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Jeff Saut: Rally Time!

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Stocks poised for uptrend despite long-term uncertainty.

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Editor's Note: The following article was written by Raymond James Chief Investment Strategist Jeff Saut. It has been reproduced with permission for the benefit of the Minyanville community.

Last Monday we received "The Letter" except in this case it wasn't The Box Tops' hit tune of 1967, but "the letter" from one of our financial advisors. Said letter read like this:

Jeff, what a dilemma we advisors face these days.

Now about to enter my 10th year, I'm experiencing a truly perplexing market. Sure, 2000-2002 was tough, but there were asset classes that held up in that time. Stuff stocks, large-cap value, small-cap, REITs . . . you know the story.

Now in 2008 nothing seems to be the 'it' asset class. Most all stocks (any cap), beaten up REITs (even the new international REITs), and deep-discounted closed-end funds can't find any upside traction. Adding to misery, the defensive healthcare and utilities sectors are languishing. The news on Merck (MRK) ($40.00/Market Perform) and Schering-Plough that you'd think investors could find safety in in these times.

Treasuries are spooky with inflation and future higher rates a real threat. One financial advisor in our office, with over 35 years of experience, told me today that I'm living through one of the worst (if not the worst) market illness he can remember.

With all this frustration and concern, one has to wonder if we're close to the turnaround. I agree with your pro-dollar, pro-U.S. stock stance. The crowd is heavily occupying the other side of these trades. But, what about inflation? All the fiscal stimulus and rate-dropping may soon come back to haunt us. Being only five-years-old or so when the mid-70s bear market was going on, I have little street cred for such a repeat. Alas, I cannot imagine a return to such dismal times in light of the global growth that has occurred.

As for our team, we continue to rely upon Raymond James' Freedom Account for a diversified approach for our clients' core money and a controlled use of annuities for protection. So far that strategy has been a good one! As for tactical plays, we have been investing in a number of the more nimble mutual funds you have been recommending and nibbling on municipal bonds due to the recent spike in spreads. No big bets, but a way to further diversify clients.

Cash and short-term CDs play a role too, but both are producing negative 'real' returns when inflation and taxes (non-qualified, of course) are factored in. Quite the dilemma and I apologize for the diatribe.

As always, Jeff, I look forward to your guidance and thank you in advance for your time."

As I read the letter, I reflected back on the era between 1973 and 1974 thinking, "boy that was by far the worst time I can recall in the equity markets." The Dow Jones Industrial Average had peaked on February 9, 1966 at 995.15 and was in the process ended the great bull market of 1949 through 1966.

At the time the Dow's price/earnings ratio was 24x, and despite the ubiquitous belief that the bull market would continue, stocks began to decline. It was a deceptive decline, for while many of the previously hot stocks (the "onics" stocks, which were the Internet issues of their day) shed more than 50% of their value; the DJIA vacillated between roughly 800 and 1000. That vacillation lasted into 1972, but when the Apollo Astronauts walked on the moon in April 1972 a cry was heard on the street of dreams that the sideways market was over and a new bull market had begun.

Emboldened by such sentiment, the Dow stutter-stepped higher into November of that year and breached the 1000 barrier for the first time. The celebration continued into January 1973, where the senior index closed at 1051.70, a peak that would not be bettered for eight years.

From that January 1973 high the DJIA would lose some 45% of its value by December 1974 (1051 to 577). And while the 1973/1974 Dow-dive was only the sixth worst percentage decline in history, when impacted for double-digit inflation the erosion of real value in investors' portfolios was more like 80% plus.

Indeed, it was an era where all interest rates rose, punctuated by T-bill yield yelp from 3% in 1972 to over 10% in 1974. Similarly, crude oil surged from $3 per barrel in 1972 to more than $10 by 1974. Consequently, there were not a lot of places to "hide," or as our letter writer notes - there weren't many "it" asset classes.

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No positions in stocks mentioned.
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