(text of email sent 5/26/09)
Given the markets’ behavior in recent weeks, and other developments, we thought a mid-quarter bulletin might be in order.
Market Turbulence
Clearly, market volatility has been at heightened levels. This is not unexpected; we have been saying that volatility well above pre-2008 levels will probably be the norm for some time. The proximate cause of any period’s turbulence is usually different from that of prior periods — this time, the primary culprit is credit issues in the Euro Zone (and associated concerns about the future of the Euro itself), with investor edginess exacerbated by the short-lived-but-still-not-fully-explained “flash crash” of May 6, escalating tensions in Korea and elsewhere, the environmental disaster in the Gulf of Mexico, etc. But, whatever the reasons each time, the bigger picture is always the same: the markets go up, the markets go down, but in the long run, the markets go up. Once markets dip enough (usually due to emotional overreactions and the herd instinct), other investors recognize the situation for the buying opportunity it is and bid the markets back up. At the end of each cycle, the only investors that truly get hurt are those that lose faith — that either cash out or move to a more conservative strategy — during the dips. Those moves are almost always driven by emotion and are destructive. This is the reason that, while equity index funds average an 8% to 12% annual return over the long term, the average investor in those funds averages only 3% to 4%. They lose faith at precisely the wrong times, and regain it after the opportunity has passed. That is human nature*. And it illustrates a large part of the role that Brinton Eaton plays: to help protect our clients from emotion-based counter-productive behavior. If you find that you need moral support to keep your faith, please give us a call.
Portfolio Protection
This past Friday marked the first three months of your investment in the Deutsche Bank structured note, and several of you have asked for our observations on its performance to date in light of recent market declines. First, let us reiterate that this note is not designed to offset moves in the S&P 500 Index on a day-to-day basis, but to provide a meaningful degree of the protection we sought for you over the term of the note. Even though three months is a short period in this context, the market disruptions in May have provided a “test in miniature” of the type of events we would hope to have the note protect you against. We are pleased to report that the note has performed well: Since the February 23 inception of the note and through Friday, the S&P 500 Total Return Index has declined negligibly, while the note has increased approximately 6% after DB/Fidelity expenses. We will provide periodic updates on the performance of the note as we go forward. But, again, please do not look for this note to respond on a daily basis; another reason not to follow its performance that granularly is that the note’s market price, while updated daily in your Fidelity account, is delayed by one day due to the layers of communication between DB and Fidelity. We track the actual daily market price and compare it to our own calculations as a “double check”, so if you have any questions about the value of your note, please do not hesitate to ask us.
We remain comfortable with the levels of protection we have added to your portfolio, by virtue of the structured note and the new portfolio diversifiers we described in our February 12, 2010 bulletin. But we also remain vigilant on two fronts. One, we are alert to the possibility of having to make tactical shifts to your portfolio should unusual market events dictate. The Investment Objective Confirmation you have executed with us gives us the flexibility we need to do so within the context of your long-term investment strategy. And two, we continue to research and develop ever-better strategic approaches to portfolio construction and protection for you. We will continue to report to you on those developments as they come to fruition.
Proxy Solicitation
Finally, we understand that many of you have received calls in recent days from The Altman Group on behalf of Rydex/SGI, soliciting your proxy vote on the approval of a new Investment Advisory Agreement and the approval of a change to the Fundamental Investment Policy on borrowing money. While proxy vote solicitation is nothing new, the persistency and aggressiveness of these calls have been quite unusual in our experience. Although, as you know, per our Proxy Voting Policy we take a “hands off” approach to proxy voting, we have complained on your behalf to Rydex, and they have asked us to apologize to you for any inconvenience. That said, we find nothing so unusual about the substance of the changes they are proposing that would explain the intensity with which they have been soliciting your vote.
As always, let us know if you have any questions.
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*See, for example, the article in the May 23, 2010 issue of The New York Times, “Resisting the Urge To Sell Low”, which advises, in part, “The market is lurching, and that is precisely when impulsive behavior can hurt the most”, and “…hasty decisions taken at anxious moments can be extremely costly”.
