HERMES CREDIT BREAKFAST SEMINAR Breaking with tradition: why yesterday’s credit strategies need a fresh approach today Fraser Lundie, CFA, Co-Head and Lead Credit Portfolio Manager 5 October 2017 For professional investors only
Hermes Credit Capabilities Experience, conviction, skill People ► Skilled, integrated team whose principal members have worked together since 2004 Process ► High-conviction credit selection from a truly global universe ► ESG considerations integrated into credit selection ► Fundamental analysis identifies optimal issuer and security selection Performance ► A track record of outperformance through market cycles Hermes Credit Breakfast Seminar | Capabilities | October 2017 | BD00760 | 1
Hermes Credit Relative value – convexity Yield to maturity minus yield to worst (bp) 200 150 100 50 0 Aug 09 Jan 10 Jun 10 Dec 10 May 11 Oct 11 Apr 12 Sep 12 Feb 13 Aug 13 Jan 14 Jun 14 Dec 14 May 15 Nov 15 Apr 16 Sep 16 Mar 17 Aug 17 BB B CCC Yield to maturity minus yield to worst (bp) per currency 100 80 60 40 20 0 Aug 09 Jan 10 Jun 10 Nov 10 Apr 11 Sep 11 Feb 12 Jul 12 Dec 12 May 13 Oct 13 Apr 14 Sep 14 Feb 15 Jul 15 Dec 15 May 16 Oct 16 Mar 17 Aug 17 Euro GBP USD Source: Barclays Point as at 4 August 2017. Hermes Credit Breakfast Seminar | Capabilities | October 2017 | BD00760 | 2
Risk: Recovery rate deterioration Fewer feasible opportunities in the low quality space Causes: Overall default rate for High Yield issues 12% ► Commodity supercycle unwind 10% 8% ► Distressed buyers gone missing 6% 4% ► Cov light post financial crisis 2% 0% ► Shareholder-friendly activity 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 Takeaways: Recovery rates for senior unsecured debt ► Low quality credit to struggle 70 60 ► Be wary of lower quality energy 50 40 ► Be wary of European High Yield 30 20 10 0 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 Source: J.P. Morgan as at 31 December 2016. Hermes Credit Breakfast Seminar | Capabilities | October 2017 | BD00760 | 3
Risk: Shallow market Liquidity has clustered in large capital structures amid booming issuance $250,000 2,000,000 $230,000 1,800,000 Market Value (billions) $210,000 Dealer Transactions (millions) 1,600,000 $190,000 1,400,000 $170,000 1,200,000 $150,000 $130,000 1,000,000 $110,000 800,000 $90,000 600,000 $70,000 400,000 $50,000 200,000 $30,000 $10,000 0 Dec-01 Jun-02 Dec-02 Jun-03 Dec-03 Jul-04 Jan-05 Jul-05 Jan-06 Aug-06 Feb-07 Aug-07 Feb-08 Aug-08 Mar-09 Sep-09 Mar-10 Sep-10 Mar-11 Oct-11 Apr-12 Oct-12 Apr-13 Oct-13 May-14 Nov-14 May-15 Nov-15 May-16 Dec-16 Jun-17 Aggregate inventory US credit securities Market size Global HY (BAML Global Non-Fin High Yield Index) Liquidity now at 2003 levels. In a falling market, investors unwinding positions could suffer heavy losses Source: Bloomberg as at 30 June 2017. Hermes Credit Breakfast Seminar | Capabilities | October 2017 | BD00760 | 4
Opportunity: Global issuance What about the rest of the world? 1998 2017 Large companies issue bonds in various markets 3% 8% and currencies, providing 16% 28% relative-value opportunities for global investors Exploit HY and IG investment opportunities in 56% 89% the US, Europe and rest of the world Europe US Rest of the world Europe US Rest of the world Source: BofA Merrill Lynch, Global High Yield Index, as at 31 August 2017. Hermes Credit Breakfast Seminar | Capabilities | October 2017 | BD00760 | 5
Plethora of ESG resources under one roof Supports dynamic ESG Integration ► Responsibility team consults credit team EOS on policy and integration Engagement specialists ► Collaboration with EOS in engagement at highest of management and board levels − Serves to deliver holistic returns − Allows for “real - time” ESG analysis Hermes ► Internal, proprietary QESG scores allows for pricing of ESG risks Credit Responsibility QESG Scores Sets ESG policies Proprietary and consults with quantitative ESG investment teams on scores ESG integration 1 1 Source: ESG research. For illustrative purposes only. Hermes Credit Breakfast Seminar | Capabilities | October 2017 | BD00760 | 6
Summary: A dynamic approach to global credit ► Convexity opportunities exist in longer dated debt. Our approach is to maintain the widest opportunity set combined with duration management ► Lower quality credit to struggle. We have upped credit quality across our Multi Strategy and Global High Yield Funds to reflect this view ► Despite claims to the contrary, our view is that debt market liquidity persists but is clustered within global, large cap issuers. Security selection within the cap structures of such issuers is the key to unlocking value ► Debt markets are becoming ever more global. Investment strategies need to reflect the nature of the markets in which they invest ► Our research shows that companies with strong ESG credentials trade at tighter spreads. Integrated ESG analysis supports credit selection Hermes Credit Breakfast Seminar | Capabilities | October 2017 | BD00760 | 7
Disclaimer This document is for Professional Investors only. This document does not constitute a solicitation or offer to any person to buy or sell any related securities or financial instruments; nor does it constitute an offer to purchase securities to any person in the United States or to any US Person as such term is defined under the US Securities Exchange Act of 1933. It pays no regard to the investment objectives or financial needs of any recipient. No action should be taken or omitted to be taken based on this document. Tax treatment depends on personal circumstances and may change. This document is not advice on legal, taxation or investment matters so investors must rely on their own examination of such matters or seek advice. Before making any investment (new or continuous), please consult a professional and/or investment adviser as to its suitability. Any opinions expressed may change. The value of investments and income from them may go down as well as up, and you may not get back the original amount invested. Any investments overseas may be affected by currency exchange rates. Past performance is not a reliable indicator of future results and targets are not guaranteed. All figures, unless otherwise indicated, are sourced from Hermes. For more information please read any relevant Offering Documents or contact Hermes. UCITS funds: Further information on investment products and any associated risks can be found in the Fund’s Key Investor Information Docum ent (“KIID”), the Prospectus, the articles of association and the annual and semi-annual reports. In the case of any inconsistency between the descriptions or terms in this document and the Prospectus, the Prospectus shall prevail. These documents are available free of charge at Hermes Investment Funds plc, Georges Court, 54-62 Townsend Street, Dublin 2, Ireland, www.hermes-investment.com . HIML is the investment manager and promoter of Hermes Investment Funds plc (“HIF”) - an open-ended investment company with variable capital and with segregated liability between its sub-funds - incorporated in Ireland. Authorised by the Central Bank of Ireland and recognised by the Financial Conduct Authority. The main entities operating under the name Hermes are: Hermes Investment Management Limited (“HIML”); Hermes Alternative Inve stm ent Management Limited (“HAIML”); Hermes European Equities Limited (“HEEL”); Hermes Real Estate Investment Management Limited (“HREIML”); Hermes Equity Ownership Limited (“HEOS”); Hermes GPE LLP (“Herme s G PE”); Hermes GPE (USA) Inc (“Hermes GPE USA”) and Hermes GPE (Singapore) Pte. Limited (“HGPE Singapore”). All are separately authorised and regulated by the Financial Conduct Authority except for HREIML , HEOS, Hermes GPE USA and HGPE Singapore. HIML currently carries on all regulated activities associated with HREIML. HIML, HEEL and Hermes GPE USA are all registered investment advisers with th e United States Securities and Exchange Commission (“SEC”). HGPE Singapore is regulated by the Monetary Authority of Singapore. Issued and approved by Hermes Investment Management Limited which is authorised and regulated by the Financial Conduct Authority. Registered address: Lloyds Chambers, 1 Portsoken Street, London E1 8HZ. Telephone calls may be recorded for training and monitoring purposes. Potential investors in the United Kingdom are advised that compensation will not be available under the United Kingdom Financial Services Compensation Scheme. Hermes Credit Breakfast Seminar | Capabilities | October 2017 | BD00760 | 8
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