AllianzGI_GlobalStrategicOutlook_4Q2013

Allianz Global Investors

Global Strategic Outlook

4th Quarter 2013

Understand. Act.

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Global Strategic Outlook - 4th Quarter 2013

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Content

6 Section one: Strategy summary

9 Section two: Thematic piece

14 Section three: Equities outlook

23 Section four: Fixed income outlook

31 Section five: Multi asset outlook

33 Section six: ESG outlook

35 Section seven: Economic forecast and valuation review

39 Section eight: Global Policy Council biographies

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There is no alternative to taking riskAs Allianz Global Investors’ Global Policy Committee (GPC) focuses on long-term, secular drivers of asset class returns, there should, under normal circumstances, be little change to its key asset allocation recommendations. It was, therefore, not surprising that our over-arching conviction – that we are living through an era of Financial Repression and there is no alternative to taking risk for investors – still looked convincing in the run-up to the second Investment Forum in 2013, which took place in New York in mid-September.

Developments since the first Investment Forum in 2013 in January, such as the aggressive implementation of a new macro-economic policy regime in Japan dubbed “Abenomics”, the “tapering” discussion in the US, concerns about the formation of new asset bubbles, as well as the spectre of re-regulation in developed markets, above all in the financial sector, demanded that their impact be assessed against our secular view.

Understand The first question debated by our senior investment professionals and selected outside speakers at our latest Investment Forum was whether the new macro-economic policy regime introduced by Prime Minister Shinzo Abe (dubbed “Abenomics”) was going to be more successful than previous attempts at lifting Japan out of its two-decade economic malaise characterized by low growth and deflation. Abenomics has been described as requiring the successive launch of three “arrows” targeted at reflating the economy by a massive expansion of the Bank of

Introduction

Andreas Utermann Global Chief Investment Officer, Allianz Global Investors

“Our approach is to combine deep and considered thinking with decisive and timely action.”

At Allianz Global Investors we follow a two word philosophy.

Understand. Act.

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Japan’s balance sheet: a consequent weakening of the yen, a fiscal policy stimulus and structural reforms. The meeting agreed that Japanese policymakers had probably never been more determined to tackle the deflationary problem. However, the fact that aggressive QE (quantitative easing) in the US, the UK and the euro zone had been relatively ineffective in terms of re-igniting growth in recent years meant that, without aggressive supply side reforms (unlikely given the absence of any crisis feeling in Japanese society today) and an opening of the country to net immigration to tackle the country’s demographic problems, Abenomics was unlikely to succeed and would have to be brought to an end at some point over the next two years. As a result, in the short term, the yen might weaken somewhat further – a development from which the stock market should benefit – and JGBs (Japanese Governmental Bonds) should perform relatively well thanks to the intention of the Bank of Japan to own a significant part of the JGB market. When Abenomics ultimately has to be scaled back, the yen might rise temporarily, accompanied by still further depressed JGB yields and a pull-back in the (relatively expensive) stock market. The participants of the Investment Forum were strongly convinced that, in the long run, this state of affairs was unsustainable and that there would, at some point further down the road than policymakers care to look, be a severe crisis causing a significant collapse in the yen and a re-allocation of savings in Japan to finance the stock of debt, with significant implications for the global financial system.

We moved on to the second important topic that had a significant impact on the financial markets over the last few months, namely the sell-off in US Treasuries caused by the Federal Reserve’s (Fed) comments about their intention to “taper”, i.e. gradually reduce, their bond purchases over the coming months. Having observed the collateral damage to other sovereign bond markets and developing market assets in general, as well as the potential negative impact of significantly higher long-term yields on the US housing market and future growth prospects, the Investment Forum participants set out to discuss the following two questions:

1. How much further could Treasury yields rise?

2. Have we seen the turn in the global interest rate cycle?

Having long predicted the onset of a global bear market in bonds (and having thus preferred equities over bonds), there was little doubt amongst the Investment Forum’s participants that the “taper” comments by the Fed were likely to have been the turning point in the global interest rate cycle and the death knell for the three-decade-long global bull market in bonds. Notwithstanding this, a further significant rise in Treasury yields was unlikely in the short term, given that (i) the amount of deleveraging still to take place was significant; (ii) current inflation expectations remained well anchored; (iii) no systemically important or credit fuelled asset bubbles had emerged so far; and (iv) with a 300 basis points differential between 10-year yields and short-term rates, the yield curve had reached maximum steepness. Furthermore, an analysis of the levels of indebtedness of both the private and the public sector globally showed that progress towards reducing the overall stock of debt had only just begun. Based on these insights, we continue to expect a looser monetary policy for longer than the market currently anticipates, with the possibility of yields dropping back somewhat on the actual announcement on the size and trajectory of the tapering.

Our discussion on the third topic of financial regulation generated more differentiated conclusions. While there was broad agreement that financial regulation in the last few years had been beneficial in bringing markets back to life, there was less confidence that the next, rather than last, crisis was being prepared for and that the current round of regulations would not have unintended consequences. In particular, as the post-crisis G20 agenda gave way to a less coordinated approach, the fragmentation of financial markets could impair liquidity in places, making trading more expensive and creating both gaps in pricing and greater volatility. That said, on a more positive note, despite talk of trade and currency wars, there has been little evidence of regulation significantly disrupting global trade flows, the source of so much (global) wealth generation over the past few decades.

In the fourth and final segment of the Investment Forum, participants addressed region or asset-class specific topics, starting with a review of the attractiveness of emerging markets, particularly in the context of the significant sell-off experienced by this asset class in the wake of the tapering comments.

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Participants noted that emerging market economies with current-account deficits were particularly likely to feel the negative impacts of any future monetary policy tightening in developed markets. Also, it was noted that emerging market equities were somewhat expensive in a historical comparison, and not a unique asset class, in the sense that investors could gain access to equity growth prospects via companies exposed to emerging market growth but listed on developed market stock exchanges. On the other hand, local currency bonds of the developing markets represented a unique asset class that offered investors access to economies with healthy demographics and relatively low debt-to-GDP ratios. Consequently, the recent sell-off in both bond prices and some emerging market local currencies meant that the yield pick-up relative to developing market debt represented a significant buffer against further currency depreciation over medium maturities.

ActIn a world where deleveraging in the public and private sectors has only just started and low refinancing costs are important, ongoing central bank stimulus in the form of QE remains critical in maintaining final aggregate demand on an uptrend. The major central banks will, therefore, remain willingly “behind the curve”. Ample central bank liquidity will keep short-term yields near zero and long-term yields below their equilibrium level, with inflation risks on the upside. With much of the world’s financial assets invested in very short-term liquid instruments, Financial Repression remains a clear and present danger to investors. What we are left with is our continued conviction that there is no alternative to investing in risk assets:

• Benchmark government bonds in the developed markets are yielding below their equilibrium level and continue to be expensive. Longer maturities should be avoided. Yields are now on a secular uptrend. We expect 10-year US Treasury yields to stabilize between 2.7% and 3.5%.

• Given the unique features of local-currency emerging market bonds, we maintain our positive stance and broaden it to include some of the more fragile economies recently hit by the tapering comments. Further weakness cannot be excluded in the wake of tightening monetary

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policy in developed economies, but this would represent an additional buying opportunity.

• Equity valuations are supported by a number of factors, including the significant yield gap between bonds and equities, about 2.9% for the US, and the fact that most large investors are underweight in equities and that many sectors exhibit attractive dividend yields. Within the dividend segment, a more cyclical orientation towards companies with dividend growth potential might be warranted.

• Japanese assets are a special case. One might play a tactical reflation trade on Japanese equities, but as long as no significant structural reforms are underway, a sustained outperformance should not be expected. JGBs should be avoided.

More than ever in our view, the only way to achieve potential returns is by taking risk.

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1. Strategy summary

Stefan Hofrichter, CFAHead of Global Economics and Strategy

The last three months were, again, a period in which it paid off to be invested in risky assets compared to those perceived to be safe. Global equities have risen by almost 10%, with high beta markets in Europe, Japan and emerging markets outperforming the low beta US stock market. High quality bond markets returned less than their coupons and, in some cases, even showed negative nominal returns, while spread products, such as corporate bonds, both investment grade and high yield, as well as emerging market bonds, clearly outperformed. Also, within the euro area, the perceived risky peripheral bond markets did much better than German Bunds.

The key drivers for risky assets to outperform remain in place: favourable monetary policy, signs of acceleration in the pace of economic growth, a decline in tail risks and favourable valuations. Clearly, compared to some months ago, the underlying dynamics have changed. This is particularly true for an assessment of US monetary policy.

In late September, Ben Bernanke decided to postpone the tapering of the Federal Reserve’s (Fed) quantitative easing programme, much to the surprise of most market participants, and financial markets were boosted as a consequence. Still, one has to keep in mind that, even if the Fed had started to reduce its bond-purchase programme, its policy still would have been highly accommodative: buying fewer US Treasuries and mortgage-backed securities would still imply an expansion of Fed’s balance sheet, albeit at a slower pace than currently. Nevertheless, a reduction of the Fed’s bond-purchase programme (“tapering”) has most likely only been postponed, not cancelled. In mid-September, the Fed communicated that, by the end of this year, it is likely to start reducing its monthly bond purchases from the current monthly amount of USD 85 billion.

In addition, the Fed continued to give guidance that it expects the Fed Funds target rate to remain at current levels until 2015. Even if the Fed started to hike rates in two years’ time, it would still be “behind the curve”. According to our estimates, the Fed Funds target rate

would have to return to 4% – the “normal” rate according to Federal Open Market Committee members and our own expectations – by 2015/16, if the Fed was holding on to its previous reaction function and its current forecast for nominal growth. What this tells us is that the Fed’s reaction function has changed and that the Fed is willingly keeping rates lower for longer to facilitate the deleveraging process in the private sector, which is yet to be completed. In our thematic research note, we discuss the stance of the deleveraging process in the developed world in more detail.

Ultimately, the Fed may even turn out to hike rates later than current money market expectations as any bond market weakness puts pressure on the US growth outlook.

In Europe, too, central banks are likely to keep their expansionary stance for longer than expected. The European Central Bank (ECB) has recently openly discussed the re-introduction of another Longer Term Refinancing Operation and has been weighing the idea of cutting interest rates further, even introducing negative real interest rates (the ECB would be the first G4 central bank to do this). The Bank of Japan, too, is rumoured to be considering an increase in its current “quantitative and qualitative easing” programme. Rate hikes certainly appear to be off the table in all major economies.

In summary, the monetary policy backdrop should remain supportive for global growth, thereby providing a safety net for the world economy.

So why did the tapering discussion have such a negative impact on emerging market assets? Our analysis shows that emerging market currencies were clear beneficiaries of the various quantitative easing rounds in the US. Given their positive correlation with the Fed’s balance sheet, if the Fed starts to taper, our work shows that some emerging market currencies, notably the Brazilian real, the Indian rupee, the Indonesian rupiah, the Thai baht and the Russian ruble, can be expected to lose value. Weaker

Global | US | Europe | Asia-Pacific

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currencies are putting pressure on central banks in emerging markets to introduce tighter monetary policy, thereby weakening the local bond markets. Even though we cannot rule out a new round of market pressure on emerging market assets, we nevertheless believe the worst for emerging market assets should be behind us. The selling pressure over the summer months clearly showed that the market very much differentiated between economies with strong fundamentals and the ones that were suffering from current account deficits and relatively small foreign currency reserves relative to GDP. However, the situation today in most emerging markets is much more stable compared to the 1997/98 crisis. This is not to say that we do not see imbalances in some countries. As outlined in our thematic piece, private sector debt, notably debt in the non-financial sector, is quite stretched in China, Hong Kong and Singapore. However, all three countries have a positive net international investment position and, hence, are much less vulnerable to international investors’ rising risk aversion compared to Asian economies in the late 1990s. We also believe that the authorities in these three countries have the means and the tools to intervene, if necessary.

The second positive driver for risky assets is supportive economic data. Over the last couple of months, high frequency data have started to pick-up in the developed world. True, economic growth rates are likely to remain below the numbers seen before the financial crisis, given the headwind from private and public sector deleveraging, as explained in more detail in our thematic note. Nevertheless, ongoing monetary policy support and the beginning of an inventory cycle are clearly having a positive effect on economic activity in the developed world. We also think that capital expenditure may be one of the growth drivers in the developed world. After years of under investment, there is at least a chance for pent-up replacement demand to kick in. This is especially true for the US and Europe.

Japan’s economy is definitely benefiting from the yen’s weakness, which is explained by the Bank of Japan’s aggressive easing policy. Still, we remain sceptical that Japan has turned the corner over the longer term: to overcome deflationary pressures, export stimulus needs to spill-over into the domestic economy in a sustainable manner. Without structural reforms, such as opening up Japan to free trade on a large scale, as well as to immigration, (both of which are difficult to

implement politically), private sector demand, whether from households or the corporate sector, is unlikely to improve structurally, only cyclically.

In emerging markets data have also started to stabilize, especially in the biggest economy – China. So far, the pick-up in activity in the developed world seems to have had positive repercussions within emerging markets.

Valuations of risky assets remain supportive as well, despite the ongoing outperformance. Global equities are trading at cyclically adjusted price/earnings ratios, which are lower than their long-term average. This is particularly true for Europe and, within Europe, in the euro zone periphery. US equities, admittedly, are trading at multiples around one standard deviation above the long-term mean. While this implies below-average long-term real returns, current valuations do not undermine the case for rising nominal stock prices. Japan, too, is way below its valuation average of the last three decades. Admittedly, that average is likely to be distorted on the high side, as valuations were stratospheric at the peak of the bubble and in the years post the burst of the bubble. Current absolute valuations, which are roughly at the same level as the US, are not particularly low. Based on another valuation approach – the price-to-book ratio, which has done a reasonable job in explaining Japanese equity performance in the past, Japan is rather attractively priced.

Emerging market equities are no longer trading at a premium to developed markets. In fact, they are at their cheapest relative valuation in seven years and at around average levels in a long-term context. This may probably not be enough to attract the appetitite from long-term value investors, but may be sufficient to trigger a tradable bounce, in particular as data in emerging markets have started to stabilize.

Spread products still also look reasonably priced relative to sovereign bonds. High yield bonds, in particular, have priced in default rates that are still too high compared to historic actual default rates. We, therefore, think that carry makes high yield bonds an attractive investment. Investment grade bonds, too, have priced in very high default rates. However, if we try to explain current spread levels through cyclical factors and equity volatility, we come to the conclusion that further spread tightening looks limited. Given the relatively small carry of investment


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grade bonds in comparison to high yield bonds, we prefer the latter to the former.

Within the sovereign bond arena, we remain constructive on euro zone peripheral bonds over core euro zone issuers. The improvement in the institutional framework of the euro zone, notably the announcement of the OMT (Outright Monetary Transactions) by the ECB, much tighter coordination of fiscal policy, and the first steps towards a banking union remain the drivers of euro zone peripheral bonds’ spread tightening.

We also remain constructive on emerging market bonds in the long run. After the rise in bond yields in many emerging markets over the summer months, emerging market bonds offer attractive spreads over US Treasuries and German Bunds. This holds true for both hard and local currency bonds. As discussed, we think that the longer term outlook for emerging markets today is much more stable than during the mid/ late 1990s. Additionally, cyclical improvements are also likely to provide a tailwind for this asset class.

This line of reasoning also holds true for emerging market currencies. Following the weakness over the last couple of weeks, we now only find a few currencies that we do not expect to appreciate in real terms until the end of this decade. Even though real appreciation does not necessarily imply nominal appreciation, we would expect most emerging market currencies to also rise in nominal terms.

Ultimately, we think that tail risks have decreased for global markets. Easy monetary policy on a global basis and ongoing liquidity provisioning by central banks are the major reason for our optimism, as they reduce the risks of major market dislocations. The OMT programme is an excellent illustration of this. Even though the ECB has not yet spent a euro to support euro zone peripheral bond markets, the sheer announcement of this programme, i.e the ECB’s decision to become a lender of last resort, has significantly reduced the risk of adverse developments in the euro zone. In more general terms, we find that an easy stance of monetary policy is having a dampening effect on market volatility.


Of course, we cannot rule out that unpredictable events could have a negative impact on capital markets in the short run. A failure to agree on the US budget or the US debt ceiling, as well as geo-political risks (Syria, Iran) leading to a spike in the oil price, are the most obvious candidates for potential shocks for global growth and markets. However, with central banks ready to support the global monetary system with sufficient liquidity, we would expect these events only to have a transitory impact.

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2. Thematic piece: Leverage in the global economy. Implications for growth and markets


Five years after the collapse of Lehman and six years since the beginning of the financial crisis, following a debt-financed credit boom, we want to have a closer look at the leverage of the global economy. We want to answer the following questions: which countries and which economic sectors are most advanced in the deleveraging process? Are there any lessons to be learned from previous periods of post-bubble deleveraging? Which conditions for solid economic growth during a period of deleveraging have to be fulfilled? What are the implications of deleveraging for capital markets? Has easy monetary policy in the developed world led to the build-up of leverage in other parts of the world? Throughout this article, we define leverage as the ratio of funded gross debt/GDP; we opt for gross debt, as opposed to net debt, as it is gross debt that ultimately has to be served and is precisely known, while asset values are not fixed by definition.

Let us start with some fact finding. Total non-financial sector debt/GDP in the developed world is currently in the range of two to four times GDP, with Germany, Australia, and Canada at the bottom end of the list, and Japan, Ireland and Portugal at the top end (Figure 1). If we undertake a more detailed breakdown, we find a wide range in public debt/GDP ratios: in Australia, Korea, Norway, Switzerland and Sweden, public sector leverage is less than 50% of GDP; in EMU core countries, the figure is between 70% and 90%. However, by far the highest public debt/GDP ratios can be observed in Japan, which records a number close to 250%. If we included estimated non-funded health and pension liabilities, sovereign debt ratios in the developed world would rise by around 100% of GDP on average. When analyzing the private sector leverage ratios, we notice that household sector leverage is, on average, significantly lower in the euro area compared to the Anglo-Saxon world, while the opposite holds true for the non-financial corporate sector.

Leverage ratios have picked-up since the beginning of the crisis in 2007 in almost all countries. Nevertheless, total non-financial debt/GDP ratios have come off from peak levels observed during the past few years in the US, UK, Ireland, Germany, Netherlands, Spain and Japan. Deleveraging, though, is hardly taking place in the public sector. The one country where public debt/GDP has fallen most is Greece, as many investors have learned the hard way. The situation is different for the private sector: both household and non-financial corporate sector leverage ratios have started to come down recently in most developed economies, in particular in the US, but also in the UK, Ireland and Spain (Figure 2). In France, Portugal and Switzerland leverage still continues to rise. The same holds true for Canada, one of the few countries to have avoided a financial crisis. Still, compared to previous periods of post-bubble deleveraging, the decline in debt/GDP ratios in the private sector is moderate. In the US, the country where, compared to starting levels, debt/GDP has fallen the most, leverage ratios have come down by a tenth only. In comparison, in the Nordic countries during the early 1990s, the private debt/GDP ratios fell by around a quarter, and in Asia in the late 1990s/ early 2000s they fell by a third on average. Hence, it is fair to say, that the deleveraging process in the developed world is still in early stages (indeed it has not even started in some countries, as mentioned above) and is likely to continue.

There are some more interesting lessons that we can draw from previous post-bubble deleveraging periods for today. First, once a debt-financed bubble bursts, the economy recovers after around two years. Its long-term new trend growth is very much dependent on the way deleveraging is being achieved. If debt ratios come down via public and private sector “belt-tightening”, i.e. savings, the new trend growth is typically – albeit not always, as the Nordic countries in the 1990s showed – lower than before the crisis. Second, the private sector credit cycle only picks up

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after a couple of years into the deleveraging process. In other words, the economic recovery is typically a creditless or credit-light one. Third, public sector deleveraging is a very long-term process and usually ends many years after the private sector has stopped deleveraging. Finally, and most important from an investor point of view, asset markets turn long before the deleveraging is complete. Hence, arguing that too much debt is weighing on asset prices is misleading. We will discuss this in more detail.

With deleveraging in developed economies today very much happening via public sector spending cuts and a rise in the private sector net savings rate, are we doomed to enter a period of new trend growth lower than before 2007? How did the Nordic countries manage to return to relatively strong economic growth after a few years? We think that, for economic activity to remain strong after a debt-financed asset bubble bursts, nine criteria have to be in place: monetary policy support, strong private sector cash positions, a turn in the capital expenditure (capex)cycle, a stabilization of the housing market and the banking system, growth enhancing structural reforms, progress in private sector deleveraging, low public sector debts and strong demand from abroad, also supported by a weak currency.

At this juncture, monetary policy is, no doubt, highly accommodative in all industrialized economies and, hence, provides a positive backdrop for economic growth as it reduces the cost of capital and provides enough liquidity for the banking system. Also, since the private sector, both households and non-financial corporates, is running a positive net savings rate again, it could spend out of cash flow and need not rely on new debt. Consequently, investment activity has started to pick-up in the US, albeit only moderately so. After years of underinvestment, both in the US and in Europe, we expect at least some pent-up demand for investment spending, which should support investment activity going forward. The housing market has turned the corner in the US and UK, too. In the euro area, house prices continue to decline except in Germany, which did not suffer from a housing bubble in the first place. However, prices have already fallen substantially, especially in countries like Ireland and Spain where they have declined by more than a third in real terms, i.e. by more than during other deleveraging periods in the past. Given how advanced the house price declines are already, we may see a stabilization in housing markets in the euro area as

well during the coming quarters. A stabilization in house prices would be a further support for the healing of the banking sector. In any case, we think the banking sector recovery is quite advanced in the US and on a good track in Europe: according to loan officer and lending surveys, stress in the financial system is no longer a major constraint for credit supply. Finally, in many European countries, structural reforms are leading to an improved international competitiveness, i.e. lower unit labour costs (France and Italy are the major exceptions to the rule). As pointed out, private sector deleveraging is work in progress.

In conclusion, we can make a tick – at least a small one – next to seven out of the nine criteria, which we deem to be relevant for the future growth outlook. There are two criteria, however, which suggest an ongoing headwind to economic growth: first, public sector debt ratios are high. There is ample academic work showing a negative correlation between public sector leverage and economic growth, with 90% debt/GDP being an important threshold level (even the critics of the Reinhart & Rogoff studies came to the same conclusion). Correlation is not the same as causality. Nevertheless, with developed economies trying to implement fiscal austerity measures, we think that, at this juncture, fiscal policy is definitely having a negative impact on economic growth. The situation was different twenty years ago in Sweden, Finland and Norway. At the time, public leverage ratios were significantly lower than in most developed economies today (<80% in Sweden and <60% in Norway and Finland at peak levels), giving all three governments more scope to manoeuvre.

Second, unlike small open economies, which went through a deleveraging period, neither the US nor European countries today can rely only on foreign growth stimulus, thereby also benefiting from currency devaluation. As around half of the world – the industrialized economies – need to reduce total leverage, the effects of monetary policy in their jurisdictions on their respective currencies to some extent cancel each other out. Just look at the EUR/USD exchange rate over the last years: it has been hovering at around 1.30 to 1.35. In real terms, neither the US dollar nor the Euro has depreciated. In contrast, the Nordic countries in the 1990s managed to devalue their respective currencies by around a quarter in real terms, while Asian currencies, on average, devalued by around a third during their crisis (Figure 3). In


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addition, the other half of the world, the emerging markets, are currently slowing down for various reasons (revaluation against the Japanese yen, export growth slowdown as developed economies are showing growth weakness, tighter monetary policy dampening domestic demand). Hence, this group of countries can hardly be the locomotive for exports out of industrialized economies.

In conclusion, we think that trend growth in the developed world will remain moderate and below the pre-crisis period. On the other hand, we should not expect too gloomy a growth path either, as several conditions for decent growth are in place.

Intuitively, one would expect equity returns to be weak during a period of deleveraging, as investors anticipate low growth in the years to come. In reality, equity returns and the relation between leverage and equity returns are much more complex, as US data show: investors who entered the equity market in the late 1920s or early 1930s, i.e. during a period of high total debt/GDP ratios, indeed had very poor, often negative rolling 10-year equity returns when adjusted for inflation. In the 1960s and 1970s, though, when total leverage ratios were low, long-term equity returns were poor as well. In the 1990s, however, a period when debt/GDP ratios were similar to those in 1930, rolling 10-year real equity returns were very strong. Hence, what matters for equity returns is not so much the overall leverage in the economy, but other factors, notably valuations and the medium-term growth outlook. Growth, as explained above, is likely to be “pedestrian”, albeit not overly gloomy, in the years to come in the developed world. Valuations, based on our preferred valuation measure, Shiller price earnings, suggest that global real equity returns could at least be at long-term average levels (above long-term average in Europe, below average in the US). In sum, we are likely to see long-term real equity returns close to average in developed markets. The composition of total equity returns may change, though. If the past is a guide for the future, we should expect price earnings multiples to be, on average, lower during a period of deleveraging than during periods of leverage increase. This implies that total equity returns will depend more on dividends and earnings growth rather than on multiples expansion – price earnings ratios may even contract.

While a large part of the developed world has started to deleverage, in some countries debt/GDP ratios have actually increased since the burst of the bubble. In some euro area countries, notably France and Portugal, this is because of a weak economy and insufficient belt-tightening so far. However, this trend of rising leverage ratios is the result of lax monetary policy in conjunction with strong capital inflows from abroad in other countries, notably in the emerging world. With monetary policy in the developed world being ultra-loose since the burst of the bubble, capital has been flowing to higher yielding markets in fast growing economies, thereby stimulating credit growth in the region. There, central banks have been unable – to some extent unwilling – to lean against the rapid increase in leverage and, as a consequence, a sharp rise in housing prices. As a result, private sector debt ratios in China, as well as in Hong Kong and Singapore, are now at levels observed in other economies on the eve of a financial crisis. In addition, as history shows, it is not only the level of debt that matters, but also the pace of debt increase: the faster the debt build-up, the higher risk of overheating. Looking at the deviation of debt/GDP from the long-term trend (i.e. the credit-to-GDP gap) as one measure of excess credit, the same three economies are sending a warning signal (Figure 5).

Clearly, only the minority of credit booms end in a crisis. In many cases – especially when the starting point of leverage was low, as is typically the case of fast growing economies – the final outcome is a “benign” one. In addition, authorities in the three countries, especially in China, have various tools and the means to intervene if necessary. Nevertheless, we clearly have to monitor developments in emerging economies, in particular in the three mentioned countries, very closely going forward, as we cannot rule out that these economies are overheating, just as the developed world did in the middle of the last decade.

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Source: BIS, IMF, World Bank, Allianz Global Investors, as at Q4 2012

Figure 1: Total non-financial sector debt/GDP

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nSource: BIS, IMF, World Bank, Allianz Global Investors, as at Q4 2012

Figure 2: Private sector debt/GDP: decline from peak since 2008, % GDP

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Source: Allianz Global Investors, Datstream, as at September 2013

Figure 3: Real FX change during financial crisis

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Figure 4: Accumulated gross federal debt

Total debt/GDPPublic debt/GDP10y real price increase S&P

Source: EU, Allianz Global Investors as at 2012

Figure 5: Non-financial private sector debt: % difference predicted values to actual values

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3. Equities outlook - US

US equity indices pushed higher in the third quarter of 2013 despite investor concerns about the onset of tapering by the Federal Reserve (Fed). As it stands, both real GDP and core inflation measures appear to running below the initial forecasts of the Fed for 2013. Nevertheless, government bond yields have risen significantly on the prospect of a reduction in the USD 85 billion of monthly purchases of Treasuries and mortgage-backed securities, with the 10-year US Treasury bond yield climbing to just above 3%. Mortgage rates have also risen on the back-up in Treasury yields, and corporate bond spreads widened over Treasury bonds.

The strong reactions of bond investors to the Federal Open Market Committee statement on 22 May, indicating the Fed would begin tapering quantitative easing, constituted, in the Fed’s estimation, a tightening of financial conditions. The increase in interest rates introduced the possibility of a new drag on US economic growth and a further shortfall of core inflation relative to the 2% target. Indeed, some softening in US home sales became more evident as the summer progressed. Consequently, in mid-September, the Fed elected not to initiate the tapering of quantitative easing. This has eased equity and bond investor concerns, and allowed equity indices to push to new highs.

We have previously raised the issue that central banks may have backed themselves into a corner and will need to maintain efforts at repressing interest rates longer than investors currently anticipate. Once they elect to depart from quantitative easing, and eventually normalize policy rates, central banks will inevitably expose bond investors to potential losses. We have described this as an adversely skewed risk/return profile for long duration government bonds in developed markets. After the recent experience with the Fed’s tapering announcement, bond investors are alert to the problems that occur when long bond yields have been pulled down to low nominal levels. Small increases in yields result in large capital losses, and the coupon on the bond is not enough to cover these losses. Central banks are likely to extract

themselves from interest rate repression in a very slow and cautious fashion as this exit problem becomes more apparent.

Bond investors are also likely to require a higher risk premium as a result. Already, the US has seen very large redemptions in bond mutual funds as individual investors realize their exposure to this adverse risk/return profile. Low inflation and slow growth news in the US has not prevented these redemptions. But investors are not going to be able to achieve their desired returns by sitting in cash or near cash instruments. Nor are they likely to pursue real estate investments as aggressively if they are concerned about an eventual normalization of interest rates. While equity fund inflows have been slow so far, the odds are investors will increasingly conclude that, to achieve their return objectives, they will need higher equity exposures.

This shift in portfolio preferences toward equities is still likely to occur even in a slow growth environment. Third-quarter results are pointing toward a real GDP gain that will be below 2%. Real consumer spending, which comprises over two thirds of US real GDP, has drifted below 2% this year (as displayed Figure 1). Fear of fiscal restrictions derailing the US consumer in the spring were misplaced, but it is equally clear that higher equity and real estate prices have not been sufficient to generate an acceleration in consumer spending this year. While the unemployment rate has drifted lower, monthly payroll gains remain stuck below 200,000, and much of the job generation is still skewed toward part-time work. Falling labour force participation rates are contributing more to the unemployment rate decline, with younger workers either electing to go back to further education, or finding difficulty entering the labour force.

2013 real GDP growth is tracking in the 1.6%-1.9% range, which is below initial expectations for the year. 2014 real GDP should improve to the 2.4%-2.6% range as several factors come into play. First, fiscal headwinds should diminish relative to 2013, perhaps by as much as a full percentage point of GDP. Second,

Rob Parenteau, CFAEconomist, External Advisor


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Shaded areas indicate US recessions, 2013 research.stlouisfed.org

growth trends have begun showing mild improvement in the UK, the euro zone, Japan and China. This should assist US export growth and help improve the US trade deficit, which so far has shown better results only on the petroleum side of the balance. Third, if the Fed is likely to remove quantitative easing only slowly, interest rate increases will tend to be moderate and the housing sector will continue its recovery into 2014. Fourth, we should begin to see more replacement demand for capital goods in the developed markets. The non-residential investment share of GDP remains quite low in many developed markets, which is particularly an anomaly in the US given the high corporate cash flow generation. New orders data from the Institute of Supply Management have shown strong gains through the summer and the Philadelphia Federal Reserve survey has also shown an improvement in new orders, although both of these surveys have yet to be confirmed by core non-defense capital goods orders growth.

Operating earnings growth for companies in the S&P 500 Index has been making a slow turn so far this year; stronger growth prospects in 2014 should enhance this improvement. The consensus of analysts is for S&P 500 operating earnings to deliver a 10% year-on-year gain by the final quarter of 2013, yet revenue gains are expected to be only 1%. After a 3.5% year-on-year gain reported in the second quarter, we believe a

5%-7% full-year 2013 earnings gain looks more likely. In the GDP accounts, we are also finding evidence of improving momentum in after-tax corporate profits. 2014 consensus estimates for S&P 500 operating earnings currently project just over an 11% gain, while 8%-10% is probably more realistic given the still moderate global recovery we currently anticipate. Even under our more conservative earnings growth expectations, US equity valuations appear near historical averages.

To conclude, US equities appear to be supported by several factors: a Fed that will be slow to withdraw unconventional monetary policy; moderate economic recovery prospects at home as fiscal drag diminishes; improved foreign demand for US products as the euro zone, UK, Japan and China deliver better growth in the coming quarters; and a still benign inflation outlook. Bond investors are coming to terms with the adverse risk/reward profile in developed market sovereign bonds arising from unconventional monetary measures. As such, with valuations neutral, we should begin to see a more defined shift in portfolio preferences towards equities in the coming quarters.


Source: US Department of Commerce: Bureau of Economic Analysis, as at 1 July 2013

Figure 1: Real personal consumption expenditures (Personal consumption expenditure PCEC96)

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Global Strategic Outlook - 4th Quarter 2013 Global | US | Europe | Asia-Pacific

For the last four to five months, European businesses have been on hold as they wait for the results of the German election. That result is now in… and it means no change! While Chancellor Merkel and her party have seen good results in the polls, these results were not strong enough for them to gain a full majority. Additionally, within the results, some interesting sub-plots emerge: the Chancellor’s main coalition partner, the FDP, failed to gain a place in the Bundestag for the first time since the Second World War, while the anti-Europe AFD party also failed to gain sufficient votes. So, where does this leave Germany? In all probability, with a Grand Coalition with similar policies towards Europe, there will be more budgetary discipline and more policy towards centralizing the institutions that are crucial to expand the European Union; there certainly will not be more consumption or lower taxes.

Up to this point, European markets and economies have experienced a good summer: industrial production has picked up, while the lessening of austerity has seen the recession diminish. However, much fundamental and structural work still needs to be undertaken, especially in Italy and France where political consensus remains fraught and weak. Nevertheless, progress is being made, enabling the European Central Bank (ECB) to watch from the sidelines as a fragile healing takes place. However, actual economies remain starved of credit as banks in the European Union (EU) continue to prefer to lend money to sovereigns, leaving investment for both capital expenditure and employment at low levels, frustrating politicians.

Amid fears that the Federal Open Market Committee would start to taper its quantitative easing measures, Europe has suffered over the summer from rising longer term rates as European Union bonds mirrored the movement in US bond yields. This has frustrated the ECB’s forward guidance, and higher rates and a stronger euro may threaten the current recovery. Also, over the summer, concerns have grown about the

regulatory supervision of banks within the euro zone, while the ECB’s Asset Quality Review in the first quarter of 2014 may yet reveal more unpleasant details of the health, or otherwise, of the euro zone banking system.

Other concerns have also been brewing over the summer and these may come into the focus of European politicians. Will Greece require another bail-out, and will that be its third or fourth? Will Italian politics lead to another election in the first half of 2014? Will we see further deficit spending slippage from Portugal, Spain and France? And, of course, there is the German Constitutional Court decision that may inhibit any significant changes, or increases, in German support for any new EU bail-outs or policies.

We expect economic growth in Europe to remain lacklustre and reliant on a global recovery for any significant momentum. Within the region, local policy is expected to focus on addressing the tragedy of youth unemployment and the repair, or perhaps cure, of the troubled European banking system. Further muddling through, political dithering and difficulty are to be expected into 2014.

Equities outlook - Europe

Neil DwaneChief Investment Officer, Equity Europe

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Equities outlook - Asia-Pacific

In the coming quarter, we believe North Asia will continue to be the focus with positive news momentum, whereas South East Asian countries will experience further economic adjustments. The performance of regional markets will depend on the US 10-year bond yield and the US dollar, partly as a result of what the Federal Reserve (Fed) decides to do regarding tapering of its quantitative easing programme. A higher yield and stronger dollar will continue to exert pressure on the regional risk assets and, therefore, more net outflows will be expected. Otherwise, a stable bond yield and a softer dollar will give the regional markets greater breathing space to carry out much needed structural reforms.

JapanIn Japan, there are signs to show Abenomics is beginning to bear fruit with aggressive monetary reflation having a positive impact on the Japanese economy. The GDP growth for the period April to June was 3.8% up on an annualized basis. Private consumption, export and public spending were the drivers of this growth. Money and loan growth has accelerated, consumer confidence has risen and the Tankan business survey has moved into positive territory. For the first time in many years, inflation expectations in Japan have risen to over 1%. So long as the authorities keep reflating and expanding the Bank of Japan’s balance sheet, the Japanese yen will remain weak against the US dollar. As economic growth starts to improve, Prime Minister Abe is expected to take the decision to raise the consumption tax rate from 5% to 8% in April 2014. The Bank of Japan is expected to come up with further measures to balance the negative impact on the economy as a result of this hike in tax rates. No doubt the government’s target to improve the primary balance by cutting the deficit by 50% in financial year 2015 is a challenging task. To sustain the economic recovery, Abe has to deliver his third arrow on how he wants to carry out the country’s structural reform.

The news that Tokyo has been selected as the venue for the Olympic Games in 2020 boosted market sentiment. What is more essential for the equity

market, however, is the recovery of the corporate sector. Thanks to the economic recovery and earnings improvement, the corporate sector has seen a reduction in leverage and made progress on the net cash position. As a result, we expect corporate activities will pick up from here.

ChinaIn China, there is a lot of skepticism regarding the economy, and the credit crunch situation in June has increased bear sentiment in the market. The sharp increase in Shibor was not an indication of what happened in the subprime fallout in the US. Beijing has sent very strong signals to the market that it would like to address some of the structural problems in the economic system. Rather, the outbreak of the interbank liquidity crisis in June was indicative of a change within the new government toward credit expansion and economic growth at large. The authorities are concerned about the run-away growth of shadow banking activity and the rapid build-up in unsecured provincial government debt. The Chinese government is determined to bite the bullet to bear short-term pain for long-term gain. The task is undoubtedly very challenging as it requires finding the right balance between growth and risk. The Shibor crunch was engineered by the People’s Bank of China who wanted to send the message to state-owned banks of its own intentions to squeeze shadow activity.

President Xi Jinping recently argued that China should not focus on solely GDP growth, but should also pay attention to livelihood improvement, social progress, ecological benefits and effectiveness. This should help ease the pressure on provincial and municipal leaders to strive for GDP growth in their regions. In China, the key concerns have focused on the rapid surge in the credit and the ballooning shadow banking system. There is no question that a part of China’s domestic savings is misallocated, resulting in overcapacity in certain sectors and wasteful investment. Local government borrowing is also problematic. The Chinese government’s official estimate is that local government debt amounts to USD 2 trillion, or about

Raymond Chan, CFAChief Investment Officer, Equity Asia-Pacific


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20% of GDP. No doubt some trust companies will be forced to go under and some local governments will default on their liabilities. However, we do not believe there is a systemic crisis here. China saves close to 50% of its output and its equity and fixed income markets are limited in scale. As a result, the large pool of domestic savings has to be allocated via banks and other forms of borrowing activity, leading to a high level of debt. In addition, the household sector in China is underleveraged and the same applies to the corporate sector. State-owned companies have been the main borrowers from banks. However, the country has run current account surpluses and the government sits on a large amount of reserve assets.

While the risk has increased of seeing China experience slower growth in the coming years, as a result of its de-leveraging process, we believe the Chinese government has enough tools to achieve a soft landing. It should also be pointed out that the Chinese banking system is relatively liquid, as nearly 40% of the funds of Chinese banks go toward either the purchase of government bonds or to meet reserve needs. The loan-to-deposit ratio for the banking system is 75% and there is a 20% reserve requirement to be satisfied with the People’s Bank of China.

Thanks to resilient infrastructure and property investments, and the lagging effect of credit expansion, there are signs of economic stabilization in China as we enter the third quarter of 2013: manufacturing purchasing managers’ indices have beaten market expectation and returned to the expansionary zone, helped by rising new orders and production activities; both fixed asset investment and retail sales have maintained stable growth; interbank rates have normalized after the People’s Bank of China resumed liquidity injection through its open market operations.

On economic policy, it becomes increasingly clear that the Chinese government is determined to strike a balance between supporting economic growth above a certain level and, at the same time, promoting structural reforms in selected areas. With this minimum growth target in place, there is a so-called “reverse transmission of pressure” on the government to introduce “targeted easing measures” when the risk of economic deceleration arises. As the economy has shown some sequential improvements in recent months, we envisage government leaders putting more emphasis on reform measures to address

structural issues, such as local government fiscal constraints and social inequality.

In the final quarter of 2013, all eyes will be on the Chinese government’s master reform plan. With the approach of the Third Plenary Session of the 18th Chinese Communist Party Central Committee (CCPCC) Meeting, we are seeing more government officials’ comments and media reports on new reform initiatives. Potential key reform areas include public finance and taxation, capital market liberalization, urbanization, transfer of rural land rights and social welfare. The CCPCC meeting was recently confirmed to convene in November and the top leaders are expected to unveil their reform blueprint by then.

From a valuation perspective, at current levels Chinese equity markets, including both onshore A-shares and offshore H-shares, offer attractive opportunities for long-term investors. Not only is slower growth largely reflected in prices, but the stabilization and potential transformation of the Chinese economy will also gradually lift investor confidence in the market and lower its required risk premium. That said, we also expect market volatility to stay in the near term as investor sentiment swings. Since the beginning of this year, we have been seeing a divergence of performance between cyclical stocks and non-cyclical growth stocks. While cyclical sectors like basic materials, coal and capital goods continue to suffer from earnings downgrades and de-ratings, growth stocks that are less affected by cyclical growth deceleration, such as healthcare, TMT and utilities, manage to deliver a stellar performance.

As for potential systemic risks of the Chinese market, we consider the negative impact of a deleveraging process and anti-corruption investigations the two major areas to closely monitor. While the former will constrain investment activities by both municipal governments and corporates, the latter will certainly expose some hidden corporate governance issues.

ASEAN & IndiaThe last couple of months saw extreme volatilities in some of the currencies in the ASEAN countries and India as a result of the deteriorating external balances of these countries and concerns on tapering by the Federal Reserve. Countries like Indonesia and India, that have both fiscal deficits and current account deficits, have been especially adversely affected. While we may see rebound in oversold risk assets, it

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may be too early to argue these markets have hit the bottom.

We do not believe the South East Asian markets will face a currency meltdown, like the one we saw during the Asian crisis in 1997-98. To a large extent, banks in the region have strengthened and, to date, we do not see signs of bank funding stress. Foreign debt is within reasonable levels. In addition, exchange rates are more flexible now than before.

We believe the Indonesian government is taking the right action by raising interest rates to defend the currency. In fact, Bank Indonesia has raised its main policy rate from 5.75% at the end of June to the current 7.25%. The yield on the 10-year government bond has jumped to well over 8% from a record low of 5.2% at the start of the year. The current account deficit hit 4.4% of GDP in the second quarter, up from 2.6% in the first quarter. Bank Indonesia believes the current account deficit should narrow to 3.4% of GDP in the third quarter. Inflation touched a four year high of 8.8% in August after the government decided to cut costly fuel subsidies in June. We believe interest rates have not peaked yet and there is still pressure to see rates go higher before negative real rates turn positive. Consequently, estimates for economic growth are probably still too high and need to come down to lower levels. Corporate earnings growth momentum will be negative and the equity market valuation still does not look attractive.

India, the worst hit emerging market, has much to do to turnaround the situation. The Indian rupee is down more than 20% against the US dollar this year, making it one of the worst performing currencies in the world. Not surprisingly, India’s foreign exchange reserves have dropped by nearly USD 14 billion since the end of March, equivalent to more than 5% of its reserves. The current account deficit has hit almost 5% of GDP, the largest in a decade. The government has responded by restricting imports, which has reduced the average monthly trade deficit in goods by almost a third since June. The Reserve Bank of India has not done much good to the market by first tightening liquidity, before later changing course and loosening it. This created uncertainty in the foreign exchange market and saw the Indian rupee fall more than 3% in one day, the biggest one-day drop in nearly 20 years. The inverse yield curve suggests that the Indian economy will weaken further. Household consumption is still weak while investment has not recovered. GDP growth saw

a 10-year low of 5% in the year ending in March, and the consensus number for the coming year is still on the high side. Meanwhile, consumer prices are rising at annual rate of 9%. The country desperately needs structural reform, but there seems little chance of this. We may have to wait until the next election which will take place next year. The government has come up with some measures recently to curtail the trade deficit, such as raising tariffs on gold. The Reserve Bank of India has also imposed capital controls on residents to prevent capital flight. These measures may help the situation, but they are not enough to fix the economy structurally.

The unintended consequence of quantitative easing in the developing world has been morally hazardous. The availability of external capital has permitted rising budget deficits and made it easier for politicians to put off much needed structural reforms. There is a risk that, as a result of the reversal of the fund flows, we will see falling asset prices, rising interest rates and the weakening of the currencies causing inflation to accelerate. Any slowdown in tapering by the Federal Reserve will only give temporary relief to the Asian emerging countries to buy time for implementing much needed structural reforms. In terms of strategy, we continue to focus on North Asia relative to the South East Asia and India.

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Klaus TeloekenChief Investment Officer, Systematic Equity

Equities outlook - style

The third quarter of 2013 has been a challenging quarter for style investors since most investment style favourites, like positive earnings revisions, high price momentum, strong growth and high quality, all lagged the wider market. Among the major investment styles, only value was ahead of the general market.

The performance of investment styles in Q3 followed the typical pattern of the early stages of an economic upturnThe performance of investment styles has followed the typical pattern expected during the first months of an economic upturn after a mid-cycle slowdown. Typically, in the first months of an economic upturn, higher beta investment styles, like value or small caps, take the lead, while quality and growth names lag. Trend-following strategies, such as price momentum and earnings revisions, often suffer in the early stage of an upturn, but then adapt to the new environment and return to efficiency again.

The premium paid for earnings growth has halvedThrough most of 2012 and early 2013, the median forward price earnings of high-growth stocks was 15%-20% higher than that of low-growth stocks. Since May, this premium has halved and, in Europe, the premium has fallen to just 4%. The decline in the premium has been due to improving economic activity as growth is no longer being seen as scarce as at the start of the year. European economic surprise indicators are indicating that, if sustained, the recent strong news flow might even push high growth to a discount relative to low growth.

Investment styles, flow data and economic surprise indicators all suggest that the recovery will continueGlobal purchasing managers’ indices troughed in June and have shown signs of recovery since then. We expect the current economic upturn to continue. First, economic indicators continue to surprise on the upside, supporting the view that Europe and the emerging markets will continue to rebound, while the US looks in good shape to cope when the Federal

Reserve (Fed) starts to taper quantitative easing. Second, cyclical stocks and high-beta stocks saw persistent inflows in August, despite a weaker market that should have been detrimental for these stocks on the margin.

We take these factors as a sign of confidence in the economic recovery, as well as an indication of the internal strength of the market. Finally, if we were to reverse engineer a view on the cycle from recent investment style performance, the conclusion would resoundingly be that the global economy will continue to recover.

What are the implications of the improved economic outlook for investment styles?In the latter stage of an economic upturn, the performance advantage of high-beta investment styles generally abates a bit and gives way to a more balanced performance profile with the all of the major investment styles (value, revisions and momentum) contributing. However, as a pro-risk stance remains rewarding, high quality and stable growth stocks will find it difficult to progress.

What are the implications of the recent rise in interest rates for investment styles?Typically, as higher rates go hand-in-hand with an improved cyclical outlook, the performance of investment styles in times of rising rates is similar to the performance of investment styles in times of an economic recovery. Empirically, the investment styles value, small caps and high risk have been the winners in times of rising rates, while high quality and stable growth names tend to struggle. In our base scenario, we expect interest rates to remain broadly unchanged after the strong rise that started during the second quarter. Fears of a strong rise in US interest rates as the Fed tapers its latest quantitative easing programme are overdone, in our view, as continuing high unemployment should keep short-term interest rates near zero and anchor longer-term rates. Contrary to conventional views, yields actually fell after the end of the first and second tranches of Fed’s quantitative easing programme. A sustained rise in long-term


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Total yield strategies have only lagged dividend strategies when the world has been in crisis: during the 1974 bear market, the 1987 crash, the 1990 savings and loan crisis, and during the Great Financial Crisis.

Large caps versus small capsHistorically, small caps outperform large caps throughout the entire economic recovery, with outperformance strongest in the initial bounce at the beginning of a recovery, but continuing thereafter. Hence, we expect a tailwind for small caps from the current economic upturn.

Furthermore, relatively easy credit conditions and a relatively low level of market volatility add to the attractiveness of small caps. But small caps are trading at above-average valuations relative to large caps. The former valuation discount of small caps versus large caps has disappeared, or has even been changed into a valuation premium for small caps for some valuation measures like dividend yield or price earnings ratio. However, as long as the economic recovery continues, credit is easy to come by and volatilities remain low, we expect small caps to do well, although the risk premium for small caps might be below-par in this upturn due to above-par valuations.

SummaryThe performance of investment styles in the third quarter followed the typical pattern of the early stages of an economic upturn with higher beta investment styles, such as value or small caps, leading the wider market, and quality names and growth names lagging. Looking ahead, in the latter stage of an economic upturn, the performance advantage of higher beta investment styles typically abates to an extent, and gives way to a more balanced performance profile with all major investment styles – value, revisions and momentum – contributing.

As a pro-risk stance remains rewarding, however, high quality and stable growth stocks may find it difficult to progress.

yields should only come when the US labour market has improved sufficiently for the Fed to start raising short-term interest rates, which seems unlikely until 2015 at the earliest. Even then, low inflation and a fragile global environment suggests that the pace of tightening might remain unusually slow.

If interest rates remain broadly unchanged going forward, the performance advantage of the investment styles value, small caps and high risk from rising interest rates during the second quarter will gradually fade out. This should give way to a more balanced performance profile with all major investment styles like value, momentum and revisions contributing.

High dividend strategies and the rise in interest rates Empirically, largely irrespective of the economic outlook, whenever interest rates rise, high dividend names struggle. This should not be a surprise since investors increasingly look at high yielding names as bond substitutes in times of low rates. If rates rise, these bond substitutes lose some of their appeal. However, in this case, the most at risk are the more defensive high dividend names, as these stocks have been sought as the true bond substitutes. Therefore, a high dividend strategy focusing more on cyclical high yielding stocks faces much less of a headwind if interest rates rise.

As rising rates mostly go hand-in-hand with an improved cyclical outlook, a more cyclical high dividend strategy should actually experience a tailwind. In our base scenario, we expect interest rates to remain broadly unchanged after the strong rise since the start of the second quarter. In an environment of still low, and at times even negative real yields for government bonds, high dividend stocks are expected to do well as dividend yields continue to be attractive. Globally, we see average dividend yields of 2.7%. Hence, a global high dividend strategy focusing on stocks with high and sustainable dividend yields can potentially expect to receive dividends of 4% to 5%. And these dividends have room to grow further as companies are cash-rich and payout ratios are relatively low.

In the current environment, a total yield approach focusing on dividends and buybacks is expected to do even better than a high dividend strategy. Total yield strategies have led high dividend strategies in 29 of the past 40 years in the US, and have performed particularly well in times of rising rates.


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Past performance is not a reliable indicator of future results.

Source: Allianz Global Investors research, as at 17 September 2013

Figure 1: Relative performance of global investment styles

Q3 2013

ValueGrowth

Revisions

Momentum

Quality

Risk

Small Cap

-4.0 -2.0 0.0 2.0 4.0

Jan 13 Feb 13 Mar 13 Apr 13 May 13 Jun 13 Jul 13 Aug 13 Sep 13

Value 1.0 -0.3 -0.8 0.0 0.5 0.2 0.4 1.4 0.8

Growth 0.5 0.9 1.6 0.9 0.5 0.1 -0.4 -1.4 0.2

Revisions 0.0 1.2 1.4 1.1 -0.5 0.5 -0.1 -0.6 0.2

Momentum -0.3 1.4 1.8 1.3 -1.3 -0.1 0.2 -1.0 0.3

Quality -1.0 1.0 1.2 -0.5 -1.2 1.4 -0.5 -0.7 -0.6

Risk 3.0 -1.8 -2.3 2.4 3.5 -2.5 0.4 0.6 1.4

Small Cap 2.2 -0.5 -0.5 -0.1 1.5 -0.7 -0.3 -0.3 0.5

Source: Allianz Global Investors research, as at 17 September 2013

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4. Fixed income outlook - global

Ingo MainertChief Investment Officer Balanced Europe

Market outlookFollowing encouraging economic data, there are distinct signs of a gradual re-acceleration of the global economy in the second half of 2013. Global leading and sentiment indicators regained positive momentum in the late summer period. In contrast to previous episodes, the current recovery is driven by developed countries and not by emerging regions. Robust data flow in all G4 countries points to some resilience within major economies against a less favourable economic environment in developing countries. We see our outlook supported by continuous accommodative monetary policies globally, an improvement in financial market conditions (especially in the euro zone), as well as low inflation rates. European countries should also benefit from lower headwinds from fiscal austerity. Structurally, global economic activity remains restricted by deleveraging of the public and private sectors as a consequence of the financial crisis in 2008/09 and the euro zone debt crisis in 2011/12.

In the US, a setback in growth following more restrictive fiscal policies has been avoided as private consumption has remained healthy and the recovery in the housing market, as well as solid business investments, have helped to cushion the effects. Growth has slowed temporarily in the second quarter, but is set to re-accelerate thereafter, supported by the pick-up in employment, well-advanced private sector deleveraging and increasing bank credit. Overall, the outlook for the US economy looks brighter than for other developed markets.

The euro zone left recession in the second quarter. Taking into account recent sentiment surveys, the recovery is moderate but broad-based as core countries and peripheral nations, including Spain and Italy, show improving momentum. Accelerating global economic activity, coupled with the shift from additional austerity to more growth-stimulating measures and continued accommodative monetary policy in a low inflation environment, support a continuation of the moderate recovery going forward.

The Federal Reserve (Fed) has clearly indicated its willingness to reduce additional asset purchases this year should the new Federal Open Market

Committee’s (FOMC) economic projections materialize. The conditional timetable puts the unemployment rate even more into focus. Despite the slightly disappointing payroll figures in August, the announcement of lower asset purchases within the next month with a completion in mid-2014 appears reasonable. While a change in the Fed Funds rate is projected for early 2015, we see a chance for a continuation of encouraging data, which might eventually trigger markets to bring forward expectations for the first interest hike. In contrast, the Bank of England and the European Central Bank made it clear that they are not willing to tolerate a re-pricing of their front-end markets on the back of US monetary policy and a more advanced US recovery.

Our view for higher rates at the medium and longer part of the curve in advanced economies has partly materialized since May, due to stronger economic activity and in anticipation of declining monetary stimulus by the Fed. While we expect markets to show some volatility around the next FOMC meeting, we believe that the recent market trend for higher rates has the potential to continue. In contrast to the medium to longer term part of the curve, we expect the front-end to remain anchored by central bank policy rates for the time being as the economy strengthens. Following better economic activity in the UK, implied yields by GBP interest rate futures edged higher – despite the recently introduced forward guidance of the Bank of England.

The Japanese bond market was relatively untouched by the rise in yields in the US and core Europe, with 10-year Japanese Government Bonds (JGBs) stuck in a range of 0.7%-0.9% since May. Going forward, we would expect a continuation of this sideways movement. Prime Minister Abe is likely to make a final decision on the consumption tax hike in October. The Nikkei newspaper reported that a JPY 5 trillion stimulus package could be implemented to offset the negative impact from the planned consumption tax hike in April 2014. Related to that, a possible increase in market issuance should remain limited, however. With Bank of Japan buying in place, we think that JGBs should remain supported, even in an environment of rising bond yields elsewhere.


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Fixed Income outlook - Europe

Since tapering was announced at the end of May, European fixed income markets have been influenced mainly by the Federal Reserve (Fed), with the US Treasuries’ market playing an increasing role in setting the trend. The decision by the Federal Open Market Committee on 18 September to postpone the scaling-down of securities repurchases surprised the market and triggered the sharpest rally among US Treasuries for two years – once more demonstrating investor sensitivity to this issue. However, we consider that the final timetable is a minor concern. More significantly with regard to our investment strategies, the imminent shift in US monetary policy will have a major impact on long-term interest rates on both sides of the Atlantic.

The key issue is that the Fed will no longer directly control the entire yield curve. Purchases among longer dated treasuries have represented up to 70% of US government bond issues, driving long-term rates to historically low levels. This phase is now over and we maintain that yields will not return to their lows. The Fed remains in control, however, by maintaining short-term rates at zero and through shrewd forward guidance regarding its intention to refrain from hiking rates during the next 18 months. In this new context, in which the Fed is gradually positioning itself further “behind the curve”, future interest rate trends will be directly influenced by the central bank’s ability to communicate with enough credibility to guide market expectations and prevent long-term rates from steepening too sharply and weighing on the economy. The sharp steepening between 2-year to 10-year rates provides protection, however, by generating forward rates that are already reflecting the normalization of inflation and growth forecasts. For example, the five-year forward five-year rate is now above 4%. In keeping with the Fed’s schedule, forward money market rates are reflecting a deferred rise in rates, thus demonstrating the central bank’s strong credibility, which currently remains relatively unchallenged. We are, therefore, anticipating a slight steepening among US Treasuries, and target a yield of 3.0%-3.5% on a six-month horizon for 10-year bonds.

Consequently, there is room for further correction among core euro zone rates, particularly as the 2-year to 10-year segment of the yield curve has steepened 80 basis points less than in the US, which does not provide the same level of support. Without taking into account any knock-on effect from US rates, and despite the fact that we expect European Central Bank (ECB) monetary policy to remain unchanged in the foreseeable future, the progressive recovery in growth in the euro zone amid better economic and political visibility appears to justify higher rates. Over the coming months, we are adopting a shorter duration bias than our benchmark within core European markets, where we hold a steepening position, while seeking positive carry strategies by investing in peripheral euro zone bonds and the credit market through a highly selective approach.

Despite the tapering announcement, central banks’ accommodative monetary policies continue to support investor appetite for corporate bonds, which ensures plentiful liquidity for investment grade as well as high yield issuers. As a result, investment grade issuers have been able to improve their financial structure through a combination of high cash positions and early refinancing of loans and bonds, while high yield issuers, even at the lower end of the rating scale, have also met with strong demand.

The turning point in terms of the growth perspective for the euro zone supports our view that the credit metrics of larger European corporates should remain broadly stable, with some nuances: issuers in cyclical sectors (such as metals, mining, paper, chemicals) are likely to remain under pressure, partly because of the current slowdown in emerging markets, while peripheral names – particularly those with significant exposure to their domestic economies – are still experiencing a deterioration of their credit profile due to the weakness of their domestic economies and / or increasing competitive pressures.

Franck DixmierChief Investment Officer, Fixed Income Europe


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Our view on the banking debt market is unchanged; we believe the complacency that currently characterizes this market segment in Europe may not last much longer. We expect more volatility in the coming months linked to upcoming announcements about asset quality reviews coordinated by the European Banking Authority and the ECB. In a worst case scenario, the resolution of a few mid-sized players with significant losses to subordinated creditors could unsettle markets. There is also risk that some European policymakers could make the resolution process disorderly and uncertain by communicating poorly on the extent of losses to be borne by creditors.

In the long run, many challenges still lie ahead for European banks. Improving profitability, liquidity and capital positions will take years, not months, especially given the sluggish economic prospects, the uncertainties on the regulatory landscape and changing supervisory practices. Unsurprisingly, we expect banks in the periphery (Greece, Cyprus, Italy, Spain, Portugal and Ireland) to have more difficulty overcoming these challenges than their peers in core countries. The three main rating agencies (Moody’s, Standard and Poor’s, and Fitch) have negative outlooks on the vast majority of banks they rate in Western Europe and we share this general negative view.

Following the wave of downgrades experienced over the past two years, the weakest credit and subordinated issues have now migrated out of the investment grade universe, which leaves this market stronger and less volatile. Conversely, the high yield market has become very heterogeneous, with a growing proportion of corporate and financial hybrid bonds, as well as smaller (and weaker) issuers refinancing bank loans with bonds.

Our current credit investment strategy, which is based on a fundamental approach, is to favour senior over subordinated bonds for both banks and corporates. To be more specific, we invest in senior secured and unsecured high yield corporate bonds rather than subordinated, toggle and Payment-in-Kind notes. As for banks, we are overweight senior bonds, neutral Lower Tier 2 bonds and underweight Tier 1, additional Tier 1 and contingent capital notes.

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Fixed Income outlook - Asia-Pacific

David TanChief Investment Officer, Fixed Income Asia

Asian fixed incomeThe start of the second half of 2013 has been very eventful. Volatility has returned to the Asian markets as investors digest the prospect of tapering by the US Federal Reserve, a possible hard landing for China, risks from countries with high current account deficits and geopolitical risks caused by crisis in Syria. In combination, these events have led to significant outflows from Asian bond and currency markets.

Asian bond yields rose, partly mirroring the performance of US Treasury bonds, but also in response to the contagion effect from countries with high current account deficits, like Indonesia and India. Indonesia and India were the worst performing markets, declining 18.74% and 17.53% respectively in USD terms for the quarter to end August. Elsewhere, declines for other countries were more measured as strong fundamentals were able to negate the negative sentiment. The Korean bond market was even able to record a positive return, rising 2.98% in USD terms over the same period. Over the year-to-date period to end August, China stood out with positive return of 2.88% in USD terms.

Asian credit spreads have continued to widen and remain hostage to poor technicals against this negative backdrop. Spreads on investment grade issues widened to about 230 basis points (bps), while high yield spreads reached 588 bps.

Meanwhile, Asian currencies declined in tandem with bonds, but to varying degrees. Whereas the Indonesian rupiah and Indian rupee led the declines in Asian currencies due to concerns over their high current account deficits, the Philippine peso, despite strong fundamentals, was tainted by its association with emerging market risks, while the Australian dollar was affected by worries of slower Chinese growth.

Not all that negativeDespite concerns over slowing Asian growth, several Asian economies appear to have shown some signs of bottoming out. In particular, Korea recorded growth

of 2.3% year-on-year (YoY) in the second quarter of 2013, helped by stronger exports. For the Philippines, second quarter GDP growth of 7.5% YoY beat expectations, while Indonesia disappointed with slower-than-expected growth of 5.81% YoY in the second quarter. Even China has shown some form of stabilization, with the manufacturing purchasing managers’ index showing signs of expansion. The Citigroup Economic Surprise Indices for China, Asia Pacific and the emerging markets have been rising since July this year, although India and Indonesia will likely slow going forward, as their governments increase their efforts to introduce measures to stem capital outflows. With the US and Europe also showing signs of a pickup in economic activity, this may mediate some of the slack from emerging economies.

This is not the Asian CrisisThere were many lessons learnt from the 1997 Asian Financial Crisis and history shows us that an over-reliance on foreign currency debt was one of the key factors behind that crisis. Subsequently, this has led to the concerted development of a broad and deep local currency bond market. Although, at the onset, bond issuance was mainly limited to government bonds, it has grown to include corporate credits over time. The Asian local currency bond market grew from less than USD 500 million at the end of 1997 to USD 7 trillion (USD 4.8 trillion government bonds, USD 2.2 trillion corporate bonds) in 2012. In contrast, the market for Asian bonds issued in USD, which was approximately USD 200 billion in size in 1997, has grown to USD 470 billion today. This shows how the growth in the local currency bond market has clearly outpaced bonds issued in foreign currencies, such as the USD. With the availability of a vibrant local currency bond and an interest rate swap market, reliance on foreign currency debt has steadily decreased across Asia.

Another lesson learnt was the importance of foreign currency reserves as a means to defend currencies. Within Asia, India is the only country that has suffered

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a persistent current account deficit in the last few years. Many Asian countries still run current account surpluses. Much of the surplus in Asia can be attributed to the export-oriented nature of the economies. Asian economies have understood the importance of surpluses and savings and, hence, have desired to build up these reserves.

These strong fundamentals have also allowed many Asian countries to experience credit rating upgrades over the years.

Outlook We expect volatility to persist in the short term amid ongoing concerns about the effects of tapering from the Federal Reserve and concerns over countries with high current account deficits. Therefore, there is likely to be pressure on Asian currencies and bonds. However, the correction in the market has made valuations attractive. We remain constructive over the longer term and are looking for opportunities to increase risk given Asian economies continue to offer some of the strongest growth prospects globally.


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Figure 1: Asian bond marketsYTD August 2013

JPY USD EUR GBPHSBC Local Currency Index (ALBI) 5.46 -7.56 -7.44 -3.48HSBC USD Currency (ADBI) 7.83 -5.49 -5.36 -1.32China 17.38 2.88 3.03 7.43Hong Kong 10.15 -3.46 -3.33 0.80India -7.85 -19.24 -19.13 -15.67Indonesia -18.22 -28.32 -28.22 -25.15Korea 10.17 -3.43 -3.30 0.83Malaysia 6.02 -7.07 -6.95 -2.97Philippines 12.36 -1.52 -1.39 2.83Singapore 5.16 -7.83 -7.70 -3.76Taiwan 7.06 -6.16 -6.03 -2.02Thailand 7.86 -5.46 -5.33 -1.29

Source: Bloomberg, as at August 2013. Past performance is not a reliable indicator of future results

Figure 1 Cont’d.: Asian bond marketsJune - August 2013 (Q3)

JPY USD EUR GBPHSBC Local Currency Index (ALBI) -4.79 -3.71 -5.16 -5.52HSBC USD Currency (ADBI) -1.94 -0.82 -2.31 -2.69China -1.69 -0.56 -2.06 -2.44Hong Kong -1.69 -0.57 -2.07 -2.45India -18.46 -17.53 -18.78 -19.09Indonesia -19.66 -18.74 -19.97 -20.28Korea 1.82 2.98 1.43 1.04Malaysia -5.57 -4.49 -5.93 -6.29Philippines -2.67 -1.56 -3.04 -3.42Singapore -2.29 -1.18 -2.67 -3.04Taiwan -3.48 -2.37 -3.85 -4.22Thailand -5.26 -4.18 -5.62 -5.98

Source: Bloomberg, as at August 2013. Past performance is not a reliable indicator of future results

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Note: Asian Corporates represented by JPMorgan Asia Credit Index - Corpo-rate sub indicies. US Cor-porates represented by Credit Suisse Liquid US Corporate sub indicies.

Notes: 1 Current account data as at June 2013 except India which is at March 2013. Fiscal balance data as at December 2012 Indonesia, March 2013 for India. 2 As at 30 August 2013


Source: Bloomberg,Allianz Global Investors, as at 30 September 2013

Figure 2: Investment grade corporates: Asia versus US

Asian IG Corporate US IG Corporate

0

150

300

450

600

750

900

Sep 05 Sep 06 Sep 07 Sep 08 Sep 09 Sep 10 Sep 11 Sep 12

Spread (bps)

Figure 3: High yield corporates: Asia versus US

Asian HY Corporate US HY Corporate

-

500

1,000

1,500

2,000

2,500

3,000

Sep-05 Sep-06 Sep-07 Sep-08 Sep-09 Sep-10 Sep-11 Sep-12

Spread (bps)

Source: Bloomberg,Allianz Global Investors, as at 30 September 2013

Source: HSBC, Bloomberg, Allianz Global Investors as at 30 August 2013

Figure 4: Deterioration in current account & fiscal balance1

Indonesia India

(% of GDP)

-6

-5

-4

-3

-2

-1

0

Current Account Fiscal Balance

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Notes: 1 Current account data as at June 2013 except India which is at March 2013. Fiscal balance data as at December 2012 Indonesia, March 2013 for India. 2 As at 30 August 2013


Source: Bloomberg, Allianz Global Investors, as at 30 August 2013

Figure 6: Currency returns versus US dollar: YTD - August 2013

-18% -16% -14% -12% -10% -8% -6% -4% -2% 0% 2% 4%INR

AUDIDRPHPMYRNZDTHBSGDKRWTWDHKDCNHCNY

Source: HSBC, Bloomberg,Allianz Global Investors as at 30 August 2013

Figure 5: Sharp currency sell-off triggered by deterioration in current account and fiscal balance

Indonesian rupiah (IDR), (LHS)India rupee (INR), (RHS)

(USD/IDR) (USD/INR)

9,000

9,500

10,000

10,500

11,000

11,500

12,000

50

54

58

62

66

70

Jun 12 Sep 12 Dec 12 Mar 13 Jun 13

INR: -16.3% YTD2

IDR: -12.4% YTD2

Source: Citigroup Global Markets Inc,Bloomberg, as at September 2013

Figure 7: Citigroup economic surprise indices

China Emerging MarketsAsia Pacific

-80-60-40-20

020406080

Aug

12

Sep

12

Oct 1

2

Nov 1

2

Dec 1

2

Jan

13

Feb

13

Mar

13

Apr 1

3

May

13

Jun

13

Jul 1

3

Aug

13

Sep

13

Oct 1

3

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Asian Sovereign Ratings1

and 10-Yield Government Bonds Yields

Notes: 1 Sovereign ratings are standard & Poor’s Long-Term Foreign Currency Ratings.

Figure 8 Korea Taiwan Indonesia India1997 Latest 1997 Latest 1997 Latest 1997 Latest

USD bnGDP 532.2 1155.9 298.7 474.0 215.7 878.2 421.0 1824.8FX Reserves 20.4 323.2 83.5 409.1 17.4 108.8 29.7 270.6Current Account -8.2 43.1 7.1 49.6 -3.8 -24.2 -3.0 -93.3Short-Term External Debt 63.8 22.3 23.4 125.0 32.9 45.2 5.0 96.7RatioFX Reserves/GDP 3.8% 28.0% 28.0% 86.3% 8.1% 12.4% 7.1% 14.8%Current Account/GDP -1.5% 3.7% 2.4% 10.5% -1.8% -2.8% -0.7% -5.1%Short-Term ExternalDebt/FX Reserves 312.7% 37.8% 28.0% 30.6% 189.1% 41.5% 16.8% 35.7%

Figure 8 Cont’d. Malaysia Philippines Thailand China1997 Latest 1997 Latest 1997 Latest 1997 Latest

USD bnGDP 100.2 303.5 91.2 250.4 150.9 365.6 952.6 8227.0FX Reserves 21.5 137.8 8.7 73.5 26.9 173.3 146.4 3331.1Current Account -5.9 19.4 -4.3 7.2 -3.1 2.7 37.0 213.7Short-Term External Debt 14.9 43.7 11.8 7.0 37.8 45.0 31.5 476.9RatioFX Reserves/GDP 21.5% 45.4% 9.5% 29.4% 17.8% 47.4% 15.4% 40.5%Current Account/GDP -5.9% 6.4% -4.7% 2.9% -2.1% 0.7% 3..9% 2.6%Short-Term ExternalDebt/FX Reserves 69.3% 31.7% 135.6% 9.5% 140.5% 26.0% 21.5% 14.3%

Source: World Bank, IMF, Allianz Global Investors Global Capital Markets and Thematic Research, As at August 2013

SingaporeChina

Korea MalaysiaThailand

IndonesiaVietnam

Hong KongTaiwan

India

0

2

4

6

8

10

AAA AA+ AA AA- A+ A A- BBB+ BBB BBB- BB+ BB BB-

Source: Bloomberg, Allianz Global Investors, as at 23 August 2013

Figure 9: Most major Asian countries have investment grade ratings

High YieldInvestment GradeYield (%)

Philippines

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Herold RohwederGlobal Chief Investment Officer, Multi Asset

5. Multi asset outlook

No summer vacation for emerging marketsDeveloped markets have enjoyed a synchronized recovery in business sentiment indicators that began in 2012 and have subsequently trended upward. This has helped support the appreciation in equity markets, largely as a result of expanding price-earnings multiples rather than an underlying improvement in earnings. Over the last quarter, markets have moved quickly to price in a moderate tapering of US Treasury purchases by the Federal Reserve (Fed), which has had a profound impact on sovereign bonds. Such an outsized reaction in bonds was to be expected given the original concept behind asset purchases was to reduce yields to artificially low levels. As a result, it is to be expected that the unwinding of quantitative easing should have a disproportionately greater impact on bond markets than equities.

The potential normalization in US sovereign bond yields and cyclically weaker emerging economies has resulted in investment outflows from the emerging markets. Emerging market business sentiment indicators only reached a low in July this year, whereas developed market business sentiment troughed in 2012 and has subsequently appreciated. GDP forecasts have also been revised down due to ongoing relative weakness in many emerging markets.

In the medium term, the attractiveness of emerging markets has faded. Emerging market equities have now underperformed developed market equities for three years, reflecting the region’s slower productivity growth, the potential for a banking crisis in China (given the high level of banking debt to GDP) and the likely problematic transition to consumer-led economies. Moreover, emerging market countries with the largest current account deficits are the very ones that rely most heavily on their ability to finance those deficits with capital inflows unless they have significantly high accumulated foreign currency reserves and are, therefore, susceptible to capital outflows. Countries such as Indonesia and India are examples where capital has begun to exit, leading to a dramatic weakening in their currencies and dissuading investors from re-entering the local bond markets where currency is often the primary contributor to total bond returns.

However, there has been some stabilization in emerging market indicators relative to developed markets in the short term. Economic Surprise Indices have recovered and relative earnings revision momentum has now stabilized after previous downward revisions. Price momentum for emerging market equities has also improved and, therefore, a more positive stance in the asset class is now reflected in our model portfolio. Whilst we continue to question whether the long-term structural economic outperformance of the region can continue without significant supply side reforms, for which political will is currently lacking, tactically there is an argument for increasing exposure in line with improving sentiment and economic indicators, as well as greater government support in China for the economy.

Ongoing loose monetary policy supports risky assets Despite some mixed data out of the US over the summer, the housing market remains strong and the trend in core durable goods orders is still upward. The Fed is conscious of the meaningful decline in mortgage refinancing that has occurred against the backdrop of tapering concerns and the resultant increase in mortgage rates, and so they will look to only taper asset purchases gradually.

The euro zone region emerged from recession in the second quarter with growth supported by the core countries. The normalization in business confidence and the positive carry over for third-quarter industrial production implies our expectations of a moderate rebound in activity during the second half of this year remain valid.

Monetary policy remains supportive for risky assets as the expansion in monetary policy by the Bank of Japan helps offset the possibility of less monetary stimulus in the rest of the world. Although the European Central Bank balance sheet has been contracting, this has been the result of an improvement in credit conditions as monetary financial institutions, rather than the central monetary authorities, have taken the decision to reduce their liquidity. For this reason, we retain a preference for equities over bonds in our model portfolio, with a particular preference for European equities over other regions, given their cheaper valuations and nascent recovery.

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We have recently increased exposure to emerging market equities to an overweight position. This represents our view that a tactical rebound in this region could occur given the improvement in sentiment and earnings indicators relative to developed markets, as well as the depth of the sell-off during the last quarter. However, we maintain our structurally cautious view of the region over the medium term.

We prefer to hold underweight positions in US and European sovereign bond markets while the impact of the Fed tapering asset purchases is being priced in. Although Europe and the UK have attempted to decouple their monetary policy from the US through the use of forward guidance, to date money market yield curve steepness is still highly correlated amongst all three countries. Hence such attempts have, so far, proved unsuccessful.

Our preference is to take exposure to bond markets through spread products. In recognition of the greater interest rate risk implicit in investment grade corporate bond indices relative to high yield debt, we hold a neutral position in investment grade bonds in our model portfolio and an overweight in high yield. Moreover, high yield debt in the US provides the option for greater participation in the recovery in the domestic economy.

Commodity markets have been supported by the improvement in business sentiment in developed markets and the recent upside surprise in Chinese data. Previously this asset class suffered from the headwind from agriculture price weakness due to excess supply from record crop yields, but this is now reflected in prices. Moreover, stronger Chinese data should exert more upside price pressure on materials and the oil price, both of which were formerly on a weaker trend. However, we are not yet convinced there is sufficient upside to prices to overweight the commodity index and hence remain neutral.

The appreciation in developed equity markets since mid-2012 and the decline in volatility provide an ideal opportunity for hedging tail risk. Fundamentally, volatility is likely to increase going forward as the previous period of excess liquidity provided by central banks is fading. Such tail risks include a mis-managed exit from quantitative easing in the US, a banking crisis in China or a flare up in the European fiscal crisis.


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6. ESG outlook

David DiamondGlobal Co-Head of ESG

ESG = Environmental, Social and Governance

In this publication, we have previously made the case that participating in investor networks and initiatives is essential to bring about more sustainable government policies, financial markets and also corporate practices.

Indeed, as part of its fiduciary duty, Allianz Global Investors seeks to be a leader in three areas: 1) contribute upstream to improved market governance; 2) integrate ESG (environmental, social and governmental) factors in its investment decisions; 3) and play a role downstream for improved corporate governance and ESG integration by investee companies.

Recent Global Strategic Outlook articles have presented Allianz Global Investors’ leadership in support for upstream initiatives. These include the Extractive Industries Transparency Initiative and an Investor position paper on proposed EU reforms for the Audit Market.

In this article we will examine a recent investor led initiative, which seeks to play a role downstream in the investment value chain.

Upstream

Participating in corporate or multi-stakeholder initiatives and investor networks to bring about more sustainable government policies, financial markets and corporate practice.

Investing

ESG criteria considered in order to manage portfolios with financial and/or other objectives.

Downstream

Active share ownership, proxy voting policies and company engagement in order to protect long- term investor interests.

Following a series of recent calamities in Bangladesh, investors, including Allianz Global Investors, signed a public statement with recommendations for brands and retailers sourcing apparel products from Bangladesh.

What happened in Bangladesh and why investors believe reform is necessary The November 2012 fire in the Tazreen garment factory, the collapse in April of the Rana Plaza, and a second deadly fire on 8 May 2013 in a sweater factory in Dhaka resulted in the death of over 1,500 garment workers with at least another 1,000 seriously injured.

According to the investor position paper we signed: “while these individual incidents have different root causes, collectively,…investors argue that they are a grave indictment of the human rights record of Bangladesh, and an illustration of the failure of the global companies that manufacture and source their products there to ensure humane working conditions.”

Since Nike was the first company exposed to a consumer boycott after accusations of child labour in the 1990s, Bangladesh has possibly become a watershed moment for mitigating the reputational, operational and financial risks to global consumer brands.

What is the investor group on Bangladesh seeking?By May 2013 over 200 investors worldwide representing over USD 3 trillion in assets under management, including Allianz Global Investors, had signed a position paper calling on brands and retailers to collectively pledge to implement the internationally recognized core labour standards of the International Labor Organization. They also expected companies to acknowledge their human rights responsibilities, as delineated in the ‘protect, respect and remedy’ framework of the UN Guiding Principles on Business and Human Rights (also known as the Ruggie Principles).

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Moreover, investors called on apparel and textile companies to:

• Join the Accord on Fire and Building Safety1 (the Accord)

• Commit to strengthening local trade unions and a living wage for all workers

• Disclose all their suppliers, and their health and safety programs

• Ensure that appropriate grievance mechanisms, including compensation, are in place

The investor statement sends a strong signal not only to apparel companies but also to Bangladeshi regulators, where the economy is heavily reliant on textile manufacturing and competes with South East Asian countries.

Why we decided to sign?For strategic reasons, we have decided to establish our own broad-based engagement policy, which is currently being developed and rolled out over the course of 2013-14.

On the corporates’ side, our core engagement goal is to “actively incite companies to improve ESG performance in order to better assure their long-term business prospects.” As identified, ESG risks may represent reputational or business risk over the short, medium or long term. Mitigating those risks is of interest to Allianz Global Investors as part of our fiduciary responsibility.

In this context, the ESG team has identified four broad themes: climate change, corporate governance, ESG disclosure and ESG issues in supply chains. The advantage is that they are structural, even systemic in the case of climate change, and thus apply to most sectors.

Signing up to the investor statement on Bangladesh fits squarely with our approach to corporate engagement and notably corresponds to the theme on supply chain risks.

What has happened since the investor paper was released and next stepsOver 70 companies and retail heavyweights, such as Inditex, Carrefour, H&M, Tesco and Fast Retailing, have already agreed to the Accord and a binding five-year agreement to contribute financially to health and

safety upgrades at supplier factories. By May 2013, the investor statement had been sent to the major US apparel trade associations, and has since been shared with apparel companies sourcing from Bangladesh.

In early July, a new initiative, the Bangladesh Worker Safety Initiative (the Initiative), was developed by a group of about 20 North American companies as an alternative to the Accord. While investors applauded the members of the North American Alliance, which includes Walmart and Gap, for responding with a formal plan of action, they were disappointed that these companies chose not to sign the Accord, which does include other North American companies. Moreover, they remain concerned to see a lack of worker involvement in the development and governance of the Initiative.

Allianz Global Investors believes investors have a strong interest in achieving a level playing field for the sector so that competition remains fair, efficient and effective. This can best be achieved through the development of one consistent and harmonized framework to raise human rights and labour standards in Bangladesh without putting some companies at an unfair disadvantage as a result of differing standards. Consistent with our signature to the investor position paper, we will engage with specific apparel and clothing companies to better understand any concerns they have about the Accord, while seeking to incite them to commit to it.

1Accord on Fire and Building Safety:, an international, multi-stakeholder agreement that has been signed by over 70 European, American and Australian companies.

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2013 2014

AllianzGI Consensus AllianzGI Consensus

USReal GDP % chg SAAR* 1.60 1.60 2.50 2.65CPI** 1.60 1.60 2.00 1.90Short-Term (official) Rates 0.0-0.25 0.25 0.0-0.25 0.2510 Year Rates 3.00 2.85 3.25 3.35US Dollar Index 85.75 82.60 85.50 84.60UKReal GDP % chg SAAR* 1.40 1.30 2.50 2.00HCPI*** 2.70 2.70 2.40 2.30Short-Term (official) Rates 0.50 0.50 0.50 0.5010 Year Rates 3.05 2.77 3.30 3.26GBP/USD 1.59 1.56 1.56 1.52EurolandReal GDP % chg SAAR* -0.29 -0.40 1.50 1.00CPI** 1.40 1.50 1.40 1.50Short-Term (official) Rates 0.50 0.50 0.50 0.5010 Year Rates (Germany) 2.05 1.91 2.40 2.29EUR/USD 1.35 1.32 1.32 1.25JapanReal GDP % chg SAAR* 1.80 1.90 2.00 1.55CPI** 0.30 0.20 2.00 2.30Short-Term (official) Rates 0.0-0.10 0.10 0.0-0.10 0.1010 Year Rates 0.90 0.85 1.50 1.08JPY/USD 105.00 102.00 110.00 110.00ChinaReal GDP % chg SAAR* 7.40 7.60 7.00 7.40CPI** 2.60 2.60 2.80 3.101 Y Lending Rate 6.00 6.00 6.00 6.0010 Year Rates 4.20 4.11 4.25 4.07USD/CNY 6.05 6.10 6.00 6.04Hong KongReal GDP % chg SAAR* 4.60 5.70 5.10 4.80CPI** 11.00 6.10 9.00 9.053 M Interbank Rate 7.50 7.50 7.25 7.5010 Year Rates 8.75 8.56 8.00 8.04USD/HKD 64.00 63.00 63.00 62.00CommoditiesGold 1400 1413 1300 1285Oil 105 99 108 101

*Seasonally Adjusted Annual Rate. **Consumer Price Index. ***Harmonized Consumer Price Index. Source: Allianz Global Investors, as at 4 October 2013. Forecasts are not a reliable indicator of future results.

7. Economic forecast summary

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Financial markets review

30-Sep-13Qtr-to-date30-Jun-1330-Sep-13

Yr-to-date31-Dec-1230-Sep-13

% Change From Calendar Year 2012

Calendar Year High

Calendar Year Low

Equities USS&P 500 3000.18 5.25% 19.79% -2.49% 19.79% 16.00%NASDAQ 3771.48 10.82% 24.90% -0.47% 24.90% 15.91%MS Value 8606.03 2.95% 20.23% -2.95% 20.23% 14.99%MS Growth 5893.72 8.58% 20.12% -1.78% 20.12% 17.30%S&P 500 VIX 16.60 -1.54% -7.88% -18.98% 46.90% -22.99%NASDAQ VIX 16.73 1.58% -18.63% -18.63% 39.07% -11.11%Equities JapanNikkei 225 14455.80 5.69% 39.06% -7.50% 39.06% 22.94%Equities EuropeDJ Euro Stoxx 50 2776.23 6.59% 7.71% -2.33% 10.35% 8.78%FTSE 100 6462.22 3.97% 9.57% -5.53% 9.57% 5.84%Dax 30 8589.12 7.54% 12.83% -1.70% 15.02% 30.37%Cac 40 4143.44 10.82% 13.80% -1.49% 15.24% 15.23%Equities Asia-PacificMSCI Asia Pacific ex-Japan (USD) 1352.11 8.99% 1.90% -7.56% 11.64% 19.40%CurrenciesEUR/USD 1.3505 3.25% 2.36% -1.02% 5.77% 1.97%USD/YEN 98.2300 -0.91% 13.31% -4.83% 13.31% 12.71%GBP/USD 1.6194 6.77% -0.38% -0.55% 9.19% 4.59%Commoditiesoil brent 108.89 6.12% -1.33% -8.61% 11.60% 1.92%gold (USD) 1330.84 9.50% -19.95% -21.38% 9.54% 5.58%S&P Goldman Sachs Commodity Index 4845.28 4.78% -0.89% -5.55% 7.50% 0.08%Short-Term RatesFed Funds Target 0.25% 0 bps 0 bps 0 bps 0 bps 0 bps3-Month T-Bill 0.02% -2 bps -3 bps -12 bps 2 bps 3 bps3-Month Euro 0.23% 1 bps 4 bps -1 bps 4 bps -117 bps3-Month Yen 0.23% 0 bps -8 bps -8 bps 0 bps -2 bpsLong-Term Government Bonds2-Year Treasuries 0.32% -2 bps 7 bps -19 bps 11 bps 1 bps5-Year Treasuries 1.36% 0 bps 64 bps -47 bps 71 bps -12 bps10-Year Treasuries 2.62% 14 bps 86 bps -35 bps 99 bps -13 bps10-Year Bund 1.78% 5 bps 47 bps -25 bps 59 bps -53 bps10-Year JGB 0.69% -15 bps -10 bps -24 bps 25 bps -20 bpsUS Corporate BondsBarclays US Aggregate AAA 10+ years 4.08% 10 bps 139 bps -40 bps 139 bps -110 bpsBarclays US Aggregate BAA 10+ years 5.60% 7 bps 97 bps -26 bps 103 bps -77 bpsspread BAA/AAA 1.52% -3 bps -42 bps 14 bps -36 bps 33 bpsBarclays High Yield 8.22% -54 bps -83 bps -99 bps 151 bps -311 bpsEMU Corporate BondsBarclays Euro Aggregate AAA 1.22% 0 bps 34 bps -24 bps 43 bps -118 bpsBarclays Euro Aggregate BAA 1.57% -1 bps 36 bps -23 bps 46 bps -250 bpsspread BAA/AAA 0.35% -1 bps 2 bps 1 bps 3 bps -132 bps

The periodic changes for equity indices are percentage changes, whilst for bond indices the change is given in basis points. A 1% point change is equivalent to 100 basis points. The calendar high and low columns represent the deviation of the index in percentage or basis points terms accordingly, compared to the index level at the end of the period of review. Source: Datastream, as at 30 September 2013. Past performance is not a reliable indicator of future results.


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Implied earnings per share growth (5-year)

Global sectorsAllianzGI top-down

5 year earnings growth estimate (p.a.)

Market implied 5 year earnings growth

(p.a.)

Estimated growth minus market

implied growthRank

Oil & Gas 1.5% -4.1% 5.6% 1

Materials 2.4% 4.5% -2.2% 6

Industrials 1.6% 5.6% -4.0% 9

Consumer Goods 1.3% 4.2% -2.9% 8

Consumer Services 1.6% 8.1% -6.5% 12

Health Care 1.9% 8.3% -6.4% 11

Telecom 0.7% 3.3% -2.6% 7

Utilities 1.3% 3.3% -2.0% 5

Financials 1.7% -1.4% 3.1% 3

Banks 2.1% -2.8% 4.9% 2

Insurance 1.7% -0.5% 2.2% 4

Technology 1.8% 6.8% -5.0% 10Source: Allianz Global Investors, as at 1 October 2013. Past performance is not a reliable indicator of future results.

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Z-Score average

Delta to 3 month

ago

Z-Score relative

P/E

Z-Score relative

P/B

Z-Score relative

P/CF

Z-Score relative

DY

Oil & Gas -0.4 0.0 -0.5 -0.5 -1.0 -0.5

Oil Production -0.6 0.0 -0.8 -0.8 -1.2 -0.5

Oil Services 0.1 0.0 -0.3 0.4 0.5 0.4

Basic Materials -0.1 0.3 0.5 -0.8 0.2 0.4

Chemicals 1.2 0.0 0.8 1.7 1.4 -0.8

Bas Resources -0.5 0.3 0.3 -1.4 -0.3 0.6

Industrials 1.2 0.3 0.9 1.7 1.9 -0.5

Construction & Materials 0.3 0.1 0.9 -0.2 0.3 -0.4

Industrial Goods + Services 1.5 0.4 0.5 2.2 2.8 -0.3

Consumer Goods 1.2 -0.3 0.4 2.3 1.7 -0.6

Auto 0.9 0.0 -0.4 1.3 1.6 -1.2

Food & Beverages 1.1 -0.4 1.3 1.3 0.8 -0.8

Personal Household Goods 1.5 -0.4 0.8 2.7 1.8 -0.5

HealthCare 0.3 -0.1 1.1 0.2 -0.8 -0.7

Consumer ServIces 0.5 0.0 0.3 2.0 -0.3 -0.2

Retail 0.9 -0.1 0.8 2.4 0.2 -0.1

Media 0.1 0.1 -0.1 1.0 -0.7 -0.4

Travel & Leisure 0.2 0.0 0.0 0.7 0.2 0.1

Telecoms -0.4 -0.1 0.2 -0.2 -1.0 0.5

Utilities 0.2 0.0 1.3 -1.1 -0.3 -0.7

Financials -0.5 -0.1 -0.9 -1.0 0.4 0.5

Banks -0.8 0.0 -0.8 -1.3 -0.5 0.5

Insurance -0.5 -0.1 -0.5 -1.1 -0.1 0.4

Technology -0.3 0.1 -0.6 0.3 -0.5 0.6

Software -0.2 0.1 -0.4 0.7 -0.1 1.0

Hardware -0.8 0.1 -0.7 -0.3 -0.8 1.3Note: The table summarizes AllianzGI’s constant monitoring of relative sector valuations: We compare the current relative valuation with the average historic relative valuation by using z-scores for four widely used valuation measures, namely Price/Earnings (P/E), Price/Book (P/B), Price/Cash flow (P/CF), and dividend yield (DY). The z-score average column describes the average of all four valuation measures. The dividend yield enters the average with inverse sign, as a high dividend yield indicates a low valuation. Source: Datastream, AllianzGI, as at October 2013.

Legend: ◼ Numbers in green indicate z-scores of below -1 (attractive relative valuation) ◼ Numbers in red indicate z-scores of above +1 (expensive relative valuation)

Relative sector valuations


Biog

raph

ies8. Global Policy Council

Andreas E F UtermannGlobal Chief Investment Officer, Allianz Global Investors

Andreas Utermann is Global Chief Investment Officer (CIO) and co-head of Allianz Global Investors. Andreas joined Allianz Global Investors and its Global Executive Committee in 2002 as Global CIO Equities. Between his joining and the end of 2011, Andreas was also Global CIO and Co-Head of RCM. Andreas holds a number of non-Executive positions in the industry, including Board Memberships of the CFA Society of the UK, the AMIC Council of the ICMA as well as being a member of the Advisory Council of the DVFA. Prior to joining, Andreas worked for 12 years at Merrill Lynch Investment Managers (formerly Mercury Asset Management), where he was the Global Head and CIO, Equities. Before joining MLIM, Andreas worked for two years at Deutsche Bank AG. He holds a BSc in Economics from the London School of Economics and an MA in Economics from Katholieke Universiteit Leuven. Andreas is an Associate of the Institute of Investment Management and Research and is fluent in English, German, French and Dutch.

Raymond Chan, CFA

Chief Investment Officer, Equity Asia-Pacific

Raymond is responsible for all investment professionals in Asia ex-Japan, reporting to the Global CIO in London, and is the Chairman of the Global Balanced Investment Committee and the Regional Portfolio Management Group (RPMG) in Hong Kong. Raymond has overall responsibility for the investment process and performance. He has 22 years of portfolio management experience in the region and is the lead manager for the Core Regional (Asia Pacific ex-Japan equity) products. Prior to joining the Group, Raymond was Associate Director and Head of Greater China team with Barclays Global Investors in Hong Kong, where he specialized in Hong Kong, China and Taiwan stock markets and managed single country and regional portfolios. Raymond’s Hong Kong Fund at Barclays was ranked no. 1 offshore fund in 1997. He is a CFA charterholder and holds an M.A. in Finance and Investment from the University of Exeter and a B.A. (Hons.) in Economics from the University of Durham, UK.

The Global Policy Council (GPC) is a monthly meeting of the regional CIOs, Economics and Strategy team and senior investment professionals chaired by our Global CIO, Andreas Utermann. The council focuses on the direction of the global economy, regional economic outlooks, prospects for the global bond and equity markets, and periodic thematic pieces of proprietary research. Each month the GPC produces a forecast for regional equity, bond, currency markets on tactical and strategic horizons. The tactical horizon is expected to be roughly three months, while the strategic focus is expected to be longer than one year. The allocations suggested are not reflective of any single product or recommendation and may differ from other existing products. The members share seven votes between them, which determines the ‘virtual’ portfolios.

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Neil DwaneChief Investment Officer Equity Europe

Neil is Chief Investment Officer Europe, based in Frankfurt, and is responsible for all portfolio management, research and trading activities in Frankfurt, Paris and London. Neil is a member of the AllianzGI European Executive Committee as well as the Global Investment Management Group and is Chairperson of the European Equity Management Group, which consists of the most senior equity investment team leaders in Europe. Neil joined the company in 2001 as Head of UK and European Equity Management from JP Morgan Investment Management where he had been an UK and European specialist portfolio manager since 1996. He began his investment career in 1988 with Kleinwort Benson Investment Management as an analyst, later as a fund manager before moving to Fleming Investment Management in 1992. Neil holds a BA in Classics from Durham University and is a member of the Institute of Chartered Accountants.


As Head of Allianz Global Investors Economics & Strategy team since 2011, Stefan’s research covers global economics as well as global and European asset allocation. Stefan joined the firm in 1996 as an equity portfolio manager and assumed his current role as an economist and strategist in 1998. Between 2004 and 2010, he also had responsibility for various retail and institutional mandates, including global and European traditional balanced funds, global multi-asset absolute return and multi-manager alpha-porting funds. Stefan became a member of the firm’s Global Policy Council in 2004 and is a member of the Pan-European Tactical Multi Asset Investment Committee, established in 2013. Stefan also chaired the German Asset Allocation Committee between 2010 and 2012. Stefan holds a Diplom degree in Economics from the University of Konstanz (1995) and in Business Administration from the University of Applied Sciences of the Deutsche Bundesbank, Hachenburg (1991). Stefan became a CFA Charterholder in 2000.

Ingo MainertChief Investment Officer Balanced Europe

Ingo joined from cominvest in February 2009, following Commerzbank’s purchase of Dresdner Bank. Ingo is a Managing Director and CIO Balanced Europe. Ingo takes this role having headed Asset Management of cominvest since June 2006. Ingo started his professional career with Commerzbank in 1988 and first held analyst and currency specialist functions following his traineeship, before taking management responsibility in Commerzbank as Team Head Equity Strategy Germany in 1994 and Head of Fixed Income Research in 1998 before moving to the Asset Management side of the business as Head of Global Markets Research Division in 2001 at Commerz Asset Managers. Since 2002 he held a position as Head of Balanced Portfolio Management Division at cominvest, was then named Head of Asset Management Private Banking at Commerzbank in August 2004 and was finally appointed Managing Director and CIO of Cominvest. Ingo is a Certified Investment Analyst and a board member of the DVFA Society of Investment Professionals in Germany; he graduated from the Johann Wolfgang Goethe-University with a Diploma in Business Administration.

Franck DixmierChief Investment Officer, Fixed Income Europe

Franck Dixmier, CIO Fixed Income Europe, joined the Allianz Group in 1995 as Fixed Income Portfolio Manager. In 1998 he became the Head of Fixed Income for AGF Asset Management (the former name of AllianzGI in France). In this role he was also responsible for the AGF insurance portfolios. In 2008, Franck became a Member of the Executive Committee, and Chief Investment Officer of Allianz Global Investors France. He was appointed Deputy CEO of AllianzGI France and CIO of AllianzGI Investments Europe in 2010. Franck Dixmier graduated with a Master’s Degree in Economics and Finance from the Paris Dauphine University (Master’s degree - DEA conjoncture économique et prospective).

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David TanChief Investment Officer, Fixed Income Asia

David Tan joined Allianz Global Investors in 2012. He is the Chief Investment Officer, Fixed Income Asia Pacific. David has extensive experience in the management of Asian bonds as well as platform and business development. His experience in managing Asian bonds dates back to 1993. He joined Allianz Global Investors from AXA Investment Managers UK, where his last position was Executive Director Fixed Income Asia Pacific and Middle East with responsibility for business development. From end of 2008 to early 2011 David was Chief Investment Officer of Kyobo AXA Investment Managers in Korea. Prior to that, David was based in Singapore as Head of Fixed Income Asia, with responsibility for all the bond portfolio management activities in the region. David has a Bachelor of Business Administration (Finance) with joint majors in Economics from Simon Fraser University, Canada.

Klaus TeloekenChief Investment Officer Systematic Equity

Dr. Klaus Teloeken is the Co-CIO of the Systematic Equity team. He joined Allianz Global Investors in 1996 as a quantitative analyst, and in 2001 he assumed the role as Head of Systematic Equity. He oversees more than EUR17 billion of assets under management, and is responsible for the development and the management of systematic investment strategies for equities. In this role, Klaus has developed the team’s Best Styles and High Dividend product line. He is also responsible for the management of the Best Styles Global and High Dividend Global product. Klaus studied mathematics and computer science in Dortmund, Germany.

Contributors – non GPC members

David DiamondGlobal Co-Head of ESG

David joined Allianz Global Investors in 2008 in charge of all ESG related commitments for AllianzGI France, including Head of ESG Research. In October 2012 he was promoted Global Co-head of ESG. In that capacity he is responsible for all governance related activities, including engagement and proxy voting. He currently represents investors, including Allianz Global Investors, on the boards of the Extractive Industries Transparency Initiative (EITI) and the French Social Investment Forum (FIR). He has also participated in several Global Reporting Initiative (GRI) working groups. Prior to AllianzGI, David had joined Crédit Lyonnais Asset Management as an SRI analyst in 2001 after several postings at Paribas Asset Management (Marketing Dept) and then BNP Paribas Asset Management (European equities financial analyst and advisor to the UN Pension Fund) from 1996 through 2001. He was Senior Sustainability Analyst and Head of Shareholder Engagement at Amundi from 2003-08. He graduated with a B.A. in Art History from Williams College (Massachusetts, USA) in 1990. David also has a Master’s degree in Management from ESCP-Europe (Paris-Oxford-Berlin) in 1996.

Dr. Herold RohwederGlobal Chief Investment Officer Multi Asset

Herold Rohweder is a Managing Director and Global Chief Investment Officer Multi Asset at Allianz Global Investors. He is also a member of the US Executive Committee of Allianz Global Investors and member of the Global Investment Management Group. Herold joined Allianz in 1989 as a portfolio manager for global balanced, European equities and European fixed income. In 1998 Herold initiated the Systematic Asset Management effort for equity and multi asset investments at Allianz Asset Management. Since 2011 Herold has been Global CIO Multi Asset at Allianz Global Investors. Herold graduated from Wayne State University, Detroit with a Master-of-Arts degree in Economics and has received a Ph.D. from the Economics department of the University of Kiel, Germany.

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Robert Parenteau, CFAEconomist and Investment Strategist, External Advisor

As the sole proprietor of MacroStrategy Edge, Rob employs macroeconomic insights to contribute to asset allocation and equity sector selection decisions. Rob received his BA (Hons.) in political economy from Williams College in January 1983 and earned his CFA in 1989. Rob also serves as a research associate of the Levy Economics Institute.

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Disclaimer

Investing involves risk. The value of an investment and the income from it will fluctuate and investors may not get back the principal invested. Past performance is not indicative of future performance. Investments in commodities may be affected by overall market movements, changes in interest rates, and other factors such as weather, disease, embargoes and international economic and political developments. Investments in smaller companies may be more volatile and less liquid than investments in larger companies. Investments in emerging markets may be more volatile than investments in more developed markets. Dividends are not guaranteed. Bonds are subject to interest rate risk and the credit risk of the issuer. High-yield or “junk” bonds have lower credit ratings and involve a greater risk to principal. Convertible securities involve the added risk that securities must be converted before it is optimal. This is a marketing communication. It is for informational purposes only. This document does not constitute investment advice or a recommendation to buy, sell or hold any security and shall not be deemed an offer to sell or a solicitation of an offer to buy any security. Forecasts are inherently limited and should not be relied upon as an indicator of future results.

The views and opinions expressed herein, which are subject to change without notice, are those of the issuer or its affiliated companies at the time of publication. Certain data used are derived from various sources believed to be reliable, but the accuracy or completeness of the data is not guaranteed and no liability is assumed for any direct or consequential losses arising from their use. The duplication, publication, extraction or transmission of the contents, irrespective of the form, is not permitted.

This material has not been reviewed by any regulatory authorities. In mainland China, it is used only as supporting material to the offshore investment products offered by commercial banks under the Qualified Domestic Institutional Investors scheme pursuant to applicable rules and regulations.

This document is being distributed by the following Allianz Global Investors companies: Allianz Global Investors U.S. LLC, an investment adviser registered with the U.S. Securities and Exchange Commission (SEC); Allianz Global Investors Europe GmbH, an investment company in Germany, authorized by the German Bundesanstalt für Finanzdienstleistungsaufsicht (BaFin); RCM (UK) Ltd., which is authorized and regulated by the Financial Services Authority in the UK; Allianz Global Investors Hong Kong Ltd. and RCM Asia Pacific Ltd., licensed by the Hong Kong Securities and Futures Commission; Allianz Global Investors Singapore Ltd., regulated by the Monetary Authority of Singapore [Company Registration No. 199907169Z]; and Allianz Global Investors Japan Co., Ltd., registered in Japan as a Financial Instruments Business Operator; Allianz Global Investors Korea Ltd., licensed by the Korea Financial Services Commission; and Allianz Global Investors Taiwan Ltd., licensed by Financial Supervisory Commission in Taiwan. Unless stated otherwise, all data is as of 30 September 2013.

Copyright © 2013 Allianz Global Investors

Allianz Global Investors Europe GmbHBockenheimer Landstrasse 42-44D-60323 Frankfurt am MainGermany

Phone +49 69 263 140Fax +49 69 263 [email protected] www.allianzglobalinvestors.com 13

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