R  I  V  E  R   P  O  I  N  T 

R  E  P  O  R  T

 

 

April 2007

 

Back on the Road to Recovery?

 

The Federal Reserve released its highly anticipated Federal Open Market Committee (FOMC) statement on March 21st.  Since its release much ado has been made of the elimination of the phrase “additional firming.” Some argue that this implies the next Fed move will be to cut the federal funds rate, the rate banks charge each other for overnight borrowings. The Fed uses this rate to “set” interest rates in other areas of the economy.  In the context of the entire report, the more logical conclusion appears to be that the next move may be no move at all.  A side-by-side comparison of the two releases leaves the reader with the impression that inflation is now the committee’s primary concern and that the economy will continue to grow steadily despite troubles in the housing market.  The result?  Easing rates in order to boost the economy may not be in the cards.  However, given popular opinion that the housing market is teetering on the precipice, a rate hike would seem to be as welcome as a splash of cola in a glass of fine scotch.

 

This ambiguity on the part of the Fed is also evident in the markets.  Since the Dow Jones Industrial Average closed at a record-high 12,786.64 on February 20th, the equity markets have been relatively volatile in reaction first to the news of a possible rate intervention by the Chinese government and then to the sub-prime lending concern.  The Dow has lost ground in 14 of the 28 subsequent trading days.  The net result of this volatility is that the markets are essentially flat for the year.

 

The woes befalling the sub-prime lenders have introduced an air of uncertainty into the marketplace, as investors and regulators alike wonder how far the damage will spread. Up until now, however, it appears the damage has been concentrated in what is a relatively isolated sector of the home mortgage industry.  It remains to be seen what the far reaching effects of the sub-prime loan problem will be, if any.  Interestingly, the Fed has remained purposely nebulous regarding its future intentions, desiring not to tip its hand too early. 

 

This has left the markets a bit jittery.  At RiverPoint, we remain committed to uncovering sound companies trading at reasonable prices.  Our research efforts are not affected by the whims of the market or the musings of Ben Bernanke.  Nevertheless, we do closely follow macroeconomic trends and market sentiment in the construction of our clients’ portfolios. 

 

Continental Drift

 

Treasury Secretary Henry Paulson, former Chairman of Goldman Sachs, summoned U.S. financial leaders to New York to discuss on March 13th whether Wall Street was losing its competitive edge to London as the world’s financial capital.  This summit was attended by some heavy hitters in America’s capital markets – Warren Buffett, John Thain, Chairman of the New York Stock Exchange, and General Electric CEO Jeffrey Immelt among others.  On the surface, the topics covered at such a meeting would have far-reaching implications and be of great importance to the public at large.  At this meeting, however, the focus quickly turned to London as the new global financial center.

 

The controversial European grip on the title of “World’s Financial Capital” will not likely change markets for retail investors.  It will, though, affect those working for Wall Street firms by forcing them to relocate where the money is.  The dollars are moving to London for two primary reasons: European stock exchanges have less stringent listing requirements than those in the U.S., making it easier for international firms to raise capital; and the Patriot Act has made it relatively easier for talented international bankers to work in London versus New York.  As a result of these two factors, most of the largest global initial public offerings (IPO’s) in 2006 came out of London, not New York.  In addition, London is on the verge of surpassing New York in terms of bond sales, over-the-counter (OTC) derivative markets and financial innovation.

 

While the civic pride of some New Yorkers may be wounded, these developments are not likely to have an effect on the typical American investor.  American Depositary Receipts (ADR’s) allow U.S. investors to effectively own shares in major corporations listed on foreign exchanges, making it of no consequence where the shares are initially listed.  Sarbanes-Oxley, at this point, has forced companies to become overzealous in auditing their books.  This provides more information for U.S. investors.  Eliminating this legislation would not have much effect on the quality of financial disclosure since financial reporting in the U.S. was the best in the world prior to Sarbanes-Oxley and would likely continue in this vein.  If Sarbanes-Oxley were repealed, U.S. companies would definitely save money and time that they could use to further improve their current businesses, ultimately benefiting U.S. investors. 

 

In spite of reports that London is stealing Wall Street’s crown as the “Financial Capital of the World,” the only people likely affected are those employed in the financial services industry in New York or London.  For RiverPoint’s clients and employees, business as usual will be the order of the day.  The stock market will continue to run efficiently, allowing us to execute trades with the same level of speed and accuracy to which our clients have become accustomed.  Furthermore, we do not anticipate such a change having any impact on the strong, long-term performance we have provided for our clients.

 

 

 

          Market Summary

 

3/30/07

 

YTD Price Change

 

Dow Jones Industrial Average

12,354

 -3.5%

Nasdaq Composite

   2,421

                      1.1%

Standard & Poor’s 500 Index

   1,420

     .7%

 

For information about RiverPoint Capital Management or to view our report archive visit us at www.riverpointcm.com.