Citywire Berlin Kames Capital Fixed Income

November 2011

Philip Milburn – Investment Manager, Fixed Income

Your choice of topic

The value in

high yield

Financial

credit

Are negative

real yields

sustainable?

Making your

bond allocation

work harder

Your choice

European

sovereign

crisis

High yield spreads and default rates

Source: Moody’s Investors Service, Merrill Lynch and Kames Capital as at 30 September 2011

0

500

1,000

1,500

2,000

0.00%

5.00%

10.00%

15.00%

20.00%

Ja

n 8

5

Ma

r 8

6

Ma

y 8

7

Ju

l 88

Se

p 8

9

No

v 9

0

Ja

n 9

2

Ma

r 9

3

Ma

y 9

4

Ju

l 95

Se

p 9

6

No

v 9

7

Ja

n 9

9

Ma

r 0

0

Ma

y 0

1

Ju

l 02

Se

p 0

3

No

v 0

4

Ja

n 0

6

Ma

r 0

7

Ma

y 0

8

Ju

l 09

Se

p 1

0

No

v 1

1

Sp

rea

d b

ps

De

fau

lt r

ate

%

Global Speculative DR Average DR

Projected Global Speculative DR HY Spreads

Average Spread

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0

10

20

30

40

50

60

70

80

90

No

v 1

0

De

c 1

0

Ja

n 1

1

Fe

b 1

1

Ma

r 11

Ap

r 11

Ma

y 1

1

Ju

n 1

1

Ju

l 11

Au

g 1

1

Se

p 1

1

Oct 1

1

3 y

ea

r ro

llin

g re

turn

s

Kames High Yield Global Bond A Inc USD Lipper Bond Global High Yield

Kames High Yield Global Bond Fund performance

Source: Lipper Hindsight as at 31 October 2011. NAV to NAV, net income re-invested. Total return, local currency, USD.

Returns shown are rolling 3 year periods calculated on a cumulative basis. Past performance is not a guide to the future.

78.34%

62.66%

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-100

0

100

200

300

400

500

Oct 0

6

De

c 0

6

Fe

b 0

7

Ap

r 0

7

Ju

n 0

7

Au

g 0

7

Oct 0

7

De

c 0

7

Fe

b 0

8

Ap

r 0

8

Ju

n 0

8

Au

g 0

8

Oct 0

8

De

c 0

8

Fe

b 0

9

Ap

r 0

9

Ju

n 0

9

Au

g 0

9

Oct 0

9

De

c 0

9

Fe

b 1

0

Ap

r 1

0

Ju

n 1

0

Au

g 1

0

Oct 1

0

De

c 1

0

Fe

b 1

1

Ap

r 11

Ju

n 1

1

Au

g 1

1

Oct 11

CDS Indices: High Yield XOVER vs EM Spread Differential

Source: Bloomberg as at 3 October2011

High Yield XOVER v Emerging Markets at an extreme differential

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Your choice of topic

The value in

high yield

Financial

credit

Are negative

real yields

sustainable?

Making your

bond allocation

work harder

Your choice

European

sovereign

crisis

10yr Yields CPI YoY 10yr "Real" Yield

Sep-09 Sep-11 Sep-09 Sep-11 Sep-09 Sep-11

USA 3.31% 1.92% -1.30% 3.90% 4.61% -1.98%

EU 3.22% 1.89% -0.30% 3.00% 3.52% -1.11%

Germany 3.22% 1.89% -0.30% 2.60% 3.52% -0.71%

UK 3.59% 2.43% 1.10% 5.20% 2.49% -2.77%

Japan 1.30% 1.03% -2.20% 0.00% 3.50% 1.03%

China 3.51% 3.93% -0.80% 6.10% 4.31% -2.17%

Negative real yields

Source: Bloomberg

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Financial repression: Real rates

• In the three and a half decades

following World War II and the

three years since the global

crisis, real rates, as

exemplified by those on

treasury bills from advanced

economies, were on average

negative.

Sources: Reinhart and Sbrancia (2011); IMF, Internal Financial Statistics; and authors’ calculations. Note: The economies represented are Australia, Belgium, Canada, Finland, France, Germany,

Greece, Ireland, Italy, Japan, New Zealand, Sweden, the United Kingdom, and the United States. Interest rates for 2011 reflect monthly observations through February.

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(real interest rate %)

(sha

re o

f o

bse

rva

tio

ns %

)

Carmen M. Reinhart, M. Belen Sbrancia

NBER Working Paper No. 16893

Issued in March 2011

Historically, periods of high indebtedness have been associated with a rising incidence of default or

restructuring of public and private debts. A subtle type of debt restructuring takes the form of “financial

repression.” Financial repression includes directed lending to government by captive domestic audiences

(such as pension funds), explicit or implicit caps on interest rates, regulation of cross-border capital

movements, and (generally) a tighter connection between government and banks. In the heavily regulated

financial markets of the Bretton Woods system, several restrictions facilitated a sharp and rapid reduction

in public debt/GDP ratios from the late 1940s to the 1970s. Low nominal interest rates help reduce debt

servicing costs while a high incidence of negative real interest rates liquidates or erodes the real value of

government debt. Thus, financial repression is most successful in liquidating debts when accompanied

by a steady dose of inflation. Inflation need not take market participants entirely by surprise and, in effect,

it need not be very high (by historic standards). For the advanced economies in our sample, real interest

rates were negative roughly ½ of the time during 1945-1980. For the United States and the United

Kingdom our estimates of the annual liquidation of debt via negative real interest rates amounted on

average from 3 to 4 percent of GDP a year. For Australia and Italy, which recorded higher inflation rates,

the liquidation effect was larger (around 5 percent per annum). We describe some of the regulatory

measures and policy actions that characterized the heyday of the financial repression era.

Financial repression: The liquidation of government debt

Back to choices

Your choice of topic

The value in

high yield

Financial

credit

Are negative

real yields

sustainable?

Making your

bond allocation

work harder

Your choice

European

sovereign

crisis

A lesson from Argentina?

Source: Press Association

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Solutions

Fiscal union

Euro break up

Monetisation (QE)

Looking for the least worst solution

Problems

Too much debt, too little growth

Obstacles

German politics

Peripheral politics

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• Too much debt too little growth

• Liquidity versus solvency

• Fiscal deficits

• Current account deficits

• Competitiveness

• Lacking institutional fiscal oversight

• ECB single mandate

Looking for the least worst solution: Problems

Solutions

Fiscal union

Euro break up

Monetisation (QE)

Problems

Too much debt,

too little growth

Obstacles

German politics

Peripheral politics

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Solutions

Fiscal union

Euro break up

Monetisation (QE)

Looking for the least worst solution

Problems

Too much debt, too little growth

Obstacles

German politics

Peripheral politics

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• EFSF

• Quasi fiscal union

– Wealth transfer

– Hard rules

• Euro bonds

• Euro break up

• Supply side reforms

• Monetisation (QE)

Looking for the least worst solution: Solutions

Solutions

Fiscal union

Euro break up

Monetisation (QE)

Problems

Too much debt,

too little growth

Obstacles

German politics

Peripheral politics

Back to choices

Solutions

Fiscal union

Euro break up

Monetisation (QE)

Looking for the least worst solution

Problems

Too much debt, too little growth

Obstacles

German politics

Peripheral politics

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• German constitution

• Liquidity versus solvency

• Fiscal deficits

• Current account deficits

• Competitiveness

• Lacking institutional fiscal oversight

Looking for the least worst solution: Obstacles

Solutions

Fiscal union

Euro break up

Monetisation (QE)

Problems

Too much debt,

too little growth

Obstacles

German politics

Peripheral politics

Back to choices

Your choice of topic

The value in

high yield

Financial

credit

Are negative

real yields

sustainable?

Making your

bond allocation

work harder

Your choice

European

sovereign

crisis

Positives Negatives

– Resolution regimes

and bail-ins

– Sovereign crisis

– Increased equity

below bondholders

– Basel 3 – redundant instruments

– Decreased

wholesale funding

– Compelling valuations

Financial credit: weighing up the risks

• Avoid PIIGS’ banks

• Prepared to go overweight

when the time is right

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Your choice of topic

The value in

high yield

Financial

credit

Are negative

real yields

sustainable?

Making your

bond allocation

work harder

Your choice

European

sovereign

crisis

-10.00.0

10.020.030.040.050.060.070.080.090.0

100.0

No

v 0

7

Ja

n 0

8

Ma

r 0

8

Ma

y 0

8

Ju

l 08

Se

p 0

8

No

v 0

8

Ja

n 0

9

Ma

r 0

9

Ma

y 0

9

Ju

l 09

Se

p 0

9

No

v 0

9

Ja

n 1

0

Ma

r 1

0

Ma

y 1

0

Ju

l 10

Se

p 1

0

No

v 1

0

Ja

n 1

1

Ma

r 11

Ma

y 1

1

Ju

l 11

Se

p 1

1

Active asset allocation

Cash Govt IG HY US RMBS

Kames Strategic Global Bond Fund positioning

Source: Kames Capital as at 31 October 2011

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0

10

20

30

40

50

60

No

v 1

0

De

c 1

0

Ja

n 1

1

Fe

b 1

1

Ma

r 11

Ap

r 11

Ma

y 1

1

Ju

n 1

1

Ju

l 11

Au

g 1

1

Se

p 1

1

Oct 1

1

3 y

ea

r ro

llin

g re

turn

s

Kames Strategic Global Bond B Inc USD Lipper Global Bond Global

Kames Strategic Global Bond Fund performance

Source: Lipper Hindsight as at 31 October 2011. NAV to NAV, net income re-invested. Total return, local currency, USD.

Returns shown are rolling 3 year periods calculated on a cumulative basis. Past performance is not a guide to the future.

50.29%

21.48%

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-3

-2

-1

0

1

2

3

4

5

6

7

8

No

v 0

7

Ja

n 0

8

Ma

r 0

8

Ma

y 0

8

Ju

l 08

Se

p 0

8

No

v 0

8

Ja

n 0

9

Ma

r 0

9

Ma

y 0

9

Ju

l 09

Se

p 0

9

No

v 0

9

Ja

n 1

0

Ma

r 1

0

Ma

y 1

0

Ju

l 10

Se

p 1

0

No

v 1

0

Ja

n 1

1

Ma

r 11

Ma

y 1

1

Ju

l 11

Se

p 1

1

Mo

difie

d d

ura

tio

n (se

mi a

nn

ua

l)

Duration by currency bloc excluding high yield

AUD CAD EURO GBP NZD SEK USD YEN Grand Total

Kames Strategic Global Bond Fund positioning

Source: Kames Capital as at 31 October 2011

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Your choice of topic

The value in

high yield

Financial

credit

Are negative

real yields

sustainable?

Making your

bond allocation

work harder

Your choice

European

sovereign

crisis

Your choice

Back to choices

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Prospectus.

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a result of currency fluctuations.

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registered in the Republic of Ireland (no: 442106), registered office at 25-28 North Wall Quay, International Financial Services

Centre, Dublin 1. Board of Directors: Andrew Bell (UK), Mike Kirby (Ireland) and Brian McDermott (Ireland). Kames Capital

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AEGON Asset Management UK rebranded to Kames Capital on 1 September 2011.

Important information

FP ID: 2011/12746