Derivatives Strategy September 28, 2011 Srini RamaswamyAC (1-212) 834-4573 Terry Belton (1-312) 325-4650 J.P.

Morgan Securities LLC

Research Note

Interest Rate Risk in Variable Annuities
• We outline a simple framework for analyzing the interest rate risk exposure in variable annuities in the aggregate, with a view towards assessing the likely forward-looking implications for the long end of the swaps and Treasury curves. The essence of our approach is to decompose the highly complex variable annuity universe into a weighted combination of much simpler “VA-lite” instruments, with the weights themselves being implied from market behavior We estimate that the recent plunge in long-end yields has taken the aggregate duration of the VA universe to all-time highs, although this week’s pullback has mitigated this somewhat Long-end swap spreads have steadily become less vulnerable to VA duration, perhaps reflecting hedgers’ growing allocations to Treasury-based instruments, and will likely not be as impacted by VA hedging flows as they were in 4Q08. That said, the crowding-out effect of Operation Twist is likely to result in modestly greater sensitivity of long-end spreads to VA duration swings Unlike swap spreads, the slope of the 10s/30s curve shows no declining sensitivity to VA duration

Exhibit 1: The variable annuity industry has seen significant growth over the past decade
Variable annuities assets; $bn

1600 1400 1200 1000 800 600 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
1

Note: 2011 value is as of 2Q11. Source: “Responding to the Variable Annuity Crisis,” Dinesh Chopra et al, McKinsey Working Papers on Risk, Number 10, April 2009; Morningstar.

products and their interest rate risk exposures. This fact really burst forth into plain view right after Lehman’s default in 2008, when a plummeting stock market coupled with falling Treasury yields produced a massive duration shortfall in insurance companies’ portfolios, leading to considerable receiving in swaps and causing long-end swap spreads to decline below zero for the first time. More recently, this has once again become evident given the significant receiving flows from insurance companies as long-end yields attained new all time lows last week, although some of these flows have reversed since then given the pullback in yields. Variable annuities were first introduced in the 1980’s, and tended to be fairly simple products designed to
AC

Introduction
US fixed income investors, particularly those focused on the longer end of the Treasury or swaps curve, have come to realize the significant impact that the risk management of variable annuities can have on long-end yield levels, the slope of the curve, and on swap spreads at the very long end of the curve. To put it simply, flows related to the hedging of the duration risk in variable annuities have become a force to be reckoned with at the long end of the curve, and as a result, it behooves investors to better understand these

Srini Ramaswamy (1-212) 834-4573 srini.ramaswamy@jpmorgan.com J.P. Morgan Securities LLC Alberto Iglesias (1-212) 834-5116 alberto.d.iglesias@jpmorgan.com J.P. Morgan Securities LLC Kimberly Harano (1-212) 834-4956 kimberly.l.harano@jpmorgan.com J.P. Morgan Securities LLC

Terry Belton (1-312) 325-4650 terry.belton@jpmorgan.com J.P. Morgan Securities LLC Meera Chandan (1-212) 834-4924 meera.chandan@jpmorgan.com J.P. Morgan Securities LLC

Derivatives Strategy September 28, 2011 Srini RamaswamyAC (1-212) 834-4573 Terry Belton (1-312) 325-4650 J.P. Morgan Securities LLC

offer equity market upside along with tax-deferred returns. Over time, various options and guarantees were bundled in, including death benefits (such as a return of premium in case of death) as well as living benefits such as guaranteeing a minimum income (GMIB) for the policyholder or an account value (GMAB) at a fixed point in time. Since the late nineties, minimum withdrawal benefits either for a predetermined number of years or for the remainder of the policyholder’s life (GMWB) appear to have been commonly included. Such benefits, together with path-dependent features such as guaranteed roll-ups or ratchets, have made variable annuities popular products, causing the industry to experience significant growth (Exhibit 1). Of course, these guarantees also imply greater risk to the underwriters. Conceptually, the insurance companies are short equity puts to policyholders, the exercise of which occurs in the form of floored future annuity payments whose present value depends on interest rates. The hybrid exposure of these products to the reference index (S&P 500) as well as the yield curve, mortality risks, and numerous features that create path dependency all mean that pricing variable annuities is a highly complex undertaking. However, accurately pricing these instruments is not our objective in this research note. Our goal is to capture the relative magnitudes of the duration of the VA universe over time as accurately as possible, and in a way that recognizes the inherent nonlinearities with respect to equities and rates; understanding such nonlinearities is key to understanding the shifts in VA duration in periods where equities and/or rates trend towards historical extremes. To that end, our approach is geared not towards modeling the detailed structure of variable annuities in their full richness; rather, we seek to find an effective scheme to approximate the duration exposure of the VA universe (basically the partial delta of variable annuities with respect to long-term rates) in the aggregate. The outline of this paper is as follows. First, we describe variable annuities, with a focus on the aspects that create the interest rate risk exposures we are most interested in. Second, we present the essence of our approach, which is based on the notion of approximating the complex universe of VAs via a notional-weighted combination of highly simplified

“VA-lite” instruments, which we refer to as “VA kernels.” Our approach also relies on an empirical calibration to solve for the weights on these individual VA kernels. We then discuss the current exposures of the aggregate VA universe, as well as implications for the long-end of the US yield curve.

A simple framework to estimate interest rate risk in variable annuities
Variable annuities, like fixed annuities, may be conceptualized as consisting of an accumulation phase, during which the policyholder pays either a lump sum or regular contributions with the aim of producing an accreted future value at some desired point in time, and a payoff phase, where the accreted principal is annuitized by the insurance company as a stream of regular payments to the policyholder over a designated time period. Actuarial components (such as embedded life insurance and associated minimum guarantees) exist, but we ignore them for our purposes since mortality risk is uncorrelated to market risk, which is our main focus. In the case of fixed annuities, the investor’s investment performance during the accumulation phase is set to a predetermined interest rate, resulting in a predictable future value that can subsequently be annuitized—i.e., except for actuarial risks, the product conceptually is similar to purchasing a strip of zero coupon bonds during the accumulation phase, carefully designed to produce an annuity during the payoff phase. As such, fixed annuities have interest rate exposures that are relatively easily understood and hedged. Variables annuities, on the other hand, have two important sources of variability. First, returns experienced in the accumulation phase are not fixed or known a priori, and are instead linked to the returns on some benchmark such as the S&P 500. Second, as a result of the uncertain nature of returns in the accumulation phase, VAs commonly embed minimum guarantees as already noted in the previous section. Conceptually, then, one can imagine an elemental VA building-block (or kernel) as consisting of a single lump-sum premium payment at the start of a fixed-term accumulation phase, followed by a fixed-term annuitization, with minimum guarantees on the withdrawal amounts.

2

Derivatives Strategy September 28, 2011 Srini RamaswamyAC (1-212) 834-4573 Terry Belton (1-312) 325-4650 J.P. Morgan Securities LLC

In rising equity markets, VAs pose little market risk to the insurance companies that underwrite them— policyholders’ premiums can be invested in the S&P 500, and returns are merely passed through to the policyholders. However, the picture is very different in equity bear markets—the more equities fall, the more binding the minimum guarantee becomes, and the underwriter is increasingly short a fixed annuity. Thus, insurance companies increasingly need to add duration in periods of falling equity markets. Similarly, a fall in long-term yields would increase the NPV of the minimum guarantee to the policyholder, making it more likely that the guarantee will be binding. This implies that an underwriter of VA policies becomes short duration as yields fall. The combination of both these events—falling equities and bond yields— represents a perfect storm, and causes duration needs from VA hedgers to rise significantly, as was the case in 4Q08 and as has been the case recently. Clearly, pricing variable annuities comprehensively and accurately is an exceedingly complex undertaking, requiring the joint modeling of long-term interest rates as well as equities; in addition, actuarial risks stemming from life insurance-related guarantees, and other features make the product path dependent, adding to the complexity. Recognizing that our objective is not to price variable annuities accurately, but merely to capture the trend in their duration exposures as well as their nonlinear relationship with equities/yields, we devise a simpler approach. Our approximation approach is based on three principles. First, we start with the assumption that the duration of the VA universe may be approximated by a weighted combination of the durations of much simpler VA kernels. This is not unlike “series approximation” techniques commonly used in mathematics to solve difficult problems. One example of a VA kernel is a simple product where a policyholder pays $100 on (say) January 1, 2007, intended to be invested in the equity market for a 15year (fixed) horizon, with a guaranteed withdrawal amount of $12 per year for the subsequent 20 years; this could be interpreted as a minimum 6% guaranteed annual return during the accumulation phase, followed by a minimum guaranteed 5% annual withdrawal on the accreted principal (see Exhibit 2 for an illustration of a VA kernel). Several VA kernels may be created by

Exhibit 2: Illustration of a hypothetical VA kernel
1/1/07: $100 inv estment Accumulation phase: guaranteed 6% minimun annual return etc... Payoff phase: 5% annual w ithdraw al for 20 y ears

varying the start date, the length of time of the intended equity investment, and the minimum guarantee amount. Effectively, we decompose the complex VA universe as a linear combination of simpler VA kernels, each of which is priced in a manner that captures the nonlinearities with rates and equities. Second, we calculate the present value of each VA kernel by using an option pricing framework. We use implied distributions from the swaptions market as well as long-term S&P vols and correlation estimates to calculate the price. We then use numerical tweaks to calculate the partial exposure with respect to long-term swap rates (i.e., duration). Third, we use a calibration approach to solve for the appropriate weights on the various VA kernels. Our calibration relies on the anecdotally-known fact that VA risk exposures were significant influences on long-end swap spreads in certain periods of time, such as 4Q08; we may thus solve for non-negative coefficients for each kernel that maximally explain the portion of long-end swap spread behavior not explained by other factors in those select periods of time. In order to mitigate circularity (since we plan to use VA duration estimates to model longend swap spreads), no data after 2008 has been used in calibration, and out-of-sample performance has been tested and found to be reasonable.

Calibration and results
As noted above, each VA kernel in our framework is completely determined by a start date (on which the premium is paid in full), the length of the accumulation and payoff phases, and the details of the minimum guarantee. In our empirical work, the kernels we considered all had lengths of 15 years for the accumulation phase and 20 years for the payoff phase, with a minimum guaranteed annual withdrawal of 5%

3

Derivatives Strategy September 28, 2011 Srini RamaswamyAC (1-212) 834-4573 Terry Belton (1-312) 325-4650 J.P. Morgan Securities LLC

of the accreted future value of the premium paid (which is itself guaranteed based on a 6% compounded annual return during the accumulation phase). Varying these choices did not materially alter our empirical results, and therefore we fix all of these parameters. Thus, each VA kernel is specified by its start date, and we include one VA kernel for each calendar year (with the start date assumed to be at the beginning of the year). This simplification also makes it easier to develop intuition regarding the results. Notably, VA kernels initiated in 2000 (at the peak of the stock market, and with much less time remaining in the accumulation phase currently) carry greater interest rate risk than VA kernels initiated in lower equity environments (such as in 2003—see Exhibit 3). Similarly, for VA kernels originated in similar equity environments, kernels originated in higher yield environments carry greater interest rate risk than kernels originated in lower yield environments; this is seen in comparing the partial interest rate deltas of the kernels corresponding to origination in 2002 and 2004 (Exhibit 4). Taken together, VA kernels originated in the late nineties (such as 1997, a higher yield, lower equity environment) and (say) 2007 (which represents a higher equity, lower yield period) arguably represent the two extremes in terms of VA kernels. Perhaps unsurprisingly, as a result, our calibration approach suggests that these two kernels suffice in order to adequately model the duration risk of the VA universe. Our calibration involves solving for the non-negative weights on each kernel, such that the weighted sum of kernel durations (i.e., the estimated duration of the VA universe, within a scale factor) maximally explains movements in 30-year swap spreads (together with the 10s/30s Treasury curve and 10-year swap spreads as other factors) in selected periods of time. In other words, we seek to find those non-negative weights that best explain the portion of movements in long-end swap spreads that are not accounted for by other drivers (i.e., the general level of swap spreads and the slope of the long end of the Treasury curve), in periods where VA hedging flows are anecdotally known to have played a significant role in driving long end swap spreads. As it turns out such a calibration suggests that a weighted combination of VA kernels corresponding to the origination years 1997 and 2007 (16:84 weighted) produces the best estimate of the VA

Exhibit 3: VA kernels initiated in high equity environments such as 2000 carry greater interest rate risk than VA kernels initiated in lower equity environments such as 2003…
Partial delta* of VA kernels associated with origination years 2000 and 2003; $
-0.00 -0.02 -0.04 -0.06 -0.08 -0.10 -0.12 -0.14 -0.16 2007 2009 2011 2000 2003

* Defined as the change in price of each VA kernel for a 1-bp tweak in long-term rates. Each VA kernel is sized to a $1 lump-sum premium at inception.

Exhibit 4: …while kernels originated in higher yield environments carry greater interest rate risk than kernels originated in lower yield environments
Partial delta* of VA kernels associated with origination years 2002 and 2004; $
-0.00 -0.02 -0.04 -0.06 -0.08 -0.10 -0.12 -0.14 -0.16 2007 2009 2011 2002 2004

* Defined as the change in price of each VA kernel for a 1-bp tweak in long-term rates. Each VA kernel is sized to a $1 lump-sum premium at inception.

universe duration for our purposes. Last, such a calibration approach can only produce relative estimates; we separately estimate a suitable scaling that results in a true estimate for the aggregate duration of the VA universe.

Impact on long end spreads
With respect to the impact on long-end swap spreads, three conclusions are worth highlighting currently.

4

Derivatives Strategy September 28, 2011 Srini RamaswamyAC (1-212) 834-4573 Terry Belton (1-312) 325-4650 J.P. Morgan Securities LLC

Exhibit 5: The aggregate duration exposure of the VA universe is now at an all-time high
Estimated duration of the VA universe*; $bn of 20-year equivalents
280 260 240 220 200 180 160 140 120 100 Jan 07 Dec 07 Nov 08 Nov 09 Oct 10 Sep 11

Exhibit 6: The sensitivity of long end swap spreads to the duration of the VA universe has been declining steadily in magnitude …
Partial beta of maturity matched 30-year swap spreads with respect to VA universe duration*; bp per $bn of 20-year equivalents
0.0 -0.2 -0.4 -0.6 -0.8 -1.0 Sep 09 Feb 10 Jul 10 Dec 10 Apr 11 Sep 11

* Estimated from a weighted combination of the deltas of all the VA kernels, which is then scaled to represent the aggregate VA universe’s duration in billions of 20-year swap equivalents

First, as seen in Exhibit 5, the aggregate duration exposure of the VA universe is now at an all-time high, even higher than in 4Q08. Second, the sensitivity of long-end swap spreads to VA hedging needs has steadily lessened (in magnitude) over time (Exhibit 6), but VA duration remains an important driver of the long end of the yield curve; this might reflect the fact that hedgers have been steadily increasing Treasury market allocations (whether via cash instruments, futures, or other derivatives). Last, this broad declining trend in the sensitivity of long-end spreads to VA duration needs masks a more nuanced picture that emerges due to Fed purchases. This is highlighted in Exhibit 7, which looks at the same partial beta shown in Exhibit 6 on a de-trended basis, with special focus on the periods corresponding to the Fed’s Treasury purchases under QE1 and QE2. As can be seen, periods when the Fed has been purchasing Treasuries have resulted in increased sensitivity of long-end spreads to VA duration needs (adjusted for the broader declining trend); this most likely reflects a crowding-out effect in the Treasury market, forcing duration buyers into the swaps market. Looking forward, although the Fed is not embarking upon more quantitative easing, Operation Twist is likely to resemble prior QE periods in terms of its net impact on the long end, which is the sector of most interest for insurance companies hedging VA exposure. Thus, we would expect a crowding-out effect again over the next nine months, which should

* Based on rolling 2-year regressions, with the 10s/30s Treasury curve and the stock of outstanding long end Treasuries (ex Fed purchases) as other factors.

Exhibit 7: … but could modestly increase as Operation Twist commences, likely due to a crowding-out effect at the long end due to Fed purchases
De-trended partial beta* with respect to VA duration; bp per $bn of 20-year equivalents; highlighted areas indicate QE periods
-0.8

-0.9 -1

-1.1

QE1

QE2

-1.2 Jan 09 Jul 09 Jan 10 Jul 10 Jan 11 Jul 11

* Based on rolling 2-year regressions, with the 10s/30s Treasury curve and the stock of outstanding long end Treasuries (ex Fed purchases) as other factors. Beta has been detrended over the period shown.

cause long-end spreads to exhibit greater vulnerability to VA hedging needs.

Impact on the 10s/30s curve
Variable annuity hedging flows impact the very long end of the Treasury curve as well. Exhibit 8 presents our fair value model of the 10s/30s Treasury yield curve, estimated over five years of data. As can be

5

Derivatives Strategy September 28, 2011 Srini RamaswamyAC (1-212) 834-4573 Terry Belton (1-312) 325-4650 J.P. Morgan Securities LLC

seen, VA duration is a significant driver of the curve, in addition to other factors (the level of short-term Treasury yields, 5Yx5Y forward inflation expectations from the inflation swap market and the total amount of outstanding Treasury debt in the 17- to 30-year sector of the curve). Specifically, the model suggests that a $50bn 20-year equivalents increase in VA duration would flatten the 10s/30s curve by around 16bp (-0.32 x 50). It is also worth noting that the slope of the 10s/30s curve shows no declining sensitivity to VA duration. Exhibit 9 shows the evolution of the partial beta of the 10s/30s curve with respect to VA duration over time. As can be seen, the slope of the long end of the curve remains vulnerable to swings in VA duration, with no diminishing sensitivity evident (as was the case for long-end swap spreads). This is likely the result of growing allocations by insurance companies to Treasury-based hedges, whether via cash instruments such as bonds and long-end STRIPS or via Treasury futures or other derivatives.

Exhibit 8: A fair value model of the 10s/30s Treasury curve
10s/30s Treasury yield curve (bp) fair value model

Variable Intercept 3-year yields; % 5yx5y inflation swap rates; % JPM index of variable annuity hedging flows; $bn of 20-year equivalents Treasuries outstanding with maturities greater than 17-years; $bn
5-year regression; R2 = 93.4%

Coefficient 114.2 -24.2 10.8 -0.32 0.11

T-statistics 17.2 -48.7 7.3 -18.3 28.7

Exhibit 9: Unlike with long end swap spreads, the sensitivity of the slope of the 10s/30s curve to the duration of the VA universe shows no declining trend
Partial beta of the 10s/30s Treasury curve with respect to VA universe duration*; bp per $bn of 20-year equivalents
-0.25 -0.30 -0.35 -0.40 -0.45 -0.50 -0.55 -0.60 -0.65 -0.70 -0.75 Mar 10 Sep 10 Mar 11 Sep 11

Conclusions
In this paper, we have devised a relatively simple way of estimating the duration exposure of the highly complex variable annuity market. This is significant since VA duration remains a significant influence on the slope of the long end of the curve. In addition, although long-end swap spreads have steadily become less sensitive to VA duration, the crowding-out effect from the Fed’s Operation Twist is likely to cause swap spreads to exhibit increased sensitivity to VA duration as well, albeit not to the extent seen in 4Q08.

* Based on rolling 2-year regressions, with front end yields, 5Yx5Y inflation expectations and the outstanding stock of long-end Treasuries as other factors.

6

Derivatives Strategy

Analyst Certification: The research analyst(s) denoted by an “AC” on the cover of this report certifies (or, where multiple research analysts are primarily responsible for this report, the research analyst denoted by an “AC” on the cover or within the document individually certifies, with respect to each security or issuer that the research analyst covers in this research) that: (1) all of the views expressed in this report accurately reflect his or her personal views about any and all of the subject securities or issuers; and (2) no part of any of the research analyst’s compensation was, is, or will be directly or indirectly related to the specific recommendations or views expressed by the research analyst(s) in this report. Conflict of Interest: This research contains the views, opinions and recommendations of J.P. Morgan research analysts. Research analysts routinely consult with J.P. Morgan trading desk personnel in formulating views, opinions and recommendations in preparing research. Trading desks may trade, or have traded, as principal on the basis of the research analyst(s) views and report(s). Therefore, this research may not be independent from the proprietary interests of J.P. Morgan trading desks which may conflict with your interests. In addition, research analysts receive compensation based, in part, on the quality and accuracy of their analysis, client feedback, trading desk and firm revenues and competitive factors. As a general matter, J.P. Morgan and/or its affiliates normally make a market and trade as principal in fixed income securities discussed in research reports.

Other Disclosures
J.P. Morgan ("JPM") is the global brand name for J.P. Morgan Securities LLC ("JPMS") and its affiliates worldwide. J.P. Morgan Cazenove is a marketing name for the U.K. investment banking businesses and EMEA cash equities and equity research businesses of JPMorgan Chase & Co. and its subsidiaries. Options related research: If the information contained herein regards options related research, such information is available only to persons who have received the proper option risk disclosure documents. For a copy of the Option Clearing Corporation’s Characteristics and Risks of Standardized Options, please contact your J.P. Morgan Representative or visit the OCC’s website at http://www.optionsclearing.com/publications/risks/riskstoc.pdf. Legal Entities Disclosures U.S.: JPMS is a member of NYSE, FINRA,SIPC and the NFA. J.P. Morgan Futures Inc. is a member of the NFA. JPMorgan Chase Bank, N.A. is a member of FDIC and is authorized and regulated in the UK by the Financial Services Authority. U.K.: J.P. Morgan Securities Ltd. (JPMSL) is a member of the London Stock Exchange and is authorized and regulated by the Financial Services Authority. Registered in England & Wales No. 2711006. Registered Office 125 London Wall, London EC2Y 5AJ. South Africa: J.P. Morgan Equities Limited is a member of the Johannesburg Securities Exchange and is regulated by the FSB. Hong Kong: J.P. Morgan Securities (Asia Pacific) Limited (CE number AAJ321) is regulated by the Hong Kong Monetary Authority and the Securities and Futures Commission in Hong Kong. Korea: J.P. Morgan Securities (Far East) Ltd, Seoul Branch, is regulated by the Korea Financial Supervisory Service. Australia: J.P. Morgan Australia Limited (ABN 52 002 888 011/AFS Licence No: 238188) is regulated by ASIC and J.P. Morgan Securities Australia Limited (ABN 61 003 245 234/AFS Licence No: 238066) is a Market Participant with the ASX and regulated by ASIC. Taiwan: J.P.Morgan Securities (Taiwan) Limited is a participant of the Taiwan Stock Exchange (company-type) and regulated by the Taiwan Securities and Futures Bureau. India: J.P. Morgan India Private Limited, having its registered office at J.P. Morgan Tower, Off. C.S.T. Road, Kalina, Santacruz East, Mumbai - 400098, is a member of the National Stock Exchange of India Limited (SEBI Registration Number - INB 230675231/INF 230675231/INE 230675231) and Bombay Stock Exchange Limited (SEBI Registration Number - INB 010675237/INF 010675237) and is regulated by Securities and Exchange Board of India. Thailand: JPMorgan Securities (Thailand) Limited is a member of the Stock Exchange of Thailand and is regulated by the Ministry of Finance and the Securities and Exchange Commission. Indonesia: PT J.P. Morgan Securities Indonesia is a member of the Indonesia Stock Exchange and is regulated by the BAPEPAM LK. Philippines: J.P. Morgan Securities Philippines Inc. is a member of the Philippine Stock Exchange and is regulated by the Securities and Exchange Commission. Brazil: Banco J.P. Morgan S.A. is regulated by the Comissao de Valores Mobiliarios (CVM) and by the Central Bank of Brazil. Mexico: J.P. Morgan Casa de Bolsa, S.A. de C.V., J.P. Morgan Grupo Financiero is a member of the Mexican Stock Exchange and authorized to act as a broker dealer by the National Banking and Securities Exchange Commission. Singapore: This material is issued and distributed in Singapore by J.P. Morgan Securities Singapore Private Limited (JPMSS) [MICA (P) 025/01/2011 and Co. Reg. No.: 199405335R] which is a member of the Singapore Exchange Securities Trading Limited and is regulated by the Monetary Authority of Singapore (MAS) and/or JPMorgan Chase Bank, N.A., Singapore branch (JPMCB Singapore) which is regulated by the MAS. Malaysia: This material is issued and distributed in Malaysia by JPMorgan Securities (Malaysia) Sdn Bhd (18146-X) which is a Participating Organization of Bursa Malaysia Berhad and a holder of Capital Markets Services License issued by the Securities Commission in Malaysia. Pakistan: J. P. Morgan Pakistan Broking (Pvt.) Ltd is a member of the Karachi Stock Exchange and regulated by the Securities and Exchange Commission of Pakistan. Saudi Arabia: J.P. Morgan Saudi Arabia Ltd. is authorized by the Capital Market Authority of the Kingdom of Saudi Arabia (CMA) to carry out dealing as an agent, arranging, advising and custody, with respect to securities business under licence number 35-07079 and its registered address is at 8th Floor, Al-Faisaliyah Tower, King Fahad Road, P.O. Box 51907, Riyadh 11553, Kingdom of Saudi Arabia. Dubai: JPMorgan Chase Bank, N.A., Dubai Branch is regulated by the Dubai Financial Services Authority (DFSA) and its registered address is Dubai International Financial Centre - Building 3, Level 7, PO Box 506551, Dubai, UAE.

Derivatives Strategy

Country and Region Specific Disclosures U.K. and European Economic Area (EEA): Unless specified to the contrary, issued and approved for distribution in the U.K. and the EEA by JPMSL. Investment research issued by JPMSL has been prepared in accordance with JPMSL's policies for managing conflicts of interest arising as a result of publication and distribution of investment research. Many European regulators require a firm to establish, implement and maintain such a policy. This report has been issued in the U.K. only to persons of a kind described in Article 19 (5), 38, 47 and 49 of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005 (all such persons being referred to as "relevant persons"). This document must not be acted on or relied on by persons who are not relevant persons. Any investment or investment activity to which this document relates is only available to relevant persons and will be engaged in only with relevant persons. In other EEA countries, the report has been issued to persons regarded as professional investors (or equivalent) in their home jurisdiction. Australia: This material is issued and distributed by JPMSAL in Australia to “wholesale clients” only. JPMSAL does not issue or distribute this material to “retail clients.” The recipient of this material must not distribute it to any third party or outside Australia without the prior written consent of JPMSAL. For the purposes of this paragraph the terms “wholesale client” and “retail client” have the meanings given to them in section 761G of the Corporations Act 2001. Germany: This material is distributed in Germany by J.P. Morgan Securities Ltd., Frankfurt Branch and J.P.Morgan Chase Bank, N.A., Frankfurt Branch which are regulated by the Bundesanstalt für Finanzdienstleistungsaufsicht. Hong Kong: The 1% ownership disclosure as of the previous month end satisfies the requirements under Paragraph 16.5(a) of the Hong Kong Code of Conduct for Persons Licensed by or Registered with the Securities and Futures Commission. (For research published within the first ten days of the month, the disclosure may be based on the month end data from two months’ prior.) J.P. Morgan Broking (Hong Kong) Limited is the liquidity provider/market maker for derivative warrants, callable bull bear contracts and stock options listed on the Stock Exchange of Hong Kong Limited. An updated list can be found on HKEx website: http://www.hkex.com.hk. Japan: There is a risk that a loss may occur due to a change in the price of the shares in the case of share trading, and that a loss may occur due to the exchange rate in the case of foreign share trading. In the case of share trading, JPMorgan Securities Japan Co., Ltd., will be receiving a brokerage fee and consumption tax (shouhizei) calculated by multiplying the executed price by the commission rate which was individually agreed between JPMorgan Securities Japan Co., Ltd., and the customer in advance. Financial Instruments Firms: JPMorgan Securities Japan Co., Ltd., Kanto Local Finance Bureau (kinsho) No. 82 Participating Association / Japan Securities Dealers Association, The Financial Futures Association of Japan. Korea: This report may have been edited or contributed to from time to time by affiliates of J.P. Morgan Securities (Far East) Ltd, Seoul Branch. Singapore: JPMSS and/or its affiliates may have a holding in any of the securities discussed in this report; for securities where the holding is 1% or greater, the specific holding is disclosed in the Important Disclosures section above. India: For private circulation only, not for sale. Pakistan: For private circulation only, not for sale. New Zealand: This material is issued and distributed by JPMSAL in New Zealand only to persons whose principal business is the investment of money or who, in the course of and for the purposes of their business, habitually invest money. JPMSAL does not issue or distribute this material to members of "the public" as determined in accordance with section 3 of the Securities Act 1978. The recipient of this material must not distribute it to any third party or outside New Zealand without the prior written consent of JPMSAL. Canada: The information contained herein is not, and under no circumstances is to be construed as, a prospectus, an advertisement, a public offering, an offer to sell securities described herein, or solicitation of an offer to buy securities described herein, in Canada or any province or territory thereof. Any offer or sale of the securities described herein in Canada will be made only under an exemption from the requirements to file a prospectus with the relevant Canadian securities regulators and only by a dealer properly registered under applicable securities laws or, alternatively, pursuant to an exemption from the dealer registration requirement in the relevant province or territory of Canada in which such offer or sale is made. The information contained herein is under no circumstances to be construed as investment advice in any province or territory of Canada and is not tailored to the needs of the recipient. To the extent that the information contained herein references securities of an issuer incorporated, formed or created under the laws of Canada or a province or territory of Canada, any trades in such securities must be conducted through a dealer registered in Canada. No securities commission or similar regulatory authority in Canada has reviewed or in any way passed judgment upon these materials, the information contained herein or the merits of the securities described herein, and any representation to the contrary is an offence. Dubai: This report has been issued to persons regarded as professional clients as defined under the DFSA rules. General: Additional information is available upon request. Information has been obtained from sources believed to be reliable but JPMorgan Chase & Co. or its affiliates and/or subsidiaries (collectively J.P. Morgan) do not warrant its completeness or accuracy except with respect to any disclosures relative to JPMS and/or its affiliates and the analyst’s involvement with the issuer that is the subject of the research. All pricing is as of the close of market for the securities discussed, unless otherwise stated. Opinions and estimates constitute our judgment as of the date of this material and are subject to change without notice. Past performance is not indicative of future results. This material is not intended as an offer or solicitation for the purchase or sale of any financial instrument. The opinions and recommendations herein do not take into account individual client circumstances, objectives, or needs and are not intended as recommendations of particular securities, financial instruments or strategies to particular clients. The recipient of this report must make its own independent decisions regarding any securities or financial instruments mentioned herein. JPMS distributes in the U.S. research published by non-U.S. affiliates and accepts responsibility for its contents. Periodic updates may be provided on companies/industries based on company specific developments or announcements, market conditions or any other publicly available information. Clients should contact analysts and execute transactions through a J.P. Morgan subsidiary or affiliate in their home jurisdiction unless governing law permits otherwise. “Other Disclosures” last revised June 13, 2011.

Copyright 2011 JPMorgan Chase & Co. All rights reserved. This report or any portion hereof may not be reprinted, sold or redistributed without the written consent of J.P. Morgan.

Sign up to vote on this title
UsefulNot useful