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QUARTERLY COMMENTARY FOURTH QUARTER 2005

YEAR IN REVIEW

As we turn the page on 2005 and head into 2006, it isuseful to take a look back and assess the expectationsand analyses we had formulated, and the decisionswe implemented throughout the year.

At the beginning of 2005 the Fed Funds rate was at2.25% and we expected the target to be increased to3.50% by year-end.Oil prices had rocketedover 60% to $55/barrelin the fall of 2004, butby December 04,prices had settled backin the low $40/barrelrange. We thought thatthe price of oil wouldnot be as volatile in 2005. We anticipated GDPgrowth to be 3.50% in 2005, a result of improvedcorporate balance sheets and stable consumerspending. All of this came to pass, however we didnot anticipate the impact that two traumatichurricanes would have on oil and natural gas prices.

The Fed was unrelenting, raising rates % at every

meeting. The economy did not waiver, modestlybeating expectations with a 3.80% annual growthrate. The U.S. stock market closed out 2005 with amediocre low single digit result. The resilience of theeconomy and the activity of the Fed did not surpriseus as we continued to position our portfolio foreconomic growth and interest rate increases.

INVESTMENT THEMES & ACTIVITY

Entering 2005 we expected to see higher corporateprofits, improving employment numbers, and rising

interest rates. We thought these would pressure thehousing market and in turn cramp consumerspending, while business spending would continue torise. This would cause growth stocks to outperformvalue stocks.

We correctly foresaw Citigroup as well as otherregional banking stocks being pressured in a risingrate environment and trimmed our position in early05. Our anticipation of employment growth wasright on, with payroll processors Paychex up 13.70%

and Automatic Data Processing up 5.03% for the

year. We worried about a bubble in the real estatemarket and continued to avoid the housing andbuilding related stocks. Housing stocks gave up theirearly gains ending flat for the year. Our anticipatedhandoff between business spending and consumerspending did not materialize, as the consumerspending numbers remained strong throughout the

year. The technology,materials, andindustrial sectorswould have benefitedmost from an increase

in business spending,instead they rankedamongst the yearsworst performing

sectors. Despite the consumers strength, consumerdiscretionary stocks were the 2nd worst performingsector, down 6.78 year to date, probably reflectingconcerns about 2006.

In the 2nd quarter, we grew slightly more positive onthe economy as widespread fears about inflationabated somewhat and the economy continued to show

signs of moderate but healthy growth, causing stocksto almost recoup their first-quarter losses. Analyzingour portfolios to anticipate which stocks would bepressured by rising raw material costs correctly led usto exit our position in Kimberly Clark. In thematerials sector, we swapped our position inInternational Flavors & Fragrances for a position inDuPont, which has continued to be pressured byelevated energy prices.

The year was not without its corporate scandals asinsurance icon, Maurice Greenberg at AIG, found

himself embattled with government regulators. Weheld on to the stock despite a $20/share plunge inMarch, and have been rewarded by a nearly equalrally to erase the decline, ending the year with areturn of 4.85%.

The U.S. equity markets withstood the catastrophichurricanes, Katrina and Rita, surging commodityprices, and bankruptcy filings in the airline andautomotive industries, to post positive returns in the3rd quarter. In an effort to decrease average market

Index Performance Q4 05 YTD

Dow Jones Industrials 2.06 1.71

Standard & Poors 500 2.09 4.91

EAFE (international stocks) 4.13 14.13

Russell 2000 (small stocks) 1.15 4.63

Lehman Intermediate 0.52 1.58

Lehman Municipal 0.73 3.51

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capitalization in portfolios, we added Equifax, a playon identity theft prevention, and Symbion, anambulatory surgery center.

The beginning of the 4th quarter saw a sharp declinein energy prices, as investors worried that high prices

would cause demand erosion. Taking advantage ofthis decline, we added to our energy position withMarathon Oil in November. We also executed ourthesis that power in the healthcare sector would shiftfrom the drug makers to the cost-saverspharmacybenefit managers (PBMs) and managed carecompaniesaddingWellpoint andCaremark, whileexiting Pfizer.

www.nelsonroberts.com

SURPRISES

A surprise of 2005was the flatteningyield curve, whichpresented FederalReserve ChairmanAlan Greenspanwith a conundrum,as longer-term rates stubbornly refused to respond tohis raising of short-term rates. Foreign governmentand pension fund purchases of U.S. debt were strong,causing us to wonder whether this is an unusualmoment or whether a flattening curve indicates a

looming recession as it has in the past. Tied to this, tothe increased hedge fund speculation, or to fears ofrising inflation, gold rose to a 25-year high, hitting$528 on December 12th.

One of the biggest drivers of market performance in2005 was high energy prices, which createddifficulties for parts of the market and fueled strongearnings growth at oil and gas companies. Energy hasbeen the best performing global sector this year,returning 28.79%, reflecting the appreciation in theprice of oil, which rose 40.48% over the same period.

Other strong performing sectors were Utilities,Healthcare, and Financials. With the exception of theConsumer Discretionary sector (-6.78%), the worstperformance, Telecom (-8.47%), Industrials(+0.90%), and Technology(+0.96%) came as a resultof the disappointing spending numbers fromcorporate America. (see illustration above)

OUR PEEK INTO 2006

Similar to the end of 2004, we find ourselvesconcluding 2005 with familiar worries and signs ofoptimism. While some presume decline and decry theproblems of twin deficits (budget and trade), aninverted yield curve, and housing bubble, we

anticipate continued moderate GDP growth in 2006,a strong economy that can withstand these hurdles,just as it did high energy prices and a tightening Fed,and believe there is opportunity for investors.Corporate balance sheets are even stronger and more

cash laden than ayear ago. Profitmargins continue tobenefit from lowerinterest costs (FedFunds averaged5.4% in the boom

markets of the late1990s) and fromstrong levels of

productivitygrowth. The netprofit margin of theS&P 500 was close

to 9.00% in 2005, despite sharply higher prices forenergy and other commodities. Revenue growth hasaccelerated in many sectors over the past couple ofquarters as pricing power has taken hold.Employment growth, consumer confidence, and

manufacturing activity are stepping up, and the Fedslong series of interest rate hikes is almost complete.

S&P Sector Performance 2005

-6.78

-8.47

0.90

0.96

2.11

3.02

28.79

13.16

5.56

4.12

Energy

Utilities

Health Care

Financials

MaterialsConsumer Staples

Technology

Industrials

We expect investment by companies in capital goodsand fixed assets will hold up well and plan tocontinue our overweighting in Industrials. Even inthe absence of a burst bubble, a slowdown in homeprices will leave consumers with less equity toextract from real estate assets, and lead to amoderation in consumer spending. We anticipate thestocks of mid-sized companies will continue toperform better than those of large companies. Lastly,

we will continue to be cautious in the bond market,managing interest rate risk exposure by keeping ourmaturities short.

Consumer Discretionary

Telecom