EFTA Document EFTA01300069

From: Sent: Wednesday, December 10, 2008 2:10 AM To: Jeffery Epstein Subject: Fw: Bond Fund analysis Here u go. Original Message From: Doug Minh Sent: 12/09)2008 08:19 PM EST To: Jcs Staley Cc: Brian Carlin Subject: Bond Fund analysis Lots of context below, but the sensitivity box at the beginning of the email below gets to the punch line. It rests on a set of assumptions described in more detail below, and highlights that unlevered returns look sufficiently attractive ( up 26% to down 10%) , but that 1X leverage does add significant return enhancement without commensurate downside risk (up 48% to down -22%). Of course, its all about the assumptions. Our bear case assumes that spreads blow out to 900 (from 600) and UST's at 1- 2% are unchanged. Reasonable for a bear case, but these are strange times as you know. Let us know if we can help further. -- Forwarded by Doug Wurth/JPMCHASE on 12/09/200808:07 PM -- Brian J Carlin/JPMCHASE To Doug Wurth/JPMCHASE©JPMCRASE cc Subject printable version 12/09(2008 08:07 PM Executive Summary: It would seem that either unlevered or 1 times levered offers the most interesting risk return skew as outline in the table below: Unfenced fl ier/ 2 %Lev Bull case 26% 48% P% Moderate 14°% 25% 36% Bear Case -10% •22% -35% Back drop: The 2 charts below look at the 35 year history of investment grade corporate spreads (about 5 yr duration) and the similar treasury yields. As you can see below, current levels of 600 over are unprecedented over the past 4 decades. However, a similar thing can be said of the current lows seen in 5 year duration US treasuries, leaving IG all-in yields elevated, but not unheard of. SDNY_GM_00077053 Confidential Treatment Requested by JPMorgan Chase JPM-SDNY-00000180 EFTA_00I 87525 EFTA01300069 i p Sp,m,B Vtill hedtilly Yldd % Over Trm sales 7 6 5 4 3 2 1 0 .1 4 4 o 4 4 4' w 4 w 33 a cia c t a c t a c to. ; 'a= z a - 2 ."- z 1- 2 A- A" %ace Lehner. We Ltd; 16 ti 12 SO 6 4 2 0 '; 4 4 ; ; 4 147,i SS ck 6- = tag tg c pa= kb e = Sounne Lehrren Live The buying if intermediate IC bonds at current yields of 8%+ seems attractive and we have recently added 3% to our non- tax paying client portfolios. Adding leverage to the mix has the potential to further increase the upside of the return, but depending upon the economic outcome and level of leverage used can also be fairly bad as well. There are 2 issues we have with leveraging fixed rate IC bonds- first is what happens to spreads, then where do treasuries go. Bear case: Spread blows out to 900 (from 600) and UST's at 1-2% cant rally anymore and are unchanged. Unlevered downside risk is fair, with a negative total return of 10% in one year. However, even moderate 2 or 3 times leverage quickly turns -10% to -25%-35%. While I admit spreads have never been 900, up to this quarter they had never been 600 either, so I am hesitant to put a cap on where they can go. &statism bbize 20% Sitar Treapores 1.5% leverage wY L.1% Yen eMorten 1 we Bear Carte Sane weer* '.i*. fl an 3000PIL Sta. tiessettee wiecIonagel) thieved:I Levered 21 Levered 31 Current Screed 600 600 600 rutde Spread 900 800 KO Current 1 reedlereS 15% 13% 15% rulde Treasuries 15% 1 5% 15% Portion 5 5 5 Current Prins 85 95 IX Fulde Price 70 70 70 1 Yen Peke Reim .18% -35% .53% 1 Yee Yidd 8% 13% 18% Told Pawn .10% -22% -35% Bull case: Spread return to 300, high historically but reasonable as economic outlook is still mixed. UST still 1-2% as fed has done quantitative easing, buying longer term UST's to keep term structure of government rates low. Unlevered returns of 25% and 2-3 times leverage quickly gets to 50-70%. LYN Cane (mass snide tighten bat to 3041 bps. Sr. tremitrin enchanted) Lk-levered Levered 21 Levered 3.1 Current Speed 600 600 600 rdde Spread 200 XIO 300 Curtest 1 reenares 18% 1.5% 15% Aide Treesurke 15% 1.5% 15% Data 5 5 5 Cum." PrIte es es es Future Price 100 100 100 1Year Ps Ice Rdrem 18% 35% 53% I Yen ?Ids, 8% 13% 18% TOW R dawn 26% 48% 71% Moderate case: Spread rally back by 200bps to a still high 400 over, but US treasuries also give up some of their current "flight to quality bid" and return to 2.5% levels from 1.5% current levels. Assuming we did not have any duration hedge here, we lose part of the spread rally from the higher risk free rates. Still a positive story overall, 14% unlevered, 25-35% SDNY_GM_00077054 Confidential Treatment Requested by JPMorgan Chase JPM-SDNY-00000181 EFTA_OOI 87526 EFTA01300070 levered returns. llodera Cane pause stn.,* *Sea bad to 400 bps. S yr Inpayria bath to IWO leleotrod Levered 21 Levered 31 Current Spread 500 930 600 neve Spread 400 400 400 Curren! 1 rearms 1.6% 1.6% 14% rrtwe Treasuries 2.5% 2.5% 29% Dorcoon 5 5 5 Correct Prrx 85 es 85 ruh.e 4WD 93 93 90 I Tom Price Return 6% 12% 18% I Yell Yield 8% 13% 18% Total Return 14% 25% 36% SDNY_GM_00077055 Confidential Treatment Requested by JPMorgan Chase JPM-SDNY-00000182 EFTA_00 I 87527 EFTA01300071