1.20.20042003 Fourth Quarter Client Letter What a difference a year makes! 2003 was a year of soaring stock markets and continued low interest rates. The federal government’s effort to deliver a booming economy has worked. In the statistical year ending September 30, 2003, the economy grew 5.4%. In the third quarter alone, the economy grew at an inflation adjusted annual rate of 8.2% as depicted below. What is the plan for 2004? The US is entering a period of reflation: the use of fiscal and monetary stimulus to encourage economic growth. The growth has been stronger than anticipated. It is likely the stock market will moderate on the heels of such an explosive rally. Bonds: Increasing inflation leads to increasing interest rates. Increasing interest rates leads to increasing bond yields and decreasing bond prices. We anticipate avoiding long-term bonds. Longer-term bonds could lose money in this environment. Instead, we will utilize short-term bonds to protect principal. The only intermediate bonds we like are higher yielding, intermediate corporate bonds. As the economy continues to be revived, corporations’ ability to repay debt should improve. The easy money has been made in the corporate, high-yield bond market. We anticipate a more quiet, yet consistent return in the moderate single digits from high-yield bonds. Commodities: Increasing inflation and economic growth should provide excess demand for both gold and non-financial commodities. Both precious metals and commodities have a negative correlation to the US equity and bond market. This should provide some added diversification to your portfolio. US Equities: Small US companies continue to outperform large companies. The current environment may be similar to the late 1970s when smaller companies outperformed large companies by over 22% per year for five years. International Equities: By owning international equities denominated in Euros, Yen, and Pounds, US investors benefit as the US Dollar declines compared to these currencies. International small companies were up 58.8% in 2003. Even with this significant return, the annualized return of international small companies since 1990 has been a paltry 3.18%. The annualized return of this asset class since 1970 has been 16.1%, because from 1970 to 1989, the asset class’ annualized return was 26.1%. As the period from 1970-1989 was extraordinarily high, the period from 1990-2003 was extraordinarily low. We continue to favor international small companies over international large companies. We believe they will continue to outperform, in a manner similar to the US small company in each of the past three years. Secondly, one of our favorite investments continues to be Asia excluding-Japan. This region continues to grow faster than any other area of the world. In China, the real gross domestic product growth forecast for 2003 is 8.7%, and the 2004 forecast is a hefty 9.5%. We continue to take a conservative approach to this risky region with Matthews Growth & Income. Non-directional equities: We continue to utilize the Arbitrage Fund to diversify portfolios. This fund was up 14% in 2003. Though the return was less than the stock market, it continues to deliver equity-type returns with much less risk. The Arbitrage Fund is closing to new investors at the end of January. This should help prevent the fund from becoming too large and reducing future returns. Thank you for your continued trust and support! Trevor K. Holsinger, CFP