Liz Ann Sonders

Senior Vice President Chief Investment Strategist Charles Schwab & Co., Inc.

October, 2013

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“The error of optimism dies in the crisis, but in dying it gives birth to an error of pessimism. This new error is born not an infant, but a giant.”

–Arthur C. Pigou

1

Government shutdowns & market impacts

Shutdown start 9/30/76 9/30/77 10/31/77 11/30/77 9/30/78 9/30/79 11/20/81 9/30/82 12/17/82 11/10/83 9/30/84 10/3/84 10/16/86 12/18/87 10/5/90 11/13/95 12/15/95 Median S&P 500 performance before, during and after government shutdowns # of days Week before During shutdown 1 week after 10 12 8 -1.6% 1.6% 0.8% -3.4% -3.2% 0.7% -0.2% -0.8% 2.7% 8 17 11 -1.3% 0.7% -1.0% -1.2% -2.0% -4.4% -0.3% -3.2% -2.8% 3 5 21 2 1 3 3 2 1 1 1 0.0% -2.7% -1.5% 0.6% 0.3% -2.3% 1.6% 5.9% 1.8% 0.7% -0.2% -0.1% 1.3% 0.8% 1.3% -2.2% 0.1% -0.3% 0.0% -2.1% 1.3% 0.1% 3.7% 7.4% 1.9% -0.3% -0.2% 0.9% -0.2% -1.4% -2.0% 0.2% -2.4% 3 % Positive

1970-9/30/13. Source: www.sentimenTrader.com.

0.3% 59% -0.1% 47% -0.2% 35% 1 month after -2.8% 2.7% 0.7% -4.2% -6.7% -0.9% 0.6% 11.1% 5.5% -2.0% 3.1% 3.6% 1.8% -2.6% 0.3% 2.0% 4.0% 0.7% 65%

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US & global economy: decoupling?

3

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GDP ’s components & latest reading

Federal spending now biggest (& only) drag

Consumer spending Government spending % of real GDP 68.2% 18.5% 1Q13 annualized Q/Q % change 2Q13 annualized Q/Q % change 2.3% 1.8% (4.2%) (0.4%)



Federal: 7.4%



State/local: 11.1% Net exports of goods & services



Exports: 12.7%



Imports: (15.4%) Fixed investment



Nonresidential: 12.6%



Residential: 3.1% (2.7%) 15.7% (8.4%) (1.3%) (0.3)* (1.3%) 0.6% (1.5%) (4.6%) 12.5% (1.6%) 0.4% (0.1)* 8.0% 6.9% 6.5% 4.7% 14.2% Change in private inventories - 0.9* 0.4* Real GDP 1.1% 2.5%



2.2% (“new normal”) = average real GDP since June 2009 recession end



3.2% (“old normal”) = average private sector real GDP since June 2009 recession end

As of 2Q13. *Represents contribution to percent change in real GDP. Numbers may not add up to 100% due to rounding. Source: Bureau of Economic Analysis, FactSet. 4

US on best & most stable path globally

Change matters more than level to markets

14 13 12 11 10 9 8 7 6 2003 China (left) 2005 2007 US 2009 Japan 2011 Eurozone 2013 6 4 2 0 -2 -4 -6 -8 -10

(1013-6769) China, US and Japan as of 2Q13. Eurozone as of 1Q13. Source: FactSet. 5

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It ’s not déjà vu all over again

Some weakness; but not as sinister as past 3 years

a b 15 10 5 0 -5 -10 -15 -20 -25 1998 2000 2002 ISI US Diffusion Index 2004 2006 2008 2010 2012 a 20 15 10 5 0 -5 -10 -15 -20 1998 b 2000 ISI Global Economic Diffusion Index 2002 2004 2006 2008 2010 2012

As of 9/13. 13-week average. Diffusion Index represents economic strength minus weakness. Gray-shaded areas indicate periods of recession. See last slide for definition of recession. Source: ISI Group. 6

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Economy better & policy risk lower than 2011

But the fiscal fight has only just begun

US Economic Policy Uncertainty Index 260 230 200 170 140 110 80 2008 2009 2010 August 2011 2011 2012 2013 Citigroup US Economic Surprise Index 100 50 0 -50 -100 -150 2008 August 2011 2009 2010 2011 2012 2013

As of 9/13. Economic Policy Uncertainty Index measures policy-related economic uncertainty using 3 types of underlying components. One component quantifies newspaper coverage of policy-related economic uncertainty. A second component reflects the number of federal tax code provisions set to expire in future years. The third component uses disagreement among economic forecasters as a proxy for uncertainty. Citigroup Economic Surprise Index measures the amount that economic activity surprised or disappointed relative to analyst expectations. Source: FactSet; Scott Baker, Nicholas Bloom and Steven J. Davis at www.PolicyUncertainty.com. 7

Businesses “hoarding” cash

Levels not seen since WWII & reflects heightened uncertainty (1013-6769)

Checkable Deposits & Currency 10 MMMFs Time & Savings Deposits 8 6 4 2 0 1947 1957 1967 1977 1987 1997 2007

As of 2Q13. MMMF represents money market mutual fund shares. Source: FactSet, Federal Reserve. 8

Fed policy: no taper … for now

9

Fed’s balance sheet has ballooned

But with velocity so low, inflation risk is minimal

Monetary Base ($, billions) 4,000 3,500 3,000 2,500 2,000 1,500 1,000 500 2007 Fed has flooded system 2008 2009 2010 2011 2012 2013

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M2 to Monetary Base Ratio 10 9 8 7 6 5 4 3 2007 2008 2009 2010 2011 2012 2013 But “ velocity ” of money remains depressed

As of 9/13. Source: FactSet, Federal Reserve. 10

Bank deposits soaring thanks to Fed

But lending remains subdued (record gap)

US Bank Deposits 10,500 9,500 8,500 7,500 6,500 5,500 4,500 3,500 2,500 1996 1998 2000 2002 2004 US Bank Total Loans 2006 2008 2010 2012

(1013-6769) As of 9/13. Source: FactSet, Federal Reserve. 11

Public & private sector deleveraging: a report card

12

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Incredibly shrinking deficit

Rapid improvement should help stabilize debt growth

Federal Budget Deficit/Surplus -2 -4 -6 -8 -10 -12 6 4 2 0 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 26 24 22 20 18 16 14 12 1965 1970 1975 Federal Outlays 1980 1985 1990 Federal Receipts 1995 2000 2005 2010

As of 8/13. Source: Department of the Treasury, FactSet,

Ned Davis Research (NDR), Inc. (Further distribution prohibited without prior permission. Copyright 2013 (c) Ned Davis Research, Inc. All rights reserved.).

13

Debt growth down, but more to go

Debt servicing cost remains low but will rise even if rates don ’t

Public Debt as % of Nominal GDP (left) Public Debt, annual growth rate (right) 110 100 90 80 70 60 50 40 30 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 25 20 15 10 5 0 -5

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Public Sector Debt Servicing Cost 20 15 10 5 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010

As of 2Q13. Debt servicing cost = interest payments made on outstanding federal debt divided by total government expenditures. Source: FactSet, Federal Reserve,

Ned Davis Research, Inc. (Further distribution prohibited without prior permission. Copyright 2013 (c) Ned Davis Research, Inc. All rights reserved.),

U.S. Department of Treasury. 14

GDP’s strength waned as debt surged

But, it ’s a “chicken-or-egg” argument as to causality

Nominal GDP (10-year % change) 180 160 140 120 100 80 60 40 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 Total Credit Market Debt as % of GDP 400 350 300 250 200 150 100 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010

As of 2Q13. Source: Bureau of Economic Analysis, FactSet, Federal Reserve. (1013-6769) 15

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Private sector deleveraging’s come a long way

No longer causing economic drag

Household Debt as % of Disposable Personal Income 130 110 Trend including housing bubble 90 70 50 Trend excluding housing bubble 30 1952 1959 1966 1973 1980 1987 1994 2001 2008 1

As of 2Q13. Yellow and blue chart lines represent trend lines. Source: FactSet, Federal Reserve. 16

Net worth takes out prior high

Housing & stock market represent 2 largest components

Household Net Worth ($, trillions) 80 70 60 50 40 30 20 10 0 1952 1962 1972 1982 1992 2002 2012

(1013-6769) As of 2Q13. Source: FactSet, Federal Reserve. 17

US manufacturing & energy renaissance: no longer a pipe dream

18

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Key reasons for US manufacturing renaissance

Key advantages for US



Restrained US labor costs



Big emerging markets wage increases



Abundant energy/low natural gas prices



“Made in America” bias by US consumers



Digitization



Labor market stability



Rule of law



Economic & accounting transparency



Demographics



Deep/liquid capital markets



Well-developed infrastructure



Better inventory control



Japan energy problem



Eurozone/China economic uncertainty

Source: ISI Group. 19

US total cost gap narrowing significantly

Not only relative to China but to other EMs, too

Labor Cost Gap Total Landed Cost Gap 60% 50% 40% 30% 20% 10% 0% 51% 31% 38% 23% 30% 16% 2005 2010 2013E

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50% 40% 30% 20% 10% 0% 39% Labor Cost Gap Total Landed Cost Gap 37% 34% 21% 19% 18% 2005 2010 2013E

As of 5/24/12. Landed Cost=total cost of a product once it has arrived at buyer’s door and includes original cost of the item, all brokerage and logistics fees, complete shipping costs, customs duties, tariffs, taxes, insurance, currency conversion, crating costs, and handling fees. Not all components are present in every shipment, but all must be considered part of the landed cost. EM=emerging markets. Source: Supply Chain Optimization Study, The Hackett Group, 2012.

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It ’s not just China

United States' rising cost advantage spreads 

United States will gain 2-3 million jobs; and $100b in annual output; from higher exports and production work shifting from China over next decade



By around 2015, United States will have export cost advantage of 5-25% over Germany, Italy, France, UK & Japan in range of industries

Source: “US Manufacturing Nears the Tipping Point” by The Boston Consulting Group (BCG), March 22, 2012.

US Germany Canada

Source: Department of Labor.

Manufacturing unit labor costs in $ 1980 2011 92 75 88 86 144 179 Change -6% +92% +103%

21

Large replacement cycle on tap

Equipment & manufacturing plants oldest on record

US Average Age of Equipment & Software 6.0

5.8

5.6

5.4

5.2

5.0

4.8

4.6

4.4

1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 US Average Age of Manufacturing Plants 16 15 14 13 12 11 10 9 8 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010

As of 2011. Based on historical-cost average age. Source: Bureau of Economic Analysis, ISI Group. (1013-6769) 22

Manufacturing workweek hit high

Should be precursor to better job growth

Average Weekly Hours-Manufacturing (3-month moving average) 42.0

41.5

41.0

40.5

40.0

39.5

39.0

38.5

1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010

(1013-6769) As of 8/13. Source: Department of Labor, FactSet. 23

Manufacturing adding most to GDP

While government spending brings up rear

US 2012 Contribution to % Change in Real GDP Governm ent Agriculture, forestry, fishing, & hunting Other services Educational services Utilities Arts, entertainm ent, & recreation Health care & social assistance Transportation & w arehousing Adm inistrative & w aste services Managem ent of com panies Mining Professional, scientific, & technical services Accom m odation & food services Construction Real estate, rental, & leasing Nondurable-goods m anufacturing Retail Trade Inform ation Wholesale Trade Finance & insurance Durable-goods m anufacturing -0.10

0.00

0.10

0.20

0.30

0.40

0.50

0.60

As of 12/12. Source: Bureau of Economic Analysis

.

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US manufacturing/GDP comeback

First “triple” in postwar era

1.5

1.0

0.5

0.0

-0.5

-1.0

-1.5

-2.0

1948 US Manufacturing as % of Nominal GDP (y/y point change) 1958 1968 1978 1988 1998 2008

(1013-6769) As of 12/12. Source: Bureau of Economic Analysis, FactSet,

Ned Davis Research, Inc. (Further distribution prohibited without prior permission. Copyright 2013 (c) Ned Davis Research, Inc. All rights reserved.).

25

Housing: boosting economy, confidence & jobs

26

Housing turning up as % of GDP

Long path back to “normal” but trend will help economy

Residential Investment Average 7 4 3 6 5 2 1966 1971 1976 1981 1986 1991 1996 2001 2006 2011

(1013-6769) As of 2Q13. Gray-shaded areas indicate periods of recession. See last slide for definition of recession. Source: Bureau of Economic Analysis, FactSet. 27

New home prices at all-time high!

Reflecting limited new building/record-low inventories

New Home Prices Existing Home Prices 300 250 200 150 100 50 1980 1984 1988 1992 1996 2000 2004 2008 2012

(1013-6769) As of 8/13. 12-month moving average. Source: FactSet, National Association of Realtors, US Census Bureau. 28

Housing inventory off historic lows

Explains jump in prices

New & Existing Single-Family Homes for Sale Average 2.0

1.8

1.6

1.4

1.2

1.0

0.8

0.6

1982 1985 1988 1991 1994 1997 2000 2003 2006 2009 2012

(1013-6769) As of 8/13. Source: FactSet, National Association of Realtors, Organization for Economic Cooperation and Development (OECD), US Census Bureau. 29

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Impact of spike in mortgage rates

Biggest weight on refi; not as much on purchases

30-Year Fixed Mortgage Rate 9 8 7 6 5 4 3 2000 2002 2004 2006 2008 2010 2012 10,000 8,000 6,000 4,000 2,000 0 2000 MBA Refinance Index (left) 2002 2004 2006 MBA Purchase Index (right) 2008 2010 2012 550 450 350 250 150

As of 9/13. The Refinance Index covers all mortgage applications to refinance an existing mortgage. The Purchase Index includes all mortgages applications for the purchase of a single-family home. Source: FactSet, Mortgage Bankers Association (MBA),

Ned Davis Research, Inc. (Further distribution prohibited without prior permission. Copyright 2013 (c) Ned Davis Research, Inc. All rights reserved.).

30

Housing affordability falling but still high

Rising mortgage rates have been culprit

a b 220 200 180 160 140 120 100 80 60 1981 1985 1989 Housing Affordability Index 1993 1997 2001 2005 2009 2013

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a b 115 110 105 100 95 90 85 80 75 1981 1985 1989 Ratio of Home Prices to DPI 1993 1997 2001 2005 2009 2013

Affordability Index as of 7/13. Ratio data as of 2Q13. DPI=disposable personal income. Gray-shaded areas indicate periods of recession. See last slide for definition of Affordability Index and recession. Source: FactSet, Federal Finance Housing Board, High Frequency Economics (HFE), National Association of Realtors. 31

“Real” mortgage rates remain deeply negative

As long as prices continue to rise, higher rates won ’t bite much (1013-6769)

Real Mortgage Rates for Existing Single-Family Homes 25 20 15 10 2 5 0 -5 -10 -15 1 1971 1975 1979 1983 1987 1991 1995 1999 2003 2007 2011 3 1) 6.1% minus 16.9% = (10.8%) 2) 5.1% minus (16.7%) = 21.8% 3) 4.3% minus 14.4% = (10.1%)

As of 8/13. Real Mortgage Rate represents 30-year fixed mortgage rate minus y/y % change in median sales price. Gray-shaded areas indicate periods of recession. See last slide for definition of recession. Source: FactSet, Federal Reserve, National Association of Realtors. 32

Stock & bond markets: valuation/ sentiment/ rising yields

33

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Current bull still sub-average

Start date 6/1/1932 4/28/1942 6/13/1949 10/22/1957 6/26/1962 10/7/1966 5/26/1970 10/3/1974 8/12/1982 12/4/1987 10/11/1990 10/9/2002 3/9/2009

*As of 9/30/13. Source: Strategas Research Partners LLC.

S&P 500 bull markets End date 3/10/1937 5/29/1946 8/2/1956 12/12/1961 Duration (months) 57 49 86 50 2/9/1966 11/29/1968 1/11/1973 11/28/1980 8/25/1987 43 26 32 74 60 7/16/1990 3/24/2000 10/9/2007 Average ?* 31 113 60 57 55 Percent change 324% 158% 267% 86% 80% 48% 74% 126% 229% 65% 417% 102% 165% 149%

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Market highs after long drought…now what?

New all-time highs in Dow Jones Industrial Average (1900-2013) DJIA performance (%) Date of new high 3/24/1905 9/28/1916 7/9/1919 12/31/1924 11/23/1954 9/15/1958 11/10/1972 11/3/1982 Calendar days since prior high 1,375 3,904 959 1,884 9,211 889 2,465 3,582 One month 2.1

1.7

-7.8

2.5

3.8

2.4

3.8

-3.2

Three month -4.4

-8.8

2.8

-2.0

7.5

7.8

-1.6

-0.3

Six month 3.3

-6.2

-2.6

9.3

9.8

16.1

-6.8

13.8

One year 19.6

-18.7

-14.5

30.0

26.1

20.8

-8.7

14.3

Maximum drawdown -10.0

-19.4

-20.9

-4.6

0.0

-0.2

-14.4

-7.1

Maximum gain 29.9

9.3

8.3

32.3

27.4

29.6

5.7

20.6

10/3/2006 3/5/2013 2,453 1,973 Average % of time positive 2.5

2.2

1.0

80 6.3

5.0

1.2

50 6.7

4.8

4.8

70 19.2

?

9.8

67 0.0

?

-8.5

20.1

?

20.3

All period average 0.5

1.7

3.4

7.1

% of time positive 58 60 63 65

Table highlights each of the prior periods where Dow Jones Industrial Average (DJIA) went two or more years without closing at new all-time high. Source: Bespoke Investment Group, LLC (B.I.G.). 35

US outperformance of EM since ’09 low

Beginning of secular shift?

S&P 500 Relative to MSCI Emerging Markets Index 4.5

3.5

2.5

1.5

0.5

1988 1991 1994 1997 2000 2003 2006 2009 2012

(1013-6769) As of 9/30/13. EM=emerging markets. Source: FactSet, Morgan Stanley Capital International (MSCI), Standard & Poor ’s.

36

New secular bull market relative to gold?

3rd consecutive 13-year gold bull likely over (1013-6769)

S&P 500 Total Return Gold $100,000 $10,000 $1,000 $100 $10 $1 1912 1922 1932 1942 1952 1962 1972 1982 1992 2002 2012

As of 8/13. Source: Bloomberg, Windhaven Investment Management, Inc. 37

Stocks & commodities de-linking

Commodity “super cycle” likely topped in 2011

1,800 1,600 1,400 1,200 1,000 800 600 2003 S&P 500 Index (left) 2005 2007 2009 CRB Index (right) 2011 2013 500 450 400 350 300 250 200

(1013-6769) As of 9/30/13. CRB (Commodity Research Bureau) Index based on the Thomson Reuters/Jefferies CRB Commodity Index. Source: FactSet. 38

Stocks & commodities typically divergent

Reflects hit to economy/stocks/valuation when inflation ’s high * (1013-6769) * *Most recent shaded areas represent Liz Ann Sonders ’ view of respective bull markets. 39

Stocks & dollar reconnecting

Dollar stronger for “right” reasons…better relative growth

1,800 1,600 1,400 1,200 1,000 800 600 2003 S&P 500 (left) 2005 2007 US Dollar Index (right) 2009 2011 2013 85 80 75 70 105 100 95 90

(1013-6769) As of 9/30/13. Source: FactSet. 40

Comparing stock & dollar markets

History shows equity returns were higher when dollar was rising

S&P 500 performance during dollar bull & bear markets Dollar bull/bear Dates Calendar days % change % change $ bull 10/30/1978-2/25/1985 2,310 100.7% 88.5% $ bear $ bull $ bear 2/25/1985-12/31/1987 12/31/1987-6/14/1989 6/14/1989-2/11/1991 1,039 531 607 -48.2% 23.7% -23.8% 37.9% 31.1% 13.8% $ bull $ bear $ bull $ bear $ bull $ bear 2/11/1991-7/5/2001 7/5/2001-4/22/2008 4/22/2008-3/5/2009 3/5/2009-11/25/2009 11/25/2009-6/7/2010 6/7/2010-4/29/2011 3,797 2,483 317 265 194 326 50.2% -41.0% 24.9% -16.7% 19.0% -17.5% 230.8% 12.9% -50.4% 62.7% -5.4% 29.8% Recent $ rally Average dollar bull market Average dollar bear market 4/29/2011-?* 885 43.7% -29.4% 10.0% 58.9% 31.4% 23.3%

*As of 9/30/13. Source: FactSet. (1013-6769) 41

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On forward earnings, stocks appear undervalued

Gives market breathing room in face of slower earnings growth

S&P 500 Forward P/E 35 30 25 20 15 Median = 16.5x

10 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 Current S&P 500 forward P/E @ 14.7

As of 9/13. Current P/E based on estimated 3Q13 EPS. P/Es are based on forward 12-month operating earnings. Source: FactSet, Standard & Poor ’s.

42

Imminent acceleration in earnings coming?

(1013-6769) High correlation between earnings & ISM new orders

S&P 500 Operating Earnings, y/y % change (left) ISM New Orders Index (right) 45 30 15 0 -15 -30 -45 1990 1993 1996

*

1999 2002 2005 2008 2011 80 70 60 50 40 30 20

As of 8/13. *Earnings truncated at 40% in 2010. Data represents 12-month earnings per share. Source: BCA Research Inc., FactSet, ISM (Institute for Supply Management), Standard & Poor ’s.

43

Profit margins peaking?

Not necessarily a problem for stocks

Margin peaks & stock market performance Date when profit margins peaked Year 1950 Quarter 4 1955 1959 1966 1973 1 2 1 1 1977 1984 1988 1997 2006 3 2 4 3 3 Mean Median S&P 500 nominal total return 1-year after 24% 2-years after 46% 38% 1% 5% -13% 31% 18% 8% -19% 12% 31% 32% 9% 16% 15% 14% 26% 78% 28% 39% -9% 25% 27% S&P 500 real total return 1-year after 17% 2-years after 37% 37% -1% 2% -21% 26% 15% 1% -33% 3% 26% 26% 7% 13% 11% 10% 4% 68% 15% 34% -16% 15% 15%

(1013-6769) 1950-2012. Profit Margins defined as total pre-tax corporate profits relative to corporate GDP. Source: BCA Research Inc. 44

Investors had banished stocks in favor of bonds

(1013-6769) Bond funds now experiencing record outflows

Domestic Equity Mutual Funds 1,200 800 400 0 -400 -800 2008 2009 2010 2011 Total Bond Mutual Funds 2012 2013 2 0 6 Domestic Equity Mutual Funds (left) 4 -2 -4 -6 1/13 2/13 3/13 4/13 5/13 Total Bond Mutual Funds (right) 6/13 7/13 8/13 9/13 20 10 0 -10 -20 -30

As of 9/13. Bottom chart based on estimated weekly cash flows. Source: Investment Company Institute (ICI). 45

Pension funds have de-risked

Fixed income exposure now above equity exposure

Equities Fixed Income 65% 60% 55% 50% 45% 40% 35% 30% 25% 2005 2006 2007 2008 2009 2010 2011 2012

(1013-6769) As of 3/13. Data covers 100 US public companies with the largest defined benefit pension plan assets for which a 2012 annual report was released by 3/7/13. Source: Milliman 2013 Pension Funding Study. 46

Endowments’ equity exposure way down

Alternative strategies biggest beneficiary

Endowments asset allocation (dollar-weighted average) Year Equities Fixed income Alternative strategies Cash/ other 2002 2003 50% 49% 23% 21% 24% 27% 2% 2% 2004 2005 2006 2007 2008 51% 48% 48% 47% 40% 17% 17% 15% 13% 13% 28% 32% 35% 37% 46% 4% 3% 2% 2% 1% 2009 2010 2011 2012 32% 31% 33% 31% 13% 12% 10% 11% 51% 52% 53% 54% 4% 5% 4% 4%

(1013-6769) Source: NACUBO (National Association of College and University Business Officers)-Commonfund Study of Endowments (2009-2012), NACUBO Endowment Study (2002-2008), Strategas Research Partners LLC. 47

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Investor confidence moves with market

Sentiment now in best zone for stocks

NDR Crowd Sentiment Poll 80 Extreme Optimism (Bearish for Market) 70 60 50 40 30 Extreme Pessimism (Bullish for Market) 20 2007 2008 2009 2010 2011 2012 2013 We are here 12/1/1995-9/24/2013 NDR Crowd Sentiment Poll S&P 500 annualized gain >66 57-66 from above 57-66 from below < 57 -7.6% -3.1% 16.7% 10.5%

As of 9/24/13. See last slide for description of Crowd Sentiment Poll. Source: Ned Davis Research (NDR), Inc. (Further distribution prohibited without prior permission. Copyright 2013 (c) Ned Davis Research, Inc. All rights reserved.). 48

Market’s emotional roller coaster

Maintaining discipline = key to long-term success

Euphoria Exhilaration Enthusiasm Optimism Bull Market Ends Uneasiness Denial Pessimism Optimism Panic Capitulation Bear Market Ends Despair Relief Hope

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Disclosures/definitions

Disclosures

The information provided here is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice. The investment strategies mentioned here may not be suitable for everyone. Each investor needs to review an investment strategy for his or her own particular situation before making any investment decision. We believe the information obtained from third-party sources to be reliable, but neither Schwab nor its affiliates guarantee its accuracy, timeliness, or completeness. The views, opinions and estimates herein are as of the date of the material and are subject to change without notice at any time in reaction to shifting market conditions. Past performance is no guarantee of future results and the opinions presented cannot be viewed as an indicator of future performance. Examples provided are for illustrative purposes only and not intended to be reflective of results you should expect to attain.

Index Definitions

Indexes are unmanaged, do not incur management fees, costs and expenses (or "transaction fees or other related expenses"), and cannot be invested in directly.

The Dow Jones Industrial Average (DJIA, “The Dow”) The IntercontinentalExchange (ICE) U.S. Dollar Index

Russia, South Africa, Taiwan, Thailand, and Turkey.

priced home, assuming a 20 percent down payment.

The S&P 500 Index

the total market value of their outstanding shares.

is a price-weighted average of 30 actively traded blue chip stocks, primarily industrials and is the oldest and most widely quoted of all the market indicators.

is an index of the of the United States dollar relative to a basket of foreign currencies, and is a weighted geometric mean of the dollar’s compared to the Euro (EUR), Japanese yen (JPY), Pound sterling (GBP), Canadian dollar (CAD), Swedish krona (SEK) and Swiss franc (CHF) relative to March 1973.

The Morgan Stanley Capital International (MSCI) Emerging Markets (EM) Index The National Association of Realtors (NAR) Housing Affordability Index (HAI)

is a free float-adjusted market capitalization index that is designed to measure equity market performance of emerging markets. The MSCI Emerging Markets Index consists of the following 21 emerging market country indices: Brazil, Chile, China, Colombia, Czech Republic, Egypt, Hungary, India, Indonesia, Korea, Malaysia, Mexico, Morocco, Peru, Philippines, Poland, measures whether or not a typical family could qualify for a mortgage loan on a typical home. A value of 100 means a family with the median income has exactly enough income to qualify for a mortgage on a median-priced home. An index above 100 signifies that family earning the median income has more than enough income to qualify for a mortgage loan on a median is a capitalization-weighted index of 500 stocks from a broad range of industries. The component stocks are weighted according to

The Thomson Reuters/Jefferies CRB (Commodity Research Bureau) Commodity Index

is a global commodity index that tracks the price movement of commodity futures as a whole.

Terms

AAII (American Association of Individual Investors) Investor Sentiment Survey

measures the percentage of individual investors who are bullish,

Ned Davis Research (NDR) Crowd Sentiment Poll

intermediate-term swings in investor psychology. It's based on seven different individual sentiment indicators in order to represent the psychology of a broad array of investors.

Recession

- Shows perspective on a composite sentiment indicator designed to highlight short- to - As per National Bureau of Economic Research (NBER), a recession is a significant decline in economic activity spread across the economy, lasting more than a few months, normally visible in real GDP, real income, employment, industrial production, and wholesale-retail sales.

©2013 Charles Schwab & Co., Inc. All rights reserved. Member SIPC 50

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New highs…then vs. now: bad stuff

S&P 500® index Budget deficit (12-month sum) Fed balance sheet Gross federal debt Debt as % of nominal GDP NYSE average daily volume (millions of shares) Consumer confidence Americans unemployed (millions) Unemployment rate S&P rating of US debt 3/24/2000 1,527 $138b $556b $5,773b 58% 1,124 137.1

5.7

4.0% AAA 10/9/2007 1,565 $169b $858b $9,007b 62% 1,320 95.2

7.2

4.7% AAA 9/18/2013 1,726 $680b $3,672b $16,738b 100% 750 79.7

11.3

7.3% AA+

Source: Bloomberg, FactSet, Federal Reserve,

Ned Davis Research (NDR), Inc. (Further distribution prohibited without prior permission. Copyright 2013 (c) Ned Davis Research, Inc. All rights reserved

.), Standard & Poor ’s. 51

(1013-6769)

New highs…then vs. now: good stuff

S&P 500 index S&P 500 operating earnings S&P 500 P/E S&P dividends per share AAII investor sentiment survey – bullish 10-year Treasury yield 10-year minus 2-year Treasury yield spread (basis points) % of S&P 500 above 200-day moving average % of S&P 500 with 50-day moving average above 200-day moving average Core CPI (y/y % change) Household debt 3/24/2000 1,527 $54 28.3

$17 66% 6.2% -44 NA NA 2.4% $6,508b 10/9/2007 1,565 17.6

$28 55% 4.7% 52 60% 43% 2.2% $13,644b 9/18/2013 1,726 16.9 $34 45% 2.7% 234 85% 82% 1.8% $12,971b

See last slide for description of AAII (American Association of Individual Investors) Sentiment Survey. Source: Bloomberg, FactSet, Federal Reserve,

Ned Davis Research (NDR), Inc. (Further distribution prohibited without prior permission. Copyright 2013 (c) Ned Davis Research, Inc. All rights reserved

.), Standard & Poor ’s. 52

Bond yields settle down after no QE taper

Renewed uncertainty about QE taper timing

10-Year Treasury Yield 16 14 12 10 8 6 4 2 0 1900 1910 1920 1930 1940 1950 1960 1970 1980 1990 2000 2010

(1013-6769)

10-Year Treasury Yield 3.0

2.8

2.6

2.4

2.2

2.0

1.8

1.6

1.4

Jul-12 Sep-12 Nov-12 Jan-13 Mar-13 May-13 Jul-13 Sep-13

As of 9/13. Source: FactSet, The Leuthold Group. 53

When might unemployment hit 6.5%?

Fed ’s unemployment rate threshold puts payrolls in spotlight

Mapping payrolls to the 10-year Treasury Monthly payroll change (000s) Fed Funds (“lift-off” date) 10Y Treasury yield (%, end of 2013 est.) 230 220 Mar 2014 Jun 2014 3.9% 3.8% 210 200 190 180 170 160 150 Sep 2014 Dec 2014 Jun 2015 Sep 2015 Jun 2016 Jun 2017 Mar 2018 3.6% 3.4% 2.8% 2.5% 1.8% 1.4% 1.1%

(1013-6769) As of 2/5/13. Source: BCA Research Inc. 54

Current bull market: rising yields = rising stocks

S&P 500 performance during periods of rising and falling yields 10-year Treasury yield Rising/ falling Rising Falling Begin 3/9/2009 4/5/2010 End 4/5/2010 10/8/2010 Start 2.89

4.01

Finish 4.01

2.41

Change 38.8% -39.9% Days 392 186

(1013-6769)

S&P 500 change 75.5% -1.9% Rising Falling Rising Falling Rising Falling Rising Falling Rising 10/8/2010 2/8/2011 9/22/2011 10/27/2011 1/31/2012 3/19/2012 7/25/2012 3/11/2013 5/2/2013 2/8/2011 9/22/2011 10/27/2011 1/31/2012 3/19/2012 7/25/2012 3/11/2013 5/2/2013 9/30/2013 2.41

3.75

1.72

2.42

1.83

2.39

1.43

2.07

1.66

3.75

1.72

2.42

1.83

2.39

1.43

2.07

1.66

2.64

55.6% -54.1% 40.7% -24.4% 123 226 35 96 30.6% -40.2% 44.8% -19.8% 48 128 229 52 59.0% 151 Average rising yields % of time positive Average falling yields % of time positive 13.7% -14.7% 13.7% 2.2% 7.4% -5.1% 16.3% 2.7% 5.3% 22.0% 100 -3.4% 40

55 As of 9/30/13. Source: Bespoke Investment Group, LLC (B.I.G.) Federal Reserve, FactSet.

rates

Growth tends to be above-average, at least for a while

Economic & market performance during rising interest rate periods (based on monthly 10-year Treasury yield) % Gain per annum Trough Apr 1954 May 1958 Peak Oct 1957 Jan 1960 10Y Treasury yield begin 2.3% 2.9% 10Y Treasury yield end 4.0% 4.7% S&P 500 16.7% 22.5% Coincident index Nonfarm payrolls 3.3% 2.0% 11.6% 3.9% May 1961 Mar 1967 Mar 1971 Dec 1976 Jun 1980 Jan 1987 Oct 1993 Oct 1998 Jun 2003 Aug 1966 May 1970 Sep 1975 Mar 1980 Sep 1981 Mar 1989 Nov 1994 Jan 2000 May 2006 3.7% 4.5% 5.7% 6.9% 9.8% 7.1% 5.3% 4.5% 3.3% 5.2% 7.9% 8.4% 12.8% 15.3% 9.4% 8.0% 6.7% 5.1% Median Mean 4.5% 5.1% 7.9% 8.0% Gain per annum over entire history 7.0% -1.9% -0.1% 5.1% 7.6% 8.3% 1.8% 17.0% 11.4% 7.6

8.7% 11.2% 4.9% 3.0% 2.2% 3.6% 2.6% 3.7% 4.4% 3.8% 2.4% 3.6% 4.1% 2.5% 3.5% 2.6% 1.9% 3.9% 1.2% 3.1% 3.4% 2.5% 1.6% 2.6% 2.7% 1.7%

Table highlights periods between local troughs and peaks in the 10-year Treasury yield around Fed tightening cycles. Source: Ned Davis Research (NDR), Inc. (Further distribution prohibited without prior permission. Copyright 2013 (c) Ned Davis Research, Inc. All rights reserved.). 56

Longer-term valuation stretched

But largest equity inflows have come when P/E was around 20 (1013-6769)

S&P 500 P/E (5-year normalized) 40 35 30 25 20 15 10 5 1946 1954 1962 1970 Median = 17.6x

1978 1986 1994 2002 2010 Current S&P 500 normalized P/E @ 21.1

As of 9/13. The Leuthold Group calculates normalized earnings using a 5-year average of reported earnings (18 quarters of historical results combined with 2 quarters of future estimates). To adjust for legitimate write-offs, the mid point between reported earnings and operating earnings is used. Source: The Leuthold Group. 57

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Moderate inflation supports higher valuations

Inflation in one of valuation ’s sweet spots

We are here Inflation < 0% 0 – 1% 1 – 2 % 2 – 3% 3 – 4% 4 – 5% 5 – 6% 6 – 7% >7% 1946-8/2013 Average P/E Highest P/E 12.6

17.1

14.5

19.8

20.5

18.7

16.8

22.5

32.6

35.1

34.4

22.4

15.9

12.2

11.9

19.8

18.1

19.1

Current S&P 500 normalized P/E @ 21.1 Lowest P/E 9.3

9.2

9.2

9.7

9.7

9.6

7.4

7.7

7.9

1946-8/13. Current P/E as of 9/13. The Leuthold Group calculates normalized earnings using a 5-year average of reported earnings (18 quarters of historical results combined with 2 quarters of future estimates). To adjust for legitimate write-offs, the mid point between reported earnings and operating earnings is used. Inflation is y/y % change based on CPI. Source: Bureau of Labor Statistics, FactSet, The Leuthold Group.

58

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Valuation expansion could continue

Historically, much higher rates before valuation suffered

25 20 15 18.4

10 We are here 5 0 1.4%-3.0% S&P 500 P/E (5-year normalized) 22.7

20.1

3.0%-4.5% 4.5%-6.5% 10-Year Treasury Yield Current S&P 500 normalized P/E @ 21.1 14.7

> 6.5%

1962-8/13. Current P/E as of 9/13. The Leuthold Group calculates normalized earnings using a 5-year average of reported earnings (18 quarters of historical results combined with 2 quarters of future estimates). To adjust for legitimate write-offs, the mid point between reported earnings and operating earnings is used. Source: FactSet, Federal Reserve, The Leuthold Group.

59