October 2008 - Quiver Quarterly

Recently I have been reminded of Sarah Kuhn or “short” as my Grandfather would call her. “Short” was my Grandmother, who standing at four feet ten inches was steadfast in remaining cool, calm and collected in the face of chaos. Regardless of the obstacle blocking her height challenged view she always approached life’s difficulties with the same patient manor. Knowing that in dynamic times it is often best to reduce all thoughts and concepts down to simplicities. Possibly a trait she learned as she worked over three decades at Pacific Life as they grew from a small regional insurance company to a large multinational insurance and investment company. Reflecting on the stories of her childhood during the Great Depression leads me to believe she had a life filled with opportunities to perfect her ability in finding the good and calm in the midst of turbulent times.

On many occasions in October I would remind myself of the traits Mrs. Sarah Kuhn represented to a grandson. In fact those thoughts were probably the only thing that kept me sane during this crazy month. Crazy is truly an understatement as I have seen things in the past 30 days that even some of my greatest mentors with 35 plus years in the business have never seen. I’ll entertain you with just a few of the more significant October spooks. The first and foremost began on the first day of October and ended on the 10th day of October. This first October spook was one of the worst declines the markets have ever endured in history with the S&P 500 declining over 22% in roughly 9 days bringing the indexes total decline to roughly 40%. A drop so devastating that in a portfolio evaluation we performed for a prospective client who’s account was held at a large brokerage firm that will remain nameless. This particular portfolio encountered declines of 30% with their account value dropping from $377,000 to $275,000 in one month. And it wasn’t just the stock market that saw declines. In another portfolio evaluation of a portfolio holding 100% tax free bond funds revealed a decline of over 10%. Adding more spookiness was the performance of large well run mutual fund companies like American Funds and Fidelity with year to date declines of over 40% in select funds. The more evaluations I was asked to perfor the more I thought of good old Grandma and her thoughts of simplicity.

Thanks to Grandma our accounts have not seen the carnage noted above as we were predominately positioned in money market from October 1st to October 13th*. While we missed the worst part of the decline, the month of October was still a difficult month with the second October spook worth mentioning. October 08 will hold the record number of days in which the Dow Jones Index moved in price more than 400 points intraday from low to high. In the case of October 13th and October 28th the swings were over 1000 points. With all this volatility it becomes difficult to judge the absolute best time to put money to work. For example, we allocated a portion of our money market into the equities market on October 13th which has subsequently become the peak of a trend where the market declines to 8200 on the Dow and then back up to near 9500. On hindsight this purchase was less opportune then I would have preferred. As a way to balance that purchase we allocated another amount of our money market to equities at a lower price on October 27th which turned out to be a great day with the market indexes increasing nearly 14% in the 4 days following. This helped us balance out the short term timing of the purchase performed on the 13th which was starting to concern me. Which brings us to current time and where to go from here.

The hope is with October in the past we will be free of spooks. With the recent increase in the market indexes I would expect to see a pull back in the markets after the election regardless of who is president. Markets don’t jump 14% in this economic environment without pulling back. The trick will be how far this pull back will go. I believe that if the market pulls back a respectable 5 – 7% and finds buyers to push prices above where they are now (966 on the S&P 500 and 9300 on the Dow) then we have a good opportunity to put some money to work as we will feel that October 10th will be confirmed as an interim bottom. However, if the market breaks the lows of October 10th which was roughly 7800 on the Dow then all bets are off and who knows where the bottom is. Because I view this next week as crucial to the direction of the market for the intermediate term I have sold the purchases made on the 27th of October as a way to preserve our gains until I feel more confident that the October 10th lows are holding. There are some encouraging signs that lead me to believe those lows will most likely hold and give us an opportunity to see some possible appreciation in the market indexes over the next few months.

First and foremost is the improvement that has occurred over the past few weeks within the credit markets. The crisis in the stock markets started with problems in credit markets which means for stability to come back to the markets there needs to be continued improvements, which so far we are seeing. In addition to credit improvements, is the market’s recent reaction to bad news. It is usually a good sign when market indexes increase in value on bad economic news. Over the past week we have received disappointing number in consumer confidence, manufacturing and employment and the market moved higher. This is typically a sign that investors already anticipated the current news and feel the market may have some fair value at these levels. While this is encouraging remember these same investors can change their mind quickly as they are typically trying to be ahead of the economic news by at least 6 months. As long as the forth coming economic news is slightly better than expected the market indexes will most likely have good value as long as we keep it simple as my Grandmother would suggest.

Simple is how I anticipate moving forward with small strategic purchases in the Equities Market and possibly in the Fixed Income Markets (Bonds). The volatility of the markets will most likely continue although not at the levels seen in October. This will cause us to dollar cost average as we did in October in order to manage risk. We have some possible seasonal wind at our sails with the historical fact that the markets tend to perform best from November to March. Regardless all investors should proceed with caution by keeping at least 50% of their portfolio in money market. This helps mitigate risk and assures they will be able to act on possible opportunities as they appear over the next few months. As I do my homework I am seeing a lot of opportunity in this market as many stocks have been sold even though the basic fundamentals of the company are sound. In addition to stocks there are also unique opportunities within the fixed income markets in Corporate and High Yield Bonds as these investments tend to rebound in environments of economic recovery. There is no doubt that we have entered recession and it is anticipated that we will see continued layoffs and increasing unemployment. From here the markets will be looking forward and deciding if the current market levels are fair value or if market indexes need to be adjusted according to new information that will be forth coming.

Our next update will be on or around November 15th. Until then I wish you and your family healthy and wealthy days.

Colby McFadden

*Information regarding account allocations and performance may vary by account, attached or enclosed you will find a copy of your consolidated statement

** The opinions expressed are those of Colby McFadden as of 11/2/08 and are subject to change due to market and other conditions