A Word From The Advisor

Despite disheartening stock market results, many of the factors that could ignite a market rally appear to now be moving into place. However, the market continues to await positive sentiment or some other catalyst to begin a sustained march to the upside. The Federal Reserve Board (“Fed”) has just concluded its sixth interest rate cut in as many months, contributing much needed stimulus to flagging economies worldwide. During the five periods since 1940 that the Fed has cut interest rates six times, the Standard and Poors 500 (“S&P 500”) has returned 22.5% on average in the 12 months immediately following the sixth cut. The Fed does appear to have engineered a soft landing from which we can expect economic growth to accelerate.

Why then are we not experiencing the long awaited rally? While acknowledging that the risk of recession has abated (thank you, Chairman Greenspan), the market continues its torturously short term focus. As earnings disappointments occur, expectations contract and investors who were estimating earnings out to 2005 a year ago are now focused only on the second quarter’s earnings reports. This short-term orientation, multiplied by millions of investors, exacerbates volatility, contributes to wild swings in prices and, from time to time, creates an atmosphere of irrationality in the marketplace.

The market is also concerned that the economic recovery will either be painfully slow or will stall before ever getting off the ground. While six interest rate cuts by the Fed are powerful, interest rates were not excessively high when the Fed began this round of ease, prompting many to worry that the Fed is “pushing on a string” and that the economy won’t react as planned. The market is also worried about advancing weakness in Japan and softness in the European Community.

At Oakwood we have observed all of these factors as part of our day-to-day examination of events that affect investors and investments. While excess volatility can, of course, be damaging, it can also create opportunity for the astute investor and, through careful research and management, we expect to capitalize on selected circumstances for the benefit of client portfolios. We too are concerned that the economic recovery may start out slower than expected but we believe that it will gather momentum as confidence improves and decision makers gain a greater degree of trust in the future. One need look no further than the growth in the money supply to dispel the notion that the Fed is pushing on a string although we too are concerned with the ripple effect of weak conditions abroad.

The 150 years or so of collective investment management industry experience represented at Oakwood’s recent Investment Policy group meeting were brought to bear on identifying the characteristics shared by investors who have successfully weathered multiple market cycle downturns. In no particular order, we ask that you consider the following:

1. Please ensure that your expectations are realistic. Investors who expect the market to immediately experience multiple years with returns in excess of 30% are very likely to be disappointed. More importantly, those who extend risk in order to capture higher returns are likely to lose large amounts of money. While we believe that excellent years are ahead of us in the stock market, it is prudent to participate in those good years with adequate risk control and careful matching of your goals to your investment strategy. NOBODY sold all of their technology stocks at the market high and pressing to get back to that market value in short order is pointless and dangerous. A better approach is to focus on the market value as it stands right now and identify reasonable goals for maximizing that value within appropriate risk parameters.
   
   
2. Please resist any temptation you may have to sell your holdings now. For many reasons, the stock market is more volatile now than it was during much of the 1990s. Volatility can mean big downswings but it can mean large upswings as well. We have updated our study of the impact on stock market returns that results from trying to time one’s way in and out of the market. For the ten year period from 1991 through 2000 the S&P 500 experienced a compound annual rate of return of 17.5%. However, if an investor had tried to time the market and missed the 31 best trading days of that 10 year period the annual return would have been 6.4%, only somewhat better than holding U.S. Treasury Bills for the entire period. As markets have grown more volatile in the last few years it has become even more important to resist the urge to market time. Interestingly, three of the market’s ten best days for the entire ten years occurred in the year 2000, a year when the market declined 9%. Even those investors who were on track for market performance in 2000 would have run considerable risk of shortfall by attempting to time the market.
   
   
   
   
3. Please try to maintain perspective. Since 1942 the only time the S&P 500 has experienced back-to-back negative years was 1973 and 1974, a period of time when we waited in line at gas stations, with inflation reaching double digit levels, combined with a crisis of confidence in our leadership and a fiscal deficit which was enormous, due in large part to years of funding the Vietnam War.
   
   This is not to say that the market can’t turn down two years in a row. But recalling that the market anticipates future events by 4 – 10 months it makes sense that it should soon begin to anticipate the better environment we expect in 2002.
   
   
4. Please try to have patience. If, as Benjamin Disraeli observed, patience is a necessary ingredient of genius, stock market participants should feel absolutely brilliant. The market requires patience of those it rewards and we’ve all had a requisite amount demanded of us lately.

As we offer the foregoing thoughts for your consideration, it is only fair that you know what to expect from us. Please be assured that we are relentlessly focused on the capital markets with a view to maximizing the value of your portfolio within the constraints of prudent investing and your personalized risk parameters. Every professional at Oakwood brings to bear long experience and great expertise to the investment management process. Our current demeanor is one of healthy skepticism increasingly tinged with cautious optimism.

We will resist the tendency to be complacent. Recall that market participants were unworried and happily discounting earnings many years ahead just prior to the major downturn in internet and technology stocks. On the contrary, we will join other market participants in climbing a “wall of worry,” meaning that we will look both beyond and behind even good news.

Finally, we remain available to discuss your objectives or your risk profile as you deem appropriate. We are aware that this downturn has gone on for some time and may be causing disquietude. If so, please let us know.