Letter to Clients – 4th Quarter 2009
Dear Clients and Friends,
The move to our new office went well and we settle in more every day. By the time you receive this we should have pictures on the walls and the signs should be up. Hopefully that means no more lost clients trying to find the office! In case you are not familiar with the area, we are in the office building on the northeast corner of 70th and University Ave in Windsor Heights. It is the first building east of the HyVee and across the street from the Apple Valley Shopping Center. Our office is on the first floor and there is plenty of parking in the back.
The markets never stopped, despite my move. We have reached the end of the third quarter in what continues to be a most eventful year for both the markets and the economy. It's also one year since the foundations of Wall Street and the global financial system were shook–when Lehman Brothers collapsed, Merrill Lynch vanished as an independent entity, and AIG was taken over by the government.
In light of that, I thought it might be worthwhile to briefly summarize where we've been this year, where we are today, and the prospects for the period ahead–and also to highlight some lessons from last year's financial collapse.
Where we've been
Seven months ago, in early March, it truly did feel like the world might be coming to an end. Talk of a return to a Great Depression-like economy dominated radio, television, and print. Understandably, fear was rampant, and stocks responded to these nightmarish scenarios by hitting their lowest levels in years, with financials especially hard hit.
Although no one knew it at the time, that turned out to be the bottom. Since then, we've seen the economy move back from the precipice; there is a growing consensus that we'll return to economic growth in the second half of this year. The Economist recently ran a cover story discussing the extent to which the economic recovery was led by Asia.
As a result, we've had a strong recovery in markets. From their bottom in the beginning of March, stock markets are up 50%, retracing a good portion of the losses since last fall.
In the meantime, here are six lessons from the past 12 months:
1. We were reminded of just how volatile stocks can be…
2. …and of the importance of true diversification.
3. Many investors discovered that they're less comfortable with risk and volatility in their portfolio than they had believed.
4. Investors were also reminded of the need to focus on what they can control, understanding cash needs, and thinking through how much risk they can live with to fund thosse needs.
5. In some cases, investors began rethinking retirement plans as a result
6. Finally, we were reminded that in today's world, we need to expect the unexpected.
Where we are today
A year ago, the market was characterized by rampant optimism. The market had hit a new high the previous fall, and any concerns were set aside as minor annoyances.
By contrast, six months ago the market was overwhelmed by absolute pessimism–there was no sign of hope anywhere.
Today, the market is somewhere between those two extremes, and many investors can be characterized as extremely nervous.
As a general rule, I think a certain level of healthy anxiety is positive–what gets investors in trouble is an excess of either optimism or pessimism. While today's mood may be erring on the side of being a bit too pessimistic, I think being cautious in the current market makes sense, provided that prudent caution doesn't cross the line into panicked inertia.
I spend a lot of time listening to the best market minds and to managers who have lived through multiple cycles. I am reassured that most say that they are still finding very good value–not to the extent that they did earlier this year, but still well ahead of what they would have seen a year ago.
The good news is that there are still excellent opportunities for investors who are prepared for short-term volatility. What has changed is the old model of asset allocation. The new model of today includes considering alternative investment classes such as commodities, energy partnerships, leasing programs, and real estate. Several clients have taken advantage of FDIC insured CD's whose interest payments are linked to market performance. Some clients have even instituted short term trading strategies which have a high income potential in a sideways markets.
The outlook going forward
In August, Business Week ran a cover story called "The Case for Optimism." The premise was simple: beyond the issues facing the global economy, there are many underlying positives that give cause for optimism if we look out two or three years and beyond.
Looking that far ahead, there are things happening under the surface that will drive economic growth. Economic growth will drive growth in stock prices. Examples include the positive impact of technology, the recovering housing market, the revitalization of the American economy currently taking place, and the incredible energy from the developing world's educated youth and emerging middle class.
But the road to recovery is not expected to be smooth. Let me close by talking about market volatility.
In 1907, financier J. Pierpoint Morgan singlehandedly averted a banking panic. Later in life, someone asked him his best guess on the direction of markets. His answer: "They will go up and they will go down."
One hundred years later, that's still the best answer to someone looking for a short-term market forecast. No one can predict market movements in the immediate period ahead–all we can do is understand clearly how much short-term volatility we can live with, adjust our portfolios accordingly, and stay focused on the horizon as we deal with the rough waters. No one likes volatility, but for most of us, it's the necessary price for arriving at our ultimate destination.
In the meantime, I am constantly looking for opportunities to realign portfolios to give clients the best trade-off between risk and return. If you would like to discuss your investments in more detail, I am always delighted to have that conversation.
Thank you for the continued opportunity to work together.