1
6 October 2011
John Hallacy +1 646 743 1446
Municipal Research Strategist
MLPF&S
Municipal Research
Meaningful Municipal Metrics
Product ID
6 October 2011
2
6 October 2011
Current Outlook
State and local governments are expected to be under financial pressure for some time, most likely continuing throughout Fiscal Year 2012 and beyond
NCSL budget gap estimate is lower than last year at $32bn with only 20 state responses
Is the incidence of municipal default and bankruptcy on the rise? 2010: $4.25bn defaults, 0.15% annual default rate, YTD 22 September
2011: $1.13bn defaults, 0.04% default rate
Light supply ($187bn to-date, down 36% YoY) and weak economic recovery in 2011 driving performance: Muni YTD total return, 7.934%, as of October 6
Estimated supply 2011: $245bn
Yield curve remains steep: BofAML Economics Team expects the Fed to remain on hold until 1Q2014
Current outlook for the muni market
3
6 October 2011
AAA Muni yield curves, 5 October 2011 vs. 6 October 2008
Source: Thomson Reuters MMD
Current outlook for the muni market
0.00
1.00
2.00
3.00
4.00
5.00
6.00
1yr 2yr 3yr 4yr 5yr 7yr 10yr 12yr 15yr 20yr 30yr
10/6/2008 10/5/2011
4
6 October 2011
Current Outlook
US downgrade to AA+ with a Negative Outlook by S&P and its implications for munis
Fitch affirmed the US rating at AAA with a Stable Outlook, Moody’s maintains AAA with Negative Outlook
Next review post 11/23
Eurozone – Portugal, Italy, Ireland, Greece, Spain?
FED Twist: sell $400bn near term maturities and purchase $450bn long term maturities
Tax Policy Outlook
Future of Bush tax cuts for incomes $250k and over
Preserve tax exemption up to 28% bracket
Additional reductions of tax exemption if debt targets not hit
Elimination of tax exemption for municipals – viewed as an expenditure ~$40bn per year
Current outlook for the muni market
5
6 October 2011
Annual Deficits as a Percent of GDP
Source: Executive Office of the President, Office of Management and Budget (OMB)*BCA: Budget Control Act of 2011
Current outlook for the muni market
6
6 October 2011
Debt Held by the Public as a Percent of GDP
Current outlook for the muni market
Source: Executive Office of the President, Office of Management and Budget (OMB)*BCA: Budget Control Act of 2011
7
6 October 2011
21 of the Top 50 world economies are U.S. municipalities*
*GDP Current Price ($bn) as of 2010; 2010 figures are estimates except for state data and figure for USSource: IMF; U.S. Bureau of Labor Statistics
Rank Area GDP Rank Area GDP
1 United States 14,552 26 Pennsylvania 570
2 China 5,364 27 Chicago-Naperville-Joliet, IL-IN-WI 532
3 Japan 5,273 28 Switzerland 512
4 Germany 3,333 29 New Jersey 487
5 France 2,669 30 Poland 479
6 United Kingdom 2,223 31 Ohio 478
7 Italy 2,121 32 Belgium 472
8 Brazil 1,910 33 Sweden 444
9 California 1,901 34 Saudi Arabia 438
10 Canada 1,556 35 Norway 433
11 Russia 1,508 36 North Carolina 425
12 Spain 1,425 37 Washington-Arlington, DC-VA-MD-WV 425
13 India 1,367 38 Virginia 424
14 New York-Northern New Jersey-Long Island, NY-NJ-PA 1,281 39 Taiwan, Province of China 418
15 Texas 1,207 40 Georgia 403
16 Australia 1,193 41 Austria 392
17 New York 1,160 42 Houston-Sugar Land-Baytown, TX 385
18 Mexico 996 43 Michigan 384
19 Korea 991 44 Massachusetts 379
20 Netherlands 797 45 Dallas-Fort Worth-Arlington 374
21 Florida 748 46 Iran 360
22 Los Angeles-Long Beach-Santa Ana, CA 736 47 Philadelphia-Camden-Wilmington, PA-NJ-DE-MD 347
23 Turkey 711 48 Argentina 344
24 Indonesia 670 49 Washington 340
25 Illinois 652 50 Greece 325
51 Denmark 314
52 South Carolina 164
Current outlook for the muni market
8
6 October 2011
It’s all Greek to me
Outlook for the economy and municipals
9
6 October 2011
Sovereign ratings and how the rating agencies’ ratings of the US compare
Sovereign ratings
Sovereign Moody’s S&P Fitch
United States Aaa/Negative AA+/Negative AAA/Stable
Japan Aa3/Stable AA-/Negative AA-/Negative
France Aaa/Stable AAA/Stable AAA/Stable
Germany Aaa/Stable AAA/Stable AAA/Stable
Italy Aa2/RUR-* A+/Negative AA-/Stable
United Kingdom Aaa/Stable AAA/Stable AAA/Stable
Spain Aa2/Negative AA/Negative AA+/Negative
Greece Caa1/Negative CC/Negative CCC
*RUR – “Ratings Under Review” for possible downgradeSource: Moody’s; Standard & Poor’s; and Fitch
10
6 October 2011
Agreement to increase the debt ceiling
Prior $14.3tn debt limit was raised through the end of 2012. House passed measure on August 1st (269-161), Senate passed measure
on August 2nd (74-26)
Details behind the agreement: increase in debt ceiling AND deficit reduction plan Additional increase of $400bn; limit will be raised further in 2 additional
steps for a cumulative increase of between $2.1tn and $2.4tn over the ten years through 2021
Cuts of $917bn in cuts agreed to initially. (First round of cuts has spared entitlement spending).
Followed by an additional $1.5tn in cuts which will be identified by a bicameral Congressional “super” committee by November 2011 (to be enacted by year-end) If Congress does not enact the committee’s recommendations, cuts of $1.2tn will
be implemented over the same time period and would mainly affect outlays for civilian discretionary spending, defense, and Medicare
Debt Ceiling
11
6 October 2011
Agreement to increase the debt ceiling
Moody’s maintained ratings at Aaa and has a negative outlook; has kept 21 Public Housing Authority bonds on negative pending further review
Fitch maintained ratings at AAA with a stable outlook
S&P downgraded its rating to AA+ with a negative outlook based upon “political risks and rising debt burden”. Related actions include: Ratings on Fannie Mae and Freddie Mac and issuer credit ratings and related issue
ratings on the Farm Credit System and 10 of 12 FHLBs lowered to AA+ from AAA. Lowered ratings on issues that have guarantees by Ginnie Mae in the form of MBS to AA+ from AAA
Ratings on municipal housing issues guaranteed by Fannie Mae and Freddie Mac lowered to AA+
Lowered ratings on certain public finance housing authority issuer credit ratings and municipal housing issues backed by the government to AA+
Several Defeased industrial bonds’ ratings were lowered to AA+ on sovereign ceiling consideration
Ratings on Energy Northwest, WA & Bonneville Power Administration, OR lowered to AA/Stable; ratings on TVA lowered to AA+/Negative
States & Locals to be reviewed later this year
No strict sovereign ceiling consideration but subject to one notch rule by S&P
Debt Ceiling
12
6 October 2011
BofA Merrill Lynch Global Research US Treasury rates forecast
Source: BofA Merrill Lynch Global Research
Current outlook for the muni market
0.00
1.00
2.00
3.00
4.00
5.00
6.00
3Q2011 4Q2011 1Q2012 2Q2012 3Q2012 4Q2012
Yiel
d (%
)
2-year 5-year 10-year 30-year
13
6 October 2011
Size of U.S. Credit Markets
Source: Federal Reserve
Current outlook for the muni market
12/31/2006 (Municipal Market $2.40tn)
Agencies17%
Corporates27%
Mortgages37%
Municipals6%
Treasurys13%
12/31/2010 (Municipal Market $2.93tn)
Agencies17%
Corporates25%
Mortgages31%
Municipals6%
Treasurys21%
14
6 October 2011
Quarterly issuance since 2000 ($mn)
Source: BofA Merrill Lynch Global Research
Current outlook for the muni market
$0
$20,000
$40,000
$60,000
$80,000
$100,000
$120,000
$140,000
$160,000
1Q20
00
3Q20
00
1Q20
013Q
2001
1Q20
02
3Q20
021Q
2003
3Q20
03
1Q20
043Q
2004
1Q20
05
3Q20
051Q
2006
3Q20
06
1Q20
073Q
2007
1Q20
08
3Q20
081Q
2009
3Q20
09
1Q20
103Q
2010
1Q20
11
3Q20
11
15
6 October 2011
Issuance summary ($mn)
Source: Thomson Financial
Current outlook for the muni market
MTD 09/29/11 MTD 09/29/10 YTD 09/29/11 YTD 09/29/10
Total 27,334.7 31,786.6 187,477.3 294,264.9
New Money 10,337.8 18,145.9 95,183.9 180,096.5
Refunding 16,996.9 13,640.7 92,293.3 114,168.6
Insured 1,993.3 2,106.5 10,488.1 20,849.0
Fixed rate 25,452.9 28,752.0 167,992.9 271,864.1
Variable rate long 238.5 169.3 2,239.2 1,602.0
Linked rate 617.0 1,333.7 7,778.9 5,800.0
Variable rate short 913.6 1,393.0 7,673.4 12,307.9
Zero coupon 108.9 66.2 1,265.7 1,766.9
Convertible 3.9 72.5 527.5 924.0
Tax exempt 25,010.9 21,197.4 160,770.1 197,488.7
Taxable 1,265.1 10,202.7 20,959.1 93,436.2
AMT 1,058.7 386.5 5,747.9 3,340.1
16
6 October 2011
Quarterly change in State tax revenue vs. change in U.S. GDP
Source: Census Bureau; Bureau of Economic Analysis
Current outlook for the muni market
-20.0%
-15.0%
-10.0%
-5.0%
0.0%
5.0%
10.0%
15.0%
20.0%
1989Q1 1990Q4 1992Q3 1994Q2 1996Q1 1997Q4 1999Q3 2001Q2 2003Q1 2004Q4 2006Q3 2008Q2 2010Q1
YoY Change in State Tax Revenue YoY Change in U.S. GDP
17
6 October 2011
Budget cuts made after the state budget passed, FY1990 – FY2011 ($mn)
Current outlook for the muni market
Source: National Association of State Budget Officers
18
6 October 2011
Total State Expenditures by Function
Source: National Association of State Budget Officers
Current outlook for the muni market
19
6 October 2011
State debt and pensions burden as a percentage of state GDP
Current outlook for the muni market
Source: Moody’s Investor Service (Debt as of FY2010); Pew Center for the States (UAAL as of FY2009); Bureau of Economic Analysis (State GDP for 2010)
State Debt/GDP Ratio(Debt + Pension)/
GDP Ratio State Debt/GDP Ratio(Debt + Pension)/
GDP Ratio
Alabama 2.6% 9.6% Montana 1.1% 9.5%
Alaska 2.0% 15.3% Nebraska 0.0% 1.4%
Arizona 2.7% 6.9% Nevada 2.1% 10.4%
Arkansas 1.1% 6.6% New Hampshire 2.0% 8.5%
California 5.5% 10.9% New Jersey 7.8% 18.3%
Colorado 1.1% 8.3% New Mexico 5.1% 14.7%
Connecticut 8.7% 16.2% New York 6.0% 5.8%
Delaware 4.2% 5.1% North Carolina 1.9% 2.6%
Florida 3.2% 6.6% North Dakota 0.7% 3.4%
Georgia 3.0% 5.9% Ohio 2.7% 16.4%
Hawaii 9.3% 17.9% Oklahoma 1.8% 13.0%
Idaho 1.6% 7.8% Oregon 4.6% 9.4%
Illinois 5.3% 16.0% Pennsylvania 2.7% 6.9%
Indiana 1.2% 6.2% Rhode Island 5.3% 16.0%
Iowa 0.6% 4.6% South Carolina 2.8% 11.8%
Kansas 3.1% 9.8% South Dakota 0.7% 2.4%
Kentucky 5.9% 16.2% Tennessee 1.0% 2.5%
Louisiana 3.0% 11.2% Texas 1.4% 3.6%
Maine 2.5% 10.9% Utah 3.4% 6.7%
Maryland 3.6% 10.7% Vermont 2.0% 6.7%
Massachusetts 9.1% 14.9% Virginia 2.2% 5.8%
Michigan 2.2% 6.6% Washington 5.8% 6.0%
Minnesota 2.5% 8.3% West Virginia 4.0% 15.2%
Mississippi 5.2% 17.1% Wisconsin 4.6% 4.6%
Missouri 2.1% 7.5% Wyoming 0.1% 2.5%
20
6 October 2011
Idaho74%
Washington99%
Montana74% North Dakota
81%
Wisconsin100%
South Dakota92%
Kentucky58%
Iowa81%
Kansas64%
Oklahoma57% Arkansas
78%
Louisiana60%
Mississippi67%
Alabama74%
Wyoming89%
Oregon86%
Utah86%
New Mexico76%
Minnesota77%
Missouri79%
Georgia87%
North Carolina97%
SouthCarolina
69%
Tennessee90%
Indiana67%
Illinois51%
Ohio66%
Michigan79%
Pennsylvania81%
New York101%
New Jersey (66%)
Maryland (65%)
Delaware (94%)
Massachusetts(68%)
Maine73%
Vermont73%
New Hampshire(58%)
Virginia80%
WestVirginia
56%
Florida84%
Hawaii69%
Nebraska88%
Texas84%
Arizona78%
Colorado69%
California81%
Nevada72%
Alaska61%
Connecticut (62%)Rhode Island (59%)
Legend
Greater than 90% funded
80-90% funded
70-80% funded
Less than 70% funded
State pension funding levels
Source: The Pew Center for the StatesBased on 2009 valuations
Current outlook for the muni market
21
6 October 2011
Pension Policies
Types of reforms include: 1) reducing benefits, 2) sharing risk with employees, 3)requiring greater employee contributions, 4)improving Investment Management and Governance.
The ARC and the Investment Return assumptions are driven by budgetary as well as actuarial considerations.
Can past benefits be modified? Yes, if the consideration is COLA’s, according to the Courts
Cases in Minnesota, South Dakota and Colorado
Current outlook for the muni market
22
6 October 2011
Local government employment (000s), seasonally adjusted
Source: Bureau of Labor Statistics
Current outlook for the muni market
13,600
13,700
13,800
13,900
14,000
14,100
14,200
14,300
14,400
14,500
14,600
14,700
Jan-
05
Jul-0
5
Jan-
06
Jul-0
6
Jan-
07
Jul-0
7
Jan-
08
Jul-0
8
Jan-
09
Jul-0
9
Jan-
10
Jul-1
0
Jan-
11
Jul-1
1
23
6 October 2011 Current outlook for the muni market
Legend
Specific Authorization
Conditional Authorization
Limited Authorization
Prohibit Filing
Unclear or no specific authorization
Kansas
Colorado
Oregon
Illinois
Washington
Montana
Idaho
California
Arizona
Texas
Louisiana
ArkansasOklahoma
Nebraska Iowa
Minnesota
Alabama Georgia
Kentucky
Indiana Ohio
SouthCarolina
Florida
North Carolina
Pennsylvania
New York
Missouri
South Dakota
North Dakota
Wyoming
Utah
Nevada
New Mexico
Alaska
Wisconsin
Michigan VermontMaine
New HampshireMassachusetts
Rhode IslandConnecticut
New Jersey
Delaware
MarylandVirginia
WestVirginia
Tennessee
Mississippi
Hawaii
States that authorize Chapter 9 filings
Source: James Spiotto, Chapman and Cutler LLP
24
6 October 2011
0369
12
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
YTD
In 2011 YTD there have been five bankruptcy filings. Most recently, Central Falls, RI filed. There were six filings in 2010. California and Texas have had highest number of filings, and most filings involve non conventional issuers.
Source: Chapman and Cutler LLC, PACER
Current outlook for the muni market
0
5
10
15
20
AL AR CA ID IL MO MS NC NE NM NY OK PA RI SC TX VA WA
05
1015202530
City , Village or
County
Hospital/Health Care Municipal Utilities Special Municpal
District
Chapter 9 filings by year
Chapter 9 filings by type since 2000Chapter 9 filings by state since 2000
25
6 October 2011
Annual municipal bond defaults since 2000 (par value in default)
Source: BofA Merrill Lynch Global Research; *YTD 2011 as of 22 September; *Default rate for 2011 represents annualized rate
$0$500
$1,000$1,500$2,000$2,500$3,000$3,500$4,000$4,500$5,000
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
YTD 2011*
0.00%0.02%0.04%0.06%0.08%0.10%0.12%0.14%0.16%0.18%0.20%
Defaults ($mn) (lhs) Default Rate (rhs)
Current outlook for the muni market
26
6 October 2011
Defaults by sector in 2010 ($4.25bn total)
Source: BofA Merrill Lynch Global Research
Current outlook for the muni market
Housing4% Healthcare
11%
Special Assessment
46%
Transportation15%
Other9%
Tribal Gaming15%
27
6 October 2011
Comparing long-term rates
Source: BofA Merrill Lynch Global Research; Thomson Reuters MMD
Current outlook for the muni market
2.50%
3.00%
3.50%
4.00%
4.50%
5.00%
5.50%
6.00%
12/31/09 2/28/10 4/30/10 6/30/10 8/31/10 10/31/10 12/31/10 2/28/11 4/30/11 6/30/11 8/31/11
30 Year AAA Muni 30 Year Trsy AAA-rated BABs 15+ Yrs AA-AAA U.S. Industrial Corporates
28
6 October 2011
Cumulative flows into open-end mutual funds since 2009, as of 17 August 2011 ($bn)
Source: Lipper FMI
Current outlook for the muni market
-60
-40
-20
0
20
40
60
80
100
120
140
Muni Funds IG Corporate Funds Equity Funds
29
6 October 2011
Municipal bonds outstanding by holders
Current outlook for the muni market
Source: Federal Reserve
3Q2100 4Q2100 1Q2011 2Q2011 % of 2Q11
Munis Outstanding ($bn) 2,859.3 2,928.0 2,907.6 2,886.0 100.00%
Household sector 1,043.8 1,090.3 1,088.6 1,066.2 36.94%
Nonfinancial corporate business 21.5 21.0 20.4 19.8 0.69%
Nonfarm noncorporate business 4.3 4.3 4.3 4.3 0.15%
State and local governments 6.1 6.3 6.2 6.2 0.21%
Rest of the world 69.0 73.0 75.2 77.2 2.67%
U.S.-chartered Commercial banking 226.4 243.5 249.0 256.3 8.88%
Banks in U.S.-Affiliated areas 2.7 2.5 2.8 2.5 0.09%
Savings institutions 10.2 11.1 10.9 11.1 0.38%
Property-casualty insurance companies 353.5 348.4 349.7 348.2 12.07%
Life insurance companies 100.8 112.3 115.1 116.1 4.02%
State and local govt retirement funds 1.6 1.6 1.6 1.5 0.05%
Money market mutual funds 331.6 334.4 320.7 305.8 10.60%
Mutual funds 532.8 526.6 515.1 520.0 18.02%
Closed-end funds 81.7 80.3 79.6 79.6 2.76%
Exchange-traded funds 7.8 7.6 7.5 7.7 0.27%
Government-sponsored enterprises 26.2 24.9 23.8 22.9 0.79%
Brokers and dealers 39.2 40.0 37.0 40.6 1.41%
30
6 October 2011
Bond redemptions and coupon payments by month in 2011
Source: BofA Merrill Lynch Global Research
Current outlook for the muni market
0
5
10
15
20
25
30
35
40
45Ja
nuar
y
Febr
uary
Mar
ch
April
May
June July
Augu
st
Sept
embe
r
Oct
ober
Nov
embe
r
Dec
embe
r
$Bill
ions
Bond Redemptions Coupon Payments
31
6 October 2011
July through October rollover for top 15 states ($mn)
Source: BofA Merrill Lynch Global Research
Current outlook for the muni market
Bond Redemptions Coupon Payments
Oct-11 Nov-11 Dec-11 Oct-11 Nov-11 Dec-11
NY 800.1 2,638.1 1,423.8 856.8 1,395.9 1,441.4
CA 1,291.5 1,305.5 982.8 1,489.6 1,827.2 1,604.6
FL 2,793.5 525.5 176.6 1,151.6 440.4 535.6
IL 187.4 766.7 1,880.0 183.2 342.4 1,006.2
OH 297.1 364.0 2,090.4 122.4 165.4 963.6
TX 653.3 415.1 854.0 590.1 717.0 457.8
PA 757.2 611.3 870.1 299.3 397.0 563.2
NJ 226.9 288.1 1,382.3 149.0 206.3 879.1
MI 659.3 965.3 165.3 249.5 630.0 206.0
CO 43.0 468.7 1,440.3 54.0 267.1 561.8
MA 180.9 726.6 866.6 143.5 258.7 262.7
WA 213.6 83.6 1,776.2 13.6 22.0 21.3
CT 387.7 795.4 403.9 104.2 192.3 170.3
GA 246.2 361.8 303.2 209.5 196.0 181.6
32
6 October 2011
Muni ratios to Treasurys
Source: BofA Merrill Lynch Global Research; Thomson Reuters MMD
Current outlook for the muni market
50%
60%
70%
80%
90%
100%
110%
120%
12/31/09 2/28/10 4/30/10 6/30/10 8/31/10 10/31/10 12/31/10 2/28/11 4/30/11 6/30/11
5 Year 10 Year 30 Year
33
6 October 2011
BBB-rated Muni Credit Spreads (bp)
Source: BofA Merrill Lynch Global Research
Current outlook for the muni market
100
120
140
160
180
200
220
240
7/5/11 7/19/11 8/2/11 8/16/11 8/30/11 9/13/11 9/27/11
Municipals Revenue BBB Muni General Obligation BBB
34
6 October 2011
Breakdown of munis by sector
Source: BofA Merrill Lynch Global Research, as of 30 June 2011
Current outlook for the muni market
0%
2%
4%
6%
8%
10%
12%
14%
16%
18%
GO
Sta
te
GO
Loc
al
Tax
Rev
enue
s
Hea
lth a
nd H
ospi
tals
Tran
spor
tatio
n
Util
ities
Leas
e-ba
cked
Hig
her E
duca
tion
Pow
er
Wat
er &
Sew
er
Prer
efun
ded
Toll
& Tu
rnpi
ke
Airp
orts
Toba
cco
Sing
le-F
amily
Hou
sing
PCR
s
IDR
s
Mul
ti-Fa
mily
Hou
sing
35
6 October 2011
Ratings distribution of all municipals by average rating
Source: BofA Merrill Lynch Global Research; 28 February 2011
Current outlook for the muni market
0
200
400
600
800
1,000
1,200
1,400
1,600
AAA AA A BBB BB B CCC CC C N/R
$Bil
lio
ns
36
6 October 2011
93
95
97
99
101
103
105
107
109
111
113
-8 -7 -6 -5 -4 -3 -2 -1 0 1 2 3 4 5 6 7 8 9 10 11 12
Growth: Big drop; slow recovery
Real GDP(index level)
2001
1991
Current
Indexed to 100 at the recession trough. Average includes all recessions after 1950 excluding the 1980 and current recessions. Dotted line represents BofA Merrill Lynch forecast.Source: Bureau of Economic Analysis, BofA Merrill Lynch Global Research
Average
Quarters
37
6 October 2011 Rehab: Shaky handoff
Note: Open bar represents BofA Merrill Lynch forecast for April private wages and salary growth.Source: Bureau of Labor Statistics, Bureau of Economic Analysis, BofA Merrill Lynch Global Research
(month-over-month % change)
-0.6%
-0.4%
-0.2%
0.0%
0.2%
0.4%
0.6%
Jun-09 Sep-09 Dec-09 Mar-10 Jun-10 Sep-10 Dec-10 Mar-11 Jun-11
Private Wages and Salaries
Private Employees
38
6 October 2011 Jobs: Slow healing
Indexed to 100 at the previous business cycle peak. Average includes all recessions after 1950 excluding the 1980 and current recessions.Source: Bureau of Labor Statistics, Bureau of Economic Analysis, BofA Merrill Lynch Global Research
Private payrolls(index level)
91
92
93
94
95
96
97
98
99
100
101
0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20
20011991Average
Current
(Quarters since business cycle peak)
39
6 October 2011
Capital spending: More machines
Source: Consumer Expenditure Survey, BofA Merrill Lynch Global Research
-15
-10
-5
0
5
10
15
1999 2001 2003 2005 2007 2009 2011
Capital Spending
Employ ment
Duke/CFO Business Outlook SurveyExpected growth in next 12 months
40
6 October 2011
400
450
500
550
600
650
1952 1957 1962 1967 1972 1977 1982 1987 1992 1997 2002 2007
0
20
40
60
80
100
120
140
160
Consumer: Restoring your net worth
*Income is disposable incomeSource: Federal Reserve Board, BofA Merrill Lynch Global Research
(percent of income)
Net worth (LHS)
Debt (RHS)
(percent of income)
41
6 October 2011 Rehab: Saving households
Note: Dashed line is BofA Merrill Lynch forecastSource: Bureau of Economic Analysis, BofA Merrill Lynch Global Research
Savings rate(percent)
0
2
4
6
8
10
12
14
16
1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015
Forecast
Historic Range
42
6 October 2011
0
1
2
3
4
5
6
7
8
9
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
Will take 17 months to clear at the
current sales pace
Rehab: Surplus shadow supply
Source: National Association of Realtors, Mortgage Bankers Association, BofA Merrill Lynch Global Research
(current and future inventory, millions of homes)
90+ days delinquent
Foreclosure ex-REO
Current stock of homes on the market for sale
43
6 October 2011
Rehab: Dented housing demand
0
200
400
600
800
1000
1200
1400
1600
1800
1990 1994 1998 2002 2006 2010 2014 2018
Source: Census Bureau, BofA Merrill Lynch Global Research. Haughwout, Andrew, Richard Peach, Joseph Tracy. “The Homeownership Gap”, Federal Reserve Bank of New York Current Issues in Economics and Finance, Volume 16, Number 5, May 2010.
Household formation(thousands of households)
Homeownership rate(% of occupied homes)
Baseline forecast
60
62
64
66
68
70
65 70 75 80 85 90 95 00 05 10
Lower bound assuming all negative equity homeowners become renters
44
6 October 2011 Rehab: More state pain
Source: Center on Budget and Policy Priorities, BofA Merrill Lynch Global Research
State budget shortfall(FY, Billions $)
• Gimmicks exhausted
• Federal aid declining
• Some revenue rebound
-250
-200
-150
-100
-50
0
2009 2010 2011 2012
Budget gaps offset by RecoveryAct & extension
Remaining budget gaps afterRecovery Act & extension
45
6 October 2011
0
500
1000
1500
2000
2500
1/1/2010 4/1/2010 7/1/2010 10/1/2010 1/1/2011 4/1/2011 7/1/2011
Greece II: Back for help
Source: Bloomberg, BofA Merrill Lynch Global Research
Credit default swaps(basis points)
Germany
Greece
Ireland
46
6 October 2011 Fiscal: Deficit divergence
Source: Congressional Budget Office, BofA Merrill Lynch Global Research
Revenue and outlay shares of GDP(percent)
14
16
18
20
22
24
26
1960 1970 1980 1990 2000 2010
Outlays
Revenues
47
6 October 2011 Debt deal: Discretionary cuts
Source: CBO, BofA Merrill Lynch Global Research
Spending cuts(% of GDP)
-1.2%
-1.0%
-0.8%
-0.6%
-0.4%
-0.2%
0.0%
2012 2013 2014 2015 2016 2017 2018 2019 2020 2021
48
6 October 2011
5
7
9
11
13
15
17
19
2000 2005 2011 2016 2021 2026 2031 2036 2041 2046
Debt deal: Unbalanced budget cuts
Source: CBO, BofA Merrill Lynch Global Research
Government spending(% of GDP)
Mandatory
Discretionary
Forecast
Discretionary with cuts
49
6 October 2011
200
400
600
800
1000
1200
1400
1600
1800
2000
2200
2400
2600
2800
Dec-07 Jun-08 Dec-08 Jun-09 Dec-09 Jun-10 Dec-10 Jun-11
Inflation: Fed fillup
Source: Federal Reserve Board, BofA Merrill Lynch Global Research
Federal Reserve Assets Federal Reserve Liabilities
Unencumbered Treasuries
Repo
TAF
Other*
Bank notes in circulation
Reverse repo Bank reserves
Treasury deposits
All other
(billions $)
200
400
600
800
1000
1200
1400
1600
1800
2000
2200
2400
2600
2800
3000
Dec-07 Jun-08 Dec-08 Jun-09 Dec-09 Jun-10 Dec-10 Jun-11
Other assets
Treasury securities
Agency & MBSsecurities
Liquidity facilities
Emergency lending
50
6 October 2011
-60%
-40%
-20%
0%
20%
40%
60%
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
Inflation: Low commodity pass through
Source: Bureau of Labor Statistics, BofA Merrill Lynch Global Research
PPI: Crude materials for further processing
CPI: Commodities less food & energy
(YoY % change)
51
6 October 2011
0%
2%
4%
6%
8%
10%
12%
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
Inflation: Slacking off
Shaded regions represent periods of US recessionSource: Bureau of Labor Statistics, BofA Merrill Lynch Global Research
Unemployment rate
Average Hourly Earnings (YoY % change)
(percent)
52
6 October 2011
0
1
2
3
4
5
6
May -08 Nov -08 May -09 Nov -09 May -10 Nov -10 May -11
Inflation: It takes two to tango
Source: University of Michigan, Federal Reserve Bank of NY, BofA Merrill Lynch Global Research
Median expected price inflation
Median expected wage inflation
(YoY % change)
53
6 October 2011 Fed: A long way to the exit
*NAIRU is the CBO estimate of the inflation-neutral unemployment rate; Shaded regions represent periods of US recession Source: Bureau of Labor Statistics, Federal Reserve Board, Haver Analytics, BofA Merrill Lynch Global Research
Unemployment rate (percent)
3.0
3.5
4.0
4.5
5.0
5.5
6.0
6.5
7.0
7.5
8.0
8.5
9.0
9.5
10.0
10.5
1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012
First rate hike(Feb 1994) First rate
hike(June 2004)
Unemployment rate
NAIRU*
Final rate cut(Sept 1992)
Final rate cut(June 2003)
QE2 ends (June 2010)
First hike (Q3 2014)
54
6 October 2011 US outlook table
Source: Bureau of Economic Analysis, BofA Merrill Lynch Global Research
Real Economic Activity, % SAAR 3Q 11 4Q 11 1Q 12 2Q 12 3Q 12 4Q 12 2011 2012 2013
Real GDP 1.8 2.0 2.0 2.0 1.5 1.0 1.7 1.8 1.4 % Change, Year Ago 1.5 1.4 1.8 2.0 1.9 1.6 Consumer Spending 2.2 2.0 2.0 2.0 1.5 1.3 2.2 1.8 1.6 Residential Investment -5.0 -5.0 -2.0 0.0 0.0 0.0 -3.1 -1.8 2.5 Nonresidential Investment 3.8 4.9 5.6 5.7 4.9 5.0 7.3 5.4 5.4 Structures -2.0 -2.0 0.5 2.0 2.0 3.5 2.4 1.6 3.8 Equipment and Software 6.0 7.5 7.5 7.0 6.0 5.5 9.1 6.8 6.0 Government -2.0 -1.5 -1.5 -1.3 -0.9 -0.8 -2.2 -1.4 -0.8 Exports 7.0 10.5 9.0 8.0 7.5 5.5 7.5 8.1 6.3 Imports 5.0 5.0 5.0 5.0 5.5 5.5 5.5 4.9 5.5 Net Exports (Bil 05$) -413 -395 -382 -373 -369 -374 -412 -375 -379 Inventory Accumulation (Bil 05$) 49 48 49 50 51 51 46 50 53
Key Indicators
Industrial Production (% SAAR) 4.8 2.0 1.5 1.5 1.0 0.5 3.9 1.8 1.0Private Payrolls (Avg MoM change, 000s) 87.7 85.0 100.0 90.0 75.0 65.0 125.6 82.5 95.0Civilian Unemployment Rate (%) 9.1 9.1 9.1 9.1 9.1 9.2 9.0 9.1 9.2Personal Savings Rate (%) 4.8 4.6 4.5 4.4 4.3 4.3 4.9 4.4 4.4
Inflation
CPI, Consumer Prices (% SAAR) 2.9 1.4 1.3 1.6 1.4 1.4 3.2 1.8 1.6 % Change, Year Ago! 3.7 3.4 2.4 1.8 1.4 1.4CPI ex Food & Energy ( % SAAR) 2.6 1.6 1.5 1.6 1.6 1.7 1.6 1.8 1.6 % Change, Year Ago@ 1.9 2.1 2.1 1.8 1.6 1.6
Rates
Fed Funds 0-0.25 0-0.25 0-0.25 0-0.25 0-0.25 0-0.25 0-0.25 0-0.25 0-0.253-Month LIBOR 0.37 0.45 0.45 0.45 0.50 0.50 0.45 0.50 n.a.2-Year T-Note 0.20 0.20 0.25 0.40 0.60 0.80 0.20 0.80 n.a.10-Year T-Note 2.15 2.30 2.50 2.75 3.00 3.25 2.30 3.25 n.a.
55
6 October 2011 Global growth slows downGlobal GDP growth - %qoq, saar
-8
-6
-4
-2
0
2
4
6
8
Jun-00 Jun-02 Jun-04 Jun-06 Jun-08 Jun-10
DM and EM GDP growth - %qoq, saar
-15
-10
-5
0
5
10
15
Jun-00 Jun-02 Jun-04 Jun-06 Jun-08 Jun-10
EM
DM
Source: BofA Merrill Lynch Global Research
56
6 October 2011 Global Assumptions
2009 2010 2011F 2012F 2009 2010 2011F 2012F Current 2010 2011F 2012FGlobal and Regional AggregatesGlobal -0.9 5.0 3.9 4.6 1.6 3.2 4.3 3.6 3.34 3.01 3.64 4.16Global ex US -0.2 5.6 4.5 5.2 2.2 3.7 4.6 4.1 4.23 3.80 4.58 5.30Developed Markets -3.9 2.8 1.6 2.3 0.0 1.4 2.7 1.9 0.80 0.58 0.85 1.11G5 -4.1 2.6 1.4 2.2 -0.1 1.4 2.7 1.8 0.69 0.46 0.73 0.96Emerging Markets 2.6 7.5 6.5 6.4 3.6 5.2 6.0 5.0 6.46 5.71 6.60 6.80Europe, Middle East and Africa (EMEA) -4.2 2.6 2.5 2.4 3.1 3.3 4.1 3.3 2.99 2.61 3.17 3.59 European Union -4.1 1.8 1.8 1.9 0.9 2.0 3.0 2.1 1.64 1.20 1.83 2.28 Emerging EMEA -3.5 4.4 4.3 4.0 7.9 6.1 6.6 5.7 6.69 6.30 6.66 6.75PacRim 3.8 8.1 6.2 6.9 0.5 3.5 4.6 3.6 4.55 4.11 4.92 5.22 PacRim ex Japan 6.1 8.9 7.5 7.6 0.9 4.4 5.5 4.3 5.66 4.97 5.89 6.19 Emerging Asia 6.6 9.2 7.8 7.8 0.9 4.6 5.6 4.4 5.89 5.14 6.11 6.40Americas -3.1 3.9 2.6 2.9 1.4 2.9 4.1 3.2 2.60 2.29 2.76 2.89 Latin America -2.0 6.3 4.6 4.3 6.4 6.3 6.6 6.5 9.23 8.13 9.63 9.79
GDP growth, % CPI inflation*, % Short term interest rates**, %
Source: BofA Merrill Lynch Global Research
57
6 October 2011 A slow fragile recovery
Source: Consensus from Bloomberg, BofA Merrill Lynch Global Research
•If all goes well: 3% GDP growth
•Four shocks: oil, Japan, Europe and Washington
•The uncertainty shock of 2012
•Inflation fading; QE3 coming
2010 2011 2012 2013
Real GDP (SAAR)
BofAML 3.0 1.6 1.8 1.4
Consensus 3.0 1.6 2.2 2.5
Core PCE
BofAML 1.3 1.5 1.6 1.4
Consensus 1.3 1.4 1.7 1.3
Fed Funds Rate (eop)
BofAML 0.125 0-0.25 0-0.25 0-0.25
Consensus 0.125 0.25 0.25 n.a.
58
6 October 2011
93
98
103
108
113
-8 -7 -6 -5 -4 -3 -2 -1 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
Rehab: Big fall; slow recovery
Real GDP(index level)
2000
1991Current
Indexed to 100 at the recession trough. Average includes all recessions after 1950 excluding the 1980 and current recessions. Dotted line represents BofA Merrill Lynch forecast.Source: Bureau of Economic Analysis, BofA Merrill Lynch Global Research
Average
59
6 October 2011 Rehab: Progress report
• Good:
• Corporations fully healed
• Trading partners fully recovered
•Bad:
• Banks still healing
• Households still rebuilding wealth
•Ugly:
• Housing recession continues
• Two more years of state and local austerity
Source: BofA Merrill Lynch Global Research
60
6 October 2011 Exports: Strong partners
Note: Export share is a percentage of total US exports.Source: Census Bureau, Haver Analytics, BofA Merrill Lynch Global Research
real GDP(YoY % change)
Export share (%) 2009 2010 2011 2012
1 Canada 18.8 -2.8 3.2 2.6 2.72 Mexico 13.5 -6.1 5.4 3.7 3.63 China 7.3 9.2 10.3 9.3 9.04 Japan 4.5 -6.3 4.0 -0.4 3.25 United Kingdom 3.8 -4.9 1.4 1.2 2.1
US - -3.5 3.0 1.6 2.3Global ex US - -0.2 5.6 4.5 5.1
GDP growth
Top 5 export markets
61
6 October 2011 Banks: Rebalancing
Source: BofA Merrill Lynch Global Research
2007 2008 2009 2010 2011E 2012E
3,900 4,800 4,400 4,620 4,650 4,900Loan growth (%) 14.9% 23.1% -8.3% -3.8% 0.6% 5.4%
52.3 133.9 190.2 118.5 55.0 48.0LLP/Loan (% , avg) 1.43% 3.08% 4.13% 2.52% 1.19% 1.01%
34.9 64.6 146.9 148.0 91.5 65.0Charge-off rate/Loan (% , avg) 1.0% 1.5% 3.2% 3.1% 2.0% 1.4%
61.5 130.7 173.9 185 148 131Loss Reserves/Loans (%) 1.6% 2.7% 4.0% 4.0% 3.2% 2.7%
Loss Reserves (EOP, $bn)
Loans outstanding (EOP, $bn)
Loan Loss provisiong ($bn)
Net charge-offs ($bn)
62
6 October 2011 Consumer: Income squeeze
0
1
2
3
4
5
6
May -08 Nov -08 May -09 Nov -09 May -10 Nov -10 May -11
Source: University of Michigan, Federal Reserve Bank of NY, BofA Merrill Lynch Global Research
Median expected price inflation
Median expected wage inflation
Wage and inflation expectations(YoY % change)
-0.20%
-0.10%
0.00%
0.10%
0.20%
0.30%
0.40%
0.50%
0.60%
Jan-11 Feb-11 Mar-11 Apr-11 May -11 Jun-11 Jul-11
Nominal disposable income Consumption deflator
Disposable income and inflation(MoM% change)
63
6 October 2011
400
450
500
550
600
650
1952 1957 1962 1967 1972 1977 1982 1987 1992 1997 2002 2007
0
20
40
60
80
100
120
140
160
Consumer: Restoring your net worth
*Income is disposable incomeSource: Federal Reserve Board, BofA Merrill Lynch Global Research
(percent of income)
Net worth (LHS)
Debt (RHS)
(percent of income)
64
6 October 2011
0
2
4
6
8
10
12
14
16
1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015
Consumer: Saving households
Note: Green line is BofA Merrill Lynch forecastSource: Bureau of Economic Analysis, BofA Merrill Lynch Global Research
Savings rate(percent)
Forecast
Historic Range
65
6 October 2011
0.0
1.0
2.0
3.0
4.0
5.0
6.0
7.0
8.0
9.0
02 03 04 05 06 07 08 09 10 11
Housing: Shadow inventory
Source: National Association of Realtors, Mortgage Bankers Association, BofA Merrill Lynch Global Research
(current and future inventory, millions of homes)
90+ days delinquent
Foreclosure ex-REO
Current stock of homes on the market for sale
Will take 18 months to clear at the
current sales pace
66
6 October 2011
200
400
600
800
1000
1200
1400
1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011
100
120
140
160
180
200
220
240
Housing: Slow bleed
Source: WSJ, BLS, BofA Merrill Lynch Global Research
Current level
FHFA housing price index (index level, RHS)
New home sales (thous., LHS)
67
6 October 2011
0.0%
0.5%
1.0%
1.5%
2.0%
2.5%
3.0%
3/1/2011 9/1/2011 3/1/2012 9/1/2012 3/1/2013 9/1/2013
Rebound: Triple dip
Note: Consensus are from Blue Chip Economic Indicators survey released on September 10, 2011Source: BEA, BofA Merrill Lynch Global Research
Real GDP(QoQ SAAR)
Consensus
BofAML
Forecast
68
6 October 2011 Rebound: Fading energy tax
60
70
80
90
100
110
120
130
Jan-10 Apr-10 Jul-10 Oct-10 Jan-11 Apr-11 Jul-11
Note: WTI refers to West Texas IntermediateSource: WSJ, BofA Merrill Lynch Global Research
Crude oil ($/bbl)
WTI
Brent
Headline inflation minus core inflation (percent)
-4%
-3%
-2%
-1%
0%
1%
2%
3%
4%
1997 1999 2001 2003 2005 2007 2009 2011
Forecast
69
6 October 2011 Rebound: Motoring ahead
Note: Japan IP forecasts are from the Survey of Production Forecast. Source: Haver Analytics, Federal Reserve Board, Autodata, BofA Merrill Lynch Global Research
40
50
60
70
80
90
100
110
120
130
2008 2009 2010 2011
Japan comes backs(index level)
Japanese industrial production
Japanese auto production
40
50
60
70
80
90
100
110
2007 2008 2009 2010 2011
8
9
10
11
12
13
14
15
16
17
18
Auto rebound
IP: Motor vehicles and parts (LHS, index lvl)
Vehicle Sales (RHS, mil units, SAAR)
70
6 October 2011 Recession risk: Never enough
Source: Bloomberg, BofA Merrill Lynch Global Research
Credit default swaps(basis points)
0
1,000
2,000
3,000
4,000
5,000
6,000
7,000
8,000
12/31/09 2/28/10 4/30/10 6/30/10 8/31/10 10/31/10 12/31/10 2/28/11 4/30/11 6/30/11 8/31/11
Greece Ireland Germany
71
6 October 2011 Debt debacle: The plan
• Two tranches: $0.9 + $1.2 trillion
• Almost all discretionary
• Carries through election
Source: BofA Merrill Lynch Global Research
72
6 October 2011
Debt debacle: Discretionary cuts
1,000
1,050
1,100
1,150
1,200
1,250
1,300
1,350
1,400
1,450
2012 2013 2014 2015 2016 2017 2018 2019 2020 2021
Source: CBO, BofA Merrill Lynch Global Research
Spending cuts(% of GDP)
Discretionary spending($ billion)
Baseline
Tranche 1
Tranche 2-1.2%
-1.0%
-0.8%
-0.6%
-0.4%
-0.2%
0.0%
2012 2013 2014 2015 2016 2017 2018 2019 2020 2021
73
6 October 2011
-6
-4
-2
0
2
4
6
8
10
1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010
Recession risks: Stall speed?
Source: BEA, BofA Merrill Lynch Global Research
GDP growth(YoY % change)
74
6 October 2011 Recession risk: Lean and mean
-15%
-10%
-5%
0%
5%
10%
15%
20%
25%
1926 1936 1946 1956 1966 1976 1986 1996 2006
Source: BLS, BEA, BofA Merrill Lynch Global Research
90
92
94
96
98
100
102
104
106
108
0 1 2 3 4 5 6 7 8 9 10 11 12 13 14
average of '61, '70, '75 19821991 2000Current
A feeble jobs recoveryPrivate payrolls (indexed to 100 at peak)
Capital stock(YoY % change)
75
6 October 2011 Inflation: Starting to turn
Shaded regions represent periods of US recessionSource: Bureau of Labor Statistics, BofA Merrill Lynch Global Research
Core CPI(year-over-year percent change)
0
2
4
6
8
10
12
14
59 63 67 71 75 79 83 87 91 95 99 03 07 11
Forecast
76
6 October 2011
0%
2%
4%
6%
8%
10%
12%
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
Inflation: Slacking off
Shaded regions represent periods of US recessionSource: Bureau of Labor Statistics, BofA Merrill Lynch Global Research
Unemployment rate
Average Hourly Earnings (YoY % change)
(percent)
77
6 October 2011
0
1
2
3
4
5
6
May -08 Nov -08 May -09 Nov -09 May -10 Nov -10 May -11
Inflation: It takes two to tango
Source: University of Michigan, Federal Reserve Bank of NY, BofA Merrill Lynch Global Research
Median expected price inflation
Median expected wage inflation
(YoY % change)
78
6 October 2011 Fed: Us and them
FOMC BofAML FOMC BofAMLReal GDP 2.7 to 2.9 1.3 3.3 to 3.7 1.6Unemployment (eop) 8.6 to 8.9 9.1 7.8 to 8.2 9.2PCE Inflation 2.3 to 2.5 3.6 1.5 to 2.0 1.5Core PCE Inflation 1.5 to 1.8 1.9 1.4 to 2.0 1.4
20122011(Q4/Q4 %)
FOMC forecasts from their June meetingSource: FOMC, BofA Merrill Lynch Global Research
79
6 October 2011
Growth: The answer is blowing in the wind
• Crippled real estate
• Weak banks
• State & local govt.
• Very weak banks
• Peripheral problems
• Fiscal tightening
• Deflation
• Loss of animal spirits
• Declining population
United States Euro Area Japan
Source: BofA Merrill Lynch Global Research
Regional headwinds
80
6 October 2011 Global: Imbalances
Source: IMF, BofA Merrill Lynch Global Research
0
2
4
6
8
10
12
US Japan Eurozone China India Brazil-4
-3
-2
-1
0
1
2
3
4
5
6
US Japan Eurozone China India Brazil
General government net borrowing (% of GDP, 2010)
Current account balance(% of GDP, 2010)
81
6 October 2011 Growth: Official gaps
OECD IMF
United States -3.2 -4.9
Eurozone -4.7 -2.9
Japan -3.1 -5.0
Source: OECD, IMF, BofA Merrill Lynch Global Research
2010 Output gap(percent)