2nd Quarter 2009 Commentary

7/31/2019 2nd Quarter 2009 Commentary

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We started o 2009 with many questions, ew answers

and the S&P 500 Index at 903. By the end o the rst

quarter, a new administration had been inaugurated,

the S&P 500 had touched 666 (57% below its high o

1,561 in the all o 2007) and recovered to 797, but

concerns remained about whether the credit markets

were nally stabilizing. As we discussed in the economic

overview, we continued to monitor key data that would

give us insight into the availability o money. Steady

improvement in those numbers gave us condence that

the market was poised or recovery and it was time or

us to deploy some o our cash.

Our rst area o ocus was the consumer discretionary

sector. Worries about the health o the American

consumer had caused stock prices in this arena to

decline substantially, creating compelling values ormany o these companies. We purchased TJ Maxx

(tkr: TJX) and GameStop (tkr: GME). TJ Maxx is a

discount retailer that purchases surplus goods rom

other retailers or manuacturers, and then sells them to

consumers or 40-60% less than the original recommended

price. We believe that the company is in an even stronger

position to negotiate prices in the present environment and

that store trac will increase as rugal consumers look

or less expensive alternatives. GameStop is a retailer

o video games. The gaming industry was one o the

ew bright spots in an otherwise bleak 2008. GameStop

sells not only new video games, but has also created alarge secondhand market or used games. In act, used

game sales generate the bulk o the companys prot.

We also added two names in the consumer staples

sector. The rst, Corn Products International (tkr: CPO),

processes corn or end markets ranging rom ruit juices

to adhesives. The stock ell in response to the drop in

the commodities markets, particularly the price o corn,

but beneted as commodity prices stabilized. Our other

new holding is Cadbury (tkr: CBY). This company, a

leading conectionary producer, is best known or its

Easter-time oering o Cadbury Crme Eggs. In additio

the company has a strong presence in chocolate, gum

and candy brands. Business is growing in markets suc

as India, where some consumers are getting their rst

taste o chocolate.

Near the end o the second quarter, we bought Paych

(tkr: PAYX). We previously owned this company in 200

when interest rates were low and unemployment was

airly high. We believe we are in a similar environmen

now, and have likely hit the bottom or both measure

As interest rates rise and unemployment eases, Paych

will earn higher interest on its customers payroll balanc

and will process more paychecks. The company also h

a history o returning money to shareholders, with a

dividend that now stands at 4.6%.

Our nal major purchase or the quarter was an exchang

traded und (ETF) ocused on the Asia Pacic region

(tkr: GMF). This investment increases our exposure to

non-dollar denominated investments and the growt

markets o Asia.

We completed our sale o GE shares. This is the rst

time in twenty years that many o our portolios have

not held GE. Though we believe that the industrial sid

o the company still oers many excellent products, w

have continued concern regarding GE Finance, which

contributes over 50% o earnings, and will be a drag

on the stock in a market recovery.

The positions we initiated in the rst hal o 2009 are

what we would consider ront shel investments.

Characteristics o these companies include a strong an

protectable share in the core business, no or very low

debt and attractive valuation. These investments, as w

as additions to existing positions in Gilead Sciences (tk

GILD), Varian Medical (tkr: VAR), Adobe Systems (tkr

ADBE), Cisco Systems (CSCO) and Sun Hydraulics Cor

(tkr: SNHY) have lowered our cash allocated to equit

ASSET MANAGEMENT

Is It Sae to Go Back in the Water?

www.nelsonroberts.com | 650.322.4000


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ent risks on the equity side of ourney short, secure and liquid.

to 12%. We anticipate that our next purchases will be

rom our back shel company list. These companies

have a greater propensity to use debt, and thereore

were hammered in a market retting about defation.

They should rebound as these ears recede. Recent

decisions by technology leaders Microsot and Cisco to

use leverage on their balance sheets refect this change

in thinking, and should boost earnings.

Fixed Income Dilemma:Wheres the Yield?Short-term interest rates remain at historic lows. However,

investors who six months ago were content to trade

yield or saety are now growing impatient. The dilemma

is that rates are low or a reason: xed income marketshave not yet ully recovered rom the recent credit crisis.

Bonds that are perceived as sae and liquid have anemic

returns due to strong demand. In order to pick up higher

yields, investors must be willing to buy debt with longer

maturities or lower credit ratings. We believe that locking

in long-term rates continues to be unwise, given the

growing concern about infation and the weak balance

sheets o many companies and municipalities.

The government lowered interest rates in 2008 to

help stimulate the economy and circumvent a deep,

prolonged recession. The last rate cut by the Federal

Reserve (in December 2008) lowered Fed Fund Rates to

a target o 0-0.25%. In addition, the Fed announced

that it would buy up to $300 billion o Treasury bonds

in an eort to keep borrowing costs or mortgages and

commercial loans down. (Both o these interest rates

are priced o o Treasury rates.) These actions have

generated increased concern about infation, which

would put long-term bond buyers at risk or signicant

losses. Recent price moves in Treasurys demonstrate

how quickly this market can change. I an investor had

purchased a 10-year U.S. Treasury bond on 12/31/2008

yielding 2.2%, the total return on that bond through

6/30/09 would have been -8.7%, as interest rates

increased to 3.5%.

We believe the best options or xed income investmentin this environment include the ollowing:

1. Short CDs (1-3 years): currently the best alternative

to Treasurys. CD yields average about 0.75% higher

than Treasurys, are FDIC-insured or amounts up to

$250,000 (this limit has been extended to December

2014) and have decent liquidity i an investor needs

to sell beore maturity.

2. Investment-grade corporate bonds: credit spreads

or these bonds have tightened as the economic

landscape has improved in recent months. There arestill some opportunities, but with deault rates yet to

peak and yields close to levels obtainable through

CDs, risks and rewards need to be careully weighed.

3. Municipal bonds: yields are attractive, but higher

rates refect the nancial diculties acing many

states. This is especially true or the state o Caliornia,

which has seen borrowing costs increase as legislators

attempt to close a staggering budget gap. We will

be taking a close look at a new type o municipal

bond called the Build America Bond (BAB) which

emerged rom the American Recovery and Reinvest-

ment Act o 2009. These are taxable bonds issued

by state and local municipalities that are partially

subsidized by the ederal government.

Forecasting interest rates is always challenging, but is

especially so right now because o the uncertain down-

stream eects o the stimulus. Our approach today is to

take prudent risks on the equity side o our portolios

and keep xed income money short, secure and liquid.


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FEATURED EQUITY

Varian Medical

Varian is a leading provider o radiation therapy machinesand sotware to treat cancer. The companys products

include linear accelerators (radiotherapy), equipment

that allows neurosurgeons to visualize and operate

in three dimensions using external beam radiation

(stereotactic radiosurgery) and radioactive seeds

that are temporarily implanted in a cancerous tumor

(brachytherapy). The company also designs, manuactures

and sells X-ray machines that use lm and those that

use fat panel digital image detectors or lmless X-ray

systems. In the last several years, Varian has entered the

security screening business, which uses similar technology.

Radiation therapy is used to treat a wide variety o solid

tumors, including cancers o the head and neck, breast,

prostate, pancreas, lung, liver, uterus, ovary, brain and

spinal cord. Varians intensity-modulated radiation therapy

(IMRT) allows the shape, intensity and angle o the beam

rom the linear accelerator to conorm better to the shape

o the tumor, thus decreasing radiation to surrounding,

normal tissue. The companys image-guided radiation

therapy (IGRT) urther renes this process.

Varians RapidArc machine and associated sotwarecontinue to experience strong demand world-wide.

Treatments are aster and more eective or patients

and healthcare centers can treat many more people

per day. The aging population, increased incidence o

smoking in developing countries and unhealthy liestyles

are all driving an increase in the number o cancer cases

around the world. Healthcare authorities project an

increase o 50%, to 15 million cases, by 2020. Many

countries remain woeully under-equipped to treat cancer

with radiotherapy, providing signicant untapped markets

or Varian.

While Varian has experienced some slowdown in orders

during the recession, revenues continue to grow and

300 new orders or RapidArc were booked in 2008.

The company has a solid balance sheet with minimal debt.

We believe Varians technological leadership, strong

management and prudent nancial position will result

in steady growth over the next several years. Recessions

resolve, and as this one does, healthcare organizations

will again be looking to upgrade to the most eective

and ecient ways to treat patients with cancer.

i

n t e g r i t y

Where do you nd integrity?

It emanates rom tradition, endures market cycles, and sustains long-term

partnerships. Trust lies at the heart o what we do, how we serve and whom

we employ.

[in tegr te] n. honesty, sincerity, completeness

PRICE OF U. S. TREASURY BONDS

PriceofBond

12/31/2008 6/30/2009

30 YEAR TREASURY 4.5% 05/15/203810 YEAR TREASURY 4.0% 08/15/2018

12/31/08 1/31/09 2/28/09 3/31/09 4/30/09 5/31/09 6/30/09

140

145

135

130

125

120

115

110

105

100

95

This graph demonstrates the convergence o prices between 10-year and 30-yearbonds over six months, emphasizing the importance o keeping xed-incomeinvestments short-term.

Fixed Income Dilemma: Wheres the Yield? (continued)


5/6

Few people have been emotionally unaected by the nancial upheaval o the last year. It has

been unsettling and painul to watch declines in assets. Many investors have taken precipitate

actions, reacting quickly and earully to the decline in stock prices. Few have had the patience

and ortitude to methodically think through the longer-term implications o their actions.

Human beings like to believe that decision-making, whether buying a car, taking a new job orselling a stock, is a rational process. They think that they have careully analyzed the pros and

cons and that the nal decision is unaected by emotion. Individuals are particularly prone to

being overcondent in their investment decisions, which are in act oten rooted in emotional

bias. This is why proessional management has much to oer. The eld o behavioral nance,

developed over the last twenty-ve years, applies basic psychology to nancial decision-making

at both the individual and population levels. It turns out that, even in less tumultuous times,

investors are subject to biases that infuence their decisions, usually or the worse. In the words

o Warren Buett, investing is not a game where the guy with the 160 IQ beats the guy with

the 130 IQOnce you have the ordinary intelligence, what you need is the temperament to

control the urges that get other people into trouble in investing.

For example, research has demonstrated that people are much more concerned about possiblelosses than they are delighted by equivalent gains. Investors consider the loss o a dollar twice as

painul as the pleasure they get rom an identical gain. Thus investors take many more risks to

avoid losing money than they do to realize gains. Classically, people want to raise cash when the

market is alling. Then they ail to get back in and miss a rally. There is also a strong bias toward

recent experience at the expense o looking at long-term trends and statistical odds. Applying

this concept to the stock market numbers o the last several years suggests that most individuals

have been overly pessimistic as the market has gone down, just as they were overly optimistic

that the market would keep going up when it hit 14,000. Some people can be strongly infuenced

by what researchers call touchy-eely syndrome, becoming quite attached to stocks o companies

that they personally know something about or have selected themselves.

www.nelsonroberts.com | 650.322.4000

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WEALTH MANAGEMENT

The Psychology o Investing

INDEX PERFORMANCE Q209 YTD

Dow Jones Industrials 11.96 -1.97

Standard & Poors 500 15.92 3.19

EAFE (international stocks) 25.57 8.06

Russell 2000 (small stocks) 1.67 1.62

Barclays International 1.67 1.62

Barclays Municipal 2.11 6.43

Index RetuRns


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Stay out of the trap of anchoring on historical

inormation, past stock prices or perceptions about

an investment. We set buy and sell targets or equities.

Keep a patient, humble perspective on investing, by

diversiying, tuning out the huge amount o noiseand going or steady outperormance over time. We

avoid market timing and ensure that decisions regarding

raising cash are based on either valuation or asset

allocation needs o clients.

1950 University Avenue, Suite 202

East Palo Alto, CA 94303

tel 650-322-4000

web www.nelsonroberts.com

email [email protected]

Past perormance is not necessarily a guide to uture perormance. There are risks involved in investing,

including possible loss o principal. This inormation i s provided or inormational purposes only and does

not constitute a recommendation or any investment strategy, security or product described herein. Please

contact us or a complete list o portolio holdings.

For additional inormation on the services o Nelson Roberts Investment Advisors, or to receive our

Newsletters via e-mail or be removed rom our mailing list, please contact us at 650-322-4000.

2009 Nelson Roberts Investment Advisors

WEALTH MANAGEMENT

The Psychology o Investing (continued)

Investment Team

Brooks Nelson, CFA

Brian Roberts, CFA, MBA

Steve Philpott, MBA

Dennistoun Brown, MD

Ann Oglesby, MD, MBA

These examples just scratch the surace o the many

biases that infuence investment decision-making. A

disciplined, consistent process and heightened awareness

o these biases allow us, as proessional managers, to

avoid many o these pitalls. Specically, we do the

ollowing:

Use checklists to make sure we answer key questions

about every potential investment.

Question each other vigorously, listen carefully to

contrary viewpoints and look at what i scenarios.

Write down the original investment thesis and refer

back to it as we assess investment perormance over time.

Learn from mistakes and leave them behind. It is

particularly important to remember that we do not

have to make money back the same way we lost it.Not every decision is correct and not every stock is a

winner. We sell when we need to and move on.

Some examples rom research on overconfdence:

19% o people think they belong to the richest 1% o U.S. households

82% o people say they are in the top 30% o sae drivers.

80% o students think they will nish in the top hal o their class.

68% o lawyers in civil cases believe that their side will prevail.

81% o new business owners think their business has at least a

70% chance o success, but only 39% think any business like theirs

would be likely to succeed.

Documents

2nd Quarter 2009 Commentary