October 16, 2006

Dear Client:

The major asset classes, shown below, all had positive returns in the third quarter, as well as for year-to-date, one-year, 3 years and 5 years.

The returns are good news, but interestingly, the average investor is not smiling. A financial market research firm, Dalbar, Inc. recently published a study of investors' returns from 1986 through 2005. The findings are startling:

Further supporting the data, in the "Mutual Funds Report" section of last Sunday's New York Times, the title of the front page article was "Why Your Fund Beat the Average, but You Didn't". John Bogle, the founder of Vanguard mutual funds, examined the 200 equity mutual funds with the largest money flows in the ten years ending in 2005. Those funds reported average returns of 8.85% annually, but the average investor in those same funds during the same period had returns of 2.4% annualized.

The difference results from market timing. Investors pour their money into funds with the best recent performance. The funds then underperform (ironically, largely as a result of being flooded with new money), and investors pull their money out. Expecting a "market correction" the investor cashes out, sits on the sideline, only to miss the subsequent recovery. In our own experience, it is when we receive the largest number of calls from clients who expect the markets to drop that we see the best portfolio returns. Academics and market analysts call it a "contrarian indicator"; we call it "being human".

Still, it is puzzling, since it is easier to earn the 11.9% than it is the 3.9%: just buy the Vanguard 500 Index fund and leave it alone.

Tax Law Changes

Two important changes to the tax code were enacted this year: The Pension Protection Act of 2006 and the Tax Increase Prevention & Reconciliation Act ("TIPRA"). These tax acts contain several important provisions:

• The opportunity for non-spouse beneficiaries to inherit a 401k*, roll it into an inherited IRA, and take distributions over his or her lifetime. Until now, non-spouse beneficiaries had to take the distribution in a lump sum, or at most, over five years. This is a tremendous benefit for unmarried partners.

• Starting in 2010, the income restriction on Roth IRA conversions will be eliminated. Currently, only taxpayers with gross incomes under $100,000 could convert regular IRAs to Roth IRAs (One of the great benefits of a Roth IRA is that you never have to take distributions and you can pass it to a child or grandchild, who can take distributions over his or her lifetime, all tax-free).

• Further, 401k* plans can be converted to Roth IRAs.

• 529 Savings Plan distributions are made tax-free permanently (previously the tax-free feature was eliminated in 2011).

• Automatic enrollment in 401k plans.

• Increased AMT exemption amounts extended for 2006 (without TIPRA the exemption amounts would have reverted to lower exemptions in force before 2003).

• Lower capital gain and qualified dividend tax rates of 15% extended through 2010 (without TIPRA, in 2008 the rates would have reverted to higher rates in force before 2003).

• Two year provision for tax-free IRA distributions to a charity, for taxpayers older than 70½ years. Although this provision serves a very small group of taxpayers, and is in force for a very short period, it is a good opportunity for tax savings.

• Elimination of the "kiddie tax". Until now, investment income earned by children older than 13 was taxed at the child's individual tax rate, presumably much lower than the parents' tax rate. Beginning in 2006, the investment income of a child up to age 18 is taxed at the highest marginal rate of the parents, i.e., added "on top" of the parent's income and taxed at the parents' applicable rate.

In anticipation of the 2010 Roth conversion opportunity, we advise you to make non-deductible IRA contributions each year, with the expectation of conversion in 2010. If most of your retirement assets are currently in a 401k and you accumulate an IRA consisting largely of non-deductible contributions, you will have a unique conversion opportunity in 2010 with little tax cost.

Identify Theft and Data Protection

The incidence of identity theft has skyrocketed. Please take a minute to request a free credit report from www.annualcreditreport.com. You are entitled to obtain one free report every 12 months from each of the three major reporting companies: TransUnion, Experian, and Equifax. You can get a free credit report every four months by rotating the request between companies.

If we could order these for our clients, we would. We can, however, remind you periodically to request your report. We are also happy to review the reports for you, if you forward them to us.

Please, please, please, order your report and confirm that no one has applied for credit in your name. Please check your credit card statements each month and confirm that all the charges are yours.

Hundreds of thousands, even millions, of records of Social Security numbers and other sensitive information have been recently compromised. Hardly a week passes without a report of the theft of a laptop containing personal information that was taken out of the office by an employee or consultant of a financial institution, government agency or university.

At Grubman Financial, all client information is stored on our server. Our employees occasionally work from a remote location by connecting to our server, but no one ever removes data files from the office.

We encrypt and password-protect our data backups, which are stored in an offsite location and in a safe deposit box.

Help Us Help You

Our client management system makes it easy to set up reminders for our clients, from making estimated tax payments to paying property taxes to rebalancing unmanaged 401k accounts. Sometimes a reminder is all that's needed to accomplish a mundane task, such as starting an estate plan or reviewing insurance coverage. I jokingly say that part of our service includes professional nagging (only with your permission, of course).

We welcome your suggestions for improving any aspect of our service. Please feel free to share your ideas, or to contact us at any time.

Regards,

Audrey Grubman

*401k plans and all other qualified retirement plans