After a terrific
run in the market last year and a solid start in 2011, the markets wavered in
late January and again in late February all the way through to the Japanese
earthquake and tsunami in mid March.Investors
expressed unease with the political unrest in the Middle East and continuing
debt troubles in Europe. Opportunistic buying quickly followed steep stock
selling in the wake of the tsunami destruction; the market, as measured by the
S&P 500, managed a total return gain of 5.9 percent for the quarter.

It is surprising
how well the market faced down the quarter’s barrage of bad news as investors
were able to separate the human tragedy from a financial one. Of course, the
near-term impact on manufacturing and global supply chains is significant and
analysis is ongoing. We expect Japan to recover and the effects of the
devastation on the global recovery to be relatively short-lived.

All sectors
performed well in the first quarter. Unsurprisingly, energy stocks ran up the most
in the face of disruptions to oil flow in the Middle East and Libya, the
world’s 12^th largest crude exporter. After losing 10 percent of its
nuclear capacity, Japan’s demand for oil will increase for power generation and
reconstruction.

In uncertain economic
environments investors get nervous and jumpy; any hint of a weakening economy
around a corner may justify selling, especially if prices seem too high. The
causes of extreme market volatility this quarter were both significant and
unexpected. Who could have predicted that a colossally frustrated Tunisian
fruit and vegetable seller would, on Dec. 29, 2010, set himself on fire and
ignite a sequence of protests across more than 10 countries in the Middle East
and North Africa. His nightmarish death, and the thousands more who
subsequently died in that region and in Japan, affect us deeply on a basic
human level, but our selfish survival instincts kick in swiftly as we strive to
assess the potential economic affect on our lives.

Japan
According to the International
Atomic Energy Agency, as of March 30, three of the six reactors at the
Fukushima nuclear plant suffered significant damage to their core and fuel
integrity. One of those three reactors (number 2) had severe damage with
ongoing concerns over nuclear waste containment. Though this tragedy gives
nuclear energy opponents a megaphone, the message seems less potent these days
when reviewed in lieu of the problems facing the oil, gas, and coal industries.

Japan is the
third largest economy in the world and lacks indigenous sources of fossil
fuels; it is only 16 percent energy self-sufficient (the United States is about
70 percent self-sufficient). Ever since the 1973 Arab oil embargo shock Japan
had pushed itself to build out a nuclear infrastructure and reduce its reliance
on oil. Despite the push, it is still the third largest oil consumer in the
world behind the United States and China and the third largest importer of
crude oil. (It’s also the largest importer of both liquefied natural gas and
coal.)

Japan is a hub of
technological production. For example, the country produces 60 percent of the
world’s silicon wafers (thin slices of semiconductor material used to make
integrated electronic circuits and other devices), 32 percent of the world’s
cars, and 74 percent of the navigation systems that go in all cars. Japan is
also a large producer of aerospace and specialty instruments. Many companies’
supply chains have been disrupted by Japan’s catastrophe. Though Japan’s global
trade reaches far and wide, it is interesting to note that in 2010 it
represented only 4.7 percent and 6.3 percent of United States exports and
imports respectively.

Middle East, North Africa and oil
The fear of political
instability in the Middle East and North Africa has been driving oil and
gasoline prices up. Prior to the unrest Libya was pumping out 2 percent of
global oil supplies. Saudi Arabia has since boosted its output to compensate
for that loss, but the fear of disruption of supply from Saudi Arabia, Kuwait,
or United Arab Emirates could push oil and gasoline prices even higher. We
consume more and more energy since our economy and population keeps growing,
plus we are more reliant on oil imports to meet our consumption needs. Given
geopolitical uncertainties, this is, and has been, a growing concern. Fear of
the unknown has driven oil prices over $104 a barrel and futures prices close
to $108. Gasoline prices are now at a national average of $3.60 a gallon, a
high point since the recession in 2008 when prices hit $4.11 a gallon.If
gasoline prices climb above $4 per gallon, consumer confidence may plummet and
increase the probability of another recession.

Corporate earnings and the stock market
It is interesting to see
stocks do well in the face of such negative world events—rising oil and
gasoline prices, inflationary pressures, interest rate concerns, European
budget meltdowns, and growing federal deficits.

The numbers don’t
lie and stronger companies with much improved balance sheets since the 2008
recession are reaping the rewards as the recovery progresses. Investors now
expect companies to stay healthy at least through 2011. In fact, analysts are
projecting double-digit growth for each quarter and for the full year. The
first quarter earnings numbers are due out over the next month and we shall see
how close their predictions are.

We are a little
less sanguine than most analysts on Wall Street, as companies must soon tackle
rising pressures on profit margins from increased costs and possibly more
tentative consumer demand. If the recent positive trend in hiring and jobless
claims continues and if the manufacturing boom continues we will relax. But,
housing starts, which are such an important part of the current recovery, are
stuck in serious doldrums.

At some point,
perhaps not until later in 2011, we expect the market to pullback. Low returns
from money market funds and short-term bonds, potential risk to principal from
long-term bonds, and bubble-level gold and commodity prices will keep investors
content for now in good old-fashioned high quality liquid stocks.

Enjoy your
upcoming Easter and Passover holidays.