Against this background, corporate profits have exploded. Profits have never been higher and are now well above pre-recession levels. In contrast, stock prices have not kept pace. We believe the S&P 500 is now trading at its most fundamentally attractive level since the U.S. economic recovery began – creating opportunity for the disciplined investor.
Accordingly, our equity portfolios continue to place significant emphasis on U.S. large-company stocks. We believe this asset class has the most attractive total return prospects over the next 12-24 months relative to other equity classes, cash equivalents and most types of bonds. 
Unlike bear markets, corrections tend to be short-lived. This one may linger a little longer, but we don’t think it will lead to market declines of the severity and length experienced from 2007-2009.   In fact, if it takes the same course as other past corrections, recent declines should give way to a strong price rally that eventually carries the market to new highs.
Further action towards resolving the European debt crisis and gaining more clarity about the current U.S. economic slowdown likely will be necessary to end this correction. Here are our thoughts on those matters:
European Debt Crisis: There finally seems to be progress here. Previous plans to resolve this crisis centered on Greece avoiding default by implementing austerity measures that reduced their deficits. The hope was that if budgets were trimmed, then economic growth would shrink Greece’s sovereign debt as a percentage of its GDP, making it more manageable. But its economy slowed and interest rates on its debt exploded, making this plan unrealistic. This realization has led to recent financial market turmoil.
We’ve remained confident that a more workable plan will be found. It appears such a plan is now taking shape. While the focus remains on Greece meeting planned austerity measures, it now appears a restructuring of Greek sovereign debt is being considered as a way to end the crisis. And since many European banks are significant holders of this debt, any restructuring plan must address the impact on these banks’ financial reserves. A further consideration is the need for the plan to contain the crisis at Greece’s border by shoring up similar but less acute debt issues in other European countries. All of these details are currently being weighed.
Until a plan takes final form, we expect financial markets will continue to be volatile, experiencing both strong up and down movements. However, we continue to believe that the various leaders of the Euro-zone, including its largest economy (Germany), know that it’s in their best interest to come to a joint solution. Failure to address the issue in a timely manner has the potential to cause far greater damage to their banking system and export-driven economy than the burden any solution may impose.
Possible U.S. Recession: Wall Street has a saying: “The stock market has forecast 10 of the last 2 recessions.” In other words, numerous market corrections have occurred in anticipation of U.S. recessions that never materialized. And while the risks of the U.S. slipping back into recession have increased, this may be one of those times when the markets are forecasting a recession that doesn’t actually occur.
While the economy has slowed, giving rise to recessionary concerns, U.S. economic releases continue to paint a picture of an economy in a soft patch – meaning less rapid growth, not recession.   Further, leading indicators (economic releases that provide a glimpse forward) paint a similar picture. Therefore, while a slowing economy can stall and fall into recession, we feel the most likely economic scenario continues to be for anemic growth, but growth nonetheless.
Our Equity Portfolios: The media seems to have mainly focused on how the slowly growing U.S. economy has not made a dent in the high unemployment rate. Widely underreported has been the explosion of corporate profits, which have been anything but anemic. In fact, as measured by National Income Accounts (a broad measure released with GDP), profits have never been higher and are now well above pre-recession levels reached in the fourth quarter of 2006. 
And while record earnings are good news for equity investors, current equity prices are perhaps even better news. The advance in stock prices has not kept pace with the increase in earnings. In fact, with the recent correction, the S&P 500 is now trading at its most fundamentally attractive level since the U.S. economic recovery began. We estimate that prices are now more than 30% below their intrinsic values, creating opportunity for the patient investor.
Our investment process commits portfolio resources only to those asset classes that represent attractive opportunities for total return over the next 12-24 months. With this in mind, we continue to position our equity portfolios to place significant emphasis on U.S. large-company stocks. While their prices may move lower as the correction runs its course, we believe this asset class has the most attractive total return prospects over the next 12-24 months relative to other equity classes, cash equivalents and most types of bonds. 
Looking Forward: As part of our process, we continually research and analyze the global investment environment. We go to great lengths seeking to understand what comes next so that we can proactively take advantage of opportunities and avoid unnecessary risk. Right now our equity portfolios are intentionally invested to take advantage of the opportunity in U.S. large-company stocks. Rest assured we will make any necessary adjustments as new opportunities and risks emerge.