“What America Drives, Drives the Economy”: “What America Drives, Drives the Economy” An Economic and Markets Outlook Seminar by Tower Private Advisors


Gary Shearer, CFAPresident: Gary Shearer, CFA President Investment Management & Trust Services Tower Private Advisors


Today’s Agenda: Today’s Agenda Economic Drivers of Economy Bob Nicholas Market Overview and Fixed Income Strategy Graig Stettner Equity markets and strategy Tim Frey Questions and Answers


Bob Nicholas, CFPVice President : Bob Nicholas, CFP Vice President Investment Management & Trust Services Tower Private Advisors


Graig Stettner, CFAVice President : Graig Stettner, CFA Vice President Investment Management & Trust Services Tower Private Advisors


Soft Landing: Soft Landing


The flowchart is more complex: The flowchart is more complex FOMC actions Terrorism China Middle East Housing market Russia Weather Fear Greed Demographics


Is a hard landing possible?: Is a hard landing possible? Yes Since 1920, following the last Fed rate hike, in 12 of 16 cases, the DJIA is down six months later in 12 out of 16 cases (75%); i.e. odds are against soft landing (Ned Davis Research). However, in the last 25 years, soft landing has occurred in 3 out 5 cases (60%).


Slide9: When will the Fed be done with rates? What the markets thought on . . .


Slide10: Having a bit of an inflation scare . . . Inflation implied in the spread between inflation-linked 10-year Treasury notes and nominal Treasury notes. 2006


Slide11: But we still expect rates to peak in 2006 10-year Treasury Note This should mark the likely upward bound of yields We don’t think longer-term yields will head much higher, although spikes are possible.


Slide12: First of many slides showing action around end of Fed tightening cycle When the Fed is done tightening, longer-term yields decline. Fed stops here 10-year Treasury Note vs. Fed tightening (1962 - ) Rates decline


Automotive Industry Bond Outlook: Automotive Industry Bond Outlook Recommend holding only bonds of the finance subsidiaries of Ford (Ford Motor Credit) and GM (GMAC). Recommend selling holdings due beyond 2009 We fear pension issues will become quite burdensome then This is now a page-one story, where most of the money has already been lost.


Slide14: Markets have begun to feel more comfortable with Ford and GM


GM’s Current Woes: GM’s Current Woes Sales Concerns: In July of 1994, 1 in 3 cars sold in North America were General Motors Products. Today, 1 in 4 sold are GM. Sales Concerns: GM hasn’t come up with an attractive enough inventory line-up that sells without giving away incentives. At the same time, they have only recently addressed capacity issues. It is estimated that GM loses $2,500 for every vehicle sold, while Toyota makes a $1,700 profit on each vehicle Dependability: On average, GM spends $600 per vehicle to cover warranty costs. Toyota spends $300 per vehicle, while Honda spends $100.


GM’s Current Woes: GM’s Current Woes Pension and Healthcare Costs: GM is among only 4% of all employers that offers FREE family health care coverage In 2004 GM spent more in healthcare coverage per vehicle sold (4.65 million) than it did in steel or advertising It is estimated they have $60 Billion in legacy healthcare costs Faces another $6 billion loss to honor pension and healthcare guarantees for Delphi As of May of 2005, retirees outnumbered workers 2:1


GM’s Current Woes: GM’s Current Woes Credit Ratings S&P B (Corp) Moody’s B1 (Corp) Altman’s Z-score .85 Grade F


Tim FreyVice President : Tim Frey Vice President Investment Management & Trust Services Tower Private Advisors


2005 & YTD 2006 Equity Returns: 2005 & YTD 2006 Equity Returns Indices 12/31/2005 2/10/2006 S&P 500 4.91% 1.7% Dow Jones 1.72% 2.1% NASDAQ 2.12% 2.6% Russell 2000 4.55% 6.5% S&P 400 Mid 12.55% 4.9% Nikkei (Tokyo) 40.2% . 9% MSCI EAFE 11.9% 4.5% Mexico Inmex 38.5% 2.8% Frankfurt DAX 27.1% 5.4% TOWER 7.18% 3.3%


The Case for Style Diversification: The Case for Style Diversification


International Style Box: International Style Box


Russell 1000 Growth & Value P/E Ratios: Russell 1000 Growth & Value P/E Ratios


Russell 1000 & 2000 Value Index P/E: Russell 1000 & 2000 Value Index P/E


Russell 2000 vs. Russell 1000: Russell 2000 vs. Russell 1000


Domestic Sector PerformanceYear End 2005: Domestic Sector Performance Year End 2005 Winners Energy 31.2% Utilities 16.6% Healthcare 6.4% Financials 6.3% Materials 4.2% Losers Consumer Staples 3.5% Industrials 2.2% Information Tech .9% Telecommunications -5.6% Consumer Discretion -6.5%


Domestic Sector PerformanceYTD (2/10/2006): Domestic Sector Performance YTD (2/10/2006) Winners Telecommunications 7.2% Energy 4.9% Information Tech 2.4% Materials 1.8% Consumer Discretion 1.7% Losers Healthcare .8% Industrials .7% Utilities .7% Financials .3% Consumer Staples -.5% S&P 500 +1.5%


“As January Goes, so goes the year”(January Effect): “As January Goes, so goes the year” (January Effect) Last 20 out 26 years (77%), top 10 sub-industry groups that led in January outperformed the remainder 11months of year January 2005 top sub-industry groups gained 28% on average compared to relatively flat gains for the leading averages (S&P/Dow Jones)


January (2006) Sub-Industry Class Top 10 : January (2006) Sub-Industry Class Top 10 Materials-Steel Producers 25.4% Oil & Gas Exploration & Production 23.4% Oil & Gas Equipment & Services 21.2% Materials – Gold mining 21.1% Semiconductor Equipment 19.5% Oil & Gas – Refining & Marketing 18.6% Materials- Diversified Metals & Mining 17.1% Oil & Gas Drilling 16.9% Coal & Consumable Fuels 15.6% Retail- Computers & Electronics 15.4%


Long -Term Leadership Themes: Long -Term Leadership Themes Market defensive leadership (favors Healthcare , Consumer Staples) Global Commodity – based leadership (favors Energy, Mining, Materials) Business demand over consumer demand (favors Industrials, Construction, Engineering, Defense, reaccelerating of overall economy) Rate sensitive groups (Financials) are becoming undervalued and may see a rebound after Fed rate cycle ends – present leadership may come from ADR’s


Consumer Staples at End of Fed Tightening: Consumer Staples at End of Fed Tightening


Energy Sector at End of Fed Tightening: Energy Sector at End of Fed Tightening


Materials Sector at End of Fed Tightening: Materials Sector at End of Fed Tightening


Consumer Disc. at End of Fed Tightening: Consumer Disc. at End of Fed Tightening


Industrials Sector at End of Fed Tightening: Industrials Sector at End of Fed Tightening


Health Care Sector at End of Fed Tightening: Health Care Sector at End of Fed Tightening


Financial Sector at End of Fed Tightening: Financial Sector at End of Fed Tightening


Global Liquidity: Global Liquidity International reserves held by central banks rose over 13% in 2005 ($4.2 trillion) Developing countries holding a record $2.9 trillion Industrial countries holding a record $1.3 trillion Makes sense why global markets are soaring Provides a cushion against any crises


Equities Outlook: Equities Outlook Near-term churning as earnings reports continue to come in. Improved cost-cutting, productivity enhancements, and healthy profits have kept inflation tamed. Overall inflation concerns are still present but receding somewhat as housing (driver of consumption) also slows. Consumer spending (GDP) should drop off and labor markets to remain tight. Global demand for commodities will keep prices high. Overall globalization to keep downward pressure on prices of U.S. goods and keep labor costs subdued. Focus will be on valuations, earnings, interest rates, oil, and consistency.


Style & Market Cap Weightings(Asset Allocation): Style & Market Cap Weightings (Asset Allocation) Continue to overweight large cap growth and value Maintain a normal weighting in mid cap growth & value Underweight small cap growth and value Overweight international Favor mid>large>small


Sector Outlook & Momentum (O) OVERWEIGHT: Sector Outlook & Momentum (O) OVERWEIGHT S&P500 Sector Healthcare (O) Energy (O) Materials (O) Industrials (O) Comments Emphasize managed care, devices, biotech's, generics, select pharma Bias towards service and equipment, alternative fuels, coal, natural gas Global demand & commodity pricing necessitates an over-weighting Focus on business demand over consumer (construction,defense,etc.)


Sector Outlook & Momentum(M) MARKETWEIGHT: Sector Outlook & Momentum (M) MARKETWEIGHT S&P500 Sector Consumer Staples (M) Telecommunications (M) Comments Defensive –focus on leaders with pricing power, DVD increases Still see capacity issues, focus on network providers,wireless


Sector Outlook & Momentum (U) UNDERWEIGHT: Sector Outlook & Momentum (U) UNDERWEIGHT S&P500 Sector Information Tech (U) Utilities (U) Financials (U) Consumer Discretion (U) Comments Inventories being reduced, semiconductor/server equipment picking up Momentum is in natural gas, coal based electricity & water Rate sensitivity to continue through mid year, then relief in sight Higher rates and softer real estate slowing consumer (debt ratios high)


The Fed and S&P500 Market PerformanceSubsequent S&P 500 PerformanceEnd of Fed tightening After 6 months (%) After 12 Months (%) : The Fed and S&P500 Market Performance Subsequent S&P 500 Performance End of Fed tightening After 6 months (%) After 12 Months (%) November 25,1966 11 18 September 19, 1969 -6 -13 June 28, 1974 -19 12 July 3, 1981 -6 -16 August 9, 1984 10 14 May 4, 1989 10 10 February 1, 1995 19 36 May 16,2000 -7 -12 2006 ?? ??


Forecasts anyone?: Forecasts anyone? S &P 500 to end year up 6-10% (1320-1390) Dow Jones to end year up 4-9% (11,145-11,700) NASDAQ to end year flat to up 5% (2205-2320)


Questions & Answers: Questions & Answers This presentations will also be available at www.towerprivateadvisors.net under the Investment Research heading.