Volatility Happens Sector Webinar

Volatility Happens

AAM’s Investment Outlook Webinar Tuesday, January 24, 2017

1 Today’s Presenters:

Market Outlook Reed J. Nuttall, CFA Chief Investment Officer

Macroeconomic Review and Outlook Corporate Securities High Yield Sector Marco Bravo, CFA Elizabeth Henderson, CFA Scott A. Skowronski, CFA Senior Portfolio Manager Director of Corporate Credit Senior Portfolio Manager

Structured Products Municipal Market Convertible Market Overview Scott A. Edwards, CFA Gregory A. Bell, CFA, CPA Tim Senechalle, CFA Director of Structured Director of Municipal Products Senior Portfolio Manager Products and Municipal Bond Trader

2 Macroeconomic Review and Outlook

Marco Bravo, CFA Senior Portfolio Manager

3 U.S. Economic Outlook

2015 2016 2017 (est) Real GDP 1.9% 2.0% 2.4% Personal Consumption 2.6% 2.8% 2.5% Fixed Private Investment 2.6% -1.1% 4.1% Exports -2.2% 1.9% 2.4% Imports 2.5% 1.3% 4.0% Government Spending 2.2% 0.4% 1.2%

Note: Percentages represent change from fourth quarter to fourth quarter Source: Bureau of Economic Analysis, Bloomberg 4 Private Non-Residential Investment

4Q/Q4 (%) 15%

10%

-5%

-10%

-15%

-20%

Source: Bureau of Economic Analysis

5 NFIB Small Business Optimism

Index Level 110

105

100

Source: National Federation of Independent Businesses

6 Average Hourly Earnings

YoY % 4.00

3.50

3.00

2.50

2.00

1.50

1.00

Source: Bureau of Labor Statistics

7 10 Year Inflation Expectations

Rate (%) 2.8

2.6

2.4

2.2

1.8

1.6

1.4

1.2

Source: US Treasury, Bloomberg.

8 The Fed’s Dot Plot

Source: Federal Reserve, Bloomberg.

9 Market Outlook

Reed J. Nuttall, CFA Chief Investment Officer

10 Consumers Are Optimistic

120

110

100

80 Consumer Confidence 70

40 3/1/2009 6/1/2009 9/1/2009 3/1/2010 6/1/2010 9/1/2010 3/1/2011 6/1/2011 9/1/2011 3/1/2012 6/1/2012 9/1/2012 3/1/2013 6/1/2013 9/1/2013 3/1/2014 6/1/2014 9/1/2014 3/1/2015 6/1/2015 9/1/2015 3/1/2016 6/1/2016 9/1/2016 12/1/2008 12/1/2009 12/1/2010 12/1/2011 12/1/2012 12/1/2013 12/1/2014 12/1/2015 12/1/2016

Source: University of Michigan Consumer Sentiment Index, Bloomberg

11 Stock Market Returns Above Historical Norms

S&P 500

2500

2000

1500

1000

500

12 The Market Is Priced for Tax Cuts and Growth

S&P 500 P/E Ratio

13 Corporate Securities

Elizabeth Henderson, CFA Director of Corporate Credit

14 Corporate Sector

Credit cycle indicators have improved • Fewer banks tightening standards • 2017 indicators: Credit Managers Index remains above 50 (expansion), GS Financial Conditions Index elevated but improved year/year • Yield curve remains steep • Slight bear flattener expected in 2017

Net % of Domestic Respondents Tightening Standards - C&I Loans for Large/Medium Businesses 100 700

80 600

60 500

40 400 % 20 300 Basis Points Basis 0 200

-20 100

-40 - 8/1/2001 6/1/2002 4/1/2003 2/1/2004 8/1/2006 6/1/2007 4/1/2008 2/1/2009 8/1/2011 6/1/2012 4/1/2013 2/1/2014 8/1/2016 10/1/2000 12/1/2004 10/1/2005 12/1/2009 10/1/2010 12/1/2014 10/1/2015 % Tightening OAS

Source: AAM, Bloomberg Barclays Index, Fed Source: AAM, Bloomberg 15 Corporate Sector

OAS tighter with improving commodity prices and economic outlook due to monetary and fiscal stimulus Contributors to IG Corporate Excess Returns 2016

Insurance U.S. Corporate Investment Grade OAS Reits Broker, other 220 Banking Finance Co

200 Utilities Transportation Technology 180 Points

Energy

Basis 160

Consumer 140 Noncyclical Consumer Cyclical 120 Communications Capital Goods Basic Materials 1/31/2016 2/29/2016 3/31/2016 4/30/2016 5/31/2016 6/30/2016 7/31/2016 8/31/2016 9/30/2016 12/31/2015 10/31/2016 11/30/2016 493 basis points

Source: AAM, Bloomberg Barclays

16 Corporate Sector

Technicals supporting spreads

Source: AAM, Bloomberg

17 Corporate Sector

Prioritize risk adjusted income – Opportunities in Finance AAM comments: Finance – Industrials OAS • Interest rate sensitive sectors have outperformed 40 • Prefer domestic banks (money center), legacy 30 20 bonds 10 - • REIT spreads approaching cyclical tights and (10) bps (20) REIT fundamentals have peaked (30) (40) • Prefer well positioned P&C, brokers, and life (50) insurers (60) • Community banks remain interesting but must be selective and disciplined with pricing

Sub/Senior bank relationshps • Continue to avoid:

200% 120 110 180% 100 Fundamental concerns Relative value 160% 90 140% 80 bps European banks Regional banks (senior) 70 120% 60 Australian banks Canadian banks (senior) 100% 50 BDCs Small REITs

Sub/Senior bank OAS Sub-sr bank OAS (rhs) 18 Source: Bloomberg Barclays, AAM Corporate Sector

Prioritize risk adjusted income – Opportunities in Industrials

BBB-A Industrial Rating Basis AAM comments: 300 • BBBs offer more value but must be selective at 250 lower end of quality spectrum 200

150 • Expect commodity sectors to outperform as well

Basis Points 100 as Aerospace/Defense, Towers, Railroads 50

- • Take advantage of M&A related new issue funding (e.g., Pharma) 1/20/2006 8/20/2006 3/20/2007 5/20/2008 7/20/2009 2/20/2010 9/20/2010 4/20/2011 6/20/2012 1/20/2013 8/20/2013 3/20/2014 5/20/2015 7/20/2016 10/20/2007 12/20/2008 11/20/2011 10/20/2014 12/20/2015

• Avoid: Media (smaller networks), Cable, BBB Basis +1 Std dev -1 Std dev rated Auto/Retail, Refining, Technology, A rated Consumer Products/Food

19 High Yield Sector

Scott A. Skowronski, CFA Senior Portfolio Manager

20 High Yield Market Review: A Strong 2016 as Commodities Stabilized

US High Yield Market Data as of 12/31/2016 Total Spread Return Change Description 2016 Yield Spread 2016 Broad Market 17.5% 6.17 422 -273 BB/B Rated 14.8% 5.29 330 -223 CCC & Lower 36.0% 11.06 932 -715 Energy 37.4% 6.36 433 -970

Source: Bank of America Merrill Lynch High Yield Indices 21 High Yield Default Rates Expected to Decline in 2017 Billions ($)

Source: Goldman Sachs

22 Debt Service Remains Manageable

Source: BofA ML Global Research HY Market Stat. Sept. 30, 2016. JP Morgan, Markit as of Aug. 9, 2016.

23 Structured Products

Scott A. Edwards, CFA Director of Structured Products

24 Current Coupon Spreads

Federal Reserve Taper announcement May 22, 2013

350 Freddie/Fannie Conservatorship QE2 300 Announced QE3 Announced

250 Expand MBS purchases Op twist

200 QE1 Ends

150

QE1 Announced 100 QE2 Ends CC MBS Spread Tsy Average over 5y+10y 50

Source: Yieldbook Spread

25 Moody’s/Real Commercial Property Prices Indices

Moody's Commercial Property Price Indices

300.00 National All-Property

250.00

Major Markets (All- 200.00 Property)

150.00 Non-Major Markets Index Value (All-Property) 100.00

50.00

0.00 6/1/2001 6/1/2002 6/1/2003 6/1/2004 6/1/2005 6/1/2006 6/1/2007 6/1/2008 6/1/2009 6/1/2010 6/1/2011 6/1/2012 6/1/2013 6/1/2014 6/1/2015 6/1/2016 12/1/2000 12/1/2001 12/1/2002 12/1/2003 12/1/2004 12/1/2005 12/1/2006 12/1/2007 12/1/2008 12/1/2009 12/1/2010 12/1/2011 12/1/2012 12/1/2013 12/1/2014 12/1/2015 Date

Source: Moody’s

26 Vintage UW Spreads

Avg. Orig. Orig. % of Loans % of Loans Orig. % of Loans Loan Loan Avg. Orig. NCF Full Partial No Refinance % / Vintage Bal. with LTV with NCF Debt NCF with Additional Count Size Coupon LTV Debt IO % IO % IO % Acquisition % ($bil.) >74% Yield <9% DSCR Debt ($mil.) Yield

2004 73.5 6,701 11.0 5.5% 68.7 43.3% 11.1% 21.3% 1.67 14.1% 29.3% 56.6% 2005 135.5 10,117 13.4 5.4% 69.7 44.4% 10.0% 47.7% 1.59 26.6% 38.3% 35.0% 2006 161.3 11,701 13.8 5.8% 69.1 42.3% 9.7% 50.9% 1.45 32.1% 41.8% 26.1% 2007 191.1 11,761 16.3 5.8% 70.0 45.6% 8.9% 64.9% 1.38 56.5% 29.2% 14.3% 2008 10.7 819 13.1 6.3% 68.1 31.5% 9.5% 46.7% 1.35 31.0% 50.1% 18.9% 2010 5.4 217 24.8 5.8% 59.2 5.2% 12.4% 2.8% 1.78 6.0% 7.1% 86.9% 20.6% 74.1 / 25.9 2011 24.5 967 25.3 5.5% 62.6 7.2% 10.9% 8.3% 1.61 8.7% 16.2% 75.1% 16.3% 74.9 / 24.8 2012 32.2 1,719 18.7 5.0% 63.5 8.1% 10.5% 18.1% 1.67 11.8% 22.0% 66.2% 10.3% 80.1 / 18.2 2013 53.1 3,050 17.4 4.5% 63.1 10.9% 10.5% 27.4% 1.85 17.0% 32.7% 50.3% 13.5% 71.9 / 26.3 2014 56.8 3,484 16.3 4.7% 65.8 18.1% 10.1% 41.0% 1.71 19.3% 43.8% 36.9% 16.2% 69.0 / 29.1 2015 61.5 4,327 14.2 4.4% 64.8 16.3% 9.8% 46.6% 1.79 23.7% 43.2% 33.1% 11.4% 69.2 / 28.6 2016 47.1 2,792 16.9 4.5% 61.0 7.7% 10.4% 37.4% 1.89 33.1% 33.7% 33.2% 15.1% 67.1 / 26.8 Q1 2015 13.1 908 14.5 4.3% 65.7 18.7% 9.6% 45.9% 1.77 23.4% 45.4% 31.2% 12.6% 61.8 / 35.8 Q2 2015 16.6 1,230 13.5 4.2% 65.2 17.5% 9.8% 50.6% 1.89 28.0% 39.6% 32.4% 10.6% 73.5 / 25.9 Q3 2015 16.8 1,139 14.8 4.5% 64.6 15.1% 10.1% 43.6% 1.79 17.9% 46.5% 35.6% 12.4% 71.1 / 27.0 Q4 2015 14.9 1,050 14.2 4.6% 63.9 14.1% 9.6% 46.0% 1.69 25.8% 41.4% 32.7% 10.0% 68.9 / 26.9 Q1 2016 11.4 716 15.9 4.7% 61.9 9.7% 10.4% 42.4% 1.82 30.5% 41.2% 28.3% 11.7% 63.0 / 33.3 Q2 2016 7.1 464 15.3 4.8% 63.0 9.4% 9.9% 36.7% 1.72 29.2% 40.5% 30.3% 12.5% 62.4 / 32.3 Q3 2016 13.1 751 17.5 4.4% 59.7 5.9% 10.7% 33.5% 2.02 33.8% 30.6% 35.6% 17.3% 68.8 / 22.6 Q4 2016 15.5 861 18.0 4.2% 60.6 7.1% 10.4% 37.2% 1.92 36.2% 27.8% 35.9% 16.9% 70.9 / 23.1

Source: Deal documents, Intex Solutions, Inc., and Wells Fargo Securities.

27 Municipal Market

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

28 Improved Technicals Should Support Relative Valuations

500 450 400 350 300 250 200 150 100 Total Yearly Issuance (billions) Issuance Total Yearly 50 0

Total Issuance Total Refundings New Money Issuance Estimate Issuance

. New issuance supply expected to reach $350billion, down $95billion from 2016’s record level • Substantial drop in refinancing activity will be the largest driver • Infrastructure-related financing expected to remain in line with issuance over last 4 years

. Demand expected to see gradual improvement in rising rate environment • Very heavy reinvestment flows from call proceeds should be supportive • Mutual fund redemptions expected to be a drag on demand flows as rates rise

29 Source: Thomson Reuters Municipal Market Data Tax-Reform Risks Could Extend Volatility in Relative Valuations

Source: Bloomberg

30 Convertible Market Overview

Tim Senechalle, CFA Senior Portfolio Manager

31 Convertible Gains Were Driven By Strong Equity and Credit Markets 2016 Convertible Performance by Sector

As of 12/31/2016

BofA Merrill Lynch Convertible Sector Total Underlying Equity Total Market Sector VXA0 Index Weight Return Return Energy 8.04% +27.04% +3.61% Media 4.47% +24.86% +33.48% Materials 2.07% +20.90% +59.10% Consumer Staples 2.20% +16.74% +8.57% Technology 33.93% +16.09% +20.80% Utilities 5.32% +12.58% +15.88% Financials 15.40% +8.98% +17.57% Telecommunications 3.58% +8.70% +11.93% Transportation 0.33% +6.49% +14.00% Industrials 5.47% +4.69% +9.95% Consumer Discretionary 3.37% +1.41% -0.14% Healthcare 15.81% -3.56% -9.88% Totals 100.0% +10.43% +12.19%

Source: Bank of America Merrill Lynch Convertible Research

32 Market Conditions Are Ripe For Increased New Issuance

Convertible Sector New Issue & Redemption ($Bln)

$60 $49 Gross Supply $49 Redemptions $38 $40 $35

$25 $21 $20

$0 Supply ($Bln)

($20)

-$32 -$29 -$29 ($40) -$42 -$42 -$47 -$49 ($60) 2011 2012 2013 2014 2015 2016 2017 (est)

Source: Barclays Capital Convertible Research

33 Managing Risk / Return Paramount Amid Expected Volatility

Equity markets will be the primary driver of returns. Asymmetric risk / return profile is compelling given uncertain market outlook. Zazove Institutional Blend Composite – 12/31/2016 Typical Number of Positions ~60

Number of Industry Groups 35 Average Credit Quality BBB- Adjusted Current Yield 2.94% Convertible Duration 1.66 Delta 0.55 Investment Premium 28.34%

Conversion Premium 28.41%

One-Year – Stocks up 25% +16.74%

One-Year – Stocks down 25% -8.80%

One-Year - Stocks down 25% & Interest Rates up 100 bps -10.64%

Source: Zazove Associates

34 Summary

Reed J. Nuttall, CFA Chief Investment Officer

35 Issuance of Bonds Up in 2016 Offset by Surge in Demand

Source: JPM, AAM

36 Today’s Presenters:

Market Outlook Reed J. Nuttall, CFA Chief Investment Officer

37 Questions

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