Top advisers see very slow growth in 2012

The following is an edited transcript of an Oct. 25 round-table discussion moderated by InvestmentNews deputy editors Evan Cooper and Frederick P. Gabriel Jr. It features Chris Cordaro of Regent Atlantic Capital, Stewart Massey of Massey Quick Wealth Management, Charles Ryan of Evercore Wealth Management and Murray Stoltz of Manchester Capital Management. InvestmentNews: Let's start with your economic outlook. What scenarios are you painting for your clients for next year? Mr. Cordaro: I tell them to expect slow, slow growth. We'll get through it, but it's going to be ugly and volatile because it's policymakers who are driving things, and not so much the economy. Policymakers can be capricious, which leads to volatility. InvestmentNews: How do your clients react to that outlook? Mr. Cordaro: They're not really happy. They like surety and robust growth. But overall, I think clients are in much better shape to handle what we're going through now because they lived through "08 and "09. For them, this is just a little bump in the road; that was really scary. InvestmentNews: Stewart, what do you see coming up? Mr. Massey: You have to think about the world globally, which is hard to do sitting here in the United States, where things are not terrific. But as you look around the rest of the world, you see global [gross domestic product] growth probably coming in at 4% or higher this year — and probably in 2012, as well. I think that a lot of folks are really underestimating global economic growth for 2012. Domestically, it's very easy to focus on the difficulty that the government and consumer sectors are having, but we shouldn't forget that the corporate sector is a real pillar of strength. Mr. Stoltz: Our views are not dissimilar from Stewart's. We foresee very slow, measured growth for two or three years. A series of global economy deleveragings are occurring and Europe has many hurdles to overcome. Without a lot of bullets left for central banks across the world, we're going to have to muddle our way through them, and that's going to impact growth. We think there are pockets in the emerging markets where there are going to be good growth, so we focus on that as part of our investing strategy. But the larger economies are going to have the slow and muddled growth. We don't think there's going to be future recessions — at least in the near term — but the growth will feel almost like a recession. Also, here in the U.S., consumers have already embarked on reducing their debt. The housing numbers look pretty good and corporate balance sheets are maybe as strong as they've ever been. So that positions us well in this mix.

THINKING GLOBALLY

Mr. Ryan: I don't think we're going into a double-dip recession, either. We are somewhat constructive on evaluations, so we're not calling for a retrenchment like we saw in 2008. The growth we think we'll see in 2012 over 2011 is probably in the 8% to 10% range, but more importantly, it's coming down. Estimates of the S&P 500 index we're starting to see for next year come down about 4 or 5 percentage points from their peak, and I think markets will react to that rather than the absolute number. When we construct portfolios, we think globally, and we are very, very concerned about volatility, and implementing an overlay strategy in a liquid form to deal with some of the macro policy issues that are out there. We also try to find some non-correlated return streams as we think about client portfolios broadly. By that, I mean we bet against some of the policy decisions that have been made. We realize that while we don't see any near-term inflation, you can't do what we've done to our monetary base in the U.S., and not at some point have some type of inflation. In the near term, I'm not that concerned about some of these issues, but at some point, when we are challenged, we'll need to think about portfolio construction in that regard. Some of the numbers from an earnings perspective have been positive of late, but the market is thinking, and probably looking, through that. I think we muddle along from here. Watch more with Mr. Ryan: InvestmentNews: What about Europe? What if it sets off a credit problem? Mr. Massey: The real issue for Europe is in the banking system. You have three ways that the European debt crisis can be resolved: It can be absorbed by the bondholders, it can be absorbed by the taxpayers at the country level or it can be absorbed by the taxpayers on a regional or euro level. But the real issue with Europe, depending on how it's resolved, is what it does to the capital in the European banking system, and whether the European banks will be grossly undercapitalized. That's where the danger arises, and that's where you could have a bit of a domino effect, which would not be good for any of the world economies.

INSOLVENT BANKS

Mr. Cordaro: I think we're there already. Essentially, a lot of the European banks are insolvent, when you actually mark their assets down to what they're truly worth. The tough part is, it's a plain, old banking crisis, and we've had these periodically over the years. We know how to solve them: Write down the assets and force the banks to take capital. The sooner you do that, the faster you get through the problem, and the quicker you're back on the road to recovery. The problem in Europe is that you're dealing with 17 separate nations, and they don't have to have the political will to do what's necessary. They're going to keep flirting with this until somebody really puts a gun to their head. It's not going to be over quickly; it's just too complex. They've got to collectively pitch in, but it's not tenuous for Germany. Watch more with Mr. Cordero: Mr. Stoltz: A big part of the agreement they're going to announce is recapitalizing the banks — I think there's about $150 billion they're already playing around with — and actually having banks raise equity. You think about "08, [when] we had the same problem with [the Troubled Asset Relief Program], right? You had to write down the assets, you had to force the banks to take capital. We're one country and we had a problem about a tenth of the size. So you can just imagine that this is going to be really loud for at least another year, and it's going to really drive volatility crazy. Mr. Ryan: This is just the European version of TARP, and we're waiting to see how it pans out. It hadn't panned out for us too well lately, but initially it did help to stabilize. So we'll see. Mr. Stoltz: Even ours didn't sound like what it became, when it was first announced. InvestmentNews: When clients look at Europe, do they fear that something will happen that can spill over to the United States? Is it something on their minds? Mr. Massey: Sure. You can't help but be concerned as an investor. You open the paper every morning, and it's everywhere. I think it's changing investor psychology again. We saw this in 2008 where investors' time frames really compressed. Families that should have a perpetual or very long-term view of their capital began thinking in terms of months, not years. It's not as severe this time, but we've seen pockets of very-short-term thinking, which I think is very media-driven. It's our job to try to keep clients on track in terms of having proper asset allocation and the proper managers, because when clients panic, 2008 showed us that they panicked at the wrong time. Despite our guidance, they did exactly the wrong thing at exactly the wrong time. Mr. Ryan: 2008 is incredibly fresh in our clients' minds, and if you think about it, we're looking at a whole decade where equity investors didn't make money in the stock market. There are still people who are very cautious, and while they don't believe that we'll see a decline of the same order of magnitude decline as in "08, they just don't see the opportunity. That results in frustration, which is why we need to educate our clients to think about other asset classes and other ways to weather the storm. InvestmentNews: What are you suggesting that they invest in now? Mr. Ryan: For us, as we look at the traditional asset classes — cash, fixed income, equities, hedge funds and private equity — there are different strategies that should weather the storm and provide a reasonable return. For our strategies, we have coined the term “efficient architecture” — a blend of traditional taxable fixed income, tax-exempt fixed income and long-only equity, which we complement with outside managers, some of whom work in non-traditional spaces. These strategies have sort of worked inversely with traditional long-only investments that generally make up the majority of our clients' assets. InvestmentNews: Is this a short component? Mr. Ryan: Yes. Roughly 10% to 12% of a client's portfolio would be in that strategy. InvestmentNews: How do they react to it? Mr. Ryan: They reacted quite well in August and September because the portfolio did exactly what it was supposed to do. What we continue to talk about with our clients is how much of their portfolio should be illiquid versus liquid. They like the liquid aspect of this strategy — that if the world falls apart, they can get out tomorrow. Because, again, that was a huge problem in 2008 — people weren't able to react when things turned around, because of the liquidity profile. InvestmentNews: Murray? Mr. Stoltz: We have diversified away from developed Europe throughout the year — not completely, but we have scaled back our allocation. In the spring, we took money off the table in small-caps. Their multiples have reached quite high levels. We've also realized that our clients want a higher level of comfort than they've had in past years, particularly since 2008, so we have felt compelled to have each of our client portfolios provide two years of cash spending. So [it's] really understanding their financial lives and what they're going to need in order to maintain that over a modest, manageable period of time. That can take our cash levels up 5% or 6%, but I think it gives clients great peace of mind as we explain that to them. Since we use only outside managers, we also have looked very hard at our manager platform and eliminated six who hadn't done well and weren't going to be well-positioned for this new investment environment. We then put seven new managers on the platform — including one or two in Asia and a couple of new hedge funds. We've also continued to broaden out the array of asset classes for our clients. InvestmentNews: Stewart? Mr. Massey: We think of asset classes in terms of developed-market equities, developing-market equities, liquid alternatives and illiquid alternatives. Those are very broad terms, and underneath each, there obviously are a lot of subclasses. In the developed-market-equity component, we're probably right around the midpoint of the asset allocation band, and we're focused on large companies with fairly healthy and growing dividends, and high free-cash-flow yields.

EMERGING-MARKETS EXPOSURE

And if you think about it, you don't have to invest in emerging-markets companies to get exposure to emerging markets. There are a lot of U.S. and European stocks, such as Nestlé [SA], for example, that represent a claim on global cash flows, including those coming from developing markets. We're looking for an entry point into emerging markets. I think we're getting close to a point where we would feel comfortable going there on a long-only basis. We have a good amount of long/short exposure to those markets right now, but no direct long-only exposure to emerging markets. Right now, we're focusing on large global companies. And if you look at their earnings releases over the past two or three weeks, those companies are thriving. InvestmentNews: Can you give us a couple of those names? Mr. Massey: We don't do research on individual stocks, but United Technologies [Corp], Honeywell [Inc.] — I'm sure we could go around the table and name a number of others. There have been good surprises across the board. Look at General Electric [Co.]. The top line was flattish, but it's all about earnings, and since the broad section of the investing public was really expecting earnings estimates to come way down, I think this round of earnings will perhaps prove that thesis incorrect. In terms of liquid alternatives, we're at the very high end of the band of allocation there. We like uncorrelated strategies. We have a tendency to use managers with proven records of being able to produce consistent returns through an investment cycle without the use of leverage. And again, that can be in the long/short-equity space, long/short credit or multistrategy. In terms of fixed income, we've been keeping durations short and credit quality high for a while. We've been early, but fixed income is there just as a volatility buffer in the portfolio. You can't really expect returns from that asset class right now. Just preserve capital and live to fight another day. In illiquid alternatives, we've been doing little bits here and there — some private equity, not with the large, brand-name firms but with what I would call smaller niche-type firms that are in the small- and midcap space. They're not getting involved in auctions or using leverage on top of it; instead, they're bringing their operating expertise to the companies. We've done a few direct investments in real estate also, but we've been relatively quiet in that area. In "08, "09, we participated in the secondary market in private equity, which has proven to be a home run, because we were able to get exposure to very strong streams of cash flow at deep discounts. But I think that game is over. Watch more with Mr. Massey: InvestmentNews: Chris, where are you going for next year? Mr. Cordaro: Our portfolio is very globally diversified, and what's been really surprising to us is just how quickly valuations have cycled in different asset classes. We see the best opportunities in developed-nation global large-caps. With the S&P 500 selling at a trailing price-equity ratio of 13, other than the short trip in early "09, you have to go back to the "80s before you find that again. It's funny; when I started in this business in the early "80s, I had to talk clients into stocks and let them know why stocks were good for them. As Yogi Berra said, it's déjà vu all over again. We now see great opportunities in stocks, and I have to start dusting off some of those old techniques of letting clients know why stocks are good for them. For example, if you bought the S&P 500 when the price-earnings ratio was 13 or less from 1945 onward, your average return over the next three years was 15%; over the next five years, it was 15%, over the next 10 years, 14%. So if you've got a long-enough time perspective and you're buying stocks cheaply, you're going to do well — but it's going to be bumpy. I agree with the other panelists that since we're a global economy, investors must have global diversification — even if that means pushing our clients to the maximum. If you think about it, clients should have about 60% of their portfolio in foreign stocks and 40% in U.S. stocks, if that's how, roughly, the world's equities are made up. InvestmentNews: Are your clients biased against foreign investment because it isn't familiar or do they think it is a great opportunity? Mr. Cordaro: It's a behavioral thing. Every investor has a home-country bias. I'm friendly with an adviser in New Zealand, and they have a home-country bias even though their market cap is minuscule. They all own the same five stocks. There's even a bias within the U.S. Managers on the East Coast own more East Coast stocks; managers on the West Coast own more West Coast stocks. It's a behavioral feature that you should get past, but it's difficult. I guess part of our job is behavior modification — making sure that investors do what's right for them, even though it's usually not what they want to do. We've got 10% in emerging markets and about another 30% in foreign developed-nation equities, both large- and small-cap.

CITIZENS OF THE WORLD

Mr. Ryan: Part of it is that we see our clients' liabilities in U.S. dollars, so we want to match their risk and liabilities. But I would agree with the home-country bias, as well. Mr. Massey: If you have a client who earns in dollars and spends in dollars, then currency becomes an investible asset class, and you have to decide whether you can deliver alpha to the portfolio through currency. If you have what I call a citizen of the world — and we have a number of clients like this that have homes here in the States and maybe one in Europe and another somewhere else — then you have to start thinking about the asset/liability balance in terms of which currencies are important to them. Then it doesn't become an issue of an investible asset class; it becomes an issue of managing the asset/liability part of their balance sheet. Mr. Cordaro: Most large-caps derive their revenue globally, so you've got the currency issue, no matter what. There's no way you can get out of it. InvestmentNews: At our recent alternatives conference, we heard advisers talking about alternatives as a kind of portfolio insurance. Using alternatives, they said, would help prevent a portfolio from going down too much in bad times, but also could prevent it from going up too much in good times. What do you think about that approach? Mr. Cordaro: Where advisers are missing the boat is that we're looking through the rearview mirror. Both advisers and clients are looking at the last decade and saying: “I really want insurance.” But if you look out the windshield, you see that equities are very cheap and insurance is very expensive. I think as advisers, we're making a mistake if we're insuring too much, because I think stocks are going to trump bonds and cash over the next five or 10 years. So to the extent that we're spending money to insure, especially when volatility is high and insurance costs so much, we may be doing a disservice to our clients by doing too much of it. InvestmentNews: Does everyone else agree? Mr. Stoltz: We've been investing internationally and have been big believers in the emerging-markets story for almost a decade. We've done a lot of education with our clients, even into the next generation, about how international investing fits in and the value that it adds. So they've gotten very comfortable with that and we've been able to allocate in, and re-balance to add more international with a lot of comfort on the part of our clients. Through that education, they've been able to understand the value international investing can add, and I think the growth is going to be seen in the next five to 10 years in a lot of the emerging markets out there. And if we're going to muddle along in a lot of the developed economies, you've got to figure out a good way to get access to where the global growth is going to be. InvestmentNews: But do you agree with Chris that equities are undervalued and there's less need for insurance? Mr. Stoltz: We think U.S. equities represent great value and they have exposure to international revenues. Often it's 30% to 50% for some of the large multinationals. So that's already part of what you have in the U.S. I think diversification, though, is still great insurance for clients. We're back to having fully diversified portfolios and realizing that there are going to be trade-offs there, but when it all is mixed together, the expected return and the risk level is going to be what clients are going to handle well. InvestmentNews: Stewart, what is your reaction? Mr. Massey: We write investment policy statements for every client, and if a family we work with has four entities, we have investment policy statements in place for each entity. Portfolio construction is really a function of what your client wants to accomplish with a specific pool of capital. Most of our clients are more in the moderate-growth with low- to moderate-risk frame of mind. You know, they've made a fortune, they've had an event, they've had an inheritance — something in their lives they can't replicate. So they don't want to give it back. But they do want to have moderate growth, and that starts with asset allocation. And we don't use a cookie-cutter approach. Every client is unique. No two client portfolios look the same. We have different asset allocation, different managers, and we're really managing toward the question: How many units of risk will we be taking for every unit of return that's being delivered back to the client? And it's different for every client. We have clients in their late 60s and early 70s who want to take a meaningful amount of risk, and we have entrepreneurs in their early 40s who have significant amounts of capital who want to take little or no risk. You just have to react to the mindset of the client. We use liquid alternatives quite a bit in portfolio construction. We and our clients would rather have that protection and give something up on the upside. But it's really the balance between equities, fixed income, liquid alternatives and illiquid alternatives, and it's different for each of our clients.

HEDGED STRATEGIES

InvestmentNews: When their hedged portfolios didn't go down as much in bad times as unhedged portfolios, clients were happy with their adviser. But when the market went up and their hedged portfolio went up less — just as their adviser said it would — clients weren't happy and complained about trailing the market. Do you find that even when you explain hedged strategies, clients are unhappy if their gains are smaller that the market's? Mr. Ryan: The mindset of our clients is exactly that. In theory, they want to go down less than the market and are sometimes more comfortable going up less. However, their experience in 2008, for the most part, was that “traditional” hedge fund alternatives went down as much as the market, so they didn't get the diversification effect. There is a lot more due diligence done [now] on exactly the structure and liquidity profile of that alternative investment. That's why there's a lot more work being done and why there's been the explosion in liquid alternatives — or a hedge fund in a mutual fund wrapper. Mr. Massey: Given current interest rates, one of the biggest challenges in the fixed-income market is finding low-beta, low-volatility return. That's why we're at the low end of our allocation to fixed income and at the high end of our allocation to liquid alternatives: We've been able to find what I feel are substitutes for fixed income in the liquid alternative space that have similar volatility characteristics and perhaps higher return streams than fixed income is going to offer over the next five years on a total-return basis. Mr. Stoltz: Obviously, all of us always need to do well for our clients in up markets and down markets. In 2008 and 2009, even $100 million-and-up clients' families were gravely concerned about their level of wealth, and I think that is unprecedented. In that kind of downturn, families of that wealth, regardless of how they acquired it — as entrepreneurs, through inheritance, on Wall Street — were scared, probably for the first time ever, and it may never quite get like that again. That's why clients probably are more focused on wealth preservation than ever. We certainly need to do well for them in up markets, but I think they want to make sure their portfolio is properly allocated and diversified to protect them on the downside.

CHECKING THE NEWS

We're focused on that, we've educated our clients on that, and I think that's going to stay that way in the minds of clients for five or 10 years. InvestmentNews: Do you all see a residual fear of some catastrophe being possible at any moment? Mr. Stoltz: Yes. The news is right there in front of you every minute of every day, and everyone knows about everything right away. Ten years ago, it would have been different. Mr. Cordaro: It's hard not to get sucked into that cycle, because even though I know the importance of keeping a long-term perspective, what's the first thing I do in the morning? Check the news in Europe and see what happened overnight. I do that largely because I've got to respond to clients, since Europe's going to keep making noise for many months before they do anything. InvestmentNews: Do your clients still feel vulnerable in terms of their own level of wealth and also about developments including the Occupy Wall Street movement and talk of class warfare? Do they think that they will be subject to more taxation, and maybe vilified because they are wealthy? Mr. Ryan: No client, whether Republican or Democrat, is happy with what's going on in Washington and how we're addressing some policy issues. Unfortunately, the relationship between politics and equities and fixed income has never been closer in my 25 years of doing this. So it's frustrating, because we've all talked about the attractive relative valuation of equities right now, but nobody cares. People don't know what policy is going to be — corporate America especially doesn't know what policy is going to be from a health care perspective — and that's hindering things like employment growth and all the things that actually matter. There's a frustration level universally across our client base, and really it's with Washington and the lack of clear solutions, both domestically and internationally. Mr. Cordaro: One of the litmus tests for that fear of tax policy change was in the Roth individual retirement account conversions. In 2010, we had an opportunity to do some sizable Roth conversions for our larger clients, and the larger the client, the more worried they were that at some point, the government would want another bite at their money; somehow it would impose another tax, maybe an excise tax on large Roths or something like that. When you think about it, it would be Draconian to go back and tax something twice, but we had clients who were fearful of that — and, I think, rightfully so, because you just can't have a lot of confidence in what the tax law is going to be. Mr. Massey: Nobody likes paying more taxes, but I think people realize that if we have to move toward austerity and create revenue through higher taxes, their hope is that at least the additional money is going to the right place. They don't want to see their tax dollars wasted, which is more of a concern than paying 2% or 3% or 4% more in taxes. Mr. Stoltz: In 2008 and 2009, the wealthy experienced something truly unique and unprecedented, which has led to new ways of investing. Clients saw gates put up on hedge funds that were often down 40% or 50% but they couldn't get their money out. Private-equity firms were doing unprecedented capital calls, because they saw the opportunity to make great investments at very low prices — maybe akin to what Stewart did with some of the private equity in the secondary market. So now you have capital calls, gates in some of your major hedge funds, and maybe the very expensive home you just bought in Colorado or out in the Hamptons has lost half its value. That's something the very wealthy had never, ever experienced, and it's a form of illiquidity to be very concerned about and afraid of, even when your net worth is $100 million or more. A lot of wealthy families were buffeted in major ways by capital calls from 10 or 15 private-equity firms, and if you didn't make your capital call, you lost your investment. There were no exceptions. That scenario is something people are going to be worried about for a while. It also has affected the way people want to see their portfolios designed. We, as advisers, need to constantly think about that. InvestmentNews: As a result of that experience, are they now willing to pay the price for liquidity that now can be embedded in certain instruments? Mr. Stoltz: There are still benefits that illiquid investments can provide. And while hedge funds are not illiquid today, they can become illiquid if a gate is put up. But at the same time, clients want to know they won't be put into the very difficult position of not having access to enough of their wealth to meet what might occur in a crisis. That means more of their wealth needs to be purely liquid. That is going to affect returns, particularly in rising markets. I think that when clients are educated about that and understand the trade-offs, they're comfortable. Mr. Ryan: Today, in most cases, we don't see the returns from illiquid investments justifying the illiquidity. They're suboptimal. Mr. Massey: That's a great point. You don't need illiquidity today. There are pockets where it makes sense, but not as much as it used to. I write three or four strategy pieces a year, and I'm just finishing up one now, the thesis of which is that investing is a long-term game that requires the discipline to turn off the noise, CNBC and news headlines, and really think with a long-term time horizon. What's changed since 2006 is that you now must have the capacity to suffer through volatility, velocity of information and periodic bouts of fear. Long-term, we're going to be just fine, because there are very attractive investment opportunities out there. You just have to suffer through the noise that surrounds investing today. InvestmentNews: Is one of your value propositions holding people's hands while they are suffering? Mr. Massey: Yes. Mr. Cordaro: That's probably our biggest value proposition. When you strip everything else away, what does an adviser do? We help clients stay invested when they should stay invested, and hopefully, get them not to make mistakes. A good adviser can keep a client from making mistakes because we take the long-term, not the short-term, view. We're worth our tiny fee.

HAND-HOLDING

Mr. Stoltz: It's easier to hold their hands if you do some of the things that all of us have talked about — having an investment policy statement for each client that you fully cover with them and re-cover year after year, because they need to understand that. That way, when a crisis or great markets hit, clients have an understanding of why you've invested where you've invested. Advisers need to understand client needs, and that client needs always change. Then you're positioned to hold their hands through trying times. Mr. Ryan: One of the things we use to differentiate ourselves at Evercore is our investment policy and how our investment professionals, portfolio managers and client-facing professionals talk about why we bought what we bought and why we sold it. That transparency even filters down into fees. We try to lay it out so people are comfortable. They may not be happy with what's going on today or tomorrow, but if we explain our rationale to them and are thoughtful, open-minded and transparent in our delivery, it helps them along. InvestmentNews: Do your clients care much about fees? Have you seen any shift since 2008? Mr. Ryan: In this interest rate environment, clients are very conscious of paying fees for a fixed-income portfolio, even though it's probably more important to have a professional manager in these risky times. But intuitively, they realize they're getting just 2% on a high-quality muni portfolio, and they're paying some element of fees around that. It doesn't sit well. Still, there are enough opportunities out there through ETFs and mutual funds to offer compelling solutions. It's a matter of communicating why they are paying that fee and what's behind it, which is the advice. Mr. Stoltz: Clients are willing to pay appropriate fees for great advice. But what they're not willing to tolerate anymore is a complicated fee structure and one that's not totally transparent. We don't do anything — such as structured notes or structured derivatives — where the fee would always be complicated, even if you could make it transparent. Clients want to be able to see everything on one piece of paper and understand exactly their total and complete fee. Then they're willing to pay a great firm for good advice. Mr. Massey: What clients are really paying for is good, thoughtful advice and outstanding service. Clients we've taken on — clients from larger institutions, big brokerage firms, for example — don't even know what their fees are. And when we present our proposal — on a spreadsheet that itemizes our fees, the manager's fees and the total fee — they say, “Oh, this looks very high.” Then we deconstruct the portfolio that they're bringing to us and show them that they're paying X% here and sharing in this expense there. We show them that we come in significantly lower than what they're currently paying. It's the issue of transparency, which is more important than the absolute level of fees, because I have never had a client try to renegotiate fees lower in the history of our business. Hopefully, that means we're doing our job properly. Mr. Cordaro: Generally, fees are where the RIA channel has a competitive advantage. By and large, when we compare ourselves to a brokerage firm and make it all transparent, it's clear our fees are much lower — and the client is also receiving more service in the form of proactive planning that they might not have been getting. InvestmentNews: What one thing worries you most as we enter 2012? Mr. Cordaro: My biggest concern is just how close to the edge Europe gets before this crisis is solved. They have the capacity to solve it, and I expect that they'll get close to the edge before they solve it, but just how much will they scare everybody before we get there? How much of a meltdown do we need before they really solve it?

SOCIAL UNREST

Mr. Massey: Chris took my No. 1; my No. 2 is social unrest — and not just here with the Occupy Wall Street movement. Generally, people are kind of fed up with Western democracies, so social unrest probably is here to stay. It won't fade away when it gets cold out; it will stay until Western democracies address the issues and provide realistic plans for solving them and level out the playing field a little bit. They have to give everybody the opportunity they feel they deserve. Mr. Stoltz: Coupled with the roughly 20% probability that Europe blows up, I worry that if all the excess money that the Fed has printed, which is about 220% of the normal money supply, suddenly starts flooding into the system, we simultaneously could start seeing inflation in the midst of high unemployment and a weaker economy. Then we're back into a stagflation kind of scenario. At Manchester, we have stayed short in duration, which makes us a little wrong on that call, because clearly, rates have continued to stay low. But if stagflation happens in 2012, it could really muddy the waters and make it difficult to invest, and lead to a lot of other problems, like social unrest. Will that happen? Who knows? But why did housing go down 30%? That wasn't something we all necessarily envisioned. So those are things we worry about. Mr. Ryan: Two other things worry me. First, the growth engines of the world economy — India and China — are slowing down. We've seen a couple of attempts to slow those in the past, and if they hit the brakes too hard, global growth will slow. And then, what do we do here in the U.S. about a jobs policy? We don't have a plan at this point, and with unemployment hanging around 9%, jobs are an issue. Mr. Cordaro: I want to return to the concept of the inflation that's pending. It's like the monster in the closet. It's in there, but when is it going to come out? The difficulty is that all the natural inflation hedges are now so wildly overvalued because of the fear of inflation that there are few tools to use. Real estate investment trusts are largely overvalued at a 4% dividend yield. Commodities? There's so much speculation going on there, I think they're overvalued. With [Treasury inflation-protected securities], depending on how far you're going to go out in maturity, you're signing up for a guaranteed negative real return. Who would even five years ago think that an investor would sign up for a guaranteed negative real return, just because at least they know they'll get some inflation hedge out of it. So the real frustrating part as an investor is that I know [inflation is] coming, but I'm not really ready — those hedges are just too expensive, so it's not even worth hedging. Mr. Stoltz: I think the jobs plan was interesting, because many people said if there was a great plan to create jobs, it would have been nice to hear about it a year ago. What we need is a plan for confidence. How do athletes get confidence? They work really hard. They work on the fundamentals. They [help] win a few [games] and all of a sudden, they're extremely confident and they're hitting six home runs in the National League Championship Series. With everything going on, maybe it's hard to have a plan or a tack on confidence, but at the end of the day, that's what we're going to need to have. As we chip away at these problems — maybe Europe doesn't [blow up], and maybe China and India don't go into a downturn — that can help; but at the same time, we also need to proactively get some confidence in what we're all doing. InvestmentNews: It seems that we are in a situation that is very reminiscent of the 1930s in that we are sort of stuck; the economy is going nowhere, and the government steps on the gas, but nothing happens. It seemed like the only thing that took us out of that was World War II. What would take us out of things now? Mr. Massey: Going back to one of the first things I said, you have to think globally, and yes, things are not great here, but when you look at the world on a global basis, it's not as bad as it is at home. And I think we all get caught up in saying, “Gee, look at all the for-sale signs in town,” and hearing about friends who haven't worked in a while. But there are economies in the world that are still growing at very rapid rates, and the question is, for our clients, how do we allocate capital towards that growth so they can take advantage of where the growth is in the world today?