LSGI Advisors, Inc Beaver Creek Drive March 23, 2011 Duncanville, Texas (972)

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1 LSGI Advisors, Inc Beaver Creek Drive March 23, 2011 Duncanville, Texas (972) Fed Survey: Household Net Worth Increases. The Federal Reserve released their latest survey of household wealth earlier this month which indicated that for the fourth quarter of 2010 household net worth increased 3.8% to $56.8 trillion. While positive, and moving in the right direction, a closer look at the data indicates several interesting trends: While household net worth is recovering it is still well below record levels and is about equal to the levels seen six years ago (in 2005). The upward trend in the net worth levels is positive, but the balance sheet for the average American is still 15% below levels seen in The value of stocks has been the main driver of the gain in household wealth over the last 24 months and stock ownership is highly concentrated in the wealthiest 10% of households. The largest impact of these gains will be on the high net worth segment of the population, which has positive implications for the sale of high end retail products. The value of real estate assets the largest asset class held by most Americans continues to decline, falling 1.6% in the fourth quarter on top the prior quarter s 4.0% drop. The S&P/Case-Shiller index of property values in 20 U.S. markets fell 2.4 percent in December from a year earlier, and 18 of 20 cities showed a year-over-year decline. Add in the fact that many of these assets are leveraged (the owner holds a mortgage secured by the property) this decline is magnified for those households with large real estate holdings. Spectrem Group Survey: Stocks Favorite Investment. In light of the trends highlighted in the Fed survey it should no be a surprise that a survey by the Spectrem Group indicates that just over one-half (52%) of wealthy households (net worth of $5 million to $25 million not including their primary residence) say stocks are their favorite investment choice for the next 12 months. Ranking second in attractiveness was cash, followed by international investments and fixed-income products. Real estate was far down on the list. The findings are especially interesting in that the survey indicated that eight-one percent said they don't believe the recession is over, and just two percent consider themselves "aggressive" investors.

2 Wealthy Households Increase. As wealth increases the number of U.S. households classified as millionaires, those households with assets in excess of $1 million excluding the primary residence, increased by 600,000 in 2010 according to the Spectrem Group. About 8.4 million American households had assets of $1 million or more at year end, a gain of 8 percent (see chart courtesy Wall Street Journal) The number of millionaire households is still below the 2007 high but is making a nice recovery primarily as a result of the surge in stock market valuations. JP Morgan notes that each 100 point gain in the S&P 500 index increases household wealth by $1 trillion and the wealth effect increases consumption by 1.5%. Spectrum also notes the number of ultra-high-networth households, defined as those with $5 million or more in investable assets excluding the primary residence, showed a strong increase to 1.1 million according to the survey. Again, stock market gains fuelled most of the increase. Households in the U.S. are estimated to number around 115 million. The Standard & Poor s 500 Index returned roughly 15% in 2010 and smaller company stocks did much better (with small cap indexes up over 25%), but the value of real estate (in this case second homes, real estate investments and the like) declined in Spectrum notes the poor performance of real estate markets limited the gain in the number of wealthy households. The Wall Street Journal indicates that in December the S&P/Case- Shiller index of home values in 20 cities declined 31 percent from its peak in July 2006 (see charts courtesy Wall Street Journal). For those households whose wealth is concentrated in the real estate sector, versus in the stock market, the household balance sheet repair has been relatively meager over the last 24 months. Over the last 5 years American s equity in their homes has declined by over 50% (see chart)! Fidelity Investments Survey. While Spectrum surveyed household wealth, Fidelity Investments surveyed household perceptions as to how much money it takes to feel wealthy. They surveyed more than 1,000 U.S. households with average investable assets of $3.5 million. Roughly 42 percent of these households claimed they did not consider themselves wealthy according to a study released this week, stating they would need about $7.5 million to feel rich. The 58 percent of respondents who said they did feel wealthy were younger on average and have a greater number of remaining years in the workforce. According to Fidelity there are about 5.5 million U.S. households with at least $1 million in investable assets (not including real estate), or about 5 percent of the population. The discrepancy between the number of millionaires identified by Fidelity (5.5 million) and the number of millionaires identified by Spectrem (8.4 million) appears to be a result of each firm s definition as to what assets are included in the balance sheet calculation. Millionaires, as defined by Fidelity, control 56 percent of the country s wealth according to their survey. Market Outlook. With the uncertainty in Libya and Japan the question is whether stocks will continue to perform well or if the major averages will relapse. Historical data and trends indicate that the probability is high the market will continue to perform well. Some of the better analysis and discussion regarding this question is as follows: 2

3 John Authers. With regard to the markets, financial columnist John Authers had an interesting article in the Financial Times this weekend on historical market reactions to large public disasters like we are now witnessing in Japan. His analysis is as follows: There has seldom been a better time to test one of investing s oldest dicta: that you should buy when there s blood in the streets. After the earthquake, tsunami and nuclear emergency in Japan, and countless tales of tragedy, there is an opportunity to do precisely that. But is it such a good idea to invest when others are suffering, and more specifically, is there an opportunity to buy Japan now?.... Garry Evans, of HSBC, researched stock market reactions to catastrophes that were to some extent similar to last week s Japanese disaster: the Kobe earthquake of 1995; the terrorist attacks of 2001; last year s Chilean earthquake; and the Taiwan earthquake of In each case, the local stock market fell between 6 and 8 per cent in the days after the disaster and remained weak and volatile for about a month. But it resumed its pre-catastrophe level in between 23 and 78 days, after which the factors that had preoccupied the market before the disaster took over. A hundred days after disaster, the affected market was always up and in one case by almost a third relative to its pre-disaster level. So disasters do, it seems, present buying opportunities.... In this case, it does look as though the old dictum is right. A predictable psychological response to a disaster has turned an already cheap market into a compelling buying opportunity. Birinyi & Associates. Last week analyst Cleve Rueckert at Birinyi and Associates issued a report that claims that once the stock market has fallen by 5 percent during a broader rally, it typically continues to decline but usually does not make it to a double digit correction. The market, as defined by the S&P 500 index, has declined by more than 5% since its February 18 th high. Over the last 55 years - since 1945 market declines of more than 5% have on average turned into 8.3% declines over an average period of 41 days. These 5% pull backs have hardly ever resulted in a bear market. In only 11 of 106 data points has the 5% correction turned out to be a bull market top. Patti Domm, Executive Editor on CNBC.com, included a 2- year chart of the S&P 500 that illustrates that these 5% declines at least recently have not turned into bear markets. Rueckert concludes that history suggests that the current decline will be short- lived, and most likely presents a buying opportunity. Laszlo Birinyi, the founder of the firm, believes the S&P 500 could climb as high as 2,853 by 2013 a potential gain of 122% from today s market levels - based off previous bull cycles. Keep in mind that smaller cap indexes, and small companies like we have in the LSGI portfolio, tend to outperform the major market indexes like the S&P 500 during bull markets (and likewise underperform in bear markets). 3

4 Mean Reversion. Barron s published an article last weekend by financial journalist/ economist Gene Epstein pointing out how market performance tends to revert to the mean over longer time periods. Over the last 140 years whenever the market returns have been poor for a five or ten year period the median performance for the next five or ten year period has tended to be much better than average. The last five and ten year returns in the market have been well below normal. According to the data when a five year period of underperformance occurs the median performance over the next five years is 9.48% (well above the 6.96% average after inflation for the 140 year period). When a ten year period of underperformance occurs the median performance over the following ten years is 8.17% (well above the 5.65% average after inflation). The data over this long period of time is statistically significant (see chart courtesy Barron s). What the analysis indicates is that based on the poor performance during the last five and ten year periods the market is poised to perform much better than normal which should be especially beneficial for smaller company stocks since they tend to be more volatile. Carl Icahn. Carl Icahn recently announced that he was going to return capital to his investors from his funds a sign some took as an indication that he was bearish on the outlook for the market. On the contrary while he is cashing out his investors he is retaining his $5 billion stake in the partnerships only now he will own 100% of the assets and to boot is making a leveraged bet on his portfolio! Here are his comments: Dear Limited Partner:... While it may sound corny to some, the losses that were incurred by investors in our funds in 2008 bothered me a great deal more, in many respects, than my own losses. Perhaps this is because over the years I have become inured to dealing with large paper losses for myself. During 2008 and part of 2009, unlike many other funds, we did not impose gates on our investors that would have prevented them from withdrawing capital from our funds if they chose to do so. Therefore investors seeking liquidity did withdraw a fair amount of cash from our funds. Additionally, rather than liquidating positions that we believed in, we infused our own new capital into our funds which provided cash for withdrawing investors. As a result, fee paying assets now constitute only 25% ($1.76 billion) of total assets in the funds of approximately $7 billion. 4

5 While we are not forecasting renewed market dislocation, this possibility cannot be dismissed. Given the rapid market run-up over the past two years and our ongoing concerns about the economic outlook, and recent political tensions in the Middle East, I do not wish to be responsible to limited partners through another possible market crisis. After careful consideration of all relevant factors, we have determined to return all fee paying capital to investors. Payments will be made in cash in April based upon values at March 31 and will be funded through cash on hand and borrowings under existing lines and not through the sale of securities in the funds... It appears the Icahn is bullish, possibly wildly so if he is leveraging his positions, on the outlook for the market financing redemptions with borrowings and retaining the portfolio positions for his benefit. We interpret this as a very bullish bet on the market by a savvy investment veteran. Merger Frenzy Continues. One of the factors that helps put a floor under stock prices is the increasing number of merger and acquisitions being announced in various sectors. Last weekend AT&T announced that it had agreed to buy T-Mobile USA from Deutsche Telekom for $39 billion a deal that would create the largest cellular carrier in the country. The merger is one of the largest since the onset of the financial crisis. Warren Buffett bought Lubrizol for $9 billion recently, and numerous smaller deals have taken place in the energy sector. Late last week Korea National Oil Corp. agreed to buy an interest in a Texas shale-oil prospect from Anadarko Petroleum Corp. in its largest acquisition this year. It also acquired an energy exploration company in Kazakhstan. The South Korea s state-owned energy company signed a contract with Anadarko to purchase a 23% stake in the Maverick basin for $1.55 billion. The company also acquired 95 percent of Altius Holdings Inc. for $515 million. The state owned company plans to invest as much as $4 billion in overseas oilfields this year to secure supplies for an economy that relies on imports for almost all its oil needs. This week Charles Schwab Corp. agreed to buy OptionsXpress Holdings Inc. for about $1 billion in stock, adding the retail options brokerage founded in 2000 to its equity and mutual fund offerings. Schwab will exchange 1.02 shares for each share of Chicago-based OptionsXpress. Based on Schwab s closing price on March 18, the transaction values OptionsXpress at $17.91 a share, roughly a 20% premium to the market price. In all, a very bullish trend for stock prices that will tend to support higher stock prices. Investment Implications. The LSGI portfolio is trading above its long term moving average, a bullish sign, and firms have for the most part announced impressive revenue and earnings growth. We remain optimistic with regard to the outlook for the remainder of 2011 and remain fully invested in firms we find attractive. We appreciate your investment with us. Your IRS form K-1 for 2010 is enclosed. As always, please call or if you have questions. Joseph R. Dancy LSGI Advisors Inc. LsgiFund.com jdancy@lsgifund.com March 23,