January 2009 - Goodbye and Good Riddance to 2008

Putting 2008 in the rear view mirror cannot happen soon enough for most investors. Although still very fresh in our minds and with events still very much in the moment, we believe that 2008 will eventually serve as the statistical outlier of our generation. The highly correlated and negative results across the board on most assets in 2008 might turn out to be the freak anomaly that future investors will (mistakenly) think can never happen again. This perfect storm saw extremely rare and unlikely declines in all manner of risk assets while some Treasuries were priced to offer the ridiculous - negative returns. We collectively witnessed bank failures, brokerage failures, and policy failures; all on the backs of rapid deleveraging and significant declines in commodity and real estate prices. Even heretofore sacrosanct money market funds came under pressure with one very high profile case of “breaking the buck.”

Through this unsettling period, the majority of clients that we met with remained calm but curious, reserved but resolute, fearful but not frantic. After all, who among us made their first and only investment at the height of the market in October 2007 and then subsequently was forced to sell everything at the recent low in November of 2008?  We believe that successful investing requires a process that takes place over long periods of time with focus on long term objectives — and this requires discipline.  October and November of 2008 were the two most volatile months in the history of the stock market.  December, which seemed to feel better and calmer, was actually the fourth most volatile month in history.   Diversified equity mutual funds had only to earn an amount better than -27% last year to rank in the top 5% of all their peers.

It is unlikely that 2009 will be a banner year for economic data or corporate earnings, especially in the first half of the year. While the economy entered a recession in the fourth quarter of 2007, it deteriorated further in the second half of 2008. Gross Domestic Product declined at a .5% annualized pace in the third quarter last year and likely retreated at a 4% to 6% annualized clip in the fourth quarter as job losses mounted. This recent period likely represented the “eye of the storm” of the financial crisis, and perhaps the height of deleveraging and the corresponding “bottom” for equity markets.

We expect both investment grade fixed income and equity markets to improve well before the economy picks up steam.  The magnitude of the panic selling that occurred in the fourth quarter likely overshot the reality of the recession’s ultimate depth.   In short, we are cautiously optimistic about most risk asset classes (stocks, bonds, REITs etc.) in 2009, and we do not see much if any upside for Treasuries or cash.  That is not to say that we are preparing for straight-line appreciation in 2009. Quite the contrary, we expect any rise in asset values this year to be marked with periodic bouts of doubt and decline from lingering concerns about credit crisis issues, weak earnings, and poor economic data.

Massive monetary stimulus is now well in place, bank recapitalization is underway, and unprecedented fiscal stimulus is being crafted in Washington. These factors coupled with strong productivity growth, continued (albeit slower) economic growth from emerging markets, and population growth all over the world  should all contribute to economic recovery sometime in the second half of 2009.  Indeed, when this happens, we will need to turn our concerns towards new issues of inflation, higher interest rates, and mounting government debt.

The process of profitably investing involves not only discipline but foresight, and foresight inherently requires some faith in a variety of things, not the least of which is the virtue of a properly regulated market-based economy.  While last year’s events may have tested our resolve, we remain confident in the resilience of capitalism.

This information has been developed internally and/or obtained from sources which Sand Hill Global Advisors, LLC ("SHGA"), believes to be reliable; however, SHGA does not guarantee the accuracy, adequacy or completeness of such information nor do we guarantee the appropriateness of any investment approach or security referred to for any particular investor. This material is provided for informational purposes only and is not advice or a recommendation for the purchase or sale of any security. This information reflects subjective judgments and assumptions, and unexpected events may occur. Therefore, there can be no assurance that developments will transpire as forecasted. This material reflects the opinion of SHGA on the date made and is subject to change at any time without notice. SHGA has no obligation to update this material. We do not suggest that any strategy described herein is applicable to every client of or portfolio managed by SHGA. In preparing this material, SHGA has not taken into account the investment objectives, financial situation or particular needs of any particular person. Before making an investment decision, you should consider, with or without the assistance of a professional advisor, whether the information provided in this material is appropriate in light of your particular investment needs, objectives and financial circumstances. Transactions in securities give rise to substantial risk and are not suitable for all investors. No part of this material may be (i) copied, photocopied, or duplicated in any form, by any means, or (ii) redistributed without the prior written consent of SHGA.