UBS - CIO Wealth Management Research August …...2 ubs house view August 2014 A messAge from the regionAl Cio Dear reader, The temperature hasn’t been the only thing rising this

Investment Strategy Guide US EditionCIO Wealth Management Research

August 2014

Also inside On profits and policy

UBS HouseView

The facts, the Fed and the flows

2 ubs house view August 2014

A messAge from the regionAl Cio

Dear reader,The temperature hasn’t been the only thing rising this summer. As we ready ourselves to enter the dog days of August, the S&P 500 and Dow Jones Industrial Average have both been heating up and continu-ing to make new record highs. Even the technology-laden Nasdaq Composite, which reached dizzying heights during the late-1990s boom, is now within 10% of its prior peak. Our core tactical position of being overweight equities – specifically US equities – has certainly paid dividends (pun intended) so far this year. But despite the strong and steady rise in stock prices, many market participants remain un-convinced that gains can continue given higher valuations, a still uneven global economic recovery, geopolitical instability, and record central bank stimulus.

So in this month’s Feature article we assess the current market land-scape and conclude that “the facts, the Fed and the flows” all support a continued preference for risk assets. The facts are that while stock markets are at all-time highs, valuations are not stretched and earnings continue to rise. Global central banks, including the Fed, appear more likely to err on the side of easier policy. And flows from cash “sitting on the sidelines” are yet another potential source of further equity market upside.

The Focus article analyzes historical market behavior around both “record highs” and before Fed tightening cycles, and concludes that investor concern surrounding these two topics is exaggerated. The article also takes a closer look at the US profit cycle and suggests that earnings growth should moderately accelerate over the next few quar-ters as the economy gets closer to reaching “escape velocity.”

Sincerely,

Mike Ryan, CFAChief Investment Strategist, WMARegional CIO, Wealth Management US

tACtICAl pREFEREnCES 1

feature 2The facts, the Fed and the flowsby Mark Haefele

pREFERREd InvEStMEnt vIEwS 6

Month In REvIEw 7

At A GlAnCE 7

GlobAl EConoMIC oUtlook 8

ASSEt ClASSES ovERvIEw 10equitiesFixed incomeCommoditiesForeign exchange

In FoCUS 16On profits and policyby Jeremy Zirin

top thEMES 18Favor Eurozone equities within Europe

Capex rising...finally

Major advances in cancer therapeutics

kEy FoRECAStS 20

dEtAIlEd ASSEt AlloCAtIon 21

pERFoRMAnCE MEASUREMEnt 28

AppEndIx 32

pUblICAtIon dEtAIlS 35

Contents

This report has been prepared by UBS Financial Services Inc. (“UBS FS”) and UBS AG.

Please see important disclaimers and disclosures beginning on page 32.

August 2014 ubs house view 1

Tactical preferencesWe favor US, Eurozone, and Canadian equities as the earnings outlook is positive. Within fixed income, we prefer high yield corporate bonds over Treasuries and emerging market bonds.

OverweightUnderweight

Cash

E

quiti

es

Fixe

d income Commodities Non traditional Foreign exchange

La

rge

cap

L

arge

cap

US

U

S

Deve

loped

Em

erging

US IG US HY Developed Emerging

US

US

In

t’l

Int’l

Tota

l

T

otal

G

row

th

Valu

e

Mid

cap

S

mal

l cap

M

arke

ts

Mark

ets

Total

US Gov’t

US Muni Corp* Corp Markets Markets Total Total USD EUR GBP JPY CHF Other

tACtiCAl Asset AlloCAtion

Legend

Overweight: Tactical recommendation to hold more of the asset class than specified in the moderate risk strategic asset allocation (see page 21) Underweight: Tactical recommendation to hold less of the asset class than specified in the moderate risk strategic asset allocation (see page 21) Neutral: Tactical recommendation to hold the asset class in line with its weight in the moderate risk strategic asset allocation (see page 21)

*Investment grade corporates are overweight in non-taxable portfolios but underweight in most taxable portfolios.

note: tacticaL time horizon is approximateLy six months

3) Foreign exchange We favor the US dol-lar and British pound over the euro and Swiss franc.

1) Equities We trim our over-weight on Eurozone equities and raise Canada from neutral to overweight.

2) Fixed income We maintain our preference for high yield corporate bonds over Treasuries and EM.

Asset ClassesTactical asset allocation

this month


Global equities have now returned close to 100% in just the past five years and have been little affected by the recent rise in geopolitical tension. Between record central bank stimulus, low market volatility, and new market highs, there is little wonder that financial news outlets are full of stories suggesting that the market’s performance is as artificially enhanced as some previous Tour de France winners.

We’ll keep taking regular “tests” of markets as part of our investment process. But today, my colleagues in CIO and I believe that over our tactical six-month horizon, fair, rather than extreme, valuations, the tilt of central bank policy, and still-high cash balances in corporate and investor accounts will all help support our moderate overweight positions in risk assets like equities and corporate credit.

For all of us involved in the creation of the UBS House View each month, it can be hard to see our hours of analysis, debate, and communications reduced to a single Twitter post or sound bite. Yet if we were forced to reduce our conclusion to a single line, it would be: Today is not the time to fight the facts, the Fed or the flows.

Now for some more explanation...

Equity valuations are not extreme Let’s start with some valuation facts. While equity markets are near new highs, that does not mean valuations are extreme. We monitor many metrics, but most are not at levels that prevent markets going higher.

Take, for example, simple price-to-earnings metrics. The S&P 500 in the United States is trading on a 12-month forward price-to-earnings ratio of 15.7x, marginally above its 25-year average of 15.5x, and the Eurostoxx 50 is trading on a 12-month forward 12.9x, marginally below its long-run average of 13.2x.

These major indices are near average, not peak, valuations. From valuation levels of 15-17x, on the S&P 500 historically there has been a 78% probability that equity markets rise over the subsequent six months.

We’ve noted the attention around the “Shiller P/E” which compares market values to the average of the previous 10 years’ earnings. It shows the S&P 500 as extremely overvalued, on 26.0x, relative to a historical average of 16.6x. But we should also note that the Shiller P/E is of little to no value in providing near- or even medium-term market guidance. Indeed, it has signaled the S&P 500 as being “overvalued” for almost all of the past 25 years, over which time equities have given tenfold returns.

In our view, it may not be valid to consider a metric that takes a 10-year average of earnings. Global corporate operating margins – profit margins before interest and taxation – are not stretched, at 9.7%, relative to a 30-year mean of 9.5%. And the 10-year average discounts the structural changes companies are seeing in interest and taxation.

Globalization has allowed companies to optimize their tax structures – for example, look at all the “tax inversion” mergers and acquisitions deals in the pharma sector. And companies are using the low

> Price-to-earnings metrics are near average, not peak, levels.

The facts, the Fed and the flows

� Global equities have now returned close to 100% in just the past five years, but we believe today is not the time to fight the facts, the Fed, or the flows.

� While equity markets are near new highs, most valuation metrics we monitor are not at levels that prevent markets going higher.

� Central banks would rather keep policy too loose than tighten too soon. This should prove supportive for both equities and credit over our tactical horizon.

� Both companies and investors have, what we believe to be, excessive levels of cash to deploy.

feAture

> The Shiller P/E suggests markets are overvalued, but ignores some important factors.

Mark HaefeleGlobal Chief Investment OfficerWealth Management


feAture

interest rate environment to refinance their debt at lower levels. Interest rates companies were paying pre-crisis are unlikely to come back anytime soon.

We assign a much greater weight to basic price-to-earnings ratios than the Shiller P/E.

In short, with earnings where they are today, we believe that equity valuations are broadly fair. We expect markets will deliver annual price returns in line with earnings growth: 7–8%, and the second quarter earnings season has so far been supportive of this. We’ve seen average earnings per share growth of 9% for those S&P 500 companies that have reported.

It is also important to note that key central bankers are going out of their way to reduce concerns about valuations, in order to help justify their continued stimulus efforts. At her recent testimony to Congress, US Federal Reserve Chair Janet Yellen acknowledged overvaluation in some pockets of biotech and social media equities. But she also said that “while prices of real estate, equities, and corporate bonds have risen appreciably and valuation metrics have increased, they remain generally in line with historical norms.”

Central banks support the economic recoveryFed Chair Yellen seems convinced that, despite the unemployment rate falling by 2% over the past two years, there is still “ample slack” in the labor market (see Fig. 1). She views “a portion of the decline in labor force participation [as] a kind of hidden slack or unemployment.”

When we combine the Chair’s statements on valuations being “in line with historical norms” with her views on “ample slack” remaining in the US labor market, we conclude that Fed is likely to err on the side of loose monetary policy over our tactical horizon, even if it results in longer-term price and wage inflation.

Indeed given Yellen’s recent statements on valuations and the weakness of the labor market, the idea of “fighting the Fed” is a cliché that reminds us of another – “taking a knife to a gunfight.”

And it’s not just the Fed. While the Bank of Japan’s stimulus efforts still rate as the largest relative to the size of their economy, the comments from the European Central Bank are most notable for their recent evolution. President Mario Draghi’s statement to the new European Parliament last week that “QE falls squarely in our mandate” is the clearest statement yet that a quantitative easing program that had seemed near impossible at the start of the year, is now at least possible.

Even in countries seeing rising rates, central bankers are indicating they intend to err on the incremental side. Bank of England Governor Mark Carney has said rate rises will only be “gradual and limited,” meaning that even with double-digit home price increases, real interest rates are still likely to be negative at the end of 2015.

We shall see how Yellen reacts to this week’s inflation data, showing consumer prices now rising by a close-to-target 1.9% year-over-year. But for now it seems the Fed and others would rather risk running

> We expect markets will deliver annual price returns in line with earnings growth: 7–8%.

> Fed Chair Yellen sees "a portion of the decline in labor force participation [as] a kind of hidden slack or unemployment.”

> The idea of “fighting the Fed” reminds us of “taking a knife to a gun fight.”

> The Fed and others would rather risk running too loose than tighten too soon.

Fig. 1: Yellen believes there is still ample slack in the US labor market

Source: Bloomberg, UBS, as of 24 July 2014NB: The employment ratio represents persons in employment as a percentage of working age population.

US employment rate, in %

5657585960616263646566

1980 1985 1990 1995 2000 2005 2010

> The employment rate is far below pre-crisis levels.


feAture

too loose than tighten too soon. This should prove supportive for both equities and credit over our tactical horizon.

FlowsThe third reason we see capacity for further performance for equities and credit relates to the cautiousness of many of you reading this letter. Our clients, in aggregate, maintain what we believe to be excessive proportions of cash in their portfolios.

At our recent CIO Conferences in Hong Kong and Singapore, we surveyed around 1,200 clients and prospective clients. Even though two-thirds of the audience agreed with us and expected equities to be the best-performing asset class, a quarter of the audience had cash as the largest part of their financial portfolios. This is broadly consistent with what we see across our wider client base: almost 30% of the money booked with UBS in Switzerland currently sits in cash.

And it is not just individual investors who have cash to deploy. Corporations also continue to run huge cash balances. Cash comprised 11.4% of S&P 500 companies’ total assets at the end of 2013 (see Fig. 2). This was the highest level since before the turn of the new millennium. Yet companies are beginning to deploy it. With business confidence improving, global M&A volumes have already reached USD 2.5trn. This is up 81% on 2013.

If investor confidence improves in a similar way and our clients begin to deploy their cash, financial assets have more scope to run.

how to position a portfolioSo with that explanation done, what does today is not the time to fight the facts, the Fed or the flows actually mean for investing?

First, my colleagues in CIO and I believe investors should seek a strategic asset allocation invested primarily in financial assets. We believe it should be well diversified – the world is consistently unpredictable over the nearer term. But we also believe a portfolio having cash as its largest component is in the wrong place on the risk/reward spectrum over the long run.

Second, as noted earlier, we are tactically overweight credit and equities, and we have a regional preference for US assets. In addition to the supportive factors I mentioned earlier, it still appears to be the country demonstrating the most robust economic growth. Nonfarm payrolls expanded by 288,000 in June, the fifth consecutive month of more than 200,000 job gains, and the Manufacturing ISM is at 55.3, signaling decent expansion. This suggests the economy has recovered well in the second quarter and we’re looking for >3% annualized real GDP growth for the rest of the year.

The US is our largest regional equity overweight, and our largest credit overweight is in US high yield credit, where spreads of c.375bps more than adequately compensate for default rates, which we still think will remain below 2% annualized for the remainder of the year. We’re looking for spreads to fall to 300bps over the coming six months.

> Almost 30% of the money booked with UBS in Switzerland cur-rently sits in cash.

> We are tactically overweight credit and equities.

Fig. 2: US corporates have high levels of cash

Source: Bloomberg, UBS, as of 24 July 2014

Cash and equivalents as a percentage of total assets of S&P 500 firms, in %

0

2

4

8

12

10

6

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

> Cash comprised 11.4% of S&P 500 companies’ total assets at the end of 2013.


Third, we make one switch to our equity preferences. While we are maintaining our overweight to non-US developed equities, we are making an adjustment within this block, halving the size of our overweight position in Eurozone equities and replacing this with an overweight in Canadian equities.

In the Eurozone, we’ve been looking for corporate margins to expand as the economy recovered, while ECB action helped provide some protection to the downside. Both of these have begun to play out, but more slowly than we thought, and we reduce our position to reflect this.

The new overweight in Canadian equities is relative to our existing underweight in UK equities. Canadian equities get around 20% of revenues from the US, making them well exposed to the economic recovery, and they are currently seeing relatively good earnings momentum (see Fig. 3). In contrast, earnings momentum in the UK continues to be hampered by the strength of the British pound, something we expect will continue.

Fourth, as noted above, monetary policy is likely to be loose in most developed markets for the foreseeable future. In currencies, we’re underweighting those currencies where rates will remain at current levels for years, namely the euro and Swiss franc, while overweighting those where we will likely see rate hikes sooner, namely the British pound and the US dollar.

Finally, we continue to keep a close watch on geopolitical developments. While recent events in Ukraine and the Middle East are a human tragedy, for now they have had next to no impact on oil supplies. Sanctions on Russia have increased, but we believe both Russia and the West are interested in keeping energy markets open. Europe would struggle to replace Russian supply quickly without significant investment, while oil and gas products make up more than half of Russia’s tax revenues.

Meanwhile, Argentina has until next week to avoid a new default on its debt payments, after a legal battle over the status of bonds from its prior default. From a global perspective the impact of any default should be limited. The country comprises just 1.3% of the EMBI emerging market sovereign debt index, and just 0.3% of the equivalent CEMBI corporate debt index.

Thank you for your readership. As always, we welcome your feedback.

Mark haefeleGlobal Chief Investment OfficerWealth Management

> We're under-weighting the euro and the Swiss Franc, relative to the British pound and US dollar.

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Fig. 3: Good earnings dynamics in North America

Source: Thomson Reuters, UBS, as of 24 July 2014

12-month trailing earnings per share, rebased

90

95

100

105

110

12/12 03/13 06/13 09/13 12/13 03/14 06/14

USCanada

EMUUK

> The US and Canada are seeing relatively good earnings momentum.

Preferred investment viewsAs of 24 July 2014

Asset Class Most preferred least preferred

Equities • us • Eurozone ()• Canada ()• US small and mid caps• US technology • us capex • North American energy independence• Cancer therapeutics

• uK

bonds • US high yield• Investment grade credit1 • Capital securities • US senior loans• Commercial mortgage-backed securities

• Government bonds • Emerging market sovereign bonds

Foreign exchange

• usd• GBP

• eur • Chf

Alternative investments

• Credit alternatives to diversify bond portfolios

Cash

Recent upgrades Recent downgrades

1 Only in tax-exempt portfolios.


At a glanceEconomy

Over the past month, geopolitical risks (e.g. Ukraine-Russia, Israel-Gaza) as well as weaker economic data from the Eurozone and renewed concerns about the European banking sector came to the fore. But we think the global economic backdrop remains solid as the US economy is reaccelerating, with employment rising steadily. Furthermore, recent data supports our view that the Chinese econ-omy has stabilized at a growth rate around 7.5%. While the Eurozone showed some signs of weakening lately, the European Central Bank’s strong expansionary policy as well as abating fiscal tightening will likely support the region’s economy in the quarters ahead.

Equities Our constructive outlook on the global economy is a key driver of our positive view on equities. Earnings remain well supported, especially in the US. The cur-rent US Q2 earnings season has so far corroborated expectations for high single-digit earnings growth, as 3 out of 4 firms reported stronger earnings than ex-pected. Canadian equities should benefit from strong North American growth and the rise in the gold price since early 2014. We also hold an overweight in Eurozone equities, where the earnings recovery is yet to materialize, but we ex-pect margins to improve amid stronger economic growth than last year. UK equi-ties are least preferred.

Fixed income The credit cycle for US and European corporate bonds is in a middle stage, usually associated with gradually tighter bond spreads. We expect spreads on US high-yield (HY) bonds to tighten from 375 basis points (bps) currently to 300 bps in 6 months as default rates remain very low. Investment grade (IG) bonds provide only limited potential for spread tightening, but offer an attractive yield pickup over high-grade bonds, which should suffer most from rising rates. Bonds of emerging market sovereigns are relatively expensive given weakening fundamentals. We thus underweight US government and EM sovereign bonds and overweight US HY and US IG bonds.

Foreign exchange

The US and the UK economies are further advanced in the business cycle than the Eurozone as can be seen in the strong decline in unemployment. Consequently, the US Fed and the Bank of England (BoE) are likely to tighten monetary policy well ahead of the European Central Bank, which remains in easing mode. The rise in the UK’s inflation rate to 1.9% in June further cleared the way for a first BoE rate hike in November. We thus favor the USD over the EUR, and the GBP over the CHF (which remains tied to the EUR) as divergent economic and monetary trends should drive currency performance in the next six months.

month in review

The final revision to the US Q1 GDP estimate was lower than expected. Estimated numbers show a con-traction of 2.9%, marking the worst reading since the recession. However, economic data has im-proved recently and Q2 growth is projected to be more robust. The economy added 288,000 jobs in June, exceeding expectations of 215,000. On the policy front, Fed Chair Janet Yellen maintained dur-ing a Senate appearance that a high degree of monetary policy ac-commodation remains appropriate. She also suggested that if the labor market improves beyond expecta-tions, the first rate hike may have to come sooner.

In Europe, the most recent infla-tion numbers – a 0.5% increase in Eurozone Consumer CPI – revealed that prices are still rising slowly. Concerns in the region have grown due to soft industrial produc-tion numbers and trade figures. Meanwhile, a missed short-term debt payment by Espirito Santo International, the parent of a large Portuguese bank, raised market un-certainty. The ECB was quiet on the policy landscape and left rates un-changed after announcing ground-breaking measures in June.

Chinese growth narrowly beat Q2 expectations. Mini-stimulus mea-sures in the region helped raise growth from 7.5%, up from 7.4% in Q1. Geopolitical risk has made its way back into the headlines. Unrest in the Middle East escalated be-tween Israeli and Palestinian forces with threats of a widening ground war. Meanwhile, the crisis in Ukraine took another twist as a civilian plane was shot down in territory controlled by pro-Russian separatists.



Eurozone recovery Ricardo Garcia, CFA

CIo vIEw Probability: 60%

Moderate growthLeading indicators suggest downside risks to the 0.3% growth forecast for 3Q14 and 4Q14. Inflation is bottoming and we expect a slow uptrend in the coming quarters. The ECB remains on alert despite the recent firework of monetary easing.

poSItIvE SCEnARIo Probability: 20%

Strong growth and fiscal stabilization

Bond yields converge closer than expected as peripheral countries consolidate their budgets and economic activity recovers faster. France and Italy follow a credible reform path at a faster pace and political risks fade further.

nEGAtIvE SCEnARIo Probability: 20%

Major shock

Political uncertainty and negative bank stress-test results rattle bank bonds. Setbacks on consolidation progress lead to renewed pressure on Spain and Italy; Portugal requires additional support; Greece fails to qualify for further support, reviving default and exit risks; the Eurozone slips into deflation; France experiences a massive fiscal slippage. The severity of economic sanctions on Russia increases sharply; China suffers from a sharp eco-nomic downturn, weighing on European exports.

Key finAnCiAl mArKet drivers

Global economic outlook thomas berner, cfa; ricardo garcia, cfa; gary tsang

Growth indicators across the major economies improved further, confirming the view that global growth is accelerating into 2H14 after a weak start to the year. In the US, the current growth trend is close to an annualized 3%, and we expect this improvement over the recovery average of 2.1% to persist. In the Eurozone, we continue to expect moderate growth slightly below potential but inflation to rise from its recovery lows. Growth in China is rebounding and we expect it to remain comfortably above 7% throughout the year. Major developed world central banks remain very accommodative, and we expect only the Bank of England to start tightening within our 6-month tactical investment horizon.

Robust US expansion Thomas Berner, CFA


Robust expansionWe expect US growth to reaccelerate in the remainder of 2014, driven by stronger private-sector demand.Inflation will likely rise toward the Fed’s target of 2% over the next six months. The Fed’s QE3 will likely last until 4Q14, with tapering of USD 10bn per meeting, and total purchases of USD 1.62trn.


Strong expansion

US real GDP growth accelerates persistently to around 4%, propelled by an expansive monetary policy, a more rapidly fading fiscal drag, strong investment in housing, improved business and consumer confidence, subsiding China hardlanding, and Ukraine or Iraq geopolitical risks. The Fed halts QE3 earlier and raises policy rates sooner than mid-2015.


Growth recession

US growth momentum fades as Fed stimulus is curtailed, the Eurozone crisis reescalates, China’s growth decelerates significantly, or Ukraine or Iraq geopolitical tensions inten-sify. Real GDP growth deteriorates, raising the fiscal deficit and leading to more aggressive bond-buying by the Fed.

Stabilizing Chinese growthGary tsang


More policy response to stabilize growthEconomic growth has stabilized, but pressure remains in the property sector. The policy easing bias will cushion the downside risks to growth. While small-scale credit events will happen, we do not see the situation develop-ing into a systemic event.


Growth acceleration

Annual growth accelerates above 8% as a result of more substantial policy stimulus from the government and/or a strong pickup in external demand.


Sharp economic downturn

Annual growth falls below 6% due to a sharp downturn in property investment, more widespread credit events and/or tighter liquidity as the government heavily reins in shadow banking activity.

real gdp growth in % Inflation in %2013 2014f 2015f 2013 2014f 2015f

us 1.9 1.7 3.2 1.5 2.0 2.3Canada 1.6 2.6 3.1 0.9 1.6 2.2Brazil 2.5 1.2 1.8 5.9 6.4 6.2Japan 1.5 1.6 1.2 0.3 2.7 1.8Australia 2.4 3.3 3.0 2.4 2.7 2.6China 7.7 7.3 6.8 2.6 2.4 2.6india 4.7 5.3 5.5 9.5 7.6 6.4Eurozone -0.4 1.0 1.5 1.4 0.7 1.1uK 1.7 3.1 2.8 2.6 1.8 2.0Switzerland 2.0 2.1 2.2 -0.2 0.2 0.7russia 1.3 0.6 1.4 6.8 7.1 5.7World 2.5 2.8 3.3 2.9 3.3 3.3

GlOBAl GROWTH ExPECTEd TO BE 2.8% in 2014

Key dAtes

> 31 JuLy 2014

Eurozone CPI for July Eurozone CPI inflation stalled at 0.5% year-on-

year in June, the lowest reading during this recov-ery. On the back of the ECB’s additional easing measures announced in June, we expect inflation to gradually trend higher over the next few years.

> 1 august 2014

US labor market report for July The recent payroll growth trend has been the

strongest during the recovery yet, with the 3-month moving average in payroll gains rising to 272,000. We expect nonfarm payroll gains to continue to be solid and average 230,000 per month in the remainder of the year. We also expect the unemployment rate to fall to 6.0% by year-end.

> 1 august 2014

US ISM manufacturing Purchasing Manager’s Index (PMI) for July

The ISM manufacturing PMI, a barometer of na-tional manufacturing activity, has held on to its gains since the winter lull, pointing to solid manu-facturing sector growth. We expect the index to rise somewhat further toward 56.0 over the next six months.

> 13 august 2014

US retail sales for July Core retail sales, which exclude sales at gas sta-

tions, auto dealers, and building materials, re-sumed their solid uptrend after the winter break-down. We expect core retail sales to continue to trend higher at 0.4% m/m on average in the re-mainder of the year, supporting our view that the US consumer is stepping up spending.

> 19 august 2014

US CPI for July US core Consumer Price Inflation has accelerated in

the last few reports and we expect that accelera-tion to be persistent, lifting core CPI to 2.2% year-on-year by year-end from 1.9%.


Source: Reuters EcoWin, IMF, UBS CIO WMR, as of 24 July 2014. Please see disclaimer in appendix.


Equities

Emerging Markets We hold a neutral position in EM equities. The consensus expectation is for EM earnings to grow by 9.7% over the next 12 months. We are more cautious, however, and expect around 7% growth. The weakness in EM earnings is currently counterbalanced by valuations which are attractive relative to their own history and relative to developed markets (DM). We do not foresee a material rerating of EM equities over the next six months, but expect the P/E multiple of the MSCI EM index to stay close to its cur-rent level of about 12.2x based on realized earnings. We prefer Chile, Mexico, South Korea and Taiwan over Malaysia and South Africa.

MSCI EM (index points, current: 1078) six-month target

House view 1095

Positive scenario 1230

Negative scenario 840

Asset ClAsses overview

Jeremy Zirin, CFA; Stephen Freedman, PhD, CFA; David Lefkowitz, CFA; Markus Irngartinger, PhD, CFA

Eurozone

We have an overweight position in Eurozone equities but recommend that investors seek to hedge the risk of a declining euro. Solid domestic and improving external demand should finally lead to improving Eurozone corporate earnings in the coming quarters. We prefer the consumer discretionary sector as it offers good revenue and earnings growth and generates high free-cash-flow. Financials offer attractive valuations and superior earnings growth. Energy and Utilities are cheap and dividend yields are attractive. Our least preferred sectors are Consumer Staples, Health Care, Materials and Telecom.

EURo Stoxx (index points, current: 322) six-month target

House view 330

Positive scenario 370


Japan

We are neutral on Japanese equities. With the yen not weakening recently, we forecast corporate earnings growth to slow to 10% y/y in FY2014. A significant risk over the next year is slower economic growth due to the potential second value-added tax hike, to 10% in 2015 from 8% currently. The government will make a final decision on the tax increase by the end of this year. Should inflation decline considerably, the Bank of Japan is likely to increase its monetary policy stimulus. We expect the Topix trailing P/E to drop to around 14.6x in the next six months from about 15.0x currently, mainly due to solid increases in company earnings. Overall, we forecast the Topix to move in line with global equity markets.

topIx (index points, current: 1,263) six-month target

House view 1,300

Positive scenario 1,480


Uk

We have an underweight stance on UK equities relative to global equities. The UK’s overall earnings dynamics lag those of global markets. The strong pound is a drag on earnings given the high proportion of FTSE 100 sales generated abroad. The UK’s valuation discount to global equi-ties is in line with that of the past 15 years. Within UK equities, we believe investors should focus on value stocks as we expect these to outperform in the next few months. As the economic recovery broadens in the period before interest rate rises, value stocks generate earnings growth at a discount to the UK market.

FtSE 100 (index points, current: 6,798) six-month target

House view 6,900


Negative scenario 5,800

We continue to maintain an overweight allocation to equities, particularly in the US, but also in the Eurozone and Canada. US earnings remain well supported. Q2 earnings season has so far corroborated expectations for high single-digit earnings growth, as 3 out of 4 firms reported stronger earnings than expected. Canadian companies also show relatively strong earn-ings growth, in particular financials, which represent close to 40% of Canada’s market capitalization. The energy sector ben-efits from the increase in the oil price in the first half of 2014 compared to late last year. In addition, the market’s price mo-mentum has been relatively strong so far this year. We also hold an overweight in Eurozone equities, where the earnings recovery is yet to materialize, but we expect margins to improve amid stronger economic growth than last year, while easy monetary policy of the European Central Bank keeps financing costs for Eurozone companies low. We are underweight UK equities as the strong pound continues to hurt earnings.

Global equities

We now include six-month price targets for each of the regional equity markets covered by CIO WMR strategists in this report, including the US. This time frame aligns with the horizon for our tactical asset allocation recommendations. Price target updates will be provided on a monthly frequency in this publication and on an ad hoc basis as market conditions dictate. Current targets are as of 24 July 2014.



US Equities overview Rising corporate profits driven by continued economic growth and steady profit margins are key pillars of our positive stance on US equities. Second quarter earnings season is off to a solid start. Companies are beating revenues and earnings at a higher than average pace and earnings revi-sions for the third quarter are favorable. We remain comfortable that earnings growth will accelerate moderately over the next few quarters, especially as commodities and currency headwinds fade. We forecast 9% earnings growth for the full year. Our six-month rolling price target of 2025 implies equity market gains of close to 10% for 2014, broadly in line with our earnings growth expectations. Equity market valuations do not appear stretched.

S&p 500 (index points, current: 1,960) six-month target

House view 2,025


Negative scenario 1,675

US SectorsWe prefer cyclicals over defensives, specifically Information Technology and Industrials, which should benefit from an upturn in economic activity and capital spending. Capital spending for S&P 500 companies rose 10% in the first quarter and there are increasing signs that key categories such as non-residential construction and business spending on tech equipment are accelerating. Financials are also attractive due to solid loan growth, benefits from our expectations for higher interest rates and low

The recent increase in geopolitical tensions and risks in the Ukraine and Middle East does not alter our favorable view on stocks. Rather, we believe accelerating US economic activity and solid earnings growth will be the dominant return drivers over the next six months. While the Fed is winding down its bond purchases and will potentially begin to raise interest rates next year, the low inflation environment gives the central bank plenty of latitude to continue to support the recovery. The nearly 3% contraction in 1Q14 GDP appears to be an anomaly relative to virtually all other economic indicators. New jobs are being created at the fastest pace in over two years, new claims for unemployment insurance are hitting post-recession lows, corporate investment spending on plant and equipment is accelerating, surveys of business sentiment remain robust and con-sumer confidence continues to grind higher.

us equities

valuations. We are underweight sectors with high dividend yields and high valuations such as Utilities and Consumer Staples, which remain vulnerable to rising interest rates.

US Equities – sizeSince the end of June smaller companies have underperformed their large cap peers and appear to have suffered from de-risking due to rising geopolitical tensions and concerns about high valuation. However, we believe that smaller stocks offer stronger earnings growth potential over the next several quarters (which we believe will become more evident with 2Q earnings season) and expect investors will focus on strengthening mid- and small-cap fundamentals as the US economy gains momentum. As a result, we continue to prefer small- and mid-caps over large caps and believe the faster earnings growth justifies the somewhat higher than average relative valuation. We expect the recent perceived height-ened geopolitical risks will begin to fade.

US Equities – styleWhile we continue to have a moderate preference for growth stocks over value stocks, it has been interesting to note that the performance “gap” between these two equity styles has been unusually small over the past few years. Our bias toward growth stocks remains anchored by two factors. First, sector tilts play a large role in determining the relative performance between the style segments (as defined by the Russell 1000 Growth and Value indices). Our sector preferences, notably our strong overweight in Technology, suggest a tilt toward growth stocks. Second, in aggregate, valuations for growth stocks (relative to value) are well below historical norms.

Source: S&P, UBS CIO, as of 22 July 2014Note: Dotted line indicates UBS CIO estimates

80

60

40

140

120

100

2000 2002 2004 2006 2008 2010 20142012 2016

Fig. 1: The corporate profit cycle continues to advance

S&P 500 operating EPS, trailing 12 months, USD

Source: FactSet, UBS CIO, as of 22 July 2014

18

12

6

0

24

2Q131Q13 4Q13 3Q14E2Q14E1Q14 4Q14E3Q13

Look for small-cap earnings to rebound sharply aer a (weather-induced) weak Q1

Year-on-year EPS growth, with consensus expectations

Large Small


Fixed income


Leslie Falconio; Thomas McLoughlin; Barry McAlinden, CFA; Achim Peijan, PhD, CEFA; Philipp Schoettler; Thomas Wacker, CFA

We expect US Treasury bond yields to move gradually higher. The anticipated increase in yields will lead to declines in bond prices. However, a large part of the loss will be offset by the relatively higher coupons that longer bonds provide, as well as additional performance from “rolling down the yield curve.” Overall, we expect a slightly negative performance (-0.5% to -1%) over the next six months for bonds with maturities of up to seven years. Returns are expected to be lower for bonds of more than seven years. We recommend avoiding these and focusing on bonds with short and medium maturities.

Emerging Market bonds

We recommend a modest underweight asset allocation to EM sovereign bonds. Long-term valuations remain in expensive territory for benchmark EMBIG index. The EM overall credit cycle is gradually weakening, and EM business cycle indicators trail those of developed markets. EM sov-ereign bonds tend to be more negatively affected by rising US reference rates than EM corporates.

EMbI / CEMbI SpREAd (Current: 303bps / 321bps) Six-month target

House view 330bps / 350bps

Positive scenario 285bps / 300bps

Negative scenario 450bps / 520bps

Government bonds

The US Treasury curve flattened slightly over the last month, with 10- and 30-year yields falling and the 1- to 7-year yields rising slightly. The level of longer-dated yields reflects 1) a dovish Fed signaling very gradual rate hikes, 2) low interest rate volatility, 3) a low-term risk premium, and 4) expectations for gradual growth acceleration and slowly rising inflation. None of the data releases and the events over the past month refuted these assumptions, supporting the range-bound trading activity. We think that the first three of these assumptions could be put into question over the next six months and therefore we continue to expect a gradual increase in Treasury rates.

US 10-yEAR yIEld (Current: 2.48%) Six-month target

House view 3.0%

Positive scenario 3.3–3.9%

Negative scenario 2.0–2.8%

US High Yield Corporate Bonds

HY bonds underperformed other fixed income segments over the past month, with a return of -0.5% as spreads widened to 377bps, from a low of 335bps in late June. This move was driven by a general decline in investor sentiment stemming from cautious remarks from Janet Yellen, geopolitical risks, concerns about the European banking sector, and strong fund outflows. Although trading market conditions may remain choppy through the summer months, we remain overweight HY bonds as the recent weakness did not stem from fundamentals. The overall yield level of the index has risen again above 5% and spread tightening po-tential should help to cushion a rise in benchmark rates. Our six-month spread target is 300 basis points and we look for HY to deliver 3-4% total returns over the next six months.

USd hy SpREAd (Current: 377bps) Six-month target

House view 300bps

Positive scenario 250bps

Negative scenario 800bps

US Investment Grade Corporate bonds

Over the past month amid a general “risk-off” move in financial markets, but IG corporate bond spreads traded mostly sideways adding to positive returns, now at 6%. We see the rates market being the main driver of IG performance as the average spread on US IG has reached its pre-crisis trading range of 90–100 bps and we do not see much more tightening potential. Even as rates rise, demand for IG should remain strong as in-stitutional investors take advantage of higher yields. Within IG, lower-rated IG segments (BBB) should offer better return potential than higher-rated issuers, and short/intermediate maturities should outperform longer maturities. Investment grade corporates are overweight in non-taxable portfolios but underweight in most taxable portfolios.

US IG SpREAd (Current: 99bps*) Six-month target

House view 100bps

Positive scenario 85bps

Negative scenario 250bps

*data based on Barclay’s Corporate Aggregate Indexes.



Additional US taxable fixed income (TFI) segmentsAgency Bonds

The song remains the same in the agency debt market, i.e., spreads look quite fully valued across the board, in our opinion. Agency bullet (i.e., non-callable notes) spreads look stingy versus their more liquid Treasury cousins, while callable spreads have collapsed with the drop in volatility. In terms of relative value, our favorite part of the bullet curve is the two-year sector because it’s the peak of risk-adjusted carry and roll-down re-turns. Of course, callables offer investors the opportunity to beat the total returns in bullets, however, the bands of interest rate scenarios under which investors could expect to outperform look skinny to us, even before factoring in the damage that a spike in volume could do. Hence, we con-tinue to recommend an underweight allocation to the product.

Current agency benchmark spread of +13bps over 5-year UST (versus +13bps last month)

Mortgage-Backed Securities (MBS)

The virtuous cycle continues for mortgages, as the vice of low supply and low volatility continues to squeeze spreads. We maintain our recommen-dation for a neutral allocation to the product (within the US TFI portfolio) because while we still believe that relative value versus Treasuries is fair, we’re concerned about the potential pickup in volatility as we approach the next Fed hiking cycle. With that in mind, we’ll watch the upcoming Fed minutes closely for any signs that the road ahead might get rockier.

Current MBS spread of 105bps to blend of 5-year and 10-year Treasuries (versus +105bps last month)

Treasury Inflation-Protected Securities (TIPS)

The underweight in TIPS remains as they continue their poor performance trend. A mild CPI, continued mixed housing data, summer doldrums and a complete lack of liquidity has sidelined TIPS break-even inflation rates throughout the curve. Even the ever-popular buying of TIPS BEI in the short end, (due to the current richness of the real rate, which is negative), has not had an outperformance vs. Treasuries in over a month. The duration of the long end, we feel, is still a very negative risk variable for these securi-ties given our stance in the growth cycle. Even with the geopolitical risk and the foreign buying of treasuries, owning an asset class with such a long duration at this stage is simply not worth the price decline.

Current 10-year break-even inflation rate of 2.20% (2.26% last month)

Preferred Securities

This month we are taking some profits and reducing our overweight stance in preferred securities. After struggling through the rising rate environment last year, preferreds have benefited from the decline in long-term Treasury yields and a more favorable demand backdrop. Although not our base case, a disorderly rise in rates would likely lead to fund outflows, and preferreds lack a dedicated institutional buyer base to lend support to the market. We prefer to gain preferred securities exposure in a defensive manner, as highlighted in our capital securities theme that favors fixed-to-float structures over fixed-for-life coupons.

Current spread of +241bps over 10-year UST (+230bps last month)

Municipal Bonds

Negative credit developments in Puerto Rico had an impact across the broad muni market earlier this month. That said, the market appears to have shrugged off concerns over the Island’s financial challenges, for now. Muni mutual funds indicated net cash inflows, rebounding from last week’s outflows. Year-to-date, munis (+6.7%) are outpacing the total returns for both US Treasury securities (+3.5%) and IG corporate bonds (+6.3%). We attribute the stronger performance in large part to two factors. First, tight new issuance has provided support to prices. Second, the muni market continues to demonstrate a remarkable ability to classify adverse credit developments as idiosyncratic events. We continue to believe munis are attractive on an after-tax basis.

Current AAA 10-year muni-to-Treasury yield ratio: 90.3% (last month: 89.7%)

Non-US Developed Fixed Income

Yields have moved lower over the past month in most major non-US de-veloped bond markets. 10-year government bond yields are now close to record lows in several countries. Weaker than expected economic data in the Eurozone pushed down German Bund yields, while Japanese yields have fallen amid signs that April’s consumption tax hike has hurt growth in the second quarter. While non-US yields generally fell by more than they did in the US over the past month, the dollar rallied modestly against most other currencies, reducing returns in dollar terms. Given our view that the euro will weaken further against the dollar in the months ahead, within non-US developed fixed income we prefer the UK over the Eurozone for investors not hedging their currency exposure.

Source: Bloomberg, CIO WMR, as of 21 July 2014

1510

50

–5–10–15–20–25

20

Fixed less than6%

Floating Fixed 7% orabove

Fixed-to-floatFixed between6% and 7%

Preferred security types that struggled in 2013 have rebounded

Price return by coupon, in %

From May to December 20132014 YTD

Fig. 1: CIO WMR interest rate forecasts

Americas 22-July-14 3 mths 6 mths 12 mths End 14

USd 3M libor 0.2 0.4 0.5 0.6 0.5

USd 2Y Treas. 0.5 0.5 0.8 1.1 0.8

USd 5Y Treas. 1.7 1.8 2.0 2.3 2.0

USd 10Y Treas. 2.5 2.8 3.0 3.2 3.0

USd 30Y Treas. 3.3 3.8 3.9 4.0 3.9

Source: Bloomberg, UBS CIO WMR, as of 22 July 2014



Commodities

Precious metalsDownward revisions to global growth estimates by international agencies and a more dovish US Fed have given the gold price good support. ETF outflows have stalled while speculative accounts in gold futures have started to load up net long positions by around 9m ounces. The futures-driven bounce in the gold price could run a bit further from a momentum perspective, but is unlikely to turn into a lasting uptrend. We still expect solid economic data out of the US to trigger an interest rate hike cycle a year from now (interest rates rising above forwards), producing sufficient price drag as physical buying from Asia remains lackluster. Our 6- and 12-month forecasts stand at USD 1,200/oz and USD 1,050/oz, respectively. With lower gold prices, silver prices should come under pressure as well, easing toward USD 17.5/oz over the next 3-6 months. Platinum and pal-ladium should decouple from gold and silver with both markets printing sizable market deficits, especially for palladium.

Gold (Current: USD 1,300/oz) six-month target

House view USD 1,200/oz

Positive scenario USD 1,500/oz

Negative scenario USD 900/oz

Crude oil Seasonally stronger oil demand in 3Q14 (+1.45mbpd q/q) and elevated unplanned production outages will provide price support in 3Q14, but we still expect prices to soften toward the year-end. With US refinery activity going into maintenance in 4Q14, ample crude oil availability should become more visible. We expect US crude oil production to grow by about 1 mbpd y/y in 2H14. Moreover, some lost supply due to unplanned pro-duction outages should find its way back into the market. Hence, we expect Brent crude oil prices to fall to USD 105/bbl in 6 months, and to USD 100/bbl in 12 months. Positive performance should come from US natural gas, which needs higher prices to limit incremental demand and replenish low inventories.

bREnt (Current: USD 108.0/bbl) six-month target

House view USD 105/bbl

Positive scenario USD 130–165/bbl

Negative scenario USD 80–90/bbl

Commodities Dominic Schnider, CFA, CAIA; Giovanni Staunovo; Thomas Veraguth

The recent weakness in commodity prices has narrowed the negative expected return outlook for commodities over the next 6-12 months to less than 2% from around 5% in June. While crude oil prices have room to grind lower in our base case sce-nario, agricultural commodities have largely rebalanced and should start to stabilize. We see the most price downside in pre-cious metals, which have held up well compared to our initial expectations. We expect positive returns from base metals.

base metals The short-term outlook for accelerating Chinese economic activity supports our view that base metal prices are likely to be firmer in the next 3-6 months. A better demand side allows metals with challenged supply back-drops, like aluminum, nickel or zinc to gain further traction. That said, more than 50% of the expected price move for aluminum, zinc and nickel is already behind us, suggesting that prices should peak in 2H14. For the sector heavyweight copper, we believe USD 7,500/mt will mark a cap with supply returning from unplanned outages and the production start of new mine projects. More than sufficient supply growth should bring copper prices down to USD 6,500/mt over the next 12 months.

AgricultureThe recent sell-off in grains and oilseeds was no surprise, yet the speed of the adjustment was unexpected. Sequential USDA reports have lifted production and stock expectations, both for “old” and “new” crop bal-ances. Near-perfect growing conditions across much of the US Midwest and elevated crop condition rankings have reduced weather risks. For soybeans and corn, we view the “risk-off” turnaround as fair and reason-able. However, in our view, production risks relating to milling wheat, palm oil, sugar and cotton are still elevated as El Nino remains in play from August onward. These weather risks are most prevalent in Asia; in fact, we see the continuation of a below-average Indian monsoon and the potential for reduced spring rainfall across South Asia and Australia as triggers to reverse recent price momentum. Moreover, current non-com-mercial account positioning suggests that the current correction has run its course and any extensive price falls from here will need to be under-pinned by actual harvest results.

Other asset classes

listed real estateListed real estate has performed better than global equities so far this year. Renewed concerns about economic growth, lower interest rates, and a flattening interest rate curve at the long end support the asset class. This has eased concerns about future property values and debt costs. The May 2013 market high was surpassed recently. We expect a short-term rebound in Asian properties based on valuations and the upward revision of very depressed expectations. We expect US listed real estate to under-perform as earnings haven’t been supportive.

FtSE EpRA/nAREIt developed tR USd (Current: 4,200)

six-month target

House view USD 4,100

Positive scenario USD 4,240

Negative scenario USD 3,600

and other asset classes



USd The dollar has reached its highest point against a basket of developed-market currencies (the DXY) since February, on the back of strong US labor markets and indicators that consumers and businesses are optimistic about the future. Even though inflation is still subdued, the tone of Fed officials has shifted to preparing for further monetary normalization. Fiscal balances are also much healthier in the US, with deficits dropping and set to continue to shrink for the next couple of years. Additionally, yields on European peripheral sovereign debt have fallen, making Treasuries relatively more attractive.

EUR The euro found its top at 1.40, when the ECB’s Draghi suggested the currency’s strength was a threat to keeping inflation close to the ECB’s target. While the central bank has focused on targeted long-term refinanc-ing operations (TLTROs) and negative deposit rates, it is prepared to do more. While we still think quantitative easing won’t be considered until the end of the year, the fact that it is on the table suggests the seriousness of deflation risks. The euro is in a Catch 22: if inflation rises, that harms the currency, but if it remains very low the ECB will pursue more easing, which also hurts the euro.

Gbp The British pound has been a clear winner from tightening expectations. With labor markets improving steadily and inflation rising to almost 2% y/y, it is no surprise that a (near) zero-interest rate policy is no longer appropriate. Keep in mind that the pound no longer looks undervalued and there are political risks in the UK in the form of the Scottish inde-pendence vote and uncertainty about the UK’s commitment to the European Union. We think, however, the economic cycles clearly favor the GBP for now, and are confident in our overweight against the con-tinental currencies.

JPY The yen has traded in a remarkably small band against the US dollar, hovering right around 102. While we had previously expected further depreciation in the JPY, we no longer think that the Bank of Japan will act to weaken the currency this year. While risk reduction in global markets could favor the yen, we expect the BoJ would step in to prevent USDJPY dropping below 100.

ChF Switzerland continues to perform strongly with unemployment below 3%, real estate prices stubbornly high, and the economy expanding. However, we think that the Swiss National Bank cannot remove the

EURCHF floor so long as Switzerland is struggling against deflation and there are geopolitical and economic concerns in Europe that could drive demand for the franc. We still consider the Swiss franc a substitute for the euro. The recently announced swap line with the Chinese will allow CNY payments to clear directly in Switzerland, but should not affect the value of the Swiss currency.

Other developed market currencies We remain bearish on the Australian and Kiwi dollar, as we find them both overvalued and expect that the US dollars’ ascendance will include gains against the Antipodes. Both the Reserve Banks of Australia and New Zealand have tried to talk down their currencies, even after the RBNZ hiked rates. The Canadian dollar has weakened sharply in the last few quarters from a deteriorating trade balance and policy concerns about a strong currency. Nevertheless, the economy is recovering and commodity prices have risen, which could lift the Loonie. The near-term outlook for the NOK (Norway) and SEK (Sweden) is flat relative to the euro, but next year should bring improvements in manufacturing and real estate that should favor the Scandinavian currencies.

Foreign exchangeKatie Klingensmith; Thomas Flury

Financial markets have shrugged off geopolitical events as well as divergent economic trajectories and monetary policies. July finally saw this change with a global focus on monetary policies. The US dollar strengthened significantly, especially versus the euro, against which it reached an eight-month high. With Fed officials suggesting economic data is improving faster than expected, investors are beginning to anticipate the first rate hike. This focus on monetary policy also explains the steady climb of the British pound – we expect the Bank of England will hike rates before year’s end. Elsewhere, investors seem comfortable with carry trading; the Japanese yen remaining very steady vis-a-vie the US dollar. We look for the recent dollar and pound strength to continue, and remain long these currencies versus the euro and the Swiss franc.

UBS CIO FX forecasts23-July-14 3m 6m 12m PPP*

eurusd 1.347 1.32 1.28 1.24 1.34

USdJPY 101.4 103 103 105 72

usdCAd 1.073 1.08 1.06 1.04 1.13

Audusd 0.945 0.90 0.88 0.85 0.74

GBPUSd 1.705 1.72 1.66 1.64 1.70

nZdusd 0.868 0.84 0.83 0.78 0.58

usdChf 0.902 0.93 0.96 0.99 0.98

eurChf 1.215 1.23 1.23 1.23 1.32

GBPCHF 1.538 1.60 1.60 1.63 1.68

EURJPY 136.5 136 132 130 96

EURGBP 0.790 0.77 0.77 0.76 0.79

eurseK 9.194 9.10 8.90 8.60 8.65

eurnoK 8.318 8.30 8.20 8.00 9.71

Source: Thomson Reuters, UBS CIO WMR, as of 23 July 2014Note: Past performance is not an indication of future returns.*PPP = Purchasing Power Parity


Despite the uninterrupted US equity market advance over the past several quarters – or perhaps because of it – many mar-ket participants remain skeptical that the bull market will con-tinue. This view seems to be reinforced by the barrage of me-dia reports which ominously highlight daily “record highs” each time the S&P 500 surpasses its prior peak.

However, the notion that an investor should be cautious sim-ply because the market is at an all-time high not only is overly simplistic, but also carries a significant opportunity cost (con-sidering interest rates on many fixed income assets are barely above expected rates of inflation). Keep in mind that since 1926, the S&P 500 has advanced at a 10% annualized rate, so upward sloping markets will often be trading at record nominal highs. In fact, on a month-end closing basis, the S&P 500 has traded at an all-time high more than one-quarter of the time (~28%) and subsequent 6- and 12-month returns have actually been slightly above-average following months with record closing prices (see Fig. 1). While this may seem counter to the “buy low, sell high” market axiom, it highlights the fact that investors should not confuse record highs with market peaks.

only a “bubble” in talks about a bubbleOther market bears argue that high valuations will ultimately usher in the next bear market. As our global CIO Mark Haefele mentioned in this month’s Feature article, even newly minted Fed Chair Janet Yellen felt compelled to weigh in on the equity market valuation debate.

But are US equities really in “bubble” territory? We see few signs of such extremes. Consider that adjusting for inflation, the S&P 500 has yet to reach a new high and is still 7% below its March 2000 peak. More fundamentally, while S&P 500 prices are at record nominal highs, S&P 500 valuations are not. The current S&P 500 price-to-earnings (P/E) ratio is 17 using trailing earnings per share (EPS) or 15.5 times our projected forward 12-month EPS. Both of these val-uation gauges are only very slightly above long-term aver-ages. To put this further into perspective, at the peak of the March 2000 tech “boom,” the S&P 500 trailing P/E was 27 – or fully 60% more expensive than current levels.

Market gains aligned with rebounding corporate profit cycleFrom our perspective, the five-year-plus bull market has been fueled by improving corporate fundamentals. While some ar-gue that near 0% short-term interest rates and the Fed’s “QE” programs have artificially boosted equity prices, we point to the fact that the 145% gain in the S&P 500 index since the end of March 2009 has been nearly matched by the 125% rise in S&P 500 EPS (Fig. 2). To be sure, lower interest rates have helped aid the earnings (and economic) recovery. But an earnings recovery is typically supported by easy mon-etary policies when an economy is producing below its poten-tial. Normalizing interest rates from such extremely low levels – driven by strengthening economic momentum – should therefore bolster rather than threaten the profit cycle.

Is “escape velocity” finally within reach? UBS continues to believe that after being stuck in a 2% real GDP growth world since the end of the financial crisis, the US economy is ready to shift into a higher gear and grow at over a 3% annualized rate through the end of 2015.

in focus

On profits and policy

Jeremy Zirin, CFAChief US Equity StrategistCIO Wealth Management Research


in foCus

Admittedly, our economic growth expectations for the cur-rent calendar year have been ratcheted down recently after the unexpected, largely weather-driven 2.9% real GDP de-cline in Q1. But forward-looking markets are focused on where the economy is going, not where it has been. Several factors suggest to us that growth is set to accelerate. First and foremost, we believe the consumer deleveraging cycle is in its latter stages. Household debt-to-income ratios have returned to early 2000 levels. Perhaps more importantly, debt service ratios are at 30-year lows (Fig. 3). These data suggest that purchasing power for the US consumer is in much better shape than a few years ago. Improving household spending fundamentals are critical to the US economy, considering con-sumer spending comprises over two-thirds of US GDP. Additionally, the lagged impact of easy monetary policy, im-proving CEO confidence, and the positive effects of the do-mestic shale gas revolution are all potential growth drivers.

Furthermore, S&P 500 EPS growth has already been chugging along at about 6% clip since the end of 2012, and we expect that trajectory to accelerate to 8-10% over the next several quarters. Results from second quarter earnings season thus far have supported this view. Further out, the boost to top-line (i.e., sales) growth as the US economy gains momentum should more than offset any profit “squeeze” from higher in-terest rates or a modest increase in wages.

Don’t fear the Fed (yet)Finally, we believe that it is too early for investors to be wor-ried that impending interest rate hikes will derail the equity bull market. First, with a 0-0.25% starting point, the Fed funds rate has ample room to rise before money gets “tight.” Second, Janet Yellen has already indicated that interest rate normalization will be gradual and that rates may stay below normal even after the Fed’s employment and inflation man-dates have been reached. Finally, history is on the side of the equity investor. In past US tightening cycles, initial rate hikes have not been bearish for stocks. Since 1950, the S&P 500 has rallied 13%, on average, in the 12 months before the first Fed rate hike. In fact, equity markets have historically contin-ued to post average, high single-digit returns in the 12 months after the first rate hike.

So while a short-lived market setback can never be ruled out, we remain confident that the bull market in US equities has yet to run its course.

Fig. 3: Advanced deleveraging has improved householdbalance sheets

Source: Bloomberg, UBS CIO, as of 31 March 2014

Household debt and debt service payments dividend by disposablepersonal income, in %

120110100

908070

140130

150

12.011.511.010.510.09.5

13.012.5

13.5

Debt to Income, le Debt Service as % of income, right

1990 1995 2000 2005 2010 2015

Note: Since 1926, subsequent 6- and 12-month total returnSource: Morningstar, UBS CIO, as of 22 July 2014

14

12

10

8

6

4

2

0

16

12 months6 months

Fig. 1: US equities typically keep making new “record highs”

Average market gain when either investing at or below record highs

S&P 500 at “record high”S&P 500 below “record high”

Fig. 2: Post-crisis market gains broadly in line with earnings

Source: Bloomberg, Standard & Poor’s, UBS CIO, as of 30 June 2014

S&P 500 price and S&P 500 trailing 12-month EPS, indexed to 2007 Q2(prior profit peak) = 100

120

100

80

60

40

20

140

S&P 500 index price S&P 500 EPS, trailing 12-month

1990 1994 1998 2002 2006 2010 2014


The preconditions for a pickup in capital spending are in place. The na-tion’s stock of property, plant, and equipment is old and US companies increasingly have access to low-cost funding. Now, with Europe out of recession, domestic fiscal policy risks fading and economic momentum picking up, we believe companies will find it increasingly attractive to invest in new, more productive capacity. The recent rise in US manufacturing capacity utilization to 79.1% – close to its long-run average – underscores this need.

The recent acceleration in M&A ac-tivity is at least partly a reflection of increased business confidence, which bodes well for a potential pickup in organic business investment spend-ing. Higher equity valuations make share buybacks incrementally less at-tractive, boosting the appeal of capi-tal spending as a use of cash. UBS Investment Research economists ex-pect real business equipment spend-ing to accelerate from 2.7% in 2013 to 4.8% in 2014, and 7.9% in 2015.

Portfolio contextWe believe Eurozone equities present an attractive opportunity to participate in the region’s economic recovery. Our ex-pectation for an improving domestic economy, re accelerating global growth, and solid earnings growth are among the key drivers behind our constructive call on Eurozone equities. Compared to more defensive Swiss and UK equity markets, the Eurozone should dispropor-tionately benefit from an accelerating global economy.

The Eurozone recovery is being sup-ported by fewer fiscal headwinds, re-bounding consumer confidence, and fa-vorable monetary conditions. In addition, an uptick in global manufacturing should help drive double-digit earnings growth. Profit margins in the Eurozone, especially the periphery, remain at depressed levels and have significant room for improvement.

Mid- and small-cap equities (SMIDs) are a particularly attractive way to play an improvement of the economic environ-ment in the Eurozone. SMIDs are more biased to cyclical sectors and the recover-ing peripheral countries compared to the broader market, which should lead to su-perior sales and earnings growth.

Top themes

uGlobal recovery story

uMedium-term horizon (6–12 months)

uportfolio integration

We’ve identified a list of stocks poised to benefit from an upturn in capital spending. This list can be a component of a diversified US large-cap portfolio with sector exposure to tech, indus-trials, and financials.

uFull report

“Capex rising…finally – an update,” 26 March 2014

Capex rising…finallyJeremy Zirin CFA, David Lefkowitz CFA, Manish Bangard, CFA

uGlobal recovery story



Investors can gain expo-sure through passive or actively managed Eurozone equity funds. For higher-beta expo-sure, consider active op-tions with exposure to Eurozone small- and mid-caps. Given our negative view on the EUR/USd, consider hedged exposure.

uFull report

“Top themes update: Favor Eurozone equities within Europe,” 19 May 2014

Favor Eurozone equities within EuropeAndrea Fisher, Stephen Freedman, PhD, CFA

Highlights from our monthly selection of highest conviction investment themes across the asset class spectrum

Portfolio context

Non-US equity

Source: FactSet and UBS CIO WMR, as of 22 July 2014

0

–5

–10

–15

30

5

25

20

15

10

1Q10 3Q10 1Q11 3Q11 1Q12 3Q12 3Q131Q13 1Q14

Improving capital spending becoming more evident

S&P 500 capital expenditures growth, year over year, in %

US equity


In spite of major advances in cancer therapies in recent years, many forms of cancer remain without cures, making it an important therapeutic opportunity for biotechnology and pharmaceutical companies. We believe that we are now at the threshold of discovery and commercialization of many novel break-through cancer therapies. Recent posi-tive results from clinical trials of Puma Biotechnology’s breast cancer drug ne-ratinib are highly supportive of this theme.

The scientific know-how and advances made over the last decade, including the human genome project, have laid the basis for new cancer treatments. Today, many pharmaceutical and bio-tech companies are testing promising novel cancer drug candidates in late stage clinical trials; and a number of these new cancer treatments will likely reach the market within the next two years. The multibillion dollar sales po-tential of these drugs could drive signifi-cant upside in select pharmaceutical and biotech stocks.

To take advantage of this opportunity, we recommend targeted equity expo-sure in biotech and pharmaceutical companies that have a fairly high prob-ability of clinical success with new drugs in development that are not yet reflected in their respective stock valua-tions. Now is a particularly attractive time to invest in such companies from a risk-return perspective. Concerns over high near-term equity valuations pro-vide more significant upside potential longer term. In addition, we expect companies with truly novel therapeutics to be relatively immune to price competition.

Portfolio context

The investment themes highlighted in this

section are among our highest conviction

thematic recommendations. The full list of

most preferred themes (see below) is

discussed in our new monthly publication

entitled “Top themes.” Top themes

• Capex rising...finally

• Diversify bond portfolios into credit alternatives

• Diversify into commercial mortgage-backed securities

• Favor Eurozone equities within Europe

• Major advances in cancer therapeutics

• North American energy independence: reenergized

• Opportunities in financial sector capital securities

• US senior loans

• US technology: secular growth, on sale

Ask your Financial Advisor for a copy

of this publication.

uAccelerating earnings potential



This theme can be inte-grated into a US equity portfolio through our recommended basket of single securities.

uFull report

“Major advances in can-cer therapeutics,” 14 April 2014

Major advances in cancer therapeuticsJerry Brimeyer

ab

Eurozone rebound

Enhanced cash yields

Capital securities

Thematic investment ideas from CIO Wealth Management ResearchApril 2014

Top themes

Senior loans

Credit alternatives

Energy independence

Tech on sale

Rising capex

Cancer therapeutics

Highlights from our monthly selection of highest conviction investment themes across the asset class spectrum

Top themes

US equity


Key foreCAsts

6-month forecast

Asset class tAA1 Change Benchmark Valuem/m perf.2

in % House View Positive

scenarioNegative scenario

equities –

usA – s&P 500 1987 1.2% 2025 2275 16675

Eurozone Euro Stoxx 322 -3.5% 330 370 260

uK – ftse 100 6798 -0.4% 6900 7520 5800

Japan – Topix 1272 0.3% 1295 1500 1020

Switzerland – smi 8605 -1.1% 8760 9400 7600

Emerging Markets – msCi em 1078 3.2% 1095 1230 840

bonds

US Government bonds – 10yr yield 2.5% 0.7% 3.0% 3.3-3.9% 2.0-2.8%

US Corporate bonds3 – Spread 98 bps 1.1% 100 bps 85 bps 250 bps

US High yield bonds – Spread 377 bps -0.5% 300 bps 250 bps 800 bps

EM Sovereign – 281 bps 0.9% 330 bps 285 bps 450 bps

EM Corporate – Spread 303 bps 1.9% 350 bps 300 bps 520 bps

other asset cLasses

Commodities – dJUBS ER Index 129 -5.4% nA nA nA

listed Real Estate – ePrA/nAreit dtr 4200 2.1% 4100 4240 3600

currencies Currency pair

usd – nA nA nA nA nA

eur – eurusd 1.35 -1.0% 1.28 1.20 1.40

GBP – GBPUSd 1.70 0.2% 1.66 nA nA

JPY – USdJPY 101 -0.6% 103 110 100

Chf – usdChf 0.90 0.8% 0.96 nA nA

Source: UBS CIO WMR, Bloomberg1 TAA = Tactical asset allocation, 2 Month-on-month performance, 3 Investment grade corporates are overweight in non-taxable portfolios but underweight in most taxable portfolios.

Past performance is no indication of future performance. Forecasts are not a reliable indicator of future performance.

Overweight

Neutral

Underweight

Key foreCAstsAs of 23 July 2014



detAiled Asset AlloCAtion

investor risk profile

conservative moderately conservative

moderate moderately aggressive

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cash 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0

fixed income 69.0 -2.0 67.0 57.0 -3.0 54.0 46.5 -3.5 43.0 41.0 -3.5 37.5 33.0 -3.5 29.5

us fixed income 62.0 +0.0 62.0 51.0 -0.5 50.5 40.5 -0.5 40.0 34.0 -0.5 33.5 26.0 -0.5 25.5

US Gov’t 7.0 -2.0 5.0 5.5 -2.5 3.0 4.0 -3.0 1.0 3.5 -3.0 0.5 2.0 -2.0 0.0

US Municipal 50.0 -1.5 48.5 39.0 -1.5 37.5 30.0 -0.5 29.5 24.0 -0.5 23.5 17.0 -1.5 15.5

US IG Corp 4.0 +0.5 4.5 3.5 -0.5 3.0 3.0 -1.0 2.0 2.5 -1.0 1.5 2.0 -1.0 1.0

US HY Corp 1.0 +3.0 4.0 3.0 +4.0 7.0 3.5 +4.0 7.5 4.0 +4.0 8.0 5.0 +4.0 9.0

int’l fixed income 7.0 -2.0 5.0 6.0 -2.5 3.5 6.0 -3.0 3.0 7.0 -3.0 4.0 7.0 -3.0 4.0

Int’l developed Markets 6.0 -2.0 4.0 4.0 -2.0 2.0 3.0 -2.0 1.0 3.0 -2.0 1.0 2.0 -2.0 0.0

Emerging Markets 1.0 +0.0 1.0 2.0 -0.5 1.5 3.0 -1.0 2.0 4.0 -1.0 3.0 5.0 -1.0 4.0

Equity 16.0 +2.0 18.0 27.0 +3.0 30.0 34.5 +3.5 38.0 45.0 +3.5 48.5 55.0 +3.5 58.5

US Equity 9.0 +1.5 10.5 15.0 +2.0 17.0 20.0 +2.5 22.5 26.0 +2.5 28.5 31.0 +2.5 33.5

US large cap Growth 2.5 +0.5 3.0 4.5 +1.0 5.5 6.0 +1.0 7.0 8.0 +1.0 9.0 9.5 +1.0 10.5

US large cap Value 2.5 -1.0 1.5 4.5 -1.5 3.0 6.0 -2.0 4.0 8.0 -2.0 6.0 9.5 -2.0 7.5

us mid cap 3.0 +1.0 4.0 4.0 +1.0 5.0 5.0 +1.5 6.5 7.0 +1.5 8.5 8.0 +1.5 9.5

US Small cap 1.0 +1.0 2.0 2.0 +1.5 3.5 3.0 +2.0 5.0 3.0 +2.0 5.0 4.0 +2.0 6.0

International Equity 7.0 +0.5 7.5 12.0 +1.0 13.0 14.5 +1.0 15.5 19.0 +1.0 20.0 24.0 +1.0 25.0

Int’l developed Markets 4.0 +0.5 4.5 7.0 +1.0 8.0 8.5 +1.0 9.5 11.0 +1.0 12.0 14.0 +1.0 15.0

Emerging Markets 3.0 +0.0 3.0 5.0 +0.0 5.0 6.0 +0.0 6.0 8.0 +0.0 8.0 10.0 +0.0 10.0

commodities 4.0 +0.0 4.0 4.0 +0.0 4.0 4.0 +0.0 4.0 5.0 +0.0 5.0 5.0 +0.0 5.0

non-traditional 11.0 +0.0 11.0 12.0 +0.0 12.0 15.0 +0.0 15.0 9.0 +0.0 9.0 7.0 +0.0 7.0

Hedge Funds 11.0 +0.0 11.0 12.0 +0.0 12.0 10.0 +0.0 10.0 3.0 +0.0 3.0 0.0 +0.0 0.0

Private Equity 0.0 +0.0 0.0 0.0 +0.0 0.0 5.0 +0.0 5.0 6.0 +0.0 6.0 7.0 +0.0 7.0

Private Real Estate 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0

“WMR tactical deviation” legend: Overweight Underweight Neutral “Change” legend: p Upgrade q downgrade *Refers to moderate-risk profile. 1The current allocation column is the sum of the strategic asset allocation and the tactical deviation column.

Detailed asset allocation taxable with non-traditional assets

Source: UBS CIO WMR and WMA AAC, 24 July 2014. See appendix for information regarding sources of strategic asset allocations and their suitability, investor risk profiles, and the interpretation of the suggested tactical deviations from the strategic asset allocations.





aggressive

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cash 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0

fixed income 80.0 -2.0 78.0 66.0 -3.0 63.0 54.5 -3.5 51.0 44.0 -3.5 40.5 33.0 -3.5 29.5

us fixed income 72.0 +0.0 72.0 58.0 +0.5 58.5 47.0 -0.5 46.5 36.0 -0.5 35.5 26.0 -0.5 25.5

US Gov’t 8.0 -2.0 6.0 7.0 -2.5 4.5 5.0 -3.0 2.0 3.0 -3.0 0.0 2.0 -2.0 0.0

US Municipal 58.0 -1.5 56.5 45.0 -1.5 43.5 35.0 -1.0 34.0 26.0 -1.0 25.0 16.0 -1.5 14.5

US IG Corp 4.0 +0.5 4.5 3.0 +0.5 3.5 3.0 -0.5 2.5 2.0 -0.5 1.5 1.0 -1.0 0.0

US HY Corp 2.0 +3.0 5.0 3.0 +4.0 7.0 4.0 +4.0 8.0 5.0 +4.0 9.0 7.0 +4.0 11.0



Emerging Markets 2.0 +0.0 2.0 3.0 -0.5 2.5 3.5 -1.0 2.5 5.0 -1.0 4.0 5.0 -1.0 4.0

Equity 16.0 +2.0 18.0 30.0 +3.0 33.0 40.5 +3.5 44.0 51.0 +3.5 54.5 62.0 +3.5 65.5

US Equity 9.0 +1.5 10.5 18.0 +2.0 20.0 23.0 +2.5 25.5 29.0 +2.5 31.5 36.0 +2.5 38.5



us mid cap 2.0 +1.0 3.0 5.0 +1.0 6.0 6.0 +1.5 7.5 7.0 +1.5 8.5 9.0 +1.5 10.5

US Small cap 1.0 +1.0 2.0 3.0 +1.5 4.5 3.0 +2.0 5.0 4.0 +2.0 6.0 5.0 +2.0 7.0




commodities 4.0 +0.0 4.0 4.0 +0.0 4.0 5.0 +0.0 5.0 5.0 +0.0 5.0 5.0 +0.0 5.0




Detailed asset allocationtaxable without non-traditional assets







aggressive

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cash 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0

fixed income 68.0 -2.0 66.0 56.0 -3.0 53.0 46.5 -3.5 43.0 39.0 -3.5 35.5 33.0 -3.5 29.5

us fixed income 60.0 +0.5 60.5 49.0 +0.0 49.0 40.0 -0.5 39.5 32.5 -0.5 32.0 26.0 -0.5 25.5

US Gov’t 47.0 -3.5 43.5 36.0 -5.0 31.0 28.0 -6.0 22.0 19.5 -6.0 13.5 13.0 -6.0 7.0

US Municipal 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0

US IG Corp 9.0 +1.0 10.0 7.0 +1.0 8.0 5.0 +1.0 6.0 4.0 +1.0 5.0 2.0 +1.0 3.0

US HY Corp 4.0 +3.0 7.0 6.0 +4.0 10.0 7.0 +4.5 11.5 9.0 +4.5 13.5 11.0 +4.5 15.5



Emerging Markets 2.0 -0.5 1.5 3.0 -1.0 2.0 3.0 -1.0 2.0 4.0 -1.0 3.0 5.0 -1.0 4.0

Equity 17.0 +2.0 19.0 28.0 +3.0 31.0 34.5 +3.5 38.0 42.0 +3.5 45.5 53.0 +3.5 56.5

US Equity 10.0 +1.5 11.5 16.0 +2.0 18.0 20.5 +2.5 23.0 24.0 +2.5 26.5 31.0 +2.5 33.5



us mid cap 2.5 +1.0 3.5 4.0 +1.0 5.0 5.5 +1.5 7.0 6.0 +1.5 7.5 8.0 +1.5 9.5

US Small cap 1.5 +1.0 2.5 2.0 +1.5 3.5 3.0 +2.0 5.0 3.0 +2.0 5.0 4.0 +2.0 6.0




commodities 4.0 +0.0 4.0 4.0 +0.0 4.0 4.0 +0.0 4.0 5.0 +0.0 5.0 5.0 +0.0 5.0

non-traditional 11.0 +0.0 11.0 12.0 +0.0 12.0 15.0 +0.0 15.0 14.0 +0.0 14.0 9.0 +0.0 9.0

Hedge Funds 11.0 +0.0 11.0 12.0 +0.0 12.0 10.0 +0.0 10.0 8.0 +0.0 8.0 3.0 +0.0 3.0

Private Equity 0.0 +0.0 0.0 0.0 +0.0 0.0 5.0 +0.0 5.0 6.0 +0.0 6.0 6.0 +0.0 6.0

Private Real Estate 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0


Detailed asset allocation non-taxable with non-traditional assets



Detailed asset allocation non-taxable without non-traditional assets





aggressive

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cash 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0

fixed income 78.0 -2.0 76.0 65.0 -3.0 62.0 55.0 -3.5 51.5 46.0 -3.5 42.5 36.0 -3.5 32.5

us fixed income 69.0 +0.5 69.5 57.0 +1.0 58.0 47.0 -0.5 46.5 38.0 -0.5 37.5 29.0 -0.5 28.5

US Gov’t 55.0 -3.5 51.5 42.0 -5.0 37.0 32.0 -6.0 26.0 23.0 -6.0 17.0 13.0 -6.0 7.0

US Municipal 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0 0.0 +0.0 0.0

US IG Corp 10.0 +1.0 11.0 8.0 +2.0 10.0 6.0 +1.0 7.0 4.0 +1.0 5.0 3.0 +1.0 4.0

US HY Corp 4.0 +3.0 7.0 7.0 +4.0 11.0 9.0 +4.5 13.5 11.0 +4.5 15.5 13.0 +4.5 17.5



Emerging Markets 2.0 -0.5 1.5 3.0 -1.0 2.0 4.0 -1.0 3.0 5.0 -1.0 4.0 5.0 -1.0 4.0

Equity 18.0 +2.0 20.0 31.0 +3.0 34.0 41.0 +3.5 44.5 50.0 +3.5 53.5 59.0 +3.5 62.5

US Equity 10.0 +1.5 11.5 18.0 +2.0 20.0 23.0 +2.5 25.5 28.0 +2.5 30.5 33.0 +2.5 35.5



us mid cap 3.0 +1.0 4.0 5.0 +1.0 6.0 6.0 +1.5 7.5 7.0 +1.5 8.5 9.0 +1.5 10.5

US Small cap 1.0 +1.0 2.0 2.0 +1.5 3.5 3.0 +2.0 5.0 4.0 +2.0 6.0 4.0 +2.0 6.0




commodities 4.0 +0.0 4.0 4.0 +0.0 4.0 4.0 +0.0 4.0 4.0 +0.0 4.0 5.0 +0.0 5.0




In order to create the analysis shown, the rates of return for each asset class are combined in the same proportion as the asset allocations illustrated (e.g., if the asset allocation indi-cates 40% equities, then 40% of the results shown for the allocation will be based upon the estimated hypothetical re-turn and standard deviation assumptions shown below).

You should understand that the analysis shown and assump-tions used are hypothetical estimates provided for your gen-eral information. The results are not guarantees and pertain to the asset allocation and/or asset class in general, not the performance of specific securities or investments. Your actual results may vary significantly from the results shown in this report, as can the performance of any individual security or investment.

Portfolio AnalyticsThe portfolio analytics shown for each risk profile’s bench-mark allocations are based on estimated forward-looking return and standard deviation assumptions (capital market assumptions), which are based on UBS proprietary research. The development process includes a review of a variety of factors, including the return, risk, correlations and historical performance of various asset classes, inflation and risk pre-mium. These capital market assumptions do not assume any particular investment time horizon. The process assumes a situation where the supply and demand for investments is in balance, and in which expected returns of all asset classes are a reflection of their expected risk and correlations regardless of time frame. Please note that these assumptions are not guarantees and are subject to change. UBS has changed its risk and return assumptions in the past and may do so in the future. Neither UBS nor your Financial Advisor is required to provide you with an updated analysis based upon changes to these or other underlying assumptions.

Risk Profile ==>> conservative

moderately conservative

moderate

moderately aggressive

aggressive

Taxable with non-traditional assets

Estimated Return 4.4% 5.1% 5.9% 6.4% 7.0%

Estimated Risk 5.6% 7.4% 9.6% 11.5% 13.5%

Taxable without non-traditional assets


Estimated Risk 5.4% 7.5% 9.5% 11.5% 13.5%

Non-taxable with non-traditional assets


Estimated Risk 5.5% 7.4% 9.5% 11.4% 13.4%

Non-taxable without non-traditional assets


Estimated Risk 5.4% 7.5% 9.5% 11.4% 13.5%

Asset Class Capital Market Assumptions

Annual total return Annual risk

us Cash 2.5% 0.5%

US Government Fixed Income 2.2% 4.3%

US Municipal Fixed Income 2.9% 4.7%

US Corporate Investment Grade Fixed Income 3.5% 5.9%

US Corporate High Yield Fixed Income 5.6% 11.7%

International developed Markets Fixed Income 4.0% 9.0%

Emerging Markets Fixed Income 4.9% 9.1%

US large Cap Equity 7.5% 16.8%

US Mid Cap Equity 8.4% 19.6%

US Small Cap Equity 8.6% 21.8%

International developed Markets Equity 8.5% 19.7%

Emerging Markets Equity 10.0% 25.5%

Commodities 6.4% 18.9%

Hedge Funds 6.2% 6.7%

Private Equity 11.8% 24.4%

Private Real Estate 8.5% 11.8%


Additional Asset Allocation ModelsUS Taxable Fixed Income Allocation, in %

Benchmark CIO WMR Tactical deviation2 Current allocation3

allocation1 previous Current

Treasuries 25.0 -4.0 -4.0 21.0

Treasury Inflation Protected Securities (TIPS) 19.0 -4.0 -4.0 15.0

Agencies 11.0 -2.0 -2.0 9.0

Agency Mortgage-Backed Securities 13.0 0.0 0.0 13.0

Investment Grade Corporates 13.0 0.0 2.0 15.0

High-Yield Corporates 14.0 6.0 6.0 20.0

Preferred Securities 5.0 4.0 2.0 7.0

International Developed Markets (Non-US) Equity Module, in %

Benchmark CIO WMR Tactical deviation2 Current allocation3


EMU / Eurozone 28.0 +10.0 +5.0 33.0

uK 20.0 -10.0 -10.0 10.0

Japan 19.0 +0.0 +0.0 19.0

Australia 7.0 +0.0 +0.0 7.0

Canada 9.0 +0.0 +5.0 14.0

Switzerland 8.0 +0.0 +0.0 8.0

Other 9.0 +0.0 +0.0 9.0

Source: UBS CIO WMR, as of 24 July 2014

International Developed Markets (Non-US) Fixed Income Module, in %

Benchmark WMR Tactical deviation2 Current allocation3


EMU / Eurozone 42.0 -10.0 -10.0 32.0

uK 9.0 +15.0 +15.0 24.0

Japan 32.0 +0.0 +0.0 32.0

Other 17.0 -5.0 -5.0 12.0


1 The benchmark allocation refers to a moderate risk profile. For the second and third tables on this page, it represents the relative market capitalization weights of each country or region. 2 See “deviations from strategic asset allocation or benchmark allocation” in the appendix for an explanation regarding the interpretation of the suggested tactical deviations from benchmark. The

“current” column refers to the tactical deviation that applies as of the date of this publication. The “previous” column refers to the tactical deviation that was in place at the date of the previous edition of the Investment Strategy Guide or the last Investment Strategy Guide Update.

3 The current allocation column is the sum of the benchmark allocation and the tactical deviation columns.





Additional Asset Allocation ModelsUS Equity Industry Group Allocation, in %

s&p 500 cio wmr tactical deviation2 CurrentBenchmark Numeric symbol allocation3

allocation1 Previous Current Previous Current

Consumer Discretionary 11.8 -1.0 -1.0 – – 10.8

Auto & Components 1.2 +0.0 +0.0 n n 1.2

Consumer Services 1.3 +0.0 +0.0 n n 1.3

media 1.7 -1.0 -1.0 – – 0.7

Retailing 3.6 +0.0 +0.0 n n 3.6

Consumer, durables & Apparel 4.0 +0.0 +0.0 n n 4.0

Consumer Staples 9.4 -2.0 -2.0 – – – – 7.4

Food, Beverage & Tobacco 5.1 -0.5 -0.5 – – 4.6

Food & Staples Retailing 2.3 -1.0 -1.0 – – 1.3

Household & Personal Products 2.0 -0.5 -0.5 – – 1.5

energy 10.8 +0.0 +0.0 n n 10.8

financials 16.0 +1.0 +1.0 + + 17.0

Banks 5.9 +0.5 +0.5 + + 6.4

diversified Financials 5.0 +1.0 +1.0 + + 6.0

Insurance 2.8 +0.5 +0.5 + + 3.3

Real Estate 2.2 -1.0 -1.0 – – 1.2

healthcare 13.4 +0.0 +0.0 n n 13.4

HC Equipment & Services 4.3 +0.0 +0.0 n n 4.3

Pharmaceuticals & Biotechnology 9.1 +0.0 +0.0 n n 9.1

Industrials 10.4 +2.0 +2.0 ++ ++ 12.4

Capital Goods 7.6 +1.0 +1.0 + + 8.6

Commercial Services & Supplies 0.7 +0.0 +0.0 n n 0.7

Transportation 2.1 +1.0 +1.0 + + 3.1

information technology 19.3 +2.5 +2.5 +++ +++ 21.8

Software & Services 10.2 +1.0 +1.0 + + 11.2

Technology Hardware & Equipment 6.7 +1.0 +1.0 + + 7.7

Semiconductors 2.4 +0.5 +0.5 + + 2.9

materials 3.5 +0.0 +0.0 n n 3.5

telecom 2.4 +0.0 +0.0 n n 2.4

utilities 3.0 -2.5 -2.5 – – – – – – 0.5

Source: S&P, UBS CIO WMR, as of 24 July 2014The benchmark allocation, as well as the tactical deviations, are intended to be applicable to the US equity portion of a portfolio across investor risk profiles.1 The benchmark allocation is based on S&P 500 weights.2 See “deviations from Benchmark Allocations” in the appendix for an explanation regarding the interpretation of the suggested tactical deviations from benchmark. The “current” column refers to

the tactical deviation that applies as of the date of this publication. The “previous” column refers to the tactical deviation that was in place at the date of the previous edition of the Investment Strategy Guide or the last Investment Strategy Guide Update.

3 The current allocation column is the sum of the S&P 500 benchmark allocation and the CIO WMR tactical deviation columns.


The performance calculations shown in Table A commence on 25 January 2013, the first date upon which the Investment Strategy Guide was published following the release of the new UBS WMA strategic asset allocation (SAA) models. The performance is based on the SAA without non-traditional as-sets for a moderate risk profile investor, and the SAA with the tactical shift (see detailed asset allocation tables where the SAA with the tactical shift is referred to as “current alloca-tion”). Performance is calculated utilizing the returns of the indices identified in Table B as applied to the respective allo-cations in the SAA and the SAA with the tactical shift. For ex-ample, if US Mid Cap Equity is allocated 10% in the SAA and 12% in the SAA with the tactical shift, the US Mid Cap Equity index respectively contributed to 10% and 12% of the results shown. Prior to 25 January 2013, CIO WMR published tactical asset allocation recommendations in the Investment Strategy Guide using a different set of asset classes and sectors. The performance of these tactical recommendations is reflected in Table C.

The performance attributable to the CIO WMR tactical devia-tions is reflected in the column in Tables A and C labeled “Excess return,” which shows the difference between the performance of the SAA and the performance of the SAA with the tactical shift. The “Information ratio” is a risk- adjusted performance measure, which adjusts the excess returns for the tracking error risk of the tactical deviations.

Tactical Asset Allocation Performance Measurement

Specifically the information ratio is calculated as the ratio of the annualized excess return over a given time period and the annualized standard deviation of daily excess returns over the same period. Additional background information regarding the computation of the information ratio figures provided be-low are available upon request.

The calculations assume that the portfolios are rebalanced whenever changes are made to tactical deviations, typically upon publication of the Investment Strategy Guide on a monthly basis. Occasionally, changes in the tactical deviations are made intra-month when warranted by market conditions and communicated through an Investment Strategy Guide Update. The computations assume portfolio rebalancing upon such intra-month changes as well. Performance shown is based on total returns, but does not include transaction costs, such as commissions, fees, margin interest, and interest charges. Actual total returns adjusted for such transaction costs will be reduced. A complete record of all the recom-mendations upon which this performance report is based is available from UBS Financial Services Inc. upon written re-quest. Past performance is not an indication of future results.

Table A: Moderate Risk Profile Performance Measurement (25 January 2013 to present)

SAA SAA withtactical shift

Excessreturn

Information ratio

(annualized)

Russell 3000stock index

(total return)

Barclays CapitalUS Aggregate bondindex (total return)

25 January 2013 to 31 March 2013 0.79% 0.83% 0.04% +0.9 5.59% 0.11%

31 March 2013 to 28 June 2013 -2.18% -2.14% 0.04% +0.3 2.69% -2.33%

28 June 2013 to 30 September 2013 3.60% 3.86% 0.26% +2.4 6.35% 0.57%

30 September 2013 to 31 december 2013 3.05% 3.23% 0.18% +2.9 10.10% -0.14%

31 december 2013 to 31 March 2014 2.56% 2.50% -0.06% -0.3 1.97% 1.84%

31 March 2014 to 30 June 2014 3.44% 3.53% 0.08% +0.5 4.87% 2.04%

30 June 2014 to 23 July 2014 0.16% 0.05% -0.11% -2.7 0.86% 0.13%

Since inception (25 January 2013) 11.84% 12.32% 0.48% +0.6 36.94% 2.19%

Source: CIO WMR, as of 23 July 2014

PerformAnCe meAsurement



Table B: SAA for moderate risk profile investor, and underlying indices (all figures in %)

25 Jan 2013 to present

US large Cap Growth (Russell 1000 Growth) 7.0

US large Cap Value (Russell 1000 Value) 7.0

US Mid Cap (Russell Mid Cap) 6.0

US Small Cap (Russell 2000) 3.0

International dev. Eq (MSCI EAFE) 10.0

Emerging Markets Eq. (MSCI EMF) 7.5

US Government Fixed Income (BarCap US Agg Government) 5.0

US Municipal Fixed Income (BarCap Municipal Bond) 35.0

US Investment Grade Fixed Income (BarCap US Agg Credit) 3.0

US Corporate High Yield Fixed Income (BarCap US Agg Corp HY) 4.0

International dev. Fixed Income (BarCap Global Agg xUS) 4.0

Emerging Markets Fixed Income (50% BarCap EM Gov and 50% BarCap Global EM (USd)) 3.5

Commodities (dow Jones-UBS Commodity Index) 5.0

Source: CIO WMR

The performance calculations shown in Table C, which start on 25 August 2008 and end on 24 January 2013, have been provided for historical information purposes only. They are based on prior SAAs (referred to as benchmark allocations) with non-traditional assets for a moderate risk profile investor, and on prior SAAs with tactical shifts as published in the Investment Strategy Guide during the same time period. Performance is calculated utilizing the returns of the indices identified in Table D as applied to the respective allocations in the SAA and the SAA with the tactical shift. See the discus-sion in connection with Table A, previous page, regarding the meanings of the “Excess return” and “Information ratio” col-umns and how the “Information ratio” column is calculated.

Tactical Asset Allocation Performance Measurement

From 25 August 2008 through 27 May 2009, the Investment Strategy Guide had at times published a more detailed set of tactical deviations, whereby the categories “Non-US Developed Equities” and “Non-US Fixed Income” were fur-ther subdivided into regional blocks. Only the cumulative rec-ommendations at the level of “Non-US Developed Equities” and “Non-US Fixed Income” were taken into account in cal-culating the performance shown in Table C opposite. Prior to 25 August 2008, WMR published tactical asset allocation rec-ommendations in the “US Asset Allocation Strategist” using a less comprehensive set of asset classes and sectors, which makes a comparison with the subsequent models difficult.


Tactical Asset Allocation Performance MeasurementTable C: Moderate Risk Profile Performance Measurement (25 August 2008 to 24 January 2013)

Benchmark Allocations (SAA)

Benchmark Allocation (SAA)

with tactical shift

Excessreturn

Information ratio(annualized)

Russell 3000stock index

(total return)

Barclays CapitalUS Aggregate bondindex (total return)

25 Aug 08 to 31 dec 08 -16.59% -15.64% 0.96% +2.0 -29.00% 3.33%

2009 Q1 -5.52% -5.45% 0.07% +0.3 -10.80% 0.12%

2009 Q2 11.18% 11.37% 0.18% +1.0 16.82% 1.78%

2009 Q3 10.44% 11.07% 0.63% +2.1 16.31% 3.74%

2009 Q4 2.99% 3.30% 0.31% +1.1 5.90% 0.20%

2010 Q1 2.74% 2.56% -0.18% -0.9 5.94% 1.78%

2010 Q2 -4.56% -4.87% -0.31% -1.4 -11.32% 3.49%

2010 Q3 8.34% 7.99% -0.35% -2.1 11.53% 2.48%

2010 Q4 5.18% 5.17% -0.01% -0.1 11.59% -1.30%

2011 Q1 3.23% 3.15% -0.08% -0.4 6.38% 0.42%

2011 Q2 0.62% 0.47% -0.16% -0.9 -0.03% 2.29%

2011 Q3 -7.65% -8.56% -0.90% -2.5 -15.28% 3.82%

2011 Q4 4.66% 4.39% -0.27% -0.8 12.12% 1.12%

2012 Q1 5.89% 5.41% -0.48% -2.3 12.87% 0.30%

2012 Q2 -1.59% -1.57% 0.02% +0.2 -3.15% 2.06%

2012 Q3 4.18% 4.08% -0.10% -1.1 6.23% 1.59%

2012 Q4 0.69% 0.65% -0.04% -0.7 0.25% 0.21%

01 Jan 13 to 24 Jan 13 2.17% 2.20% 0.03% +2.5 5.19% -0.23%

Since inception 24.86% 24.10% -0.76% -0.1 31.81% 30.76%

Source: CIO WMR

Table D: SAAs for moderate risk profile investor, and underlying indices (all figures in %)

25 Aug 2008 to 23 Feb 2009 24 Feb 2009 to 24 Jan 2013

US large Cap Value (Russell 1000 Value) 12.5 US large Cap Value (Russell 1000 Value) 11.0

US large Cap Growth (Russell 1000 Growth) 12.5 US large Cap Growth (Russell 1000 Growth) 11.0

US Small Cap Value (Russell 2000 Value) 2.0 US Mid Cap (Russell Midcap) 5.0

US Small Cap Growth (Russell 2000 Growth) 2.0 US Small Cap (Russell 2000) 3.0

US REITs (FTSE NAREIT All REITs) 1.5 US REITs (FTSE NAREIT All REITs) 2.0

Non-US dev. Eq (MSCI Gross World ex-US) 10.5 developed Markets (MSCI Gross World ex-US) 10.0

Emerging Markets Eq. (MSCI Gross EM USd) 2.0 Emerging Markets (MSCI Gross EM USd) 2.0

US Fixed Income (BarCap US Aggregate) 30.0 US Fixed Income (BarCap US Aggregate) 29.0

Non-US Fixed Income (BarCap Global Aggregate ex-USd) 8.0 Non-US Fixed Income (BarCap Global Aggregate ex-USd) 8.0

Cash (JP Morgan Cash Index USd 1 month) 2.0 Cash (JP Morgan Cash Index USd 1 month) 2.0

Commodities (dJ UBS total return index) 5.0 Commodities (dJ UBS total return index) 5.0

Alternative Investments (HFRx Equal Weighted Strategies) 12.0 Alternative Investments (HFRx Equal Weighted Strategies) 12.0

Source: CIO WMR



APPENdIx

Global Investment Process and Committee DescriptionThe UBS investment process is designed to achieve replica-ble, high quality results through applying intellectual rigor, strong process governance, clear responsibility and a culture of challenge.

Based on the analyses and assessments conducted and vet-ted throughout the investment process, the Chief Investment Officer (CIO) formulates the UBS Wealth Management Investment House View (e.g., overweight, neutral, under-weight stance for asset classes and market segments rela-tive to their benchmark allocation) at the Global Investment Committee (GIC). Senior investment professionals from across UBS, complemented by selected external experts, debate and rigorously challenge the investment strategy to ensure consistency and risk control.

Global Investment Committee CompositionThe GIC is comprised of 13 members, representing top mar-ket and investment expertise from across all divisions of UBS:

• Mark Haefele (Chair)• Mark Andersen• Andreas Höfert• Jorge Mariscal• Mads Pedersen• Mike Ryan• Simon Smiles• Tan Min Lan• Themis Themistocleus• Larry Hatheway (*)• Bruno Marxer (*)• Curt Custard (*)• Andreas Koester (*)(*) Business areas distinct from Chief Investment Office/Wealth Management Research

Investment CommitteeWMA Asset Allocation Committee DescriptionWe recognize that a globally derived house view is most ef-fective when complemented by local perspective and applica-tion. As such, UBS has formed a Wealth Management Americas Asset Allocation Committee (WMA AAC). WMA AAC is responsible for the development and monitoring of UBS WMA’s strategic asset allocation models and capital mar-ket assumptions. The WMA AAC sets parameters for the CIO WMR Americas Investment Strategy Group to follow during the translation process of the GIC’s House Views and the in-corporation of US-specific asset class views into the US-specific tactical asset allocation models.

WMA Asset Allocation Committee CompositionThe WMA Asset Allocation Committee is comprised of six members:

• Mike Ryan • Michael Crook • Stephen Freedman • Richard Hollmann (*)• Brian Nick • Jeremy Zirin(*) Business areas distinct from Chief Investment Office/Wealth Management Research


Sources of strategic asset allocations and investor risk profilesStrategic asset allocations represent the longer-term allocation of assets that is deemed suitable for a particular investor. The strategic asset alloca-tion models discussed in this publication, and the capital market assump-tions used for the strategic asset allocations, were developed and ap-proved by the WMA AAC.

The strategic asset allocations are provided for illustrative purposes only and were designed by the WMA AAC for hypothetical US investors with a total return objective under five different Investor Risk Profiles ranging from conservative to aggressive. In general, strategic asset allocations will differ among investors according to their individual circumstances, risk tolerance, return objectives and time horizon. Therefore, the strategic as-set allocations in this publication may not be suitable for all investors or investment goals and should not be used as the sole basis of any invest-ment decision. Minimum net worth requirements may apply to alloca-tions to non-traditional assets. As always, please consult your UBS Finan-cial Advisor to see how these weightings should be applied or modified according to your individual profile and investment goals.

The process by which the strategic asset allocations were derived is de-scribed in detail in the publication entitled “UBS WMA’s Capital Markets Model: Explained, Part II: Methodology,” published on 22 January 2013. Your Financial Advisor can provide you with a copy.

Explanations about Asset ClassesDeviations from strategic asset allocation or benchmark allocationThe recommended tactical deviations from the strategic asset allocation or benchmark allocation are provided by the Global Investment Commit-tee and the Investment Strategy Group within Wealth Management Re-search Americas. They reflect the short- to medium-term assessment of market opportunities and risks in the respective asset classes and market segments. Positive / zero / negative tactical deviations correspond to an overweight / neutral / underweight stance for each respective asset class and market segment relative to their strategic allocation. The current al-location is the sum of the strategic asset allocation and the tactical devia-tion.

Note that the regional allocations on the International Equities page are provided on an unhedged basis (i.e., it is assumed that investors carry the underlying currency risk of such investments). Thus, the deviations from the strategic asset allocation reflect the views of the underlying equity and bond markets in combination with the assessment of the associated currencies. The detailed asset allocation tables integrate the country pref-erences within each asset class with the asset class preferences stated earlier in the report.

Scale for tactical deviation charts

Symbol Description/Definition Symbol Description/Definition Symbol Description/Definition

+ moderate overweight vs. benchmark – moderate underweight vs. benchmark n neutral, i.e., on benchmark

++ overweight vs. benchmark – – underweight vs. benchmark n/a not applicable

+++ strong overweight vs. benchmark – – – strong underweight vs. benchmark

Source: CIO WM Research

APPENdIx


APPENdIx

nontraditional AssetsNontraditional asset classes are alternative investments that in-clude hedge funds, private equity, real estate, and managed fu-tures (collectively, alternative investments). Interests of alternative investment funds are sold only to qualified investors, and only by means of offering documents that include information about the risks, perfor-mance and expenses of alternative investment funds, and which clients are urged to read carefully before subscribing and retain. An investment in an alternative investment fund is speculative and involves significant risks. Specifically, these investments (1) are not mutual funds and are not subject to the same regulatory requirements as mutual funds; (2) may have performance that is volatile, and investors may lose all or a substan-tial amount of their investment; (3) may engage in leverage and other speculative investment practices that may increase the risk of investment loss; (4) are long-term, illiquid investments; there is generally no second-ary market for the interests of a fund, and none is expected to develop; (5) interests of alternative investment funds typically will be illiquid and subject to restrictions on transfer; (6) may not be required to provide pe-riodic pricing or valuation information to investors; (7) generally involve complex tax strategies and there may be delays in distributing tax infor-mation to investors; (8) are subject to high fees, including management fees and other fees and expenses, all of which will reduce profits.

Interests in alternative investment funds are not deposits or obligations of, or guaranteed or endorsed by, any bank or other insured depository institution, and are not federally insured by the Federal Deposit Insurance Corporation, the Federal Reserve Board, or any other governmental agen-cy. Prospective investors should understand these risks and have the

AppendixEmerging Market InvestmentsInvestors should be aware that Emerging Market assets are subject to, among others, potential risks linked to currency volatility, abrupt changes in the cost of capital and the economic growth outlook, as well as regula-tory and sociopolitical risk, interest rate risk and higher credit risk. Assets can sometimes be very illiquid and liquidity conditions can abruptly wors-en. WMR generally recommends only those securities it believes have been registered under Federal US registration rules (Section 12 of the Se-curities Exchange Act of 1934) and individual State registration rules (commonly known as “Blue Sky” laws). Prospective investors should be aware that to the extent permitted under US law, WMR may from time to time recommend bonds that are not registered under US or State securi-ties laws. These bonds may be issued in jurisdictions where the level of required disclosures to be made by issuers is not as frequent or complete as that required by US laws.

For more background on emerging markets generally, see the WMR Edu-cation Notes “Investing in Emerging Markets (Part 1): Equities,” 27 Au-gust 2007, “Emerging Market Bonds: Understanding Emerging Market Bonds,” 12 August 2009 and “Emerging Markets Bonds: Understanding Sovereign Risk,” 17 December 2009.

Investors interested in holding bonds for a longer period are advised to select the bonds of those sovereigns with the highest credit ratings (in the investment grade band). Such an approach should decrease the risk that an investor could end up holding bonds on which the sovereign has de-faulted. Subinvestment grade bonds are recommended only for clients with a higher risk tolerance and who seek to hold higher-yielding bonds for shorter periods only.

financial ability and willingness to accept them for an extended period of time before making an investment in an alternative investment fund and should consider an alternative investment fund as a supplement to an overall investment program.

In addition to the risks that apply to alternative investments generally, the following are additional risks related to an investment in these strategies:

• Hedge Fund Risk: There are risks specifically associated with investing in hedge funds, which may include risks associated with investing in short sales, options, small-cap stocks, “junk bonds,” derivatives, distressed securities, non-US securities and illiquid investments.

• Managed Futures: There are risks specifically associated with investing in managed futures programs. For example, not all managers focus on all strategies at all times, and managed futures strategies may have mate-rial directional elements.

• Real Estate: There are risks specifically associated with investing in real estate products and real estate investment trusts. They involve risks as-sociated with debt, adverse changes in general economic or local mar-ket conditions, changes in governmental, tax, real estate and zoning laws or regulations, risks associated with capital calls and, for some real estate products, the risks associated with the ability to qualify for favor-able treatment under the federal tax laws.

• Private Equity: There are risks specifically associated with investing in private equity. Capital calls can be made on short notice, and the failure to meet capital calls can result in significant adverse consequences in-cluding, but not limited to, a total loss of investment.

• Foreign Exchange/Currency Risk: Investors in securities of issuers located outside of the United States should be aware that even for securities denominated in US dollars, changes in the exchange rate between the US dollar and the issuer’s “home” currency can have unexpected effects on the market value and liquidity of those securities. Those securities may also be affected by other risks (such as political, economic or regula-tory changes) that may not be readily known to a US investor.


Chief Investment Office (CIO) Wealth Management (WM) Research is published by UBS Wealth Management and UBS Wealth Management Americas, Business Divisions of UBS AG (UBS) or an affiliate thereof. CIO WM Research reports published outside the US are branded as Chief Investment Office WM. In certain countries UBS AG is referred to as UBS SA. This publication is for your information only and is not intended as an offer, or a solicitation of an offer, to buy or sell any investment or other specific product. The analysis contained herein does not constitute a personal recommendation or take into account the particular investment objectives, investment strategies, financial situation and needs of any specific recipient. It is based on numerous assumptions. Different assumptions could result in materially different results. We recommend that you obtain financial and/or tax advice as to the implications (including tax) of investing in the manner described or in any of the products mentioned herein. Certain services and products are subject to legal restrictions and cannot be offered worldwide on an unrestricted basis and/or may not be eligible for sale to all investors. All information and opinions expressed in this document were obtained from sources believed to be reliable and in good faith, but no representation or warranty, express or implied, is made as to its accuracy or completeness (other than disclosures relating to UBS and its affiliates). All information and opinions as well as any prices indicated are current only as of the date of this report, and are subject to change without notice. Opinions expressed herein may differ or be contrary to those expressed by other business areas or divisions of UBS as a result of using different assumptions and/or criteria. At any time, investment decisions (including whether to buy, sell or hold securities) made by UBS AG, its affiliates, subsidiaries and employees may differ from or be contrary to the opinions expressed in UBS research publications. Some investments may not be readily realizable since the market in the securities is illiquid and therefore valuing the investment and identifying the risk to which you are exposed may be difficult to quantify. UBS relies on information barriers to control the flow of information contained in one or more areas within UBS, into other areas, units, divisions or affiliates of UBS. Futures and options trading is considered risky. Past performance of an investment is no guarantee for its future performance. Some investments may be subject to sudden and large falls in value and on realization you may receive back less than you invested or may be required to pay more. Changes in FX rates may have an adverse effect on the price, value or income of an investment. This report is for distribution only under such circumstances as may be permitted by applicable law.

Distributed to US persons by UBS Financial Services Inc., a subsidiary of UBS AG. UBS Securities LLC is a subsidiary of UBS AG and an affiliate of UBS Financial Services Inc. UBS Financial Services Inc. accepts responsibility for the content of a report prepared by a non-US affiliate when it distributes reports to US persons. All transactions by a US person in the securities mentioned in this report should be effected through a US-registered broker dealer affiliated with UBS, and not through a non-US affiliate. The contents of this report have not been and will not be approved by any securities or investment authority in the United States or elsewhere.

UBS specifically prohibits the redistribution or reproduction of this material in whole or in part without the prior written permission of UBS and UBS accepts no liability whatsoever for the actions of third parties in this respect.

Version as per May 2014.

© UBS 2014. The key symbol and UBS are among the registered and unregistered trademarks of UBS. All rights reserved.

Disclaimer

APPENdIx


Publication details

PublisherUBS Financial Services Inc.

Wealth Management Research

1285 Avenue of the Americas, 20th Floor

New York, NY 10019

This report was published

on 25 July 2014.

Lead authors Mark HaefeleMike RyanJeremy Zirin

Authors (in alphabetical order)Manish BangardThomas BernerJerry BrimeyerLeslie FalconioAndrea FisherThomas FluryStephen FreedmanRicardo GarciaPatrick HoMarkus IrngartingerKatie KlingensmithDavid LefkowitzBarry McAlindenThomas McLoughlinKathleen McNamaraAchim PeijanJames RhodesBrian RoseCarsten SchlufterDominic SchniderPhilipp SchoettlerGiovanni StaunovoGary TsangThomas VeraguthThomas WackerJonathan WoloshinHenry WongGlenda Yu

EditorCLS Communication, Inc.

Project Management Paul LeemingChris Manna

Desktop PublishingGeorge StilabowerCognizant Group – Basavaraj Gudihal, Srinivas Addugula, Pavan Mekala

and Virender Negi

Sections of this report were originally published outside the US and have been customized for US distribution.

ab

©2014 UBS Financial Services Inc. All rights reserved. Member SIPC. All other trademarks, registered trademarks, service marks and registered service marks are of their respective companies.

UBS Financial Services Inc.www.ubs.com/financialservicesinc

UBS Financial Services Inc. is a subsidiary of UBS AG.

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UBS - CIO Wealth Management Research August …...2 ubs house view August 2014 A messAge from the regionAl Cio Dear reader, The temperature hasn’t been the only thing rising this