Fourth Quarter 2008 Market Review

Financial markets were under extreme pressure during the fourth quarter. Stock prices declined dramatically across all markets, capitalizations, and investment styles as investor confidence wavered and world governments struggled to stabilize the financial system. Among numerous stimulative and bail-out efforts in the U.S., Congress authorized a $700 billion Troubled Assets Relief Program (TARP). Oil prices fell precipitously, and the U.S. dollar strengthened against most world currencies, except the Japanese yen, as frightened investors sought the perceived safety of Treasury bonds and the greenback. The Federal Reserve lowered the fed funds rate to a range of 0 - .25%, market interest rates declined across the yield curve, and interest rate spreads widened dramatically between higher and lower quality bonds.


Equities Review

There were no "safe havens" in the equity markets and selling was broad-based. Fearful investors sought safety in the form of high-quality, fixed income securities, especially those backed by the U.S. Government. In general, stock prices declined at a pace not seen in decades, and until November 21, the decline for the S&P 500 Index was among the steepest since the Crash of 1929. The average diversified U.S. equity fund returned -21.5% for the quarter. Value and growth stocks experienced similar losses; two style-oriented all-cap indexes, the Russell 3000® Value Index and the Russell 3000® Growth Index, returned -22.4% and -23.2%, respectively, for the quarter. All sectors were down, with telecommunications services, utilities, and consumer staples holding up the best. They had returns of -5.5%, -10.6%, and -13.2%, respectively. The worst performing sectors were financials, materials, and information technology with declines of -33.6%, -31.8%, and -25.8%, respectively. Within the financial sector, REITs were especially weak, with the Dow Jones Wilshire REIT Index plummeting -40.0% for the period.

International stocks also experienced substantial declines amid an environment of slowing growth and deteriorating credit conditions. In contrast to the prior quarter, however, developed countries stocks modestly outperformed their U.S. counterparts. The dollar rose 5.1% versus 19 currencies tracked by the J.P. Morgan Dollar Index during the period. The dollar’s appreciation produced currency losses for the unhedged investor, which amplified already weak results in local currencies. The average diversified international equity fund returned -21.5% in U.S. dollars. Emerging markets suffered steeper losses, with the MSCI Emerging Markets Index declining 27.6% in U.S. dollars for the period.

Fixed Income Review

Fixed income performance varied considerably with higher-quality bonds, particularly treasuries and agencies, significantly out¬performing corporate bonds and high-yield bonds by historically high margins. The Barclays U.S. Aggregate Index of U.S. investment grade bonds returned 4.6% for the quarter (formerly Lehman Brothers). Yield spreads against U.S. treasuries increased dramatically as investors curtailed risk. The Barclays U.S. Treasury Long earned 18.7% for the period while the Barclays U.S. Corporate High Yield returned -17.9%. U.S. Treasury interest rates fell all along the yield curve to extraordinarily low levels. Yields on the 3-month, 2-year, 10-year and 30-year Treasuries finished the quarter at 0.11%, 0.76%, 2.25% and 2.69%, respectively. Bonds of foreign developed countries earned solid returns for the quarter despite currency losses. Emerging market bonds were hurt by slowing economic growth and the flight to safety and the U.S. dollar; the average emerging markets bond fund returned -11.1% in U.S. dollars for the period.