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Macro & Portfolio Strategy

July 11, 2011

Stifel Nicolaus Mid-2011 Macro Outlook Slide Deck


Barry B. Bannister, CFA (443) 224-1317 bbbannister@stifel.com

Context - Interlocking structural challenges: U.S. needs traction, the EU a unified bond market, and China rebalancing. Favored Sectors: Technology, Communications, Health Tech., Finance (i.e., growth stocks and depressed rate sensitive) and Source of Funds: Non-Energy Minerals, Energy Minerals, and Mineral feeder industries (ex., Machinery, Oil Service). In our view: TRACTION: The U.S. structural challenge is to transfer private housing liabilities to the public sector while levitating asset values until nominal GDP growth offsets missing housing investment. Outlook: U.S. succeeds in 2H11 GDP traction, U.S. dollar stabilizes, commodities roll over April-December 2011, 2H11 corporate investment improves, and the S&P 500 rises, bounded at the low end by 1,200 and high end at 1,400 fair value (~5% over-shoot either side of 200dma). UNITY: The EU structural challenge is a transfer of fiscal sovereignty to a single bond market while preserving solvency, despite a stubbornly hawkish and increasingly vulnerable ECB. Outlook: EUR/USD down to ~1.35 as peripheral debt situation is far from over. European central bank balance sheets may be the next in focus. Portuguese public and Spanish private debt require restructuring, possibly along the lines of the Greek debt swaps and maturity extensions. REBALANCE: The Chinese structural challenge is to achieve the first soft landing in Emerging Market history following years of rapid credit growth, while rebalancing growth to bottom-up consumption despite such a directive coming from top-down authority. Outlook: Despite Chinese inflation peaking we see Chinese GDP weakening sharply in 2H11 with a traditional lag to monetary tightness, thereby significantly weakening construction-dependent commodities. Top-down authority can order fixed investment, but not consumption. Sections Since 4/4/11 we have said the Hard Asset vs. Paper Asset trade, a defining trade for leadership since 2002, is over (page 5-13) Favored Sectors: Technology, Communications, Health Tech., Finance (i.e., growth stocks and depressed rate sensitive) (page 14) Source of Funds: Non-Energy Minerals, Energy Minerals, Mineral feeder industries (ex., Machinery, Oil Service) (page 15-16) We see S&P 500 bouncing off the 200 day average in 2011, especially weak in summer, then 1,400 by the end of year (page 17-26) We see WTI Oil ~$75/bbl.in a year (more supply, less demand), but not without Asia slowing and Libya returning (page 27-34) Stifel Nicolaus does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision.

All relevant disclosures and certifications appear on pages 58 - 59 of this report.

Macro & Portfolio Strategy

July 11, 2011

Since commodities have become a financial asset, they should be subject to/pressured by a monetary relationship (page 35-38) The frightening scenario is the commodity market signaling a 20% S&P 500 bear market between April-August 2011? (page 39-45) Fed & Treasury are brilliantly converting a Depression into debt a work-out; we see the 10-year near 4% within a year (page 46-53) U.S. fiscal deficits are desirable, inflation should average about 3% to 2015, and debt deflation is a far greater risk (page 54-57)

Page 2

Macro & Portfolio Strategy

July 11, 2011

Stifel Nicolaus Mid-2011 Macro Outlook Slide Deck Interlocking Structural Challenges: Traction, Unity and Rebalancing
As of July 2011 S&P 500 1,353 (7/7/11) 10-Yr. 3.14% / 10/2yr. 267bps WTI Oil $99/bbl. / CRB-CCI 642 DXY 75.21 / EUR/USD 1.44

In our view:
(1) Context - Interlocking structural challenges: U.S. needs traction, the EU a single bond market, and China rebalancing. 4

Page

(2) Since 4/4/11 we have said the Hard Asset vs. Paper Asset trade, a defining trade for leadership since 2002, is over 5-13 (3) Favored Sectors: Technology, Communications, Health Tech., Finance (i.e., growth stocks, depressed rate sensitive)..... 14 (4) Source of Funds: Non-Energy Minerals, Energy Minerals, Mineral feeder industries (ex., Machinery, Oil Service). 15-16 (5) We see S&P 500 bouncing off the 200 day average in 2011, especially weak in summer, then 1,400 by the end of year17-26 (6) We see WTI Oil ~$75/bbl. in a year (more supply, less demand), but not without Asia slowing and Libya returning...... 27-34 (7) Since commodities have become a financial asset, they should be subject to/pressured by a monetary relationship.. 35-38 (8) The frightening scenario is the commodity market signaling a 20% S&P 500 bear market between Apr-Aug 2011?.......... 39-45 (9) Fed & Treasury are brilliantly converting a Depression into debt a work-out; we see the 10-year near 4% in a year.. 46-53 (10) U.S. fiscal deficits are desirable, inflation should average about 3% to 2015, and debt deflation is a far greater risk 54-57 Barry B. Bannister, CFA Managing Director, Equity Research - Macro & Sector Strategy Stifel Nicolaus & Co. bbbannister@stifel.com 443-224-1317
Stifel Nicolaus does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. All relevant disclosures and certifications can be found on page 58-59 of this report and on the research page at stifel.com.

Page 3

Macro & Portfolio Strategy

July 11, 2011

Structural Challenges: Traction (U.S.), Unity (EU), Rebalance (PRC)


In Our View: TRACTION: The U.S. structural challenge is to transfer private housing liabilities to the public sector while levitating asset values until nominal GDP growth offsets missing housing investment. Outlook: U.S. succeeds in 2H11 traction, U.S. $ stabilizes, commodities roll over April December 2011, 2H11 corporate investment improves, and S&P 500 rises, bounded at the low end by 1,200 and high end at 1,400 fair value (~5% over-shoot either side of 200dma). ----------------------------------------------------------------------------------------------------------------------------------UNITY: The EU structural challenge is a transfer of fiscal sovereignty to a single bond market while preserving solvency, despite a stubbornly hawkish and increasingly vulnerable ECB. Outlook: EUR/USD down to ~1.35 as peripheral debt situation is far from over. European central bank balance sheets next in focus. Portuguese public and Spanish private debt require restructuring, possibly along the lines of the Greek debt swaps and maturity extensions. ----------------------------------------------------------------------------------------------------------------------------------REBALANCE: The Chinese structural challenge is to achieve the first soft landing in Emerging Market history following years of rapid credit growth, while rebalancing growth to bottom-up consumption despite such a directive coming from top-down authority. Outlook: Despite Chinese inflation peaking we see Chinese GDP weakening sharply in 2H11 with a traditional lag to monetary tightness, thereby significantly weakening constructiondependent commodities. Top-down authority can order fixed investment, but not consumption.

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Macro & Portfolio Strategy

July 11, 2011

Since 4/4/11 we have said the Hard Asset vs. Paper Asset trade, a defining trade for leadership since 2002, is over
Successful U.S. economic traction removes U.S. $ debasement fears Deep EU debt woes reduce the downward pressure on the U.S. dollar Chinese efforts to restrain lending remove commodity demand

Page 5

Macro & Portfolio Strategy

July 11, 2011

On September 10, 2001 (the day before 9/11), we rolled out coverage of mining equipment maker Joy Global Inc. (JOYG) as it was emerging from bankruptcy. We were aligning our coverage to take advantage of what we saw as a shift to commodity strength. A key part of that report was the Paper to Hard Asset Switch, outlined in the report and excerpted to the right, as well as a long-term chart from the report of the U.S. stock market index divided by the U.S. commodity price index, which we felt was changing direction in favor of commodities.
Source: Stifel Nicolaus & Co., From a former report by Barry Bannister & Paul Forward dated September 10, 2001 published by Legg Mason Wood Walker, Inc., the prior owner of parts of the Stifel Nicolaus Capital Markets business.

Page 6

Macro & Portfolio Strategy

July 11, 2011

To the right we update the chart on the preceding page showing the Paper vs. Hard Asset trade from 1870 to present. Easy money has been a multiplier for the Paper to Hard Asset trade since 1999, favoring the latter until recently. The decline since 1999 of stocks relative to commodities is as powerful as any past cycle, while lasting a similar ~12 year period. Commodity sentiment has migrated from deep cyclical to growth, fueling extractive investment. Still, centuries of data support the view that commodity production is a price-taking, high fixed-cost, depleting, capital-intensive, deeply cyclical industry, with periodic pricing power that lures new capital (human & physical), only to be dashed against the rocks in relative deflation.

U.S. Stock Market relative to the Commodity Market, 1870 to June 13, 2011
Note: Excludes dividends for simplicity of cycle presentation
100.0
Key: When the line is rising, the S&P stock market index beats the commodity price index and when the line is falling the opposite occurs.

Relative price strength, stocks vs. commodities, log scale

10.0
Post-W.W. 2/Korea commodity inflation bubble bursts, disinflation ensues, 1950s bull market begins. Post-Civil War Reconstruction ends in 1877, gold standard begins 1879, deflationary boom, stocks rally. Post-WW 1 commodity bubble bursts, bull market begins.

OPEC overplays hand and oil prices collapse 1981, Volcker stops inflation 1981-82, Reagan cuts taxes, long Soviet collapse, disinflation & bull market 1980s-90s.

Credit growth expands money supply relative to commodities, post9/11 U.S. $ weakens, Mid-East wars, Asian commodity use.

1.0

Populism in U.S. politics. Panic of 1907, a banking crisis & stock market crash. WW1 1914 to 1918

'29 Crash, WW2 Gold 1939-45 siezed U.S.$ devalued in 1933.

Guns-andButter 1960s; Nixon closed OPEC '73 gold window embargo; 1971, all 1973-74 inflationary. Bear Market, Iran fell '79, Volcker tightens.

0.1
1870 1875 1880 1885 1890 1895 1900 1905 1910 1915 1920 1925 1930 1935 1940 1945 1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015E

U.S. stock market composite relative to the U.S. commodity market, 1870 to present

Source: Standard & Poors (Cowles Composite joined to S&P 500), U.S. PPI All Commodities joined to CRB futures (rebased). Note: While this is the time for cyclical (over) investment in commodity capacity that destroys pricing for commodity producers for a generation, the underlying equities respond to commodity prices, which we think have peaked.

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Macro & Portfolio Strategy

July 11, 2011

This paper relative to hard assets price cycle began precisely July 16, 1999 (left chart), after which the S&P 500 relative to the CRB CCI Futures fell. The S&P 500/CRB CCI bottomed at the same level (right chart) on Mar-7, 2009 when the numerator hit its low (S&P 500 ~$666), and again Mar-7, 2011 when the denominator peaked (Commodities close to their high). If the facts change well change our minds(1), but we now think the S&P 500 will outperform the CRB CCI futures.
The Ratio of U.S. Stock Prices (S&P 500) to Commodity Prices (CRB Futures) Daily prices 10/1/1998 to latest
8.00 7.50 7.00 6.50 2.50 6.00 5.50 5.00 2.25 4.50 4.00 3.50 3.00 2.50 2.00 1.50
Apr-99 Apr-00 Apr-01 Apr-02 Apr-03 Apr-04 Apr-05 Apr-06 Apr-07 Apr-08 Apr-09 Apr-10 Oct-98 Oct-99 Oct-00 Oct-01 Oct-02 Oct-03 Oct-04 Oct-05 Oct-06 Oct-07 Oct-08 Oct-09 Oct-10 Apr-11

The Ratio of U.S. Stock Prices (S&P 500) to Commodity Prices (CRB Futures) Daily prices 7/1/2008 to latest
2.75

Peak July 16, 1999

2.00

Low Mar-9,'09 1.94115

Low Mar-7,'11 1.9182

Close as of July 07, 2011 2.08054

1.75
Jul-08 Aug-08 Sep-08 Oct-08 Nov-08 Dec-08 Jan-09 Feb-09 Mar-09 Apr-09 May-09 Jun-09 Jul-09 Aug-09 Sep-09 Oct-09 Nov-09 Dec-09 Jan-10 Feb-10 Mar-10 Apr-10 May-10 Jun-10 Jul-10 Aug-10 Sep-10 Oct-10 Nov-10 Dec-10 Jan-11 Feb-11 Mar-11 Apr-11 May-11 Jun-11 Jul-11

Source: Factset prices. (1) If we are wrong and commodities have one more leg up versus the S&P 500 (causing the left chart to lurch down one more leg), it is because the first two downward moves since 1999 represented shock and acceptance in the context of a shock, acceptance & capitulation secular bear market for equities vs. commodities, and the third leg capitulation lies ahead. An example of a catalyst would be an Israel/Iran conflict that could cause oil to rise and the S&P 500 to fall.

Page 8

Macro & Portfolio Strategy

July 11, 2011

The rotation from paper to hard assets decided winners & laggards for the past decade (table, left side). But two centuries of rolling 10-year total return data for U.S. equities (right chart) shows that >13% 10-year compound returns are as good as it gets and <4% as bad as it gets. To sit with the top performers is to ride the wild bull of momentum, a precarious strategy.
Factset Industry Categories All Domestic Equity, Various Indicies, Total Return (Price + Dividend) Indices, 10-Yr. June 2001 to June 2011 Annual
Total Return
S&P Stock Market Composite 10-Year Compound Annual Total Return (Incl. Reinvested Dividends), Data from 1825 to Jul-6, 2011

22.5% 20.0% 17.5% 15.0% 12.5% 10.0% 7.5% 5.0% 2.5% 0.0% -2.5%

1835

1845

1855

1865

1875

1885

1895

1905

1915

1925

1935

1945

1955

1965

1975

1985

1995

Source: Factset sector returns. The S&P 500 and long-dated U.S. stock market total return is from A New Historical Database for the NYSE 1815 to 1925: Performance and Predictability, Yale School of Management, used with permission. Post-1925 data for stocks are Ibbotson/Morningstar and Standard & Poors largecap equity. Note that the stock market return index includes dividends. Chart formats/annotations are Stifel Nicolaus & Co.

2005

Non-Energy Minerals 17.1% Energy Minerals 12.7% Consumer Non-Durables 11.4% Process Industrials11.2% Health Services 9.8% Industrial Services 8.4% Transportation. 7.8% Consumer Services 7.6% Distribution Services 7.5% Retail Trade 6.6% Utilities 5.9% Producer Manufacturing 4.6% Consumer Durables 4.1% Technology Services 3.9% Communications 3.4% Health Technology 2.7% Electronic Technology 2.6% Finance 1.4% Commercial Services 0.4%

As good as it gets.

As bad as it gets.

Page 9

Macro & Portfolio Strategy

July 11, 2011

Having left behind disdain, doubt, and trepidation as stages of psychology, S&P 500 investors seem to us just cautious. In sharp contrast, the EM / commodity trade appears to us to be in the precarious Greed & Conviction or perhaps Indifference stage. We know what the right side of that curve feels like think Big Tech stocks 2000-02 or Big Finance stock 2008-09.

The Cycle of Investor Psychology


Greed & Conviction Enthusiasm Confidence Caution
S&P 500

Indifference
EM / Commodity (Same trade)

Dismissal Denial Dread Panic Disdain

Doubt & Trepidation Disdain

Source: Stifel Nicolaus adaptation.

Page 10

Macro & Portfolio Strategy

July 11, 2011

As the U.S. established hegemony in the 20th Century, commodities stair-stepped higher during periodic commodity inflations (left chart) because the U.S. utilized its open-ended fiat currency as a tool to institute secular, capitalist democracy in the world (WW 1&2, Cold War, the westernization of EM). We believe commodities may be about to level in price for upwards of 10+ years (left chart, red arrow) as stocks continue to consolidate back to the exponential trend (right chart, blue arrow).
Commodity Price Index, Log Scale Data1805toJuly7,2011
100.00

U.S. S&P Stock Market Total Return Index 1825 = $1 (Includes Reinvested Dividends), Data from 1825 to July 7, 2011 With exponentail trend shown in red $1,000,000.00
U.S.$ debasement, EM growth

We see a stronger U.S.$ and weaker EM construction demand causing commodities to enter another leveling period (that lasts 15+ years)
Cold War (1980 peak)

2000 high

while the S&P 500 trades in a range that takes it back to the exponential trend.

$10,000.00

10.00
World War 2, Korean Conflict

1932 low

War of 1812 & Napoleonic Wars (1814 peak)

World War 1 (1920 peak) U.S.Civil War (1864 peak)

$100.00

1897 (low)

$1.00

1.00

2015E

2025E

1805

1815

1825

1835

1845

1855

1865

1875

1885

1895

1905

1915

1925

1935

1945

1955

1965

1975

1985

1995

2005

$0.01

1825

1835

1845

1855

1865

1875

1885

1895

1905

1915

1925

1935

1945

1955

1965

1975

1985

1995

PPI All Commodities (Up to 1956) and CRB Commodity Futures (1957-now) Linked Commodity Prices Y/Y % Change, 10-Yr. Moving Average

Source: Commodity prices are described in the next exhibit. The last data point is April 29, 2011. The S&P 500 and long-dated U.S. stock market total return is from A New Historical Database for the NYSE 1815 to 1925: Performance and Predictability, Yale School of Management, used with permission. Post-1925 data for stocks are Ibbotson/Morningstar and Standard & Poors large-cap equity. Note that the stock market return index includes dividends. Chart formats/annotations are Stifel Nicolaus & Co.

2005

Page 11

Macro & Portfolio Strategy

July 11, 2011

Translating the prior page into 10-year growth rates, commodity prices have reached the highest 10-year rolling return in two centuries (left), rising with the adoption of fiat money. In contrast, the S&P 500 return (price + dividend) hit its lowest 10-year compound total return in two centuries (right) in 2008. Those are antithetical, mania and capitulation, value and momentum.
10-year smoothed commodity price growth may be peaking within widening amplitude Data1795toJuly7,2011,10yr.M.A.
Cold War (1980 peak) U.S.$ debasement, EM growth

15% 14% 13% 12%

22.5% 20.0% 17.5% 15.0% 12.5% 10.0% 7.5% 5.0% 2.5% 0.0% -2.5%

S&P Stock Market Composite 10-Year Compound Annual Total Return (Incl. Reinvested Dividends), Data from 1825 to Jul-7, 2011

10% 9% 7% 6% 5% 4% 3% 2% 1% 0% -1% -2% -3% -4% -5% -6% 8%


War of 1812 & Napoleonic Wars (1814 peak) U.S.Civil War (1864 peak)

Mania

Mania

Mania

World War 2, Korean Conflict

Mania

11%

World War 1 (1920 peak)

Mania

on Capitulati

on Capitulati

Capitulation

on Capitulati

on Capitulati

2015E

2025E

1805

1815

1825

1835

1845

1855

1865

1875

1885

1895

1905

1915

1925

1935

1945

1955

1965

1975

1985

1995

2005

1835

1845

1855

1865

1875

1885

1895

1905

1915

1925

1935

1945

1955

1965

1975

1985

1995

PPI All Commodities (Up to 1956) and CRB Commodity Futures (1957-now) Linked Commodity Prices Y/Y % Change, 10-Yr. Moving Average

Source: Commodities 1795 to 1890 are the Warren & Pearson U.S. commodity index constructed with farm products, foods, hides & leather, textiles, fuel & lighting, metals & metal products, building materials, chemicals & drugs, household furnishing goods, spirits and other commodities. 1891 to 1913 is the Wholesale Commodities Price Index from the BLS and other agencies. 1914 to 1956 is the PPI for All Commodities, and 1957 to present is the CRB Continuous Commodity Index, currently an equal-weighted, front-month index of 17 commodities including most high-use energy and agricultural commodities. The last data point is the 10-year moving average from 2002 to present of the y/y change, with the 2011 y/y value being July 7, 2011 divided by the same day in 2010. The S&P 500 and long-dated U.S. stock market total return is from A New Historical Database for the NYSE 1815 to 1925: Performance and Predictability written by the Yale School of Management, used with permission. This paper can be downloaded without charge from the Social Science Research Network Electronic Paper Collection. Post-1925 data for stocks are Ibbotson/Morningstar and Standard & Poors for large-cap equity. Note that the stock market return includes dividends. Chart formats and annotations are Stifel Nicolaus & Co.

2005

Page 12

Macro & Portfolio Strategy

July 11, 2011

Commodities pay no interest, and thrive on zero rates. Fed Funds rate (FFR) cycles off lower lows since 1982 (left chart) have magnified y/y FFR volatility (right chart), worsening each crisis for the past three decades. The sector most dependent on cheap money is the one that collapses shortly after the y/y change in the FFR peaks. We think that is the EM/Commodities/Commodity FX this cycle.
Markets adjust to level, so momentum matters. Each decade has featured a ~400bps Fed Funds rate hike... but each 400bps rate cycle was a larger percentage change in rates from a lower base, causing ever larger financial crises
220% 200% 180% 160% 140% 120% 100% 80% 60% 40% 20% 0% -20% -40% -60% -80% -100% 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010
A = Mar-89 peak, Drexel Burn. fails Feb-90 B = Dec-94 peak, Mexico Dec-94, EM 1997+ C = May-05 peak, housing peaks the next year

15% 14% 13% 12% 11% 10%

9% 8% 7% 6% 5% 4% 3% 2% 1% 0%

B A

Fed Funds Rate

Fed Funds Rate y/y% chg.

What happens when the FFR target is raised from ~15bps to ~150bps, a 10-fold increase? We doubt the effect is immediate, since crises require the FFR to actually peak on a y/y basis, but a financial crisis would seem possible middecade.

Source: U.S. Fed and government data, Stifel Nicolaus format. Page 13

Macro & Portfolio Strategy

July 11, 2011

Favored Sectors: Technology, Communications, Health Technology, Finance (i.e., growth stocks and depressed rate sensitive)
155 145 135 125 115 105 95 85 75 65 Health Technology Relative Strength vs S&P, Excluding Dividends, 155 YTD 145 135 125 115 Electonic Technology Relative Strength vs S&P, Excluding Dividends, YTD

Electronic Technology Includes:


Semiconductors Electronic Components, Equipment, & Instruments Telecom Equipment Aerospace & Defense Computer Processing Hardware, Peripherals, & communications Electronic Production Equipment

Health Technology Includes: Pharmaceuticals Major, Generic, & Other Biotechnology Medical Specialties

105 95 85 75 65

155 145 135 125 115 105 95 85 75

Communications Relative Strength vs S&P, Excluding Dividends, YTD

155 145 135 125 115

Finance Relative Strength vs S&P, Excluding Dividends, YTD

Communications Includes: Major, Specialty, & Wireless Telecom

105 95 85 75 65 Jan-11

Finance Includes: Banks, All Investment Services, All Insurance, All Real Estate Development, as well as RED Trusts

65 Jan-11

Feb-11

Mar-11

Apr-11

May-11

Jun-11

Jul-11

Feb-11

Mar-11

Apr-11

May-11

Jun-11

Jul-11

Source: Factset.

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Macro & Portfolio Strategy

July 11, 2011

Source of Funds: Non-Energy and Energy Minerals, Feeder industries (ex., Machinery, Oil Service)

135 130 125 120 115 110 105 100 95 90 85

Energy Minerals Relative Strength vs S&P, Excluding Dividends, YTD

135 130 125 120 115 110 105 100

Non-Energy Minerals Relative Strength vs S&P, Excluding Dividends, YTD

Non-Energy Minerals Includes: Steel Aluminum Precious Metals Other Metals/Minerals Forest Products Construction Materials

Energy Minerals Includes: Oil & Gas Production Integrated Oil Oil Refining/Marketing Coal
Feb-11 Mar-11 Apr-11 May-11 Jun-11 Jul-11

95 90 85 80 Jan-11

80 Jan-11

Feb-11 Mar-11

Apr-11

May-11

Jun-11

Jul-11

Source: Factset.

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Macro & Portfolio Strategy

July 11, 2011

When commodities are strong, the stocks of companies that increase commodity output and add to commodity capacity are winners. But even though heavy capital spending to monetize commodities occurs, the related equities respond only to the level and direction of commodity prices, not EPS for which P/E multiples may compress. So, we think flat commodities plus the stocks no longer rising on beats would be a sell signal.
Caterpillar relative to the S&P 500 (GREEN LINE) vs. CRB Futures Commodity Index (BLUE LINE)
9.0% 8.5% 8.0% 7.5%

Deere relative to the S&P 500 (GREEN LINE) vs. Value of U.S. Major Crops (BLUE LINE)
700 650

R2 Jan-84 to Jun-11 = 0.87


*CCI is the CRB Continuous Commodity Index

$180 $170 $160

R2 Jan-93 to Jun-2011 = 0.937

7.5% 7.0% 6.5% 6.0% 5.5% 5.0% 4.5% 4.0%

CRB Futures commodity price index (CCI)

600 550 500 450 400 350 300 250 200 150

$150

CAT stock price divided by S&P 500

7.0% 6.5% 6.0% 5.5% 5.0% 4.5% 4.0% 3.5% 3.0% 2.5% 2.0% 1.5% 1.0%

Corn + Soy + Wheat Crop Value ($ Bil.)

$140 $130 $120 $110 $100 $90 $80 $70 $60 $50 $40 $30 $20 $10 $0
`

3.5% 3.0% 2.5% 2.0% 1.5% 1.0% 0.5%

Jan-84

Jan-86

Jan-88

Jan-90

Jan-92

Jan-94

Jan-96

Jan-98

Jan-00

Jan-02

Jan-04

Jan-06

Jan-08

Jan-10

Jan-12

Corn+Wheat+Soybean Market Value of U.S. Production (LEFT AXIS)


CAT stock price relative to the S&P 500 Index CRB Futures Commodity Price Index

Deere Relative to the S&P 500 (RIGHT AXIS)

Source: Stifel Nicolaus & Co.

Jan-93 Jan-94 Jan-95 Jan-96 Jan-97 Jan-98 Jan-99 Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12

DE stock divided by the S&P 500

Page 16

Macro & Portfolio Strategy

July 11, 2011

We see the S&P 500 bouncing off 200 dma in 2011, especially weak through summer, then 1,400 by the end of year

Page 17

Macro & Portfolio Strategy

July 11, 2011

The S&P 500 in 2010-11 appears to us a mid-bull similar to 2004-06. Bear market memories faded in 2004-06, investors were cautious, and late bull 2006-07 conviction and momentum were too distant to contemplate. In mid-bull periods the 200 dma is tested repeatedly. We target the S&P 500 near or below the 200dma by mid-2011 (<=1,250) on Europe debt crisis and choppy U.S. growth, ending the year at 1,400 (weaker oil boosts consumer, tax-driven capex, auto build).
Phases of a Stock market Cycle in a Secular Bear market - The S&P 500 (1,334 on 7/6/11)
Bear Market
Defensive

Early Bull
Oversold Stocks

Mid Bull
Attractive Relative Value

Late Bull
Momentum

Bear Market
Defensive

Early Bull
Oversold Stocks

Mid Bull
Attractive Relative Value

1600 1500 1400 1300 1200 1100 1000 900 800 700 600

200dma TESTS IN A MIDDLEBULL MARKET

200dma TESTS IN A MID-BULL MARKET?

Source: Factset, Chart courtesy of Stifel Financial EquityCompass Strategies. Index final data point priced intra-day.

1/3/00 5/11/00 9/19/00 1/29/01 6/7/01 10/19/01 3/1/02 7/10/02 11/14/02 3/27/03 8/05/03 12/11/03 4/22/04 8/31/04 1/07/05 5/18/05 9/26/05 2/03/06 6/14/06 10/20/06 3/05/07 7/12/07 11/16/07 3/31/08 8/06/08 12/12/08 4/24/09 9/01/09 1/11/10 5/20/10 9/28/10 2/4/11 6/13/11
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Macro & Portfolio Strategy

July 11, 2011

Secular bear markets flatten in nominal terms for large cap equity ~14 years, with four such markets since 1900, shown below. Their purpose is to de-capitalize equity % of GDP by eroding buy-and-hold, market timers & momentum investors (i.e., everyone). Nominal lows in secular bears are seen near the mid-point, since investor awareness of long-term problems usually follows a normal distribution. A workable strategy is to buy fear / sell confidence, and if/when a break-out from the trading range occurs then go back in and buy for the long bull market ahead.
100,000

Dow Jones Industrial Average, 1896 to 2011


Secular bear market = ~14 range-bound, flat years

2000- .
10,000
2000 start
S&P 500 666 (Dow 6,443) in Mar 09.

1966-82
16 years flat

1,000

13 years down

1929-42

1907-21
14 years flat

1966 start

1974

low

1982 end

100
1921 end

1929 start 1942 end 1932

1906 start

1914

low

low

10

1896

1899

1902

1905

1908

1911

1914

1917

1920

1923

1926

1929

1932

1935

1938

1941

1944

1947

1950

1953

1956

1959

1962

1965

1968

1971

1974

1977

1980

1983

1986

1989

1992

1995

1998

2001

2004

2007

Source: Dow Jones, U.S. Census, Stifel Nicolaus format.

2010

Page 19

Macro & Portfolio Strategy

July 11, 2011

Reflationary efforts of the Fed have caused oil and the S&P 500 to closely correlate, but >$90/bbl. the correlation dissipated as oil became a drag on GDP and thus a counterbalance to loose monetary policy.
S&P 500 (LS) vs WTI, $ per bbl. (RS) Some breakdown >$90/bbl.

Until such time that Emerging countries slow, we believe the job of oil is to rise to a price point that slows U.S. oil demand growth to ~0%y/y. ~$90-100/bbl.
~$90-100/bbl. WTI oil (left) and $3.00-$3.25/gal. retail gasoline (right) appears to be the U.S. consumer's "pinch point"

$1,550 $1,450 $1,350 $1,250 $1,150 $1,050 $950 $850 $750 $650

$120 $115 $110 $105 $100 $95 $90 $85 $80 $75 $70 $65 $60 $55 $50 $45 $40 $35

$150 $140 $130 $120 $110 $100 $90 $80 $70 $60 $50 $40 $30 $20 $10

$4.50

$4.00

$3.50

$3.00

$2.50

$2.00

$1.50

$1.00
Jan-11 Jan-09 Jan-07 Jan-05 Jan-03 Jan-01 Jan-99 Jan-97 Jan-95 Jan-93 Jan-91 Jan-89 Jan-87 Jan-85 Jan-83 Jan-81 Jan-79 Jan-77 Jan-75 Jan-73 Jan-71 Jan-69 Jan-67

9-Mar-09 21-Apr-09 3-Jun-09 16-Jul-09 27-Aug-09 9-Oct-09 20-Nov-09 6-Jan-10 19-Feb-10 2-Apr-10 14-May-10 28-Jun-10 10-Aug-10 22-Sep-10 3-Nov-10 16-Dec-10 27-Jan-11 10-Mar-11 21-Apr-11 3-Jun-11 15-Jul-11

Inflation adjusted WTI $ per bbl Inflation Inflation-adjusted U.S All Grades Retail Gasoline Prices ($ per gallon)

S&P 500

WTI, $ per bbl

Source: Factset prices, U.S. BEA, U.S. BLS, Stifel Nicolaus format.

Page 20

Macro & Portfolio Strategy

July 11, 2011

We do not believe QE3 is necessary, but we have been warily monitoring the poor trend of the ISM for Manufacturing in terms of New Orders minus Inventories (chart below) which moves in tandem with the real S&P 500. In a decade in which the ability of debt leverage to generate rapid growth has failed, the ability to grow orders more rapidly than inventory is at a premium. The S&P 500 appears vulnerable to a correction, in our view, even if this is a soft patch like 2002-03.
The ISM Manufacturing New Orders minus Inventories Diffusion Index (Green, Right Axis) Impacts the S&P 500 Total Return (Blue, Left Axis)
60% 50% 40% 30% 20% 10% 0% -10% -20% -30% -40% -50% Left axis Right axis
S&P 500 Real Annual Total Return Manuf . New Orders Index Minus Inventory Index

35 30 25 20 15
Gap

10 5 0 -5 -10 -15 -20

Jan-99

Jan-00

Jan-01

Jan-02

Jan-03

Jan-04

Jan-05

Jan-06

Jan-07

Jan-08

Jan-09

Jan-10

Source: ISM, Factset.

Jan-12
Page 21

Jan-11

Jul-98

Jul-99

Jul-00

Jul-01

Jul-02

Jul-03

Jul-04

Jul-05

Jul-06

Jul-07

Jul-08

Jul-09

Jul-10

Jul-11

Macro & Portfolio Strategy

July 11, 2011

Employment is the weakest factor of production (land, labor & capital). Capital lagged off the 1975 lows, and Land (commodities) were weakest off the 1982 lows, so everyone gets a turn. We expect the U.S. unemployment rate to pause in 2011 then decline slowly to only 5.9% by 2015, close to the post-1948 average of 5.7%. History shows (below) that the real S&P 500 does not peak until just before unemployment bottoms. We see the S&P 500 peaking in 2014, but the pace moderating.
In 7 of 9 post-W.W. II instances, the real S&P 500 price do not tend to peak until just before the unemployment rate has bottomed, which we see occurring in 2015

1,000 900 800 700 600 500 400 300 200 100 0 Jan-48 Jan-50 Jan-52

12.0% 11.0% 10.0% 8.8% 9.0% 8.0% 7.0% 5.9% 6.0% 5.0% 4.0% 3.0% 2.0% 1.0% 0.0%

8.0% 7.3% 6.6%

Jan-54

Jan-56

Jan-58

Jan-60

Jan-62

Jan-64

Jan-66

Jan-68

Jan-70

Jan-72

Jan-74

Jan-76

Jan-78

Jan-80

Jan-82

Jan-84

Jan-86

Jan-88

Jan-90

Jan-92

Jan-94

Jan-96

Jan-98

Jan-00

Jan-02

Jan-04

Jan-06

Jan-08

Jan-10

Jan-12E

Real S&P 500 Index (Left)

Civilian Labor Unemployment Rate % (Right)

Source: U.S. BLS, Stifel Nicolaus estimates based on our eventual EUC expiration, female participation rate and payrolls assumptions described in our report dated Nov17, 2010 titled Positive S&P 500 reflexivity from a falling unemployment rate in 2011.

Jan-14E

Page 22

Macro & Portfolio Strategy

July 11, 2011

Foreign investment flows to the U.S. were dominated by corporate asset (primarily equity) purchases (Point A) as the federal deficit fell and absorbed less foreign cash (Point B) and U.S. relative economic growth was favorable during dislocations overseas (ex., Asia Crisis). Today, the opposite exists, but if the U.S. Federal deficit gradually and cyclically closes and U.S. relative GDP growth is favorable, we believe foreign buying of U.S. equities could resurge (Point C) concurrent with reduced foreign purchases of U.S. Treasuries & Agencies (Point D).
Foreign Inflows to Government & Agency Securities vs. U.S. Corporate Stocks & Bonds, % of Total Inflows/Outflows to U.S. Markets
140% 115%
$ Millions

$1,500,000

Purchases from Abroad: U.S. Government & Agency Issues vs. U.S. Corporate Stocks & Bonds

$1,250,000

90% 65%

$1,000,000

$750,000

40%

B
15% -10% -35% 3Q1990 1Q1992 3Q1993 1Q1995 3Q1996 1Q1998 3Q1999 1Q2001 3Q2002 1Q2004 3Q2005 1Q2007 3Q2008 1Q2010 3Q2011

$500,000

Growth stock/Tech Bubble

$250,000

$0 3Q1990 1Q1992 3Q1993 1Q1995 3Q1996 1Q1998 3Q1999 1Q2001 3Q2002 1Q2004 3Q2005 1Q2007 3Q2008 1Q2010 3Q2011

($250,000)

4-qtr. sum

4-qtr. sum

Source: U.S. Federal Reserve.

Page 23

Macro & Portfolio Strategy

July 11, 2011

One way to value the S&P 500 is cyclical average EPS. 5-year centered average(1) S&P 500 EPS 2008-12E are $82. Using a 5-year average S&P 500 P/E vs. CPI (inverted axis) since 1945 (left chart), 2-3% y/y inflation supports an S&P 500 P/E 16x-17s, or ~1,353 (16.5 x $82), e.g. S&P 500 resistance. Looking forward, if ROE(2) pressure causes S&P 500 5-year average EPS to plateau ~$100, then a 16x P/E could cap the S&P 500 by 2014 near the 2000/2007 high (right), or ~1,600.
U.S. Consumer Price Inflation (Inverted, Right Axis) vs. S&P 500 P/E Ratio (Left Axis) 5-yr. moving averages +3% y/y CPI Mar-11 supports a P/E 16x

S&P 500 daily price 1/3/00 to present


-5.0% -4.0% -3.0% -2.0% -1.0% 0.0% 1.0% 2.0% 3.0% 4.0% 5.0% 6.0% 7.0% 8.0% 9.0% 10.0% 11.0% 2015E

26X 25X 24X 23X 22X 21X 20X 19X 18X 17X 16X 15X 14X 13X 12X 11X 10X 9X 8X 7X 6X 1945

1,600 1,550 1,500 1,450 1,400 1,350 1,300 1,250 1,200 1,150 1,100 1,050 1,000 950 900 850 800 750 700 650 600
Jan-00 Sep-00 Jun-01 Mar-02 Nov-02 Aug-03 Apr-04 Jan-05 Sep-05 Jun-06 Mar-07

1565.15

1950

1955

1960

1965

1970

1975

1980

1985

1990

1995

2000

2005

2010

676.53

Nov-07

Aug-08

Apr-09

Jan-10

Sep-10

P/E of the S&P 500, 5-Yr. Moving Average (Left Axis) U.S. Consumer Inflation, Y/Y % Change, 5-Year Moving Average (Right Axis)

Source: S&P EPS, Factset prices.

Page 24

Macro & Portfolio Strategy

July 11, 2011

Another way to value the S&P 500 is economic profits. Inventory Valuation (IVA) and Capital Consumption (CCAdj)(1) economic profit adjustments applied to the S&P 500 P/E support a current discount for the S&P 500 P/E of about 15%, or a P/E of ~13x applied to consensus forward EPS of just over $100, resulting in mid-1,300s resistance for the S&P 500, in our view.
U.S. Corporate Profits After IVA & CCAdj. RELATIVE to Reported U.S. Corporate Profits versus S&P 500 Operating P/E on Latest 12-month EPS, data 3Q1947 to 1Q2011 30.0x Adjustments are positive
Adjusted/Unadjusted Profits, right axis S&P 500 P/E, left axis

1.80x 1.60x 1.40x

25.0x

20.0x

1.20x 1.00x 0.80x 0.60x

15.0x

10.0x

P/E 13x = 15% discount

5.0x

Adjustments are negative


1950Q1 1952Q1 1954Q1 1956Q1 1958Q1 1960Q1 1962Q1 1964Q1 1966Q1 1968Q1 1970Q1 1972Q1 1974Q1 1976Q1 1978Q1 1980Q1 1982Q1 1984Q1 1986Q1 1988Q1 1990Q1 1992Q1 1994Q1 1996Q1 1998Q1 2000Q1 2002Q1 2004Q1 2006Q1 2008Q1 2010Q1

0.40x 0.20x

0.0x

S&P 500 Operating P/E on LTM EPS (Left Axis)

Adjusted Relative to Un-adjusted U.S. Corporate Profits (Right Axis)

Source: S&P EPS, Factset prices, U.S. National Income and Product Accounts, U.S. Bureau of Economic Analysis. (1) IVA and CCAdj. remove inventory profits and correct for depreciation due to tax policies and replacement cost changes. The 1950 to present R2 between S&P 500 EPS (operating EPS post-1989, reported EPS earlier) and NIPA IVA & CCAdj. corporate profits is 0.93, so we believe NIPA may be used to analyze the S&P 500.

Page 25

Macro & Portfolio Strategy

July 11, 2011

The path to a 10%/year S&P 500 return to 2018? Another way to measure prospective return is through risk-adjusted methods. Major bottoms for the S&P 500, 1920, 1938 and 1974, had about the same return per unit of standard deviation the next 10 years, or ~0.60. On that basis, the return from 2008 (bottom) to 2018 may be 11.7%, and from mid2011 the implied return to 2018 is 10%/year (price + dividend).
22.5% 20.0% 17.5% 15.0% 12.5% 10.0% 7.5% 5.0% 2.5% 0.0% -2.5% -5.0% 1900 1904 1908 1912 1916 1920 1924 1928 1932 1936 1940 1944 1948 1952 1956 1960 1964 1968 1972 1976 1980 1984 1988 1992 1996 2000 2004 2008

S&P Stock Market Composite 10-Year Compound Annual Total Return (Including Reinvested Dividends), Data 1900 to Apr-28, 2011

The Large Cap U.S. Equity Total Return the 10 years before and after the 1920 bottom

The Large Cap U.S. Equity Total Return the 10 years before and after the 1938 bottom
60% 50% 40% 30% 20% 10% 0% -10% -20% -30% -40% 1928 1929 1930 1931 1932 1933 1934 1935 1936 1937 1938 1939 1940 1941 1942 1943 1944 1945 1946 1947 1948 -50%

The Large Cap U.S. Equity Total Return the 10 years before and after the 1974 bottom
60% 50% 40% 30% 20% 10% 0% -10% -20% -30% -40% -50%

The Large Cap U.S. Equity Total Return the 10 years leading up to the 2008 bottom

1910-20 Average 1910-20 Stand. Dev. Ret. / unit of St Dev. 1920 (low) to 1930 Avg. 1920-30 Stand. Deviation Ret. / unit of St Dev.

1.3% 13.0% 0.10 12.8% 22.2% 0.58

1928-38 Average 1928-38 Stand. Dev. Ret. / unit of St Dev. 1938 (low) to 1948 Avg. 1938-48 Stand. Deviation Ret. / unit of St Dev.

8.1% 35.1% 0.23 10.4% 17.1% 0.61

1964-74 Average 1964-74 Stand. Dev. Ret. / unit of St Dev. 1974 (low) to 1984 Avg. 1974-84 Stand. Deviation Ret. / unit of St Dev.

3.8% 16.2% 0.23 11.8% 19.1% 0.62

1998-08 Average 1998-08 Stand. Dev. Ret. / unit of St Dev. 2008 (low) to 2018 Avg. 2008-18 Stand. Deviation Ret. / unit of St Dev.

Note: The implied return 2008-18 is calculated by multiplying the units of return per unit of standard deviation by the average standard dev. of return for the 3 periods to the left (1920, 1938 & 1974).

Source: The S&P 500 and long-dated U.S. stock market total return is from A New Historical Database for the NYSE 1815 to 1925: Performance and Predictability, Yale School of Management, used with permission. Post-1925 data for stocks are Ibbotson/Morningstar and Standard & Poors large-cap equity. Note that the stock market return index includes dividends. Chart formats/annotations are Stifel Nicolaus & Co.

1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012E 2013E 2014E 2015E 2016E 2017E 2018E

1910 1911 1912 1913 1914 1915 1916 1917 1918 1919 1920 1921 1922 1923 1924 1925 1926 1927 1928 1929 1930

1964 1965 1966 1967 1968 1969 1970 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984

60% 50% 40% 30% 20% 10% 0% -10% -20% -30% -40% -50%

60% 50% 40% 30% 20% 10% 0% -10% -20% -30% -40% -50%

3.2% 21.1% 0.15 11.7% 19.4% 0.60

Page 26

Macro & Portfolio Strategy

July 11, 2011

We see WTI Oil ~$75/bbl. in a year (more supply, less demand), but not without Asia slowing and Libya returning

Page 27

Macro & Portfolio Strategy

July 11, 2011

G7 country(1) oil demand is now below trend (left chart), having experienced in 2007-09 an oil shock similar to 1979-81 from which recovery in oil demand is likely to be as slow this cycle as it was in the 1980s, in our view. G7 oil demand is now 38% of the world total, growing at an average 0.4%/year. In contrast, non-G7 country oil demand has grown at ~3%/yr., is 62% of world demand, is above trend and may pull-back (right chart), especially if GDP slows and subsidy distortions are rolled back in the Emerging world due to budget woes, as we expect.
bbl. 000s/day

G7 (U.S., U.K., Ger, Fr, It, Jap, Can) Oil Demand, 1970-2010 (000s bbl.)
38% of world oil demand growing at an average 0.4% y/y growth rate

bbl. 000s/day

Non-G7 Country Oil Demand, 1970-2010 (000s bbl.)


62% of world oil demand growing at an average 3.0% growth rate

55,000

55,000

Above trend

50,000

50,000

45,000

45,000

40,000

Below trend

40,000

35,000

35,000

30,000

30,000

25,000

25,000

20,000

20,000

15,000 1970 1973 1976 1979 1982 1985 1988 1991 1994 1997 2000 2003 2006 2009

15,000 1970 1973 1976 1979 1982 1985 1988 1991 1994 1997 2000 2003 2006 2009

Source: EIA, BP Statistical Review, United Nations, IEA, Stifel Nicolaus. (1) G7 is U.S., U.K., Germany, Japan, France, Italy and Canada.

Page 28

Macro & Portfolio Strategy

July 11, 2011

(G7 = 38% of world oil demand x 0.4% trend growth) + (non-G7 62% x 3.0% trend growth) = ~2% world oil demand growth, or 1.75 mb/d of incremental oil demand per year. In 2010, world oil demand grew 3.1%, well within the historical range of normal (left chart) and we see ~2% in 2011. If Emerging country GDP slows or subsidies are reduced, that takes pressure off the world oil markets, but in the longer term accommodating Asia and raising Middle East exports (via better Middle East efficiency of use) are key challenges (right chart).
World Oil Demand, y/y% 1979-2010
4.0% 3.5% 3.0% 2.5% 2.0% 1.5% 1.0% 0.5% 0.0% 1979 1981 1983 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 -0.5% -1.0% -1.5% -2.0% -2.5% -3.0% -3.5% -4.0%
(35,000) 2010 2008 2006 2004 2002 2000 1998 1996 1994 1992 1990 1988 1986 1984 1982 1980 1978 1976 1974 1972 1970 (25,000)
China Europe & Eurasia

bbl. 000s/day

35,000

Net Oil Exports (Positive) / Imports (Negative), 000 bbl./day 1970 to 2010 (Production is ex-biofuels, Consumption includes)

Projected growth rate 2.0%


S. & Cent. Amer.

25,000
Africa

15,000
Middle East

5,000

(5,000)

Asia ex-China

(15,000)
North America

Source: EIA, BP Statistical Review, United Nations, IEA.

Page 29

Macro & Portfolio Strategy

July 11, 2011

8%

Gross Capital Form ation as % W orld Nom inal GDP

8% 7% 6% 5% 4% 3% 2%
Euro Area China US

China has been the major global driver of incremental commodity demand since ~2002. Top-down China has used fixed investment (construction, capex, etc.) to generate GDP (top chart, right), creating an investment vs. consumption imbalance. Command economies excel at fixed investment projects, but commanding personal consumption is far more difficult. The risk to China we see is that Fixed Investment falls over about 2 years by ~150bps as a percentage of world GDP (to just below the trend line in the top chart), and this occurs more quickly than Chinese Personal Consumption spending can rise 150 bps as an offset and as a percentage of world GDP (bottom chart).

7% 6% 5% 4% 3% 2% 1% 0% 1991 1993 1995 1997 1999 2001 2003


Thiswasvery goodfor commodities.

1% 0% 2009 2011 26% 24% 22% 20% 18% 16% 14% 12% 10% 8% 6% 4% 2% 0%
United States Euro Area Linear (China) China

2005 2005

26% 24% 22% 20% 18% 16% 14% 12% 10% 8% 6% 4% 2% 0% 1991 1993

Personal Consum ption Expenditure as % W orld Nom inal GDP

1995

1997

1999

2001

2003

2007

2007

2009

Source: World Bank, IMF.

2011

Page 30

Macro & Portfolio Strategy

July 11, 2011

A stronger U.S. $ typically undermines oil prices. Reserve currency is a home court advantage in deleveraging, and a gift to high saving countries during leveraging. After winning W.W. II and the Cold War, the U.S. post-1946 established reserve currency status, and logically chose to borrow and mildly inflate while fulfilling its duty to provide open-ended reserves to the modernizing world. But linear devaluation roils creditors, so every 10 years external events or Fed actions have engineered a cyclical dollar rally, one of which may now begin, in our view, if the EU peripheral debt issues worsen and Asian growth falters.
Nominal Trade-Weighted U.S.$ Major Currency Index, 1936 to Jun-2011 (Left) versus U.S. GDP as a share of global GDP expressed in PPP U.S. $, 1950 to 2011E (Right)
120 110 Nominal trade-weighted U.S. $ 100 90 80 70 60 50 40 30
We expect a USD bounce between 2011-2014, and weak commodity prices.

30% 29% 28% 27% 26% 25% 24% 23% 22% 21% 20% 19% 18% 17%

Bretton Woods Agreement began U.S. dollar ascent that we're still unwinding; U.S. share world GDP peaks.

Emerging markets reserves increase, dollar rallies.

1936

1941

1946

1951

1956

1961

1966

1971

1976

1981

1986

1991

1996

2001

2006

Source: U.S. GDP with a base year 1990 links the OECD Geary-Khamis 1950 to 1979 series to the IMF World Economic Outlook 1980 to present series. U.S. dollar data is from the U.S. Federal Reserve 1971 to present, for 1970 and prior we use R.L. Bidwell - Currency Conversion Tables - 100 Years of Change, Rex Collins, London, 1970, and B.R. Mitchell - British Historical Statistics - Cambridge Press, pp. 700-703. For trade weightings pre-1971 we use Historical Statistics of the United States, Colonial Times to 1970, a U.S. Census publication.

2011E

U.S. GDP share of global GDP, World Bank & IMF linked series, constant dollars

Fed tightens 1968-69, dollar rallies, Martin -> Burns Fed transition 1970, then Bretton Woods abandoned.

Fed's Volcker hikes rates sharply.

31%

Page 31

Macro & Portfolio Strategy

July 11, 2011

The four previous secular bear markets for oil since the 20th Century were ~17 years long (chart, 1899-1915, 1926-1945, 1957-1972 & 1980-1998), with an average nominal price decline of -35%, impacted by new oil supply. If ~$100/bbl. in 2011 is the peak, a 35% 17-year (to 2028E) decline would take oil prices to $65/bbl for the reasons we list in the chart to the left under 2011-2028E.
Inflation-adjusted Crude Oil Prices, $ per bbl. - Double Peak, Then 17-Year Slide
$100

End of the gold standard

Oil Decline
2011-2028E WTI Oil falls to $65/bbl. on increased U.S. output, strong ramp in Iraqi oil production (out-of-quota), a breakdown in OPEC cohesion as regimes seek to maximize cash flow to support welfare states and forestall rebellion, weaker EM demand as China works through credit problems, U.S. dollar strengthens moderately as a result of euro solvency and EU integration challenges.

Period Nominal Oil $/bbl. (Chart, left is real price) Period Percentage Price Change

Year 1899 16 Years Year 1915

$1.29 /bbl. Est. -50% Decline $0.64 /bbl. Est.

$10
1899-1915 California alone reached 22% of global oil production. Large oil discoveries in Spindletop, TX, Glenn Pool, OK and Louisiana. In addition, Anglo-Persian struck oil in Persia. 1926-1945 Venezuela's output hits #2 globally. Dormant since 1920, PostBolshevik Revolution Russian production ramps to repair the economy. The Black Giant is discovered in East Texas. Romanian oil production ramps.

1957-1972 Middle East production rises to 30% of world total. African output rises (mainly Libya). Between 1955-1960, Russian production doubles under the "Soviet Economic Offensive."

1980-1998 By 1981, nonOPEC surpasses OPEC due to Mexico, Alaska & North Sea. From 19801985, Saudi output falls 2/3 as they defend oil prices amid rising OPEC member noncompliance and Russian production. But, in Nov1985, Saudi & OPEC flood the market to maintain Saudi share.

Year 1926 19 Years Year 1945 Year 1957 15 Years Year 1972 Year 1980 18 Years Year 1998 Year 2011 17 Years Year 2028E

$1.88 /bbl. Est. -44% Decline $1.05 /bbl. Est. $3.04 /bbl. Est. 17% Increase $3.56 /bbl. Est. $37.38 /bbl. Est. -62% Decline $14.39 /bbl. Est. $100.00 /bbl. Est. -35% Decline $65.23 /bbl. Est.

$1 1892 1897 1902 1907 1912 1917 1922

1927

1932

1937

1942

1947

1952

1957

1962

1967

1972

1977

1982

1987

1992

1997

2002

2007

2012

2017

2022

Source: BP data, BLS, EIA, Stifel Nicolaus projections. Note: Although inflation led to a higher second peak in the 1970s, accumulated debt since 1980, which is deflationary, would prevent that reoccurrence, in our view.

2027

Page 32

Macro & Portfolio Strategy

July 11, 2011

Corn prices have jumped ~85% every generation. We believe such price hikes are necessary to attract a new generation of capital into farming. But with bio-fuel as a catalyst for this rally exhausted at e-10 (10% ethanol), we feel grain prices have peaked, although exports should help prices remain firm, in our view.
$6.50 $6.00 $5.50 $5.00 $4.50 $4.00 $3.50 $3.00 $2.50 $2.00 $1.50 $1.00 $0.50 $0.00 1900 1905 1910 1915 1920 1925 1930 1935 1940 1945 1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015E 2020E
C o rn B u s h e ls (M il.)
5,000 4,500 4,000 3,500 3,000 2,500 2,000 1,500 1,000 500 0

U.S. Corn Prices Received by Farmers, $/bu. 1900 to YTD Average of 2010/2011 Crop Year (Sep. to Aug.)
Prices (blue line) rise in steps (red line)
Ethanol usage of corn should peak now that the blend wall of e-10 has been reached
35% 30% 25% 20% 15% 10% 5% 0% C o rn in e th a n o l, % U .S . C ro p 40%

+90% $2.36 old avg to $4.50 new avg.?

2007 to 2030? Average = ~$4.50 +/- $2/bu.

+83%

1974 to 2006 Average = $2.36


+82%

Corn used to make ethanol

Source: Bloomberg, USDA.

2011/12E 2010/11E 2009/10 2008/09 2007/08 2006/07 2005/06 2004/05 2003/04 2002/03 2001/02 2000/01 1999/00 1998/99 1997/98 1996/97
Corn used to make ethanol, % of U.S. crop

1900 to 1945 Average = $0.71

1946 to 1973 Average = $1.29


These are USDA national season average U.S. prices, and are often below spot market quotations.

Page 33

Macro & Portfolio Strategy


10000

July 11, 2011


World Annual Production of Iron Ore Absolute and Per Capita, 1904-2010E
0.50 0.45

Iron ore produced, mil. metric tonnes

0.40

The results are similar for other commodities. We see demand growing more slowly and supply recovering. Iron ore naturally feeds infrastructure globally, but largely in China (48% of world demand). The first eight years of iron ore demand growth after W.W. II (bottom, left shows detail) were similar to the first eight years after 2002 (bottom, right detail). But from 1954-75, and in our view from 2011-2032E, the return of the cycle for commodities, with punishing 1-3 year periods if investors buy high and sell low, may shock some investors.

1000

Post-WW2 were 8 strong years for infrastructure, followed by cyclical growth.

Tons per capita production

0.35 0.30 0.25 0.20 0.15 0.10 0.05

100
1904 1907 1910 1913 1916 1919 1922 1925 1928 1931 1934 1937 1940 1943 1946 1949 1952 1955 1958 1961 1964 1967 1970 1973 1976 1979 1982 1985 1988 1991 1994 1997 2000 2003 2006 2009

0.00

World iron ore production, left axis

World per capita iron ore production, right axis

1000

World Annual Production of Iron Ore Absolute and Per Capita, 1945-1975

0.25 0.23 0.21

10000

World Annual Production of Iron Ore Absolute and Per Capita, 2002-2032E

0.60

Iron ore produced, mil. metric tonnes

5 19
13 %

5 4-7

Iron ore produced, mil. metric tonnes

GR CA

4%

0.55

0.50

Tons per capita production

Tons per capita production

0.19 0.17 0.15 0.13 0.11 0.09 0.07

0.45

CA GR

CA GR

-5 4

10

0.40

0.35

46

02 - 10

19

0.30

20

0.25

0.20

2010E

2012E

2014E

2016E

2018E

2020E

2022E

2024E

2026E

2028E

2030E

1945

1947

1949

1951

1953

1955

1957

1959

1961

1963

1965

1967

1969

1971

1973

1975

World iron ore production, left axis World per capita iron ore production, right axis

World iron ore production, left axis World per capita iron ore production, right axis

Source: Stifel Iron Ore Mining Research, USGS, U.S. Census. Stifel Nicolaus estimates for 2010 production.

2032E

2002

2004

2006

2008

100

0.05

1000

0.15

Page 34

Macro & Portfolio Strategy

July 11, 2011

Since commodities have become a financial asset, they should be subject to/pressured by a monetary relationship

Page 35

Macro & Portfolio Strategy

July 11, 2011

Why have commodities risen since ~2000? Since banks create money by making loans (fractional reserve banking system), we believe that beyond demand factors commodities were lifted by credit 1995-2007. Asian excess savings were funneled into U.S. dollars, enabling credit growth that tripled money supply (left chart) after 1995. Since dollars are the unit of account, money and commodities both tripled (right chart) and QE + Chinese building added fuel to the fire. As a result, a fair value for the average commodity may be ~10% below current levels, minus a probable over-shoot.
Growth of Components of U.S. M3 Money Supply ($ bil.)
$15,000 $14,000 $13,000 $12,000 $11,000 $10,000 $9,000 $8,000 $7,000 $6,000 $5,000 $4,000
Savings Deposits Repos Institutional Money Funds

2008

Sum = M3

750 700 650 600

Commodity Prices (CRB Futures Continuous Commodity Index) Daily prices 10/14/1998 to present

Eurodollars

3x

550
Deng currency reforms in China, Mexican Peso & Asian debt crises.
Large-Time Deposits

M2 = Below
Retail Money Funds

500 450 400

Credit growth

3x

1995

Small Denom. Time Deposits

350 300 250 200 150


Aug-98 Feb-99 Aug-99 Feb-00 Aug-00 Feb-01 Aug-01 Feb-02 Aug-02 Feb-03 Aug-03 Feb-04 Aug-04 Feb-05 Aug-05 Feb-06 Aug-06 Feb-07 Aug-07 Feb-08 Aug-08 Feb-09 Aug-09 Feb-10 Aug-10 Feb-11

$3,000 $2,000 $1,000 $0


Jan-81 Jan-82 Jan-83 Jan-84 Jan-85 Jan-86 Jan-87 Jan-88 Jan-89 Jan-90 Jan-91 Jan-92 Jan-93 Jan-94 Jan-95 Jan-96 Jan-97 Jan-98 Jan-99 Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11

M1 = Below
Demand & Other Check Deposits

QE 1 & 2

Currency & Travelers Checks

Source: U.S. Federal Reserve for M3 (SA) 1959 to 2005. For M3 2006 forward we use: M2 + Large time deposits + Institutional Money Mkt. Balances + Fed Funds & Reverse repos with non-banks + Interbank loans + Eurodollars (regress historical levels versus levels of M3 excluding Eurodollars), CRB Continuous Commodity Futures, Stifel Nicolaus format.

Page 36

Macro & Portfolio Strategy

July 11, 2011

Gold is money, everything else is credit attributed to J.P. Morgan. The price of gold in U.S. dollars (vertical axes below) oscillates around money supply (horizontal axes). A fair value for gold would be ~$900/oz. on that basis, but fear of debasement always causes gold to oscillate sharply above or below that trend. As a result, a small increase in M2 could drive a parabolic spike in gold, but this is the risky phase. As a result, we are a trend follower in this case.
The relationship held before abandonment of the gold exchange standard in 1971 (below)
$45/oz.

and after abandoning the gold standard in 1971 (below).


Gold Price (U.S.$/oz., Annual Avg.) vs. M2 Money, 1919-2011
2011 $1,500/oz. $1,400/oz.

Gold Price (U.S.$/oz., Annual Avg.) vs. M2 Money, 1919-1970

$1,600/oz.

Gap

$40/oz.

$1,300/oz. $1,200/oz.

1934 $35/oz. 1970

$1,100/oz. $1,000/oz. $900/oz.

Gap

$30/oz.

$800/oz. $700/oz. $600/oz. 1980

Gap

$20/oz.

1930

Area of detail

$400/oz. $300/oz. $200/oz. $100/oz. $0/oz. $0B (M2)

Gap

2001

1970 $1,000B (M2) $2,000B (M2) $3,000B (M2) $4,000B (M2) $5,000B (M2) $6,000B (M2) $7,000B (M2) $8,000B (M2) $9,000B (M2) $10,000B (M2)

$15/oz. $0B (M2) $100B (M2) $200B (M2) $300B (M2) $400B (M2) $500B (M2) $600B (M2) $700B (M2) $800B (M2)

Source: Stifel Nicolaus analysis, U.S. Federal Reserve, Bloomberg.

Gap

$25/oz.

$500/oz.

Gap

Perhaps the value of gold in USD should relate to the quantity of USD? In that event, fair value is $900/oz., and over the next 10 years we converge to a rising trend for M2, or $900-$1,000

Page 37

Macro & Portfolio Strategy

July 11, 2011

In addition to gold (preceding page), oil prices oscillate around money supply. A fair value for oil would be ~$72/bbl., but that requires a stronger U.S. dollar. Since that is our view, among other negatives impacting oil described herein, we see oil falling to $75/bbl. in a year.
$5/bbl. $110/bbl.

$4/bbl.

Oil Price (U.S.$/bbl., Annual Avg.) vs. M2 Money, 1919-1970

$100/bbl.

Oil Price (U.S.$/Bbl., Annual Avg.) vs. M2 Money, 1919-2011

2009

2011

$90/bbl. $4/bbl. $80/bbl.


1920 1960 1968 1949

$3/bbl.

$70/bbl.

$3/bbl.

$60/bbl.

$2/bbl.

$50/bbl.

$40/bbl. $2/bbl. $30/bbl. $1/bbl.


1945

1980 2000

2001

$1/bbl.

1931

Area of detail
$100B (M2) $200B (M2) $300B (M2) $400B (M2) $500B (M2) $600B (M2) $700B (M2)

$20/bbl.
1998

$10/bbl.

$0/bbl.

$0/bbl.

$1,000B (M2)

$2,000B (M2)

$3,000B (M2)

$4,000B (M2)

$5,000B (M2)

$6,000B (M2)

$7,000B (M2)

$8,000B (M2)

$9,000B (M2)

$0B (M2)

Source: Stifel Nicolaus analysis, U.S. Federal Reserve, EIA, Moodys Economy.com data.

$0B (M2)

Page 38

Macro & Portfolio Strategy

July 11, 2011

The frightening scenario is the commodity market signaling a 20% S&P 500 bear market April-August 2011?

Page 39

Macro & Portfolio Strategy

July 11, 2011

Past manias followed a somewhat regular 3-step disbelief, belief, mania price pattern, but failure to re-attain the previous high after the price cycle broke signaled a bust (see the annotation Fail, i.e., the Value Trap in each chart below).
Dow Jones Industrial Average, 1/3/1921-12/31/1936
$400

Nikkei 225, 1/2/1985 - 12/30/1996


$40,000
$5,000

Nasdaq Composite, 1/2/1990 to 12/31/2004

$350

3
Fail

3
Fail

$4,500 $4,000 $3,500

$35,000 $300

Fail

$250

$30,000

2
$200

$3,000 $2,500

2 1

$25,000

$150

$20,000

$100 $15,000

$2,000 $1,500 $1,000

2 1

$50

$0
1/3/1921 1/3/1922 1/3/1923 1/3/1924 1/3/1925 1/3/1926 1/3/1927 1/3/1928 1/3/1929 1/3/1930 1/3/1931 1/3/1932 1/3/1933 1/3/1934 1/3/1935 1/3/1936

$10,000
1/2/1985 1/2/1986 1/2/1987 1/2/1988 1/2/1989 1/2/1990 1/2/1991 1/2/1992 1/2/1993 1/2/1994 1/2/1995 1/2/1996

$500

12/1/94

12/1/95

12/1/96

12/1/97

12/1/98

12/1/99

12/1/00

12/1/01

12/1/02

12/1/03

$160

WTI Oil, 1/2/1998 - 12/31/2010 $900

Gold Price $/oz. 1980 Bubble


2/1/78 - 1/31/82 $5,000

Home Builders Index, 12/30/1994 to Present

$140

3
$120

$800

Fail

$4,500

3
Fail

$700 $600

Fail

$4,000 $3,500

$100

$80

2 1

$3,000 $2,500 $2,000 $1,500 $1,000

$500

$60

2
$400 $300

$40

$20

$200
$0

$500
12/30 12/30 12/30 12/30 12/30 12/30 12/30 12/30 12/30 12/30 12/30 12/30 12/30 12/30 12/30 12/30 12/30

1/2/1997

1/2/1998

1/2/1999

1/2/2000

1/2/2001

1/2/2002

1/2/2003

1/2/2004

1/2/2005

1/2/2006

1/2/2007

1/2/2008

1/2/2009

1/2/2010

$100
01/26/78 05/26/78 09/26/78 01/26/79 05/26/79 09/26/79 01/26/80 05/26/80 09/26/80 01/26/81 05/26/81 09/26/81

$0

Source: Historical daily price series, Compustat, Factset.


Page 40

12/1/04

Macro & Portfolio Strategy

July 11, 2011

Within a three-stage disbelief, belief and greed mania bubble pattern (left chart), each stage is punctuated by corrections, which are a bear trap (bearish disbelievers sell), a bull trap (bullish believers sell, as happened to this analyst in late 2009), and a value trap (latecomers buy the third dip, a mistake). July 1999 was the bottom for the CRB CCI divided by the S&P 500, denoted by a red arrow in the right chart. This feels like the value-trap stage (right chart) to us. Initial support for the CRB would be ~431 in July 2011, down ~37% from peak in April 2011. For how we time that level and percent, turn to the next page. SECULAR BULL MARKET STAGES
DIMINISHING RETURNS BOTTOM TO TOP
GREED

Commodity Prices (CRB Futures Continuous Commodity Index) Daily prices 10/14/1998 to present

700

E VALU TRAP

600 550

500 450 400

GREED
431 = Initial support based on past busts

E LU VA A P TR

650

3
BUL L TRAP

INEVITA T BLE BUS

2 1

F IE EL SB DI

300 250 200 150 100


Feb-99 Aug-99 Feb-00 Aug-00 Feb-01 Aug-01 Feb-02 Aug-02 Feb-03 Aug-03

IEF EL SB DI

Jul-16, 1999 S&P 500 peaks vs. CRB

Feb-04 Aug-04

B
R EA P B RA T
Feb-05 Aug-05

EL IE F
Feb-06 Aug-06

F IE EL B

350

LL BU AP TR

Feb-07 Aug-07

Feb-08 Aug-08

Feb-09 Aug-09

Feb-10 Aug-10

Source: Stifel Nicolaus, CRB Futures from Factset.

Aug-98

Feb-11

AR BE AP TR

Page 41

Macro & Portfolio Strategy

July 11, 2011

The decline from the commodity top (A right chart below) to the normal first level of support (B below), typical of a post-bubble breakdown, the burst bubbles shown two pages back fell an average 37% from the peak. If commodities were a bubble and if April 20, 2011 was the peak for the CRB CCI Commodity Index at 686.34, then a decline of 37% for the CRB CCI to 431 (about the level when QE2 was announced 3Q10, by the way) would be normal in the context of the move from A to B in past cycles, and history suggests this could occur in July 2011.
Calendar Days of Decline from Top to 1st Bottom 71 days 94 days 74 days 57 days 75 days 91 days 77 days 14 days Percent Decline to 1st Bottom -48%

A (top)

Top DJIA 1929 - 1930 Nikkei 1989 - 1990 NASDAQ 1990-2000 Gold 1979 - 1980 Crude 1999 - 2008 Homebuilders 1999 - Present 9/3/1929 12/29/1989 3/10/2000 1/21/1980 7/3/2008 7/28/2005

1st Bottom 11/13/1929 4/2/1990 5/23/2000 3/18/1980 9/16/2008 10/27/2005

Fail
Ma nia

-28% -37% -43% -37% -29% -37% 7% 431 398 +1

B (1st Support)

t Bus

Averages Standard Deviation CRB 686.34 on 4/20/2011 Peak?

7/3/11E to 74 days 7/17/11E + 1 91 days + 1

Source: Historical daily price series, Compustat, Factset.

Page 42

Macro & Portfolio Strategy

July 11, 2011

The correlation between the S&P 500 and CRB CCI has been strong (left), but may lessen. As a result, a decline in the CRB CCI from 642 currently to 431 (-33%) may not lead to a proportional drop for the S&P 500, but an S&P 500 ~1,150 (-15%) would be our expectation in that case (right chart).
LTM correlation S&P 500 and CRB CCI, January 1980 - Current 1.00 0.80 0.60 0.40

Based on a regression (not shown), we estimate a sudden decline in the CRB CCI (left axis, black) could bring the S&P 500 (red line, right axis) down to 1,150 700 650
S&P 500 right CRB CCI left

1,700 1,600 1,500 1,400 1,300 1,200 1,100 1,000 900 800 700 600

0.20 0.00 -0.20 -0.40 -0.60 -0.80 -1.00


Apr-94 Apr-95 Apr-96 Apr-97 Apr-98 Apr-99 Apr-00 Apr-01 Apr-02 Apr-03 Apr-04 Apr-05 Apr-06 Apr-07 Apr-08 Apr-09 Apr-10 Apr-11

600 550 500 450 400 350 300

65.0 55.0 45.0 35.0 25.0 15.0 5.0


Apr-94 Apr-95 Apr-96 Apr-97 Apr-98 Apr-99 Apr-00 Apr-01 Apr-02

VIX
250 200 150 Apr-96 Apr-97 Apr-98 Apr-99 Apr-00 Apr-01 Apr-02 Apr-03 Apr-04 Apr-05 Apr-06 Apr-07 Apr-08 Apr-09 Apr-10 Apr-11

Monthly CRB CCI

Monthly Average S&P500

Source: Historical daily price series, Compustat, Factset.


Page 43

Apr-03

Apr-04

Apr-05

Apr-06

Apr-07

Apr-08

Apr-09

Apr-10

Apr-11

Macro & Portfolio Strategy

July 11, 2011

Within 1-2 years of real oil prices spiking >75% y/y (chart below), the real S&P 500 has fallen >20% in every instance since 1970. Oil crossed +75% y/y in Jan-2010, but has the S&P 500 been levitated (for now) by QE? Or was Jan-10 y/y just an easy oil price comparison we should dismiss?
Inflation-adjusted S&P 500, y/y% 50% 40% 30% 20% 10% 0% -10% -20% -30% -40% -50%
Source: Moodys Economy.com prices, inflation indices.
Oil S&P 500 Crosses Crosses +75% y/y (20)% y/y Jan-74 Nov-73 Oct-79 Mar-82 Jul-87 Aug-88 Nov-99 Mar-01 Jun-08 Sep-08 Jan-10 2011?

175% 150% 125% 100% 75% 50% 25% 0% -25% -50% -75% -100% Jan-70 Jan-72 Jan-74 Jan-76 Jan-78 Jan-80 Jan-82

Interval -2 mos. 29 mos. 13 mos. 16 mos. 3 mos.

Inflation- adjusted Crude Oil $ per bbl., y/y% Jan-84 Jan-86 Jan-88 Jan-90 Jan-92 Jan-94 Jan-96 Jan-98 Jan-00 Jan-02 Jan-04 Jan-06 Jan-08 Jan-10 Jan-12
Page 44

Macro & Portfolio Strategy

July 11, 2011

Consumer spending on essential items (defined in the left chart, shown in the right chart) are historically >46% of personal income when recessions begin. That is not currently the case, so we see the current environment as a sluggish recovery. But as a risk we caution that it would not take a large tax or oil hike to pierce 46% of personal income and perhaps cause a double-dip.
Essential Items % of Personal Income
Essential items are: Food & beverages for off-premises (i.e., home) consumption, gasoline & transport services and other energy, personal health care expenditures, personal current taxes, and mortgage payments.

Temporary tax cuts, lower mortgage payments, and cheap non-oil energy are keeping essentials under control (for now)
15% 14% 13% 12% 11% 10% 9% 8% 7% 6% 5% 4%
1980Q1 1982Q1 1984Q1 1986Q1 1988Q1 1990Q1 1992Q1 1994Q1 1996Q1 1998Q1 2000Q1 2002Q1 2004Q1 2006Q1 2008Q1 2010Q1

100
48%

1 0 0 8 0 6 0 4 0 2 0

~46.2% of Income = trigger for recession (shaded areas), so only a 0.8% increase is needed to start a recession?

90 80 70 60

Healthcare

47%

Mortgage

Indiv. Taxes

46%

50of as
1Q11

45.4%

Food at Home Gasoline & Trans.

45%

40 30

44%

20 10

Foodstuffs bought for off-premises (i.e., home) consumption % of Personal Income Gasoline, transportation services and other energy goods % of Personal Income Health care expenditures % of Personal Income Personal current taxes % of Personal Income Mortgage payments % of Personal Income

43% 1980Q1 1982Q1 1984Q1 1986Q1 1988Q1 1990Q1 1992Q1 1994Q1 1996Q1 1998Q1 2000Q1 2002Q1 2004Q1 2006Q1 2008Q1 2010Q1

Source: Recessions in gray shaded areas of left chart. U.S. BEA, U.S. Federal Reserve, NBER recessions, Stifel Nicolaus format.

Page 45

Macro & Portfolio Strategy

July 11, 2011

Fed & Treasury are brilliantly converting a Depression into a debt work-out; we see the 10-year near 4% within a year
Faced with the same debt deflation issues as 1929-33 the Fed & Treasury in 2008-11 responded with every tool not available in 1929-32, such as: (a) a fiat reserve currency, (b) unused federal debt capacity, (c) relatively open global labor markets (d) knowledge the democratic U.S. could survive unemployment and (e) knowledge that the Communist Chinese regime could not. U.S. policymakers have chosen to let the air debt out of the tire slowly, borrowing GDP from the future to avoid uncontrolled liquidation today.

Page 46

Macro & Portfolio Strategy

July 11, 2011

We believe a Depression began in 2000, moderated by U.S. reserve currency status and an enlightened Fed & Treasury(1). Equity today (right chart) is following the path of the Great Depression (left). The comparable market in terms of speculation to the 1920s-30s Dow (left) is the NASDAQ (right) today. Just as 1932-37 was temporarily supported by federal debt, 2002-07 benefited from housing debt. In both cases, 1938 and 2008, removal of support was detrimental, leading to unilateral actions by struggling states in pursuit of growth.
Dow Industrials Jan-3 1927 to Jan-3 1941 (2 1/2 years before peak, 12 years after) vs. 200-day moving average
$400 $350 $300 $250 $200 $150 $100 $50 $0 Jan-27 Jan-28 Jan-29 Jan-30 Jan-31 Jan-32 Jan-33 Jan-34 Jan-35 Jan-36 Jan-37 Jan-38 Jan-39 Jan-40 Jan-41

$5,500 $5,000 $4,500 $4,000 $3,500

NASDAQ Composite Jul-1 1997 to present (2 1/2 years before peak, 12 years after) vs. 200-day moving average

ulati Spec

Jul-97

Jul-98

Jul-99

Jul-00

Jul-01

Jul-02

Jul-03

Jul-04

Jul-05

Jul-06

Jul-07

Jul-08

Jul-09

Dow Jones Industrial Average

Dow Industrials 200-day moving average

Nasdaq composite Index

NASDAQ Composite 200-day moving average

Source: Dow Jones prices, Bloomberg. (1) Enlightened unless one concurs with the liquidation strictures of an inflexible gold standard. The gold standard puts all nations on equal footing with respect to balance of payments irrespective of the advantages gained by (and need for, see Colossus by Niall Ferguson) superpower/reserve currency status.

Jul-10

e ativ cul Spe o et c ass llap se


lc ca s Fi
it ed al Cr mov re

ol set c ve as

it ed al Cr mov re

po es tr di re

e ns

$3,000 $2,500 $2,000 $1,500

e laps
Ho ng usi

spo t re edi cr

nse

Sep-1939 Germany invaded Poland

$1,000 $500

Aug-2010 Jackson Hole/QE2

Page 47

Macro & Portfolio Strategy

July 11, 2011

Changes in the savings rate (left chart) abruptly impact GDP via changes in consumption. So, stabilizing the personal savings rate at ~5 % reduces the consumption drag from deleveraging, but that requires those very same asset values that drive net worth to not decline in price (right chart). In that sense, we believe U.S. GDP is highly asset value sensitive, hence Fed policy.
Personal Saving Rate
14% 13%
Personal Savings as a % of Disposable Income

Household Net Worth vs. Personal Savings Rate


14% 13% 12% 11% 10% 9% 8% 7% 6% 5% 4% 3% 2% 1% 0% 400%
1Q2011

12%
Personal Savings as a % of Disposable Income

11% 10% 9% 8% 7% 6% 5% 4% 3% 2% 1% 0%
1970Q1 1973Q1 1976Q1 1979Q1 1982Q1 1985Q1 1988Q1 1991Q1 1994Q1 1997Q1 2000Q1 2003Q1 2006Q1 2009Q1

The collapse of net worth/income from ~650% to 500% drove the savings rate initially from ~1% to 7%. Future losses from housing may be offset by rising stocks via profit share of GDP and low discount rates, causing savings to stabilize ~5.5%, in our view.

450%

500%

550%

600%

650%

Household Net Worth as a % of Disposable Income

Source: Federal Reserve, BEA.

Page 48

Macro & Portfolio Strategy

July 11, 2011

The Fed unwound emergency lending and bought Treasuries/Agencies, creating reserves (left chart). Banks use reserves to extend loans, thereby creating money supply. As a result, we expect the market for loans not the Fed to set interbank rates in the future. As Fed assets expanded, risk assets (right charts) climbed, but GDP traction is to keep assets aloft, in our view.
$ Billion $2,900 $2,400 $2,150 $1,900 $1,650 $1,400 $1,150 $900 $650 $400 $150 -$100 -$350 -$600 -$850 -$1,100 -$1,350 -$1,600 -$1,850 -$2,100 -$2,350 -$2,600 -$2,850 -$3,100
5-Mar-08 5-Jan-08 5-Nov-07 5-May-09 5-Mar-09 5-Jan-09 5-Nov-08 5-Mar-10 5-Jan-10 5-Mar-11 5-Jan-11 5-Jul-08 5-May-08 5-Jul-10 5-May-10 5-May-11 5-Sep-07 5-Sep-08 5-Nov-09 5-Sep-09 5-Nov-10 5-Sep-10 5-Jul-09
Liabilities Treasury SFP Reserve Balances at Fed Other Securities Held Outright Assets Repurchase Agreements Liquidity Facilities

U.S. Federal Reserve Bank Weekly Assets & Liabilities Sep-5, 2007 to June 26, 2011

$3,100 $2,900
Fed assets, $ Bil.

Fed Asset Expansion Has Moved with Risk Assets, such as the S&P 500

1,450 1,350 1,250

$2,650

$2,700 $2,500 $2,300 $2,100 $1,900

QE2

Other

1,050 950 850 750 650


Jun-11 May-11 Apr-11 Mar-11 Feb-11 Jan-11 Dec-10 Nov-10 Oct-10 Sep-10 Aug-10 Jul-10 Jun-10 May-10 Apr-10 Mar-10 Feb-10 Jan-10 Dec-09 Nov-09 Oct-09 Sep-09 Aug-09 Jul-09 Jun-09 May-09 Apr-09 Mar-09

QE1
Term Auction Credit

$1,700

Fed Total Assets ($ Bil., Left)

S&P 500 (Right)

$3,100 $2,900
Fed assets, $ Bil.

Fed Asset Expansion Has Moved with Risk Assets, such as the CRB Continuous Commodity Index

750 700 650

Other

$2,500 $2,300 $2,100 $1,900 $1,700


Jun-11 May-11 Apr-11 Mar-11 Feb-11 Jan-11 Dec-10 Nov-10 Oct-10 Sep-10 Aug-10 Jul-10 Jun-10 May-10 Apr-10 Mar-10 Feb-10 Jan-10 Dec-09 Nov-09 Oct-09 Sep-09 Aug-09 Jul-09 Jun-09 May-09 Apr-09 Mar-09

Excess reserves. See Footnote (1) below.

550 500 450 400 350 300

Currency in Circulation

Fed Total Assets ($ Bil., Left)

CRB CCI (Right)

Source: Federal Reserve, NBER, FactSet. Charts formats and annotations are Stifel Nicolaus & Co.

(Footnote 1) Since the Fed must out-bid market rates via term auction facilities to keep newly created excess reserves at the Fed, the Fed has probably lost control of short term rates and must manage its balance sheet to tighten/loosen. We view this as positive, however, since market-based rates in a recovery are preferable to Fed intervention.

Page 49

CRBFuturesCCI

$2,700

600

S&P500

1,150

Macro & Portfolio Strategy

July 11, 2011

Bank lending has ratcheted down from annual growth of 11% pre-1980 to 8% 1980-97, growing perhaps ~2-3% in the future (left chart). Note 2-3% is the mid-point of our expected range for U.S. nominal GDP growth this decade, resulting in commercial bank credit relative to GDP (right chart) that shrinks. A combination of private credit in lieu of bank loans and reduced mortgage growth may restrain total bank credit, relegating banks to cyclical trades in the absence of much top line.
Total Loans & Leases at Commercial Banks y/y% Growth has ratcheted down since 1949, from ~11% growth pre-1980 to ~8% 1980-97 to perhaps 2-3% in the future period, the mid-point of expected nominal GDP (as part of a general de-leveraging)
Notice the way loan growth steps down. 2-3% growth would be the mid-point of the nominal GDP we expect for the foreseeable future.
68% 66% 64% 62% 60% 58% 56% 54% 52% 50% 48% 46% 44% 42% 40% 38% 36% 34% 32%
Jan-47 Jan-50 Jan-53 Jan-56 Jan-59 Jan-62 Jan-65 Jan-68 Jan-71 Jan-74 Jan-77 Jan-80 Jan-83 Jan-86 Jan-89 Jan-92 Jan-95 Jan-98 Jan-01 Jan-04 Jan-07 Jan-10

U.S. Commercial Bank Credit relative to U.S. Nominal GDP, Jan-1947 to present

24% 23% 22% 21% 20% 19% 18% 17% 16% 15% 14% 13% 12% 11% 10% 9% 8% 7% 6% 5% 4% 3% 2% 1% 0% -1% -2% -3% -4% -5% -6% -7% -8% -9%

Source: FDIC, St. Louis Fed data, Stifel Nicolaus format.

Jan-49 Jan-51 Jan-53 Jan-55 Jan-57 Jan-59 Jan-61 Jan-63 Jan-65 Jan-67 Jan-69 Jan-71 Jan-73 Jan-75 Jan-77 Jan-79 Jan-81 Jan-83 Jan-85 Jan-87 Jan-89 Jan-91 Jan-93 Jan-95 Jan-97 Jan-99 Jan-01 Jan-03 Jan-05 Jan-07 Jan-09 Jan-11

Page 50

Macro & Portfolio Strategy

July 11, 2011

How did the U.S. get in this consumer debt predicament? Asia recycling its savings back to the U.S. created cheap debt, but why did U.S. consumers borrow? We think because wages & salaries (exbenefits) as a percentage of U.S. GDP (blue line) began to fall in 1971, when Bretton Woods ended(1). By adding the change in household debt to wages & salaries (gold line) we show in the chart below that consumers borrowed the income gap, at least until credit access stopped in 2007.
Source: U.S. Federal Reserve, Bureau of Economic Analysis, Bureau of Labor Statistics.

After the Gold Exchange Standard ended in 1971 U.S. consumers supplemented weak wages with consumer debt, but that ended in 2008 and a (temporary?) welfare state began 59% 57% 55% 53% 51% 49% 47% 45% 43% 41% 39% 1952Q2 1955Q2 1958Q2 1961Q2 1964Q2 1967Q2 1970Q2 1973Q2 1976Q2 1979Q2 1982Q2 1985Q2 1988Q2 1991Q2 1994Q2 1997Q2 2000Q2 2003Q2 2006Q2 2009Q2
4Q71 Gold Exchange system ends Housing bust

Wage & Salary Disbursements Percent of GDP Wage &Salary Disbursements PLUS Quarterly $ Change annualized in Household Debt as a Percent of GDP

(1) The official end of the gold exchange standard in 1971 coincided with a rapid rise in U.S. dollar quantity worldwide, as the U.S. fulfilled its duty to provide a reserve currency to the high savings rate developing nations. Globalization was capital friendly and periodically commodity friendly, but it was real wage growth unfriendly. Perhaps this occurred as a trade-off to escape a motivating factor (global poverty) behind 20th Century foreign wars, for which the Vietnam-weary U.S. had no appetite. The U.S. opening its currency to overseas accumulation lifted foreign labor. Later recycling of foreign savings kept U.S. interest rates low, enabling consumers to borrow the income gap, but now that the debt cycle has gone fiscal we would expect private sector leveraging to be constrained for many years.

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We see mortgage debt as a percentage of GDP falling for the next 10 years (left chart) and Federal debt (right) facilitating private sector de-leveraging while back-filling a deficiency of Consumption and Investment (i.e., GDP equals Consumption + Investment + Government + Net Exports, so running deficits (G) forestalls a decline in GDP). Total debt/GDP has not declined by much (text box, right chart), so we remain more worried about renewed debt deflation than price inflation.
80% 75% 70% 65% 60% 55% 50% 45% 40% 35% 30% 25% 20% 15% 10%
1953Q1 1955Q1 1957Q1 1959Q1 1961Q1 1963Q1 1965Q1 1967Q1 1969Q1 1971Q1 1973Q1 1975Q1 1977Q1 1979Q1 1981Q1 1983Q1 1985Q1 1987Q1 1989Q1 1991Q1 1993Q1 1995Q1 1997Q1 1999Q1 2001Q1 2003Q1 2005Q1 2007Q1 2009Q1 2011Q1 2013Q1 2015Q1 2017Q1 2019Q1 2021Q1
4Q 1997 = 44.7%

Nominal Home Mortgage Debt as a % of Nominal GDP


Growing mortgage debt at half nominal GDP, or about 2.5% versus 5% nominal GDP, for almost 10 years would lower mortgage debt to its pre-bubble 1997 level.

1Q 2009 = 74.7%

Debt as a Percentage of U.S. GDP, by Category


130%
Change in debt since 2Q08 as a % of GDP (bps): Financial debt 2Q08 to 1Q11 Change: -2,120 bps Private household 2Q08 to 1Q11 Change: -749 bps Private business 2Q08 to 1Q11 Change: -276 bps Public debt 2Q08 to 1Q11 Change: +2,770 bps

1Q 2011 = 66.4%

120% 110% 100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0%
1952Q1

= Debt/GDP down 375 BPS since 2Q08

1955Q1

1958Q1

1961Q1

1964Q1

1967Q1

1970Q1

1973Q1

1976Q1

1979Q1

1982Q1

1985Q1

1988Q1

1991Q1

1994Q1

1997Q1

2000Q1

2003Q1

2006Q1

2009Q1

2012Q1

-10% -20% -30%

Financial Private Nonfinancial Household

Public Nonfinancial Private Nonfinancial Business

Source: FactSet prices, Federal Reserve, Stifel Nicolaus format. Note that Financial Debt is primarily securitization, and is thus a double-counted liability. If a homeowner owes a mortgage and that mortgage is re-issued as a debt security by the holder of the mortgage then it is Financial Debt and is thus twice counted.

2015Q1

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Macro & Portfolio Strategy

July 11, 2011

The Treasury maturity structure is already priced for higher rates and/or debt levels (left chart). More important is whether interest rates are below nominal GDP growth, which is inflationary (Period A, right), or above GDP growth and deflationary (Period B). Currently, rates and y/y nominal GDP are balanced, something we expect for several years. A 3% 10-year yield equates to 3% 10-year nominal GDP growth (~2-3% real, ~0-1% inflation), whereas a 5% 10-year yield equates to 5% 10-year nominal GDP growth (~3% real, ~2% inflation), in our view.
Avg. Maturity of Total Marketable Federal Debt Outstanding (Months, Left) Versus Total Interest Rate burden of Federal Debt as a Percent of GDP (Right)
Interest Rate on 10-Year U.S. Treasuries (%) vs. U.S. Nominal GDP Y/Y %
5.5%
16.00% 15.00%

75 mos.

70 mos.

5.0%

14.00% 13.00%

65 mos.

4.5%

12.00% 11.00%

d rio Pe

60 mos.

4.0%

10.00% 9.00%

Pe rio d

U.S. rates to stay in-line with nominal GDP.

55 mos.

3.5%

8.00% 7.00%

50 mos.

3.0%

6.00% 5.00% 4.00% 3.00% 2.00%

45 mos.

2.5%

40 mos.

2.0%

1.00% 0.00% 1970Q1 1972Q1 1974Q1 1976Q1 1978Q1 1980Q1 1982Q1 1984Q1 1986Q1 1988Q1 1990Q1 1992Q1 1994Q1 1996Q1 1998Q1 2000Q1 2002Q1 2004Q1 2006Q1 2008Q1 2010Q1

35 mos.

Avg. Maturity of Total Marketable Federal Debt Outstanding (Left Axis) Federal Gov't Interest Payments % of GDP

1.5%

-1.00% -2.00%

30 mos. 1970Q1 1972Q1 1974Q1 1976Q1 1978Q1 1980Q1 1982Q1 1984Q1 1986Q1 1988Q1 1990Q1 1992Q1 1994Q1 1996Q1 1998Q1 2000Q1 2002Q1 2004Q1 2006Q1 2008Q1 2010Q1

1.0%

-3.00% -4.00%

Source: U.S. Treasury, Federal Reserve. Charts formats and annotations are Stifel Nicolaus & Co.

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Macro & Portfolio Strategy

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U.S. fiscal deficits are desirable, inflation should average about 3% to 2015, and debt deflation is a far greater risk

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Macro & Portfolio Strategy

July 11, 2011

In markets, what matters is direction. Tax revenue (blue line) is mean-reverting and bottoming, spending (green line) has been counter-cyclical and is peaking, so the residual deficit % GDP (red bars) is peaking. In 2012 watch for (a) supply-side tax cuts, (b) targeted tax hikes on risk averse (ex., dividends) capital, and (c) the expiry of recession programs (ex., aid to states). 300bps of spending cuts (25.5% of GDP to 22.5%) and 300bps of tax revenue (15.5% to 18.5%) would reduce the deficit from 9.5% of GDP to 3.5%, close to the post-1971 (post-Bretton Woods) average deficit.
Quarterly Data 3/31/1946 - 3/31/2011

Taxes and Government Spending

Note: In the book This Time Is Different, Eight Centuries of Financial Folly by Carmen M. Reinhart & Kenneth S. Rogoff, the authors found that Advanced Economy real central government revenue growth recovers sharply the third year [e.g., 2011 in this case] following major banking crises per Figure (10.8) of the book, which is timely since real public debt rises an average 86% in the three years after a financial crisis per Figure (10.10) of the book. U.S. Federal debt is up 83% 1Q08-1Q11, but because the U.S. has a reserve currency it can go higher.

25 24 23 22 21 20 19 18 17 16 15 14 13 5 4 3 2 1 0 -1 -2 -3 -4 -5 -6 -7 -8 -9
(E300)

Government Spending as a % of GDP (60.0-Year Average = 19.6% of GDP) 3/31/2011 = 25.0% ( )

25 24 23 22 21 20 19 18 17 16
Taxes as a % of GDP (60.0-Year Average = 18.0% of GDP) 3/31/2011 = 16.5% ( )
Data Subject To Revisions By The Federal Reserve Board

15 14 13 5 4 3 2 1 0 -1 -2 -3 -4 -5 -6 -7 -8 -9

3/31/2011 = -8.6%

Surplus as a % of GDP

Deficit as a % of GDP

(60.0-Year Average = -1.5% of GDP)


1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010

Copyright 2011 Ned Davis Research, Inc. Further distribution prohibited without prior permission. All Rights Reserved.

See NDR Disclaimer at

www.ndr.com/copyright.html

. For data vendor disclaimers refer to

www.ndr.com/vendorinfo/ .

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Macro & Portfolio Strategy

July 11, 2011

We believe demographics (experienced relative to less experienced workers, blue line, left chart) supports strong ~2% U.S. labor productivity to 2020 (left chart), and when combined with 1.0%-1.5% growth in the size of the labor force that equates to ~3.0%-3.5% U.S. normalized real GDP growth (right chart), in our view. Though 2% productivity constrains job growth, it supports profit margins(1).
1.20x 1.15x 1.10x U.S. Ratio of 35 - 49 to 20 - 34 Year Olds 1.05x 1.00x 0.95x 0.90x 0.85x 0.80x 0.75x 0.70x 0.65x 0.60x 0.55x Jun-53 Jun-56 Jun-59 Jun-62 Jun-65 Jun-68 Jun-71 Jun-74 Jun-77 Jun-80 Jun-83 Jun-86 Jun-89 Jun-92 Jun-95 Jun-98 Jun-01 Jun-04 Jun-07 Jun-10 Jun-13 Jun-16 Jun-19

U.S. productivity appears to track the ratio of the middle aged workforce to the young workforce

4.75% 4.50% 4.25% 4.00% 3.75% Productivity Growth, Y/Y%, 3-yr. moving avg. 3.50% 3.25% 3.00% 2.75% 2.50% 2.25% 2.00% 1.75% 1.50% 1.25% 1.00% 0.75% 0.50% 0.25% 0.00% -0.25% -0.50%

U.S. real GDP y/y percent change (line) versus the change in the size of the labor force and labor productvity
8.0% 7.0% 6.0% 5.0% 4.0% 3.0% 2.0% 1.0% 0.0% -1.0% -2.0% -3.0% -4.0% -5.0% 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012E 2014E
U.S. Non-Farm output per hour YY% Size of the U.S. non-farm labor force Y/Y% U.S. Real GDP Y/Y%

Stifel Nicolaus estimate 2011 to 2015 About 3.0-3.5% potential annual real GDP growth

U.S. Ratio of Experienced People Age 35-49 To Less Experienced People Age 20-34 (Left axis) Nonfarm Business Output Per Hour y/y % Change 3-Year Moving Avg. (Right axis)

Source: U.S. Fed and government data, Stifel Nicolaus format and estimates. (1) Profits margins are supported by high productivity because of the limiting effect on unit labor costs.

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The case for only ~3% compound inflation 2010 to 2015: Since MV=PQ, then MV/Q = P, if M2 Velocity (or GDP/Money) rises to its 1.85 long-term trend implied 2015 value (top, left chart, and this may even be a stretch), and Money M2 grows 4%/yr. 2010-15 (bottom, left chart) while real GDP Quantity real GDP grows 3%/yr. as discussed on the preceding page (to which we add inflation to derive PxQ), then solving for Price inflation is 3.3%/year compound inflation 2010-15.
Nominal GDP divided by M2 Money Supply (M2 velocity) 1926 to Current
2.25x 2.15x 2.05x 1.95x 1.85x 1.75x 1.65x 1.55x 1.45x 1.35x 1.25x 1.15x 1.05x 0.95x 0.85x 16%

Given MV = PQ

then MV/Q = P

Money Supply (M) x Velocity (V) (which is nominal GDP/M) Equals Price (P) of all goods and services x Quantity (Q) of goods & services (which is real GDP)

Nominal GDP relative to M2

We estimate M (M2, though other broad aggregates like MZM may be used) rises by 4%/year the next five years.
M2 money supply 3-year annualized growth rate 1926 to Current
8000

We estimate V rises from 1.70x to 1.85x by 2015. We estimate real GDP rises by 3%/year 2010-15, to which we add the price component to produce nominal GDP PxQ. Solving for price inflation (P), the five year growth rate would be a compound rate of 3.3%/year, (i.e., Q real GDP plus P price inflation = 6.3% nominal GDP) U.S. $ in trillion (T) 12/31/2010 to $8.78T ----> 1.70x ----> $14.9T ----> $14.9T ----> 12/31/2015 $10.27T 1.85x $19.0T $19.0T

12%
M2 Money Supply - Log Scale M2 money, 3-yr. CAGR

8%

4%

400

0%

-4%

-8%
1926 1930 1934 1938 1942 1946 1950 1954 1958 1962 1966 1970 1974 1978 1982 1986 1990 1994 1998 2002 2006 2010 2014E

20

M2 Money x Velocity = MV ------------------> Since M V = PQ Then PQ equals -->

4% growth x V target = MV = 6.3% nominal GDP less: 3% real GDP = 3.3% inflation

Source: U.S. Federal Reserve, For pre-1959 data we add M1 + time deposits + bank vault cash + monetary gold stock (when applicable) + savings bank deposits + S&L deposits.

Page 57

Macro & Portfolio Strategy Important Disclosures and Certifications

July 11, 2011

I, Barry B. Bannister, certify that the views expressed in this research report accurately reflect my personal views about the subject securities or issuers; and I, Barry B. Bannister, certify that no part of my compensation was, is, or will be directly or indirectly related to the specific recommendation or views contained in this research report. For our European Conflicts Management Policy go to the research page at www.stifel.com. Stifel, Nicolaus & Company, Inc.'s research analysts receive compensation that is based upon (among other factors) Stifel Nicolaus' overall investment banking revenues. Our investment rating system is three tiered, defined as follows: BUY -For U.S. securities we expect the stock to outperform the S&P 500 by more than 10% over the next 12 months. For Canadian securities we expect the stock to outperform the S&P/TSX Composite Index by more than 10% over the next 12 months. For other non-U.S. securities we expect the stock to outperform the MSCI World Index by more than 10% over the next 12 months. For yield-sensitive securities, we expect a total return in excess of 12% over the next 12 months for U.S. securities as compared to the S&P 500, for Canadian securities as compared to the S&P/TSX Composite Index, and for other non-U.S. securities as compared to the MSCI World Index. HOLD -For U.S. securities we expect the stock to perform within 10% (plus or minus) of the S&P 500 over the next 12 months. For Canadian securities we expect the stock to perform within 10% (plus or minus) of the S&P/TSX Composite Index. For other non-U.S. securities we expect the stock to perform within 10% (plus or minus) of the MSCI World Index. A Hold rating is also used for yield-sensitive securities where we are comfortable with the safety of the dividend, but believe that upside in the share price is limited. SELL -For U.S. securities we expect the stock to underperform the S&P 500 by more than 10% over the next 12 months and believe the stock could decline in value. For Canadian securities we expect the stock to underperform the S&P/TSX Composite Index by more than 10% over the next 12 months and believe the stock could decline in value. For other non-U.S. securities we expect the stock to underperform the MSCI World Index by more than 10% over the next 12 months and believe the stock could decline in value. Of the securities we rate, 50% are rated Buy, 48% are rated Hold, and 2% are rated Sell. Within the last 12 months, Stifel, Nicolaus & Company, Inc. or an affiliate has provided investment banking services for 34%, 20% and 0% of the companies whose shares are rated Buy, Hold and Sell, respectively. Additional Disclosures Please visit the Research Page at www.stifel.com for the current research disclosures applicable to the companies mentioned in this publication that are within Stifel Nicolaus' coverage universe. For a discussion of risks to target price please see our stand-alone company reports and notes for all Buy-rated stocks. The information contained herein has been prepared from sources believed to be reliable but is not guaranteed by us and is not a complete summary or statement of all available data, nor is it considered an offer to buy or sell any securities referred to herein. Opinions expressed are subject to change without notice and do not take into account the particular investment objectives, financial situation or needs of individual investors. Employees of Stifel, Nicolaus & Company, Inc. or its affiliates may, at times, release written or oral commentary, technical analysis or trading strategies that differ from the opinions expressed within. Past performance should not and cannot be viewed as an indicator of future performance. Stifel, Nicolaus & Company, Inc. is a multi-disciplined financial services firm that regularly seeks investment banking assignments and compensation from issuers for services including, but not limited to, acting as an underwriter in an offering or financial advisor in a merger or acquisition, or serving as a placement agent in private transactions. Moreover, Stifel Nicolaus and its affiliates and their respective shareholders, directors, officers and/or employees, may from time to time have long or short positions in such securities or in options or other derivative instruments based thereon. These materials have been approved by Stifel Nicolaus Limited and/or Thomas Weisel Partners International Ltd., authorized and regulated by the Financial Services Authority (UK), in connection with its distribution to professional clients and eligible counterparties in the European Economic Area. (Stifel Nicolaus Limited home office: London +44 20 7557 6030.) No investments or services mentioned are available in the European Economic Area to retail clients or to anyone in Canada other than a Designated Institution. This investment research report is classified as objective for the
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