Market Update

August 11, 2008

Implications of the Dollar Rally

On Friday, the U.S. dollar surged 1.6%, its biggest daily advance in eight years. The impetus for the dollar rally was selling of foreign currencies, especially the Euro, because of weakening economies outside the U.S. likely to eventually produce lower interest rates. Declining interest rates abroad would narrow their differentials with U.S. short term rates and, in turn, make the dollar relatively more attractive. The dollar had already been in a narrow trading range since March and had consequently built a technical base from which it has rallied. We now believe the dollar will be flat to stronger through the end of the year.

The implications of a flat to higher dollar are weakening of commodities prices, including oil. As the technical position of the dollar is improving over the short term, the technical position of oil and commodities is weakening. The result is a more positive capital flow toward a broad base of equities. The popular trade of long commodities and short financials is no longer as attractive to capital as it once was. This is bullish for stocks. It is relatively more positive for small/mid cap U.S. equities than it is for the large cap U.S. stocks. The latter has benefited from the falling dollar as most large companies have multinational operations. With the dollar likely to be stable to higher, incremental benefits for the large companies may be less forthcoming. Concomitantly, the small/mid cap stocks are relatively more appealing and their stock price momentum has begun to strengthen during the past six months. Consequently, we are raising our weighting in small/mid cap stocks as follows: Aggressive Growth 15% to 25%, and Growth 10% to 20%. The incremental funding for Aggressive Growth comes from a lowering of cash and equivalents to 10% from 20% and for Growth from a lowering of large cap to 20% from 25% and a reduction of cash to 10% from 15%.

These allocation shifts reflect mostly a change in relative attraction within the market rather than a statement about the market’s relative attraction. We continue to believe that the growth of the U.S. economy and profits will be relatively slow over the next 12 months or more.