July 2006

Portfolio Comments

Market View

Dorato Services

The Library: articles by Steve TeSelle

Portfolio Comments

Stock market volatility often leads to lower prices, and this period has been no exception. From May 9 through June 22, the S&P500 is down 6%; the French index is down 10%; Japan down 12%; and India down 18%.

During turbulent times, you can feel as though you should be doing something: buying or selling or yelling. But generally, the best thing to do is sit tight. As far as I can tell, the only people who enjoy volatility are the ones who think long-term investing means you hold onto a stock until lunchtime. For the rest of us, volatility is an annoyance. It doesn’t need to be anything more than that unless we start selling stocks, too, in order to feel as though we’re taking the bull by the horns or the bear by the paws.

The only exception to the ‘sit-tight’ rule is if we have indiscriminate selling, when many investors are suddenly afraid to own any stocks at all. In that case, I may be able to make a few changes to your portfolio that would increase your expected return. When other investors are running for the door, they invariably leave behind plates of perfectly good food.

I don’t think that we have fire-sale prices yet, and I don’t expect that to occur. Prices are still within the range of reasonable, rather than at an extreme. But if stocks continue to fall, rather than getting nervous, I’ll be looking to take advantage of what other investors are kind enough to leave behind.

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 Market View

Markets suddenly turned more volatile. From the second week in May to the middle of June, the S&P500 moved more than one percent in a day ten times. In the year up to then, greater than one percent swings occurred a total of only eight times. And while the US market moved in one and two percent bursts, emerging markets such as India and Brazil moved in three or five or seven percent swings.

Why? Your guess is as good as the people who write those daily stock summaries for the newspaper. Could be people are worried about inflation. Could be people are worried about the economy. Whatever the cause, people do seem to be more worried. Ironically, this comes at a time when countries such as Germany and Japan seem to be on the mend, and the outlook for developing countries is still strong.

Volatility isn’t necessarily bad. Living through a period of volatility is no fun, but it usually means investors are reconsidering the value of their investments. And it usually means that stocks can subsequently achieve decent returns.

Remember, just a few years ago, when inflation was almost pronounced dead? It’s not. Inflation is currently in the 2-3% range, at the high end of what the Federal Reserve considers acceptable. That’s why the Federal Reserve has to talk tough about fighting it, and why we may see one or two more increases in short-term rates.

Even with inflation anxiety, bonds have held their value. Given the gyrations of the various stock markets, that’s nothing to sneeze at. As a reminder, you should have some amount of bonds in your portfolio - even if, in mutual fund marketing speak, you’re an aggressive investor. Because bonds and stocks do not move together, having some bonds in your portfolio reduces your portfolio’s fluctuations. The trick to building wealth over time is to cut down on those nasty losses; and smaller fluctuations mean smaller losses.

The dollar weakened against the Euro and the Yen by about 10% since the beginning of the year, then strengthened 3-4% when people got nervous. If you have foreign investments, a weaker dollar will help your return. A weaker dollar will also help US companies that export, and those with global operations, as those foreign earnings will translate into more dollars.

Who might suffer? Probably some of the retailers. Many of them import, and those imports will cost more. Either they raise prices and pass on the higher costs, and risk losing sales, or they keep their prices steady and their profits suffer. Either way, it’s not a pretty picture.

I still expect decent stock returns for the year, in the 5-10% range. Within the US market, technology and health care seem to offer the highest rewards.

As always, I recommend investors stick to their long-term asset allocation strategies and retain a diversified stock portfolio.

Sources: Economist, Wall Street Journal, Value Line

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The Library: articles by Steve TeSelle:

• College Savings Options
• Retirement: What's the Target?
• Fun Facts About Taxes
• Understanding Your Finances
• Risk, Anyone?
• A Primer on Asset Allocation
• Debt, Friend or Foe?
• Life Insurance Basics
• Calculating a Return
• Estate Planning
• Index Investing
• Financial Checklist

To read them online, simply click on the title. To obtain a printed copy, please call us at 303-733-4999, or e-mail me at steselle@doratocapital.com.

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"I like a stampede as much as the next guy, Ned, but I'm a contrarian investor now."

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