Monthly Market Archive

Posted January 15, 2009

Quarterly Market Commentary – Q408

Presented by Adam Brooks, Daniel Evans, & Jared Pearson

Adieu 2008!

With the tumult of 2008 officially behind us, investors are looking ahead with wary optimism, hoping that the New Year, as well as a new administration in the White House, will help to revitalize prosperity for the economy and financial markets. While it is easy to flip the calendar to 2009, however, the fallout from the collapse of the U.S. housing bubble continues to weigh down the economy—and investors’ psyches—both at home and abroad. Despite the best efforts of policymakers around the globe to counteract the negative forces at play, the repairs are still very much a work in progress. The policies enacted thus far have indeed shown signs of efficacy—and we expect to see continued improvement in 2009—but the advancement is likely to be neither smooth nor rapid.

We believe investors, who are unable to influence either macroeconomic policy or financial market performance, will be well served in this environment by focusing on what they can control—seeking to build wealth through a disciplined saving plan and a prudent, long-term investment philosophy.

No fourth quarter rally

The fourth quarter of 2008 delivered a sad final chapter to a decidedly grim year, especially for investors who envisioned a late-year comeback. Falling residential home prices—the epicenter from which the current financial turmoil spread—tight credit conditions, and growing feelings of consumer pessimism combined to put a drag on global consumer demand, leaving many businesses with greatly reduced sales and profits for the quarter. Domestic automakers, who saw their monthly sales decline by roughly 30 percent to 40 percent from the prior year, found themselves teetering on the brink of collapse in December, providing a high-profile illustration of the magnitude of the stakes at hand.

Amidst this stream of ever-worsening news, the S&P 500 Index suffered a loss of 21.94 percent in the fourth quarter, while the Dow Jones Industrial Average (DJIA) lost 18.39 percent for the period. These steep declines helped to make 2008 the second worst year on record—a distinctly unwelcome milestone—for major stock market indices like the S&P 500 and DJIA, which lost 37 percent and 31.93 percent, respectively, for the year. To find the only year that was worse, you’d have to flip through your history book all the way back to 1931, in the heart of the Great Depression.

Evolving policy responses

Facing an increasingly challenging environment in the fourth quarter, policymakers and legislators continued their efforts to breathe life into the nation’s economy. For its part, the Federal Reserve (the Fed) dropped the target federal funds rate effectively to 0 percent, as a means to spur lending activity and to dissuade investors from hunkering down in ultra-safe investment options. The Fed also initiated a program in late November by which it indirectly facilitates lending for activities like auto loans, student loans, credit card purchases, and small business loans, which are crucial to fostering a robust and healthy economy.

Congress engaged in two major initiatives during the quarter, although it failed to reach consensus on the second. First, it passed the Emergency Economic Stabilization Act in early October, authorizing $700 billion for the Troubled Asset Relief Program (TARP). But legislators subsequently failed to reach an agreement on a financial relief package for the big three automakers in mid-December, after weeks of contentious debate. Fearing that the failure of either General Motors, Chrysler, or Ford at such a delicate economic juncture could prove disastrous, the White House stepped in to provide emergency bridge loans to General Motors and Chrysler (Ford said it did not require immediate assistance) to allow the firms to continue operations at least through March 2009, at which time they must be prepared to demonstrate their revitalization plans for long-term viability.

Like domestic automakers, other parts of corporate America are facing challenges resulting from reduced consumer spending. The upshot has been an increase in bankruptcies, staff cutbacks among both blue- and white-collar employees, and scaled-back production at U.S. factories. Consequently, capacity utilization at U.S. manufacturing plants has suffered, and the domestic unemployment rate reached 6.7 percent in November. We believe further increases in unemployment seem quite likely through early 2009, with some forecasts projecting it to hit double digits for the first time since 1983 before the current downturn is over.

Looking ahead

With positive economic news a rare commodity last year, voters in November embraced the platform of change proffered by President-elect Obama. Stock markets, too, gave an indication at year-end that investors expect better days ahead. From its low on November 20 through the end of the year, the S&P 500 rallied by more than 20 percent—a surprising revival given economic data that continued to paint a gloomy picture, and a rebound that fearful investors who fled to the sidelines would have missed. Even after that run-up, however, many seasoned investment managers continue to proclaim that they have not seen investment opportunities in their entire careers as attractive as those they see before them today.

While much has been done already in terms of governmental action, 2009 will surely bring a host of new initiatives designed to promote economic revitalization and growth. President-elect Obama has publicized his desire to implement what he has dubbed the “American Recovery and Reinvestment Plan.” This multipronged initiative is aimed at providing tax cuts to businesses and middle-class workers, making a significant commitment to infrastructure projects that will also create jobs, and supplying financial support to help states cope with falling revenues. More targeted programs to provide support to the housing market are also extremely likely, in particular to stem the tide of homeowners defaulting on mortgage obligations.

Finally, despite the significant capital injections that have already taken place, it is not unfathomable that some major financial institutions may require even further financial reinforcement somewhere down the road. As Janet Yellen, president of the Federal Reserve Bank of San Francisco, stated recently, “If ever, in my professional career there was a time for active, discretionary fiscal stimulus, it is now. Although our economy is resilient and has bounced back quickly from downturns in the past, the financial and economic firestorm we face today poses a serious risk of an extended period of stagnation—a very grim outcome. It’s worth pulling out all the stops to ensure those outcomes don’t occur.” And so pull out all the stops they shall.

As investors, we too face a challenging environment these days, one that most of us have never experienced in our lifetimes and much of it well beyond our control. What we can, and should, control, however, is our commitment to saving and investing some portion of current income into a diversified portfolio of assets—one that is appropriately aligned with our goals, time horizon, and risk tolerance. The market turbulence we have experienced over the past year may present a good opportunity to reevaluate one or all of these considerations, but it should primarily serve to reinforce the importance of saving and planning for our financial futures. Best wishes for a healthy, happy, and prosperous 2009!

Disclosure: Certain sections of this commentary contain forward-looking statements that are based on our reasonable expectations, estimates, projections, and assumptions. Forward-looking statements are not guarantees of future performance and involve certain risks and uncertainties, which are difficult to predict. Past performance is not indicative of future results. All indices are unmanaged and investors cannot invest directly into an index. The S&P 500 Index is a broad-based measurement of changes in stock market conditions based on the average performance of 500 widely held common stocks. The Dow Jones Industrial Average is a price-weighted average of 30 actively traded blue-chip stocks. The Nasdaq Composite Index measures all Nasdaq domestic and non-U.S.-based common stocks listed on the Nasdaq Stock Market. The Russell 2000 Index measures the performance of the 2,000 smallest companies in the Russell 3000 Index. The MSCI EAFE Index is a float-adjusted market capitalization index designed to measure developed market equity performance, excluding the U.S. and Canada. The MSCI Emerging Markets Index is a market capitalization-weighted index composed of companies representative of the market structure of 26 emerging market countries in Europe, Latin America, and the Pacific Basin. The Dow Jones-AIG Commodity Index is a price-weighted index that serves as a measure of the commodities market that comprises 19 commodity futures in seven sectors with returns on cash collateral invested in U.S. Treasury bills.

Adam Brooks, Daniel Evans, & Jared Pearson are financial advisers practicing at Brooks Financial Advisors, LLC, 1567 SW Chandler Ave, Suite 102, Bend, OR 97702. They offer securities and advisory services as registered representatives of Commonwealth Financial Network®, a member firm of FINRA/SIPC. Brooks Financial Advisors is a Registered Investment Adviser. They can be reached at 541-330-6411 or at brooksfinancial@bendcable.com.

Authored by John Blood, CFA, chief market strategist, at Commonwealth Financial Network.

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