INVESTMENT NEWSLETTER
February 2010

January Chill

Stocks around the world paused after reaching a mid-month peak, capping the strong rally we enjoyed since March. There was no shortage of good economic news and positive earnings reports recently, yet investors chose to "sell the news." The DJIA fell nearly 4% in January, snapping a string of monthly gains and marking only the second losing month in the past 11 months. The S&P 500 index dropped 3.6% and the technology-heavy Nasdaq Composite tumbled 5.4% over the month. The small-cap Russell 2000 sank 3.7%. Emerging market funds had a volatile start to 2010, but remain highly ranked. Often the best performing funds are hit hardest when the market turns. In 2007, for example, there were several periods when the market pulled back and emerging markets lost more than most domestic indexes. But each time, emerging markets funds remained highly ranked and even bounced back to new highs. Holding emerging market funds added substantially to performance in 2007, but eventually, were replaced, savin us from their breathtaking declines in 2008. Gold prices closed at a three-month low and oil prices also declined. Concerns about the strength of the euro, related to the fiscal difficulties in Greece, sent investors to the dollar instead, which gained against a basket of major currencies.

Gains in Fixed Income Funds
As stocks pulled back in January, bond yields retreated, leading to gains in fixed income and our Flexible Income strategy. Long-term government bond funds gained the most, followed by intermediate term and TIPS. High yield bond funds and other corporate bond funds brought in good returns. Even short-term bond funds saw decent gains. World bond funds were weakest. We are starting to see a tug-of-war between massive US treasury issuance and fresh credit concerns (especially from Europe) versus a flight to safety as stocks have pulled back and the US dollar has strengthened. Tightening credit in China is a concern

Seasonal Forecasting
Many have noted the so-called January Effect - as January goes, so goes the year. Since 1950, when the S&P 500 lost ground in January, the average February through December loss was 0.8%, reports Ned Davis Research. When January has been up, the S&P 500 rose 12% on average. But remember that these are only averages and there are many exceptions. Last year, for example, stocks plunged 9% in January but finished the year 35% higher. In fact, in the last 10 years, the January barometer was correct only 60% of the time and was wrong in the two best years. All we know for sure is that stocks declined in January 2010. No one knows what the rest of the year will bring. Sooner or later, we will probably face a correction of at least 10%. If that happens now, pundits will use the January barometer to scare investors into thinking the bull market is over. The truth is, we don't know what the market will do this year, and neither do they. If market leadership moves us to defensive funds, we'll buy them. For now, though, we'll stick with the current winners.

Economic Recovery
Last month's declines came despite a bigger-than-expected 5.7% rise in U.S. fourth-quarter GDP, along with a slew of corporate earnings well above analysts' estimates. Almost 80% of the S&P 500 companies beat their fourth quarter earnings estimates so far, according to Thomson Reuters. So why the big chill in the markets? Gridlock in Washington to prevent reform, either health-care or financial (including much needed banking regulation), is thought to be good news on Wall Street. Bernanke's confirmation and continued low rates from the Fed are surely favored by investors. Yet many analysts point out that unemployment is high and demand is weak, so corporate profits are vulnerable. Is the market's current dip more than a step back from the continued upward climb? Ned Davis Research reports that the odds of a 10% stock market correction, based on similar periods after the end of a recession and after such a big rally, is very high, estimated at 77%, based on historical market patterns in recoveries. But, of course, no one knows what short-term market actions will be. We do know that after a decade of negative returns, subsequent returns have historically been above average. Regardless of short-term market direction, the best course is to follow a disciplined long-term investment strategy to navigate the market's ups and downs in a manner that should lead us to achieve our long-term goals.

Focus on Long-Term Goals
The recent market turmoil reminds us of the importance of matching our asset allocation to meet our long-term goals, even while allowing for significant near-term uncertainty. Most investors allow near-term experiences to color their judgment and many have reassessed their risk tolerance, retreated from stocks and changed their asset allocations. Instead, we suggest that you examine your resources, risk tolerance and time horizon and set an appropriate asset allocation between stocks, bonds and cash to meet your long-term objectives.

Thank You for your trust and continued support!

Sincerely,

P. Michael Valley II
Estate Planning Professionals