, Barclays Global High Yield Index, V0A0 (Merrill Lynch US Convertibles Ex-Mandatory)

5

Treasury Curve Steepness

Source: Bloomberg weekly data

6

Strange Things Happen…

7

Marco Bravo, CFASenior Portfolio Manager

Macroeconomic Review and Outlook

8

GDP Growth

1.2%

3.1%

3.2%

2.6% 2.5% 2.6% 2.5% 2.5%

-1.5%

-1.0%

-0.5%

0.0%

0.5%

1.0%

1.5%

2.0%

2.5%

3.0%

3.5%

Q1' 17 Q2' 17 Q3' 17 Q4' 17 Q1' 18(est) Q2' 18(est) Q3' 18(est) Q4' 18(est)

QoQ

% S

AA

RContribution to GDP Growth

Personal Consumption Fixed Private Investment Net Exports

Government Spending Real GDP

Source: Bureaus of Economic Analysis, Bloomberg

9

ISM Manufacturing Index

40

45

50

55

60

651

2/1

/20

12

2/1

/20

13

4/1

/20

13

6/1

/20

13

8/1

/20

13

10

/1/2

01

3

12

/1/2

01

3

2/1

/20

14

4/1

/20

14

6/1

/20

14

8/1

/20

14

10

/1/2

01

4

12

/1/2

01

4

2/1

/20

15

4/1

/20

15

6/1

/20

15

8/1

/20

15

10

/1/2

01

5

12

/1/2

01

5

2/1

/20

16

4/1

/20

16

6/1

/20

16

8/1

/20

16

10

/1/2

01

6

12

/1/2

01

6

2/1

/20

17

4/1

/20

17

6/1

/20

17

8/1

/20

17

10

/1/2

01

7

12

/1/2

01

7

Index Level

Source: Institute for Supply Management, Bloomberg

10

NFIB Small Business Optimism

Source: National Federation of Independent Businesses, Bloomberg

80

85

90

95

100

105

1101

2/1

/20

12

2/1

/20

13

4/1

/20

13

6/1

/20

13

8/1

/20

13

10

/1/2

01

3

12

/1/2

01

3

2/1

/20

14

4/1

/20

14

6/1

/20

14

8/1

/20

14

10

/1/2

01

4

12

/1/2

01

4

2/1

/20

15

4/1

/20

15

6/1

/20

15

8/1

/20

15

10

/1/2

01

5

12

/1/2

01

5

2/1

/20

16

4/1

/20

16

6/1

/20

16

8/1

/20

16

10

/1/2

01

6

12

/1/2

01

6

2/1

/20

17

4/1

/20

17

6/1

/20

17

8/1

/20

17

10

/1/2

01

7

12

/1/2

01

7

Index Level

11

Consumer Confidence

40

50

60

70

80

90

100

110

120

130

1401

2/1

/20

12

2/1

/20

13

4/1

/20

13

6/1

/20

13

8/1

/20

13

10

/1/2

01

3

12

/1/2

01

3

2/1

/20

14

4/1

/20

14

6/1

/20

14

8/1

/20

14

10

/1/2

01

4

12

/1/2

01

4

2/1

/20

15

4/1

/20

15

6/1

/20

15

8/1

/20

15

10

/1/2

01

5

12

/1/2

01

5

2/1

/20

16

4/1

/20

16

6/1

/20

16

8/1

/20

16

10

/1/2

01

6

12

/1/2

01

6

2/1

/20

17

4/1

/20

17

6/1

/20

17

8/1

/20

17

10

/1/2

01

7

12

/1/2

01

7

Index Level

Source: Conference Board, Bloomberg

12

Average Hourly Earnings

Source: Bureau of Labor Statistics, Bloomberg

1.00

1.20

1.40

1.60

1.80

2.00

2.20

2.40

2.60

2.80

3.0012

/1/2

012

2/1/

2013

4/1/

2013

6/1/

2013

8/1/

2013

10/1

/201

312

/1/2

013

2/1/

2014

4/1/

2014

6/1/

2014

8/1/

2014

10/1

/201

412

/1/2

014

2/1/

2015

4/1/

2015

6/1/

2015

8/1/

2015

10/1

/201

512

/1/2

015

2/1/

2016

4/1/

2016

6/1/

2016

8/1/

2016

10/1

/201

612

/1/2

016

2/1/

2017

4/1/

2017

6/1/

2017

8/1/

2017

10/1

/201

712

/1/2

017

YoY %

13

10 Year Inflation Expectations

Source: US Treasury, Bloomberg.

1

1.2

1.4

1.6

1.8

2

2.21

/1/2

01

6

2/1

/20

16

3/1

/20

16

4/1

/20

16

5/1

/20

16

6/1

/20

16

7/1

/20

16

8/1

/20

16

9/1

/20

16

10

/1/2

01

6

11

/1/2

01

6

12

/1/2

01

6

1/1

/20

17

2/1

/20

17

3/1

/20

17

4/1

/20

17

5/1

/20

17

6/1

/20

17

7/1

/20

17

8/1

/20

17

9/1

/20

17

10

/1/2

01

7

11

/1/2

01

7

12

/1/2

01

7

1/1

/20

18

2/1

/20

18

Rate (%)

14

Corporate Securities

Elizabeth Henderson, CFADirector of Corporate Credit

15

Corporate Sector

Credit spreads tightened and all sectors contributed in 2017

80

85

90

95

100

105

110

115

120

125

130

1/1

/20

17

2/1

/20

17

3/1

/20

17

4/1

/20

17

5/1

/20

17

6/1

/20

17

7/1

/20

17

8/1

/20

17

9/1

/20

17

10

/1/2

01

7

11

/1/2

01

7

12

/1/2

01

7

1/1

/20

18

Bas

is P

oint

s

U.S. Corporate Investment Grade OAS

Source: AAM, Bloomberg Barclays (as of 2/1/2018) Source: AAM, Bloomberg Barclays as of 12/29/2017

Financials

Energy/ Basic

Materials

Telecom/ Media/Tech

Consumer

Other

Contribution by Sector to IG Corporate

Excess Returns

346 basis points

• Yield curve remains upward sloping

• Fed in tightening mode

• Flattening slowly

• Capital markets are wide open

• IPO, leveraged loans, high yield, emerging markets16

Corporate Sector

• Fewer banks tightening standards

• Indicators indicate stability:

• SLO survey remains favorable (standards are loose)

• Financial Conditions Index trending positively

• Credit Managers Index remains above 50 (expansion)

and trended positively in 2017

Credit cycle indicators remain supportive

30

40

50

60

70

7/1

/2002

3/1

/2003

11

/1/2

003

7/1

/2004

3/1

/2005

11

/1/2

005

7/1

/2006

3/1

/2007

11

/1/2

007

7/1

/2008

3/1

/2009

11

/1/2

009

7/1

/2010

3/1

/2011

11

/1/2

011

7/1

/2012

3/1

/2013

11

/1/2

013

7/1

/2014

3/1

/2015

11

/1/2

015

7/1

/2016

3/1

/2017

11

/1/2

017

NACM US Credit Managers Index

Source: AAM, Barclays, Fed

Source: AAM, Bloomberg as of 12/31/2017

17

Corporate Sector

Modest excess returns expected in 2018

Fundamentals expected to

remain stable

Technicals remain favorable

but expected to soften in

2018

Valuation is not compelling

as spreads are historically

tight

18

Corporate Sector

Modest excess returns expected in 2018, continued

Source: AAM, Bloomberg Barclays (OAS data)

Fundamentals expected to

remain stable

Technicals remain favorable

but expected to soften in

2018

Valuation is not compelling

as spreads are historically

tight

50

150

250

350

450

550

650

11/1

9/2

…

6/1

9/2

004

1/1

9/2

005

8/1

9/2

005

3/1

9/2

006

10/1

9/2

…

5/1

9/2

007

12/1

9/2

…

7/1

9/2

008

2/1

9/2

009

9/1

9/2

009

4/1

9/2

010

11/1

9/2

…

6/1

9/2

011

1/1

9/2

012

8/1

9/2

012

3/1

9/2

013

10/1

9/2

…

5/1

9/2

014

12/1

9/2

…

7/1

9/2

015

2/1

9/2

016

9/1

9/2

016

4/1

9/2

017

11/1

9/2

…

Bas

is P

oint

s

U.S. Corporate Investment Grade OAS

U.S. Corporate Investment Grade -OAS+1 Std dev

-1 Std dev

-

50

100

150

200

250

300

3/1

/200

7

9/1

/200

7

3/1

/200

8

9/1

/200

8

3/1

/200

9

9/1

/200

9

3/1

/201

0

9/1

/201

0

3/1

/201

1

9/1

/201

1

3/1

/201

2

9/1

/201

2

3/1

/201

3

9/1

/201

3

3/1

/201

4

9/1

/201

4

3/1

/201

5

9/1

/201

5

3/1

/201

6

9/1

/201

6

3/1

/201

7

9/1

/201

7

Bas

is P

oint

s

BBB-A Industrial Rating Basis

Basis +1 Std dev -1 Std dev

19

Corporate SectorPrioritize risk adjusted income – Opportunities in Financials

(20) (15) (10)

(5) - 5

10 15 20

bps

Finance – Industrials OASAAM comments:

Financials are fairly valued given outperformance

Prefer domestic banks (money center, legacy bonds), P&C and Life Insurance and insurance brokers

Remain selective in REITs and managed care

Community banks remain interesting but must be selective and disciplined with pricing

Continue to avoid:

Inadequate risk adjusted return

Australian banks Asset managers

ReinsurersSmall REITs

BDCs Broker dealers40

50

60

70

80

90

100

110

120

100%110%120%130%140%150%160%170%180%190%200%

bps

Sub/Senior bank relationships

Sub/Senior bank OAS Sub-sr bank OAS (rhs)

20

Corporate Sector

Source: Bloomberg Barclays, AAM (as of 2/1/2018)

Prioritize risk adjusted income – Opportunities in non-Financials

AAM comments:

BBBs offer more value but must be selective at lower end of quality spectrum especially as spreads have compressed with higher quality

Investment themes:

Technological disruption in TMT: Pros: Semiconductors, Software, Telecom,

Towers Cons: Cable, Hardware, small Media networks

Growth challenged/cost focused: Pros: M&A related new issue funding Cons: Highly rated Consumer Products,

Food/Beverage, Healthcare, IT Services

Balance sheet focused BBB Pharma, Energy, Metals & Mining,

Utilities

Outperform

Metals & Mining

Diversified Manufacturing

Wirelines

Supermarkets PharmaceuticalsTobacco

Independent Energy

Midstream Railroads

Electric Utilities

Natural Gas

Underperform

Healthcare TechnologyIntegrated

Energy

Consumer Products

Food/Beverage Chemicals

AutoCable/Satellite Media

21

High Yield Sector

Scott A. Skowronski, CFASenior Portfolio Manager

22

Long Term High Yield Spreads

Source: ICE Bank of America Merrill Lynch High Yield US High Yield Index

23

Default Rate Expectations Are Lower

Source: JP Morgan, as of November 2017. 2017 blue line - actual default rate, dark line - expected

24

Structured Products

Scott A. Edwards, CFADirector of Structured Products

25

30yr Mortgage Backed Security Spreads

Source: Stifel, Bloomberg

26

Non-Agency Residential Mortgage Backed Securities

Prime Non-Agency 2.0 MBS Spreads (bps)Compared with Agency MBS is attractive

Mortgage-Backed Security (MBS)Issuance ($ billions)

Prime Non-Agency RMBS offer compelling carry versus Agency MBS and are expected to outperform

Limited issuance relative to Agency RMBS provides opportunities for managers who can accumulate meaningful exposure

Credit performance has been excellent in Non-Agency Jumbo 2.0 given stringent mortgage underwriting standards

17 defaults out of 76,426 loans securitized (0.02%) since 2012

As of 1/15/2018Source: JP Morgan

Source: Bank of America Merrill Lynch Securitized Research, SIFMA

27

‘AAA’ CMBS Spreads vs. 10yr ‘A’ Corporate Bonds

Source: Wells Fargo Global Securities

28

Commercial Real Estate Price Appreciation By Sector

Source: Bank of America Merrill Lynch Global Research

29

Municipal Market

Gregory A. Bell, CFA, CPADirector of Municipal Products and Municipal Bond Trader

30

Strong Technicals should Support Relative Valuations

Source: Thomson Reuters Municipal Market Data

New issuance supply expected to reach $330billion, down 24% from 2017

• Substantial drop in refinancing activity will be the largest driver

• Infrastructure-related issuance of $220 Billion expected to be the highest in 8 years

Demand expected to remain strong in rising rate environment

• Very heavy reinvestment flows from call proceeds should be very supportive

• High marginal tax rates should continue to attract retail investors

• Mutual fund redemptions expected to be a drag on demand flows as rates rise

0

50

100

150

200

250

300

350

400

450

500

Tota

l Yea

rly

Issu

ance

(bi

llion

s)

Total Issuance

Total Refundings

New Money Issuance

Estimate Issuance

31

Tax-Adjusted Relative Valuations are Unattractive for Insurers

Source: Bloomberg

32

Convertible Market Overview

Tim Senechalle, CFASenior Portfolio Manager

33

Convertible Market Performance & Sector Distribution

22.22%

21.01%

18.37%

14.71%

14.58%

12.70%

12.21%

11.23%

9.58%

5.34%

-2.62%

-9.48%

-15% -10% -5% 0% 5% 10% 15% 20% 25%

Tech

Cons Disc

Materials

Industrials

Utilities

Transp

Healthcare

Financials

Media

Cons Stap

Telecoms

EnergyYTD

QTD

Consumer Discretionary

6%

Consumer Staples

1%

Energy5%

Financials17%

Health Care17%

Industrials5%

Materials2%

Media5%

Technology35%

Telecommunications2%

Transportation1%

Utilities4%

4th Quarter & 2017 Full Year Performance – By Sector U.S. Convertible Market Sector Breakdown – 12/31/2017

Source: Bank of America Merrill Lynch Global Research, Data as of 12/31/2017

34

U.S. Convertible Issuance – Gross & Net

Source: Barclays Capital Global Research Through 1/31/2018

35

Summary and Questions

36

Summary

Strange Things Happen When You Drive with Two Feet

37

Today’s Presenters:

Macroeconomic Review and Outlook

Marco Bravo, CFASenior Portfolio Manager

Market Outlook

Reed J. Nuttall, CFAChief Investment Officer

Corporate Securities

Elizabeth Henderson, CFADirector of Corporate Credit

High Yield Sector

Scott A. Skowronski, CFASenior Portfolio Manager

Structured Products

Scott A. Edwards, CFADirector of Structured Products

Municipal Market

Gregory A. Bell, CFA, CPADirector of Municipal Products and Municipal Bond Trader

Convertible Market Overview

Tim Senechalle, CFASenior Portfolio Manager

38

Questions

Please enter any questions on the top right hand of your screen