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Market Commentary

Fishing and Forecasting
August 6, 2008,  David R. Kotok, Chairman & Chief Investment Officer

Intermittent rain didn’t dampen the spirits of the attendees at the annual fishing, economic, and financial retreat.  This year’s was the largest gathering ever.

CNBC’s Steve Liesman added to the enthusiasm with the live coverage that started on Squawk Box Friday morning and carried on to other shows during the day.  Steve and his producer, Matt Greco, are both accomplished fishermen, and that quickly bound them to the camaraderie of the gathering.  They were also robust participants in the weekend discussions. 

Readers who wish to see and hear some of the interviews may find them on www.CNBC.com .  Search under “Kotok” to get started and you will speedily obtain several segments from the group.  Special thanks to Becky Quick for the eponymous imprimatur of “Camp Kotok.”

No one in the group expected the Fed to change interest rates at yesterday’s meeting.  The two Fed folks attending the retreat maintained silence on this issue.

Nearly all of the retreat participants hold serious concerns about the credit market turmoil and the prolonged period of economic weakness.  As one might expect, the group is divided about how long the slow period will last and about how severe any downturn will be. 

The big issues are the continuing deterioration in housing values, trouble for automobiles, the developing list of bank failures, specific concerns about home equity loan losses still to be taken by banks, the federal budget, energy prices and, lastly, the prospect of an unemployment rate that may go well above 6% and even approach 7% before this cycle ends.  I’m in the high 6% camp and had plenty of company.

There will be a number of articles covering the retreat and reporting on the survey results.  Barron’s will carry one by Jim McTague.  Therefore we will only add a brief perspective to what has been reported on TV and what will be in the press. 

First, the group thought a robust recovery scenario was unlikely.  While we divided on whether or not there will be a serious recession, we are nearly unanimous in the view that any recovery will be tepid.  I think it is the lack of a vigorous rebound that causes the gloom in the group.  When we outlined and brainstormed scenarios that could lead to a V-shaped cycle, we all concluded that they are highly unlikely and can be dismissed.

The second item is another nearly unanimous view that this credit market cycle is non-normal and that we are witnessing a very unusual period with major and strategic changes underway.  Most participants would agree with Alan Greenspan’s characterization that this is “a once or twice a century event.”

We discussed and dissected the details, like the alteration of the Federal Reserve’s balance sheet, the de facto nationalization of the federal agencies, and the rising risk to uninsured bank depositors in the United States.  Nearly all participants agreed that the national leadership of the country is impoverished and that the Congress is particularly distressing.  The sense of that is exacerbated by the indictment of Senator Stevens, the personal use of Countrywide’s VIP program home mortgages by Senator Dodd, the indiscreet and now famous “IndyMac” letter from Senator Schumer.  Furthermore, the outlook for any improvement in the Congressional arena was considered bleak.

When we were done, the list of issues was extraordinary and touched nearly every sector and component of the US economic pie.  It impacts the entire globalization theme.  I guess it is this vastness of issues which all carry high uncertainty that is the second major theme we take away from the weekend.

All enjoyed the informality that fostered these discussions.  We agreed to respect the Chatham House Rule and quote only those who agreed to be public in their views.  There was unanimity on the fishing and the enjoyment of the pristine water and surrounding wilderness and wildlife.  A mama moose and calf and several bald eagles added to the entertainment as did the Steve Liesman and Randy Spencer guitar duet.

Now back to markets and to issues.  We are about 90% invested in this US stock market at the moment.  A cash reserve still seems prudent to us.  We do not believe that the turmoil is over.  Our bond accounts still have longer to intermediate duration in Munis and spread-related positioning in taxable fixed income.  We are still using alternative techniques to help clients avoid the risk of uninsured deposit status in their banks.

PS.  A few of us are heading back to Leen’s Lodge for a relaxing Labor Day.  Early fall colors (bright reds) are usually teasing visitors at that time of year.   So are the northern lights if the evening sky is moonless.

David R. Kotok, Chairman & Chief Investment Officer
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