A Bear’s Eye View

David W. Tice, CFAFederated Prudent Bear

January 21, 2010

Where are we Now ?

A Different Kind of Downturn

• Downturns induced by asset deflation + credit contraction are different vs. garden-variety recession induced by Fed tightening & excessive mfg inventories

• As they result in secular shift in behavior and attitudes towards debt, asset allocation, savings, discretionary spending & homeownership.

• David Rosenberg, Gluskin Sheff

It’s Not Great on Main Street ABC-Washington Post consumer confidence indicator at yearly low Govt makes up 40% of recent GDP

Est 7MM homes in delinquency pipeline 13% owners w/mortgage are delinquent Consumer credit down last 10 mos 1 of 8 Americans are on food stamps

Housing on government life support 85% new mortgages guaranteed by govt FED buying 80% of mtg-backed sec’s. Investors Intelligence survey at 6-year low in terms of “bears”

C

Private sector deleveraging

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EA 11-16: MFI Loans to Households

US: Loans & Leases in Bank Credit

(% YoY)

This Decline is DifferentJob Losses in Past Recessions

1973-75 1.45 million

1981-82 2.84 “

1990-91 1.58 “

2000-01 2.68 “

2008-09 8.10 “

Today’s Employment Release

States reported 5,654,544 persons claiming EUC (Emergency

Unemployment Compensation) benefits for the week ending Jan. 2, an

increase of 652,364 from the prior week.

A Little Economic Theory about how we got in this predicament

Total U.S. Credit Market Debt as % of GDPQuarterly Data 12/31/1922 - 12/31/2008

(E501A)

130135140145150155160165170175180185190195200205210215220225230235240245250255260265270275280285290295300305310315320325330335340345350355360365370

130135140145150155160165170175180185190195200205210215220225230235240245250255260265270275280285290295300305310315320325330335340345350355360365370

12/31/2008Debt = $52.593Trillion12/31/2008GDP = $14.200Trillion = 370.4%

Annual interpolated GDP (including estimates prior to 1929) used prior to 1946.Domestic Nonfinancial Debt used prior to 1946. As of December, 1946Domestic Nonfinancial Debt represented 99.4% of Total Credit Market Debt.

1925 1930 1935 1940 1945 1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005

Total Credit Market Debt as a % of GDP

Source: Ned Davis Research. Institutional Sales Material. Not to be reproduced or shown to the public.

Austrian School of Economics

• Problems occur if money & credit expand vastly in excess of both savings & GDP growth

• inflation can occur in asset prices rather than goods & services – even more dangerous

• lower consumer goods inflation keeps monetary policy too loose, stimulating even more inflation in asset prices

• Credit excesses feed overinvestment & malinvestment & other excesses & imbalances e.g. current account deficit, negative savings rate & luxury oriented consumption

• Magnitude of the decline is proportional to the excesses created during the prior boom

• Best examples: US- 1929 & Japan- 1989

GDP growth is not the whole story. Credit is the key.

Economy – gotta keep it going !

• Policy makers resorted to even more debt & “rolling bubbles” to maintain economic growth

• Refinancing boom & bubble R/E represented the biggest & most dangerous bubble …

• Greenspan even encouraged adjustable rate mortgages to keep credit growing

• Then, we grew corporate debt, LBO loans, leveraged loans, private equity loans to keep credit growing

California Single Family Median Home PricesDec. '95 - July '08

$150,000

$200,000

$250,000

$300,000

$350,000

$400,000

$450,000

$500,000

$550,000

$600,000

Dec-95 Mar-97 Jun-98 Sep-99 Dec-00 Mar-02 Jun-03 Sep-04 Dec-05 Mar-07 Jun-08

Source: California Assoc. of Realtors

July: $350,760

March ’09:$253,040

Total Mortgage Borrowing

-

200.0

400.0

600.0

800.0

1,000.0

1,200.0

1,400.0

1,600.0

86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07

Source: Federal Reserve Z-1

$Billions

GDP Growth w/o Mortgage Equity Withdrawal

“Greenspan is warning that sooner or later foreign lenders will not be so exuberant in their purchase of US Treasury bonds…. The US spends too much; eats too much; drinks too much … And we pay for it with our debt & 80% of the world’s excess savings. … On the debtor side, the US will shop til it drops, … The drop comes when this comfy cozy current relationship between giver/taker, consumer/maker for some reason ends in divorce. The only question is one of timing.”

Investment Outlook – December 2004

PIMCO’s Bill Gross said it so wellPIMCO’s Bill Gross said it so well

Can you really count on the government to fix this mess?

Geithner – responsible for supervising the NY

banks

Bernanke – said in 2006 – “The management of market risk and credit risk has become increasingly sophisticated. … Banking organizations have made substantial strides over the past two decades in their ability to measure and manage risks”

Who’s going to pay for all of this ???

Unprecedented RED ink 2008 Reported Deficit: $0.48 Trillion

GAAP “ $5.1 Trillion

2009 expected rise

in government debt $2.4 Trillion

Estimated cost to US

taxpayers from bailouts &

guarantees $23.0 Trillion (per TARP Investigator General)

Total Federal

Obligations of

US government $99.0 Trillion (est. Dallas FED) Source: Congressional Budget office, 2008 Financial Report of the US government

What’s the Plan, Stan ? • Administration admitting to $13T

in addt. government debt by 2019

• @ 5% interest, interest expense = $ 1.25 Trillion

• @10% interest = $2.5 TRILLION

• 2009 US government total Revenue = $2.1T

“If the problem is an excess of debt, the cure is not adding more debt, whether that debt is public or private”

Giulio Tremonti – Italy’s Finance Ministry

• There is no means of avoiding the final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as a result of a voluntary abandonment of further credit expansion, or later as a final & total catastrophe of the currency system involved.

- Ludwig von Mises

The Eventual Outcome

•Can You Really Trust Reported Earnings, Especially Financials ?

Chairman FHLBB Office of Finance Resigns

• “I was not comfortable as an audit-committee member in signing off on the financial statements, after I became aware of the standards and processes for valuing the mortgage-backed securities.”

Charles Bowsher

March 2009

Accounting Games in Financials Cloud EPS Estimates

“Remember that Enron got away with their illegalities for so long because their financials were so complicated that even analysts couldn’t explain how they were making so much money.  After 2 weeks of sifting thru more than 1000 pages of SEC filings of the largest banks, I have the same concerns.”

Nomi Prins – Ex-Goldman Sachs Managing Director

There are however lots of

reasons for … HOPE

Federated Prudent Bear Fund

Federated Prudent Global Income Fund

Performance data quoted represents past performance which is no guarantee of future results. Investment return and principal value fluctuate so that an investor’s shares, when redeemed may be worth more or less than the original cost. Current performance may be lower or higher than what is stated. For performance current to the most recent month end, and after-tax returns visit FederatedInvestors.com or call 1-800-341-7400. NAV total returns do not include the effect of the maximum 5.50% sales charge. If reflected, such charges would reduce the performance quoted.

• Since its inception, BEARX has outperformed the S&P 500 in every market decline of 10% or more

18.17

28.12 29.80

61.93 64.59

21.3525.88

37.93

15.4121.12

(10.75)(19.19)

(11.80) (11.14)

(26.96) (26.11)(19.11)

(25.00)

36.64

76.91

13.48

(31.50)

(15.36)

(36.40)

(17.91)(14.24)

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10/7/97 -10/27/97

7/17/98 -8/31/98

7/16/99 -10/15/99

3/24/00 -4/14/00

9/1/00 -4/4/01

5/21/01 -9/21/01

3/19/02 -7/23/02

8/22/02 -10/9/02

11/27/02 -3/11/03

10/9/07 -3/10/08

5/19/08 -10/10/08

10/13/08 -10/27/08

11/4/08 -11/20/08

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Federated Prudent Bear Fund (NAV) S&P 500 Index

Cumulative Total Returns (%) - NAV

Source: Ned Davis Research and Bloomberg

34

Hypothetical Portfolio Allocation

Compound Annualized Returns (%)Period Ending September 30, 2009 Standard Deviation (%)

Federated Prudent

BearS&P 500 1 Year 3 Years 5 Years 10 Years 3 Years 5 Years 10 Years

0% 100% -6.91 -5.43 1.02 -0.15 19.68 15.96 16.24

5% 95% -5.83 -4.52 1.43 0.61 17.88 14.53 14.52

10% 80% -4.83 -3.64 1.82 1.32 16.11 13.12 12.84

15% 85% -3.91 -2.79 2.18 2.00 14.36 11.73 11.23

20% 80% -3.06 -1.96 2.53 2.63 12.63 10.36 9.72

25% 75% -2.80 -1.33 2.75 3.18 11.03 9.11 8.38

The portfolio returns are based on Net Asset Value and are rebalanced quarterly. This is a hypothetical illustration only as one cannot invest directly in an index and past performance is not a guarantee of future performance. 

Performance figures presented are total returns and include the reinvestment of all dividends and capital gains. Adverse effects to the portfolio may result from increasing the fund’s allocation or if the Fund is unable to meet its objective. The asset allocation represented may not be suitable for all investors.

Source: Morningstar, Inc.

Diversification Benefits

A Three-Pronged Investment Discipline

Bottom-up fundamental company &

industry research

Risk-based short side portfolio management

discipline

Top-down credit and market

liquidity analysis

Identify companies with:• Deteriorating margins• Weakening earnings trends• Underperforming management• Evidence of accounting

manipulation/attempts to mask poor earnings quality through in-depth review of financial statements and footnotes

• Vulnerable capital structures (i.e., too much debt)

Analyze whether conditions are bearish (or bullish) and potential impact on individual stocks, sectors as well as the broad market• Doug Noland writes weekly “Credit Bubble Bulletin” on www.prudentbear.com

Actively assess short position daily, utilizing variety of risk-control techniques to limit down-side performance:

• Stop-loss disciplines• Diversification strategies• Use of put options• Adjusts short exposure based on market environment

. 36

Federated Prudent Global Income Fund Historical Returns Class A Shares at NAV (%)

Merrill Lynch 1-3 Year US Treasury Index

Merrill Lynch Pan-Europe Government Index

2001 2.82 8.30 0.262002 29.60 5.76 28.582003 16.30 1.90 26.662004 3.39 0.91 15.832005 -4.25 1.66 -8.102006 11.51 3.97 11.702007 10.66 7.32 12.042008 0.32 6.61 0.522009* 6.40 0.76 9.96

Federated Prudent Global Income Fund

*YTD as of 9/30/09

Performance data quoted represents past performance which is no guarantee of future results. Investment return and principal value will fluctuate so that an investor’s shares, when redeemed, may be worth more or less than their original cost. Current performance may be lower or higher than what is stated. To view performance current to the most recent month-end, and for after tax returns, contact us or visit FederatedInvestors.com. Maximum Offering Price figures reflect the maximum sales charge of 4.5%.