mosaic global perspectives

8/7/2019 Mosaic Global Perspectives

1/[email protected] Fundamental and technical analysis, but mostly judgment 1

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Mosaic Global PerspectivesF u n d a m e n t a l a n d Te c h n i c a l A n a l y s i s , b u t M o s t l y J u d g m e n t

M o s a i c M a r k e t R e s e a r c h , L L CK e v i n A . L e n o x , C F AW e b s i t e : M o s a i c m a r k e t r e s e a r c h . c o mE m a i l : K l e n o x @ M o s a i c m a r k e t r e s e a r c h . c o m

We e k E n d i n g 1 / 2 8 / 2 0 1 1

Dow Jones Industrial Avg. 11,824 11,872 11,578S&P 500 1,276 1,283 1,258Russell 2000 775 773 784Nasdaq 2,687 2,690 2,653

S&P 500 (TR) -0.5% 1.6% 1.6%Russell 2000 (PR) 0.3% -1.1% -1.1%EAFE (PR) USD 0.4% 2.2% 2.2%Euro Stoxx 50 (PR) EUR -0.6% 5.8% 5.8%FTSE 100 (PR) GBP -0.3% -0.3% -0.3%Nikkei 225 (PR) JPY 0.8% 1.3% 1.3%Emerging Markets (PR) USD -0.9% -2.2% -2.2%Hang Seng (PR) HKD -1.1% 2.5% 2.5%

10-Year Treasury 3.32% 3.40% 3.29%2-Year Treasury 0.54% 0.61% 0.59%10-Yr. Less 2-Yr. Spread 278 bps 279 bps 270 bMoody's Aaa Corporate* 5.09% 5.12% 4.96%Moody's Baa Corporate* 6.09% 6.17% 6.05%

Oil (WTI) Mar 11 89.34 89.11 91.3Gold (Comex) Feb 11 1,341 1,341 1,421

EUR/USD 1.36 1.36 1.34AUD/USD 0.98 0.99 1.02USD/JPY 82.11 82.62 81.09

* C l o s i ng l ev e l s a s o f 1 / 27 / 10 . So u r c e : Fed e r a l Re se r ve

Fourth Quarter GDP Rose to 3.2%, but ObscuresStrong Trends in Underlying Demand

Figure 1, the fourth quarter surge of new orders reflected in recent ISMManufacturing reports led us to believe that the consensus GDP estimateof 3.5 percent might be conservative. However, the strong underlyingtrends behind the headline number are very encouraging for continuedeconomic growth in early 2011.

Figure 2, consumerspending, the largest component of the U.S. economy, rose 4.4 percentin the fourth quarter after increasing 2.4 percent last quarter. This was thelargest increase since the first quarter of 2006. Growing consumerconfidence can be seen in the 21.6 percent increase in durable goods.

Overall fixed investments increased 4.2 percentcompared with a 1.5 percent increase last quarter. Nonresidential fixedinvestment increased by 4.4 percent, and residential fixed investmentincreased 3.4 percent.

Private business inventories increased byonly $7.2 billion during the fourth quarter, after increasing $121.4 billionlast quarter. The fall in inventories led to a 3.7 percent subtraction fromGDP. Low inventory levels often set the stage for stronger future growth.

Exports increased 8.5 percent compared with a 6.8 percentincrease in the third quarter. Imports, which subtract from GDP, provideda boost by decreasing 13.6 percent.

The private sector was moreinstrumental in driving fourth quarter growth as government expensesdeclined 0.6 percent in contrast to a 3.9 percent increase last quarter.Lastly, the real final sales of domestic product (GDP less change inprivate inventory), increased 7.1 percent in the fourth quarter in contrastto a 0.9 percent increase last quarter. This represents the largestincrease since the second quarter of 1984.Looking ahead, next weeks ISM and global PMI reports should providemore clarity on near-term growth trends. Underlying trends would seemto support an ISM headline print above the consensus estimate of 57.5.

Story of the Week 1Economic Update 2Global Leading Indicators 3Asset Allocation Strategy 4Equities 5Fixed Income 10Commodities 11Currencies 12

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S o u r c e : B E A a n d I n s t i t u t e f o r S u p p l y M a n a g e m e n t



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Total Compensation Wages & Salaries Benefits

E c o n o m i c U p d a t e Initial unemployment claims were higher-than-

expected at 454K versus the consensus estimate of 405K. Theless volatile four-week moving average increased by 15,750 to429K. The weekly reports in January are notoriously volatile, sowell focus on next weeks payroll reports and the employmentcomponent of the ISM reports to provide more clarity.

Figure 3, the headline durable goods reportdropped an unexpected 2.5 percent in December versus anexpected increase of 1.5 percent. Boeings delay of Dreamlinercontributed to the 99.5 percent decline in nondefense aircraftorders. Our preference is to look at nondefense capital goodsexcluding aircraft for a cleaner assessment of new orders. Thismetric rose 1.4 percent in December, and increased 16.6 percentin 2010.

Figure 4, overall GDP prices softened to 0.3percent in the fourth quarter compared to a 2.1 percent increasein the third quarter. Additionally, PCE prices increased 1.8percent versus 0.8 percent in the prior quarter. In 2010, GDP andPCE prices increased by 1.0 percent and 1.7 percentrespectively.

The ECI increased by a very mild 0.4percent in the fourth quarter. Figure 5, the year-on-year ECI rosea meager 2.0 percent, the second lowest print ever behind the 1.5percent result in the fourth quarter of 2009. The wages andsalaries component only increased by 1.7 percent, while benefitsincreased by 2.9 percent.

: The consensus estimate is 57.5 for the headline ISMManufacturing PMI report. In addition, PMI reports from aroundthe world should provide important guidance for global growthtrends during the first quarter. The fourth quarter U.K. GDP reportis expected to show that growth slowed to 0.5% versus growth of 0.7 percent in the third quarter.

The U.S. initial unemployment claims is expected toremain volatile due to seasonal and weather related factors. Theconsensus is 425K.

The U.S. employment report is expected to show that150k private sector jobs were added in January. We consider thecontinued growth of temporary jobs as a reliable leading indicatorof future economic growth; whereas, the payroll data andunemployment rate are seen as lagging indicators.

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Earnings season is in full swingas 205, or 41 percent of the S&P 500 reports are in the books.

Positive earnings surprises remain strong at 72 percent, accordingto Bloomberg. Ex-financials, energy and basic materials have thestrongest earnings growth at 46.8 and 36.0 percent respectively. Incontrast, consumer staples and utilities have the weakest earningsresults with 5.1 percent and negative 6.9 percent respectively.Overall fourth quarter earnings are projected to increase by 21.7percent, 13.2 percent ex-financials on a year-over-year basis.Revenues are tracking higher by 8.2 percent, 8.8 percent ex-financials on a year-over-year basis. Earnings for 2011 areexpected to increase by approximately 15 percent to $95.65,according to Standard and Poors. Please review theappendix for detailed Q4 sales and earnings results for the largestcompanies in each sector of the S&P 500. This listing representsapproximately 65 percent of the market cap for the S&P 500.

S o u r c e : B E A

S o u r c e : U . S . C e n s u s B u r e a u

S o u r c e : B E A

S o u r c e : U . S . D e p a r t m e n t o f L a b o r



G l o b a l L e a d i n g I n d i c a t o r s

Libor-OIS Spread (3M) Neutral Range-BoundEuribor-OIS Spread (3M) Elevated FlatteningSHIBOR (1M) Multi-Year High Parabolic

U.S., 2-Year Swap Spread Low Range-BoundEurope, 2-Year Swap Spread Elevated FlatteningMoody's Baa - Aaa Seasoned Corporate Low Range-BoundHigh Yield - Corporate Low Flattening

U.S., Equity Average LowerEurope, Equity Average LowerCurrency Average Lower

XBD / S&P 500 RS Average Turning NeutralEurope, Sov. and Financial CDS Elevated Narrowing

Australian Dollar Elevated Range-BoundCopper Extended Range-Bound

Emerging Mkt. / S&P 500 RS Above Average WeakeninGlobal Small / Large Cap RS Above Average Range-BounGlobal Cyclicals / Global Defensives RS Above Average Strengthenin

Taiwan Export Orders Above Average StrengtheningPMI Mfg., Asia ex-Japan Above Average StrengtheningPMI Mfg., Europe Above Average StrengtheningBelgian Industrial Survey, Mfg. Below Average StrengtheniU.S. Initial Unemployment Claims Elevated StrengtheningU.S. ECRI WLI (level) Average NeutralU.S. ISM Mfg. New Orders-to-Inventory Below Average StrengthenU.S. ISM Mfg. Headline Above Average Strengthenin

F i n a n c i a l C o n d i t i o n s A s s e t P r i c e s & E c o n o m i c D a t

In aggregate, financial conditions in the U.S. andEurope reflect a rather complacent attitude toward riskoriented assets. We are closely monitoring additionalfinancial conditions such as SHIBOR for indications of heightened levels of risk aversion within the emergingmarkets universe.

: The U.S. Libor-OIS spread remainsrange-bound, but very gradually trending higher along withshort-term interest rates. Meanwhile, reduced anxiety aboutsovereign debt issues resulted in the Euribor-OIS spreadflattening for the fifth consecutive week. However,increasing evidence of a potential economic hard landing in

China can be seen through the dramatic increase inSHIBOR rates. The 1-month SHIBOR rate increasedanother 65 basis points this week to close at 8.13 percent,according to Bloomberg. An increase in demand for cashbefore the week-long Lunar New Year (February 3-9) wasexpected, but it appears that some banks may beexperiencing difficulty due to less liquidity and tighter creditconditions

The U.S. 2-year swap spread narrowedslightly for the third consecutive week, but the European 2-year swap spread narrowed more dramatically from 65.7 to61.6 basis points, according to Reuters. In the U.S., thespread between various high yield and corporate bondyields was mostly flat this week, but remain near secularlows.

The VIX had been trending lower all week, butspiked on Friday to close above 20 for the first time sinceearly December, according to Bloomberg. Weve beentalking about the crowded short volatility trade, and thenews out of Egypt probably sparked more of a short-covering rally than a pronounced level of risk aversion.

: European CDS spreads widened slightly this week,but remain well below the levels seen in early January. TheAMEX B/D index (XBD), led by Goldman Sachs, has shownrelative weakness versus the S&P 500 during the past twoweeks after leading the market since early October.

Overall, our leading indicators supportcontinuation of the recent stronger-than-expected trendglobal growth. The cyclical sectors continue to outperfbut commodity induced inflationary pressuresintensifying throughout many of the emerging macountries. We believe that the economic cycle is in amature phase that will likely be more favorable fomore developed countries and large cap companies.

: The Aussie remains range-bouas future export levels have become clouded while Cmoves to restrain liquidity and the availability of creaddition, increasing signs of domestic weakness will lik

keep the RBAs interest rate policy on hold. The tecpicture has been said by many to be forming a headshoulders pattern, but it looks to be forming aconstructive pattern of higher highs and higher lCopper remains strong due to widely acknowledsupply constraints and increasing speculative flows. Innear-term, we sense that copper will be more heinfluenced by trends in risk appetite than pure demandthe metal itself.

: The S&P 500 has bconsistently stronger than the Emerging Markets ind(EEM) since early November. Persistently hcommodity-induced inflation is increasingly problematicmany emerging economies as inflation expectations abecoming more pronounced. The relative strengthglobal small caps has turned neutral versus large cover the past month. Valuation levels remain stretchedsmall caps, and our assessment of the business cyfavors large cap stocks. Globally, the cyclical secremain consistently stronger than the defensive sectors.

: The ECRIs WLI report declin127.5 this week, and lowered the 4-week moving averto 128.3, according to the Economic Cycle ReseaInstitute. This marked the lowest level since Decemberbut its premature to make any assessment at this poNext weeks PMI reports should provide meaninguidance for Q1 growth trends and inflationary pressur



A s s e t A l l o c a t i o n S t r a t e g y

Large Cap 35 11 46

Mid Cap 6 0 6

Small Cap 4 -4 0

EAFE 13 -5 8

Europe 0 2 2Japan 0 0 0

Diversified 2 -2 0

Asia ex Japan 0 0 0

Latin America 0 0 0

Treasuries 0 0 0

Core Bond 35 -35 0

Corporate 0 15 15

High Yield 3 0 3

TIPS 2 5 7

EM 0 0 0

Global REIT's 0 0 0

Volatility 0 0 0

0 5

0 0

: Our series of financial conditions and global leadingindicators remain supportive of continued global growth. That said, webelieve that inflation will produce stronger-than-expected headwinds in2011. Its only January, but policy makers in emerging countries suchas China, India, South Korea, Taiwan and Brazil have alreadyannounced measures to tighten monetary this month as inflationarypressures continue to build. At this point, its too early to assess how

effectively policy leaders will be able to slow the rate of inflation whilemaintaining real economic growth. In the meantime, wereincrementally positioning for higher-than-consensus global inflationarypressures and margin compression.

: Weve decided to exit our Asia ex Japan position despite theconsensus among fund managers at a recent Reuters summit thatemerging markets were a top pick for 2011. The long-term structuralview remains very favorable for this region. However, the combinationof intensifying commodity-induced inflation and expected reduction inglobal liquidity have decreased the appeal of this crowded trade. Also,record inflows into Asia ex-Japan funds over the past year representapproximately two percent of the market cap for this asset class.Historically, twelve month net asset flows that approach this level havebeen followed by strong underperformance the following year.

: Our positioning within fixed income remains unchangedfor the fourth straight month. Were maintaining an underweightposition within the asset class along with a high conviction tactical tilttoward the A - BBB credit range. We still see an unfavorableasymmetric risk/reward ratio for Treasuries, agencies and munis. Riskoriented assets remain highly correlated, so were holding cash for anopportunistic development.

Large Cap U.S. Diversified Defensive Equity Income

Large Cap - E/W EAFE Asia ex Japan Financial Dividend Growth

Mid Cap Europe Latin America Cyclical Total Return

Small Cap Japan Frontier Resources Capital App.

Cash Treasury / Agency Non-Callable Nominal U.S. Dollar

Short-Term A-AAA Corp. Callable Floating Rate Non-Dollar - G7

Intermediate BBB Corp. Structured Note TIPS Non-U.S. Dollar

Long-Term High Yield Puts / Calls CPI Notes Emerging Mkts

Global REIT's Industrial Metals USD

Volatility Precious Metals EUR/USD

Energy USD/JPY

Grains AUD/USD

Nov. 19 U.S. Large Cap 3% Europe 3%

Jan. 7 Cash 3% Long USD 3% (A

Jan. 14 U.S. Large Cap 6% U.S. Small Cap 6% (

Jan. 28 Cash 5% Asia ex Japan 5% (A

Energy Overweight Positive Above Avg. Mach. & Equip. CoalMaterials Overweight Positive Above Avg. Aluminum Gold

Industrials Overweight Positive Above Avg. Conglomerate AirlineTechnology Overweight Positive Highest Semi. Equip. Sys. SoftwareConsumer Cyclicals Neutral Neutral Below Avg. Gaming Gen. Merch.

Consumer Staples Underweight Negative Above Avg. Super Centers TobaccoHealth Care Overweight Negative Average Providers BiotechTelecom Underweight Negative Lowest Wireless IntegratedUtilities Underweight Negative Low Gas Electric

Financials Neutral Neutral Low Consumer Fin. Regional Bank

No current allocation. The PMI cycle continues to

commodities, and we prefer broad-basimplementation at this level. Our viewsspecific commodities are typically implementvia focused exposure in the equity markets.

No current allocation.



S & P 5 0 0 S e c t o r & F u n d a m e n t a l D a t

-0.53% 1.59% 8.40% 1.59%

Energy 12 1.16% 4.66% 20.33% 4.66%Materials 4 0.94% -1.63% 9.79% -1.63%

Industrials 11 0.0% 3.34% 12.58% 3.34%Technology 19 0.57% 3.55% 7.21% 3.55%Consumer Cyclicals 11 -1.74% -0.76% 6.08% -0.76%

Consumer Staples 10 -1.63% -1.31% 1.66% -1.31%Health Care 11 -1.8% 0.37% 1.86% 0.37%Telecom 3 -0.53% -2.92% 3.15% -2.92%Utilities 3 -0.91% 1.06% 1.03% 1.06%

Financials 16 -1.36% 1.84% 12.01% 1.84%

S & P 5 0 0 T o t a l R e t u r n ( % )

Energy 35.16 40.58 104% 15% 12.91Materials 12.72 16.40 79% 29% 14.39

Industrials 17.73 20.26 25% 14% 15.48Technology 26.00 30.04 49% 16% 14.13Consumer Cyclicals 17.91 19.96 63% 11% 15.03

Consumer Staples 19.34 21.28 5% 10% 14.37Health Care 29.05 32.72 10% 13% 11.37Telecom 7.65 8.05 6% 5% 15.69Utilities 12.59 13.17 9% 5% 12.38

Financials 15.27 18.35 248% 20% 12.04

We prefer a tactical tilt toward thebeta semiconductor stocks to express a bullish sector vThe large cap hardware and software companies contito weigh on the sector. Consumer Discretionary: Consiswith our ISM cycle indicator, were maintaining aweighting in this sector despite strong consumer spenpatterns. As an update, our basket of 12 global higconsumer stocks have decidedly trailed the sector slate December. Interestingly, the leading industries overpast month have been homebuilders, autos and gaming

The current stage of the ISM cyclelackluster earnings and a rising global interestenvironment present continued headwinds for the defenssectors of the market. We remain underweight insector except healthcare. Consumer Staples: Margpressure due to higher input costs will likely be a sigheadwind throughout 2011. Some companies have beproactively reducing the size of their products in ormaintain price points. Health Care: Legislative headrisk is keeping valuation levels attractive at the sectorand negative sentiment toward big pharma continuesweigh heavily on the sector. Our tactical tilt towamanaged care industry continues to benefit from the cuenvironment. Telecom & Utilities: Within telecom,wireless equipment industry remains strong, but comprissmall weighting within the sector. Modest earnings gralong with an expected rising interest rate environmean unfavorable combination for the rate-sensitive integratelecom stocks and utility sector.

Our ISM cycle framework is the preasoning for the continued neutral sector weighHowever, theres a growing list of positive catalysupport strong sector returns. Improving credit conditalong with a steepening yield curve are favorable forearnings. Expected increases in M&A activity and hinvestment flows should boost the broker/dealer induTactical tilts toward these two industries remain in pla

S & P 5 0 0 E a r n i n g s E s t i m a t e s

S & P 5 0 0 S e c t o r O v e r v i e wS o u r c e : S t a n d a r d & P o o r s , d a t a a s o f 1 / 2 5 / 1 1S o u r c e : S t a n d a r d & P o o r s

Were maintaining an overweight positionin both energy and basic materials based on favorablefinancial conditions, improving global growth trends andstrong fourth quarter earnings. It appears that excess globalliquidity is finding the path of least resistance in thesesectors. Energy: Our preferred tactical implementationstrategy for a bullish sector view is the more cyclicallysensitive oil/gas equipment and services industry. BasicMaterials: The continued weakening of gold relative to theCRB index is likely due to a reallocation trade away fromgold as sentiment continues to shift from fear to growth.The bias remains toward the global growth orientedcommodity chemicals, industrial metals and agriculture.

The positive backdrop of strength in last monthsglobal PMIs and Fridays GDP report certainly favor thecyclical sectors of the market. However, the weakeningrelative strength of the transportation industry and theconsumer discretionary sector compared to the S&P 500has now continued for nearly two months. It appears thatthe market is transitioning toward the ISM peak-to-50stage. Global cyclicals have not rolled over, but our weeklydeep-dive within each sector shows increasingly moreselectivity. The tactically overweight position remains inplace for both the industrial and technology sectors whilewe remain neutral on the consumer discretionary sector.Industrials: The rotation of leadership from thetransportation industry to the aerospace/defense industryhas continued throughout January. The ongoing strength of the rails is encouraging, and suggests that higher energyprices are impacting this industry more than an expecteddownturn in economic growth. The global growth orientedinfrastructure and heavy construction/mining remain wellpositioned in this environment. Technology: Strong fourthquarter earnings (see page 12) and significant internationalsales provide a solid fundamental underpinning for thissector. On an even-weighted basis, semiconductor stockscontinue to outperform the sector.

S & P 5 0 0 S e c t o r O v e r v i e w , C o n



S & P 5 0 0 , Te c h n i c a l s a n d Va l u a t i o n

Figure 6, the S&P 500 hasincreased 1.5 percent so far this year despite Fridays 1.8percent decline. The market settled on Friday at the keysupport level of 1,276. The MACD line and McClellan Oscillatorare both flattening with a slight downward bias while the A/D isstill trending higher. The percentage of stocks in the S&P 500

above their 50- day moving average fell sharply to 67 percentfrom 76 percent last week. Since the recent upward waspowered by favorable financial conditions and strong tapeaction, we think that any pullbacks are likely to be shallow.Figure 7 (lower), the MS Cyclical/Defensive relative strengthcontinues to point toward continued economic growth.

: Figure 7 (top), the Russell 2000 hasweakened relative to the S&P 500 in January, but global smallcaps remain strong. Our judgment is that the comparativevaluation gap and current stage of the PMI cycle is morefavorable for large caps.

The S&P 500 is currently valued at 13.5 X the 2011bottom-up estimated earnings from Standard & Poors. A

simplistic view would suggest that equities should trade at ahigher multiple based on todays low rate environment.However, net profit margins are at peak levels near 8%, and webelieve that commodity induced inflationary pressures will leadto margin compression. This potential headwind does notappear to be factored into current consensus estimates. Basedon slightly handicapping consensus earnings estimates, our fairvalue estimate for the S&P 500 remains at 1,290. To be clear,the markets often deviate significantly from fair-valueestimates, so we primarily use this as a risk management toolfor position-sizing when markets disconnect substantially fromunderlying valuation levels.

Figure 6

Figure 7



C o r e E A F E

Figure 8, the EAFE index (usingEFA as a proxy), closed on Friday at the key support area of $59. The MACD is still positive, and the chart remainsconstructive with secondary support around $57.5. Figure 9,Londons FTSE 100 continues to weigh on the EAFE, while theEU markets have rallied strongly as the pressures of the debtcrisis continues to wane. Japan represents the largestweighting in the EAFE index, and underperformed slightly inJanuary for the second straight month. The continued strengthof the European financial sector versus broader Europeanindices remains encouraging news for the region.

In most cases, we prefer specific regional and/orcountry allocations due to the wide disparity of economic growthpatterns among the representative countries. Japan and theU.K. comprise 43 percent of the EAFE index, and theirrespective equity markets have both trailed the broad index.Japans more aggressive monetary and fiscal actions have notbeen able to provide the desired economic growth despitefavorable global growth trends. The continued strength of theYen is proving how strongly Japans export-driven economy is

effected by currency trends. Within the U.K. this weeksHousehold Finance Index (HFI) dropped to a 20-month low asconcerns about increasing inflation and a worsening job marketpaints a picture of stagflation. The manufacturing and exportsectors of the economy remain vibrant, but doesnt represent alarge enough portion of the economy to offset the broaderweakness. Across Europe, despite the negative headlinesabout Europes periphery, the recent Eurozone PMI reportshave been surprisingly strong. This weeks Eurozone Flashreport indicates that growth is becoming more widespread than just Germany and France. We remain tactically underweightthis broad asset class, with preferred implementation involvinga focus on broad-based European exposure with a tilt towardthe cyclical sectors of the market.

Figure 7

Figure 9



E m e r g i n g M a r k e t s

Figure 10, the EmergingMarkets index (using EEM as a proxy), broke decidedly belowthe 50-day moving average on Friday as increasing political riskprovides a potentially new dynamic for investors to assess inaddition to intensifying inflationary pressures. The tape looksheavy, and the $45 area is probably an important level of support for the chartists. Figure 11 (top), points toward theweakening relative strength of EEM compared to the S&P 500.This is significant since January is an important month to watchfor signs of reallocations among institutional investors. Of thelarger constituents, China, South Korea, Taiwan and Russia areeach exhibiting greater relative strength than the broader index.In contrast, Indias BSE broke down again this week to levelsnot seen since early September.

Figure 11 (bottom) shows how the popular ETFfor the FTSE China 25 (FXI) has trailed the Hang Seng index.This is largely attributable to the approximate 47 percentweighting of the underperforming financial sector. The poorrelative performance of Chinas financial sector and veryelevated SHIBOR levels are indicative of a more difficulteconomic environment than the consensus forecast. All of the

major constituent countries have taken action this month inorder to quell the intensifying inflationary pressures andinflation expectations. Current economic momentum continuesto impress, and the long-term structural dynamics of this regionremain strong. However, our perspective is that inflation willprove to be more problematic than expected, and the verycrowded long Asia ex trade may unwind in a disorderly manner.Asset flows in Asia ex funds have approached two percent of the total Emerging Asia market cap, according to Nomura.Inflows of this magnitude have historically been met bysignificant future underperformance. Based on the weight of theevidence, weve decided to exit our Asia ex-Japan allocationthis week. We will wait for a more opportunistic entry point.

Figure 10

Figure 11

: Russia continues to bestrongest market among our basket of commooriented countries as the price of Brent refstronger global demand for oil than WTI. AustraliaCanada have largely mirrored the performance ofACWI for the past two months, but Brazils Boindex has declined sharply to the lowest levelearly September. Collectively, the global PMI cremains favorable for commodity producing countribut the overall environment is looking more late-than the consensus forecasts.



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1.50

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Jan-10 Apr-10 Jul-10 Oct-10 Jan-11

10-Year TIPS Spread

1.50

2.00

2.503.00

3.50

4.00

4.50


U.S. Treasury Yields

10-Year Treasury 2s10s

F i x e d I n c o m e

Figure 12, the 2s10s curve remains in a tightrange, but the 2s10s curve in Europe is flattening as therising two-year yield is creating a bear flattening scenario.Figure 13, the TIPS spread remains rather sanguine

about the future prospects for inflation, so the Fedappears to have the green light to continue QE2.Maintaining shorter than benchmark levels of durationremains in place as the bias remains toward higher yields.

Intermediate-term Treasuries are slightlyoutperforming the Barclays Aggregate Bond index inJanuary, but only due to Fridays risk-off day. Short-termand long-term Treasuries continue to trail the index. Weview a gradual upward trend in the 10-year Treasury and2s10s as bullish for economic growth, but bearish forgovernment paper. We continue to avoid this sector.

: MBS are maintaining a bid as a relative valuetrade for banks versus Treasuries. Aside from thisconstituency, the risk/reward ratio remains unattractive.

Intermediate-term corporate bonds at the lowerrange of investment grade status remains our highestconviction sector within the fixed income universe.Favorable financial conditions, improving economic dataand consistent flows represent a better investmentclimate for the credit oriented sectors. The sweet spot of A- to BBB paper is less rate sensitive than higher gradepaper, and trades at more reasonable valuations thanhigh yield. The high yield market continues to be the bestperforming sector of the fixed income market. Thepositive catalysts that are keeping the spread overinvestment grade paper near secular lows around 350

bps are still in place, but current valuations are priced forperfection. The neutral weighting is due to a very crowdedtrade with an increasingly unfavorable risk/reward ratio.Reducing our high yield allocation is at the top of the listin the event of another incremental step to reduce risk atthe portfolio level.

We continue to find munis unattractivefundamental basis, and envision several bouts of headlrisk persisting throughout 2011. Municipals have recoversome ground lately, but has been the worst perfor

sector of the fixed income market in January. Thathigher income investors can selectively find very attraTEYs as compared to broad-based municipal ETFs. JMica of Florida, who is the Chairman of theTransportation and Infrastructure committee, has statethat he wants to reincarnate the Build Americaprogram in 2011 with a different format. This woupositive for sentiment, and we anticipate that a modversion gets attached to a larger infrastructure program.

Surprisingly, the EM debt fthat we track have performed slightly better thanBarclays Aggregate Bond index so far in 2011,suffering steep declines late last year. In our opinion,

asset class has the risk level of a leveraged bet on thhigh yield market, and the downside risk is significant.is a very crowded trade with massive inflows over thyear from what we surmise are predominantly wehands. The structural fundamentals remain compelling,were content to wait for a more opportunistic entry po

Were expecting global interest rates to ri2011, but the key is whether rates rise in associationimproving economic growth or increasing inflationpressures. Commodity-induced price inflation continuesbuild around the world, but more acutely in many ememarket countries. Each of the major Asia ex countriestaken action this month to help slow the rate of inflat

noteworthy when governments and companies astockpiling food and commodities in anticipation ofprices. Figure 13, the U.S. TIPS spread confirmssanguine view of inflation in the Treasury curve. Thisthe picture of potentially rising rates due to econgrowth rather than inflation. The market may also sthat the chances of QE3 have lessened considerablygrowth trends have improved. Wage inflation is the pridriver of inflation trends in the U.S., and this weekreport reflected very anemic wage growth. As such, nterm inflation risks appear limited.

Figure 13

S o u r c e : S t . L o u i s F e d e r a l R e s e r v e

Figure 12

S o u r c e : S t . L o u i s F e d e r a l R e s e r v e



2,000,00

2,250,00

2,500,00

2,750,00

3,000,00

-300,000

-200,000

-100,000

0

100,000

200,000

300,000


Crude Oil, NYMEXCOT Report, 1/8/10 - 1/28/11

Producers Managed Money Other Reportables

Non-Reportables Open Interest (RHS)

C o m m o d i t i e s

The CRB index broke out of its five-weektrading range on Friday, and closed above 335 for the firsttime since September 2008. The grains continue to be thestrongest sector, while precious metals remain theweakest. So far in 2011, the CRB is up 0.8 percent whilethe S&P 500 has doubled that with a 1.6 percent return.The global economic cycle continues to favorcommodities, and our preferred allocation involves broad-based exposure with a bias toward the agriculture sector.

High Grade Copper has now been consolidatingin a fairly narrow range over the past four weeks, and themarket is probably waiting to assess the level of Chinesedemand for copper before the week-long Chinese LunarNew Year. The bias remains to the upside, but demanddestruction will intensify if the $5 level is reached. Strongglobal growth trends, expectations of continued supplyconstraints and increasing investment demand remain themantra for the bullish case. On the supply side, stocks atLME warehouses have risen from around 350,000 to397,000 tonnes since late December. Although small bycomparison, NYMEX stocks just started to show anincrease over the past week. Figure 14, the latest COTreport for copper showed a reduction of 8,515 net longcontracts in Managed Money, while Producers reducedtheir net short position by 5,539 contracts.

S o u r c e : L M E

120,000

130,000

140,000

150,000

160,000

170,000

180,000

-100,000

-80,000

-60,000

-40,000

-20,000

0

20,000

40,000

60,000


Copper, COMEXCOT Report, 1/8/10 - 1/28/11



Figure 14

500,000

650,000

800,000

950,000

1,100,000

-300,000

-200,000

-100,000

0

100,000

200,000

300,000


Gold, COMEXCOT Report, 1/8/10 - 1/28/11



Figure 16

1,000,00

1,500,00

2,000,00

2,500,00

3,000,00

-1,000,000

-800,000

-600,000

-400,000

-200,000

0

200,000

400,000600,000


Corn, CBOTCOT Report, 1/8/10 - 1/28/11



Figure 17Figure 15

COMEX gold was basically unchanged this wbut down 5.6 percent this month. Our assessment isthe weakness of gold and strong copper/gold ratiindicative of improving economic trends. As a rreallocations of capital are flowing away from gold atrend in risk appetite improves. There are other sizparticipants in the gold market, but it appearsinvestment related flows are dominant at this point.

Brent oil (March), rose $1.68 this week to c$99.31, as tensions in Egypt have led to increconcerns about supply disruptions. This weeks closBrent-WTI spread increased to $10.01, while the de

intensifies about the level of international oil suppOPECs Secretary General Abdullah Al-Badrii commenthat oil futures prices have become disconnected fromphysical market. He stated that the current 60 dayfloating and commercial stocks along with current Oproduction of 29.3 million barrels per day did nothigher production levels. However, the IEAs NTanaka asked OPEC to increase production since highprices are a detriment to the world economic recovThe incremental demand is coming from the producountries due to continued government subsidieHowever, the perception is growing that suppliestighten markedly if increasing global growth leadhigher-than-expected OECD demand.

S o u r c e : C F T C S o u r c e : C F T C

S o u r c e : C F T CS o u r c e : C F T C



C u r r e n c i e s

Figure 18, the Euro finished the week basicallyunchanged to close at 1.36. The political unrest in Egyptsparked a wave of risk aversion that pressured the Euroafter reaching 1.37 on Thursday, the highest sinceNovember 22. We found this weeks COT report to beparticularly noteworthy given the extreme change insentiment following the 5.4 percent surge in the pair overthe past three weeks. Short dollar positions are now attheir highest level in two months, while the EUR hasswitched from a net short position of 45K contracts twoweeks ago to being net long by 23K contracts. Within the

Eurozone, Mondays PMI reports will be gleaned to see if they reflect the strength seen in this weeks Flash reports.In addition, Mondays Eurozone CPI report andThursdays ECB rate decision will also be key focal points.Meanwhile, Mondays ISM report and Fridays Nonfarmpayroll report will be the key economic reports in the U.S..

The Yen appreciated by 0.6 percent this weekversus the Euro. This pair represents our longer-termhighest conviction idea for a widening rate differential, butthe recent four percent surge was likely fueled by shortcovering. We might be interested in this pair at a moreopportunistic entry point.

The Swissie appreciated this week as the

combined attributes of risk aversion and solidfundamentals have many regarding CHF as THE safehaven currency. We typically get a very good feel fortrends in risk appetite by watching this pair as comparedto the Yen. That said, its worth noting that Switzerland isnot immune from potential problems in the EU, since themajority of the countrys exports are to the Eurozone.

Figure 19, the Aussie remains impressresilient despite billions in flood damage and grofears of a reduction of exports to China. It appearthe market is focusing on stronger-than-expected gloeconomic trends and an increasing appetite fororiented assets. In addition, continued stable and rismarkets create a favorable environment for carry traThis weeks CPI report for the fourth quarter camepercent on a year-on-year basis compared withconsensus estimate of 3.0 percent. This further suppthe view that the RBA will leave rates unchanged a

weeks meeting. The Aussie is very sensitive to trenrisk appetite, and we sense that the bias is foeventual break above the current trading range. Howevour assessment of varied economic reports indicate tthe economy was slowing before the onset of the flo

The Yen strengthened by 0.5 percentweek to close at 82.1 as the political situation intriggered demand for Yen as a safe haven currencyfears that the crisis might spread to other Arab countThis was a reversal from Thursdays sharp decline inYen versus the dollar as S&P lowered Japans crating to AA-. S&P listed ongoing deflation and pgridlock as obstacles in dealing with Japans 943 triYen debt burden. However, we anticipate that the primdriver of USD/JPY will revert back to the 2-yeaspread. At this point, the current yield differsuggests that the pair should trade around the 84.0 leStronger U.S. economic growth and solid fourth quearnings should serve to widen the rate differentiafavor of the dollar.

Figure 19Figure 18



Q 4 E a r n i n g s , C y c l i c a l

Exxon Mobil XOM Jan. 31Chevron CVX Jan. 28 51,825 47,588 9% 2.64 1.53 73%ConocoPhillips COP Jan. 26 1,929 1,803 7% 1.32 1.20 10%Occidental Petroleum OXY Jan. 26 5,063 4,382 16% 1.47 1.35 9%Apache APA Feb. 17

Anadarko Petroleum APC Jan. 31Devon Energy DVN Feb. 16Schlumberger SLB Jan. 21 9.067 5.744 58% 0.76 0.65 17%Halliburton HAL Jan. 24 5,160 3,686 40% 0.68 0.53 28%National Oilwell Varco NOV Feb. 3

Du Pont (E.I.) DD Jan. 25 7,742 6,814 14% 0.5 0.44 14%Dow Chemical DOW Feb. 3PPG Industries PPG Jan. 20 3,379 3,116 8% 1.24 0.85 46%Praxair PX Jan. 26 2,623 2,407 9% 1.25 1.09 15%Air Products & Chemical APD Jan. 21 2,392 2,174 10% 1.35 1.16 16%Monsanto MON Jan. 6 1,830 1,697 8% 0.02 (0.02) "P"Alcoa AA Jan. 10 5,433 5,652 (4%) 0.24 (0.27) "P"Freeport-McMoRan FCX Jan. 20 5,603 4,610 22% 3.25 2.15 51%Nucor NUE Jan. 27 3,854 2,938 31% (0.04) 0.18 "L"Newmont Mining NEM Feb. 24

General Electric GE Jan. 21 41,377 41,046 1% 0.36 0.27 33%United Technologies UTX Jan. 26 14,864 13,979 6% 1.31 1.15 14%3M MMM Jan. 25 6,709 6,122 10% 1.28 1.30 (2%)Emerson Electric EMR Feb. 1Fedex FDX Mar. 17United Parcel Service UPS Feb. 1Union Pacific UNP Jan. 20 4,410 3,754 17% 1.56 1.89 (17%)Boeing BA Jan. 26 16,550 17,937 (8%) 1.56 1.77 (12%)Caterpillar CAT Jan. 27 12,807 7898 62% 1.47 0.36 308%Deere DE Feb. 16

Apple Computer AAPL Jan. 18 26,741 15,683 71% 6.43 3.67 75%Hewlett-Packard HPQ Feb. 22Intel INTC Jan. 13 11,457 10,569 8% 0.59 0.40 48%IBM IBM Jan. 18 29,019 27,230 7% 4.18 3.59 16%Cisco Systems CSCO Feb. 9Qualcomm QCOM Jan. 26 3,348 2,668 25% 0.82 0.62 32%Microsoft MSFT Jan. 27 19,953 19,022 5% 0.77 0.74 4%Oracle ORCL Mar. 24Google GOOG Jan. 20 8,440 6,674 26% 7.81 6.13 27%EMC EMC Jan. 25 4,889 4,100 19% 0.29 0.19 53%

Walt Disney DIS Feb. 8Amazon AMZN Jan. 27 12,948 9,519 36% 0.91 0.85 7%Comcast CMCSA Feb. 16Time Warner TWX Feb. 2Directv DTV Feb. 17

Ford Motor F Jan. 28 32,500 34,800 (7%) 0.30 0.43 (30%)Home Depot HD Feb. 22Lowe's LOW Feb. 23Target TGT Feb. 24McDonalds MCD Jan. 24 6,214 5,973 4% 1.16 1.11 5%Coach COH Jan. 25 1,264 1,065 19% 1.00 0.75 33%Macy's M Feb. 22lNordstrom JWN Feb. 17Abercrombie & Fitch ANF Feb. 16Darden Restaurant DRI Mar. 23Marriott MAR Feb. 14

Starwood Hotel HOT Feb. 3

Carnival CCL Dec. 21 3,497 3,282 7% 0.31 0.24 29%

Harley Davidson HOG Jan. 25 917 764 20% (0.18) (0.63) "L"

Tiffany TIF Mar. 21



Q 4 E a r n i n g s , D e f e n s i v e & F i n a n c i a l

Proctor & Gamble PG Jan. 27 21,347 21,027 2% 1.11 1.01 10%Colgate-Palmolive CL Jan. 27 3,978 4,081 (3%) 1.24 1.21 2%Coca-Cola KO Feb. 9PepsiCo PEP Feb. 10Kraft Foods KFT Feb. 10

Wal-Mart WMT Feb. 22CVS Caremark CVS Feb. 3Walgreen WAG Mar. 22Altria Group MO Jan. 27 5,927 6,014 (1%) 0.44 0.35 26%Philip Morris PM Feb. 10

Pfizer PFE Feb. 1Merck MRK Feb. 15Bristol-Myers Squibb BMY Jan. 27 5,111 5,033 2% 0.47 0.47 0%Eli Lilly LLY Jan. 27 6,187 5,934 4% 1.11 0.91 22%Amgen AMGN Jan. 24 3,841 3,809 1% 1.17 1.05 11%Johnson & Johnson JNJ Jan. 25 15,644 16,551 (5%) 0.70 0.79 (11%)Abbott Labs ABT Jan. 26 9,968 8,790 13% 1.30 1.18 10%

United Health UNH Jan. 20 24,030 21,784 10% 0.94 0.81 16%Medtronic MDT Feb. 22Baxter International BAX Jan. 27 3,498 3,470 1% 1.11 1.03 8%

AT&T T Jan. 27 31,361 30,708 2% 0.18 0.46 (61%)Verizon VZ Jan. 25 26,395 27,091 (3%) 0.93 0.22 323%Qwest Communications Q Feb. 15Century Link CTL Feb. 15American Tower AMT Feb. 23

Southern Co. SO Jan. 26 3,771 3,511 7% 0.18 0.31 (42%)Exelon EXC Jan. 21 4,500 4,148 8% 0.96 0.92 4%Dominion Resources D Jan. 28 3,667 3,176 15% 0.63 0.63 0%

Duke Energy DUK Feb. 17NextEra Energy NEE Jan. 25 3,410 3,660 (7%) 4.30 4.05 6%

JPMorgan Chase JPM Jan. 14 26,722 25,236 6% 1.12 0.74 51%Bank of America BAC Jan. 21 12,439 11,559 8% -0.37 -0.60 (38%)Wells Fargo WFC Jan. 19 21,494 22,696 (7%) 0.61 0.08 663%Citigroup C Jan. 18 18,371 5,405 240% 0.04 -0.33 "P"US Bancorp USB Jan. 19 4,721 4,376 8% 0.49 0.30 63%Goldman Sachs GS Jan. 19 8,642 9,615 (10%) 3.79 8.20 (54%)Morgan Stanley MS Jan. 20 7,807 6,836 14% 0.43 0.18 139%Berkshire Hathaway BRK.B Feb. 4Metlife MET Feb. 9

American Express AXP Jan. 24 4,093 3,645 12% 0.88 0.59 49%S o u r c e : C o m p a n y W e b s i t e s


14/14

D i s c l a i m e rAll opinions expressed are solely the opinion of the author. You should not treat any opinion expressed as a specific inducement to make a

investment or follow a particular strategy, but only the expression of an opinion. Such opinions are based upon information the author considers reliashould not be relied upon as such.The author is not under any obligation to update or correct any information available in this report. The author may be actively involved in securitiherein. Also, the opinions expressed may be short-term in nature and are subject to change without notice. Past performance is not indicativeresults.You should be aware of the real risk of loss in following any strategy or investment discussed in this report. Strategies or investments discussed main price or value. Investors may get back less than invested. Investments or strategies mentioned in this report may not be suitable for you. This mnot take into account your particular investment objectives, financial situation or needs and is not intended as recommendations appropriate for you.You must make an independent decision regarding investments or strategies mentioned in this report. Before acting on any information, you should cwhether it is suitable for your particular circumstances and strongly consider seeking advice from your own financial or investment advisor.

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