EFTA01362030

4 September 2015 US Fixed Income Weekly removed. 8%. This puts the current episode's maximum decline of 11% in good company with historical episodes. But other aspects of the historical record suggest that we may not out of the woods yet. For one, previous episodes of shocks to the volatility risk premium tend to last substantially longer than two weeks; they take an average of 50 days, or 38 days if the crisis-era episodes are excluded. (While there are some previous examples of "short" vol shocks in early 2007 and October 2014, these might be more appropriately viewed as early warning indicators for more extended periods of high volatility, and less as standalone examples.) Also, the equity markets have tended to hit rock bottom during these episodes an average of 30 days or so after implied volatility rises. The S&P 500 hit its low just four days after the vol shock, which seems out of line with historical patterns. Figure 4: Equity implied volatility relative to realized vol 2.25 2.00 1.75 1.50 1.25 too 2000 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 —3m Implied/12m Wind Vol Ratio. SPX IFigure 5: S&P level during elevated volatility episodes 2.300 2.100 1.900 1)00 1-- — — — 1.500 1.300 r 1.100 9C0 700 2004 2005 2006 2037 2008 2039 2010 2011 2012 2013 2014 2015 50iO4/ bunt" pant 2 komp. bold" an The shock to the VIX index can be attributed to three inter-related measures of equity volatility: the general level of at-the-money volatility relative to the trend of realized volatility, the premium for options expiring in the near-term (1m) relative to somewhat longer-expiry (3m) options, as well as the premium for out-of-the-money strikes over at-the-money strikes. An additional way to measure the magnitude of last week's equity market shock is to consider the elevated level of volatility risk premium, measured here as the degree to which option-implied volatility exceeds realized volatility. Finally, it's worth observing that credit markets are also participating in these developments. The implied- to-realized ratio on the CDX indices is also elevated, sitting in the 90th" percentile over the last 3.5 years for 1m options on IG CDX, while the equity risk premium is in the 99th percentile over the same period. ConG fusions Overall, we find market moves over the past week were in line with our expectations, directionally, although their speed, volatility, and reversals were certainly as much a surprise to us as they were to most other investors. We thought equities and other risk asset classes were much closer to what we perceive to be fair value at their bottom last Tuesday than they were following a retracement. Developments in China could have significant repercussions for broader EM universe, and we don't find EM credit spreads to be properly reflecting those consequences. We see main risks associated with EM credit assets being forced to re-price more substantially and having second-order effects on US credit markets. Additionally, historical evidence suggests that periods of extreme volatility similar to those witnessed over the past few sessions tend to exhibit propensity for aftershocks, usually lasting for weeks if not months. Page 26 SPX . ......iinplird/RitaR zed a 1.Sx Figure 6: Seasonality trends in HY/IG Awsra96, M OAS ovAwlPy ch9eve it . • • • to 20 0 Mf ha MV Oen In 17 Aut Sp On 00. Dee • 07070*07177) Stu fircrod7Tantninsi Ian tea My An. MM An Si hag .5•0 Oci Nov On •CPAnCr 1/4 ) aftteAren0074007**** San/ Dana ant 0 Deutsche Sank Securities Inc. CONFIDENTIAL - PURSUANT TO FED. R. CRIM. P. 6(e) CONFIDENTIAL SDNY_GM_00197511 DB-SDNY-0051327 EFTA01362030