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© 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Managing the Investment Process David C. Voss.

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Presentation on theme: "© 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Managing the Investment Process David C. Voss."— Presentation transcript:

1 © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Managing the Investment Process David C. Voss

2 Learning Objectives Overview of the investment management process Historical risk and return characteristics of investments Management of investment risks Advantages and disadvantages of investment vehicles

3 Investment Management Process Quantify investment goals and objectives Develop asset allocation policy Identify appropriate investment vehicles Implement asset allocation Monitor performance Make ongoing adjustments

4 Examples of Investment Objectives Meet current and future pension liabilities Accumulate sufficient assets for retirement Be able to retire at age 62 Generate $100,000 of income per year (increasing by inflation) from investments Ensure sufficient funds to provide for potential 30-year retirement 90 percent or higher probability of success

5 Types of Asset Classes © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Stocks/Equities  Large stocks  Small stocks  International stocks Bonds  Government bonds  Corporate bonds  Municipal bonds  High-yield bonds  International bonds Cash equivalents  Money market funds  Treasury bills  Certificates of deposit Real assets  Real estate  Commodities  Gold

6 Types of Risk © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Market timing Inflation Risk Credit Industry/company Market Interest rateCall/reinvestment Liquidity Political/economic Currency

7 Measuring Historical Investment Performance © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Compound annual return (geometric mean)  The average performance of an asset that measures the change in wealth over more than one period. Arithmetic mean  Simple average of returns Risk (standard deviation)  The fluctuation of returns around the arithmetic average return of the investment. The higher the standard deviation, the greater the variability (and thus risk) of the investment returns.

8 Summary Statistics 1926–2007 Past performance is no guarantee of future results. *The 1933 small company stock total return was 142.9%. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Compound annual return Arithmetic annual return Risk (standard deviation) Large stocks Small stocks* Government bonds Treasury bills Inflation 10.4% 12.5% 5.5% 3.7% 3.0% 12.3% 17.1% 5.8% 3.8% 3.1% 20.0% 32.6% 9.2% 3.1% 4.2% –90 0 90

9 Stock Selection Risk Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 1 2 4 6 81630501001000 Risk Company risk Market risk Number of stocks in portfolio

10 Market Timing Risk Hypothetical value of $1 invested from 1988–2007 Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 $9.33 $2.36 $2.41 0 2 4 6 8 $10 StocksStocks minus best 18 monthsTreasury bills

11 Market Timing Risk The effects of missing the best month of annual returns Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 –40 –30 –20 –10 0 10 20 30 40% Return 1988199420002006198219761970 Annual return Annual return minus best month

12 Interest Rate Risk When yields increase, bond prices decrease Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 2 4 6 8 10 12 14 16% 0 0.20 0.40 0.60 0.80 1.00 1.20 1.40 $1.60 199620061986197619661956194619361926 Bond prices ($) Bond yields (%)

13 Inflation Erodes Purchasing Power Over Time Effects of 3% inflation on purchasing power Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 $100k 80 60 40 20 0 0 Years51015202530 $73,742 $63,325 $54,379 $46,697 $40,101 $85,873

14 Inflation Risk 1926–2007 Past performance is no guarantee of future results. Assumes reinvestment of income and no transaction costs or taxes. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 10.4% 7.1% 5.5% 2.4% 3.7% 0.7% StocksBondsCash 0 2 4 6 8 10 12% Before inflationAfter inflationBefore inflationAfter inflationBefore inflationAfter inflation

15 Asset Class Returns Highs and lows: 1926–2007 Past performance is no guarantee of future results. Each bar shows the range of annual total returns for each asset class over the period 1926– 2007. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Compound annual return: 12.5% 10.4% 5.5%5.3% 3.7% Small stocks Large stocks Long-term government bonds Intermediate-term government bonds Treasury bills 150% 100 50 0 –50–50 –100 142.9% –58.0% –43.3% –9.2% –5.1% 0.0% 14.7% 29.1% 40.4% 54.0%

16 Stock Market Contractions and Expansions 1973–2007 Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 0 1 10 $100 200520011997199319891985198119771973 Contraction Expansion Stocks –42.6%–14.1%–16.9%–29.5%–14.7%–15.4%–44.7% 0 200 400% 85.9% 86.5% 281.5% 71.2% 354.8% 62.6% 98.3% –200

17 Market Downturns and Recoveries 1926–2007 Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 –83.4% –21.8% –10.2% –15.0% –22.3% –15.6% –29.3% –42.6% –14.1% –16.9% –29.5% –14.7% –15.4% –44.7% % Loss 34 months 6 months 7 months 5 months 6 months 8 months 19 months 21 months 14 months 20 months 3 months 5 months 2 months 25 months Downturn 151 months 35 months 5 months 7 months 10 months 6 months 9 months 21 months 5 months 3 months 18 months 4 months 49 months 3 months Recovery Sep 1929–Jun 1932Jul 1932–Jan 1945 Jun 1946–Nov 1946Dec 1946–Oct 1949 Aug 1956–Feb 1957Mar 1957–Jul 1957 Aug 1957–Dec 1957Jan 1958–Jul 1958 Jan 1962–Jun 1962Jul 1962–Apr 1963 Feb 1966–Sep 1966Oct 1966–Mar 1967 Dec 1968–Jun 1970Jul 1970–Mar 1971 Jan 1973–Sep 1974Oct 1974–Jun 1976 Jan 1977–Feb 1978Mar 1978–Jul 1978 Dec 1980–Jul 1982Aug 1982–Oct 1982 Sep 1987–Nov 1987Dec 1987–May 1989 Jun 1990–Oct 1990Nov 1990–Feb 1991 Jul 1998–Aug 1998Sep 1998–Nov 1998 Sep 2000–Sep 2002Oct 2002–Oct 2006

18 Periods of Consecutive Negative Stock Returns 1926–2007 Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 20% 37% 29% 54% –25% –12% –0.4% –10% –26% –8% –43% –8% –15% –9% –12% –22% Average stock market return from 1926  2007 was 10.4% –50 –40 –30 –20 –10 0 10 20 30 40 50 60% Return 1939194019411942200020012002200319731974197519291930193119321933

19 Asset Class Performance – Past 10 Years 1998–2007 Past performance is no guarantee of future results. Hypothetical value of $1 invested at the beginning of 1998. Assumes reinvestment of income and no transaction costs or taxes. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008.80 1 3 $5 19982000200220042006 $1.30 $1.42 $1.78 $2.02 $2.73 Compound annual return Small stocks 10.6% 7.3 Large stocks Government bonds Treasury bills Inflation 5.9 3.5 2.7

20 Asset Class Performance – Past 20 Years 1988–2007 Past performance is no guarantee of future results. Hypothetical value of $1 invested at the beginning of 1988. Assumes reinvestment of income and no transaction costs or taxes. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 1988199319982003 1 10 $20.60 $2.41 $1.82 $5.89 $9.33 $12.54 Compound annual return Small stocks 13.5 % Large stocks Government bonds Treasury bills Inflation 11.8 9.3 4.5 3.0

21 Asset Class Performance – Past 82 Years 1926–2007 Past performance is no guarantee of future results. Hypothetical value of $1 invested at the beginning of 1926. Assumes reinvestment of income and no transaction costs or taxes. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 0.10 1 10 100 $10,000 1,000 192619461966198619361956197619962006 $15,091 $3,246 $79 $20 $12 Compound annual return Small stocks 12.5% Large stocks Government bonds Treasury bills Inflation 10.4 5.5 3.7 3.0

22 Long-Term Asset Class Performance 1926–2007 Past performance is no guarantee of future results. Assumes reinvestment of income and no transaction costs or taxes. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Annual 12-month rolling periods Compound annual return Standard deviation Highest return Lowest return Average positive return Average negative return Percent periods positive Percent periods negative 12.5% 32.6% 316.4% –75.9% 31.3% –18.5% 72.9% 27.1% 10.4% 20.0% 162.9% –67.6% 21.7% –13.7% 74.5% 25.5% 5.5% 9.2% 54.4% –17.1% 8.5% –3.8% 77.8% 22.2% 3.7% 3.1% 15.2% 0.0% 3.8% 0.0% 98.4% 1.6% Small stocks Large stocks Government bonds Treasury bills

23 Stocks, Commodities, Real Estate and Gold 1988–2007 Past performance is no guarantee of future results. Hypothetical value of $1 invested at the beginning of 1988. Assumes reinvestment of income and no transaction costs or taxes. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 $1.72 $5.36 $4.48 $6.98 $9.33 11.8% 10.2 8.8 7.8 2.8 Compound annual return $10.50 1 1988199319982003 U.S. stocks Commodities Real estate International stocks Gold

24 Time Narrows the Range of Investment Returns 1926–2007 Past performance is no guarantee of future results. Each bar shows the range of compound annual returns for each asset class over the period 1926–2007. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Small stocksLarge stocksGovernment bondsTreasury bills –60 –30 0 30 60 90 120 150% 1-year Holding period 5-year20-year1-year5-year20-year1-year5-year20-year1-year5-year20-year Compound annual return: 12.5% 10.4% 5.5% 3.7%

25 Power of Compounding Hypothetical investment in stocks Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Years contributing:10 Annual amount contributed:$2,000 Years contributing:10 Annual amount contributed:$4,000 Investor BInvestor A $40,000 $55,138 $20,000 $104,555 Total amount invested Compounded value at year-end 2007 0 20 40 60 80 100 120 $140k 1988–20071998–2007

26 What is Asset Allocation? © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Asset allocation is the process of combining asset classes such as stocks, bonds, and cash in a portfolio in order to meet your goals. Stocks Bonds Cash

27 Potential to Reduce Risk or Increase Return 1970–2007 Past performance is no guarantee of future results. Risk and return are measured by standard deviation and compound annual return, respectively. They are based on annual data over the period 1970–2007. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Lower risk portfolioHigher return portfolioFixed income portfolio Return:8.2% Risk:5.5% Return:9.1% Risk:7.5% Return:8.2% Risk:7.5% 15% 85% 21% 30% 43% 20% 36% 50% Stocks Bonds Cash

28 Stocks and Bonds: Risk Versus Return 1970–2007 Past performance is no guarantee of future results. Risk and return are measured by standard deviation and arithmetic mean, respectively. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 13% Return 12 11 10 9 10% Risk11121314151617 Maximum risk portfolio: 100% Stocks 80% Stocks, 20% Bonds 60% Stocks, 40% Bonds 50% Stocks, 50% Bonds 100% Bonds Minimum risk portfolio: 25% Stocks, 75% Bonds

29 10.1 9.1 6.8 5.5 Diversification Reduces the Impact of Market Swings Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 19931994199519961997199819992000200120022003200420052006 11.2%1.337.423.133.428.621.012.67.612.928.710.94.9 11.0–0.332.017.626.924.415.17.02.93.621.88.74.1 10.7–1.926.812.320.519.99.31.5–2.0–5.315.16.63.2 10.3–3.521.77.114.415.13.7–3.9–6.9–13.98.64.42.3 10.0–5.116.82.18.410.2–1.8–9.1–11.9–22.12.42.31.4 15.8 12.5 9.3 6.2 3.1 2007 Highest return Lowest return (100% Stocks)(75% Stocks, 25% Bonds)(25% Stocks, 75% Bonds)(100% Bonds)(50% Stocks, 50% Bonds) Portfolio 1 Portfolio 2 Portfolio 4 Portfolio 5 Portfolio 3 8.0

30 The Case for Diversifying Past performance is no guarantee of future results. Time period illustrated is from 1956–1962. This time period was chosen as a dramatic illustration of stock and bond return behavior and how their often opposite movements reduced portfolio volatility. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 50% Return 40 30 20 10 0 –10 –20 Year 1234567 Compound annual return 1.9 Stocks 50/50 portfolio Bonds 8.5% 5.8 Stocks 50/50 portfolio Bonds

31 Diversification in Up and Down Markets Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 $3,000 Bull market 2,500 2,000 1,500 1,000 500 1996 1997 19981999200020012002 250 500 750 1,000 1,250 $1,500 Bear market $1,484 $985 $624 $1,181 $1,763 $2,555 Stocks 50/50 portfolio Bonds

32 Correlation Can Help Evaluate Potential Diversification Benefits 1926–2007 Past performance is no guarantee of future results. Correlation ranges from –1 to 1, with –1 indicating that the returns move perfectly opposite to one another, 0 indicating no relationship, and 1 indicating that the asset classes react exactly the same. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Small stocks Large stocks LT corporate bonds LT govt bonds IT govt bonds Treasury bills Small stocks Large stocks LT corporate bonds LT govt bonds IT govt bonds Treasury bills 1.00 0.79 0.08 –0.02 –0.07 –0.10 1.00 0.19 0.12 0.04 –0.02 1.00 0.93 0.89 0.20 1.00 0.90 0.23 1.00 0.481.00

33 Investing in Stocks © 2008 Morningstar, Inc. All rights reserved. 3/1/2008  Ownership in a corporation  Voting rights  Historically higher returns  More risk

34 –20 –10 0 10 20 30 40 50% 1996 1998 2003 2005 1961 1963 1968 1970 1975 1977 1982 1984 1989 1991 1926 1928 1933 1935 1940 1942 1947 1949 1954 1956 Small and Large Stock Returns Tend to Be Cyclical 36-month rolling period returns 1926–2007 Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Small stock excess return Jan Dec

35 Do Stock Winners Repeat? Top ten performing stocks 1986–2007 Past performance is no guarantee of future results. Annualized returns of an equally weighted portfolio of top 10 stocks by three-year return and return in subsequent three-year period (excluding the smallest 20% of the market). This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 –50 0 50 100 150 200 250 199519961997199819992000200120022004199019911992199319941986198719881989 150.9% 4.7 Average return First 3 years Subsequent 3 years 300% Annualized return 2003

36 Benefits of Bonds in a Portfolio © 2008 Morningstar, Inc. All rights reserved. 3/1/2008  Potential growth  Historically lower risk  Diversification benefits  Income generation  Expand efficient opportunities

37 Bonds Produced Greater Income 1970–2007 Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 StocksBonds Capital appreciation Income 27% 71% 2% 80% 15% 5% Reinvestment of income

38 Bonds Expand the Efficient Frontier 1970–2007 Past performance is no guarantee of future results. Risk is measured by standard deviation. Risk and return are based on annual data over the period 1970–2007. Portfolios presented are based on modern portfolio theory. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 5% Risk791113 15 1719212325 17% Return 16 15 14 13 12 11 10 9 8 Stock portfolios Stock and bond portfolios Small stocks Large stocks Bonds

39 Adding a Bond Allocation to Diversify 1970–2007 Past performance is no guarantee of future results. Risk is measured by standard deviation. Risk and return are based on annual data over the period 1970–2007. Portfolios presented are based on modern portfolio theory. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 55% 40% 5% Return10.4% Risk10.0% Lower risk portfolio 30% 70% Return10.4% Risk11.7% Original portfolio Stocks Bonds Cash

40 Introduction to Sector Investing © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Sector  An area of the economy in which businesses have the same or related products and services. Sector funds  An investment fund that makes investments solely in businesses that operate in a particular industry or sector of the economy.  Common industries include financial services, technology, health care, energy, and utilities.

41 Pros and Cons of Sector Funds © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Owning sector funds may be an alternative to traditional investments or individual stocks Potential benefits Concentrated exposure to a single industry increases overall investment risk Potential risks Sector funds offer more diversification across an industry than individual securities Different funds focused on the same industry can have widely varying strategies Investing in sectors that have low correlation to each other may reduce the overall risk of a portfolio Individual sectors may be heavily affected by world, political and economical forecasts Sector funds allow investors to take advantage of changes in business cycles, thereby potentially targeting growth, income, or a blend Sector funds can have high management fees

42 Sector Risk and Return Comparison 1992–2007 Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 5 9 13 17% Return 5% Risk15202530354010 Telecom Media Software Hardware Financial services Business services Health care Consumer services Utilities Industrial materials Energy Consumer goods

43 Annual Sector Winners and Losers High and low returns 1998–2007 Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 –4.5% –3.8% –60 –40 –20 0 20 40 60 80 100% 1998199920002001200220032004200520062007 Financial services Energy Utilities Software Hardware Telecom Hardware Health care Media Software Utilities Consumer services Consumer goods Hardware Energy TelecomEnergy –11.2% –46.2% –32.9% –41.3% 9.0% –11.0% 7.9% 66.9% 97.0% 55.5% 10.4% –4.1% 65.3% 33.0% 34.4% 35.6% –15.9% 37.2%

44 Bull Market Performance Sector performance relative to the overall U.S. market Past performance is no guarantee of future results. Time period represented herein is Oct 1996 to Jul 1998. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Business services Energy Health care Telecom Financial services Media Software Utilities Industrial materials Consumer goods Consumer services Hardware U.S. market: 33% return Underperformers Outperformers 0 10 20 30 40 50% Return 15% Risk2025303540

45 Bear Market Performance Sector performance relative to the overall U.S. market Past performance is no guarantee of future results. Time period represented herein is Feb 2001 to Jul 2002. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Consumer goods Consumer services Financial services Energy Industrial materials Health care Utilities Media Software Telecom Hardware Business services U.S. market:–23% return –50 –40 –30 –20 –10 0% Return 10% Risk1520253035 Underperformers Outperformers

46 Historical View of Returns by Industry 1992–2007 Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Percentage of positive/negative 12-month returns Range of 12-month rolling returns Positive Negative 0 50 100% –50 0 50 100 150% Consumer goods BusinessIndustrial materials Consumer services Health care UtilitiesEnergyFinancialTelecomMediaSoftwareHardware 19% 24% 17% 24% 23%22%21% 19% 28%27% 19% 26% –19.6% –32.0% –28.3% –20.5% –22.5% –19.4% –46.0% –60.0% –68.3% 39.7% 40.4% 47.7% 55.5% 55.3% 70.2% 74.2% 97.0% 124.9% –27.2% 55.0% –28.6% 55.5% –56.9% 70.6%

47 Real Estate Beyond Your Home © 2008 Morningstar, Inc. All rights reserved. 7/1/2008 Traditionally, investing in real estate has been synonymous with buying a home. For years, opportunities in commercial real estate, either indirectly through real estate investment trusts (REITs) or directly through private transactions, were classified as alternative opportunities that were mostly available to institutional investors. Today, real estate investing has gained more popularity among investors around the globe. With increased access to commercial real estate through REITs, competitive historical performance, potential diversification benefits, and the increased globalization of commercial real estate, this once alternative sector now has a place in a diversified portfolio.

48 Consistent Long-Term Performance Compound annual returns 1972–2007 Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 7/1/2008 8.7% 11.2% 13.0% 14.3% 15% 10 5 0 BondsLarge stocksEquity REITsSmall stocks

49 Reliable Income Returns Equity REIT annual returns, past 20 years Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 7/1/2008 –30 –20 –10 0 10 20 30 40% 1988199319982003 53 Price return Income return % of total return from income 20-year averages (%) 7.2 6.1 Price return Income return Average annual income return Total return13.7

50 Potential to Reduce Risk and Increase Return Stock and bond investors 1972–2007 Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 7/1/2008 Stocks and bondsWith 10% REITsWith 20% REITs Return:10.6% Risk:10.7% Sharpe ratio:0.42 Return:10.9% Risk:10.5% Sharpe ratio:0.47 Return:11.3% Risk:10.4% Sharpe ratio:0.50 10% 45% 40% 10% 20% 10% 50% 35% 40% 30% Stocks Bonds T-bills REITs

51 Direct Commercial Real Estate © 2008 Morningstar, Inc. All rights reserved. 7/1/2008  Unlike REITs, direct investment in real estate is not traded on an exchange  Traditionally part of the asset-allocation strategy for pension funds and large institutional investors  Direct control  Ability to select individual properties  Investment performance characteristics  Competitive risk-adjusted returns  Low volatility of returns  Low correlation with other investments

52 Diversification Through Global Real Estate © 2008 Morningstar, Inc. All rights reserved. 7/1/2008  For most of the past 36 years, the United States and Australia have provided investors with the majority of opportunities for investing in publicly traded equity REITs and listed property companies  Introduction of REITs and publicly traded real estate in Europe and Asia has created new investment opportunities abroad  Global real estate investments have low correlations to other asset classes  May provide additional diversification benefits

53 Global Returns Stocks, bonds and real estate 1990–2007 Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 7/1/2008 9.6% 8.1% 7.4% 0 2 4 6 8 10% Return Global real estateGlobal stocksGlobal bonds

54 Potential to Increase Return and Maintain Risk 1990–2007 Past performance is no guarantee of future results. *Global real estate portfolio composition—North American Real Estate 8%, European Real Estate 1%, Asian Real Estate 1%. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 7/1/2008 Return9.7% Risk11.1% Sharpe ratio0.50 Sample portfolio Return10.3% Risk11.1% Sharpe ratio0.55 Sample portfolio with 10% RE Stocks International stocks Bonds Global real estate 33% 10% 30%

55 Why Invest Outside Your Home Country? © 2008 Morningstar, Inc. All rights reserved. 3/1/2008  Additional investment opportunities  Growth potential  Diversification benefits  Expand efficient range

56 World Stock Market Capitalization Year-end 2007 Capitalization calculated at year-end 2007. Total market capitalization is $39.1 trillion. Estimates are not guaranteed. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 United States 43% 27% 11% 9% 6% 4% Other Europe Japan United Kingdom Other Pacific Canada International:

57 GDP by Region Five-year average annual percentage change 2003–2007 Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 India 8.5% Japan 2.0% Canada 2.7% United States 2.8% United Kingdom 2.8% China 10.6% Australia 3.3% Brazil 3.6% South Africa 4.5% U.A.E. 9.4% Russia 6.9%

58 Global Household Names © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Health care  Merck & Co (US)  GlaxoSmithKline (UK)  Novartis (Switzerland)  Roche (Switzerland)  Bayer (Germany) Technology  Microsoft (US)  Samsung (Korea)  Fujitsu (Japan)  Nokia (Finland)  LG Electronics (Korea) Financial services  Citigroup (US)  HSBC Holdings (UK)  Allianz (Germany)  Deutsche Bank (Germany) Automobiles  Hyundai (Korea)  Ford (US)  Honda (Japan)  Toyota (Japan)  Volkswagen (Germany) Telecoms  AT&T (US)  Deutsche Telekom (Germany)  BT Group (UK)  NTT (Japan) Consumer non-durables  Procter & Gamble (US)  Nestlé (Switzerland)  L’Oréal (France)  Colgate-Palmolive (US)  Unilever (UK)

59 Global Stock Market Returns Highest and lowest historical annual returns 1970–2007 Past performance is no guarantee of future results. Each bar shows the range of annual total returns for each region over the period 1970–2007. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 – – – – 11.0% 12.3% 11.6% Compound annual return: 11.1% 26.5% 23.2% 22.8% 34.3% 107.5% 79.8% 69.9% 37.4% Annual ranges of returns 120% 100 80 60 40 20 0 –20 –40 PacificEuropeInternationalUnited States

60 Global Investing 1970–2007 Past performance is no guarantee of future results. Hypothetical value of $1 invested at the beginning of 1970. All values in U.S. dollars. Assumes reinvestment of income and no transaction costs or taxes. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 $5.60 $25.53 $33.70 $54.05 $64.03 $100 10 1 0.10 19701975198019851990199520002005 11.6% 11.1 9.7 8.9 4.6 Compound annual return International stocks U.S. stocks International bonds U.S. bonds U.S. inflation

61 World Stock Markets Exhibit Different Performance High and low returns 1998–2007 Past performance is no guarantee of future results. Returns expressed in U.S. dollars. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Finland Spain Finland Switzerland New Zealand Greece Austria Canada New Zealand Japan Belgium Greece Finland Germany Finland Ireland Norway Ireland 175% 125 75 25 0 –25–25 –75–75 1998199920002001200220032004200520062007 4.9% 5.5% U.S. annual return 28.6% 21.0% –9.1% –11.9% –22.1% 28.7% 10.9% 15.8%

62 Comparing U.S. and International Stock Performance Average returns over 10-year holding periods Past performance is no guarantee of future results. Based on data from 1974–2007. Calculated using rolling 10-year average returns. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 0 5 10 15 20 25% 198319861989199219952007 U.S. stocks International stocks 199820012004

63 The Risks of International Investing © 2008 Morningstar, Inc. All rights reserved. 3/1/2008  Currency risk  Economic/political risk  Market liquidity risk  Differences in accounting standards  Costs of investing internationally

64 The Impact of Currency Fluctuation 2007 Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Return to local investors Currency impact Return to U.S. investors United States Pacific region Japan European region United Kingdom International composite 5.5%0.0%5.5% –1.4%7.0% 5.6% –10.1%  6.1% –4.0% 6.5%7.9%14.4% 6.6%1.5%8.1% 4.0%7.6%11.6%

65 Differences Between Developed and Emerging Markets © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Developed countries  Established and stable economies with strong consumption activities and ample resources.  Ex. Australia, Canada, Japan, Germany, U.K., U.S. Emerging countries  Countries that are starting to participate globally by implementing reform programs and undergoing economic improvement.  Ex. Brazil, China, Mexico, Thailand, Russia, Israel.

66 Emerging Market Performance Risk and return 1998–2007 Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Emerging Latin America Emerging Asia Emerging Mideast and Africa Emerging Europe 0 40% 30 20 10 Risk Return 39.9% 39.7% 27.7% 19.9% 19.0% 16.5% 32.6% 16.5%

67 Emerging Markets Are More Volatile 1988–2007 Past performance is no guarantee of future results. All values are expressed in U.S. dollars. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 0.9% 13.7% 11.9% 12.4% 10.6% 25.0% 9.4% 7.2% 7.6% 8.3% Developed marketsEmerging markets 150% Return 125 100 75 50 25 0 –25 –50 –75 AustraliaU.S.GermanyU.K.JapanMexicoKoreaTaiwanJordanPhilippines * compound annual return *

68 Undeveloped Opportunities 1988–2007 Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Returns as of December 2007 0 40% 10 20 30 1yr5yr10yr20yr $206,400 $93,296 Emerging markets United States 39.8% 5.5% 37.5% 12.8% 14.5% 5.9% 16.3% 11.8% Growth of $10k 80 $240k 2003199819931988 0 160

69 Investment Vehicles Index versus active management Mutual funds Exchange Traded Funds (ETFs) Private investment managers

70 Pros and Cons of Active and Passive Management © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Active Passive (Index)  Potential to outperform  Professional management expertise  May add more value in less efficient asset classes  Lower cost  Lower turnover/more tax efficient  Tend to have higher fees and expenses  Majority do not outperform benchmark  Upside potential is limited to index performance  Limited selection of index funds in some categories ProsCons

71 Many Mutual Fund Investment Categories Exist © 2008 Morningstar, Inc. All rights reserved. 3/1/2008 Domestic-stock funds  Large-/Mid-/Small-cap  Growth/Blend/Value  Specialty  Target Date Taxable-bond funds  Domestic/International  Corporate/Government  Short-/Intermediate-/ Long-term  High/Medium/Low quality Municipal-bond funds  Single state/National  Short-/Intermediate-/ Long-term International-stock funds  Foreign  World  Regional  Emerging market Money market funds

72 What are Exchange-Traded Funds? © 2008 Morningstar, Inc. All rights reserved. 7/1/2008  Index fund  Track one specific index  Buy/sell like stocks  Price set by underlying index

73 What Kinds of ETFs are Available? © 2008 Morningstar, Inc. All rights reserved. 7/1/2008  Track a variety of indexes  Domestic and global  Sectors or industry groups  Style-specific such as growth and value  Equity and fixed income  May focus on market capitalization (small-, mid- and large-cap)  May concentrate on characteristic based diversification (dividend income)

74 Pros and Cons of ETFs © 2008 Morningstar, Inc. All rights reserved. 7/1/2008 Pros  Tool for implementing asset allocation strategies  Passive diversification  Transparency of price  Tax efficiency  Protection against cash drag  Cost advantages Cons  Brokerage costs  Market pricing  Relatively new with limited track record  Limited selection in certain asset classes. For example: fixed-income ETFs

75 Class Summary Investment management performance Risk and return characteristics of investments Asset allocation as a risk management tool Investment vehicles


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