What Would Einstein Say?

Quote of the Week:
"It's not that I'm so smart; it's that I stay with problems longer" - Albert Einstein

Last week, the Wall Street Journal* reported that physicists outside Geneva, Switzerland claim to have fired a stream of tiny, sub-atomic particles 454 miles to Italy at a speed faster than the speed of light. If this is true, it violates and appears to disprove Einstein's theory of relativity, the foundation of modern physics.

According to the Journal article, the particles travelled one 60 billionth of a second faster (yes, really) than the speed of light, which is impossible according to Einstein. So the theory is under attack, and scientists all over the world will be pouring over the data.

You're probably asking how this is related to the markets and your investments. Simple: long held theories are under attack.

Take the investment theory of "buy & hold" for example. When my investment career began in the mid 1970's, I was trained that if an investor simply held quality investments over a long period of time, they would, in all likelihood, profit greatly. My instructors had outstanding data and I believed them. I bought and held quality investments over time, and profited. Our clients generally did, too.

But the "buy & hold" theory has been under attack in recently. In January, 2000, the Standard and Poor's 500 index closed at 1394. Last Friday, it closed at 1136, over 11 1/2 years later. Someone who invested solely in, for example, an index mutual fund mirroring the S&P 500 stock index therefore, did poorly over that period. Not lost on the experts, "buy & hold" is in question.

Thankfully, folks investing not just in stocks, but in diversified portfolios including bonds, money market instruments, real estate, and other investments over those years may have fared much better in many cases, especially if they regularly reviewed and rebalanced their portfolios. If they were fortunate enough to avoid large reductions in account values by being out of equities during precipitous market declines like 2001 and 2008, so much the better.

At JL Davis, we temper the idea of "buy & hold" with careful diversification in other asset classes, like bonds, real estate, money markets and other elements for our clients. Where appropriate, the use of a sell discipline to limit or entirely eliminate equity exposure in down markets may be used. Financial products, like annuities might also be engaged to provide guarantees when appropriate (subject to an issuing company's claims paying ability.) We don't think "buy & hold" should mean "sit and take it!"

Right now, the friends and business associates of many of our great clients are in distress based on recent market declines.

They may be questioning their investment "theories" and those of their advisors. If this is true for a friend or associate of yours, please feel free to have them call us. We've long employed a "sounding board service" which means we will be happy to serve as a sounding board to help guide and direct those close to you, without charge or obligation.**

*http://online.wsj.com/article/SB10001424053111903703604576588662498620624.html?mod=googlenews_wsj



The Markets

Investors did a 180 from the previous week, deciding once again that the risk of global recession and financial contagion was high enough to justify getting rid of equities, commodities, and practically everything else except U.S. Treasuries. A midweek global selloff took the small-cap Russell 2000 to just below its August low; having lost almost 25% since its April 29 high of 865, it has now reentered bear-market territory. The S&P 500 once again dipped below 1,200 and is down almost 17% from its April high, while the Dow is off almost 16% and the Nasdaq almost 14% in the same time period. Gold provided no refuge from the selling as it plummeted almost $150 an ounce, while oil prices turned downward to the $80 per barrel mark. The dollar continued to attract nervous global investors, and 10-year Treasury yields took a 16-basis-point nosedive on Thursday as prices shot up.


Last Week's Headlines

• Let's twist again: The Federal Reserve announced it will sell $400 billion worth of short-term bonds in its portfolio and buy an equal amount of longer maturities. The plan, which echoes a 1960s maneuver called Operation Twist, also will involve reinvesting principal payments on the Fed's agency debt holdings in agency mortgage-backed securities. The move is intended to support economic recovery by keeping already low long-term interest rates really low. The Fed cited concerns about "significant downside risks to the economic outlook, including strains in global financial markets."
• Italy's debt challenges worsened when Standard and Poor's cut its credit rating by one notch, to A, and issued a negative outlook, meaning further cuts are possible. Moody's downgraded eight Greek banks and three U.S. banks, citing uncertainty about the level of government support for "too big to fail" banks in the event of a 2008-style financial crisis.
• The International Monetary Fund cut its forecast for U.S. economic growth this year to 1.5%--1% below its estimate of just three months ago--and to 1.8% for 2012. Globally, the 4% annual growth forecast for both this year and next is down from 2010's 5% growth rate. Even China's 2012 forecast was lowered from 2011's 9.5% to 9%, and its factory sector contracted in September for the third straight month. Meanwhile, the Conference Board's index of leading economic indicators rose 0.3% in August, the third straight month of increases. However, it said weak consumer confidence has increased the possibility of reentering recession.
• Despite tight credit and appraisal problems, existing home sales were up 7.7% in August, according to the National Association of Realtors®. The median sales prices was 5.1% lower than last August, which may have helped push home resales up 18.6% from a year earlier. More purchases were made by investors looking for bargains and a hedge against inflation, according to the NAR, and distressed properties represented 31% of sales.
• President Obama laid out his proposal for deficit reduction, which the administration said would cut the deficit by more than $3 trillion over the next 10 years. The proposal anticipates a $1.5 trillion reduction from raising taxes on higher-income taxpayers by letting the so-called Bush-era tax cuts expire in 2013, limiting some deductions for households earning more than $250,000 a year, and closing some tax loopholes. It also calls for a minimum tax rate for individuals making more than $1 million a year--the "Buffett rule" advocated by billionaire Warren Buffett, who has said his secretary shouldn't pay a higher tax rate than he does. The plan would cut an estimated $580 billion in spending, including cuts in Medicare and Medicaid, largely from changes in payments to drug companies and institutional care providers. It also factors in an estimated $1.1 trillion from winding down the wars in Afghanistan and Iraq, and
$430 billion saved on interest payments.


Eye on the Week Ahead

As a volatile quarter draws to a close, investors will be watching to see how--and how quickly--world financial leaders follow through on their pledge to coordinate efforts to stave off global financial problems. Germany's governing body is scheduled to vote Thursday on expanded powers and financing for the European Financial Stability Facility. Italian bond auctions will be of interest in the wake of S&P's downgrade, and the final report on Q2 U.S. economic growth is due Thursday.
Key dates and data releases: new home sales (9/26); home prices, consumer confidence (9/27); durable goods orders (9/28); final Q2
GDP, weekly new jobless claims (9/29); personal income/spending, consumer sentiment (9/30).


Data source: Includes data provided by Brounes & Associates. All information is based on sources deemed reliable, but no warranty or guarantee is made as to its accuracy or completeness. Neither the information nor any opinion expressed herein constitutes a solicitation for the purchase or sale of any securities, and should not be relied on as financial advice. Past performance is no
guarantee of future results. Equities data reflect price change, not total return.

The Dow Jones Industrial Average (DJIA) is a price-weighted index composed of 30 widely traded blue-chip U.S. common stocks. The S&P 500 is a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy. The NASDAQ Composite Index is a market-value weighted index of all common stocks listed on the NASDAQ stock exchange. The Russell 2000 is a market-cap weighted index composed of 2000 U.S. small-cap common stocks. The Global Dow is an equally weighted index of 150 widely traded blue-chip common stocks worldwide. Market indexes listed are unmanaged and are not available for direct investment.

Prepared by Lee Davis** and Broadridge Investor Communication Solutions, Inc. Copyright 2011