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Asset Management

Asset Management
Alternatives Quarterly Q2 2011

Message from the Chief Investment Officer


Hedge Funds
Private Equity
Credit Strategies
Commodities
Brazil Strategies
About the Asset Management
Alternatives Quarterly
Credit Suisse Asset Management’s Alternatives Quarterly offers investors authoritative insight on economic
trends and capital markets around the world, spanning a wide spectrum of asset classes and investment styles.

Drawing directly from our mission to share knowledge and provide focused investment solutions to investors
worldwide by leveraging the firm’s best ideas, access, resources and capabilities, the publication compiles
views from our Chief Investment Officer on current macroeconomic and investment themes as well as a
range of analyses from our leading alternatives portfolio managers on the trends and opportunities shaping
today’s financial markets.

We hope you find the insights in this publication to be an important tool in helping you develop solutions and
investment strategies.

We would also like to hear your feedback as we continue to further develop this quarterly publication.
For more information or to comment on any views expressed here, please contact your Credit Suisse Asset
Management relationship manager or write to us at info.am@credit-suisse.com.

Credit Suisse Asset Management Alternatives Quarterly


Message from the Chief Investment Officer
Stefan Keitel
Global Chief Investment Officer
Credit Suisse Asset Management and Private Banking

In our market outlook at the beginning of the year, we highlighted that 2011 could follow a similar pattern to
2010, especially from an overall economic perspective and the behaviour of most asset classes: Tailwinds
from favorable macroeconomic and fundamental factors pointed to further upswings globally in real assets,
such as equities, while a broad array of risks presented potential for corrections and consolidation phases.

Indeed, the first quarter of 2011 showed both sides of the coin: Macroeconomic fundamentals, along with
positive corporate earnings and valuations, generally supported global equity markets, but were accompanied
by periodic increases in risk aversion and volatility in various capital and commodity markets. Uncertainty
was triggered by well known risk factors, such as the tensions in the Middle East and North Africa (MENA)
region, as well as unforeseen events such as the Japanese nuclear disaster.

Other existing risk factors—i.e., the European debt crisis, inflation pressures in emerging markets and policy
discussions by developed nations’ central banks—failed to exert a significant drag on financial markets. We
take this as an indication that global capital markets, in general—and equities, in particular—have already
priced in many of these risks (at least partially). Accordingly, we believe the market dips presented good
opportunities to add to positions. Staying overweight in real assets in general—and equities in particular—
remained a sensible strategy, in our view.

We believe this pattern will continue in the coming months. Key positive elements include ongoing broad-
based global economic growth, the still attractive valuations of global equity markets, the strong corporate
sector in many parts of the world and continued accommodative policies by developed nations’ central banks.
We expect these factors to drive equity-price appreciation over the coming year, albeit with disruptions and
episodic bursts of heightened risk aversion. We think that uncertainty and setbacks will not be triggered
by well known risk factors, but rather by a mix of new questions over economic growth in select parts of
the world, in combination with ongoing inflation concerns and the potential for a cooling down in corporate
earnings revisions. We also believe these potential market setbacks will be temporary.

Consequently, we believe investors should maintain a clear focus on specific asset classes in 2011,
especially real assets, such as equities, real estate and selective commodities. We anticipate that these
assets could benefit from the current cycle in which government bond values generally decreased further.
In our view, the overall macroeconomic and inflation environment is not yet appropriately priced into the
traditional government bond markets, and, accordingly, we remain underweight sovereigns and stay with
short-duration bonds. We do believe, however, that some areas of the fixed income market—especially
floating-rate instruments, emerging markets, selective credit and high yield—may still deliver added value,
despite some stretched valuations.

In addition, from an asset category perspective, we strongly recommend including alternative investments
in general, and hedge funds in particular, as the third strong pillar in an overall portfolio, in addition to
equities and fixed income. But, as already stated at the beginning of the year, the key to successful portfolio
management will be a combined focus on strategic trends as well as tactical necessities.

Alternatives Quarterly Credit Suisse Asset Management | 1


Hedge Funds
Event Driven
Sebastien Fiaux
Americas/EMEA Portfolio Manager, Alpha Strategies Group

Distressed Credit
ƁƁ We believe that the opportunity set for large-cap distressed –– Post-reorganization equity opportunities (globally) arising
situations that came out of the global financial crisis has from previously restructured companies across a broad
narrowed globally, while the pipeline for the traditional set array of industries.
of small- and medium-size companies is still robust. These
smaller, niche deals favor nimble fund managers who are –– A recent example of a post-reorganization equity
less constrained by economies of scale. opportunity is a US packaging company that filed for
bankruptcy in 2010. During the bankruptcy process,
ƁƁ Currently, opportunities are clustered around the certain distressed managers acquired the packaging
following areas: company’s unsecured bonds that also gave them
exposure to newly issued post-reorganization equity,
–– Small- and middle-market companies in the US that, which they perceived to be valued at discounted levels
in aggregate, are still experiencing financial stress and to the company’s fundamental value. In January 2011,
need to restructure their balance sheets (Display 1). a competitor offered to acquire the company at a
Hedge fund managers may engage with these distressed substantial premium to its stock price upon emergence
companies’ management to devise financial and/or from bankruptcy, creating meaningful contributions to
operational solutions to help address their challenges; managers’ returns independent of overall equity market
moves.
–– European distressed opportunities coming from banks
that still need to deleverage, and that have implemented ƁƁ Although deals have become smaller and require more
sizeable asset-disposition programs; specific distressed expertise, with many hedge fund
managers becoming more actively involved in creating
value in their investments, we continue to see a robust
opportunity set in the space.

Display 1: Still high default rates for mid-cap companies may generate distressed opportunities

US Default Rates

14
12
10
8
%

6
4
2
0
Dec 08

Dec 09

Dec 10
Jun 08

Jun 09

Jun 10

Large Cap Mid-Cap

Data from June 2008 to March 2011


Source: Standard & Poors

Credit Suisse Asset Management | 2 Alternatives Quarterly


Hedge Funds
Event Driven (continued)
Sebastien Fiaux
Americas/EMEA Portfolio Manager, Alpha Strategies Group

Risk Arbitrage
ƁƁ We remain optimistic that global mergers and ƁƁ M&A deal spreads generally remain tight worldwide as
acquisitions (M&A) activity will continue to increase, as interest rates have been low and financing has been
capital-rich companies are indicating greater confidence abundantly available. In this context, managers tend not
for engaging in corporate actions. Risk arbitrage to favor pure merger-spread arbitrage that have lower
managers have noted that the transaction pipeline has return expectations, but rather special situations that are
increased, with the expectation that the number of deals linked to merger activity (such as bidding wars, pre-
will grow in sectors such as energy, healthcare, natural mergers and distressed exchanges).
resources and technology.
ƁƁ There were over $530 billion of newly announced
ƁƁ Strategic acquirers are leading the charge in the transactions in the first quarter, indicating a healthy level
merger market globally (i.e., corporation-led mergers of M&A activity (Display 2).
as opposed to those sponsored by financial acquirers,
such as private equity firms or hedge funds). We expect
that private equity firms will become more active in this
space, however, as they need to invest previously
raised capital.

Display 2: First quarter M&A activity has been healthy, and should continue to grow

Global M&A Activity


400

350

300 $530
Billion
250
}
US$ Billions

200

150

100

50

0
2008 2009 2010 Q1 2011

Data from January 2008 to March 2011


Source: Bloomberg

Alternatives Quarterly Credit Suisse Asset Management | 3


Hedge Funds
Global Macro
Sami Robbana
Tarek Rizk, Ph.D.
Co-Heads, Tactical Trading Research, Alpha Strategies Group

ƁƁ Overall, global macro managers remained diversified and to address imbalances related to inflation (Display 4),
flexible in the first quarter. They ran lower-than-average unemployment, non-financial debt and current account
value-at-risk (VaR) levels, with their main focus on option- surpluses/deficit, we expect many macro managers to
like payouts on potentially mispriced events. focus on asset classes and instruments affected by policy
issues. Eurozone nations are constrained on an individual
ƁƁ We expect macro managers to increase risk levels basis in addressing these macro issues because of their
as market sentiment recovers from the first quarter’s shared currency and central bank, requiring complex and
destabilizing events—e.g., the political unrest in the hard-to-achieve policy coordination.
Middle East and North Africa, Japan’s tragic disasters
and Eurozone debt concerns. On the other hand, we ƁƁ Accordingly, we continue to favor global macro hedge
believe managers will remain cautious, with an emphasis funds with an edge in policy analysis, and the flexibility to
on liquidity at the position level, allowing them to trade capitalize on related trading opportunities.
tactically and opportunistically across various geographies
and asset classes. ƁƁ For commodity-oriented managers, geopolitical events
in the Middle East and Japan resulted in significant
ƁƁ Divergence of economic conditions within the Eurozone commodity price action in the first quarter. The energy
continued over the quarter, and a number of member complex was most affected by the Middle East, while
nations face ongoing headwinds of relatively high debt Japan’s disasters impacted metals due, among other
levels and relatively low growth (Display 3). As the things, to potential disruptions in Japanese car production.
European Central Bank and Eurozone governments seek

Display 3: Macro managers are focusing on economic Display 4: ...As well as on the European Central Bank’s
divergence in Europe... policy responses to the threat of inflation

Eurozone Unemployment Rates Eurozone Core Inflation

5
11
4
10
3
9
2
%
%

8 1
7 0
6 -1
01

11
96
97
98
99
00

02
03
04
05
06
07
08
09
10
96
97
98
99
00
01
02
03
04
05
06
07
08
09
10
11

Germany Unemployment Germany CPI Eurozone CPI


Eurozone Unemployment

Data from January 1996 to March 2011 Data from January 1996 to March 2011
Source: Bloomberg Source: Bloomberg

Credit Suisse Asset Management | 4 Alternatives Quarterly


Hedge Funds
Global Tactical Asset Allocation/Global Macro
Anne Sophie Van Royen, Ph.D.
Portfolio Manager, Head, GTAA/Global Macro
Xiaomeng Yang, CFA, Ph.D.
Co-Portfolio Manager, GTAA/Global Macro

ƁƁ Bottom-up global corporate earnings remain generally ƁƁ The outlook for global sovereign bond markets improved in
supportive of equity markets, especially in the United the first quarter, acting as a hedge against the increasing
States, the United Kingdom and the Eurozone. risk in the equity space in our models.

ƁƁ On a macroeconomic level, the developed markets’ ƁƁ With rising fiscal challenges across Europe and rising
business-cycle momentum has been decelerating slightly, inflationary pressures in emerging Asian economies,
but remains at levels that support equities, particularly in cross-country market divergence could present an
the US (Display 5). increase in relative-arbitrage opportunities.

Display 5: In developed economies, business-cycle momentum is now favoring the US over Eurozone

OECD Leading Indicators


2.0

1.5

1.0

0.5
%

-0.5

-1.0
May 09

May 10
Sep 08

Nov 08

Sep 09

Nov 09

Sep 10

Nov 10
Mar 09

Mar 10

Mar 11
Jan 09

Jan 10

Jan 11
Jul 08

Jul 09

Jul 10

US Eurozone

Data from July 2008 to March 2011


Source: Bloomberg

OECD leading indicators summarize information on early signals contained in a number of key short-term economic indicators known to have a leading
relationship with GDP for 35 countries.

Alternatives Quarterly Credit Suisse Asset Management | 5


Hedge Funds
Hedge Fund Replication
Jordan Drachman, Ph.D.
Head, Alternative Beta Strategies Research

Peter Little
Head, Alternative Beta Strategies Portfolio Management and Implementation

ƁƁ The replication model for long/short equity hedge funds new 12-month lows. This decision seems to be consistent
added back its exposure to emerging markets in the first with managers’ belief in a global recovery.
quarter for the first time since October 2010, as hedge
fund managers appeared to become increasingly confident ƁƁ During this last recession, with interest rates at historic
in a global recovery, and began to move their money into lows, many investors sought greater yield by moving
riskier non-US assets. into the credit space, causing a large rally in the high
yield bond market—as of March 31, 2011, the Credit
ƁƁ Additionally the long/short replication model added a long Suisse High Yield Index was up 97.1% from its low
growth/short value position, which it maintained throughout on December 11, 2008, and 31.8% higher than its
the first quarter. As Display 6 illustrates, the position pre-crisis peak on May 31, 2007. If, as implied by the
contributed considerably to the returns in the space from replication models, we are in an economic recovery, we
the beginning of February through the end of March. may be nearing the end of this credit bull market. As
the global economy improves, interest rates are likely to
ƁƁ In the event driven replication model, managers seem to increase, making investment grade bonds more attractive
have transferred money from distressed credit to distressed and reducing the need for investors to chase yield.
equities, as the high yield five-year CDX1 spreads reached

Display 6: The long/short hedge fund replication model favored growth over value in the first quarter

Spread of the Russell 2000 Growth vs. the Russell 2000 Value Indices

2.5

2.0

1.5

1.0

0.5
%

0.0

-0.5

-1.0

-1.5

-2.0 Jan 2011 Feb 2011 Mar 2011

The spread is calculated as the Russell 2000 Growth Index’s performance minus the Russell 2000
Value Index’s performance.
Data from January 2011 to March 2011
Source: Bloomberg
1
The CDX index allows investors to trade the credit default swap (CDS) market across a broad spectrum of credits. CDS are bilateral contracts in which a
buyer pays a premium to the seller for credit protection on a fixed income instrument. In the event the instrument defaults, the buyer receives the par value of
the bond from the seller of the CDS.

Credit Suisse Asset Management | 6 Alternatives Quarterly


Hedge Funds
Long/Short Equity
Vanita Gaonkar
Head, Fundamental Strategies Research, Alpha Strategies Group

ƁƁ Long/short equity managers posted mixed results in the stocks in Europe and the US, which is favorable for
first quarter of 2011. Global equity markets remained stock pickers; and, c) fundamental valuations appear to
volatile on the back of ongoing concerns about global be more relevant versus macro factors in many markets
inflation—particularly in emerging markets—as well as around the world.
Eurozone debt worries, rising input costs globally, political
unrest in the Middle East and North Africa and the tragic ƁƁ We have seen this positive outlook expressed in changes
events in Japan. in managers’ gross and net exposures.2

ƁƁ While the overall environment remained uncertain, long/ ƁƁ Gross exposure has increased while net exposure has
short equity managers continued to have a positive decreased (Displays 7 and 8), pointing to the fact that
outlook for the strategy in 2011 for three main reasons: managers are seeing a more balanced and diversified
a) the equity-risk premium appears more favorable opportunity set on both the long and short sides. We
than the credit-risk premium in aggregate; b) managers expect this trend to continue.
reported greater dispersion and differentiation among

Display 7: Long/short equity managers have increased Display 8: ...While reducing their net exposure due to a
their gross exposures... more diversified opportunity set

Long/Short Equity Managers’ Aggregate Gross Exposure Long/Short Equity Managers’ Aggregate Net Exposure

170 40

38
165

36
160
%

34

155
32

150 30
Dec 2010 Mar 2011 Dec 2010 Mar 2011

Source: Credit Suisse Asset Management Source: Credit Suisse Asset Management

2
Gross exposure consists of a manager’s aggregate long and short positions. Net exposure is calculated by subtracting the short book from the long
book. The amount of gross exposure over 100% represents the amount of leverage being used by an investor.

Alternatives Quarterly Credit Suisse Asset Management | 7


Hedge Funds
Relative Value
Fred Shek
Head, Relative Value Research, Alpha Strategies Group

ƁƁ Fixed income arbitrage managers generally continued to ƁƁ Higher levels of short-term interest-rate volatility (Display
curtail exposure and maintained considerable hedges in 9) and sudden changes in risk sentiment (risk on/risk off)
the first quarter, as concerns about tail risks intensified might create an opportunity-rich trading environment for
with social unrest in the Middle East (and consequent relative value strategies, though managers will likely be
rise in oil prices) and the tragic events in Japan. The keeping an eye on tail risk.
cost of insuring Japanese debt increased considerably
after the earthquake, with credit default swaps (CDS)3 ƁƁ US mortgage specialists continued to outperform as
jumping from approximately 80 basis points (bps) to 125 inefficiencies and prepayment uncertainty—both in the
bps. Certain managers also expressed concern that the agency and the non-agency market—persisted. Returns
European debt crisis could spread and become a global in the non-agency space are expected to decrease slightly
debt crisis. going forward, however, due to considerable capital flowing
into the market, which has pushed yields down.
ƁƁ Managers are generally positioned for interest-rate
volatility to increase across sovereign curves globally. ƁƁ In the convertible arbitrage space, managers maintained
Shorter-term rates are under increasing inflation pressure, long-biased positioning in the first quarter as convertible
mainly in the UK and continental Europe, with central bond valuations generally richened globally. Given the
bank rhetoric in certain developed economies turning more volatile environment created by events in Japan, the
more hawkish. The end of the US quantitative easing Middle East and North Africa, managers may increase
program is expected in June, which may cause longer- their focus on special situations and idiosyncratic trades.
term yields in the US to rise since it is unclear who might
replace the demand created by the Fed. ƁƁ Additionally, convertible arbitrage managers have generally
indicated they will keep leverage and net exposures low
relative to historic levels, while maintaining diversified and
flexible portfolios.

Display 9: Managers expect volatility4 in the short end of the curve to generate trading opportunities

Short-Term Interest-Rate Volatility in Developed Markets

6.5

5.5
Fixed Income Volatility Index

4.5

3.5

2.5

1.5

0.5
Mar 11
Feb 11
Jan 11
Oct 10
Sep 10

Nov 10

Dec 10
Aug 10

US Front-End FI Volatility Eurozone Front-End FI Volatility Japan Front-End FI Volatility UK Front-End Volatility

Data from August 2010 to March 2011


Source: Bloomberg
Credit Default Swaps (CDS) are bilateral contracts in which a buyer pays a premium to the seller for credit protection on a fixed income instrument. In the
3

event the instrument defaults, the buyer receives the par value of a bond from the seller of the CDS.
4
Fixed income short-term rate volatility is illustrated by the 6-month forward implied volatility of the one-year swap.
Credit Suisse Asset Management | 8 Alternatives Quarterly
Private Equity
Fund of Private Equity Funds
Kelly Williams
Head, Customized Fund Investment Group

Nadim Barakat
Chief Investment Officer, Customized Fund Investment Group

ƁƁ Private equity (PE) firms are proceeding cautiously ƁƁ Many PE investors are preparing for the possibility
with committed capital based on recent global market of rising inflation. Accordingly, real assets have been
developments. This follows strong deal flow in the fourth active—including infrastructure, clean technology,
quarter of 2010. As of late March 2011, there have real estate and energy investments—as they have
been seven deals with transaction sizes over $1 billion in historically helped mitigate the impact of inflation on
the quarter totalling $31 billion globally. This compares portfolios.
to 13 deals in the fourth quarter of 2010 totalling $52
billion. For middle-market buyout with transaction sizes ƁƁ Trends in institutional senior loan volumes supported the
below $1 billion, there have been 52 deals totalling case for greater investment activity in 2011 (Display
approximately $10 billion, which is below the 78 deals 11). Dollar volume in the first quarter is approximately
worth $21 billion in the fourth quarter of 2010.5 four times higher than the same period last year. Senior
loans and other debt offerings are often part of PE deal
ƁƁ Despite the caution being taken for investments, there financing and leverage.
continues to be significant activity for PE exits, including
initial public offerings (IPO) (Display 10) and M&A. ƁƁ PE funds continue to increase their investment focus in
Most recently, HCA Inc., backed by Bain Capital and emerging markets, as these regions have become more
Kohlberg Kravis Roberts & Co. (KKR), made history receptive towards PE deal structures. PE firms focused
with the largest PE-backed IPO in history, raising over on Latin America raised approximately $8 billion in
$4 billion. Approximately 70% of US IPOs issued have 2010, compared to $3.6 billion in the prior year. CFIG
been sponsor-backed in 2011. In fact, three of the 10 believes that middle-market opportunities in this region
largest PE-backed IPOs that have ever been transacted are becoming more common because their valuations
occurred this year. It is CFIG’s view that significant have been more favorable versus large-cap deals.6
proceeds from PE exits support the case for improving
deal flow for the remainder of the year.

Display 10: PE-backed IPO issuance has been growing Display 11: ...And senior loans issuance is providing
steadily since the ’08-’09 global financial crisis... support for greater investment activity
PE Backed IPO Issuance Senior Loan Issuance

18 800 Issuance in Q1
70
16 700 2011 is
60 significantly higher
14 600
50 than in Q1 2010
US$ Billions

12
Deal Count

500
10 40
US$ Billion

8 400
30
6 300
20
4 200
2 10
100
0 0
03 04 05 06 07 08 09 10 0 1
98 99 00 01 02 03 04 05 06 07 08 09 10 Q1 Q1
IssuanceDeal Count 10 11
(Right hand side) Non-US Issuers US Issuers
Data from January 2003 to December 2010 Data from January 1998 to March 2011
Source: Renaissance Capital Source: Standard & Poor’s Leveraged Commentary Data
and Credit Suisse Asset Management
5
Dealogic, March 22, 2011
6
LAVCA, March 2011

Alternatives Quarterly Credit Suisse Asset Management | 9


Credit Strategies
John G. Popp
Global Head, Credit Investment Group

US Senior Secured Loans


ƁƁ Technical factors for senior loans worldwide have quarter of 2011. This trend stems from increased demand
remained strong in the first quarter, and we have seen (including retail investors), and provides greater latitude
continued large inflows into retail mutual funds. Lipper/ for issuers in pricing and structuring new issues.
FMI reported over $10 billion of inflows to retail funds, in
addition to over $10 billion of loan repayments not related ƁƁ Default rates have been very low and the expectation is
to loan re-pricings. this situation will continue for the next 12 months (Display
12). Recent macroeconomic and geopolitical events,
ƁƁ Refinancings and re-pricings dominated the new issue such as the earthquake in Japan, have not caused any
market in the first quarter. We do not expect this trend to strategists to revise their default expectations.
continue, as some of these deals were lower quality credits
that have struggled in the secondary market (and a majority ƁƁ We think that senior loans continue to look attractive
of the higher quality credits already having refinanced). given their position in the capital structure and floating-
rate nature, based on the potential for higher inflation and
ƁƁ Covenant light (cov-lite)7 loans were less than 10% of rising interest rates.
the new issue market between 2008 and 2010, but have
increased to approximately 25% of volume in the first

Display 12: US senior loans look attractive as issuers’ credit fundamentals continue to improve

Senior Loan Issuer Default Rates


12

10

6
%

0
01 02 03 04 05 06 07 08 09 10 Q1 11

Data from January 2001 to March 2011


Source: Credit Suisse Leveraged Finance

Covenant light (cov-lite) is a financial industry term for loan agreements which do not include the usual protective covenants for the benefit of the lender (or
7

buyer of the senior loans).

Credit Suisse Asset Management | 10 Alternatives Quarterly


Credit Strategies
John G. Popp (continued)
Global Head, Credit Investment Group

US High Yield Bonds


ƁƁ The high yield market remained resilient in the first quarter ƁƁ Record new issuance in debt markets in 2009 and
despite volatility related to events in Japan and the Middle 2010 has made capital available to a broad selection of
East. High yield spreads tightened 63 basis points versus companies, allowing many non-investment grade issuers
the US Treasury market in the first quarter, ending the to refinance and extend debt maturities (Display 13). The
period at +508 basis points. Yield-to-worst ended March improved liquidity, combined with a stabilizing fundamental
at 6.95%.8 backdrop, has significantly decreased expectations for
upcoming defaults. JPMorgan reported that the par
ƁƁ The percentage of “distressed” securities, defined as weighted default rates of high yield bonds ended March
those trading at spreads of more than 1,000 basis points at 0.8%, and is forecasting rates to be below historical
over Treasuries, fell steadily throughout 2010, and averages through 2012.
continued to decrease in 2011, ending at 6.4% for March
2011. This ratio has been below its long-term average ƁƁ Though fundamentals are stabilizing for individual
level of 15%, and is at its lowest level since October companies, and technicals remain strong, we remain
2007 (5.5%). cautious on high yield bonds based on mixed economic
data and the potential for the Federal Reserve to address
ƁƁ High yield mutual funds experienced inflows with over the threat of inflation with interest-rate hikes.
$4 billion in assets entering the asset class, consistent
with the average monthly inflows the market experienced
in 2010, according to Lipper FMI. According to JPMorgan,
there was a moderation in high yield new issuance versus
previous months, with $21.8 billion pricing during February,
for example.

Display 13: Record high yield issuance in 2010 allowed many companies to
refinance and extend debt maturities, lowering risk of defaults
Annual Global High Yield Bond Issuance

350

300

250
US$ Billions

200

150

100

50

0
88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 Q1
11

Data from January 1988 to March 2011


Source: Credit Suisse Leveraged Finance
8
A bond’s yield-to-worst (YTW) considers the multiple call scenarios associated with the bond, and identifies which scenario has the lowest yield.

Alternatives Quarterly Credit Suisse Asset Management | 11


Commodities
Nelson Louie
Global Head, Commodities Group
Christopher Burton, CFA
Portfolio Manager, Commodities Group

ƁƁ Commodities were up 4.45% for the first quarter of –– Reduced spare capacity for crude oil because of events
2011 (as measured by the Dow Jones-UBS Commodity in the Middle East and North Africa;
Index total return) amidst heightened geopolitical and
market volatility. –– Developed nations’ low interest rates and concerns over
eventual inflation worldwide, which should support precious
ƁƁ Monetary policy developments included China’s metals;
interest-rate hike and further increases in bank reserve
requirements in an effort to fight inflation; on the other –– Tight supplies for key soft commodities, on the back of
hand, the US Federal Reserve remained committed to low multiple supply shocks and growing demand;
interest rates, with US core inflation appearing to be well
anchored for the time being; the US government’s fiscal –– Robust emerging market growth, which should continue to
policy also stayed accommodative, while state and local support demand for industrial metals.
governments showed signs of increasing strains.
ƁƁ Accordingly, we believe commodities will continue to
ƁƁ Indications of a robust global economic recovery offer value for investors despite uncertainty and potential
continued. Industrial production generally continued volatility across capital and commodity markets. Markets’
to improve in both developed and emerging markets uncertainty can impact traditional asset classes and
(Display 14), and the mix driving the improvement commodities differently, potentially providing valuable
became more broad based. We expect commodities to diversification for investors.
generally remain well supported for the remainder of 2011
by the following:

Display 14: Global industrial production growth should support commodities

Global Industrial Production

IP Momentum CS Forecast
30 (3m/3m annual %)

20

10

0
%

-10

-20

-30
Jan 07 Jan 07 Jan 08 Jul 08 Jan 09 Jul 09 Jan 10 Jul 10 Jan 11 Jul 11

Global IP Developed IP Emerging Markets IP

Data from January 2007 to December 2010


Source: Credit Suisse Fixed Income Research

Credit Suisse Asset Management | 12 Alternatives Quarterly


Emerging Markets: Brazil Fixed Income and Currencies
Ettore Marchetti
Portfolio Manager, Fixed Income Funds—Credit Suisse Hedging Griffo
Richard Valente
Portfolio Manager, Fixed Income Funds—Credit Suisse Hedging Griffo

ƁƁ The key issue (and perhaps opportunity) in Brazilian election. However, this new fiscal discipline is likely
fixed income is currently the threat of inflation, and how to have a political cost and create friction with several
effective the Brazilian central bank and government will constituencies, such as representatives in congress,
be in controlling it. We begin with some context on the cabinet members and workers. Accordingly, the pressure
issue. Since the late 1990s, the Brazilian government has from the government on the central bank to ease policy is
successfully implemented three key reforms: an inflation likely to increase.
targeting system, a primary fiscal surplus and a floating
exchange rate system. Prices have been under control ƁƁ We believe this scenario makes the allocation in Brazilian
mainly because the central bank earned the credibility that inflation-linked bonds attractive. Display 15 illustrates how
it will use its power to achieve its target. the market has tested the central bank in recent months.
Break-even inflation for the one-year bond has almost
ƁƁ After the election of Dilma Rousseff as Brazil’s president touched the maximum ceiling targeted for inflation (6.5%),
in 2010, we are now facing a new context of central a result which may lead the central bank to face a credibility
bank monetary policy for inflation, which represents risk for its inflation-targeting system.
the most important changes in policy since 2002. The
central bank has signalled that it intends to use other ƁƁ Real rates in Brazil (as reflected in inflation-linked bonds,
tools besides interest rates to achieve its inflation target, Display 16) now range between 5.9% and 6.5% per
which in our opinion represents a risk of overshooting. year, depending on the maturity. This level remains high,
These measures may include increasing bank reserve in our view, compared to other emerging and comparable
requirements and tightening other credit instruments. We countries (e.g., Chile, Mexico, South Africa, South Korea
believe that monthly inflation readings will cool down in the and Turkey).
coming months to near 0.60%, reducing pressure on the
central bank (although projected annual inflation remains ƁƁ There are also external risks, such as the Middle East
above its target of 4.5%). crisis and the recent Japanese disasters, which could lead
to further outflows from Brazilian investments, and to a
ƁƁ On the fiscal front, the government has taken two critical deceleration in global growth and inflation. However, it is
steps: the approval in the legislative houses to limit the worth remembering that the current base case for the global
increase in minimum wage, and the decision to cut the scenario is an overall shift from stimulus-driven economies to
2011 fiscal budget by 50 billion reais (US$ 30 billion). The inflation concerns around the world. The European Central
government is clearly trying to repair its fiscal image, which Bank language has already taken a more hawkish tone and
was tarnished following recent increases in expenditures, most emerging countries are now in a tightening process.
especially leading up to last November’s presidential

Display 15: Inflation has been testing Brazil’s central Display 16:...and real rates are high
bank inflation target’s upper band limit...
Brazilian CPI Variation Inflation-Linked Bonds (2012)
18.0 Sharp rise motivated by election doubts 7.0
about Lula and consequently FX disruption 6.5
15.0
6.0
12.0 5.5
5.0
9.0
%

4.5
%

6.0 4.0
3.5
3.0 3.0
2.5
0.0
2.0
YTD 11
99
00

01

02

03

04

05

06

07

08

09

10

2007 2008 2009 2010 YTD 2011


Break-Even Floor 2.5% Ceiling 6.5% Target 4.5%
Brazilian CPI Floor 2.5% Ceiling 6.5% Target 4.5% Inflation
(2012 Bond)
Data from July 1999 to February 2011 Data from May 2007 to February 2011
Source: IBGE and Brazilian Central Bank Source: Andima and BM&F Bovespa
Alternatives Quarterly Credit Suisse Asset Management | 13
Emerging Markets: Brazil Equities
Andre Caldas, CFA
Portfolio Manager, Equity Funds Team—Credit Suisse Asset Management Brazil
André Bassi
Portfolio Manager, Equity Funds Team—Credit Suisse Asset Management Brazil

ƁƁ Recent macroeconomic shifts have had a significant ƁƁ One example is shopping malls. We were surprised
impact on Brazil’s first quarter equity performance. First, by the poor performance of shopping malls in the first
after posting strong GDP growth in 2010 at close to 8%, quarter of 2011, which was in line with the correction
supported by household consumption and investments, seen in the broader real estate sector. Shopping malls are
we forecast that GDP will slow to 4.2% in 2011. Second, supposed to be more defensive, mainly due to their lower
high inflation expectations have been at the core of the leverage. However, looking ahead, we do not believe
economic debate, leading the government to turn to a that the vacancy rate will increase despite the slowdown
more austere fiscal policy by reducing public expenditures. in Brazil’s economic growth and, if we only consider the
Also, Brazil’s central bank has embarked on a tightening minimum rent level, the sector should have a sound cash
cycle. As a result, we expect consumer prices to remain generation. Illiquidity is among the technical factors that
stable in the coming year. help explain the poor performance of shopping malls
stocks in the first quarter of 2011.
ƁƁ With the expected relative deceleration of the Brazilian
economy in 2011, many investors shifted equities to ƁƁ Specifically, shopping-mall stocks declined 4% in the
developed markets, where growth expectations were first quarter of 2011, which led to an increase in the
increasingly robust: As a result, Brazil’s Bovespa Index fell funds for operations (FFO)9 yield of the stocks (FFO
just over 1.0% in the first quarter; the Brazilian Small Caps yield is similar to a current dividend yield which equals
index was down 1.5%, while the S&P rose 5.4%. the annual dividend divided by current share price). The
sector’s average FFO yield for the quarter of 2011 rose
ƁƁ Additionally, certain sectors in the Brazilian stock to a healthy 6.5% during the first quarter, a trend we
exchange were more heavily penalized by the dynamics expect to continue. If we compare the sector’s FFO yield
of inflation and tighter monetary policy. For example, with the real return on inflation-linked public securities,
the real estate sector struggled in this environment (the after the drop in the share prices in the second half of
Brazilian real estate index was down 10% in the first 2010, we see the trend invert with the FFO yield higher
quarter, impacted by the tightening policy measures and than the return on public bonds (Display 17). We believe
poor operating figures for certain companies). We believe, this may be an entry point for the sector, which as a real
however, that this short-term weakness may create asset class, also presents inflation-hedging characteristics
favorable longer-term investment opportunities for stock that may benefit investors if the governments’ tightening
pickers who understand the differences in the real estate actions fail to contain consumer prices.
companies’ operational performance.
Display 17: Rising funds for operations (FFO) yields for shopping malls may present an opportunity
Shopping-Mall Average FFO Yield vs. Brazil’s Sovereign Inflation-Linked Bonds

8 Opportunity

6
%

4
Oct 09 Dec 09 Feb 10 Apr 10 Jun 10 Aug 10 Oct 10 Dec 10 Feb 11

Shopping Mall FFO Yield Inflation-Indexed Brazil National Treasury Notes Yield
Sector Average (Zero Coupon)
Data from October 2009 to February 2011
Source: Credit Suisse Asset Management

9
Funds for operations (FFO) consists of net income, excluding non-cash items (mostly depreciation and amortization), and including maintenance
capital expenditures.

Credit Suisse Asset Management | 14 Alternatives Quarterly


About the Authors

Stefan Keitel, Managing Director, is the Global Chief Peter Little, CFA, Director, is Head of Portfolio
Investment Officer for Credit Suisse Asset Management Management and Implementation for the Liquid
and Private Banking. Mr. Keitel holds a Masters degree Alternative Beta team. Mr. Little holds a B. Comm. in
in Finance (Diplom-Kaufmann) from Mainz University. Finance from the University of Port Elizabeth in
South Africa.
Nadim M. Barakat, Managing Director, is the Chief
Investment Officer of the Customized Fund Investment Nelson Louie, Managing Director, is Global Head of
Group within Private Equity in Alternative Investments. the Commodities Group. Mr. Louie holds a B.A. in
Mr. Barakat holds a B.Sc. (Hons) degree in Systems Economics from Union College.
Engineering and Operations Research from the
University of Virginia. Ettore Marchetti, Director, is a Portfolio Manager and
Head of Credit Suisse Hedging-Griffo Fixed Income
André Bassi, Vice President, is a Portfolio Manager Funds. Mr. Marchetti has a B.S. in Engineering from
for the Equity Funds Team in the Credit Suisse Asset Universidade de São Paulo and M.S. in Economics
Management Brazil. He has a degree in Business from Ibmec-São Paulo Business School.
Administration from the Escola de Administração de
Empresas de São Paulo—Fundação Getulio Vargas. John G. Popp, Managing Director, is the Global
Head of the Credit Investments Group, with primary
Christopher Burton, CFA, Director, is the Lead Portfolio responsibility for making investment decisions and
Manager and Trader for the Commodities Group. Mr. monitoring processes for CIG’s global investment
Burton earned a B.S. in Economics with concentrations strategies. Mr. Popp graduated with a B.A. from
in Finance and Accounting from the University of Pomona College and an M.B.A. from the Wharton
Pennsylvania’s Wharton School of Business. He is a Graduate School of the University of Pennsylvania.
CFA charter holder.
Tarek Rizk, Ph.D., Director, is the Co-Head of
André Caldas, CFA, Director, is a Portfolio Manager Tactical Trading and on the Hedge Fund Research
responsible for the Equity Funds Team in Credit Suisse and Selection Team for the Alpha Strategies Group.
Asset Management Brazil. Andre holds a degree in Mr. Rizk earned a Ph.D. in Engineering from George
Computer Science from Universidade Federal do Rio Washington University, an M.B.A. with highest honors
Grande do Sul, and a MBA from MIT Sloan School of from the University of Alabama at Birmingham, and B.A.
Management. He is a CFA charter holder. and M.S. degrees in Engineering from the American
University in Cairo. Dr. Rizk completed graduate
Jordan Drachman, Ph.D., Director, is Head of Research courses in Financial Engineering at Michigan.
for the Liquid Alternative Beta team. Mr. Drachman has
received a B.S. in Mathematics from MIT and Ph.D. in Sami Robbana, Director, is the Co-Head of Tactical
Mathematics from Stanford University. Trading and on the Hedge Fund Research and
Selection team for the Alpha Strategies Group. Mr.
Sebastien Fiaux, Director, is the Portfolio Manager Robbana earned a B.B.A. in Finance from L’Ecole des
(Americas/EMEA) for the Alpha Strategies Group. Hautes Commerciales (H.E.C) de Montreal, a minor in
Mr. Fiaux earned an M.S. in Finance, Economics and Economic Sciences from L’Université de Montreal, and
Statistics from ENSAE, an M.A. in Political Science attended McGill University Graduate Business School.
from the Institute of Political Science and a Masters in
Financial Engineering from Cornell University. Fred Shek, CFA, Director, is the Head of the Relative
Value sectors in the Hedge Fund Research and
Vanita Gaonkar, Director, is the Head of Fundamental Selection team for the Alpha Strategies Group. Mr.
Strategies and on the Hedge Fund Research and Shek earned a B.S. in Accounting from Binghamton
Selection team for the Alpha Strategies Group. Ms. University in 1994 and is a CFA charter holder.
Gaonkar earned a B.A. in Mathematics and Economics
from Wesleyan University.

Alternatives Quarterly Credit Suisse Asset Management | 15


About the Authors

Anne-Sophie van Royen, Ph.D., Managing Director, Kelly M. Williams, Managing Director, is Head of the
is a Senior Portfolio Manager and Head of the Global Credit Suisse Customized Fund Investment Group. Ms.
Tactical Asset Allocation/Global Macro strategies and Williams graduated magna cum laude from Union College
products at Credit Suisse. Ms. van Royen holds an M.S. in 1986 with a B.A. in Political Science and Mathematics,
in Business Studies from the Ecole des Hautes Etudes and received her Juris Doctor degree from New York
Commerciales (HEC); a B.A. in Psychology from the University School of Law in 1989.
Université de Paris–Saint Denis; and Ph.D. and M.S.
degrees in Mathematical Economics from the Université Xiaomeng Yang, CFA, Ph.D., Director, is a Portfolio
de Paris–Sorbonne. Manager for the Global Tactical Asset Allocation/Global
Macro strategies and products. Ms. Yang holds a B.A.
Ricardo Valente, Vice President, is a Portfolio Manager in economics from Tsinghua University in Beijing, and a
for the Credit Suisse Hedging-Griffo Fixed Income Ph.D. in Economics from Boston College. She is a CFA
Funds. Mr. Valente has a B.A in Business Administration charter holder.
from the Escola de Administração de Empresas de São
Paulo–Fundação Getulio Vargas.

Credit Suisse Asset Management | 16 Alternatives Quarterly


Credit Suisse Asset Management Publications

Robert Parker, Credit Suisse Senior Advisor Liquid Alternative Beta:


April 2011 Market Update Enhancing Liquidity in Alternative Portfolios
April 2011—The Market Update provides an overview of June 2010—How to increase a portfolio’s liquidity without
recent market developments around the world, and outlines sacrificing returns, especially in a post-crisis, low-yield
where Bob believes they are headed. environment? The paper illustrates how institutional investors
can use Liquid Alternative Beta to seek to enhance portfolio
Managing Fixed Income Investments in a Rising Inflation liquidity, increase portfolio transparency, short hedge fund
and Interest-Rate Environment sectors and gain hedge-fund-like exposure when investment
March 2011—This paper addresses key challenges facing policies restrict direct hedge fund investments.
fixed income investors today: How to achieve higher returns in
a still low-yield environment while mitigating the rising threats Can Infrastructure Investing Enhance
of inflation and interest-rate risks? The ISS team’s analysis Portfolio Efficiency?
suggests that diversifying fixed income exposure into specific May 2010—The paper provides an in-depth look at
instruments as well as adding inflation hedges may present an infrastructure as an investment tool, and analyzes what role the
efficient way to manage these challenges. A full case study asset class might play in institutional portfolios. Specifically, the
helps to illustrate the team’s findings. paper examines whether infrastructure can be an effective tool
to mitigate inflation and duration risks, reduce funding gaps
Credit Suisse Asset Management Alternatives Quarterly and enhance portfolio efficiency.
January 2011—Credit Suisse Asset Management Alternatives
Quarterly offers important insights from our Chief Investment Credit Portfolio Management in 2010:
Officer as well as our leading alternatives portfolio managers A Nimble Approach Needed
on the trends and opportunities shaping today’s financial January 2010—Tracking and timing credit cycles can be
markets. Investment strategies covered in this quarterly challenging, particularly since today’s credit environment
publication include hedge funds, private equity, credit appears to be going through increasingly rapid cycle changes.
strategies and commodities. We believe that fixed income investors need to be increasingly
nimble and tactical in 2010, while at the same time
How Commodities Can Help Investors Face the considering strategic preparations for medium-to-longer-term
Uncertainty of the Inflation/Deflation Debate regime changes in interest rates and inflation.
December 2010—In this paper, our Commodities Team argues
that uncertainty about the consumer-price outlook in developed Risk Management: A Changing Paradigm
economies creates challenges for capital markets to properly November 2009—Renewed interest in risk management and
price in inflation expectations. The Commodities Team’s the creation of a culture of risk awareness are driving current
research suggests that exposure to real assets can help investment committee meeting agendas. This should come as
investors cushion the impact on the portfolio of unexpected no surprise in light of market events in 2008 and early 2009.
changes in the inflationary environment in the long run. While experience and judgment that have been battle-tested
under various market conditions prepares CIOs for uncertainty
The Anatomy of a Modern Emerging Markets Portfolio in the future, how do they implement risk-based solutions
November 2010—This paper examines the quickly evolving while facing real-world events?
emerging markets investment landscape and argues that the
proliferation of sophisticated investment vehicles in these Risk Parity—A Risk-Based Approach
markets presents an opportunity for investors to augment the to Portfolio Structuring
efficiency of their emerging markets portfolios. November 2009—This paper discusses a different approach
to portfolio risk management, called risk parity, which aims to
equate the contribution of risk across asset classes and, as a
result, create a portfolio which performs better in a variety of
market conditions.

The views and opinions expressed within these publications are those of the authors, are based on matters as they exist as of the date of
preparation and not as of any future date, and will not be updated or otherwise revised to reflect information that subsequently becomes available or
circumstances existing, or changes occurring, after the date hereof.

For a copy of any of these papers, please contact your relationship manager or visit our website at www.credit-suisse.com.

Alternatives Quarterly Credit Suisse Asset Management | 17


Important Legal Information

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It is not investment research or a research recommendation for regulatory purposes as it does not constitute substantive research or analysis. This
material is provided for informational and illustrative purposes and is intended for your use only. It does not constitute an invitation or offer to the public
to subscribe for or purchase any of the products or services mentioned. The information contained in this document has been provided as a general
market commentary only and does not constitute any form of regulated financial advice, legal, tax or other regulated financial service. It does not take
into account the financial objectives, situation or needs of any persons which are necessary considerations before making any investment decision.
The information provided is not intended to provide a sufficient basis on which to make an investment decision and is not a personal recommendation
or investment advice. It is intended only to provide observations and views of the said individual Asset Management personnel at of the date of writing
without regard to the date on which the reader may receive or access the information. Observations and views of the individual Asset Management
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be noted that historical returns and financial market scenarios are no guarantee of future performance.

Every investment involves risk and in volatile or uncertain market conditions, significant fluctuations in the value or return on that investment may occur.
Investments in foreign securities or currencies involve additional risk as the foreign security or currency might lose value against the investor’s reference
currency. Alternative investments products and investment strategies (e.g. Hedge Funds or Private Equity) may be complex and may carry a higher
degree of risk. Such risks can arise from extensive use of short sales, derivatives and leverage. Furthermore, the minimum investment periods for such
investments may be longer than traditional investment products. Alternative investment strategies (e.g., Hedge Funds) are intended only for investors who
understand and accept the risks associated with investments in such products.

This material is not directed at, or intended for distribution to or use by, any person or entity who is a citizen or resident of or located in any jurisdiction
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be re-distributed without the expressed written consent of Credit Suisse.

When distributed or accessed from the EEA, this is distributed by Credit Suisse Asset Management Limited which is authorised and regulated by the
Financial Services Authority. When distributed in or accessed from Switzerland, this is distributed by Credit Suisse AG and/or its affiliates. For further
information, please contact your Relationship Manager. When distributed or accessed from Brazil, this is distributed by Banco de Investimentos Credit
Suisse (Brasil) S.A. and/or its affiliates. When distributed or accessed from Australia, this document is issued in Australia by Credit Suisse Equities
(Australia) Limited ABN 35 068 232 708 AFSL 237237.

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Credit Suisse Asset Management | 18 Alternatives Quarterly


Alternatives Quarterly Credit Suisse Asset Management | 19
Copyright 2011. CREDIT SUISSE GROUP AG and/or its affiliates. All rights reserved.

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