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Prepared for CFA Society of Louisville

Prepared for CFA Society of Louisville. April 22, 2010. Mary Ellen Stanek, CFA Chief Investment Officer Baird Advisors. Just Over a Year Ago…. Source: Steve Benson - The Arizona Republic. 3. Source: Mike Luckovich – The Atlanta Journal-Constitution. 4. Baird Advisors Market Outlook.

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Prepared for CFA Society of Louisville

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  1. Prepared forCFA Society of Louisville

    April 22, 2010
  2. Mary Ellen Stanek, CFAChief Investment OfficerBaird Advisors
  3. Just Over a Year Ago….. Source: Steve Benson - The Arizona Republic 3
  4. Source: Mike Luckovich – The Atlanta Journal-Constitution 4
  5. Baird Advisors Market Outlook US Economy: Moderate Recovery with “Significant Restraints” No “V-shaped” recovery that historically follows a severe recession Too many “restraints” for US consumer (high unemployment, tight credit, impaired net worth) Strong profits driving business spending-led recovery Export-led demand driving US manufacturing output Additional economic “headwinds” include increased regulation, higher taxes, huge Federal deficits, state/local spending cuts, rising foreclosures Conditions still remain fragile, susceptible to “shocks” in confidence (i.e. sovereign debt) Inflation: Modestly Higher Starting in 2011 Core Inflation, at 1-1.5%, still trending lower Moderate economic growth and high unemployment will give Fed time to reverse policy Housing Markets: Prices Stabilizing though Foreclosures still Rising National Home Prices are now flat on a year-over-year basis Current monthly data shows home prices have risen modestly for eight consecutive months Rising foreclosures still a concern Financial markets: Stock and Bond Prices Discounting a Sustainable Economic Recovery Valuations generally fair with some attractive opportunities “Easy money” has been made 5
  6. Too Much Debt Created a Credit Bubble Source: Bloomberg 6
  7. The “Shadow Banking System” of Securitization Source: Bianco Research 7
  8. If leveraged market participants all deleveraged at once by selling assets: The Paradox of Deleveraging A negative feedback loop results 8
  9. Spent, Lent or Guaranteed: Massive U.S. Policy Response Total 2009 U.S. GDP = $14.5 Trillion Note: Data as of 12/31/09 Sources: Bloomberg, WSJ, Bianco Research 9
  10. Today’s Massive U.S. Policy Response in Historical Context World War II Original Cost: $288 Billion Today’s Cost: $3.6 Trillion 10 Source: United States National Archives and Records Administration
  11. Today’s Massive U.S. Policy Response in Historical Context Notes: Fiscal = The Federal Budget Deficit as a % of GDP Monetary = Cumulative Change in the Fed’s Balance Sheet Source: Bianco Research 11
  12. Short Term Economic Stimulus "Sugar High” First-time Home Buyers Credit Ending 12/1 Cash for Clunkers Program Just Ended Depleted Inventories Being Rebuilt Source: Dave Granlund, RE/MAX, and Petar Jankov 12
  13. Bailout “Traffic Jam” Source: Steve Sack – Minneapolis Star Tribune 13
  14. Financial System Back from the Brink 14 Source: Bloomberg
  15. U.S. Debt as a Percentage of GDP Overall Leverage “Shift” from Private to Public Source: Federal Reserve Data as of: 12/31/09 15
  16. Trillion Dollar Deficits as Far as the Eye can See? Source: Bianco Research 16
  17. Government Debt to GDP Growing Sharply Source: Bianco Research 17
  18. Nominal GDP ($) 2 Years to Recover Nominal GDP: Today versus Great Depression 12 Years to Recover Source: ISI 18
  19. It’s All About Confidence Source: Walt Handelsman - Newsday 19
  20. Consumers Saving More, Spending Less Source: BEA, Federal Reserve Data as of: 3/31/10 20
  21. A Very Weak Employment Picture Source: BLS Data as of: 3/31/10 21
  22. Household Net Worth Still 40% Below 2006-2007 Peak Source: Bianco Research Data as of: 12/31/09 22
  23. Home Prices Fall for the First Time Since 1932 Note: Data as of 1/31/10 Source: Bianco Research 23
  24. U.S. House Price Index (Case-Shiller) M/M% Seasonally Adjusted National Home Prices May Have Bottomed Source: Bloomberg 24
  25. Mortgage Payments Relative to Income Near Record Low 12/31/09 16.6% Source: ISI 25
  26. U.S. Corporate Profits 12/31/09 3.6% Strong Profits Drive Business Spending-Led Recovery Source: ISI 26
  27. Exports-Led U.S. Recovery 2/28/10 19.52% Source: ISI 27
  28. Short-Term Interest Rates at Zero Source: Bianco Research 28
  29. Investment Grade Corporate Spreads have Narrowed Sharply High Yield 29 Source: Barclays Capital
  30. Very Steep Treasury Yield Curve Source: Bloomberg 30
  31. How Steep? An Historical Context Source: Bloomberg Data as of: 3/31/10 31
  32. U.S. Compensation per Hour Wage Pressure Virtually Non-Existent 12/31/09 0.8% Source: ISI 32
  33. Not Business as UsualSpread Volatility Goes to Extremes Source: Barclays Capital 33
  34. Too Many Treasuries/Too Little Foreign Demand Source: Bianco Research 34
  35. Municipal Market Outlook Positive Supply/Demand Market Conditions Strong demand: Investors increasing bond allocations after crisis Higher tax rates universally expected Money market yields near 0% driving investors out the yield curve Limited Supply: Tax-exempt supply has been significantly reduced because of the taxable “Build America” bonds program Negative Credit Fundamentals Tax revenue collections experiencing sharp declines Huge structural budget deficits difficult to close Rating agency downgrade risk high for many municipal issuers 35
  36. Municipal Tax Revenues Soften U.S. state governments 40% of revenues for US states come from personal income taxes Personal income tax revenues dropped by more than 25% compared to the prior year in early 2009 33% of revenues for US states come from sales taxes Sales tax revenue fell by up to 10% during certain quarters of 2009 Federal aid paid directly to states for operations through 2010 equate to roughly 6% of state monthly spending. In aggregate, state budget shortfalls for 2010 and 2011, represent an estimated 15% of state general fund operation budgets. Local governments On average, property taxes account for 72% of local tax revenue. State aid, which is particularly vulnerable for local govt’s in: CA, MI, NJ, OH, MN, NY and VA Source: Moody’s Bloomberg: “U.S. state and local government tax revenues fell 6.7% as of September from a year earlier, marking the fourth consecutive quarter of decline.” 36 26
  37. Treasury/Muni Yield Curves 37
  38. Changing Landscape in Municipal Credit 38 Source: Walt Handelsman - Newsday
  39. Baird Advisors Investment Outlook: Patience was rewarded in 2009 with additional outperformance expected in 2010 “Super Sale” over though finding selective opportunities Portfolio yield advantage over benchmark still historically wide Current prices on select securities are still below fundamental fair value Unprecedented market volatility and dislocation subsiding Attractive value in financials and selective mortgage-backed and asset-backed securities Improved liquidity profile, less leverage and a very steep yield curve benefit financials Selective opportunities in senior classes of asset-backed and mortgage-backed securities Risk control discipline critical in a higher risk environment Experienced investment team and risk controlled process key to strategy’s long-term success 39
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