July 2008
Dear Client:
This May, at the Berkshire Hathaway annual meeting, Warren Buffett boiled down what it means to be an
intelligent investor into two startling sentences: "If a stock [I own] goes down 50%, I'd look forward to it. In
fact, I would offer you a significant sum of money if you could give me the opportunity for all of my stocks to
go down 50% over the next month." Knowing he owns good businesses, Mr. Buffett wants prices to go down,
not up, so he can buy even more shares more cheaply before they bounce back.
In the last long bear market, 1969 to 1982, stocks returned just 5.6% annually; after inflation, investors lost
more than 2% a year. That mauling by the bear made stocks so inexpensive that over the ensuing 18 years
they went up 18.5% a year, enough to turn $10,000 into more than $200,000. The renowned investor
Benjamin Graham once wrote that "the investor's chief problem -- and even his worst enemy -- is likely to be
himself." Equity markets are chaotic and the reason we expect the risk premium is that there are periods of
extreme volatility. For, as Mr. Buffett has also pointed out, investing is much like dieting: it is simple, but not
easy. Everyone knows what it takes to lose weight. (Eat less, exercise more.) Nothing could be simpler, but
few things are harder in a world full of chocolate cake and Cheetos. Likewise, investing is simple: diversify,
buy and hold, rebalance and keep costs low. But simple isn't easy in an environment that has seen extreme
volatility as a result of skyrocketing oil prices, shaky lending practices and faltering investment banks. The
real secret to being, or becoming, an intelligent investor is bolstering your self-control.
However, wise investing must be matched with (and not confused with) adequate savings. With volatility
likely to continue for some time investors must be sure they are keeping adequate cash in reserves. In some
cases we are advising to increase cash cushions to two years of spending requirements. Hopefully this will
help keep the focus on the long term as we navigate these stormy seas.
Taxes
Estate tax reform is at least a year away. But the outlines of a bill are already clear because both of the
presidential candidates believe the estate tax should not be permanently repealed. Both Obama and McCain
oppose keeping the current law, under which the estate tax ends in 2010 but returns the following year with
an exemption of $1 million and a 55% maximum tax rate. Contrast that with the levels scheduled to go into
effect for 2009: a $3.5-million exemption amount and 45% maximum rate.
Lawmakers and estate planning professionals agree that this situation is untenable, and that Congress has to
pass estate tax reform legislation by the end of next year. And they're close on the exemption. Obama would
keep it at $3.5 million. McCain favors $5 million. The key difference is where they would set the top rate:
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McCain would cut the maximum tax rate to 15%, while Obama would set it at 45%. Figure on a rate closer to
45%, since Democrats will most likely keep hold of Congress in 2009.
Both candidates support making the exemption portable for spouses. Such a change would greatly simplify
estate planning for surviving spouses by eliminating the need for taxpayers to set up trusts in their wills
solely to save on estate taxes. Couples also wouldn't be forced to retitle assets to equalize estates.
Thus, when the first spouse dies, the unused exemption would simply pass through to the survivor and be
available for use when that spouse dies. With portability, Obama's proposal would effectively allow for a $7-
million estate tax exemption for couples, and McCain's plan would make it $10 million. Currently, if a spouse
dies without having fully used his or her exemption, the remaining exemption is wasted.
Following is a representative sample, as of June 30, 2008, of funds currently recommended for use in our
client portfolios. Your portfolio may or may not contain all of these funds.
Fund Name/Ticker 2nd Qtr YTD One-Year Three-Year Five-Year Ten-Year
US Core Equity 2 Portfolio (DFQTX) –1.81 –10.72 –16.84 N/A N/A N/A
US Large Co Institutional Index (DFUSX) –2.73 –11.88 –13.08 4.42 7.54 N/A
Tax-Mgd US Equity (DTMEX) –1.35 –10.48 –12.25 4.63 8.27 N/A
US Large Cap Value III (DFUVX) –3.07 –10.51 –20.06 3.96 10.65 6.25
Tax-Mgd US Mktwide Value II (DFMVX) –3.91 –12.67 –21.00 3.87 10.56 N/A
US Micro Cap (DFSCX) –3.47 –13.38 –22.62 1.20 9.42 8.47
Tax-Mgd US Small Cap (DFTSX) –0.61 –10.25 –18.71 3.44 10.60 N/A
US Small Cap Value (DFSVX) –4.83 –10.43 –25.34 1.55 12.10 9.62
Tax-Mgd US Targeted Value (DTMVX) –2.85 –9.16 –22.46 2.33 11.35 N/A
International Core Equity Portfolio (DFIEX) –3.98 –10.67 –13.40 N/A N/A N/A
International Value III (DFVIX) –5.83 –13.52 –15.72 14.41 20.33 9.75
Tax-Mgd International Value (DTMIX) –5.71 –13.61 –15.38 14.29 19.76 N/A
International Small Company (DFISX) –2.93 –7.92 –14.52 12.77 20.08 11.83
International Small Cap Value (DISVX) –5.15 –8.62 –17.45 12.18 21.30 13.68
Emerging Markets Core Equity Portfolio (DFCEX) –3.99 –13.81 –3.70 24.11 N/A N/A
Emerging Markets (DFEMX) –3.36 –11.85 –0.39 24.45 27.91 16.00
Emerging Markets Value (DFEVX) –4.01 –13.14 –1.42 30.01 35.06 22.21
Real Estate Securities (DFREX) –5.54 –3.37 –16.13 4.05 13.65 10.91
Two-Year Global Fixed (DFGFX) 0.75 1.44 4.22 4.05 2.83 4.13
PIMCO Commodity RealReturn Strategy (PCRIX) 14.28 30.71 57.11 20.55 21.04 N/A
Notes: Returns for more than one year are annualized. “N/A” appears where returns data did not exist for the entire period. We hope you will find the
above information of interest, and that you will use it in the spirit it is provided. While not meant to serve as a basis for your portfolio assessment,
results from one year or less are useful as a tool to better understand how frequently such short-term market fluctuations occur, and yet how
unpredictable they are. Likewise, three- and five-year returns demonstrate that different asset classes can be in or out of favor for longer periods, but
again without a reliable basis for prediction. This in turn provides further evidence that clients should build entire portfolios and focus on their
portfolio’s total return rather than on individual asset classes.
Best wishes,
ARK Financial Services, LLC
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