Fall Letter To Clients Part III

From our most recent letter to clients:  Continuing the discussion on why stocks appear attractive shorter term.

Interest Rate policies likely to remain accommodative.

The Federal Reserve has signaled that it will keep interest rates low for an extended period of time. It has also discussed another round of quantitative easing {using its balance sheet to buy certain types of bonds} which indicates that monitory policy will also remain accommodative. While such policies will likely prove inflationary in the longer term, low cost of capital should up front help Americans improve their balance sheets and makes investment spending compelling. Lower interest rates also make stocks more compelling on a risk reward basis especially when higher relative dividend yields are factored in.

Valuation of stocks is compelling.

The yield on the Dow Jones Industrial Average exceeded that of the 10 year treasury much of this summer. This has not happened since 1962. Many S&P 500 companies possess dividends s that are expanding and have higher yields than that same 10 year note. Current earnings estimates on the S&P 500 for 2011 indicate that stocks trade between 13 and 14 times earnings on a going forward basis. This is a historically compelling level of valuation. This is especially so relative to current interest rates.

Longer Term: Technology/productivity advances to ultimately propel US and world economies.

The 20th Century experienced three Bull markets: {1919-1929-“Roaring 20’s”, 1947-1965-post-war boom and 1982-2000-the technology or “Long Boom” period}. Each of these periods ended up being the beneficiary of an earlier expansion of research and development {R&D}. This expansion largely resulted from earlier investments made as a result of war or in the case of the Long Boom an intense period of international political hostility {the Cold War}. That R&D ultimately found its way into civilian applications. Home refrigeration for example became available to the larger American public in the 1920s largely as a result of technologies developed to feed troops during World War I. Technological advances developed throughout the Cold War and systems developed from the space race {an offshoot of the Cold War} were the seed monies that built much of our economic expansion between 1980 and 2000.

We have been in some form of conflict now for nine years. There is massive R&D, particularly regarding miniaturization, of all sorts of military systems-think of drone aircraft for example. Much of this R&D will likely enter the civilian economy in the future. Briefly here are three areas that could benefit. We will expand on these and also discuss our other investment themes in the future over on our blog Solas! Here is its link: http://lumencapital.blogspot.com/

~Smart phone and cloud computing: I wrote much of this letter on an Ipad. These technologies are productivity game changers and this industry is where the PC was in about 1990.

• Miniaturization: My electric meter was changed this summer to a "smart reader". It now transmits my usage to its home office. Besides tablet computers, and military drones, everything from cameras to medical devices is getting smaller. This has enormous implications for both productivity and job creation as well as innovation in the years ahead

• Green technology: The world’s expanding economies needs better management of energy usage {see smart meters above}. That's why it is increasingly likely that "Green" technologies or energy conservation will continue to be a growth business. This is less because Americans care about the polar bears and mostly because it will save them money.

Tomorrow:  What the playbook says.
 
*Long ETFs related to the S&P 500 in client accounts.