A Word From The Advisor

We are always mindful that experiencing market declines firsthand is painful, even for the most sophisticated investor. Throughout this period, Oakwood has been diligently focused on the markets, seeking opportunities to improve client portfolios. We believe that the judicious changes that have been made have not only mitigated the downside to some extent but have also positioned portfolios for the months ahead.

The S&P 500 is now 27% below the high it attained in March 2000, just twelve months ago. This means that investors who put $1,000,000 in an S&P 500 index fund a year ago have seen their principal drop to $730,000 over the last twelve months. The S&P 500 has now been in a state of decline for nine consecutive weeks, the longest such streak in over 30 years. Since February 1 it has pulled back a full 20%, (on an intraday low), more than erasing its 3.5% gain in January.

A decline of 20% or more from an interim high is the classic definition of a bear market and the S&P 500 finally exceeded that magic number in February of this year. The S&P 500 has experienced a bear market ten times since World War II and, in every case, it would have been profitable to buy stocks the moment the S&P 500 decline exceeded 20% and hold them for the long term. In other words, buying stocks on bear market pullbacks is a strategy that has rewarded investors handsomely. Unfortunately, that kind of clarity is only achievable with the benefit of hindsight while investors in the present must ponder a myriad of confusing economic, market and psychological factors.

One of these factors is the magnitude of the downturn that has occurred in the technology-laden NASDAQ Composite. By the end of the first quarter of 2001 the Composite had declined a record 66% from its March 2000 high, exceeding its decline in the 1973 - 74 bear market by several percentage points. This means that, in the span of one year, a person investing $1,000,000 in a NASDAQ Composite index would have seen value fall to $340,000, a loss of $660,000 in a period of 12 months. During the same period, the U.S. economy has gone from near perfection to near recession. A year ago economists were opining that Federal Reserve Board (“Fed”) activism may have almost repealed the business cycle and that the combination of comparatively low interest rates, low inflation, declining fiscal deficits, global powerhouse corporations and ownership of the most astounding new technologies since electricity was likely to withstand any economic onslaught. Now Gross Domestic Product (“GDP”) is nearing negative territory and the stock market has suffered these rather serious declines. Investors can be forgiven if they are not yet rushing headlong to put more money into the market, even if buying into bear markets has historically been a great idea.

There’s no doubt that the current environment is unsettling. Not only was virtually no credible economist predicting the magnitude of this slowdown even six months ago but corporate managements were also guiding analysts toward substantially increasing earnings in 2001 in most industries except perhaps oil refining. As the months have progressed it has become clear that S&P 500 earnings will barely increase in 2001, perhaps up 4% or so at best. Earnings estimates have continued to be revised downward at every turn. And the worse the news gets, the more short-term oriented investors become. One Wall Street analyst with whom we recently spoke said, “Nobody wants to hear about my industry. They only want to know whether or not the companies will disappoint the Street when they report the first quarter.” These same analysts were talking confidently about five year earnings projections a year ago. This short-term orientation, born of extreme risk aversion and a healthy dose of the bear market, is typical of investor reaction to downturns and even helps exacerbate them. Such a narrow focus contributes to a lack of good information at a time when perspective is sorely needed. It is frequently at the point of narrowest focus that stock prices reach their lowest points.

Although our outlook for the stock market is more fully developed in the accompanying articles, we expect that the market will continue to be volatile and will continue to build a base. Once a base has been fully established, the market can develop a bias to the upside. Oakwood offers portfolios all along the risk spectrum that can be custom tailored to fit the needs of nearly any investor. While stock market investors did not fare well in the first quarter of 2001, returns on fixed income instruments continued to be positive, reflecting the declining interest rate environment we are experiencing. Oakwood’s Equity Income strategy, while certainly not poised to take full advantage of a technology rally, also enjoyed positive returns for the year 2000.

The kind of downturn the NASDAQ Composite experienced over the last twelve months is an event we would expect to occur only once in a generation. It surely seems as if Mr. Greenspan’s “irrational exuberance” of two years ago has been replaced by equally irrational pessimism. However, an investor who is properly positioned and who understands both his or her own risk tolerance and the risk and return characteristics of the various investment choices has the highest likelihood to weather the storm. In fact, the worst time to alter a well-thought-out investment plan is in the wake of a market decline. It is important not to allow weakness in the market to force you into abandoning solid long term goals. Be patient but only if you are comfortable with your current profile and allow a reasonable time for your objectives to be met. Finally, review your objectives periodically in order to ensure that they can reasonably be met over your investment time frame. On the other hand, if this environment is unduly troublesome to you, please let us know. You have endured a difficult market and we may have solutions that can increase comfort levels.