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Second QUArTEr 2011
ECOnOmIC OvErvIEw
The More Things Change, the More They Stay the Same
Plus a change, plus cest la mme chose, or to use Yogi Berras French that is perhaps more familiar, it is dj vu all over again. Well, sort of. The stock markets rose for the first four months of 2011, just like they did last perhaps not. To paraphrase Churchill, we hope that we (Americans) will eventually do the right thing, once all other options are exhausted. On the positive side of the ledger, unlike last year, when the stock markets hit a low on June 30th, equities have remained in positive territory all year. In the first four months of 2010, the S&P rose 7.05%, then declined 12.8% in May and June, ending the first six months of last year with a loss of 6.65%. This year the market was up 9.06% in the first four months and has since declined 3.05% for a return of positive 6.01% for the first half of 2011. In another significant divergence from the past year, corporate profits have started rising. US corporate profits were up 6.3% in March. Rising earnings are keeping stock valuations reasonable. The Price/Earnings ratio of the S&P 500 index is sitting at 12 times, meaning that stocks are relatively inexpensive.
InDEX PErFOrmAnCE Dow Jones Industrials Standard & Poors 500 EAFE (international stocks) Russell 2000 (small stocks) Barclays Interm. Gov/Credit Barclays Municipal Q211 1.41 0.09 1.78 -1.61 2.12 3.89 YTD 8.57 6.01 5.34 6.19 2.47 4.42
year, then declined in May and June. Greece needs yet another bailout, just like last year. (In fact, Greece will need bailouts as far as the eye can see, since 40% of the population works for the government and 12% of the population is unemployed.) The housing market in the US remains weak and shows no signs of meaningful recovery. Interest rates are still near zero. Payroll employment, which had been growing modestly since the June 2010 report of over 200,000 jobs lost, recently registered a significant drop, just like last year. The US federal government is still spending $1 trillion (annualized) more than it is receiving. California and many other states are struggling to balance their budgets. The US dollar is still weak and the Chinese, Brazilian and Indian economies are still humming along. Medical costs are still rising at an unsustainable pace. The future financing of Social Security and Medicare is still unresolved. It is all rather discouraging. Instead of engaging in a meaningful discussion about appropriate prioritization and allocation of government resources, our elected representatives are wrangling about the debt ceiling. Perhaps those discussions will eventually lead to a more useful long-term agreement, but
: : The More Things Change, the More They Stay the Same
ASSET mAnAGEmEnT
: : Adobe
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If the enormous amount of money in inter a decent return, this would give those wit
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ECOnOmIC OvErvIEw
FiFteen Holdings
iShareS intl iShareS
The More Things Change, the More They Stay the Same (contd)
Unfortunately, inflation is accelerating. It hit a low near zero in mid-2009 and then rose quickly back to around 2% at the end of 2009. In 2010, the consumer price index eased down to 1.5%. Thus far in 2011, it has risen again to around 2.5%. Producer prices have been rising even more. Prices in industries like apparel that had been stable or declining have now started climbing due to the very large percentage of clothing that is imported from China. Wages there have been rising very fast and the burgeoning middle class is buying more creature comforts, sending the prices of consumer goods skyward. The companies in which we have invested are also reporting rising costs. Richard Galanti, CEO of Costco: There are still a lot of vendors announcing increases to retailers.inflations hitting everybody. Co-CEOs of Smuckers, Timothy and Richard Smucker, noted that On coffee, we announced a price increase in May of around 10-11%, on oils it was about 8%, on baking it was 4% and it was actually 20% on milk. Other companies reporting increases in their cost of goods or products include 3M, Praxair, Paychex and Travelers. Economists generally believe that when interest rates rise they cause the economy to slow down. Historically, this has certainly been true, but rates have been so low for so long that we are in uncharted territory. We cannot help but speculate that an increase in interest rates might
FEDERAL FUNDS RATE
(source: Bloomberg)
emerging marketS
actually stimulate the economy. Why? Individuals who are borrowing money are paying very low rates, but these rates are still many times above the rates that one can earn on deposit balances. If the enormous amount of money in interest-bearing accounts were to actually start earning a decent return, this would give those with investable funds additional cash to spend. Higher rates would also make governmental deficit spending and debt service prohibitively expensive, thus giving politicians a real incentive to lower the deficit. In the meantime, with yields on bonds at historic lows, the real rate of return (the rate of return net of inflation) is negative for almost all maturities under five years. And the damage that higher inflation could do to bonds is very significant and makes them exceedingly unattractive places to invest. The bond market will continue to be a difficult place to make money for years to come.
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0.00 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
rest-bearing accounts were to actually start earning th investable funds additional cash to spend.
ASSET mAnAGEmEnT
V
value
Featured Stock
Adobe
Best known for either its flagship Photoshop or Portable Document Format (PDF) Reader products, Adobe now generates nearly $4 billion in revenues from a suite of tools that enables the design and development of nearly any digital creation. Through its 2009 acquisition of Omniture, Inc., Adobe has augmented its ability to participate in the tremendous growth in online advertising. Adobes traditional products facilitate the creation and delivery of digital content like advertisements, and Omniture completes the cycle with tools that analyze the effectiveness of the ads and then optimize the ad delivery experience. This combination should be attractive to advertising agencies, publishers and e-tailers looking to realize a greater return on investment from their digital media investments. Adobes new strategy has been rewarded by customers. Its online advertising unit now contributes over 10% of company revenues and is growing at an annualized rate of 20%. The number of advertisements geared to appeal to users of social networking sites continues to grow along with the number of those users. In the US alone, online advertisement impressions reached 1.11 trillion in the first quarter, with 200 individual advertisers spending at least $1 million per quarter. Total advertising revenues are more than $25 billion per year and are expected to grow by 13% annually. Adobe has positioned itself to help companies improve both the quality of the ad experience and the return on the invested dollar. Adobe was founded in 1982 and is headquartered in San Jose. The company is in excellent financial shape, with $2.6 billion of cash and $1.5 billion in debt. Its market cap is just under $16
ADOBE STOCK PRICE
DAY SESSION (source: Bloomberg)
companys tools to create, animate, and edit content. Designers are reluctant to switch horses, because it takes time to become an expert user of Adobes extensive toolkit.
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2011
www.nelsonroberts.com | 650.322.4000
Only serious long-term spending reduction in the entitlement area can begin to address the nations deficit and debt problems. It should no longer be credible for our elected officials to hide the need for entitlement reforms behind rosy economic and budgetary assumptions.
Lawrence B. Lindsey, former Federal Reserve governor
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Investment Team
Brooks Nelson, CFA Brian Roberts, CFA, MBA Steve Philpott, CFP , MBA Dennistoun Brown, MD Ann Oglesby, MD, MBA
InvESTmEnT ThEmES
An example of a social medium is a social network. A social network is a group of individuals or organizations that share a connection. The explosion of usage of these types of sites has attracted both attention and money. Two of the most popular social networking services are Facebook and LinkedIn. Social networking companies make money by selling advertisements that will be seen by their user base. Additional sources of revenue might include subscriptions paid by users who want access to additional functionality. Other types of social media include social bookmarking, video and photo sharing and social news. Each of these platforms enables users to interact by sharing or recommending content by tagging the website. Other users can then view these recommendations. The revenue model is predominantly advertising-based for these companies also.
Past performance is not necessarily a guide to future performance. There are risks involved in investing, including possible loss of principal. This information is provided for informational purposes only and does not constitute a recommendation for any investment strategy, security or product described herein. Please contact us for a complete list of portfolio holdings. For additional information on the services of Nelson Roberts Investment Advisors, or to receive our Newsletters via e-mail or be removed from our mailing list, please contact us at 650-322-4000.
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