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December 2004 performance review

January 17, 2005

The Conservative portfolio posted a nice 9.35% gain in 2004 – not bad for portfolio with a 30% short term bond stake. 

The main drivers were utility and foreign stocks. American Century Utility Income was up a whopping 23.8% in 2004, as this formerly out of favor category finally caught investor’s attention. Forward International Small Company – a high risk fund we have at just 5% now – was up 25.5%.

On the downside, we sold our real estate fund holdings in the Safety portfolio too early. SSgA Tuckerman Active REIT (SSREX), our past pick, was up an astounding 37% in 2004 putting it in the top 10% of a high performing category. This after a 31% gain in 2003.  Trends can last longer than would seem logical – well after prices reach fair value - and we need to wait until performance chasers start piling in before getting itchy trigger fingers to sell.

This year American Century International Bond was up 13% (and 60% since added), Vanguard Dividend Growth, up 11%, and Vanguard High Yield, up 8.5% as junk bonds continued to beat safer bonds. Bill Gross at Harbor bond continued to win, turning a 5.5% return on a low risk portfolio.

Going forward, we’re keeping an eye on junk bunds, aware that they may be overpriced. With just a 5% stake we probably won’t cut it back just yet.

Our Aggressive Growth portfolio was up 14.54% in 2004 – beating all major stock and bond indexes (and with 25% short term bonds no less!). The portfolio is up just over 50% since April 2002 – 5 times the return in the Vanguard 500 Index fund.

The one big miss was way back in 2002 when American Century Global Natural Resources shut down and we had to kill our 10% stake. While we’ve done well with Japan, the category we added in summer 2002 with the proceeds of the Amcent fund sale. Most global natural resource funds are up about 70%-100% since then.

If you can remember back to 2002, nobody wanted anything to do with global natural resource stocks, largely commodity and energy companies. Of course, this was why we were attracted to the area. Stupidly we ignored the ultimate sign of category opportunity – when fund companies have to close funds for total lack of investor interest – we should have doubled up on this area. We did recommend such a fund in our 2004 Hotsheet (iShares S&P Global Energy Sector Index - IXC) so all was not lost. 

Fortunately when Vanguard reconfigured their Utility fund for lack of investor interest we were smart enough to add new utility funds to replace it. Utilities went on to become among the best categories in short order. Not to keep kicking ourselves, but fund companies killed many internet funds in 2002, another contrarian buy sign we missed for our high risk portfolios.

Japan wasn’t as hot in 2004 as it hade been the previous year, with the Nikkei index up 7.6% for the year. Returns were muted by fears that a falling dollar could sink Japan’s export business. T. Rowe Price Japan managed to double this market return with a 16.8% move.

We turned away from microcap a few months early. Now-closed Bridgeway Ultra Small Company Market fund was up almost 15% in the last few months alone. Microcap stocks have now beat the S&P500 for six years running and believe us, the gig is up here. We made over 100% on this fund while we owned it, from an unknown fund with a few million to a near billion dollar closed fund.  When a billion dollars gets an idea – it never leads to a 100% return. We’re more optimistic about another unknown Bridgeway fund with just a few million in assets, recently added Bridgeway Blue-Chip 35

Telecom stocks were a top performing category in 2004. Gabelli Global Telecom (GABTX), an overpriced but decent fund, was up a nice 23% in 2004 after a 42% gain in 2003 for us. Despite the positive performance, this fund is on the block to be removed from our portfolios. We want to lower our fees and the great telecom comeback is about over. More money is in the fund and the tax loss carryforwards on the books has dwindled.

We cut back our stake way too soon in Artisan International Small Cap – now 10% from a high of 20% when it was a really good buy. We’re up 94% since added, and the fund managed to return 25.7% in 2004 alone. This fund remains closed to new investors but our alternate Forward International Small Company did equally well with a near identical showing in 2004.

The profits just keep flowing in emerging markets, with SSgA Emerging Markets (SSEMX) up near 25% and about 100% since we added the fund. 

We’re thinking about less bonds and foreign stocks, more U.S. stocks for the future.