FEBRUARY 2010 NEWSLETTER

ECRI Index

By now the chart linked above should look somewhat familiar to you. It is the Economic Cycle Research Institute’s (ECRI) Weekly Leading Index and it is a composite index of key weekly economic indicators. This is one of the tools Dominion Wealth utilizes in its research to help gauge the direction of the economy. It is important to note that over the past 10 years this chart has proven to have a 69% chance of leading the overall economy by 6 months. (Economic Cycle Research Institute)

Please notice the blue line in this chart. (The red line is less relevant to our discussion as it represents a rubber commodity index) This blue line has helped guide our portfolio research since 1997. Now please notice the little downward hook that has appeared recently. This research from the ECRI may give us a view of the US economy 6-7 months down the road, and it appears that there could potentially be decline on the horizon.

As you know, our recent portfolio actions have represented a gradual move to more conservative allocations. We have been, and will continue to be, reducing long stock positions. We now believe there is much more risk than reward in both stocks and long-term bonds. We continue to monitor the research above, and all of our sources, with an eye towards making safe decisions aimed at managing risk.

For those that have followed these discussions, you are familiar with Dominion Wealth’s position that there could be a prolonged period of severe economic malaise for the next decade or more. We can look to Japan as an example of a formerly robust economy that has been in the tank for over a decade despite huge government intervention meant to stimulate their economy. Japan experienced their Baby Boom approximately ten years prior to most of the developed world. (HS Dent November 2009 Forecast). What happened to them may be happening to us. There is one big difference however. Japan benefited from having the last ten years to gently deflate the overvaluation in real estate values and write off bad loans. They had the expanding economies of the other developed countries to mask the cancer in their economy.

The US and European countries may be forced to get rid of their massive debt more quickly via default and foreclosure. In fact, it is happening now across the US, and possibly even on your street. The subprime mortgage crisis is behind us, however the prime borrowers are now experiencing prolonged unemployment and huge declines in their real estate values. It is projected that 48% of all homes in the US will have negative equity by 2011, 48%! (Deutsche Bank – A Look At Underwater Homeowners) Defaults are increasing dramatically. We do not think the housing sector will recover for many years. Remember foreclosure is a relatively slow process. The tidal wave of homes for sale is still building.

I will leave you with a fact about commercial real estate and let you derive your own conclusion about the future. Commercial real estate loans in the U.S. total about $3 trillion, versus $1 trillion for residential home mortgages. (T2 Partners LLC – Presentation on the Housing Crisis) Commercial property owners, on average, tend to borrow three times as much against the equity. How do you think this will turn out?

Until Next Month,

Your Advisors at Dominion Wealth