Welcome to Demographics School Presented by Rodney Johnson President HS Dent Publishing

1. Welcome toDemographics SchoolPresented byRodney JohnsonPresidentHS Dent Publishing

2. www.dilbert.com

3. Independent Economic Research Company Forecast economic change based on three key tools: 1. Demographics and demographic trends 2. Predictable consumer spending patterns, and 3. Technological innovation acceptance rates HS Dent

4. I think there is a world market for maybe five computers. - Thomas J. Watson, 1943, Chairman of the Board of IBM We don't like their sound, and guitar music is on the way out.- Decca Recording Co. rejecting the Beatles, 1962 With over 50 foreign cars already on sale here, the Japanese auto industry isn't likely to carve out a big slice of the U.S. market.- Business Week, 1958 Forecasting Doesn’t Always Work Out

5. We’re looking for home sales to turn upward before mid-2008, on a national average basis, and we expect recoveries in housing starts and construction spending to commence before the end of the year. The Longer-Term Housing Outlook Is Excellent! David F. Seiders, HAHB Chief Economist, 1/9/08 “…Jeremy Siegel — the famous Wharton School professor — says stocks reached a “selling climax” on July 15 (2008), which he believes will be seen as the bottom for the current market.”BusinessWeek, August 2008 Especially In Finance

6. Background of Economics The sources of our research The statistics involved (good and bad) What the Average American looks like Three main tools of HS Dent research – demographics, predictable spending patterns, technology innovation and acceptance How these tools are applied to forecast changes in the markets and real estate What changes are expected around the world What You Will Learn

7. Describe how modern, industrialized economies work Help your clients see the next economic “season” Use the tools to forecast changes in your local area Explain how a client or prospect’s business will be impacted Highlight the opportunities and risks that face clients and prospects in the next 3, 5,10 and 20 years What You Will Be Able To Do

8. Economics Malthusian Economics Classical Economics Keynesian Economics

9. An Economy at Equilibrium S1 Price D1 Quantity

10. Demand-Based Inflation S1 Price D2 D1 Quantity

11. Supply-Based “Good” Deflation S1 When a new technological breakthrough pushes the supply curve out, prices fall while unit production rises. Price D1 Quantity

12. Consumer Sentiment measurements gyrate month to month No correlation between the move in the indicator and the move in stocks or profits, either coincidental or on a lag Does How You Feel Change How You Spend? Article #1 Consumer Conf.

13. S&P 500 vs. the University of Michigan Consumer Sentiment Index

14. Demand-Based “Bad” Deflation S1 When an external event like a credit crisis reduces the ability to finance consumption, prices and unit production fall Price D1 D2 Quantity

15. The colorful name that Keynes gave to one of the essential ingredients of economic prosperity: confidence. According to Keynes, animal spirits are a particular sort of confidence, "naive optimism". He meant this in the sense that, for entrepreneurs in particular, "the thought of ultimate loss which often overtakes pioneers, as experience undoubtedly tells us and them, is put aside as a healthy man puts aside the expectation of death". Where these animal spirits come from is something of a mystery. Certainly, attempts by politicians and others to talk up confidence by making optimistic noises about economic prospects have rarely done much good. Economist.com Keynes’ Animal Spirits

16. The Federal Reserve

17. …the Fed "shall maintain long run growth of the monetary and credit aggregates commensurate with the economy's long run potential to increase production, so as to promote effectively the goals of maximum employment, stable prices, and moderate long-term interest rates." www.federalreserve.gov www.federalreserve.gov/kids Amended Monetary Act 1913

18. Target Fed Funds Rate Source: Federal Reserve

19. 30-Year, 10-Year, and Fed Funds January 88 through Feb 09

20. Federal Reserve Balance Sheetin $millions

21. Adjusted Monetary Base

22. VIDEOChris Martenson, Crash CourseMoney Supply & The Fed

23. Mandate – what they are SUPPOSED to do Tools – Fed funds, discount rate, money supply, and speeches/testimony Effects, and lack thereof Website of interest: www.federalreserve.gov What We Know About The Fed Article #2 – Tools of Fed

24. BREAK

25. www.dilbert.com

26. Demographics

27. Strong Uptrends and Downtrends in Births

28. Average Immigrants per Year by Age1945-2000 Source: US Census Bureau

29. The Immigration Adjusted Birth Index

30. How many people born in each year The numerical effect of immigration Composition of US population by age groups Where the information comes from (NCHS, Census) Websites of interest: www.cdc.gov/nchs/www.census.gov Demographics

31. Analyzing Data

32. Normal Distribution Dispersion Correlation Coefficients Statisticsand other fun math

33. Gaussian distribution needs only two parameters to describe – mean, and variance 68.26% of observations fall w/in 1 standard deviation of the mean 95.44% w/in 2 standard deviations of the mean 99.74% w/in 3 standard deviations of the mean Normal Distribution (Bell Curve)

34. The Normal Distributionaka, the “Bell Curve” 68% fall within +/- 1 standard deviation

35. The Normal Distributionaka, the “Bell Curve” 95% fall within +/- 2 standard deviations Source: H.S. Dent Foundation

36. The Normal Distributionaka, the “Bell Curve” 99% fall within +/- 3 standard deviations Source: H.S. Dent Foundation

37. Financial software assumes that investment returns are normally distributed around a mean, or average, return (9% for Large Cap Stocks, per SBBI through 2007) This assumption is made because it is true – usually. Assuming Returns Are “Normal”

38. Returns are not normally distributed Returns are not independent of each other Dispersion renders return estimates unusable The Flaws of Return Estimates(Why Returns Are Not Always “Normal”)

39. Instead of being Gaussian, or Normal Curve, investment returns fall along a Cauchy Distribution, which exhibits a higher mean, less observations along the curve, and “fat tails”. True Distribution of Returns

40. Stock ReturnsNormal Distribution Assumed 1987 Crash was 20 standard deviations past the mean – a statistical impossibility if returns were truly normal! 1933 “impossible” one-day rally Monster Bear Market Rally in July 2002 Back-to-back “long tail” days during 1929 Crash

41. Chance of August 31st, 1998 – 1 in 20mm Chance of the 3 declines in August 1998 – 1 in 500mm Chance of October 19th, 1987 – less than one in 10 to the negative 50th power, a number that does not occur in nature Impossible Market Days

42. Most days on equity markets are marked by small, incremental changes. Large percentage changes, however, tend to be followed by large changes. This is called “volatility clustering”, indicating that exceptional volatility happens in sequence. Returns Gain Momentum(not independent)

43. Returns are not independent, they rely on underlying economic events and trends These trends can occur over long periods Tech Bubble Tech Bust 9/11 Recent Credit Crisis Volatility Clustering

44. Daily Price ChangesDJIA 1998

45. Dow Industrials Daily % Price ChangeJanuary 2007 – March 2008

46. Daily Price ChangesDJIA Oct 1928 – Oct 2008 Source: Bloomberg

47. Daily Price ChangesDJIA Jan 2000 – Oct 2008 Source: Bloomberg

48. “Average Return” is poor guide of what will happen – variance and standard deviation too great Returns are not “Normally” distributed, instead the distribution has “Fat Tails” Returns are not Independent, there is clear evidence of clustering of returns What We Know About Market Risk

49. Those who say a normal distribution shouldn't be used "don't know what they're talking about," said Harry Markowitz, the developer of MPT, who now runs an eponymous San Diego consulting firm. "If the probability of distributions [on a portfolio] is not too spread out, from a 30% [loss] to a 40% gain," it's OK to use a normal curve, he said. Modern portfolio theory may face more skepticism By Dan JamiesonMarch 10, 2008, Investment News Markowitz Sticks by His Theory

50. Because investment returns exhibit “fat tails”, the extreme observations or returns are more likely than we would assume. We value loss more than we value gains (2+x). These two facts together mean that investing in equities is much riskier than we normally describe. Investing is Riskier Than Commonly Described