2012 Economic Outlook: Overview of U.S. Economy Presented by: Mark - - PowerPoint PPT Presentation

2012 Economic Outlook: Overview of U.S. Economy

Presented by: Mark Evans, CFA Director of Investment Strategies mevans@viningsparks.com

A Recovery of Sorts

• Rates have fallen even further
• Economy is getting its footings
• Recovery poised to continue despite headwinds
• Inflation ex-commodities is tame, aided by slack
• Shift at the Fed is in its early stages

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INTENDED FOR INSTITUTIONAL INVESTORS ONLY. The information included herein has been obtained from sources deemed reliable, but it is not in any way guaranteed, and it, together with any opinions expressed, is subject to change at any time. Any and all details offered in this publication are preliminary and are therefore subject to change at any time. This has been prepared for general information purposes

• nly and does not consider the specific investment objectives, financial situation and particular needs of any individual or institution. This

information is, by its very nature, incomplete and specifically lacks information critical to making final investment decisions. Investors should seek financial advice as to the appropriateness of investing in any securities or investment strategies mentioned or recommended. The accuracy of the financial projections is dependent on the occurrence of future events which cannot be assured; therefore, the actual results achieved during the projection period may vary from the projections. The firm may have positions, long or short, in any or all securities mentioned. Member FINRA/SIPC.

Yields Have Fallen Further Over the Past Year

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Why?

• 2011’s Q1 “recovery” proved soft

– Housing prices continued down – Payroll growth was anemic – Growth was very weak an inflation non-existent – Government spending shifted toward a drag on economy

• Q2-Q3 External shocks

– Japan – Europe

• Results

– Market concluded recovery and inflation were distant – More easing from Fed

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3.90 3.80 2.50 2.30 0.40 1.30 1.80 3.00

• 3.00
• 2.00
• 1.00

0.00 1.00 2.00 3.00 4.00 5.00

3/31/2010 6/30/2010 9/30/2010 12/31/2010 3/31/2011 6/30/2011 9/30/2011 12/31/2011

GDP QoQ Change Attribution

Sources: Bureau of Economic Analysis, Vining Sparks

Personal Consumption (L-Axis) Government Spending (L-Axis) Gross Private Investment (L-Axis) Net Exportation (L-Axis) Total QoQ Annualized (R-Axis)

GROSS DOMESTIC PRODUCT GREW 1.7% IN 2011

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• 25%
• 20%
• 15%
• 10%
• 5%

0% 5% 10% 15% 20% 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011

Home Price Index Comparison (YoY)

Source: NAR, FHFA, CaseShiller, CoreLogic, Vining Sparks

NAR (NSA) FHFA (SA) CaseShiller (SA) CoreLogic (SA)

HOUSING SECTOR CONTINUES TO WEIGH ON GROWTH

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Economy Is Getting Its Footings

• Job growth is continuing
• Output gap is slowly closing
• Consumers are repairing balance sheets
• Shocks appear to be fading

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Private Payroll Growth (3mo Average)

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Unemployment Rate Has Fallen

0% 2% 4% 6% 8% 10% 12%

1981 1983 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011

Headline Unemployment Rate

Source: Bureau of Labor Statistics, Vining Sparks

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ISM Manufacturing Index

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1.7% 8.2% 35.1% 41.1% 13.8% 0.6% 17.3% 35.1% 26.2% 15.2% Shrink More than 5% Shrink up to 5% Unchanged Grow up to 5% Grow More than 5%

Expectations for Loan Portfolio (12 Months) Source: Vining Sparks Bank Survey

January 2012 Survey October 2011 Survey

Flow of Credit is Improving, Solid

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Positives Outweigh Negatives

Positives

• Growth continues – momentum

matters

• Payrolls, manufacturing growing
• Consumers repairing balance

sheets

• Global growth continuing
• Significant accommodation with

lagged effect

Negatives

• Growth is slow across all

measures

• Deep hole from which to recover
• Government fiscal issues loom

large

• Significant external shock
• Recovery runs out of steam

Risks

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9.9% 24.1% 13.8% 2.6% 6.3% 30.1% 59.9% 15.7% Mexico 1994 Asia 1997 Eurozone Portugal, Ireland, Italy, Greece, Spain

U.S. Exposure to Eurozone

Sources: Capital Economics, Vining Sparks

Export Shares (% of Total) Bank Exposure to Debt (% of Tier 1 Capital)

U.S. Exposure to Europe is Not Excessive

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Considerable Slack Remains

• Excess capacity is widespread

– Labor – Plant/Equipment – Housing

• Capacity constrains inflation
• Obsolescence is concern

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• 10
• 8
• 6
• 4
• 2

2 4 6 8 10

• 5

5 10 15 20 25 30 35 40 45 50 55 60 65 Millions Months from Beginning of Recession

Change in Nonfarm Payrolls from Beginning of Recessions

Source: Bureau of Labor Statistics, Vining Sparks

July 1981 Recession July 1990 Recession March 2001 Recession December 2007 Recession

Plenty of Room for More Jobs

• 5.23 million

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Unemployment Rate Understates Sidelined Workers

57.26%

56% 57% 58% 59% 60% 61% 62% 63% 64% 65% 1981 1983 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011

Jobs/Population Ratio

Source: Bureau of Labor Statistics, Vining Sparks

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Decline in Homes For Sale Understates Supply

1 2 3 4 5 6 7 8 9 10 2000 2002 2004 2006 2008 2010 Millions

Home Inventory by Type

Sources: NAR, MBA, Vining Sparks

Shadow Home Inventory (MBA) Existing Home Inventory New Home Inventory 4.2 million units 17

Looming Drags on US Economy

• Fiscal situation – Federal, State, and Local
• Monetary policy

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FISCAL AUSTERITY: TWO OPTIONS

Source: KPCB, OMB 19

Entitlement Programs Represent 41% of Budget

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Inflationary Threats to US Are Small

• Slack
• Headwinds
• Global containment / China

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What Has the Fed Done?

• Lowered rates to zero
• Expanded its balance sheet via QE1, QE2
• Operation Twist to bring down longer rates
• Markets have been impacted significantly by both conditions

requiring Fed action and by the actions

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Q1 Shift

• January

– Deep hole, slow recovery, and Europe had QE3 on table – Highlights inflation target of 2% (PCE) – More extensive forecasts from Fed Districts & Board

• February / March

– Improving economic data, especially labor & manufacturing – Europe appeared to be on a decent track – QE3 sliding below 50/50

• April

– Despite soft March employment data, economy still well – Tightening timeline accelerating?

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Vocal Fed Officials

Minneapolis Fed President Kocherlakota (April 12, voting 2014) “My own belief is that we will need to initiate our somewhat lengthy exit strategy sometime in the next six to nine months or so, and that conditions will warrant raising rates sometime in 2013 or, possibly, late 2012.” Richmond Fed President Lacker (April 4, voting 2012) “I was surprised a couple months ago at the probability market participants seemed to ascribe to further easing… While further easing is obviously something that’s conceivable, I wouldn’t favor it unless conditions deteriorated quite substantially.”

• St. Louis Fed Chairman Bullard (April 11, voting 2013, on the “late-2014” date)

“So far in 2012 the economy has surprised on the upside… As we get closer to the actual date, we’re going to have to move it around because the situation will have changed… I wouldn’t be reluctant to revise it.” Philadelphia Bank President Plosser (April 12, voting 2014) “Given that the unemployment rate has fallen and the inflation rate is rising, that’s not a signal that most reaction functions would tell you ‘ease more.’”

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More Recent Fed Comments

Atlanta Fed President Lockhart (April 11, voting 2012, discussing another round of quantitative easing) “I am still not convinced that another round in this time frame would achieve a great deal.” FOMC Governor Raskin (April 12, permanent voter) “Nationally, some economic news has been encouraging and may be suggesting that the pace of the recovery is picking up… However, the national economic recovery clearly has a long way to go.” San Francisco Fed President Williams (April 4, voting 2012) “The probability of needing to do additional stimulus is lower.”

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Fed Comments Continued…

New York Fed President Dudley (April 12, permanent voter) “The recovery may be getting better established… it is still too soon to conclude that we are out of the woods, as underlined by the March labor-market release.” Referring to the “late-2014” date set by the Fed, Dudley said “I haven’t seen any set of information that should suggest to me we should change that view.” FOMC Vice Chairman Yellen (April 11, permanent voter) “I consider a highly accommodative policy stance to be appropriate in present circumstances. But considerable uncertainty surrounds the

• utlook, and I remain prepared to adjust my policy views in response

to incoming information… In particular, further easing actions could be warranted if the recovery proceeds at a slower-than-expected pace, while a significant acceleration in the pace of recovery could call for an earlier beginning to the process of policy firming than the FOMC currently anticipates.”

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What to Watch

• Next week’s FOMC meeting

– Economic Forecast

• Changes vs January

– Fed Funds expectations

• Timing
• Long-run
• How will Q2 and Q3 play out?

– 2010 & 2011 slowdowns

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Fed’s New Communications & January’s Forecast

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Expectations

Now Q1 '13 Q3 '13 Fed Funds Target 0.25 0.25 0.25 2yr Treasury 0.27 0.50 0.75 10yr Treasury 1.98 3.00 3.00