Domestic Investment Outlook & Strategy · Peter L. Mitchelson, CFA – President David A. Brown, CFA, CPA – Vice President Sit Investment Associates, Inc. 90 South Seventh Street

Domestic Investment Outlook & StrategyJuly 9, 1999

Contact:Peter L. Mitchelson, CFA – PresidentDavid A. Brown, CFA, CPA – Vice PresidentSit Investment Associates, Inc.90 South Seventh Street4600 Norwest CenterMinneapolis, MN 55402(612) 332-3223

Current Month Highlights

PageConclusions: All eyes on inflation 1Current conditions/economic outlook 2Monetary policy and fixed income strategy 5Fiscal policy – Surpluses as far as the eye can see 8Equity investment strategy – growth stock outlook 9 remains favorable

Exhibits Warranting Special Attention

Exhibit2Q Market capitalization performance reversal EIndividuals’ holdings of equities top real estate GNon-Social Security surplus by FY2000 NTop 20/Botttom 480 S&P 500 valuation differential P

Small cap stock earnings surprise S

■ Sit Investment Associates, Inc. ■

Investment Outlook & Strategy

July 9, 1999

EXECUTIVE SUMMARY

Domestic equity prices rose in the first half of 1999 despite negative returns in the bond market. TheFederal Reserve’s light-handed 25 basis point increase in the federal funds rate was greetedenthusiastically, but the jury remains out on the magnitude of additional tightening moves. We believeU.S. economic growth should moderate slightly from the first quarter pace of +4.3 percent, which will givethe Fed some maneuvering room. Seventy-five percent of economists believe there will be at least onemore tightening move. Federal budget surplus projections continue to escalate and President Clintonannounced his plans for reforming Medicare, including a prescription drug benefit. A tax-cut-for-Medicare-drug-benefit deal may be crafted as early as the fall. Despite some valuation measures for thestock market being at extended levels, the broader market, including many companies in the S&P 500Index below the top 20 in capitalization, are at reasonable valuations in the context of current interest ratesand inflation levels. Above-average earnings growth companies continue to represent the most attractivesegment of the stock market.


Investment Outlook & Strategy

July 9, 1999

CONCLUSIONS: all eyes on inflation

Midway through the year, it is appropriate to review our economicand financial market assumptions. Our conclusions are presentedbelow:

1. Both second quarter and first half 1999 domestic stock marketreturns were solidly positive despite negative trends in thebond market. The Fed’s light-handed 25 basis point increasein the federal funds rate to 5.0 percent on June 30th was greetedenthusiastically. Small capitalization stocks recovered fromthe doldrums in the second quarter, which we believe may bethe beginning of an extended move. Mergers and acquisitionshave proceeded at a rapid pace, including much greater cross-border activity, and initial public offerings have been runningat a rate that could easily exceed 1996’s record pace.

2. Final first quarter 1999 real GDP growth for the U.S. economywas +4.3 percent, little changed from the previous estimates.Personal consumption expenditures in 2Q99 have been runningat a rate two percentage points lower than in the first quarter,which should result in a smaller second quarter GDP reportcloser to the Fed’s desired +3 percent range. Following thevery strong April CPI report, May’s unchanged figure wassurprisingly benign. All eyes will be on the June PPI and CPIreports to assess the status of inflationary pressures.

3. The Fed’s 25 basis point increase in the federal funds rate waswidely anticipated, but the shift in policy stance to neutral froma tightening bias was not. Approximately three-fourths of

economists expect the Fed to raise rates at least one more timethis year, but we believe the jury is still out on that predictionand that the Fed will be responsive to ongoing economicdevelopments, particularly inflation. Taxable portfoliodurations are slightly shorter than their respective benchmarks.

4. Escalating projections of federal budget surpluses have tax-cutproponents salivating, especially since a non-Social Securityoperating surplus may be achieved as early as fiscal year 2000.Tax bills are being worked on in both the House and Senateand, under most optimistic assumptions, a bill might be readyfor the President by the fall. The President outlined a Medicarereform package in late June, including a prescription drugprogram, and a tax-cut-for-Medicare-drug-benefit package is apossibility.

5. In his testimony on June 17th, Chairman Greenspan describedthe U.S. stock market as a “bubble.” We believe it is importantto define “the market.” We have subdivided the S&P 500Index into constituent parts and calculate that the median price-earnings ratio for the vast majority of stocks is substantiallybelow that of the 20 largest companies, particularly in thecontext of current interest rates and inflation levels. Theearnings growth rates in Sit Investment’s domestic equitystrategies are, in fact, accelerating, and are significantly greaterthan the earnings growth for the market as a whole.

Sit Investment Associates, Inc. July 9, 1999Investment Outlook and Strategy Page 2

CURRENT CONDITIONS: CPI Eases

During June, several U.S. stock market indices recorded theirbest monthly gains of the year as investors emitted a collectivesigh of relief that the Federal Reserve remains vigilant oninflation, but was not prepared to take draconian steps that wouldstop the economy in its tracks. The Fed’s light-handed 25 basispoint increase in the federal funds rate to 5.0 percent announcedon June 30th, accompanied by a relaxation in policy stance toneutral from a tightening bias, was greeted enthusiastically. TheS&P 500, Russell 1000 Growth and Russell Midcap Growthindices recorded their best monthly gains of the year. The JuneLehman Aggregate Bond Index’s negative return moderatedsignificantly compared to the very weak May figure as someinflation measures, especially the Consumer Price Index,appeared to cool. A summary of financial market performance isshown in the table below and in Exhibit A.

Total Returns to 6/30/99

1Mo.

3Mos.

6Mos.

12Mos.

Large Cap S&P 500 Index 5.6% 7.1% 12.4% 22.8% Dow Jones Ind’l Avg. 4.0 12.5 20.4 24.6 Russell 1000 Index 5.1 7.1 11.5 21.9

Small/Medium Cap NASDAQ OTC Comp.* 8.7 9.1 22.5 41.8 S&P MidCap Index 5.4 14.2 6.9 17.2 Russell 2500 Index 5.2 16.4 10.9 5.4

Fixed Income Lehman Muni Bond Index -1.4 -1.8 -0.9 2.8 Lehman Aggregate Index -0.3 -0.9 -1.4 3.2

*Price Change Only

The stock markets’ surprisingly strong performance occurred inthe face of some negative developments, but they were morethan eclipsed by positives. Several high profile growthcompanies, including Gillette, Pepsico, and American HomeProducts, pre-announced second quarter earnings shortfalls, butthe volume and mix of all pre-announcements remains favorable,which suggests positive second quarter profit results.Greenwich, Connecticut was again in the news with adisappearing money manager alleged to have defraudedinsurance companies in amounts exceeding several hundredmillion dollars. In another part of the town, however, Long-Term Capital Management, the hedge fund that nearly collapsedlast fall and was saved by a consortium of institutions facilitatedby the Federal Reserve, made plans to pay off its originalinvestors and launch a new money management venture. Thespeed of reversing fortunes at times boggles the mind.

Initial public offerings have been running at a rate that couldeasily exceed 1996’s record pace, and have been boosted by aresurgence in technology stocks. Among the six major stockmarket indices that we monitor in detail, electronic technologystocks were the best performing sector in June and ranked nolower than sixth out of 17 groups on a year-to-date basis,outperforming their related total index in all cases. Exhibit Bdisplays the sector performance of the S&P 500 Index forvarious periods dating back to 1997 and highlights the strengthof the electronic technology sector. The technology servicesgroup has also performed well in 1999. Exhibit C summarizesthe importance of large technology stocks in the resurgingNASDAQ Composite Index during the first half of 1999.

Mergers, both attempted and completed, have also added fuel tothe bull market, and continue at a rapid pace. QwestCommunication’s battle to wrestle U.S. West and Frontier Corp.


from rival bidder Global Crossing made headlines for itsaudacity while Abbott Laboratories’ marriage with Alza seemedmore likely to be accomplished. Cross-border mergers alsoillustrated the globalized nature of industry consolidation.Weyerhaeuser’s courtship of Vancouver’s MacMillan BloedelLtd. will bring together two venerable forest products companies.Wal-Mart Stores outbid another British retailer in a $10.8 billionoffer for Asda Group PLC, which, if successful, promises tochange European retailing dramatically.

European stocks, after being top tier performers in 1998, havegenerally lagged most of the global bourses in the first half of1999 (see Exhibit D). The United States equity market ranked18th out of 33 countries in 1H99 while ten of the eleven countriesin the bottom third of the group were based in Europe. Four ofthe five best-performing countries were in Asia, reflecting theimproving fortunes in that part of the globe.

In the months of both April and May, “value” stocksoutperformed “growth” stocks and the April magnitude ofoutperformance was among the largest ever recorded. DuringJune, the tide shifted again and growth outperformed valueacross all capitalization ranges. The only exception we found tothis general rule was in the S&P/Barra Smallcap indices and,even there, the difference in performance was less than onepercentage point. Shown below are the results for the Russelllarge and small cap indices and Exhibit E contains details ofS&P 500 Index performance by capitalization size sinceSeptember 1997. The remarkable improvement in small capperformance in the last three months is shown in the exhibit.

We attribute the return to favor of growth stocks during June toimproved inflation news as observed in the May CPI report aswell as to the Fed’s proactive strategies to ensure thatinflationary pressures are contained.

Large and Small StockTotal Returns to 6/30/99

1 Month 3 Mos. 6 Mos. 12 Mos.Large Cap Russell 1000 Growth Index 7.0% 3.9% 10.5% 27.3% Russell 1000 Value Index 2.9 11.3 12.9 16.4

Small Cap Russell 2000 Growth Index 5.3 14.8 12.8 8.3 Russell 2000 Value Index 3.6 16.6 5.3 -5.7Turning to the domestic economy, the government’s finalrevision to first quarter 1999 real Gross Domestic Product dataproduced few surprises. Real GDP was revised slightly upwardfrom +4.1 percent to +4.3 percent due principally to better tradefigures. The negative net export figure showed improvementdue principally to increased exports:

DOLLARS (Bil) of Real GDP Change4Q98 1Q99 1Q99 1Q99Final 1st Est. 2nd Est. Final

Personal Con. Expenditures $64.2 $85.9 $87.1 $85.9Nonresid. Fixed Invs. 33.2 18.4 18.9 20.3Residential Invs. 7.6 12.0 11.8 11.8Inventory Change -11.5 1.0 -5.2 -5.5Net Exports 9.0 -55.6 -60.1 -53.6Government 10.7 14.3 13.9 13.6Residual -2.0 8.8 10.6 9.4Total $111.2 $84.8 $77.0 $81.9

% Change in Real 6.0% 4.5% 4.1% 4.3%GDP (ann.)

% Change in Real 6.6% 4.5% 4.3% 4.6% Final Sales (ann.)

% Change in GDP 0.8% 1.4% 1.4% 1.6%Deflator (ann.)


The healthy condition of consumers is seen in the $85.9 billionincrease in Personal Consumption Expenditures (PCE) in thefirst quarter. At $5.3 trillion, first quarter PCE represented 68.7percent of total U.S. real GDP. Exhibit F provides longer-termperspective on the unusual current strength of consumption. The+5.5 percent year-over-year gain in PCE in the first quarter wasthe strongest of the past three years and the +6.7 percentannualized quarterly rate for 1Q PCE was the strongest since thefirst quarter of 1988. The exhibit also highlights theextraordinary strength in residential investment, which ran at aquarterly annualized rate exceeding +15 percent in the firstquarter.

Several factors suggest that real GDP growth could slow a bit inthe second quarter, the most important of which is the consumersector, which is already decelerating slightly, as shown below:

Consumer Income and SpendingYear-Over-Year Percent Change

Nominal RealDisposable

Personal Personal Consumption ConsumptionIncome Income Expenditures Expenditures

1998 March 4.9% 3.8% 5.2% 4.5%June 5.0 3.8 6.4 5.5Sept. 4.9 3.9 5.9 5.2Dec. 5.0 4.3 6.3 5.5

1999 Jan. 5.0 4.6 6.3 5.2Feb. 4.9 4.5 6.6 5.5Mar. 4.8 4.5 6.9 5.7April 5.1 4.8 6.9 5.3May 5.1 4.8 6.5 5.1

Month-to-month real PCE actually dipped slightly in April, butrebounded strongly in May with a more than $30 billion

increase. If we make an aggressive assumption of another $30billion increase in spending for June, the quarterly annualizedrate of growth for PCE would be +4.6 percent, which is two fullpercentage points lower than in the first quarter. This is theprincipal reason why second quarter GDP should slow.

Other elements suggesting possible second quarter real GDPmoderation include the weakening savings rate, even given itsacknowledged statistical drawbacks. The savings rate continuesto trend downward in negative territory, the latest monthlycalculation being –1.2 percent. Exhibit G portrays the status ofconsumer balance sheets and the fact that the value of equitiesheld currently exceeds the value of household real estate. Asecond part of the exhibit shows that the value of equityappreciation has become increasingly large relative to personalincome. The “wealth effect” of rising equity prices, coupled withextremely high consumer confidence, can explain consumers’willingness to spend, but one cannot ignore the potentialvulnerability of spending to stock market volatility. In fact, thereaction of consumers to changes in financial markets mayalready be seen in the –5.1 percent decline in May new homesales. Fixed mortgage rates have increased nearly 90 basis pointssince the beginning of the year, which has served as animpediment to housing demand. Additionally, the supply of newhomes for sale has risen to 309,000 units, the highest in 17months. Given the generally strong level of consumerconfidence, still high levels of housing investment and durablesspending, together with capital investment by business, we donot expect a significant slowing in GDP growth in the secondquarter, but probabilities do favor some deceleration from thefirst quarter pace.

On the inflation front, the news remains mixed, but the tone ofseveral key reports for May turned decidedly more positive.


Chief among these was the Consumer Price Index, whichrecorded no month-to-month change in May after a surprisinglylarge April increase of +0.7 percent. Excluding food and energy,prices rose +0.1 percent in May compared to +0.4 percent inApril. The flat May CPI performance was considerably betterthan consensus expectations, which were for a gain of +0.2percent. Many of the elements that had been particularly strongin April, such as apparel and transportation, reversed trend andactually declined slightly in May. Subcomponents motor fuel,public transport and tobacco also declined. Bond prices rose onthe day of the release, the Dow Jones Industrials tacked on 190points and the NASDAQ Composite set a single day advancerecord exceeding 100 points that was spurred on by surgingtechnology stocks. Exhibit H contains nearly 40 years of CPIand PPI data, which is complemented by the CPI table belowshowing annualized rates of change over various time intervals.The +2.1 percent year-over-year CPI increase for the month ofMay was almost identical to the “core” gain of +2.0 percent.

U.S. CPI TRENDS - % CHANGE

YEAR- 6 MONTHS 3 MONTHSPERIOD OVER-YEAR ANNUALIZED ANNUALIZED

December 1997 1.7 1.2 0.2March 1998 1.4 1.2 2.2June 1998 1.7 2.1 2.0September 1998 1.5 1.7 1.5December 1998 1.6 1.1 0.7January 1999 1.7 1.3 0.7February 1999 1.6 1.3 1.2March 1999 1.7 1.7 2.7April 1999 2.3 2.7 4.6May 1999 2.1 2.7 4.1

Other inflation indicators were not as favorable as the CPI asthe National Association of Purchasing Management PricesPaid Index continued to inch upward (see Exhibit I). Crude oilprices have steadily risen and concerns persist that the lowunemployment rate will eventually lead to cost-push laborpressures. Market psychology has been highly sensitive to eachinflation report. After the negative April CPI, marketsexpected several Federal Reserve interest rate increases wouldbe implemented to quell inflationary pressures. More recently,sentiment has shifted to the view that one or two may be allthat is required. We were encouraged that the PaineWebberLeading Indicator of Inflation, which measures seven inflationcomponents, declined slightly in June after three successiveincreases. The Employment Cost Index will be reported on July29th and should contain further evidence of healthy businessproductivity gains.

In conclusion, our economic assumptions presented in lastmonth’s review have not changed significantly since then. Thequarterly GDP forecasts contained in Exhibit J imply +4.0percent real GDP growth in calendar 1999, essentially the sameas in the past two years. Consumer Price Index inflation shouldrange in the +2.0 to +2.5 percent area, essentially the same as in1997. We have interest rates edging up a bit, on average,which should help moderate economic growth under thewatchful eye of the Federal Reserve. The dollar exchange ratehas been moving gradually higher on a monthly basis, but inJune was virtually identical with the average rate experiencedin 1998 (see Exhibit K). Inventories and Y2K-relatedstockpiling could alter the landscape later in the year, but thecurrent outlook appears to be in a reasonably steady state.

MONETARY POLICY AND FIXED INCOMESTRATEGY: fed tightens a notch


In a widely anticipated move (93% of economists predicted it),the Federal Reserve raised the federal funds rate by 25 basispoints at the close of its two-day meeting on June 30th (seeExhibit L). A series of key events leading up to the late-JuneFOMC meeting strongly suggested that an overt tighteningmove would be made, starting with the FOMC meeting on May18th at which monetary policy shifted to a tightening bias. OnJune 16th, the Fed’s “beige book” report on regional economictrends noted that wage pressures increased due to laborshortages, but that competitive pressures and productivitygrowth made it very difficult for employers to raise prices.This report was followed by Chairman Greenspan’s testimonybefore the Joint Economic Committee of the U.S. Congress onJune 17th that strongly suggested a pre-emptive tighteningmove was imminent. He used the following words:

“For monetary policy to foster maximum sustainableeconomic growth, it is useful to preempt forces ofimbalance before they threaten economic stability.But this may not always be possible – the future attimes can be too opaque to penetrate. When we canbe preemptive we should be, because modestpreemptive actions can obviate the need of moredrastic actions at a later date that could destabilize theeconomy.”

With respect to the referenced “imbalance,” the Chairmanbelieves it is primarily in the labor force. He discussed thesources of the four percent real economic growth achieved inrecent years and attributed two percentage points toproductivity increases, one percent to working age populationgrowth and one percent “drawn from the ever decreasing poolof available job seekers without work.” He went on to say that

the last development represents an “unsustainable trend.”Many observers believe that the Fed would prefer to see U.S.economic growth closer to +3 percent than +4 percent and mayraise interest rates in additional steps, perhaps to retrace theentire 75 basis point reduction in rates orchestrated last fall inthe wake of the global financial crisis. We believe the juryremains out on that prediction and that the Fed will beresponsive to ongoing economic developments. If, as ourprojections imply, real GDP growth moves downward towardthe +3 percent level, the Fed may rest at one or two 25 basispoint moves, but if it does not, then additional hikes arecertainly likely. A recent poll of 45 economists revealed thatthree-fourths of them expect the Fed to raise rates at least onemore time this year. With respect to the Fed’s shift to a neutralpolicy stance after increasing the fed funds rate, the behavior isentirely in concert with the series of moves made in 1994.Furthermore, changing to a neutral policy stance certainly doesnot rule out an increase in rates at the August 24th FOMCmeeting. The Fed advised at its recent meeting that “it must beespecially alert to the emergence or potential emergence, ofinflationary forces that could undermine economic growth.”Exhibit M outlines our expectations for U.S. Treasury interestrates in coming quarters that, on average, reflect a relativelystable pattern.

As noted previously, interest rates continued to rise last month.While the bond market rallied upon hearing that the FederalReserve shifted from a tightening bias to a more neutral stanceafter its 25 basis point rate increase, yields on U.S. Treasuriesstill ended 10-15 basis points higher for the month. Yieldspreads across all sectors widened in June, allowing U.S.Treasuries to outperform most sectors. In fact, only the asset-backed sector with its relatively shorter duration was able tooutperform Treasuries. The relatively longer duration of the


corporate sector caused it to be the worst-performing group forthe month. Rising mortgage rates caused mortgage securitydurations to lengthen as refinancing activity sloweddramatically. As a result, mortgage yield spreads widened andthe mortgage sector underperformed for the month.June was a very active month for Sit taxable total return bondportfolios. We began a sector shift that increases portfolioweightings in U.S. Treasuries and significantly reducescorporates along with a smaller reduction in asset-backed andmortgage-backed securities. We expect the sector shift to becompleted by the end of July. The more conservativepositioning is due to expected weakness in most sectors due toY2K concerns and a resulting bias toward greaterquality/liquidity as year end approaches. Our reasoning is thatwhile we believe the Y2K phenomenon will be anticlimactic,the bond market will most likely become concerned about it,causing a flight to quality. With last year’s flight to quality stillfresh in investors’ minds, we expect a diminished demand fornon-U.S. Treasury securities as year end approaches, therebycreating an opportunity to purchase corporates, asset-backedand mortgage-backed securities at more attractive levels thancurrently.

Managed taxable bond portfolios also sold all of their holdingsin Treasury Inflation Protected Securities (TIPS) after earningan annualized 13 percent yield for the month of June. Themost recent CPI report was 0.0 percent, which reduced TIPS’yields to around 4.0 percent for the month of July. Thus, evenmoney market yields, which are currently around 5.0 percent,offer a higher yield this month than the TIPS.

Lastly, portfolios are underweighted in longer-maturitysecurities and overweighted in securities with 5-10 yearaverage lives. The weightings reflect how flat the yield curve

has been with 10-year maturity U.S. Treasury yields only 10-15basis points lower than 30-year maturity U.S. Treasury yields.Taxable portfolio durations are slightly shorter than theirrespective benchmarks as we expect interest rates to berelatively stable during the summer.

Total Returns Through 6/30/991 3 6 12

Mo. Mos. Mos. Mos.Lehman Index Aggregate -0.3% -0.9% -1.4% 3.2%Government -0.2 -0.9 -2.3 3.1Corporate -0.5 -1.6 -2.3 1.9Asset-Backed 0.1 -0.3 0.4 4.4Mortgage Pass- Through -0.4 -0.5 0.5 4.0 5-Yr. Treasury 0.1 -1.0 -2.3 3.6

Municipal -1.4 -1.8 -0.9 2.85-Yr. Municipal -1.1 -1.2 -0.2 3.3Revenue -1.4 -1.5 -0.6 2.8 Electric -1.6 -1.7 -0.7 2.8 Hospital -2.0 -2.4 -1.7 1.7 Housing -0.8 -0.7 0.4 3.0 IDR/PCR -1.1 -1.1 -0.2 3.4 Transportation -1.4 -1.6 -0.7 2.9 Education -1.5 -1.7 -0.8 2.6 Water/Sewer -1.4 -1.7 -0.8 2.8 Resource Recovery -0.8 -0.5 0.8 4.4

In contrast to prior months, municipal bond yields rose moreduring June than did Treasury bond yields. The yield on theBond Buyer 40-Bond Index increased 18 basis points duringthe month to 5.55 percent on June 30th, a level not seen sincethe fall of 1997. The increase in yields was even greater amongintermediate-maturity municipals during the month. Since thebeginning of the year, however, municipal yields haveexperienced only 40 to 60 percent of the rise in Treasury yields.While the relative yield ratio of long municipals to long


Treasury bonds increased from 92 percent to 93 percent duringthe month, it has decreased from 102 percent since thebeginning of the year. In addition, year-to-date municipalissuance volume has declined 23 percent versus the first half oflast year, primarily due to a slowdown in the pace ofrefundings.With the rise in municipal yields during June, returns turnednegative for the quarter and year-to-date in most revenue bondsectors. Shorter duration sectors, such as industrial revenueand resource recovery, continue to outperform in this period ofrising interest rates while longer duration sectors have lagged.Hospital bonds, in addition to being hurt by their longerduration, have been further negatively impacted by wideningyield spreads due to credit concerns. We are monitoring credittrends in this sector closely. The housing sector has continuedto outperform due to its more stable price characteristics. Wecontinue to look for opportunities to shorten the durations ofmanaged portfolios without giving up much income.

FISCAL POLICY: surpluses as far asthe eye can see

Competition heated up last month between various governmententities as to which could project the largest federal budgetsurpluses over the next decade. The administration’s Office ofManagement and Budget (OMB) in late June released itsrevised surplus estimates and jacked up its fiscal 1999 forecastby $20 billion to $99 billion. Out-year forecasts cascadedupward to $473 billion by fiscal 2009. Not to be outdone, thenonpartisan Congressional Budget Office (CBO) released itsnew figures on July 1st and forecast a $120 billion surplus infiscal 1999, but a more conservative $413 billion in 2009.

All of these figures include excess Social Security payroll taxcollections, but what is intriguing is that non-Social Securitysurpluses may actually be achieved by as early as fiscal 2000(see Exhibit N). If one can believe such projections, which ishazardous based on the prior government forecasting record,$2.9 trillion in total surpluses would be generated over the nextdecade of which $1 trillion would be outside the SocialSecurity buildup. It is this enormous latter figure that has tax-cut proponents salivating since it has been assumed that theSocial Security surpluses will be reserved to support theSystem and not be squandered for other programs. In anamazing reversal of fortunes, rhetoric has shifted in a very briefperiod from considering moderating benefits and raising funds(taxes) to salvage teetering systems to sugar-plum dreams oftax cuts and massive new entitlement programs, including aMedicare prescription drug benefit.

In anticipation of a surplus as high as $150 billion in fiscal2000, House Republicans are working on a tax bill that it hopesto clear the House Ways and Means Committee by July 16th.The budget resolution passed earlier this year called for tax cutsof $778 billion over ten years. The Senate has to clear a taxbill by July 23rd. Under most optimistic assumptions,Republican leaders hope to send a tax cut bill to the Presidentby September. Specific provisions are still sketchy, butpossible areas of tax relief include modifying the alternativeminimum tax burden, raising IRA contribution limits, easingthe marriage tax penalty and estate taxes, and extending R&Dtax credits. Capital gains tax reductions have been discussed(specifically, reducing the top rate from 20 percent to 15percent), but seem unlikely in the first phase, as is the case withacross-the-board tax rate cuts. If compromises with Democratsare not reached on these issues, the topic of taxation will be afocal issue in the 2000 campaign.


President Clinton introduced his Medicare reform plan on June29th, including more details on a proposed prescription drugentitlement program. Some of the specifics include a newvoluntary Medicare Part D entitlement for outpatientprescription drugs beginning in 2002. Premiums would start at$24 a month, rising to $44 by 2008. Coverage would start withthe first dollar of prescription costs, with no deductible and a50 percent copayment. The drug benefit would be capped at$2000 in 2002 (with the government paying half) and rise to$5000 in 2008. Those single persons with incomes under$11,000 would not pay premiums or copayments and thecomparable figure for couples would be $17,000.Administration estimates are that 31 million seniors wouldenroll in the new drug program.

The new drug benefit is estimated to cost $118 billion over tenyears. About 60 percent of the cost would be financed by“savings from competition and efficiency.” The remaining 40percent, or $45.5 billion, would be financed from the growingsurplus and is described as “only 15 percent of the surplus toMedicare.” Medicare would not administer the benefit directly,but would contract out with private sector groups includingpharmacy benefit managers (PBMs), retail drug chains, healthplans or insurers, etc. Private benefit managers wouldcompetitively bid to manage the benefit for a particulargeographic area. Quoting from the President’s proposals,“Private benefit managers could use various cost containmenttools in administering the program, subject to limitations andguidelines in the contract. Under this proposal, Medicarewould not set prices for drugs. Prices would be determinedthrough negotiations between the private benefit administratorsand drug manufacturers. The competitive bidding processwould be used to yield the best possible drug prices and

coverage, just as it is being used by large private employers andthe Federal Employers Health Benefit Plan today.”

It is not clear from the documents released thus far whether themeasures being contemplated could eventually lead to drugprices being under some form of control. One of ourWashington sources reported that Health Care FinancingAdministration (HCFA) actuaries assumed the PBMs woulddeliver price discounts of 13 percent, but other governmentprograms have experienced discounts of up to 20 percent.

Politically, the Republican party is expected to present aresponse to the President’s plan later in July and thepharmaceutical industry is readying a major public relationscampaign. The size of the burgeoning surplus is such thatpoliticians may be tempted to do a tax-cut-for-Medicare-drugbenefit deal. The latter may be downsized to target initiallyonly low-income seniors as an entry point, but we place higherodds on the program being deferred to be a key issue in the2000 election campaign. In the intervening period, uncertaintyover the new benefit may serve to keep a lid on pharmaceuticalcompany price-earnings ratios.

EQUITY INVESTMENT STRATEGY: outlookfor growth stocks remains favorable

In his June 17th testimony before the Joint EconomicCommittee, Fed Chairman Greenspan used the word “bubble”five times to describe the state of the current U.S. stock market.He said that “while bubbles that burst are scarcely benign, theconsequences need not be catastrophic for the economy.” Hethen went on to link the bull market run with the longestpeacetime economic expansion with the following concludingremarks:


“Someday, of course, the expansion will end; humannature has exhibited a tendency to excess through thegenerations with the inevitable economic hangover.There is nothing in our economic data series to suggestthat this propensity has changed. It is the job ofeconomic policymakers to mitigate the fallout when itoccurs, and, hopefully, ease the transition to the nextexpansion.”

This seemingly fatalistic attitude is somewhat surprising andbegs the question of whether the United States is in anunsustainable economic expansion or has a “bubble” stockmarket.

With respect to the economy, despite the length of the currentexpansion and obvious pressures developing in labor markets,negative consumer savings rates, and so forth, the country’sstatus as world economic, military and technology leadersuggests that the expansion can continue, particularly if we arecorrect about the likelihood of moderating, but still solid,economic growth over the next few quarters.

Regarding the stock market being a bubble, there is evidenceavailable to argue effectively both sides of the issue, but a keypoint of focus should be the definition of “market.” Activelymanaged major stock market indices, such as the S&P 500demonstrably sell at valuations (price earnings ratios, etc.) thatare high. Exhibit O, for example, shows that the S&P 500’scurrent price-earnings ratio of approximately 28x operatingearnings is the highest in 35 years. As we argued in our April1999 Investment Outlook and Strategy paper, however, thestructure of the Index has changed materially since the 1960sand now has a much higher earnings growth rate associated

with its constituent companies. We believe a similarphenomenon is occurring with the annual reconstitution of theRussell indices. One brokerage firm estimated the projected1999 earnings gain for the Russell 2000 Index would changefrom +18.0 percent on a status quo basis to +26.3 percent on areconstituted basis, highlighting the statistical inadequacies ofbenchmarks that vary over time.

One way to judge the reasonableness of any measure is tosubdivide it into constituent parts, which we did for the S&P500 Index in April and have updated in Exhibit P. The analysisexamines the financial characteristics of the largest 20 stocks inthe S&P 500 Index and compares them to the other 480 stocks.The top 20 include names such as Microsoft, IBM, Pfizer, GE,Coca Cola, etc., and represent 34.5 percent of the totalcapitalization weight of the Index. The median P/E ratio forthis group as of June 30th was 33.7x projected 1999 earnings.In sharp contrast, the median P/E for the other 480 companieswas 20.1x. This suggests that there are a great number ofcompanies possessing valuations that are quite reasonable inthe context of current interest rates and inflation levels. Thisview is corroborated in the median price-earnings ratio of theValue Line universe of 1700 stocks, which was 17.5x on July1st. At the latest cyclical peak for the measure, in April 1998,the median P/E was 19.7x. It is quite true, as Exhibit P reveals,that some of the major companies and indices have extendedvaluations, but as investor interest extends to the morereasonably valued issues over time, overall stock price levelsshould continue to rise.

With respect to other stock market parameters, six-month pricemomentum figures have also receded from high levels acrossall capitalization ranges and would not appear to be animpediment to additional progress (see Exhibit Q). However,


comparisons of the stock market’s earnings yield to bond yieldshave definitely worsened in 1999 as both the stock market andinterest rates have risen in concert (see Exhibit R). On theinterest rate front, the fact that long U.S. Treasury yields haveremained stable since the Fed raised interest rates on June 30th

suggests that the bond market is satisfied that the Fed will dowhat it takes to moderate the economy’s growth path. If thefavorable surprise on inflation provided in the May CPI reportis followed by another, fears of more inflation and more centralbank tightening would subside.

Another supporting leg for the equity stool is earnings progressand here the news is very good. Standardized UnexpectedEarnings (SUE) scores for both large and small cap equitiesimproved markedly in the first quarter of 1999 (see Exhibit S)and reports for the second quarter are generally strong as well.

Further corroborating the positive earnings outlook, wecontinuously monitor the projected earnings growth rates of thecompanies held in each of Sit Investment’s three domesticequity strategies and they continue to show acceleration, asindicated below:

SIA 5-Year ProjectedE.P.S. Growth Rates

Dates of Large Medium Small S&PProjection Cap Cap Cap 500June 1997 +18.9% +23.8% +28.7% +9.0%June 1998 +19.8 +24.5 +29.0 +9.0June 1999 +20.5 +27.9 +35.1 +10.0

Exhibit T contains earnings and valuation parameters for allthree Sit Investment domestic equity portfolios. We continueto believe that the general investing environment favors above-average growth stocks since conditions of intense competition,

controlled inflation and limited pricing power are likely topersist. While the recovery in Asia, rising oil prices and laborcost pressures may test this thesis over the near term, wecontinue to believe that the case for growth stocks is thesuperior one as has been the case for nearly a decade (seeExhibit U). Even with the improving recent performance trendof smaller companies, valuations have barely budged from theirdepressed lows (see Exhibit V).

In general, Sit Investment’s industry overweights andunderweights remain as they have been for some time: strongoverweights in high unit growth companies with uniqueproducts and strong managements able to thrive in acompetitive global environment, and underweights in slowgrowth, commodity-oriented sectors. Exhibit W providesdetails on specific industry weighting positions relative to theS&P 500 Index for the large cap growth strategy.

This analysis contains collective options of our analysts and portfoliomanagers, and is provided for informational purposes only. While theinformation is deemed accurate at the time of writing, such information issubject to change at any time without notice.

Exhibit A


Securities Markets

E Q U I T I E S 06/30/99 05/28/99 03/31/99 12/31/98 12/31/97 OneMonth

ThreeMonths

SixMonths

EighteenMonths

Dow Jones Industrials 10970.80 10559.74 9786.16 9181.43 7908.25 +3.9% +12.1% +19.5% +38.7%S&P 500 1372.71 1301.84 1286.37 1229.23 970.43 +5.4 +6.7 +11.7 +41.5NASDAQ OTC Composite 2686.12 2470.52 2461.40 2192.69 1570.35 +8.7 +9.1 +22.5 +71.1

F I X E D I N C O M E

U.S. TREASURY

1-Year Bill 5.18 4.94 4.69 4.48 5.48 +24 b.p. +49 b.p. +70 b.p. -30 b.p.2-Year Notes 5.53 5.42 4.97 4.54 5.66 +11 +56 +99 -135-Year Notes 5.66 5.60 5.11 4.55 5.71 +6 +55 +111 -510-Year Notes 5.80 5.63 5.24 4.66 5.74 +17 +56 +114 +630-Year Bonds 5.98 5.84 5.62 5.12 5.92 +14 +36 +86 +6

AA INDUSTRIAL

Intermediate Maturity 6.75 6.53 6.04 5.41 6.29 +22 +71 +134 +46Long Maturity 7.08 6.89 6.57 6.07 6.62 +19 +51 +101 +46

MORTGAGES

Current Coupon GNMA (7.00%) 7.30 6.96 6.63 6.35 6.71 +34 +67 +95 +59

MUNICIPALS

Bond Buyer 40-Bond Index 5.55 5.37 5.23 5.16 5.26 +18 +32 +39 +29S H O R T T E R M

Fed Funds 4.95 4.74 4.84 4.45 5.45 +21 +11 +50 -50Discount Rate 4.50 4.50 4.50 4.50 5.00 -- -- -- -50Prime Rate 7.75 7.75 7.75 7.75 8.50 -- -- -- -7513-week Treas. Bills-Disc. 4.67 4.51 4.35 4.44 5.20 +16 +32 +23 -53

E-06/99pp-107.doc

Exhibit B


Changes in Group Leadership

S&P 500

S&P 500 Year 1997 Year 1998 6 Months 1999 June 1999ECONOMIC SECTOR Weighting Return Rank Return Rank Return Rank Return RankNON-ENERGY MINERALS 0.9 -16.5 17 -6.9 16 28.6* 2 11.2* 2PRODUCER MANUFACTURING 6.7 36.6* 5 19.7 8 17.3* 5 7.8* 5ELECTRONIC TECHNOLOGY 15.7 21.0 14 65.8* 2 25.3* 4 12.6* 1CONSUMER DURABLES 1.9 22.8 12 28.3 6 5.8 14 0.4 14ENERGY MINERALS 5.3 22.0 13 6.7 12 16.4* 6 0.1 15PROCESS INDUSTRIES 3.1 16.3 15 -4.5 15 16.3* 7 3.3 12HEALTH TECHNOLOGY 10.2 48.0* 2 49.2* 4 -0.8 15 4.7 9CONSUMER NON-DURABLES 7.8 30.3 9 11.4 11 -6.2 16 -2.3 17INDUSTRIAL SERVICES 1.1 31.8 8 -28.2 17 35.1* 1 6.4* 6COMMERCIAL SERVICES 0.7 27.1 11 14.3 9 12.2 10 6.0* 7TECHNOLOGY SERVICES 7.0 36.1* 6 74.0* 1 27.3* 3 9.3* 3HEALTH SERVICES 0.9 2.0 16 -1.5 13 -15.9 17 1.7 13CONSUMER SERVICES 4.5 42.0* 4 27.5 7 15.8* 8 5.3 8RETAIL TRADE 6.5 46.0* 3 63.3* 3 10.1 12 9.1* 4TRANSPORTATION 1.0 28.6 10 -2.1 14 9.9 13 -0.3 16UTILITIES 10.9 35.3* 7 40.2* 5 11.2 11 3.7 11FINANCE 15.8 48.8* 1 11.7 10 12.8* 9 4.1 10

UNIVERSE(S&P 500) 100.0 33.2 28.7 12.3 5.5

Groups Outperforming (cap weighted) 7/17 5/17 9/17 7/17 to Total Groups

S&P/BARRA GROWTH 36.4 42.3 11.0 7.1 S&P/BARRA VALUE 30.0 14.8 13.7 3.8

* Group OutperformedSource: Wilshire Associates, Inc.

g:\research\charts\wilshire\Chgs-s&p

Exhibit C

■■■■ Sit Investment Associates, Inc. ■■■■

Year-to- Date 1999 Nasdaq Performance Primarily DrivenBy The Top Ten Issues (thru 06/30/99)

YTDMARKET CLOSING 1999 PERCENTAGE

PERCENT VALUE PRICE TOTAL POINTSYMBOL ISSUE OF INDEX ($ MIL.) 6/30/99 RETURN CONTRIB.

MSFT MICROSOFT CORP 14.5 $460,304.1 $90.188 30.1 4.04CSCO CISCO SYSTEMS INC 6.6 209,488.6 64.438 38.9 2.19INTC INTEL CORP 6.2 197,818.4 59.500 0.4 0.03WCOM MCI WORLDCOM INC 5.0 160,132.8 86.063 19.9 1.01DELL DELL COMPUTER CORP 3.0 94,012.3 37.000 1.1 0.04ORCL ORACLE CORP 1.7 53,440.6 37.125 29.1 0.47SUNW SUN MICROSYSTEMS INC 1.7 53,299.8 68.875 60.9 0.78YHOO YAHOO INC 1.2 39,004.5 172.250 45.4 0.41AMGN AMGEN INC 1.0 31,167.8 60.875 16.4 0.17AMAT APPLIED MATERIALS INC 0.9 27,735.5 73.875 73.1 0.44

AVERAGE 132,640.4 31.5

TOTAL 41.7 9.58

NASDAQ COMPOSITE % RETURN 22.5

Source: FactSet Data Systems Inc., 7/5/99

Exhibit D

�� Sit Investment Associates, Inc. ��

U.S. Ranked 18TH Among World Equity Markets Through June 1999

PERFORMANCE IN U.S. DOLLARS

DJ Global, Change fromIndexes, US$ 12/31/98 Country

Country on 6/30/99 points percent RankAustralia 163.01 21.99 15.59% 15Austria 103.08 -2.24 -2.13% 23Belgium 231.50 -57.91 -20.01% 33Brazil 251.99 13.40 5.62% 20Canada 169.96 23.72 16.22% 14Chile 164.73 33.79 25.81% 11Denmark 165.86 -24.27 -12.76% 30Finland 781.26 176.74 29.24% 9France 228.56 7.55 3.42% 21Germany 239.93 -8.08 -3.26% 25Greece 318.66 36.66 13.00% 16Hong Kong 272.81 68.75 33.69% 8Indonesia 76.00 35.55 87.89% 1Ireland 284.91 -50.73 -15.11% 31Italy 207.56 -26.86 -11.46% 28Japan 88.56 14.36 19.35% 12Mexico 140.60 51.58 57.94% 3Netherlands 320.46 -25.57 -7.39% 26New Zealand 137.56 8.16 6.31% 19Norway 131.09 14.97 12.89% 17Philippines 161.79 34.50 27.10% 10Portugal 242.64 -55.25 -18.55% 32Singapore 149.74 40.33 36.86% 6South Africa 96.01 25.31 35.80% 7South Korea 103.23 42.00 68.59% 2Spain 249.06 -21.57 -7.97% 27Sweden 298.67 45.21 17.84% 13Switzerland 346.56 -49.37 -12.47% 29Taiwan 168.90 45.61 36.99% 5Thailand 55.90 16.14 40.59% 4United Kingdom 203.48 4.91 2.47% 22United States 1297.31 127.97 10.94% 18Venezuela 38.93 -1.00 -2.50% 24

COMPOSITE INDICES

Latin America 163.23 34.90 27.20%Europe/Africa(ex S.Africa) 239.42 -4.97 -2.03%Asia/Pacific 99.89 18.86 23.28%World (ex U.S.) 156.97 9.95 6.77%

g:\research\charts\dow jones global indexes.xls

Source: DowJones Company, July 1, 1999

Exhibit E


S&P 500 Total Returns By Market Cap Have Reversed Their Six Quarter Trend

Note: Total Return on Index, September 1997 - March 1999 = 39.04%

Note: Total Return on Index, March 1999 - June 1999 = 6.94%

Total Return By Quintiles of S&P 500 Market Cap, September 1997 - March 31, 1999

-8%

5%

17%

21%

51%

-10% -5% 0% 5% 10% 15% 20% 25% 30% 35% 40% 45% 50% 55%

<$2,951

$2,951 - $5,272

$5,272 - $8,752

$8,752 - $17,663

>$17,663

Total Return

Market Cap Quintile ($mil)

Total Return By Quintiles of S&P 500 Market Cap, March 31, 1999 - June 30, 1999

26%

16%

13%

8%

5%

-10% -5% 0% 5% 10% 15% 20% 25% 30% 35% 40% 45% 50% 55%

<$2,841

$2,841 - $5,696

$5,696 - $10,362

$10,362 - $23,154

>$23,154

Total Return

Market Cap Quintile ($mil)

E-06/99mcap-perf Source: Wilshire Associates, Inc., July 1999

Exhibit F


Year-Over-Year Changes in Real GDP Components(1)

1st Qtr.1996

2nd Qtr.1996

3rd Qtr.1996

4th Qtr.1996

1st Qtr.1997

2nd Qtr.1997

3rd Qtr.1997

4th Qtr.1997

1st Qtr.1998

2rd Qtr.1998

3rd Qtr.1998

4th Qtr.1998

1st Qtr.1999

Personal Consumption Expend. 3.0% 3.3% 3.1% 3.3% 3.4% 2.7% 3.7% 3.7% 4.2% 5.3% 4.7% 5.3% 5.5%Non-Residential Fixed Invest. 6.6 7.6 11.0 11.7 10.2 11.0 11.7 9.8 13.5 13.2 8.7 11.9 8.6Residential Investment 3.1 12.3 9.2 5.4 3.9 0.8 1.2 4.2 7.2 9.4 12.1 12.6 12.5Inventory Change (2) -- ++ ++ ++ ++ ++ + ++ ++ -- + -- --Net Exports (3) 12.8 1.1 -61.4 -28.2 -27.2 -16.0 -1.6 -55.4 -63.4 -86.3 -81.9 -67.8 -52.9 Exports 9.1 9.2 5.4 10.3 11.5 14.0 16.3 9.6 6.7 0.9 -2.3 1.1 0.5 Imports 6.4 7.9 10.8 11.8 13.1 14.2 14.2 14.0 13.3 11.1 8.3 9.7 9.2Government Spending -0.1 1.3 1.1 2.1 1.8 0.6 1.4 1.4 0.4 0.8 0.8 1.6 3.2

TOTAL REAL GDP 2.4% 3.9% 3.5% 3.9% 4.1% 3.6% 4.1% 3.8% 4.2% 3.6% 3.5% 4.3% 4.0%

M e m o

Pers. Cons. Exp. Plus Res. Invs. 3.0 3.8 3.4 3.4 3.5 2.6 3.6 3.7 4.3 5.5 5.1 5.7 5.9After-tax Corporate Profits 9.4 7.8 5.2 5.5 6.2 7.3 11.1 5.5 1.2 -1.2 -5.4 -3.0 4.7

Notes:

(1) FIGURES USE CHAIN-WEIGHTED GDP METHODOLOGY.(2) PERCENTAGE CHANGES ARE NOT ALWAYS MEANINGFUL; + OR - DENOTES DIRECTION OF CHANGE.(3) A DECREASE IN THE TRADE DEFICIT HAS A POSITIVE IMPACT ON ECONOMIC GROWTH.

E-06/99

pp-106-a.doc

Exhibit H� Sit Investment Associates, Inc. ��

Broad-Based Inflation Measures Have Been Rising Recently

`

Source: ISI Group & Department of Labor, June 11 & 16, 1999E-6/99

Consumer Price InflationYear-over-year change in prices paid by consumers

0

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

'60 '61 '62 '63 '64 '65 '66 '67 '68 '69 '70 '71 '72 '73 '74 '75 '76 '77 '78 '79 '80 '81 '82 '83 '84 '85 '86 '87 '88 '89 '90 '91 '92 '93 '94 '95 '96 '97 '98 '99

All Items

Core Rate

All: +2.1%

Core: +2.0%

Producer Price InflationYear-over-year change in prices paid forfinished goods by manufacturers

-4

-2

0

2

4

6

8

10

12

14

16

18

20

'60 '61 '62 '63 '64 '65 '66 '67 '68 '69 '70 '71 '72 '73 '74 '75 '76 '77 '78 '79 '80 '81 '82 '83 '84 '85 '86 '87 '88 '89 '90 '91 '92 '93 '94 '95 '96 '97 '98 '99

All Items

Core Rate

All: +1.4%

Core: +1.7%

Exhibit I■ Sit Investment Associates, Inc. ■

NAPM Index Indicates Moderately Expanding Manufacturing Sector And The Prices Paid Index Has Moved Up Sharply From December 1998 Lows

30.0

40.0

50.0

60.0

70.0

80.0

90.0

12/85 12/86 12/87 12/88 12/89 12/90 12/91 12/92 12/93 12/94 12/95 12/96 12/97 12/98 12/99

NAPM IndexPrices Paid

57.0

53.5

Expansion

Contraction

Exhibit J


Economic Assumptions

1997 1998 19991Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2QE 3QE 4QE

QUARTERLY DATA (% CHANGE)

Real GDP (New) 4.2 4.0 4.2 3.0 5.5 1.8 3.7 6.0 4.3 3.3 3.0 3.0(Qtr. to Qtr. Ann.)

S&P 500 Reported Profits 16.9 3.1 0.8 -9.3* -1.7 -5.5 -8.9 -4.3 6.5 6.2 17.6 16.7 (Year-over-Year)Consumer Price Index 2.9 2.3 2.2 1.9 1.5 1.6 1.5 1.5 1.7 2.2 2.3 2.2

(Year-over-Year)

LEVELS (QUARTERLY AVERAGE)

Unemployment Rate 5.3 4.9 4.9 4.7 4.7 4.4 4.6 4.4 4.3 4.3 4.3 4.3Prime Rate 8.3 8.5 8.5 8.5 8.5 8.5 8.5 7.9 7.8 7.8 8.0 8.013-week Treasury Bills-Disc. 5.1 5.1 5.0 5.1 5.1 5.0 4.8 4.3 4.4 4.4 4.6 4.710-year Treasury Bonds-Yield 6.6 6.7 6.2 5.9 5.6 5.6 5.2 4.7 5.0 5.5 5.8 5.8

* RESULTS IMPACTED BY WRITE-OFFS

E-06/99

pp-100.doc

Exhibit K


Dollar Exchange Rate Trends Versus Major Currencies

1 9 9 6 1 9 9 7 1 9 9 8 1 9 9 9

ExchangeRate

Year-Over-Year% Change

6-MonthRate of ChangeAnnualized

ExchangeRate



ExchangeRate



ExchangeRate



January 84.32 -0.8% 13.9% 88.03 4.4% 6.3% 96.37 9.5% 11.0% 92.37 -4.2% -14.0%February 84.59 0.6 7.8 90.71 7.2 13.9 95.39 5.2 4.6 93.76 -1.7 -14.3March 84.51 4.3 3.9 91.43 8.2 13.9 95.83 4.8 6.2 95.69 -0.1 -2.7April 85.01 8.6 7.0 92.58 8.9 15.7 96.41 4.1 8.8 95.76 -0.7 4.9May 85.44 8.5 7.2 90.88 6.4 13.7 96.88 6.6 8.2 95.79 -1.1 3.3June 85.70 8.9 6.0 90.38 5.5 8.9 98.68 9.2 7.2 96.56 -2.1 6.8July 85.36 8.3 2.5 91.34 7.0 7.5 99.31 8.7 6.1August 84.82 4.2 0.5 93.26 10.0 5.6 100.96 8.3 11.7September 85.48 3.1 2.3 92.93 8.7 3.3 96.99 4.4 2.4October 85.83 4.5 1.9 92.34 7.6 -0.5 93.46 1.2 -6.1November 85.05 3.1 -0.9 93.07 9.4 4.8 94.23 1.2 -5.5December 86.55 4.0 2.0 95.26 10.1 10.8 93.40 -2.0 -10.7

Average 85.22 91.85 96.49 94.99

Note: THE EXCHANGE RATE ABOVE IS AN INDEX OF THE TRADE-WEIGHTED AVERAGE EXCHANGE VALUE OF THE U.S. DOLLAR AGAINST CURRENCIES OF THE G-10 COUNTRIESAND OF THE OTHER COUNTRIES OF THE EURO AREA AND THE AUSTRALIAN DOLLAR.

Source: Federal Reserve Bulletin

E-06/99

pp-105.doc

E-06/99pp-101.doc

Exhibit M


Expected Range Of Future Fixed Income Returns

From June 30, 1999

T I M E H O R I Z O N

6 Months 1 Year 3 Yrs (Ann. Return)

Risk Level/ Representative Issue Interest RateForecast

Terminal Yield TotalReturn

TerminalYield

TotalReturn

TerminalYield

TotalReturn

LOW RISK

2 yr. Constant Mat. Tsy. Pessimistic 6.00% 1.9% 6.00% 4.7% 5.25% 5.8%Present YTM 5.53% Most Likely 5.50 2.8 5.25 6.1 4.50 6.2

Optimistic 4.75 4.2 4.50 7.6 4.00 6.5

MEDIUM RISK

10 yr. Constant Mat. Tsy. Pessimistic 6.50 -2.2 6.50 0.8 5.75 6.0Present YTM 5.80% Most Likely 5.87 2.3 5.75 6.3 4.75 8.3

Optimistic 5.00 9.1 4.75 14.2 4.25 9.5

HIGH RISK

30 yr. Constant Mat. Tsy. Pessimistic 6.75 -6.9 6.75 -3.8 6.00 6.0Present YTM 5.98% Most Likely 6.12 1.0 6.00 5.8 5.00 10.4

Optimistic 5.25 14.0 5.00 21.2 4.50 12.8

Exhibit O�� Sit Investment Associates, Inc. ��

Note: Operating EPS used to calculate P/E after 12/84; Last Month CPI is estimated

Source: S&P, Bureau Of Labor Statistics, Goldman Sachs, & Sit investment Associates, Inc. 7/1/99

INFLATION AND S&P 500 P/E MULTIPLES

5X

7X

9X

11X

13X

15X

17X

19X

21X

23X

25X

27X

29X

63 64 65 66 67 68 69 70 71 72 73 74 75 76 77 78 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99

P/E

Rat

io

0%

2%

4%

6%

8%

10%

12%

14%

16%

18%

20%

P/E

Consumer Price Index

Average P/E

Standard Deviation

Standard Deviation

Yr/

Yr%

Cha

nge

in C

PI

g:\research\charts\PE-INFL copy 070999pp

Exhibit P

■■■■ Sit Investment Associates, Inc. ■■■■

1999 S&P 500 Performance Primarily DrivenBy The largest 20 Stocks * (thru 6/30/99)

F1999 F19996/30/99 MKT P/E P/E YTD

PERCENT CAP @ @ 99 % EPS % TOTALSYMBOL ISSUE OF INDEX ($MIL) 12/98 06/99 GROWTH RETURNAOL AMERICA ONLINE INC 1.1 121,825 #N/A #N/A #N/A 41.8 AIG AMERICAN INTERNATIONAL GR 1.3 148,043 24.3x 29.4x 14.1 21.5 T AT&T CORP 1.6 180,186 18.5x 25.6x -5.1 11.4 BAC BANK OF AMERICA CORP 1.2 129,993 12.6x 15.5x 30.1 23.4 BMY BRISTOL MYERS SQUIBB 1.2 137,892 32.9x 34.4x 14.4 6.2 CSCO CISCO SYSTEMS INC 1.9 209,285 63.5x 86.9x 27.0 38.9 C CITIGROUP INC 1.5 163,650 14.3x 18.0x 49.2 44.2 KO COCA-COLA CO 1.4 160,085 44.8x 44.7x -1.8 -7.0 XON EXXON CORP 1.7 190,429 26.2x 30.4x -4.0 6.6 GE GENERAL ELECTRIC CO 3.2 364,814 32.0x 35.3x 14.4 11.1 INTC INTEL CORP 1.9 209,039 27.4x 25.7x 31.0 0.5 IBM INTL BUSINESS MACHINES COR 2.1 237,744 24.5x 33.5x 17.4 40.5 JNJ JOHNSON & JOHNSON 1.2 131,073 28.3x 32.8x 12.0 17.5 LU LUCENT TECHNOLOGIES INC 1.8 206,901 52.5x 56.3x 39.5 22.8 WCOM MCI WORLDCOM INC 1.5 164,319 36.3x 43.6x #N/A 19.9 MRK MERCK & CO 1.6 177,631 30.0x 30.0x 14.1 0.6 MSFT MICROSOFT CORP 4.1 465,408 58.8x 67.1x 51.4 30.1 PFE PFIZER INC 1.3 145,135 50.3x 44.5x 22.4 -12.4 RD ROYAL DUTCH PET -NY REG 1.2 129,998 26.6x 33.7x 20.4 27.4 WMT WAL-MART STORES 1.9 212,494 37.3x 40.9x 19.1 18.7

TOP 20 TOTAL WEIGHT 34.5TOP 20 EQUAL-WEIGHTED AVERAGE 33.7x 38.3x 20.3 18.2 TOP 20 MEDIAN 30.0x 33.7x 18.2 19.3

NEXT 480 TOTAL WEIGHT 65.5NEXT 480 EQUAL-WEIGHTED AVERAGE 22.0x 24.2x 11.6 13.9 NEXT 480 MEDIAN 17.7x 20.1x 12.9 9.4

TOTAL INDEX WEIGHT 100.0TOTAL INDEX EQUAL-WEIGHTED AVERAGE 22.5x 24.7x 11.9 14.1 TOTAL INDEX MEDIAN 18.0x 20.3x 13.0 10.3

Source: First Call, FactSet Data Systems Inc., and Sit Investment Associates, Inc. 07/02/99

E-7/1/99

g:\research\charts\6moprmo

Exhibit Q■ Sit Investment Associates, Inc. ■

Large, Medium and Small Cap Stock 6-Month Price Momentum

S&P Midcap 6-Month Price Momentum

-25.0-15.0

-5.05.0

15.025.035.0

83

84

85

86

87

88

89

90

91

92

93

94

95

96

97

98

99

%Change

Apr: 18.1 May: 13.0 June: 6.2S&P 500 6-Month Price Momentum

-25

-15

-5

5

15

25

35

83

84

85

86

87

88

89

90

91

92

93

94

95

96

97

98

99

%Change

Apr: 21.5 May: 11.9 June: 11.7

Russell 2000 6-Month Price Momentum

-35

-20

-5

10

25

40

55

83

84

85

86

87

88

89

90

91

92

93

94

95

96

97

98

99

%Change

Apr: 14.5 May: 10.3 June: 8.5

E-06/99pp-103.doc

Exhibit R

� Sit Investment Associates, Inc. �

Stock/Bond Yield Spread

THE S&P 500 YIELD TO MATURITY STOCK/BOND SPREAD

EST’DEPS (A)

CLOSINGPRICE

E/PYIELD

LONG-TERMTREASURIES

ONE-YEARTREASURY

LONG-TERMTREASURIES

ONE-YEARTREASURY

1992 December (Act.) $19.09 $435.71 4.4% 7.4% 3.6% -3.0% 0.8%1993 December (Act.) 21.89 466.45 4.7 6.4 3.6 -1.7 1.11994 December (Act.) 30.61 459.27 6.7 7.9 7.2 -1.2 -0.51995 December (Act.) 33.96 615.93 5.5 5.9 5.1 -0.4 0.41996 December (Act.) 38.73 740.74 5.2 6.6 5.5 -1.4 -0.31997 December (Act.) 39.72 970.43 4.1 5.9 5.5 -1.8 -1.41998 December (Act.) 37.71 1229.23 3.1 5.1 4.5 -2.0 -1.4

1999 EPS1999 January 43.29 1279.64 3.4 5.1 4.5 -1.7 -1.1

February 42.64 1238.33 3.4 5.6 4.9 -2.2 -1.5March 42.66 1286.37 3.3 5.6 4.7 -2.3 -1.4April 42.87 1335.18 3.2 5.7 4.7 -2.5 -1.5May 42.76 1301.84 3.3 5.8 4.9 -2.5 -1.6June 42.96 1372.71 3.1 6.0 5.2 -2.9 -2.1

2000 EPS1999 January 43.18 1279.64 3.4 5.1 4.5 -1.7 -1.1

February 43.50 1238.33 3.5 5.6 4.9 -2.1 -1.4March 44.60 1286.37 3.5 5.6 4.7 -2.1 -1.2April 45.58 1335.18 3.4 5.7 4.7 -2.3 -1.3May 45.69 1301.84 3.5 5.8 4.9 -2.3 -1.4June 46.02 1372.71 3.4 6.0 5.2 -2.6 -1.8

(A) EARNINGS ARE REPORTED E.P.S. (AFTER WRITE-OFFS).

Source: Institutional Brokers Estimate System (ibes) and sit investment associate

Exhibit T


Equity CharacteristicsJune 30, 1999

Large Cap Mid Cap Small CapGrowth (33) Growth (6) Growth (103) S&P 500(1) S&P 500(2)

Earnings Outlook - Strong Growth

1999 Projected Gain +21.8% +25.0% +32.0% +11.4% +6.9%2000 Projected Gain +20.6% +28.0% +33.8% +9.5% +8.2% 5-Year Projected Growth +20.5% +27.9% +35.1% +10.0% +9.0%

Dividend Yield

Equities Only +0.6% +0.2% +0.2% 1.3% 1.3%

Total Fund +0.7% +0.5% +0.4% 1.3% 1.3%

Implied Return

5-Year Growth & Yield -Equity Only +21.0% +28.1% +35.4% +9.3% +8.3%(Assumes no Change in P/E Ratio)

Average Price/Earnings Ratio

1999 Calendar P/E 37.2x 40.2x 44.6x 32.7x 28.3x2000 Calendar P/E 30.8x 31.3x 31.5x 29.8x 26.1x

Beta Level - Risk/Reward Ratio (3)

Equity Only 1.14 1.26 1.31 1.00 1.00

Weighted Average Market Capitalization ($ Billion) $111.859 $10.308 $2.010 $104.500 $104.500

(1) Based on S&P 500 reported earnings(2) Based on S&P 500 earnings prior to write-offs(3) Beta is based on Vestek's fundamental risk model, not the conventional historical beta.

E-6/99jal/portmkt\style_e.xls


MID-CAP STOCK VALUATIONS CONTINUE TO BE ATTRACTIVE

Note: All charts depict relative valuations of Russell Midcap versus S&P 500.

Exhibit V

Relative P/E Ratio - Trailing

0.7

0.8

0.9

1.0

1.1

1.2

1.3

1Q79 1Q82 1Q85 1Q88 1Q91 1Q94 1Q97

Relative P/E Ratio - I/B/E/S Forecast

0.7

0.8

0.9

1.0

1.1

1.2

1Q79 1Q82 1Q85 1Q88 1Q91 1Q94 1Q97

Relative Price-To-Book Ratio

0.5

0.6

0.7

0.8

0.9

1.0

1.1

1Q79 1Q82 1Q85 1Q88 1Q91 1Q94 1Q97

Relative Price-To-Sales Ratio

0.6

0.7

0.8

0.9

1.0

1.1

1Q79 1Q82 1Q85 1Q88 1Q91 1Q94 1Q97

Relative P/E To Growth Rate

0.7

0.8

0.9

1.0

1.1

1Q81 1Q84 1Q87 1Q90 1Q93 1Q96

Source: Frank Russell Co., Prudential Securities, 6/99

Exhibit W


Sit Large Cap Growth PortfolioWeights Versus S&P 500 Index

SIA LargeS&P 500 Cap Over/

ECONOMIC SECTOR Weighting Under WeightNON-ENERGY MINERALS 0.9 -PRODUCER MANUFACTURING 6.7 0ELECTRONIC TECHNOLOGY 15.7 ++CONSUMER DURABLES 1.9 0ENERGY MINERALS 5.3 -PROCESS INDUSTRIES 3.1 -HEALTH TECHNOLOGY 10.2 +CONSUMER NON-DURABLES 7.8 -INDUSTRIAL SERVICES 1.1 0COMMERCIAL SERVICES 0.7 -TECHNOLOGY SERVICES 7.0 +HEALTH SERVICES 0.9 0CONSUMER SERVICES 4.5 +RETAIL TRADE 6.5 +TRANSPORTATION 1.0 0UTILITIES 10.9 -FINANCE 15.8 -

UNIVERSE(S&P 500) 100.0

Source: Wilshire Associates, Inc. and Sit Investment, 6/99

Documents

Domestic Investment Outlook & Strategy · Peter L. Mitchelson, CFA – President David A. Brown, CFA, CPA – Vice President Sit Investment Associates, Inc. 90 South Seventh Street