Werlinich Asset Management, LLC
400 Columbus Ave.
Valhalla, NY 10595

October 25, 2007
Current Market Analysis
Last Month's Results
Statistics to Watch
Trends To Watch
Monthly Tip
What I'm Thinking and Doing
Personal News and Notes

Current Market Analysis

The fun continues. As I begin to write this letter mid-day on Wednesday, the Dow Industrial Average has fallen 195 points to 13,480, down from nearly 13,800 four weeks ago. (The Dow rallied hard to finish the day flat at 13,675). Clearly, the effects of the sub-prime lending crisis continue to ripple through the economy and Wall Street. Today, following on the heels of Citigroup and many other financial institutions, Merrill Lynch is the latest company to report huge losses. The housing market continues to deteriorate, and the retail sector, as evidenced by worrisome comments from Wal-Mart, is beginning to feel the effects of the domestic economic slowdown. To make matters worse for the economy, oil prices continue to flirt with $90 per barrel and wild fires have destroyed over 300,000 acres and 1,500 homes (so far) in Southern California, resulting in damage well in excess of $1 billion.

The Federal Reserve meets again next week, and it's expected that they will again reduce the Fed Funds rate in order to help forestall further weakness in the economy. My guess is that they will cut the rate by 0.25% this time, as they don't want to be seen as stoking inflationary pressures too much. I would argue that inflation is already raging, and that the government statistics suggesting that inflation is only around 2% is garbage at best, and an outright fabrication at worst. In the real world, which our government clearly doesn't live in, the cost of energy, food, education, furniture, entertainment, or just about any other factor of our daily lives, is rising at unprecedented rates. To me, that is inflation, not the fraudulent statistics trumpeted in the financial press.

So what is the market telling us? For the most part, it's telling us that, on the whole, things aren't so bad after all. Remember, the stock market is a forecasting tool, discounting all known information to predict future prices. I believe that the market is looking ahead to sometime next year, where it sees that the worst of the housing problems will be behind us and that the domestic and international economies will be stronger thanks to accommodative interest rate policies.

Below are two charts of the Dow Jones Industrial Average: a daily price chart and a weekly price chart. The daily chart shows the heavy volatility over the past four months. Yet the Industrials remain above both moving averages and slightly above the trend line, so I think the bullish trend continues. It is a similar story in the weekly chart. I believe that the market is consolidating a bit right now as it digests all of the news. I still believe that the Industrials will surpass 14,000 again before the end of the year.

So how is the Transportation average faring in the face of all the negative economic news? Not great, but not too bad either. The index appears to be consolidating above a support level of 4,700 and the closing price of 4,672 set on August 16, the day of panic selling. I'm a little concerned that the 50-day moving average has moved below the 200-day average, which suggests more near-term weakness. As long as the index remains over that August 16 low, I'm comfortable with this picture.

Finally, what does the bond market look like? What it doesn't look like is much of a safe haven. What a wild ride bond owners have taken over the past twenty-one months. Bonds yields have dropped a full percentage point in just the past four months as investors appear to again be flocking to the "safety" of treasuries. I expected yields to rise to compensate investors for owning dollar-denominated debt. That clearly isn't happening yet, but the story isn't fully told. Let's see what happens next week after the Fed announces their latest interest rate policy.

Last Month's Results

As always, I provide the following chart to show the raw results for the preceding month, the quarter-to-date and the year-to-date. The quarter ended with a very nice rally as all the broad averages surged, with growth leading the way, as it has for most of the year. Barring a massive sell-off during the final quarter, which I believe is very unlikely, we should end the year in positive territory.

Name of Index





S&P 500




Large-cap stocks

Dow Jones Industrial Average




Large-cap stocks

NASDAQ Composite




Large-cap tech stocks

Russell 1000 Growth




Large-cap growth stocks

Russell 1000 Value




Large-cap value stocks

Russell 2000 Growth




Small-cap growth stocks

Russell 2000 Value




Small-cap value stocks





Europe, Australia, Far East

Lehman Aggregate




US government bonds

Lehman High Yield




High-yield corporate bonds

Statistics To Watch

  • According to the Department of Labor, the most recent four-week average for initial jobless claims, for the week ended October 20, was 324,750, up 4,000 from four weeks ago. At the same time, non-farm payroll employment rose by 110,000 jobs in September, following revised gains of 93,000 in July and 89,000 in August, respectively. Most of that growth came in the health care and service sectors. So the job picture, which appeared to be very dire, all of a sudden looks almost perky. Keep in mind though that even with these miraculous revisions, if they are to be believed, they are still well short of the 150,000 or so new jobs needed to be created every month for healthy economic growth. Average hourly wages grew $0.07 to $17.57. The average workweek remained steady at 33.8 hours.
  • The number of unemployed workers inched up to 7.2 million. The seasonally adjusted number of people, who for economic or business reasons, could only find part-time work, stayed at 4.5 million and the number of marginally attached workers fell to 1.3 million. The number of people holding multiple jobs rose to 7.62 million. My Comprehensive Labor Index™ fell slightly to 8.89%, while the unemployment rate reported by the government remained rose to 4.7%.
  • According to the CBO, the government posted a budget surplus of $113 billion in September, bringing the full-year deficit to $161 billion, which was $87 billion less than a year ago.
  • According to the Census Bureau, the U.S. trade deficit in August was $57.6 billion, slightly better than the revised $59 billion in July. Our trade deficit with China actually fell slightly to $22.5 billion.
  • The Census Bureau reported that privately owned housing starts plunged 10.2% in September from a revised downward August figure, and was down an astonishing 30.8% from a year ago, to a seasonally adjusted annual rate of 1.19 million units. New building permits were down 7.3% from last month and down 25.9% from last year, so the outlook for future housing starts remains bleak and continues to worsen.
  • The Census Bureau reported that on a seasonally adjusted annualized basis, sales of new homes in September rose 4.8% from the prior month, after falling 7.9% in August, but were still down 23.3% from the same period last year, to a projected 770 million units. To give you an idea of the magnitude of this problem, 1,109 million homes were sold just this past December. The estimate of homes for sale is now 523,000, which represents 8.3 months of supply at the current rate of sales. The median sales price of $238,000 is below the 12-month average of $245,300.
  • The National Association of Realtors reported that on a seasonally adjusted annualized basis, sales of existing homes in July fell 8% from the prior month, and were 19.1% lower than the same period last year, to a projected 5.04 million units. This marked the seventh straight month in which fewer homes were sold than the prior month. The estimate of homes for sale, at 4.49 million, represents a staggering 10.5 months of supply at the current rate of sales. The median sales price fell slightly to $211,700, which remains below the 12-month average of $219,667.
  • According to RealtyTrac, foreclosures actually fell 8.4% in September, after rising 36% in August. Foreclosure filings are up 99% from a year ago, to 223,548 filings. Nevada, Florida and California had the highest foreclosure rates, while California, Florida and Ohio continued to have the highest absolute number of foreclosures.
  • The Institute for Supply Management (ISM) index of manufacturing activity was 52.0 in September, down from 52.9 in August, marking the third straight month in which the index has decreased. While the experts claim that the economy is still expanding, I see this as another example of a slowing economy.
  • The Conference Board reported that it's index of Leading Economic Indicators increased 0.3% in September, leaving this index flat since March, again suggesting limited economic growth in the near future.
  • The Bureau of Economic Analysis announced that the "final estimate" of GDP growth for the second quarter of 2007 was 3.8%, slightly worse than the "preliminary estimate" 4.0%, but better than the "advance estimate" of 3.4%. This follows the anemic first quarter GDP growth of 0.6%. I expect that GDP growth in the third quarter will look more like the first quarter than the second.
  • The Federal Reserve reported that the amount of outstanding consumer credit increased by 0.5% from the prior month (or 6% annualized) in August, to $2,470 billion. This growth has been very steady all year, and is up 16.6% in just under three years.
  • According to the Census Bureau, retail trade and food service sales rose 0.6% in September from the prior month and were up 5% from a year ago.
  • The Fed increased M-2 by 0.4% in September after a 0.9% increase in August. The supply of M-2 has increased by 6.7% in the last three months and 6.7% in the last twelve months. According to John Williams on his website "Shadow Government Statistics (, the increase in M-3, which the Fed no longer publishes, is closer to 15%! If true, and I believe it's probably very close to the truth, then my belief that the "true inflation" numbers are much higher is also probably true, and that the value of the dollar is headed inexorably lower.

Trends To Watch

As you probably know, as as you can clearly see below, the price of oil continues to rise. I have been talking about this trend, and investing in it, for more than five years. Every time the talking heads say it can't go any higher and that, in fact, it has to go lower, I just rub my hands in glee. Forget all the noise and all the reasons given by the "experts" for this "temporary mis-price". The reality is that while prices can, and will likely pull back a bit, over the long haul, they are just going to keep going up. **Late breaking news - the price of West Texas Crude just surpassed $90 per barrel for the first time.**

Like oil, the price of gold continues to rise regardless of what the critics say. Indeed, at around $770 per ounce, it is bumping against the top of the trading range highlighted below. And also like oil, I expect gold prices to drop a bit and consolidate before rising to $800 per ounce and higher. If the Fed cuts next week, we could see $800 sooner rather than later.

This month I'm introducing the chart of copper, which is widely believed to be a great proxy for the world economy. The price of copper has been trading in a range of $3.20 - $3.80 per pound for the better part of this year. Indeed, $3.80 has been a price ceiling since 1995. I believe that as long as China and much of the rest of the developing world continues to build their respective infrastructures, the price of copper should remain in this trading range. If the US were to suddenly show evidence of burgeoning economic growth, then the price could move closer to $4.00.

The poor greenback continues to whither. In fact, the dollar index is now at its lowest point since the index was created in 1983. I've been saying for years that the future of the dollar looks bleak (thank you Federal Reserve) and I only expect it to get worse. If the Fed cuts rates next week, the dollar index will likely make another new low. What is the impact on our daily lives? As the dollar continues to erode in value, it means that international travel, along with all imported goods and services, will become more and more expensive. It also means that countries, like China, flush with dollars in their "sovereign wealth funds", will increasingly look to buy cheap US assets. Prepare to read more and more about US companies being the targets of overseas acquirers.

The housing sector just gets worse and worse. At this point, I honestly can't see an end to the misery, except to say that it probably won't come before the second quarter of next year. By then, I expect a number of widely know mortgage lenders, home builders and building suppliers to have declared bankruptcy and other to have merged to survive. So Wall Street, please stop being "surprised" every time the homebuilders announce losses that are "greater than expectations". Wake up and look around at the carnage and try to tell people what is really going on. That's what I'm doing.

Here again is a chart showing the Shanghai Index, which is a proxy for the Chinese stock market. In the past 22 months, this index is up five-fold! That's simply amazing. And unfortunately, I've invested nary a dime in this market. Oh well, you can't win 'em all. And as I said last month, and as I'll probably keep saying until I'm right (or just give up from being wrong too long), putting money in China now would be gambling, not investing. This looks like a bubble to me. And as we all know, bubbles have an unfortunate history of deflating at the worst possible times. So buyer beware.

As I look at the yield curve I can't help but wonder why the Fed Funds rate at 4.75% remains so high relative to the longer maturities. You'd think that either the Fed Funds would fall or the longer maturities would rise. If I had to bet, I'd say the former is more likely than the latter. I still think we're in the midst of an economic slowdown, or even a mild recession, that won't be reported until next year. And by then, the economy will likely be on the upswing. The spread between the 10-year Treasury and the 10-year TIPS has increased to 2.33%, suggesting a mildly growing whiff of inflation in the bond market. I'll be keeping an eye on that spread.

Monthly Tip (Reprinted from January 2004)

This month I've asked Kevin Cohen, an estate planning attorney and elder care attorney, to review some of the important issues in estate planning. This is a very important topic for every one of my readers. I hope after reading this, many of you will be moved to take immediate action on your own estate plans.

I am always surprised to learn how many friends, relatives and colleagues do not have a will. Unfortunately, the cost of dying without a well thought out, comprehensive estate plan can be extremely expensive. Often, the excuses I hear from those who put off meeting with an estate attorney include: “I don’t have the time”; “I don’t think it is necessary”; “It’s too expensive” or “I just can’t contemplate my own death, it’s too scary”. This article addresses these issues and will guide you through the process of establishing an estate plan.

Who needs an estate plan?

1. Parents With Young Children.

No matter how large or small your estate is, every parent of minor children needs a will. A will not only distributes one's assets, but also provides for the election of a guardian for children who are under eighteen. Parents are usually best-suited determine who should care for their children in the event of their untimely death. In the absence of a will, relatives or others who may not have been the deceased parents’ first choice can petition the court to appoint them as guardians of the surviving minor children.

A guardianship proceeding is time-consuming and costly, leaving the minor children in a state of limbo until a final decision is rendered by the governing court. Moreover, without a will, the children will have very limited access to the estate assets while they are minors. More troublesome is that all of the assets will be distributed to the surviving children upon their eighteenth birthdays. Most parents believe that an eighteen-year-old is too young to be completely responsible for his/her own finances. A will can govern how and when the estate assets will be distributed to the surviving children through a trust provision.

2. Married Couples With Assets Exceeding $1,000,000.

A married couple with assets in excess of $1,000,000 can benefit dramatically from a well prepared will that serves to maximize their state and federal estate tax exemptions. Many clients believe that they don’t need to concern themselves with estate tax issues, particularly in light of the increase in the federal estate tax exemption[1]. However, life insurance proceeds[2] and retirement accounts are included in a taxable estate, and when coupled with the inflated value of real property, most married couples have more assets than they think. Further, it is important to note that New York State will continue to tax estates valued in excess of $1,000,000.

Failure to maximize the estate tax exemptions in both spouses’ estates can result in the surviving beneficiaries paying hundreds of thousands of dollars in taxes which could otherwise pass to the couple’s children. Many simple wills provide that on the death of the first spouse all assets pass to the surviving spouse and on the death of the surviving spouse, everything passes to the children. The problem with this plan is that by failing to use the estate tax exemption of each spouse, a significant amount of estate tax is paid which could otherwise be protected with a professionally drafted will.

3. Business Owners.

Business owners can benefit most from the implementation of an estate plan. The manner in which the business is held can result in significant estate tax savings. An efficient estate plan also facilitates the transfer of the business upon the death of the business owner.

The use of a buy-sell agreement allows partners to purchase each other’s interests in the business upon the death of one of the partners. This technique provides instant liquidity to an estate by converting an individual’s business interest to cash. It will ensure that a business owner receives a fair, reasonable price for his business. Through the use of a buy-sell agreement, a purchase price will be established among all parties while the business is vital, rather than determining the value after the death of the owner, when it's vulnerable to being undervalued. The buy-sell agreement will also provide a methodology for determining the market value for federal estate tax purposes. The IRS will generally accept this value if the agreement is structured correctly.

Advance Directives and Powers of Attorney, an Important Part of any Estate Plan

As part of the will drafting process, a trusts and estates attorney should provide the client with a set of documents commonly referred to as advance directives. These documents permit you to do advance medical care planning and are crucial in the event that you suffer an incapacitating disability because they make your wishes regarding your health care choices clear to loved ones and doctors.

There are two types of advance directives: a health care proxy and a living will. A health care proxy enables you to appoint a person whom you trust to make health care decisions for you if you are not able to do so yourself. A living will states one’s wishes regarding medical treatment in the event you are unable to express those wishes. It also sets forth whether or not you wish to be sustained on life support if you will not likely recover from an illness or injury that will result in your death or mental and physical incapacitation. The living will describes the kind of care you wish to receive. The living will also asks that your doctors, family members, hospital and the courts honor your wishes regarding life support.

A Durable Power of Attorney also offers protection to an incapacitated person. The Power of Attorney is a general power that gives the independent right to another person to act as attorney-in-fact in a fiduciary capacity for the principal, and consequently the authority to do anything with the principal’s property that the principal could do himself or herself. As long as the principal is mentally competent to do so, a Power of Attorney may be revoked at any time. Unless revoked, the Power continues until death.

The Power of Attorney does not take away the principal’s power to act on his or her own behalf. Since the Power of Attorney is “durable,” the attorney-in-fact’s ability to act on the principal’s behalf would survive the principal’s incompetence or incapacity. A Durable Power of Attorney is particularly important if the principal becomes incapacitated, since this would obviate the need to commence a guardianship proceeding that can be very time consuming and expensive.

It is important to note that a Durable Power of Attorney form that you can buy in a stationary store or on-line is not necessarily extensive enough. For example, an expanded Power of Attorney form would be needed in order to facilitate Medicaid planning.

Choosing a Trusts and Estates Attorney

Since planning for your own death can be a frightening and morbid task, it is important to select an attorney with whom you feel comfortable. Your attorney’s law practice should focus primarily on trusts and estates law. Many attorneys will claim that they can do a “simple will” even though they do not concentrate in the area of estate planning. Although these attorneys might be skilled in their primary area of practice, they are not likely well versed in comprehensive estate planning issues, tax consequences, trusts, guardianships, etc.

Choose a trusts and estates attorney who has honed his or her estate planning skills and has “seen it all”. A personal reference is always a good place to start when looking for an attorney, not the yellow pages. Make sure that the attorney’s legal fee for a last will and testament includes the advance directive documents as well. Although the fee might seem like an expense you’d rather not incur, it is a small investment that should result in significant benefits to you and your beneficiaries.

[1] In 2005 any person can die with $1.5 million and pay no federal estate tax. This exemption amount is scheduled to increase to $2.0 million in 2006 and $3.5 million in 2009. The estate tax will be repealed for 2010, however, the tax law is drafted in such a way that the estate tax will come back into effect in 2011 unless Congress passes further legislation which is signed into law by the President.

[2] There are ways in which a taxpayer may exclude life insurance proceeds from his or her estate, however, this topic goes beyond the scope of this article.

Kevin H. Cohen, Esq., is a trusts and estates and elder law attorney based in White Plains, New York and is the principal of The Law Offices of Kevin H. Cohen, P.C. Kevin can be reached at 914-949-3411 or via email at You can visit for more information.

What I'm Thinking and Doing

I want to repeat something that I wrote last month. I said that "patience is one of the greatest and most difficult attributes for any investor. The greatest fortunes have been built by the greatest investors by being patient." This might be the most important thing you can take away from reading my newsletter. You can't get caught up in the daily noise of the market. You must take a long-term view to investing. Buy good companies, in the right sectors, at good prices and hold on as long as your investment thesis remains unchanged. That's how you build wealth.

So what have I done over the past month? I've added two new positions - one in defense and aerospace and one in transportation, both of which are core sector holdings. Both are great companies that I expect to own for many years. I have also added to a few existing positions in energy, mining, precious metals and others during times of momentary weakness. Nothing has shaken my faith in my core holdings, and the solid results produced by these investments confirms that faith.

In addition to my purchases, I have sold a few things, mostly in the financial arena. While I continue to have core positions in a few of the large-cap diversified financial companies, even in the face of some price deterioration, I decided to say goodbye to some smaller positions rather than accept further uncertainly and potential losses. When the risk/reward proposition is no longer in your favor, it's time to sell. If you are managing your own investments, it's also time to start looking at your portfolio and harvest losses to offset any gains taken earlier this year. Don't wait for the Christmas rush.

Personal News and Notes

It has been a fun month in the Werlinich household. Four weeks ago Shaena and I took the kids to see Genesis in concert and we all had a blast. A week later I drove to Hartford, CT with my friend Evan to witness the opening night of the new Bruce Springsteen and the E Street Band tour. What a night! Then last week Shaena and I took the girls to Madison Square Garden to see Bruce again. I have to say that evening was one of the Top Ten nights of my life as I got to sing "Born To Run" with my children. Tonight we're off to hear Bon Jovi and the boys rock the house at the new Prudential Center in New Jersey. I expect another great night. In two weeks I'm taking my good friend Robert to Albany to see one final show by Bruce before he heads to Europe. If you haven't see Bruce and the band, and you have the chance to do so, I strongly suggest you do it; you won't be disappointed.

As are most families, we're gearing up for Halloween next week. Shaena has done a great job decorating the house with ghosts, witches and goblins. I'm looking forward to pumpkin carving and pumpkin seed baking this weekend with the kids. We'll also have to come up with some creative uses for the many apples that we collected on an apple picking extravaganza two weeks ago. I wish all of you a fun and safe Trick or Treat night next week.

That's it for this month. Thanks for reading. As always, I thank you very much for your continued interest and support and I look forward to writing to you again next month.

Best regards,

Greg Werlinich

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