Scotty George: Good afternoon June.

JG: Scotty, before we go to talk about the markets, let's just talk a little bit about your firm and your theory of management.

SG: du Pasquier Asset Management is a diversified investment advisory company. We contain a number of different disciplines under one roof. Our primary target market is the high net worth, and small and mid-size institutional market place.

JG: How is investing for high net worth individuals and small institutionals different from investing for the average person?

SG: We believe that there's a much more personalized approach that's required in dealing with the more affluent client. In fact the reason for our firm being started was to service what we thought was an underutilized, underserviced market, particularly that which was serviced by the brokerages or by the bigger banks. We in no way disparage the service or the products that are offered by those delivery systems but sometimes inter-generational net worth prefers a longer term approach, they prefer a little more hand holding and our organization has a number of professionals who are over 30 years of duration in service to the market and we feel that we serve our market well.

JG: And how do you approach asset allocation?

SG: Our methodology primarily begins with an overlay of the landscape. To that extent you would call us top down investors. We're looking at the market from a variety of sources, whether it be currency exchange rates or the condition of interest rates, earnings, market volatility. Our overview really guides the asset allocation models that we implement. However we do have a very specific quantitative investment style, that which derives from fundamental market research utilizing a proprietary analysis system that we developed some 30 years ago. And, so when you combine this kind of landscape or broad-brush approach of the markets with a computer based quantitative screening system, we come up with very specific asset allocation parameters that we think serves the needs of our clients in the long term.

JG: Let's get your broad overview of the market today.

SG: Well, the market today from a broad perspective is appropriately in a bull phase. Unfortunately, though, the kind of short-term duration of these cyclicality phases is that they ebb and they flow much like any other occurrence in nature. So, we've come out of a 20-year bull market which was punctuated by a three-year bear, and we believe that we're right now rejoining the bull market off of the lows that were experienced a year and a half ago.

JG: Have we seen the lows for the major indexes?

SG: It depends on your time frame. Here again our perspective is very specific to our clients needs. If you're a short-term investor, we would advise that there's perhaps a little bit more consolidation in this market over the near term, perhaps into late April or May. If you're a longer-term investor, I would believe that by and large the lows of this bear market were reached back in March of '03, and so we would say that it's entirely appropriate to be looking at generational themes that might resonate or generate capital gains over the next 20 years. So, we've seen the lows over the intermediate term. Perhaps in the very short term it might be appropriate to just wait for some new entry points.

JG: Tell us about the generational themes.

SG: Every generation is punctuated by a variety of different conditions, whether it be war or technology. I was amused, for example, during the late '90's when a number of my 20-year-old contemporaries were telling me "Scotty, this is a new paradigm in the market. Look at the dot.com's and the internet businesses", and I had to remind some of those who didn't have the experience of those with a longer term perspective that every generation has been punctuated by a technological advance, whether it was aircraft and engines in the late '50's, or whether it was television and radio back in the '30's and '40's, or automobiles back in the '30's and '20's. Every bull market, every generation, is characterized by a kind of manic technological explosion that occurs, not at the beginning, but at end of that bull market cycle. So, to say that there was a "new paradigm", I thought was disingenuous, particularly as it related to the valuation expansion in the market in the late '90's. We're looking at companies with good earnings. We're looking at companies, similarly, with strong price performance over the near term. So to have characterized the new paradigm of the late '90's was really just a replication of every bull market that had preceded that one.

JG: Tell me, let's just for the short term, look for a moment at the market and the terrorism fears that we have seen hurting the market at different days as we see events happening abroad. How are investors reacting, do you think, to those fears and is it something you have to take into account in the long term, or simply the short term?

SG: Well, that's a very wide question. We do believe that terrorism and fear of all kind permeates the market landscape right now. But the most severe reaction of the most recent terrorism effect probably was felt just after 2001 at 9/11. To some extent we've been digesting the impact of 9/11 on the markets and so exogenous events or current events which resonate those themes do impact upon the psychology in the market. The most severe damage however, I think, has already occurred and this is just going to be a phenomenon that we need to live with. We do however calibrate through our measuring systems the impact of exogenous events upon the market and while we owe certainly much greater significance to equity share price performance and current events on a near term basis, there nevertheless is the impact to prices that is weighed upon by these terrorism consequences.

JG: Let's talk about your expectations for the latest batch of corporate profits.

SG: I think that the market is being punctuated by an entirely different dynamic than that which led the market up let's say from 1982 when the last bull began. If you recall in that era, interest rates were extremely high and it was almost mandated both by fiscal and monetary policy that in order to stimulate the economy and to stimulate consumer growth we needed to reduce interest rates. So we spent 18 years during a disinflationary market generating earnings, generating capital gains in stocks, ostensibly upon the back of the consumer and his demand and his purchasing power. But this is a different domain altogether as we enter into what I've just referred to as the next secular leg of the bull market. We believe June, that this market is now punctuated by pricing pressure rather than unit volume growth, and as a result the type of stocks and the type of sectors that are leading this new wave of capital gains are not those that are the same. We used to call them "the Nifty Fifty", the big consumer stocks.

JG: Scotty, I'm going to hold you right there and we will continue on the other side of the break and let you continue your thoughts.

Commercial Break

JG: You're listening to the Bloomberg Money Show, I'm June Grasso, our guest is Scotty George, Chairman of du Pasquier Asset Management. Scotty, I'd like you to talk more, and in more depth, about the pricing pressures that we're seeing now and conclude your thoughts.

SG: Well, we were saying before the break that the characteristic of the previous bull market was a big degree of turnover in consumer sales and particularly incentivized by lower and lower interest rates, so that home-building and consumer discretionary purchases were becoming almost, well I won't say irresponsible, but they were becoming extremely unabandoned. We're in a different market right now as we look at stock price leadership, as we look at sector allocation. What we're beginning to see as typifying this new wave of bull stock performance is a wave of pricing pressure, a kind of anecdotal inflation that's being built into prices and earnings and stock performance that is totally uncharacteristic of the previous market and unit volume growth. Examples of this kind of nascent inflation, the most obvious of which everyone is aware of, is the price of gasoline at the pump. But there are more nefarious inflation values that are in this market: the cost of pharmaceuticals and health care, the cost of tuition and education, the cost of repurchasing or refinancing a home. We're starting to see that those companies and those sectors that respond to pricing power are the new leadership of this bull leg in the market, and the concept of unit volume growth is stagnant.

JG: Let's talk specifically and go through some of the industry groups that you favor and why.

SG: Our current leadership is found, as I said a moment ago, June, in the energy sector and although right now those stocks are slightly dormant because of very high valuations, I believe, and I'm going to make a bold statement here, but I believe that energy in all of its forms, from energy sourcing to exploration to delivery to alternative sources, I believe that energy is the dot.com sector of the first decade of this new century. We believe very strongly from the indications given by price performance in that sector that energy is going to be a major leadership sector going forward for at least a decade. It's not the only one however. We're finding current market performance in basic materials, paper companies, metals, (precious and semi-precious), agricultural companies. I think the theme that you're hearing, if it's consistent across the board is that the kind of natural resource or tangible asset market-place is really the kind of leadership that we're looking at now to generate capital gains performance in our portfolios for the next 10-15 years.

JG: Now, if those are the areas that you feel are strong, what areas do you feel are weak, and that investors should stay away from? What industries?

SG: Well it's the flip side of what led the market back in the early eighties. And this really again, it's a great question, because it highlights this kind of overview of the markets that we take, which I think is broader than the "what's hot now?" and "what stock do you like?" and concluding a sales meeting or a client presentation with, "that's very good, but what stock do you want to buy?" Interestingly, during the generation of high unit volume growth, it was the retail stores and the retail brands, I said a moment ago, the old nifty-fifty that we used to call back in the market. But since that leadership is now dead, I would stay away from those stocks that depend upon repeat business, depend upon low interest rates, that depend upon high unit volume exchanges. So we're not very keen on the cyclical companies, the retail brands, the automobile stocks. We would think that type of cyclicality and price performance and earnings performance is something which could be a danger to stock market capital gains.

JG: Any other specific areas that you avoid?

SG: You know, again, it's not an either/or proposition. We are, in fact, fully invested in all eight of the S&P market sectors. But the issue for us is whether we overweight, neutral weight, or underweight those sectors as related to our overall portfolio allocations. So I would say that right now, we're over weighted in the basic materials, the energies, the industrial companies, and we're probably underweighted in the consumer cyclicals and the financial stocks.

JG: OK, and your neutral in what?

SG: Well, we're probably neutral to the market in the non-cyclical companies, you know, the big consumer brands, the Anheuser Busch's and Coca Cola's of the world, and probably neutral weighted in the utility sector right now. We're cautious on technology, but we're extremely bullish on biotechnology, so I would have to say that the servers and the platforms and the semiconductors offer us an opportunity as a generational theme, but we're probably more excited, right now June, about the prospect for performance in the bio-tech area of the technology arena.

JG: All right, when we return, I want to talk to you about consumer confidence numbers, which eased this month, the lowest in five months and how you read those. We'll be back with more, with Scotty George. He is Chairman of du Pasquier Asset Management.

Commercial Break

JG: This is the Bloomberg Money Show, I'm June Grasso, our guest is Scotty George, Chairman of du Pasquier Asset Management. Scotty, let's talk about the U.S. consumer confidence numbers that came out suggesting that the shortage of jobs still concerns Americans, even though we hear that firings and the numbers show that firings are slowing, do you take great stock in the consumer confidence numbers?

SG: We do, because consumer confidence is at least one of the major indices that relates to discretionary spending and of course corporate profitability. It's another reason, in fact, why this previously alluded to "nascent inflation" that we're sensing, impacts upon, not only lifestyle but purchasing power, and I think the numbers today clearly are indicative of that. When households have built up margin debt, when households are diminishing their savings rates, it doesn't matter that fiscal policy or monetary policy is accommodative towards the consumer. The phrase that we once used in one of the pieces I wrote is that "you can lead a horse to water, but you can't make him spend". So we're a little bit leery of the monetary leadership right now as well as some of the fiscal tax policy which encourages consumption in an environment in which some of these worries, about which you spoke, are so rampant.

JG: What kind of a fiscal stimulus would you like to see and what kind of tax policy?

SG: You know, I have to be cautious when I answer this question because we always stick to what we know, and we're neither politicians nor are we Federal economists. Let me phrase the question differently or answer in a different way. I mentioned previously that we've been in an 18 year disinflationary market, and although down here at the bottom of interest rates having come from 20% money market returns, to 1% interest rates, presently, whether we increase by 50 basis points or go down by 50 basis points, we believe that the secular or generational theme going forward is towards higher interest rates. That having been said, it really doesn't matter what the Fed does, it doesn't matter what tax policy does, we're heading, in our opinion, towards an inflationary market. Not a rampant one, but one in which the gradual ascension of pricing pressure begins to change the landscape of the market place. So, if you're asking me my preference, I would prefer that we not play games at the bottom of this interest rate curve about whether or not another 50 basis points or 25 basis points, or whether additional fiscal and tax incentive policies would give the incentive to spend. I think we need to face the realities of deficit spending, we need to face the realities of pricing pressure and plan our capital gains and investment strategies around the realities of the market and not what we hoped would be so.

JG: The employment part of the economic picture, many economists believe that the economy will start to add jobs in substantial numbers. Are you in that camp?

SG: I think that the overall trend, the generational trend, is that new leadership, new jobs will develop in industries probably not yet even identified. We indicated a moment ago, for example, that we think alternative energy sourcing may be a tremendous market sector in the next 10 to 15 years. So we don't really know from what sectors job growth may occur. So, I do believe, along with the economists that you mentioned, that jobs growth can't be stunted forever. But the fact is that capital expenditures are on the wane and it's going to take corporate confidence not consumer confidence before we see an increase in jobs growth.

JG: All right, we'll return with more on the Bloomberg Money Show. So take a look at the markets.

Commercial Break

JG: Thanks so much for joining us on the Bloomberg Money Show. I'm June Grasso and we're talking to Scotty George, Chairman of du Pasquier Asset Management. Scotty, let's talk more about your methods of asset allocation and why you feel that that is such a critical part of your management style.

SG: Well, as I said earlier June, a lot of clients and many prospects are only interested (after our one hour harangue on today's show) about what stocks they should go out and buy. Whether they call an advisor or do it directly, I think that that short-term approach is what characterizes a lot of problems in investment portfolios, particularly when we review new client accounts and the accounts that they have had previously. So, our primary tenet about making money is that asset allocation itself plays a greater role in the probability of portfolio performance than does any individual stock that we may own. When we take a position, we're only looking at 2 or 3% of the portfolio in sum, and depending obviously on the size of the client's account we may own 50-60 stocks in a portfolio and depend primarily upon our correct identification of the broader landscape to move the portfolio forward than to rely upon any one individual home run. So, our overview is directly linked to our strategic top down approach, to our asset allocation models, and not specifically to any one stock.

JG: So now, how do you convince your clients of this when they're looking at particular stock performance?

SG: I think that's easy. In current situations, all we have to do is look backwards. We only have to look at the influence that technology stocks played upon clients' portfolio performance towards the latter part of the '90's to realize that what may have been an 8% or 6% or market-weighted allocation to technology quickly became 40, 50 or 60% of a client's assets. Now, interestingly, although most clients would go to their county club and crow about the fact that they have an XYZ security that "just went up 200 or 300%", we would counter with the fact that that part of the portfolio, by definition, becomes the highest risk element in their net worth. So it's not difficult to convince clients anecdotally by looking backwards on their experiences in the past. But history has also shown that prudent asset allocation, prudent diversification amongst a variety of sectors, a variety of different disciplines always outperforms one distinct characteristic in the market. You've heard the disclaimer on most mutual funds that "past performance is no guarantee of future success"? Obviously to be able to diversify amongst a variety of different categories mitigates the risk in one's portfolio and helps, I believe, to generate the capital gains that client's are looking for.

JG: Describe a portfolio that you would consider typical for a well-to-do individual and how you would allocate that.

SG: Well, there is no model. We don't run a single type account, although the firm internally generates a model portfolio, which serves as a guideline for the money managers to use when speaking with each individual client. So, we don't run a fund, but we do run a quantitative model. But the allocation process really begins with a statement of the clients needs and objectives and a profile of their risk tolerances, so that we may have clients who are aggressive, that are 90% in the market and 10% in cash or fixed income, and we may have conservative institutions that are 30% in stocks and the remainder being held in laddered short term maturities. So, the application of the discipline is unique to each client. But the average account in our portfolio is generally more conservative than an all-equity portfolio because we believe we can do more with less. We believe that if our asset allocation is correct, that we can use our proprietary stock modeling process to find the right companies in the right industries and then further to balance off that risk through the use of fixed income and cash. In fact, history of our performance has shown that we tend to generate anywhere between 90 to 100% of an all S&P return during periods in which the market is going up, and so we're very comfortable with our asset allocation process.

JG: And could you give advice to the average investor, who doesn't have the ability to hire you, about asset allocation and the best way to approach the markets these days?

SG: For clients who are looking at funds, I would say that you don't have to get on to the fad in order to make money. I would say that a balance between a number of different sectors and a number of different objectives may more appropriately fit your risk tolerances than throwing all of your eggs in one basket. So, if you're an aggressive "tech-ie" who's looking for price performance in technology, don't forget the emerging markets and some of the leadership that we've characterized in the energy and basic materials sector. Further, don't forget to put some money away in cash, money market, or fixed income portfolios. The advice I would give to any investor is the same across the board, from a well-heeled investor to the average client, and that is that diversification always outperforms one single category of investment over time.

JG: Let's talk a little bit about currencies and the currency exchange market now.

SG: We were talking about earnings, and you do recall that I said our equity screening process derives from an earnings driven base, so that's what we're looking for are companies with earnings consistency, acceleration in their earnings, price performance and then, obviously, relative strength: that is, performance relative to the market that exceeds current nominal growth rates. With the currency exchange, between the dollar and the euro and the dollar and a number of other foreign currencies, what we're seeing right now is that the deterioration in the value of the dollar relative to those exchange rates is impacting heavily upon companies that do business here domestically, and is changing the landscape from a U.S. based market to a global market. So that it's not uncommon, for example, for us in our screening process, to find market leadership in the sectors which we identified before in foreign companies, foreign industrials, foreign telecoms, foreign energy. Not all leadership is proprietary to the U.S. market, and so this currency dis-equilibrium is affecting both capital gains as well as the balance of capital exchange in the markets right now.

JG: Do you have a great deal of your portfolios invested in foreign firms?

SG: Over the last year and a half, what we found as we screened the landscape of stocks, both domestic and foreign, is that more of our stocks are becoming foreign, whether they're ADR's or direct investments in foreign companies, and I'd say we're probably now about 10-15% in foreign stocks, only because we're looking for the same characteristics. Again, it's not a bottom up approach, June, that we're using, where we say "let's go find some foreign stocks". What we're saying to our modeling process is "show us where earnings leadership derives, show us where earnings acceleration exists, show us current share price performance over the last 3 years, and then lastly, show us relative strength, relative to the markets". And right now we're seeing more of that leadership in the foreign markets as well as the U.S.

JG: More coming up.

Commercial Break

JG: You're listening to the Bloomberg Money Show, on Bloomberg radio, I'm June Grasso and our guest this hour has been Scotty George, Chairman of du Pasquier Asset Management. Scotty you mentioned you have 10-15% in foreign stocks, I'm wondering, which countries those stocks are in and whether you have any emerging markets stocks.

SG: Keep in mind that our themes are consistent with earnings, earnings growth, share price performance and market relative strength so that the nature of our emerging market characteristics will be exactly the same as those of our more mature stocks, those companies that typify strong earnings, that have good price performance and are performing at a growth rate faster than most of the market. Examples of which are Brazilian paper companies, Spanish energy companies, we have Middle Eastern biotech companies, we have Australian banks. It's a very broad landscape of companies and countries, each of which typifies exactly the same characteristics of all of the other stocks that we're looking for, and that is those four characteristics that I mentioned before.

JG: And as far as the currency valuations, how do you factor that into your decision, for example, when you're investing in these emerging markets.

SG: It's extremely important. As I said before, current events, currency, interest rates and a host of other factors go into our fundamental overview, as well as our quantitative analysis. Currency exchange is extremely important when repatriating money from foreign countries. But, capital gains wins out over all of those factors, and if we're lucky enough to find situations that typify those four characteristics, we believe that the currency risk is worth it, if it's fully analyzed.

JG: What about China, because many people have, many analysts, many investors are looking toward China recently as an area for future growth and the place to be in the next decade.

SG: Right, well we believe very strongly that this is a burgeoning market almost akin to the condition from a capitalism standpoint of the U.S. 150 years ago. Right now, however, the type of companies that we're finding in China, aren't mature enough and don't have the history of earnings that we would be requiring of our portfolio in order to make them core equity selections. I will say, that like any emerging market, and as with any other country, we're very keen right now on looking at earnings growth in the energy sector, industrial development, infrastructure, so it may not be impossible, for example, in the next 2-3 years to find Chinese telecommunications companies, Chinese cement companies, Chinese computer companies that may make it into our screening process. Right now though, we think it's a little bit early for that market as it relates to our discipline, specific to our client's objectives.

JG: Do you look at companies in the United States that have contacts or are growing divisions in China as being something that you would like to see your investors in?

SG: There's no question June, but let me again caution you that using a bottom up approach to the market, such as trying to find the most undervalued tech company on the NASDAQ, or trying to find the biggest blue-chip that deals with China as a percentage of its gross revenue is a finite universe of stocks and what we prefer to do is to lay out the landscape of the market overall: the fact that China is a burgeoning industrial nation, the fact that earnings are deriving from pricing power, the fact that currency is disaffecting the U.S. dollar. And from that landscape we allow our screening process to tell us which stocks, which sectors, have the highest probability of current price performance. So, there's no question that we factor in all of these unique individual fundamentals, but we're not necessarily focusing upon the bottom-up of which countries are dealing with China specifically.

JG: In about the 30 seconds that we have left, I'd just like your final word on your outlook toward the market.

SG: I think from this hour one might deduce that we're negative about stocks or extremely cautious, and I just wanted to leave your listeners with the notion that far from it, because of our discipline and because of the success that we've derived from that discipline, we think that this in fact is the next secular leg-up in a bull market. We're very positive about stocks. We're positive about stocks, however, in the context of where earnings derive and it's because of that we feel that we have some new winners going forward.

JG: All right, thank you so much Scotty George, Chairman of du Pasquier Asset Management.
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