Dear Clients and Friends, October 30, 2002
I have enclosed your copy of Caves & Associates’ Market Review for the third quarter of 2002. The review highlights, for the second quarter in a row, investor loss of confidence and a broad, steep drop of global stock prices, contrasting with solid returns for bonds due to the flight to quality and safety. The backside of the Market Review is a table of global investment returns for the summer quarter and nine months of 2002. A second enclosure headed "Economic Review and Market Perspective" provides a longer-term interpretation of current market data.
Caves & Associates discourages focusing much attention on short-term results because a broadly diversified portfolio is structured for the long-term. As we often state, there is no way to completely eliminate short-term risk from an investment portfolio. As you review the data, think in terms of markets (plural), not “the market.” You will notice that typically at least some part of your portfolio is providing positive results.
The current bear market, with a duration of 30 months (since March 2000) and a loss of about 45%, has lasted longer than the very difficult bear market of 1973-1974, with about as deep a decline. Whereas the declines have been comparable and there are other similarities (the price increases in the tech stocks in the late 1990's have been compared to the "nifty fifty" stocks in the late 1960's and early 1970's), there are also significant differences. These include the lack of an oil embargo, double-digit inflation and (ultimately) interest rates, a presidential resignation, and a prolonged war in Vietnam.
We should study history and learn from it, but we should not expect financial markets to always behave in the same manner. While conflict in Iraq seems possible, if not probable, the Gulf War and Afghanistan show that we are much more prepared for that type of conflict than we ever were in Vietnam. While we don't know what will happen in the next few years, or even the next few quarters, we have confidence that the U.S. economy and corporate profits will eventually recover, which will lead to positive returns for stocks. Further, as indicated in previous communications, history has shown that stock markets have an excellent record of rebounding from difficult times. Finally, the rebound typically begins well before the news turns predominantly positive. Thus, we continue to believe that a disciplined investment approach emphasizing diligent fundamental research, diversification, and rebalancing will provide sound long-term investment returns.
Accordingly, my response to the very unpleasant, continuing decline of stock prices is to encourage you to hang on. The fact that this bear market is reaching historic proportions is not cause for panic and should remind us of two positive aspects: first, the bottom is likely near, and second, the long-term outlook is brighter because the market recovery will start from a lower base. Additionally, it will ultimately benefit long-term investors that speculative excesses have been wrung from the system.
Another response in this challenging environment is to work especially hard to re-evaluate and reconfirm our conviction in the validity of the investment processes of all the portfolio managers working to manage your investments as well as the validity of our own asset allocation process. It is our belief that this is the only way to make good investment decisions, avoid making poor decisions, or be frozen into making no decisions. We appreciate your continued confidence in your broadly diversified portfolio designed by Caves & Associates.
New Timing for Writing’s on Topical or Timely Subjects
We'll be continuing to write about topical or timely subjects on a quarterly basis. However, the writings will be published separately from the Market Review and Market Perspective. Timing should be about mid-quarter, so you can expect to next hear from us about mid-November.
Early indications are the following topics will be addressed:
§ To refinance or to pay-off your mortgage, or to do nothing
§ What to do if you think you have been a victim of identity theft
§ Enhancements to Section 529 college funding plans in general and
California's Goldenstate ScholarShare Plan in particular
§ Legislative reforms of corporate governance and public accounting
§ Preserving and utilizing accumulated retirement resources
James Dunton, portfolio counselor and fund president with the respected American Funds Group, provides the following guidance:
"Be cautious about altering your well-thought-out investment strategy. Numerous moves to refocus your portfolio can be costly and are often counterproductive. We invest with the intent of being long-term part-owners of the companies we select. We believe mutual fund shareholders should think of their investments in the same way."
Likewise, Jonathan Pond, noted personal financial planning author, observes:
"It's the investors who get frightened into making big changes in the way they invest who have ended up with mediocre investment results."
In conclusion, we are providing these materials for your information and as a means to educate and stay in touch. We hope you find this information helpful, and we would be pleased to hear your comments and questions. Also, you are welcome to share our views with your family and friends if you think they will benefit. Remember, these materials are available on our website, www.cavesassociates.net.
Thank you for your continued support of Caves & Associates.
Very truly yours,
Preston S. Caves, CFP, MBA, CFA
PSC/slm
Enclosures