Amid the sell-off Friday there was one common theme: Egypt.

In the short run global stock markets were down as the situation unfolds. Uncertainty is the bane of economic growth. When people don’t know what’s going to happen next, they tend to stay home. Companies pull back on investment plans.

But democratic reform in the Middle East would be good for the world economy. Hundreds of millions have lived in abject poverty, as elite leaders have maintained their power through patronage and corruption. Inevitably, the inefficiency of such a system cannot be sustained.

In Tunisia a generous educational system produced degreed professionals who had to work as street vendors. Education without opportunity yields frustration and unrest. Video cell phones allowed millions to view uncensored footage and social media allowed spontaneous political organizations that the authorities could not repress. The result was the “Jasmine Revolution.”

In Egypt the situation is at once more suppressed and more dire. A dictatorial government has done a poor job managing the economy, but there are more opportunities in Egypt. At the same time, political and religious factions are much stronger. The Muslim Brotherhood, after all, originated in Egypt in the 1920s. And Egypt is the most populous country in the Middle East, with 80 million people. The risk of Islamic fascism is real.

But if this region reforms and its entrepreneurial energies are unleashed, its economy will grow much faster, lifting a region of over 200 million and contributing significantly to the world’s economy. This, as they say, is a good thing.

Douglas R. Tengdin, CFA
Chief Investment Officer
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Call it the arrival of the grown-ups.

On Wednesday New York State seized control of one of the nation’s wealthiest and most heavily taxed counties. Local governments around the country face hard choices, but Nassau County has serious problems. It has a large and diverse economy—its GDP is $90 billion, larger than a dozen states, and the County has $2.7 billion in revenues. But their expenses are over $3.0 billion, giving them a 10% deficit.

By state law, counties are allowed to run a 1% deficit—something that should be sustainable when the county’s economy grows 4.5% per year. But they got into trouble when they began to cut taxes in mid-decade but didn’t cut services. They kept borrowing to plug their deficit until they had run up over $1.2 billion in debt. The County now has a negative net worth.

Significantly, they haven’t defaulted and aren’t even considering it. The debt is still rated A1 by Moody’s and A+ S&P. Debt service isn’t the problem—it only accounts for 11% of the budget, and their bonds still trade at a premium. The State’s control means that they oversee the budget, but they don’t have the authority to lay off workers. For now they haven’t even frozen wages.

Nassau County is in trouble, but it hasn’t defaulted. This move has been in the works for a long time. This is how public finance works. It takes time to fix problems. Default, if there is one, is still a long way off.

Douglas R. Tengdin, CFA
Chief Investment Officer
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Number two among my top ten resolutions seems simple: have a plan.

It may seem self-evident that financial planning requires a plan, but many people don’t think so. They think that if they just had more money, all their problems would be solved. So they go about maximizing their income and don’t think about all the other stuff.

But money comes in many forms: income, capital appreciation, insurance proceeds, even lottery winnings. Your personal situation will determine what’s the best way for you to receive your money. And income isn’t everything. You also have to consider expenses, cash-flow needs, and your personal balance sheet—assets and liabilities.

If this seems a little dry and accounting-like, don’t be discouraged. Managing money is like a chess game. You don’t know whether a move is appropriate unless you look at all the pieces on the board. By understanding your position, you can tell whether you should move that bishop forward or backward.

It’s the same thing with finance. Unless an investment plan fits into your total financial picture, it’s impossible to tell whether stocks in Apple or Nestle or State of Vermont bonds or private equity are appropriate, and in what amounts.

It’s easy to go roaring into things without planning your next move. But like a new driver facing a snowdrift for the first time, without a plan you’re likely to expend a lot of energy getting nowhere and just spinning your wheels. The best investing starts before any investment is ever purchased.

Douglas R. Tengdin, CFA
Chief Investment Officer
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The report of the Financial Crisis Inquiry Commission is due out tomorrow. Will it tell us anything new?

The partisan split in the report is old news. The Democrats on the Board fault a lack of regulation in the mortgage market. The Republicans wanted a more vigorous condemnation of Freddie and Fannie, the two mortgage giants.

The report is not sparing: two Fed Chairmen, two Treasury Secretaries, the four banking regulators, and the government’s inconsistent response–bailing out Bear Stearns but letting Lehman Brothers fail–all come in for criticism. Surprisingly, the ultra-low interest rates of 2003-2005 that were set by the Fed get a pass.

This seems illogical. Didn’t the Commission read Hayek? In the 1920s he wrote that artificially low interest rates lead to artificially high real-estate prices, which brings on over-investment, overshoot, and collapse with its attendant banking problems—loan losses, capital deterioration, and a credit crunch. Seems like a pretty good picture of our problem to me.

But the Commission said one thing that we can all agree upon. The financial crisis wasn’t inevitable, wasn’t an act of God, and wasn’t forced upon us by some outside power. The fault, it said, lies not in our stars, but in ourselves.

Douglas R. Tengdin, CFA
Chief Investment Officer
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Resolution number three in terms of financial planning is to think forward, not backward.

You’ve read and heard the disclaimers before: “Past performance does not necessarily indicate future results.” And it’s true. Funds or stocks that are amazing performers rarely repeat those results year after year. But even though we know this to be true, we still behave like it isn’t.

That’s because we’re wired to believe differently. The best sports teams seem to repeat their success. The best places to hunt or fish remain the best places season after season. So why isn’t this true in the markets? It’s because economic success tends to sow the seeds of its own destruction, and failure contains the germ of its own resurrection. If a company finds a way to achieve an excessive return, they will soon have competitors who force down margins, leading to more normal returns. Similarly, sectors that have extremely narrow margins will likely see firms leave that line of business, allowing margins to recover.

This up-and-down-and-up behavior in economics and investing is what makes it so challenging. But it’s why you need to plan looking forwards, not backwards. You should determine how much to put into stocks, bonds, and cash by looking at what the markets are likely to do in the future, not what they’ve done in the recent past. This doesn’t change the economic truths of how stocks capture growth, bonds claim cash, and real-estate captures rents. But it’s also true that what goes up comes down and what goes down comes back up.

Knowing how to ride this roller-coaster is part of what having a plan is for. Because when it comes to investing, experience isn’t always the best teacher.

Douglas R. Tengdin, CFA
Chief Investment Officer
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My number four financial planning resolution is to think globally.

I’ve said before how it’s a global investment world. If you miss being global, you miss a lot. A good reason for this is global leadership. It’s no longer the case that the largest companies in the world are based in the US. The one of largest clothing retailers in the world is based in Spain. The world’s biggest oil company is in Brazil. So you now have to invest worldwide to be in the biggest firms.

But there’s another reason to invest globally. It used to be that the world’s economies were siloed off from each other, each operating in its own space. With global trade rising, that’s no longer the case. Now an investment in the German manufacturer Siemens is a bet on Asian manufacturing growth. An investment in Proctor and Gamble is tied to Turkish consumer appetites.

The world’s economies are tied together now to an unprecedented degree. Global trade has recovered to the level of early 2008 and is accelerating. Even troubled countries can be profitable investments. So far, the best performing markets in the world have been Spain and Portugal, in spite of their debt issues. If the world doesn’t end, they’re likely to continue to do well.

But you have to do your homework. Some global mutual funds have unconscionable fees. And some international markets still struggle with fraud. A year ago a large Indian IT firm admitted to padding its balance sheet with over a billion dollars in cash. Investors lost out when the crime was discovered.

But it would be a mistake to conclude that global markets are too risky. The real risk is missing out.

Douglas R. Tengdin, CFA
Chief Investment Officer
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What does Steve Jobs’ announcement mean for Apple?

Clearly, his health issues are going to affect things. The man has been fundamental to Apple’s rise from near-death in 1998. iTunes, iPods, iPhones, and iPads have revolutionized consumer electronics. In these products Steve Jobs seemed envision a consumer need and fill it before we even knew that we had it. He didn’t invent them, but he was able to see small markets and understand what it would take to make them big businesses.

He’s been central to most design issues, overseeing everything from product weight to screen resolution. Many attribute the iPad’s incompatibility with Java to a personal animus Jobs had for Scott McNealy. Now the market will see if Apple is able to apply this magic to other areas like TVs or business computing.

But Apple’s genius isn’t just design. They’ve made operational excellence so ordinary that investors have come to expect flawless supply chain management, cash-cycle conversion, and working capital management. That’s been the domain of Apple’s Chief Operating Officer Tim Cook. He’ll be in charge during Jobs’ absence.

Companies haven’t always been successful transitioning away from a charismatic, visionary CEO. Wal-mart did in 1988 when went outside the Walton family to promote David Glass from within. Home Depot wasn’t so lucky in 2000 when they hired a former GE executive who wasn’t cut out for mass-retailing.

To all appearances Cook did a fine job the last time Jobs’ was out and Apple’s new product launches are set for the next couple years. But can Apple retain the visionary DNA of Steve Jobs without Jobs at the helm? Only time will tell.

Douglas R. Tengdin, CFA
Chief Investment Officer
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Number six among my top ten financial planning resolutions is simple: cost matters.

At least, it seems simple. The more money you spend on investments, the less you will have left for the thing you’re investing for—whether it’s retirement, or kids’ education, or a charitable goal. Warren Buffett discovered this when he realized that he had a talent for investing. He understood that if he bought and sold all the time, transaction costs would eat up his profits.

Transaction costs are one thing. A simpler issue is management fees. Amazingly, many mutual funds charge 1.5-2% to manage your money, and they charge a sales load up front for the privilege of paying those fees. In a period of 8% returns and 2% inflation, 2% in fees takes 1/3rd of the real return earned by your capital.

Costs count. But nothing is free. If you build a house you’d probably hire an architect and builder, and you may want to hire a money manager to construct your investment portfolio. You want to be sure that the manager is ethical, competent, and considers your particular situation, but telling the average person to invest on their own amid the 10 thousand mutual funds and 30 thousand common stocks out there is like telling the average homeowner to redesign and refurbish his own electrical system. It’s a complex world.

Costs are important. You certainly don’t want to pay too much, but don’t fool yourself into thinking that customized, competent advice can be had for nothing. You get what you pay for. Just make sure that you get what you pay for.

Douglas R. Tengdin, CFA
Chief Investment Officer
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Make it fun. That’s resolution number five.

Let’s face it. For most people, money matters are boring. They involve budget issues and trade-offs between savings and spending that frustrate the tar out of most mortals. So in order to encourage yourself to deal with all the unpleasantness, set up some kind of incentive.

For example, estate planners say that your will should be updated every three years or so. So think about what would be a special treat—like eating at a favorite restaurant, or going to a special show—and reward yourself when you revise your will. Similarly, you should look at how you are doing against you’re a budget approximately quarterly, find a special activity that you can look forward to, and reward yourself after you do a budget review.

It may seem picayune, but it often works. We gravitate to activities that are fun for us, and we avoid the things that aren’t fun. Couples that fight over money issues tend to avoid dealing with those issues, which usually makes any problems worse. If they could find a way—however artificial—to make money matters less daunting or more enjoyable, they would probably address their money issues more faithfully.

Not everyone finds balance sheets and cash-flow statements boring or intimidating, althogh most folks do. But everyone responds to incentives. By finding inducements that encourage responsible actions, personal finances can change from being a chore to being something to cheer.

Douglas R. Tengdin, CFA
Chief Investment Officer
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Among my top ten financial planning resolutions, number 7 is to determine how much risk you can handle.

Risk and return are linked: the higher the potential return, the greater the risk. Treasury Bills and Notes have almost no risk to principal; corporate bonds and junk bonds have more; stocks still more. It all has to do with where the investment lies on the cash-flow food chain. The government (almost) always gets paid; then debts get paid; finally owners get what’s left over. But the owners benefit most from any growth.

Higher risk doesn’t always mean higher returns. But higher potential returns require higher risk. That’s a verity of finance. If you want the upside, you have to deal with the possible downside. And as we know, the downside sometimes happens.

That’s why investment pros start with risk—how much you can handle—before they get to return. And there’s a pretty simple test to figure out your risk tolerance. Imagine your nest-egg cut in half. That’s how much the stock market has fallen the last two cycles. If you think you could hold on through that and not panic at the bottom, you can probably tolerate a diversified equity portfolio.

If not, imagine your portfolio down by 15%. That’s what a serious bond market decline entails. If that’s too much, short-term bonds are usually limited to about a 5% decline. If that’s too much, stick to FDIC-insured bank CDs. But you’ll have to settle for 1-2% returns, because safety doesn’t pay well.

A mixture of stocks, bonds and cash will fluctuate over time. How much fluctuation you can handle will determine what proportions to use. That’s a critical factor in knowing yourself, and a critical element in managing your portfolio.

Douglas R. Tengdin, CFA
Chief Investment Officer
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