A Q1 Letter to Clients – Two Critical Lessons from Japan

Wednesday, May 11th, 2011

An end of quar­ter let­ter to clients — Invest­ment advice from Mark Twain

Given recent events in Japan and North Africa, many clients are look­ing to their advi­sors for direc­tion on what they should do.

This tem­plate for an end of quar­ter let­ter is intended to be a start­ing point for your own let­ter to clients. One note of cau­tion — to be effec­tive, it has to reflect your approach, per­son­al­ity and point of view. Be sure to take the time to cus­tomize the let­ter to your own situation.

April 4, 2011

Two crit­i­cal lessons from Japan

“The only cer­tainty is that noth­ing is certain”

Pliny the Elder

First cen­tury Roman author and naval commander

“It ain’t what you don’t know that gets you into trouble.

It’s what you know for sure that just ain’t so.”

Mark Twain, 1835–1910

At the end of each quar­ter, I send clients a let­ter sum­ma­riz­ing events of the past three months … and usu­ally try to find a rel­e­vant quo­ta­tion to estab­lish the tone for my note.

For this quarter’s let­ter, I have selected quotes writ­ten 1900 years apart to high­light two impor­tant lessons  for investors, made trag­i­cally appar­ent from the recent events in Japan. One is the need to con­struct port­fo­lios that expect the unex­pected and antic­i­pate the unan­tic­i­pated.  And the other relates to avoid­ing one of the costli­est traps that ensnares investors.

Before get­ting into detail on those lessons, here’s a quick recap on the first quarter.

Mar­ket per­for­mance in the first quarter

Mar­kets in Jan­u­ary and Feb­ru­ary reflected a con­tin­u­a­tion of last year’s pos­i­tive sen­ti­ment. This was spurred by solid cor­po­rate prof­its and a broad con­sen­sus that while the global econ­omy might not expe­ri­ence a strong recov­ery going for­ward, it would see growth.

March did begin with an ini­tial set­back . The earth­quake and tsunami in Japan on March 11, which took a dread­ful toll in human lives, clearly reduced short-term prospects for the global econ­omy. The tur­moil in North Africa, while pos­i­tive for oil prices, also had a neg­a­tive impact on mar­kets due to con­cerns about the effect on con­sumer demand. By the end of March, how­ever, pos­i­tive eco­nomic growth reports in the US and Europe allowed most mar­kets to recover their ini­tial losses.

As a result, devel­oped mar­kets gen­er­ally saw gains at the end of the first quar­ter that put them on track for solid per­for­mance in 2011. Below are first quar­ter results for key mar­kets — note that these are in local cur­ren­cies, so that the effect of swings in the Cana­dian dol­lar are not reflected here.

% change (all in local currencies)

Learn­ing to live with uncertainty

If they oper­ate effi­ciently, stock and bond mar­kets incor­po­rate all the avail­able infor­ma­tion at a given point in time. That’s why when sov­er­eign debt prob­lems emerged in Greece early last year, other Euro­pean coun­tries seen as hav­ing poten­tial prob­lems along the same lines saw an imme­di­ate spike in the cost of insur­ing their debt. Even though they hadn’t run into prob­lems yet, the mar­ket fac­tored this pos­si­bil­ity in.

Mar­ket ana­lysts spend many thou­sands of hours each year on these kinds of issues — with enough time and research, slow form­ing prob­lems like gov­ern­ment debt prob­lems can be iden­ti­fied before a cri­sis unfolds.

What can’t be antic­i­pated are devel­op­ments that are by their nature unpre­dictable. We’ve had at least four such events in the past year:

• Last April’s vol­canic erup­tion in Ice­land that spewed ash in the air, shut down 100,000 transat­lantic flights and cost the air­line indus­try $2 billion;
• Also last April, the explo­sion of the Deep­wa­ter Hori­zon oil rig in the Gulf of Mexico;
• Com­menc­ing last Decem­ber, street protests result­ing in changes of lead­er­ship in a num­ber of coun­tries in North Africa, lead­ing directly to the cur­rent war in Libya;
• And of course the earth­quake, tsunami and nuclear-reactor crises in Japan.

In light of episodes like these, investors need to take away two key lessons.

Les­son One: Expect the unexpected

The only way to deal with uncer­tainty and man­age the impact of unfore­seen events is to build strict risk con­trols into port­fo­lios, sim­i­lar to those used by the most sophis­ti­cated pen­sion funds.  While the risk of one time inci­dents can’t be elim­i­nated,  through diver­si­fi­ca­tion and risk man­age­ment we can  limit the dam­age when neg­a­tive events occur — whether they be mas­sive frauds such as Enron, sud­den bank­rupt­cies like Lehman Broth­ers,  vol­canic erup­tions, oil rig explo­sions or earthquakes.

I thought it might be use­ful to pro­vide an overview of my approach to risk man­age­ment in port­fo­lio con­struc­tion. There are three steps in this process.

Step one: Iden­tify tar­get mix

First, we iden­tify the tar­get mix of stocks, bonds and cash that, based on his­tor­i­cal prece­dent and cur­rent val­u­a­tion lev­els, will over time have a high like­li­hood of pro­vid­ing the returns you need to achieve your long term goals with a level of volatil­ity you can live with along the way.

Step two: Diversify

Next we and the money man­agers we work with care­fully diver­sify your port­fo­lio, by plac­ing lim­its on the expo­sure to any one com­pany, indus­try sec­tor or region. For indi­vid­ual hold­ings, it’s typ­i­cally an absolute per­cent­age of your port­fo­lio — so for exam­ple no one stock should make up more than 5% of your equity hold­ings  and no one bond should  rep­re­sent more than 3% of your fixed income exposure.

As well, no mat­ter how opti­mistic we are about an indus­try sec­tor or region, its weight should never be more than 50% above its under­ly­ing impor­tance in the mar­ket as a whole.

Step three: Stay balanced

In the final step, at least once a year we con­duct an in depth analy­sis of each port­fo­lio. Over time, asset classes, indus­try sec­tors and indi­vid­ual stocks that do well will increase their pres­ence in your port­fo­lio and bump up against the risk con­trol limits.

At that point, your port­fo­lios need to be rebal­anced back to the tar­get asset allo­ca­tion and some of the posi­tions that have out­per­formed might be trimmed  to stay within risk con­trol lim­its. Some investors find this very dif­fi­cult — after all you’re sell­ing exactly those invest­ments that have done the best.

But it’s the only way to stay truly diver­si­fied and con­trol the risk that accom­pa­nies over­ex­po­sure to any one stock, indus­try sec­tor or geo­graphic region.  And it’s also the only way to get some pro­tec­tion from things that sim­ply can’t be anticipated.

Les­son Two: Avoid overconfidence

Aside from the time entailed, there is one big neg­a­tive to the risk con­trolled approach to port­fo­lio con­struc­tion — in the short and mid-term, there will always be some­one who’s made a big bet that’s paid off and who is doing bet­ter than you as a result.  Because it elim­i­nates big bets, a risk con­trolled approach to invest­ing will sel­dom give you brag­ging rights on the golf course.

Investors who take the big bet approach typ­i­cally have a high degree of con­fi­dence in their invest­ments; after all, if you’re absolutely cer­tain about a com­pany or indus­try, why bother to diver­sify?  On the other hand, research  by the Uni­ver­sity of Chicago’s Richard Thaler has demon­strated that over­con­fi­dence is among the most costly traits an investor can have.

Think no fur­ther than the Cana­di­ans who stuffed their port­fo­lios with Nor­tel dur­ing the tech boom. At its peak, Nor­tel rep­re­sented 35% of our mar­ket  — and 50% plus of many port­fo­lios. While not nearly as  extreme, a case can be made that as a result of their strong per­for­mance over the past ten years, today many investors have too much of their sav­ings in Canada’s banks, gold, oil and min­ing stocks and Cana­dian stocks as a whole. In fact, many global ana­lysts today iden­tify Canada as one of the most expen­sive stock mar­kets among all the devel­oped countries.

The quote from Mark Twain at the start of this let­ter says it all — what gets us in trou­ble aren’t the things we’ve iden­ti­fied as ques­tion marks and causes for con­cern. Rather, port­fo­lios crater because of the things that we’re absolutely pos­i­tive about — right until unan­tic­i­pated occur­rences catch us by surprise.

We’ve always had unex­pected events and always will — and despite these economies have grown, com­pa­nies have pros­pered and stock mar­kets have gen­er­ated pos­i­tive returns.  The key to ben­e­fit­ing from this long term growth has been to diver­sify so that no sin­gle event can cre­ate per­ma­nent dam­age to  port­fo­lios.  When it comes to long term invest­ing, it’s not only that a slow and steady approach wins the race, but more impor­tantly slow and steady sur­vives to cross the fin­ish line.

I believe that we will work through the recent events also — and that investors with a bal­anced approach and a long term view will be well rewarded.  The approach to risk man­age­ment I’ve described may not be fun or sexy in the short term, but all the evi­dence at hand sug­gests that over time it will serve you well, get­ting you to your goals with the least amount of stress and dis­tress along the way.

At our next meet­ing, I’d be happy to dis­cuss the impact of rebal­anc­ing on long term returns. Should you have any ques­tions  in the mean­time on your port­fo­lio, the con­tents of this note or any other issue, please give me a call — I’d be happy to deal with your ques­tions on the phone or at our next meeting.

As always, thank you for the oppor­tu­nity to work together.

Best regards,

Name of advisor

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Tags: Continuation, Corporate Profits, Critical Lessons, First Quarter, Global Economy, Initial Setback, Investment Advice, March 11, Mark Twain, Market Performance, Naval Commander, North Africa, Pliny The Elder, Portfolios, Quarter Letter, Relevant Quotation, Sentiment, Term Prospects, Tsunami In Japan, Turmoil
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1.5 CE Credits Online — Capital International Asset Management (IIROC/Advocis Approved)

Wednesday, February 23rd, 2011

Cap­i­tal Inter­na­tional Asset Man­age­ment is now offer­ing 1.5 CE Cred­its Online that are IIROC/Advocis approved.

Visit Cap­i­tal International’s Con­tin­u­ing Edu­ca­tion Cen­tre for online reg­is­tra­tion, and to get your approved CE cred­its today.

Here are the avail­able courses:

Chal­leng­ing notions of equity investing

Cred­its: 0.75 (Advo­cis) / 0.5 (IIROC)

Run­time: 43 minutes

Total videos: 5

Descrip­tion:
More and more, where a com­pany is based is an inef­fec­tive screen for equity invest­ing. It’s where and how a com­pany does busi­ness, not where it is based, that mat­ters most. The three vet­eran invest­ment pro­fes­sion­als in this panel dis­cus­sion present a com­pelling case for diver­si­fy­ing beyond Canada, get­ting emerg­ing mar­kets expo­sure through developed-market com­pa­nies, and why it’s impor­tant to break down the “silos” of tra­di­tional equity research.

Pre­sen­ters:
Carl Kawaja, Port­fo­lio man­ager
Jeremy Burge, Invest­ment ana­lyst
Rob Lovelace, Port­fo­lio manager

What’s ahead for fixed-income investors?

Cred­its: 0.75 (Advo­cis) / 0.5 (IIROC)

Run­time: 43 minutes

Total videos: 5

Descrip­tion:
Two vet­eran fixed-income man­agers share can­did views on the state of today’s bond mar­ket, includ­ing 10 rules for think­ing about bonds, why we’re not fac­ing a bond “bub­ble”, the dan­gers of unknown issuers pil­ing into the cor­po­rate mar­ket, how a cur­rency spe­cial­ist eval­u­ates the Cana­dian dol­lar, and why infla­tion and inter­est rates may remain low for sev­eral years.

Pre­sen­ters:
Mark Brett, Port­fo­lio man­ager
Jim Mulally, Port­fo­lio manager

What hap­pened to the dreaded dou­ble dip?

Cred­its: 0.75 (Advo­cis) / 0.5 (IIROC)

Run­time: 51 minutes

Total videos: 6

Descrip­tion:
This macro­eco­nomic panel takes the pulse of the U.S. econ­omy, which remains Canada’s pri­mary “blood sup­ply”. The charts (avail­able to down­load) cover wide-ranging top­ics includ­ing a his­tor­i­cal look at price-to-earnings ratios in other low inter­est rate peri­ods, a look at equity returns dur­ing infla­tion­ary and defla­tion­ary envi­ron­ments, and an exam­i­na­tion of the new dri­vers of the global econ­omy: a middle-class “boom” in devel­op­ing countries.

Pre­sen­ters:
Dar­rell Spence, Econ­o­mist
Eliz­a­beth O’Connor, Economist



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Tags: Advocis, Blood Supply, Bond Market, Burge, Candid Views, Continuing Education Centre, Course Details, Double Dip, Emerging Markets, Equity Research, Fixed Income, Global Economy, International Asset Management, Investment Analyst, Investment Professionals, Kawaja, Lovelace, Mulally, Panel Discussion, Portfolio Manager, Rate Periods, Silos
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Articles You Can Send Clients (August 26, 2009)

Tuesday, August 10th, 2010

Dur­ing the last week there has been a great deal of inter­est­ing and unusual but pos­i­tive com­men­tary about the upturn in the mar­ket and the economy.

In our first selec­tions this week, Las­zlo Birinyi, who runs an excel­lent asset man­age­ment shop, a long-time con­trib­u­tor to Forbes Mag­a­zine, and runs Tick​ersense​.com, com­ments that the mar­ket rally is a sig­nal that the eco­nomic recov­ery will be far stronger than fore­cast­ers’ con­sen­sus esti­mates. In a fol­low up arti­cle, Birinyi says that wait­ing for an econ­omy Roubini can believe in means miss­ing rally.

Birinyi Says Stocks Rally Sig­nals Eco­nomic Rebound, August 24, 2009, Bloomberg​.com

Birinyi said on May 20 that the S&P 500 would climb to a record 1,700 in the next two or three years, a 66 per­cent gain from its cur­rent level. The index has ral­lied 14 per­cent since his fore­cast. The bench­mark for U.S. stocks may rise 6 per­cent to 1,087 within the next three months “if it con­tin­ues to progress at the rate it’s been pro­gress­ing,” he said

Wait­ing for Econ­omy Roubini Can Believe In Means Miss­ing Rally, August 26, 2009, Bloomberg​.com

“We’re look­ing at a bull cycle in phase one,” Las­zlo Birinyi said in a tele­phone inter­view yes­ter­day. Birinyi was the top-ranked Dow Jones Indus­trial Aver­age fore­caster for most of the 1990s on PBS’s “Wall Street Week with Louis Rukeyser.” “No one wants to come out and say, ‘This is a bull mar­ket.’ Everyone’s just danc­ing around the term,” he said.

John Lip­sky, First Deputy Man­ag­ing Direc­tor at the IMF states that there are ‘Clear’ signs of a global rebound under way.

IMF’s Lip­sky Sees ‘Clear Signs’ of a Global Rebound, Bloomberg​.com, August 24, 2009

The global econ­omy is show­ing “clear” signs of a rebound and cen­tral banks are unlikely to raise bor­row­ing costs for many months, the Inter­na­tional Mon­e­tary Fund’s No. 2 offi­cial said.

“The signs are clear — if still ten­ta­tive — of renewed growth,” John Lip­sky, the IMF’s first deputy man­ag­ing direc­tor, wrote today on its Web site. “With infla­tion threats dis­tant, there is lit­tle doubt that cen­tral bankers intend to keep pol­icy inter­est rates very low for some time to come.”

Ken­neth Rogoff, for­mer Chief Econ­o­mist, IMF and Har­vard U Prof says “There is no ques­tion the global econ­omy is heal­ing and emerg­ing from reces­sion,” in an Bloomberg TV inter­view August 21, 2009.

World Econ­omy Emerg­ing From Worst Reces­sion Since World War II, Bloomberg, August 22, 2009

The global econ­omy may be com­ing out of the worst reces­sion since World War II as record-low inter­est rates and tril­lions of dol­lars in fis­cal stim­u­lus spur demand.

Sales of exist­ing U.S. homes jumped in July to the high­est level since August 2007, and Ger­man ser­vice indus­tries expanded this month for the first time in almost a year, reports yes­ter­day showed. The Japan­ese econ­omy grew for the first time in five quar­ters, accord­ing to a report ear­lier this week.

Next, and most dear to Cana­dian investors, there has been excel­lent news on the retail sales and bank­ing front at home. Stew­art Hall, Econ­o­mist for HSBC Canada says “All in, the month of June is shap­ing up nicely with man­u­fac­tur­ing, whole­sale and now retail sales all post­ing upside sur­prises and sug­gest­ing that the econ­omy is sta­bi­liz­ing and begin­ning to tran­si­tion over to the recov­ery phase.”

Surg­ing retail sales lift hopes for Canada econ­omy, Thom­son Reuters, August 24, 2009

Cana­dian retail sales grew much faster than expected in June, the lat­est in a series of upbeat eco­nomic num­bers to raise hopes the econ­omy is pulling out of recession.

Sales jumped 1 per­cent from May, far sur­pass­ing fore­casts for a 0.2 per­cent increase, Sta­tis­tics Canada said on Monday.

But much of the gain was due to ris­ing prices, espe­cially for gaso­line, while the vol­ume of sales inched up by just 0.4 percent.

Sales were down 4.4 per­cent from a year earlier.

The report points to a recov­ery in con­sumer demand dur­ing the sec­ond quar­ter, after two straight quar­ters of sharp declines in spending.

“All in, the month of June is shap­ing up nicely with man­u­fac­tur­ing, whole­sale and now retail sales all post­ing upside sur­prises and sug­gest­ing that the econ­omy is sta­bi­liz­ing and begin­ning to tran­si­tion over to the recov­ery phase,” said Stew­art Hall, an econ­o­mist at HSBC Canada.

Our long stand­ing love affair with our banks stocks have been war­ranted all along despite last year’s losses. BMO’s report today indi­cates that  loan defaults have peaked, as BMO reported lower than expected loan loss pro­vi­sions and $1 per share in today’s earn­ings report.

BMO Shows Credit Storm is Pass­ing, Andrew Willis, Globe and Mail, August 26, 2009

Better-than-expected loan per­for­mance at Bank of Mon­treal is expected to boost all the Cana­dian banks, as ana­lysts pre­dict indi­vid­ual loan defaults have peaked.

Bank of Mon­treal (BMO-T) turned in earn­ings of $1 a share on Tues­day, well above the con­sen­sus fore­cast of 90 cents. Ana­lyst John Aiken at Dundee Secu­ri­ties said: “The big sur­prise in the quar­ter was spe­cific pro­vi­sions of $357-million, well below expec­ta­tions of above $400-million.”

Finally, a video fea­tur­ing George Vasic, ana­lyst from UBS:

Div­i­dend Stocks: Get Paid to Wait for a Rebound, George Vasic and Rob Car­rick, August 19, 2009

You also get tax ben­e­fits and sta­bil­ity, says George Vasic, equity strate­gist at UBS Securities.

If you have any arti­cles to con­tribute to our weekly “Arti­cles You Can Send to Clients” fea­ture, please for­ward them to info@greenlightadvisor.com.

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Tags: Central Banks, Consensus Estimates, Dow Jones, Economic Rebound, Economic Recovery, Forbes Magazine, Forecasters, Global Economy, Imf, International Monetary Fund, John Lipsky, Laszlo Birinyi, Market Rally, Phase One, Roubini, Telephone Interview, Time Contributor, Upturn, Wall Street Week, Wall Street Week With Louis Rukeyser
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Warren Buffett on investing in a climate of fear – a Q1 letter to send clients

Tuesday, March 30th, 2010

An impor­tant note:

Over the past 18 months, the quar­terly tem­plates for a client let­ter have ranked among the most pop­u­lar fea­tures on this site.

Research with investors has iden­ti­fied the five ele­ments of an effec­tive client let­ter. It has to be:

1. bal­anced in outlook

2. candid

3. short enough for clients to get through com­fort­ably but long enough to be substantial

4. sup­ported by facts

5. indica­tive of the advi­sors voice and personality

On this last point, if you like the basic struc­ture of the let­ter, you MUST take the time to cus­tomize it to your own phi­los­o­phy and out­look — I can’t empha­size this strongly enough.

April 12, 2010

“I have no idea what the stock mar­ket will do next month or six months from now. I do know that, over a period of time, the Amer­i­can econ­omy will do very well and investors who own a piece of it will do well.”

War­ren Buf­fet in an inter­view on CNBC on Fri­day, Octo­ber 10, 2008

After the mar­ket roller coaster of 2008 and 2009, the first quar­ter of 2010 has been bless­edly unevent­ful by com­par­i­son — the mar­kets ended the first quar­ter about where they started the year, although up almost 60% from their lows of a year ago.

That said, there is still a cloud of uncer­tainty that is mak­ing many investors nervous.

Causes for con­cern … and for optimism

Even with the sta­bi­liza­tion of the global econ­omy, there’s no short­age of short term causes of concern:

… con­tin­ued ques­tions on the direc­tion and tim­ing of the eco­nomic recov­ery in the United States and Europe

… US hous­ing prices that are stay­ing stub­bornly low and unem­ploy­ment lev­els in North Amer­ica and Europe that are stub­bornly high.

… and in late March the deputy direc­tor of the Inter­na­tional Mon­e­tary Fund made head­lines as he talked about the need for advanced economies to cut spend­ing in order to reduce deficits.

Here’s a New York Times arti­cle about the IMF’s views: http://www.nytimes.com/2010/03/22/business/global/22imf.html?scp=1&sq=lipsky%20imf&st=cse

The good news is that there are off­set­ting pos­i­tives, even if the media head­lines that fea­ture them aren’t quite as prominent:

… on Mon­day March 22, the Wall Street Jour­nal ran a story about div­i­dend hikes as a result of ris­ing prof­its by US com­pa­nies. The arti­cle also men­tioned that cash on hand on US cor­po­rate bal­ance sheets was at the high­est level since 2007.

… on the same day the Finan­cial Times ran a sim­i­lar story about div­i­dend increases in Europe

… and there’s grow­ing atten­tion to the impact that Germany’s empha­sis on man­u­fac­tur­ing pro­duc­tiv­ity had in shel­ter­ing it from the worst of the eco­nomic down­turn — and ques­tions about whether  this might be a model for other coun­tries. In March the Econ­o­mist ran a 14 page fea­ture on how Ger­many posi­tioned itself for success.

Fore­cast­ing the future

Whether you choose to focus on the pos­i­tives or the neg­a­tives, there’s broad agree­ment that the steps taken by gov­ern­ments sta­bi­lized the finan­cial cri­sis that we were fac­ing a year ago — and there is almost no talk today of a global depression.

So the issue is not whether the econ­omy will recover, but when and at what rate –and whether there might be another stum­ble along the way.

If you look for invest­ing advice in the news­pa­per or on tele­vi­sion, the dis­cus­sion tends to revolve around what stocks will do well in the imme­di­ate period ahead … this week, this month, this quarter.

We refuse to par­tic­i­pate in that spec­u­la­tion — when it comes to short-term pre­dic­tions, whether about the econ­omy or the stock mar­ket, there’s one thing we can say with vir­tual cer­tainty: Most of them will be wrong.  Quite sim­ply, no one has a con­sis­tent track record of suc­cess­fully fore­cast­ing short term move­ments in the econ­omy and markets.

Which is why in uncer­tain times such as today, one of the peo­ple I look to for guid­ance is War­ren Buffett.

Advice from War­ren Buffett

In an invest­ment indus­try poll a cou­ple of years ago, War­ren Buf­fett was voted the great­est investor of all time; among the run­ners up were Peter Lynch, John Tem­ple­ton and George Soros.

Buffett’s returns are a tes­ti­mony to the power of com­pound­ing.  From 1965 to the end of 2009, the growth in book value of his invest­ments aver­aged 20% annu­ally. As a result, $10,000 invested in 1965 would cur­rently be worth a remark­able $40 mil­lion. By con­trast, that same $10,000 invested in the US stock mar­ket as a whole, return­ing just over 9% dur­ing this period, would be worth $540,000.

In one of his annual let­ters to share­hold­ers, War­ren Buf­fett wrote that it only takes two things to invest suc­cess­fully — hav­ing a sound plan and stick­ing to it. He went on to say that of these two, it’s the “stick­ing to it” part that investors strug­gle with the most. The quote at the top of the let­ter, made at the height of the finan­cial cri­sis, speaks to Buffett’s dis­ci­pline on this issue.

I try to apply that approach as well — putting a plan in place for each client that will meet their long term needs and mod­i­fy­ing it as cir­cum­stances war­rant, with­out walk­ing away from the plan itself.

Boom times such as we saw in the late 90’s and scary con­di­tions such as we’ve seen in the past two years can make that dif­fi­cult — but those con­di­tions can also rep­re­sent oppor­tu­nity. Indeed, in his most recent let­ter to share­hold­ers Buf­fett wrote that “a cli­mate of fear is an investor’s best friend.”

Five core prin­ci­ples that shape our approach

On bal­ance, I share War­ren Buffett’s mid term pos­i­tive out­look, not least because many of the pos­i­tives that drove mar­ket opti­mism two years ago are still in place, among these the con­tin­ued emer­gence of a global mid­dle class in devel­op­ing coun­tries like Brazil, China, India and Turkey. This edu­cated mid­dle class will fuel global growth that will make us all bet­ter off.

In the mean­time, here are five fun­da­men­tal prin­ci­ples that we look for in money man­agers and that  drive the port­fo­lios that we believe will serve clients well in the period ahead.

1. Con­cen­trate on quality

The record bounce in stock prices over the past year was led by com­pa­nies with the weak­est credit rat­ings. Some have referred to last year as a “junk rally”, with the low­est qual­ity com­pa­nies doing the best.  That’s unlikely to con­tinue– that’s why I’m focus­ing my port­fo­lios on only the high­est qual­ity com­pa­nies, those best able to with­stand the inevitable ups and downs in the economy.

2. Look to dividends

His­tor­i­cally, div­i­dends made up 40% of the total returns of invest­ing in stocks and have also helped pro­vide sta­bil­ity through mar­ket tur­bu­lence. Two years ago, qual­ity com­pa­nies pay­ing good div­i­dends were hard to find — one piece of good news is that today it’s pos­si­ble to build a port­fo­lio of good qual­ity com­pa­nies pay­ing div­i­dends of 3% and above.

3. Focus on valuations

Hav­ing a strong price dis­ci­pline on buy­ing and sell­ing stocks is para­mount to suc­cess — his­tory shows that the key to a suc­cess­ful invest­ment is ensur­ing that the pur­chase price is a fair one. Investors who bought mar­ket lead­ers Cisco Sys­tems, Intel and Microsoft ten years ago are still down down 40% to 70%, not because these aren’t great com­pa­nies but because the price paid was too high.

4. Build in a buffer

Given that we have to expect con­tin­ued volatil­ity, we iden­tify cash flow needs for the next three years for every client and ensure these are set aside in safe invest­ments. That buffer pro­tects clients from short term volatil­ity and reduces stress along the way.

5. Stick to your plan

In the face of eco­nomic and mar­ket uncer­tainty, another  key to suc­cess is hav­ing a diver­si­fied plan appro­pri­ate to your risk tol­er­ance — and then stick­ing to it. It can be hard to ignore the short-term dis­trac­tions, but ulti­mately that’s the only way to achieve your long term goals with a man­age­able amount of stress along the way.

In clos­ing, let me express my thanks for the con­tin­ued oppor­tu­nity to work together.  Should you ever have any ques­tions or if there’s any­thing you’d like to talk about, my team and I are always pleased to take your call.

Name of advisor

P.S. If you’re inter­ested, here’s a link to War­ren Buffett’s 2010 let­ter to investors:                        http://​www​.berk​shire​hath​away​.com/​l​e​t​t​e​r​s​/​2​0​0​9​l​t​r​.​pdf

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