Special Market Update — introducing the "Paid to Wait List" — opportunity in a tough and volatile market

William F. (Ted) Truscott, Chief Investment Officer
Oct. 10, 2008

Prepared with the assistance of: Michelle Keeley, Jennifer Ponce de Leon, Scott Schroepfer, Brian Lavin, Dave Greavu, Tim Masek, Tim Doubek, Dan Segner, Nick Thakore, Peg Sibbet, Tom Murphy, Julene Melquist, John Schonberg, Steve Schroll, Paul Stocking, Laton Spahr, Warren Spitz, Clay Hoes and Larry Alberts

The past few market updates have provided a discussion on the extraordinary steps that the U.S. government and its agencies have taken to stem an extremely serious credit crisis. I will certainly continue that discussion in this special market update, but also wish to further present another theme. This theme expands on my belief that there is always opportunity in the marketplace. Even amidst all of the volatility and fear, there are extraordinary values in both the bond and stock markets right now.

With the aid of my colleagues at RiverSource Investments, we assembled a list I call the "Paid to Wait List." The investment premise is simple. These are stocks and bonds of relatively large and stable companies that offer high dividend yields or high yields to maturity. While there are risks to owning these securities, the presence of a high dividend or high yield to maturity (further expressed as a spread over a risk-free Treasury note) tips the risk/reward balance in the investor's favor. In essence, we believe that as a manager of a diversified portfolio, we are being paid to wait for economic conditions around the world to improve.

It will definitely take some time for the economy to improve, but a solid bond coupon or a high dividend yield, along with the hope of some modest price appreciation in the future, represents a good investment opportunity in today's market. Each of the securities in the list is owned in one or more portfolios managed by RiverSource Investments. RiverSource Investments, LLC is an investment management division of Ameriprise Financial.

Before introducing this list, here are some disclosures presented in plain English.

This list is not a recommendation to buy or sell a security.

The list is intended to illustrate how RiverSource Investments applies its investment strategies to find value in today's market only. These securities are owned in portfolios that often have over 100 individual positions and they may constitute a very small percentage of those portfolios. Currently, each of these securities has proven "unprofitable" as we "wait to get paid".

While we have outlined some risks for each security, it is not a full and complete list and each security could be subject to large price fluctuations given the limited liquidity present in today's market. Dividends and/or yields may fluctuate. Certain bonds can be called prior to maturity.

Clients should consult with their financial advisor before purchasing any security to ensure it is a suitable investment and consistent with their investment plan and long-term objectives.

Paid to Wait List

Stock or Bond	Business	Dividend Yield or Yield to Maturity	Risk	Reward
Pfizer	One of the world's largest pharmaceutical companies	6.8%	Earnings look weak after 2011	High dividend, strong cash flow
Telefonica S.A.	Spain's largest phone company with diversified interests in Latin America and Europe	5.5%	International security but trades as an ADS in the U.S.; heavily exposed to Spain's economy	High dividend yield, substantial free cash flow
Simon Property Group (SPG)	Largest owner of premier malls and premium outlets in the U.S.	4.42%	Weak consumer sales put pressure on mall tenants and lease renewals	Low debt and lots of access to capital, excellent management
AT&T senior notes 6.30% due 2038	One of the largest U.S. telephone companies	7.90%	Customers may trim spending on wireless and disconnect landlines; needs access to capital markets for capital spending	Substantial free cash flow, 1.7 million customers paying monthly fees
DISH Network 7.125% senior notes due 2016	Second-largest satellite provider of pay television in the U.S.	11.44%	Competition from cable TV; loss of subscribers due to end of distribution agreement with AT&T	Free cash flow to debt of more than 20%, strong and improving credit fundamentals
HCA, Inc. 9.25% secured second lien notes due 2016	Largest for-profit hospital operator in the U.S.	10.70%	Uncertainty around Federal reimbursement rates; potential cutbacks from state Medicaid due to weak economy	Gradual deleveraging story and potential IPO of common stock in 2010, could benefit from adoption of universal health care
Ameren (AEE)	Principally an electric utility company serving portions of Illinois and Missouri, but has natural gas customers as well	7.5%	Principally regulatory (adequate recovery of costs associated with mid-western storms and flooding)	Relatively solid balance sheet allows for maintenance of the current-level dividend in the near term
BP PLC (BP)	International integrated oil company	7.4%	U.S. and global economic slowdown will lower demand for oil and reduce prices for the commodity; potential imposition of windfall profits taxes by the U.S. Congress; exposure to Russia	Long-term supply/demand characteristics favor a continuing secular demand for energy which BP is well positioned to deliver; at 4.8 X 2008 EPS (5.1 X 2009 estimates), the stock is priced to account for near-term demand destruction

Additional market observations

Markets can and do reach all kinds of extremes. Just as the stock market reached absurd levels of over-valuation in late 1999 and early 2000, it is possible to argue that the market can reach extreme levels of under-valuation. While the markets can go lower from here — just as it seemed to keep going higher in 1999 — we can look at indicators of value, such as price-to-book value and P/E ratios.

Our chief market strategist, David Joy, tells me that the S&P 500 now sells at 1.9 times book value, and depending upon the direction of earnings, estimates somewhere between 9 and 13 times 2009 earnings. These are not demanding valuations. Price-to-book value is a measure of how much a stock is valued above the recorded value of its assets. While this has been distorted because of changes in acquisition accounting, it can be a useful measure. In the long run, the stock market is tied to the economy. A stock that sells below the book value of its assets is suggesting that an acquirer could, in theory, buy the whole company and then sell off its assets and make money.

One way to gauge value in the bond market is to look at the "spread" or percentage points above risk-free Treasury notes. A wide spread may indicate that a bond is under-valued and is also a measure of the compensation being earned for the risk. The investment grade or corporate bond market is now at a spread of 4.75% over treasuries. This is the widest spread since the Great Depression and 3% wider than the 20-year average in the market. In the high-yield or "junk" bond market, the spreads above treasuries are 11.7% — the widest on record. Yields vary significantly depending on credit quality, with double B bonds yielding an average of 10.7% and triple C bonds yielding 22.5%. Spreads can certainly get wider, but it is safe to say that at these levels there is real value in both the corporate and high-yield bond markets.

The Fed continues to act

Yesterday, the Federal Reserve announced another historic move in its effort to stem the credit crisis. It has now taken the step of effectively bypassing the banking system and lending directly to corporate customers through the commercial paper market.

Ben Bernanke earned the nickname of "Helicopter Ben" in the early part of this decade. In answering a question about the most effective way to combat the disinflation of the type seen in Japan during the 1990s, Bernanke joked that he would drop money from a helicopter if necessary. The fall in home and financial asset prices is disinflationary, and while we are not dropping money from helicopters yet, it is clear that Bernanke is using every creative tool available to him to stem the credit crisis.

The Federal Reserve also took the unprecedented action of working in coordination with other central banks worldwide to enact an emergency interest rate cut before the markets opened on Wednesday, Oct. 8. The Fed lowered its fed funds rate by a half percentage point to 1.5%. In its statement, the Fed said the move was necessary because of the worsening crisis in global financial markets. These rate cuts are the latest in a series of groundbreaking moves by the world's top central banks to try to breathe life into embattled financial markets and represent a clear sign that the problems in the U.S. economy are spreading to other parts of the world.

In addition to the announced rate cuts, the Bank of England also announced a plan this morning to bail out that nation's banks, saying it would make at least $350 billion available.

We applaud the efforts of the U.S. Treasury, the Federal Reserve and the other central banks of the world as many of the actions taken have become real-world experiments of ideas that were once floated only in text books and academic journals. I believe it is safe to say that we are living in unprecedented times of uncertainty and are navigating uncharted waters that very few people alive today have ever seen before.

Emotional anguish

A good friend sent me a note yesterday. It was very painful to read. He had saved for his kids' college education, which was a few years away and was watching the market destroy his hard-earned savings. The basic question was should he sell now and save what was left or ride out the storm?

I suspect that some version of this conversation has taken place across many of the homes in America. The emotional stress of this dilemma is debilitating. The problem with writing for a large audience of clients and advisors is that each individual circumstance is different. The methods we recommend for dealing with ongoing volatility may include product diversification, buying or selling of holdings, asset allocation, and generally staying invested, but how to best weather this financial crisis will vary greatly and should be specific to each individual.

You may have to make adjustments to your portfolio and spending habits. You may wish to have a greater degree of safety in your investment portfolio or take on more risk given the values in today's markets. In some cases, you may just need to talk with someone.

The long-term investor in me suggests I would much rather be a buyer than a seller in today's market, and our list above should give you an indication of why I feel this way. However, I am more than fully aware that some individuals may not have cash to put to work in this market and others are facing painful decisions about what to do next.