January was another good month for the stock market. While the Dow lagged a bit, all the major averages advanced. A positive January typically leads to an up year overall for the markets, so there is reason for a little optimism. It should be a very interesting year in the market as the beneficial forces of easy money, tax cutting, low interest rates, improving corporate profits and the fourth year of a presidential election cycle battle the "evil forces" of growing trade and budget deficits, the falling dollar and the continued joblessness of this economic recovery. I predict that this battle between good and evil economic forces will cause quite a bit of daily volatility in the market this year, but should leave the broad averages higher on December 31 than they began on January 1.

Last month I mentioned that it will be important for the Dow to stay above 10,000 in any pullback and that it will be critical for the Dow to eventually crack 11,000 in order for this rally to have legs. As I said on Fox News last week, I predict that the Dow will likely stay in a trading range of plus or minus 5% this year, keeping the Dow between 10,000 and 11,000. I do believe that for the first half of the year we have a better chance of breaking above 11,000 than falling below 10,000. Yesterday the Dow Jones Industrials closed at 10,737.70, which marked a new high for the Industrials during this rally. The Dow Jones Utilities closed within 2 points of its high, but the Dow Jones Transports remain about 140 points below its high. For the Bull to really show its strength, all three averages should be making new highs.

Interest rates remain very low, and in my opinion, are unlikely to change this year. The Federal Reserve recently made a subtle change to its stance on interest rate changes by saying that it will remain "patient" when contemplating a rate increase, rather than being committed to keeping rates low for a "considerable period" of time. This initially spooked the market as people feared an imminent rate hike. That fear has already subsided upon more reasoned reflection. There are just too many forces at work keeping inflation at bay. The lack of job growth and corporate pricing power, the deflationary effects of China and India and the growing personal and governmental debt loads are all working to keep rates low. The Fed is also unlikely to increase rates, and thereby choke off the economic recovery, during a presidential election period.

The bond market leveled off in January as yields stabilized around 4.00% Bond prices continue to forecast a future inflation rate of about 2.25%. The current rate is a meager 1.9%. Last month I predicted that 10-year treasury rates would stay below 4.5% for the first half of the year. I haven't seen anything in the market to change that opinion.

I remain optimistic for the near-term outlook for the market. I have reduced my cash holdings even further by buying some new stocks for my clients. At the same time I have begun taking profits in some of my biggest winners. I believe in the old adage that "bulls make money, bears make money but pigs get slaughtered". I'm taking all the steps necessary to ensure that my clients will remain out of the slaughterhouse. My strategy of focusing my investments in key sectors continues to pay dividends as these sectors remain strong, yet defensive. I don't mind missing some of the upside from the latest tech bubble to protect my investors from the inevitable downfall. Give me a call to find out what sectors of the market I favor and if you can benefit from this strategy.

The end of January and beginning of February produced a pullback in the price of gold as the shiny metal fell from about $425 an ounce to under $400. While this produced short-term paper losses for investors, it doesn't tarnish the reality that the gold sector remains in a bull market and will eventually move higher. In fact, the pullback allowed me, and other investors, to add to their positions, or open new ones. Gold has already moved back above $410 in just the past few days. No bull market moves straight up. There will be ups, downs and consolidations. I think we are in a consolidation right now. The next upward move should take us over $450. As I have said many times, people who are investing in gold should not try to trade the movements because they will invariably be on the sidelines during a major upward move. By holding your positions you also reduce trading costs and eliminate taxes. I am convinced that this bull market is far from over.

I'm not going to bash the mutual fund industry today. Others have done quite a good job of that already. There has been quite a bit written about the funds involved in the recent scandal, what they've done, what they need to do to fix the problems, etc. What hasn't been written about enough is just what all of that means to the average investor. Therefore, I've decided to share a few thoughts.

First of all, every investor must be aware of exactly what it costs them to be in mutual fund each year and how to evaluate those costs. Unfortunately, the mutual fund industry does a terrible job of communicating those costs and of clearly defining the different classes of funds available. Among load funds (those that charge a front- or back-ended commission) there are A, B, C, D, I, Y and other classes. Each class has a different annual expense and a different way of charging a commission. And those annual expenses don't necessarily include all the hidden costs like trading expenses and late trading which are at the forefront of the current scandal. Load funds are sold exclusively through brokers. So anyone being sold a fund by a broker should ask that person to clearly explain exactly what that fund is going to cost every year. You can also ask what compensation that broker received each year for selling you that fund.

The next factor you should be aware of is what the current scandal might mean to your specific fund holdings. The most obvious result might be substantial redemptions by shareholders removing their money from tainted fund families. These redemptions could force those funds to sell some of their positions to raise the necessary cash. That could result in a significant tax liability for the investors who remain in the fund. These redemptions could also hurt the performance of the fund as it is forced to sell positions that it might overwise have retained. There is also a natural disruption to their business from fighting lawsuits, dealing with increased SEC oversight, losing key managers and dealing with all of the increased scrutiny. Finally, when the first cockroach appears, you can be sure that more will follow. In other words, expect more disclosures of illegal actions in the weeks and months ahead. There really isn't much you can do to protect yourself from these revelations except to carefully monitor your fund holdings. If you own a fund that is revealed to have done something wrong, you may want to get out before further bad news comes to light.

I am not suggesting that people should no longer invest in mutual funds. For many investors, mutual funds are the principal method of investing. It just means that you, or your advisor, must remain vigilant to what is going on in the industry in general and specifically with the funds that you own. Ultimately, you are paying these funds a lot of money to manage your money. If you aren't happy with what they are doing with your money, you should fire them and move your money to a fund that will treat you and other investors with greater respect and accountability.

• Wages and salaries increased by 2.9% in 2003, slightly outpacing inflation.

• Investors added $152.7 billion to stock mutual funds in 2003, the highest increase since 2000. By way of comparison, investors had withdrawn $27.7 billion in 2002.

• Producer prices continue to remain essentially flat, demonstrating a lack of inflationary pressure.

• The unemployment rate dropped to 5.6% in January. The initial weekly jobless claims averaged about 351,500 for the month, down from 362,250 in December. Total unemployment dropped to 8.4 million. While job creation increased to 112,000 in January, that is still well below the 250,000 to 300,000 that is needed. National payrolls are still 2.35 million less than the March '01 peak.

• New home sales continue to be strong thanks to low interest rates.

• The Consumer Confidence Index surged to 96.8 from 91.3 last month.

• The American Association of Individual Investors bullish sentiment fell from 67.2% bullish 56.9%. In the face of all this good news, the average investor is still feeling a little uneasy.

• According to a report from the Federal Reserve, foreign holdings of US debt rose by $13.9 billion in January to $1.108 trillion. Foreign central banks are buying our debt in an effort to keep the price of their currencies low relative to the US dollar. According to the New York Times, the US needs to attract $1.5 billion per day to finance its spending.

• The Fed has once again unleashed a torrent of new money into the economy. M-3 increased substantially in January.

• The yield on the 10-year treasury now hovers around 4.0%. The differential betweeen the Treasury and the TIPS rose slightly to 2.3%. There seems to be no fear of rising inflation.

• The dollar continues to be weak, but has stabilized a bit at around 1.25 Euro's.

So what does all this mean to you? Little has changed since last month. There continues to be upward momentum in the economy and the stock market, but trouble still looms. We eventually must address the federal budget and trade deficits. We must limit the decline in the dollar. We must create more high-paying jobs. Unless these things happen, interest rates eventually will be forced up, and the economy, along with the stock and bond markets, will turn down.

Each month I try to present a planning suggestion that is both timely and instructive. This may be one of the most important, yet seemingly obvious, suggestions yet. You must protect your portfolio against potential losses. I don't mean to say that you can avoid all losses. Indeed, some investment losses are often unavoidable. What I suggest is taking prudent steps to shield yourself from the big losses. Whether you are managing your own money or working with a professional, here are some suggestions to help you with this process:

• The most important step is to review your investment plan. Does you current investment allocation make sense as part of your greater plan, and are your investments performing properly? This applies to your taxable accounts, IRA's and pension accounts. All of the accounts should be looked at as if they were one big pot of money. If you don't have an overall investment strategy, you need to create one.

• Review your asset allocation choices. If and when rates go up, will your investment choices suffer? Are your investments benefiting from the low interest rates today? What will happen to your investments if the dollar continues to fall? Are you too tech heavy? Do you even know what you are invested in? The choices that you make today will impact your bottom line for years to come.

• Take a very careful look at your 401(k) or 403(b) accounts. When was the last time you changed your investment allocation. If it has been more than six months, chances are the account could use a little fine tuning. Just because that is your "retirement money" and you probably won't be touching it "for years" doesn't mean that it shouldn't be monitored with the same care and attention as the rest of your investments. In fact, because of the importance of those accounts, I would argue that they may require more attention.

• One of the important ways in which to protect your investments is to invest in securities that create a reliable stream of current income. Dividends are important. The Dow Jones Industrial Average currently yields a meager 2.0%. Your portfolio should exceed that. The greater the income, the more you can reinvest and the less volatile your portfolio will be in bad times. A portfolio of purely growth stocks that pay no dividends is fun during a bull market, but will kill you during a bear market. Are you willing to take that risk? Do you know where to look for high yielding investments? If not, you better find out.

• Do you have any investment insurance? By this I mean are you invested in any securities that will probably go up should the market go down? Do you have a plan in place for what to do during the next market downturn? If not, you should.

Just because the market is humming along right now doesn't mean you should forget the lessons of 2000-2002. Too many people seem to have quickly forgotten how much money was lost during those three years. I'm afraid that we could be in for another period like that in the not-to-distant future. It is better to plan for that now then after it is too late. I'm not suggesting that it is time to panic; far from it. Just that you should be prudent, and not get swept away in the current exuberance. If you feel that you or your current advisor don't have the time, interest or ability to adequately protect your assets, hire someone who will.

I want to thank all of you who watched my appearance on Fox News last week and emailed or called me with your kind words. If you missed the show, I hope to have the video posted to my website shortly.

I'm about to start writing my chapter for "The Black Book On Personal Finance". The chapter will focus on sector investing within a broader asset allocation strategy. The publisher hopes to have the book in stores by May. I expect each of you to pick up a copy (or two!). I'll share more details with you over the next couple of months as publication gets closer.

In the next few months I will be announcing an exciting new development for WAM. Watch for an announcement in April.

I leave Saturday morning for a much needed vacation with my family. We will be enjoying the great ski conditions at the Club Med resort at Crested Butte, CO. This will be our third year in a row at Crested Butte after many years at Copper Mountain. My wife and kids can't wait and neither can I.

As always, I thank you for your interest and consideration, and invite you to write or call me if you have any questions or if I can be of service to you in any way. I look forward to communicating with you again next month, after the official opening of baseball's Spring Training.

Best regards,

Greg Werlinich
President
Werlinich Asset Management, LLC
400 Columbus Ave.
Valhalla, NY 10595
914-741-6839
800-746-6929
greg@waminvest.com
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