JPM Credit Outlook 3/7 by Institutional Insider

North America Credit Research 07 March 2014

Credit Market Outlook & Credit Market Outlook & Strategy Strategy US High Grade Strategy & CDS Research High Grade Strategy

A remarkable week with Russia/Ukraine, an S&P500 record high, huge HG bonds supply, a 31bp swing in UST yields, and HG bond spreads stable at YTD tights. The strength of the HG bond market in the face of lower UST yields last week and the heavy supply is notable. This week, we review the supply and spread trends. Also we discuss reasonable adjustments to pre-crisis spread levels and conclude that adding 10bp to the 105bp pre-crisis ex-EM spread average is a fair reflection of changes in duration and composition since then. This puts the current ex-EM spread of 121bp less than 10bp above the adjusted pre-crisis level.

US High Grade Strategy & CDS Research Eric Beinstein

(1-212) 834-4211 eric.beinstein@jpmorgan.com

Dominique D. Toublan (1-212) 834-2370 dominique.d.toublan@jpmorgan.com

Miroslav Skovajsa (1-212) 834-5154 miroslav.j.skovajsa@jpmorgan.com

Credit Derivatives iBoxx Loan TRS was launched recently and trading is picking up. Mandatory SEF trading started a week ago and has not affected trading volumes. ISDA published the new credit derivatives definitions and is seeking feedback on the frequency of single-name CDS rolls. CDX indices are slightly tighter on the week, after a whipsaw reaction on the increased risk in Ukraine. Spreads remain tight and we recommend hedging with options. The HY iBoxx TRS has significantly outperformed its underlying bonds. European HY and Financials have outperformed. Credit underperformance vs Equities continued this week. Equity tranches performed in line with the index but correlation declined.

Harpreet Singh (1-212) 834-7591 harpreet.x.singh@jpmorgan.com

Meghana J. Chugani (1-212) 834-3220 meghana.j.chugani@jpmorgan.com J.P. Morgan Securities LLC

Features

On Bloomberg investors can choose between different reference Treasury yield curves to calculate a corporate bond G-spread. We discuss the differences. iBoxx Loan TRS has started trading and is already gaining traction as a tactical long and short product on the asset class.

Trade Recommendation and Trade Tracker

We recommend an option hedge: buy one CDX.IG September 60bp put option and sell two CDX.IG September 75bp put options and receive 5c per $100 upfront. Since our last publication, our Trade Tracker is up by $23,207. Over the last twelve months, performance is up by $1,914,612 (+19% ROI / +145% IRR). Chart of the week: Adding 10bp to the pre-crisis ex-EM spread average of 105bp is a fair adjustment for the longer duration and lower financial weight today. Current ex-EM spreads are less than 10bp above this adjusted pre-crisis level 270

JULI ex-EM Spread Pre-crisis average Adjusted pre-crisis level

220

Current level: 121bp

170 Adjusted pre-crisis level: 115bp

120 70 Jan-00

Pre-crisis average: 105bp Jan-02

Jan-04

Jan-06

Jan-08

Jan-10

Jan-12

Jan-14

Source: J.P. Morgan

See page 33 for analyst certification and important disclosures. J.P. Morgan does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. www.morganmarkets.com

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

North America Credit Research 07 March 2014

Table of contents Outlook and Summary High Grade Strategy.............................................................................................................................. 3 Credit Derivatives ................................................................................................................................ 11

Feature Reference curve to calculate G spread .............................................................................................. 18 iBoxx Loan TRS................................................................................................................................... 20

Trade Recommendation Trade Recommendation ...................................................................................................................... 22 Trade Tracker....................................................................................................................................... 25

High Grade Analytics Sector recommendations.................................................................................................................... 27 New bond issuance ............................................................................................................................. 28 JULI sector statistics and performance ............................................................................................. 30

Credit Derivative Analytics CDS-bond basis across buckets ........................................................................................................ 31 US economic calendar ........................................................................................................................ 36

North America Credit Research 07 March 2014

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

Summary and Outlook

High Grade Strategy There are multiple signs of strength in the HG bond market over the past few weeks. We discuss them below. Near term we believe low yields and significant supply limit spread tightening opportunity unless UST yields rise meaningfully. The strength of demand despite these yields and spreads, improving credit fundamentals, our expectation of higher UST yields and the potential that future supply lessens point to tighter spreads down the road, however. 1. 10yr UST yields were near an eight month low until mid-week, down 31bp YTD, and yet spreads are unchanged at the YTD low of 133bp. The total return for HG credit is now 2.6% YTD, higher than our original full year 2014 expectation of 1%, yet there continues to be investor buying rather than profit taking. JPM is forecasting UST yields end 2014 at 3.4%. If this proves correct HG bond total returns will be negative from now until year end. Our expectation of higher UST yields is near consensus, so it is interesting how the supply/demand dynamic in HG credit is not heavily driven by total return expectations. If/when UST yields rise as we expect it will likely bring in more yield buyers, and also contribute to long-end curve flattening again. The 10s30s curve has steepened a few basis points to 17bp, close to the 18bp YTD high reached on Feb 12. The all-in-yield in the long-end is now below 5% for the first time since June. We continue to expect higher UST yields and strong demand from pension funds for long duration bonds to make this curve flatter as the year progresses, repeating what happened in 2H13. Exhibit 1: HG bond spreads are now at their YTD low of 133bp 145

Exhibit 2: HG all-in-yields are now at 3.96% driven by a 31bp decline in UST 10yr yields YTD

HG spreads

4.25

140

HG yields

4.10

135

3.95

130 1-Jan

15-Jan

29-Jan

12-Feb

26-Feb

3.80 1-Jan

15-Jan

29-Jan

12-Feb

26-Feb

Source: J.P. Morgan

North America Credit Research 07 March 2014

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

Exhibit 3: The 10s30s curve has steepened 3bp YTD to 17bp. We believe higher UST yields will lead to a flatter curve going forward 40

Exhibit 4: The 30yr all-in-yield is now lower than 5% for the first time since June, when the 10s30s started to flatten 5.60

HG 10s30s

HG 30yr yield

5.40

5.20

5.00

4.80 17

20 15

4.60 4.40 4.20

10 Jan-13

Mar-13

May-13

Jul-13

Sep-13

Nov-13

Jan-14

Mar-14

4.00 Jan-13 Mar-13 May-13

Jul-13

Sep-13 Nov-13 Jan-14 Mar-14

Source: J.P. Morgan

2. Significant supply readily absorbed. In February supply was $82bn and yet dealers were still net sellers to investors of $2.5bn of bonds. Over the first three days in March supply has been $46bn, about half the typical March average of $90bn, and yet spreads are unchanged. YTD supply is now $211bn which is running ahead of the $186bn of last year and $195bn of 2012. It remains to be seen how much of this supply has been brought forward from later in the year given the very favorable issuance conditions. Exhibit 5: YTD there has been significant monthly supply 160

$bn

140 120 100 80

105

Monthly supply

1,000

136

800

94 95 60 36

71 73

Exhibit 6: 2014 YTD supply is now already running ahead of last year

75 47

600 46

$bn

2013

2014 Forecast

2011

2012

2012: $928 2013: $919 2014F: $900

2014

2011: $752

400 200

20 0 Jan-13 Mar-13 May-13 Jul-13 Sep-13 Nov-13 Jan-14

MTD

0 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

Source: J.P. Morgan

The rolling 2 week supply is now $75.1bn. Since 2012 there have been seven previous two week periods when supply was at or above $60bn. The peak short term supply period was in September last year at $95bn, driven by Verizon. If we look at spreads one week and two weeks after these seven periods there is no pattern that suggests heavy supply is followed by weaker markets. In 4 of the 7 periods spreads were tighter one week later and in three they were wider. There is a similar outcome when looking at spreads two weeks later. This highlights how supply is driven by demand, rather than being a cause for less future demand. That said, our index was wider than 150bp in each of these prior seven periods, compared to 133bp today. Also, yields now at 3.96% are lower than in any of these prior heavy supply periods. We therefore believe that, at current valuations, the heavy supply is likely to limit near term spread performance.

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

North America Credit Research 07 March 2014

Exhibit 7: Two week rolling HG bond supply compared to HG bond spreads. There has been little correlation between spreads and supply over the past few years 120

Rolling 2wk issuance

$bn

100

HG spreads

260 240 220

200

180 160

140

120

0 Jan-12

100 Jul-12

Jan-13

Jul-13

Jan-14

Source: J.P. Morgan

3. EM HG bond spreads unwound almost all their YTD spread widening relative to US HG bonds. EM HG spreads are just 7bp wider YTD vs. US HG credit. They are now 116bp above US HG, as reported in our daily report EM vs US HG Relative Value Report (link) so near the low end of the 108-132bp YTD range. This is quite surprising given that EM growth forecasts continue to be cut and are now below US growth estimates for the large EM economies. US 2014 growth is estimated at 2.6%, while Russia (1.8%), Brazil (1.5%) and Turkey (1.9%) have lower growth forecasts. Also the issues in Ukraine and Russia have been quickly forgotten by markets. The strength of demand for EM highlights the still prevalent search for risk and the mindset of investors to look for opportunities in credits that widen. Exhibit 8: EM vs US HG bond spreads are just 7bp wider YTD, so near the low end of the 108132bp range YTD range 140

EM discount

120 100 80 60 40 Jan-13

Mar-13

May-13

Jul-13

Sep-13

Nov-13

Jan-14

Mar-14

Source: J.P. Morgan

YTD HG bond spreads are following stocks rather than being driven by UST yield trends. Stocks are at a record and this has been more important for spreads than the low UST yields. This is in part explained by the solid 4Q credit metric developments. We discussed these trends in CMOS last week and will publish the full 4Q13 credit metric report next week. Revenue, EBITDA, net leverage and other metrics all showed improvement q/q. Solid growth figures out of Europe QTD even as US growth is a little softer point to further stabilization and potential improvement in credit metrics this quarter.

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

North America Credit Research 07 March 2014

How tight could spreads go? With spreads hovering near YTD and post-crisis tights we believe it is prudent to ask how far away spreads are from pre-crisis levels. Before the credit crisis HG spreads traded in a consistent range of 90bp to 120bp averaging 105bp. This implies that there is plenty room for further tightening from the current level of 121bp (exEM). However, the HG market has changed significantly since then. It is now over a year longer in duration, has fewer Financial and more EM bonds. Combined, these changes add about 10bp to the pre-crisis spreads, making the pre-crisis adjusted level about 115bp. This is less than 10bp tighter than today. If we include EM in our analysis the adjustment is 15bp (5bp larger) because of the greater proportion of EM today than before the crisis. This leads to a pre-crisis level of 120bp, which is about 15bp tighter than the current overall index level of 133bp. Exhibit 9: Adding 10bp to the pre-crisis spread average of 105bp is a fair adjustment for the longer duration and lower financial weight today. Current spreads are less than 10bp above this adjusted pre-crisis level. 270 bp

JULI ex-EM Spread Pre-crisis average Adjusted pre-crisis level

220

Current level: 121bp

170 Adjusted pre-crisis level: 115bp

120 70 Jan-00

Pre-crisis average: 105bp Jan-02

Jan-04

Jan-06

Jan-08

Jan-10

Jan-12

Jan-14

Source: J.P. Morgan

There have been four main changes to the market since before the crisis. 1) The proportion of Financials has fallen from about 40% before the crisis to about 30% currently. Financials were trading tighter than Non-Financials before the crisis. This means that they were pushing the overall index spread tighter. As their weight in the index is smaller now, that effect would have been smaller. Hence we adjust the pre-crisis level higher. In this case by about 4bp. 2) The composition of ratings has changed as well. Financials are significantly lower rated than they were before the crisis and Non-Financials are marginally higher rated. We exclude the effect of Financial downgrades from this analysis because one can argue that Financial ratings were too high before the crisis and are now more properly rated. We would rather err on the conservative side. The rating quality of Non-Financials has improved slightly, with 6% fewer BBBs, 4% more As, and 4% more AAs. The improvement is partly due to issuance by high quality names that did not have outstanding bonds before the crisis. Overall, this effect decreases the pre-crisis spread by about 4bp. 3) The strongest effect is by far the increase in the average life and duration of the index. Index duration has increased by more than a full year from 6.0 to 7.2 now, with the long end duration increasing from 11.6 to 13.2 years. Both Financial and Non-Financial duration increased significantly: 5.1 to 5.7 for Financials and 6.5 to 7.9 for Non-Financials. The increase in index duration adds 11bp to pre crisis spread (7bp for Financials and 13bp for Non-Financials). 6

North America Credit Research 07 March 2014

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

4) The US HG market now contains 11% of EM bonds compared to only 4% before the crisis. Using our EM/DM model we establish the 'normal' discount that EM bonds trade wider than their non-EM counterparts of the same maturity, rating and sector. For this we use the average discount between 2011 and 2012 when it was stable around 65bp and the EM portion of the USD HG market was well established. Using this discount and the 8% increase in the proportion of EM bonds we adjust the pre-crisis spread 5bp higher. Exhibit 10: The â&#x20AC;&#x2DC;normalâ&#x20AC;&#x2122; EM discount to non-EM bonds of the same maturity, rating, and sector is about 65bp 140 EM discount to non-EM, bp 120 100

2011-12 average: 65bp

80 60 40

EM discount to non-EM

'Normal' discount

0 Jan-10

Jul-10

Jan-11

Jul-11

Jan-12

Jul-12

Jan-13

Jul-13

Jan-14

Source: J.P. Morgan

The four effects are summarized in the table below. Exhibit 11: We believe pre-crisis spreads should be adjusted 10bp wider in order to compare them to the current exEM level. This is because the HG market now has more Non-Financial and EM bonds, Non-Financials are higher rated, and the overall market is over a year longer in duration than before the crisis. 2006

Share of the market Current

Difference

1) Sector adjustment Financials Non-Financials

42% 58%

31% 69%

-10% +10%

+4bp

2) Rating adjustment Non-Financials AAA AA A BBB

2% 6% 33% 59%

1% 9% 37% 53%

-1% +4% +4% -6%

-4bp

3) Maturity adjustment JULI 3yr 5yr 7yr 10yr 30yr

21% 24% 17% 17% 21%

24% 22% 13% 17% 26%

+3% -3% -4% -0% +5%

2006

2.1 3.8 5.1 6.8 11.6

Duration Current

2.2 3.9 5.6 7.3 13.2

Combined (excluding EM) 4) EM adjustment EM proportion Combined (including EM)

Difference

+0.1 +0.1 +0.4 +0.5 +1.6

Spread Effect

+11bp +11bp

11%

+8%

'Normal' EM discount to DM 65bp

+5bp +16bp

Source: J.P. Morgan

The 5s7s curve has reached its tightest level in over a year The 5s7s curve has flattened 6bp YTD and 22bp since the start of 2013 as the 7yr spread is now at its tightest level since the start of 2013. Currently both the Financials and the Non Financials 5s7s curves are 20bp steep. However, the Non

North America Credit Research 07 March 2014

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

Financials curve is now at its flattest level since the start of 2013 while the Financials 5s7s curve is now 4bp steeper than its flattest level in mid December. The Financials 5s7s curve has flattened by just 1bp YTD. After steepening by 4bp in January and flattening 1bp in Feb, it has flattened by 3bp in the last 3 days. On the other hand, Non Financials have caught up with Financials recently as the curve flattened by 8bp YTD with 5bp flattening in Feb and 2bp in the last 3 days. The 5s10s curve has also flattened by 2bp YTD with the Financials curve flattening 6bp while the Non Financials 5s10s flattening by 2bp respectively. The outperformance of the 7yr point was expected, as the 7s10s curve was quite flat and the 5s7s quite steep, resulting in an attractive roll down the curve for 7yr bonds. Exhibit 12: At 21bp, the 5s7s curve is now the tightest since the start of 2013 45

5s7s

Non Fins 5s7s

Fins 5s7s

20 15 Jan 13

Exhibit 13: The Non-Financials 5s7s curve is now also the flattest since 2013

20 May 13

Sep 13

Jan 14

15 Jan 13

May 13

Sep 13

Jan 14

Source: J.P. Morgan

US Economic Summary The discussion on the effect of abnormally cold weather affecting the economic data has been continuing for some time now. Recently our economists published Focus: “Re-heating indicators on ice” where they revisited their analysis on the potential of abnormally cold weather affecting the economic indicators with many of the monthly indicators already reported for January. It appears that the colder-than-normal temperatures accounted for only a small portion of the weakness in many of the January reports but the effect may be somewhat larger in February economic data. Employment data declined, manufacturing bounced back, non-manufacturing disappointed while Markit PMI increased. Employment Initial jobless claims for the week of March 1 declined 26,000 to 323,000 after increasing 15,000 to 349,000 in the previous President’s Day holiday week. These swings may reflect the difficulty in seasonally adjusting for the holiday, and the average of the two weeks is very close to the prior trend. The four-week average of 336,500 is near the middle of its narrow range seen over the past eight weeks. The stability of the claims data may dispel some of the concerns occasioned by yesterday's nonmanufacturing ISM report. Continuing claims for the week of February 22 declined 8,000 to 2.907mn from a sharply downward-revised prior level. The insured unemployment rate was unchanged at 2.2%.

North America Credit Research 07 March 2014

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

Exhibit 14: Initial Jobless claims declined last week 630

Exhibit 15: ISM Manufacturing bounced back while ISM Nonmanufacturing disappoints 65

4wk average

580

530 480

430

380

330

280 2007

2008

2009

2010

2011

2012

2013

2014

30 2000

ISM Manufacturing ISM Non-manufacturing 2002

2004

2006

2008

2010

2012

2014

Source: J.P. Morgan

Manufacturing and Non-Manufacturing The February ISM manufacturing survey recouped about a third of the big decline that occurred the prior month, rising 1.9 points to 53.2. The January decline looked implausibly steep, and the recovery today to a level consistent with moderate expansion in factory activity looks more reasonable. The details were generally in line with the broad message of a rebound, but to levels below where they were in December. Also reported this morning, the final print of the February Markit manufacturing PMI revised higher to 57.1 from 56.7 in the preliminary reading. After running a fair bit below the ISM for much of 2013, the PMI has now been stronger for the last two months. Averaging over the various manufacturing surveys - none of which is particularly reliable -- the most likely outcome is for continued moderate expansion in factory output. The February non-manufacturing ISM fell 2.4 points to 51.6, well below expectations and the lowest reading since early 2010. The disappointment sends a cautionary signal about the amount of momentum in the economy, and among the details by far the most concerning was the almost-nine-point plunge in the employment index to 47.5, the biggest one-month fall since late 2008, and one that accounts for almost all of the decline in the headline index. The harsh weather probably exerted a temporary depressing effect on the number. Inflation For perhaps a glass half-full view of the service economy, the new Markit services PMI printed at 53.3 in February, up from the 52.7 in the flash estimate, but still below the 56.7 reading from January. The short history of this series makes it difficult to assess how accurately this measure reflects economic activity. Consumer Sentiment The University of Michigan consumer sentiment index was revised up from 81.2 to 81.6 between the preliminary and final February reports, coming in little changed from the final figures reported for January (81.2) and December (82.5). Most other sentiment measures that we track have also not changed much lately despite the recent weakening in many other economic reports. The Michigan surveyâ&#x20AC;&#x2122;s main inflation expectations measures continued to trend sideways through some ups and downs in the monthly figures. Construction Spending Construction spending rose 0.1% in January, a modest gain but better than expectations, and December spending was revised up a fair bit from 0.1% to 1.5%. 9

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

North America Credit Research 07 March 2014

Private residential construction spending rose 1.1% in January, while private nonresidential spending fell 0.2%, the first decline since last June. Public construction spending slipped 0.8%, though was revised up significantly in December. Construction is the most weather-sensitive sector of the economy; so, the modest increase in January construction came as a surprise.

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

North America Credit Research 07 March 2014

Summary and Outlook

Credit Derivatives CDX Indices IG (bp) HY($) HY(bp) IG (bp) HY($) HY(bp) IG (bp) HY($) HY(bp)

Level 62.3 108.2 306

1w change -2.25 0.4 -9

Theoretical 1w change 63.4 -2 108.2 0.3 305 -7 Basis -1.1 0.0 1.2

1w change 0 0.1 -2

iBoxx TRS TRS IG HY

Yield (%) 3.89 5.04

1w change (bp) 4 -11

iBoxx IG HY

Yield (%) 3.92 5.27

1w change (bp) 3 -1

Basis IG HY

Yield (bp) 1w change (bp) -3 2 -23 -10

CDS-Bond Basis (bp) IG HY

Bond PECS 1w change 74 0 274 -24

IG HY

CDS Spread 1w change 63 -1 238 -20

IG HY

Basis -11 -37

Source: J.P. Morgan

1w change -1 4

 The iBoxx Loan TRS started trading a couple of weeks ago. This TRS allows investors to take long or short views on a diversified loan index. It is the latest addition to the iBoxx TRS family, which only covered bonds so far. See Feature on p.20.  Mandatory SEF trading for certain Credit Derivatives started a week ago. Trading volumes have not been affected by the transition and a vast majority of trades is now going through SEFs.  ISDA published the new credit derivatives definitions, launched a new website SwapsInfo and is seeking feedback on the frequency of single-name CDS rolls.  CDX indices are slightly tighter on the week, after a quick whipsaw reaction on the increased risk in Ukraine. Spreads remain tight and we recommend hedging with options as implied volatility is also close to its recent lows. See the trade recommendation on p.22.  The HY iBoxx TRS has significantly outperformed its underlying bonds in the last few weeks. This is likely due to the strong inflows into the asset class recently which have not been met by a surge in issuance.  European HY and Financials have outperformed European Non-Fins and the US markets, in line with our expectations. The current levels are getting closer to what we think is fair.  CDS and bonds traded about in line this week, and we believe that CDS-bond basis is about fair in both HG and HY.  Credit underperformance vs Equities continued this week, however the longer term perspective indicates they are in line.  Equity tranches performed in line with the index even as correlation declined.

Mandatory SEF trading has started Effective Wednesday, February 26th 2014, certain mandated Index CDS products were required to be traded on a Swap Execution Facility (SEF) and cannot be traded bilaterally with US persons. There are exceptions such as trades above block size and trades not subject to mandatory clearing. The instruments in question are CDX.IG, CDX.HY, iTraxx Main and iTraxx Xover; 5y tenor; at any time, the then-current onthe-run series and the preceding series that was replaced by the current one. It is noteworthy that this list of swaps is a subset of those swaps that are subject to the CFTC’s mandatory clearing requirements. For a more detailed discussion on SEFs, see link for a detailed discussion and link to recent update. The introduction of SEF trading does not seem to have had any measurable impact on the trading volumes. According to SDR and to Markit data, the average trading volumes since last Wednesday are about in line with the average YTD trading volumes. Furthermore, we have no anecdotal evidence of investors finding it difficult to trade on Monday, which was a high liquidity day driven by the situation in Ukraine.

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

North America Credit Research 07 March 2014

Exhibit 1: Markit trading volumes since January 1, 2014 18

CDX.IG S21 5yr (lhs)

$bn

CDX.HY S21 5yr (rhs)

4.5 4.0 3.5

3.0

2.5

2.0

1.5

1.0

0.5

0.0 1-Jan

8-Jan

15-Jan

22-Jan

29-Jan

5-Feb

12-Feb

19-Feb

26-Feb

Source: Markit. 5-day rolling average

Furthermore, a very large amount of CDX.IG and CDX.HY trades went through the SEFs. Taking into account the reported trading volumes by Bloomberg, GFI, ICAP, ICESwap, TradeWeb and MarketAxxess, we find that about 80% of all the CDX.IG and CDX.HY trades went through the SEFs since last Wednesday. However, note that this number includes both trades executed on a SEF platform and trades executed off the SEF, e.g. voice trades, i.e. it includes both Required Transactions and Permitted Transactions, as both type of transactions have to be reported through a SEF, independent of how the trade was executed. Exhibit 2: So far, more than 80% of the index volumes have gone through SEFs Date 26-Feb-14 27-Feb-14 28-Feb-14 3-Mar-14 4-Mar-14 Average

CDX.IG 79% 87% 49% 89% 97% 80%

CDX.HY 85% 94% 54% 96% 92% 84%

Source: SDR, Bloomberg, GFI, ICAP, TradeWeb, ICESwap, MarketAxxess

ISDAâ&#x20AC;&#x2122;s new Credit Derivatives definitions, SwapsInfo and feedback on single-name CDS roll For more detail, see CD player (link) and the research note from the European team (link).

The International Swaps and Derivatives Association, Inc. (ISDA) published a revised version of the 2003 ISDA Credit Derivatives Definitions, in the biggest overhaul in the credit derivatives market since the Big Bang and Small Bang protocols in 2008/2009 (link). These changes will be implemented during the September 2014 roll date. The new definitions will only apply if parties reference them in their trade documentation for new trades, or agree to amend the documentation for existing transactions via the use of a protocol. ISDA also launched SwapsInfo (link) to aggregate, collate and distribute CDS and Interest Rate Derivatives data from its Trade Information Warehouse, SDR and ODRF reporting service. The website provides information on daily pricing, volumes, trade counts and notionals outstanding. This information can be seen through the charts available on the website or can be downloaded as well. On Monday March 3 2014, ISDA sent out a survey asking for feedback on switching to six month rolls for single name CDS. The survey has been sent through the ISDA distribution list. Please contact John Pucciarelli (JPucciarelli@isda.org) to participate.

North America Credit Research 07 March 2014

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

Marginally tighter despite Ukraine The CDX indices are tighter on the week, as the increase in Ukraine risk only led to a short-lived weakness. CDX.IG is 1bp tighter on the week at 62bp, while CDX.HY is 1bp/$0.03 more expensive at 308bp/$108.1. Note that both indices are trading relatively close to the value implied by their underlying CDS, with IG 1bp rich and HY 1bp/$0.03 cheap. Altogether, IG has somewhat outperformed HY this week, but the moves have not been that large. As shown in the Exhibits below, both CDX.IG and CDX.HY are trading at multiyear tights. Still, HY is trading much closer to its all-time tights compared to CDX.IG. We believe that this is justified with the low default expectations for the next few years that particularly matter for HY and because global macro risks remain elevated which matters more for HG than for HY. We therefore believe that HG and HY are about fairly priced here, given the current environment. Nevertheless, risks remain in this market and the CDX indices are likely to quickly react to any spike in this risk, given how tight spreads are at this point. We believe that hedging long risk bond portfolios is a little expensive now, but that hedging with options is attractive. We discuss this below, together with a trade recommendation on p. 22. Exhibit 3: CDX.IG keeps on trading close to its recent multi-year tights, but still significantly wider than its all-time tights 200

Exhibit 4: CDX.HY is also at multi-year tights, but trades much closer to its all-time tights than CDX.IG 1000

(bp)

CDX.IG spread Current

150

(bp)

750

100

500

250

CDX.HY spread Current

0 Jan-06

Jan-08

Jan-10

Jan-12

Jan-14

0 Jan-06

Jan-08

Jan-10

Jan-12

Jan-14

Source: J.P. Morgan

Hedging with CDX options look attractive, as implied volatility declines Implied volatility declined this week after increasing on Ukraine concerns. Implied volatility for CDX.IG and CDX.HY decreased by 1% over the past week to 43%. Implied volatility continued to decline as markets rallied, reaching 42% on Friday but increased on Monday to 45% as Ukraine news caused some concerns among investors. Implied volatility skew increased by 1% for both CDX.IG and CDX.HY to reach 13% and 14% respectively. Implied volatility skew has remained at high levels despite markets stabilizing, highlighting continued investor interest in tail hedges. We recommend a trade on p. 22 which takes advantage of the higher skew while hedging against a long term sell off in spreads due to Emerging Market concerns, particularly turmoil in Ukraine and fears of a slowdown in China. About $30.6bn traded in IG options this week and $7.8bn in HY, compared to $29.1bn and $10.1bn last week, respectively.

North America Credit Research 07 March 2014

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

Exhibit 5: Implied volatility declined this week after increasing on Ukraine concerns

Exhibit 6: Implied volatility skew increased over the past week

CDX.IG Implied Vol, 3m

63% 58%

IG Skew

15%

CDX.HY Implied Vol, 3m

HY Skew

13%

53%

11%

48%

43%

38% 33% Jan-13 Mar-13 May-13

Jul-13

Sep-13 Nov-13 Jan-14 Mar-14

5% Jan-13 Mar-13 May-13

Jul-13

Sep-13 Nov-13 Jan-14 Mar-14

Source: J.P. Morgan

iBoxx HY TRS is expensive compared to its underlying bonds iBoxx HG TRS underperformed its bonds this week while HY TRS outperformed the NAV significantly as its premium increased. HY TRS has returned 3% YTD compared to a 2% return from its HG counterpart. HG TRS underperformed its bonds by 2bp this week, and it is now trading 3bp/18c expensive to its NAV at 3.89%. HY TRS outperformed its bonds by 10bp, and it is now trading 23bp/81c expensive to its NAV at 5.04%. This week HY TRS premium reached the levels last seen in October 2013. This is likely driven by the strong inflows into HY bond funds, which have not been met by a pick-up in issuance. We do not expect the premium to sustain at these levels as the higher premium makes it an attractive short. Investors looking to hedge themselves after the recent rally and decline in yields should find this level attractive, either by itself or as a relative value play against the more recent Loan TRS. We discuss the Loan TRS in further detail on p. 20. Exhibit 7: HG iBoxx TRS underperformed its bonds this week 4.5

Exhibit 8: HY iBoxx TRS outperformed its bonds this week 7.00

yield

4.3

yield

6.50

4.1

6.00

3.9 5.50

3.7

iBoxx IG

3.5 3.3 Mar-13

HG TRS Jun-13

Sep-13

Dec-13

iBoxx HY

5.00

HY TRS 4.50 Mar-14 Mar-13

Jun-13

Sep-13

Dec-13

Mar-14

Source: J.P. Morgan

Credit continues to underperform Equity from a linear perspective CDX.IG tightened by 1bp and CDX.HY tightened by 3bp this week while S&P moved up by 23pts. If we were to assume a linear relationship between the credit and equity indices this would seem like a huge move. However, as we have pointed out in our previous publications, we do not believe that this relationship is linear, especially around current levels which are at dragging the relationship into new territory. 14

North America Credit Research 07 March 2014

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

Exhibit 9: HG iBoxx TRS underperformed its bonds this week 95

Exhibit 10: HY iBoxx TRS outperformed its bonds this week 1450

CDX.IG (bp - lhs) S&P500 (pts - rhs inv)

S&P500 (pts - rhs inv)

1550

1450

CDX.HY (bp - lhs)

475

1550

425 1650

1650

375 1750

1750

325 1850

1850 55 Feb-13

May-13

Aug-13

Nov-13

Feb-14

275 Feb-13

May-13

Aug-13

Nov-13

Feb-14

Source: J.P. Morgan

Specifically looking at CDX.HY vs S&P 500 relationship, Exhibits 11 and 12 show the stark difference between the two approaches. Exhibit 11 assumes a quadratic relationship which explains the moves over the last two years much better than the linear relationship in Exhibit 12. We believe that the quadratic perspective is a better relationship to look at because it makes sense intuitively as well. As markets rally spreads face a floor of zero spreads while equities can continue to increase infinitely. Another important aspect specific to the CDX indices is that as markets continue to grind tighter, increasing investor hedging needs exert pressure on CDX indices preventing them from rallying as much as S&P. The two relationships are so different in their conclusion at this point that while the quadratic relationship suggests CDX.HY is 4bp too tight, the linear relationship suggests that CDX.HY is 57bp too wide. Exhibit 11: HG iBoxx TRS underperformed its bonds this week 850

CDX.HY

Exhibit 12: HY iBoxx TRS outperformed its bonds this week

y = 0.0012x2 - 4.4674x + 4,461.3808 RÂ˛ = 0.9485

750

850

650

550

450

350 250 1200

CDX.HY

y = -0.66x + 1,496.78 RÂ˛ = 0.89

750

350 S&P 500 1300

1400

1500

1600

1700

1800

1900

2000

250 1200

S&P 500 1300

1400

1500

1600

1700

1800

1900

2000

Source: J.P. Morgan

European HY and Financials keep on outperforming iTraxx Xover and iTraxx Sen Fins have been the best performers YTD across all the CDS indices. In particular, Xover has outperformed CDX.HY and Sen Fins has outperformed CDX.IG. On the other hand, iTraxx Non-Fins has performed about in line with CDX.IG. This is what we expected in our 2014 Outlook and was justified by the differences in the differential in economic growth acceleration between Europe and the US and by the underperformance of these two markets on the back of the European sovereign crisis. We believe that the relative value between the indices is approaching what we think is fair. On the week, iTraxx Main is 2bp tighter at 71bp which is in line with the CDX.IG move on the week (using 10am NYT levels on Thursday), iTraxx Sen Fins tightened by 5bp to 84bp and iTraxx Non-Fins tightened by 1bp at 67bp. Finally, Xover tightened by about 12bp to 254bp, while HY was only 4bp tighter at 304bp. 15

North America Credit Research 07 March 2014

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

Exhibit 13: iTraxx Xover keeps on outperforming CDX.HY

Exhibit 14: iTraxx Sen Fins has outperformed CDX.IG

Difference (rhs) CDX.HY (lhs) iTraxx Xover (lhs)

650

100

Difference (rhs) CDX.IG iTraxx Sen Fin

200

550

450

150

100

150

25 0

350

-25

250 Jan-13

-50 Apr-13

Jul-13

Oct-13

Jan-14

100 50 Jan-13

0 Apr-13

Jul-13

Oct-13

Jan-14

Source: J.P. Morgan

Bonds are about in line with their CDS, both at the bond by bond level and at the index level Bonds and CDS are trading in line. We donâ&#x20AC;&#x2122;t expect this to change. HG bonds have marginally underperformed their CDS this week, by 1bp, and they are now trading about 11bp wide to their CDS. On the other hand, HY bonds have outperformed their CDS, by about 4bp, and are now trading 37bp wide to their CDS. We consider that these CDS-bonds basis values are fair, given the difference in trading costs between CDS and bonds. The same conclusion is reached when looking at the indices. Both CDX.IG and CDX.HY are trading about in line with their respective bond indices. If anything, CDX.HY is trading a little wide to the JPM HY Domestic bond index, by about 10bp, but this is not significant, statistically speaking. Exhibit 15: CDS-bond basis has been quite stable in both HG and HY 0

(bp)

HG CDS-bond basis (lhs) (bp) HY CDS-bond basis (rhs)

-10

0 230

110

180 85

-20

Source: J.P. Morgan

JULI spread (lhs) CDX.IG spread (rhs)

-20 -40

-30 Jan-13 Mar-13 May-13

Exhibit 16: JULI and CDX.IG also seem to be trading about in line

-60 -80 Jul-13

Sep-13 Nov-13

Jan-14

130 Jan-12

60 Jul-12

Jan-13

Jul-13

Jan-14

North America Credit Research 07 March 2014

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

Equity tranches trade in line with the index while correlation declines Equity tranches trade in line with the index even as correlation declined. Equity tranches tightened by 2% over the past week trading in line with the index, which tightened 3.5bp to 61.5bp. Correlation declined by 2% over the past week to 50.5%, nearing its YTD low seen in mid-January. Correlation has been unable to break significantly below 50%. Exhibit 17: Tranches traded in line with the index over the past week CDX.IG S9 10y 0-3% upfronts, lhs CDX.IG S9 10y index, rhs

65%

125

Exhibit 18: Correlation declined by 2% over the past week and is near its YTD low 55%

105 55%

50% 85

45%

35% 25% Mar 13

Jun 13

Sep 13

Dec 13

45 Mar 14

45%

40% Mar-13

CDX.IG S9 10y 0-3% correlation

Jun-13

Sep-13

Dec-13

Mar-14

Source: J.P. Morgan

North America Credit Research 07 March 2014

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

Feature

Which reference curve to calculate Gspread? On Bloomberg investors can choose between different reference Treasury yield curves to calculate a corporate bond G-spread. The choice of curve does not impact a bond’s spread to its benchmark, as this is based on the on the run curve points, no matter which curve is chosen. The choice of curve does impact the Gspread (spread over interpolated Treasury), however. Two popular choices of Treasury curves on Bloomberg are the I25 and I111 curves. The I25 curve only uses “on-the-run” Treasuries (10 points used, based on the most recently auctioned bills and notes: 1m, 3m, 6m, 1y, 2y, 3y, 5y, 7y, 10y and 30y), while the I111 uses a combination of on- and off-the-run Treasuries (17 points used, with the most recently auction bills and notes used for the 1m, 3m, 6m, 1y, 2y, 3y, 5y, 7y, 10y and 30y points, and with the “off-the-run” notes and bonds with the closest maturity to the 4y, 6y, 8y, 9y, 15y, 20y and 25y). The difference between the two curves is not always small and depends on the premium for on-the-run bonds paid by Treasury market investors. This is shown in the three Exhibits below. The current curves are shown in Exhibit 1. They are on top of each other below 10y, but not between 10y and 30y, as I25 linearly interpolate between the Treasuries, while the I111 takes more points into account. The difference is up to about 25bp around the 20y point. However, looking back, either during the crisis or before the crisis, the I111 was “bumpy” at different maturity points, especially around the 10y maturity. These bumps are present in the I111 curve because an on-the-run bond is used to determine the 10y point, while off-therun bonds are used to determine the 9y and 15y points. Exhibit 1: The I25 and I111 treasury curves on Exhibit 2: The I25 and I111 treasury curves on Exhibit 3: The I25 and I111 treasury curves on 2/28/14 2/13/09 9/1/04 4

3 I111

I111 I25

I25

0 0

I25

I111

1 0

Source: J.P. Morgan

Historically, the on-the-run/off-the-run premium has fluctuated. It is about 5bp now for the 10y, which is similar to the 2006 average, but was about 15bp on average in 2003. The situation is similar for the 5y and 30y basis between on- and off-the-run Treasuries, but with less volatility.

North America Credit Research 07 March 2014

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

Exhibit 4: Basis between on and off-the-run 10yr tsy bonds

Exhibit 5: Basis between on and off-the-run 5yr Exhibit 6: Basis between on and off-the-run tsy bonds 30yr tsy bonds

10y Basis

80 70

60 50

5y Basis

-5

-15

-10

30y Basis

40 30 20 10 0 Jan-00

Jan-03

Jan-06

Jan-09

-25 Jan-00

Jan-12

Jan-03

Jan-06

Jan-09

Jan-12

-20 Jan-00

Jan-03

Jan-06

Jan-09

Jan-12

Source: J.P. Morgan

Exhibit 7: Basis between on and off-the-run 10yr tsy bonds since 2011 15

Exhibit 8: Basis between on and off-the-run 5yr Exhibit 9: Basis between on and off-the-run tsy bonds since 2011 30yr tsy bonds since 2011 8

10y Basis 10

5y Basis

30y Basis

2 5

-2 0 Jan-11

Jan-12

Jan-13

Jan-14

-4 Jan-11

Jan-12

Jan-13

Jan-14

-4 Jan-11

Jan-12

Jan-13

Jan-14

Source: J.P. Morgan

We prefer the I25 curve because it is based on on-the-run bonds and is more stable over time. The I111 curve can develop bumps that lead to kinks in the corporate bond G-spread curve. Furthermore, rates hedging is often done with onthe-run Treasuries only, so an on-the-run based Treasury curve looks more appropriate. This is particularly true below 10yrs. The argument for using I111 is stronger for off the run long end bonds such as 20yr bonds, however, as the difference between the two curves is most pronounced around this part of the curve usually, and holders of 20yr corporate bonds may choose to hedge with 20yr Treasuries. Still, we believe that I25 is the simpler and more stable choice.

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

North America Credit Research 07 March 2014

Feature

iBoxx Loan TRS trading gaining traction as a tactical long and short product on the asset class TRS in iBoxx Liquid Leveraged Loan index started trading a couple of weeks ago and activity has been significant for a new product. We look at some performance comparisons. For bonds, HG and HY iBoxx TRS have been trading for some time and have been regularly used by market participants to express macro long or short views on the market, especially in HY. iBoxx Loan TRS is based on the same construction, but follows the returns of a loan index (see link to the iBoxx TRS Handbook and see link to an overview of iBoxx TRS). However, the loan TRS is singular, due to the absence of a liquid LCDX market. This positions the iBoxx Loan TRS as a predominant hedging product and tactical long/short instrument for the loan market. The limited history we have for the product indicates that the index has been trading close to its underlying index. The loan TRS began trading with a premium to its NAV as the long demand pushed the index lower, however it has normalized since then and now trades close to its NAV. This is in contrast to the HY TRS premium which reached almost 1% this week and still trades at a significant premium. Exhibit 1: Loan and HY TRS premiums have moved in opposite directions and could present attractive relative value trades 1.0%

LN TRS premium/discount to NAV (%)

0.8%

HY TRS premium/discount to NAV (%)

0.6% 0.4% 0.2% 0.0% -0.2% 1-Jan

8-Jan

15-Jan

22-Jan

29-Jan

5-Feb

12-Feb

19-Feb

26-Feb

5-Mar

Source: J.P. Morgan

The iBoxx Liquid Leveraged Loan index also closely tracks the underlying market benchmark. Exhibit 3 shows the high correlation between the iBoxx Liquid Leveraged Loan index and the JPMorgan Liquid Loan index. Since the Loan TRS is tied to this iBoxx index, the Loan TRS is expected to track the benchmark index closely as well. The premium/discount on the TRS makes the other side of the trade more attractive, making it difficult to sustain long periods of deviation from its NAV. Finally, the TRS level converges to the iBoxx NAV as it approaches expiry, as the TRS is at NAV at expiry.

North America Credit Research 07 March 2014

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

Exhibit 2: iBoxx Loan index follows the benchmark index very closely Exhibit 3: The correlation is near 100% over the last six years 155

JPMorgan Liquid Loan Index

145

iBoxx Liquid Leveraged Loan Index

155

135

145

125

135

115

125

105

115

105

65 Jan-08

y = 1.1188x - 7.1053 RÂ˛ = 0.9977

iBoxx Liquid Leveraged Loan Index

Jan-09

Jan-10

Jan-11

Jan-12

Jan-13

Jan-14

JPMorgan Liquid Loan Index

65 65

105

115

125

135

145

Source: J.P. Morgan

North America Credit Research 07 March 2014

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

Trade Recommendation

Cheap hedge with attractive time value: CDX.IG 1x2 September put spread We recommend buying one CDX.IG September 60bp put option and selling two CDX.IG September 75bp put options, receiving 5c per $100 of notional upfront. CDX.IG has rallied recently and trades close to its multi-year tights. Softer US payroll data along with concerns on Ukraine and fears of a slowdown in China warrants some kind of hedging. We like this hedge because it pays $5k upfront for $10mm notional on the 60bp put, offers an attractive time value profile if spreads are unchanged and an attractive profile in case of a mild selloff. These kinds of hedges have performed well in the past as we discussed in our Hedging with CDX Options piece. Exhibit 1: Trade Recommendation: Buy a 60bp September CDX.IG put and sell a 75bp put option sized 1:2

CDX.IG21 5y CDX.IG21 5y

Strike 60bp 75bp

Maturity 17-Sep-13 17-Sep-13

Buy/Sell Buy Puts Sell Puts

Notionals $10,000,000 $20,000,000

Price (cents) 62 33.5 Total

$ Premium -$62K +$67K +$5K

Index +10bp +$37K -$54K -$16K

Index -10bp -$30K +$37K +$7K

Vol +5% +$3K -$9K -$6K

Vol -5% -$3K +$8K +$5K

Skew +5% $0K -$9K -$9K

Skew -5% $0K +$8K +$8K

3m Time Value -$20K +$35K +$15K

Source: J.P. Morgan

Exhibit 2: The strategy loses money only if the index trades wider than 91bp at the option expiry 0.75

75bp

0.50

91bp

67c

0.25 0.00 6-Mar-14 9-May-14 14-Jul-14 17-Sep-14

-0.25 -0.50 -0.75 50

60bp

100

Source: J.P. Morgan

The trade is bearish in nature and makes money if the index trades below 91bp at expiry which means the breakeven is 30bp away from the current level. The maximum payoff is 67c if the index trades at 75bp at option expiry in September. The index has traded within this range since early 2013, including during the MayJune selloff (on a risk and roll adjusted basis). Coincidentally, the cushion offered by this trade is equal to the spread widening observed during the Treasury selloff â&#x20AC;&#x201C; From 62bp on 8th May to 92bp on 24th June (risk and roll adjusted levels). A selloff similar to this is probably the worst case scenario for current Emerging Market concerns. Furthermore, since Series 21 will no longer be the hedging instrument of choice post roll on March 20, this trade will not be as adversely impacted in the event of a large selloff. However, the trade still faces MtM risk from spread, volatility and skew moves, which we discuss below.

North America Credit Research 07 March 2014

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

Exhibit 3: The index has not traded wider than 92bp since January 2013 100

91bp

90 CDX.IG Risk 'n Roll

80 70 60 50 Dec-12

Feb-13

Apr-13

Jun-13

Aug-13

Oct-13

Dec-13

Feb-14

Source: J.P. Morgan

Finally, we believe that it might be attractive to exit the trade before expiry, depending on what happens. For instance, if CDX.IG trades at 75bp by July, we think one should exit and take profits. The risk to this trade is that spreads get wider very quickly and the time value is insufficient to compensate the PnL due to widening in the index. Also note that this trade is a hedge only up to 91bp and the investors are long risk beyond that point. Implied volatility for both CDX.IG and HY has declined by over 9% as markets rebounded post the recent selloff end January and is currently at 42.5% for both indices. Implied volatility spiked to 45% on Monday on Ukraine concerns before declining thereafter. Implied volatility skew, however, has remained high as tail hedges remain bid due to tail risk concerns. This makes the trade more attractive and is the reason for the trade paying 5c upfront. In Exhibit 1 we show the trade sensitivities to sudden changes in spread, volatility and skew. The trade we propose takes advantage of this situation and makes money if volatility declines and if skew flattens. The trade also makes money if spreads tighten. However, these scenarios measure sensitivities to sudden changes in spread volatility and skew as they are today. What these sensitivities mask is the impact of time passing by and how that impacts the PnL of the trade. Another reason why we like this trade is the time value profile which we discuss in the next section. Exhibit 4: Implied volatility has declined sharply since the recent selloff CDX.IG Implied Vol, 3m

63%

CDX.HY Implied Vol, 3m

58%

Exhibit 5: Implied volatility skew continues to be at elevated levels leading to more expensive Out of the Money options and hence making it attractive to sell these options 15%

53%

13%

48%

11%

43%

HY Skew

38% 33% Jan-13 Mar-13 May-13

IG Skew

7% Jul-13

Sep-13 Nov-13 Jan-14 Mar-14

5% Jan-13 Mar-13 May-13

Jul-13

Sep-13 Nov-13 Jan-14 Mar-14

Source: J.P. Morgan.

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

North America Credit Research 07 March 2014

Exhibit 2 shows the payoff profile for the trade at expiry (blue line) and at different points in time (black and grey lines). At expiry, the trade makes money if the index trades tighter than 91bp whereas it loses money only if the index trades wider than 91bp at the September expiry. This payoff profile is particularly attractive as a hedge because it does not lose money if the index rallies but due to its convexity; it makes a decent amount of money in a selloff. Apart from the expiry payoff profile, the time value profile for the trade is also attractive. The dashed grey line shows the payoff profile as of today and also reinforces the spread sensitivity shown in Exhibit 1. The time value of the trade is shown by how the payoff profile moves from the dashed grey line today to the solid grey line till May and into the black line by mid July. The reason why time value for this trade is attractive is that if the index remains in a tight range or continues to rally, the investors will have the option to exit the trade before expiry with a profit. This can be seen in Exhibit 2 as both the grey and black lines are in the money for the index spread tighter than 80bp.

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

North America Credit Research 07 March 2014

Trade Tracker  Our Trade Tracker highlights all the trades since the inception that have been introduced and/or closed in one of our publications, including but not limited to CMOS. Note that the performance of these trades reflects bid/ask spreads but is only indicative. We track the history of all of these trades in CMOS, even if no new trades are introduced or closed that week.  We recommend buying one CDX.IG September 60bp put option and selling two CDX.IG September 75bp put options.  Since our last publication, our Trade Tracker is up by $23,207. Over the last twelve months, performance is up by $1,914,612 (+19% ROI / +145% IRR). Exhibit 1: Open trades: summary and mark-to-market Entry Trade Description VZ High-Price vs Low -Price

Date

Trade Leg B/S1 Not'l2 Description

6-Jun-13 B 6-Jun-13 S

RIG High-Price v s Low -Price

6-Jun-13 B 6-Jun-13 S

Buy CDX.HY protection against CDX.IG

SLB 5y CDS v s 7y bond flattener

2 VZ 1.1 11/01/2017 1.773 RIG 6 03/15/2018 2 RIG 2.5 10/15/2017

P&L

Current

Absolute

Change

13326

12824

23,585

(1,565)

9863

9892

(22,424)

5,488

1,160

3,923 (11,259)

11383

11205

48,845

10094

10143

(47,598)

9,414

1,247

(1,846)

4-Sep-13 S

10 Buy CDX.HY S20 5y protection

10413

10910

(750,528)

(40,972)

4-Sep-13 B

48 Sell CDX.IG S20 5y protection

10078

10192

790,173

48,454

22-Jan-14 B 22-Jan-14 B 22-Jan-14 B

GS 5y CDS v s 7y bond flattener

1.48 VZ 8.75 11/01/2018

Spreads/Prices Entry

22-Jan-14 B 22-Jan-14 B 22-Jan-14 B

1 SLB 4.2 21 0.943 Sw ap rate to bond maturity date 1.16 SLB 3/20/19 CDS 1 GS 5.25 21 0.917 Sw ap rate to bond maturity date 1.23 GS 3/20/19 CDS

39,646

7,482

10470

10589

16,813

12,640

-129

(14,813)

1,611

-334

-300

2,586

(226)

4,586

14,026

10925

11078

21,394

(4,955)

-135

(15,076)

1,679

-46

-38

(463)

(227)

5,855

(3,503)

Long risk CDX.IG S9 10y 3-7 tranche v s short risk CDX.HY S19 5y

29-Jan-14 S

5 CDX IG S9 10y 3-7 Tranche

-400

-600

124,306

26,736

15-25 tranche

29-Jan-14 B

5 CDX HY S19 5y 15-25 Tranche

-750

-900

(99,306)

(23,611)

Open Total

25,000

3,125

77,494

23,207

Closed Total

1,837,118

Portfolio Total

1,914,612

Source: J.P. Morgan. Note: Trade levels as of day before publication date. 1 B/S - Buying or Selling protection for CDS trading in upfront terms and for its coupon; the opposite if the CDS is trading in Price terms; if the instrument is not a CDS and is based on price then B and S refer to buying and selling the instrument. 2 Not'l - this is in millions. 3 Change - this is the change since we last published the Trade Tracker.

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

North America Credit Research 07 March 2014

Exhibit 2: Closed trades: summary and mark-to-market Entry Trade Description

Date

Exit Date P&L description

Trades closed prior to 5-Mar-13

Trade

P&L

ROI

IRR

2,466,259

Long HY call option v s short HY put option

20-Feb-13 11-Mar-13 Taking profits on trade

296,000

30%

14461%

SWY 17 / 16 High-Price vs Low -Price

20-Feb-13 19-Mar-13 Taking profits on trade

34,998

17%

785%

SWY negativ e CDS-bond basis package

24-Apr-13

6-Jun-13 Taking profits on trade

11,778

12%

157%

SPG 19 / 18 High-Price v s Low -Price

20-Feb-13

6-Jun-13 Taking profits on trade

21,968

13%

50%

CA negative CDS-bond basis package

24-Apr-13

6-Jun-13 Taking profits on trade

22,007

22%

441%

KR 17 / 17 High-Price vs Low -Price

20-Feb-13

6-Jun-13 Taking profits on trade

22,127

13%

51%

Long Sep 13 TRS v s short CDX.IG and 5y Tsy

10-Apr-13

6-Jun-13 Taking profits on trade

71,015

28%

396%

D High-Price vs Low -Price

6-Jun-13

10-Jul-13 Taking profits on trade

19,300

19%

565%

HAL High-Price v s Low -Price

6-Jun-13

24-Jul-13 Taking profits on trade

25,722

26%

470%

C High-Price vs Low -Price

6-Jun-13

24-Jul-13 Taking profits on trade

35,838

36%

927%

Sell HY August Strangle

19-Jun-13

24-Jul-13 Taking profits on trade

111,000

15%

322%

CDX.IG S9 7-10% tranche 7s10s flattener

17-Apr-13

24-Jul-13 Taking profits on trade

145,833

29%

159%

Buy CDX.HY protection against iTrax x Xov er

17-Jul-13

24-Jul-13 Taking profits on trade

264,943

88% 21538185715877300%

Long CDX IG S20 1x2 September put spread

24-Apr-13

BAC High-Price vs Low -Price TITIM High-Price v s Low -Price Buy CDX.IG Nov ember 1x 2 put spread Sell HY December Strangle

7-Aug-13 Taking profits on trade

43,500

15%

60%

6-Jun-13 11-Sep-13 Taking profits on trade

24,338

24%

127%

6-Jun-13 11-Sep-13 Taking profits on trade

44,344

44%

298%

(4,100)

-1%

-8%

110,000

16%

98% 16%

23-Sep-13 23-Oct-13 Did not perform as expected. Ex iting trade w ith a loss 6-Aug-13 23-Oct-13 Taking profits on trade

Long risk CDX.HY S15 5y 15-25 tranche vs Short risk CDX.HY S15 5y index 13-Mar-13 13-Nov -13 Taking profits on trade

79,906

11%

Long risk CDX.HY S21 5y 15-25 tranche vs Short risk CDX.HY S21 5y index 17-Oct-13

8-Jan-14 Taking profits on trade

106,250

14%

79%

CDX.HY February Risk Rev ersal

8-Jan-14 Taking profits on trade

264,000

26%

280%

5-Nov -13

Sell IG January put option and buy March put

28-Oct-13 27-Jan-14 Did not perform as expected. Ex iting the trade about flat

5,500

CPB 5y CDS v s 7y bond flattener

22-Jan-14 27-Jan-14 Taking profits on trade

25,326

25%

1435363538%

DDR negativ e CDS-bond basis package

24-Apr-13 29-Jan-14 Taking profits on trade

6,436

CAH negativ e CDS-bond basis package

24-Apr-13 29-Jan-14 Taking profits on trade

9,396

12%

VZ 5y CDS v s 7y bond flattener

22-Jan-14 29-Jan-14 Taking profits on trade

39,692

40%

3712820760%

1,837,118

19%

145%

Total

Source: J.P. Morgan.

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

North America Credit Research 07 March 2014

High Grade Analytics

Sector recommendations There were no changes to our sector recommendations this week. Exhibit 1: JULI ex EM sector recommendations Sector

Analyst

Large US Banks - Sen HC Diversified Media Utilities HoldCos Life Insurance UK Banks REITs Metals/Mining Large US Banks - Sub OC Business/ConsServices Tobacco Airlines/EETCs Paper/Packaging Japanese Banks Pipelines/Midstream P&C Insurance Cable/Satellite Energy Large US Banks - Sub HC Core European Banks Finance Companies Food/Drug Retail Regional US Banks Utilities Power Gencos Automotives Domestic Telecoms Yankee Telecoms Canadian Banks Freight Consumer Products Railroads Aerospace/Defense Healthcare/HMOs Australia/NZ Banks Manufacturing Chemicals Non-Food Retail Utilities OpCos Food/Beverages Technology Pharmas/Medical Products Portfolio JULI ex-EM

Kabir Caprihan Michael Pace Susan Voorhees Arun Kumar Kabir Caprihan Mark Streeter Brian Turner Kabir Caprihan Virginia Chambless Virginia Chambless Mark Streeter Tarek Hamid Kabir Caprihan Svetlana Goldenberg Arun Kumar Mike Pace Svetlana Goldenberg Kabir Caprihan Kabir Caprihan Kabir Caprihan Virginia Chambless Kabir Caprihan Susan Voorhees Eric Selle Brian Turner Brian Turner Kabir Caprihan Mark Streeter Virginia Chambless Mark Streeter Virginia Chambless Brett Gibson Kabir Caprihan Virginia Chambless Brian Turner Virginia Chambless Susan Voorhees Virginia Chambless Brian Turner Brett Gibson

Analyst Recommendation

Date of Rec

Index Weight

Overweight Overweight Overweight Overweight Overweight Overweight Overweight Overweight Overweight Overweight Overweight Overweight Overweight Neutral Neutral Neutral Neutral Neutral Neutral Neutral Neutral Neutral Neutral Neutral Neutral Underweight Underweight Underweight Underweight Underweight Underweight Underweight Underweight Underweight Underweight Underweight Underweight Underweight Underweight Underweight

3/29/13 4/14/11 1/25/12 1/23/13 1/23/13 10/29/13 11/19/13 3/29/13 6/16/11 8/8/12 2/8/12 2/8/12 1/7/14 11/19/13 10/15/13 7/24/13 1/28/13 3/29/13 1/25/12 6/8/10 10/12/11 1/18/12 5/15/12 9/11/13 11/19/13 7/24/13 1/23/13 8/8/12 8/8/12 8/8/12 8/8/12 5/8/13 6/19/13 8/8/12 1/23/13 8/8/12 10/10/12 8/8/12 2/8/12 10/12/11

9.2% 2.3% 2.5% 2.2% 2.0% 2.2% 2.5% 0.4% 0.8% 1.2% 0.1% 0.6% 0.8% 3.1% 1.9% 2.6% 7.9% 1.7% 3.4% 4.2% 1.3% 3.0% 0.2% 2.4% 4.1% 1.8% 1.2% 0.6% 1.0% 1.1% 1.6% 1.8% 1.3% 2.7% 1.8% 2.7% 4.2% 4.6% 4.8% 6.0% 100%

Portfolio Difference Weight 12.2% 3.8% 3.5% 3.2% 3.0% 3.2% 3.5% 0.9% 1.3% 1.7% 0.6% 1.1% 1.3% 3.1% 1.9% 2.6% 7.9% 1.7% 3.4% 4.2% 1.3% 3.0% 0.2% 2.4% 4.1% 1.3% 0.7% 0.1% 0.5% 0.6% 1.1% 0.8% 0.3% 1.7% 0.8% 1.7% 3.2% 3.6% 3.8% 4.5% 100%

+3.0% +1.5% +1.0% +1.0% +1.0% +1.0% +1.0% +0.5% +0.5% +0.5% +0.5% +0.5% +0.5% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% -0.5% -0.5% -0.5% -0.5% -0.5% -0.5% -1.0% -1.0% -1.0% -1.0% -1.0% -1.0% -1.0% -1.0% -1.5% 0.0%

Spread Current 106 146 135 140 150 125 185 100 137 135 140 156 88 160 132 148 121 176 128 113 128 92 196 102 154 161 44 106 90 113 99 119 90 90 122 101 97 101 96 93 123 121

Spread Spread change vs JULI Change 30d Since 30d initiated -13 -4 -17 -4 5 -1 -6 3 -4 -11 -2 -25 -6 3 -26 -13 -5 -6 -19 -11 -9 -8 0 -11 -4 4 21 -2 7 18 -29 -21 -101 -6 3 -9 -8 1 -18 -5 3 3 -10 -1 -1 -50 -41 -33 -9 0 2 -18 -10 -20 -14 -5 -102 -10 -1 -20 -2 6 75 -9 0 -50 -16 -7 48 -8 0 28 -7 2 -7 -7 2 -34 -5 4 12 -5 3 30 -4 5 42 -2 7 23 -4 4 19 -3 6 5 -3 5 7 -4 4 44 -8 1 14 -4 4 37 -2 7 12 -4 5 30 -11 -2 46 -3 5 86 0

Note: Yankee Telecoms: The ratings here cover USD bonds only. Our US Telecom analyst Brian Turner covers only USD bonds from these issuers, while Andrew Webb in our London group covers the credit as a whole. On any company the rating on USD bonds from Brian Turner may differ from the rating assigned by Andrew Webb. Source: J.P. Morgan

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

North America Credit Research 07 March 2014

High Grade Analytics

New bond issuance Exhibit 1: High Grade corporate bond issuance ($ mn)

Unguaranteed Financials Non-Financials

Gross Issuance 2014 F 900,000 315,000 585,000

2014 YTD 192,055 84,175 107,880

2013 918,506 334,862 583,645

Redemptions 2014 F 504,382 239,273 265,109

2014 YTD 137,549 66,481 71,068

2013 456,460 210,754 245,705

Domestic Yankee Memo: Yankee EM

560,000 340,000 100,000

119,225 72,830 9,680

587,015 331,491 83,630

320,114 184,268 30,520

86,259 51,290 4,720

301,902 154,557 13,824

Fixed Floating

760,000 140,000

162,605 29,450

782,036 136,470

390,669 113,714

1,200 0

380,216 76,243

Financials Domestic Yankee Memo: Yankee EM

315,000 160,000 155,000 25,000

84,175 46,625 37,550 3,800

334,862 178,932 155,930 17,780

239,273 140,775 98,499 10,140

66,481 34,776 31,705 1,220

210,754 121,037 89,717 3,190

Non-Financials Domestic Yankee Memo: Yankee EM

585,000 400,000 185,000 75,000

107,880 72,600 35,280 5,880

583,645 408,083 175,561 65,850

265,109 179,339 85,769 20,380

71,068 51,484 19,584 3,500

245,705 180,865 64,840 10,634

12,956

73,461

23,181

2,331

25,647

2014 YTD 50,526 20,071 30,455 23,950 9,580 6,375 3,000 4,885 2,750 9,559 3,450 16,350 9,250 2,300 1,865 2,025 5,100 3,082 7,452

2013 148,876 66,009 82,867 38,872 35,958 25,920 19,486 25,225 9,700 28,735 10,200 41,615 18,039 7,950 7,583 19,685 22,635 6,291 28,562

Memo: Eurodollar Issuance

Note: Issuance data includes MTNs, 144A, and Yankees with minimum maturity of 13 months. 2014 Forecasts last updated 11/20/2013. Source: Thomson Financial, Bloomberg, and J.P. Morgan. Data as of Wednesday.

Exhibit 2: Unguaranteed HG corporate bond issuance by sector ($ mn)

Banks US banks Yankee Banks Memo: European Banks Finance Companies Insurance Basic Industries Capital Goods

Diversified Energy Retail Consumer Healthcare/Pharma Media/Entertainment Property/Real Estate Technology Telecoms Transportation Utilities

Gross Issuance 2014 F 258,000 110,000 148,000 55,000 26,000 31,000 50,000 24,000 10,000 100,000 20,000 85,000 62,000 21,000 29,000 58,000 52,000 19,000 55,000

2014 YTD 75,425 40,175 35,250 16,700 5,050 3,700 3,450 4,550 1,330 15,000 900 20,050 11,750 3,700 5,500 17,600 5,700 5,850 12,500

2013 269,234 123,359 145,875 54,925 31,033 34,595 50,650 19,200 8,100 105,080 29,747 91,500 54,231 22,100 18,250 47,250 71,335 16,180 50,022

Redemptions 2014 F 178,918 87,769 91,149 54,074 35,551 24,804 21,375 18,220 3,900 35,717 9,646 46,178 31,300 11,850 11,497 21,450 21,355 7,374 25,248

North America Credit Research 07 March 2014

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

Exhibit 4: Net issuance ($ bn)

Exhibit 3: Gross issuance ($ bn) 100

$ bn

Fixed

Floating

$ bn

Fixed

Floating

40 0

20 0 Jan-11

-20

Jul-11

Jan-12

Jul-12

Jan-13

Jul-13

Jan-14

-40 Jan-11

Jul-11

Jan-12

Jul-12

Jan-13

Jul-13

Jan-14

Note: Issuance data as of Wednesday Source: Thomson Financial, Bloomberg, and J.P. Morgan

Exhibit 5: List of new issues over the past two weeks Issue Date 3/4/2014 3/4/2014 3/4/2014 3/4/2014 3/4/2014 3/05/2014 3/5/2014 3/5/2014 3/5/2014 3/5/2014 3/5/2014 3/5/2014 3/5/2014 3/5/2014 3/5/2014 3/5/2014 3/5/2014 3/5/2014 3/5/2014 3/5/2014 3/5/2014 3/5/2014 3/5/2014 3/5/2014 3/5/2014 3/5/2014 3/5/2014 3/5/2014 3/5/2014 3/5/2014

Ticker MUFG MUFG MUFG MUFG MUFG CG HPT PPL PPL TXN TXN XLNX XLNX UNS F F HSBC HSBC CBAAU CBAAU CBAAU T T T JPM MCK MCK MCK MCK MCK

Issuer BK TOKYO-MITSUBISHI UFJ BK TOKYO-MITSUBISHI UFJ BK TOKYO-MITSUBISHI UFJ BK TOKYO-MITSUBISHI UFJ BK TOKYO-MITSUBISHI UFJ CARLYLE HOLDINGS II FIN (TAP) HOSPITALITY PROP TRUST PPL CAPITAL FUNDING INC PPL CAPITAL FUNDING INC TEXAS INSTRUMENTS INC TEXAS INSTRUMENTS INC XILINX INC XILINX INC TUCSON ELECTRIC POWER CO FORD MOTOR CREDIT CO LLC FORD MOTOR CREDIT CO LLC HSBC HOLDINGS PLC HSBC HOLDINGS PLC COMMONWEALTH BANK AUST COMMONWEALTH BK AUSTR NY COMMONWEALTH BK AUSTR NY AT&T INC AT&T INC AT&T INC JPMORGAN CHASE & CO MCKESSON CORP MCKESSON CORP MCKESSON CORP MCKESSON CORP MCKESSON CORP

Moody Aa3 Aa3 Aa3 Aa3 Aa3 NR Baa2e Baa3e Baa3e A1e A1e A3 A3 Baa1e Baa3e Baa3e A3e A3e Aa2e Aa2e Aa2e A3e A3e A3e Ba1 Baa2 Baa2 Baa2 Baa2 Baa2

S&P A+ A+ A+ A+ A+ ABBB BBBBBBA+ A+ AABBB BBBBBBAAAAAAAAAAABBB AAAAA-

Principal Amt 1,000 850 1,000 750 400 200 350 350 400 250 250 500 500 150 1,100 650 2,000 1,500 1,000 1,250 1,250 400 1,100 1,000 1,000 400 700 1,100 1,100 800

Coupon 1.200 % FRN 2.300 % 3.750 % 4.700 % 5.625 % 4.650 % 3.950 % 5.000 % 0.875 % 2.750 % 2.125 % 3.000 % 5.000 % 2.375 % 1.064 % 4.250 % 5.250 % FRN 1.125 % 2.250 % FRN 2.300 % 3.900 % 6.125 % FRN 1.292 % 2.284 % 3.796 % 4.883 %

Maturity 3/10/2017 3/10/2017 3/10/2019 3/10/2024 3/10/2044 3/30/2043 3/15/2024 3/15/2024 3/15/2044 3/12/2017 3/12/2021 3/15/2019 3/15/2021 3/15/2044 3/12/2019 3/12/2019 3/14/2024 3/14/2044 3/13/2017 3/13/2017 3/13/2019 3/11/2019 3/11/2019 3/11/2024 CAPITAL 9/10/2015 3/10/2017 3/15/2019 3/15/2024 3/15/2044

Industry BANK BANK BANK BANK BANK FINANCE REIT UTILITY UTILITY TECHNOLOGY TECHNOLOGY TECHNOLOGY TECHNOLOGY UTILITY AUTO AUTO YANKEE BANK YANKEE BANK YANKEE BANK YANKEE BANK YANKEE BANK TELECOM TELECOM TELECOM BANK HEALTHCARE HEALTHCARE HEALTHCARE HEALTHCARE HEALTHCARE

Spread1 +55 L+41 +80 +108 +108 +170 +200 +130 +138 +25 +70 +70 +95 +140 +93 L+83 +165 +170 +38 +50 +73 L+67 +77 +125 NA L+40 +60 +75 +110 +125

Source: Thomson Financial, Bloomberg, and J.P. Morgan, as of 5-Mar-14

North America Credit Research 07 March 2014

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

JULI sector statistics and performance Size JULI JULI EM JULI ex EM AAA AA A BBB 3-yr 5-yr 7-yr 10-yr 30-yr Financials Non Financials US Banks Yankee Banks Finance Companies Life Insurance P&C Insurance Bldg Mat / Cstrction Chemicals Metals/Mining Paper/Packaging Capital Goods Food/Drug Retail Non-Food Retail Food/Beverages Tobacco Consumer Products Leisure Services Automotive Healthcare/HMOS Pharma Cable/Satellite Div Media REITs Technology Domestic Telecoms Yankee Telecoms Transportation Energy Utilities

Num 5,101 651 4,450 47 353 1,904 2,797 1,250 1,008 643 944 1,256 1,275 3,826 384 477 157 131 125 10 118 144 42 228 81 124 226 49 64 23 51 110 108 247 83 127 162 195 96 92 134 465 557

Source: J.P. Morgan, as of 5-Mar-14

Size 4,360 499 3,860 39 393 1,671 2,256 1,045 930 579 753 1,052 1,366 2,993 556 477 172 85 75 7 77 128 27 161 52 106 189 46 37 10 34 98 70 236 98 94 85 188 156 99 80 427 296

Average I- Spread(Treasury) bp (%) 11.5% 88.5% 0.9% 9.0% 38.3% 51.7% 24.0% 21.3% 13.3% 17.3% 24.1% 31.3% 68.7% 12.8% 10.9% 4.0% 2.0% 1.7% 0.2% 1.8% 2.9% 0.6% 3.7% 1.2% 2.4% 4.3% 1.1% 0.9% 0.2% 0.8% 2.3% 1.6% 5.4% 2.3% 2.2% 2.0% 4.3% 3.6% 2.3% 1.8% 9.8% 6.8%

Yield 3.96 4.63 3.89 3.59 3.30 3.71 4.25 1.21 2.21 3.30 3.89 4.92 3.60 4.08 3.48 3.41 3.63 4.28 4.07 3.33 4.02 4.81 4.24 3.65 4.08 3.99 3.69 4.17 3.52 3.54 4.05 2.94 3.98 3.76 4.40 4.39 3.45 3.48 4.47 4.35 4.12 4.23 4.17

Crnt 114 214 101 55 62 85 146 67 91 128 141 155 112 115 94 136 94 117 122 118 126 178 150 82 117 92 91 111 78 133 130 83 101 79 128 130 115 81 129 144 114 138 114

7d 0 0 1 1 2 0 0 2 2 -3 -2 -1 1 0 0 4 1 -3 1 -4 3 -2 -2 1 1 0 0 0 0 -1 -1 3 3 2 1 0 1 0 2 1 -3 0 -2

30d -9 -20 -8 -3 -4 -7 -12 -7 -8 -13 -13 -10 -10 -9 -11 -10 -8 -12 -8 -15 -6 -21 -13 -6 -3 -5 -5 -5 -6 -12 -7 -8 -4 -3 -42 -7 -10 -10 -7 -15 -8 -10 -6

90d -15 -11 -15 -12 -9 -12 -19 -12 -15 -23 -19 -15 -13 -16 -14 -11 -10 -18 -15 -10 -8 -25 -23 -12 -17 -12 -11 -16 -11 -31 -27 -11 -13 -11 -52 -17 -23 -19 -18 -20 -19 -11 -15

ytd -3 2 -3 -6 0 -2 -4 -6 -4 -5 -3 -1 -1 -4 1 -1 0 -10 -4 -19 1 -2 -11 -2 -7 -1 -3 -6 -5 -19 -18 0 -2 -1 -29 -3 -15 -4 7 -5 -9 0 -6

Portfolio Spread(Treasury) bp Crnt 133 236 121 69 81 102 165 70 94 133 142 150 133 133 118 162 114 140 134 143 141 208 163 94 134 104 107 135 90 146 143 102 119 95 148 149 131 97 154 168 124 155 119

7d -1 -3 0 0 0 -1 0 1 1 -2 -2 -1 0 -1 0 1 0 -3 -1 -5 1 -3 -2 1 -1 -1 -1 1 -3 -2 -2 -1 2 0 -2 0 3 -1 1 -1 0 -1 -2

30d -10 -23 -8 -3 -5 -7 -13 -9 -9 -14 -12 -9 -12 -9 -12 -14 -9 -11 -10 -11 -8 -24 -10 -5 -4 -5 -5 -3 -5 -12 -6 -11 -2 -3 -50 -6 -8 -10 -7 -15 -5 -10 -5

90d -16 -10 -16 -12 -10 -12 -20 -15 -16 -24 -20 -15 -15 -16 -15 -15 -12 -18 -16 -8 -11 -27 -25 -11 -16 -11 -12 -13 -12 -32 -26 -15 -12 -12 -61 -17 -22 -19 -19 -19 -16 -10 -14

ytd -2 4 -2 -2 2 0 -3 -8 -6 -5 -3 1 0 -3 4 -1 3 -8 -5 -16 1 -3 -9 -1 -5 3 -2 -1 -5 -19 -14 -3 0 1 -38 -3 -12 -3 10 -3 -5 2 -4

Total return (%) 7d 0.0 0.2 0.0 0.1 0.0 0.0 0.0 0.0 -0.1 0.0 0.0 0.0 0.0 0.0 -0.1 -0.1 0.0 0.1 0.0 0.2 0.0 0.2 0.1 -0.1 0.0 0.0 0.0 -0.1 0.2 0.0 0.1 0.0 -0.2 -0.1 0.0 0.0 0.1 0.0 -0.1 0.0 0.0 0.0 0.2

30d 0.7 1.5 0.6 0.3 0.3 0.5 0.9 0.3 0.4 0.8 0.9 1.2 0.7 0.7 0.6 0.7 0.6 0.9 0.7 0.6 0.7 1.9 0.8 0.3 0.4 0.4 0.3 0.4 0.4 0.7 0.5 0.5 0.2 0.2 4.2 0.5 0.8 0.6 0.6 1.1 0.4 0.8 0.5

90d 3.1 2.5 3.2 3.2 2.2 2.9 3.5 0.8 1.5 3.0 3.8 6.8 2.3 3.5 2.3 1.8 2.5 4.0 3.5 1.9 3.1 4.6 4.2 3.0 3.2 3.7 2.8 3.1 2.9 3.5 3.9 1.8 3.2 3.1 7.8 4.2 3.0 3.0 4.4 3.5 3.8 3.0 4.2

Duration change ytd 2.6 2.2 2.7 2.9 2.0 2.5 2.9 0.7 1.6 2.8 3.3 5.1 1.9 3.0 1.7 1.6 2.1 3.6 3.2 2.8 2.9 3.3 3.6 2.8 2.9 2.9 2.6 2.6 3.0 3.4 3.5 1.6 2.8 2.6 6.4 3.5 3.1 2.5 2.4 2.8 3.4 2.6 3.8

Dur 7.0 5.7 7.2 8.4 6.4 7.3 6.9 2.2 3.9 5.5 7.2 13.2 5.5 7.7 5.6 4.3 6.2 8.0 7.5 4.6 7.3 7.7 7.1 7.6 7.7 8.7 7.1 8.2 7.1 5.5 7.1 4.4 7.8 8.0 8.5 8.6 5.6 6.7 8.6 7.1 8.5 7.4 9.0

7d 0.1 0.1 0.1 -0.1 0.2 0.1 0.0 0.1 0.0 0.0 0.0 0.0 0.1 0.0 0.0 0.1 0.0 0.0 0.1 0.0 0.0 0.0 0.0 0.0 0.1 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.3 0.2 -0.1 0.1 0.0 0.0 0.1 0.1 0.0 0.0

30d

0.0 0.1 0.0 -0.2 0.2 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 -0.1 0.1 0.0 0.0 0.1 -0.1 0.0 0.0 0.0 0.0 0.0 -0.1 0.0 -0.1 0.0 -0.1 0.0 0.0 0.0 0.2 0.4 -0.1 0.0 0.0 0.0 0.1 0.0 0.0 0.0

90d 0.2 0.0 0.2 0.3 0.3 0.2 0.1 0.0 -0.1 0.0 0.0 0.3 0.2 0.2 0.2 0.2 0.1 0.2 0.2 -0.3 0.1 0.2 -0.1 0.0 0.0 0.1 0.2 -0.2 0.2 -0.1 0.0 0.1 0.1 0.3 0.6 0.2 0.0 0.1 0.0 0.3 0.4 0.0 0.1

ytd 0.2 0.0 0.2 0.4 0.3 0.3 0.2 0.1 0.0 0.0 0.0 0.3 0.2 0.2 0.2 0.2 0.2 0.2 0.2 -0.3 0.2 0.2 0.0 0.1 0.1 0.1 0.3 -0.2 0.2 -0.1 0.1 0.1 0.2 0.4 0.5 0.2 0.1 0.1 0.0 0.3 0.4 0.1 0.2

North America Credit Research 07 March 2014

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

HG CDS-bond basis across buckets Avg

Avg

Avg PECs1 1m Ago

Avg Interp. CDS2

Avg CDS-bond Basis3

Basis as %

1m Ago

CDS Spread

# Bonds

Rating

Tenor

Current

1w Ago

Current

1w Ago

Current

1w Ago

HG Portfolio

1233

4.22

-11

-10

-9

-17%

Avg Basis by Industry Basic Materials Consumers/Retails Energy Financials Banks Diversified Financials Insurance REITS Healthcare and Pharma Media Technology Telecom Utilities

66 98 76 248 133 40 75 67 122 85 58 42 39

A A A A A A A A A BBB A A A

4.35 4.52 4.61 3.88 3.83 3.71 4.26 3.75 4.34 4.30 3.97 3.67 4.21

110 64 72 73 75 54 81 86 56 85 64 80 99

111 64 75 73 75 53 82 88 54 86 60 77 99

122 62 82 82 86 61 87 98 57 109 70 83 101

111 59 62 67 67 61 69 78 41 59 58 61 74

111 61 66 67 68 61 69 80 41 62 58 60 75

124 59 73 81 82 75 81 87 40 83 65 67 68

1 -5 -10 -6 -8 7 -13 -8 -15 -26 -6 -19 -25

0 -3 -10 -6 -8 8 -13 -8 -13 -24 -2 -17 -24

1 -4 -9 -1 -3 14 -7 -11 -17 -26 -4 -16 -33

1% -9% -16% -10% -12% 11% -18% -10% -38% -44% -10% -32% -34%

Avg Basis by Rating AAA AA A BBB

4 67 388 774

AAA AA A BBB

5.58 3.83 4.13 4.34

16 33 50 92

18 32 49 93

16 33 55 102

21 33 44 77

17 33 45 78

16 34 50 89

5 0 -6 -15

-1 1 -4 -14

0 1 -5 -13

24% 1% -13% -20%

Avg Basis by Tenor 18M-4Y 4Y-6Y 6Y-8Y 8Y-10.25Y

346 355 224 308

A A A A

2.66 4.93 6.67 8.01

40 67 93 108

39 66 93 110

44 73 103 117

30 52 85 100

29 53 87 102

34 62 97 110

-10 -15 -8 -8

-10 -13 -6 -8

-10 -11 -6 -7

-33% -29% -9% -8%

1. Par Equivalent CDS Spread (PECs) can be thought of as Z-spread, adjusted for the dollar price issues, day-count convention and other convention differences between the cash bond and the CDS markets. 2. Interpolated CDS is CDS spread interpolated to the bond maturity date. 3. CDS-bond basis is defined as Interpolated CDS less Par Equivalent CDS Spread. For more information on CDS-bond basis, please refer to the Credit Derivatives Handbook, published on Dec 1, 2006 (available on www.morganmarkets). Source: J.P. Morgan, as of 5-Mar-14

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

North America Credit Research 07 March 2014

Previous Featured Articles Articles CDX IG Index Roll Client Survey High Price/Low Price Revenue Analysis EM Roundup Client Survey Client Survey 2014 issuance forecasts Credit curves Single Name CDS curves CDX Tranches Credit Client Survey Comparing EM corporate bonds to EM sovereign bonds Update on SEFs and Credit Derivatives Trading Total Return Swaps CDS/CDX liquidity update Ratings Trends Credit client survey Bond ownership study SEFs Trading and Credit Derivatives CDX.HY roll Rating trends Credit client survey CDX.HY rolls Global CDX rolls Hedging with CDX options CDX.IG Roll CDX Options CDX Roll Inflows in Short duration funds Credit client survey Corporate bond market liquidity Credit Investor Survey Short Duration funds beneficiaries of outflows from long duration funds Issuance forecast revised CDX.IG Futures Investor Survey Sub under attack New HG CDS Curve Report Life Insurance Portfolio Analysis Credit Investor Survey Overview of short-term bond fund strategies High Grade Bond Coverage and Rating Report From Short Term Strategy Expensive European Bonds Credit Client Survey Duration Pension Liquidity CDS liquidity CDX.HY roll From Short Term Strategy EM vs Non-EM CDX.IG roll CDX.HY roll Credit Investor Survey CDX roll preliminary preview Corporate Credit ETF Handbook published From Short-Term Strategy Investor survey Canadian banks downgraded Sector recommendation changes Short Term Curve model Credit Investor Survey Short-term markets Credit Client Investor Survey Source: J. P. Morgan

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Articles JPMorgan US Daily Index (JUDI) 2013 HG bond issuance forecast Client survey Index total return swaps CDS and CDX liquidity update Cross-currency opportunities Credit curves CDS-Bond basis Credit Investor Survey Short duration update Trading activity update CDX.HY Series 19 Tranche Roll LCDX Series 19 Roll Spread valuation of premium bonds CDX.HY Series 19 Roll CDX.IG Series 19 tranches Global CDS Indices: Access to the primary market has enhanced returns Credit Investor Survey CDX roll preview Updated issuance forecast CFTC clearing timeline published New EM Corporate CDX Indices Sector recommendation changes CDS-Bond basis Pension fund changes and long end demand Credit Investor Survey Markit’s iBoxx TRS P&C Insurance portfolio review Comparing Straddle Breakevens across asset classes JULI Total and Excess Returns Debt Tenders Ford as a HG credit New daily highlight identifying the steepest and flattest bond curves Corporate Issuance review April and YTD JULI index review Insurance portfolio analysis Pension Funds JPM’s FRNI index Credit Investor Survey LCDX Index roll Credit Investor Survey Bond Ownership Trends Mutual Funds CDX.HY and LCDX rolls CDX.IG and CDX.HY Rolls Liquidity CDX rolls TRACE: what’s included? Sector recommendations Bank Bond Curves Relative value in Bank capital structure EUR-denominated bonds of US issuers vs matching USD bonds Mutual Fund Data in Review 2011 HG Review Make Whole Calls EM vs DM Corporate Corporate Pension Funding Insurance Companies Asset Allocations Credit Investor Survey Credit Events and Impact on Index Products Demand for HG bonds CDS market liquidity HG bond market liquidity CDX Tranches HG Bond Market Liquidity CDS-bond basis

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North America Credit Research 07 March 2014

Eric Beinstein (1-212) 834-4211 eric.beinstein@jpmorgan.com

US Economic Calendar Monday 10 Mar Philadelphia Fed President Plosser speaks in Paris (6:15am)

Tuesday 11 Mar NFIB survey (7:30am) Feb JOLTS (10:00am) Jan Wholesale trade (10:00am) Jan

Wednesday

Thursday

Friday

12 Mar

13 Mar

14 Mar

QSS (10:00am) 4Q Federal budget (2:00pm) Feb

Initial claims (8:30am) w/e Mar 8 Retail sales (8:30am) Feb Import prices (8:30am) Feb Business inventories (10:00am) Jan

PPI (8:30am) Feb Consumer sentiment (9:55am) Mar prelim

Auction 10 year note (r) $21 bn

Auction 30 year bond (r) $13 bn Announce 10 year TIPS (r) $13 bn

Auction 3 year note $30 bn

17 Mar

18 Mar

Empire State survey (8:30am) Mar TIC data (9:00am) Jan Industrial production (9:15am) Feb NAHB survey (10:00am) Mar

CPI (8:30am) Feb Housing starts (8:30am) Feb

24 Mar

25 Mar

Manufacturing PMI (8:58am) Mar flash

S&P/Case-Shiller HPI (9:00am) Jan FHFA HPI (9:00am) Jan New home sales (10:00am) Feb Consumer confidence (10:00am) Mar Richmond Fed survey (10:00am) Mar

19 Mar

20 Mar

Current account (8:30am) 4Q

Initial claims (8:30am) w/e Mar 15 Existing home sales (10:00am) Feb Philadelphia Fed survey (10:00am) Mar Leading indicators (10:00am) Feb

FOMC statement and projections (2:00pm) and press conference (2:30pm)

FOMC meeting

21 Mar

Auction 10 year TIPS (r) $13 bn Announce 2 year note $32 bn Announce 2 year FRN (r) $13 bn Announce 5 year note $35 bn Announce 7 year note $29 bn

26 Mar

27 Mar

28 Mar

Durable goods (8:30am) Feb Services PMI (8:58am) Mar flash

Initial claims (8:30am) w/e Mar 22 Real GDP (8:30am) 4Q final Pending home sales (10:00am) Feb KC Fed survey (11:00am) Mar

Personal income (8:30am) Feb Consumer sentiment (9:55am) Mar final

Auction 2 year FRN (r) $13 bn Auction 5 year note $35 bn

Auction 7 year note $29 bn

2 Apr

3 Apr

4 Apr

ADP employment (8:15am) Mar Factory orders (10:00am) Feb

Initial claims (8:30am) w/e Mar 29 International trade (8:30am) Feb Services PMI (8:58am) Mar final ISM nonmanufacturing (10:00am) Mar

Employment (8:30am) Mar

Auction 2 year note $32 bn Philadelphia Fed President Plosser speaks in New York (7:00pm)

31 Mar Dallas Fed survey (10:30am) Mar

1 Apr Manufacturing PMI (8:58am) Mar final ISM manufacturing (10:00am) Mar Construction spending (10:00am) Feb Light vehicle sales Mar

Announce 3-year note $30bn Announce 10-year note (r) $21bn Announce 30-year bond (r) $13bn