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

com Leveling the Playing Field August 20, 2012 _______________________________________________________________________ Big week for the family last week as my dad celebrated another birthday and my brother got engaged. Dont worry, he reassured me. I told her I didnt want anything serious and still wanted to see other people. Rates had a surprisingly volatile week, mostly moving higher beginning Tuesday. The 10yr Treasury spiked from 1.66% to 1.84% before closing the week at 1.82%, beginning after a modestly positive retail sales report. On Thursday, Merkel reiterated that Germany is committed to maintaining the euro, whatever that means. This may sound reassuring, but the German parliament votes on September 12th about whether or not it is constitutionally capable of participating in a euro bailout. For the third week in a row, we disagree strongly with the recent rate movement. Which recent developments suggest improving global conditions? A speech here or there with no substantive details? The US is facing another fiscal cliff and an election. Europe is in full blown meltdown mode. Israeli/Iranian tensions are growing. Chinas economic expansion is slowing. And the S&P is at 2012 peaks and approaching all-time highs? Yes, we agree that ultimately policymakers here and abroad will make the proper arrangements to avoid a complete meltdown, but havent we learned that supposed black swan events (like not reaching agreements) occur far more frequently than we intuitively expect? And if nothing else, dont we always wait until the last second before acting? Or even after the last second? Just a year ago Congress failed to reach an agreement on the debt ceiling despite a wellknown deadline. The S&P plummeted 11% in two weeks. And those politicians werent in the midst of a nasty election cycle. Do you think anyone in Congress is abandoning the campaign trail to head to DC and work on a resolution? Maybe we end up with another stop-gap measure extending the Bush tax cuts but canceling spending cuts, but is that a real resolution? And if the debt ceiling deadline is December (which really means February), do we really expect any progress right now? Furthermore, if a nations debt exceeds $16T in the woods, does it make a sound if that nation has no intentions of really paying it back? In Europe, no real progress has been made other than a speech here or there committing to the preservation of the euro. As we discussed in a July newsletter, no real European decisions will be made until at least September.

Last weeks unexpected rate jump was probably about markets assuming policymakers will intervene. The most recent FOMC statement said it will closely monitor incoming information on economic and financial developments and will provide additional accommodations as needed to promote a stronger economic recovery and sustained improvement in labor market conditions in a context of price stability. Now, I dont know what any of that means, but it sounds a lot like the language the FOMC used in the last FOMC meeting before unveiling another round of stimulus (QE2 and then Operation Twist). But what if they dont?

VIX The WSJ ran an article on the muted VIX index last week, so I asked our colleague Scott Celander for his thoughts. Before joining Pensford at the beginning of the year, Scotts background was covering institutional accounts (banks, hedge funds, mortgages, etc) and his technical expertise has been a huge help in 2012. Here are his thoughts. The VIX is at the lowest level since early 2007. The old thinking was that this index traded between 10 and 30, with 20 being the true average for years since inception in 1993. The old thinking was that an investor would buy the index as it approached 10 and sell the index as it approached 30. This old thinking was thrown out the window in 2008 when the index rallied from 20 to 80 in what seemed like an overnight trade. With the VIX seemingly approaching all-time lows, many believe its a cheap way to hedge a powerful move in equities in EITHER direction. Many investors incorrectly think that the VIX only rallies when stocks go down, but the fact of the matter is that the VIX rallies in strong movements of stocks in either direction as it becomes more costly to hedge. The lowest level in the VIX since 1995 is a 9.89 print in January of 2007. With the index currently in the 13s, many firmly believe its a cheap way to hedge a stock market move, particularly to the downside. Looking at historical data, the VIX is normally muted in the summer as folks are on vacation. There is clear speculation, as evident by the WSJ article, that once the summer holidays are over, stocks will move and the VIX will follow accordingly. Play the trade from the futures side unless youre certain you have the timing down, at which point you can play the trade from the options side.

LIBOR Outlook Why do I even give a self-reported index its own section?

Fixed Rate Outlook There have been many clients asking if rates will retrace or continue higher. Tough to say and our recent track record has been pretty abysmal. In 2010 (QE2) and 2011 (Operation Twist), the minutes prior to the formal announcement of stimulus indicated that several or many of the voting members supported additional intervention. If a similar tone is found in this weeks release of the minutes, markets will interpret that as a positive sign and likely send yields higher. Generally, the longer we go without concrete government intervention (domestic or global), the more likely it sends investors looking for safety and yields lower.

This Week Not a lot of data, but on Wednesday we get the minutes from the last FOMC meeting. Durable goods on Friday is the most significant release. Put September 1 on your calendar for the Jackson Hole symposium. All the big hitters will be there and we will be looking to Draghi and Bernanke for more formal commitments.

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ECONOMIC CALENDAR

Economic Data Day Monday Tuesday Wednesday 7:00AM 10:00AM 2:00PM Thursday 8:30AM 8:30AM 10:00AM 10:00AM Friday 8:30AM 8:30AM MBA Mortgage Applications Existing Home Sales (MoM) Minutes of FOMC Meeting Initial Jobless Claims Continuing Claims New Home Sales (MoM) House Price Index (MoM) Durable Goods Orders Durables ex Transportation 365k 3300k 3.4% 0.5% 2.0% 0.5% 366k 3305k -8.4% 0.8% 1.6% -1.1% 3.0% -4.5% -5.4% Time 8:30AM Report Chicago Fed Nat Activity Index Forecast Previous -0.15

Speeches and Events Day Tuesday Wednesday Time 8:45AM 2:00PM 11:30PM Fed's Lockhart speaks Fed releases Minutes from August 1 FOMC Meeting Fed's Evans holds Press Briefing Beijing, China Report Place Atlanta, GA

Treasury Auctions Day Time Report Size