"Now is the winter of our discontent." After the second quarter, we thought we were on a bumpy road to recovery. We anticipated many debates in the markets as to the timing of a return to growth. There was plenty of evidence for a positive or negative scenario.

We were heartened by sequential improvements in the Leading Economic Indicators, National Association of Purchasing Manager surveys, and positive anecdotal evidence and comments from the management of General Motors, Texas Instruments, Intel, and others. Retail sales remained steady, and housing was booming. Monetary and fiscal policy was aggressively positive.

After September 11th, in the aftermath of the terrible terrorist attacks on America, we have reassessed.

It appeared that we were just skirting a recession and beginning to recover when the World Trade Center bombing occurred. After September 11th, commerce almost came to a standstill. This probably threw the third quarter growth rate into negative territory. The fourth quarter may be worse. We are now in a recession.

The silver lining, if there can be one in the wake of human lives lost, is that this quick downturn is likely to be short-lived and lead to a stronger recovery than we were likely to have had if the bombing had not occurred. This is because of many forms of incremental stimulus. Businesses will rebuild, in some cases with government assistance. Buildings and other infrastructure are also going to be rebuilt and improved. Throughout the country money will be spent on increasing the security for buildings, airports, data networks, computer installations, etc. More back-ups will be added to many business and public functions. (For example, it is unlikely in the future that our major national stock exchange will exist in primarily one location.)

Throughout this period, the Federal Reserve will be very accommodating, aggressively increasing the money supply, further lowering interest rates, and opening up special borrowing access not only to banks, but also to insurance and other private companies if needed. Europe and Asia will follow our lead, increasing stimulus to their economies. Overall trade eventually will increase. (An additional $100 billion stimulus package was being considered by the Bush administration as of this writing.)

After a one quarter delay, recovery is likely to start quickly, perhaps as soon as the first or second quarter of next year. Equities should begin to anticipate it, perhaps as soon as the end of this year.

In the wake of the World Trade Center bombing, the likely winners and losers in the economic recovery have shifted somewhat. The airline, travel and leisure, and gaming sectors are likely to be affected for some time to come. Despite initial pay outs and loss of capitalization, the insurance sector likely will recover quickly, especially those large well-capitalized players. We anticipate some consolidation among insurance companies. Real recovery will come from substantial price increases for protection.

The technology sector will be a big beneficiary. What was going to be a slow, drawn-out recovery now will quicken. Beyond the obvious rebuilding, which is only modest incremental demand, every company will rethink how it conducts business. Systems for many governmental agencies need complete overhauls with greater redundancy and safety built into every process. Videophones and video-conferencing will take the place of some travel. Work locations will be distributed more broadly. More security measures will be built into every practice. Even more information will need to be tied together and made available to make this work. All of this, of course, means more demand for software and hardware. This may take some time to get going, but it certainly will.

Telecommunications also will benefit. Moving and handling this additional information is likely to help absorb excess telecom capacity at a faster rate. In addition, there will be greater incentives to build out local networks to bring greater capacity and speed to more locations. Wireless capacity also will need to grow. Somewhat sadly and ironically, the value of handheld personal communications has been brought home to many through this tragedy.

The defense sector may benefit from some incremental demand, but not as much as if this were a "traditional" war. Much of the war against terrorists will be fought not with hard machinery, but with intelligence, covert operations, and cooperation among many countries’ police, security forces and financial institutions.

The economic stimulus for the economy could result in higher inflation in the future. Not only is a recovery likely to place additional pressure on prices, but the costs of additional security practices will have to be paid.

Additional fiscal stimulus will be at the cost of the budget surplus. The U.S. Government could once again become an issuer of bonds competing for capital with the private sector. Because of this and an expectation of higher inflation, the cost of this capital (interest rates) will rise.

We have no airline stocks. We have no travel and leisure stocks. Our affected insurance holdings are of the highest quality. Our technology holdings are likely to be beneficiaries of the forces we foresee. Our telecom companies will get additional customers. Without any changes, our portfolio is well positioned for the recovery. However, we will be aggressive in managing portfolios for recovery. Stocks that lag or have better alternatives will be replaced. (We continually monitor an extensive list of alternatives on our "Watch List".)

We continue to keep our target for bond portfolio average life and duration at 5-7 years. We will not increase that target range until our economy is well into recovery. We do not anticipate that to occur for at least another year. The outlook for inflation will also guide future policy moves.

Corporate bonds continue to offer better value than treasury and municipal issues. This is our preferred purchase and as usual, we are only acquiring higher quality issues.

One caveat in our outlined scenario of economic recovery, is the possibility that the U.S. experiences additional terrorist attacks and the economy reacts by freezing up for an extended period. Under that scenario a longer and deeper recession is likely. In that case, our strategy will have to become more defensive. Interest rates will go lower and stay low longer.

We are unrepentant growth investors. Even though value investing has performed better over the past year, a response to a slowing economy and fears of recession, we believe its relative out-performance is short-lived. We anticipate economic recovery early next year and growth will return. Our economy grows about five times more often than it contracts so time is on our side.

The growth in earnings is what makes businesses more valuable over time. We love the challenge of finding and investing in companies that increase their revenues and earnings at a good rate over time. Even in today’s disquieting time, we are optimistic and look forward to a rewarding future.

When we look back at the twentieth century, owning great companies increased the owners’ capital enormously. The new advances during that century include the general use of electricity, telephony, automobile transportation, air flight and travel, space flight, computers, radio, television, the internet, pharmaceuticals, gene splicing, and on and on. Our modern world was created in the twentieth century.

Much of this world was created by so many great companies we know today: General Electric, AT&T, Ford, Boeing, IBM, Microsoft, Merck, Amgen, and many others. Yet this was the most violent century ever, with two world wars and many smaller conflicts. We had a great depression, many recessions, a civil rights movement, women’s suffrage and rights movements, and many other issues of social turbulence. Through all of this, the equity averages increased at an average of about ten-percent per year.

Every time our economy goes through difficulties, some people lose perspective and focus on negative factors, but did you know that every day in America:

• 10,000 babies are born. A baby creates a lifetime demand for 750 tons of paper.
• 20,000 TV sets are tossed out, 20,000 new ones are purchased.
• 1,700 new businesses are formed.
• We smash 50,000 cars.
• 800 million telephone calls are made. Our daily long distance bill is over $150 million.
• We buy 2.75 million pairs of women’s shoes!
• $3.50 is spent for every man, woman, and child in the U.S. on personal health care products. That is $800 million every day.
• Approximately 200 new American millionaires are created.

In spite of our optimism, we understand the need to control risk. We adhere to rigorous selection criteria, principles of diversification, and sector and industry balance. Quality and outstanding management are paramount, as well as a focus on a reasonable investment horizon. Owning successful growth companies allows us to have longer holding periods, which avoids the constant turnover of other strategies. (This results in excellent tax efficiency in taxable accounts.) Yet we manage portfolios, making appropriate changes when necessary, reducing position sizes to control risk, and periodically re-balancing between sectors and asset classes. If you share our optimism for the future and want the disciplined approach we bring to investing, Talk with Us.

This quarter we welcome Sequana Beale, who joins us as an administrative assistant. Sequana has over twenty years of experience in our industry. She worked with me before I came to Riverplace Capital and we are very lucky to have her join our team. She looks forward to getting to know all our clients.

Large Cap Stocks (S&P 500) -21.16

Dow Jones Industrial Average -17.98

Mid Cap Stocks (S&P 400) -16.40

NASDAQ Composite -39.33

Small Cap Stocks (Russell 2000) -16.27

MSCI EAFE -27.57

Lehman Corp. Bond Index 10.77

Inflation 2.5 %

(Equity indices are nine-month returns excluding dividends)