February Newsletter – GDP Declines in 4Q 2012

Why We Continue to be so Protective of Your Money

newsStock market gains continue – will they ever correct?

January is just the latest in the sixteen month push upward for the U.S. stock market. Over that period, the S&P 500 has gained 35%. During this rise, we have seen only one monthly period where the markets fell by more than 2%. This type of high-return, low-risk environment is rarely experienced and was last seen in the 2006-2007 period, ending with the market peak in October, 2007.

Investor enthusiasm is following the same pattern we witnessed in the 2006-2007 period. The latest survey of the National Association of Active Investment Managers shows the group has an average exposure to equities of 94%, the second highest reading ever. The same survey showed this group with a commitment of just over 4% at the beginning of this latest run.

Jeremy Siegel, a market historian from the Wharton School of Business, calls for a rise in the Dow Jones to 17,000 in 2013. Abby Joseph Cohen, a 22 year veteran of Goldman Sachs, estimates that even after the 2012 market rally, stocks could rise another 10% to 15% in 2013.

Individual investors are not immune to the enthusiasm. Investors flooded traditional stock funds and exchange traded stock funds with a record $77.4 billion in January, according to TrimTabs.com, which tracks flows in and out of the stock market. January’s inflow was $23.7 billion more than the previous record, set in February 2000. Total investment in government money market mutual funds fell to their lowest level ever.

The rapidly growing “all-in” mentality ignores the reality of market risk. Risk does not have a knob. It cannot be turned down or up at will, and does not disappear simply because it is not realized.

In hindsight, it might be argued that we should have ignored all of the danger signs and been very aggressive with client funds over the last sixteen months. But to do that would have meant breeching our fiduciary commitment to you by putting your hard-earned dollars at a greater level of risk than you prefer.

Remember at the October, 2007 peak, when stock values fell by 50% through early 2009. That fall was the result of risk built up over many previous years, but never realized. It came at a time of high investor confidence. When it was over, the market pundits claimed it was a result of forces no one could have foreseen.

The results of risks realized are almost never felt by these gurus. They move on to the next prognostication, suffering little accountability for their previous costly errors. But you, the investor, do not get a do over. The impact of risks realized show up in your account statements and eventually in your retirement checks.

That is why we are so protective of your investments.


“It’s my belief that the basic economy is strong and that credits outside of the subprime mortgage industry are also strong. The economy will weather this and equity markets will recover nicely.”
Jeremy Siegel, August 22, 2007

-John Whaley, CFA
Partner/Research Director

Gross Domestic Product Declines in 4Q 2012

Year over year growth remains below historical trends.

Our country’s output of domestic goods and services declined on a nominal basis in the fourth quarter of 2012. For the full year, the growth in real output fell below half of the long-term historical growth rate of 3.3%, the rate which can support long-term stock returns of 7% or more.

There are a few bright spots in the numbers:

  • Private non-residential investment rose 9.3% in 2012
  • Investments in equipment and software rose 7.8%
  • Total government expenditures rose only slightly for the second year in a row

One disturbing trend remains in place. In the 2003-2007, government outlays consistently represented between 19.6% and 20% of gross domestic product. In the last five years, over 45 cents of every new dollar of gross domestic product has been supported with federal government outlays. Not a single penny of that increase has come from growth in government revenues! Every new dollar of federal outlays over the last five years has been borrowed from future taxpayers.

The implications for future private sector growth are self-evident.

CXO Advisory Group Grades the Gurus

Prognostication noise in the media – can it be trusted?

Stock market timing guidance surrounds the individual investor constantly. Does such guidance add value to the decision making process?

CXO Advisory Group collected over 6,500 forecasts from 68 “experts” reaching back as far as the end of 1998. They evaluated the predictive value of these forecasts over short periods of time (3 weeks, 9 weeks, 18 weeks and 36 weeks).
Using this methodology, CXO found the predictions were accurate in direction, though not necessarily the magnitude, 47% of the time, only slightly worse that the predictive value of a coin toss.

The value these market analysts bring to your investment strategy should not be dismissed entirely. Many of these predictions are much longer term in nature and cannot be judged over periods shorter than a year.

However, all investors need to make sure that short term changes to a long term investment strategy are not based on the noise coming from the business television channel.

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