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What we anticipate for Q2 and Q3 of 2007
- Continued slower economic growth for the US and increased risk for stocks.
- Relatively stable interest rates as Fed monitors the battle between inflation and slowing growth.
- Continued stable economic growth for International developed markets.
- Increased volatility and the potential for substantial corrections in some Emerging Markets.
- A slow continuation of the "re-pricing of risk" in all asset classes.
- Continued weakness in housing markets.
Recent Portfolio Moves:
- Reduced our overall investments in stocks by about 10% in the Moderate Growth and Aggressive Growth Portfolios.
- Sold out of investments in Emerging Markets and Small Company Markets.
- Added to our investments in mid and large size US companies, and large size International companies.
- Added to our investments in Short-Term US Bonds.
US Economic Overview:
While corporate profits have remained relatively strong this quarter, I believe economic growth is slowing and pressures appear to be mounting on the US consumer on four fronts: According to FNMA and Bloomberg, 1) many adjustable rate mortgages (ARM's) are scheduled to start resetting this year resulting in higher monthly payments for many borrowers. 2) Lending standards are tightening making it difficult for many homebuyers to qualify for a loan or re-finance their existing debt to have more affordable payments. 3) As the housing markets soften, housing wealth is decelerating. 4) Energy and food cost are rising and may drain purchasing power.
None of this could be considered good news for consumers or the markets, but I believe there is a good chance that the end result could be limited to sluggish growth and flat market performance for Q2 and the start of Q3. Even a more protracted combination of these trails in my view will not trigger outright consumer retrenchment, but weak consumer spending and confidence does make our economy more vulnerable.
Market Implications:
It is my sense that the strong economic growth we have enjoyed for several years now is about to take a pause. If this happens it could increase volatility and risk in stock markets as investors re-position portfolios for a slower economy. On the bond side, the yield curve could continue to steepen at all maturity levels for a while, fueled by the re-adjustment of asset risk premiums and a whiff of stagflation. If, as I sense may happen later this year, energy prices decline and inflation subsides, short-term rates could drop as markets anticipate eventual Fed easing.
Risks:
As always, there are many risks on the horizon threatening to form into "the perfect storm", and I think it would take a major, unexpected market event to bring them all into line. Some of the risks I am watching at the moment are signs that the economic "pause" could be more intense than I expect, and corporate earnings may disappoint more than anticipated. I am also keeping a close eye on the US jobless rate, anti-China proposals coming out of Washington, and the inevitable emerging market(s) correction and its effect on the markets of developed economies.
As always, please feel free to call me with questions at (858)350-1010.
Sincerely,
Craig P. Kelley Sean P. O'Hara
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* Performance information stated above is for the one year time period, January 1, 2008 through December 31, 2008, from December 31, 2008 through January 31, 2009, and from inception, March 31, 2006 through January 31, 2009, as is indicated. Performance information is for Kelley Investments Managed Accounts Program where client accounts are managed on a discretionary basis. Not all accounts managed by Kelley Investments are part of the discretionary Managed Accounts Program. Performance information stated above does not pertain to any accounts that are not part of the Managed Accounts Program. Performance results for accounts that are not part of the Managed Accounts Program may differ significantly. Performance information quoted above represents past performance and is not a guarantee of future results. Performance information is quoted on a Gross basis and does not include deductions for management fees or trading expenses. If these fees and expenses were taken into account, performance would be lower. The investment return and principal value of investments in the Managed Income & Growth or Managed Growth Portfolios will fluctuate so that an investor's shares, when redeemed, may be worth more or less than their original cost.
**For illustrative purposes only. It is not possible to invest directly in an index. Comparisons with the S&P 500® Index are not meant to be indicative of any of Kelley Investments Managed Portfolio strategies, asset composition or volatility. Given the wide scope of securities held by S&P 500, it should be inherently less volatile. Our results may differ markedly from those of the S&P 500 in either up or down market trends. The performance of the S&P 500 is shown with all dividends reinvested into the index and does not reflect any reduction in performance for the effects of transaction cost or management fees.
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Conference Call
To listen to a replay
of our
January 12, 2008 Conference Call, dial (877)471-6587
and enter Program ID 1038358075004#
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Craig P. Kelley offers Investment Advisory Services through Kelley Investments, A Registered Investment Advisor. Client assets are held in custody at Fidelity Investments clearing firm, National Financial Services LLC (NFS).
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