Portfolio Update - 06/30/07

By proceeding, I acknowledge that I have read and understood the Disclaimer, Performance Reporting Disclosure and Copyright Statements . Dear Clients, I am preparing my Quarterly Update along with your performance reports and fee statements. I am hoping to mail them out by Thursday, but may not get them out until the beginning of next week. In the interim, I wanted to report on your account performance so far this year: Here is how my performance measured up to the averages on a YTD basis:

Honestly, I am little surprised how well your accounts recovered this past month. I wasn’t expecting much until Q3 but several positions in your portfolios performed very well in June. While we are not quite back to where we were earlier in the year, we are still far ahead of practically everyone else. My Core Portfolio has outperformed the S&P 500 by 30% YTD! In a $1M account, that equates to a $300k swing. None of the market neutral funds I track have even delivered double digit appreciation much less gains in the 20% neighborhood. While the balance of the year should prove disastrous for equity and bond investors, I expect to continue to deliver positive gains. There are virtually no bullish signals in the equity marketplace over the intermediate or long-term. We may see bear market rallies which will be short and spectacular such as the one from mid-March through May, but the long-term trend is down. I believe that two very dangerous trends for equities are beginning to converge. First, there is a weak economy which leads to falling earnings. Actually, I would argue that we have vanishing earnings as much of the earnings in the financials where a smokescreen to begin with. The financials, which accounted for 40% of the S&P 500 Earnings last year, are gone with little or no means of replacing them. The second trend is that inflation is bound to lead to rising interest rates which in turn will lead to equity valuation contraction. As you know, I’ve been harping on this topic for several months now. In Part IV of my January Update, I detailed why and how rates will start to rise. (You’ll have to scroll down to Part IV of the update if you click on the link.) On 6/30, the BIS said that, “Global inflation is a ‘clear and present threat’ to a world economy that needs higher interest rates…” (source: Financial Times). According to Dow Theory, when interest rates rise it results in valuation contraction meaning prices will fall even faster than earnings. Given that valuations for equities are far higher than their historical average, the result could be a substantial correction in the market’s P/E ratio which currently stands at 22. Historically, the combination of falling earnings coupled with valuation contraction has led to a sharp correction in equity prices. There are times to be invested in equities, but now is not one of those times. My written update will delve into this topic in much more detail. If you have any questions or concerns about your account, please do not hesitate to call me. All the best, Matt