January 10, 2005

To Our Clients and Friends,

THE MARKETS
A strong year-end run placed the major U.S. stock market indices firmly in the black after 9 months of essentially flat performance due to the uncertainty of the Presidential election. 2004 ended with modest gains in line with historical averages. The S&P closed out the year with a 9% gain to finish at a level last seen in 2001 while the NASDAQ Composite returned 8.6%. As usual, much of the gain came in a short period of time at year-end, which is why we do not try to time the markets as they are unpredictable in the short run. Instead, we prefer to be long-term investors in a diversified basket of mutual funds.

STAYING RATIONAL
Boston-based research firm, Dalbar, Inc. did a study of investor behavior for the period 1984 - 2002, a period of good and bad markets. What they concluded might surprise you. They discovered that an investor's return is far more dependent on the investor's behavior than on fund performance. Why is that?

Despite the market's ups and downs, the annualized return of the major markets was significant. For example, the S&P 500 returned 12.2% annually for that period. Unfortunately, many investors earned less than 2.6% for the same period, less than inflation. Why are so many investors underperforming? According to the study, poor market timing was the chief culprit. As markets rise, investors poured cash into funds, in essence buying high, in an attempt to capitalize on higher returns. When the markets turned down, they redeemed their shares, in essence selling low. This investment process is counterintuitive to how an investor would have a successful investing experience. Fear and greed, which characterize market timing, seldom work. Rational investing based on an investment plan considerably increases the probability of having a successful investing experience. Dalbar found that mutual fund investors who held their investments were more successful than those who timed the market.

Our behavior as investors is often determined by the constant media barrage we hear and see regarding the stock markets. Optimists and pessimists are constantly battling one another. As investors, our challenge is to be rational in the face of their emotional and seemingly compelling arguments. The fact is that history shows that it is simply too hard to accurately and consistently assess which macro issues will dominate. My advice is to ignore the media. There are too many variables and unforeseen possibilities. John Kenneth Galbraith once said, "One of the great pieces of economic wisdom is to know what you do not know." Unfortunately, most optimists and pessimists who believe they can forecast the markets based on macro issues often do not possess that wisdom.

REMEMBER
As usual, please feel free to call us. We are here to answer your questions, respond to your concerns, and help you make smart decisions about your money.

Very truly yours,

ZRC Financial Services, LLC
A Registered Investment Advisor

By:
         Richard P. Clarke