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Quarterly Letter to Clients

January, 2025

Indices at quarter-end (December 31, 2024):

Dow Jones Industrials: 42,544.22 4Q'24 +0.51% YTD +12.88%

Standard & Poor's 500: 5,881.63 4Q'24 +2.07% YTD +23.31%

The Fed threw us a curveball in it's December meeting. While they lowered rates by one-quarter of one percent, they signaled fewer cuts for 2025 than expected. What is worse, they refused to rule out a hike in rates, saying they needed to see "progress on inflation" before making further cuts. The stocks tumbled on the news.

Still, the markets finished the year with solid gains. Inflation is substantially down from it's peak, and interest rates have been coming down. Employment has softened, but only marginally. We seem to be entering the New Year on a strong economic footing.

I have been thinking about risk more than usual lately. I don't know why. It's not discussed much these days, but many years back we talked about risk using various terms. One such term was "businessman's risk." The phrase popped up recently, and got me thinking. In my youth I would spout these things without giving much thought to their derivation.

A businessman might buy merchandise and put it on his shelves, hoping to sell it for more than it cost him. Some items will be in high demand and will sell quickly, while others sit much longer on the shelf. In every item he buys, the businessman takes a risk. He tries to read the mood of his customers and of the general economy. Some items will find their way to the sale rack, moved out at cost or below. Some will spoil before finding a buyer.

This parallels the investment business: we buy stocks and bonds, trying to read the mood of the market, while balancing our risk level. But sales at a loss are expected, and are part and parcel of life. There are times when our selections fly out the door, and other times, when all we can do is dust them and maybe cut our sale price expectations.

One difference between the retailer and the investor is the length of time that inventory is held. The retailer likely wants to move his merchandise seasonally, while the investor has a much longer time horizon. And the inventory of the investor generally pays dividends.

Still, risk is an ever-present factor. We have to balance the perceived risk with the potential gain. We can assess a company's balance sheet, its business prospects, its management, its valuation. But even taking everything into account, all that we can hope for is to minimize the risk.

Today the stock market is high and bond yields are (relatively) low. High valuations are only one risk. There are new risks that were not present previously, e.g., tariffs. And there are the unknown, unforeseen risks that are ever-present in life.

Minimizing risk is generally thought to minimize returns. While in general this may be true, it is not necessarily a one-to-one relationship: if you can lose less than the market in the down years, that may balance your long-term returns, even if you lag the market in the up years. Essentially, over time, you might match the market's gains by simply not falling as much in the inevitable downturns.

I said at the outset that I don't know why I have been thinking about risk levels, but in truth, I am aware that I am at a point in life where I want to minimize my risk. Having been in this business for over 50 years, I am also aware that most of my clients are at that same point. Just like you, I want to see my assets continue to grow, but I am unwilling to assume the risk levels needed to put me in the upper echelons of the performance race.

On my website I have a note that says: "I don't really care what the Dow Jones or S&P does. I just want to earn a little more than I need every year." If we can adopt this mindset and implement our investment strategies while maintaining reasonable risk levels, we will be able to accept the twists and turns of the market.

I wish you a Happy and Healthy New Year.

Jim Pappas