The second quarter ended a great run in the equity markets dating back to the March, 2009 bottom.  The growing list of global problems proved too much for the current market to digest.  From overseas, the sovereign risk and debt crisis in Europe weighed heavy on the market.  In the U.S., the economic headwinds came from multiple directions: continued high unemployment rates, a depressed housing market, and high mortgage delinquency rates, huge deficits at the state, local and federal levels, and the economic and environmental impact of the BP oil spill. 

While there is plenty to worry about, there are also some rays of hope.  Interest rates and mortgage rates remain low providing consumers, corporations and the government with very attractive, low cost funding.  Inflation is contained and should stay low for the immediate future.  The Federal Reserve continues to pursue an accommodative monetary policy in the hope of spurring business activity once again.  Corporations have improved their profitability through cost cutting, restructuring and refinancing, thus positioning them for future growth.   

 Below are the total returns for the major indices for the first half of 2010.

Dow Jones Industrial Average                    -4.82%

S&P 500                                                      -6.64%

S&P Mid-Cap                                              -1.35%

Russell 2000 (small cap)                            -1.95%

International Stocks (MSCI EAFE)             -12.93%

High Yield Bonds (Merrill)                           3.18%

Aggregate Bond (U.S. Barclays)                  5.33%

While stock markets struggled, the fixed income market chugged along providing investors with a safe haven and attractive returns.   U.S. Treasury Notes have been the best performing sector within the bond market as they benefitted from a global flight to quality.  Corporate bonds, mortgage backed securities and high yield bonds lagged Treasuries, but still showed competitive total returns for the period.  The short end of the yield curve is currently locked down by the Federal Reserve’s Monetary Policy.  Interest rates on the long end of the yield curve moved lower as investor embraced the double dip scenario.   

As the third quarter gets under way it is clear that volatility is back and investors will need to exercise caution.  Trying to predict the direction of the market is usually impossible, but building a long-term investment portfolio designed to meet a specific risk tolerance and long-term investment objectives is not.  Now is a great time to get your portfolio in sync with your long-term investment plan.  

The past two years has redefined market volatility and given every investor the opportunity to reassess their personal definition of risk tolerance.  Each independent registered investment advisor we work with is required to discuss risk tolerance with their client and complete a risk tolerance questionnaire.  This is the foundation of the investment process, and if done in an honest and forthright manner, will set the stage for long term investment success.

The S&P 500 fell 7.98% in May and June is following suit.  Our incoming e-mails and telephone calls have increased as clients and advisers worry about the market and their portfolios.  Showing some concern and respect for the market is a good thing, but any emotional rush to judgement tells me there is a problem with the foundation: the investment plan not in sync with the person’s risk tolerance.  Monies invested in the equity or bond market are going to flucuate in value, but these monies should be invested with a long-term time horizon.  Time has taught us that markets are resilient and if investors can set realistic expectations while maintaining a long-term prospective they will position themselves to take advantage of the long-term potential of the markets.

The U.S. equity markets moved steadily higher since the March 2009 market lows, but the start of May reminds us all that price volatility still exists.  The headline subjects changed from Bear Stearns, Lehman,
AIG and Citigroup to Greece, Spain, Portugal, and British Petroleum, but the results are the same.  Uncertainty leads to price volatility.  Yesterday marks the sixth triple digit move in the Dow Jones Industrial Average during the past seven trading session.

We can not change the world we live in, but we can take a long-term approach to investing that quiets much of the background noise.  First and foremost, perform a thorough and truthful risk assessment to make sure your portfolio reflects a risk level within your comfort zone.  Once at a horse race track there was a message in the day’s program that said, “Bet with your head and not over it”.  This is great advice for the track, Las Vegas and even the stock market.  Second point is to insure your portfolio has adequate diversification.  Every day the market has winners and losers, and if your portfolio is properly diversified you will have the diversification necessary to smooth out the ride and weather the storms.

Personally, I’m always cautious about making a big bet on market direction.  I would rather lean a bit bearish or a bit bullish, but not let my portfolio drift out of sight from its long-term investment objectives.  Based on the fourteen month run in the market and the increased headline risk, leaning a bit bearish at this moment in time is prudent.  The market will likely be choppy in the months ahead.  Any pull back in equity prices will be a healthly long-term event.  It’s not all doom and gloom though.  Company earnings are improving, the economy has bottomed and the employment picture is beginning a long slow road back to normal.  Do not throw in the towel on your investment plan, rather use the market turmoil to your advantage.

The first quarter of 2010 saw the world equity markets continue their bullish ways while the fixed income market experienced modest gains.  Below are the first quarter total returns for the major indices.

Dow Jones Industrial Average                    4.99%

S&P 500                                                      5.39%

S&P Mid Cap                                               9.09%

Russell 2000 (small cap)                            8.85%

International Stocks (MSCI EAFE)               0.94%

High Yield Bonds (Merrill)                          4.82%

Aggregate Bond (U.S. Barclays)                  1.78%

The trends that began lifting the equity markets one year ago continue to boost share prices.  Corporate earnings are surprising the market to the upside and the U.S. economy has halted its downslide.  For the Dow Jones Industrial Average this quarter marks the fourth consecutive quarterly gain and this quarter is the best start to a year since 1999.  Unfortunately, individual investors may be missing this rally as they are pouring money into bond mutual funds while staying away from equity mutual funds. Similar to last year’s results, the more volatile small and mid-sized stocks outperformed larger cap stocks.  International stocks posted small gains as turmoil in Europe and the threat of tighter monetary policy in China cooled investor appetite for foreign stocks.  Commodity prices had mixed results in the first quarter.

The fixed income market returned to a more normal state in the first quarter after two years of extremely volatility.  U.S. Treasury Bonds, corporate bonds and mortgage backed securities are beginning to move in the same direction once again.  The short end of the yield curve is currently locked down by the Federal Reserve’s Monetary Policy while interest rates on the long end of the yield curve are starting to move higher fueled by investor concerns of inflation and eventual economic recovery.    

As the second quarter gets under way, stocks face perhaps their biggest hurdle of the year.  At some point, the Federal Reserve will need to reverse its unprecedented easing of credit.  If the Fed’s removal of credit-market supports fail to go smoothly stocks could move lower.  On a positive note, corporate balance sheets in good shape and valuations reasonable, so the bullish momentum may well continue into the second quarter.

Trying to predict the direction of the market usually impossible, but building a long-term investment portfolio designed to meet a client’s risk tolerance and long-term investment objectives is not.  Now is a great time to review your investment portfolio to see if it is in sync with your long-term plan.  

The markets had a nice bounce-back in February, as the S&P 500 returned a 3.10% gain.  There has been a steady improvement in U.S. manufacturing production, and corporate earnings are actually starting to come from revenue growth, and not just simply from cutting costs and jobs. The economic recovery overseas has been more fragmented, which has led to a strengthening U.S. dollar. With a patchy economic recovery underway, some of the focus begins to turn to the global financial stimulus injected over the past few years, and potential “exit strategies” to lessen government deficits and reduce potential inflation down the road.   

During a two-day media tour in New Your City, Chief Investment Officer Wayne Schmidt made an appearance on Fox Business today. Here is the temporary link, and the formal broadcast will be featured on our Press Room page tomorrow.

http://www.criticalmention.com/ctv3-1/landing_email.php?type=email&video=true&random_string=6c83665a0878edcfdea3472e73789037

The equity market bottomed on March 9, 2009 and since then has been on a one way ride higher with eight of the next nine months producing gains.  Here is a look at 2009 by the numbers.

Stock Market Benchmarks:

                                                             12/31/09                 12/31/08                 Return    

• Dow Jones Industrial Average   10,428                     8,776                      18.8%
• S & P 500                                     1,115                        903                      23.5%
• S & P 400 Mid Cap                         727                        538                      35.1%
• NASDAQ                                     2,269                     1,577                      43.9%
• Dow Jones Utilities                         398                        371                        7.3%
• NYSE Financial                           4,737                     3,848                      23.1%
• NYSE Energy                            11,527                     9,434                       22.2%
• BBG Reit                                        145                        120                       20.8%

When 2009 started most market prognosticators did not project returns like this.  When we bottomed in early March, the emotional state of the market was gripped by fear and pessimism. History has taught us numerous times to buy stocks when fear is rampant and sell when greed rules.  It is easy to say this, but much harder to implement.  To avoid the trap of selling low and buying high try a new approach.  My advice is to not let your market opinion (or anyone else’s market opinion that you follow) get in the way of investing properly.  For 2010 and beyond it is important for the individual investor to build a diversified portfolio using ETFs and/or mutual funds.  Hold your core equity sectors (U.S, stocks and International equities) through thick and thin and be opportunistic in the “explore” segments of the market using gold, real estate, emerging markets, energy, and agriculture as places to add value.  This is our approach at Gradient Investments and it served our clients well in 2009.    

Key Bond Rates:                               12/31/09                  12/31/08                 Return

• U.S. 3-Month T-Bill                   0.04%                    0.09%                      +0.21%
• 2-Year U.S. Treasury                 1.06%                    0.77%                      +1.05%
• 10-Year U.S. Treasury               3.82%                    2.25%                      (9.71)%
• 30-Year U.S. Treasury               4.64%                    2.68%                    (25.98)%
• 30-Year Fixed Mortgage            5.36%                    5.14%                      +5.87%
• BBG Investment Grade Corp     4.98%                    6.17%                      19.76%
• BBG High Yield Corp Bond      9.44%                  16.72%                      57.51%

The U.S. fixed income market has never had the disparity of returns among the sectors like we saw in 2009.  Long U.S. Treasuries had their worse total return year ever and corporate bonds had one of their best.  The numbers above tell the story. 2010 will not be a repeat of last year.  The entire investment grade bond market yields 3.5% and fixed investors should set their return expectations near this number.  I expect Treasuries to continue to be under pressure with corporate bonds and mortgage backed securities offering slightly better value.  The individual investor needs to own these sectors via EFTs and no-load mutual fund.  We are moving our durations shorter to protect against a likely increase in interest rates in 2010.

The start of a new year is a perfect time to review your portfolio, assess your portfolio’s risk level and check to see if it is in line with your personal risk tolerance level. It has been a wild ride the past two years.  Moving forward, spend less time worrying about the market’s next move and more time focused on your investment approach.  You will sleep better and enjoy better investment results.

Gradient Investments, LLC made a worldwide media splash last week with Chief Investment Officer Wayne Schmidt, CFA, MBA being featured in numerous publications, including Forbes.com, WallStreetJournal.com, ABC.com, Rueters.com whose content is published worldwide, and others. Click to read the featured articles.

http://online.wsj.com/article/BT-CO-20091215-712546.html

http://news.yahoo.com/s/nm/20091215/bs_nm/us_markets_stocks

http://www.mainstreet.com/article/moneyinvesting/news/when-will-fed-raise-interest-rates

Schmidt is a great example of the talent and expertise available through Gradient Investments. Call us today at 888.824.3525.

From a fundamental prospective, the 2009 equity markets has most investors scratching their heads wondering how this market reached these levels with the economic news so weak.  The unemployment rate hit a 26-year high at 10.2% unemployment and this does not count the 6-7% of population that has quit looking for employment.  The federal deficit is now measured in trillions, taxes are certainly headed higher, yet the stock market is up over 66% from the lows in March.  Historically, the equity market leads the economy by six to nine months so, if true, we should start seeing improvement in the U.S. economy very soon.  With the mixed signals on the fundamental side, what message do the market technicals hear.

Technical analysis is a method of evaluating securities by relying on the assumption that market data, such as charts of price, volume, and open interest, can help predict future market trends. Technical analysts believe that they can accurately predict the future price of a security by looking at its historical prices and other variables.

While the S&P 500 has appreciated 66.6% from its March 666 lows to its current 1,110, it is still in technical terms defined as Bear Market Rally.  A weekly closely above 1,126 on the S&P 500 would represent a 50% retracement of the Bear Market Phase and mark an official technical end to this Bear Market.  The S&P high was 1,566 in October 2007 and the low was 666 in March 2009.  1,126 would mark the half way point back to the previous high from the low point.  The 1,126 level on the S&P 500 is a line in the sand for market technicans.  The market will test this line and if it breaks through on a weekly close, expect prices to move higher and this level will become support for the market.  If the market fails at 1,126 expect a correction in stock prices.

While it is exciting to watch the market story play out, do not forget that your investment goals should be long-term.  Build your investment portfolio with the right time horizon and risk levels, then the never ending market volatility will not throw you off course.  

The S&P 500’s monthly streak of posting seven consecutive monthly gains came to an end in October 2009.  The 1.98% drop in October was tranquil as compared to past Octobers.  During the seven month streak from March 2009 through September 2009, the S&P 500 gained a surprising 43.80%.  Intuitively, one would expect a major pullback after the run we had, but history tells a different story.  In a study done by Greg Blaha and Ryan Malo at Bianco Research, LLC, they found in the fourteen previous market streaks of seven months or longer, the S&P average return was 4.16% for the following quarter and 7.84% for the following year.  While the majority is expecting a major correction, don’t be surprised if the market continues to confound the consensus.

On the economic front, there is continuing improvment in the numbers and we expect the U.S. economy to show a 3.5% growth rate in the second half of 2009, with growth continuing positive through 2011.  The Federal Reserve is likely on hold until 2011 before we start the upward moevment in short-term interest rates.  The Fed has pumped massive amounts of liquidity into the economy and this will need to be withdrawn at the right time and pace.  Unemployment will continue to be a drag on the economy, but will peak near 10% and gradually improve over the next few years.

The markets and many portfolios have been whipsawed over the past 15 months and this seven month streak gives everyone a second chance to anaylze their financial situation.  This is the perfect time to make a thorough evaluation of your portfolio to make sure you are diversified within and among the asset classes and the risk of your portfolio is aligned with the risk you can afford.  If the risk in your portfolio matches your personal goals, the next round of market volatility will be much less stressful.