Notes on Q3, 2011

“Hope is not a strategy.”

The third quarter of 2011 has been very difficult. From the middle of July the markets sent signals that the economy was going into another recession, signaling a bear market for our investments (please see our market newsletter on our website for details). We responded by selling several investments that we had only bought 45 days previously. Our goal in July was to capture some upside potential we saw in the market. Six weeks later, we saw several market indicators show us that the world was not following a growth script and the macroeconomic view turned decidedly negative. By selling we took a larger than average hit in the value of our portfolios, but the amount of risk taken out of the investment portfolios was reduced dramatically.

Please see the chart below of the return of the major equity indexes.

So what is our plan in this very nervous world? The stock market performance the past three weeks has been generally positive and supportive of an improving economy. We think that we should invest in income producing investments that are high quality. These investments include high-grade corporate bonds, government backed mortgage bonds, and the utility sector ETFs.

At the present, we think that this economy is not a repeat of 2008 and 2009. Confidence is the oxygen of the economy. International banks and other countries are the potential weak link in the world economy. We think that the world understands these challenges we are all facing and will soon confront these problems with effective solutions. With that said, practical solutions are few and far between.

A word about the third quarter losses shown on your quarterly report.

You will notice that there are two types of losses shown, realized losses and unrealized losses. We dislike any losses that occur with our clients’ money. The two types of losses are very different in their impact upon the return of the portfolio. In reviewing the portfolio investment performance, we make a conscience decision as to what is an acceptable loss. Our judgment on investment returns defines the amount of loss and the potential for a subsequent bounce back. Unacceptable losses should be sold and they fall into the realized category. Investments that have unrealized losses are ones that have good potential in this economic environment to recover and give us the return we expect.

Where do we go from here?

As we start this fourth quarter, we are more optimistic about the state of the economy and the potential to see profits. Our view of the world is less pessimistic. For example auto sales recovered by 5.7% in August from their previous lows. Existing home sales rose by 7.7% from their July levels. In both the US and Europe, industrial production grew suggesting positive momentum in the economy. Most importantly initial unemployment claims have leveled out, so the “hard” economic data does not even point to a mild recession – let alone a deep one. We are excited about the rest of 2011 and the potential for 2012. There are real opportunities that we see to grow our clients’ money and increase the value that Legacy gives to you day to day.