Granite Group Advisors -


2007-01-01 :: 2007 4th Quarter Commentary

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Looking Back

For the first time since 2000, we closed the year with a 4th quarter loss. Although the markets rallied hard in October, it was all downhill from there; not since 1974 have both November and December been negative months. There were a few non-US markets that were positive, but not many. The average returns were down roughly 3% in the U.S. and down roughly 2% for non-U.S. This was the beginning of a difficult time ahead. Evidence came to the forefront that our economy is slowing as well as economies abroad. The housing market continues to worry the markets and the credit crunch is also continuously in the background. Growth still continued to outperform value stocks and non-U.S. continued to outperform the U.S. Recession talk as well as some inflation fears added additional stress to the already jittery equity markets.

Fixed income had its first exceptionally good quarter as the fear in the equity markets made movements to safety lift bond prices and lowered the yield on high credit paper dropping as low as 3.8%.

As we predicted, Hedge funds out-performed most markets and lowered volatility across portfolios. This was, however, only in diversified portfolios. The more volatile and single strategy hedge funds lost such vast amounts of money that the word hedged should be removed from the nomenclature of the product.

Real Estate continues its plunge as prices have still not come down enough to work off a major inventory build.

Commodities as a group trended higher for multiple reasons. Oil and gas were driven by supply concerns, weakness in the dollar and speculation. Gold and precious metals were driven higher by the weakness in the dollar and as a hedge against inflation.

Russell 1000 5.77% Mid-cap 5.6% Russell 2000 -1.6%
Russell 1000 Value -0.2% Mid-cap Value -1.4% Russell 2000 Value -9.8%
Russell 1000 Growth 11.8% Mid-cap Growth 11.4% Russell 2000 Growth 7.1%

Looking Forward

The year ahead looks like it will be a difficult one in the equity markets. Continued pressure in housing, a continued slowdown in the economy, and continued sub prime fallout combined with higher inflation as well as a slowing job market will make this a mediocre year at best. The good news is that this should be temporary as all of these problems should start correcting themselves throughout the first 3 quarters of the year. Volatility will continue and our models call for a high probability of a range from -5% to +5%. Non-US should do better but that should be tempered as well. Large caps over small and growth over value.

We expect bonds to continue a trend of moderate returns. The Fed will probably lower rates for a while to help booster the economy. However, we expect inflation to head in quickly, giving the Fed a more difficult year than 2007, and it will probably end the year raising rates. This will keep the bond market volatile and vacillating.

Real Estate will continue to see more price declines during the first quarter and moving into the second quarter, however we do see this trend of downturn eventually hitting bottom in that time. This is not to say that Real Estate will go up from there but the down side will begin to bottom. It could take years before we see any major uptick in this asset class.

Absolute return hedge funds will probably be the best returning asset class this upcoming year. These types of investments with their downside protection and lower volatility should also be the most comfortable place to be, with an ever growing volatile market in both equities and bonds.

Commodities, assuming an economic slowdown, should start coming down this year. Even with Asia still in the heavy growth period, the U.S. does make up a large market for these materials and its slowdown should slow things abroad as well. However, with the election and possible trouble in foreign relations, the speculators may still drive prices higher but not at the levels of 2007.

As we had predicted, Growth is still out performing Value, Hedge funds will outperform bonds as well as equities, and real estate will continue its downward trend. International will still be for the next few quarters generally better than the U.S., with Asia slightly overvalued compared to Europe but with better growth. Headwinds will be: continued sub prime/credit fallout, rate cut fueled inflation, a continued housing slump, slowdown in U.S. growth, slowdown in job growth and the possibility of a dreaded recession.

Have a Happy New Year.

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