Dow Sets a Record

On October 9, 2002, just a little over four years ago, the Dow Jones Industrial Average closed at 7,286. Reflecting a weak economy, war in the Middle East, terrorism, and the echoes of a “busted” technology bubble, the market hit bottom. The bear market decline lasted about 2 ¾ years, falling 37.8%.

In stark contrast to 2002, today the market stands again at an all time high, besting the mark set in January 2000 of 11,722 and surpassing the 12,000 barrier. Ironically, this occurred on October 19^th, exactly 19 years after the infamous stock market crash of 1987. This substantial rally in stocks has benefited from a strong tailwind of corporate earnings growth while struggling through rising interest rates, high trade and budget deficits, tensions in Iraq, Iran and North Korea, and historically high energy prices.

Investors are now concerned that the market may be too expensive. However, by most absolute measures it is not. Today, the Dow Jones Industrial Average looks slightly pricier than some other popular benchmarks. The P/E ratio for the Dow stands at about 20 times earnings compared with 17 times earnings for the S&P 500 Index. This makes the Dow look more expensive relative to the overall market but remaining within the price-to-earnings range over the last seven years of between 15 and 26. In 2007, earnings for the Dow are expected to grow by 11% as compared with 7% for the broader S&P 500 Index. Recently, earnings have far exceeded estimates; earnings for the Dow were up 26% for the most recent June quarter and 17% for the S&P 500. Another valuation measure, the dividend yield, depicts the Dow as more fully valued. The Dow yield has declined to the low end of its historical range at 1.6% and is below the yield of the S&P 500 for the first time since 1994.

At RiverPoint, we expect the market to trade higher in the coming months for three reasons. We believe the economy will slow, albeit not significantly; however earnings should continue to advance at a better-than-average pace. In addition, inflation, including energy and commodity prices, should remain tame and we expect the Federal Reserve and interest rates not to fluctuate for the next 6 months or so. Finally, equities look especially attractive relative to the ongoing correction in real estate, commodities and hedge funds and the relatively low returns offered by bonds.

Return to Growth

October was a good month for equities. Growth stocks outperformed value stocks in October by a slight margin advancing 3.52% as measured by the Russell 1000 Growth Index vs. 3.27% for the Russell 1000 Value Index. Year to date, value is far ahead of growth with the value index up 16.89% through October and the growth index up just 6.59%. The two basic styles have fluctuated cyclically with the current value cycle outperforming growth since 1999. Over longer periods value has held a slight edge.

There is much speculation as to whether this trend is about to reverse. For that to occur, growth stock prices must become relatively more attractive than value stock prices. For the first time since 1977, growth appears to be cheaper than value as measured by price relative to cash flows. According to research performed by Credit Suisse, large cap growth stocks are currently trading at about 12.8 times cash flow compared with 13.6 for large cap value stocks.

Growth stocks typically offer the dual characteristics of more rapidly increasing sales and earnings growth. Because of these dual benefits, growth companies typically trade at higher valuations than value companies. Growth investing does not come without additional risks. Historically, growth companies have been more volatile because of their exposure to the healthcare and technology sectors. Growth companies typically reinvest cash into the business and therefore pay low or no dividends.

At RiverPoint, we have built a solid track record by successfully managing both value and growth portfolios. This success is reflected by our published rankings in national databases. For clients desiring to take a more conservative approach, we offer a blend of both strategies to diversify and control risk.

Let the Investor Beware

This may be a surprise – the fastest-growing computer security problem is not viruses or other traditional malicious programs, and it can not be entirely defeated by using security software. It is called “social engineering,” and it consists of tactics that try to fool users into giving up sensitive financial data that criminals can use to steal their money and even their identities.

Social engineering is a broad term that includes “phishing,” the practice by which crooks create emails and Web sites that look just like legitimate messages and sites from real banks and other financial companies. It is closely linked to a newly named category of malicious software called Crimeware – programs that help criminals steal your private financial information.

These terms are confusing and overlapping but the threat is real. Here are a few tips to help you avoid these schemes:

1. Do not trust email from financial institutions even if it has an “official” bank or broker’s logo and never click on any link it contains.

2. Never respond to unsolicited commercial email or spam or even click on a link in an unsolicited commercial email. Would you buy a stock on the street touted by a complete stranger? If not, why would you buy one touted in a spam email?

3. Change your passwords to Web sites that hold your private information every so often.

4. Do not download or use free software unless you are sure it is legitimate. Sites offering free cursors, screen savers, or file sharing programs are known to install an array of malevolent programs that run on your PC unbeknownst to you. This is especially true of free security software.

There are several security programs, including some available on the Web at no cost, that target these scams. As always, just as in football and investing, the best defense is a good offense.

Market Summary	10/31/06	YTD Price Change
Dow Jones Industrial Average	12,081	12.7%
Nasdaq Composite	2,367	7.3%
Standard & Poor’s 500 Index	1,378	10.4%

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