October 1, 2007

Introducing John Forlines

Remarkably, the third quarter ended very strongly and Core’s portfolios earned good gains.The US dollar has fallen sharply in recent weeks, boosting the value of our foreign investments.

I am happy to announce that John Forlines III, with whom I have been working for some time, has joined Core as its president. John and I met several years ago as members of the investment committee of a private investment firm run by a mutual friend. We realized that we had compatible investment ideas and came to respect each other’s work and views. John had had a successful twenty year Wall Street career in various investment banking activities at JP Morgan. He managed money for family members and other private clients. We decided in 2004 that he would place these accounts under Core’s supervision, that he would assist me in managing Core’s client assets, and that I would work with him with his clients.

In the three years since then, we have come to realize that our initial favorable views of each other were well founded and we have worked ever more closely together. To formalize the relationship makes good sense. For some time I have wanted to strengthen Core, to provide more depth in our activities, and to build the company further. I believe that I have accomplished this by bringing John more closely into the company. I remain as Chairman of Core and as fully involved as ever. I welcome John to Core and look forward to introducing John to you in coming months. You may reach John by email at jforlines@coreasset.com, or by phone through our office, 415 332 2000 or 800 451 224.

Investment Gains in an Eventful Third Quarter

Contrary to what seemed likely just six weeks ago, the summer quarter produced solid gains in Core’s portfolios. In the aggregate, Core’s accounts appreciated by 3% in the third quarter and 11% for the year to date. (As always, there is variation among individual accounts, because of differing investment goals and risk levels.) The period from the middle of July through the middle of September was one of most volatile periods for financial markets in decades. From mid July through mid August, the stock market fell by 10 percent. Even more significant and alarming were events in credit markets around the world. Day to day borrowing and lending among banks and other financial institutions nearly ground to a halt. Large banks in Britain and Germany had to be bailed out, as they lost their ability to fund their operations. It suddenly became impossible to value many kinds of securities, especially, but not only those involved with sub-prime mortgages. Lenders were unsure whether the institutions to which they had been loaning funds were, in fact, creditworthy. The Federal Reserve, the European Central Bank and other central banks took a number of dramatic steps in an effort to maintain flows of credit.

Central bank actions, including the Fed’s unexpected one-half percent cut in the fed funds rate two weeks ago, restored confidence in many financial markets and gave rise to equity market rallies that have restored most of the late July and early August losses. But there is still considerable disruption in the commercial paper market; credit market problems have certainly not yet been resolved.

Astute observers of the banking system and financial markets, including Warren Buffett and Paul Volcker, have warned that the explosion of derivative financial instruments over recent decades presents significant risks to the functioning of global financial markets and banking. In these letters, I have written about this several times, expressing my perceptions of these risks. Because of my concerns, Core has held large portions of your investment capital in US and non-dollar money market funds and high grade US and foreign bonds for several years. At present, about 36% of the capital Core manages is invested in these assets. In the last three years, the range for money funds and bonds has been from one third to slightly more than one half. I do not believe that we have yet seen the last of the credit and financial market problems arising from the bursting of the housing bubble and sub-prime mortgages. My present plan is to wait before increasing the level of our equity investments.

Disruption in investment markets may not be over. We plan to wait before adding to equity positions. We may make changes in some equity investments without adding to overall equity positions.Over the next several years, we expect equity markets outside the United States to be stronger than US markets and we will focus investments abroad. Water, alternative energy and oil-related investments will continue to appreciate. The US dollar may well decline further.

Because the dollar has fallen so sharply this year, our large holdings of foreign currency money market funds have been very productive. Returns for our two principal foreign currency investments, the Euro Currency Trust and the Franklin Templeton Hard Currency fund have appreciated by 15% and 11% this year respectively. We are being paid well to limit our exposure to risky equities. Oil prices and the stocks of energy-related companies have been very strong all year. Even better, our investments in alternative energy have exceeded the returns from oil-related investments. Water investments, utilities, and most of our equity investments in developing markets have flourished. In coming years, I expect that foreign economies and foreign markets will grow faster than the US economy and markets, that water will be an increasingly precious resource, that alternative energy will be ever closer to the heart of global growth, but that oil will remain the key energy source. Core’s investments will reflect these themes. These are the investment opportunities, now and for some years to come.

While these opportunities beckon, the recent crisis in credit markets has shown that the paramount need is to control risk. As of this writing, the financial market crisis appears to have passed without wreaking undue havoc. But one misreads the nature of investment risk if one believes markets are now safe, just because stock markets rallied sharply from mid-August lows. The complexities of the world’s interconnected financial markets and banking systems are such that no one can know where risk lies and from where it will emerge to cause damage. We will do well to continue our cautious approach, to keep strict limits on the level of our risky investments, to keep significant reserves of high-grade, short-term fixed income investments, and to hold large non-dollar investments. Please call or email me (JNMayberry@coreasset.com) if you wish to discuss your investments.