The Closing Bell

The Closing Bell

Note: CJS wife and I will be leaving for the coast today (kids, grandkids, brother and sister) and will not return till New Year’s Eve Day. There will be no Morning Call until Wednesday January 2 and no Closing Bell next week. As always I will have my computer, will be monitoring prices and will notify you if any action is needed. My very best wishes for a Happy Holiday season.

12/22/07

Statistical Summary

Current Economic Forecast

2007

Real Growth in Gross Domestic Product: 2.0- 2.5%

Inflation: 2 - 2.5 %

Growth in Corporate Profits: 6-8%

2008 (revised)

Real Growth in Gross Domestic Product (GDP): 2.0-2.5%

Inflation: 1.75-2%

Growth in Corporate Profits: 3-5%

Current Market Forecast

Dow Jones Industrial Average

2007

Current Trend:

Medium Term Trading Range 12523-14203

Long Term Uptrend 11757-23751

Year End Fair Value: 13250

2008 Year End Fair Value: 14050

Standard & Poor’s 500

2007

Current Trend:

Long Term Trading Range 750-1527

Long Term Uptrend 1225-2400

Year End Fair Value (revised): 1525

2008 Year End Fair Value (revised): 1615

Percentage Cash in Our Portfolios

Dividend Growth Portfolio 12%

High Yield Portfolio 26%

Aggressive Growth Portfolio 16%

Economics

The economy is a positive for Your Money. Most of the economic data reported this week reflected trends already in place: housing terrible, the consumer and industry erratically stabilizing at a slower rate of growth. Two points: (1) we are nearing the point where the imploding housing market if not soon reversed will force another downward revision to my 2008 forecast for economic growth and (2) while progress is being made in defining the magnitude of the sub prime problem and clarifying its resolution, the recent steps taken by the Fed to address that resolution have been to date insufficient to relieve the lack of liquidity in the short term credit market and if not done could act as an accelerant pushing the US economy into recession.

(1) housing statistics continue to plummet as [a] weekly mortgage applications reversed their recent sharp rise, plunging 20%, [b] November housing starts fell 3.7%, though this was slightly less than expectations of down 3.9% and [c] November building permits dropped 1.5% versus estimates of a rise of .7%,

(2) the consumer numbers were generally positive: [a] November personal income rose .4% versus expectations of up .5% but up from +.2% in October, [b] November personal spending jumped 1.1% versus estimates of a .9% increase and a +.2% reading in October, [c] the International Council of Shopping Centers reported weekly sales of major retailers up 1.4% and up 2.1% on a year over year basis, while Redbook Research reported month to date retail chain store sales fell .6% versus the same period in November but were up 1.4% versus the comparable timeframe in 2006, [d] weekly jobless claims were up 12,000 versus expectations of a rise of 2,000, and [e] the University of Michigan’s revised December index of consumer sentiment came in at 75.5 versus expectations of 74.5 and November’s final reading of 76.1,

(3) there were only a couple of data points measuring industrial activity released this week and two of them were secondary indicators: [a] the NY Fed reported its December manufacturing index at 10.31 versus expectations of 20.0 and 27.37 recorded in November; while the Philadelphia Fed reported its December manufacturing index at -5.7 versus estimates of +7.5 and November’s +6.2 reading. Neither are good; but remember at least with respect to the NY Fed report, anything over 0 signifies growth and [b] third quarter corporate profits were reported flat with the second quarter number {which was up 5.2% versus the first quarter} and up 2% on a year over year basis,

(4) most of the data on the macro economic picture were slightly worse than expected though none were particularly worrisome: [a] final third quarter gross domestic product was reported at +4.9% versus estimates that it would be up 5%; the chain weighted price index was up 1.0% versus estimates of +.9% and second quarter’s rise of 2.6%, [b] another inflation index, the personal consumption expenditure index {PCE} increased in the third quarter at an annualized rate of 1.8% versus the originally reported 1.7% while the core PCE was up 2.0% versus the originally reported 1.8% and [c] November leading economic indicators were down {-.5%} more than expected {-.3%}.

The Fed

In my opinion, the Fed continues to be ‘the story’ in the economy; specifically, the longer the yield curve remains inverted and money supply tightly constrained (Fed policy (reading the data correctly)), the higher the probability of recession (the economy is weaker than expected). Indeed, I think the worse case is no longer just recession but a major recession accompanied by deflation. This is not a forecast; but it has become part of the spectrum of reasonable alternatives.

Bottom line: for the moment, I am leaving the ‘soft’ landing scenario (the economy’s rate of growth slows but does not stop) in place; in addition, inflation will continue to moderate. But another month or so of a collapsing housing industry and/or Fed ineptitude and, in my opinion, recession will become all but inevitable.

The Economic Risks:

(1) the economy is weaker than expected.

(2) Fed policy (reading the data correctly).

(3) a disruption in global oil supplies (It is not the price of oil but its availability that will cause severe economic dislocation.).

(4) protectionism (Free trade is a major positive for world and US economic growth.).

(5) fiscal profligacy (Government spending as a percent of GDP is too high and the looming explosion in entitlement expenditures will make it worse. There is no good solution save spending discipline.).

(6) a rising tax and regulatory burden (Government has never proven that it could solve economic problems efficiently or satisfactorily.)

Politics

Both the domestic and international political environments are a negative for Your Money. By the time the next Closing Bell is written the 2008 political season will have begun. Forget what leading contenders of the Democratic party (Clinton/Obama/ Edwards) and Huckabee in the Republican camp are saying; look at their records on economic issues. (disclaimer) You may agree with the social implications of those records, but their impact when (if) carried out was (would have been) a negative for Your Money.

As we get into 2008, we will hopefully see more specifics on economic policy from all the candidates. As we get those policy statements, particularly on taxes, government spending, federal regulation and trade, I will include links to them.

http://www.clubforgrowth.org/2007/12/new_democratic_white_paper.php

The Market

Technical

The DJIA (13451) is in a trading range defined by 12523 (the August intra day low) and 14203; the S&P (1484) similarly is in a long term trading range of 750-1527 and a shorter term trading range (roughly comparable to the current DJIA trading range) of 1370-1573.

I noted in Thursday’s Morning Call that a price rise above 13314 (DJIA) would suggest a further move up--which we got Friday in spades. For this move to develop into anything significant to the upside, stock prices have to firmly break through 13696 (DJIA) in order to render meaningless what I interpret to be a head and shoulders formation that goes back to June.

Fundamental

The DJIA (13451) finished this week about than 1.5% over Fair Value (13250) while the S&P closed (1484) almost 2.5% undervalued (1525).

Again a couple of short notes:

(1) After a rough two weeks, then the arrival [at last] of the Santa Claus rally on Friday, I think it makes sense to once again point out that [a] the difference between the performance of the two major indices continues to be directly attributable to their respective relative weighting of the financial stocks; this is because there are a large number of [nonfinancial] stocks in our Universes that are at or near the high end of their Valuation Ranges and [b] despite Friday’s rally, the financial stocks still look terrible technically speaking; so until we get some sort of major reversal in sentiment among investors, I don’t see them ‘catching up’ anytime soon.

(2) between the option expiration and shorts running to cover, on Friday volatility picked up once again. Looking out into January, investors/speculators are pricing even more volatility into the options and futures than we saw in November/December. So it appears that we need to be ready for more 3 digit up and down days.

The point here is to not get too giddy about what looks to me like the typical (though late arriving) Santa Claus rally and to focus on individual stocks and our Price Disciplines. While I clearly didn’t adjust the Valuation Model fast enough to catch the rapid deterioration of the financials, our Price Disciplines have thus far served us well (with the sole exception of VF Corp--maybe) in a very volatile market. Discipline and caution remain the keys to managing our way through this Market.

Our investment strategy remains:

(a) continue to use our Sell Price Discipline to take profits in those stocks moving into their Sell Half Range and our Buy Price Discipline to average into stocks of great companies when they trade into their Buy Value Range,

(b) recognize that there are both technical and fundamental factors that argue for caution and therefore to proceed carefully with our Buying, keeping a larger than normal cash position in anticipation of valuation and strategy changes that could result from a potentially new domestic economic agenda,

(c) continue to pay very close attention to the Stop Loss Discipline, occasionally moving the Stop Loss price above its historic level.

DJIA S&P

Current 2007 Year End Fair Value 13250 1525

Fair Value as of 12/31/07 13250 1525

Close this week 13451 1484

Over Valuation vs. 12/31 Close

5% overvalued 13912 1601

10% overvalued 14575 1678

Under Valuation vs. 12/31 Close

5% undervaluation 12588 1449

10%undervaluation 11925 1372

The Portfolios and Buy Lists are up to date.

Company Highlight:

Marathon Oil is an integrated oil company though its refinery capacity is higher than its oil production. The company has grown its profits in excess of 20% over the last 10 years on a 20%+ return on equity. Dividend growth has been less than one half that pace though its expected rate of increase should rise above 10% annually over the next 5 years. Both earnings and dividends will be driven by several large projects in which the company is investing: a $1.9 billion expansion in its Detroit refinery, a $3.2 billion refurbishing of its Louisiana refinery, the acquisition of Western Oil Sands ( a development in the Canadian oil sands), production projects in Norway, Equatorial Guinea and the Gulf of Mexico. MRO is rated A+ by Value Line and its stock yields 1.7%.

EPS: 2006 $6.42, 2007 $6.10, 2008 $6.25; DVD: $.92 YLD 1.7%

http://finance.yahoo.com/q?s=MRO

Steve Cook received his education in investments from Harvard, where he earned an MBA, New York University, where he did post graduate work in economics and financial analysis and the CFA Institute, where he earned the Chartered Financial Analysts designation in 1973. His 38 years of investment experience includes institutional portfolio management at Scudder. Stevens and Clark and Bear Stearns, managing a risk arbitrage hedge fund and an investment banking boutique specializing in funding second stage private companies. Through his involvement with Strategic Stock Investments, Steve hopes that his experience can help other investors build their wealth while avoiding tough lessons that he learned the hard way.

12/21/07

Economics

protectionism (Free trade is a major positive for world and US economic growth.) On the nature of a trade deficit:

http://www.realclearmarkets.com/articles/2007/12/my_falling_trade_deficit_with.html

Two indicators pointing at recession:

http://bigpicture.typepad.com/comments/2007/12/wonk-attack-int.html

Politics

Domestic

International War Against Radical Islam

Another piece of good news:

http://www.nysun.com/article/68433

OK, two pieces of good news:

http://article.nationalreview.com/?q=OGY2OTc2ODg2ZGMwZWNiYjVlYTQ5N2YwMjNlYzFjYTY=

The Market

Technical

Fundamental

Options Update

The ConocoPhillips December 95 calls (Sold @ .625) and the General Dynamics December 100 calls (Sold @ 1) will expire today.

This morning the Dividend Growth Portfolio will Sell Praxair January 90 (limit 2.125) against one third of its position. The Aggressive Growth Portfolio will Sell Smith International January 75 (limit 1.50) against one third of its position.

It won’t be long till the ‘January effect’ kicks in. For subscribers who don’t know what this is, it is the tendency of stocks that have been big losers during a year to experience a bounce in January. The practical basis for this effect is that institutional fund managers sell the big losers in their portfolios in December so that these stocks are not listed in their year end reports and individual investors sell them to recognize the loss for tax purposes; then once past December 31, investors buy these stocks because they are over sold/under valued.

At the top of the list of depressed stocks this year is of course the financials. I have searched for some options that could give a 3-5 times return if the January effect works this year. While not 10 Baggers, that is a great return for a 30 day investment. So this morning, the Aggressive Growth Portfolio will Buy Citigroup January 30 @ 1.625, Merrill Lynch January 55 @ 3.5 and Wells Fargo January 32.50 @ .625. I stress that these are highly speculative. That they are being Bought in very small dollar amounts, i.e. each position is equal to the number of shares in a one third size holding; for example, a normal size holding for Merrill Lynch would be 900 shares, so 3 calls are being Bought.

Further, remember that 90% of all calls expire worthless; so our Portfolio will Sell their positions at the close of business on January 11--period.

Aggressive Growth Buy List

Company Close 12/20 Buy Value Range

Expeditors Int’l 45.72 42-48

Reliance Steel 53.72 49-55

Fastenal 41.61 38-43

Rockwell Collins 71.57 65-75

Simpson Mfg 27.11 26-30

Harley Davidson 46.43 44-50

Company Highlight

Staying with the themes of US consumer staples and companies with a strong international presence, today’s highlight is on Expeditors International.

Expeditors International (EXPD) is a third party logistics provider offering worldwide consolidation services for air and ocean freight as well as custom brokerage and import services. The company runs 168 full service offices, 60 satellite locations and 50 international service centers in more than 50 countries on six continents. It has an outstanding record of earnings and dividend growth (10-20% and 33-34% respectively) and earns 20%+ return of equity. EXPD should continue to achieve this kind of economic success as a result of:

(1) the continued growth of the world economy in particular the strong trade between the US and Asia which should lead to strong gains in freight volume in the future,

(2) the expanding global trade, the multinational diversification of supply chains, the need for technological innovation and trade regulations make it difficult for companies to handle their own shipping, increasing the importance of EXPD’s services,

(3) operating margins will improve as additional freight capacity comes on line and EXPD’s costs decline,

(4) as a global leader, EXPD should increase its market share in this highly fragmented industry,

(5) finally, the company’s brokerage and import services business should also benefit from the growth in freight forwarding to Asia.

Buy Price Range: $42-48 Stop Loss Price: $35 Sell Half Range: $71-75

http://finance.yahoo.com/q?s=EXPD

News on Stocks in Our Portfolios

A positive write up on Praxair (Dividend Growth Portfolio):

http://www.zacks.com/rank/zcommentary/?id=6565

More Cash in Investors’ Hands

12/20/07

Economics

fiscal profligacy (Government spending as a percent of GDP is too high and the looming explosion in entitlement expenditures will make it worse. There is no good solution save spending discipline.) A review of the omnibus budget bill passed Tuesday night:

http://www.heritage.org/Research/Budget/wm1751.cfm

Politics

Domestic

International War Against Radical Islam

If you like history, take a look at the Democratic Party’s 1864 platform:

http://www.powerlineblog.com/archives2/2007/12/019319.php

Another history lesson on the role of oil in warfare and what the US should do about it right now:

http://article.nationalreview.com/?q=NGRiZTliODFmMDZjMzUyNGU5NWNmMjYxOWI3NjM2ZTE=

The Market

Technical

DJIA levels I am watching: 13096--any close below that would suggest a downside bias; while a move above 13314 could get stocks moving up again.

Fundamental

More good news yesterday in the form of greater clarity to the sub prime problem (Morgan Stanley wrote off about $10 billion in bad [read sub prime] loans) or its resolution (the Fed’s first ‘auction’ which I talked [not too favorably] about last week and which was successful and the Chinese $5 billion capital injection into Morgan Stanley) Investors didn’t seem to care; but I do. These are small steps but when aggregated with all the other small steps announced of late, they are forming into a bigger picture that is providing perspective on the magnitude of the sub prime problem and how it will be overcome.

That said, I am in no way suggesting that the above mentioned ‘auction’ process which the Fed set up to deal with illiquidity in the short term credit markets is any less inadequate than I originally opined. Indeed, perhaps investors are of the same thought; and their seeming lack of enthusiasm for yesterday’s events simply reflect the conclusion that the Fed needs to address the inverted yield curve and stagnant growth in the monetary base because they are a more important than these ‘auctions’ in solving the sub prime problem.

Subscriber Alert

The stock price of Canon (CAJ-$48) has fallen below the lower boundary of its Buy Value Range. Accordingly, it is being Removed from the Dividend Growth Buy List. The stock price remains well above its Stop Loss. The Dividend Growth will continue to Hold CAJ.

The stock price of LCA-Vision (LCAV-$18) has risen above the upper boundary of its Buy Value Range. Therefore, LCAV is being Removed from the High Yield Buy List. The High Yield Portfolio will continue to Hold this security.

The High Yield Buy List

Company Close 12/19 Buy Value Range

US Bancorp $31.59 $29-34

Kinder Morgan Ptrs 52.43 51-58

Buckeye Pipeline 49.50 47-52

Alliance Resources Ptrs 35.10 33-38

Realty Income Trust 27.49 26-30

AJ Gallagher 25.29 23-26

Company Highlight

Another great total return stock in our High Yield Portfolio is Buckeye Partners (BPL)

Buckeye Partners is a master limited partnership engaged in common carriage transportation of refined petroleum products including gasoline, jet fuel and distillates. The partnership has achieved an attractive return on equity (15-20%) and has consistently grown earnings, cash flow and dividends in 5-7% range over the last 10 years. This should accelerate over the next five years because:

(1) BPL’s high quality, strategically located assets produce a very safe and stable cash flow which keeps its cost of capital down making its acquisition costs low,

(2) it will pursue an aggressive acquisition strategy as the energy space continues to consolidate and restructure--the company made $850 million in equity investments and asset acquisitions in the two years ending 12/06 and this year they included a number of small acquisitions plus Lodi Gas Storage,

(3) management also expects to pursue organic growth opportunities which included $62 million in expansion and cost reduction projects in 2006 and various ethanol-blending and butane blending projects at company owned pipeline stations and terminals and a pipeline/terminal complex at the Memphis International Airport in 2007.

The company recently experienced a leadership change with new management having strong industry experience and an incentive to spur growth. With a dividend yield of 6.5%+ and a more aggressive growth strategy (the dividend has been raised in each of the last 14 quarters), the total return from BPL is attractive.

Buy Value Range: $45-52 Stop Loss: $41 Sell Half Range: $81-89

http://finance.yahoo.com/q?s=BPL

News on Stocks in Our Portfolios

Accenture (ACN-$35) reported its first fiscal quarter earnings per share of $.60 versus $.46 recorded in the comparable 2007 fiscal quarter.

VF Corp (VFC-$74) confirmed its original guidance of 2007 earnings per share and the stock bolted $5 to the upside (don’t ask me why). I clearly took the head fake on this stock (remember the Dividend Growth Portfolio just Sold one half of its position); although it does illustrate the upside to partial sales. Unless yesterday’s move is itself a head fake, I may re-establish a full position at some point. To be clear though, I am not doing it now.

More Cash in Investors’ Hands

12/19/07

Economics

fiscal profligacy (Government spending as a percent of GDP is too high and the looming explosion in entitlement expenditures will make it worse. There is no good solution save spending discipline.) More on the omnibus budget bill and the earmarks it contains:

http://www.clubforgrowth.org/2007/12/conservatives_call_on_bush_to.php

Politics

Domestic

If you thought that our government was constructing a fence on the Mexican border, think again and read this:

http://article.nationalreview.com/?q=OTZhYTk3YWM1ZDY5NDBiZGU4ZWE4YTc2MWM5NGZmOTI=

International War Against Radical Islam

The Market

Technical

Fundamental

I gotta tell you, I was surprised that yesterday’s news highlights--the European Central Bank’s (ECB) $500 billion liquidity injection along with the positive earnings surprises in Goldman Sachs (a financial) and Best Buy (a consumer discretionary)--didn’t have a more positive impact on stock prices than they did, especially given the normally upward seasonal price bias. Indeed, every one of those items provided more clarity to the resolution of either the sub prime problem itself (the ECB injection) or how it is impacting related industries (Goldman Sachs--owner/seller of the sub prime paper; Best Buy--big ticket consumer items which should be affected by mortgage defaults). And yet…..

So our Portfolios are going to continue to average out of stocks in which partial sales have been made. At the Market open this morning, the Dividend Growth Portfolio will Sell the remaining one half positions in American International Group (AIG-$55) and Wells Fargo (WFC-$30) and the Aggressive Growth Portfolio will Sell the remaining one half position in ASTA Funding (ASFI-$26) which incidentally blew through its Stop Loss Price yesterday (the downside of partial sales).

Company Highlight

I have emphasized two areas of investment focus of late: companies in industries that are relatively recession proof (consumer staples, health care and technology) and companies with large international exposure where foreign sales can offset any weakness in the US. LLTC fits the former.

Linear Technology designs and manufacturers high end linear chips which monitor, amplify or transform continuous analog signals associated with real world phenomena (temperature, pressure, weight, position, light, sound and speed) and markets them in over 4,000 products. The company has grown profits and dividends between 15-20% annually over the past 10 years earning in excess of a 20% return on equity. LLTC should be able to maintain this record because:

(1) it has one of the most efficient business models in the technology sector, generating operating margins of about 50% and consistent free cash flow,

(2) it has an outstanding analog design engineering team,

(3) its products are customized (meaning there is a large upfront design cost which acts as a barrier to entry), they have longer life cycles and carry higher margins,

(4) while avoiding lower margin consumer products, it offers significant product breadth in multiple industrial segments which in aggregate are expected to produce strong annual sales growth,

The company has over $3 per share in cash, generates strong cash flow and has a history of returning cash to shareholders through share repurchases and dividend increases. LLTC is rated A by Value Line and its stock yields 2%+.

Buy Value Range: $29-33 Stop Loss Price: $26.50 Sell Half Range: $67-71

http://finance.yahoo.com/q?s=LLTC

News on Stocks in Our Portfolios

More Cash in Investors’ Hands

12/18/07

Economics

fiscal profligacy (Government spending as a percent of GDP is too high and the looming explosion in entitlement expenditures will make it worse. There is no good solution save spending discipline.) How the earmark process works on the Defense budget:

http://article.nationalreview.com/?q=MTc1NzYxMTM5ZmIwMzZjNzc1Zjc1ZjA4ODkyMmEzMTc=

Politics

Domestic

International War Against Radical Islam

The Market

Technical

In my opinion, the Market technicals look terrible. Yesterday, stocks closed below a very short term rising trend with the August/November lows the only visible support--and that is 500-600 DJIA points from yesterday’s close. Also, look at a chart of the DJIA going back to June and tell me it doesn’t look like a head and shoulders formation.

That said, I am not going to let technical analysis push me into an investment decision; BUT, the technical red light is flashing.

Fundamental

Not surprisingly, this pessimistic technical outlook just heightens my gloomy assessment of the Fed’s recent action (or lack thereof) as relayed in last week’s Closing Bell. (Although it was just announced that the European Central Bank added huge reserves overnight and that is a positive. (http://www.marketwatch.com/news/story/european-central-bank-doles-out/story.aspx?guid=%7BC2C0AF14%2D9F98%2D477C%2DBFF4%2D9F2BB5C62DCD%7D&siteid=bnb ).

However, once again, it makes no sense to let the emotions of the moment precipitate action. It is our Price Disciplines that act as a governor.

Unfortunately, I can’t remember a day when the stock prices of three long term holdings broke down. Yesterday, the stock prices of VF Corp (Dividend Growth Portfolio) and ASTA Funding (Aggressive Growth Portfolio) fell below the lower boundary of their Buy Value Ranges--and not just by a little bit--and Hospitality Properties Trust (High Yield Portfolio) hit its Stop Loss Price. In coming to an investment decision, I considered several things: (1) the price moves of these three stocks were significant and while VFC and ASFI didn’t touch their Stop Loss Price, they got close enough for government work, (2) if yesterday’s Market action looked and felt like a giant flush in a bottoming process, I’d be worried about getting whipsawed if our Portfolios sold these stocks--but it didn’t look or feel that way; in fact as I said above, technically the Market indices look vulnerable to at least the August [12500]/November [12700] intraday lows, (3) our Price Disciplines are right more often than they are wrong, (4) as detailed in the investment strategy summary at the end of the Closing Bell, I have already made the decision that tightening our Stop Loss Discipline [lessening the amount of any acceptable loss] would be appropriate in the current Market environment and finally (4) when our Price Disciplines dictate multiple transactions in a short period of time, it has always seemed prudent to me [OK, it’s a cowardly act] to execute those transactions over time [the general thesis being that no matter how much confidence I have in the Price Disciplines, nothing is perfect].

Bottom line: this morning at the Market open, our Portfolios will Sell one half of each position of VF Corp (VFC-$69) and ASTA Funding (AFFI-$28) and the High Yield Portfolio will Sell its entire position in Hospitality Properties Trust (HPT-$33)..

In other action, the stock prices of Commerce Bancshares (CBSH-$43) and Paychex (PAYX-$38) fell slightly below the lower boundaries of their respective Buy Value Ranges. Accordingly, CBSH and PAYX are being Removed from the Dividend Growth Buy List. The Dividend Growth Portfolio never Bought CBSH; hence no further action will be required. The Dividend Growth Portfolio will continue to Hold PAYX.

The stock price of Ingersol Rand (IR-$44) has declined below the upper boundary of its Buy Value Range. Accordingly, it is being Added to the Dividend Growth Buy List. As you might suspect, the Dividend Growth Portfolio will not purchase shares in IR at the time.

I close with the disclaimer from last week’s Closing Bell: “That said, I could be dead wrong about all of the above: the Fed’s policy moves may prove prescient, the freeze up in liquidity could be thawing as I write this and stocks may be only a moment of clarity away from regaining their footing. Furthermore despite my pessimism, I have to keep in mind that (1) stocks in general are trading at or below Fair Value as measured by our Valuation Model, and (2) the Buy Lists hold a large number of names which historically is a sign that stocks are much closer to their lows than their highs.” (although the Buy Lists are shrinking because stocks are falling below the lower boundaries of their Buy Value Ranges).

News on Stocks in Our Portfolios

Illinois Tool Works (Dividend Growth Portfolio) lowered its earnings per share estimate for the fourth quarter from $.86-.90 to $.82-.86 due to weakness in its North American market.

Eli Lilly (Dividend Growth Portfolio) raised its quarterly dividend per share from $.425 to $.47.

More Cash in Investors’ Hands

12/17/07

Economics

fiscal profligacy (Government spending as a percent of GDP is too high and the looming explosion in entitlement expenditures will make it worse. There is no good solution save spending discipline.). File this under: W, better late than never:

http://www.humanevents.com/article.php?id=23968

On the other hand:

http://www.realclearpolitics.com/articles/2007/12/a_republican_retreat.html

a rising tax and regulatory burden (Government has never proven that it could solve economic problems efficiently or satisfactorily.) New legislation to curb the continuing education of judges:

http://www.opinionjournal.com/diary/

George Will on the government’s sub prime mortgage fix:

http://jewishworldreview.com/cols/will121607.php3

Politics

Domestic

International War Against Radical Islam

The Market

Technical

Fundamental

The Dividend Growth Buy List

Company Close 12/14 Buy Value Range

Johnson & Johnson $67.59 $60-69

Abbott Labs 57.51 51-59

Illinois Tool Works 55.90 53-61

MDU Resources 26.53 25-29

Canon 48.32 47-54

3M 85.91 81-92

Eli Lilly 53.71 49-56

Graco 38.06 37-41

Commerce Bancshares 43.25 43-48

Paychex 38.36 38-42

Sysco 31.56 30-33

Linear Technology 30.91 29-32

Marathon Oil 58.32 56-62

Automatic Data Processing 44.04 44-49

VF Corp 70.22 69-79

General Electric 36.91 35-39

Fortune Brands 74.81 69-79

News on Stocks in Our Portfolios

More Cash in Investors’ Hands

Ingersoll Rand is buying Trane for $10 billion, 76% of which is in cash.

National Oil Well Varco is buying Grand Prideco for $7.5 billion, 50% of which is in cash.

Safeco announced a $500 million share buy back.

The Closing Bell

The Closing Bell

12/15/07

Statistical Summary

Current Economic Forecast

2007

Real Growth in Gross Domestic Product: 2.0- 2.5%

Inflation: 2 - 2.5 %

Growth in Corporate Profits: 6-8%

2008 (revised)

Real Growth in Gross Domestic Product (GDP): 2.0-2.5%

Inflation: 1.75-2%

Growth in Corporate Profits: 3-5%

Current Market Forecast

Dow Jones Industrial Average

2007

Current Trend:

Medium Term Trading Range 12523-14203

Long Term Uptrend 11757-23751

Year End Fair Value: 13250

2008 Year End Fair Value: 14050

Standard & Poor’s 500

2007

Current Trend:

Long Term Trading Range 750-1527

Long Term Uptrend 1225-2400

Year End Fair Value (revised): 1525

2008 Year End Fair Value (revised): 1615

Percentage Cash in Our Portfolios

Dividend Growth Portfolio 8%

High Yield Portfolio 35%

Aggressive Growth Portfolio 15%

Economics

Despite the Fed’s poor management of the credit crisis, the economy, for the moment, remains a positive for Your Money. The good news is that this week’s data points from every sector of the economy showed strength; the bad news (excluding Fed policy for the moment) is that the inflation numbers were disappointing--though not entirely unexpected.

Once again, the only housing data came from weekly mortgage applications which rose 2.5% to the highest level since July 2005. As noted last week, the recent spike in this number is mainly the result of mortgage refinancing because of lower interest rates (question for Fed: do you think that the connection between lower interest rates and rising refinancings has any implications for the solving the sub prime loan problem? i.e. to what extent would a lower Fed Funds rate lead to lower mortgage rates which would in turn make it easier for those home owners with ARM’s about to reset to higher rates refinance into a new lower fixed rate mortgage? Just asking.)

The statistics measuring consumer health were almost universally positive: (1) the International Council of Shopping Centers reported that weekly sales of major retailers increased .2% and rose 2.3% year over year; Redbook Research reported month to date retail chain store sales fell .5% [though this decline is related to the timing of Hanukkah] versus the same period in November but was up 1.6% versus the comparable period in 2006, (2) November retail sales as reported by the Commerce Department was up a much stronger than expected 1.2% versus expectations of an increase of .6%; ex auto’s, sales were up 1.1% versus estimates +.7%, (3) finally, weekly jobless claims fell more than anticipated--down 8,000 versus expectations of a decline of 3,000,

The industrial sector continues to show strength: (1) October wholesale inventories were unchanged versus expectations of a rise of .5%; importantly, wholesale sales were up .7% driving down the inventory to sales ratio to 1.09, a record low, (2) October business inventories rose only .1% versus estimates of an increase of .3%; business sales were up a much stronger .7%, lowering the inventory to sales ratio, again--both of the above series of numbers provide more evidence that businesses are doing an outstanding job of managing their way through the ‘soft’ landing slowdown, (3) November industrial production was up .3% versus expectations of an increase of .2% and a .7% decline in October and (4) November capacity utilization came in at 81.5 versus expectations of 81.7 and 81.4 reported in October,

Finally, the macro economic statistics included some disappointing inflation numbers: (1) the US October trade deficit was reported at $57.8 billion, basically in line with expectations and up slightly from the September deficit [think higher oil prices], (2) the November producer price index [PPI] jumped 3.2%, far above expectations of 1.5% [think higher oil prices] while the core PPI rose .4% also higher than the +.2% estimate and (3) the November consumer price index [CPI] increased .8% versus expectations of + .6% [think higher gasoline prices]; core CPI rose .3% versus estimates of a .2% increase.

The generally positive data the last couple of weeks point to an economy rebounding in November from a fairly bleak October performance which I am going to choose to interpret as supporting our ‘soft’ landing scenario. Keep in mind that when an economy the size of the US’s changes its rate of change (i.e. slows down), it is not going to be a smooth transition. The economy experienced a rocky patch in October but it seems to have stabilized in November.

The only troubling economic news this week was on inflation; but this is a single month’s measure and one that runs counter to other recently reported data. Furthermore, as a result of the spike in oil and gasoline prices, the world knew that the November inflation numbers would be bad and more important, it also knows those prices have since backed off. I am not trying to be Pollyannaish, but as I have said many times, one month does not a trend make. If we get another two months of poor inflation statistics, I will start to worry. That said, these inflation statistics will undoubtedly make the Fed’s job more complicated as it attempts to balance concerns of the inflation hawks against worries about the lack of liquidity in the financial markets.

Of course, the Fed doesn’t need any outside help making its job complicated; it is doing a pretty good job of that all on its own. I am clearly referring the really big news this week: the Fed interest rate cuts/liquidity moves. I covered these developments in Wednesday and Thursday’s Morning Call--so I will only repeat the bottom line: I think that the Fed stumbled in its effort to alleviate the freeze up in the commercial credit market. In the end, while those steps may indeed help, the way in which they were communicated to the Markets as well as them being a little too cute by half while ignoring the negative impact of current Fed policies (an inverted yield curve and the slow growth in the money supply--as of Friday, the 3, 6 and 12 month growth rates of the monetary base are all negative) will likely negatively impact the Fed’s credibility--the significance of which is to raise the risk premium (P/E) investors factor into security valuation decisions. Furthermore, if these new Fed policy measures don’t work, the risk of recession will rise.

The Economic Risks:

(1) the economy is weaker than expected.

(2) Fed policy (reading the data correctly).

(3) a disruption in global oil supplies (It is not the price of oil but its availability that will cause severe economic dislocation.).

(4) protectionism (Free trade is a major positive for world and US economic growth.).

(5) fiscal profligacy (Government spending as a percent of GDP is too high and the looming explosion in entitlement expenditures will make it worse. There is no good solution save spending discipline.).

(6) a rising tax and regulatory burden (Government has never proven that it could solve economic problems efficiently or satisfactorily.)

Politics

Both the domestic and international political environments are a negative for Your Money. But this is good news:

http://news.bbc.co.uk/2/hi/business/7144774.stm

The Market

Technical

The DJIA (13339) is in a trading range defined by 12523 (the August intra day low) and 14203; the S&P (1467) similarly is in a long term trading range of 750-1527 and a shorter term trading range (roughly comparable to the current DJIA trading range) of 1370-1573.

Fundamental

The DJIA (13339) finished this week less than 1% over Fair Value (13250) while the S&P closed (1467) almost 4% undervalued (1525).

The biggest thing on my mind at the end of this week is, what will the impact be of, what I believe to be, a major failure by the Fed in addressing the freeze up in the short term credit markets? I am troubled because before the Tuesday Fed meeting, I believed that the Market had seen its lows, at least one determined by any fall out from the financial crisis based on (1) the increasing transparency of the problem--we have been getting estimates of the size of the problem, financial institutions have been taking write downs, it has become apparent that a good deal of the sub prime paper is held by non-US entities and industry investors have been making capital infusions in troubled banks/brokers, presumably after doing their due diligence and (2) the assumption that the Fed understood the problem and would do what was necessary to insure that the credit crisis didn’t become unmanageable and lead to recession.

While item (1) is still an ongoing process--and that’s a positive--, I fear that I was very wrong about (2). That means (mea culpa) that if the Fed doesn’t move quickly to provide additional liquidity, I think that there is now more downside price risk in equities, in general and financial stocks in particular.

Indeed, this week the price of American International Group (AIG-$55) stock was down about 9% and that of Wells Fargo (WFC-$30) 10%; by the Market close Friday they were both trading below the lower boundary of their respective Buy Value Ranges. While they remain above their respective Stop Loss Prices, if the Fed hasn’t done something to rectify its poor management of the credit crisis before the Market open Monday, the Dividend Growth Portfolio will Sell one half of each of these positions.

Unfortunately, it looks like the events of this week are going to prove me wrong for a second time for having stepped in to buy the financial stocks.

That said, I could be dead wrong about all of the above: the Fed’s policy moves may prove prescient, the freeze up in liquidity could be thawing as I write this and stocks may be only a moment of clarity away from regaining their footing. Furthermore despite my pessimism, I have to keep in mind that (1) stocks in general are trading at or below Fair Value as measured by our Valuation Model, and (2) the Buy Lists hold a large number of names which historically is a sign that stocks are much closer to their lows than their highs.

As you know, my solution to dilemmas like this is to pay close attention to our Price Disciplines--which I am doing, However, until either the Fed takes additional steps to correct the inverted yield curve and slow monetary growth or it is obvious that I am wrong about the effectiveness (or lack thereof) of the Fed’s management of the current liquidity crisis, the lower boundary of Buy Value Ranges, the Stop Loss Discipline and the distance in between will have my undivided attention.

Our investment strategy remains:

(a) continue to use our Sell Price Discipline to take profits in those stocks moving into their Sell Half Range and our Buy Price Discipline to average into stocks of great companies when they trade into their Buy Value Range,

(b) recognize that there are both technical and fundamental factors that argue for caution and therefore to proceed carefully with our Buying, keeping a larger than normal cash position in anticipation of valuation and strategy changes that could result from a potentially new domestic economic agenda,

(c) continue to pay very close attention to the Stop Loss Discipline, occasionally moving the Stop Loss price above its historic level,

DJIA S&P

Current 2007 Year End Fair Value 13250 1525

Fair Value as of 12/31/07 13250 1525

Close this week 13339 1467

Over Valuation vs. 12/31 Close

5% overvalued 13912 1601

10% overvalued 14575 1678

Under Valuation vs. 12/31 Close

5% undervaluation 12588 1449

10%undervaluation 11925 1372

The Portfolios and Buy Lists are up to date.

Company Highlight:

Canadian National Railway operates Canada’s largest railroad system spanning the East/West width of the country plus a North/South axis that runs through the US mid West to the Gulf of Mexico. The railroad has grown its profits and dividends at a 20% pace over the past 10 years earning a 15%+ return on equity. Earnings should continue to increase at an above average pace as Canada’s energy and ethanol industries grow. In addition, CNI is the sole railroad serving the recently opened Port of Prince Rupert, a new container terminal that provides the fastest and most cost effective route between Asia and the interior of North America.

EPS: 2006 $2.92, 2007 $3.40, 2008 $3.75; DVD: $.84 YLD 1.8%

http://finance.yahoo.com/q?s=CNI

Steve Cook received his education in investments from Harvard, where he earned an MBA, New York University, where he did post graduate work in economics and financial analysis and the CFA Institute, where he earned the Chartered Financial Analysts designation in 1973. His 38 years of investment experience includes institutional portfolio management at Scudder. Stevens and Clark and Bear Stearns, managing a risk arbitrage hedge fund and an investment banking boutique specializing in funding second stage private companies. Through his involvement with Strategic Stock Investments, Steve hopes that his experience can help other investors build their wealth while avoiding tough lessons that he learned the hard way.