The U.S. economy has shown resilience in overcoming challenging events ever since it was founded in 1776. We are a country of strong willed people, and one that leads the world in almost every major economic category. We have seen our citizens find cures for terrible diseases, invent amazing new technologies, create companies with life changing products and lead nations into democracy. Since 1926, stocks have returned, on average, 11.2 percent per year (including dividends)*. During that same time, government bonds have returned an average of 5.3 percent per year. As we know, stocks fluctuate and sometimes cause people to react with emotion. In fact most investors did not or do not see the actual returns of the stock market because they chase returns (greed) or sell out during market corrections (fear) and miss the majority of the returns which are often produced in relatively small windows of time.

While we adhere to the principals of long term investing and not reacting to market “noise”, we also monitor and respond to situations that may tell us to reduce risk. Market conditions of late are rapidly changing mostly due to oil price declines and reports out of China. While these situations are not necessarily new developments, they have been on our radar. More recent news has caused us to take a more defensive stance within portfolios as we now have too much fog to see through and feel it appropriate to raise some cash in most of our model portfolios.

What changed?

The news this week that Nigeria was seeking funds from the World Bank brought a new level of concern. We view this as a potential domino effect if other oil producing countries are near insolvency. This harkens back to 2007 when we had the first of hundreds of banks alert the Federal Reserve that they would need to borrow funds to honor their obligations. Further, we have been monitoring oil supply and looking for some stability. On one hand, it is projected that U.S. consumers are saving billions of dollars every month on cheaper fuel for vehicles and energy costs so those savings should make their way into more consumer spending (a good thing for the economy). However, the supply is still not showing and meaningful decline and the demand for oil and gas has not been able to offset the oversupply. With Iran sanctions now lifted and their production added to the equation it is hard to see how this supply glut gets resolved unless the oil producing countries decide to unite and begin restricting production. It has become increasingly clear to us that Russia, Saudi Arabia, Venezuela and Iran are unwilling to cut production until enough pain causes them to ease up.

We have also been keenly watching reports out of the major oil producers here at home. The majors such as Exxon and Chevron have reported earnings in the recent week that showed significantly lower revenues and have also stated that they plan to cut capital spending by as much as 20% and also cut thousands of jobs.

These developments along with technical triggers of markets being unable to sustain rallies have led to the question of when will things get better and how much can the market go down. First off, we don’t see any scenario where this will result in a recession to the magnitude of 2007 and 2008. This is more of a global shock that needs time to shake out. Economics 101 tells us that supply and demand need to find equilibrium for prices to behave normally. Secondly, our economy has a lot to be encouraged about. Interest rates are very low, inflation is non-existent at the moment, housing is back in full swing, banks are in much, much better shape than they have been in years, and new jobs have led us into full employment. Finally, the 4th year of a presidential term (election year) has historically produced a positive year for stocks. Of the last 21 election years, only 3 produced a negative return for the S&P 500.

What did we do?

Last month we removed most of our exposure to emerging markets (China, Russia, Brazil etc.) as the news continues to show reason for concern. On February 3rd, we made the decision to reduce exposure to other higher risk assets. This led us to trim our exposure to commodities, small and mid-sized company stocks and the more aggressive international stocks. This does not mean we moved completely out of the markets or abandoned our long-term approach. It simply means that we are attempting to lessen the volatility for the time being. If we are wrong and markets suddenly begin moving higher then we will still be participating to some degree. We feel that the risk of further downside is higher than it was just a few weeks ago. In most portfolios we are now holding between 15 and 20% in cash (money market funds) and will monitor future developments to redeploy that cash.

Our investment strategies are based on well thought out and diversified portfolios customized for each clients’ objectives and risk tolerance. Please feel free to contact us if you have any questions.

The information contained in this report does not purport to be a complete description of the securities, markets, or developments referred to in this material. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete.

Any opinions are those of Billy Peterson and not necessarily those of Raymond James. Expressions of opinion are as of this date and are subject to change without notice. Investments mentioned may not be suitable for all investors. Past performance is not a guarantee of future results. Investing involves risk and you may incur a profit or loss regardless of strategy selected.

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