Client Letter Archive

Annual Client Letter and Outlook

January 3, 2017

Market Data for year end 2016:

S&P 500 Stock Index:  2239, up 9.5%

Ten-year Treasury Note Yield:  2.45%, up 0.18%

Gold:  $1,152 per ounce, up 8.7%

Oil:  $54 per barrel, up 45.9%

After global stock markets began 2016 with their worst January on record on fears of weakness in the Chinese economy and an aggressive US Federal Reserve, markets staged a recovery that accelerated into year end.  The Chinese economy stabilized due to stimulus enacted by Chinese authorities, and the Federal Reserve pulled back from its earlier stated expectation of four interest rate increases in 2016, settling on only one.  Along with the moderation in policy by the Federal Reserve, unprecedented action by global central banks drove long-term interest rates to record lows, with the ten-year US Treasury Note yielding just 1.37% in July (currently 2.45%).  Following the election of Donald Trump, the rally in stocks accelerated on hopes of economic stimulus in the US.  Bonds reacted negatively on a renewed fear of inflation and a once again more aggressive Federal Reserve.

Going forward, several risks present themselves.  First and foremost are higher interest rates and a stronger US dollar and their likely economic and financial impact.  On the back of hopes for economic stimulus and resultant higher interest rates, the US dollar appreciated significantly in 2016 against other global currencies.  A stronger dollar suppresses economic growth in the US by making US exports less competitive on global markets, increasing the market share of imported goods, and reducing the value of corporate income earned overseas.  Higher interest rates reduce the capacity of consumers and businesses to borrow, providing a break on economic activity.  Additionally, higher interest rates make stocks less attractive relative to bonds, thus pressuring stock valuations.

A stronger dollar and higher US interest rates also place stress on emerging markets, as their relatively fragile financial systems are strained by the flight of capital from their markets to the US and its promise of higher returns.  Historically, dollar strength has precipitated financial crises in emerging markets, and given their increased share of global economic activity, the threat of such a dollar induced crisis is a significant risk factor for the American economy and markets.  The Chinese financial system is particularly vulnerable because the aforementioned stimulus orchestrated by Chinese authorities was largely built upon debt.  As indebtedness in China had already grown significantly since the financial crisis, many fear that their financial position is highly unstable.

The political and financial situation in Europe is also an area of concern.  The British vote to leave the European Union (Brexit) shows that anti-globalization forces are ascendant in Europe.  France, Germany, and Holland have important elections in 2017, which could negatively impact the stability of the European economy.  France is of particular worry given the strong popularity of Marine Le Pen of the right-wing National Front party and the upcoming presidential election.  Le Pen is campaigning on leaving the European Union and possibly the Euro currency bloc.  If France were to exit the Eurozone, it could unleash a financial crisis of global proportions.  As it stands currently, Le Pen is not expected to win the presidential election, but as Brexit and the election of Donald Trump have demonstrated, there are no certainties in politics.

The potential for erratic and impetuous behavior by President-elect Trump is a further economic and market risk, although difficult to handicap.  A major international and/or constitutional crisis is a very real possibility with serious financial and economic implications.  If he were actually go through on his threats of high tariffs on foreign exports to the US, dollar strength as described above could be exacerbated, in addition to wreaking havoc on global supply chains.  Thus far, markets seem not to be taking these threats seriously, but we believe there is a definite whistling past the graveyard aspect to it.  Given the many contradictory and irrational statements emanating from Trump Tower, it is difficult to divine what President-elect Trump actually intends to do once in office.

Fortunately, on the threat of a stronger dollar and higher interest rates, we are skeptical that the policies, such as they are, that Mr. Trump and his Republican colleagues in Congress are proposing will generate substantially higher economic growth.  Contrary to popular belief, the supply side tax cuts that are likely to be the focus of the Trump administration have historically failed to spur economic activity.  Reductions in corporate taxes typically result in cash returned to shareholders, the paying down of corporate debt, and spending on acquisitions, not on increased hiring and investment.  Cutting taxes on the wealthy has little impact on growth as they are unlikely to spend their windfall given their already substantial ability to purchase whatever they want.  On Mr. Trump’s oft touted infrastructure investment program, based on what we have heard thus far, it is built on further corporate tax benefits and not on an actual direct injection of funds into the economy.  As such, the economic impact will be muted.

The upshot is that we expect dollar strength to moderate and for interest rates to stabilize at historically low levels.  The economy, which has grown slowly but steadily since the Great Recession, will remain relatively unperturbed.  This should provide a steady backdrop for stocks and bonds, offering modest but positive returns.  Market sectors that have rallied significantly since the election of Mr. Trump, such as financial firms and small company stocks, may be vulnerable, but our exposure to them is limited.  Higher yielding stocks, shares in multinational firms, and international stocks should perform well in our forecasted financial environment.

For 2017, we expect the American stock market as represented by the S&P Five-hundred stock index to trade in a range of 2050 to 2400.  It finished 2016 at 2239.  We appreciate your business and the confidence you have placed in us.  As always, please do not hesitate to contact us with questions or concerns.  We hope you have a healthy and prosperous 2017.

Annual Client Letter and Outlook

January 4, 2016

Market Data for year end 2015:

S&P 500 Stock Index:  2044, down 0.7%

Ten-year Treasury Note Yield:  2.27%, up 0.10%

Gold:  $1,060 per ounce, down 10.4%

Oil:  $37 per barrel, down 31.5%

The primary themes of financial markets in 2015 were the deceleration of the Chinese economy and the tightening of monetary policy by the US Federal Reserve.  These two dynamics kept stocks under pressure, punished commodities, and pushed long-term bond yields in opposing directions, resulting in little change on the year.

The deceleration of the Chinese economy, with its focus on manufacturing and infrastructure investment, sent shock waves throughout the global economy leading to slower global economic growth.  Emerging markets that relied upon exports of raw materials to China were particularly hard hit.  In the face of US Federal reserve tightening, their currencies depreciated, thus reducing their ability to service debt denominated in US dollars.  This added further strain to their economies.

The tightening of US monetary policy by the Federal Reserve was a focus of the market throughout 2015 culminating in the first increase in US overnight interest rates since June of 2006 on December 16th.  Higher US interest rates threaten to slow the US economy by increasing the borrowing costs of consumers and businesses and increasing the value of the dollar, which reduces the competitiveness of US manufacturing and US corporate profits earned overseas.  A strengthening US dollar also increases the pressure on commodities, which are primarily denominated in dollars.

The net effect on stocks by these dynamics was a steady pressure that left stocks little changed for the year.  Beneath the surface, stocks exposed to the global economy, particularly those in the natural resource sector, declined in value, while those with a domestic focus and seen to be able to grow regardless of a slowing economy performed strongly.  As mentioned above, commodities were ravaged due to weak global demand and chronic overcapacity across the spectrum.  In the case of oil, the Saudi Arabians were determined to squeeze out foreign competitors, most notably the US shale drilling industry, by pumping oil at full blast in spite of significantly lower prices.  Bond yields were torn between higher US overnight interest rates and a sluggish global economy, resulting in little change for the year.

Going forward, we believe the themes of a weakening China and tighter US monetary policy will continue to drive markets.  It is difficult to discern the actual condition of the Chinese economy due to the unreliability of Chinese statistics.  That having been said, the steady depreciation of the Chinese currency, the yuan, points to continued economic weakness.  The Federal Reserve represents a danger in that their projection for the pace of higher overnight interest rates exceeds that of the market.  The market is telling the Federal Reserve that economic growth and inflation are too weak to weather an aggressive increase in overnight interest rates.  If this were to come to pass, the Fed would risk pushing the US economy into a recession, which would likely send stocks lower, perhaps significantly.

A “tail” risk for the market is a disruption to oil production in the Middle East due to geopolitical unrest.  As of this writing, rioters in Iran sacked the Saudi Arabian embassy in Tehran reacting to the execution of a Shia dissident by the Saudis.  (Iranians are Shia Muslims.)  Saudi Arabia responded by cutting off diplomatic relations with Iran.  Iran and Saudi Arabia find themselves in competition throughout the region, from Yemen to Syria.  If war were to break out between the two countries, oil prices would likely skyrocket and the global economy pushed into recession.  This would in all likelihood lead to a bear market in stocks and lower bond yields.

Our base case is that the Federal Reserve does not raise overnight interest rates quickly enough to push the US economy into recession.  If this proves to be the case, we expect commodities and the economically sensitive stocks that were punished in 2015 to trade higher in price as the fear of aggressive monetary tightening is reduced.  Conversely, those “growth” stocks which performed strongly in 2015 may find themselves coming under pressure given what have become near extreme valuations.  We would also project that longer term US interest rates would trend modestly higher.  For 2016, we expect the US stock market as measured by the S&P 500 stock index to trade in a range of 1850 to 2200.  It ended 2015 at 2044.

We appreciate your business and the continued confidence you have shown in us.  As always, do not hesitate to contact us with any questions or concerns you may have.  We wish you a happy and prosperous 2016.

Annual Client Letter and Outlook

Market Data for year end 2014:

S&P 500 Stock Index:  2059, up 11.3%

Ten-year Treasury Note Yield:  2.17%, down 0.87%

Gold:  $1,183 per ounce, down 1.6%

Oil:  $54 per barrel, down 44.9%

In 2014, the US stock market enjoyed another year of double digit returns.  This was driven by two factors:  solid US economic growth and low interest rates.  Solid economic growth supports corporate profits, while low interest rates make stocks more attractive.  Low interest rates, in turn, had two driving factors:  Low inflation and weak global growth.   Low inflation is primarily the result of continued slack in the US economy following the financial crisis, while weak global growth anchors US interest rates relative to those of other leading economies such as Germany and Japan.

In commodities, gold struggled as inflation remained low and the US dollar strengthened.  Stronger US economic growth relative to the rest of the world drove the US dollar to multi-year highs versus global currencies virtually across the board.  Oil suffered a collapse in the second half of the year impelled by increased US production of oil from shale drilling and weak global demand.  Saudi Arabia, the one country capable of altering supply to support prices, chose not to, and the decline in oil prices accelerated.  We feel that low oil prices are a positive for the US and global economies.  While investment and employment in the US oil sector will suffer, America, Europe, Japan, and China are net consumers of oil, and low prices will support consumption and investment.

While this benign environment for stocks can persist, we can identify two primary risks to the stock market going forward.  First, continued above trend US economic growth could eliminate the slack in the economy, pushing inflation and interest rates higher.  This in turn, would pressure corporate profits and make stocks less attractive to interest bearing securities.  The US Federal Reserve is widely expected to begin gradually increasing overnight interest rates charged by banks for the first time in nine years starting in mid-2015.  If interest rate increases were to come sooner and progress faster than this expectation, stocks could be negatively impacted.

Secondly, the weakness in global economies could intensify, leading to financial instability and decimating US exports.  Europe is bordering on deflation, Russia is in the throws of a near financial crisis, Japan has fallen back into recession, and Chinese growth is at multi-decade lows.  While the US economy is the most self-sufficient in the world, it is not an island, and ultimately, international economic weakness and instability could negatively impact our own economy.  Furthermore, US corporations receive a large portion of their sales from overseas, so their profits are already coming under pressure.

While these are the primary risks we can identify, actual threats to the US economy and stocks are often impossible to forecast and come out of the blue.  Politics are a potential wildcard.  There is the possibility, albeit unlikely, for a severe selloff stemming from a threatened failure to raise the US Federal debt ceiling, as was the case in the summer of 2011.  We do not feel Republicans regaining the Senate will lead to de-escalation in partisan warfare, as some have suggested.  In Greece, an-anti Euro party may come into power threatening a Greek exit from the currency union, which would open up a Pandora’s Box of uncertainties.  US stock prices are at the upper end of what can be considered reasonable valuations, so are vulnerable to external shocks and adverse economic developments.  For 2015, we see the US stock market, as represented by the S&P 500 stock index, to trade in a range of 1900 to 2300.  It ended 2014 at 2059.

For the fifth year running, we are pleased to have been named a Five-star Wealth Manager as described in Chicago Magazine.   Fewer than 3% of the 11,800 financial services professionals in the Chicago area are chosen.  A detailed description of the award can be found on page FS 1 of the November 2014 issue of Chicago Magazine.  More details are available at Fivestarprofessional.com

Thank you for your continued confidence.  As always, do not hesitate to contact us with any questions or concerns.

Sincerely,

Patrick Mauro, Daniel Mauro, Henry Criz

Annual Client Letter and Outlook

January 2, 2014

Stocks advanced powerfully in 2013 driven by an improving US economic outlook and ultra-easy monetary policy by the Federal Reserve.  Most notable was the purchase of $85 billion per month of Treasury and mortgage-backed securities, often referred to as quantitative easing or QE for short.  On the year, the US stock market, as represented by the Standard and Poor’s Five-hundred stock index, rose 29.6%.  It closed at 1848, an all-time high.  High quality bonds had a difficult year as investors became more positive on the US and world economies and moved into riskier assets such as stocks, junk bonds, and higher yielding European debt.  The yield on the benchmark ten-year Treasury note increased 128 basis points (hundredths of a percentage point) to yield 3.04%.  (Yield moves inverse to price.)  Gold suffered heavy losses on the improving outlook, as much feared inflation failed to materialize.  On the year, gold declined 28.2% to $1,202 per ounce.  Crude oil increased 6.5% to $98 per barrel likewise on the improving economy.

For 2014, investor consensus is nearly universal.  Essentially, the trends of 2013 described above will continue, although at a more moderate pace.  The stock market will move steadily higher on an improving economy, while bond prices will continue to grind lower (yields higher) as the Federal Reserve slows its rate of bond purchases, also referred to as “tapering”.  This scenario is plausible, yet not assured.

The biggest risk to the bullish consensus for stocks in 2014 is a more rapid improvement in the unemployment picture than investors and the Federal Reserve anticipate.  If the unemployment rate (currently at 7.0%) were to fall by midyear to below the Fed’s 6.5% threshold to consider raising overnight interest rates, investors would begin to worry about the potential for higher short-term interest rates sooner rather than later.  This could lead to a disorderly selloff in bonds (higher yields), as opposed to the gradual increase in yields that most strategists and analysts are calling for.  A sharp selloff in bonds would likely have a direct, negative impact on stocks.  After having advanced as far as it has virtually uninterrupted, the stock market is vulnerable and could suffer a sizeable correction if this scenario were come to pass.  Higher US bond yields could also wreak havoc in foreign markets, as well.

Turning to further risks, Europe bears watching.  It seems to have stabilized, but European economies are still operating at a depressed, fragile level.  A deterioration in European economies would be bad for the global economy and could pressure US stocks, although it would likely be good for US bonds, which would be seen as a safe haven.  Chinese local governments are heavily indebted and are a serious threat to continued strong growth in the world’s second largest economy.  Weakness in China could spread to other emerging market economies, and US markets would not be unaffected.  Finally, there are political and geopolitical risks such as the need to raise the US debt ceiling this spring, instability in the Middle East, and the standoff in the East China Sea between China and Japan.  All have the ability to significantly impact US markets.

We find the consensus outlook more likely, but the risks cited above are probably more of a threat than investors realize.  We will continue to execute our strategy of investing in high quality income producing securities, such as dividend growing equities and investment grade bonds, reinvesting the income, and compounding returns.  For 2014, we see the S&P 500 trading in a range of 1725 to 2025.  It ended the year at 1848.  We forecast the ten-year Treasury note to trade in a range of 2.50% to 3.75%.  It ended 2013 yielding 3.04%.

For the fourth year running, we are pleased to have been named a Five-star Wealth Manager as described in Chicago Magazine.   Fewer than 3% of the 11,800 financial services professionals in the Chicago area are chosen.  A detailed description of the award can be found on pages FS 1 and FS 2 of the November 2013 issue of Chicago Magazine.  More details are available at Fivestarprofessional.com

 

Annual Client Letter and Outlook

January 2, 2013

In the fourth quarter of 2012, the US stock market, as represented by the Standard and Poor’s Five-hundred stock index, fell 1% to 1426 on worries surrounding political dysfunction in  Washington, DC.  For the year, stocks rose 13.4% as the US economy performed better than expected, the European financial crisis stabilized, and the US Federal Reserve continued extraordinary policies to support financial markets.  The yield on the benchmark ten-year Treasury note closed the year at 1.76%, up 12 basis points (hundredths of a percent) on the quarter and down 11 on the year.  The Federal Reserve’s intervention in the Treasury market kept yields relatively stable throughout the year.  The price of gold declined 5.5% for the quarter to $1,675 per ounce, but increased 6.9% for the year.  As with stocks, the inflationary implications of stronger growth and accommodative monetary policy were tempered by the prospect of deflationary fiscal policy coming out of Washington in 2013.  Oil closed unchanged for the quarter at $92 per barrel.  For the year, the price of oil declined 7.1%.  Decreased fears of a potential war with Iran helped guide the price of oil lower.

As mentioned above, three factors supported US stocks in 2012.  To begin with, the US economy performed better than the general Wall Street consensus.  Strength in important sectors of the economy such as jobs, automobile production, and construction and housing has exceeded investor expectations.  Barring a self-inflicted wound by Washington we believe the economic recovery in the United States is both real and self-sustaining.  Turning overseas, the European financial crisis stabilized, at least temporarily, in 2012.  In a July speech, European Central Bank president Mario Draghi said he would do “whatever it takes” to insure the integrity of the Euro currency.  He followed up with a credible plan to stabilize the sovereign debt markets of distressed Eurozone members.  While the Europeans have a long way to go to insure the long-term viability of the Euro currency, the current environment is undeniably an improvement over recent years.  Given its close economic and financial ties to America, a financial calamity in Europe would be very bad for American markets.  Finally, the US Federal Reserve continued its extraordinary efforts to support the economy vis-à-vis the financial markets.  The Fed has committed itself to buying $85 billion of Treasuries and mortgage bonds per month until either the unemployment rate falls to 6.5% or the inflation rate rises to 2.5%.  By removing so many long-term assets from the market on a continuing basis, the Fed is essentially pushing investors into riskier assets such as stocks, corporate bonds, and real estate, hoping that rising asset prices will make people feel wealthier and increase spending.  While there is much partisan debate surrounding the wisdom and efficacy of this policy, we believe it is having its intended effect of supporting stock prices.

Although these factors were supportive to stocks throughout 2012, the market declined in the fourth quarter due to the renewal of partisan warfare surrounding US fiscal policy.  The latest edition was the so called “fiscal cliff” that represented the potential of $600 billion of tax increases and spending cuts in the coming year.  Investors remember the nearly 20% decline in the S&P 500 in the summer of 2011 over the debt ceiling crisis and were weary of a repeat performance.  Although the parties have once again managed to avoid outright policy failure by modestly increasing taxes and delaying spending cuts, the partisan vitriol and brinksmanship do not inspire confidence going forward.  To wit, another damaging showdown on the debt ceiling is likely in the coming months.   That having been said, from a stock market perspective, this agreement minimized the potential impact on investment income.  Taxes on capital gains and dividends will only rise from the current 15% to 20% for individuals making more than $400k and joint filers more than $450k.

Looking forward into 2013, we think stocks can have positive returns unless US politicians derail the American economy through continual fiscal brinksmanship.  Other risks to our forecast would be a return of the European financial crisis and possible conflict with Iran.  In addition to the economic momentum we discussed above, a positive story to watch for regarding the US economy and American business will be the continuing development of domestic “shale” oil and gas production.  This has the potential to substantially increase the economic competiveness of the nation through lower energy prices and a positive impact on our balance of trade.  With the Fed active in the Treasury market, we feel bond yields will remain relatively stable in 2013, although at the current low yields, we continue to believe that long-term bonds are a poor investment.  (We currently invest only in short-term bonds.)  This same accommodative Fed policy should also be supportive to gold.  Oil will remain largely dependent on geopolitical risks emanating from Iran’s nuclear ambitions.  We feel global supply and demand are basically in balance at the current price.  For 2013, we see the S&P 500 stock index trading in a range of 1350 to 1600.  It closed 2012 at 1426.

For the third year running, we are pleased to have been named a Five-star Wealth Manager as described in Chicago Magazine.   Fewer than 3% of the 11,800 financial services professionals in the Chicago area are chosen.  A detailed description of the award can be found on pages FS 1 and FS 2 of the November, 2012 issue of Chicago Magazine.

We appreciate your continued business and the trust you have placed in us. Do not hesitate to contact us with any questions or concerns you may have. We hope you have a happy, healthy, and prosperous new year.

Sincerely,

Patrick Mauro, Daniel Mauro, Henry Criz

Annual Client Letter and Outlook

January 3, 2012

The stock market, as measured by the Standard and Poor’s Five-hundred stock index, rallied strongly in the fourth quarter of 2011, finishing at 1258 with a gain of 11% for the quarter, but unchanged on the year.  Stronger than expected US economic data drove the quarter’s rally, while political drama in the US and Europe served as dampers for the year in total.  The ten-year US Treasury note finished the year at 1.87% down five basis points (hundredths of a percent) on the quarter and down 144 basis points on the year.  Fear of a European financial meltdown drove investors to the perceived safe-haven of US Treasuries.  Gold closed the year at $1,567 per ounce, down 3% on the quarter and up 10% on the year.  Gold rose strongly as a hedge against a weaker US dollar in the first half of the year, but fell in the second half as investors sought safety from Europe in US dollars.  Oil finished the year at $98.83 per barrel, up 25% on the quarter and 10% on the year benefitting from geo-political turmoil in the Middle East and the continuing motorization of Asia.

In the final quarter of 2011, the US economy began to show a quickening pulse rate.  Economic data across the spectrum, from employment, to the consumer, to industrial production, to even residential real estate, came in stronger than economists had expected.  This was reflected in higher US stock prices.  The essential question for 2012 is whether or not this strength can be maintained.  After four years of recession and mediocre growth, it is reasonable to expect acceleration in the economy as pent up demand, in automobiles for instance, begins to at long last break out.  While job growth has been muted thus far, those with jobs are feeling more secure and are increasingly willing to spend.  Residential real estate construction has finally emerged from record low levels, adding strength to the economy from a sector many had left for dead.   Finally, US corporations continue to enjoy record levels of profitability.  As the economy expands, corporations are in a strong position to increase hiring and investment, with over two trillion dollars of cash on their balance sheets.

Arrayed against an improving economy are several factors.  First and foremost is the monetary crisis in Europe.  Because the European Central Bank has resisted acting as a lender of last resort to euro zone countries, investors have put pressure on their sovereign debt, pushing up interest rates.  For a highly indebted country such as Italy, this is dangerous.  It cannot afford to indefinitely rollover its large debt at interest rates approaching 7%.  (Comparable US interest rates have been closer to 2%.)  If Italy were to default on its debt, it would be a catastrophe for the European financial system that would not spare the American economy.  As it already stands, Europe is likely entering a recession, and will act as a drag on our own economic performance, seeing that Europe is our biggest trading partner.  Thus far, European authorities have avoided a total collapse, but whether or not they can continue to keep matters from going over the edge remains in doubt.

Closer to home, our political system is seen by many as being critically dysfunctional.  Almost every matter of fiscal policy is executed in a stopgap manner accompanied with partisan rancor and brinksmanship.  Such an environment is not conducive to confidence and economic growth, as evidenced by the subdued growth in the third quarter that was coincident with the debt ceiling debacle.  Fortunately, there is no major legislative matter facing the Congress for the first nine months of the year, apart from a full year extension of the payroll tax holiday, which will no doubt be another bruising battle early in the new year.  After the November election, however, which we expect to be of the more vicious variety, major issues such as the Bush tax cuts, mandatory spending cuts stemming from the failure of the “Supercommittee,” and a further expansion of the debt ceiling are back on the agenda.  If past behavior is any indicator, these will be highly contentious debates that could once again depress economic growth.

Lastly, geopolitics could play a major role in 2012.  While the recent succession in North Korea with the death of Kim Jong Il has dominated international headlines, we believe that the new leader, Kim Jung-eun, is largely a figurehead, and the same generals who were previously in charge are in charge now.  We do not see any major change in North Korea’s intermittently belligerent posture toward South Korea.  A greater risk, we believe, is presented by a possible American and/or Israeli strike against Iranian nuclear facilities.  We do not think this a high probability event, yet the ramifications are potentially serious.  Depending on how Iran chose to retaliate, a wider regional conflict could be triggered, and the price of crude oil would skyrocket.  A dramatic increase in the price of oil would seriously dent American economic growth, if not push the economy back into recession.   Given Israel’s limited ability to conduct a sustained, long-ranged aerial assault on a highly dispersed and fortified Iranian nuclear infrastructure, it is doubtful such a strike would be successful in seriously delaying the development of an Iranian nuclear weapon.  That is why we do not see a lone Israeli strike as likely.  Likewise, we think an American led strike is unlikely because of the potential for massive destabilization to the region and the global economy.   We believe all diplomatic, economic, and covert avenues would have to be exhausted before such action were seriously considered.

This list is by no means exhaustive of the issues factoring into the market in 2012.  A possible slowdown in the Chinese economy, continued high levels of indebtedness for the American consumer, and weakness in residential real estate are also issues that bear monitoring.  This is a challenging environment for stocks, but the risks are well publicized and may to a large extent be discounted.  Retail investors have been shunning stocks in favor of bonds going on four years, and this is a trend that may have run its course.  At current interest rates, it is difficult to see a continuation in the total returns that bond investors have become accustomed to.  With the likelihood of disappointment high for bond investors, stocks may be given another look after years in the wilderness.  For 2012, we see the Standard and Poor’s Five-hundred trading in a range of 1150 to 1400.  We believe stocks will have positive returns if the Europeans are able to prevent a full-blown financial collapse.  The trend has been that they have always done just enough to avoid a collapse, so we are on balance, while remaining vigilant, confident that such a crisis can be avoided in the future.

For the second year running, we are pleased to have been named a Five-star Wealth Manger by Chicago Magazine.  We appreciate your continued business and the trust you have placed in us.  Do not hesitate to contact us with any questions or concerns you may have.  We hope you have a healthy and prosperous new year.

Sincerely,

Patrick Mauro, Daniel Mauro, Henry Criz

Annual Client Letter and Outlook

December 31, 2010

In 2010, the stock market overcame two significant macroeconomic concerns to continue its post-financial crisis rally.  The stock market, as represented by the Standard and Poor’s Five-hundred stock index, closed 13% higher at 1258.  Fears regarding fallout from European sovereign debt crisis and possible “double dip” recession in the United States held back stocks for much of the year.  Climbing the proverbial wall of worry, however, share prices managed to end the year with solid gains.  Bond prices rose and yields shrank on the fears cited above and the second round of major bond purchases initiated by the Federal Reserve.  The yield on the benchmark ten-year Treasury note closed the year at 3.31%, down from 3.84%, but significantly above the low yield of 2.33% reached in October.  Gold continued its multiyear rally with the price increasing 29% to $1419 per ounce.  Continued easy fiscal and monetary policies throughout the developed world have been the major driver behind higher prices.

Looking to 2011, the positive case for the stock market is the undeniable momentum in the US economy.  After experiencing a mid-year slowdown, growth has accelerated, and with the Federal Reserve and the US Government continuing to pour liquidity into the system with bond purchases and tax cuts, the strengthening looks to continue into the new year.  Stronger economic growth should translate into increased spending, investment, corporate profits, and, ultimately, hiring.  Such an environment would be supportive to the stock market and make it resilient in the face of external shocks, such as the European financial crisis.  Furthermore, on a standalone basis, bond purchases by the Fed, (popularly known as QE2,) can have the effect of moving money into other financial instruments such as stocks or gold, driving up their prices independently of economic conditions.  While high unemployment is a long-term drag on the economy, it could stay the Federal Reserve’s hand in discontinuing its bond purchasing program in 2011, which would be a positive for the stock market, but a significant concern if it does not.  Finally, after two major bear markets in a decade, many individual investors have been shunning stocks in favor of bonds.  Based on recent reports of flows into and out of mutual funds, however, it seems that this trend has begun to reverse and that retail money is now flowing out of bonds and into stocks.  This trend will provide further support for stock prices, if it continues.

Weighing against the stock market are several factors.  The most immediate is the pronounced enthusiasm of professional investors for stocks.  The stock market finished strongly in 2010 in anticipation of the stronger economy discussed above.  This pulled potential price appreciation from 2011 into 2010.  Along the same line of thinking, based purely on the amount of ground covered by the stock market rally since the crisis low of March 2009, it is only natural for the stock market to decelerate at this point in the cycle.   After gains of 23% in 2009 and 13% in 2010, we would expect to see any further appreciation to be more muted.  Europe continues to be a major source of potential instability.  While European and international authorities have thus far kept the crisis contained, there is no guarantee that they will be able to do so in the future.  If the European sovereign debt crisis were to infect the international banking system, the US stock market could come under significant pressure.  The US housing market remains under considerable pressure from excessive inventories of homes.  As housing is the largest financial asset for many Americans, this could provide a limitation on spending from US consumers.  Additionally, the finances of US state and municipal governments also bear watching, with many facing large budget deficits and the removal of Federal financial support with the expiration of the 2009 stimulus law.

We continue to believe that the long-term bond market has begun a secular bear market that started when the benchmark ten-year US Treasury note bottomed at 2.04% in December of 2008.  As such, we think yields will continue to move higher with the strengthening US economy.  Keeping any increase in long-term yields constrained will be the still relatively modest pace of economic expansion and the gravitational pull of zero percent overnight interest rates that essentially allow banks to borrow for nothing and lend at the long-term rate, booking the spread as profit.  Gold will continue to serve as the refuge for those who believe that the extraordinary monetary and fiscal accommodation of the past decade will ultimately end badly when it comes time to settle our debts as a nation.  We believe gold’s decade long bull market will extend well in to the next, as American politicians have made no serious attempt, as of yet, to address our massive and ultimately unsustainable trade and fiscal deficits.

For 2011, we expect the S&P500 stock index to trade in a range of 1150 to 1400 and finish in the upper half of that range.  It ended 2010 at 1258.  We have confidence that our principle strategy of focusing on value, quality, diversification, and patience will continue to deliver maximum long-term value to our clients regardless of short-term market fluctuations.   Please feel free to contact us with any questions or comments.  We thank you for the confidence you have placed in us, and we wish you a happy and prosperous new year.

Patrick Mauro, Daniel Mauro, Henry Criz

December 31, 2009

Annual Client Letter and Outlook

The stock market continued its rally in the fourth quarter, with the S&P 500 stock index closing at 1115, a gain of 5.5% for the quarter and 23.5% for the year. Government bond prices fell, with the yield on the benchmark ten year Treasury rising to 3.84% from 3.31% at the end of September. The ten year note began the year yielding 2.24%. Gold prices increased to $1,097 per ounce from $1,009 in September and $884 at the beginning of the year. For the quarter and the year, markets were largely driven by extraordinary government monetary and fiscal support, and relief that that the American and global economies did not slide into the abyss. Gold and stocks both benefitted from a move out of the safe havens of the Treasuries and the dollar, leading to losses for Treasury holders.

Over the course of the next year, we expect the financial markets to generally continue the dominant trends of 2009. By year end, we look for higher stock prices, higher commodity prices, and higher bond yields. We base this forecast on the belief that the fundamentals behind these trends will remain largely intact throughout 2010. Of these fundamental factors, the two most powerful and persistent are the extraordinary monetary and fiscal policies adopted by the federal government. The Federal Reserve has made it clear that overnight rates will be kept at “exceptionally low levels… for an extended period.” This is generally interpreted as the current 0-0.25% target on overnight rates remaining in place for at least the next six months, and probably longer. Short-term rates at these levels are supportive of both economic and speculative activity by suppressing interest rates on almost all interest bearing instruments and encouraging people to move out of negligible return cash deposits and into riskier assets such as stocks and corporate debt.

The $787 billion fiscal stimulus passed into law last February has only expended approximately 30% of its resources through the end of the year. This leaves a tremendous amount of demand available to underpin the economy in 2010. Additionally, it is likely that with unemployment remaining elevated well into 2010 and toward the mid-term Congressional elections, even more federal stimulus could be brought to bear, by using returned TARP funds or further appropriations, if politically feasible.

The unprecedented strength of these two policies contributed to economic growth in the second half of 2009 that consistently exceeded the low expectations of Wall Street analysts. With these policies remaining solidly in force throughout 2010, we believe economic growth will continue to surprise Wall Street on the upside. This will be supportive of stocks and commodities and lead to higher yields on bonds, as was the case in 2009.

Longer-term, we remain concerned about the severe structural imbalances of the global economy. These imbalances, (American indebtedness, over reliance on consumption, and a heavily service oriented economy, versus foreign reliance on saving, investment, and manufacturing,) primarily contributed to the financial panic of 2008 and concomitant recession. Specifically, the global financial system lent trillions of dollars against unsustainably appreciating American real estate. American investment banking institutions, in turn, borrowed trillions more to facilitate the production of mortgage backed securities. Many Wall Street institutions were taking on leverage of 35 to 40 times their equity, a previously unheard of amount. This was essentially an immense pyramid scheme, and when new money stopped flowing into the system, it collapsed under its own weight.

These imbalances are not meaningfully being addressed by global policymakers, and as such, have the potential to lead to even more severe economic dislocations in the years to come. What we have essentially seen in response to the current crisis is the governments of the world doubling down on the existing economic order. America focused its response on supporting its dominant finance, real estate, and consumer sectors, while foreign governments were more oriented toward investment and manufacturing in their stimulus programs. The net result is a global economic system that is little more stable than before the crisis. The only real difference is that many of the risks that previously existed in the private sector are now born by governments, ether explicitly or implicitly.

It is in this light that we remain bullish on commodities and strongly bearish on long-term debt. Faced with exploding deficits and debt levels, we feel it likely that the US government will ultimately be forced to accelerate the debasement of the dollar in order to finance both its operations and debt repayment and servcing obligations. We believe this process is already underway. Over the long-term, dollar debasement will drive the rebalancing of the global economy that is necessary if sustainable growth and full employment are to be achieved. America will become more manufacturing and investment oriented, with more of its investment financed internally through domestic savings. Dollar debasement will drive up the cost of borrowing in dollars, pushing bond prices down, and make hard assets that cannot be produced as easily as paper money, such as gold and oil, more valuable.

Stocks can do moderately well in such an environment, particularly if they have exposure to overseas markets, benefiting from relatively stronger foreign currencies and economies. The risk to this scenario is that the decline in the dollar becomes disorderly, leading to a panic in the United States Treasury market that underpins the global financial system. Such an event would be highly destabilizing and would likely throw the American, if not the wider global economy into a deeper recession than we have experienced in the mortgage crisis. We are by no means forecasting this as a certainty, but are recognizing it as a very real threat that could materialize in the next five to ten years. Although we do not own any long-term debt, government or otherwise, we monitor these markets closely to stay on top of developments in the overall economic and financial environment.

For 2010, we see the S&P500 trading in a range from 925 to 1275. Its current level is 1115. For the reasons stated above, we believe the market will end the year toward the upper end of this range. As discussed earlier, however, we feel the biggest risk to this forecast would be a precipitous increase in long-term bond yields. Such an outcome would make the bond market more competitive in terms of relative returns to stocks and also undercut economic growth and government support for the economy by further restricting private sector credit and increasing the cost of government stimulus and deficit spending.

We appreciate your continued confidence and business. We wish everyone a healthy and prosperous 2010.

Patrick Mauro, Daniel Mauro, Henry Criz

Januray 2, 2009

Annual Client Letter and Outlook

The fourth quarter of 2008 witnessed sustained volatility in financial markets not seen since the Great Depression. Underlying the dramatic moves were a loss of confidence in the global financial system along with fears of a sustained recession in the world’s economies. The US stock market as represented by the S&P 500 index, fell 22% to 903. The yield on the benchmark Ten-year Treasury note fell to 2.24% from 3.83% on record demand from buyers seeking a safe haven from the storm. (For the year, the S&P 500 declined 38% and the yield on the Ten-year note declined 181 basis points from a starting value of 4.03%.) To address the financial crisis, governments and central banks across the globe have taken unprecedented actions to reinforce the credit system. In America, this has taken the form of the Federal Reserve lowering overnight interest rates to practically zero, enhanced lending against almost all forms of collateral, and the open market purchase of mortgage backed securities and agency debt, to possibly include long-term Treasury securities as well. The Treasury, meanwhile, through the Troubled Asset Relief Program (TARP), has injected hundreds of billions of dollars into the credit system by taking passive equity stakes in national and regional banks and other large financial institutions, and extending loans to automotive firms. Failure to support the latter would have likely resulted in a further major leg down in the market.

While it seems as though these measures have succeeded in stabilizing financial markets for the time being, with what we believe to be at the least an intermediate market bottom of 752 on the S&P 500 reached on November 20th, the uncertainty surrounding the extent and duration of the global economic recession remains a massive weight on world stock markets. To combat the recession, the incoming Obama administration has pledged to put together an economic recovery program approaching one trillion dollars in stimulus spending. We also expect the administration to address the home mortgage foreclosure debacle using the second $350 billion installment of the TARP. Governments around the world are putting into place similar plans to confront a problem of truly global proportions.

The question facing investors is whether or not these programs will succeed in bringing the recession to a timely end and limit the extent of the damage it visits upon the economy. While we think the recession will be the worst seen since the Great Depression, we in no way think it will approach the economic severity of the Great Depression given all of the government programs discussed above. We have confidence that remaining committed to firms that have a proven record of paying cash dividends to shareholders is the best strategy for a market that we feel will move largely sideways for at least the next few years.

Given the economic difficulties we will face in the years to come and the “bad taste in the mouth” many investors have from recent heavy losses, we do not see large price appreciation in the intermediate future. At the same time, we believe that stocks have moved into the “strong hands” of committed investors, as less stable shareholders bailed out during this year’s extreme volatility. We believe that the current shareholder base, in combination with the continued efforts of the world’s governments and central banks, provides somewhat of a floor under the stock market.

Longer-term, we have no doubt in our judgment that we will emerge from the current economic malaise. At that point, we believe the issue facing the market and the economy will be whether or not the governments and central banks of the world have the discipline to remove the substantial stimulus needed to pull ourselves out of this recession and financial crisis. Failure to do so at the proper time could reignite inflation. The people who are buying Thirty-year Treasury bonds at 2.69% may think they are locking in a “risk-free” return, but given the strong possibility of an eventual inflation, they are in reality taking on enormous risks. As such, we are extremely bearish on long-term US Government bonds and hold none in our portfolios. On the flipside, we are bullish on gold as a hedge against inflation. Traditionally, stocks have also done fairly well in inflationary environments, particularly from today’s suppressed valuations. So regardless of the eventual outcome, we feel our portfolios are well positioned.

For 2009, we see declining market volatility relative to that in 2008 as investor passions cool and the reality of a long slog out of recession settles in. Based on the attractive valuation the stock market has been pushed down to, however, we think gains in share prices are more likely than not as the market moves back to some sort of equilibrium after last year’s trauma. We predict a range of 700 to 1200 on the S&P 500 for 2009.

As always, our focus continues to be on developing a diversified portfolio of shares in high quality companies at a reasonable price. We may contract and expand your overall equity exposure based on our general market forecast. Please feel free to contact us at anytime to discuss your individual investment position. Patrick Mauro Investment Advisor, Inc. is regulated by the Securities and Exchange Commission (SEC). Federal regulations require that you be offered a disclosure document (ADV-Part II). This form is on file with the SEC and is available to you by merely writing a request to this firm. We appreciate the confidence you have shown in us, and will endeavor to continue to earn that confidence.

Patrick Mauro, Daniel Mauro, Henry Criz

Annual Client Letter and Outlook

January 2, 2008

The stock market as represented by the S&P500 provided modest gains for investors in 2007. The index started the year at 1418 and finished at 1468, returning 3.5%, before dividends. The market experienced volatility not seen since the winter of 2003 preceding the invasion of Iraq. The volatility was driven by the meltdown in sub-prime mortgage debt that was dispersed throughout the financial system by a process known as securitization. Securitization involves bundling mortgages together and selling them as a single security, like a bond. The housing market, which underpinned this debt, weakened significantly in 2007, leaving borrowers unable to refinance existing mortgages or sell their homes in order to repay mortgages whose payments they were no longer, or oftentimes never able to meet. Due to securitization, lenders did not know, and in many cases still do not know, who has exposure to this debt. This uncertainty led many to fear that the credit (lending) market could seize up, leading to broader financial and economic turbulence. As a flight to safety amid the turmoil, Treasury securities rallied. The benchmark ten-year note began the year at 4.71% and ended it at 4.04%. The Federal Reserve cut overnight interest rates in 2007 from 5.25% to 4.25% in response to the sub-prime-crisis.

While the sub-prime debt saga continues to unfold, we believe a related, yet more significant issue facing financial markets is the health of the American consumer. After seven years of debt-driven consumption growth, consumers are faced with a series of obstacles in continuing their spendthrift ways. The American consumer has been the single biggest driver of growth during the current expansion. Consumption now makes up more than 70% of total US GDP, an all-time record. As such, the financial condition of the consumer is of utmost importance to the continued health of the overall economy.

First and most importantly, the residential real estate market is facing its most significant declines since the Great Depression. Prices are currently down over five percent nationally, with no sign of stabilizing. Because people have borrowed so heavily in past years, either to purchase or extract equity, the decline in home prices is having an amplified effect on people’s net worth, and thus propensity to spend. For instance, if you have 10% equity in your home, and the price of your home declines by 5%, your home equity declines by 50%.

Secondly, with the fallout from the highly publicized sub-prime lending crisis, consumers are experiencing greater difficulty borrowing money to fuel their consumption. Having been wounded by sub-prime mortgage loans, in some instances critically, lenders are becoming more disciplined and restrictive in their lending practices, specifically to poorly capitalized individuals. Most alarming in recent days has been the dramatic deterioration in credit card debt, with defaults and delinquencies increasing by a rate of 25% year over year. This could potentially result in a further downdraft in the financial sector, as credit card debt has been securitized (i.e. packaged and sold as a security like a bond) and spread throughout the industry in much the same way as had sub-prime mortgages.

The Federal Reserve has been typically slow in dealing with the restrictive credit environment. Although they have cut overnight interest rates between banks by a full percentage point, the overnight rate continues to lie above the ten-year Treasury note rate. Such an “inverted yield curve” does not bode well for economic expansion, as it restricts credit creation by pressuring bank lending margins. We expect the Federal Reserve to continue to cut overnight rates well into 2008, although whether or not the pace of cuts is adequate to forestall a breakdown in consumption remains to be seen.

Third, elevated food and energy prices continue to serve as a drag on consumption. With oil prices near record levels and the government mandated drive for greater use of corn-based ethanol pushing up food prices across the board, consumers are seeing their discretionary incomes pressured with the result they will have less money for non-essential purchases.

Holding the American economy together in the face of these three significant obstacles faced by the consumer is the current high rate of employment. Unemployment stands at a historically low rate of 4.7%. As long as people have jobs, they seem willing to continue to spend in the face of their almost complete lack of financial savings and declining real estate wealth. Herein lies the ultimate vulnerability: The American consumer, the driver of the American economy, has almost no ability to withstand a meaningful increase in unemployment. If the economy were to weaken sufficiently to increase unemployment, the whole house of cards could come crashing down, as the consumer has next to no savings to tap to maintain consumption. This could further weaken the economy, leading to further layoffs, and so on and so forth.

While the consumer is highly vulnerable, American businesses are generally robust. This serves as a significant bulwark against job declines, particularly with dollar weakness and global economic strength driving gains in exports. When considering the overall environment, the US economy faces a serious risk of recession in 2008. Whether or not there is a technical recession, US firms are going to face muted if not difficult business and economic conditions. As such, we forecast a relatively high amount of volatility in the US stock market in 2008 with modest overall gains at best. We do not see a serious risk of a bear market in stocks given current valuations, which are generally moderate. We estimate the range of the S&P500 for 2008 will be a high of 1600 and a low of 1300, with low end of the range seen in the first half of 2008.

As always, our focus continues to be on developing a diversified portfolio of shares in high quality companies at a reasonable price. We may contract and expand your overall equity exposure based on our general market forecast. Please feel free to contact us at anytime to discuss your individual investment position. Patrick Mauro Investment Advisor, Inc. is regulated by the Securities and Exchange Commission (SEC). Federal regulations require that you be offered a disclosure document (ADV-Part II). This form is on file with the SEC and is available to you by merely writing a request to this firm. We appreciate the confidence you have shown in us, and will endeavor to continue to earn that confidence.

Patrick Mauro, Daniel Mauro, Henry Criz

December 31, 2006

Client Letter/Review and Outlook

US equities advanced solidly in 2006 as corporate profits continued to surge, investors overcame fears that the Federal Reserve would trigger a recession through continued increases in overnight interest rates, and crude oil prices declined $18 a barrel from a summer high of just over $78. The Standard and Poor’s 500 index returned 13.6% (before dividends), advancing from 1248 to 1418. Looking forward, we see some weakness in stocks for the first half of the year followed by gains in the second. Our year-end target for the S&P500 is 1525.

We foresee a correction in stocks for the first half of the year for multiple reasons. The main reason is that stocks are working off a heavily overbought condition since rallying almost nonstop since late July into early December. By overbought we mean that buyers have exhausted themselves in the medium-term. The majority of investors have bought into this rally, and there are few remaining to buy in and drive the rally higher. Symptomatic of the overbought condition is the pervasive bullishness among investment advisers and Wall Street strategists. For the first time since 2001, all major Wall Street strategists are predicting gains for the year. This overbought condition can take several months to correct itself, requiring lower prices in the interim. We see ultimate downside support in the S&P500 at 1275. Once the selling has run its course with the liquidity of potential buyers restored, the market can resume its advance.

Fundamentally, we believe earnings will decelerate, giving impetus to the first half correction. Economic growth has already begun to slow and earnings will not likely maintain the rapid pace of growth that investors have become accustomed to. Much of the economic slowdown has been driven by weakness in the housing and auto sectors. Housing experienced a bubble over the past five years and has begun to substantially correct since the summer of 2005. The weakness in housing has multiple impacts on the broader economy. Directly, it decreases demand for materials, transportation and labor. Indirectly, it weakens consumers by depreciating their largest asset making them feel less wealthy and therefore less likely to spend, and it lowers the consumers’ ability to extract cash from their homes in the form of a home equity loan or mortgage refinancing. The auto sector faces high levels of overcapacity as it deals with the hangover from many years of heavy rebating and zero percent financing, and the continued loss of market share to Japanese competitors, especially Toyota. This retrenching by the auto industry is leading to further lessening in demand for material, transportation and labor.

We believe that the recessions in the housing and auto sectors of the economy will not spread to the wider business world, and this gives us confidence in our forecast that US stocks will still have positive returns for 2007. We believe that booms cause busts, as they have to substantial effect in the housing market. Business generally, however, has not been driven to such excess. Learning from the boom-bust cycle of the late 1990s-early 2000s, corporate managers have been extremely disciplined in adding capacity to their businesses, and have essentially been running their businesses to generate cash, which they have widely returned to shareholders in the form of increased dividends and stock buybacks. This reluctance to add capacity has precluded the excesses which have traditionally driven down corporate profits and stock prices. Therefore, while we believe corporate profits will decelerate as stated above, we also believe they will continue to grow at a healthy, albeit slower rate.

On the interest rate front, yields on the benchmark ten-year US Treasury note increased from 4.39% to 4.71%. The Federal Funds overnight interest rate rose from 4.25% to 5.25%. As you can see from the above figures, the overnight rate is currently 54 basis points above the ten-year rate. This is known as an inversion, and as we have discussed in previous reviews, it is typically an indicator of future economic weakness, if not outright recession. Some believe that the current inversion is not so much a forecast of future weakness, but rather a manifestation of the massive amount of dollars being reinvested by foreign exporters into the US Treasury market. This massive buying by foreigners is supposedly artificially lowering long-term US rates below where they would otherwise be given the economic environment. As we have stated above, we believe the economy will slow, profits will decelerate, but we do not see recession. If the economic weakness begins to impact employment, we believe the Federal Reserve will begin to cut overnight interest rates. The Federal Reserve has claimed to be focused on the possibility of further tightening to forestall inflation, but we believe this is largely rhetoric, as inflation has already rolled over in the data since peaking this summer, and should continue to moderate as the economy slows further. We believe the Fed’s next move is a rate cut rather than an increase. Such a cut may act as a catalyst to get the market moving on our predicted second half stock rally.

To recap, we are bullish on stocks for 2007, with a year end target for the S&P500 of 1525. We see significant downside support for the index at 1275. We foresee weakness in the first half as the market relieves its current overbought status and comes to grips with slower corporate profit growth. Once it realizes that profits will stabilize and continue to grow, the market, having shed its overbought condition, may continue its advance. A possible Federal Reserve rate cut could prompt a second half rally, just as their August pause helped ignite the rally this past summer.

As always, our focus continues to be on developing a diversified portfolio of shares in high quality companies at a reasonable price. We may contract and expand your overall equity exposure based on our general market forecast. Please feel free to contact us at anytime to discuss your individual investment position. Because Patrick Mauro Investment Advisor, Inc. is regulated by the state of Illinois, these state regulations require that you be offered a disclosure document (ADV-Part II). This form is on file with the Secretary of State’s office (Securities Department) and is available to you by merely writing a request to this firm. We appreciate the confidence you have shown in our firm, and will endeavor to continue to earn that confidence.

Patrick Mauro, Daniel Mauro, Henry Criz

2005 Client Letter and Review/2006 Outlook

December 31, 2005

In 2005 the S&P 500 stock index returned 4.9% including dividends, closing at 1248. While earnings grew 14% the stock market was restrained by surging energy prices and relentlessly rising Federal Reserve overnight interest rates, which ended the year at 4.25%. The benchmark 10-year U.S. Treausry note closed the year with a yield of 4.40%, which compares with a year-end 2004 yield of 4.22%.

Our forecast for the S&P 500 for year-end 2006 is 1375. We see downside risk to 1175. We think the first half will contain the most risk with the second half regaining strength and momentum.

The key risks to our forecast include a continued cooling of the housing market. Another risk is Federal Reserve policy, which may prove to be too tight as evidenced by the recent inversion of the yield curve. Energy prices, while somewhat weaker in the fourth quarter, remain elevated and volatile.

The primary rationale for our bullish stance is the strong financial and operational condition of American business. For example, the return on equity of the S&P 500 relative to the cost of debt is at a 50-year high. This should lead to a high level of merger and acquisition activity, underpinning our bullish forecast.

For 2006, our investment strategy will continue to focus on value investing. By doing this we provide a cushion to offset the risks we note above. While not excluding investments in non-dividend paying stocks, we prefer dividends when available. Where fixed-income investments are appropriate, we tend to put the most emphasis on high-grade debt.

Because Patrick Mauro Investment Advisor, Inc. manages less than twenty-five million dollars; it is regulated by the state of Illinois. These state regulations require that you be offered a disclosure document (ADV-Part II). This form is on file with the Secretary of State’s office (Securities Department) and is available to you by merely writing a request to this firm.

Thank you for the trust you have placed in us. We value your business greatly and are available to discuss your concerns at any time.

Sincerely,

Patrick Mauro, Henry Criz, and Daniel Mauro