Portfolio strategy update

David Gottstein

Editor’s Note: The following portfolio update is from David Gottstein’s monthly Dynamic Research Group’s newsletter. It was compiled in early August.

And the band plays on…

The economy continues to be a growth engine. Even with the Federal Reserve working to slow down the economy, they are only able to get it to a 3 plus percent annual GDP growth rate. Company performance continues to shine, with second quarter earnings coming in a very bullish 20 percent over last year, for most stocks in the S&P 500. This is most impressive. Money continues to pour into stock and bond mutual funds. Oil prices have stopped rising, amid production and demand, and political balances have been achieved that would suggest a likely trading range between $25-$28 per barrel. Any signs of emerging inflation still appear to be at bay.

One important sign to watch for is wage inflation, where we have seen some increases, but not yet at a dangerous rate. The other concern is that the growing trade deficit will lead to a weaker dollar, and higher import costs. Even so, we expect that the U.S. economy will avoid a recession, and that economic and earnings growth will continue at 3 plus and 10 plus percentage rates respectively for the foreseeable future.

Interest rates are more problematic. Inflation is low but could rise. Federal debt levels are high but falling. Yet, overall debt and leverage levels in the country are high.

If countries overseas recover, and demands for capital and other commodities rise, then we could see a real impact on domestic prices. This is especially true if wage inflation heats up. However, Alan Greenspan is not shy about pushing an agenda of curbing inflation, and he will risk a lot of growth in order to accomplish this. With housing and auto sales slowing in the face of higher financing costs, rate hikes are having an impact. The bottom line is that they are more likely to rise in the short- to intermediate-term and then moderate from there. From an investment perspective, we are taking a more neutral view on interest rates from here.

The world according to DCM

We are maintaining a 10 percent weighting in money market funds for the time being. On the one hand, price-earnings ratios, in the mid-twenties, are still at historically high levels, and the growth in the economy is slowing. On the other hand, the economy and earnings continue to grow. This bodes well for a continuing long-term bull market, albeit with corrections along the way from time to time. Therefore, we are keeping some powder dry, with a 90 percent equity exposure. We have a reserve for greater exposure should growth opportunities achieve a better value. Good luck this month.