QUARTERLY LETTER

1st Quarter 2009 — Investment Strategy Review

“Amid this bad news, however, never forget that our country has faced far worse travails in the past. In the 20th century alone, we dealt with two great wars (one of which we initially appeared to be losing); a dozen or so panics and recessions; virulent inflation that led to a 21_% prime rate in 1980: and the Great Depression of the 1930s; when unemployment ranged between 15% and 25% for many years. America has had no shortage of challenges.

Without fail, however, we’ve overcome them. In the face of those obstacles — and many others — the real standard of living for Americans improved nearly seven-fold during the 1900s, while the Dow Jones Industrials rose from 66 to 11,497. Compare the record of this period with the dozens of centuries during which humans secured only tiny gains, if any, in how they lived. Though the path has not been smooth, our economic system has worked extraordinarily well over time. It has unleashed human potential as no other system has, and it will continue to do so. America’s best days lie ahead”

                                          — Warren E. Buffett (Berkshire Hathaway Inc. — Letter to Shareholders)


Pessimism continues to rule in early 2009, but Warren Buffett’s commentary provides the best explanation for why we are enthusiastic about the long-term investment outlook. History’s greatest investors have been wired with an innate sense of optimism and the ability to buy when others panic. Yes this is a grave time, but no more so than many past crises. It would be foolish to let the prevailing gloom cloud our vision, especially when bargains are abundant.

Bear markets do not end until the majority of investors abandon hope and this may have occurred during the first quarter. From its high in October 2007 to its recent low on March 9, the S&P 500 index fell 56.8% making it the second worst bear market since the 1929-1932 debacle (see table below).

10 Worst S&P 500 Bear Markets Since 1929
StartEndStartEnd% ChangeMonths
09/03/2906/01/3231.924.40-86.2%33
10/09/073/9/091565.15 676.53 -56.8% 17
03/06/3703/31/3818.688.50-54.5%13
03/24/0010/09/021527.46776.76-49.1%31
01/11/7310/03/74120.2462.28-48.2%21

By early March, the atmosphere had become as desperate as it gets. The AAII’s weekly sentiment survey registered 70% bears, the highest percentage in decades. Mutual funds were being hit with massive redemptions. People were even ridiculing Buffett, a few called us to say that the Oracle of Omaha had lost his marbles. The market punishes the mob and just as panic erupted, stocks began to rally, posting their largest two-week bounce in more than 70 years. It was still not enough to pull the indices into the plus column for the quarter as the S&P 500 fell 11.7%.

No one knows for certain if the bottom was reached on March 9, but the odds do not favor a replay of 1929-1932. The world would have to be careening into another Great Depression for the stock market to decline substantially from here. Today’s supercharged fiscal and monetary response should produce a better outcome. We in no way intend to minimize the brutal economic environment. Tent cities, bank failures, and layoffs do not conjure up happy thoughts, but investors must remember that stocks will revive before the economy. Do not be distracted by the political sideshow in Washington D.C. The quickest way to get the Dow back above 10,000 would be to remove all TV cameras from Congress. A little more Barney the dinosaur and a lot less Barney Frank would be a good thing.

In our year-end letter we discussed bullish factors such as a firm copper price. Copper continues to strengthen in early 2009 and should be watched closely. Some of the other signals outlined have also been positive, but we would like to see corporate bonds performing better. If the stock market is charting out a course comparable to the 1930s, investors have to be prepared for volatility. A cunning characteristic of bear cycles is that they are often interrupted by sharp advances creating a false sense of security. The March rebound could be another fake out. Therefore, investors must maintain a strict buy low, sell high discipline.

The recent dumping of stocks has not been governed by a rational appraisal of value, but instead by pure fear. Cheaper prices have made investors all the more frantic to bail out. Institutions are selling shares in order to reduce leverage, which also has nothing to do with value. The liquid nature of stocks is not always a blessing. During the boom, big players like investment banks, hedge funds, endowments, and members of the Forbes 400 borrowed to purchase illiquid assets like mortgage securities, office buildings, private equity, and vacation homes. Now when forced to de-lever and raise cash, they sell what can be sold - stocks. Again, this urgent selling has zero to do with value, and most investors are failing to recognize that it is presenting a buying opportunity. We have no clue what will happen over the next five days or five months; however, the next five years should prove rewarding for those with the courage to take advantage of the indiscriminate selling and hunt for bargains.

Mercer Capital’s approach is centered upon the “margin of safety” doctrine first conceived by Ben Graham during the 1930s. This has not prevented losses in your portfolios and it pains us deeply. Nevertheless, like Graham’s protégé Buffett, we believe that the future is bright and that history will show that 2009 was an ideal time to be a long-term investor. Thanks, as always, for your confidence and support.

3/31/09           Henry D. Mercer III

Index1st Quarter ReturnKey Int. Rates 12/31/00 3/31/09
S&P 500 -11.7% Fed-funds-0.25%0-.25%
DJIA -13.3% (worst since 1931) 3 mo. T-bill .11% .21%
  10 yr. T-note 2.25% 2.69%

* Please contact Mercer Capital Advisers, Inc. if there are any changes in your financial situation or your investment objectives or if you wish to add to or modify any restriction to the management of your account. Our current disclosure statement as set forth on Part II of our form ADV is available for your review upon request.

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