Sector Performance Report 3-31-07

The utilities sector posted the strongest 12 month trailing return of nearly 28%, followed closely by the telecom sector at 24% annual return. The worst performing US sector in the past 12 months was the IT sector at just under a 3% total return.

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Market Summary

A recent Wall Street Journal article depicted investors riding on a rollercoaster called the “Volatiler”. Quite appropriate, since the S&P 500, like most roller coasters, ended in the same location it started. The first quarter of 2007 moved up over 2% and down over 3%, more than a 5% delta, much like the “Volatiler”. In contrast the EAFE Index (a market value weighted index of the largest companies in Europe, Australia, and the Far East designed to measure overall conditions of overseas markets) posted another excellent quarter, up 3.5%. Over the past 12 months, the S&P 500 and the EAFE were up 11.8% and 20% respectively.

Going forward, the market is likely to remain quite choppy. The housing market slowdown, which may be worsened by the growing debacle in the sub-prime mortgage market and tighter lending standards, is of chief concern to the market. Warnings by homebuilders and new federal investigations into lending practices have the market on edge as do concerns that these problems may spread into the broader economy. Further, a spike in oil prices amid growing Iranian tensions is adding fuel to the fire. These inflationary pressures are likely to keep the Federal Reserve in limbo in the short run but may allow for a drop in rates by the end of the year.

Volatility in the market creates ideal conditions for portfolio rebalancing. Make sure you do not have all your eggs in one basket or you may find yourself in the hole!

Book Review: The Black Swan

The Black Swan: The Impact of the Highly Improbable
By Nassim Nicholas Taleb

Four hundred years ago, Francis Bacon warned that our minds are wired to deceive us. "Beware the fallacies into which undisciplined thinkers most easily fall--they are the real distorting prisms of human nature." Chief among them: "Assuming more order than exists in chaotic nature." Now consider the typical stock market report: "Today investors bid shares down out of concern over Iranian oil production." Sigh. We're still doing it.

Our brains are wired for narrative, not statistical uncertainty. And so we tell ourselves simple stories to explain complex thing we don't--and, most importantly, can't--know. The truth is that we have no idea why stock markets go up or down on any given day, and whatever reason we give is sure to be grossly simplified, if not flat out wrong.

Nassim Nicholas Taleb first made this argument in Fooled by Randomness, an engaging look at the history and reasons for our predilection for self-deception when it comes to statistics. Now, in The Black Swan: the Impact of the Highly Improbable, he focuses on that most dismal of sciences, predicting the future. Forecasting is not just at the heart of Wall Street, but it’s something each of us does every time we make an insurance payment or strap on a seat belt.

The problem, Nassim explains, is that we place too much weight on the odds that past events will repeat (diligently trying to follow the path of the "millionaire next door," when unrepeatable chance is a better explanation). Instead, the really important events are rare and unpredictable. He calls them Black Swans, which is a reference to a 17th century philosophical thought experiment. In Europe all anyone had ever seen were white swans; indeed, "all swans are white" had long been used as the standard example of a scientific truth. So what was the chance of seeing a black one? Impossible to calculate, or at least they were until 1697, when explorers found Cygnus atratus in Australia.

Nassim argues that most of the really big events in our world are rare and unpredictable, and thus trying to extract generalizable stories to explain them may be emotionally satisfying, but it's practically useless. September 11th is one such example, and stock market crashes are another. Or, as he puts it, "History does not crawl, it jumps." Our assumptions grow out of the bell-curve predictability of what he calls "Mediocristan," while our world is really shaped by the wild powerlaw swings of "Extremistan."

In full disclosure, I'm a long admirer of Taleb's work and a few of my comments on drafts found their way into the book. I, too, look at the world through the powerlaw lens, and I too find that it reveals how many of our assumptions are wrong. But Taleb takes this to a new level with a delightful romp through history, economics, and the frailties of human nature.

Credit: Chris Anderson

Asset Allocation: Avoid Picking Individual Stocks

I recently attended an economic presentation by Dr. Gene Fama of the University of Chicago, the leading champion of the efficient market theory and a favorite to win the Nobel Peace prize one day. Dr. Fama stated, “I’d compare stock pickers to astrologists, but I do not want to bad-mouth astrologists.”

One of the biggest mistakes individual investors make is following the advice of the media, a stock broker or money manager on individual stock picking. Why is it that every year Money Magazine selects its top stocks to beat the market and never reports on how they performed the next? Why does Fortune Magazine list different “top money managers” each year and forgets to tell you about their selections of previous years. Why does CNBC run experts with differing opinions 14 hours per day and never tracks their recommendations? The reason is that it sells magazines and ad space!

Let’s look at some of Fortune Magazine’s “All Star” stock picks in their July 2000 edition:

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In the January 2000 issue of Time Magazine, Amazon founder Jeff Bezos was declared man of the year. If you purchased Amazon in January of 2000, your stock lost 75% of its value within a year. This year’s person of the year is “you”! The ramifications of this prediction are a little scary. This phenomenon is not limited to just stock picking either. Money Magazine’s “timely” June 2005 issue touted the virtues of buying residential real estate and denied the existence of any housing bubble. According to the magazine, “These days, everybody knows someone who has made money in real estate, and rising prices have become a national preoccupation. We are a wealthier country than we have ever been, so it makes sense that we would spend more on real estate, pushing prices to new highs. After a l l , F e d e r a l R e s e r ve Chief Alan Greenspan complained of "irrational exuberance" in 1996, more than three years before the stock boom ended in tears.”

I feel truly sorry for those that followed that advice. Once a financial trend hits the main stream, it’s generally time to get out. Over the past 20 years, money managers failed to beat their market bench marks over 80% of the time. This leaves just 20% of money managers or stock pickers beating the market on an annual basis. The problem is that different managers beat the market each year.

There is very little consistency with these managers beating the market from year to year. On the occasion that one of these star managers floats to the top, so much money flows into their portfolio that it creates a drag on future investment performance. Maybe if we can locate these emerging managers, we can beat the market more consistently. So how do we find these guys? When Peter Lynch, arguably one of the best stock pickers ever, retired from his job as manager of Fidelity Magellan, he and the executives at Fidelity spent an enormous amount of time and money scouring the investment world for the best money manager. Three money managers later, Fidelity Magellan has underperformed its bench mark index by exactly the management
fee it charges. What makes us think we can pick a good portfolio manager when Peter Lynch and Fidelity cannot?

What about the great stock picker Warren Buffet? According to Buffet, he may find 2 or 3 good stock ideas every couple of years. Mutual fund companies typically hold 150 to 250 stocks. How does a mutual fund manager find 200 good ideas? I guess they simply select 2 good ideas and 198 average ideas. Buffet also inserts himself into the management of the good ideas he selects, a likely boon to his returns. This does not happen in the traditional portfolio managementindustry. So, if we can’t pick stocks that consistently beat the market and we can’t pick managers that consistently beat the market, what should investors do? Stop trying to beat the markets! Put your savings to work and earn a market rate of return. As investors, we are entitled to the market return. Anything less is our own mistake. How do we get this?

In order to answer this, we need to understand some basic facts about what the “market” is and risk. Here is a table showing the typical market asset classes and their performance over the previous ten years.

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As you can see, different asset classes perform differently from year to year. Many times one year’s winner is the next year’s loser. By diversifying among these asset classes in such a way that meets your individual risk tolerance, you can obtain market returns with an appropriate amount of risk. This can be done by purchasing index funds and exchange funds that mirror the asset classes. Now, if we simply select the asset mix that meets risk and return profiles, we can earn the market return and go play golf!

If you need help, don’t hesitate to call. This is our specialty!!!

Real Estate Corner

The real estate market softened considerably during 2006. There have been pockets of depreciation in certain parts of the country and in the higher priced homes. I have seen drops of as much as 15% from recent peaks in the same markets. However, the overall market seems to have stabilized. We have not as yet experienced a significant broad based drop in home prices.

The Mortgage Bankers Association referred to 2006 as “A Normalization of the Housing Market”. In the aggregate, residential real estate seems to have remained roughly the same as a year ago. Home sales were lower by 10%, with new homes falling by 17% and existing homes falling by 8%. (This excludes data from December 2006, which will not be released until the end of January).

According to the Office of Federal Housing Enterprise Oversight, “US Home prices rose in the 3rd quarter, but the rate of appreciation declined significantly and some areas experienced declines. Nationally, home prices were 7.73% higher in the third quarter of 2006 than they were a year earlier.” Idaho topped the list of states with an annual increase of 17.5%, while Michigan, home of Ford and GM, was at the bottom with a slight price decline.

In our local market, the average sales prices of homes in Northern Virginia declined 4% in November compared to a year ago. Homes are also taking longer to sell, averaging 85 days on the market compared to just 35 days a year ago. There were also 30% fewer home sales than a year ago. One of the most interesting phenomenons is the switch from a seller’s market to a buyer’s market. Over the past 5 years, buyers have been paying on average 2% less than the listed price. However, in 2006, this number has increased to 7%.

I expect 2007 to be a true buyers market with sellers willing to provide handsome concessions and lower prices to entice buyers. If rates move north of 6.75%, there may be some true housing depreciation. Most economists however, are still expecting a soft real estate landing with a flat market over the next 2 years.

Sector Performance Report 12/31/06

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Market Summary

2006 turned out to be a terrific year for most investors. Stocks rose more than Wall Street analysts predicted after the Fed. halted 2 years of interest rate increases while energy prices fell 22% from their high in July. The S & P 500 was up 14%, the Dow Jones Industrial Average was up 16% and the NASDAQ moved up 9% for the year. Overall, the equities market performed remarkably well in spite of pressures from higher interest rates and energy prices.

In writing this newsletter, I reviewed my predictions from last year and would like to report the results. I suggested large cap stocks with high dividends or “value stocks” would have a big year. In fact, this asset class was up 23%. I also suggested the Fed would stop raising rates after another 1/2% increase. The Fed did stop, but not until after raising short-term rates another 1%. I suggested the energy and real estate sectors were due for a correction. I was way off here. The energy sector posted a strong 21% return beating the S & P 500 by 7%.

The real estate market was mixed. Commercial real estate continued to post excellent returns while residential real estate fell considerably. As for mortgage rates, I predicted a 1/2 % increase in rates. As predicted, 30 year fixed rates mortgages did increase from 6.25% to 6.75%; however, they came back down to 6.25% ending the year where they started.

For the record, my predictions are done mainly for sport. Predicting short term economic trends is more luck than skill and my predictions should not be acted upon at home. Market timing should never be substituted for sound asset allocation and rebalancing strategies.

Expectations for 2007 That thought in mind, let’s see what may be in store for 2007. As the current economic cycle matures, I expect larger stocks to perform better. This sector has been an underperformer since the late 90’s and is due for a good year. 2007 may be the year the S&P 500 and Large Cap growth stocks out perform all other asset classes. I also expect Healthcare and Financials to be in the top US sectors. As for rates, the market is pointing to a 50 basis point drop by the Fed and mortgage rates to lower by about 1/2%

Book Review: The Alchemist

The Alchemist: A Fable About Following Your Dream by Paulo Coelho

Paulo Coelho's enchanting novel has inspired millions of delighted readers around the world. This story, dazzling in its simplicity and wisdom, is about an Andalusian shepherd boy named Santiago who ventures from his homeland in Spain to North Africa in search of a treasure buried in the Pyramids.

Along the way he meets a beautiful, young gypsy woman, a man who calls himself a king, and an alchemist, all of whom point Santiago in the direction of his quest. No one knows what the treasure is or if Santiago can surmount the obstacles along the way through the desert. But what starts out as a boyish adventure to discover exotic places and worldly wealth turns into a quest for the treasures only found within.

Lush, evocative, and deeply humane, Santiago's story is an eternal testament to following our dreams and listening to our hearts. - Taken from www.santjordi-asociados.com

This is an excellent little book about following your heart. Read it with your children and enjoy a wonderful fable. –Michael Rebibo

Retirement Planning

Does Your 401(k) Plan Have All the Elements of a Successful Retirement Plan?

Planning and saving for retirement is a major financial issue for most Americans. We spend decades worrying about whether or not we will have enough money saved for the goal of being financially independent. One of the best tools to improve our odds of successful retirement is our company retirement plan. Since most companies today offer only defined contribution plans (primarily 401(k) and Simple Plans), we will focus on the key aspects of successful defined contribution plans. This is written for the plan sponsor/trustee, usually the owner or top executive in smaller businesses or the human resources director in larger organizations.


The key elements of a successful Retirement Plan are as follows:

Compliance: A successful retirement plan is in compliance with all necessary testing and government filings, distributes all legally required information to participants first and is administered exactly as the plan document is written. The fiduciaries of the plan, the trustees, members of the plan committee and members of the board of directors, meet the fiduciary requirements mandated under ERISA, the federal law that regulates retirement plans. Fiduciaries must exercise the “care, skill, prudence, and diligence” of an experienced fiduciary in fulfilling his/her duties. Fiduciaries are responsible for what they “should know” about investments-as opposed to what they actually know. More than one court has said, “A pure heart and empty head are not enough”. All plans should have an Investment Policy Statement which will assist the fiduciaries in meeting these stringent requirements.

Participation: This is the litmus test for a successful 401(k) plan. Average participation rates vary by industry and wage levels. The overall participation rate across all industries is about 75%. A successful plan will have higher than average participation rates.

Savings Percentage: The more money people put aside in their 401(k), the greater their chance for a secure retirement. Also, the higher the rate, the easier it is to pass discrimination testing. The overall average employee deferral percentage is between 6% and 8%.

Asset Allocation/Investment Selection: A 401(k) is fundamentally a long term savings and retirement plan. The difference between 6%, 8% and 10% rate of return over 20-, 30- and 40- years can be enormous. Asset allocation, or the relative percentage a participant puts into cash, bonds, and stock, is the fundamental investment decision and can have a huge impact on the funds available for retirement. Each plan must have the appropriate investment classes available to meet the Prudent Investor standards.

Investment Performance: In addition to having the appropriate investment options, the absolute and relative performance of the investments must be monitored at least annually against the appropriate benchmarks. In addition, high cost plans drain away returns from participants’ accounts.

Costs and Administrative Efficiency: It is the plan sponsor’s fiduciary duty to insure that the fees of the plan are “reasonable”. Many plans have fees buried inside the underlining mutual fund investments that increase overall fund costs. In order to know whether or not a plan's costs are reasonable, the plan sponsor must know what the actual costs are. This requires some due diligence on the part of the sponsor. An annual review of plan expenses will assist in determining reasonability.

Ask yourself the following questions:

1. Was your retirement plan provided to you by an objective party other than an insurance company, investment brokerage house or other commission oriented firm?

2. Are you happy with the performance of the funds in your plan? Are you or your investment advisor able to select from the best funds available in the market today? Are you or your advisor reviewing the performance of your funds and comparing them to their corresponding bench marks on an annual basis?

3. Have you reviewed the total costs of your retirement plan, both disclosed and undisclosed?

4. Does your retirement plan provider acknowledge the fiduciary responsibility under ERISA sections 3(38) and 405(d)(1)?

5. Is your overall participation rate in excess of 75%?

6. Is your overall savings rate in excess of 6%?

7. Does your plan have an Investment Policy Statement? Is this reviewed annually?

If you answered no to any of the above questions, consider having 1st Portfolio provide you or your company with a qualified plan review. We help plan sponsors make their plans more successful by increasing participation and savings rates and helping participants allocate their assets in an age and risk-appropriate manner. We also assist plan sponsors in meeting their fiduciary obligations by assisting them with the investment selection and monitoring process as well as in controlling and lowering the total cost of the plan. We provide our business services in a transparent manner openly discussing our fees and avoiding any real or perceived conflicts of interest. We act as fiduciaries to the plan, always keeping the interests of the participants and their beneficiaries as our top priority.

Children & Money: Instill the Value of a Dollar at an Early Age

Most children today do not actually know where money comes from. Think about how different the world is from our childhood. While technology has greatly simplified our monetary transactions, it has created a significant disconnect for our children. Items are seldom purchased with cash; rather we use a magical plastic card to fulfill their material wants. Paychecks are deposited automatically into banking accounts, while money appears to be earned simply by typing a secret code into an Automated Teller Machine. Bills are paid electronically or automatically. To top it all off, there is very little taught in school on the subject of money. How are our children to learn?

When my son was five, we ordered him a scooter off the internet. As soon as I completed the transaction, he sprinted down to the mailbox to look inside. He came back disappointed to learn that the scooter had not magically appeared in the mailbox. I had to explain not only how the financial transaction occurred, but also how the order was fulfilled and then eventually mailed to our home. The instant gratification world our children and most of us live in does not prepare us for the long-term focus required to manage our money and create wealth and prosperity.

What can we do? Here are a few ideas to get you started:

1. Break the spending habit.

2. Explain how money flows through the economy. For example, “Our money is earned by creating some sort of value in our community. The greater the value created, the greater the money earned. This money is generally deposited directly into our account via electronic credits. Some of the money earned is immediately saved in a different investment account for our future. Some of the money is given to our favorite charities and/or our religious organizations. What is left is ours to spend on our way of living. We use credit cards to buy things but pay them off each month with the money we earn. If we spend too much, we have to pay the credit card company interest. This makes it harder for us to pay our expenses the next month”.

3. Consider replacing the allowance, an “entitlement concept”, with specific payments for specific services. In other words, let them earn their “allowance”. One of my clients implemented this with his children. The children asked if they were able to reduce the household utility bills by a percentage, could they keep 50% of the savings. Although the kids wanted to eat dinner in the dark and kept turning the lights out on their parents, they were able to cut the bills by $30 per month and kept $15 for themselves!

4. Open a savings account with their money. You can take them down to the local bank or better yet, open a mutual fund.

5. Teach them about interest and compounding! After completing the above step, your children will truly begin to understand this.

6. With the exception of birthdays and holidays, require your children to buy all or part of the items they really want. Teaching your children to earn money and buy the things the want will help them to develop the skills that will last them a lifetime.

7. Suggest they begin giving some of their savings to charity. If possible, let them experience your giving directly.

8. Teach them that it’s a “round world” that we live in. The more you give, the more get. Another similar concept is to “Pay it Forward”.

9. Together, learn how to sell things on eBay. This will provide them with many valuable tools that will help them in the future.

10. Teach them the importance of planning for their future. As we all know, a failure to plan is a plan to fail. Encourage them to save money for their future. If they are old enough to earn money outside the home, have them open a Roth IRA. Have them save up for the really big things they want. If you have your child save up for that new X-Box, they will develop a sense of accomplishment, take better care of their belongings and begin to appreciate the value of a dollar.

Market Summary

The legendary Dow Jones Industrial Average Index reached a record high of 11,750 in September. It reached this magical peak only for a few seconds during the day and closed below the record. In fact, if you take inflation in to account, we are still a long way from a record. The DJIA index would need to be around 13,000 if you adjusted for inflation. You need to go back to January of 2000, during the peak of the dot com era, to find the market in a similar range. Today’s record comes with an abundance of caution. Investors and consumers share concerns over the high cost of energy, the war in Iraq and a weakening real estate market that threatens to knock the footings off the economy and send us into recession.

As usual, there is very little consensus as to whether we will pierce through this long standing market top into new higher territory in the months and years to come, or will we plunge into recession as we did in 2001 after the last time we reached this record. What we do know is this: relative to company earnings, the prices of US stocks as a whole are considerably cheaper than they were in 2000. In addition, the fall out from the Enron and WorldCom corporate disasters has eliminated a significant amount of corporate waste.

The S&P 500, the index measuring the 500 largest US stocks by their market capitalization was up a 5.2% for the quarter, while the EAFE Index (a market value weighted index of the largest companies in Europe, Australia, and the Far East designed to measure overall conditions of overseas markets) was down -2.92% over the same period. Year to date, the S&P 500 and the EAFE idecies were up 8.79% and 10.06% respectively. Why the big jump? Fed Chair Ben Bernanke and his friends at the Fed finally stopped raising rates. This, coupled with a drop in energy prices created a new market euphoria. Debt payments and energy costs have a huge impact on consumer spending.

Sector Performance Report 9-30-08

The 12 month trailing returns for the energy sector fell to zero while the telecommunications, health and financial sectors rebounded strongly after being in the cellar for a few years. As so often is the case, last year’s winners are this year’s losers.

Book Review: It's Not About the Bike

It's Not About the Bike: My Journey Back to Life
by Lance Armstrong, Sally Jenkins

This is a fantastic read about Armstrong’s struggle with cancer only to recover and win the Tour de France. It’s a great motivational book that shows that if you truly believe, you can accomplish almost anything. –Michael Rebibo, CFP®

Estate Tax Summary

Here is a quick summary of the current federal estate tax laws. Be sure to consult your attorney before taking any recommendations listed below. If you have not updated your will and estate plan within the past few years, make an appointment with your attorney today!

Current tax law concerning federal estate taxes provides an applicable exclusion amount of $2,000,000 per person. This means that each person can give away during their life up to $1,000,000 or at death a combined total of $2,000,000 worth of property, without any taxes being due and payable.

On May 26, 2001, Congress passed “The Economic Growth and Tax Relief Reconciliation Act of 2001,” which provides for the applicable exclusion amount to increase over time as follows:

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Additionally, current federal tax law provides for an unlimited marital deduction. This means that you may transfer an unlimited amount of property between you and your spouse without incurring federal estate taxes. Combining the applicable exclusion amount with the unlimited marital deduction means that a married couple can have a combined estate of $4,000,000, which passes tax-free at the death of the second spouse to die. The tax rate on any amount in excess of $4,000,000 starts at forty-six percent (46%). To ensure utilization of the $2,000,000 applicable exclusion amount, both of you should have property worth at least $2,000,000 held in your own names or revocable trusts and not with rights of survivorship.

A typical plan to fully utilize both $2,000,000.00 applicable exclusion amounts for a married couple is to place $2,000,000.00 in a bypass trust at the death of the first spouse. The bypass trust typically provides that all income is payable to the surviving spouse and the Trustee may invade principal for the spouse’s health, support, maintenance and education. Upon the spouse’s death, the principal is payable to the children outright or in continuing trust, free of any estate tax even on the appreciation of the assets in the credit shelter trust. The balance of the estate in excess of $2,000,000.00 is given outright to the surviving spouse and the surviving spouse, at his or her election, may place this additional inherited amount into his or her own revocable trust. Alternatively, the balance may be held in further trust. Upon the death of the surviving spouse, all of the survivor’s property is passed on to the children, either outright or in a continuing trust. The $2,000,000.00 in the bypass trust create upon the first spouse’s death, together with all appreciation therein, is not taxable again in the surviving spouse’s estate.

Federal Reserve Forum

Interest Rate Hikes, When Will They Stop?
The Federal Reserve has met twice since my last newsletter. After the May 10th meeting, Ben utters the dreaded “inflation” word causing the stock markets to sell off in lock step. Then in June, Ben says, “the moderation in the growth of aggregate demand should help to limit inflation pressures over time”. In other words, the interest rate increases are working. No kidding but when will it stop?

These most recent Fed comments revealed the first hint that we may be nearing the end of the Federal Reserve’s 17 consecutive 1/4 point interest rate increases. (In case you’re wondering, 17 quarter points is 4.25%) For the first time since it began raising rates from a low of 1%, in June of 2004, the Fed didn’t explicitly say another rate increase was under consideration. Currently, the futures market has priced in a 63% chance of a rate hike to 5.5% in August. This would give us a prime rate of 8.5%.

This is 50 basis points below the previous peak Mr. Greenspan set in 2000. In the mean time, the Fed will continue to read the economic tea leaves over the next 45 days. The Bank of Japan and the European Central Bank are set to raise rates in the next thirty days.

How might the current series of rate increases affect you? First, if you’re in the market for a new home or need to refinance, mortgage rates for fixed rate loans should reach 7% in 2007. If you have a home equity loan tied to the prime rate, your interest rate will more than double to somewhere around 8.5%. The popular interest only ARM loans will also double in rate just when the housing market has stalled. This may make it difficult to refinance when homes have not appreciated or may have even dropped. The overall impact here may be a loss of value in residential real estate between 10% and 20% from the 2005 peak. Combine this with the increases in gas and other raw materials and you may get a recession in late 2007. However, as with all recessions, we will not know until we have been in one for at least 6 months!

Is there a silver lining? Sure, six month CDS are now paying over 5.5%, nearly 4 times their low back in 2003! Also, market slowdowns generally create great buying opportunities. Remember, the economy works in cycles and we are about five years into the current economic cycle.

Asset Allocation

Buy Low, Sell High – Not As Easy As It Sounds

Small investors seem to continuously chase the market trend and use a strategy I call “recency”: What ever the most recent phenomenon of making money is, follow it. We have seen recency with dot bomb stocks, real estate, emerging markets, gold, etc. These investors are applying reverse market timing. Wait until something gets run up really high, then buy it only to watch it free fall. Then sell it! In other words, “buy high, sell low”.

Why does this happen? Most institutional investors apply an asset management strategy in their portfolios. This means that when one asset class of the portfolio grows beyond the tolerance set by the manager, they sell. It also means when an asset class falls below the tolerance level they buy. Here’s the rub: institutional investors have more money than retail investors. So when a retail investor is following a trend, and the institutional investors are selling what is high, the retail investor becomes the bug and the institutional investor becomes the windshield. So why play this game?

Fasten your seatbelts, do not panic, have patience and follow a long term plan. In its simplest form, asset allocation is a strategy with fixed percentages in cash; bonds both domestic and international, US Equities both large and small, and international stocks both large and small. The portfolio is then rebalanced periodically. This rebalancing process creates the “buy low sell high” discipline! It also removes guessing which generally creates havoc on the portfolio.

A Time For Giving

You don’t need to wait until the holiday season to start thinking of others. Warren Buffet, the world’s second richest man, announced plans to give away 85% of his fortune ($30 billion) to the foundation started by the world’s richest man, Bill Gates. The Bill and Melinda Gates Foundation will then double in size to $60 billion, making it more than twice the size of the next 3 largest foundations combined (Ford Foundation $11 Billion, Lilly Endowment $8 Billion, and Andrew W. Mellon Foundation $5.5 Billion).

Foundations must give away 5% of their assets per year to keep their tax exempt status. Thus, the Gates Foundation will need to give away over $3 billion per year to the causes of their choice. The Foundation has been spending money on research, prevention and treatment for AIDS, tuberculosis, malaria, and vaccine-preventable childhood diseases. It focuses its efforts in developing countries, primarily in Africa and Asia. This leaves plenty of good causes for the rest of us to get involved with.

According to a survey produced by the Giving USA Foundation, Americans gave $200 billion to charities and other non-profits in 2005. In addition, nearly 80% of Americans give to at least one organization at least once per year and the average contribution per family is 2.2% of after tax annual income. That’s only $3,000 per year for a family earning $200,000 per year.

What’s the point of making lots of money and not giving anything back? There are many people who are less fortunate than us, who could benefit from even the smallest donation. And with all of the charities available today, it’s easy to choose one that you feel would best benefit from your help.

Life is short. Don’t be average. Give today!

Market Summary

The 2nd quarter of 2006 was tough for virtually all market segments. The US market and international markets fell in May, but rebounded slightly in June. The S&P 500, the index measuring the 500 largest US stocks by their market capitalization, fell 2.3% for the quarter and the EAFE Index (a market value weighted index of the largest companies in Europe, Australia, and the Far East) declined .26% over the same period. Year to date, the S&P 500 and the EAFE were up 1.8% and 8.94% respectively.

What caused the drop? It started with comments made by new Fed Chair Ben Bernanke following the May 10th Federal Reserve meeting on the subject of inflation. For the first time, Ben did not speak in code as his predecessor Alan Greenspan always had, and actually used the word “inflation” in his speech. This sent the S&P 500 down 5%, while international markets got pounded nearly 10%. Then in June, the markets recovered slightly following comments where Bernanke did not specifically mention rate increases. It is amazing what a few simple words uttered by the Fed can do to world markets. As former Chair Greenspan has said, “I guess I should warn you, if I turn out to be particularly clear, you've probably misunderstood what I've said”.

Sector Performance Report 6/30/06

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Book Review: Unconventional Success

Unconventional Success: A Fundamental Approach to Personal Investment
By David F. Swensen

Swensen, CIO of Yale University and the author of Pioneering Portfolio Management, reveals why the mutual fund industry as a whole does a disservice to the individual investor. Soft money, 12b-1 fees, overtrading, market timing, and other management practices lower performance and virtually guarantee that most mutual fund returns will fall short of their benchmark, such as the S&P 500.

Furthermore, for-profit mutual fund companies have a fiduciary obligation to their stockholders, not to their investors, and this relationship "inevitably resolves in favor of the bottom line." Swensen is also highly critical of the Morningstar rating system, which only causes investors to chase hot performing funds and managers.

He advises considering alternatives to the for-profit mutual fund industry, including Exchange Traded Funds and not-for-profit financial institutions such as Vanguard and TIAA-CREF. He highly recommends that as an individual, you should play a more active role in your financial future. This includes periodic portfolio evaluation and rebalancing, to ensure that your asset allocation remains diversified and suits your investment time line.

Credit: Booklist