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Global Fixed Income Bulletin Passing the Baton to Fiscal Policy FIXED INCOME | GLOBAL FIXED INCOME TEAM | MACRO INSIGHT | NOVEMBER 2016 Outlook • Economic fundamentals are looking better than the bearish consensus. Yet, politics has been more disruptive to markets this year than expected and could get more fraught in 2017, with U.S. presidential and core European elections, Brexit negotiations and the Chinese politburo transition. We believe in this environment, riskier spread products could weather a gradual rise in risk-free rates, especially if it is supported by stabilizing or improving economic fundamentals. However, we are cognizant that, as psychological resistance levels get broached, rising yields could take on a life of their own. We have been reducing risk to help stay ahead of a possible bond tantrum and prefer spread exposures that are less correlated to interest-rate movement. • Subject to potential near-term event risks being resolved in the next few weeks, we remain optimistic about the prospects for emerging market (EM) fixed income for the remainder of the year as fundamentals, technicals and the macro environment remain supportive. China’s growth slowdown is likely to continue in the medium term, with short-term growth prospects reliant on continued fiscal and monetary policy support. • We anticipate U.S. investment-grade (IG) credit will continue to outperform European IG, as the technical picture remains more supportive in the U.S. due to a more favorable yield environment. We maintain our constructive view on high yield as the global demand for yield continues to support this asset class in both the U.S. and Europe. Bearish views on global growth and inflation as well as technical forces from central bank bond purchases have served to push term premium down for much of 2016, driving risk-free yields lower than fundamentals would suggest. Those forces are now reversing. We have been saying that the overall market underappreciates the potential for higher inflation, improvements in economic data and policy change. The consensus has been bearish on economic fundamentals for a TABLE OF CONTENTS 1Outlook 2 Interest Rates & Currency Outlook 3 EM Outlook 3 Credit Outlook 3 Securitized Outlook 4 Market Summary 4 Developed Markets 5 Emerging Markets 6External 6Domestic 7Corporate 7 Corporate Credit 9 Securitized Products The views and opinions expressed are those of the portfolio management team as of November 2016, and are subject to change based on market, economic, and other conditions. Past performance is not indicative of future results. GLOBAL FIXED INCOME BULLETIN while, which means any positive surprise could be a shock. October provided an instance of what that could look like. After a sharp fall in August, both euro area PMI and U.S. ISM rebounded strongly in September. In the U.K., PMI for September hit new highs for the year. Moreover, as oil prices have remained stable in the past few months, their negative drag on inflation has cleared, leading to higher inflation in the euro area, U.S. and U.K. In light of better growth and inflation, most developedmarket 10-year yields increased by more than 20 basis points (bps). U.S. break-even inflation rates hit highs for the year in the U.S., driven by rising nominal yields. The market has broadly priced in one Federal Reserve (Fed) rate hike for 2016 and is forecasting two hikes in 2017. The Fed has entertained the view that neutral rates might be significantly lower going forward, which would justify a shallower, more cautious hiking path compared to historical standards. This should be supportive of rebounding inflation, or in Yellen-speak, running a “highpressure economy.” On top of better data, changes in monetary policy have also become a catalyst for steepening curves. In Japan, the Bank of Japan (BoJ) is explicitly maintaining steeper curves as it focuses on yield curve control. We think the BoJ is a leading indicator for what many other central banks around the world might do, notably the ECB, which is likely also similarly re-examining policies that have flattened the yield curve. The backlash from pension fund and life insurance underperformance has been increasing as well, as have banks complaining about their lack of profitability in the current monetary policy regime. As monetary policy faces diminishing returns, we believe that fiscal easing could be the next driver of markets. In the U.K., the new Chancellor has promised to increase public spending, pushing back the deficit reduction deadline. In Italy, Renzi is also looking to increase deficit spending. Even in Germany, the attitude toward austerity is turning as Finance Minister Wolfgang Schaeuble has talked of a tax cut in 2017 of around 0.5 percent of GDP. Finally, given the campaign promises, we think the new U.S. president will focus on infrastructure spending, which would be at a minimum a moderate fiscal boost. Simply, the increased discussion of fiscal policy suggests the course of monetary policy as we have experienced it over the past six years could be coming to an end. Treasuries are more likely to be shaped by technical forces related to global risk premia, which we think could reverse and drive yields higher, than economic fundamentals. In 2017, we may see for the first time since 2013, a combination of bearish factors for higher-yielding bonds: improving economic data/rising inflation, less easy monetary policy and rising risk premiums. As such, we remain underweight U.S. duration, although we remain overweight elsewhere, such as in EM. We also believe that current market pricing of inflation through Treasury Inflation-Protected Securities underestimates the potential for higher inflation. Higher yields and steeper yield curves have been supported by improving economic fundamentals but this year, politics has been more disruptive to markets than expected. We believe 2017 could be even more politically fraught on the back of core European elections, Brexit negotiations, the Chinese politburo transition, the U.S. presidential election and its likely fractious implications. Thus, we believe there are opposing forces at work that could cap a yield sell-off. Riskier spread products could weather a gradual rise in risk-free rates, especially if it is supported by stabilizing or improving economic fundamentals. However, we are cognizant that, as psychological resistance levels get broached, rising yields could take on a life of their own. Thus, we have been reducing risk to help stay ahead of a possible bond tantrum and prefer spread exposures that are less correlated to interest-rate movements. We expect continued European Central Bank (ECB) purchases to pressure euro periphery real yields lower, in order to bring about the necessary financial and economic rebalancing to increase inflation expectations. Based on this view, we continue to like inflation-protected bonds in Italy and Spain and are slightly negative on eurozone duration, although we do not expect longer-maturity core eurozone yields to break out of recent ranges. Interest Rates and Currency Outlook Given the relative mediocrity of the global economy and ongoing uncertainties around the impact of the China slowdown, Fed tightening and Brexit, we expect the Fed to do all it can to implement a “dovish” hiking path and expectations of two 2017 rate hikes are reasonable. But, longer-maturity In our opinion, EM assets remain attractive in this low-yielding, easy money world. Central European bonds remain attractive, as does Mexico, Indonesia and Argentina. We are tactically positive on Brazil, pending confirmation that political change will result in lasting reform. In terms of currency positioning, we have exposure to where we see value, including the Norwegian kroner. Norway has been one of the only G10 countries to experience above-target inflation, while the currency has depreciated quite a lot in the past few years. We are underweight the British pound in anticipation of deteriorating growth caused by Brexit uncertainties and the Japanese yen on the back of the new steepening yield curve bias of the BoJ. The views and opinions expressed are those of the portfolio management team as of November 2016, and are subject to change based on market, economic, and other conditions. Past performance is not indicative of future results. 2 MORGAN STANLEY INVESTMENT MANAGEMENT | FIXED INCOME PASSING THE BATON TO FISCAL POLICY EM Outlook Subject to potential near-term event risks being resolved in the next few weeks, we remain optimistic about the prospects for EM fixed income for the remainder of the year as fundamentals, technicals and the macro environment remain supportive. The various factors both pushing and pulling investors into EM fixed income remain in place: developed market yields remain very low, economic data in EM appears to have stabilized, fears of multiple Fed rate hikes have subsided and concerns of a sharp slowdown in China have diminished. We believe that EM assets could well absorb a Fed rate hike in December; however, assets remain vulnerable to rate hikes driven by a surge in inflation. The EM/developed market (DM) growth differential has stabilized and appears to be recovering in favor of EM as the negative growth impacts from Brazil and Russia lessen. China’s growth slowdown is likely to continue in the medium term, with short-term growth prospects reliant on continued fiscal and monetary policy support. U.S. elections reflect a potential event risk for some key EMs and the outlook for global trade. Credit Outlook As we head into November we maintain our cautiously optimistic view of global credit. Technical factors remain supportive of the asset class, especially in the U.S. where foreign buying continues to have a pervasive impact on yields. We anticipate U.S. IG credit will continue to outperform European IG as the technical picture remains more supportive in the U.S. due to a more favorable yield environment. We maintain our constructive view on high yield, as the global demand for yield continues to support this asset class in both the U.S. and Europe (as well as largescale ECB purchases). As we head into year-end, rate volatility and price action, central bank policy and the U.S. election remain key macroeconomic themes that will impact global credit performance and our global credit outlook. In addition, commodity price action and deteriorating credit fundamentals remain credit-specific risks that we continue to monitor as potential negatives. Despite these potential headwinds, however, we continue to believe that the supportive environment in credit will continue. Securitized Outlook We remain underweight U.S. agency mortgage-backed securities (MBS) given the historically low nominal spreads and low option-adjusted spreads, combined with near-record low mortgage rates. Agency MBS have performed reasonably well in 2016, driven largely by increased demand for liquid and high credit quality spread products. While agency MBS have performed well over the past few years as rates volatility has remained relatively low, we believe that agency MBS appear to be expensive from a historical spread and yield perspective and that the downside risks significantly outweigh the upside potential and outweigh the current carry. Additionally, we believe credit-sensitive mortgage securities currently offer better risk-adjusted return profiles and cash flow carry. While we believe agency MBS will continue to perform well in the near term, we do not find agency MBS to be attractive on a relative basis to credit-related MBS. Non-agency MBS remains one of the more stable and attractive fixed income asset classes in our opinion. Given the attractive carry, improving fundamentals and shrinking net supply, we remain overweight this sector. Non-agency MBS offers spreads of 150-225 bps above Treasuries for IG bonds, and 250-300 bps for senior non-investment grade bonds on a loss-adjusted basis. We remain positive on the U.S. housing market given the modest strength of the U.S. economy, continued low mortgage rates and aboveaverage home affordability. From a supply perspective, we project outstanding nonagency MBS to decline by $70 billion to $80 billion in 2016, while new securitizations are projected to only amount to $30 billion to $40 billion. We remain cautiously overweight commercial mortgage-backed securities (CMBS). CMBS have underperformed most credit sectors in 2016, and sponsorship for the sector still feels soft, but we expect that commercial real estate fundamental conditions will remain strong as long as unemployment remains low and the U.S. economy continues its moderate growth. We believe CMBS are poised to perform well as a result of these healthy economic conditions, but we have some concerns over supply/ demand dynamics given the recent spread volatility and given our expectations of future increases in new origination and issuance. We also have some concerns over late 2015 and 2016 vintage origination CMBS due to the substantial increase in property values over the last few years. We favor more seasoned CMBS issues, which have benefited from recent property price appreciation, over newly originated deals which may have somewhat inflated property valuations as part of their underwriting. Although we expect continued volatility in CMBS in 2016, we still believe that CMBS offer attractive yields and should continue to benefit from improving fundamental market conditions. While we remain overweight, we are limiting our overweight to a manageable level given the increased volatility and mark-tomarket risk in this sector. In Europe, we have decreased our strong overweight positioning to a more moderate overweight outlook for MBS and CMBS. Spreads are now tighter than pre-Brexit levels, even though we believe fundamental conditions have more uncertainty in the wake of the Brexit vote. Overall, we remain positive on the sector given the belief that the ECB and BoE will continue to keep interest rates low for the foreseeable future, and that both the European economies and, more importantly, the respective real estate markets will benefit from these accommodative policies. New residential mortgage-backed securities The views and opinions expressed are those of the portfolio management team as of November 2016, and are subject to change based on market, economic, and other conditions. Past performance is not indicative of future results. FIXED INCOME | MORGAN STANLEY INVESTMENT MANAGEMENT 3 GLOBAL FIXED INCOME BULLETIN (RMBS) and CMBS issuance remains disappointingly light in Europe, but we are still finding a number of attractive seasoned opportunities. As long as the fundamental conditions remain positive with low rates and rising real estate prices, we continue to like the European RMBS and CMBS markets. Market Summary In October, yields in developed markets rose and yield curves steepened.1 The dollar strengthened versus global currencies, as the market priced in the odds of a Fed rate hike in 2016. Over the month, 10-year U.S. Treasury yields rose 23 bps, while the 2s/10s curve steepened by 15 bps.2 Germany’s 10-year yield increased 28 bps, while the two-year yield increased 7 bps.3 10-year yields in Spain increased 32 bps, while increasing political risks around the constitutional referendum led Italian yields to increase by 48 bps.4 Portugal’s 10-year yield decreased 1 bp, and Greece’s 10-year government yields increased 1 bp.5 Japanese government bond (JGB) 10-year yield increased by 4 bps.6 The dollar strengthened against most G10 currencies. The euro depreciated by 2.3 percent. The British pound depreciated by 5.6 percent, driven by fears of a harder Brexit negotiation than previously anticipated, making the pound the biggest loser of the month. The Japanese yen depreciated by 3.3 percent for the month.7 Crude oil (Brent) prices decreased in the month from $49 to $47.8 Developed Markets In the U.S., the Federal Open Market Committee released minutes to the September meeting. Several policymakers thought a rate increase relatively soon Source: Bloomberg. Data as of October 31, 2016. Source: Bloomberg. Data as of October 31, 2016. 3 Source: Bloomberg. Data as of October 31, 2016. 4 Source: Bloomberg. Data as of October 31, 2016. DISPLAY 1 Asset Performance Year-to-Date Returns through 10/31/2016 Brent crude oil Gold GSCI soft commodities JPM Local EM Debt ML US HY JPY vs. USD JPM External EM Debt MSCI emerging equities UK 10yr gov. bonds S&P/LSTA Leveraged Loan Index Barcap US IG Corp ML Euro HY Constrained Spain 10yr gov. bonds German 10y Bund US S&P 500 US 10 year Treasury Barcap Euro IG Corp MSCI developed equities Japan 10yr gov. bonds ML US Mortgage Master Copper Italy 10yr gov. bonds EUR vs. USD Dollar index Euro Stoxx (USD) Euro Stoxx (Euro) Japan Nikkei 225 -0.2 -1.9 -3.0 -6.8 -20% -10% 0% 20.4 19.8 16.1 15.7 14.5 13.4 12.3 9.0 8.6 8.3 8.2 8.1 6.1 5.9 5.5 5.2 4.0 3.6 3.4 2.9 1.2 1.1 10% 20% 29.6 30% 40% Note: U.S. dollar-based performance. Source: Thomson Reuters Datastream. Data as of October 31, 2016. The indexes are provided for illustrative purposes only and are not meant to depict the performance of a specific investment. Past performance is no guarantee of future results. See page 14 for index definitions. would be warranted. The decision to not hike in September was described as “a close call.” Data was relatively good in October. September nonfarm payrolls increased 156,000 versus expectations of 172,000, although August nonfarm payrolls were revised higher to 167,000 from 151,000.9 The unemployment rate ticked up to 5.0 percent, above consensus of 4.9 percent, as the participation rate increased to 62.9 percent. Average hourly earnings rose 2.6 percent.10 ISM manufacturing index increased to 51.5 in September, above expectations of 50.4. Gross domestic product (GDP) figures for third quarter came out at 2.9 percent quarter-on-quarter, above consensus expectations of 2.6 percent. Headline CPI rose to 1.5 percent from 1.1 percent, and core CPI was 2.2 percent for September.11 Source: Bloomberg. Data as of October 31, 2016. Source: Bloomberg. Data as of October 31, 2016. 7 Source: Bloomberg. Data as of October 31, 2016. 8 Source: Bloomberg. Data as of October 31, 2016. In the eurozone, the ECB left policy unchanged at the October meeting. ECB President Mario Draghi again did Source: Bloomberg. Data as of October 31, 2016. Source: Bloomberg. Data as of October 31, 2016. 11 Source: Bloomberg. Data as of October 31, 2016. 1 5 9 2 6 10 The views and opinions expressed are those of the portfolio management team as of November 2016, and are subject to change based on market, economic, and other conditions. Past performance is not indicative of future results. 4 MORGAN STANLEY INVESTMENT MANAGEMENT | FIXED INCOME PASSING THE BATON TO FISCAL POLICY not discuss possible extension of the quantitative easing (QE) program and communicated that the Council will wait for results of ongoing review before a full decision is made. Also in October, DBRS confirmed Portugal’s IG rating with a stable outlook, which ensures Portugal’s eligibility for QE sovereign purchases. In terms of survey data, eurozone manufacturing PMI came in at 52.6 in September, no change from August and in line with consensus.12 Eurozone GDP for third-quarter 2016 was 0.3 percent quarter-on-quarter, in line with consensus. Eurozone inflation was 0.4 percent for September, up from 0.2 percent previously.13 In the U.K., the new Chancellor Phillip Hammond presented a new fiscal plan. Deficit reduction will be slowed compared to the previous plan of delivering a surplus by 2019-2020. Instead, public investment spending will increase. Current Governor Mark Carney has chosen to stay until June 2019 in his position, an extension of one year. In terms of data, headline CPI inflation was 1.0 percent year over year (YOY) in September, up from August and above consensus of 0.9 percent.14 The unemployment rate’s three-month average stayed at 4.9 percent in August. GDP figures for the third quarter was 0.5 percent quarter-on-quarter, above consensus of 0.3 percent. U.K. manufacturing PMI was 55.4 percent in September, up from 53.4 in August and up from consensus expectation of 52.1.15 In Japan, the BoJ continues to target purchases around the yield curve. Plans show that it reduced purchases in the long and super-long end of the curve for October. On the data front, manufacturing PMI was 51.7 for October, up from 50.4 in September. The September core national CPI (ex-Food & Energy) was flat, down from 0.2 in August and 0.1 below the consensus.16 12 13 Source: Bloomberg. Data as of October 31, 2016. Source: Bloomberg. Data as of October 31, 2016. DISPLAY 2 Government Bond Yields for Major Economies 2YR YIELD LEVEL (%) MONTH CHANGE (BPS) 5YR YIELD LEVEL (%) MONTH CHANGE (BPS) 10YR YIELD LEVEL (%) MONTH CHANGE (BPS) Australia 1.64 9 1.95 35 2.35 44 Belgium -0.63 1 -0.31 16 0.40 26 Canada 0.55 3 0.69 7 1.20 20 Denmark -0.45 9 -0.19 17 0.29 28 France -0.59 5 -0.27 16 0.47 28 Germany -0.62 7 -0.40 18 0.16 28 Ireland -0.46 -47 -0.08 16 0.65 32 Italy 0.00 11 0.65 38 1.66 48 Japan -0.24 5 -0.19 6 -0.05 4 Netherlands -0.61 5 -0.31 16 0.28 27 New Zealand 2.00 11 2.19 25 2.71 44 Norway 0.61 -33 0.75 -35 1.39 18 Portugal 0.36 -4 1.86 -5 3.32 -1 Spain -0.17 5 0.18 13 1.20 32 Sweden -0.74 -7 -0.34 3 0.26 9 Switzerland -0.89 4 -0.75 9 -0.39 15 United Kingdom 0.26 16 0.59 37 1.25 50 United States 0.84 8 1.31 16 1.83 23 COUNTRY Source: Bloomberg LP. Data as of October 31, 2016. Emerging Markets EM fixed income assets posted negative performance in the month, as investors’ worries of potential inflation and the prospect for a U.S. Fed interest rate hike drove U.S. Treasury yields higher. Adding to the lack of clarity for the direction of interest rates were statements by central bank leaders voicing their concerns about the waning power of monetary policy and their calls for fiscal policy to aid the economic recovery. IG assets, which typically exhibit longer duration 14 15 Source: Bloomberg. Data as of October 31, 2016. Source: Bloomberg. Data as of October 31, 2016. and greater sensitivity to UST yields, suffered the most, while higher-yielding, lower-rated assets outperformed. Investors continued to favor dollar-denominated assets but added broadly to EM fixed income. The asset class received $7 billion of inflows over the month, bringing the year-to-date total to $55.9 billion.17 The receptiveness of investors and the need for funding encouraged Saudi Arabia to come to international debt markets for the first time. The Kingdom 16 17 Source: Bloomberg. Data as of October 31, 2016. Source: JP Morgan. Data as of October 30, 2016 The views and opinions expressed are those of the portfolio management team as of November 2016, and are subject to change based on market, economic, and other conditions. Past performance is not indicative of future results. FIXED INCOME | MORGAN STANLEY INVESTMENT MANAGEMENT 5 GLOBAL FIXED INCOME BULLETIN were filed before being dropped; however, prosecutors are still investigating allegations regarding his previous oversight of a tax agency. FM Gordhan has received broad public support from civil-rights groups, heads of companies and members of the ruling African National Congress. In Thailand, the primary market driver was the passing of King Bhumibol, who ruled the country for 70 years. The markets will be watching for a smooth transition as Crown Prince Maha Vajiralongkorn ascends to the throne after an “appropriate grieving period.” DISPLAY 3 Currency Monthly Changes versus U.S. Dollar Currency Monthly Change vs. USD (+ = appreciation) Mexico Brazil South Africa Chile Indonesia Australia Russia Malaysia Switzerland New Zealand Singapore Canada Euro Hungary Poland Japan Norway South Korea Colombia Sweden UK -8 -5.1 -5.6 -6 -3.3 -3.3 -3.7 -4.2 -1.7 -1.8 -1.9 -2.0 -2.1 -2.3 -2.3 -2.5 -4 0.0 -0.7 -0.8 -2 0 0.9 2.1 1.8 2 2.8 4 % Change Source: Bloomberg LP. Data as of October 31, 2016. Note: Positive change means appreciation of the currency against the U.S. dollar. successfully placed $17.5Bn across several tenors, bringing the overall Gulf debt issuance to $39Bn year-to-date.18 The government of Argentina continued to tap international debt markets, issuing euro-denominated and local currency bonds as they worked to build out their yield curves. Petroleos de Venezuela SA (PDVSA), the Venezuelan state-owned oil company, reached an agreement with creditors to extend maturities on $2.8 billion of bonds, using equity in Citgo Petroleum Corp. as collateral. The deal provided the country breathing room for payments due in 2017 but did not address medium-term liquidity challenges. The Venezuelan economy continued to face steep challenges and the political opposition repeated calls for a nationwide 18 19 Source: Bloomberg. Data as of October 30, 2016. Source: JP Morgan. Data as of October 30, 2016. strike and a march on the presidential palace in a bid to force a recall referendum of President Nicolas Maduro. Political developments also drove asset prices in Colombia and South Africa during the period. Colombia’s surprise vote against a peace deal with FARC rebels put into question the ability of President Santos to spend political capital for fiscal reforms. The government must now return to the negotiating table to achieve a peace agreement that will gather a wider consensus. In addition, the country must continue its fiscal consolidation to avoid losing its IG credit rating. In South Africa, Finance Minister (FM) Gordhan continued to be a political target of President Jacob Zuma, who is trying to consolidate his power. Fraud charges against the FM 20 21 External EM external sovereign and quasisovereign debt returned -1.46 percent in the month, bringing year-to-date performance to 13.35 percent, as measured by the JP Morgan EMBI Global Index.19 Overall, lower-rated, higher-yielding bonds outpaced IG bonds, led by Ecuador, Ghana, Pakistan, Ukraine and Mongolia. Bonds from Venezuela, Dominican Republic, Colombia, the Philippines, Uruguay, Egypt and Peru underperformed during the month, as investors took profit on year-to-date outperformers and trimmed exposure to smaller credits and duration. Domestic EM domestic debt returned -0.85 percent in the month, bringing yearto-date performance to 16.08 percent, as measured by the JP Morgan GBIEM Global Diversified Index.20 EM currencies weakened -0.54 percent versus the U.S. dollar, and EM bonds returned -0.30 percent in local terms.21 Currency performance versus the U.S. dollar weighed heavily on bond performance for Colombia, Romania, Turkey, Poland, Hungary and Malaysia, while assets in Brazil, South Africa, Mexico, Peru and Chile outperformed the broader market in the period. Source: JP Morgan. Data as of October 30, 2016. Source: JP Morgan. Data as of October 30, 2016. The views and opinions expressed are those of the portfolio management team as of November 2016, and are subject to change based on market, economic, and other conditions. Past performance is not indicative of future results. 6 MORGAN STANLEY INVESTMENT MANAGEMENT | FIXED INCOME PASSING THE BATON TO FISCAL POLICY Corporate EM corporate debt returned -0.01 percent in the month, bringing year-todate performance to 11.10 percent, as measured by the JP Morgan CEMBI Broad Diversified Index.22 Higheryielding, lower-quality companies outperformed higher-rated companies. From a regional perspective, companies in Africa (Nigeria) and Latin America (Brazil, Jamaica) outperformed, while those in the Middle East (Israel), Asia (S. Korea, China, Hong Kong, and Thailand) and Europe (Czech Republic, Russia) underperformed. From a sector perspective, companies in the Metals & Mining, Transport, Infrastructure and Industrial sectors outperformed the broader market, while those in the Consumer, Real Estate, Diversified and Utilities sectors lagged. Corporate Credit Returns for bonds were negative in October due to a significant increase in global long-term interest rates. Despite this, a confluence of higher oil prices, hawkish Fed speakers, surprisingly good U.K. economic data, and higher inflation expectations in the eurozone, U.K., and U.S. supported global credit markets and pushed the asset class tighter over the month. Global credit continued to perform well in October, higher-beta credit outperformed lower-beta credit, new issue markets remained active and demand for credit risk remained robust. U.S. IG credit again outperformed European IG credit in October, as higher U.S. rates continued to attract foreign buyers. European high-yield markets outperformed U.S. high-yield markets over the month. We remain cautiously optimistic on global credit, despite political uncertainties, rising rates and Source: JP Morgan. Data as of October 30, 2016. Source: Bloomberg Barclays. Data as of October 31, 2016. 24 Source: Bloomberg Barclays. Data as of October 31, 2016. 22 23 DISPLAY 4 EM External and Local Spread Changes USD SPREAD (BPS) MTD CHANGE (BPS) INDEX LOCAL YIELD (%) MTD CHANGE (BPS) Brazil 316 -8 11.0 -18 Colombia 237 16 7.1 27 Hungary 152 -3 2.0 3 Indonesia 232 3 7.4 29 Malaysia 192 -3 3.6 11 Mexico 293 -1 6.4 21 Peru 155 1 5.8 13 Philippines 111 9 4.7 19 Poland 85 -7 2.6 16 Russia 225 6 8.5 35 South Africa 282 -9 9.1 4 Turkey 327 5 9.7 43 2316 263 – – COUNTRY Venezuela Source: JP Morgan. Data as of October 31, 2016. the potential for rate volatility, and deteriorating credit fundamentals. As investors continue to hunt for yield, we continue to believe the technical picture outweighs the aforementioned risks. The U.S. credit market ended the month 5 bps tighter at 125 bps.23 The outperformance of financials over industrials in October within the U.S. IG market was significant, as it represents a reversal of the trend we have seen yearto-date in 2016. On a year-to-date basis, industrials have outperformed financials from an excess returns standpoint (4.59% versus 1.75%, respectively).24 In contrast, financials outperformed industrials in October, as financials posted 64 bps in excess returns while industrials posted Source: Bloomberg Barclays. Data as of October 31, 2016. 26 Source: Bloomberg Barclays. Data as of September 30, 2016. 27 Source: BAML. Data as of October 31, 2016. 25 49 bps.25 In October, higher-beta sectors and sectors benefiting from higher interest rates outperformed on an excess returns basis, including lower tier 2 financials, life insurance and energy (1.39%, 1.88% and 1.55%, respectively).26 The worst performing sectors were telecom (-43 bps) and tobacco (-14 bps) due to M&A deal announcements.27 Within the U.S. IG market, BBB-rated credit outperformed A-rated credit as the global hunt for yield continued during the month (0.64% excess returns versus 0.36% excess returns, respectively).28 High-grade new issue supply diminished from $112 billion in August and $144 billion in September to $101 billion in October.29 Consensus estimates point to further deceleration in issuance in November, with total Source: Bloomberg Barclays. Data as of October 31, 2016. 29 Source: BAML. Data as of September 30, 2016. 28 The views and opinions expressed are those of the portfolio management team as of November 2016, and are subject to change based on market, economic, and other conditions. Past performance is not indicative of future results. FIXED INCOME | MORGAN STANLEY INVESTMENT MANAGEMENT 7 GLOBAL FIXED INCOME BULLETIN issuance expected to be in the $70-$90 billion range.30 A slowdown in November is atypical as companies come out of blackout periods; however, front-loaded third-quarter supply, a smaller M&A backlog and U.S. election uncertainty all have the potential to mute supply. The performance of new issues in October was weaker relative to previous months, as concessions in October increased to 8 bps from 1 bp in September.31 Non-financials continued to dominate supply in October as financials issued $46 billion while nonfinancials priced $55 billion.32 Similar to the U.S., the European IG credit market traded tighter over the month of October. European IG ended the month 5 bps tighter.33 On an excess returns basis, European IG underperformed U.S. IG over the month (45 bps versus 56 bps, respectively), which mirrors the trend we have seen year-todate in 2016. European IG has posted 2.9% in excess returns year-to-date 2016, while U.S. IG has generated 3.62% in excess returns.34 This outperformance is largely attributable to higher rates in the U.S., and the consequent technical support afforded by foreign buyers infiltrating the U.S. IG market. Similar to the U.S. IG market, we saw financials outperform industrials in October in Europe, reversing the year-to-date trend between these two sub-sectors. In Europe, financials posted 60 bps of excess returns in October, while industrials generated 33 bps of excess returns.35 On a year-to-date basis, European industrials have outperformed financials with excess returns of 3.5% versus 2.17%, respectively.36 Euro-denominated corporate issuance surprised to the upside, pricing 46.8 billion euros in October.37 Source: BAML. Data as of September 30, 2016. Source: BAML. Data as of September 30, 2016. 32 Source: BAML. Data as of September 30, 2016. 33 Source: Bloomberg Barclays. Data as of October 31, 2016. 30 31 DISPLAY 5 Credit Sector Changes USD SPREAD LEVEL (BPS) MONTH CHANGE (BPS) EUR SPREAD LEVEL (BPS) MONTH CHANGE (BPS) Index Level 132 -6 109 -6 Industrial Basic Industry 176 -11 102 -10 Industrial Capital Goods 102 -4 79 -3 Industrial Consumer Cyclicals 121 -3 99 -6 Industrial Consumer Non Cyclicals 115 -1 85 -4 Industrial Energy 173 -17 109 -5 Industrial Technology 118 -6 70 -4 Industrial Transportation 121 -6 86 -4 Industrial Communications 162 +1 109 -2 Industrial Other 116 -4 136 -9 Utility Electric 124 -7 101 -5 Utility Natural Gas 135 -6 93 -5 Utility Other 160 +7 82 -5 Financial Inst. Banking 122 -7 109 -8 Financial Inst. Brokerage 144 -7 115 +0 Financial Inst. Finance Companies 159 -6 89 -3 Financial Inst. Insurance 142 -9 251 -18 Financial Inst. REITS 148 -8 114 -2 Financial Inst. Other 164 -67 147 -13 SECTOR Source: Bloomberg Barclays. Data as of October 31, 2016. The indexes are provided for illustrative purposes only and are not meant to depict the performance of a specific investment. The U.S. high-yield market produced total returns of 0.39% in October, and excess returns of 0.92%.38 Lower-rated high-yield bonds outperformed as Barated bonds gained +19 bps, B-rated bonds gained +24 bps, and Caa-rated credit was up 1.11%.39 The best- performing sectors were oil field services (4.34%), independent (2.2%) and metals (1.1%) given their high-beta nature and commodity exposure. The worstperforming sectors were pharmaceuticals (-4.4%) and healthcare (-1.07%), as election jitters and idiosyncratic headlines Source: Bloomberg Barclays. Data as of October 31, 2016. 35 Source: Bloomberg Barclays. Data as of October 31, 2016. 36 Source: Bloomberg Barclays. Data as of October 31, 2016. 37 34 Source: Bloomberg Barclays. Data as of October 31, 2016. 38 Source: Bloomberg Barclays. Data as of October 31, 2016. 39 Source: Bloomberg Barclays. Data as of October 31, 2016. The views and opinions expressed are those of the portfolio management team as of November 2016, and are subject to change based on market, economic, and other conditions. Past performance is not indicative of future results. 8 MORGAN STANLEY INVESTMENT MANAGEMENT | FIXED INCOME PASSING THE BATON TO FISCAL POLICY weighed on both of these sub sectors. U.S. high-yield bond issuance hit an eight-month low in October, as the market priced $16.6 billion in October.40 Since May, 60% of total primary issuance has been used for refinancing of existing debt ($75Bn), and net-new issuance remains low ($50Bn).41 The European high-yield market produced 0.85% in total returns in October.42 The best-performing sectors in October were transportation services and healthcare (2.18% and 1.85%, respectively).43 The worst performing sectors were supermarkets (-0.37%) and wirelines (0.13%).44 The European high-yield market priced 4.6Bn euros in October, all in European currencies.45 European issuers continue to take advantage of the favorable borrowing environment, as they persist in pushing out their maturity walls. Securitized Products After a very strong third-quarter performance, mortgage credit markets were more moderately positive in October, while more rates-sensitive agency MBS were also moderately positive during the month. Agency MBS outperformed their duration equivalent U.S. Treasuries with nominal spreads on current coupon MBS tightening 1-97 bps above interpolated Treasuries.46 Option-adjusted spreads (OAS) tightened 2-4 bps over interpolated Treasuries. The Bloomberg Barclays Capital U.S. MBS Index was down 0.28 percent in October as interest rates rose during the month, but the Index has still returned 3.46 percent Source: JPMorgan. Data as of October 31, 2016. Source: JPMorgan. Data as of September 30, 2016. 42 Source: Bloomberg Barclays. Data as of October 31, 2016. 43 Source: Bloomberg Barclays. Data as of October 31, 2016. 44 Source: Bloomberg Barclays. Data as of October 31, 2016. 45 Source: Bloomberg Barclays. Data as of October 31, 2016. year-to-date.47 The Fed increased their agency MBS purchases this month to roughly $40 billion to compensate for the recent increase in prepayments. The Fed continues to maintain their agency MBS portfolio at approximately $1.75 trillion.48 Non-agency MBS spreads were largely unchanged in October, but cash flow and credit performance continue to improve. Non-agency MBS spreads remain at their tightest levels since 2014 for most securities. Fundamental U.S. housing market and mortgage market conditions remain positive. National home prices were up 0.5 percent in August and are up 5.3 percent over the past year.49 Home prices are up 38 percent nationally from the lows in 2012 and are now essentially back to pre-crisis peak levels from July 2006. Existing home sales rose 3.2 percent in September from August and were up 0.6 percent from September 2015.50 The sharp increase in home sales this month was driven primarily by a surge in firsttime home buyers who accounted for 34 percent of purchases, the highest level since 2012. New home sales increased a similar 3.1 percent in September from August and are up 29.8 percent from September 2015.51 Mortgage performance also remains strong. New defaults were essentially unchanged at a 0.67 percent annual rate in September, but defaults are down from the 0.76 percent level in September 2015.52 With unemployment low, the economy slowly improving and home prices still recovering from the mortgage crisis almost 10 years ago, we expect mortgage credit performance to continue to improve. Source: Yield Book. Data as of October 31, 2016. Source: Bloomberg Barclays. Data as of October 31, 2016. 48 Source: Federal Reserve Bank of New York. Data as of October 31, 2016. 49 Source: S&P Case-Shiller U.S. National Home Price Index. Data as of October 31, 2016. 50 Source: National Association of Realtors. Data as of October 31, 2016. 51 Source: US Census Bureau and HUD. Data as of October 31, 2016. 40 46 41 47 CMBS spreads were mixed in October, with cash AAA CMBS 1-2 bps wider and cash BBB CMBS 5-15 bps wider, while synthetic CMBX were slightly tighter for both AAA and BBB indexes. Year-to-date in 2016, CMBS performance has sharply diverged based on position in the capital structure, with AAA rated CMBS 2530 bps tighter, while BBB are 50-75 bps wider for the year.53 New CMBS issuance increased in October, with roughly $10 billion in total issuance during the month. Year-to-date issuance is roughly $57 billion issued through the first 10 months of the year. We are on pace for $70-75 billion in issuance in 2016, which would be about 70 percent of the issuance that was initially anticipated for the year.54 Fundamentally, CMBS performance remains on solid ground. Commercial real estate prices were flat in September but are up 5.0 percent over the past 12 months. After several years of 10+ percent annual increases, the pace of commercial real estate price increases is slowing, but the trajectory remains positive. Commercial real estate prices are 26.5 percent above the previous peak in August 2007.55 National office vacancy rates decreased to 13.0 percent in Q2 2016, the lowest level seen since Q1 2008.56 Multifamily vacancy rates decreased in Q2 2016 and are very near the lowest levels seen over the past 13 years.57 While price volatility and supply-demand dynamics for CMBS continue to cause some concerns, the fundamental real estate market conditions underlying CMBS market appear to be stable. Source: S&P/Experian First Mortgage Default Index. Data as of October 31, 2016. 53 Source: Bloomberg Barclays. Data as of October 31, 2016. 54 Source: Deutsche Bank . Data as of October 31, 2016. 55 Source: Green Street. Data as of October 31, 2016. 56 Source: CBRE. Data as of October 31, 2016. 57 Source: US Census Bureau and National Association of Home Builders. Data as of October 31, 2016. 52 The views and opinions expressed are those of the portfolio management team as of November 2016, and are subject to change based on market, economic, and other conditions. Past performance is not indicative of future results. FIXED INCOME | MORGAN STANLEY INVESTMENT MANAGEMENT 9 GLOBAL FIXED INCOME BULLETIN European MBS spreads were 5-10 bps tighter in October and are now meaningfully tighter than pre-Brexit levels.58 ECB-eligible ABS were roughly 5 bps tighter in spread in October and are 20-30 bps tighter in 2016, while nonECB-eligible assets were only 2-3 bps tighter in October and 10-15 bps tighter on the year. ECB ABS purchases remain slow due to limited supply, and the ECB portfolio increased by only €520 million European ABS in September. The ECB holds €20.7 billion of European ABS.59 European ABS issuance increased in October, with roughly €12.3 billion in new securitizations during the month. 2016 year-to-date securitization issuance totals €74.5B, now ahead of the 2015 pace of €66.4 billion through October 2015.60 RMBS, ABS and CDO issuance are all ahead of 2015 volumes, while CMBS issuance has been much lower this year. Source: Deutsche Bank . Data as of October 31, 2016. 59 Source: European Central Bank. Data as of October 31, 2016. 60 58 This material is for use of Professional Clients only, except in the U.S. where the material may be redistributed or used with the general public. The views and opinions are those of the author as of the date of publication and are subject to change at any time, due to market or economic conditions, and may not necessarily come to pass. Furthermore, the views will not be updated or otherwise revised to reflect information that subsequently becomes available or circumstances existing, or changes occurring, after the date of publication. The views expressed do not reflect the opinions of all Portfolio Managers at Morgan Stanley Investment Management or the views of the firm as a whole, and may not be reflected in all the strategies and products that the firm offers. Forecasts and/or estimates provided herein are subject to change and may not actually come to pass. Information regarding expected market returns and market outlooks is based on the research, analysis and opinions of the authors. These conclusions are speculative in nature, may not come to pass and are not intended to predict the future performance of any specific Morgan Stanley Investment Management product. Certain information herein is based on data obtained from party sources believed to be reliable. However, we have not verified this information, and we make no representations whatsoever as to its accuracy or completeness. All information provided has been prepared solely for information purposes and does not constitute an offer or a recommendation to buy or sell any particular security or to adopt any specific investment strategy. The information herein has not been based on a consideration of any individual investor circumstances and is not investment advice, nor should it be construed in any way as tax, accounting, legal or regulatory advice. To that end, investors should seek independent legal and financial advice, including advice as to tax consequences, before making any investment decision. There is no assurance that a portfolio will achieve its investment objective. Portfolios are subject to market risk, which is the possibility that the market values of securities owned by the portfolio will decline. Accordingly, you can lose money investing in a fixed income portfolio. Please be aware that a fixed income portfolio may be subject to certain additional risks. Fixed income securities are subject to the ability of an issuer to make timely principal and interest payments (credit risk), changes in interest rates (interest rate risk), the creditworthiness of the Source: Deutsche Bank . Data as of October 31, 2016. issuer and general market liquidity (market risk). In the current rising-interest-rate environment, bond prices may fall and may result in periods of volatility and increased portfolio redemptions. Longer-term securities may be more sensitive to interest rate changes. In a declining interest rate environment, the portfolio may generate less income. Certain U.S. government securities purchased by the Strategy, such as those issued by Fannie Mae and Freddie Mac, are not backed by the full faith and credit of the U.S. It is possible that these issuers will not have the funds to meet their payment obligations in the future. Public bank loans are subject to liquidity risk and the credit risks of lower-rated securities. High-yield securities (“junk bonds”) are lower-rated securities that may have a higher degree of credit and liquidity risk. Sovereign debt securities are subject to default risk. Mortgage- and asset-backed securities are sensitive to early prepayment risk and a higher risk of default and may be hard to value and difficult to sell (liquidity risk). They are also subject to credit, market and interest rate risks. The currency market is highly volatile. Prices in these markets are influenced by, among other things, changing supply and demand for a particular currency; trade; fiscal, money and domestic or foreign exchange control programs and policies; and changes in domestic and foreign interest rates. Investments in foreign markets entail special risks such as currency, political, economic and market risks. The risks of investing in emerging market countries are greater than the risks generally associated with foreign investments. Derivative instruments may disproportionately increase losses and have a significant impact on performance. They also may be subject to counterparty, liquidity, valuation, correlation and market risks. Restricted and illiquid securities may be more difficult to sell and value than publicly traded securities (liquidity risk). Due to the possibility that prepayments will alter the cash flows on Collateralized mortgage obligations (CMOs), it is not possible to determine in advance their final maturity date or average life. In addition, if the collateral securing the CMOs or any third-party guarantees are insufficient to make payments, the portfolio could sustain a loss. The views and opinions expressed are those of the portfolio management team as of November 2016, and are subject to change based on market, economic, and other conditions. Past performance is not indicative of future results. 10 MORGAN STANLEY INVESTMENT MANAGEMENT | FIXED INCOME PASSING THE BATON TO FISCAL POLICY Charts and graphs provided herein are for illustrative purposes only. Past performance is no guarantee of future results. Any index referred to herein is the intellectual property (including registered trademarks) of the applicable licensor. Any product based on an index is in no way sponsored, endorsed, sold or promoted by the applicable licensor and it shall not have any liability with respect thereto. INDEX DEFINITIONS The indexes shown in this report are not meant to depict the performance of any specific investment and the indexes shown do not include any expenses, fees or sales charges, which would lower performance. The indexes shown are unmanaged and should not be considered an investment. It is not possible to invest directly in an index. The National Association of Realtors Home Affordability Index compares the median income to the cost of the median home. Purchasing Managers Index (PMI) is an indicator of the economic health of the manufacturing sector. Consumer Price Index (CPI) is a measure that examines the weighted average of prices of a basket of consumer goods and services, such as transportation, food and medical care. The JP Morgan Emerging Markets Bond Index Global (EMBI Global) tracks total returns for traded external debt instruments in the emerging markets, and is an expanded version of the EMBI+. As with the EMBI+, the EMBI Global includes U.S. dollar-denominated Brady bonds, loans and eurobonds with an outstanding face value of at least $500 million. The JP Morgan CEMBI Broad Diversified Index is a global, liquid corporate emerging markets benchmark that tracks U.S.-denominated corporate bonds issued by emerging markets entities. The JP Morgan GBI-EM Global Diversified Index is a market capitalization weighted, liquid global benchmark for U.S.-dollar corporate emerging market bonds representing Asia, Latin America, Europe and the Middle East/Africa. The ISM Manufacturing Index is based on surveys of more than 300 manufacturing firms by the Institute of Supply Management. The ISM Manufacturing Index monitors employment, production inventories, new orders and supplier deliveries. A composite diffusion index is created that monitors conditions in national manufacturing based on the data from these surveys. The Bloomberg Barclays U.S. Mortgage Backed Securities (MBS) Index tracks agency mortgage backed pass-through securities (both fixed-rate and hybrid ARM) guaranteed by Ginnie Mae (GNMA), Fannie Mae (FNMA) and Freddie Mac (FHLMC). The index is constructed by grouping individual TBA-deliverable MBS pools into aggregates or generics based on program, coupon and vintage. Introduced in 1985, the GNMA, FHLMC and FNMA fixed-rate indexes for 30- and 15-year securities were backdated to January 1976, May 1977, and November 1982, respectively. In April 2007, agency hybrid adjustable-rate mortgage (ARM) pass-through securities were added to the index. The Nikkei 225 Index (Japan Nikkei 225) is a price-weighted index of Japan’s top 225 blue-chip companies on the Tokyo Stock Exchange. The U.S. Dollar Index (DXY) is an index of the value of the United States dollar relative to a basket of foreign currencies, often referred to as a basket of U.S. trade partners’ currencies. Italy 10YR govt bonds—Italy Benchmark 10-Year Datastream Government Index. The MSCI World Index (MSCI developed equities) captures large and mid-cap representation across 23 Developed Markets (DM) countries. Spain 10YR govt bonds—Spain Benchmark 10-Year Datastream Government Index. The BofA Merrill Lynch European Currency High-Yield Constrained Index (ML Euro HY constrained) is designed to track the performance of euro- and British pound sterling-denominated below investment-grade corporate debt publicly issued in the eurobond, sterling domestic or euro domestic markets by issuers around the world. The S&P 500® Index (U.S. S&P 500) measures the performance of the large cap segment of the U.S. equities market, covering approximately 75 percent of the U.S. equities market. The Index includes 500 leading companies in leading industries of the U.S. economy. The JPMorgan Government Bond Index Emerging Markets (JPM External EM Debt) tracks local currency bonds issued by Emerging Market governments. The Index is positioned as the investable benchmark that includes only those countries that are accessible by most of the international investor base (excludes China and India as of September 2013). UK 10YR govt bonds—UK Benchmark 10-Year Datastream Government Index. For the following Datastream government bond indexes, benchmark indexes are based on single bonds. The bond chosen for each series is the most representative bond available for the given maturity band at each point in time. Benchmarks are selected according to the accepted conventions within each market. Generally, the benchmark bond is the latest issue within the given maturity band; consideration is also given to yield, liquidity, issue size and coupon. German 10YR bunds—Germany Benchmark 10-Year Datastream Government Index; Japan 10YR govt bonds—Japan Benchmark 10-Year Datastream Government Index; and 10YR U.S. Treasury—U.S. Benchmark 10-Year Datastream Government Index. The BofA Merrill Lynch U.S. Mortgage Backed Securities (ML U.S. Mortgage Master) Index tracks the performance of U.S. dollar denominated fixed rate and hybrid residential mortgage pass-through securities publicly issued by U.S. agencies in the U.S. domestic market. The S&P/LSTA U.S. Leveraged Loan 100 Index (S&P/LSTA Leveraged Loan Index) is designed to reflect the performance of the largest facilities in the leveraged loan market. The Bloomberg Barclays Euro Aggregate Corporate Index (Barclays Euro IG Corporate) is an index designed to reflect the performance of the euro-denominated investment-grade corporate bond market. The Bloomberg Barclays U.S. Corporate Index (Barclays U.S. IG Corp) is a broad-based benchmark that measures the investment-grade, fixed rate, taxable, corporate bond market. The Bank of America Merrill Lynch United States High Yield Master II Constrained Index (Merrill Lynch U.S. High Yield) is a market value-weighted index of all domestic and Yankee high-yield bonds, including deferred interest bonds and payment-in-kind securities. Its securities have maturities of one year or more and a credit rating lower than BBB-/Baa3, but are not in default. JPY vs USD—Japanese Yen Total return versus USD. Euro vs USD—Euro Total return versus USD. MSCI Emerging Markets Index (MSCI emerging equities) captures large and mid-cap representation across 23 Emerging Markets (EM) countries. The MSCI AC Asia ex-Japan Index (MSCI Asia ex-Japan) captures large and mid-cap representation across two of three Developed Markets countries (excluding Japan) and eight Emerging Markets countries in Asia. The S&P GSCI Softs (GSCI soft commodities) Index is a sub-index of the S&P GSCI that measures the performance of only the soft commodities, weighted on a world production basis. In 2012, the S&P GSCI Softs index included the following commodities: coffee, sugar, cocoa and cotton. The Dow Jones Commodity Index The views and opinions expressed are those of the portfolio management team as of November 2016, and are subject to change based on market, economic, and other conditions. Past performance is not indicative of future results. FIXED INCOME | MORGAN STANLEY INVESTMENT MANAGEMENT 11 Gold (Gold) is designed to track the gold market through futures contracts. The JPMorgan Government Bond Index—Emerging Markets (JPM local EM debt) tracks local currency bonds issued by Emerging Market governments. The Index is positioned as the investable benchmark that includes only those countries that are accessible by most of the international investor base (Excludes China and India as of September 2013. The ICE Brent Crude futures contract (Brent crude oil) is a deliverable contract based on EFP delivery with an option to cash settle. The S&P GSCI Copper Index (Copper), a sub-index of the S&P GSCI, provides investors with a reliable and publicly available benchmark for investment performance in the copper commodity market. This communication is only intended for and will be only distributed to persons resident in jurisdictions where such distribution or availability would not be contrary to local laws or regulations. There is no guarantee that any investment strategy will work under all market conditions, and each investor should evaluate their ability to invest for the long term, especially during periods of downturn in the market. Prior to investing, investors should carefully review the strategy’s/product’s relevant offering document. There are important differences in how the strategy is carried out in each of the investment vehicles. EMEA: This communication was issued and approved in the United Kingdom by Morgan Stanley Investment Management Limited, 25 Cabot Square, Canary Wharf, London E14 4QA, authorized and regulated by the Financial Conduct Authority, for distribution to Professional Clients only and must not be relied upon or acted upon by Retail Clients (each as defined in the U.K. Financial Conduct Authority’s rules). Financial intermediaries are required to satisfy themselves that the information in this document is suitable for any person to whom they provide this document in view of that person’s circumstances and purpose. Morgan Stanley Investment Management shall not be liable for, and accepts no liability for, the use or misuse of this document by any such financial intermediary. If such a person considers an investment, he should always ensure that he has satisfied himself that he has been properly advised by that financial intermediary about the suitability of an investment. U.S.: A separately managed account may not be suitable for all investors. Separate accounts managed according to the Strategy include a number of securities and will not necessarily track the performance of any index. Please consider the investment objectives, risks and fees of the Strategy carefully before investing. A minimum asset level is required. 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