EFTA02666994.pdf

From: Ens, Amand Sent: Thursday, December 15, 2016 2:22 PM To: Jeffrey E.; Richard Kahn Subject: Cheap hedge While we are still constructive equities and see further upside potential, given the large recent moves and our binary view of the markets for 2017 (+20% bull case I -30% bear case - see below), buying cheap tail protection to hedge a long equity portfolio is prudent. You can achieve significant savings on a tail hedge by monetizing the low correlations between sectors that we have seen in the multi-year bull market. In a tail event, correlations generally move towards 1 as you know very well. Buy a best-of-put on 3 sectors: tech, consumer discretionary and utilities * Underlying ETFs: XLK (Tech Selector Sector SPDR), XLY (Consumer Discretionary Select Sector SPDR), XLU (Utilities Select Sector SPDR) Your payoff is on the best performing of the 3 sectors 95% strike o 6 months: 1.0% premium o 1 year: 1.85% premium This is —64% savings compared to a 6 month SPX 95% put (2.75%) and a 1 year SPX 95% put (5.1%) We like the best-of-put because all three sectors are near cycle or all-time highs and should all be vulnerable in a large market pullback, especially in a tail event. Even utilities, a defensive sector, are less safe in our view given elevated valuations and crowding. Our utilities analyst sees 10% downside to the sector with the l0y at these levels (2.62% today) and 16.7% downside at 3.0%. There is a high amount of potential leverage on this trade — for example, on the 1 year best-of-put, if the sectors were all down > 20%, you would have 8.1x payoff on your premium (15%/1.85%). EFTA_R1_01918577 EFTA02666994 <http://rsch.baml.com/r?q-Xs2Bc6MU6pTCNQs.IR2M5Jw&e=amanda.ens°440baml.com&h=1PXt6Q> US Equity Strategy Year Ahead: 2017 - the year ahead: Euphoria or fiscal fizzle? <http://rsch.baml.com/r?q=Xs2Bc6MU6pTCNQsJR2M5lw&e=amanda.ens°440baml.com&h=1PXt6Q> Savita Subramanian thinks 2017 could be anything but normal — Subramanian notes that if the market moves from skepticism to euphoria then the S&P 500 could trade as high as 2700 in a bull case scenario. Meanwhile, applying typical (not extreme) recessionary returns to current S&P 500 levels yields a bear case scenario of 1600. Her base case is a year- end 2017 S&P500 target of 2300. 10 Year Graph: XLY, XLK, XLU Source: Bloomberg Regards, Amanda Amanda Ens Director Bank of America Merrill Lynch The power of global connections"' 2 EFTA_R1_01918578 EFTA02666995 This message, and any attachments, is for the intended recipient(s) only, may contain information that is privileged, confidential and/or proprietary and subject to important terms and conditions available at http://www.bankofamerica.com/emaildisclaimer. If you are not the intended recipient, please delete this message. 3 EFTA_R1_01918579 EFTA02666996