Our analysis of current economic trends suggests that there is a high probability that the U.S. economy is either in, or about to enter, a recession. We have felt for some time that the industrial portion of the economy was contracting. While the ability of the consumer sector to withstand the weakness in the manufacturing sector has been quite impressive, our judgment is that this is likely to end soon. Given this view, expectations for a rebound in economic growth and earnings in the second half of 2001 are too optimistic. The good news is that we must actually enter the economic contraction before we can begin to look towards the inevitable economic upturn.
Recessions are an inevitable, and ultimately healthy, part of the normal business cycle.
The Fed's aggressive easing of monetary policy during early 2001 is appropriate given the substantial weakness evident in the economy. Inflationary pressures have receded meaningfully over the last several months, which gives the Fed considerable leeway to ease monetary policy further over the near-term. We expect the Fed to continue to reduce short-term interest rates in an ongoing effort to stabilize the economy. We continue to believe that in an environment of earnings risk and economic uncertainty the prudent strategy is to emphasize companies with predictable earnings and reasonable valuations. Consequently, we continue to focus on upgrading business models in the portfolio, while avoiding companies with deteriorating fundamental outlooks.