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2010 Market Outlook & Forecast
Table Of Contents Risk Management 10 Years & Presidents What To Expect In 2010 Allocations For 2010 Index Ranges For 2010 Final Thoughts “Predictions Are Difficult…Especially When They Are About The Future” Niels Bohr We can’t predict the future, nor or we going to try to, but what we can do is look around us and try to learn from what has happened in the past, weed through all of the noise of the present and try to discern the reasonable risk reward profile for the future.

The biggest single problem with WallStreet, both today and in the past, is that they consistently disregard the possibility for unexpected, random events. When they occur, and you lose a large percentage of your investment dollars, the excuse is always the same; “We would have been right, if….” Of course, now that investors have once again, now twice in this decade, lost more than 40% of their net worth, the analysts, financial advisors, and financial planners are falling back on the excuse of “yes, I know you have lost most of your money, but you are in this for the long term…right?” We said last year; “As most of you know we have been writing for quite some time, and predicting since early 2007 that slowing economic growth had not yet materialized in GDP data. Many, including former Fed Chairman Greenspan, had increased their opinion of the probability of recession to 50% but that it would only be a mild one while we were saying it could have been one of the worst on record.” While it has been one of the worst recessions on record since the great depression the root causes of the problem have yet to be fixed and we will visit some of those implications today. Therefore, as you read our 2010 Outlook & Forecast, remember that just as we were on the look out for the potential of a random event that could cause a large loss of principle, we are now looking forward to the risks, and opportunities, that exist in a world where there is a potential for another sharp decline in the dollar, a spike in inflation, additional deleveraging of risk, a ‘true” bottom in the housing recession versus a government supported one, a continued deleveraging of the credit crises and the end of a recession. A Note About Risk Management This is why we approach portfolio management from a risk managed approach – greater returns are generated from the management of risks rather than the creation of returns. Our philosophy was well defined by Robert Rubin, former Secretary of the Treasury, when he said; “As I think back over the years, I have been guided by four principles for decision making. First, the only certainty is that there is no certainty. Second, every decision, as a consequence, is a matter of weighing probabilities. Third, despite uncertainty we must decide and we must act. And lastly, we need to judge decisions not only on the results, but on how they were made. Most people are in denial about uncertainty. They assume they're lucky, and that the unpredictable can be reliably forecast. This keeps business brisk for palm readers, psychics, and stockbrokers, but it's a terrible way to deal with uncertainty. If there are no absolutes, then all decisions become matters of judging the probability of different outcomes, and the costs and benefits of each. Then, on that basis, you can make a good decision.” It should be obvious that an honest assessment of uncertainty leads to better decisions, but the benefits of Rubin's approach, and ours, go beyond that. For starters, although it may seem contradictory, embracing uncertainty reduces risk while denial increases it. Another benefit of acknowledged uncertainty is it keeps you honest. “A healthy respect for uncertainty and focus on probability drives you never to be satisfied with your conclusions. It keeps you moving forward to seek out more information, to question conventional thinking and to continually refine your judgments and understanding that difference between certainty and likelihood can make all the difference.” The reality is that we can't control outcomes; the most we can do is influence the probability of certain outcomes which is why the day to day management of risks and investing based on probabilities, rather than possibilities, is important not only to capital preservation but to investment success over time.

Disclaimer: The opinions expressed herein are those of the writer and may not reflect those of Streettalk Advisors, LLC, Charles Schwab & Co., Inc., Fidelity Investments or FolioFN. or any of its affiliates. The information herein has been obtained from sources believed to be reliable, but we can not assure its accuracy or completeness. Neither the information or any opinion expressed constitutes a solicitation for the purchase or sale of any security. Any reference to past performance is not to be implied or construed as a guarantee of future results.

60) (-0.10) 7.00 16.30 (-3.00 14.80 5.80 (-18.20 (-16.20) (-2.30) (-6.20) -29.30 13.90) 12.60 (-8.80) 86.60) 365.00 21. What Are The Odds Of An Up Year For 2010? What About The Decennial Cycle Another year has ended for the stock market and while the first quarter ended with the sound of a giant crash as the index slid 20% from the – the government began the most impressive flood of monetary stimulus ever witnessed by any generation of mankind.90) (-32.70) 17.60) 20.20 28. However.10 12.50 (-0.50 (-17.94%.50 9.42 9.60 26.40 18.76) 217.0% since 1941.70 25.30 38.40) 7. % Chg Up Years Down Years 1st (-13. .80) (-12.70) 0.30 24.20) 20.80 6. if 2010 does turn out to be a negative year the average loss has been a substantial -16.20 (-31.00) 1.87) 9 8 WORST No Help From The Oval Office The market in second years of a new President has had generally modest average positive results with the Dow gaining 4.70 43.00 38.60) (-10.60 55. While Ben Bernake became a man of his word and almost literally dropped dollar bills from a helicopter – and bailed out WallStreet.70 63.90 (-0.60 8.90 38.80) (-0.60 4.10 4.70 14.50) 1.90) 45.70) 2.50 (-8.00 15.80) 2.90 22.20) 6.70) 28.70 7. However.40) 14. the decline could be rather large.60 (-27.10 (-33.30) 4.30 (-18.60 18. and will most likely. what about 2010? Let’s take a look at our chart below.00 25.90 92. whatever the ending outcome is.70 30.30) (-3.70 (-14.10) 34.10 5.60) 41. The Ten-Year Stock Market Cycle Annual % Change In Dow Jones Industrial Average Year Of Decade Decades 1833-1840 1841-1850 1851-1860 1861-1870 1871-1880 1881-1890 1891-1900 1901-1910 1911-1920 1921-1930 1931-1940 1941-1950 1951-1960 1961-1970 1971-1980 1981-1990 1991-2000 2001-2010 Total % Chg Avg.30 (-7.30 3.90) (-4.50) (-24.10) 11.60 (-9.80) 14.00 5.70 (-23.70) 38.00 (-16.70) (-1.70) 1.90 (-4.20 (-12.60 (-3.4%.30) 0.70 (-5.50 48. after a big market run up last year and with a lot of the government stimulus packages now waning be on the lookout for a potential to buck the odds and head lower.60) (-23.80) 7.40) 26.00 (-12.10) 2.80 3.60) (-3.80) 17.20) 0.60 10.10 (-2.64) 9 8 2nd (-18.20 15.40 (-15.20) 4.42 12 6 5th 3. as you can see in the results of all election years in the table on the next page that during mid term years the markets have been positive in 26 of the 43 years which is a 60% chance that 2010 will end higher than where it starts.00 (-12.30 27.40 6.10) 19.47 15 3 BEST 6th (-11.70) (-14.00 17.Therefore.20 27.80 (-2. be a fairly bumpy ride.47 (-4.90 16.40 (-1.90) 12.10) 7.50 (-30.80 (-8.40) 21.82 163.09) 9 9 8th 1.5% So.28 11 7 4th 13.30 22.61% by being in positive territory 13 out of 18 times – 2009 fell outside the statistical norms with the largest increase in history (from the low in March) WITHOUT a coinciding economic environment.60 20.70 13. So.30) 2.90 (-1.20 81.20) (-1.30 123.61 13 5 10th 5.30) (-3. However.10 44. While the 9th year of the decade has been positively biased over its history turning in an average return of 9. but midterm Presidential years are subject to declines and bear markets.00 (-10.90) (-33. if the market does end lower it is on average lower by -13.70) (-15.80 (-3.80 22.50 26.80 10.00 30.14 12.30 10.20 4.10 8.20 18.90) (-6.43 -69.60) 14.70 33.50) (-4. statistics say that 2010 will be a coin toss as to whether it is up or down but.00 5.75 10 8 7th (-11.40) (-8.10) -10.70) (-8. with that being said.40 3. while both cycle indicators are pointing towards a positive year end close it can.10) 20.00 4.70 (-52. The tenth year of the decade about an even split of up years and down years. history says.60 (-9.50 18.40 2. As we enter into 2010 what does the Decennial cycle say about the 10th year of the decade. In fact.70 6.60 21.40 12. If we do.80 14.50) 4. the remaining issue is the needed bailout of Main Street.70) (-21.10 1. So.10 2.60 (-17.00 (-17.30 (-37.11 10 7 3rd (-0.50 46.68 14 4 9th (-12.30) 66.80 16.10 (-9.80) 15. our suspicion is that somewhere along the way we will experience a fairly good decline.20 (-17.80 (-32.90) 17.40 (-10.60 6.10 8. With the Dow having a record of 9 up years versus 8 down years the odds of a positive 2009 come in at 52.60 19.

90) (17.60) (17.70) 38.60 4.40 3.00 1.70 22.70 (30.30 14.20 48.90) 13. Bush Rep Clinton Dem Clinton Dem G.80 (6.60 (4.Presiden tial Election / Stock Market Cycle Beg.90) (5.40 81.50) (8.60) (37.50 (3. Harrison Rep Cleveland Dem McKinley Rep McKinley Rep T.29 175.20 (23.58% 5.80 16.82 86.20 (3.70) 7.80) 4.30 33.80) 4.20 15.40 20.70) 5.90) 26.10 (17.80) 18.80) (18.60) (3.20 25.90 (3.10 (2.00 1.W.80 4.80 (27. Roosevelt Dem F.60 17.30 20.10) 19. Of Elected 4-Yr Cycle President 1833 1837 1841 1845 1849 1853 1857 1861 1863 1869 1873 1877 1881 1885 1889 1893 1897 1901 1905 1909 1913 1917 1921 1925 1929 1933 1937 1941 1945 1949 1953 1957 1961 1965 1969 1973 1977 1987 1985 1989 1993 1997 2001 2005 2009 Pres.55% 32 11 Election Year (11.40 (14.70 (32. Roosevelt Dem F.80 6.60 2.20) 27.00) (1.60 44.00) 16.70 27.60 22.60 7.60 (4.70 0.40 17.50 (0.00 (8.30) 8.40) 3.30) (21. Post Election Mid-Term Pre-Election Party Year Year Year (0.80) (8.10) (14.60) 19.00 (12.10 5.00 13.30 (8.90) 18.60 7.60) 21.40) 26.30 2.60 (7. Roosevelt Dem F.70) (31.90) 12.60) (1.60) 22.20) 1.70 16.91% 20 24 13. Roosevelt Dem Truman Dem Eisenhower Rep Eisenhower Rep Kennedy Dem Johnson Dem Nixon Rep Nixon Rep Carter Dem Reagan Rep Reagan Rep G.20 26.30 4.50 21.70 10.60 2.50 (10.90) (11.00 (6.70) 0.00 (17.11% 1.50 (2.40) 10.60 (8.00 34.60 12.80 (12.00% 26 17 3.32 6.00 (10.00 6.20) 66.20 6.20) 3.20) (32.70 30.10) 8.40) (1.70 (12. Roosevelt Rep Taft Rep Wilson Dem Wilson Dem Harding Rep Coolidge Rep Hoover Rep F.50) 1.90 (3.00 (10.50 (3.50) 18.30) (9.43 464.05% 10.50 25.80) (15.H.14 (33.70) 12.80 (17.80 (52.00 41.60 4.40) 17.90) 4.20) 14.70) (9.10 38.30) 28.61) 18.10 16.50) (13.50 (24.00 15.30 55.20 14.80) (12.20 (23.76) 224.40 14.10) 17.70) 38.40 2.30) 45.60 5.10) (0.10 7.00 20.10 (12.50 15.70) 12.W.30) 14.30 (9.10 28.30 (33.10% 28 15 Jackson Dem Van Buren Dem WH Harrison Whig Polk Dem Taylor Whig Pierce Dem Buchanan Dem Lincoln Rep Lincoln Rep Grant Rep Grant Rep Hayes Rep Garfield Rep Cleveland Dem B.79% 4.10) (0.W.60 (18. Bush Rep Obama Dem Total % Gain Average Annual Return Number Up Number Down S TA TS .70) 38.80 6.30 (4.90 (15.20) (16.10) 43.10 0.90 14.10) 24.40 10.00 1.70 30.70) 11.30) 2.30 9.20 20. Bush Rep G.10 (2.80 2.70 (18.

46% respectively? The problem is that the advance in the market didn’t make up for the losses as we show you below. the S&P 500 rose 26.03 1.35) $1.46 $ (65.94 1.13) $ (13.00 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 -400 $1.074.195.87 986.62 $ 153.97) $ 15.00 600 400 $900. The destruction to investment portfolios by market declines is the single biggest factor to the lack of success by investors over time.194.40% and -40.00 Since 1999 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 0 $ 195.015. S&P 500 Annual Returns 30 20 10 0 -10 -20 -30 -40 -50 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 Average Annual Return Since 1999 = 1.100. That is impressive….00 "Total Return" Growth Of $1000 As you can see while the “average” return of the market is actually positive over the last decade the actual impact on invested dollars is actually quite different with the final value of the portfolio actually being negative by -6.30 1.93% for an actual annualized negative return of -0.94 $ 194.68 735.5% over the last decade. -38. he real damage is that after an entire decade – investors are still losing money.000.00 1.82%.00 200 0 -200 $700.46% and the Nasdaq set the pace by pushing up 43. Sorry.65) $ (284. Growth Of $1000 $ $ $ $ $ $ $ $ $ $ $ $ 1. Take a look at the next table and chart and you will see specifically what happens to money when invested over the last decade.62 1.until you put it into context.153.50% The problem with averages is that it doesn’t show you the real effect on the compounding of returns.200.92 930.000.76%.2009 Review In 2009.000.99 904.9% for the year. So.46 934.69%.35 715.08) $ (69.01) $ (95. . with that lets’ see what the new year potentially has in store for us. the Dow gained 18. This is why we so adamantly dissuade individuals from looking at 1-3-5-10 year track records of performance as the average returns will be quite different than actual portfolio returns. Remember 2008 returns with all the indexes lower by -33. I know…you see that line below the chart that says the average annual return is 1.00 1600 1400 $1.68 $ (264.00 1200 1000 800 $1.30 $ 74.00 $800.65 Investment Value Growth of $1.300.

50 44.50 44.S. They were wrong and as we penned in March of 2008 – “…we are most likely headed to the worst financial crisis that we have seen since the Great Depression.38% 10.22% 9. but overall the macro environment remains one where risk appetites should remain well below normal and investment time horizons should remain relatively short in duration.30% 72.80% 80.00 61.88% 10.00 79.29% 10. “When everyone agrees – something else is bound to happen.” Ladies and Gentleman this is not the type of economy or market environment from which we launch the next great secular bull market.31% As you can see they are all quite bullish.50 44. Many.00 79. Unfortunately this quickly calls into mind Bob Farrell’s rule of trading which says.55% 66.50 44.50 44.80 74.70% 9. which were real but minor factors across most of those years) .50 44.31% 72.50 62.50% 9. It remains our opinion that the global economy is in a secular bear market that started in 2000.50 Estimated % Change 2010 EPS From 2009 73.60% $ 72.00 48.29% 10.” I wish I had been wrong. including former Fed Chairman Greenspan.04% 71.00 48.29% 10.What To Expect In 2010 This Time May Be Different Deleveraging Is The Key GDP Not Everything Unemployment Mortgage Resets Dollar and Gold This Time It May Indeed Be Different? As most of you know we have been writing for quite some time. economy and particularly Asia.78% $ 66. and predicting since early 2007 that slowing economic growth had not yet materialized in GDP data.50 44.92% 76. This does not mean that we won’t experience bouts of extreme optimism. The issue at hand here is that Wall Street contends that we are through the worst of it and things will return to normal this year as shown by the recent 2010 estimates shown here but Main Street has the opposite view. we continue to believe that the macro themes of de-leveraging.50 44. While 2010 could very well produce a positive return the returns from the market over the next few years are going to be low and very frustrating.50 44. Firm Bank of America Bank of Montreal Barclays Citigroup Credit Suisse Deutsche Bank Goldman Sachs JP Morgan Morgan Stanley Oppenheimer RBC UBS Mean Median High Low Strategist David Bianco Ben Joyce Barry Knapp Tobias Levkovich Andrew Garthwaite Binky Chada David Kostin Thomas Lee Jason Todd Brian Belski Myles Zyblock Thomas Doerflinger 12/18/09 Close 1102 1102 1102 1102 1102 1102 1102 1102 1102 1102 1102 1102 Estimated 2010 Close 1275 1120 1150 1125 1260 1250 1300 1300 1200 1250 1223 1250 1300 1120 % Change From 2009 10. weak consumers and a weak housing market will continue to override all other factors. hope and asset rallies.83% 76.00 64.07% 10.00 57.78% 70.30% 70. The best way to gain this perspective is to examine what drove the 18-year bull run in U.79% 77.47% 9. Most importantly buy and hold strategies are likely to underperform hedging strategies in the coming 5 years.00 59.48% $ 80. Although there have been glimmers of hope in the U.75 63.22% 12/18/09 2009 EPS 44.00 70. had increased their opinion of the probability of recession to 50% but that it would only be a mild one while we were saying it could have been one of the worst on record.00 70.26% 10.S.70% 9.50 44.00 57.00 79.78% $ 73.50 44. stocks from 1982 through 2000 (excluding the credit bubble build-up and internet mania.79% 80.69 65.70% 10. Why can I say this with confidence? Because the ingredients to “bake the same cake” simply do not exist at the current time as you will see in the table on the next page.

and they plowed an increasing portion of those savings into stocks. and savings. and the dollar was high. Today we are at nearly the polar opposite of 1982: apart from the current credit bubble collapse. Households had meager income. that investor sentiment and equity valuations were at deep historical lows on any metric: price/earnings multiples. earnings. the government’s and households’ coffers are now tapped out. The Fed was doing nothing to provide the market with liquidity. and anything else one could measure. the world of 1982 could not have been a less hospitable place. and a high savings rate. then. Short-term interest rates are at zero.S. the world looked better and better for the next 18 years. inflation is zero. price-to-book multiples. stocks. you can earn a better risk-adjusted return by buying bonds instead. everything that could go right for stocks has already gone right. Every one of those depressing trends was about to reverse. dividend yields. meaning deficit spending was not contributing much to output growth – and because total government debt was low. little debt. meaning they also were not contributing much to growth. shareholders got a boost from a once-per-century trend that was every bit as important: baby boomers increasingly entered their peak years for productivity. which is nowhere near done. Government actions were unfriendly toward businesses and wealthy individuals. fiscal stimulus had a lot of room to run. and therefore toward corporate profits and capital creation. The housing supply was tight. That pushed prices and valuations even higher. people . which reduces stocks’ value because companies’ future cash flows are worth much less or. Inflation and interest rates were sky-high. we had high tax rates. On top of that. Government deficits were relatively low. But – and this is the key – things had nowhere to go but up. and a heavy bias towards unionism and protectionism. From a shareholder’s perspective.From the standpoint of an investor in U. alternatively. corporate profit margins were near all-time lows. Everything that could go wrong had gone wrong. Fed-supplied liquidity and fiscal stimulus have never been higher. oppressive regulation. It is not surprising. As a result. government policy towards businesses and capital is accommodating and can only get worse.

all of which have been among the most severe of the Postwar period. From Societe General: “If we accept the idea of a two-stage crisis (taking as our starting points 2000/01 + 2007/08). normal consumer spending will be unable to pick up the running so long as unemployment remains depressed. there is one HUGE difference between this recession and every recession since World War II. When the proverbial “back of the camel” broke and the crash occurred the economy slid into a massive DELEVERAGING cycle which included massive reductions in debt through default. If the fiscal incentives boosting auto consumption are reduced. as the economy went through normal expansion and contraction phases the world continue to operate by substituting debt for income when needed which kept consumption and production going. a G-7 recession and a global recession. and with most investors thinking “the recession is over” and everyone will get right back to bubble-year behavior. it is not surprising that investor sentiment and valuations are now high. which was fuelled by restocking and fiscal stimulus. However.” . longer term.S.expect 2010 profit margins to be back near their all-time highs. stocks as a group are to be “rented” rather than “owned. We do not know which structural supports will give way the most. before the start of the “Depression” debt was reaching a peak of 250% of GDP. With all of these factors currently working for stocks. we are now in a U. bankruptcy. all the structural supports for equity valuations have nowhere to go but down. EVERY recession since World War II ended has been with debt leveraging. As you will see in 1929. However. just as there was since mid-March this year. We also understand that there is money to be made by owning stocks over shorter periods of time. just as those in 1982 could not know precisely how or when things would improve. or when. we are now entering into the second great DE-Leveraging cycle which makes all comparisons to previous postWWII recessions virtually worthless. SO. bank failures. However. What is important to note here is that in order to stave off a prolonged deep-recession such as occurred between 19321937 debt needs to be contracted not expanded. The debt deleveraging cycle ended in 1944. But we expect that.we have probably reached a situation similar to that of Japan in the 1990s. recession. This analogy would suggest that we are now exiting a bear market rally. By expanding debt we prolong the process of deleveraging which would get the US into a place where we could then start using debt to our advantage to minimize economic recessions as we did from the mid-40’s through the 90’s. etc. and baby boomers are just about to leave their peak earning years and become a huge drag on markets instead of a huge boost. writeoffs.” Deleveraging Is The Key After a half-decade of probably the fastest pace of global economic growth in the history of the world.

it could also mean another decade of low investment returns as valuations continue to return to a discount.. with inventory liquidation underway in most countries. We expect a weak expansion of consumer spending beginning in the first half of 2010. The intensification of financial stresses following the Lehman bankruptcy and liquidation occurred just prior to the holiday spending season and the budget-planning period for corporate employment and capital spending for 2009. The U. G-7 and global economies are in an intense phase of the recession. Unfortunately. This has coincided with a sharp weakening of expectations for economic activity abroad. Unfortunately. consumption as a share of GDP has reached a secular peak and should drift somewhat lower over time. the pace of decline in consumer spending is so severe that it is likely to prove unsustainable. that is typical of markets to over shoot in both directions. the economy and government policies have led many companies to suspend guidance about the 2009 outlook and to initiate reductions in their labor force and planned spending.S.” That is what we got and most likely that is what we will continue to get for another quarter or two until a secondary recession hits towards the end of 2010. especially since we expect continued aggressive monetary and fiscal stimulus worldwide in 2010. We believe that U. Multiple uncertainties about financial stresses. which should coincide with the end of inventory liquidation. The problem. however. and our contention has been.S. The U. the markets seem to have priced in a “V” shaped recovery and expecting an exit from a normalized economic recession. given the elevated debt burden and negative wealth effect impacting consumers. to be followed by a hesitant subpar recovery. lower stock prices. . these aren’t cheery trends we’re seeing. however. Cyclically. a weakening labor market and limited access to credit. recession to occur near midyear 2009. We expect further economic advanced in the first half of 2010 which will most likely peak around the middle of year as most of the current stimulus packages run their course. The good news is that most likely MOST of the mean reversion from the excesses of the 90’s may be behind us. Current trends in consumer spending are quite weak in response to lower housing prices. As we said last year at this time “…we do expect a trough in the current U. economy is declining sharply with pervasive weakness. Commercial real estate and the state and local sector are new sources of weakness.This goes a long way towards our contention that what we have witnessed so far is a strong countertrend market bounce following a very sharp decline.S. Not one in which I particularly enthused about which is why we need to look at where we should be allocating assets to not only weather the potential similar outcomes but MOST importantly conserve the purchasing power parity of investment dollars in the future. that due to continued bad policy by the current administration we are almost certainly consigned to repeating a similar fate. the pace of the advance from that recessionary trough is overdone as well. However. While the 2008 decline exceeded that of the post-war average recession-related bear market. While earnings on a year over year basis will be strong – the reality is it is still a function of cost cutting rather than true organic growth. Implications Obviously. The benefit of lower energy prices is likely to be saved not spent in this environment. With high housing inventories that sector remains weak. there is an excessive amount of work being done to try to restart the economy.S.

3% (+13. history shows that in that year the S&P 500 is down. the market can stay overvalued for an extended period of time. I disagree with economists who say the “recession” ended in the third quarter. Besides. which is 25% above the historical average of 14x. . And when the consensus is too low and earnings surprise to the high side. Something tells us that it is not going to be cut in half again so the prospect of further multiple expansion is close to nil and the key will be if earnings live up to their lofty expectations. To view a change in GDP from negative to positive as signifying the end of a depression (by which criterion the Great Depression ended in 1933 and again in 1938) is to misunderstand the utility of GDP as a measure of economic activity.” This is something that we readily agree with.5 percentage points of profits growth. 36% profit growth. There is no possible level of operating leverage that will allow for that. especially when heavily manipulated by stimulus. and that would represent roughly a 30% degree of overvaluation. on average. If the market is correct. then we are talking about a 15x forward P/E multiple.). Never before — never — have we seen a 4% nominal GDP performance translate into anything remotely close to a 30% earnings profile. and is threatening a future inflation while deepening our dependence on foreign lenders. Admittedly. That would be a 36% increase from the 2009 level – that is just huge. we had record P/E expansion as Fed and Treasury-induced liquidity fuelled a massive run up in investor confidence — underscored by the VIX index. Our point here is simple. in those years we see the S&P 500 rally 14. It is not uncommon during a recessionary environment to witness a quarter or two of positive GDP growth PARTICULARLY when there is an artificial component such as government stimulus making up 70% of the GDP growth number. the mortgage-relief programs. The consensus is wrong most of the time. the overvaluation gap was 40%. the S&P 500 is now trading at 20x. overvalued markets are more vulnerable to downside surprises than is the case with undervalued markets. the auto bailouts. 2000 and 2007.6% median). So the market is not nearly as pricey today as it was at the bubble peak. At the bubble peak in October 2007. The challenge is what is currently being discounted. What is normal is that every percentage point of nominal GDP growth translates into 2. To see such low nominal growth and such strong profit growth is a 1-in-50 event. Market participants seem to agree that we will see something close to $77 of operating EPS this year. then at least you would have a consistent story (though one that Lewis Carroll would be proud of). It is ALL about REAL reported earnings in the pockets of companies and earnings growth based on revenue growth versus cost cutting. However. Then again. as everyone laments the fact that Treasuries only yield 3. Risk is at least as important as reward. When the consensus is too optimistic on earnings heading into a given year. The depression (as I think we should call it if only because of its enormous potential political consequences) has caused massive unemployment with all the associated anxieties and hardships. If you are of the view that we will see double-digit nominal GDP growth this year. has greatly reduced household wealth. We should add here that on a Case-Shiller real normalized earnings basis. then the market is trading at over an 18x P/E multiple. On average. has undermined belief in free markets and altered the line between government and business in favor government. but it is still very expensive nonetheless.8% (looking at the 10-year Treasury note). Most economic forecasters see nominal GDP growth at 4% for 2010 but strategists see. that 4% growth in nominal GDP is only enough to boost profits by 10% if the normal relationship holds up. GDP. 1990. has cost the government trillions of dollars in lost tax revenues and recovery expenditures (TARP. few pundits seem to point out that the S&P 500 dividend yield just broke back below 2% for the first time since late 2007. which started 2009 at 40 and closed the year at 20. by 4.GDP Not Everything The Becker-Posner Blog penned recently: “But it is necessary to emphasize that it is just a starting point. If we are correct that operating EPS comes in around $62 this year. the fiscal stimulus.5% (-10% on a median basis). etc. Maybe the economist and strategist at the Wall Street research houses should sit down with each other. profits in any given year typically rise 7%. but as we saw in 1987. on average. That is hardly bearish. which is just a snick above the 30-year average of 14x. let alone a figure higher than that. this did not work in 2009 when the consensus forecasts was at $77 EPS at the start of the year and we finished somewhere near $56 — and despite that near-30% miss the market still managed to rally 20%. is not the metric to be using when assessing taking on additional risk in ones portfolio. has caused private investment to turn negative. We are called “bearish” because we see profit growth coming in at +10% for the coming year. Of course.

Therefore. The reality is that the level of employment or job creation is very much a function of population. probably the most watched economic statistic each month on Wall Street is the unemployment number.13 million workers who have been unemployed for more than 26 weeks (and still want a job). if we look at the employment to population ratio it tells a very different story which recently fell to the lowest level since 1983. Most likely unemployment we will remain elevated for the entire year of 2010 and will continue to put downward pressure on wages. the level of employment or job creation tells us nothing in regards to level of population growth. (The graph shows the ratio of employed Americans to the adult population). with the exception of the last decade. that ended with near ZERO job growth. According to the BLS. Since the 1940’s the number of jobs at the end of a decade has been anywhere from 20% to 38% greater than 10 years prior. unemployment is somewhat of a misnomer. the unemployment number is actually MUCH worse than what is reported. In this sense.Unemployment And The Stock Market First. However. many of these people will reenter the workforce and look for employment . there are a record 6. This. The Labor Force Participation Rate fell to 64. . In fact. This is important to note. so do job levels. consumer spending and the economy as a whole. This is a record 4. The issue here is that until we start creating jobs in the economy any exit form the current recession is highly unlikely. When the job market starts to recover.and that will keep the unemployment rate elevated for some time.0% of the civilian workforce. more importantly is that there is a vast growing pool of unemployed individuals who have been unemployed so long that they have run out of benefits and are no longer counted even though they are still unemployed and now just broke as well. In fact not only has there been a lost decade in the stock market but also in employment. When populations grow. The blue line is the number of workers unemployed for 27 weeks or more. Over the last decade the population has grown by more than 10% yet we created no new jobs. The red line is the same data as a percent of the civilian workforce. This is the lowest since the early 80s. (note: records started in 1948).6% (the percentage of the working age population in the labor force). It is assumed that the level of employment is an indicator of health—thus the attention—but it seems the major reason unemployment gets so much press is that the Fed watches the number owing to its counterproductive obsession with employment levels. People aren’t not working so much due to lack of jobs as they don’t work owing to a failure to supply their labor at a rate that attracts employers. as we stated above.

It is not at all clear that the recent data have removed any uncertainty as to which world we are in. and in which the range of policy choices will be more restricted because we've already issued more government liabilities than a banana republic. The current housing overhang is 7 million homes. We strongly believe that real estate has another leg to go on its decline particularly as we continue through the credit deleveraging process.and upper-end homes are being sold (either voluntarily or via foreclosure). profits are on the mend. Whitney Tilson believes this is the “mother of all head fakes” for 7 reasons: Ultra-low interest rates The $8. One is a world in which our economic problems are largely solved. While demand has stabilized somewhat the supply side of the equation remains very lopsided.” While the majority of the subprime problems have passed there is another mountain of resets ahead that will wreak havoc on the housing market. which has the effect of raising the price at which the average home is sold – but more defaults of higher priced homes is very bad news for mortgage holders A decline in resets A reduction in the inventory of foreclosed home The FHA is providing massive support to the housing market. With over 8 months of total supply on the market and a massive shadow inventory it is highly unlikely that these problems will fix themselves in short order. except for a lot of unemployed people whose fate is.” We face two possible states of the world. Our view is that Wall Street has once again returned to its blissful state of reckless abandon and that the implications for YOU disregarding the impending resets coming will be disasterous to your investment timeline. These three waves include prime loans.9 months. The new housing inventory glut is at 12. jumbo prime loans and commercial real estate. let's face it. of no concern to Wall Street. in part by doing extremely risky lending Home sales and prices are seasonally strong in April-July due to tax refunds and the spring selling season We are literally in the eye of the reset storm: “Despite seasonality and government stimulus the laws of supply and demand always rule the long-term price trend in any market. but strikingly dependent on a sustained economic recovery and the achievement and maintenance of record profit margins in the years ahead. . and will steeply debase our currency if we do it again. The other is a world that has enjoyed a brief intermission prior to a terrific second act in which an even larger share of credit losses will be taken. and things will soon be back to normal.000 tax credit for first-time homebuyers More middle.A Restart Of Mortgage Resets John Hussman recently wrote: “I was wrong about the extent to which Wall Street would respond to the ebb-and-flow in the economic data – particularly the obvious and temporary lull in the mortgage reset schedule between March and November 2009 – and drive stocks to the point where they are not only overvalued again.

’s borrowing extravagance (i. Furthermore. central banks) have not shown the same penchant for gold as private investors which is why most likely this will not be a candidate for holding for investors until the speculative frenzy reasserts itself in the years ahead. I think 2010 will be rather disappointing for those expecting gold to put in another year of outperformance relative to other assets. . The dollar declined into the end of the year and then as the commodities and gold moves peaked and the US economy some nascent signs of economic recovery the dollar found strength as a reserve currency for the rest of world. with most everyone extremely bearish long term on the dollar it is a good position for a contrarian investment. Gold is going to ebb and flow for the most part so building a position in gold for the longer term decline in the dollar is fine. As for the contention that precious metals are a major contender to USD hegemony.Dollar Rebound – Then Decline Continues We said last year that. we agree that longer term this may be the case although the parties that are funding the U. “Ultimately. the current expansion of monetary supply will have a negative impact on the US Dollar but for the time being we have to realize that the dollar is a safe haven relative to the rest of the world.e. the current expansion of monetary supply will have a negative impact on the US Dollar but for the time being we have to realize that the dollar is a safe haven relative to the rest of the world. The dollar currently on a buy signal and think that it has potential “legs” to the $81 level on the index. I don’t expect a resurgence of the commodity bubble anytime soon. We will continue to build commodity trading positions for portfolios for speculative trades. Ultimately.” That is exactly what we got. Summary: Long dollar exposure to hedge off potential price risk in long term commodity and gold holdings.S. however. The fundamental case is off until the next late cycle economic expansion.

The economy is not healthy. Fund 4 – Global Allocation Still believing that international markets will fair better than domestic markets we want to stay with that them. silver. The fund primarily invests in equity securities of public companies. The fund also shorts stocks that are overvalued. . Australia and the Far East. The fund invests a fixed target percentage of its assets in the following investment categories: gold. the last two years have been quite the ride. based on our views of various markets and sectors. “No one knows what the next weeks may hold—but it’s useful to note how bear markets typically end. Fund 1 is a fund that seeks to preserve and increase the purchasing power value of its shares over the long term. . The investment seeks long-term capital appreciation. Our Allocation Strategy For 2010 We have developed a proprietary hypothetical investment model portfolio to show how an asset allocation strategy could be implemented based on our overall views of the economy and the financial markets. It holds a focused portfolio of no more than 25 equity securities. etc. the combination of which can be varied based on market and economic conditions. That said. It may invest in securities of non-U. Therefore. Fund 3 – Long/Short Fund This is a fund of funds and follows an overall asset allocation strategy that is tactically managed. The fund invests its assets in a combination of funds.S. That is why the peak or bottom occurs in the first place. This portfolio is comprised of various mutual funds and the mix of funds is determined. Swiss franc assets. 45% of assets in bonds and 5% in money market instruments. We recently switched managers here due to a recent evacuation of managers and we have opted to move into a fund that performs similarly as well but has more stable management. In saying this we are well aware that a large segment of the Street and investing public believe that this time it’s different. It invests primarily in the securities of corporate and governmental issuers located in North and South America. debt securities. partnership interests. the belief that this time is different has always been the case put forward at market peaks as well as at market bottoms. including but not limited to common stocks. dollar assets like treasury securities and short term corporate bonds. and rights and warrants to subscribe for the purchase of such equity securities without regard to market capitalization or other categorizations. companies. with the rapid bear market decline in 2008 to the rapid reversion back up in 2009. business trust shares. when multiple bull rallies played out within a bear market. However.Allocation Outlook For 2010 We said last year. Fund 2 – Hedged Fund This is a fund that we have owned before and still like. and that they present seemingly logical arguments. Fund 5 – Long Equity While volatile at times the fund has proven to a big performer when it counts. we should heed the warning of the 1930s. The model is for example purposed only and does not reflect the performance of an actual account. and money market instruments. Europe. as described further below. The trading strategies we employ for our clients may differ substantially from the hypothetical model. our longer term believe is still that the dollar declines and gold and commodities advance as loose monetary policy and a flood of liquidity eventually cause inflationary pressures to resurface. But even then the average bull run saw a gain of nearly 62% for the S&P 500 over 177 days. overly optimistic investor sentiment and extremely loose Fed policy mean that market risk has risen substantially and potential rewards are now diminishing. It normally invests in the companies with a market capitalization greater than $500 million. So. The fund invests in domestic and foreign equities. that people who believe this are often intelligent and well-informed. However. In our view current valuations. It normally invests 50% of assets in equity securities. but bull rallies have often come when the news seemed most dire. Fund 1 – Cash & Gold Fund We think that 2010 is a year where the dollar both rallies and potentially declines and continues to put near term pressure on gold and commodities.” Which is almost exactly what we got. The fund primarily invests in common stocks that the management believes are undervalued. convertible securities. The management utilizes a two-step security selection process to find intrinsic value regardless of overall market conditions. The fund may also invest directly in government securities and short-term commercial paper. The portfolio is generally 60% long and 40% short stocks.

90 8. As you can see each fund independently navigated the bull and bear markets and protected principal when it counted.70 2.60 39.40) 12.10 6.00 0.or asset-backed securities.70) 2009 19.60 8. FUND 7 12% FUND 6 12% FUND 1 12% FUND 2 12% Allocation Model 1 FUND 1 12% FUND 2 12% FUND 3 12% FUND 4 20% FUND 5 20% FUND 6 12% FUND 7 12% 100% FUND 5 20% FUND 4 20% FUND 3 12% The Returns Of course. Model 1 Portfolio FUND 1 FUND 2 FUND 3 FUND 4 FUND 5 FUND 6 FUND 7 (Source: Morningstar) 2000 5.60) 12. you can “survive” to rebuild your portfolio in a short period of time.10 18.30 2006 13.20 20.20 2002 14.50 7.10 15.70 (20. what we want to attempt to show you in this model is that by approaching your investments with a team of mutual fund managers.80 2001 3. or in mortgage.Fund 6 – Total Return Income If our assumptions are right about the fed then we should benefit from owning two different types of bond funds.80 6. It normally invests at least 80% of assets in bonds of countries other than the United States.Global Bond The other bond fund will pick up on the shift away from the US Dollar as a reserve currency leading to further declines in the dollar versus foreign currency as well as stronger GDP growth in foreign markets.80) (8.90 2004 12.30 24.80 2003 20.10 4.20 9.40 7.10 9.80) 8.90 5.10 When the model is combined into a singular allocated portfolio the returns relative to a 100% equity index looks like the following provided SUBSTANTIAL outperformance over a benchmark indexing strategy. What this will show you is that taking a more conservative stance in markets will not only protect principal but may increase returns over time. futures contracts or swap agreements.60 (0.00) (1.60) 10.10) 8.70 2007 2008 (8.60 (0. The investment seeks maximum total return and normally invests at least 65% of assets in a diversified portfolio of Fixed-Income Instruments of varying maturities.40 (3.90) (0.60 2005 7.70) 9.40 (29. The fund may invest all assets in derivative instruments.80 13. Fund 7 . Even though the funds were down in 2008 as EVERY asset class declined these funds still substantially outperformed the market as a whole giving investors an opportunity to more quickly recover and begin compounding returns again in the future.40 10.10 4.60 25.90 3.90 16.90 6.70 4.10 21.70 7.20 2. with a proven track record even in a market collapse.60 46. . The fund invests mainly in debt securities of foreign government and corporate issuers.00 5.00 24. which may be represented by forwards or derivatives such as options.50 12. It invests primarily in investment-grade debt securities.60 1.50 1.30 13.10 13.00 14. While we are NOT “buy and hold” advisors.80 7.20 36.50) 16. or swap agreements. futures contracts. the obvious question is this looks great but how has it historically performed. The first is a domestic bond fund which will pick up on the steepening of the current yield curve.00 13.60 (5. but may invest up to 10% of total assets in high-yield securities (“junk bonds”).50 2. The fund does not limit its investments to securities of issuers in a particular market capitalization or maturity range or rating category.50 (1. The fund seeks total return with a secondary objective of income consistent with total return. such as options.80 13.90 15.00 8. The Breakdown The model below is for example purposes only.

10) 24.00 1. However. However. our risk management will prevail in the long-term. . Growth Of $1000 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 Model 1 S&P500 1.) With lower exposure to equities.17) 6.34 10.84 885. and bad.37 4.66 26.57 11.70 2. As you can see the hypothetical model.71 799.416.37) (37.22 900.92 1. Streettalk Advisors makes no representations or warranties as to the accuracy of the data and is believed to be for resources that are reliable.Model 1 Returns S&P 500* Model 1 G/L To Index 15.00 2. and for most amateur investors they would be tempted to switch strategy chasing performance results.000.00) 16.00) 25. in strong up years the model slightly underperformed. See further disclaimers below.99 799.50 2.50 (7.77 2.30 712.50 (6.500.500.16 20. since past performance is no guarantee of future results. As I hope I've emphasized in the past on the radio and in these missives – our management style is not suitable for all investors – particularly those who wish to track fluctuations in the major indexes.00 2. We do believe that our discipline serves us well.30 1. All investments have risk and you should consult with your financial advisor before making any investment whatsoever.82 622.16 927.244.826.41 2.155.130.019.62 4.63 19. in good markets.034.88 3. Our job is risk managed investing to conserve principle and create absolute returns over time.70 1.00 2000 2001 2002 2003 2004 Model 1 2005 2006 2007 2008 2009 S&P500 Index Ranges For 2010 Index Dow Jones Industrial Avg S&P 500 Nasdaq Final Thoughts This will potentially be a frustrating year for stock market investors.64 7.34 1.56 28.072. a risk adjusted hypothetical portfolio will protect principal and lead to long term results.208. Model assumes all dividends are reinvested and net of inclusive of all fees charged by the funds. 2010 Top 11000 1200 2600 2010 Bottom 9000 875 1600 STREETTALKADVISORS Conservative ► Disciplined ◄ Different If our views and methodology are the type of management you have been looking for… Then click here to schedule your appointment today .700.500. seeking long-term performance as measured by annualized and risk-adjusted returns and conservation of investment principle. and despite short-term uncertainties.27 1.000.00 1. when it was back tested. but broad indexes and mutual funds using “dollar cost averaging” and a “buy and hold” strategy will not be the place to be. therefore less overall portfolio risk.16 2. the model will need to be adapted for changes that occur in the overlying economic complex so the model may look drastically different in the future.00 500.20 909. we can only assume that the underlying managers will continue to do their job accordingly and. You can always do well if you are a good individual stock picker.94) 13. of course. * S&P returns are represented by Vanguard S&P 500 Fund VFINX.96 15.56 (11.80 2. with performance close to a benchmark index the model worked well. Yes.00 1.96 (22. No offer or solicitation to buy or sell any security is herein made and past performance is no guarantee of future results.20) 25.40 (4.66 (12.52 (9.85 1. What matters most to us is that we provide disciplined management for suitable investors.60 5.278. it faired well against the broader market index and has conserved principal whereas the benchmark index has actually cost investors money over time.000.43 11.66 2.84) (Disclaimer: This is a hypothetical model only and is for informational and educational purposes.

or qualifies for an exemption or exclusion from registration requirements. Past performance is not a guarantee of future results. but we do not guarantee its accuracy or completeness. ALL INFORMATION PROVIDED HEREIN IS FOR EDCUATIONAL PURPOSES ONLY – USE ONLY AT YOUR OWN RISK AND PERIL. will be profitable or equal to corresponding indicated performance levels. or indirectly via link to any unaffiliated third-party Website. Fidelity Investments. historical performance records. TX 77024 Tel: 281-822-8800 Web Sites: www. Texas. or that Streettalk Advisors. Streettalk Advisors. either expressly or impliedly. timeliness or completeness of any information or data made available to you for any particular purpose. Inc. Streettalk Advisors. LLC may only transact business in those states in which it is registered. personalized individual advice from the adviser or any other investment professional. or any analysis relating to investments in particular or as a whole. LLC does not warrant the accuracy of the materials provided herein.. no current or prospective client should assume that the future performance of any specific investment. Registration: Streettalk Advisors.. Streettalk Advisors. and there can be no assurance that any specific investment will either be suitable or profitable for a client’s investment portfolio. or a substitute for. Therefore. LLC or any of its members or affiliates have achieved such results in the past. Past performance may not be indicative of future results. LLC. either explicitly or implicitly.streettalkadvisors. LLC is an SEC Registered Investment Advisor located in Houston. Charles Schwab & Co. LLC and its representatives are in compliance with the current registration and/or notice filing requirements imposed upon United States Securities & Exchange and State of Texas Registered Investment Advisors and by those states in which Streettalk Advisors. or any of its affiliates. LLC maintains clients.com Disclaimer: The opinions expressed herein are those of the writer and may not reflect those of Streettalk Advisors. Disclaimer of Warranty and Limitation of Liability The information on this site is provided "AS IS". LLC cannot and does not guarantee the accuracy.com Email: (For More Information) Streettalk@streettalklive. Historical performance results for investment indexes and/or categories generally do not reflect the deduction of transaction and/or custodial charges or the deduction of an investment-management fee. LLC will not be responsible for any loss or damage that could result from interception by third parties of any information made available to you via this site. Any models. or product made reference to directly or indirectly on this Website. you agree that you will not copy it or remove or obscure any copyright or other notices or legends contained in any such information. the incurrence of which would have [the] effect of decreasing historical performance results. validity. is for illustrative and informational purposes only and should in no way be construed. Streettalk Advisors.com For Appointments Contact Amira Nasar amira@streettalkadvisors. The information herein has been obtained from sources believed to be reliable. Streettalk Advisors. solicitation or offer to purchase or sell any security. Performance Disclosures. sample portfolios. strategy or investment plan or need assistance in developing one – please feel free to contact us at the numbers or emails listed below. for any particular purpose and expressly disclaims any warranties of merchantability or fitness for a particular purpose. No client or prospective client should assume that any information presented and/or made available on this Website serves as the receipt of. . All investments have risks so be sure to read all material provided before investing. Although the information provided to you on this site is obtained or compiled from sources we believe to be reliable.Disclaimer & Contact Information If you have any questions about your portfolio. that such information is for the purposes of presenting a performance track record. FolioFN. Neither the information nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. investment strategy (including the investments and/or investment strategies recommended and/or purchased by adviser). Copyright or Other Notices If you download any information or software from this site. Lance Roberts Director of Fundamental & Economic Analysis Michael Smith Director of Alternative Investments Luke Patterson Chief Investment Officer Hope Edick Compliance Jean Casagrande Streettalk Insurance Office Location: One CityCentre 800 W Sam Houston Pkwy N Suite 410 Houston. Different types of investment involve varying degrees of risk.

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