3rd Quarter 2007

Market Health Outlook

Wow; it definitely was an interesting 3^rd quarter. I was anticipating a 10% to 15% correction in the market at some point with an overall recovery to end the year in positive territory. From the high to the low there was a 10% adjustment. By the end of the quarter all of the adjustment has been recovered. (I hesitate to even call the volatility we experienced a normal healthy correction.) With the recovery occurring so rapidly the best course of action was once again buy and hold. Future corrections and recoveries will not always happen this quickly.

Throughout 2007 I have wavered from moderately bullish to neutral/concerned. I have once again returned to the moderately bullish camp after the Federal Reserve cut interest rates by a full ½%. With this aggressive posturing the overall risk/reward ratio has dramatically improved. We can analyze a billion factors but the simplest most important consideration is that markets almost always go up when interest rates are declining.

There is a theory called the Federal Funds model that compares the yield anticipated from stocks vs. the yield on the10 year Treasury note. It's not a model that you can make day to day trades from but it is a reasonable indicator of long term trends. The anticipated yield from stocks for the next twelve months is 6.5% (corporate earnings divided by stock prices) and the 10-year Treasury at 4.5%. This simple model suggests that stocks are undervalued by as much as 40%. I am not predicting you will make 40% return this next year but this indicator does suggest stocks should move higher. I was not watching this indictor back in 2003 when it suggested stocks were 70% or more overvalued. I keep my eye on it now.

There are still risks to consider. I can't remember a time when there wasn't. When you get a copy of my book please read chapter 4 on Risk, in particular see page 27.

The problems with Sub-prime mortgages have yet to fully impact the economy. Real people will lose real homes and there will be pain for those families. We should never lose sight of this factor. If you know someone personally in this situation please look for the abundance you have in your life to share with someone else. Throughout my lifetime I have let people live free in a rental home I owned and have had families living in spare bedrooms on several occasions in a time of personal crisis. Adequate, safe housing has always been a soft spot of mine.

You can anticipate that economic growth will remain sluggish and corporate earnings growth will be modest. But this doesn't mean the stock market will perform poorly, markets can do well in low growth periods as long as stock valuations begin at a reasonable price.

There was and still is a fear that we could be heading into a recession, especially if the Federal Reserve remained stubborn. Last quarter I called the current Monetary policy somewhat frustrating. With the rate cut the risk of recession has been reduced significantly and creates a positive for stocks.

The flip side to declining interest rates is that savers will make significantly less on low risk investments. The 10 year Treasury bond is down to 4 ½%. You can anticipate that there will be further rate cuts if the economy continues to soften thus eventually causing Money Market accounts and Certificates of Deposit to pay less. It's hard to preserve your wealth in low risk accounts with rates this low, especially after factoring in taxes and inflation.

A review of key market factors:

Factor	Influences	Current Outlook
Inflation	Interest Rates & Profits	Neutral
Fiscal Policy	Economic Growth	Neutral
Monetary Policy	Interest Rates	Neutral, supportive
Economic Growth	Profits	Neutral
Earnings Growth	Profits	Modestly Bullish
Stock Valuations	(based on prices/earnings)	Modestly Bullish
Exogenous (oil, Iran, etc)	Interest Rates	Credit Risk have been reduced

We can always desire that every sign was aggressively bullish but that is rarely the case. The market factors analysis should leave us with a confident feeling in light of the recent market volatility and continuous boogie man behind every corner.

In conclusion you should stay fully invested and continue to add new money to the market this fall. If you have CD's and bonds you should review your retirement projections to make sure you are not heading toward a fixed income squeeze ten to fifteen years down the line. It is important to keep your money growing at a rate that is faster than inflation, taxes and your desired spending.

Sincerely,

Ron Dickinson, CPA, CFP^®, MPA-tax

"Never trade who you are for what you want"

PS. Many of you know that I enjoy bike riding. I had the unfortunate experience of letting my head hit the ground when my wheels should have been there. I was wearing a helmet so I am not drooling on myself. I did break a collar bone and a rib along with cracking four other ribs. I apparently have a high tolerance for pain and heal quickly, so I was only out of the office for 3 days (I can't stand stopping so I was working via computer connection at home). At four weeks of recovery I'm not doing any pushups yet but work and life are progressing normally. I guess I was due because the last time I visited a hospital was 42 years ago to have my tonsils removed. I have a celebration bike ride planned with a friend in two weeks!