Client & Advisor Update - December 28, 2009

This was one of those years that reminded us what a roller coaster the stock market can be – and also of the dangers of conventional thinking.

After the collapse in global financial markets last fall and the resulting pummeling taken by stock markets around the world, the consensus last January was that the worst was behind us. That was a sharp reminder of the danger of conventional thinking – by early March, the market was down by 25%.

At that point, the consensus shifted and there was growing sentiment that we might be entering a long period of economic stagnation; that’s when we heard respected economic forecasters talk about a one-in-five chance of another Depression. It was precisely at this point that the coordinated stimulus spending by governments around the world finally had an impact and we began seeing signs of an economic recovery.

From the market’s bottom on March 9 to the end of November, global markets were up by 50% to 65%.  Thus, 2009 was a sharp reminder that it’s impossible to predict short-term market movements.  Instead, we need to focus on two key questions:

• First, what do the prospects for economic and profit growth look like in the mid term – 12 to 18 months?

• Second, to what extent are these prospects for growth accurately reflected in today’s prices of stocks and bonds?

Mid term prospects for growth

In building portfolios, we start with some core assumptions about the environment going forward.

Despite the recovery in the global economy and markets since the early part of this year, the general sentiment and confidence level among many clients today is quite negative. Much of that is driven by concerns about our economy – still the engine of global growth.

And certainly there are lots of things to worry about in the U.S. – stubbornly high unemployment, a housing market that is still depressed (although no longer in decline) and government deficits.

Without dismissing the short-term challenges facing us, it’s important not to lose sight of some important underlying positives.

In an August cover story on “The case for optimism,” Business Week Magazine highlighted a number of reasons to be positive, among them the impact of technology and free markets in emerging economies.

And recently two respected columnists at the New York Times, Thomas Friedman and David Brooks, weighed in on both the positives in the U.S. and some of the challenges that America faces.

The bottom line is: In the mid term, I believe the positives outweigh the negatives and that the dire predictions about America’s decline are overstated. We may not see the rapid growth we’ve seen in the past but we will see mild growth.

Today’s valuation levels

Being right on our mid term outlook for the economy only helps us if we buy high quality stocks and non correlated assets at attractive prices.  With regard to bonds, at current ten-year rates of about 3.6% it is hard to make a case for US Treasury bonds as anything except a safe harbor against more market disruption.

The bottom line: While high quality stocks and non correlated investments are not as cheap as they were in March, by historical standards they do offer reasonable value.

The right approach for your portfolio

While I spend a great deal of time focusing on the big picture, the most important issue is how we adapt that view to each client’s individual portfolio.

For older clients, we have always been believers in maintaining conservative, balanced portfolios – a stance that was designed to protect our retired clients from the worst of the decline in 2008 and early this year. Today, we are focusing on non correlated assets such as annuities, leasing programs, REIT’s, notes and oil and gas partnerships as we believe that these will provide the best risk-return tradeoffs going forward in the long term.  Keep in mind that these non correlated assets have substantial risks and fees and expenses that must be considered before investing.

In summary, we are cautiously optimistic about the economy’s ability to work through some of the current issues we face – and believe that valuations on quality stocks will make attractive investment in the mid-term. However, non correlated assets such as annuities, leasing programs, REIT’s, notes and oil and gas partnerships are better suited for long term.

We look forward to continuing to work with you in 2010 to help design the portfolio that is right for you.