TREES INVESTMENT COUNSEL VIEWPOINT (Q2 2009) 

The dust is settling, and investors are crawling out of the trenches and looking around again.  Is it over? Consensus and our hope is that the worst is behind us.  The S&P 500 has bounced 40% off the March lows, and is up 5% for the year.  The Nasdaq's performance has been even better and is up over 20%, similar to the rebound of higher beta emerging markets (like China and Brazil) which fell more but have also recovered nicely.

Observe the world around you and you may have noticed people are spending a bit.  This is an essential part of the recovery in an economy where GDP has recently been as high as 70% consumer based.  Consumers are in a different mindset than they were a couple of years ago-probably for the better.  Jobs are less secure (>10% unemployment) and savings are more critical.  Businesses will continue to be conservative as they have been since after the tech boom, but they are forced to be even more frugal than they would like due to the rigid credit market.  This may limit their ability to hire as the recovery progresses.  We anticipate a lengthy job recovery cycle.  Federal government will spend, but it will not be enough to carry the day, and localities will be forced to cut back.  The housing market, how can we forget, is in straights, but the likelihood is we are at or near the bottom.  We expect GDP growth to be much more modest over the next few years, in the 1-2% range at best.  Now, what does that mean to investors?

The markets and the economy are linked, but they are not the same.  Longer term, we believe that the stock market will see moderate returns (7-8% annually) as investors and institutions start putting money back to work.  This has already begun.  Interestingly, a lot of funds are flowing back to high turnover hedge funds and mutual funds.  Additionally, proprietary trading desks, at the large banks, such as Goldman Sachs, are employing rapid trading strategies.  The upshot is that approximately 75% of daily trading volume is from these high turnover strategies making bets on very small intraday moves in stock prices.

We are sticking to our low churn, long-term investment theme and are seeing value in many of the largest, most well financed and well established companies.  For the most part these companies have better than market dividends, strong balance sheets, and low P/E multiples not seen in many years.  Quality is being ignored by the fast trading masses, and we are happy to take advantage of the opportunity to buy solid companies on sale.

Bond spreads have come in, especially on the highest quality paper, but spreads widen significantly on anything below the highest end of investment grade in both the corporate and municipal markets.  AA versus A credits are at a 100 basis point premium in some cases, accounting for up to 30% more yield.  We are willing to take additional risk in the bond market when we are paid for it, and we feel this is the case.

Certainly there could be more dips down from here; we do not believe we are entirely out of the woods.  For this reason, we feel the most comfort and value in the larger, premium quality stocks in which we are investing today.  We are putting cash reserves back to work in the highest quality companies on a gradual basis.

July 23, 2009