Martin Barnes Managing Editor The Bank Credit Analyst Peering Through the Mist Strategic Investor Conference - La Jolla April 22-24, 2004

KEY MESSAGES 1.The U.S. economic expansion is sustainable. 2.The Fed is falling behind the curve: inflation will pick up in the coming year. 3.The trends in domestic debt are unsustainable, but do not pose any immediate threat to the economic and financial outlook. 4.No major asset class offers compelling value right now. However, stocks should outperform both bonds and cash this year and next.

REFLATION TRADES (Part I) CORPORATES MINUS TREASURYS (OAS)** BPs STOCK-TO-BOND TOTAL RETURN RATIO* *INDEXED TO JANUARY 2001 = 1 **SOURCE: MERRILL LYNCH; OPTION-ADJUSTED SPREAD © BCA Research 2004

REFLATION TRADES (Part II) © BCA Research CRB* RAW INDUSTRIALS INDEX 40-WEEK MOVING AVERAGE S&P CYCLICAL STOCKS/NON-CYCLICAL STOCKS *CRB = COMMODITY RESEARCH BUREAU

MASSIVE MONETARY STIMULUS © BCA Research FED FUNDS TARGET RATE GDP GROWTH % %

STRONG REVIVAL IN BUSINESS CONFIDENCE © BCA Research CONFERENCE BOARD BUSINESS CONFIDENCE INDEX AVERAGE OF ISM MANUFACTURING AND NON-MANUFACTURING INDEXES* % % *SOURCE: INSTITUTE FOR SUPPLY MANAGEMENT

CONSUMER SPENDING SUPPORTED BY INCOMES © BCA Research PERSONAL SAVING RATE* % % REAL CONSUMER SPENDING* REAL PERSONAL DISPOSABLE INCOME* Ann% Chg *SHOWN AS A 3-MONTH MOVING AVERAGE Ann% Chg

HEALTHY TREND IN CONSUMER INCOMES © BCA Research AVERAGE EFFECTIVE TAX RATE % PERSONAL INCOME DISPOSABLE INCOME NOTE: ALL SERIES ARE SHOWN AS A 3-MONTH MOVING AVERAGE Ann% Chg %

A GLOBAL RECOVERY © BCA Research BCA GLOBAL LEADING ECONOMIC INDICATOR EX. U.S. (LS) GLOBAL INDUSTRIAL PRODUCTION EX. U.S. (RS) U.S.: LEADING ECONOMIC INDICATOR (LS) INDUSTRIAL PRODUCTION (RS) Ann% Chg

RECESSIONS USUALLY TRIGGERED BY TIGHT MONEY © BCA Research YEAR MINUS 3-MONTH TREASURY YIELD % % REAL GDP NOTE: SHADED AREAS CORRESPOND TO NBER-DESIGNATED PERIODS OF RECESSION Ann% Chg

A STUNNING REBOUND IN PROFITS © BCA Research NON-FINANCIAL CORPORATE SECTOR: WEIGHTED AVERAGE REAL COST OF CAPITAL AVERAGE RETURN ON CAPITAL % % TOTAL CORPORATE AFTER-TAX PROFITS AS A % OF GDP % %

INFLATION TURNS THE CORNER © BCA Research IMPORT PRICES FOR CONSUMER GOODS & AUTOS CORE* PPI FINISHED GOODS CORE* CPI *CORE EXCLUDES FOOD AND ENERGY Ann% Chg

THE TWO SIDES OF INFLATION © BCA Research CORE* CPI SERVICES EXCLUDING RENT OF SHELTER CORE* CPI GOODS *CORE EXCLUDES FOOD AND ENERGY Ann% Chg

IS HOUSING IN A BUBBLE? © BCA Research HOUSE PRICES* / CPI RENT OF SHELTER HOUSE PRICES* / EMPLOYEE COMPENSATION RATIO *SOURCE: OFFICE OF FEDERAL HOUSING ENTERPRISE OVERSIGHT

IS HOUSING IN A BUBBLE? © BCA Research HOUSING AFFORDABILITY INDEX** HOUSE PRICES* *SOURCE: OFFICE OF FEDERAL HOUSING ENTERPRISE OVERSIGHT **SOURCE: NATIONAL ASSOCIATION OF REALTORS Ann% Chg

IS CONSUMER DEBT A PROBLEM? HOUSEHOLD DEBT AS A % OF PERSONAL DISPOSABLE INCOME % © BCA Research 2004

“Consumer short term debt… is approaching a historical turning point. Having risen at an abnormally fast rate for ten years, it must soon adjust itself to the nation’s capacity for going into hock… which is not limitless. Whether the rate of growth in consumer debt will slow down is no longer the question…it must slow down.” Fortune Magazine March 1956 “Federal Reserve Chairman G. William Miller said the average American buyer is getting dangerously deep in debt, and warned that the trend could have serious consequences… Several of the nation’s business leaders said they share Miller’s alarm over the level to which consumer debts have climbed.” Washington Post October 1978

CONSUMERS NOT IN FINANCIAL STRESS © BCA Research ALL CONSUMER LOANS % % RESIDENTIAL REAL ESTATE LOANS BANK LOAN DELINQUENCY RATES: % %

TREASURYS ARE OVERVALUED © BCA Research BCA 10-YEAR TREASURY VALUATION INDEX Bonds Extremely Undervalued 10-YEAR TREASURY YIELD FAIR VALUE PROJECTED BY BCA BOND MODEL % % Bonds Extremely Overvalued

STOCKS ARE NOT CHEAP © BCA Research S&P 500 DIVIDEND YIELD MINUS 3-MONTH TREASURY BILL YIELD % % NONFINANCIAL CORPORATE SECTOR EQUITIES TO REPLACEMENT COST BOOK VALUE S&P 500 FORWARD P/E RATIO* *BASED ON 12-MONTH FORWARD EARNINGS

STILL LOTS OF CASH ON THE SIDELINES © BCA Research INTEREST INCOME FROM CASH MOUNTAIN* (IN 2003 PRICES) Bn$ CASH MOUNTAIN* AS A % OF PERSONAL DISPOSABLE INCOME % % *INCLUDES MONEY MARKET FUNDS AND SAVINGS DEPOSITS

DECOMPOSING EQUITY MARKET RETURNS © BCA Research 2004 Historical Average Bubble Years Bear Market Optimistic Scenario Mean- Reversion Scenario** Bear Scenario*** Nominal GDP Earnings +Valuation change =Growth in S&P 500 +Reinvested dividends =Total equity returns Inflation (CPI) Real returns *Bull market ended in 2000 Q3, based on quarterly data. ** Assumes that the price-earnings ratio falls to 15 over the period. ***Assumes that the price-earnings ratio falls to 12 over the period *

THE DOLLAR MOVES IN LONG CYCLES © BCA Research REAL TRADE-WEIGHTED DOLLAR SOURCE: THE FEDERAL RESERVE

WHY THE DOLLAR HAS FURTHER TO FALL © BCA Research CURRENT ACCOUNT DEFICIT AS A % OF GDP NET LONG-TERM CAPITAL FLOWS AS A % OF GDP (PORTFOLIO PLUS DIRECT INVESTMENT)* % *SHOWN AS A 4-QUARTER MOVING AVERAGE

GOLD AS A LONG-TERM INVESTMENT © BCA Research REAL RETURN ON: STOCKS BONDS GOLD