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Market Commentary
2nd Quarter 2008

Despite upward moves in April and May, global stock markets were unable to finish the quarter in the green thanks to strong selling pressure in June.  With crude oil prices jumping nearly 40% in the second quarter alone, investors feared consumers would retrench further.  This led to heavy selling pressure that escalated through the end of June.  By the close of the quarter, the major averages registered losses in the double digits for the year, and much of the momentum was led by the consistently weak financial stocks.  While many had hoped these beleaguered financials had found a bottom, ongoing fears of credit restraints pushed prices lower.  There were some bright spots in the market, however, for sectors benefiting from rising commodity prices.

While we do not yet have the textbook definition of a recession, the economic numbers during the quarter certainly pointed to an economic slowdown.  For the first time in 27 years, we saw a year over year decline in demand for gasoline.  It was clear consumers were beginning to adjust their spending habits, and the Federal Reserve took note of the pull back by maintaining its accommodative monetary policy.  In early June the Fed hinted at concerns surrounding inflation, which created a wave of selling in both the stock and bond markets.  Their comments were tempered a few weeks later, but the comments were enough to spook investors.  With food and energy price inflation a large blip on the Fed’s radar, it seems clear an unwinding of the rate hikes is in the cards, but the timing of these changes remains a sensitive issue.

 The bond market logged another exciting quarter with wild gyrations surrounding the Fed’s inflation comments.   Bonds pulled back early in the quarter as investors shifted back to stocks and the selling accelerated after the Fed’s comments about inflation concerns.  We continue to see a clear dichotomy in the market as Treasuries sit at low yields while investment grade bonds struggle to gain traction.  Uncertainty over the economy and inflation has kept bond investors on alert.

Domestic and International Markets

The major U.S. averages kicked off the quarter on strength but were barely able to limp to the end.  June was brutal with the S&P 500 down 8%, the NASDAQ down 9.1% and the Dow Jones Industrial Average down 10.2% (WSJ 7-3-2007).  While the NASDAQ was actually able to eke out a small gain for the quarter, the other indices finished lower.  Once again financial and consumer discretion were among the worst performing sectors with financials finishing down 19% for the quarter and consumer discretion down 8.1%.  The winners were once again the commodity based sectors such as energy and industrial materials.  Escalating commodity prices offered stability in these areas although the late June selling even ensnared many strong stocks in these sectors.  Mid-cap stocks out-performed large and small company stocks and continues to maintain favorable relative strength.

International markets moved mostly in line with the U.S.  A few countries in the developing world were able to eke out gains for the quarter, but most registered declines in the line with the U.S.  For the year, we find Latin America posted gains, but it makes up a very short list.  The MSCI World Index finished down 12% through June with China remaining the worst performer of the group. 

Fixed Income

Despite the gyrations in the stock market, bonds finished the quarter near where they started.  Because inflation erodes the value of fixed income instruments like bonds, the bond market took a hit as concerns over escalating inflation reached Main Street.  For the most part, high quality bonds like Treasuries held steady.  They continue to sport low yields as investors remained cautious about the economic outlook.  Municipal bonds were able to gain some traction despite the credit rating cuts for several of the major bond insurers.  This helped close the spread with government bonds.  Corporate bonds continued a bumpy pattern as risk adverse investors chose the comfort of government issues.

Where to go from here?

The stock market cannot escape the impact of fear and greed, and there is no doubt fear has gripped the psyche of many investors.  We find a good deal of technical evidence to support a near term jump in the stock market, despite the gloom and doom printed in the media.  The clouds hanging over the economy (credit crisis, energy prices, home prices, etc.) won’t dissipate quickly, but the lingering affects of these items can create enticing investment opportunities.  Expect the volatility to remain high as investors swing from fear to greed and back again, and be sure to keep exposure in check with your long term needs and risk appetite.

Your friends,

                                                       

Max Larsen, MBA, CPA, CFP™, CIMA                                Bradley A. Huffman, CFP™

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