This is another of those occasional updates that I issue as a supplement to the individual performance reports, investment policy statements and financial planning reports.
 
        The rates of return reflect the overall rate of return on all the funds that I have managed since 1981.
 

a. Statistics

1. Portfolio Management

My goals with your money are really rather simple:
 
1. To invest wisely using a consistent approach that emphasizes balance and a longer term view.
2. To invest with a clear idea of your individual timetables of goals and needs and your individual feelings about risk.
3. To clearly and concisely and consistently tell you what to expect, what we are doing and why we are doing it.  A key to a successful management relationship is clear communication and no surprises.

        This year we have earned returns that are pleasing, but that are also far above our expectations for our conservatively invested portfolio. The excess returns have been earned despite the fact that we have only had an average of 42% of our funds invested in common stocks in 2003 and this has been, after a number of terrible years, a rewarding place for investment $.
 
        I do, killjoy that I am :), have to put this in context – It now means that the main indices have to only increase by another 40%+ to reach their previous highs and the NASDAQ (Microsoft, Intel, Cisco et al) only have to increase 175% to reach their previous highs.

        I wanted to emphasize that the returns in 2003 do NOT reflect a more aggressive and riskier posture. The portfolio continues to be managed using the same risk averse approach that we have employed over the last 23 years and that we will continue to employ for the next 23 years. The portfolio in the period since 1981 has earned an average rate of return of 10.8% p.a. and during that period inflation has averaged 3.3%. This means that the real return on the portfolio has been 7.5% p.a., which comfortably exceeds our target of a real rate of return of 5% p.a.

        There are, however, some very important characteristics of any portfolio, even a risk averse portfolio, that have to be carefully considered in reviewing the history and assessing the future.

 They are as follows:

a. Is the worse case bearable?

        This is very important because it is critical for the success of a portfolio that the “bad years”, and there WILL be bad years, are bearable. Our portfolio is risk averse and I still estimate that our bad years could be as much as (-10%) although, thus far, we have not approached that level, despite the fact that we have experienced two sharply negative periods in the marketplace (1987 and the late 1990’s).

        I emphasize, and re-emphasize, that the negative years are part of the process because they will come and how we react to them will be critical. My reaction to any decline is always the same and it usually, but not inevitably, involves buying the asset class that is experiencing the most trouble in the marketplace. This is not a knee jerk reaction, but I am ALWAYS interested in, at minimum, examining any asset that has declined sharply in price.

        So to summarize I want you to be aware that declines will inevitably happen, that they will usually be opportunities, and that they will have zero effect on the long term prognoses for the account.

b. Average versus annual?
 
        My portfolios have been remarkably stable (I would estimate, without any scientific data to back it up, that they have been more consistent than 95% of their peers). A definition of “peer” would be a similarly structured portfolio.

        But, and this is an important but, the stability is NOT 10.8% p.a. each year for the entire 23 year period. The actual returns have been:

         If we take a range of +/- 2.5% points (i.e. 8.3% to 13.3%) we find that the portfolio returns have only come within that relatively wide range in five of the 23 years. The last time it came within that range was nine years ago.

 The points I want to make are:

• The portfolio returns are unpredictable over shorter periods of time.
• It is extremely unlikely that we will have significant losses and, even if we do, those losses would NOT be permanent.
• We will have losing years. That is part of the process.
• It is highly likely that we will attain our longer term goals for the portfolio.
• We will not significantly increase, or reduce, the level of risk in the portfolio without prior consultation.

2. Portfolio

         The portfolio has a significant cash component (35% of the portfolio), but I am finding very little to get excited about as prices have increased, sometimes dramatically, in most areas of our portfolio. The existence of cash in the portfolio is always by default (i.e. it increases or decreases as opportunities occur to invest the $ sensibly). I am always looking, everywhere, for attractive opportunities, but I have the patience to wait, even if it is a long wait, until attractive opportunities occur.

        I still have the very general opinions about the following asset classes as destinations for our $ (although there are many individual exceptions to these statements):-

a. Domestic stocks: Neutral to negative. It has been a long time since this component was such a small % of the portfolio (15%).

b. Foreign stocks: Positive, but much less so after the recent huge price increases. Still historically large at 23% of the portfolio. Much cheaper than their domestic counterparts

c. Gold: Positive as the usual hedge against economic disaster (and, frankly, there are MANY imbalances in the world that are a cause for concern). It is at 5% and it is unlikely it would be increased or decreased in size unless the possibilities of serious chaos increase from current levels.

d. Bonds: Negative. The lowest level of long term bonds in the entire history of the portfolio. I am neutral to positive on higher yield (junk) bonds and very positive on variable rate bonds.

e. Arbitrage: Positive and I have been searching actively in this area.

f. Real assets: Negative on real estate and positive on Timber and commodities.
 

3.  Summary

    I will continue to follow our standard operating procedures which are, succinctly, as follows:

1. To maintain a wide diversification.
2. To buy securities of all types at prices that represent a significant discount from their fair market values.
3. To be patient.
4. To be calm.
5. To expect volatility and negative quarters and negative years. This is all a normal part of the process.
6. To be available at any time to talk to our clients.

          My expectations for the portfolio remain unchanged and they are that we expect in the medium and longer term to achieve a rate of return that exceeds the rate of inflation by 5% p.a. and that we expect to achieve this with muted volatility. This is a critical assumption in all of our financial planning and it forms the cornerstone of our financial planning summaries. We have met our targets, easily, in both the medium and longer terms and over the entire length of the portfolio.

         I am becoming increasingly concerned about some of the imbalances in the world economy and the effect that those imbalances (and the cures) might have on asset prices around the world. Stay posted.

        We appreciate your continuing support and we always appreciate feedback.  You can reach me at Crewel@ aol.com.