Financial Fitness & Life Planning

 
For much of April the stock market continued its peaceful ascent from March. As the month came to a close, however, the market was jolted repeatedly by the constantly changing dynamics pertaining to the Greek bailout. Furthermore, fears of contagion became more pronounced as investors and analysts widened their focus to include both Spain and Portugal. It is important to consider that the European situation very well might be foreshadowing a similar crisis in the United States, as states and localities find themselves in increasingly desperate financial conditions. Separately, fraud charges from the SEC combined with theatrics in the Senate focused negative attention on Goldman Sachs, which dragged down both the financial sector in particular and the broader market overall. With so many abuses from the credit crisis worthy of legitimate investigation, I find it puzzling and disappointing that the legal, regulatory and political energy of the nation is currently being devoted to this narrow and seemingly acceptable deal. Finally, the tragic oil spill in the Gulf of Mexico also contributed to the unsettling.
 
All of these recent events should serve to remind investors of the myriad dangers lurking, some that can be contemplated and others that are completely unknowable. The market has now priced in a robust, broad and sustainable recovery. This could possibly come to fruition and indeed evidence is mounting to support it, but there is little room for error. If the economy disappoints, the market is vulnerable to a nasty fall. With so many potential headwinds, I believe that such disappointment is quite likely.
 
Despite this market view, one should still consider remaining largely invested as long as holdings are mostly concentrated in the quality segment of the market, meaning stocks of companies that have high returns on capital, sustainable competitive advantages, stability of earnings and low debt levels. These stocks have the added benefit of being priced reasonably and even cheaply right now, a rarity for them over the long term, and so should have the ability to grind higher even in a declining market were that to occur. 
 
Another reason not to hold much cash in a long-term investment portfolio is centered upon Federal Reserve policy. With zero percent short-term interest rates, the Fed is encouraging speculation and punishing savers. Outright speculation is dangerous, but given Fed policy it makes sense at least to invest in sound securities rather than to wallow in cash earning nothing. With it becoming increasingly obvious that the economy is starting to recover nicely, the Fed expresses no desire to raise rates and indeed still talks of keeping rates at zero for an extended period of time. If it will not even consider raising rates when the economy has clearly turned the corner, it seems virtually guaranteed that it will be too late when it finally attempts to combat inflation, thereby rendering major inflation baked into the future. Quality stocks are far superior to depreciating cash in such an environment.
 
Michael H. Berlin, CFA, CPA, is the founder and portfolio manager of MHB Equity Partners, a value-oriented private investment partnership. He previously worked at Lehman Brothers, and before that at Ernst & Young. Mr. Berlin holds an MBA from Columbia and a BBA from Michigan.
 
The information included in this article is not intended to be used as a basis for making investment decisions nor should it be constructed as a recommendation to buy or sell any specific security. Consult your investment professional for additional information and guidance.

 
Michael can be contacted at mberlin@mhbpartners.com and at (631) 629-4928.