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January 13, 2009
2008 was a dreadful year for investors. Only one of the thousands
of diversified equity mutual funds had a positive return last
year (and it was less than 1%). A mutual fund that “only” lost
27% in 2008 would place in the top 5% of all funds. As bad as
things were in the United States, with the S&P 500 declining
37%, international returns were even worse. The MSCI EAFE index,
a fair gauge of international returns, was down 45%. Trailing
ten year returns from stocks are negative for the first time
in over sixty years. Fear of losing principal is so strong, short-term
treasury securities offer a yield of close to 0%.
What happened? Remember that until the fourth quarter, the economy
was bad, but not that bad. In short, the world went on a massive
de-leveraging tear where there were plenty of sellers and virtually
no buyers. This caused the price of almost everything to decline.
This wouldn’t be so bad except that the entire
world seemed to do it all at once. As the financial markets seized
up, normal commerce screeched to a halt. Housing continued to
deteriorate, making the 68% of all Americans who own homes feel
poorer. Mortgage-related securities caused hundreds of billions
of dollars of losses wreaking havoc in the banking industry.
On top of everything else that went wrong, late in the year,
the biggest Ponzi scheme in history was exposed resulting in
catastrophic losses for thousands of innocent investors.
The biggest question is where do we go from here? Is the next
20% move in stocks up or down? The real answer is that no one
knows. For many battered investors it is hard to fight the urge
to sell their stocks and return when things settle down. If your
portfolio is causing tremendous internal anguish, you probably
should cut back on stocks. However, it is important to remember
a few things. First, stocks will rebound long before the
economy does, because stock prices are forward looking. By the
time we feel a sigh of relief about the economy, stock prices will
have moved up to reflect this fact. Rememberthat stock prices began
falling last year while most companies were still reporting decent
earnings. While it is almost a certainty that the economy will
struggle for at least the next
few quarters, this doesn’t mean that stocks will follow
the same pattern. Second, if you
want safety, United States government securities yield little
more than 0% for anything
less than one year (and less than 2.5% for ten years). Few people
can live on 0%. Just as
we have seen a housing bubble and a tech stock bubble in the
past decade, we now have a
treasury bubble. Treasury yields are so low, that at the first
signs of stabilization yields
will rise and prices will fall. Investors may accept 0% returns
when they are scared about
the safety of their assets, but remember that the owner of a
ten-year bond yielding 2.5% is
at risk also. If the yield on a ten year bond rises to 5%, the
price of the bond will fall
more than 20%. Thus, what may appear to be safe may not be as
safe as one believes.
We all feel a lot poorer today than we did twelve months ago.
Yet we still believe stocks belong in most investor’s portfolios.
Now is the time to own businesses that aren’t highly
leveraged and are leaders in their industries or serve an attractive
niche. A nice dividend
return is a bonus. Honest, competent management is essential.
Mutual funds should be
run by experienced managers with sound philosophies who aren’t
panicked by what is
going on. Invest in bonds that are of high quality and have relatively
short maturities,
except in the case of certain high-yield securities which have
been overly punished in the
flight to safety. Corporate bonds are more attractively priced
than they have been in
many years.
All in all, we enter 2009 quite humbled by the markets. We don’t
see the storm clouds
lifting as of yet, but we believe the sun will eventually shine.
As always, we are here to
talk with you and we greatly appreciate your business. Thank
you for your support.
Mark Hughes Larry
Judge Rob
Noyes Ric
Ordway
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