Finlight Research - Market Perspectives - Jun 2015

Market Perspectives
June 2015
Jun. 2nd, 2015
www.finlightresearch.com
if you pull a rubber-band too far, it eventually snaps.

“When you combine ignorance and leverage,
you get some pretty interesting results.”
– Warren Buffett
“ I have reluctantly reached the conclusion that
nothing is more suicidal than a rational
investment policy in an irrational world. ”
- John Maynard Keynes (1931)
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FinLight Research | www.finlightresearch.com

Executive Summary: Global Asset Allocation
After 6 years of monetary pumping and low volatility, dark clouds are now
rising on risky assets
Actually, a perfect storm is building… It combines historically overvalued stocks
with a stretched government bond market.. Unlike previous storms (2000, 2008),
investors would be left with almost no place to hide.
Economic news has been generally weaker than expected. The market is around all-
time highs during a very uncertain period for the global economy. And any
additional signs of economic improvement are likely to have a negative impact on
the market (this is the “good news are bad news” syndrome)
Rising inflationary expectations are about to change the existing dynamic in
place, on interest rates, stocks, forex and commodities. We find the sell-off in bond
markets seems rational but puzzling… Nowadays, rationality appears puzzling in
such irrational markets.
The ECB QE compression trade is exhausted.
Greece remains the wild card, but an answer appears now closer than it has been
Markets remain focused on reading the minds of Fed. Given the tone of the last
FOMC meeting, it seems unlikely that the Fed will raise rates in June. We still see
the first rate hike coming in Sep. meeting, when the market prices it in Dec ‘15.
The perspective of loosing their Mr. Zero interest rate friend is already causing
portfolio managers some palpitations. We expect it, when it is effective, to
depress all asset prices for at least part of next year.
The prospect of rising interest rates, a stronger US dollar and economic uncertainty ,
could also be a trigger for higher cross-asset volatility.
We summarize our views as follows
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Executive Summary: Global Asset Allocation
Historically, the mixture of rising volatility and interest rates has had a bad
effect on equity prices
At this stage, valuation levels in equity (coupled with a deteriorating US corporate
earnings growth and a slowing productivity) and credit are high enough to make us
cautious. But we stay Neutral equities as far as our hurdles are not breached.
We still see a solid case for further dollar strength, lower oil prices and lower
commodities.
Maintain UW government bonds and corporate credit overall (but with an intra-
asset class preference for IG vs HY, Eurozone vs US in HY, US vs Eurozone in IG),
OW US dollar and UW commodities (especially energy and precious metals)
Long-term investors should do like us, raise their cash holdings and wait for
better investment opportunities / entry points
4

MACRO VIEW
The Good
US Employment remains the most positive economic indicator
US Housing starts and permits hit multi-year highs, and the existing home sales trend is
oriented to the upside
The Bad
US GDP was revised into negative territory (-0.7% as a second estimate)
YoY US growth rate of forward earnings estimate is still negative
Both capacity utilization and industrial production fell for a fifth straight month
Real Retail Sales have contracted for 4 of the past 5 months. April contraction indicates that
weak consumer spending is probably driven by something beyond weather (unlike Q1-2015
anemic data).
Durable goods continued the recent decline
The Ugly
Greece remains the wild card. Everyone on the market is expecting a last-minute
compromise. A Greek default would induce a global downside on risky assets
Main systemic risk resides in China: After a decade of economic boom, China has
accumulated significant imbalances. China’s economy is supported by approximately six trillion
dollars of 'shadow debt', coupled with an unprecedented credit-fueled construction madness,
and now a bubble-like stock market Systemic risk is around the corner
5

6
The Big Four Economic Indicators
The overall picture had been one of a slow recovery, but there is no indication of a recession using the
indicators monitored by the NBER.
After March bounce, Retail Sales in April declined -0.10% in real terms, implying that weak consumer
spending is probably driven by something beyond weather (unlike Q1-2015 anemic data).
Industrial Production has decline for 5 months in a row and Real Retail Sales have contracted for
4 of the past 5 months.

7
Industrial Production
Both US industrial production and
capacity utilization (of the manufacturing
output potential) fell for a fifth straight
month

8
Consumer Sentiment
The University of Michigan final Consumer Sentiment for May came in at 90.7, down from 95.9 in April
and well below the local high of 98.1 in January
Michigan survey shows a similar mood to that of small business owners as captured by the NFIB
Business Optimism Index

9
Inflation Expectations
Sentiment is shifting on the inflation
front, in the US but also in Europe.
Fresh signs show that US inflation has
bottomed, pushing long-term yields higher
Deflationary concerns has clearly eased in
Europe. QE is currently leading to the
reflation of the economy and the injection
of liquidity into the system 5yx5y
inflation is rebounding
Source: Goldman Sachs

10
GS – Global Leading Indicator (GLI)
… But nothing exciting yet on
the GLI front!
The May Final GLI came in at
1.1%yoy. It momentum is near
0+%.
Since March, GLI growth has been
positive and increasing. But this
‘Expansion’ phase is anemic and
crossing the border to the
“Slowdown” phase could occur
anytime.
8 of the 10 underlying components
of the GLI improved in May
We’ve been thinking for a while
now that the acceleration we’ve
seen last year was quite modest
for a typical expansion phase.

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EQUITY
Is the market at an inflection point after 6 years of (almost) straight rally? The denouement is not
too far off.
Despite the mixed macroeconomic environment and the toppish pattern we witness on earnings and
margins, global equity markets have remained complacent, with small caps outperforming large caps
and growth outperforming value.
At this stage, there is no sign yet of a bearish trend formation… The market momentum is still
technically bullish but halting. Our rule of thumb for that is to wait for the S&P500 to start making lower
lows and lower highs. This is a necessary (but not a sufficient) condition to raise the alert.
However, the market seems trapped in a sideways trading range, probably awaiting a catalyst to
breakout one way or another.
Recent data shows more evidence of lower productivity, lower potential GDP growth and higher
inflation risk. This is a bad scenario for stocks
We still believe that equity markets are living on borrowed time because…Earnings season hasn't
provided the catalyst needed for the breakout to the upside
Stocks are entering a seasonally unfavorable period, with no earnings growth expected in the first
half of 2015
Valuations are well above historical norms, especially when we take into account the slower
revenue growth, the lower margins and the starting wage pressures
The coming rate hikes will depress all asset prices for at least a part of next year
But US equity options already appear to price a less optimistic scenario. The S&P 500 skew is at a
10-year high.

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EQUITY
Bottom line :
Nothing new compared to our previous report. We remain Neutral equities as long as they stay
trapped in their sideways trading range
We may revise our view to OW after a clean break of the 2075-2125 range to the upside on the
S&P500, and to UW below the trend since Nov. ‘12 lows
We think it is wise to incrementally "de-risk" your portfolios by focusing on higher quality / more
defensive / more favorably priced companies
We remain OW on Japan (always on an FX hedged basis) as we see further upside for
Japanese stocks from the improvement in macro data and corporate earnings momentum.
We remain Neutral on Europe vs. US despite the massive ECB’s QE. According to the 12 month
forward P/E, Europe is trading at 15 year highs, relative to the US
We remain OW EM stocks (ex-China) given the improvement in relative growth forecasts in EM
vs DM and the strong momentum in place. We prefer to keep away from Chinese market.
We remain UW in US small caps vs large caps.

13
US Earnings
For Q2 2015, 75 companies have issued negative
EPS guidance and 28 companies have issued
positive EPS guidance
The forward 12-month P/E ratio for the S&P 500 now
stands at 16.9, well above historical averages: 5-
year (13.7), 10-year (14.1)
The earnings forecast for the S&P 500 has
deteriorated a lot since Jan. 1st
The 12-month EPS estimate is now at $125.66
Based on Factset data, analysts predict YoY
earnings declines to continue through Q3-2015, but
still expect EPS to reach record levels in Q4-2015

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US Net Margin
12-month trailing net profit
margin remains high but is
finally heading south
Nevertheless, analysts are still
expecting margins to continue
to rise to record levels in H2-
2015
Main risks for profit margins
are: a tighter labor market,
and a stagnation in
productivity.

15
Equities: Eurozone vs US
In Europe, we witness some positive developments in expected earnings and EPS revisions.
EPS revisions for Eurozone have moved back into positive territory for the first time in 4 years
Eurozone earnings seem to move up relative to the US.
Nevertheless, we remain Neutral on Europe vs. US. According to the 12 month forward P/E,
Europe is trading at 15 year highs, relative to the US

16
Equities: Japan vs US
We’ve been long-term OW Japanese
equities versus US equities since Nov.
’14 (on a currency-hedged basis).
We still think that Japanese equity
outperformance has room to
continue

17
Equities: Small Caps vs Large Caps
Russell 2000 – S&P500 ratio has improved since Oct. ‘14 but without regaining its previous highs
We interpret this as a cautionary sign

18
Transports Divergence
Another cautionary sign…
While the Dow have made new highs,
the Transports have made a new 6-
month low.
Over the past 50 years, this kind of
divergence has only happened twice :
around the 1973 and 2000 peaks

19
Equity Valuation
12-month forward PEs are already showing that equity valuations are elevated, especially in
Europe and US
Source: Goldman Sachs

20
Equity Long-Term Valuation
The market cap of non-financial
equities to gross value added
(including foreign revenues) ratio is
also showing that the market is
currently at the second most
overvalued level since the 50s

21
Market Sentiment
Cash ratios (Retail money market to S&P500 market cap and mutual fund cash-to-assets ratio) paint an
excessively optimistic picture.
No money is kept in reserve…
The current situation bears no similarity to the early 80s when the last secular bull market started.

22
Market Sentiment
The CSFB fear barometer is
based on a 3-month zero-cost
collar on the S&P500. It
shows how far out of the
money the put we buy should
be in order to have the same
premium as the 10%-OTM
call we sell.
The higher the index, the
more expensive S&P500 puts
are relative to calls.
The CSFB fear barometer
has been near record highs
since mid 2014, showing that
big traders believe the
market is dangerous at
current levels. They are
putting more money on the
table to acquire protection on
stocks.

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S&P500 – A Long-Term Perspective
There is no more long-term value in
equities!
According to Shiller's Price Earnings
Ratio (CAPE, the S&P 500 is set to
deliver anemic real returns over the
next one or two decades.
With current CAPE above 27, the total
(inflation-adjusted) return in the
subsequent 20 years is expected to be
at 2% per annum, at best. CAPE
20-yearSubsequent
(TotalReal)Returns
Current CAPE
~27.4

24
S&P500 – A Short-Term Perspective
The S&P500 failed to gain
any momentum on the
break above the 2125
threshold, and sharply
reversed back in its
previous trading range
Main levels to watch over
the short term are: 2125
and 2075.

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Trading Model – S&P500
As of June 3rd, our prop. Short-Term trading model is modestly short on the S&P500 (2114.07).
The model is short since June 2nd (2109.6)
The model targets 2083, 2062 and 2041 on the downside.

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Equity Volatility
In May, equity markets have
become more complacent, even
more than credit
V2X index is showing no tension at
all!
Ytd, V2X has dropped significantly
relative to iTraxx Main credit
spreads, and is now heading down
to its 2015 lows.

27
Chinese Equities
The spectacular rise in Chinese equities
continues despite the continued weakness in
China’s economy
The most probable explanation for that break is
that markets are just factoring a turn up in
growth later this year (supported by policy
stimulus).
Only time will tell…
Note: Chinese equities are the MSCI China index.
Source: Bloomberg, Barclays Research

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FIXED INCOME & CREDIT
Sentiment is shifting on inflation expectations, Treasuries falling across the board and volatility
going up.
Fed’s June rate hike seems to be off the table, given the weak Q1 data in the US. We still expect the
Fed to raise rates in September. UST yields remain underpriced relative to this scenario, and
speculative positions remain long.
We believe the higher volatility regime in fixed-income is here to stay.
Inflationary signs should be watched closely as they will foreshadow a steepening decline in govies.
We still look for the bear market on USTs to resume.
We’ve been Neutral UST since end of Nov. ’14. US long-term rates are stuck in a range. 10-year
yield is poised to trade 1.85-2.05% (perhaps 1.75-2.25%) until we get closer to Fed hikes. Our
medium-term outlook would stay neutral as far as the 10y UST yield remains below 2.25. We’ll move
UW above.
We interpret the last sell-off in German Bund as the reversal we’ve been awaiting. We remain UW on
German Bund (within the sovereign FI asset class) as long as the 10-year yield stays above the
0.45 – 0.50 area.
We will switch to Neutral again as the 10-year yield reaches our short-term target around 0.75 – 0.90.
Bund yields will rise hardly further given the intensive buying by the ECB

29
FIXED INCOME & CREDIT
The search for yield within the fixed income complex remains strong. We think that higher rates will
weigh on lower-rated assets as investors would move up along the credit scale We are UW BBs as
this rating class is vulnerable to:
outflows from investment grade retail funds with large BB holdings
new issuance as BB spreads are still near their historical tights
Lower rated new-issue volume has been increasing since the financial crisis. That should drive the
default rate higher and HY spreads wider.
2Q15 is on track to see the highest volume of M&A since 2007 this is usually credit negative as
corporates focus on shareholder returns at the expense of creditors.
We remain UW on corporate credit, due to valuation, to rising corporate leverage (specially in the
US), to rising volatility, to position within the credit cycle and given the weak total return forecast
Within the credit pocket, and over the very short-term, we stick with our preference for Eurozone HY
corps vs US HY corps, because of the ECB massive QE, more resilient macro in the Eurozone, and
the still elevated beta of US credit spreads to oil prices. Institutional allocation to HY is completely
influenced by the ECB-QE. That should support European HY till the Fed hikes its rates.
However, we remain UW on Eurozone vs US IG given our view on the Bund vs UST
We still prefer IG over HY on a risk-adjusted basis as we expect higher volatility on spreads
Bottom line : UW Govies, UW Eurozone vs. US Govies, Long flatteners on the US yield curve, UW
credit, OW Eurozone vs US HY credit, UW Eurozone vs US IG credit, Neutral TIPS and OW HICP
Inflation, UW High Yield vs High Grade, Neutral on EM corporates

30
US Govies – 10y UST
We’ve been Neutral UST since
end of Nov. ’14.
We assume that 10-year yield is
poised to trade 1.75-2.25% until we
get closer to Fed hikes.
Our medium-term outlook would
stay neutral as far as the 10y
UST yield remains below 2.25.,
and move UW above to play the
long awaited bear market on USTs.
Nevertheless, we think that the risk
is still biased to the upside on the
10y yield.
As a confirmation, the 2.094
support should hold.

31
Eurozone Govies – German Bund
Last month, we moved UW on
German Bund (within the
sovereign FI asset class) and
decided to:
remain so as long as the 10-
year yield stays above the
0.45 – 0.50 area.
switch to Neutral again as the
10-year yield reaches our
short-term target around 0.75 –
0.90.
Our target of 0.75 was reached and
we moved to Neutral. But the yield
rolled back to its range lows and we
switched again to UW.
Today, we stands within the 0.45-
0.50 support area We are UW
again and will stay so as long as
the support is preserved.. We
target 0.90, then 1.15

32
US TIPS
Inflation expectations are clearly
bottoming. They even seem to
be heading higher…
We prefer, however, to wait for
more positive economic news
before going OW TIPS.

33
Credit Migration & Default
2Q15 is on track to see the highest volume of M&A since 2007 this is usually credit negative as
corporates focus on shareholder returns at the expense of creditors.
We expect the credit rating drift to move in negative territories with downgrades exceeding upgrades
and, finally, default rates going up from their current lows…

34
Releveraging is back
“Companies are increasing their
leverage to finance their
shareholder return policy”
(Source: Exane BNP Paribas)
We see a wave of buybacks and M&A,
financed by debt, arriving at the high of
the cycle. A reminiscence of the one
we saw with the M&A Telecom wave of
1999?
This releveraging should be bullish for
stocks, but less so for credit spreads
.
Source: Exane BNP Paribas

35
EXCHANGE RATES
Several weak macro data have led to US$ depreciation. But we do not believe this weakness will persist
Historically, USD cycles have been persistent, lasting 5-6 years in the appreciation phase. We thus see
further medium term USD gains against the major crosses (especially EUR and JPY) and expect a
cyclical low in EUR/USD somewhere in 2016 (with the ECB tapering)
The DXY uptrend is still intact even if the pace slows. But current dollar valuation implies 25 to 50 bps
higher rates in the US. Without a September hike the uptrend on the US dollar may be damaged
seriously.
We’ve seen a sharp reversal on EUR-USD, mainly driven by Bunds. But EUR/USD failed to clear 1.1390,
which needs to be cleared to eliminate the persistent risk of a renewed downtrend
Our positioning on USD is dictated by the same trading rules:
On the DXY index, our 100 hurdle was not reached and we decided, in the beginning of the month,
to switch from a bullish to a more neutral stance as the 96 level was broken to the downside. End of
May, the index reemerged above the 96.25 threshold and we switched to OW again.
On EUR-USD, 1.10 threshold has finally been broken to the downside. Thus, we’ve resumed our
UW positioning, but only for a few days and switched back to Neutral as the spot broke above
1.1040. Our strategy is to move back to UW if the pivot breaks below 1.1040, and to OW above the
July ‘14 downtrend (~1.1417)
On USD-JPY, our ultimate target of 124 has been reached. We decide to switch from OW to
Neutral and wait to see how the pivot behaves near the 124.73 level.

36
US Dollar: A Mid-Term Perspective
We are probably entering the last
part of the game on the US
dollar.
Since Bretton Woods, USD has
seen two important periods of
appreciation (lasting 5-6 years
each)
Based on these episodes, we
expect the current uptrend to go a
little bit further: an additional 10-
15% appreciation before mid-
2016

37
EUR-USD
The 1.10 threshold has finally
been broken to the downside.
Thus, we’ve resumed our UW
positioning, but only for a few
days (with targets at 1.0843 and
1.07)
We switched again to Neutral as
the spot broke above 1.1040
We will move back to UW if the
pivot breaks below 1.1040, and to
OW above the July ‘14 downtrend
(~1.1417)

38
USD-JPY
In our May Monthly Report, we’ve
said “USD-JPY was unable to
break the 122.04 highs, but held
nicely against its 100-days MA. We
remain OW USD-JPY as far as the
pivot stays above 118 and below
the 124-125 area”
The 122.04 level has finally been
cleared and our ultimate target of
124 has been reached.

39
USD-JPY
From a multi-month/year
perspective, the 124-125 level
appears to be very important and
should be watched closely for signs
of a turning point formation
We decide to switch from OW to
Neutral and wait to see how the
pivot behaves near the 124.73
level.

40
COMMODITY
After the strongest monthly returns for six years in April, commodity is falling again in May
We are still neutral-to-bearish across many complexes in the near term. To mid-2016, return forecasts
are negative for commodities as a whole.
Despite the rally seen in April (mainly driven by a weaker US dollar and expectation of more
stimulus in China), the trend remains bearish. There is no indication of a bottom formation yet.
Global commodity prices could stay suppressed as less demand from China leads to greater
oversupply
We think that it is still too early to get in the “reflation trade” of a weaker dollar and higher
commodity prices
We remain UW commodities. We continue, however, to like owning the GSCI index, and think
that commodities hold value as cross-asset portfolio diversifiers.
Bottom Line :
Base Metals: Base metals prices were up over 7% in April, without any fundamental justification
(except Copper for which we’ve seen a modest increase in Chinese demand). We remain Neutral on
base metals, but do not like holding Copper as it appears highly overvalued relative to the dollar
and the global growth. We move from OW to Neutral on aluminum and zinc as they proved less
resilient than the average base metal. Zinc net speculative length on the LME recently reached its
highest level since mid-2014

41
COMMODITY
Agriculture: We keep our bearish outlook on this sector. Strong production and substantial stocks (built
since the 2012 drought) are weighing on prices. Absent a severe weather shock, it is unlikely that
agriculture prices will spike this year. We still anticipate they will revert to 2009 level, over the medium-
term. Nevertheless, we decided last month to tactically switch from UW to Neutral because of the
bearish bets on agricultural commodities accumulated by managed money. Short positions are near all-
time record highs, particularly in corn and wheat. A crowded deal we don’t like…
Energy: Market is facing a huge oversupply on crude oil, and still seems ripe for a downside price
correction, as OPEC is unlikely to cut.
In April, and according to our trading rule (please see our March monthly report), we switched to
Neutral at 54 on WTI.
We will move to OW if the WTI breaks above 63, and to UW again if it trades below 56.5 (to target
March lows).
We still think it is too early to expect major upside for the price of oil as the US is sinking
deeper in a glut of excess oil
From a relative value point of view, we expect the WTI’s contango will disappear progressively as
the spot price goes up and futures go down.

42
COMMODITY
Precious Metals: Gold prices have been caught within range-bound trading. Higher rates set to
continue to exert fundamental pressure on gold price.
We change nothing to our view on precious metals. The stimulus provided by the ECB & BoJ is
already factored in gold prices. Precious metals are vulnerable to higher US real yields and
stronger dollar We maintain the view that Q3 15 is likely to be the weakest quarter for gold
We think that as long as gold is trading below 1225, it could be heading back down to test the
March low
We remain UW above 1150-1170 band. We will move Neutral below 1150 and switch
progressively to OW (accumulate) as the spot slides down towards 1000-980, which is likely
the final leg down. Only a clean break above 1225 may push us to reconsider our view.
Silver is supported by Chinese imports. Our first target on silver stands at 14.70. We still think that
Silver (like gold) is probably ready for its final leg down towards 12.50. At current levels, we are
UW. we will switch progressively to OW (accumulate) as the spot breaks the first material
resistance around 14.70 and slides down towards 12.50
We may reconsider our UW position if the Silver breaks above 16.7-17.

43
S&P GSCI Index
Commodity prices appear more
and more correlated to the US
dollar and China (Chinese assets
and its stimulus policy )

44
Crude Oil – Fundamentals
It is unlikely that crude prices will move
upwards much further
Market is facing a huge oversupply on crude oil,
and still seems ripe for a downside price
correction
Although the number of rigs in the US has
dropped by 60% since last November, US oil
production is still going up. The world is still
oversupplied with oil. And this trend seems to be
here for a while…
This explains the huge build we witness in oil
inventories.

45
Gold
Gold is still testing important
support at 1,175. A break below
will open the door to 1165 and
then to March lows (1142).
We change nothing to our
strategy: We remain UW Gold. We
move Neutral below 1150 and
switch progressively to OW
(accumulate) as the spot slides
down towards 1000-980, which
is likely the final leg down.
Only a clean break above 1225
may push us to reconsider our
view.
We think that as long as gold is
trading below 1225, it could be
heading back down to test the
March low.

46
Base Metals - Copper
We think that Copper is still in a
structural downtrend, with lower highs
and lower lows since 2012
In the short-term, we expect Copper to
break its local uptrend and to
accelerate to new lows.
We remains UW Copper within the
base metals complex.
The main level to watch for
confirmation is 6010.
Our view will be invalidated if the spot
breaks above the top of the channel at
6550

47
ALTERNATIVE STRATEGIES
Against a choppy market backdrop, hedge funds were broadly positive…
In May, hedge funds posted gains with the HFRX Global Hedge Fund Index gaining +0.26% and the
HFRX Absolute Return Index gaining +0.59%. The HFRI Composite Index advanced +0.7% (+3.9% Ytd)
Performance was led by :
Merger Arb (+0.83%) as deal activity continued to surge. The current year is on track to be the best
year for M&A ever. Even in Europe, conditions appear to be ripe for another M&A boom.
Macro/CTA (+0.69%) with contributions from Discretionary Global Fixed Income and Global Macro
strategies.
CB arbitrage, despite the spread widening, as implied volatility went up (for HY issuers) and the
primary market saw an upsurge in converts issuance. RV Arb. performance was led by HFRI RVA:
Volatility Index, which took +1.4% in May, making money from the mismatch in implied vs realized
volatility
Quantitative, trend-following, systematic CTAs, as represented by HFRX Macro: Systematic
Diversified/CTA Index, were flat to negative for the period. The CTA drawdown is now over as market
conditions normalized after the trend reversal we’ve seen last month.
Global Macro and CTAs delivered strong returns over the last week, with their long position on USD (vs
EUR, USD and GBP). CTAs also made money on short exposure to agri. (coffee and sugar, especially)
April was a another bad month for Equity Market-Neutral (-0.45%)
Crowding remains a risk to Merger Arb strategy as some event names are widely held…

48
ALTERNATIVE STRATEGIES
We stick to our preference for risk diversifiers (pure alpha generation strategies) over return
enhancers.
We are comfortable with our current positioning within the alternative universe, and change nothing to
our strategy selection. We maintain our OW positioning on:
Equity Market Neutrals both for their “intelligent” beta and their alpha contribution.
CTA’s and Global Macro as a diversifier and tail hedge.
Vol. Arb strategy and prefer funds that trade volatility globally (all assets / all regions). This is our
way to position for a higher volatility regime.

49
Equity Hedge
Equity return dispersion (cross-sectional standard deviation of S&P 500 stock returns), reached
historical lows in 2014, increased in late 2014 before falling again since the beginning of the year.
Low return dispersion poses challenges to equity hedge funds as it narrows the opportunity for stock-
pickers to generate alpha
We expect equity dispersion to restart its upwards movement as more uncertainty tarnishes
earnings and revenues, and the Fed starts its hiking cycle OW Equity MN managers

Bottom Line: Global Asset Allocation
After 6 years of monetary pumping and low volatility, dark clouds are now
rising on risky assets
Actually, a perfect storm is building… It combines historically overvalued stocks
with a stretched government bond market.. Unlike previous storms (2000, 2008),
investors would be left with almost no place to hide.
Economic news has been generally weaker than expected. The market is around all-
time highs during a very uncertain period for the global economy. And any
additional signs of economic improvement are likely to have a negative impact on
the market (this is the “good news are bad news” syndrome)
Rising inflationary expectations are about to change the existing dynamic in
place, on interest rates, stocks, forex and commodities. We find the sell-off in bond
markets seems rational but puzzling… Nowadays, rationality appears puzzling in
such irrational markets.
The ECB QE compression trade is exhausted.
Greece remains the wild card, but an answer appears now closer than it has been
Markets remain focused on reading the minds of Fed. Given the tone of the last
FOMC meeting, it seems unlikely that the Fed will raise rates in June. We still see
the first rate hike coming in Sep. meeting, when the market prices it in Dec ‘15.
The perspective of loosing their Mr. Zero interest rate friend is already causing
portfolio managers some palpitations. We expect it, when it is effective, to
depress all asset prices for at least part of next year.
The prospect of rising interest rates, a stronger US dollar and economic uncertainty ,
could also be a trigger for higher cross-asset volatility.
50

Bottom Line: Global Asset Allocation
Historically, the mixture of rising volatility and interest rates has had a bad
effect on equity prices
At this stage, valuation levels in equity (coupled with a deteriorating US corporate
earnings growth and a slowing productivity) and credit are high enough to make us
cautious. But we stay Neutral equities as far as our hurdles are not breached.
We still see a solid case for further dollar strength, lower oil prices and lower
commodities.
Maintain UW government bonds and corporate credit overall (but with an intra-
asset class preference for IG vs HY, Eurozone vs US in HY, US vs Eurozone in IG),
OW US dollar and UW commodities (especially energy and precious metals)
Long-term investors should do like us, raise their cash holdings and wait for
better investment opportunities / entry points
51

52
Disclaimer
This writing is for informational purposes only and does not constitute an
offer to sell, a solicitation to buy, or a recommendation regarding any
securities transaction, or as an offer to provide advisory or other services
by FinLight Research in any jurisdiction in which such offer, solicitation,
purchase or sale would be unlawful under the securities laws of such
jurisdiction. The information contained in this writing should not be
construed as financial or investment advice on any subject matter.
FinLight Research expressly disclaims all liability in respect to actions
taken based on any or all of the information on this writing.

About Us…
FinLight Research is a research-centric company focused on Asset Allocation from a top-down
perspective, on Portfolio Construction, and all related quantitative aspects and risk management issues.
Our expertise expands along 3 axes:
Asset Allocation with risk control and/or risk budgeting techniques
Allocation to alternative investments : Hedge funds, rule-based strategies (momentum, value,
carry, volatility), real assets (real estate, infrastructure, farmland, timberland and natural resources).
Private equity and venture capital should be the next step…
Allocation with a factorial approach built on the understanding (profiling) of the risk/return drivers of
the different asset classes
FinLight Research is an innovation-oriented company. We target to fill the gap between the
academic research and the investment community, especially on real assets and alternatives. We survey
on a continuous basis the academic literature for interesting published and working papers related to
quantitative investing, non-linear profiling, asset allocation, real assets...
53

Our Standard Offer
Provide tailor-
made quantitative
analysis of your
portfolios in terms
of asset allocation,
risk profiling and
risk contribution
Provide tailor-
made quantitative
analysis of your
portfolios in terms
of asset allocation,
risk profiling and
risk contribution
•Risk Profiling
Offer a turnkey 3-
step factor-based
process in GAA
with factor
selection, risk
budgeting and
dynamic portfolio
protection
Offer a turnkey 3-
step factor-based
process in GAA
with factor
selection, risk
budgeting and
dynamic portfolio
protection
•Factor-based GAA Process
Provide assistance
with alternative
investments
(including real
assets) in terms of
profiling, and
integration in a
GAA
Provide assistance
with alternative
investments
(including real
assets) in terms of
profiling, and
integration in a
GAA
•Alternative Investments
Provide assistance
with asset
allocation and
related risk control
and/or risk
budgeting
techniques
Provide assistance
with asset
allocation and
related risk control
and/or risk
budgeting
techniques
•Global Asset Allocation
(GAA)
54

Finlight Research - Market Perspectives - Jun 2015

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