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December, 2009 - End of Year Report: “As Governor, I shall seek investors who will bring their capital to Louisiana in an effort to design, develop, and eventually mass-produce an aeromobile.” Ever-whimsical Louisiana politics aside, the lead-in quote provides keen insight into the optimism of technology and poor qualities of prediction. Unfortunately, the Baby Boomer fantasy of personal air transport in The Jetsons is just that; next time you sit in traffic on one of President Eisenhower’s 1956 highways think on how slow the future can be to arrive and how little some aspects of the world change. We travel in internal combustion machines atop rubber tires on asphalt roads, much like any driver seventy years ago; safety, speed and comfort have all considerably advanced but the basic premise would be instantly recognizable to the returning GI’s of World-War II. Music, color and images can and will change (although Art Deco study will tell you less than you think), but the basic way we live in the world is essentially stuck in the post-Industrial Revolution as the “smallward” trend in advancements focused on information technology and health care and let “big” infrastructure be. The space vehicles and Moon bases and all the promise of the twentieth century future failed to materialize. Our flying cars never landed. Or did they? In 1937 Waldo Waterman designed the Arrowbile (U.S. Design Patent #106,939); he built five of them, and they actually flew! In the 1950’s Ford studied the feasibility of the flying car (marvel at the thought of that project advancing over the Edsel) and found both the marketplace and technology sufficient. The FAA got hold of the study and quashed the project, deciding that the regulatory environment could not handle an aircraft in every garage. Flying cars would spend the next fifty years as a wild-eyed futurist joke and we all walk around secure in our knowledge of the world’s limitations. We have an inherent bias of certainty; we feel we know something so we don’t challenge it. We could have flying cars, we just don’t. We only advance when we challenge conventions. January 2009 Wall Street wisdom: The U.S. economy lead the world into recession, it will lead us out! Buy bonds for safety! (Of course flying cars can’t exist!) It’s easy to pick apart last January’s market wisdom and, for that matter, the everyday thoughts of any pundit or money manager; investing by definition involves predicting the future, whether it’s earnings’ growth, dividend growth, interest rates or capital appreciation. You have to do your due diligence, survey the landscape and, in Tom’s parlance, “handicap” the situation as best you can. This will involve error, so it’s not an error that especially troubles us; but when we don’t examine that error and hammer out what we knew, how we knew it and why those beliefs differed from what actually happened, well, we’re not doing the job. We’re succumbing to our limitations. Start with commonly held beliefs of the U.S. economy and its spot on the modern food chain and begin with demographics: On the eve of World War I in 1913, Europe, Canada and the U.S. comprised 33% of the world’s population. By 2003 that number had fallen to 17% and projects to 12% by 2050. In 1950, Europe, Canada and the U.S. constituted 68% of global Gross Domestic Product (“GDP”); by 2003 that number fell to 47%. We can write, have written, and you can find, interesting statistics and anecdotes like this for a month without seeing the same one twice; it comes down to 17% of the world’s population unable to sustain 47% of the world’s GDP over the long term. It all sounds like old hat but too often we see portfolios from non-clients that consider ex-U.S. emerging and smaller markets as minor allocations as opposed to core and growing holdings. This is not exclusively an American prejudice; most investors worldwide tend to prefer the home country due to proximity, familiarity or more emotional patriotic reasons. However, unless there is a drastic demographic change or an earth-shattering technological advancement to vault us past the post-Industrial Revolution (and we think that advancement has an increasing likelihood of coming from overseas), the majority of future returns and commensurate risks in portfolio management will come from outside the U.S., as they have for the past twenty years. As the market criers rang out the refrain of “the U.S. lead us in, it will lead us out,” we should have questioned the premise on the basis of firm demographic information vs. soft “Street” wisdom and the emotional biases inherent in these things; we think we did just that. In fact, let’s write a very plain petard for future biographers to hoist: U.S.-centric portfolios have zero chance of outperforming ex-U.S. dominant portfolios over any reasonable span in our lifetimes, and most likely our children’s. Now, that’s a strong opinion but we’re comfortable with it and if we have a regret (to choose among many) since Tom and I have been running portfolios here, it’s not placing greater emphasis on external U.S. investments for both equity and fixed income. Current equity allocations run roughly 50/50 U.S./ex-U.S. and we expect that “ex-“ number to skew higher as time goes, with increasing emphasis on what are still considered “emerging” markets, especially when you consider that any large company U.S. stock investments increasingly draw revenues from overseas. We also haven’t done enough in international fixed income markets and we expect that to change as we embark on the search for yield, but more on that later. How do we implement these musings? Just because we envision a higher future commitment to ex-U.S. and emerging markets doesn’t mean we envision a shotgun approach by buying a broad index, nor are we going to double our exposures overnight. Yes, holding a few passive indices is important for general risk control and capturing the bulk movement of growth, an approach very much in tune with our concepts of portfolio construction. However, we respect the return-risk link and realize that broad index investments concentrated in a few markets can experience tremendous volatility; Hong Kong’s Hang Seng Index, an emerging market example prominent in many indices, had peak-to-trough price falls of 43%, 60%, 53% and 65% since 1990. Of course, the Hang Seng also has a total return of 671% vs. 383% for the S&P 500 from New Year’s 1990 through New Year’s 2010 (again, risk and return). And that’s not all due to this decade’s horror show; the final tally for the ‘90’s was 498% for the Hang Seng vs. 432% for the S&P 500 amidst a historic American bull market, and 78% vs. -9% in the ‘00’s. That’s a two-decade win streak we don’t see changing. So, although we like holding a core of international investments, we won’t naively add exposure in scattershot fashion, out of respect for volatility and valuations at any given level. What we will do is look for countries, regions and sectors benefitting from or leading global growth that haven’t necessarily been swept up by market-wide moves and still have reasonable valuations. Why are we bringing this up now when we’ve always maintained a strong international exposure? Because we’re concerned that after great 2009 returns many may feel it’s time to cash out and leave the table, and that would be a mistake. South Korea’s Kospi Index, as an example of our thinking, underperformed in 2009 vs. other leading ex-U.S. markets, and has generally lagged the competition for several years; we believe part of that was South Korea’s continuing ascent into the ranks of “developed” nations and more of an equal footing with regional neighbors such as Japan. South Korea, as an export-dominant nation with relatively conservative fiscal policies and a current slight expansionary stance, is extremely well positioned to take advantage of both a recovering American consumer and a burgeoning local Chinese consumer, befitting its position straddling both developed and emerging markets. There is also an exchange-traded fund (“ETF”) tracking the index that is cheap, transparent and liquid, all qualities near and dear to our hearts. This ETF, like many single-country investments, can be focused on a few large companies dominating the market; we will monitor this. There are also a number of ways to invest in international growth without buying foreign companies. These tangential, or “back end,” themes brought us to our Agricultural investment last December; we noticed through last year’s headline-dominating commodities run in Gold, Oil, Silver and other base metals (financial people like to call any metal you won’t wear “base;” possibly as a linguistic slight) that the “soft” commodities like wheat, sugar, corn, etc., didn’t participate to nearly the same extent. Again, it’s been said a thousand times, but unless you believe the emerging world is a mirage, one of the first things anyone does with more money is eat better. We purchased an ETF tracking underlying futures in grains, cattle and other basic foodstuffs. The world will require more food and we’ll be in position to profit over time. We’re also not ignoring the home shores. Outside of more conventional investments closely correlating to broad American indices like our S&P 500 ETF and our actively-managed mutual fund managers, Cambiar, FMI and Montag & Caldwell, we have been and will be specifically targeting sectors with strong international sales. Last year’s Technology ETF investment was based on the belief that the sector could maintain earnings through the economic downturn in part due to strong overseas revenue. Technology, Basic Materials and Energy are the three sectors that sell the most internationally and we always have these areas in focus as the largest domestic benefactors of global growth. This, in combination with the weakening of the dollar, goes a long way toward explaining small cap stocks in-line performance with large cap stocks in 2009 even though we theoretically emerged from recession in the second half of the year. Again, convention says small cap stocks should outperform in economic expansions. But, with limited overseas revenue exposure and an interest rate environment set to increase and make credit conditions more constrictive, it would be our suspicion that large cap stocks are set to outperform small cap stocks for the immediate future. We’ve constructed our portfolios accordingly. Now let’s turn to the question that will absolutely bedevil the wealth management industry for the next two decades: How do we produce income without losing our client’s shirts? There’s been an easy answer to that question for the last 29 years: Buy and hold a fixed income mutual fund! Any fixed income mutual fund! The Federal Funds Target rate peaked at 20% in May of 1981 and for the working lives of pretty much anybody managing money interest rates have taken a three-decade down escalator and produced capital gains in bonds that more than offset declines in coupon rates. Wealth managers (including the authors of this missive) have grown quite comfortable using fixed income as an “income producer,” and “volatility damper,” Street-speak for “if the equities go south, at least the Fed will lower rates and save our [expletive deleted].” That scenario may still play out in the short-term if the economy encounters a double-dip recession but over the long term we’re nearing mathematical maximums of interest rate reductions – rates cannot go below zero on a nominal basis – and rates must re-ascend. Coupons will rise but principal erosion in fixed income mutual funds and individual bonds that need to be sold for liquidity may be quite severe. Even if the anticipated rise in interest rates is a long time coming, current yields are low enough to stop you in your tracks; some money market funds have indicated yields of .01% and a 1-year Certificate of Deposit might get you 1.75%, if you’re lucky. Now, it’s one thing to read that and another thing to invest a $1,000,000 in a CD and get $17,500 back before taxes and factoring inflation. We believe this year to be a major inflection point in the life cycle of current investors when fixed income flips over from “risk reducer” to “risk enhancer.” Investors still need income, though, especially as they near retirement, and some iteration of fixed cash flows to offset the vagaries of equity capital appreciation. We wrote about low interest rates, inflation and the sucker’s game of the treasury market in the 4th quarter of 2008 and eliminated all U.S. government exposure by January of 2009. We took that cash and bought a mix of convertibles, investment-grade corporates, high-yield bonds, and maintained our municipal exposure, thinking default rates would be tamer than forecast and the economy would be perkier than expected. We wish we had made high-yield and international bonds (there we are again) a bigger part of that mix but if you remember back to this time last year, there was just too much fog and smoke to fire half-hearted volleys. We felt we could get equity-like returns out of the investments we did make, and it worked out that way, but now we find ourselves in the unenviable position of having made the easy money with only the zombie-state of low and rising interest rates before us. So, much like international equities, we’ve been forced to challenge conventions about building fixed income into client portfolios and get creative in attacking the problem. We’ve been actively shorting, or investing against, the treasury markets through a liquid ETF since December of 2008 when we began to sell off our U.S. treasury exposure; it doesn’t provide income but it is a capital preservation hedge. We’ve started to mix our individual municipal bonds and mutual funds to achieve shorter durations, or cash-flow weighted measures of maturity. Shorter duration bonds will not yield as much, or gain as much, if market rates decline, but they are much better positioned to preserve capital as rates rise. We’ve also begun to trim our main investment-grade corporate and municipal bond exposure with the addition of Master Limited Partnerships specializing in oil and gas pipeline distributions; the tax structures of these investments have them pay the bulk of their cash flow like fixed income investments and favorable tax treatments make the above-7% pre-tax yields very attractive. If forced, we’d wager the overall allocation to fixed income in the majority of client portfolios, across the age spectrum, will decline slightly in the next few years, et al., a 40% allocation might become a 35% allocation. As we free cash up from traditional fixed income investments it will be imperative to find more creative uses for it in the equity or real asset spaces. Also, as we not-too-subtly alluded to, the international fixed income markets will become more attractive; if our belief is that developing economies are the future then the attractiveness of their debt will become a major factor. In short (our wise-acre of a trader suggests we send these pieces with a sample of Adderall), to give our opening analogy its well deserved eulogy, international investing and fixed income are the flying cars of our investing times; we’re wrong to think we can’t have them, we just have to re-examine our current thinking and come to terms with how. International investing is a perceived known quantity but all too often people feel it’s a minority portion of their portfolios and more exposure is “risky.” We’d argue it’s risky to your future net worth not to take it more seriously. Fixed income is considered the stodgiest corner of the marketplace. We’d argue in the not-too-distant future it’s going to be the wildest ride. We’re going to have to take what we think we know and challenge it to prosper in the future. As a final aside, I’ve always found the year-end letter to be the most difficult to write of the four quarters; in olden times, say, ten years ago, people would look to an annual letter to tell them what happened, but technology’s changed that; everyone now knows what happened and knows it at roughly the same time. Today’s challenge is to tell people why it happened and what will happen, much tougher gigs, and what we’re doing about it, the toughest gig of all. Also, the proximity of the annual letter to the physical conclusion of the year has readers psychologically set-up for a neat wrap-up to events that may only be truly comprehensible years in the future, but we do our best. We thank you, as a client and friend, for the remarkable year that 2009 proved to be. Please contact us with any questions or concerns. By the way, the title of this piece, “All Around the Moon,” is an 1870 novel by Jules Verne forecasting – wait for it – flying cars. Capital Formation Group is pleased to welcome Cheryl Warren-Powers as our new Chief Operations Officer. As of October 1, 2009 Cheryl will be taking over the responsibilities of Joanne Breen, who is no longer affiliated with Capital Formation Group, Inc. Any and all
communication and correspondences should be directed to Cheryl at cpowers@capformgroup.com. Like other parties of the kind, it was first silent, then talky, then argumentative, then disputatious, then unintelligible, then altogether, then inarticulate, and then drunk. When we had reached the last step of this glorious ladder, it was difficult to get down again without stumbling. - Lord Byron October, 2009 - Market Commentary: Third Quarter What if they threw a party no one enjoyed? There are certainly lots of bad party ideas and unhappy guests; attending a Divorce Party doesn't seem like a particularly festive idea to us, unless you get your toaster back. The Boston Tea Party worked for some, but others in The City would beg to differ. One of the most frequently asked questions of late at the Center for Disease Control in Atlanta is whether attending a Swine Flu Party to mingle with those infected by the H1N1 virus to build immunity is a good idea. (In case you're wondering, it's not.) And what if they gave a Market Party, with the seventh-best six-month stretch in the history of the S&P 500 Index at 32.5%, and no one who attended seemed the least bit enamored? More perplexing, a fair number of investors that didn't R.S.V.P. appear unflustered by their absence, if the $3.4 trillion sitting in money market funds holds any meaning (this figure is admittedly down 12.5% from the January 14th, 2009 high but, still, that's a lot of cash). Have we truly witnessed the re-birth of the Roaring Bull many Baby Boomers enjoyed in their prime years? Or is all this a mirage, a classic Bear Market correction? A frequently overused adage on The Street is that every bull market "climbs a wall of worry." The less used sister-saying is bear markets "slide down a slope of hope." It's not hard to understand why the dizzying last six months have been greeted with a collective public, "meh," in our world of constant data mining and regurgitation; this has been the seventh-best stretch in history but five of the first six occurred in the '32 to '38 period and coincided neatly with the end of an 86% peak-to-trough decline in the headline-of-the-day Dow Industrials (don't calculate your 401(k) in that scenario), 24.9% unemployment, another 37% peak-to-trough decline in '33, another 22% fiasco in '34, one final 49% whopper in '38 and Adolf Hitler rejecting the Treaty of Versailles. The sixth instance, 1975, was immediately followed by a 27% Dow decline and the election of James Earl "Jimmy" Carter, Jr., so it's no surprise people aren't feeling comforted by their history books. At this party, it's easy to look around the room and find unwanted guests:
Deflation, housing, income, de-leveraging, jobs and strange rates; it seems almost too easy to thank the host, leave this party, go home and call it a night. But here we are; none of the information above is hidden or hard to come by and everyone came back to their desks from summer and didn't sell everything and leave in September. Why? Loans and leases at U.S. commercial banks have fallen by $429 billion this year; the government has borrowed and back-stopped trillions but you need both loan-makers and loan-takers to filter government stimulus into economic movement; that hasn't really happened - yet - but look what's coming to the party:
Finally, the key to all of this will not be, as too many pundits relate, whether earnings of companies in the 3rd quarter surprise to the upside; they very well may, as many have pleasantly surprised most of this year in relation to Street estimates. The trick will be how they surprise, whether due to cost-cutting or revenue gains. Productivity has increased over the past six quarters at a 2.8% annualized rate, a stunning number during recessionary times, and a sign of people doing more with less, not actually "more" in absolute terms. Unit labor costs - pay adjusted for productivity - have had the largest three-quarter decline since 1974. The average post-World War II, post-recession personal consumption recovery rate is 4.5%. That number seems an incredibly high bar given declining consumer credit and stagnant wage growth. We're thrilled the rally happened; we're ecstatic the rally happened; but if you want us to continue to believe in this rally, we're going to need to see someone sell more of something instead of just firing people, closing plants and grinding down their remaining workers. So, we've done our usually breathless four pages of pontificating and Tom would really like you to know what we actually did during the party. Well, we certainly weren't wallflowers and maintained nearly full equity and non-Treasury fixed income weightings across the spectrum from corporate debt to high-yield to convertibles, keeping cash pegged between 7% to roughly 13%, as the rally extended and we sold some of our convertible assets. As summer marched on we weighed all the arguments above, pro and con as we've laid out, and began to change the portfolios on the equity side from a Value-heavy mix in exchange-traded funds, which performed as expected during the rally, to a more balanced mix with exchange-traded funds and active managers. One manager, Montag & Caldwell Growth, will help us with our Technology exposure and plays into the themes listed above. Another manager, Cambiar Opportunity, will help with an increased Energy weighting. All of our active managers are selected with the goal of helping to protect the downside and limit losses if economic data disappoints. We will hold our cash position and wait on more of the positive signals above and, in particular, legitimate signs of revenue growth and not cost-cutting earnings' padding. If that happens, we will continue to allocate to the sectors we mentioned; Technology, Materials, Energy and Industrials. So, despite obvious worries, we don't think the party's over quite yet; we just want to be cautious and look for real evidence the fun can continue; we don't want to get stuck cleaning up the living room with a hangover. Thanks for your continued support and, as always, let us know your comments, questions and concerns. “I’ve stood on the shoulders of life and I’ve never gotten down into the dirt to build, to erect a foundation of my own. I’ve flown too high on borrowed wings. Everything came too easy.” - the character of Charles Van Doren, in the film “Quiz Show” July, 2009 - Market Commentary: Second Quarter Cognitive dissonance in human behavior states it is psychology uncomfortable to hold contradictory ideas, or beliefs. The theory follows that discomfort, or Dissonance, motivates a person to either; change his beliefs, acquire new beliefs to reduce the discomfort, or reduce the importance of (forget) the conflicting beliefs. Cognitive dissonance appropriately dates back to psychologist Leon Festinger and the 1950’s, the same decade encapsulated by the 1994 film, Quiz Show, the source of our eerily analogous leading quotation. Quiz Show is a meditation on the dissonance of ‘50’s America; political dissonance in the form of McCarthyism, government investigation and a new medium, television, vs. democracy; social dissonance in coastal intellectual elitism and the Beat Generation that would spawn ‘60’s counter-culture vs. the more conservative traditions of the working class; religious dissonance exemplified by indigenous Christians vs. immigrant non-Christians; and, consumer dissonance in the form of outright cheating in the Quiz Show Scandals themselves vs. the rising notion of “entertainment value.” It’s unsurprising all these forces roiled and boiled (and still echo) beneath a seemingly calm surface; the ‘50’s marked the United States’ first calendar decade as the guiding force in world affairs and like any child, no matter how precocious, had growing pains. The ‘50’s was also a decade that saw the birth or formative years of the seminal generation of our world, the Baby Boomers. Sixty years on, America and the Baby Boom generation come to a crossroads where that long-ago established leadership may be ending and cognitive dissonance again rules the day. As of this writing March 9th marked the low point of financial prices and general market confidence and you don’t need Bob Woodward to find general dissonance in 2009;
As belabored above, the 2nd quarter and calendar year have been dealing with the theme of Dissonance; times have never been worse, yet the market for risky assets booms; residential real estate is in shambles and commercial real estate loans are kindling near open flame, yet shares of real estate companies explode; the financial system is closer to French socialism than Mitterrand’s wildest dreams, yet many banks doubled and trebled in price through the quarter; industrial demand is off, yet oil is up. It seems all the 2nd quarter and 2009’s data points have the yin and yang of dissonance so why did investors buy across the board with such abandon over the last three months? To a certain extent, investing is always faced with the dichotomy of positive and negative reinforcement; negative news is ground into the best environments and even without damaging figures investors sell on fears things can’t possibly get better. Remember the Roaring ‘90’s and people fretting over the quaint issues of health care reform and budget deficits? In our experience, following Festinger’s second remedy to relieve the stress of dissonance, most investors add additional theories; presently, investors choose to add the belief that the majority of economic damage has been done and still negative data has the optimistic prospect of being “less bad.” It’s called the Second Derivative Test, if you’ll recall your calculus (and we hope you don’t), a measure to determine inflection points of where macro trends are accelerating or decelerating. In the case of the U.S., GDP, Industrial Production, Confidence and even Real Estate look as though the second derivatives have recently turned positive; markets are designed to anticipate and this anticipation is a sigh of relief that even if we aren’t off to the races the world will not end soon. However, dissonance can also be dealt with by changing beliefs. In our opinion, a sustained upward trend in asset prices will necessitate an alteration of the psychology and a change in belief on one controversial front: Inflation. Inflation, in extreme forms, is voracious; it destroys all a society has by eroding the stored wealth of cash savings, human capital in the form of income and financial assets. Hyperinflation is one of history’s great bogeymen; inflation has effectively rendered Mugabe’s Zimbabwe a failed state; the Confederate States of America’s dollar loss doomed the South’s fight; the inflation of the early Weimar Republic is often incorrectly tagged as a precursor to the rise of National Socialism but was followed by almost ten solid years before the worldwide Great Depression enabled the rise of Hitler; and now we worry that the Federal Reserve’s printing press will lead us into Inflation Damnation. The Baby Boomers, as a natural focus of our piece given their historic stature and still the single most dominant generation globally in terms of numbers and economic power, were scarred by inflation; coming into the workforce and their first career advancements in the ‘70’s with the decade’s annual inflation running approximately 7.3% they were imprinted as young adults with the corrosive power of inflation on their paychecks and have vowed and taught vigilance ever since. The dissonance that Boomers and the society they have wrought will have to contend with is their impression of inflation as an absolute evil and the reality that it is now an absolute necessity. Of course, no sane person advocates hyperinflation; it’s a concept taken to extremes for shock value. We stated above that inflation is so pernicious because it destroys all a society has; but what if all a society has is debt? After all of our Keynes-ian medicine from Reagan through Obama estimates place the U.S. national debt somewhere close to $13 trillion by the end of 2009. As a percentage of our GDP that’s roughly 90% and some countries, notably the United Kingdom, are clocking in higher, but that’s still an albatross of a number when there are only three known ways to extinguish debt: 1) Default. 2) Repayment. 3) Inflation. We can all agree default for the United States is not an option; we’re not Argentina and if we thought 2008 was bad, a U.S. Treasury default would make reading this letter a joy by comparison. Repayment, given the stagnation in incomes and looming tax burdens we all face, would seem to be an onerous task necessitating years if not decades of hardship and a beleaguered consumer that will severely curtail our standards of living and well-being. In matters of debt repayment, in particular, and how it can intertwine with mature populations, it may not be obvious but is illustrative to remember the left field example of the 17th century Dutch Empire: By 1670 Dutch merchant marine tonnage totaled more than that of France, England, Scotland, the Holy Roman Empire, Spain and Portugal combined. For a nation of less than 2 million they achieved this remarkable feat by a combination of technological superiority at sea, fishery and Far Eastern trading. However, by the 18th century, with the rest of Europe booming in terms of population the Dutch became stuck and began to de-urbanize with increased wealth. As European powers continued to assail Dutch superiority the costs of war edged the Dutch national debt from 38 million guilders in 1678 to 128 million guilders in 1713, back when that meant something. By the end of the 1700’s Gregory King, the great English economist, estimated that although the Dutch population was less than half that of England, it was raising more public revenue; all a tax burden on its populace and all a signal that stagnant population and high debt would doom the Dutch Empire. Currency in those days was something you couldn’t just print more of, so the Dutch never had a chance to engage in inflation. Inflation is something we all know and practice in our personal lives; if you have too much debt you vow to make more money; you inflate your income to meet new expenses (cutting other expenses doesn’t directly extinguish debt and leads to a contraction in living standards). This is the course the United States must set, short of hyperinflation, to find our way clear of this mess; we have to fix our debt as much as possible and grow our monetary base - inflate our volume of money, if you will, if not our income – with the practices of personal finance writ large. In our most conspiratorial thoughts this is Mr. Bernanke’s ulterior motive. Inflation also has the sizeable advantage of known cures; Paul Volcker in the ‘80’s and others have given us the blueprint to defeat inflation if we run past our targets. And all this is better than de-flation, which for a debt-ridden society (that’s us) would be catastrophic; imagine having a great quantity of fixed expenses with ever-dwindling income and slackening monetary base and the outcome is all but assured. Deflation has no known cure. The Japanese have been futilely tilting at windmills for nearly two decades with little luck. So, Boomers, friends and all others, get ready for changing your belief on Inflation from foe to friend. A measure of inflation will shield us from the penury of repayment and consumer strangulation and eventually tilt allocations away from some fixed income, particularly U.S. Treasuries, to floating debt instruments, equities and real assets, beneficiaries of a healthy dose. All is not lost and there are even ways to profit. As we co-write this I can feel Tom physically kicking me under the table to lay down the musing pen and get on with it; so how did we actually manage through the Dissonance? We were and are believers in the Second Derivative Test despite the grossly overused media term of “Green Shoots.” We told many of you in person or via phone in the 1st quarter that the only way to turn the nightmare of 2008 into a permanent catastrophe would be to cash in your chips and walk away. It may have been a self-serving statement but it wasn’t simply trotting out the shibboleth of “buy and hold;” the level of ad hoc and coordinated global government intervention, response and stimulus over the last nine months is unprecedented in the annals of recorded history. Put simply, that has to count for something. Combined with the Second Derivative rays of hope and valuations that cratered in March to reflect the worst of all possible outcomes it made sense for us to maintain our risk weightings across the 2nd quarter in Emerging Market equities, Developed Market equities, U.S. Large and Small Cap equities, Corporate bonds, Convertible bonds, High Yield bonds, Real Estate equities and Commodity ETF’s. Our clients were adequately compensated for the capital commitment. As we’ve explained before and brought to ad nauseum above in our inflation and rate theories, we’ve shunned the safety of U.S. Treasuries and continue to outright short the asset class as we have since December of last year. Rates on the 10-year Treasury properly reflected the struggle investors are having with changing beliefs and dissonance throughout the quarter by gyrating from 2.68% in quarter’s beginning to a high of 3.98% and closing of 3.53% at quarter’s end. We’ve stated before that 6% is fair value for the 10-year and we’ll maintain that price target while considering making marginal moves along the way. We also look to better our fixed income position and take advantage of the upward trend in rates that improving credit and inflation will hopefully engender by exploring floating rate securities and capital-cushioning distressed debt. We also believe the upward trend in rates will exist concurrently with tax rate increases and shine a favorable light on municipal debt as a resource of growing scarcity that may have better relative value than many forms of traditional corporate debt for the private client world. We will also hold onto our small beachhead in inflation-protected bonds as an early invitation to the party but haven’t seen the required data to increase our weightings yet. On the equity side, as valuations came off their lows and exceeded our fair value targets throughout the quarter we sold domestic equities and raised cash levels to approximately 10% across all accounts. As we concluded the quarter we turned our sights to increasing our global equity weightings at the expense of U.S. equity weightings to take advantage of forecasted higher developing market growth rates. We also maintained our domestic large company weighting vs. small company exposure on more attractive relative valuations and a forecast of greater expected returns. As the quarter concluded we were preparing to commit money to a group of active managers with significant exposure to Technology and Energy; the former displaying the balance sheet and cash flow characteristics to weather the vagaries of a Second Derivative world and the latter a commitment to the future of our new friend, Inflation. This upcoming quarter, as a preview of future letters, we’ll be spending a great deal of time dealing with the changing demographics of our world and opportunities we believe exist in Health Care. In conclusion, to bring this rambling wreck full circle, the final way people deal with Dissonance is to forget conflicting beliefs. We’re not sure that’s possible these days for any meaningful length of time. Technology and media have created a Moebius strip of information around us; during any small stretch maybe society and investors, in particular, can let go of stress-inducing conflicts in ideals and beliefs but all the world’s punditry is too eager to constantly regurgitate the tension in blogs, tweets, conference calls and, yes, Quarterly Letters. Our job is to deal with these tensions and find ways for you to profit. Thank you, again, from all us at Capital Formation Group, for placing your trust in us during this most amazing and troubled of times. We appreciate it more than we can eloquently express and work diligently to repay that faith. Marcel Quiroga joins Capoital Formation Group Capital Formation Group, Inc. is pleased to welcome Marcel Quiroga as our Vice President of Wealth Management Relationships. Ms. Quiroga joins us with more than thirteen years of financial services and wealth management experience, having worked most recently with the Private Banking and Investment Group of Merrill Lynch and the Individual Investment Group at Morgan Stanley. As Vice President of Wealth Management Relationships, her responsibilities will be to help our clients attain financial independence, build their legacies and manage their financial affairs. She has a specific expertise and focus on the needs and aspirations of senior executives and entrepreneurs. Her email contact information is marcelq@capformgroup.com. Please join us in welcoming Marcel. As always, we are committed to providing the very best in client service, and we thank you for your continued support. April, 2009 - Market Commentary: First Quarter Quarterly newsletters from financial advisors usually fall into two categories: Dry recitations of portfolio moves eliciting ennui in all but the most dedicated of financial spectators; or, pontifications bordering on pretension - broadly placed under the heading of “musings” - that may provide interesting food for thought but little in the way of practical guidance. In the past we can certainly be accused of churning out both. Yet, every now and then, the dubious task of the newsletter author is made easy by the rare combination of interesting and pragmatic trades and provocative historical context. The 1st quarter of 2009 was just one of those times. The Great Recession of 2008-? has laid bare a fierce argument within the heart of the financial industry. In defiance of the past few decades’ strict construction, Modern Portfolio Theory approach to portfolio management there appears to be a “back to the future” movement to less model-driven judgment. The core argument: Should investors make decisions by deeming an asset cheap or expensive relative to perceived norms? Or should assets be weighted based on historical absolute and relative returns and standard deviations? The former is an old, Ben Graham/Warren Buffett-style approach championing individual asset analysis and no small measure of potentially flawed foresight. The latter stems from the no-longer-quite-so Modern Portfolio Theory of optimizing an asset mix based on past data, by definition assuming past is prelude and the overall whole is greater than the sum of any given part. Where does Capital Formation Group stand in this debate? Not to perfect the fine art of waffling, but we very much believe in blending both methodologies. The past behavior and interrelation of assets stemming from Modern Portfolio Theory and so important to modern portfolio optimization is a vital starting point for any portfolio construction. However, the conceit of optimization in its pure form is its backward looking nature; it discriminates for assets that have done well and against those that have done poorly, buying expensive assets and avoiding cheap assets. The debacle of Japanese equity performance in the last two decades, with the Nikkei 225 falling from its historic high of nearly 39,000 at the end of 1989 to current 7,000-8,000 levels, is startling proof of overreliance on past performance leading to bad judgment if viewed from the perspective of Japanese investors in the late ‘80’s. The experience of American investors in the Standard & Poor’s 500 over the last ten years, with a -3% annualized return, is another example of forcing investors into poor investment decisions if monies were optimized into the large cap market in the late ‘90’s based strictly on past performance with little thought to valuation. Investing by nothing but historical performance can be like driving by your rearview mirror; safe views often leading to wrecks. Conversely, valuing individual assets and asset classes based on absolute and/or historic norms is also an exercise fraught with peril; there are myriad valuation techniques and for any given asset at any given level you can find a proof and a pundit arguing a side with tremendous confidence. Using valuation as the only guideline can also lead to myopia in portfolio construction and away from the diversification mantra of Modern Portfolio Theory and your grandmother’s time-honored adage of “not putting all your eggs in one basket.” Diversification, although not flawless, is still a useful way of hedging risk when its impossible to know with precision how assets will move in relation to each other over a given future time frame. To sum up our amalgam of the theories; what CFG tries to do is base the concept of any portfolio on historic asset class movements and then monitor asset classes for clear over- and under-valuation signals to affect changes at the margins. Here’s an example of how the process affected our portfolios in the first quarter, starting with the S&P 500, the benchmark stalwart and still the most widely watched reference for how “the market” is doing: Like all asset class valuations, what should be a simple statement regarding how “expensive” the market is quickly devolves into an argument of measures; By as-reported earnings? By operating earnings? By sales? By cash flow? By dividends? In the early part of the decade people liked to talk about “By ‘pro forma’ earnings,” which was a Latinized way of saying “earnings because we said so.” Then you have discussions regarding time frame; Trailing earnings? Forward earnings? Robert Shiller’s ten-year average earnings? The variations can be dizzying and we believe lead to a paralysis that allowed optimization and Modern Portfolio Theory to gain such a foothold in financial community thinking; after all, if no one can agree on what metric to value an asset by, at least the returns have been what they’ve been, no arguments necessary. We wrestle with these issues like all market participants but, as with most things, try to keep things streamlined and logical. We’ve made the decision to focus on earnings; earnings drive the market over long-term much like your own earnings drive your life. But what form of earnings? A common argument is that current times are so extreme any earnings’ valuation measure should discount the “one time” charges companies are facing as they are not part of normal operations and focus on operating earnings only. There is a certain sense to that as we all feel we’d like to know the core earning power of an asset, but too often the concept of the “one time” charge is stretched to the point of credulity; it seems to us that within the normal course of a corporation’s (or individual’s) lifetime seemingly infrequent expenses occur with great frequency. It should be part of a company’s credo to manage things like restructuring, capital loss risk and financing costs as part of their business model much like you or we are forced to manage particularly large one-time tax bills or dental work. Oddly enough, if we can’t afford something because of an unusual one-time bill, a vendor never believes the “but on an operating basis I can afford that” argument. There’s been a widening split between operating earnings and as-reported, or “all in” earnings over the last two decades; something eventually has to give. Hence, with a focus on as-reported earnings we moved on to the proper multiple and time frame to be paid for those earnings. If we expand our view and focus less on the immediate period we see the average quarterly price-to-as-reported earnings multiple on the S&P 500 from ’37 through ’08 to be roughly fifteen times. That factors in a recent multi-decade period of extremely high P/E’s, and those high P/E’s have certainly not precluded generous returns at times; this is important to remember for the purposes of diversification and portfolio construction as discussed above and bears a thesis statement for our investing: If our analysis says an asset is expensive by historical standards that doesn’t tell us how long it will remain expensive and, although we may begin to limit our exposure to the asset, it is not prudent to entirely exit the asset unless presented with convincingly extreme conditions. We prefer to make changes at the margins. All in all, we like the logic of long-term averages as they include a wide range of market conditions and we realize coming into the analysis that a precise number will be impossible to find. So, with our fifteen times guidepost multiple in mind and the price readily available, we have the “P/E” and the “P” for what we think the S&P 500 should be worth. The last part of the puzzle is to solve for “E,” earnings, no small feat. As-reported, top-down earnings' estimates for '09 by Standard & Poor’s stand at $35 at the time of this writing. This earnings’ estimate is actually an increase on '08 as-reported earnings, which look like they're coming in around $15. However, that number includes some truly massive charges, such as a -$3 index affect for AIG alone and will result in the first ever negative quarter for the index. Although we just railed against one-time charges above, we think it is reasonable to assume that negative quarters are at least a temporary anomaly. After all, if you do not assume negative aggregate earnings are a temporary anomaly, it makes little sense to make future large cap equity investments, right? So, how does that $35 figure stack up historically? Let’s approach the problem another way; over the past twenty years the as-reported earnings quarterly average is roughly $10. This includes many single dollar reports from the late '80's and early '90's and led to a considerable scale up into this decade. Let’s make an assumption (and it’s a big one, but they all are) that if you take that $10 figure and scale up for inflation, a $12.50 quarterly average is reasonable. This equates to a baseline of about $50 per year in the modern environment for the S&P 500. Hence, it's at least a theoretically reasonable set of assumptions to take fifteen and $50 as a multiple and earnings baseline number. That puts 750 on the S&P 500 as our fair value guidepost. How did this analysis affect our portfolio management during the quarter? If you think you have a fair value for something you want to buy more of it when it’s under that value and own less of it when it’s over. That’s logical. But you also have to realize these things are estimates at the best of times and you should avoid tax issues and excessive trading for clients. During the quarter we looked for clear discounts and premiums and made changes at the margins accordingly. Toward February’s end (little did we know we were approaching the early March lows), we added 1% to our large cap assets in the form of the S&P 500 ETF, as we felt we were at more than a 10% discount to fair value. In keeping with the same logic, immediately after 1st quarter’s end, we felt after the massive run-up from the March lows that a premium had been reached and we sold 2% of our large cap domestic assets. Until fresh data changes our analysis we’ll look to maintain this discipline through the near-term. Again, our methodology is to be long term investors with the core of our main asset classes, but to be disciplined with valuation at the margins. It makes little sense to us to turn a blind eye to the relative worth of assets we’re buying with clients’ money. Keeping an eye on value also affected our portfolio management with regards to fixed income. Common wisdom holds the 10-year government bond as the main proxy for treasuries; this makes sense as it is often the instrument of choice for hedging and funding liabilities within the pension, mortgage and insurance industries and is a commonly purchased asset by sovereign wealth funds. In addition, the suspension of the 30-year government bond a number of years ago made the 10-year the default bond of choice. As an aside, it’s a plausible theory that many of our current economic problems were caused by excessively low treasury rates as cheap funding gave traders access to leverage and induced otherwise risk-averse investors to take on risk to match liabilities. So in analyzing the 10-year bond we noted the recent period of historically significant price transformations; worldwide panic brought 10-year treasuries to historic lows of approximately 2.00% in December '08. Rates subsequently backed up to the 3.00% range until March 18th, 2009 when a major announcement by the Federal Reserve to buy treasuries directly forced a historic one-day move to 2.50%. Now, contrast that modern government bond rate with the long-term, post-World War II average inflation rate through 2003, 4.0%. In the past twelve months the Western world has faced perhaps the first deflationary recession since the 1930's but the government policy response of monetary base expansion will most likely cause future inflation to at least the degree we’ve averaged in the post-war world. Like we said with earnings above, something has to give; no one sane continually invests in fixed income securities below inflation rates and locks in a negative real return. The safest assumption is that 4.00% will be a low base number for inflation in the future. It is also rational to assume that investors will require a risk premium in the future to hold treasuries; this would make sense given the general balance sheet of the United States and for a buyer like China, in particular, given its outstanding holdings, to demand a rate over and above a U.S. inflation level to maintain purchasing power. If we assume an extremely modest risk premium of 1.00% added to a base case of 4.00% inflation, it is a reasonable assumption that a 10-year rate below 5.00% is unsustainable in the long-term. However, because of government intervention and the volatility of current economic data there is no way to assign a timeframe for the 10-year to rise to this sustainable rate; yet, we believe this is a long-term theme worth pursuing. Through this quarter and the last, we have pursued this theme through a liquid ETF, the ProShares UltraShort 20+ Year Treasury, which corresponds to twice the daily inverse performance of the Barclay's 20+ Year Treasury index. In conjunction with our thesis above, we eliminated our treasury exposure formerly held on an index level via the Barclays’ Aggregate Index ETF. We used all the monies raised from this sale to pursue opportunities in the taxable fixed income market in the form of corporate bonds and inflation-indexed bonds. Again, we haven’t abandoned the principle of taxable fixed income when it makes sense for tax-advantaged investors and we haven’t altered our macro weightings in client’s asset allocation; we’ve simply eliminated the exposure of one asset class, treasuries, at a time when we feel we’ve attained clear and convincing historic extremes. If the market changes and we have a wild swing upward in rates, and treasuries become fairly valued again, we may change our opinion. Hopefully, this letter gave you some insight into our process and how we go about considering the portfolio in its theoretical form vs. the reality of the marketplace; investing presents challenges by pitting academic and formulaic correctness vs. the very pragmatic needs of a world rightly dominated by bottom-line returns. We try our best to straddle these occasionally contradictory mindsets by grounding the portfolios in the best theory available and then actively shaping them with data from the world around us. As always, we thank you for your faith in us during this most difficult of economic climates. We are honored to continue to serve your financial needs. Janaury, 2009 - Capital Formation Group, Inc. is pleased to welcome William M. Doran, Jr., as a new Director on our team. Mr. Doran joins us, having retired from Morgan Stanley after 24 years of service. At Morgan Stanley he was a Managing Director who started and managed a Global Foreign Exchange Proprietary Trading Group. In addition, he was in charge of FX Electronic Trading during the last years of his career at MS. Mr. Doran holds a BA from the College of the Holy Cross and an MBA from the Amos Tuck School at Dartmouth. His email contact information is bdoran@capformgroup.com. Please join us in welcoming Bill. We are committed to providing the very best in client service, and we thank you for your continued support. December, 2008 - End of Year Report: End of “Wisdom is what's left after we've run out of personal opinions.” Our original intention was to headline the 2008 annual letter with an adage from that ancient observer of Asian emerging markets, Confucius, regarding the lack of change that only the wisest and dumbest of us undergo. Instead, we discovered this benignly cynical and far more appropriate witticism from Mr. Hightower, a renowned humorist and commentator. To us, it sums up much of what happened in 2008: We rang in twelve months ago with firm opinions regarding what was and was not possible; now, through harrowing personal experience, we find ourselves buyers at great expense of attained financial wisdom. As investors, both firm and client, we have all learned firsthand what is possible and how radically it can differ from our perception of probable. Summing up 2008 as a single, clean entity is no easy task, and may very well be impossible at this early date. In no way understating the case, major news came from so many sources that recounting the details and impact of every attention-grabbing storyline from 2008 would take far more words than we could possibly write, or you would comfortably read. Furthermore, simply reciting to you the dry data of percentage moves and price levels from the previous twelve months implies little in the way of reflection to our way of thinking; we don’t have a client that can’t check a newspaper or log in to a website to see how truly horrible the financial climate was last year (and it was). Instead, we invite you to take an admittedly wandering tour with us of six things we (think we) learned by having our opinions laid bare and reviewing the wisdom left over; 1. The Fallacy of Composition works. Economists, and their benighted ilk, use this term to denote the mistake of inferring that a thing is true for a whole because it is true for part of a whole. For instance, few would argue that home ownership for an individual is a bad thing; tax benefits, capital-building, inflation-hedging, responsibility of ownership and a personal sense of accomplishment are all marvelous offshoots of owning your own home. However, as in so much of life, a good thing can be pushed too far. Home ownership for decades in the post-World War II environment trended between 62% and 65% from 1960 through 1995. Opinions (them again!) violently differ, but due to some combination of; the ‘90’s economic boom, the Community Reinvestment Act, the prodding of Fannie Mae and Freddie Mac by the Clinton and Bush administrations, the 1999 Financial Services Modernization Act, advanced securitization techniques and the increasingly cheap cost of money in the latter Greenspan years, the percentage of Americans owning their own homes increased to nearly 69% by 2005. This may seem like a trivial percentage increase, but reality is that not everyone is meant to be a homeowner and many that were not natural homeowners were induced to become so. Laboring under the Fallacy of Composition we socially mandated home ownership from the individual good to the societal bad and set ourselves up for the overbought, overleveraged housing environment that is crumbling beneath bank’s balance sheets. The Fallacy may also have overextended the individual good of stock ownership in the last two decades. Dividend flows, inflation-hedging and capital gains were all well and good when 20% of a 220-odd million-American nation owned stocks when Reagan was elected in 1980. As roughly 60% of a 300 million-American nation now owns stocks, it takes little beyond simple math to figure why we had a two decade-long-plus bull market and why it may have finally petered out. It’s also a basic lesson in supply and demand as to why people were willing to pay $24 dollars for every dollar of S&P 500 earnings last June when they were paying $9 for that same dollar in Reagan’s inaugural month. The above is not merely pointing out the inner workings of a neat theory; it has incredibly important investment implications. If 62% to 65% is the natural habitat for home ownership then we have to look for a return to that level before housing prices can stabilize. It’s also mathematically impossible to triple the domestic percentage of ownership of equities from our current level. The hope for future equity investment has to be one of continued population growth in the U.S. and the global population following American investment characteristics, both of which we think likely. Keeping the Fallacy of Composition in the forefront of our minds, as investors, limits our expectations and makes us consider “too much of a good thing” and helps temper our extrapolations; forgetting the Fallacy leads to unreasonably optimistic projections. This lesson is general and applies to all asset valuations. 2. It’s the 100-year hedge fund flood…or is it? We’ve lost track of the number of articles, newsletters and talking heads (and hedge fund managers) that claim this is the year of the “100-year flood” for the hedge fund industry, the basic defense that 2008’s industry-wide poor performance was once-in-a-lifetime worthy. The 100-year flood is a statistical phenomenon that works out to the water level that has a 1% chance of happening in any given year. Put another way, it’s a 100-year flood if the water discharge has exceeded that value on average once every 100 years in the past. The point, meteorological interests aside, is that hundreds of years’ worth of data goes into the concept. When Tremont Partners, a well known hedge fund advisory, started in 1984 they were able to identify 68 hedge funds. In 1990, there were perhaps 300 hedge funds, mainly the exclusive preserve of wealthy individuals. By 2000, there were 3000 or so funds and institutional investors had begun to take serious notice and stakes. The hedge fund industry, as we know it in its 8000-plus fund, trillion-dollar guise, is arguably ten years old. Now, perhaps there’s some merit to the notion that we had generationally unique credit and economic conditions that lead to the industry’s recent demise, but those same credit conditions allowed hedge funds to employ leverage and deliver the returns for which they were so renowned in the last decade. Fact is, no one knows what the normalized long-term pattern of several thousand hedge fund managers employing “advanced” financial techniques, derivatives, short selling and leverage looks like over the long haul because the industry hasn’t been around long enough! Maybe what we saw in 2008 from the hedge fund industry, a once-a-decade bust, is the norm? Maybe it isn’t? No one’s seen enough to know! So, whenever you hear someone say hedge funds are experiencing a 100-year flood, make sure – as will we – to remember it’s a 10-year old river and invest accordingly. We’ll likely avoid the industry until more rain has fallen. 3. Was July 13, 2001 the most destructive day in modern financial history? It was all quickly forgotten in the maelstrom of September 11th just two months later, but July 13, 2001, was the announcement date for Beijing winning the 2008 Summer Olympics. From that point forward it would seem to the external observer - and it appears to us that we are all external observers when it comes to this topic – that China went on a massive infrastructure spending spree as the Olympics would become the burgeoning power’s global debutante ball. Estimates place the direct amount China spent on the Olympics at roughly $40 billion in dollar terms; but other reports figure the total amount of infrastructure spending in China at the more credible figure of $400 billion through 2010. Infrastructure spending is fueled by commodity purchases; steel, concrete, fuel, etc., are the sine qua non ingredients. The question then becomes: Did the massive Chinese Olympic commodity boom become the massive global commodity bust? From August 2001, the first full month after the Olympic announcement, through August 2008, the end of the Beijing Olympics, the Dow AIG Commodity Index returned 12.03% vs. 2.65% for the S&P 500 Index. The Dow AIG index only started in 1991, so easy comparisons are difficult going back, but we can’t find a modern time period of more significant outperformance for commodities vs. equities. We understand it sounds like a conspiracy theory and the whole concept of the commodity boom being solely fired by the Olympic build-out is too neatly packaged; Oliver Shale-stone, if you will. After all, equities during the time period were coming off the millennial bust and we understand infrastructure spending occurred in many countries beyond China and the marginal pressures on natural resources of an increasing global population. Additionally, it would appear commodity prices leveled off a few months before the end of the Olympics, but this may simply be a reflection of curtailing construction prior to the opening ceremonies. Like we said; it’s all too easy to spin a coincidence into a conclusion. Yet…it’s an amazing coincidence that going back through financial analysts’ reports and the media in the last few years we see nothing but upward commodity pressure commentary and assurances of continued pressure…until a short time after the end of the Beijing Olympics on August 24th and all financial hell breaking loose a week later. If nothing more than a coincidence it’s one of the more amazing coincidences of our investing careers and we’ll wrestle with our opinion of it for many years. Maybe, in the end, it teaches us the most obvious reason for a surprising move in asset prices is the only reason. So, conspiracies aside, where does this leave our opinion of the commodity play? We continued to trim our weightings in the space through the first half of the year during the pricing surge and were fortunate to be left with token exposures by the time the rout began in August. The underlying theme of dwindling resources versus an increasing population that underpinned much of the post-2000 run makes logical and intuitive sense; at some point, barring unforeseen scientific breakthrough, we will no longer have the ability to pull, say, copper out of the ground. However, the problem is twofold: First, there is the issue of timing as no one’s quite sure when the viability of current resource recovery methods will end. Second, when resource scarcity becomes critical the incentive to find substitutes also becomes critical. Succinctly; just when you think you have a thing people have to buy no matter what, they figure out something else. From a technical standpoint, we’d imagine commodity pricing has a bit of a tailwind if the dollar comes under renewed pressure as most commodities are priced in dollars and falling dollar values would logically lead to upward price pressure. Yet, until there’s some sort of demand increase on the back of a re-inflation of the global economy, we’d imagine another bull run in the space is distant. We’ll spend the first part of the year with our token exposure and monitor global demand. 4. Gold made little sense. Gold apologists – and you know who you are – can claim the yellow metal did its’ job in 2008 by eking out a single digit percentage gain for the year in the face of 30%-plus declines for equity indices around the world. True. However, gold topped out at slightly over $1000 an ounce in March during the Bear Stearns debacle and, if the latter half of 2008 proved anything, those were halcyon days. Despite the most frightening financial stories imaginable appearing on a nightly basis, gold bounced around the $700 to $800 dollar range during year’s end. If you had known half of what was coming in September and October you would have bet your subprime mortgage in August gold would price at $1500, minimum. A lot of people did exactly that, and they doubled down on their pain. As a fear gauge, we have to say, gold failed to impress. Gold bugs, as aficionados are known, also claim their metal is a brilliant inflation hedge. The U.S. government, coming as close in our lifetimes as we hope to see to the Confederate dollar press, is currently and will in the future issue debt with hedonistic abandon. If there is any truth to the definition of inflation being too many dollars chasing too few goods then the future should be an environment of at minimum upward inflationary pressure. If this is the case, gold market pricing is doing a lousy job of anticipating future inflation by steadily declining from its March peak. As an inflation gauge, we have to say, gold failed to impress. Moreover, to the consternation of the gold crowd; you can’t eat gold, it has limited industrial applications, has no earnings or dividends, most of the gold that was ever mined is still extant, and, we regrettably point out, unless you own it in physical form your GLD depository shares will be useless in a true end of the world scenario; you can count on the military seizing any government- or corporate-held physical gold in that case. And, if you do own it in physical form in your home during the aforementioned End of the World, we advise having a very persuasive means of protecting it. As a final assault against reasonable analysis, some of the most influential global purchasers of gold are Indian women. To be blunt, we have little insight into this market segment and we’re not so sure many of our domestic colleagues are better informed. We’ve owned gold in the past. Until we can satisfactorily answer the conundrums of all the above with credible, reasonable analysis we’ll hold off for the immediate future. 5. Diversification works…until it doesn’t. “Everything works until it doesn’t” is actually a favorite saying of our Chairman, Tom Troy, and you’d be hard pressed to disagree with the pragmatic logic of the statement. We’ve long preached diversification to our clients, sat with many of you and showed off attractive, multi-colored slides of the concept, and generally still believe that “not putting all your eggs in one basket” is a good common-sense rule. But, as in so many other ways, 2008 tested this theory to the breaking point as nothing seemed to zig when all the assets were zagging, if you catch our metaphor, with the exception of Treasuries and outright short positions. The first thing we asked ourselves as the New Year began was: Is diversification dead? The theory has certainly taken its knocks. We’ve watched historic correlations between asset classes creep steadily upward over the years and the unspoken fear that in times of crisis all correlations would converge to one nearly came to pass. We’re also struck when monitoring other investment advisors’ general asset allocations how cloned the industry has become and how eerily similar shifts in assets seem to occur across managers, as if no one feels comfortable to implement an idea until everyone does. Combine these factors with the ease and rapidity of a broad expanse of ETF, mutual fund and down-market hedge fund investments through which most people can gain access to formerly exotic investments and you can see why many aspects of diversification have come into question. So, considering these negatives, do we continue to diversify our clients’ holdings? In reviewing the history of asset classes we’re increasingly concluding that ’08 was likely anomalous in its scope, but we are cognizant that herding in asset classes is a credible phenomenon. As enumerated above, we do consider some of the benefits of diversification to be muted in the modern investing environment. Despite this, the alternative of choosing one or perhaps two asset classes and taking on the risk of future crises more endemic to one asset class than all of global finance would appear to us the more frightening prospect; continuing this section’s theme of down home homilies, we don’t want to throw the baby out with the undiversified bath water. We’re also mindful, through watching the Madoff affair from a distance with shock and horror, that placing too much directly with any one investment vehicle leaves one open to many forms of specific risk. If for no other reason, we’re pleased to maintain our business model of multiple third-party mutual funds and ETF’s to help our clients and firm avoid one catastrophic fraud or mismanagement. 6. Don’t let anyone hold ’87 over you again. For the past two decades younger investors labored under the saw of their elders that unless you lived and invested through the Black Monday crash of October 1987 then you hadn’t really invested at all. Old trading desk hands still recall with bowed heads the 22% one-day decline on October 19th of that year. Descriptions of the continued panic and declines through the end of that October are relayed with muted tones. Younger investors countered these tales with the millennial experiences of 2000-2002; 2000 was the first time much of that generation had seen an entire sector, Technology, evaporate with abandon. The absolute fear and uncertainty of the 9/11 attacks and what happened when the center of American finance, New York, was brought to its knees still brings a shudder to all. In the end, the old financial argument of whose experience mattered more was rendered futile in 2008: Both were flawed. ’87, for all its drama, saw the benchmark indices manage a positive return for that calendar year and the August ’87 closing high would be regained in roughly two years. ’00-’02, for its grinding length, saw smart money managers simply rotate away from headline domestic benchmarks and off to the races in emerging markets, real estate and commodities. The psychological effects of both events and how they imprinted as the dominant base-scenario theme on different strata of investors would prove fateful last year: Older, ’87-dominant investors were taught that declines could be sudden and dramatic but equally so in recovery. The message was to get in quickly after a swift decline lest you miss the big bounce, but this time around each swift decline lead to another. Younger, ’00-dominant investors were taught that declines could be avoided by simple asset rotation. A decline in one set of assets could be made up by rotating into another set of assets, but this time around asset rotation only brought more pain as nothing worked outside of volatility and U.S. Treasury debt. We must study history but 2008 proved Mark Twain’s quip that history rhymes more than repeats is a truism: Each market cycle is a unique fact pattern and sometimes our learned behavior is our worst enemy as we expect matters to play out as before. We guarantee this lesson will never be forgotten in our shop. The one silver lining we can all take from last year is to say with no hesitation to all who come after, “you haven’t seen anything like ’08.” Let’s hope we’re all long gone when someone can honestly reply, “’08 was nothing compared to this.” Now, we’re more than happy to relay our thoughts and comments and thank you for reading our musings but the truth is we’re not paid to be a think-tank or dispenser of mid-brow social commentary; people pay us to manage money and as we mull over lessons learned amidst the dust drifting down at year’s end we’d like to relate the immediate opportunities for our investors. As we mentioned in our thoughts on diversification the only readily viable asset put to positive use in 2008 was U.S. Treasury debt. As no one could have imagined considering how transparent and liquid the market trades, U.S. Treasury returns have trounced S&P 500 returns over the last ten years, resulting in the 10-Year note hovering near 2.00%, as yields move inversely to price. The dilemma for investors, as we see it, is a desire for principal safety versus a yield that is unsustainably low and will most likely not cover even the mildest forms of future inflation. Hence, we analyzed the markets trading off the Treasury baseline but involving more credit risk, i.e., principal return, and saw an opportunity; in December of ’08 we began to trim U.S. Treasury positions held through a market index and redeployed to upper-tier, investment-grade municipal and corporate debt. Our plan for ’09 is as follows: As credit markets thaw through further government intervention and a return to more normalized trading volumes we’ll continue to minimize our U.S. Treasury holdings, which we consider to be overvalued, and move further along the credit risk curve; we’ll follow our high-grade corporate investments with initial investments in convertible debt and lower-tier corporate debt. At some point, we envision having no U.S. Treasury exposure and full positions in municipal debt, where tax appropriate, all grades of traditional corporate debt, convertible debt and bank loan debt. We will also build a small position to hedge the principal risk of rising rates by shorting U.S Treasuries through a liquid ETF product. For equities, we’ve realigned our portfolios to focus on sustainable dividend yield and reasonable book valuation, concluding these investments would better weather the economic storm than more cyclically-sensitive vehicles. We’re expecting the markets to be in the midst of a prolonged bottoming process and, much like fixed income, we’ll be looking for the first rays of sunshine in corporate profit reports and equity sentiment to begin tilting the portfolio back to higher-beta, more cyclical investments. To be sure, we do all the above with full expectations that headline economic news may, and most likely will, prove dire in the coming months. We consider this to be the worst economic and financial climate since the Great Depression. However, the world is not coming to an end and we don’t wish to position our portfolios for yesterday’s disasters; we could be, and most likely will be, early to the turn in some asset classes. As investors attentive to long-term wealth-building, we’ll follow our game plan, monitor events for signs of change and spotlight the readily controllable; we were extremely aggressive in realizing tax losses in 2008, one of the few positive outcomes of last year. Through heightened volatility we harvested many losses that have a real economic value for this year and coming years and continued to reshape portfolios right up to year-end. Attention to detail, a sound, forward-looking strategy and a rational but positive mindset for the coming year will be our most valued tools. We hope you found at least some of the above interesting and informative; the entire year made a deep impression on us and forced a professional pause that has an entire industry questioning what is in- and out-side the box thinking and why we constructed the box in the first place. In the end, that meditation will be a positive for investors of all stripes as we learn the difference between rational and statistical, and how to meld the two. We do feel a few days into 2009 is far too little time to say we’ve absorbed and appreciated all the lessons 2008 has to teach us, and maybe the greatest lesson of all will be to continually question the lessons already taught. Over the coming months and years we’ll be relating more of our reflections, all stemming from 2008, the most amazing of financial years. We thank you for your continued support and trust in our stewardship and guidance of your financial endeavors. If there are any questions or issues please feel free to contact us. Thank you again. November, 2008 - Capital Formation Group, Inc. is pleased to welcome C. Parker Lattin, II as our Research and Planning Officer. Parker is a recent graduate of Western New England College where he obtained a Bachelor of Science Degree in Business Administration with an emphasis in finance and economics. Parker has financial services experience from working with the Global Private Client Group at Merrill Lynch. Parker's e-mail contact information is cplattin@capformgroup.com. October, 2008 - Market Commentary: Third Quarter We entered 2008 with a conservative worldview; wanting to raise our cash levels from year-end 2007, we trimmed what we felt were overvalued assets such as Emerging Market Equities and Commodities that had experienced parabolic growth over the last half-decade. We selected investments and a group of active managers that we thought would best serve us in periods of market turmoil, if not outright decline, and began the 3rd quarter of 2008 after a raucous half-year with a sense of cautious optimism. We thought we understood the magnitude of underlying problems within the global financial system and economic data continued to be mildly positive, if not robust. The last three months have proven universally remarkable. The 3rd quarter of 2008 was among the most amazing periods in the history of global finance. Wall Street was reshaped seemingly overnight and the global repercussions from Hong Kong to Iceland continue as this is written. It would be futile to attempt to review everything that has happened; it will take years and many volumes to fully explore and understand what has occurred and the personal pain, loss of wealth and reputation, and sheer upheaval that has been beyond anything we would have predicted. Instead, let’s recognize what we consider to be the most significant developments for future investing and the establishment of building blocks we see in place for a better tomorrow:
So we’ve ended the 3rd quarter with a much different world. With everything we’ve outlined above just beginning to take hold, and again mentioning the coordinated and historic global central bank rate cuts that occurred just as we went to print, we are expecting the return of properly functioning global markets to slowly materialize in the form of:
Thus, we begin the 4th quarter with renewed, cautious optimism after all the above and everything we’ve been through. We raised cash in what we believe to be the most prudent manner available to us as fiduciaries throughout the 3rd quarter, and were careful in putting new monies to work. This wasn’t an effort to “time the market”; it was simply a recognition that we were living historic times and caution was the better part of valor at the margins. We’ll be putting this money back to work over the quarter, in measured fashion, as we now believe valuations in many asset classes to be at attractive levels and the building blocks we’ve detailed above to be in place and providing for a brighter future. We are also going to actively engage in tax loss swaps for Exchange-Traded Funds (“ETF’s”) to realize the economic benefit of losses, maintain investment exposures and give us some measure of protection from mutual fund capital gain distributions, which may be substantial this year. What we’d like to do now is give a brief review of the major asset classes in our investment portfolios, tell you what we’ve done, why we’ve done it, and what we’re looking to do over the next quarter. All our clients are structured differently, to meet individual needs, so some investments we detail below may not apply to you directly, but we hope the review of our entire investment rationale will be illustrative. If nothing else, the landscape-altering events of the past year should have forced every money manager to question and test the theses underlying any investment. CASH: Last year we made the decision to change our money market investments to 100% U.S. Treasury-denominated assets in Qualified accounts and revenue-backed, tax-exempt, municipality-issued short-term notes in Non-Qualified accounts. We’ve maintained these positions to avoid issues in commercial paper and lower quality money market investments where we did not feel we were being adequately compensated for the additional risk taken. We will maintain these investments, and forego theoretically higher yields in other money market investments, until we feel comfortable that the credit markets have completely stabilized. U.S. EQUITIES: We began the quarter with six active managers in U.S. equities, diversified across company size and sector. Four of our managers, Fairholme, FMI Large Cap, Champlain Small Companies and FBR Focus, managed well through these difficult times. As we practiced our discipline of manager review and analysis, we concluded to dismiss two managers:
Additionally, we made the following investments:
INTERNATIONAL EQUITIES: We began the quarter with four active managers in the International Equities space. Two of our managers, UMB Scout International and Dodge & Cox International, managed well through these difficult times. As we practiced our discipline of manager review and analysis we concluded to dismiss two managers:
One of this year’s many important lessons concerns the argument of Emerging Markets Equities and “decoupling” from the United States and Developed Market equities and indices. This has proven to be entirely false. A memorable takeaway from this experience has been that if people - anywhere in the world - don’t trust Bank of America they probably will not trust the Russian equity market. That is an investing rule we are willing to follow for the foreseeable future. FIXED INCOME: For Non-Qualified accounts, and appropriate tax brackets, we’ve long followed the discipline of using state-specific, low-cost, high-quality, diversified tax-exempt municipal bond funds. We believe that municipals almost always make sense over the long term for high-bracket investors due to high personal tax rates and their higher, equivalent taxable bond yields. This has proven to be a safe and steady approach and, although municipals have seen their share of turmoil this year in the credit markets, we see substantial and historic value in tax-free municipal yields versus comparably low-risk Treasury counterparts. We have maintained full allocations in this asset class throughout the year for risk reduction and income and will continue to do so for the foreseeable future. For Qualified accounts, we’ve traditionally used a mix of diversified ETF’s and a domestic investment-grade active bond manager, Dodge & Cox Income, as well as foreign bond managers in Pimco Foreign Bond and Loomis Sayles Global Bond. We made the decision to dismiss Loomis Sayles Global Bond, not due to a lack of manager conviction, but simply to minimize our portfolio exposure to a strengthening dollar, something Loomis Sayles did not hedge by mandate. We have also avoided the lower-quality, high-yield bond market over capital loss concerns and economic turmoil heightening risks at the tail end of a long bull market in the asset class. We continue to monitor this space, as well as potentially intriguing opportunities in investment-grade corporate debt, but have not yet made further investment. REAL ASSETS: We approach Real Estate and Natural Resources through the use of two active managers and a group of ETF’s. Our active real estate managers, T. Rowe Price Real Estate and Third Avenue Value, serve two very different functions; T. Rowe Price is largely a domestic REIT manager that will somewhat follow the broad U.S. REIT market, and they have done as such so far this year. Third Avenue is a high-conviction manager that seeks deep value in global real estate and, as such, not likely to match broadly used benchmarks. At this time, we have met with Third Avenue regularly, as we do all our managers, have heard their investment rationales, and continue to have faith that they have a significant foundation of future value in their portfolio. Acknowledging them as true Value investors, we are prepared for periods of underperformance in exchange for the long-term out-performance of their investments. We have always used, and will continue to use, ETF’s to gain direct exposure to a diversified basket of commodities, including Oil, Gas, Precious Metals, Agricultural Staples and Base Metals. We plan to hold some commodities, as they historically have uncorrelated returns compared to the public equity markets. However, as mentioned above, we trimmed our exposure earlier this year, as we became concerned that too much money had entered the space too quickly. We are believers in the long-term, secular cycle of scarce resources, but we remain wary of any asset class that has a parabolic return pattern. In conclusion, we thank you for your continued support and confidence in Capital Formation Group, Inc. We believe this to be the most difficult market environment of our lives, and we are humbled that you have placed the faith in us to manage your assets during this time. Hopefully, this admittedly long letter has answered your investing questions, but if it has sparked further questions, or if you wish to speak with us at any time, please call or e-mail. We will be available. July, 2008 - Market Commentary: Second Quarter This may be our most important quarterly update as it establishes the themes we’ll follow for the foreseeable future. Succinctly put, your portfolios are experiencing the effects of an equation:
Inflation is THE subject of the next chapter of financial history, for both the developed and emerging worlds. The emerging world will have to deal with dwindling resources for an exponentially more demanding local populace. The developed world will have to deal with the odd new paradigm of the emerging world exporting inflation in the form of resource competition instead of deflation in the form of cheap labor. Inflation is shifting the view of all markets right before our eyes. Having established our baseline argument for inflation, what are the effects and how do we protect your portfolios? More importantly, how do we profit? The central dilemma is that high, rising inflation is the bane of financial assets. Stocks and bonds are worth less in inflationary environments as the real value of their income streams declines and investors require a higher premium and, hence, demand a lower multiple to own equities. Conversely, real assets become more valuable as their intrinsic worth provides a hedge against inflation. Housing and real estate are exceptions at the moment but it’s more indicative of how real estate, over the last decade, became much more of a financial asset through the use of mortgage securitization and home-equity lines and deviated away from its traditional real asset origins. So, what we’ve been watching for the past year, in our minds, is the market instinctively reacting to inflation and re-rating equities downward and real assets upwards. Stocks down, oil up. High-quality fixed income has largely held its ground but we believe, as people come to grips with the truth of inflation, that asset class will have a significant negative real return. Our conviction remains that financial assets, taken as a whole, will continue the meager returns of the last decade and will not re-establish the broad, rising markets of the 80’s and 90’s. However, this does not imply it is impossible to make money as an investor; it just means times have changed and we have to change with them and be more creative. Here’s our game plan going forward:
It’s important to note that all of the above actions will be taken at the margins of your portfolio. We’re not selling off equities and bonds, and we’re not resorting to non-diversified portfolios. It also doesn’t mean we won’t see some tremendous financial asset rallies in the near future. The broad asset plan we discussed with you most recently is still in place; but we feel the plan of attack we’ve outlined above will have a beneficial long-term effect to help fight the long-term ravages of inflation and the current financial turmoil. We’d just like to conclude with some thoughts on a few noteworthy asset classes:
We appreciate your valuable time; we felt there were a lot of issues we wanted to address. As always, thank you for your continued confidence in Capital Formation Group, and please contact us if you have any questions. April, 2008 - Market Commentary: First Quarter Most couldn’t wait for the first quarter of 2008 to end. From political and corporate scandals to the effective liquidation of a Wall Street titan, Bear Stearns, it seemed as if every dawn preceded a disaster. The S&P 500 finished the quarter down 9.4%, with the international MSCI EAFE Index also in negative territory at 8.9%, as investors came to understand the ramifications of the credit crunch and the root problem of the American housing market. Contrary to popular belief, the historic decline in home values combined with the legacy of substandard lending practices did not cause current widespread defaults in the mortgage market. The reality is, the perception of future widespread defaults started the financial equivalent of musical chairs and no one wanted to be left standing with bad debt. Fear of holding defaulted debt stopped people from trading. Whenever trading stops and market liquidity evaporates, you get situations where bankers and lenders suddenly have to prove they’re creditworthy; and any banker will tell you the moment you have to prove you’re creditworthy, you’re not. This was the essence of the Bear Stearns scenario. Lack of trading, and the distrust it breeds, spilled over and disrupted many markets during the quarter. Formerly sleepy areas like municipal auctions found themselves in disarray. Odd rumors filtered out during seemingly quiet afternoons that trading desks wouldn’t accept bids on U.S. Treasury debt, the supposedly safest financial instrument in the world. The disarray and confusion in the U.S. markets put undeniable pressure on the dollar, which fell to generational lows versus other major currencies. The dollar’s decline, in turn, created a huge tailwind for rising commodity prices. Most commodities, like Oil, Gold and Copper, are traded internationally in U.S. dollars. As the dollar fell in value, the path of least resistance was for world traders to demand more dollars for raw materials. When Oil hit $110 per barrel, optimistic pundits who thought we might skirt a recession finally seemed to capitulate. The whole quarter was Exhibit A in how interconnected the world has become. So, now that reading this has you thoroughly depressed, where’s the silver lining? More to the point, do we find any opportunities to make money in this mess? Yes we do, and we believe the good news starts right here at home. Good news is that rising commodities eventually sew the seeds of their own destruction as the recessionary tendencies they create lower demand and normalize prices. Further good news is that the Federal Reserve and Treasury seem absolutely driven to avoid any major market panics. Steps they’ve taken from opening credit lines to investment banks to lowering rates to the media omnipresence of financial officials tell us they grasp the gravity of the situation after last fall’s lamentable period of denial. Better news is the state, financial institutions aside, of corporate America. This is not the overvalued, cash-poor, debt-strapped wasteland we were left with the last time the market tumbled in 2000. American companies are flush with cash, have strong balance sheets and the larger, multinational firms have been able to take advantage of our weak dollar to boost export and overseas profits. The commodities boom has also fueled the earnings of our domestic oil and materials producers. Valuations are admittedly a trickier issue; analysts’ estimates are still too optimistic, in our view, and we will be in store for a few quarters of weak earnings, with financials leading the way down, but will rebound next year. Yet, even in a worse case scenario, the large company U.S. market isn’t demonstrably overpriced. Overall, the lack of conviction in the U.S. equity market and inflation scare reminds us of the late ‘70’s market when earnings’ and dividend yields looked wildly attractive, yet no one could see past the frightening inflation numbers. Combine all the good points above with the indisputable fact that large company shares have been roundly trounced by U.S. small company shares and international equities for years, and their valuations on a relative basis look historically attractive, and we have what we believe is an opportunity in the second half of the year to make decent returns for our clients. We are particularly focused on areas that have favorable long-term fundamentals and enticing political and demographic stories, such as construction and infrastructure and retail consumer companies. The bottom line is that we find U.S. large caps to be a present opportunity. Playing to these themes, we’ve begun to gradually rotate a portion of our investments away from commodities, locking in attractive gains, and establishing larger positions in the large cap U.S. market, for all the positive reasons above. We’ve done this in conjunction with increasing our weightings in large cap shares versus their small company and international brethren, and spending some of the significant cash levels we accumulated over the holidays. Note that we have no intention of abandoning either the commodity or international markets. We are believers in the continuing scarcity of natural resources and any drop-off in price is most likely a pause rather than a permanent reversal. We are also believers that most of the world’s future growth is in developing nations, like China and Brazil. However, it seems to us only prudent that after multiple years of extremely strong price appreciation in the two areas, we should shift some investments to the U.S. sector for all the reasons we’ve detailed above. We would throw in the additional benefit that in such uncertain times as these, we are hard-pressed to believe that multi-national U.S. companies aren’t safe havens for all investors, regardless of nationality. The final point we’d like to address is the area of fixed income. Mortgage-linked and asset-backed bonds have been in the epicenter of the storm and there’s been spillover into the asset class as a whole. With the Federal Reserve’s help, the market will eventually right itself, but that help will leave rates at unsustainably low and very unattractive levels. Inflation will eventually force the Fed to raise rates but that will involve capital losses for fixed income investors, potentially severe losses. We’ve clearly been advocates of using fixed income as a risk-reducer in portfolio construction and as an income generator, but our research shows that over the long-term, fixed income is not a viable source of returns. This may be the beginning of the most important trend over the next several years, in terms of asset allocation, as we emerge from these turbulent times and the government is forced to deal with inflation and realizes the folly of inappropriately low rates in a capitalist society for the speculative bubbles they create. As this occurs, fixed income will not be the reliable safe haven it has been over the last quarter century. We’ll be ready to guard against this and will take appropriate steps so your monies do not suffer. As always, please contact us if you have any questions. It’s been a pleasure working with you this quarter, and we look forward to many more. May, 2007 - We have always felt that our charter is to completely align ourselves with you, your family, and their needs. And, we are firm believers that these needs are both physical as well as fiscal. That is why I am pleased to introduce this new service from PinnacleCare that we can now offer to our family office clients. PinnacleCare is a medical advocacy group that can connect you to the best healthcare available today, without bias towards an institution, physician group, or one-size-fits-all mindset. They provide you with a personal trusted health advisor who can help you, and access the vast resources of PinnacleCare:
We have researched this organization thoroughly and highly recommend it to our family office clients. So much so, that we have partnered with them to provide additional services to you, or provide the program at a reduced cost upon signing that you could not receive by going directly to PinnacleCare. You can learn more about what PinnacleCare can offer you and your family by visiting their web site – www.pinnaclecare.com, or by calling us with any questions. The Chairman of PinnacleCare will be available to all our family office clients to answer your questions and meet with you. April, 2007 - Capital Formation Group, Inc. was recently featured in BusinessWeek's "Investment & Financial Planning Insights" section. The article, "Estate and Financial Planning...Redefined," is excerpted below:
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