October 4, 2002

To Our Clients and Friends:

A year ago, we were writing about multiple terrorist attacks. We said, "Fear and uncertainty do not sit well with financial markets. While it is impossible to compare today's tragedy to any other historical event, we are, in a small way, reminded of the emotional environment in late 1990 just prior to the invasion of Iraq. In December, the economy was probably in recession, corporate earnings were likely to be weak, and war with Iraq appeared imminent. At the time there was great concern about the possible disruption of the flow of oil from Saudi Arabia. Many investors trying to assess the impact on financial markets were confused and apprehensive. However, when headlines are negative, when the world seems like it's going to end, stocks typically bottom. In the end, the long-term outlook overcame the short-term pessimism and after a disappointing 1990, stocks rebounded. (The S&P 500 was down significantly from August through the end of the year, but stocks came roaring back with a positive return of 30.1% in 1991.)"

Déjà vu

Guess what? The dark cloud hanging over the markets now is Iraq. Until it is clear whether there will be a war, and until it is clear how quickly and cleanly that war will be won, there is not much hope of a recovery in equities. Until the action begins, the markets will remain depressed. A war with Iraq would have a large impact on the global economy. The issue for the markets is how to price that. Reread the above quote. There is a precedent. The markets can look back to the Gulf war a decade ago and draw some lessons. To reiterate, uncertainty does not sit well with the financial markets. Nobody knows for sure when the war might start if it does at all. Until the war begins, or it is clear it's not going to happen, it is futile to speculate on where the equity markets will go.

Going Forward - A Reminder

In our view, investing has been and will always be an exercise in patience. We believe strongly that the way to create wealth is to compound money over the long term through a diversified portfolio of stocks. At some time in the near future, this Iraq preoccupation will be history and the economy will get back on track. This combination will provide a powerful stimulus to the equity markets.

The Economy

The economy is going through its normal slow transition from monetary ease (the lowering of interest rates) that goes in one end of the tube, and about 12-18 months later, the capital expenditures and hiring of employees that comes out of the other end of the tube. The equity markets are evolving at the same laborious pace as the economy. Money goes where it is treated the best. Lately that was money market funds and bonds. Now interest rates are dramatically lower and an unusually high percentage of assets are in fixed income investments due to excessive fear of equities. The stage is being set for a rebound in equities when the fear starts to normalize. As market timing investors begin to shift funds out of low yielding assets, equities will rebound.

Money will go where it is treated best.

History Will Prevail

Stocks always win out. In this high fear environment, people don't trust anybody. But like all times in history, this mistrust will dissipate as the economy and corporate earnings improve. I expect that 2003 will mark the end of the bear market when all conditions - economic, political, and psychological - all come together to create a positive environment for equities.

Money goes where it is treated best.

Warren Buffett

Perhaps we can take an investment lesson from Warren Buffett, a classic long term investor, who is chairman of Berkshire Hathaway, Inc. In early August, when the Dow was in the 8300s, he went shopping. He added battered telecom and energy sectors to his portfolio of stocks. Why? Because he was diversifying his portfolio by making purchases at or near what he expected to be market lows and is planning to hold them for the long haul..

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

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