economic and market prospects

Economic and market prospects

Brian Parker CFAInvestment StrategistMLC Investment ManagementApril 2009

Any opinions expressed in this presentation constitute our judgement at the time of issue and are subject to change. We believe that the information contained in this presentation is correct and that any estimates, opinions, conclusions or recommendations are reasonably held or made as at the time of compilation. However, no warranty is made as to their accuracy or reliability (which may change without notice) or other information contained in this presentation. To the maximum extent permitted by law, we disclaim all liability and responsibility for any direct or indirect loss or damage which may be suffered by any recipient through relying on anything contained in or omitted from this presentation.This presentation contains general information and may constitute general advice. It does not take into account any person’s particular investment objectives, financial situation or individual needs. It should not be relied upon as a substitute for financial or other specialist advice. It has been prepared solely as an information service for financial advisers and should not be distributed to clients.Before making any decisions on the basis of this presentation, you should consider the appropriateness of its content having regard to your particular investment objectives, financial situation or individual needs. Opinions expressed constitute our judgement at the time of issue and are subject to change. The presenter is a representative of MLC Investments Limited. MLC Investments Limited ABN 30 002 641 661 105-153 Miller Street, North Sydney NSW 2060 is a member of the National group of companies.MLC Investments Limited is the issuer of the MLC MasterKey Unit Trust. Information about the MLC MasterKey Unit Trust is contained in the current Product Disclosure Statement (‘PDS’), copies of which are available upon request by phoning MLC on 131 831 or on our website at mlc.com.au.

General advice warning and disclaimer

Summary• The bad news• The better news• What does all this mean for investors

1. The bad news

Bank failures soared even before the recession had really hit!

0

5

10

15

20

25

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009

No. of US bank failures

Source: FDIC. 2009 data as at 6 April

Just how big are the losses and how much money do the US banks need?

US$ billion

What the US banks and investment banks were worth at the end of Q3 2008 1417

Their likely losses# (known + expected) 1744

Shortfall -327

How much they've raised/been given so far 430

Their implied worth 103

Estimated capital required to get back to pre-crisis levels# 1400

Source for data and estimates: Nouriel Roubini and Elisa Parisi-Capone, RGE Monitor, January 2009# losses include loan losses and mark-to-market losses on securities held. Estimates of losses assume afurther 20% fall in US house prices, a fall in US GDP of 5% over 2 years, and an unemployment rate that rises to 9%

Nowhere to hideG3 Manufacturing confidence

-4

-3

-2

-1

0

1

2

3

Q1 1998 Q1 2001 Q1 2004 Q1 2007

USEuropeJapan

Manufacturing confidence - deviation from average

G3 Consumer confidence

-4

-3

-2

-1

0

1

2

3

Q1 1998 Q1 2001 Q1 2004 Q1 2007

USEuropeJapan

Consumer confidence - deviation from average

De-coupling in Europe and Asia? Sharemarkets never really bought it

-70

-60

-50

-40

-30

-20

-10

0 % change in share prices from 2007 peak

Source: Thomson Financial. As at 3 April 2009

Japan’s shrinking manufacturing sector

50

60

70

80

90

100

110

120

Jan-80 Jan-84 Jan-88 Jan-92 Jan-96 Jan-00 Jan-04 Jan-08

Industrial production (volume index)

Lowest since March ‘83

Every commodity boom comes to an end, and this one was no different

Nickel

700012000170002200027000320003700042000470005200057000

Apr-06 Jan-07 Oct-07 Jul-08 Apr-09

Spot Oil price (WTI)

10

3050

7090

110

130150

170


US$/b

Aluminium

1100

1600

2100

2600

3100

3600


Spot US$/t Copper

120022003200420052006200720082009200

10200


Spot US$/t

The commodity boom in perspective

0

1

2

3

4

5

6

7

8

Peak vs 90s

Latest vs 90s

Ratio

Does the future have greater Clarity?

Australian prospects

• Our households are in more debt, and we live in vastly more overvalued houses than our American friends

• The commodity boom is over – terms of trade effect moves into reverse

• Mild recession in 2009BUT…• Our banks are better regulated, and have been better managed• Our policymakers have enormous flexibility, and have acted

aggressively• $A is doing exactly what we should want it to do!

Labour market is traditionally the best guide to RBA policy

..and the NAB survey suggests trend unemployment will rise further

-30

-25

-20

-15

-10

-5

0

5

10

15

20

Mar-98 Mar-00 Mar-02 Mar-04 Mar-06 Mar-08

NAB Survey employment index

Net balance (%)#

# % of businesses expecting to increase staff less % expecting to reduce staff

Uptrend in unemployment met with aggresssive RBA rate cuts..

0

5

10

15

20

25

Jan-83 Jan-87 Jan-91 Jan-95 Jan-99 Jan-03 Jan-070

2

4

6

8

10

12% %

Trend unemployment rate

(rhs)

Cash rate (lhs)

Bad news waiting (starting?) to happen?

50

100

150

200

250

300

Q1 1988 Q1 1991 Q1 1994 Q1 1997 Q1 2000 Q1 2003 Q1 2006 Q1 2009

US UK Aust

Real (inflation adjusted) house prices. March quarter 1988 equals 100

Sources: Thomson Financial, MLC Investment Management

2. The better news- what can’t get much worse- what’s improving- where are the opportunities

How bad is this really?•A lot of necessary adjustments are well underway (US housing,

household saving)•Policymakers increasingly ‘get it’•America is not Japan•This is not 1931•Every crisis creates opportunities, and this one is no different•Markets are more forward-looking than any of us!

US housing: adjustments are well underway (how much further can starts fall?!?)

300

800

1300

1800

2300

2800

Jan-59 Jan-69 Jan-79 Jan-89 Jan-99 Jan-09

Housing starts

'000

Source: Thomson Financial

US housing is now much more affordable (cheapest in decades!)..

40

60

80

100

120

140

160

180

200

Jan-71 Jan-76 Jan-81 Jan-86 Jan-91 Jan-96 Jan-01 Jan-06

Index of housing affordability

Sources: Thomson Financial

..and now mortgage rates have come down..

4.0

4.5

5.0

5.5

6.0

6.5

7.0

Mar-07 Sep-07 Mar-08 Sep-08 Mar-09

Conventional 30yr Fixed rate mortgage

Conventional 15yr Fixed rate mortgage

%

Sources: Thomson Financial

..however, US banks are not keen to lend yet, but things are improving.

Source: Thomson Financial, US Federal Reserve

US Consumer lending standards are tight, but seem to be easing..

-20

-10

0

10

20

30

40

50

60

70

80

Q1 1999 Q1 2001 Q1 2003 Q1 2005 Q1 2007 Q1 2009

Credit cardsOther consumer lendingPrime mortgages

Net % of lenders tightening standards

..as are standards for both large and small businesses..

-40

-20

0

20

40

60

80

100

Q1 1999 Q1 2001 Q1 2003 Q1 2005 Q1 2007 Q1 2009

Large & medium firms Small firms

Net % of lenders tightening standards

Money market conditions have improved

0

1

2

3

4

5

6

7

Dec-06 Jun-07 Dec-07 Jun-08 Dec-08

Fed funds target3mth USD LIBOR3mth T-billsFed funds actual

Selected short-term interest rates (%)


Adjustments underwayUS households are responding to their sharply

reduced wealth

-2

0

2

4

6

8

10

12

14

Q1 1980 Q1 1985 Q1 1990 Q1 1995 Q1 2000 Q1 20054

4.5

5

5.5

6

6.5Personal savings rate (%) (lhs)Net worth as multiple of disposable income (rhs)

1990-91

300

350

400

450

500

550

Oct-89 Mar-90 Aug-90 Jan-91 Jun-91 Nov-91 Apr-92

Datastream total mkt index - Australia

1974-75

30

40

50

60

70

80

90

100

Mar-74 Jul-74 Nov-74 Mar-75 Jul-75 Nov-75


Equity markets typically bottom before a recession ends - the Australian experience

1981-1983

80

100

120

140

160

180

200

220

Jun-81 Oct-81 Feb-82 Jun-82 Oct-82 Feb-83 Jun-83


Markets have regained some ground recently

0

5

10

15

20

25

30

35

40

45 % change in share prices from their recent lows

Source: Thomson Financial. As at 3 April 2009

Credit markets look very cheap. (US corporate yields seem to be pricing in a massive rise in defaults.)


Barclays high yield spread over Treasuries

0

500

1000

1500

2000

2500

Mar-87 Mar-90 Mar-93 Mar-96 Mar-99 Mar-02 Mar-05 Mar-08

Basis points

Spreads on investment grade debt are close to their widest in decades

-100

0

100

200

300

400

500

600

700

Jan-80 Jan-85 Jan-90 Jan-95 Jan-00 Jan-05

Baa rated corporates

Aaa rated corporates

Basis points

How far do earnings typically fall in a recession?


Global equities - profit declines vs cyclical peaks

-25

-20

-15

-10

-5

0

Jan-76 Jan-83 Jan-90 Jan-97 Jan-04

% change in EPS from 3yr high

Australian equities - profit declines vs cyclical peaks

-50

-45

-40

-35

-30

-25

-20

-15

-10

-5

0

Jan-76 Jan-83 Jan-90 Jan-97 Jan-04

% change in EPS from 3yr high

Is enough bad news on earnings priced in?

Trailing PEHow far have EPS already fallen (%) ?

PE assuming EPS fall 40% from

peak

Australia 10.6 -26.5 14.1

US 11.7 -24.8 15.3

Japan 14.5 -20.1 19.7

EU 7.2 -34.0 8.9

UK 7.3 -14.7 10.7

Developed mkts 9.5 -25.5 12.8

Emerging Mkts 8.2 -25.4 10.9

Source: Thomson Financial DatastreamData as at 31 March 2009

3. What does all this mean for investors?

There’s always a crisis around the corner..• The 1929 crash• Great depression• WW II• Korean War• Cuban missile crisis• Vietnam War• OPEC oil crisis I• OPEC oil crisis II• Latin American debt crisis• Australia’s ‘banana republic” moment• 1987 stockmarket crash

• The fall of the Berlin Wall• Iraq War I• US savings and loan crisis• The recession we had to have• Bond market crash 1994• Mexican debt crisis 1995• Asian crisis 1997• Russian debt/LTCM crisis• Tech wreck• September 11• Afghanistan• Iraq War II

Australian market downturns and their aftermath

1973 - 1974...

20

30

40

50

60

70

80

90

100

110

120

Jan-73May-73 Jul-73 Oct-73 Jan-74 Apr-74 Jul-74

Total return index

…5 years' later

20

40

60

80

100

120

140

160

180

200

Jan-73 Jan-74 Jan-75 Jan-76 Jan-77 Jan-78 Jan-79

Total return index



1980 - 1982

120

170

220

270

320

370

Nov-80 May-81 Nov-81 May-82

Total return index

…five years' later

120

220

320

420

520

620

720

820

920

Nov-80 Nov-82 Nov-84 Nov-86

Total return index




The biggest crash in sharemarket history..

400

500

600

700

800

900

1000

1100

Sep-87 Oct-87 Oct-87 Oct-87

Total return index

..five years' later

400

500

600

700

800

900

1000

1100

1200

1300

Sep-87 Sep-88 Sep-89 Sep-90 Sep-91 Sep-92

Total return index


1994

1400

1450

1500

1550

1600

1650

1700

1750

1800

Feb-94 Mar-94 May-94 Jul-94 Sep-94 Nov-94

Total return index


1400

1900

2400

2900

3400

3900

Feb-94 Jan-95 Jan-96 Jan-97 Jan-98 Jan-99

Total return index



Emerging mkts/LTCM crises

2200

2300

2400

2500

2600

2700

2800

Apr-98 Jun-98 Aug-98 Oct-98

Total return index


2200

2400

2600

2800

3000

3200

3400

3600

3800

4000

Apr-98 Apr-99 Apr-00 Apr-01 Apr-02 Mar-03

Total return index



Post tech/Sep 11, et. al...

3000

3100

3200

3300

3400

3500

3600

3700

3800

3900

4000

Jun-01 Dec-01 Jun-02 Dec-02

Total return index

..five (and a bit) years' later

3000

4000

5000

6000

7000

8000

9000

10000

Jun-01 Dec-02 May-04 Nov-05 May-07

Total return index




?

The sub-prime crisis/GFC

4000

5000

6000

7000

8000

9000

10000

Jul-07 Jan-08 Jul-08 Jan-09

Total return index

What everyone needs to know• This is the biggest global financial crisis since the 1930s but..

• ..every crisis, every bear market, every recession, comes to an end, and this will be no different.

• Crises provide opportunities – this one is no different!

• Good financial plans are built on the basis that recessions, crises, bear markets, will happen.

• Exposure to businesses will still deliver over time (the world has not changed THAT much)..

• Risk management, not risk avoidance

• Everyone’s different: need to take enough risk to achieve decent long-term returns, but not so much risk that you can’t sleep.

economic and market prospects

Documents

estimates of losses

market losses

likely losses

loan losses

investment banks

general information

us banks need

us gdp