September 7, 2013

Economic and Market Recap
Every cloud has a silver lining. In the case of the clouds, we have, in no special order: Syria, Fed tapering, a new Fed chairman, debt limit negotiations, Obamacare, stretched market valuations, weakening corporate profits and revenue growth, the lowest laborforce participation rate in 35 years, declining increases in non-farm payrolls and technical weakness. For the silver lining, we have, in part: ISM Business Activity Index and auto sale strength, Obamacare (!), Euro Zone, U.K. and China recovery, and absence of a major stock market bubble on the horizon. My observation: The risks appear real and significant but they also appear to be rather short term. The silver lining is a global recovery, even if it is slower than we would like.

L a n e A s s e t M a n age m e n t
Stock Market Commentary
the Euro Zone, mixed Fed speak to give hope to those looking to postpone tapering as long as possible and a small increase in consumer confidence. The end of the month was all about the growing tension with Syria (boosting oil prices) but ended on a high note as U.S. GDP came in unexpectedly high (2.5% annualized vs. the previous 1.7%). Despite emerging good news, European equities lost some of their recent luster, perhaps to adjust for the strong showing that took place last month. The first week of September was a positive one for everything but investment grade corporate bonds as new auto sales advanced to prerecession levels and the ISM Non-Manufacturing Business Activity Index (NMI), representing about 90% of the U.S. economy, came in at its highest reading since its inception in January 2008 while interest rates continued to rise. The Manufacturing Index also had a good showing, rising to its highest reading of the year. August non-farm payrolls came in below expectations, but the market seems to be taking that as a sign of reduced incentive on the Fed to begin tapering in September, as some thought. Investment Outlook While I’m concerned about the stretched valuations for U.S. equities, the steady improvement in the ISM reports and in corresponding reports in Europe have to be taken as a positive sign for the equity market. And, while an equity correction of 10-15% remains a possibility, maybe a certainty at some point, the longer term horizon for equities continues to look favorable. With that, I suggest:

August got off to a good start with the lowest reading of unemployment claims since January 2008 and the ISM factory index rising to its highest level in 2 years. What followed, however, was a steady stream of uninspired reports for the U.S.: non-farm payrolls rising less than expected and the weakest gain since last March, the Philly Fed Business Conditions Index falling below expectations, consumer sentiment falling unexpectedly, and the Chicago Fed National Activity Index remaining negative. A flutter of positive news came in the third week of the month with recovery in

Increase exposure to safer, stronger U.S. sectors like consumer goods and health care Consider adding exposure to international.

As for bonds and other income investments, I recommend keeping durations short and consider high yield corporate bonds.
The charts on this and the following pages use exchange-traded funds (ETFs) rather than market indexes since indexes cannot be invested in directly. The ETFs are chosen to be as close as possible to the performance of the indexes while representing a realistic investment opportunity. Prospectuses for these ETFs can be found with an internet search on their symbol. Past performance is no guarantee of future results.

L a n e A s s e t M a n age m e n t
S&P 500
August (and the first week of September) was another interesting period, technically speaking: SPY reversed course at the beginning of August and broke back down through support at $167 and its 50-day moving average. This is the second time the 50DMA has been pierced by the price since the beginning of the year. Although this is generally considered to be a reversing signal, the last time (in April) turned out to be a head fake when positive momentum quickly resumed. While the current breakdown may turn out to be an-

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other head fake, until we see an increase in volume as occurred at the other reversals, I’m inclined to believe the risk to t he downside is somewhat greater than not. From a fundamental perspective, we have a bit of a tug of war going with strong ISM data, auto sales and GDP growth while at the same time market valuations seem stretched, the labor-force participation rate fell to its lowest level in 35 years and August non-farm payrolls came in below expectations, including a downward revision for July. But it’s not those factors that seem to be having the most impact now, but rather Syria, Fed tapering and Washington gridlock.

SPY is an exchange-traded fund designed to match the experience of the S&P 500 index adjusted for dividend reinvestment. Its prospectus can be found online. Past performance is no guarantee of future results.

L a n e A s s e t M a n age m e n t
S&P 500 Trend
Below we have two pictures of trend in SPY’s price. On the left, we have a shorter term, daily view with a spread from the top of the channel to the bottom of about 7%. In this chart, SPY has broken below the channel in a decidedly negative move while the 50DMA has all but turned over. This is the fifth time in the current series that price has fallen to the bottom of the channel or beyond and, while a quick recovery cannot be ruled out, it would be only the second time this happened in the last two years (the first being this past June).

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On the right, we have a longer term, weekly view with a spread from the top of the channel to the bottom of about 17%. In this view, SPY is near the top of the channel for the 5th time in over 4 years, with 2 out of 4 of the prior times resulting in a significant correction to the bottom of the channel. As we may be looking at a repeat of the pattern that occurred in the spring of 2011, this chart is even more worrisome when combined with the knowledge of the stretch in the market valuation (S&P 500 PE ratios). With consideration to this chart alone, there is good reason to keep exposure to equities below one’s long term strategic allocation. Should SPY reach back to the top of the chan nel without an intervening correction, it may be a particularly good time to take additional exposure off the table.

SPY is an exchange-traded fund designed to match the experience of the S&P 500 index adjusted for dividend reinvestment. Its prospectus can be found online. Past performance is no guarantee of future results.

L a n e A s s e t M a n age m e n t
All-world (ex U.S.)
International equities, represented here by VEU, are showing characteristic volatility with a rapid recovery from the breakdown that occurred in June. Following a wobble in late August,VEU is now above resistance at $46.35 again and this time with a barely rising 50-day moving average. Technically, when the momentum (bottom of the chart) shifted to positive in the early part of July, that gave a reliable indication of price recovery. Now, with the momentum turning negative, there is some reason to be concerned about near term deterioration.

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On a fundamental basis, we continue to have a very region specific outlook. We have good news from the U.K. the Euro Zone, China, South Korea and Japan while India and Latin America are struggling. On the whole, I am more prepared than I have been recently to add international exposure, but caution is still advised.

VEU is an exchange-traded fund designed to match the experience of the FTSE All-world (ex U.S.) Index. Its prospectus can be found online. Past performance is no guarantee of future results.

L a n e A s s e t M a n age m e n t
Asset Allocation and Relative Performance
Asset allocation is the mechanism investors use to enhance gains and reduce volatility over the long term. Commonly, investors

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choose an allocation that reflects their risk tolerance and reallocate at prescribed times, say, semi-annually, or when the actual percentage allocation deviates from the longer-term strategic plan. One useful tool I’ve found for establishing and revising asset allocation comes from observing the relative performance of major asset sectors (and within sectors, as well). The charts below show the relative performance of the S&P 500 (SPY) to an investment grade corporate bond index (LQD) on the left, and SPY to a Vanguard Allworld (ex U.S.) index fund (VEU) on the right. Following weakness in August, domestic equities are again outperforming investment grade corporate bonds on a relative basis. While the relationship is likely to be volatile over the coming months as the Fed works its way into its tapering mode, I expect the underlying trend to continue. On the right, the domestic equities resumed a downward slide against international equities in August and the beginning of September. This is now the second month in a row of relative strength for international equities and could be marking the beginning of a reversal in trend that’s been going on since the beginning of the year. Once the slope of the moving average rolls over, I will be inclined to move to a more strategic allocation to the international sector.

SPY, VEU, and LQD are exchange-traded funds designed to match the experience of the S&P 500, (with dividends), the FTSE All-world (ex US) index, and the iBoxx Investment Grade

L a n e A s s e t M a n age m e n t
Income Investing
While income investing has gotten a bad name in the last few months as the Fed contemplates “tapering” its bond purchase program and interest rates have spiked, that does not mean the sector should be abandoned altogether. In prior months, I spoke of the outperformance of preferred stocks to investment grade corporate bonds. This month, I draw attention to short term high yield corporate bonds represented here by PIMCO’s exchange-traded fund HYS.

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On the left below is a 2-year chart of total return for HYS. While the 2-year return is an impressive 10% annualized, note that for the latest 12 months the total return has declined to a still respectable 7.5%. On the right below, is a relative performance chart for HYS vs. investment grade corporate bonds (LQD) showing the similarity of performance during a period when LQD was rising, but significant outperformance since the first of the year as LQD faltered. While the current yield on short term high yield bonds is less than the longer-duration Liquid High Yield Index (currently about 4.6% vs. 6.4%), their short term nature results in the fund being less susceptible to interest rate risk while at the same time benefiting from a rising rate environment as bond turnover is reinvested at new higher rates.

HYS is the PIMCO 0-5 Year High Yield Corporate Bond Index which seeks to correspond to The BofA Merrill Lynch 0-5 Year US High Yield Constrained IndexSM*. LQD is an ETF designed to match the experience of the iBoxx Investment Grade Corporate Bond Index. Prospectuses can be found online. Past performance is no guarantee of future results.

L a n e A s s e t M a n age m e n t
Treasury Rates

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This chart shows the percentage increase in 1, 5, and 10-year Treasury rates since the beginning of the year. In percentage terms, rates skyrocketed in August and the first week in September with the 1– and 5-year rates increasing over 20% during the period while the 10-year increased nearly 10%. The 10-year rate has now increased over 80% since the beginning of May, from under 1.7% to nearly 3% while the 5-year rate has increased nearly 150%. While the absolute level of these rates isn’t particularly high, the pace of change, especially for the 5 -year rate, is extraordinary.

L a n e A s s e t M a n age m e n t
12-Month Performance

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The chart below shows the last 12-month performance of the indicated ETFs, the same ones that are on page 1. The performance speaks for itself, but a few observations may be useful:

Large cap domestic equities (SPY) lost a little ground in August, but have still maintained a very respectable 12-month return of about 17.5%. While the gain over the last 3 months is barely over 1%, the 12-month pace is likely to pick up as year-ago negative months, particularly October, are eliminated from the chart. The Euro Zone (EZU) backed off its accelerated pace during the last two weeks of August and now matches the S&P 500 though with more volatility. Gold (GLD) extended its recovery in August though weakness crept back in during the latter part of August. Oil (DBO) gained a little ground in August, probably on account of the strains in the Mideast. A more spirited rise in the price of oil does not appear on the immediate horizon. Emerging market equities (EEM) basically drifted in August. The concern I hear is that rising U.S. interest rates are going to have a severe impact on emerging markets. Since this view has been widely discussed yet EEM has been relatively stable, if flat, it appears that EEM may have discounted this concern. Investment grade corporate bonds (LQD) continue to deteriorate in the face of rising interest rates.

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L an e A ss et M an ag em ent
Disclosures Edward Lane is a CERTIFIED FINANCIAL PLANNER™. Lane Asset Management is a Registered Investment Advisor with the States of NY, CT and NJ. Advisory services are only offered to clients or prospective clients where Lane Asset Management and its representatives are properly licensed or exempted. No advice may be rendered by Lane Asset Management unless a client service agreement is in place. Investing involves risk including loss of principal. Investing in international and emerging markets may entail additional risks such as currency fluctuation and political instability. Investing in small-cap stocks includes specific risks such as greater volatility and potentially less liquidity. Small-cap stocks may be subject to higher degree of risk than more established companies’ securities. The illiquidity of the small -cap market may adversely affect the value of these investments. Investors should consider the investment objectives, risks, and charges and expenses of mutual funds and exchange-traded funds carefully for a full background on the possibility that a more suitable securities transaction may exist. The prospectus contains this and other information. A prospectus for all funds is available from Lane Asset Management or your financial advisor and should be read carefully before investing. Note that indexes cannot be invested in directly and their performance may or may not correspond to securities intended to represent these sectors. Investors should carefully review their financial situation, making sure their cash flow needs for the next 3-5 years are secure with a margin for error. Beyond that, the degree of risk taken in a portfolio should be commensurate with one’s overall risk tolerance and financial objectives. The charts and comments are only the author’s view of market activity and aren’t recommendations to buy or sell any security. Market sectors

and related exchanged-traded and closed-end funds are selected based on his opinion as to their usefulness in providing the viewer a comprehensive summary of market conditions for the featured period. Chart annotations aren’t predictive of any future market action rather they only demonstrate the author’s opinion as to a range of possibilities going forward. All material presented herein is believed to be reliable but its accuracy cannot be guaranteed. The information contained herein (including historical prices or values) has been obtained from sources that Lane Asset Management (LAM) considers to be reliable; however, LAM makes no representation as to, or accepts any responsibility or liability for, the accuracy or completeness of the information contained herein or any decision made or action taken by you or any third party in reliance upon the data. Some results are derived using historical estimations from available data. Investment recommendations may change without notice and readers are urged to check with tax advisors before making any investment decisions. Opinions expressed in these reports may change without prior notice. This memorandum is based on information available to the public. No representation is made that it is accurate or complete. This memorandum is not an offer to buy or sell or a solicitation of an offer to buy or sell the securities mentioned. The investments discussed or recommended in this report may be unsuitable for investors depending on their specific investment objectives and financial position. The price or value of the investments to which this report relates, either directly or indirectly, may fall or rise against the interest of investors. All prices and yields contained in this report are subject to change without notice. This information is intended for illustrative purposes only. PAST PERFORMANCE DOES NOT GUARANTEE FUTURE RESULTS. Periodically, I will prepare a Commentary focusing on a specific investment issue. Please let me know if there is one of interest to you. As always, I appreciate your feedback and look forward to addressing any questions you may have. You can find me at : Edward Lane, CFP® Lane Asset Management Kingston, NY Reprints and quotations are encouraged with attribution.

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