D3 Business Update (The Good, the Bad and the Ugly):

We are beginning our annual estate planning review focusing on the documents that our Comprehensive and Retainer clients have. This is another value added service to help you identify any gaps in your estate wishes.   We will be taking inventory of the documents, reviewing them for consistency and letting you know if we identify any gaps.  When the estate tax laws change next year, we will focus our review on the potential tax liability.

 

Everyone had a great time at the D3 Financial Counselors, client appreciation event at Emmetts.   I heard nothing but positive feedback about the food and the service.  We had a record turnout and hope you enjoy the gift we gave you.

 

As I shared with all of you last week, Peter Marchese resigned from D3.  He decided to get out of portfolio management and wanted to work with institutions rather than individuals.  So it is good he left D3 because we focus on individual family service and customized portfolio management.  We did maintain a consulting contract with Peter if we need his service.   I will shift my focus from marketing back to portfolio management.

 

Many of you have asked if I was going to replace Peter; but before I answer that, I have to rewrite D3 Financial Counselor’s strategic plan.  I thought I would share with you some guiding principals and some business experience and realizations that I will incorporate into the plan.  As I shared with many of you, the long term goal of D3 Financial Counselors was to serve a select group of 100 individuals and families.  When Peter joined D3, we doubled that goal.  Given our current staffing and access to part time resources, we can add 20 more households without having to add any more experienced staff.

 

The fact that I trained Peter for his new job (evaluating mutual funds for 401k plans), reinforces my experience, that I am a good teacher.  When I worked at Northern Trust, I trained over 10 portfolio managers.  Since I opened D3 Financial Counselors, I have trained over 6 people in financial planning.   I anticipate that the D3 revised strategic plan will incorporate this strength of mine with perhaps a formal training program focusing on financial planning and portfolio management.

 

I anticipate putting the finishing touches on the revised strategic plan in the middle of December, and completing the action steps before the end of the year.  Rest assured that nothing will change in the breadth of our services, or our commitment to provide high quality service to you.    

 

D3 Investment Outlook (Gridlock?):

With the U.S. election over and the Republicans controlling the House and the Democrats controlling the Senate and the White House, it is likely that our old friend “Gridlock” returns to the political scene.  Even though President Obama has reached out to the new Republican house, because of the extreme views of some of the newly elected representatives (tea party), it may be harder than ever to pass laws this year.  While this may be frustrating, we will say that “Gridlock” is much better than “Mayhem.”

 

Historically, gridlock has been viewed favorably by the financial markets (Reagan, Clinton and Bush Presidencies).  This is primarily because the markets can count on a period of time where tax and fiscal policy won’t change and as we all know, the financial markets like certainty.   Our first indication of the strength of gridlock will be if the Bush tax cuts are allowed to expire at the end of this year.

 

Economic Outlook:

We believe that we are at an inflection point in the U.S. The economy needs to grow at a 3% or higher rate over the next 5 years to lower the unemployment rate.  A 3% or higher rate would be more characteristic for periods of economic recovery.  If the economy doesn’t grow at this type of rate, we could be entering into a period that would be similar to what Japan has experienced the last 10 years.

 

We currently think that the surprise in the U.S. is that the economy will grow faster than what the bond markets currently anticipate. This is what keeps us up at night because, if the bond market gets a whiff of economic growth or inflation, the rise in interest rates will be immediate and painful.

 

We believe the stock market is appropriately valued for a slow economic growth forecast.  70% of the companies in the S&P 500 exceeded earnings expectations by average of 6.6%.  What is more impressive is that sales growth for this universe increased on average by 8.3%. The average for professional analysts forecast that earnings for 80% of the S&P 500 companies will be higher next year as well.  If the U.S. economy grows at a faster rate than 2%, U.S. companies will be under valued for U.S. dollar investors.

 

Last but not least, finally the tight price correlation between the stock and bond markets in the U.S. is starting to decline.  For the first time since the financial crisis started in 2007, the 30 day stock and bond correlation moved negative (-.42).  This is important because it generally means that stocks will be evaluated on their individual merits rather than being valued as a fear based abandoned asset class.     It also indicates that there is a perceived difference in the expected real rate of return between stocks and bonds.

 

D3 Financial Counselors Insight:

I mentioned this at our client appreciation event, and I think it is worth repeating.   In case it passed you by, we are in a real time information world because of the wide acceptance of smart phones (connecting to the Internet everywhere) and social media (real time event reporting, even if it is mundane).  Because of the speed at which information flows throughout the world, and how quickly people react to it, we have incorporated two principles at D3:

  1. We expect increased volatility in all markets.
  2. We apply the four Rs.
    1. Recognize how the information affects us emotionally
    2. Reflect on the accuracy and the importance of the information
    3. Reframe the information from multiple perspectives
    4. Respond to the information in a well thought out, planned action.

So in conclusion, expect things to move at a faster and faster pace and don’t be surprised if the economy grows faster than expected.  This will be good for stocks, and bad for bonds.

 

We continue to ask ourselves this question; would our clients be better off owning a 10 year treasury bond paying a 3% coupon (with the potential for capital depreciation) or an S&P 500 stock fund paying 2% (with the potential for capital appreciation).  We asked the same question in early 2003 when the bear market caused by the technology bubble ended (in case you forgot, the 2003-2007 bull market started on the day we invaded Iraq in 2003).  As the economy gets stronger the answer becomes very clear.

 

We view the decline in the stock market from the recent November highs as a natural reaction to the anticipation that capital gains rates are scheduled to go up next year. This impacted the municipal bond market significantly since municipal bonds were one of the best performing investments so far in 2010.  Additionally the stock markets concern about the weak links in the European Union will boil over from time to time, which was the case for Ireland last week.

 

When the bond market starts to sniff higher future rates, bond issuers start to come out of the woodwork.  Municipalities need to borrow more money than corporations so the supply of municipal bonds coming to market is much greater than the current demand, causing municipal bond prices to decline significantly over the past two weeks.  We think the decline is overdone and municipal bonds are attractively priced for tax advantaged income oriented investors.

 

D3 Investment Strategy (So what we are doing):

  1. We are moving assets into absolute return products that are designed to capture 50% or more of the upside while limiting exposure to 25% or less of the downside in the markets they participate in.
  2. We are moving out of short duration bond funds into higher yielding products that will move more with the equity markets than the bond markets.
  3. We are moving into international bond funds with lower U.S. dollar exposure to hedge against a declining U.S. currency.
  4. We are replacing equity funds that pay little or no dividends with equity funds that pay dividends.

 

We continue to look at alternative asset classes that generate cash flow, participate in growth and are somewhat insulated from rising interest rates.  We are also starting to look at life insurance settlements as an investment and starting to evaluate some of the new annuities being created by the insurance companies. Our research is focused on investment products where the possibility of a total loss of principal is extremely low, cash flow is generated and future capital gains are possible and likely.

 

Lastly…..

This is the season to be thankful. We want to thank Peter Marchese for his efforts and insights over the past two years.  We wish him happiness and luck in the future.  We want to personally thank you for your confidence in our capabilities and we continue to strive to earn that confidence every day.  Everyone have a Happy Thanksgiving.

 

Donald D. Duncan MBA CFA™ CPA CFP®               Adam Glassberg, Financial Planner

Michael Meyers MBA CFP®                                       Patty Shipinski, Administrative Assistant