January 2012

Kreitler Financial:

What a year! Without falling into the trap of providing much nostalgic detail, 2011 witnessed financial turmoil, natural disasters, significant political strife, as well as the fall of dictators, terrorists, and several European governments; in some cases there has been so much change there wasn’t even agreement on what happened. Three leading newspapers had three different December 31 headlines:

New York Times"Wall Street Ends Back Where It Started"
Wall Street Journal"Dow Ends Year of Tumult Up 6%"
Financial Times"$6.3 Trillion wiped off markets in 2011"

Throughout the year we have argued that we are on a journey. We know where we came from but it’s still far from clear where we are going. We expect stops, starts and turns along the way. The news media reports on each step along the journey and it looks pretty turbulent when viewed one day at a time, so it is helpful to have a framework to understand the changes the world is moving through. Most of our clients who have been with us for several years seem to be taking all this in stride. Congratulations.

The turmoil in 2011 was global. The geographic areas of most importance to us are the United States, Europe, and China. All are going through huge changes. There were also much happening in the Middle East but these events had less effect on our investments. We are struck that three big risks to the world economy remain unresolved, and the markets sense this.

Risk One is how the US will manage: a) getting through the economic downturn, b) dealing with the huge amount of debt that has been accumulated, and c) handling the unfunded future entitlement spending as the baby boomers begin to retire en masse. Some view this as a debate of the role of government itself. These issues will be hotly debated in the 2012 elections. Attention on Europe and having the dollar as a reserve currency have bought us time on resolving our debt issues, but at some point we need a solution.

Risk Two is the debt crisis in Europe. The issues in Europe are similar but the solutions are fewer and will likely be more painful. In 2011 the southern European countries hit the wall and had to face the reality that outsiders are no longer willing to loan them money to finance their large government spending. The response by European government officials has been much too slow and as we enter 2012 they face the risk that the Euro (the currency) or even the European Union might break apart. At stake is the experiment of the European welfare society. We think there is a high probability Europe will face a prolonged recession, which would weaken Europe on the world stage.

Risk Three is the continued imbalances with China and how China will manage its current slowdown. China’s economy slowed much more than most forecast a year ago (it is still growing at 6-8 percent), and many observers are concerned about its debt burden. What happens in China is important because it and the other developing markets are providing much of the economic growth in the world.

Mirroring the turmoil in the world, the financial markets in 2011 were volatile and all over the place. Investors had a great deal of trouble trying to predict the future and changed their viewpoints almost daily. The volatility resembled the nineteen thirties, with 100 and 200 point moves on the Dow index becoming almost commonplace. Returns varied widely across asset classes. Diversification proved its value as winners offset decliners to reduce portfolio volatility. There are of course no guarantees for the future.

US stocks rose early in the year and then after a significant drop in August and September, finally ended the year about where they started. The US stock market, even with no gain as measured by the S&P 500, was amongst the best performers of markets around the world. Globally stocks were down, with many foreign markets experiencing large losses, particularly when measured in US dollars. U.S. bonds surprised most investors and provided solid returns. They benefited from the Federal Reserve’s commitment to keep interest rates close to zero in the foreseeable future and "Operation Twist" which brought down interest rates on bonds with maturities of up to ten years. The "absolute return" managers we favored were a disappointment, with returns being barely positive. The commercial real estate we have used did particularly well. Our gold positions were a disappointment. We use gold as a hedge against investors losing faith in governments and currencies, which was a common theme. While gold bullion provided solid year to year gains, the gold mining companies we typically invest in produced losses. It is unusual for gold bullion and gold mining stocks to go in different directions. We think this has made the gold companies inexpensive versus the bullion, and we like their ability to pay dividends.

As we look into 2012 we remain in a high risk environment: major financial accidents can happen. Fortunately, many investors may already be anticipating the worst (such as problems in Europe) and bad news may already be priced into many valuations. Economic news in the US and emerging markets could surprise on the upside.

Notwithstanding this tremendous uncertainty, we see much that is hopeful. For several months we have been arguing that things are more positive than is reported. This is particularly true for the US where there is a two speed economy. The aggregate numbers of US growth continue to look weak. However, once you strip out housing and government expenditures (areas that are still retrenching), the rest of the economy is growing quite respectably. We think this partially explains the excellent earnings by many companies. We have been encouraging clients who can afford risk in their portfolios to consider increasing their stock allocations. There are many who argue that the US has lost its competitive position in the world. We disagree. We think the American competitiveness is still strong, and coupled with a market economy the US in the future will remain the clear choice where entrepreneurs and others of free spirit will thrive.

Happenings at KF

Here at Kreitler Financial, while we all worked extra hard, we had a good year. We appreciate all the cards, gifts, and notes of appreciation. We brought in a strong number of new clients. All came from your referrals, which we are grateful for. Bob continued to co-chair New World Study Group at Raymond James and published an on-online paper for advisors dealing with the "Critical Path" of retirement planning. Charlie attended several high-level conferences with other top advisors and investors in December. We perceive a lot of burn out by other advisors. Because our "Multi-Scenario Investing" assumes there will be uncertainty, we have not felt the high levels of stress that others have.

Looking forward to 2012, we are making a significant improvement to our portfolio reporting with a new system that permits us instantly to review our clients accounts at all the custodians (Raymond James, TIAA-CREF, Vanguard, etc.) at which they hold assets. The system will complement and enhance our portfolio management greatly. Clients will begin enjoying the benefits in the first quarter of this year. Based on early feedback, we think they will really like the new reports.

Our mission is to help our clients not only survive, but hopefully prosper and achieve their lifetime objectives. We look forward to the challenges and opportunities of 2012.

The information contained in this report does not purport to be a complete description of the securities, markets, or developments referred to in this material. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. Any information is not a complete summary or statement of all available data necessary for making an investment decision and does not constitute a recommendation. Any opinions are those of Robert and Charles Kreitler and not necessarily those of RJFS or Raymond James. Investing involves risk and you may incur a profit or loss regardless of strategy selected. Keep in mind that individuals cannot invest directly in any index. Currency investing is generally considered speculative because of the significant potential for investment loss. Please note that international investing involves special risks, including currency fluctuations, differing financial accounting standards, and possible political and economic volatility. There is an inverse relationship between interest rate movements and bond prices. The Dow Jones Industrial Average is an unmanaged index of 30 widely held stocks. The S&P 500 is an unmanaged index of 500 widely held stocks that's generally considered representative of the U.S. stock market. Dividends are not guaranteed and must be authorized by a company's board of directors.
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