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Rates vol is near all-time lows and is favorable for positioning for a break-out Since the US Election last November, the 10y US Treasury rate has fluctuated between 2.17% and 2.63%, constantly being jostled up or down by various economic forces. It is currently trading towards the bottom of that range. Our rates strategists have a year- end target of 2.85% for the 10y rate (just above the median forecast). Long-term rates have remained low due to uncertainty around Fiscal policy (Trump’s plans on infrastructure spending), subdued inflation expectations and a slower than expected Fed hiking cycle. On the other hand, a near full-employment economy, hopes for infrastructure spending, potential for higher inflation driven by energy prices & increased government spending and an accelerated hiking cycle are providing a floor for long-term rates. In the end, uncertainty remains and analysts’ estimates for the year- end target vary widely between 1.6% and 3.7% (based on 59 forecasts with median and mean of 2.8%). For investors who believe that long-term rates will break out of their range we recommend going long TLT 6m 35-delta strangles. The structure has rarely been cheaper in history (Chart 22) and at present TLT 6m implied vol is 94bps below 6m realized, with the spread at its lowest since Aug-15. A 3m version of the 35-delta strangle prices just as attractively versus its history. Chart 21: Rates volatility, as measured by the Merrill Option Volatility Chart 22: With vol and skew in favor of the structure, the price of a TLT Estimate index (MOVE) and by TLT (20+ year bond ETF) 3m ATMf vols, 6m 35d strangle is near all-time lows. Investors can go long the trade to are the lowest they have been all year and are very near the all-time position for a break-out from the range lows 7.0% r 150 300 25% 65% wr 430 4 : an 20% ey lection 110 2/0 " om _— 5.0% 90 150 45% 70 10% 40% 100 35% 50 50 5% 3.0% 30 NN OO YOY TA FTO woo OO OM : o% SESS3 252245325235 Jan-90 Jan-92 Jan-94 Jan-96 Jan-98 Jan-00 Jan-02 Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14 Jan-16 === Price of TLT 6m 35-delta strangle =====2-Jun-17 =<=—=TLT (RHS) MOVE Index 2Nun-17 TLT 3m ATME vol 2sun-17 Source: BofA Merrill Lynch Global Research. Daily data from Jun-12 to Jun-17. Source: BofA Merrill Lynch Global Research. Daily data from Jan-90 to Jun-17 for MOVE Index and Jun- 12 toJun-17 for TLT vols. deg oct Bankof America 10 Global Equity Volatility Insights | 06 June 2017 Merrill Lynch HOUSE_OVERSIGHT_023584