State Street Global Advisors A presentation to 2009 FIAP International Seminar 28 May 2009 Brett Collins, CFA

Innovative Solutions for Managing Risk in Volatile Times

Lessons Learned Drive Investor Trends in 2009 Behavior of asset class correlations during a crisis  Re-evaluate portfolio diversification assumptions  Challenging the CAPM return/risk theory Fear of prolonged recession and market illiquidity  Higher cash balances  Greater strategic asset allocation drift Innovations in risk management strategies  Non traditional approaches to portfolio construction  Focus on diversification and downside protection  How to mitigate market liquidity issues

4 No Place to Hide 2008 Index Returns Source: SSgA, Factset Index returns are unmanaged and do not reflect the deduction of any fees or expenses. Index returns reflect all items of income, gain and loss and the reinvestment of dividends and other income. Investors cannot invest directly in an index. Past performance is not a guarantee of future results.

5 Historical Drawdown – S&P 500 Can we reduce these drawdowns? Source: Ibbotson, SSgA, February Past performance is not a guarantee of future results.

6 Market Volatility Can Be Dampened over Long Time Horizon Source: Ibbotson, SSgA, February Past performance is not a guarantee of future results. Historical return of the S&P 500 ® since 1926

Lessons Learned: Market Volatility Can Rise Dramatically World volatility indices spiked in the Q under weight of the deepening financial crises and fear of a prolonged global recession The CBOE VIX has declined since Q4, though remains elevated vs. historical average VIX futures remain significantly elevated vs historical average in 2009 Source: SSgA, Factset January 27, 2009

8 Correlation is Not as Stable as Market Volatility… Source: Ibbotson, SSgA, December Past performance are not guarantee of future results. Historical correlation between S&P 500 and US Government Bond 30 year10 year5 year Jul-27Jul-31Jul-35Jul-39Jul-43Jul-47Jul-51 Jul-55 Jul-59Jul-63Jul-67Jul-71Jul-75Jul-79Jul-83Jul-87Jul-91 Jul-95 Jul-99 Jul-03 Jul-07 median for 5 and 10 year median for 30 year

9 … Especially Over a Short-Term Period During crisis periods, swings in correlation are typically more severe Source: Ibbotson, SSgA, December Past performance are not guarantee of future results.

Lessons Learned: Global Markets Re-Couple in Crises Source: SSgA, Morningstar January 2009 Index returns are unmanaged and do not reflect the deduction of any fees or expenses. Index returns reflect all items of income, gain and loss and the reinvestment of dividends and other income. Investors cannot invest directly in an index. Past performance is not a guarantee of future results. Index Return Correlation with S&P 500 ® 2004—2008

Lessons Learned: Uncertainty Drives Investors to Cash Source: Barclays Capital, Haver, ICI As of December 17, 2008 Yields near zero should eventually cause cash to seek a home in riskier assets

Lessons Learned: Re-Balancing Costs Rise Widening credit spreads have driven bid/ask spreads to historical wides making it cost prohibitive to re-balance portfolios Global equity bid/ask spreads also widened sharply Deviations from asset allocation targets may lead to sub-par returns when markets recover Annual Returns of Stocks and Bonds from 1990 to 2008* Source: Ibbotson December 2008 Past performance is not a guarantee of future results.

13 Several Key Risk Factors Have Emerged 1. Volatility Risk Ensuring portfolio is positioned to weather most market movements 2. Liquidity Risk Providing enough near term liquidity 3. Downside Risk Protecting portfolio from capital erosion 4. Funding Risk Minimizing the asset/liability funding gap 5. Asset Allocation Risk Maintaining portfolio’s target policy mix

14 Addressing Portfolio Risk Lessons Learned Investors need new ways to diversify their portfolios and more effectively manage total portfolio risk We also believe they need innovative ways to gain exposure to uncorrelated asset classes They should manage against 5 key risk factors to improve the LT success of their investment programs Strategy Level Investors should focus on outcome-oriented strategies that are designed around minimizing volatility and downside risk, while providing liquidity These strategies should be innovative, risk-controlled and not benchmark-focused We believe there is an opportunity for investors to utilize one or more strategies for implementation or as part of a broader investing framework

15 Investment Strategies to Address Portfolio Risk Volatility Risk Downside Risk Funding Risk Asset Allocation Risk Liquidity Risk Managed Volatility Hedge Fund Replication Risk Parity Hedged Equity Exposure Management LDI

Thank You!

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