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Quarterly Commentary




June 2014
333 S. Grand Ave., 18th Floor || Los Angeles, CA 90071 || (213) 6338200
2
Quarterly Commentary 6/30/14
Overview
Throughout the rst half of the year risk assets
connued to appreciate along with U.S. Treasury
(UST) prices, meanwhile domesc corporaons have
engaged in a series of mergers and acquisions
(M&A) acvity. A connued lowinterest rate
environment, suppressed risk premia overseas, slow
growth in demand, record corporate protability,
record levels of cash holdings by the corporate sector,
and the interacon of all these factors are likely
contribung factors. Yeartodate (YTD) North
American M&A volume has been almost $1 trillion,
with the second quarter of the year accounng for
$544.8 billion of this total. A connued lowinterest
rate environment, suppressed risk premia elsewhere,
slow growth in consumer and business demand,
record corporate protability, record levels of cash
holdings by the corporate sector, and the interacon
of all these factors are likely contribung factors. The
proposed purchase of Time Warner by Comcast for
$68.4 billion, and DIRECTV by AT&T for $66.0 billion
during the rst quarter represented the two largest
deals of the year then, but the second quarter also
saw massive proposed deals from Valeant and
Medtronic each above the $45 billion mark. Monthly
deal volumes above the $150 billion mark that have
been common in 2014 are reminiscent of the heady
levels of 2007. This sort of bullish senment was also
Quarterly Commentary
expressed in the 5.23% total return of the S&P 500
Index during the second quarter, with 2.07% return
during June alone. Bond returns, as measured by the
Barclays U.S. Aggregate Bond Index, were similarly
robust in the face of doom and gloom coming into the
year, with a 2.04% return during the quarter. Being
long risk has been the posion to be in thus far in
2014, but economic indicators could be interpreted as
suggesng quite dierent posioning.
Surely the most surprising economic indicator
received during June was revised data showing Real
U.S. Gross Domesc Product (GDP) contracted at a
2.90% annualized rate during the rst quarter.
Consumpon growth was signicantly below
preliminary esmates, and a decline in investment
trimmed nearly 2% from growth alone. The headline
unemployment gure connued to fall nishing the
quarter at 6.1%, but the proporon of workers
considered under employed was unchanged on the
quarter at 6.0% of the labor force. The combined rate
of those unemployed or underemployed of 12.1%
remains highly elevated relave to levels seen before
the Great Recession. Add in a labor force parcipaon
rate reminiscent of the late 1970s and the labor
market does not look as robust as depicted by the
headline unemployment rate alone. The worlds
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Quarterly Commentary 6/30/14
largest economy added 816,000 jobs in total during
the quarter, however, oering something of a silver
lining. Junes Federal Reserve (Fed) minutes suggest
the Fed Governors are cognizant of many of these
(and other) weaknesses that connue to permeate
the economy so many years aer the ocial end of
the Great Recession, and the tone regarding future
rate increases remains quite dovish. Low levels of
inaon corroborate this plan of acon. What
remains to be seen, however, is if the economic data
will eventually substanate the bull market that
connues mostly unabated in 2014.
U.S. economic data released in the second quarter
helped to paint a picture of an economy emerging,
albeit unevenly, from a weak rst quarter likely ed
to unusually severe winter weather that aected
consumers across much of the naon. The third
revision for rst quarter Gross Domesc Product
(GDP) was reported as shrinking by 2.9%, wellbelow
1.8% consensus esmates and the prior revision of
1.0%. Sll, more recent data released in June
illustrated the economy may be recovering: nonfarm
payrolls added 288,000 jobs for the month and the
unemployment rate dipped to 6.1% (thought the
Labor Force Parcipaon Rate remains quite low at
62.8 according to the Bureau of Labor Stascs).
Consensus esmates had been for a gain of only
215,000. Other data points, such as factory orders
shrinking in May and the manufacturing sector
expanding at a slightly slower pace for June, painted a
somewhat more mixed picture.
Minutes released from the Federal Open Market
Commiee (FOMC) meeng on June 1718 showed
that the Fed may be leaning toward ending its bond
buying smulus program in October. Though QE may
end by early fourth quarter of this year, some Fed
board members remain concerned enough about the
economy to keeping rates low wellinto 2015. A
couple" policymakers thought the Fed "may need to
allow the unemployment rate to move below its
longerrun normal level for a me in order to keep
inaon expectaons anchored and return inaon
to its 2% target, according to the FOMC minutes.
Chairwoman Janet Yellen herself stated in the June
18
th
, 2014 press conference that the Fed rearmed
its view that a highly accommodave stance of
monetary policy remains appropriate.
The eurozone economy remains extremely sluggish,
supporng the European Central Banks (ECBs)
addional easing policies over the quarter. Consumer
prices grew by just 0.5% for the 12months ending
June, less than half the ECBs 2.0% target. Consumer
condence unexpectedly fell in the month of June,
while ECB data indicated that lending to companies
and households fell for the 25
th
straight month in
May. In early July, ECB President Mario Draghi stated,
the key ECB interest rates will remain at present
levels for an extended period. The ECB further
released details of its latest TLTRO, whereby banks
will gain access to funding that they can hold for as
long as four years if they maintain or increase the size
of their loan porolio to rms and households.

Quarterly Commentary
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Quarterly Commentary 6/30/14
Emerging Markets Fixed Income
Markets broadly rallied in the second quarter of 2014:
mixedtoimproving economic data from developed
naons combined with central banks broad policies
to maintain low interest rates aided with oseng
bouts of geopolical noise from varying emerging
market economies. Risk assets, such as U.S. and
internaonal stocks rallied, along with a number of
commodies such as copper and crude oil. 10year
UST yields fell April through May, before rising in June
and ending the quarter 19 bps ghter at 2.53%. In EM
corporate debt, spreads ghtened by 22 bps, as
investors connued to pour cash into the space in an
apparent search for higher yielding assets.
For the quarter, EM debt as represented by the JP
Morgan Emerging Markets Bond Index Global
Diversied (EMBI) returned 4.76%, the bulk of that
performance came in the month of May. EM
sovereign bonds outperformed both EM corporates
and local bonds in this period.
China, the worlds second largest economy, showed
some improvement in the month of June: the ocial
Source: JP Morgan
(Past performance is no guarantee of future results.)
manufacturing Purchasing Managers Index (PMI) rose
to 51.0 in June from 50.8 in May, indicang slightly
greater expansion across the sector. HSBCs China
manufacturing PMI, which is more representave of
smalltomedium rms, was nearly unchanged, while
the HSBC Services PMI rose to a 15month high of
53.1. The Chinese government connues to
implement targeted smulus packages to help ensure
the naon hits its 7.5% growth target, as the
economy rebalances toward domesc consumpon.
For the second quarter, YoY GDP growth just hit the
ocial 7.5% target. The PBoC this year has started a
100 billion yuan quota for relending, aimed at
agriculture and small businesses, while also oering
300 billion Yuan toward lowincome housing. Cracks
have appeared this year in a Chinese economy that
has seen much of its growth fueled by investment. A
solar rm defaulted in March, which was the rst
onshore default in China. Numerous trust products
and associated rms are struggling to meet
payments, with nine trust product defaults in the rst
ve months of 2014, and more disnctly possible in
the laer half of the year. Finally local governments
are under pressure from debt ed to slumping
property markets, with a local government nancing
vehicle in Jinan City defaulng on its loan, the rst
ocial disclosure of such a default.
The second quarter was characterized by a number of
geopolical crises springing up in emerging markets:
from the headlinegrabbing Russian buildup of troops
along the Ukrainian border in conjuncon with civil
war in eastern Ukraine; to the May ouster of the
elected Thai government by the naons military,
following widespread protests and gridlock; to the
surprise June aack and rapid gains made by
the Islamic State of Iraq and the Levant (ISIL) across
Quarterly Commentary
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Quarterly Commentary 6/30/14
much of western Iraq; to the widening strike
paralyzing much of South Africa. Each of these
situaons remains extremely uid, though broader
markets have calmed aer inial spikes in volality.
Though Moscow has ordered troops to stand down
from immediate borders, and has engaged somewhat
in dialogue with Kiev, the supply of arms and material
to separast rebels does not appear to have stopped.
The Ukrainian militarys recent dedicated push into
the eastern provinces does appear to be encircling
rebel forces within a few key cies. In Thailand, the
military remains in control of the government, with
much of the country on lockdown and general
elecons not planned unl October 2015.
In June, Iraq witnessed Islamist guerillas overwhelm
weak government forces in a surprise aack from
Syrian territory. Brent crude spiked above $114 as the
fate of the Shiitemajority government stood in
doubt. Government forces did manage to stabilize
front lines by late June, though ISIS connues to
control a large poron of the country and threaten
instability. In South Africa, 220,000 metalworkers
have gone on strike and paralyzed the auto industry.
This acon is occurring only weeks aer planum
workers returned to mines aer a vemonth strike. A
fourweek strike by the same metal working union
last year cost the sector around $2 billion.
In Latam, the U.S. Supreme Court denied a nal
appeal by Argenna against a lower court ruling that
it had to pay holdout creditors in a nearly decade
long legal saga. This situaon remains extremely uid.
Inially it appeared that President Crisna Fernandez
de Kirchners government would aempt to transfer
current holders of Argennean New Yorklaw debt
into locallaw debt in an eort to circumvent the U.S.
courts ruling, but fairly recent indicaons have
emerged that the government may be nearing a
selement with holdout creditors. Argennas debt
has performed strongly this quarter in ancipaon of
some sort of resoluon to the saga. Many eyes were
also on neighboring Brazil which is hosng the World
Cup this summer. On the economic front, though
Brazil connued to undershoot its primary decit goal
of 1.9%, the Real was amongst the top performing EM
currencies in the quarter with a 2.6% gain. Some
investors have looked favorably upon centerle
President Dilma Rousse fading in polls below 40%.
Centerright opposion candidate Aecio Neves
perceived as more marketfriendly connues to build
popular support heading into October elecons, rising
from the teens in polling early this year to low20%
currently.
The rst half of 2014 saw a number of elecons take
place worldwide to varying degrees of impact, from
the surprising outrightmajority in parliament for
Indian Prime Minister Narendra Modi lending fuel to a
rally across Indian assets, to the ghtening of the race
for Indonesian president cooling o a strong rally in
debt and currency in the Southeast Asian naon. The
bulk of elecons for this cycle have passed, barring
select cases like Brazil, and now aenon will turn to
the ability of new governments to implement reform
policies promised during their respecve elecons.
The second quarter of 2014 saw investors return to
emerging markets funds in force, with all rst quarter
oulows reversed for a yeartodate (YTD) inow of
$5.3 billion. A total of $18.2 billion entered EM funds
in 2Q14, with $6.1 billion of these inows occurring in
June. Flows into hardcurrency funds outnumbered
localcurrency denominated funds by nearly fourto
one in this past quarter. In June, and during the
second quarter overall, a majority of inows entered
funds that are benchmarked to corporate and
sovereignblended indices. We believe the new issue
pipeline will remain relavely robust despite the
summerme.
Quarterly Commentary
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Quarterly Commentary 6/30/14
Investment Grade Credit
Investment grade corporate credit connued to post
healthy returns during the month of June and in the
second quarter. Over the course of the past month
and quarter, investment grade corporate credit
spreads have ghtened as heavy supply has met
healthy demand. A favorable credit environment has
been posively inuenced by the FOMCs dovish
forward guidance of the Feds zero interest rate
policy, signs of an improving U.S. economy and
relavely low market volality.
Investment grade credit recorded a second quarter
total return of 2.71% and has gained 5.70% YTD, as
measured by the Barclays U.S. Credit Index. The
Index ended the quarter 7 bps ghter and
outperformed duraonmatched UST by 81 bps. For
the month of June the Barclays U.S. Credit Index
ghtened by 2 bps generang a total return of 0.08%,
and outperformed duraonmatched UST by 26 bps.
This brings the streak of posive returns to six
consecuve months.
For the rst six months of the year xedrate gross
investment grade supply came in at a robust $645.6
billion making it the largest halfyear of issuance on
record. Issuers priced approximately $291.7 billion of
xedrate gross investment grade supply for the three
months ending June 30, 2014 led by Apples $12
billion in April, the largest transacon by a single
issuer. Throughout the quarter, there was an increase
in event risk as a number of major M&A transacons
(e.g., DirecTV/AT&T, Covidien/Medtronic, Hillshire/
Tyson among others) took place. Fixedrate gross
investment grade supply for June was approximately
$92.2 billion. Industrials led gross supply, issuing
$44.5 billion of investment grade debt.
Within investment grade, investors have connued to
reach down the credit spectrum as BBBs have posted
excess returns of 38 bps for the month, 135 bps for
the quarter and 263 bps for the rst half of the year.
Within investment grade for the month of June, the
bestperforming sectors included Home Construcon
(+1.37%); Metals (+0.99%); Oil Field Services
(+0.72%); Airlines (+0.57%) and Natural Gas (+0.54%).
The worstperforming sectors were Technology (
0.05%); Food & Beverage (0.03%); Industrial/Other (
0.02%); Midstream (0.00%); and Rening (0.03%).
The bestperforming sectors for the second quarter
included Sovereigns (+2.18%); Cable Satellite
(+1.76%); Metals (+1.76%); Paper (+1.71%) and Home
Construcon (+1.70%). At the other end of the
spectrum the worstperforming sectors were Gaming
Quarterly Commentary
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Quarterly Commentary 6/30/14
(2.46%); Texle (0.21%); Pharmaceucals (0.06%);
Food and Beverage (0.00%); and Industrial/Other
(+0.13%).
Investment grade fund ows remained posive and
accelerated in June with $8.0 billion in inows to the
asset class. Geopolical tensions and uprising in the
Middle East have increased demand for safehaven
assets such as U.S. Treasuries and U.S. investment
grade corporate bonds, increasing demand and
reducing yields. Monetary policy has also connued
to remain accommodave, which has kept yields low.
As a reecon of the improving economy, interest
rate spreads connued to trend downward, dropping
to their lowest levels since July 2007. We believe that
longterm performance with relavely low volality is
vital for investment grade bonds to connue to
perform. Within, investment grade credit the
opportunity for further spread compression is
becoming less likely given the historically ght levels.
We connue to value credits that exhibit compeve
advantages in their respecve industries,
management teams who have proven track records,
and rms that maintain beer than average balance
sheet fortude and free cash ow.







































Quarterly Commentary
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Quarterly Commentary 6/30/14
High Yield
Through the second quarter, highyield bonds
connued to benet from a combinaon of
accommodave global central banks, stagnant growth
trends, low market volality and benign UST yields.
The Ci HighYield CashPay Capped Index returned
0.82% during the month of June, 2.29% during the
quarter and 5.31% YTD. The Indexs yieldtoworst
was 4.97% at June monthend, ghtening 8 bps for
the month, 21 bps for the quarter and 63 bps YTD.
The spreadtoworst of 3.75% ghtened 17 bps during
the month, 13 bps during the quarter and 40 bps YTD.
The allme low on spreadtoworst sits around
2.70%, set in June 2007, and the spread between
investmentgrade and highyield bonds stands slightly
above 3%, versus the allme low of roughly 1.75%
(also set in June 2007).

While the U.S. economy faltered in the rst quarter,
this was not reected in highyield companies
earnings. According to Barclays, yearonyear EBITDA
growth for the broad market was 10% for the rst
quarter and has been increasing for the last four
consecuve quarters. Debt growth has slowed down
signicantly since last year and coverage raos are at
their allme highs, aided signicantly by low interest
rates. This divergence stems from increased business
spending, which has been boosng highyield
companies earnings, relave to weak consumer
spending that has been dragging GDP down. Sector
level data reects this as retail issuers have been
struggling recently, while companies serving other
businesses have seen strong earnings growth.
The best performing High Yield sectors during the
month included Retail Food & Drug (+2.17%), Retail
Stores Other (+1.42%) and Metals/Mining (+1.19%).
The worst performing sectors were Oil Equipment
(1.09%), Texle/Apparel/Shoe Manufacturing
(0.00%) and Paper & Forest Products (+0.15%). For
the quarter, the best performing sectors were
Diversied Telecommunicaons (+7.99%), Retail
Food & Drug (+7.31%) and Airlines (+7.14%). No
sectors had negave quartertodate (QTD) returns
but the laggards include Gaming (+2.29%), Texle/
Apparel/Shoe Manufacturing (+2.55%) and Oil
Equipment (+2.58%).
Highyield mutual funds had net inows of $1.0 billion
in June, according to Lipper, taking the net quarterto
date and yeartodate inows to $3.0 billion and $6.4
billion, respecvely. Highyield bond newissue
volumes slipped slightly in June to $36 billion from
$43 billion in May, and acvity was predominately
driven by renancing (72%). Aer pricing a record
$399 billion of highyield bonds 2013, the aracve
yield environment and increase in M&A acvity le
volumes elevated again in the rst half of the year at
$209 billion. With regard to acvity in the second
Quarterly Commentary
1. EBITDA refers to earnings before interest, taxes, depreciaon and amorzaon.
Source: S&P Capital IQ Leveraged Commentary and Data (LCD)
9
Quarterly Commentary 6/30/14























quarter, highyield bond volume totaled $121.2
billion, narrowly seng a new record. Highyield
bond volume used for acquisions during the second
quarter totaled $27 billion, the most since 2007.
Addionally a notable 62% of highyield issuance
during the second quarter was used for renancing,
versus 57% in the rst quarter and 56% in 2013.
No highyield bond issuers defaulted in June as
acvity remains extremely benign. The parweighted
U.S. highyield default rate decreased to 2.06%, down
from an upwardly revised 2.11% in May. Excluding
TXUs default, the parweighted default rate declined
to 0.70%, from 0.75% in May. The issuer weighted
highyield default rate decreased to 1.56% from
1.66%.















Quarterly Commentary
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Quarterly Commentary 6/30/14
highest returns were concentrated in the lowest
credit rangs. Yeartodate CCC loans returned 7.33%,
Bs returned 2.34% and BBs generated a 1.54%. The
defaulted category had the largest impact on the
Index with a 27.69% return led by strong performance
in Energy Future Holdings.
Retail loan mutual funds reported an oulow of $2.7
billion in June, which followed a $2.1 billion oulow in
May. The June retail withdrawal was the largest
oulow since August 2011, when $5.2 billion was
redeemed. Second quarter retail fund oulows
totaled $6 billion reducing the yeartodate retail
inows to $1.7 billion. Furthermore, exchangetraded
funds (ETFs) focused on U.S. bank loans also have
experienced modest oulows. These ETFs took in
about $6.5 billion in 2013 and the rst quarter of this
year, but $302 million owed out in the second
quarter.
Oseng retail oulows, CLO volume in June set a
record with $13.8 billion of new issues eclipsing the
previous record of $13.5 billion set in August 2006.
Considering both CLO and retail ows, the loan
market received just over $11 billion of inows for
the month. CLO issuance yeartodate is now $60.57
billion from 113 transacons. Net loan market
inows yeartodate from CLO and retail acvity
stands at $53 billion. June new issuance increased to
$63 billion from $37 billion in May. Meanwhile, year
todate loan new issuance was $322 billion down
from $353 billion issued during the 1st half of 2013
mainly due to a sharp drop in renancing acvity.
Total loans outstanding increased 11% from yearend
2013 to $756 billion.
For the most part, investors have been aracted to
such funds because they oered beer yields in last
Bank Loans
During the rst half of 2014 the loan market
beneed from record Collateralized Loan
Obligaons (CLOs) new issue volumes,
accommodave global central banks, stagnant growth
trends, and low market volality. The S&P/LSTA
Leveraged Loan Index returned 0.58% for the month
of June. The change in market value contributed
0.20% to the monthly return. The Index returned
2.60% YTD with price movement contribung 0.31%
to total return. The Index yieldtomaturity (YTM)
decreased to 4.65% in June from 4.66% in May and
4.94% at the beginning of the year. The discounted
spread to a 3 year life was LIBOR plus 446 bps.













There were no new defaults in June, the second such
month in a row. As a result, the default rate declined
to 4.41% from 4.60% in May. Excluding Energy Future
Holdings, which represented the largest default in
history at $19.5 billion, the default rate would be at a
21 month low of 1.08%. As in prior periods, the
Quarterly Commentary
Source: S&P Capital IQ Leveraged Commentary and Data (LCD)
11
Quarterly Commentary 6/30/14



























years lowrate environment than could be had in
investmentgrade bonds and most investors expected
the oang rates would cushion them as interest
rates rose. While the strong rush of inows
combined with the return of covenantlite loans into
the space has been worrisome for some we see the
potenal for more buying opportunies in the space.
We sll maintain a relavely conservave posion in
the fund, valuing higher quality credits.





















Quarterly Commentary
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Quarterly Commentary 6/30/14
been raised to between $85 billion and $100 billion.
Except for AAAs, 2.0 CLO debt spreads for the rest of
the capital structure have widened during the
quarter. Spreads up and down the capital structure
are sll nowhere near the ghts of 2013. New issue
AAA spreads sll hover in the 150 DM area. Top er
managers AAA have priced inside of 150 DM while
less known managers are priced about 10 bps wider.
Near the top of the capital stack spreads for 2.0 AA
and As have only widen by about 515 bps compared
to the previous quarter and 2013 year end. Farther
down in the mezzanine tranches, the 2.0 BBB and BBs
spreads have widened out by roughly 2550 bps from
last quarters average spreads. 1.0 CLO spreads for
AAA connue to ghten by 10 bps as more deals exit
reinvestment period and pay down. 1.0 AA, A and
BBB spreads were relavely unchanged for the
quarter. Since 1.0 BBs sele immediately and have an
aracve carry, spreads have come in by 25 bps.










Collateralized Loan Obligaons (CLOs)
Collateralized Loan Obligaon (CLO) issuance
connued along at a steady and strong pace. June
was the most acve month ever with 25 CLOs priced
with a total of almost $13.8 billion. The previous high
was set in August 2006 with $13.50 billion in new
issuance. With Junes issuance, the total issuance year
to date stands at $60.57 billion across 113 deals. If
issuance connues at Junes pace, the new issue
market for 2014 is expected to be around $100
billion.
Money connued to ow out of retail loan funds in
June for the 11th straight week, reversing the 96
consecuve weeks of inows. The reversal in retail
fund ows was one of the propellers of the increase
in CLO issuance. As CLOs ll the space le by retail
loan funds, loan spreads started to ghten slightly
from the wides in May. Sll, relavely wider spreads
have improved the arbitrage opportunity and have
made it easier to place the AAA and equity tranches.
New issue spreads for AAA came in slightly in June
from the 150 DM (discount margin) area to mid 140
DM for top er managers. Newer managers are sll
pricing in the 150 DM area. The rest of the CLO debt
tranches spreads were unchanged in June and are sll
wider than the spreads at the year end of 2013.
CLO new issuance connued to pick up steam and set
a record issuance high in the second quarter. The past
three months each had issuance over $11 billion for a
total of $35.25 billion for the quarter. The previous
record was $32.8 billion set during the second quarter
of 2007. Part of the increase in issuance is due to the
size of the deals. The average size for a deal in the
second quarter was $570 million, with a few deals
totaling over $1 billion. In 2013 the average deal size
was $481 million. Due to the increase in issuance and
size of deals, forecasts for 2014 total issuance has
Quarterly Commentary
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Quarterly Commentary 6/30/14
Prepayments speeds edged up each month during the
second quarter. Aer an unusually cold winter,
renancing acvity rebounded during the period.
Ginnie Mae (GNMA) speeds connue to be faster
than those posted by both Fannie Mae (FNMA) and
Freddie Mac (FHLMC) and are likely a result of
involuntary prepay speeds. Compared to FNMA and
FHLMC, GNMA borrowers tend to be more credit
impaired and prepays due to loan defaults have
contributed to faster CPR (Condional Prepayment
Rate) prints. The 30year xedrate mortgage (FRM)
average rate went from a high of 4.40% to a low of
4.13% during the quarter. Higher coupon bonds
exhibited faster prepays as they were naturally beer
candidates for renancing.
Agency MBS issuance grew over the quarter with
April, May and June seeing gross issuance of $67, $67
and $76 billion over each month, respecvely. The
increase in issuance coincides with the Fed connuing
to taper its asset purchase program, and formally
revealing in the June Fed Minutes that it aims to
conclude the program by October 2014. According to
Fed ocials, the ending of the purchase program is
no indicaon that the rst interest rate hike will be
imminent, rather, the economy will be observed and
if it is able to connue on its current trend, only then
Agency MortgageBacked Securies
For the quarter ending June 30, 2014, the Barclays
U.S. MBS Index returned 2.41% while UST returned
1.35%. The yield curve exhibited a bull aener
behavior during the quarter as the long end of the
curve ghtened while rates on the front end were
essenally unchanged. The longer duraon on the
MBS sector was a driver of the outperformance, but
technical factors also weighed in as demand has
connued to exceed supply. Longer duraon bonds
which are priced o the long end of the yield curve
beneted the most as this part of the curve ghtened
relave to the front end. Thus, 30year collateral
outperformed 15year collateral and lower coupons
fared beer than higher coupon bonds.
Quarterly Commentary
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Quarterly Commentary 6/30/14











will the possibility of a rate hike be considered. Many
Wall Street economists feel that the earliest
possibility of a rate hike will be the second quarter of
2015.
During the quarter, there was lile development on
the reform of the Government Sponsored Enterprises
(GSEs) as it appears to be a situaon where the
centrists of both polical pares are in agreement,
but to garner enough support the current bill will
have to aract votes away from the center. It is likely
that any mutually agreeable soluon will result in
higher mortgage rates than they would be under the
current structure of the GSEs. Addionally, any
policies that are agreed upon will most likely be
phased in over a 5year period. In midMay, the
Federal Housing Finance Agency (FHFA) released their
2014 strategic plan for the conservatorship of the
GSEs. To note, the HARP (Home Aordable Renance
Program) cuto date will remain the same which
means we should connue to see HARP having less
and less of an impact due to burnout. The FHFA
wants to increase the amount of risk transfer bond
issuance in 2014. It is this risk transfer (or privately
held rst loss pieces) that is at the core of GSE reform
in discussions on Capitol Hill. The FHFA reiterated the
plan is to wind down the GSEs to at least $250 billion
by 2018, while currently the porolios are
approximately $450 billion in size.







Quarterly Commentary
15
Quarterly Commentary 6/30/14
modicaons connue to account for the majority of
loan modicaons.
News of mortgage ligaon found its way back into
the headlines during the quarter with news that non
back servicer, Naonstar, is being quesoned about
the rapid growth of the rm and its handling of its
loan servicing volume. Many Naonstar serviced
bonds have experienced some disrupon in cashow
as the servicer seeks to claw back principal and
interest on loans held on its books. Federal regulators
have put the company under scruny as its loan book
has grown rapidly while stang has not grown
proporonally.


















NonAgency MortgageBacked Securies
The second quarter of 2014 in the nonAgency
mortgage sector can be characterized by improving
fundamentals coupled with reduced trading volume.
The large liquidaon lists seen in the rst quarter all
but disappeared. Instead, bid list volume was largely
driven by hedge funds and money manager selling.
Bid list volume was very consistent over the 3 months
with $11 billion of current face trading each month.
The bulk of the acvity was in AltA and subprime
collateral. Against this back drop of improving
fundamentals and ghter supply technicals, yields
ghtened during the quarter. Prime and AltA bonds
ghtened by approximately 25 bps while subprime
gapped in by 50 bps.
Mortgage rates declined during the quarter with the
30year xed rate mortgage average rate falling from
4.3% in April and ending June at 4.15%. Despite the
modest decrease in rates, prepays were a bit mixed.
Prepays were up in April and slightly in May, then
declined in June, resulng in largely unchanged
prepay rates during the quarter. Liquidaon rates
behaved in a similar paern with rising liquidaon
rates early in the quarter, and declining liquidaon
rates in June, again resulng in largely unchanged
liquidaons during the quarter. The pace of loan
modicaons connues to slow down; however, rate
Quarterly Commentary
16
Quarterly Commentary 6/30/14
Mirroring that trend, the oce delinquency rate
improved by 16 bps to 6.44%, the Retail delinquency
rate improved by 11 bps to 5.43%, Mulfamily
delinquency improved by 43 bps to 9.93%, and
Lodging improved by 32 bps to 5.39%. The Moodys/
RCA Commercial Property Price Indices (CPPI)
naonal major markets composite index increased
0.37% in May 2014 while nonmajor markets were up
1.51%. June loan loss severies averaged 45% over
$932 million of loans liquidated according to Trepp
Analycs.














Commercial MortgageBacked Securies
(CMBS)
The CMBS market ended the quarter with spreads
grinding ghter, buoyed by strong demand outpacing
limited new supply. Low market volality has led to
connued spread ghtening across the curve with
investors reaching for yield down the capital stack,
driving demand in mezzanine tranches o of new
issue deals. The June new issuance calendar consisted
of nine deals totaling $6 billion, an approximately
40% increase over both April and May, driven by ve
largeloan singleborrower deals. The four xedrate
conduit transacons issued totaled $3 billion,
consistent with April and Mays conduit new supply.
Twentyfour new issue conduit deals have priced YTD,
slightly outpacing 2013s 23 deals through June;
however, pool sizes have shrunk slightly, leading to a
10% decline in total conduit new issuance by balance
yearoveryear. Conduit new issuance remained
consistent throughout the quarter at approximately
$3.6 billion per month, down approximately $1 billion
per month from the rst quarter.
The CMBS poron of the Barclays U.S. Aggregate
Bond Index returned 0.18% for June and 1.31% for
the second quarter. For the month, legacy AAA
spreads ghtened by 2 bps to 84 bps over swaps. On
the new issuance side, the most recently priced new
issue deal AAAs priced at 78 bps over swaps, a 7 bps
improvement over the last deal priced in May and
BBBs priced at 315 bps, a 20 bps ghtening.
The overall U.S. CMBS delinquency rate fell by 22 bps
to 6.05% in June according to Trepp Analycs, which
makes it the 13th consecuve month of delinquency
improvement. The 30+ day delinquency rate by
property sector improved in all ve categories, led by
industrial which posted a 55 bps improvement to
8.39% aer backing up by 25 bps the prior month.
Quarterly Commentary
17
Quarterly Commentary 6/30/14
issues at 0.26% and 30year bond posng the highest
at 5.24% for the quarter. The Barclays U.S.
Government Index returned 0.13% in June, 1.34% for
the second quarter and 2.66% YTD.
Treasury InaonProtected Securies (TIPS),
beneng from a comparavely long duraon,
returned 3.81% for the second quarter. The Barclays
U.S. Municipal Bond Index, also relavely long
duraon, returned 2.59% for the quarter.

















U.S. Government Securies
The UST market posted solid performance in the
second quarter, matching the posive return of the
rst quarter. The support for UST prices came from a
variety of sources. Geopolical risk, especially the
turmoil in Ukraine and Iraq, provided a ightto
quality bid. A highly accommodave monetary policy
was cemented in place by the ECB, with combang
deaon being the primary focus; the easy money
policy pushed European sovereign yields lower,
which, in turn, added to the downward pressure on
UST yields. Fed Chair Yellen helped the market as
well with some dovish comments that allayed
investor fears of a shi toward more aggressive policy
ghtening. Finally, speculave short posions, which
were instrumental in sparking the January rally,
persisted through the second quarter. Short covering
purchases were seen sporadically through the second
quarter.
Treasury yields fell modestly April. The rally picked
up speed in May and then held on through June. The
10year UST note yield ended the second quarter at
2.51%, down 21 bps since March 31 and down 51 bps
from 2013 yearend. The yield curve aened
through June, for the full quarter and year to date.
The twoyear UST note yield rose three bps through
the second quarter, while the veyear note fell 11
bps in yield, the 30year bond yield fell 22 bps.
Returns followed a similar paern, with the twoyear
note posng the lowest return among the benchmark
Quarterly Commentary
18
Quarterly Commentary 6/30/14
instability. Iraqi oil producon is currently at 3.3
million barrels per day. All six components of the
sector were posive. Unleaded gasoline prices gained
7.20% in the second quarter making it the best
performer in the sector.
The agricultural sector was the lone loser of the
quarter, giving back much of the gains reaped in rst
quarter ending down 12.31% in the second quarter,
with the return of the sector at 1.63% YTD. Cocoa was
the lone posive performer with a 5.64% return.
Coee gave back some of its earlier gains losing
4.18% in the second quarter, but sll remains up
51.56% YTD. Wheat was the biggest loser, suering a
19.74% loss on the back of upward revisions to supply
expectaons aer the harsh winter.
Commodies
The Standard and Poors Goldman Sachs Commodity
Excess Return Index (SPGSCI ER) ended the second
quarter of 2014 up 2.69%. This connued the bull
market in aggregate commodity prices started in the
rst quarter of the year when the SPGSCI ER returned
2.93%. Four out of the ve sectors that comprise the
SPGSCI ER were posive, led by the industrial metals
which earned 6.96%. Agriculture was the only
negavely performing sector with a loss of 12.31%
due to upward revisions to crop producon forecasts.
Idiosyncrac factors were the primary drivers of
performance in the rst half of the year with the
energy sector largely inuenced by increased
geopolical tension in the Middle East and Ukraine
while the agricultural sector was primarily supply
driven.
In the second quarter the energy sector gained 5.08%
driven mostly by fears of supply disrupon due to the
ISIS aacks in northern and central Iraq threatening
the massive oil elds of the south that contain 85% of
the countrys oil reserves. Ongoing polical concerns
have roiled internaonal expectaons about
increasing supply capability. Original Iraqi
government projecons ancipated supply of 10
million barrels per day by 2020, while current
internaonal esmates consider that this may be
halved in the face of polical economic
Quarterly Commentary
19
Quarterly Commentary 6/30/14
Fed policy will inuence the sectors performance in
the second half of the year and beyond, as the
prospects of higher interest rates may pull investors
away from gold and silver if inaonary fears remain
controlled.




















Livestock gained 5.13% aer live cale and feeder
cale returned 9.00% and 18.37% respecvely. Lean
Hogs were the only loser in the sector down by
2.68%. In the rst two quarters of 2014 the livestock
sector was the biggest winner, spawning a 20.90%
return with lean hogs, live cale and feeder cale up
27.62%, 16.78% and 24.53%, respecvely.
Industrial metals built the largest gain of any sector in
the second quarter delivering a 6.96% return. This
solid performance lied the sector into the black for
the rst half of the year; ending the quarter 1.23%
higher than it began at the end of 2013. Much of this
return was collected by nickel with a return of 19.27%
in the second quarter on the heels of its 14.23%
return in the rst quarter. This gain was mostly due to
increased demand for the metal as major economies
improve across the globe. Every industrial metal
achieved a gain. The future outlook for this sector is
posive as downside risks to the supply of lead and
zinc could li prices higher. Copper on the other hand
could face a supply glut if economic acvity in China
and the U.S. do not connue to increase as mulyear
supply projects are coming online.
Precious metals gained 3.34% in the second quarter
as a safe haven asset due to geopolical risks
emanang from Ukraine, Iraq and Hong Kong. This
caps the precious metals rst six months of 2014 as a
posive one, with the sector up 9.63%. It is likely that
Quarterly Commentary
20
Quarterly Commentary 6/30/14
2014 Asian equies were mixed with the Nikkei
+3.17%, Shanghai Composite 0.74%, Hang Seng
+5.10%, and Kospi +1.07%. Japanese equies seem to
be supported by the prospect of large porolio
allocaon shis into equies from Japanese
Government Bonds by large Japanese pension funds.
Addionally, Japans rst quarter growth was revised
substanally higher to 6.7% quarteroverquarter
(QoQ) annualized. Senment seems to be rising on
the possibility the PBoC will engage in monetary
easing to support growth across the country. Indian
equies, as measured by the SENSEX, rallied 13.76%
in second quarter as Modi was elected to Prime
Minister. The market believes the new PM will
embark on farreaching reforms that will ulmately
boost growth.












Global Equies
Global equies as measured by the Morgan Stanley
Capital Internaonal All Country World Index (MSCI
ACWI) posted a 1.71% gain in June, while rallying
5.10% in the second quarter of 2014. U.S. equies
performed well in June with the S&P 500 and Dow
Jones up 1.91% and 0.65%, respecvely. Nasdaq and
Russell 2000 posted substanal gains up 3.9% and
5.15%, respecvely. US equies achieved stellar
returns during Q2 2014 with S&P 500, Dow Jones,
Nasdaq, and Russell 2000 up 5.52%, 3.08%, 6.07%,
and 3.57%, respecvely. The macro data out of the
U.S. was mixed in the second quarter with strong
labor data; however, rst quarter GDP was revised
signicantly lower to 2.9%. The Fed connued to
taper its monthly asset purchases by $10 billion as
expected at each of the FOMC meengs during the
quarter.
In Europe, equies were generally lower in June with
the DAX 1.11%, CAC 2.14%, and FTSE 1.47%. In the
periphery, equies were mixed with the FTSEMIB
1.60% and IBEX +1.16%. However, in the second
quarter European equies were generally higher with
the DAX +2.56%, CAC +0.26%, and FTSE +1.94% while
peripheral equies were mixed. The macro data
across the Eurozone was on the soer side with
inaon connuing to run well below the ECBs
target. The ECB lowered its enre interest rate
corridor, taking deposit rates negave. At the same
me the central bank introduced a targeted long
term renancing operaon (TLTRO), halted the
sterilizaon of Securies Market Programme (SMP),
announced preparatory work on purchases of asset
backed securies, and opened the door for outright
quantave easing.
Asian equies were mixed for the month of June with
the Nikkei +3.62%, Shanghai Composite 0.09%, Hang
Seng +0.47%, and Kospi +0.36%. Similarly, during Q2
Quarterly Commentary
21
Quarterly Commentary 6/30/14
Important Informaon Regarding This Report
Issue selecon processes and tools illustrated throughout this presentaon are samples and may be modied periodically. Such charts are not the only tools used by the
investment teams, are extremely sophiscated, may not always produce the intended results and are not intended for use by nonprofessionals.
DoubleLine has no obligaon to provide revised assessments in the event of changed circumstances. While we have gathered this informaon from sources believed to
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Forwardlooking statements include, among other things, projecons, esmates, and informaon about possible or future results related to a clients account, or market
or regulatory developments.
Rangs shown for various indices reect the average for the indices. Such rangs and indices are created independently of DoubleLine and are subject to change without
noce.

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