June 2000

The second quarter of 2000 was an extremely volatile period in the market. It was not uncommon to see swings of 2-3% in the broad market and 5-10% in the NASDAQ in a single day. During the quarter, NASDAQ - a good proxy for the technology sector - fell from 5000 to nearly 3000 (-40%), and then bounced back above 4000 (+33%). Who needs roller coasters when you can own technology stocks? In comparison, the S&P500 moved within about a 10% range over the same period. For the quarter, the S&P500 lost nearly 3%; NASDAQ fell more than 13%.

Part of the reason for the falling prices was the Federal Reserve’s increase in interest rates. Rising rates make stocks less valuable for a number of reasons; one of the most important is that future earnings are worth less because those earnings are discounted back to the present at the new, higher interest rates. The short-term rates controlled by the Federal Reserve now stand above 6%. Long-term rates have risen, too, just not as fast. They are actually below 6%, both because the US Treasury is buying back long-term bonds and because investors have some confidence that the Federal Reserve will successfully fight off inflation.

The Core Portfolio performed better than the S&P500 during the April-May technology swoon, and worse than the S&P during the June recovery. Many investors continue to believe that technology stocks are the holy grail of investing, and jumped back on the tech bandwagon in June. While I agree with the tech enthusiasts that technology is transforming the American economy, even the world economy, most of these stocks are still quite expensive and are unlikely to provide the hoped-for returns.

During the quarter, I sold Equifax. The company completed an acquisition, which caused the financial strength rating to drop a notch to below average. I replaced Equifax with Houghton Mifflin, a publisher of educational books. Houghton Mifflin has a solid balance sheet and is enjoying strong demand for its books. The company is also looking for new sources of revenue growth, including expansion of its web-based testing services.

Steve TeSelle

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