JP Conklin 704-887-9880 office jp.conklin@pensfordfinancial.com www.pensfordfinancial.

com Leveling the Playing Field June 25, 2012 _______________________________________________________________________ Last week, the US Open finished too late to make it into the Newsletter, but congratulations to Webb Simpson for a great win. I dont know Webb, but a lot of people around here know him very well so it feels good to have him win. And rumor has it that I may have actually put my hands on the US Open trophy this weekjust saying The Greek elections Sunday night resulted in what should have been as positive an outcome as possible for overall market optimism, but the short lived rally perhaps suggests that people are finally catching on to the charade going on across the pond. Weve seen this song and dance before and Germans are becoming increasingly tired of subsidizing the rest of Europe, so there is plenty of reason to be wary right now. Bernanke & Co slightly disappointed markets Wednesday by extending Operation Twist through year end but no formal commitment to the next round of QE. Until now, Operation Twist was announced with a quantifiable size. This time around, however, the Fed announced no size but rather a timeframe at the current pace, which should be about $267B of twisting. This switch to a time horizon rather than size feels like a way to buy time while they attempt to figure out the next step, which we still believe will be another round of QE. As expected, the FOMC significantly reduced its economic outlook for 2012 and even 2013. The dramatic reduction in forecast opened Bernanke up to a lot of questions at the press conference as to why the Fed wasnt being more aggressive. He retailiated with a variety of responses that all basically said we are prepared to take further action. This smells strongly like a politically motivated position because Bernanke remembers the fallout from QE2. We suspect the FOMC is working behind the scenes with domestic policy makers as well as global counterparts to garner support before another round of easing before year end. Additionally, buying time allows them to explore alternative options for credit easing and more non-traditional stimulus strategies. A Goldman report Friday suggests markets are so focused on Europe that we are missing the warning signs of a slowdown: While investors focus on the European sovereign debt and bank problems and Fed policy, our client discussions reveal that portfolio managers are not aware of the wave of negative preannouncements across the market. The reduction between the midpoint of new guidance and consensus estimates prior to the pre-announcement ranged from 2%

to 20%. The median 2Q reduction equaled 4%. Firms lowering quarterly earnings guidance include: Pall (PLL), Nucor (NUE), Ryder Systems (R), Proctor & Gamble (PG), Cardinal Health (CAH), Texas Instruments (TXN), Starbucks (SBUX), Autodesk (ADSK), FedEx (FDX), Jabil Circuit (JBL), Bed, Bath & Beyond (BBBY), and Adobe Systems (ADBE). Explanations for the lower guidance ranged widely. Europe ranked at the top of the list but weak US demand was also identified as a cause of lower revenue guidance. Many firms expect slower demand to continue through 2012. For Bed, Bath & Beyond promotional pressures are squeezing margins. Texas Instruments customers are still hesitant to rebuild inventory and industrial orders are moderating due to uncertainty. Proctor & Gamble cited operational errors when lowering its sales and EPS guidance and cut its spending on developing market expansion. FedEx noted margin headwinds from higher pension expenses. Six months ago we were talking about the resiliency of the US market in the face of global headwinds, but it appears we are headed for a weaker second half of the year.

Dodd-Frank Impact on Derivatives Weve had more than one client recently tell us that BB&T is telling them they must swap at the loan closing for Dodd-Frank purposes. This sounded like a sales tactic to us, so we started blanketing our contacts with knowledge of Dodd-Frank and heres what we think we know. The definition of Swap Dealer under Dodd-Frank will capture most regional banks except that a specific provision for depository institutions allows for an exemption when a swap is hedging a loan. The CFTC has decided that in order to qualify as hedging a loan, a swap must be executed no sooner than 90 days prior or 180 days after a loan closing. By getting a customer to swap within this timeframe, the regional bank doesnt have to worry about any Dodd-Frank regulation. It sounds like a certain threshold of non-qualifying swaps would need to be hit before the bank would have to register as a Swap Dealer, so one swap doesnt automatically throw them into that category. And this doesnt actually take place until sometime in 2013 it isnt law yet. From the banks perspective, they want as many swaps as possible to fall within these parameters so they dont have to register as a Swap Dealer. Thats why were hearing about banks preemptively requiring customers to swap at closing. Its a great sales tool because they can blame the government for why you have to swap now or forever hold

your peace. Hey, its not our fault, but if you dont swap now you wont be able to in a few years when rates could be much higher They may ultimately suggest that they will charge more to swap outside this timeframe. At least, thats what I would have done if I was still working for The Bank That Shall Not Be Named. Fixed Rate Outlook I had some joint meetings with TBTIHEK (The Best Trader I Have Ever Known) this week and heard him touch on a few key themes: 1. When every cab driver can give you 10 reasons why Europe is set to implode, market prices already reflect a dire situation. For that reason, he doesnt expect the 10 year Treasury to decline substantially from here unless Europe actually does implode. 2. Hyper inflation isnt a real threat right now because the velocity of money is actually slowing slightly. 3. The standard deleveraging cycle takes 10-15 years to play out, and were only in year 4 or 5. 4. Savers (typically retirees, an age bracket growing at a rapid pace), are being punished by low rates severely and their spending reflects that, further dampening GDP. He isnt necessarily short the 10yr Treasury, he just believes there are a million other investment options right now and even if he believed the 10yr Treasury yield was set to move higher, there are better ways (like FX) to express that view. We continue to believe that long term rates will be very range-bound in the near future. Perhaps rates drift lower while the European mess sorts itself out or temporarily bump higher with a strong German commitment, but the Fed seems poised to keep a lid on long term rates. This Week Obviously, any European news will dominate market movements. Surprisingly few Fed speeches following last weeks meeting. Usually the week after a meeting is full of speeches meant to reinforce or clarify the message, but not this week. The Supreme Court should rule on ObamaCare, perhaps as early as Monday.

As for the Jerry Sandusky case, what is there to say? I am satisfied he was found guilty on most of the charges because a very small part of me was worried about an OJ-style outcome. Unlike the spectators outside the courtroom, however, I didnt celebrate once the verdict was read. Hell die in jail (natural causes or otherwise), but that doesnt undo the damage. I was speaking with my mom Sunday and she discussed an editorial she had just read. The author basically asked can we get to a point as a society where people like Jerry Sandusky actually self-report before they have done any damage? Its an interesting question. The topic is so disturbing that even the parents of some of the victims admitted on the witness stand that they ignored the warning signs because they didnt want to contemplate the reality. Heck, Im uncomfortable writing about it and you might be uncomfortable reading about it. So how likely is it that someone like Jerry Sandusky would seek help before committing the crime? This doesnt seem likely at first glance, but my moms point was that society has made a lot of progress over time on how certain things are perceived. Her example was mental illness, which for her mothers generation was rarely admitted and never discussed publicly. But that has changed over the last five decades to the point that employers cant fire an employee with a history of mental illness without first offering assistance. Perhaps a change of perception is possible with molestation as well. As with any crime, punishment doesnt deter. If the ultimate goal is to eradicate the behavior, an alternative method should be considered. I criticize the approach to the Eurozone crisis by pointing out they arent addressing the underlying behavior that led to the crisis and I think the same applies here. I am embarrassed of how the former Penn State administration conducted itself, but I hope the current administration continues its commitment to transparency. Anyone involved with a cover up should be punished severely and I suspect this will be the most immediate change to behavior. Going forward, I believe fewer people or institutions (Im looking at you Catholic Church) will be complicit with sweeping under the rug allegations or warning signs. I dont believe the conclusion of this trial represents closure, but perhaps were on the right track and this case will be viewed in the future as a watershed moment. At some point, I hope Penn State can say We ArePart of the Solution.
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ECONOMIC CALENDAR
Economic Data Day Monday Time 8:30AM 10:00AM 10:30AM Tuesday 10:00AM 10:00AM Wednesday 7:00AM 8:30AM 8:30AM 10:00AM 10:00AM Thursday 8:30AM 8:30AM 8:30AM 8:30AM 8:30AM 8:30AM 11:00AM Friday 8:30AM 8:30AM 9:45AM 9:55AM Report Chicago Fed Nat Activity Index New Home Sales (MoM) Dallas Fed Manufacturing Index Consumer Confidence Richmond Fed Manufacturing Index MBA Mortgage Applications Durable Goods Orders Durables ex Transportation Pending Home Sales (MoM) Pending Home Sales (YoY) Initial Jobless Claims Continuing Claims GDP (QoQ) GDP Price Index Personal Consumption Core PCE (QoQ) Kansas City Fed Manufacturing Activity Personal Income Personal Spending Chicago Purchasing Manager U. of Michigan Confidence 0.2% 0.1% 53.0 74.1 1.9% 1.7% 2.7% 2.1% 9 0.2% 0.3% 52.7 74.1 0.2% -0.6% -5.5% 14.7% 386k 64.2 0.6% Forecast Previous 0.11 3.3% -5.1 64.9 4

Speeches and Events Day Tursday Time 11:30AM 12:00PM Friday 9:05AM Fed's Pianalto speaks Fed's Fisher speaks on Economy Fed's Bullard speaks on Economy Report Place Cleveland, OH Aspen, CO Arkansas

Treasury Auctions Day Tuesday Wednesday Thursday Time 1:00PM 1:00PM 1:00PM 2-year Treasury 5-year Treasury 7-year Treasury Report Size $35B $35B $29B