Lessons from 2016 The old joke is that Year Aheads are frequently out of date by the end of year they are written in. There is a real danger of that this year given the speed which things have moved since Brexit and more recently the US election. The two charts below show that Financials and Cyclicals have clawed back around 2/3 of their underperformance vs Defensives. Of course it depends how you frame the question since we have included Utilities and Telecoms in the defensive basket. But when we downgraded Banks 10 days or so ago they had outperformed Food and Beverage by ~50% since the lows of early July. Whichever way you cut it some of these moves have been extreme. Chart 7: The moves since Brexit in both Financials... Chart 8: ..and Cyclicals relative to Defensives has been dramatic 0.85 1.45 0.80 i 1.35 0.75 4.25 0.70 1.15 0.65 1.05 0.60 0.95 0.55 =——— Cyclicals vs Defensives relative 0.50 0.85 = Financials vs Defensives relative 0.45 0.75 O10 01/11 O12 013014 = O15 OTE O10 01/11 O12 = 013014 = O15 O16 Source: Bloomberg Source: Bloomberg Moreover, in 2016 we doubt that even if investors had known the results of key events that they would necessarily have got the reaction in markets right. As we joked in our Cross Asset year ahead you needed not so much a crystal ball as a time machine to have got things completely right this year. Aside from Brexit and Donald Trump winning the US election it is easy to forget that in February we were worrying about a US recession and deflation. US 5Y5Y forward breakeven inflation rates actually troughed at 1.8% at that point. Four months later we were worrying about the deflationary impact of Brexit. Now we are thinking about the reflation under a Trump Presidency. Chart 9: US 5Y5Y forward inflation troughed in February Chart 10: At the same time as Basic Resources 3.3 17 34 45 ——Sioxx Basic Resources Price Relative 29 1.3 27 25 1.1 23 0.9 2.1 — ba 19 a US Syoy fwd inflation swap 0.5 Ia SHS Stet tee ese ee Sw DH 2 BD ww Bw S&