2q 2015 International Update

International Active UpdateSecond Quarter 2015

PERFORMANCE

The International Active EAFE Strategy outperformed the MSCI EAFE index by 2.8 percentage points in the second quarter; the strategy rose 3.4% net of fees and the benchmark gained 0.6%. Positive stock selection was offset somewhat by slightly negative country allocation. The strategy beat its benchmark by 3.7 percentage points for the first half of 2015, returning +9.3%.

Performance (Year by Year %)

GMO MSCI GMO S&P BondsInt'lActive EAFE ValueAdded 500 AAA/AA

1981 (JunDec) 5.8 1.0 6.8 4.6 2.01982 2.4 1.9 4.3 20.3 42.51983 32.1 23.7 8.4 22.6 6.31984 8.7 7.4 1.3 6.3 16.91985 65.1 56.2 8.9 31.8 30.11986 57.4 69.4 12.0 18.7 19.81987 9.7 24.6 14.9 5.3 0.21988 21.2 28.3 7.1 16.6 10.71989 27.4 10.5 16.9 31.7 16.21990 10.7 23.4 12.7 3.1 6.81991 13.9 12.1 1.8 30.5 19.91992 4.0 12.2 8.2 7.6 9.41993 41.2 32.6 8.6 10.1 13.21994 5.9 7.8 1.9 1.3 5.71995 13.8 11.2 2.6 37.6 27.21996 14.6 6.0 8.6 23.0 1.41997 6.8 1.8 5.0 33.4 13.01998 13.9 20.0 6.1 28.6 10.81999 28.6 27.0 1.6 21.0 7.42000 6.5 14.2 7.7 9.1 12.92001 10.1 21.4 11.3 11.9 10.62002 6.1 15.9 9.8 22.1 16.32003 41.4 38.6 2.8 28.7 5.32004 22.4 20.2 2.1 10.9 7.92005 13.5 13.5 0.0 4.9 5.92006 27.6 26.3 1.2 15.8 3.22007 10.5 11.2 0.6 5.5 2.62008 41.2 43.4 2.1 37.0 8.82009 25.5 31.8 6.2 26.5 3.02010 5.0 7.8 2.7 15.1 12.42011 11.7 12.1 0.5 2.1 18.02012 14.9 17.3 2.4 16.0 10.72013 24.1 22.8 1.3 32.4 7.12014 11.0 4.9 6.1 13.7 17.3YTD2015 9.3 5.5 3.7 1.2 4.3

11.6 9.0 2.6 11.4 10.1CompoundAnnualRateofReturn(34Years,1Month)

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International Active Update Second Quarter 2015

Copyright 2015 by GMO LLC. All rights reserved.

REGIONAL COMMENTARY In the first six months of 2015, the Nikkei has outperformed the S&P 500 by roughly 14% in U.S. dollar terms as two macro themes are presently captivating investors collective attention. First, we are witnessing a material rotation of risk assets out of Japanese Government Bonds (JGBs) into equities by, among others, the Japanese Government Pension Investment Fund (GPIF). At the same time, Japanese corporate management teams are increasing their commitment to shareholder returns. The convergence of these events is not a coincidence, in our view; Japanese pension funds are forced buyers of equities, which raised the bar for expected return. A positive cycle has been set in motion, but the question remains one of sustainability.

The Bank of Japans domination of the bond market in 2013 and 2014 has driven the price of JGBs to unprecedented levels. The asset allocation decision to rotate out of bonds was formalized on October 31, 2014, when GPIF announced its intention to raise the equity target from 12% to 25% and reduce JGBs from 60% to 35%, with trading set to commence on January 1, 2015.

From 1986 to August 2012, the cumulative returns of JGBs outperformed the Nikkei 225 by more than 200%. The magnitude of this equity underperformance highlights the perils of asset overvaluation and the malaise of low return on equity (ROE) in Japan. One may ask, given the historic relative performance of the Japanese stock market vs. the bond market, why move to equities? According to the GPIF, it forecast 10 years of rising bond rates against the backdrop of needing 1.7% real return to meet its pension obligations. It is turning to the equity market in search of smart beta stocks that offer bond-like characteristics of stable and above-average ROE with high liquidity. However, in September of 2014, of the roughly 3,600 listed Japanese companies, only 700 had a market cap greater than $750 million with fewer than 350 companies producing 8% ROE or higher. Compare that to the U.S., which at that time had 3 times the GDP, but more than 10 times the number of companies that met those criteria. Clearly, the Japanese market needs to make some changes to insure that Japanese management will be good custodians of the capital that is being increasingly sent their way.

GPIFs forced buying of equities has created a governance response in Japan. Professor Kunio Ito, an influential professor of finance from Hitotsubashi University, issued a comprehensive report commissioned by the Ministry of Trade and Industry that called for a capital efficiency revolution in Japan. The report read like a value managers manifesto. For the first time, there was official endorsement of the importance of generating an ROE higher than the cost of capital. Professor Itos framework for putting the primacy on generating shareholder value came shortly after the announcement of the creation of the JPX 400, an index of 400 companies in Japan with ROE higher than 8%. GPIF and other auxiliary government pension funds explicitly use the new index for passive investing of the money intended to be allocated to equities.

When the JPX 400 started trading on January 6, 2015, several companies suffered the shock of not being included and took action in the form of buybacks and dividends. Shortly thereafter, the Financial Services Agency (FSA) released the Japanese Stewardship Code, largely modeled on that of the U.K., which encourages company board members to engage with institutional shareholders to make sure shareholder interests are properly protected. The largest proxy advisory firm seized upon the governance momentum to issue new proxy voting guidelines that included an automatic vote against a corporate board that produces lower than 5% ROE for five consecutive years. There are finally real consequences of poor performance for Japanese management teams.

The obvious question: Is the Japanese market outperformance due to aggressive buying from the GPIF or a genuine uptick in expectations for shareholder value return in Japan? We believe the answer is both. We estimate that there is roughly $80 billion of demand for equities from the domestic pension funds, with daily Topix turnover of $200 billion, which would be about 2% of market volume for 230 trading days.

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As 45% of daily volume is high frequency trading, the domestic pension funds represent upwards of 5% of the real directional flow on a daily basis, which can have a positive impact on market action. However, the real impact of GPIF will not be clear until the end of the calendar year when pension buying is anticipated to stop. In addition, companies have responded to the call for higher returns to shareholders. According to J.P. Morgan, 12-month rolling share buybacks are now running at just under 1% of Topix market cap; almost a tripling off the post-Lehman Shock lows. Total dividends paid is about triple buybacks, implying roughly 2.4% yield. Taken together, Japan Inc. is returning over 3% by being better managers of capital.

Is this a shareholder revolution? It is still too early to tell, but the signs are positive. We remain enthusiastic about value stocks in the Japanese market, mainly banks and telecom names. For banks, we believe that the discount to the market is still too large given that their earnings should benefit from a rise in the yield curve and their capacity to deliver higher dividends and buybacks will increase as they exit the cross shareholdings. The telecom companies we hold are committed to delivering upwards of 10% compounded EPS growth. The robust nature of telecom cash flows allows these names to overcome earnings shortfalls with material buybacks to reach their respective EPS and ROE targets. After decades of malaise, there is an atmosphere of heightened commitment to delivering shareholder return. After all, the management of Japan Inc. is now working for GPIF, and in a way, its own retirement. Strong incentives indeed.

COUNTRY ALLOCATION AND MARKET UPDATECountry and currency allocation was 0.1% behind the benchmark. Our weight in Europe is lower than that of the benchmark, but we have an overweight position in the eurozone. In January we hedged the account such that the exposure of the portfolio to the euro was closer to that of the benchmark, and the hedge against the euro was negative in the quarter. This was mostly offset by an underweight position in the underperforming Australian market, which added to returns.1

The Pacific was the best performing region in the quarter. The only stock market in Asia that has been able to keep pace with Japan this year has been China, both up about 18%, although most of the Middle Kingdom's move came in the second quarter whereas most of Japans performance came in the first. This contrasts sharply with the rest of Asia where markets are down in U.S. dollar terms over the quarter, the worst being Indonesia. The common theme across Asia ex-Japan has been a gathering economic slowdown that we attribute to an ebbing of dollar liquidity, which is slowing money supply growth the reversal of the process that propelled the boom in the region since the early part of this century. It is curious that the same process is, we believe, working in China, but in the second quarter its stock market has shot higher at the same time its economy has predictably struggled in line with the rest of the region. We suspect that it is a combination of assumed exchange rate stability combined with panicky monetary easing that seems designed to lift asset prices, an attractive combination for speculators. Indonesia's predicament is a template for what we fear could happen elsewhere, even China at some point. This is that capital outflows and exchange rate weakness are met with weak economic growth, tying the hands of policy makers who have been backed into a corner after a decade of accommodating an unsustainable boom. A rising cost of capital across the region would not be good for equity markets.

Europe did reasonably well in the quarter, but the strong run in European stocks came to a halt at the end of the quarter when Greece defaulted on a 1.3 billion payment to the IMF, triggering a sharp sell-off in eurozone equity markets. Further volatility resulted from the Tsipras Government's launching a referendum on the proposals outlined by the EU, ECB, and IMF for reducing the country's debt burden.

1 Data is that of a representative account from within the Composite.

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Though the Greek population voted down the proposals by a wide margin (probably surprising the Tsiparas Government as much as anyone), at the time of writing the main political parties in Greece seem to have capitulated to an even harsher set of packages amid fears of an imminent exit from the eurozone. We remain of the view that several sectors in the eurozone such as construction offer reasonable valuations on depressed margins and sales and that a Grexit scenario can at worst delay recovery in some of these highly depressed sectors. It should be noted that the leading economic indicators in the eurozone have recently been extremely robust, though it remains to be seen if the Greece-induced volatility will derail this. Outside of the eurozone the U.K. economy remains on a robust recovery trajectory.

During the second quarter, the U.S. market turned lower against the backdrop of a strengthening dollar, geopolitical volatility (including the potential for a Grexit from the eurozone), as well as the volatility in the Chinese stock market. Domestically, the market continues to suffer from declining earnings estimates (mainly due to energy companies), and valuation levels, which continue to be elevated. However, an improving job market and the prospect of increased consumer spending given the decline in fuel prices have continued to give support to the market. Record cash balances and strong cash flow generation are fuelling share repurchases and M&A activity, and will likely limit some of the downside risk posed by elevated valuation levels.

STOCK SELECTIONStock selection beat the benchmark by 2.9% in the second quarter. Holdings in Europe, Japan, and Australia outperformed. On the negative side, stock selection in emerging markets hurt returns, particularly holdings in Korea.2

Stock selection in Europe outperformed in the second quarter. Holdings Peugeot in France, house builders in the U.K., and Vodafone were all large contributors to returns. Our holding in Peugeot enjoyed a strong quarter, helped by the French car makers field trip to China, where the company operates a joint venture with Dongfeng and Changan. CEO Carlos Taveres revealed that volumes and pricing in Europe remained robust and that the company was ahead of schedule on its Back in the Race recovery plan. In tandem with some ambitious targets on Chinese sales, this triggered material earnings upgrades from some sell-side analysts. U.K. house builders and home improvement companies, particularly Taylor Wimpey, Howden Joinery, and Berkley Group, received a boost from the Conservative election victory (the party was perceived to have a far more favorable attitude toward the sector than the Labour Party, which accused the sector of hoarding land). At the same time, the building companies continued to reap the benefit of a remarkably benign land market with smaller private builders remaining starved of capital and unable to bid up prices. Market participants re-rated U.K.-based Vodafone, as M&A speculations resurfaced. Cable giant Liberty Globals main shareholder sees an obvious fit between the two companies European operations. Vodafones telecom business in the U.K., Germany, and the Netherlands would be immediately complementary to Libertys cable services, allowing a joint company to offer bundled telecom and television packages in those countries. Such a move would take advantage of massive synergies and enable a clearer valuation of Vodafone assets; currently the value of businesses in India, Turkey, and Africa is not being reflected in Vodafones share price.

In Japan, our holdings in banks outperformed the market in the second quarter. A main driver of this trend is the increasing market expectation that banks will exit the crossholdings with their corporate customers. The practice of holding the other companys shares traditionally cemented the relationship

2 Data is that of a representative account from within the Composite.

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when a company decided from which bank to borrow in an economy that is severely overbanked. It has always been unclear whether the crossholdings genuinely helped banks make loans, but it is clear that the practice left bank balance sheets exposed to moves in the stock market. Exiting these crossholdings is positive as it allows investors to focus on a banks credit risk and no longer worry about the embedded equity market risk. Insulating the banks balance sheet from equity market moves also increases its capacity for higher levels of dividend payouts and share buybacks. Holdings in NTT DoCoMo (NTT), Japans largest integrated fixed line/mobile operator, outperformed in the quarter due to two factors. First, the company released a mid-term plan that included financial targets that were focused on delivering higher ROE and EPS growth. The EPS forecast included a commitment to achieving 350 of earnings per share in 2018, or roughly 13% compounded annual return. The company made it clear that should organic earnings trend below this forecast, management will buy back shares. The second positive factor is NTT has started a new wholesale service for fiber optic cable to the home (FTTH). The new scheme encourages the three cellular service providers to bundle NTTs fiber with their wireless service. The benefit to NTT is that they aim to dramatically reduce marketing expenditure to get incremental subscribers. Cost savings are material, which gives further credibility to the goal of achieving the EPS target.

Asciano, the Australian port and rail company that we have written about many times in the past, received a buyout offer from Brookfield Infrastructure Partners of Canada. The stock traded up sharply as a result.

Korean car company Hyundai Motors has been a value trap for over a year. The latest blow to the stock was poor sales numbers due to their aging model line-up. We believe the stock is now discounting a halving of margins and remains very inexpensive. Any positive moves on the corporate governance front, or a weaker won, should be positive for the share price.

CURRENCY AND HEDGINGFor the most part currencies rallied against the U.S. dollar in the quarter. The euro climbed 3.6% despite rumblings about Greece, and the U.K. pound gained 5.9%. The Japanese yen was one of the few currencies that fell, declining 2.1% while the Australian dollar gained 0.6%.

As mentioned above, in January we hedged the account such that, despite more exposure to eurozone markets than the benchmark, the exposure of the portfolio to the euro was roughly in line with that of the benchmark. As of June 30, 4.1% of the account was hedged. The hedge against the euro was negative in the quarter.

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Sector Weights and Performance June 30, 2015

GMO Parameter Profile June 30, 2015

Region/Country YieldGMO 1.4 16.2 8.3 3.0% 3.4% 4.7%MSCIEAFE 1.8 19.1 12.2 3.0% 2.9% 4.4%GMOPremium/(Discount) 23% 15% 31% 17% 6%toMSCIEAFE

PricetoBook

PricetoEarnings

(weightedmedian)

PricetoCashFlow

(weightedmedian)

TotalYield

FreeCashFlowYield

Sector SecondQuarter

ConsumerDiscretionary 2.9% 8.5% 14.0% 9.0%

ConsumerStaples 0.8% 5.0% 5.2% 5.2%

Energy 2.4% 2.6% 4.5% 9.0%

Financials 0.1% 6.6% 33.1% 37.1%

Healthcare 4.8% 7.9% 7.4% 7.5%

Industrials 1.4% 6.2% 8.3% 9.6%

InformationTechnology 2.6% 6.0% 8.3% 2.0%

Materials 4.3% 2.4% 1.0% 8.3%

TelecommunicationServices 3.8% 7.1% 13.0% 5.8%

Utilities 0.4% 3.3% 5.2% 6.6%

SectorWeightJune30,2015

GMOInt'lActive MSCIEAFE2015

MSCIEAFESectorPerformance

Free cash flow yield is calculated using the cash flow from operations less capex, divided by the market cap of the company for all companies except for financials. The net income divided by the market cap is used in the case of financials. Companies that do not have a reported number are excluded from the calculation.The above information is based on a representative account within the strategy selected because it has the fewest restrictions and best represents the implementation of the strategy. The information above is supplemental to the GIPS compliant presentation that was made available on GMOs website in September of 2014.

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Performance data quoted represents past performance and is not predictive of future performance. Returns are presented after the deduction of a model advisory fee and a model incentive fee if applicable. Net returns include transaction costs, commissions and withholding taxes on foreign income and capital gains and include the reinvestment of dividends and other income, as applicable. A GIPS compliant presentation of composite performance has preceded this presentation in the past 12 months or accompanies this presentation, and is also available at www.gmo.com. Actual fees are disclosed in Part 2 of GMOs Form ADV and are also available in each strategys compliant presentation. Fees paid by accounts within the composite may be higher or lower than the model fees used. The attribution information above is based on a representative account within the strategy selected because it has the fewest restrictions and best represents the implementation of the strategy. The information above is supplemental to the GIPS compliant presentation that was made available on GMOs website in September of 2014. Performance is shown compared to the MSCI EAFE Index, a broad-based securities market index that measures large capitalization international stocks. Broad-based indices are unmanaged and are not subject to fees and expenses typically associated with managed accounts or investment funds. Investments cannot be made directly into an index.Information about the composite is as of the period-end noted above, subject to change without notice and not intended as investment advice.Source: MSCI. The MSCI information may only be used for your internal use, may not be reproduced or redisseminated in any form and may not be used as a basis for or a component of any financial instruments or products or indices. None of the MSCI information is intended to constitute investment advice or a recommendation to make (or refrain from making) any kind of investment decision and may not be relied on as such. Historical data and analysis should not be taken as an indication or guarantee of any future performance analysis, forecast or prediction. The MSCI information is provided on an as is basis and the user of this information assumes the entire risk of any use made of this information. MSCI, each of its affiliates and each other person involved in or related to compiling, computing or creating any MSCI information (collectively, the MSCI Parties) expressly disclaims all warranties (including, without limitation, any warranties of originality, accuracy, completeness, timeliness, non-infringement, merchantability and fitness for a particular purpose) with respect to this information. Without limiting any of the foregoing, in no event shall any MSCI Party have any liability for any direct, indirect, special, incidental, punitive, consequential (including, without limitation, lost profits) or any other damages (www.mscibarra.com).

CountryIreland 0.4% 0.0% 4.6% 3.6% 8.5%HongKong 3.3% 1.9% 5.6% 0.0% 5.6%Norway 0.6% 0.0% 0.9% 2.3% 3.3%Austria 0.2% 0.0% 0.5% 3.6% 3.2%Japan 22.9% 20.9% 5.2% 2.1% 3.1%UnitedKingdom 20.3% 19.8% 2.8% 5.9% 3.0%Netherlands 2.8% 1.1% 0.9% 3.6% 2.8%Italy 2.4% 6.3% 1.2% 3.6% 2.5%Denmark 1.7% 0.0% 1.5% 3.6% 2.4%Portugal 0.2% 0.5% 1.7% 3.6% 2.0%Belgium 1.3% 1.4% 2.6% 3.6% 1.0%Switzerland 9.2% 7.2% 2.8% 3.7% 1.0%MSCIEAFE 1.8% 2.4% 0.6%France 9.7% 13.3% 3.3% 3.6% 0.3%Singapore 1.4% 0.0% 2.0% 1.9% 0.2%Israel 0.6% 0.9% 6.6% 5.3% 1.5%Spain 3.5% 3.6% 5.6% 3.6% 2.0%Sweden 2.9% 1.5% 6.6% 3.8% 3.0%Finland 0.8% 0.8% 7.4% 3.6% 3.9%Germany 8.9% 6.4% 9.0% 3.6% 5.6%Australia 6.9% 3.1% 6.8% 0.6% 6.2%NewZealand 0.1% 0.0% 3.6% 9.9% 13.1%

EmergingMarkets 0.0% 6.4%Cash 0.0% 4.8%

June30,2015MSCIEAFEReturnin$US

2015Q2MSCIEAFEReturnin

LocalCurrency

MSCIEAFECurrencyReturn

MSCIEAFEWeight

GMOInt'lActiveWeight

MSCI EAFE Country and Currency Returns

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2q 2015 International Update

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