4th Quarter 2007

Market Health Outlook

4^th Quarter 2007

It has been an interesting and sometimes gut-wrenching year.  With oil near $100 a barrel, the dollar falling most every day, the crisis in housing and the financial stocks caving like a sinkhole, there are plenty of things to worry about.  On the flip side, corporate earnings (outside the financial stocks) have been reasonably good, valuations of stocks are right where they should be and the Federal Reserve has demonstrated sensitivity to avoiding a recession by reducing rates as needed. 

To be honest,  I'm not sure which way the year 2008 is going.  My analysis suggests that we should end the year on a positive note for stocks, although somewhere short of 10%.  As we have seen in 2007, this forecast is subject to change yesterday.  Clearly with all the factors on the table, the markets could go in either direction and you will be able to build a solid hindsight conclusion that we should have seen it coming. 

I like to think I'm a well educated person with a CPA license, a CERTIFIED FINANCIAL PLANNER^® certification and a Masters Degree, but I have proven to myself over and over that a buy and hold approach is generally the best policy.  I watch many other big name advisors who try and make a name for themselves by having the latest angle on the markets.   They jump in and out of the market and generally have a poor track record of out-guessing the markets direction in the long run.

In the first three "Market Health Outlook" reports in 2007, I warned that things were not as good as everyone was thinking and that a setback was a real possibility.  Now that we are having some turmoil, I want to project that things are not as bad as everyone is thinking.  I'm not saying that things won't be dismal or stagnant for a while.  The broad market sentiment tends to run hot and cold with emotions, and it can be difficult to sort through all the noise and look at the facts. The market has caught a cold and needs a few sick days to recover, but it won't be going on long term disability.

A review of key market factors:

Factor	Influences	Current Outlook
Inflation	Interest Rates & Profits	Neutral
Fiscal Policy	Interest Rates	Neutral
Monetary Policy	Interest Rates	Modestly Bullish
Economic Growth	Profits	Neutral
Earnings Growth	Profits	Modestly Bullish
Stock Valuations	Based on Price/Earnings Ratio.	Modestly Bullish
Exogenous (oil, Iran, etc)	Interest Rates	Credit Risk are Declining Oil prices are hurting us. (Use capital letters as you did for other information.)

Where should people position themselves in 2008?  Stocks have all the before mentioned factors to worry about.  But as I mention in my recent book in the chapter about risk, there are always plenty of things to worry about.  Somehow the strength of the stock market wins every time in the long run.  You will have to demonstrate patience at times.

One argument supporting stocks is the talk about a potential, but uncertain, recession.   At this point, you probably think I have lost my mind.  But as the risk of a recession increases, the Federal Reserve becomes more diligent in cutting rates.  Currently the 10 year Treasury Bond is paying less than 4%.  As rates are cut more, there is little opportunity to make money in bonds, CD's and money market accounts.  These returns are anemic and people have to invest their money somewhere, thus bolstering the case for stocks.

I am recommending that we stay as safe as possible with a wide diversification in different kinds of stocks and bonds.  There are a couple of opportunities that I will begin building into your portfolios as we make adjustments.  Currently I have capped the International exposure in most portfolios at 20%.  I want to begin to build this up to around 30%.  However, we want to be careful about investing in China.  China's huge returns in the past few years remind me of the high technology stocks of the late 1990's. The returns look impressive, but sooner or later this bubble is going to burst.  Also, we need to look to high dividend paying stocks and preferred stock investments.  The preferred instruments can be volatile at times; but many were hit hard in 2007, and now have attractive yields of 6 to 9%. 

Just to put things in historical prospective, did you realize it has been 5 years since the significant market crash of 2000 through 2002?  That was a tough time, and the lessons learned will influence all of our thinking for decades.  Since that time the market has returned 26% in 2003, 9% in 2004, 3% in 2005, 14% in 2006 and 3% in 2007.   The research service I use to gather my outlook data and I have come remarkably close to predicting the market results year by year.  I am proud of that record.  $100 invested at the end of 2002 would have grown to $166 by today.   In the next 2 to 3 years,  this money should be close to doubling.  Yes, the market can sometimes be a little rocky, but there aren't many places where you can double your money in less than 10 years.   It is very important to keep your money growing at a rate that is faster than inflation in order to keep yourself ahead of sky rocketing medical costs, gas prices and to achieve the dreams you have outlined for yourself during retirement.

If you have a friend or neighbor you think could benefit from our advice, please have them sign up for free emails at www.dickinsoninvestments.com. Recent articles have been about the importance of avoiding the fixed income squeeze.  The next article coming out in February will be titled "Why Your Taxes Are Going Up".

Sincerely,

Ron Dickinson, CPA, CFP, MPA-tax

"Never trade who you are for what you want"