MEDLEY & BROWNFINANCIAL ADVISORS

795 Woodlands Parkway, Suite 104Ridgeland, MS 39157

P.O. Box 16725Jackson, MS 39236-6725

PRSRT STDUS POSTAGE

PAIDJACKSON, MSPERMIT #369

BalancedAccounts

5 Years 8.82 % 9.87 %

10 Years 8.83 % 9.39 %

15 Years 9.55 % 10.42 %

MEDLEY & BROWNComposite Performance*

Average Annual Time-Weighted Returns (%)Period Ending March 31, 2007

GrowthAccounts

*All client portfolios invested primarily in mutual funds with acombined allocation of less than 18% in cash and bonds areincluded in the Growth Composite. All client portfolios investedprimarily in mutual funds with a combined allocation of 18% ormore in cash and bonds are included in the Balanced Composite. Performance is net of management fees and reflects the averagetime-weighted return for all portfolios included in our Growth orBalanced Composite. Performance data includes reinvestment ofdividends and capital gains distributions and changes in principal value. The larger a portfolio is in relation to others inthe composite, the more weight its performance will have in thecomposite’s time-weighted return. For several reasons including,but not limited to, asset allocation and investment choices, theperformance of individual portfolios in the composite may varysignificantly with some higher and some lower than the average.An analysis of variance is available upon request. Past performance may not be indicative of future results. Investmentreturns and values of client accounts fluctuate such that at anytime an account’s value may be worth more or less than the totalpayments into the account. Because accounts contain both USand international securities, results will depend on both management performance and underlying market and economicconditions throughout the world.

Spring 2007 Investment News

A Better Alternative?

Although the stock market has turned in four positiveyears in a row amid relatively low volatility, manyinvestors are still feeling the effects of the nasty 2000-2002 bear market. Additionally, the bond market hasnot provided much of a lift since 2002. In search ofhigher and/or perceived steadier returns, investorshave increasingly turned away from traditional stocksand bonds and have instead been pouring money intoAlternative Investments. (We capitalize this term herebecause many institutional investors, including thestate of Mississippi’s retirement system, now considerthis to be a separate asset class.) As a result, twocategories within this investment arena -- hedge fundsand private equity funds -- have seen their businessboom. It has been reported that in less than six years,the world’s largest private equity firm, New York-basedBlackstone Group, has seen its assets undermanagement leap from $14 billion to $78 billion.

The huge appetite for alternatives has resulted inexplosive growth in the number of management firms

and investment funds. A recent tally shows more than8,000 hedge funds managing over $1.2 trillion and morethan 2,700 private equity firms managing another $500billion. The impact of this tremendous growth is beingfelt in several areas such as manager compensation,manager quality, risk levels, asset prices and ultimately,net investment returns.

Hedge Funds and Private Equity Explained

The name “hedge fund” is a bit of a misnomerconsidering that “hedge” means to reduce or toeliminate investment risk. In reality, hedge funds mayassume much risk. The term hedge fund has come torefer to loosely-regulated private investmentpartnerships, many of which employ various financialstrategies including short selling, arbitrage, investing inderivatives and using leverage, among others. Thereare some hedge funds, however, that simply purchasestocks and bonds using little or no leverage, derivativesor other unusual strategies.

In the News

In the November 3, 2006 cover story ofMedical Economics magazine, Tim wasagain recognized as one of "the 150 bestfinancial advisers for doctors."

Tim was quoted on the subject ofinvestment allocation to internationalfunds in a November 7, 2006 Barron'sOnline article by Lawrence Straussentitled "Is Your Portfolio InternationalEnough?"

Kevin was recently quoted in SchwabInstitutional’s Market Knowledge Tools(MKT) publication on the subject ofconducting client surveys. Medley &Brown was one of four firms fromaround the country featured in the MKTHow-To Guide.

Call us or visit our website today for more information:601.982.4123 • 1.800.844.4123 • www.medleybrown.com • mb@medleybrown.com

TIM MEDLEYPresident, Client Advisor; Founded Medley& Brown 1988; Among Worth magazine’s 250Best Financial Advisors in America 1998 -2002 and Medical Economics magazine’s 150Best Financial Advisors for Doctors; FirstCertified Financial Planner in MS 1977; BSBusiness and Accounting University ofSouthern Mississippi.

CECIL BROWNVice President, Client Advisor; Joined Medley& Brown 1995; Previously with InvestekCapital Management; Chief Fiscal OfficerState of Mississippi 1988 - 1992; FounderTann, Brown & Russ, CPAs; Member AICPAand MSCPA; Personal Financial Specialist(PFS); MPA The University of Texas; BAUniversity of Mississippi.

KEVIN ANTHONYClient Advisor; Joined Medley & BrownJanuary 2001; Former Vice President ofFinance and Chief Financial Officer AtlantaFalcons; MBA Finance and ManagementEmory Business School; Woodruff ScholarEmory University; BA Economics andPsychology University of North Carolina atChapel Hill; Phi Beta Kappa.

JULIUS RIDGWAY, CFAPortfolio Manager; Joined Medley &Brown July 2002; Investmentadvisor/portfolio manager since 1999;Trustmark National Bank 1989 - 1997;Member MS Society of Financial Analysts;M.Sc. Accounting and Finance LondonSchool of Economics; MBA MillsapsCollege; BA University of Mississippi.

INVESTMENT PROFESSIONALS

they saw Bill Nygren, portfolio manager of the OakmarkSelect, Oakmark and Oakmark Global Select funds.

While in Chicago, the group also visited the investmentresearch firm Morningstar where they met with Director ofMutual Fund Research Russ Kinnell and Stock Analyst MitchCorwin.

In March, Kevin attended Thornburg InvestmentManagement’s Investment Masters Conference in Santa Fe,NM. Among those making presentations were President andChief Investment Officer Brian McMahon and PortfolioManager Bill Fries, a former Morningstar International FundManager of the Year.

the business, regardless of their experience, accomplishmentsand qualifications.

What About Risk?

As The Economist described them in a February 10, 2007 story,“Private equity firms borrow heavily to buy companies -- theequivalent of a gambler borrowing money to double his bet.”For some time now, funds that have been loading theirinvestee companies up with debt have had the wind at theirbacks with a steadily growing global economy, easy money,low interest rates and very little volatility in the investmentmarkets. Many are making investment decisions under theassumption that this sunny economic environment will go onforever. Out of this backdrop has been born the misguidedperception that these strategies involve taking very little riskto achieve higher returns.

Accomplished Schroders bond manager David Baldt said in arecent conference call, “…if nothing goes wrong, it will work,”but he warned that risk was being mispriced and thattremendous leverage was being used to “raise your rate ofreturn beyond the natural rate of return.” At the 2004Berkshire meeting, Warren Buffett offered these thoughts onusing leverage: “We just don’t believe in a lot of leverage.Almost anything can happen in financial markets. If you canhold investments during financial disasters, then you willhave no problem. It’s leverage that gets you clobbered. It’sthe one thing that can prevent you from playing out yourhand.”

Another voice of reason, Wharton finance professor Dr.Jeremy Siegel, pointed out last October, “Investors must beaware that the history of hedge fund performance is far tooshort to reveal the true risks hidden in their operations.” Hiswarning came on the heels of the largest hedge fund collapsesince Long Term Capital Management (LTCM) went bust in1998. Amaranth Advisors, a previously successful hedge fundspecializing in energy trading, lost two-thirds of its investors’capital last September when it suffered a staggering $6 billionloss after finding itself on the wrong side of some highly-leveraged natural gas bets. Much like LTCM explained at thetime, Amaranth called the probability of such a loss“extremely remote”.

How Do Returns Look?

On the surface, private equity returns have looked strong. Theabove-referenced story in The Economist pointed to a study bySteve Kaplan of the University of Chicago and AntoinetteSchoar of MIT. They found that the average private equityfund generated higher returns than did the S&P 500 from 1980to 2001. However, these results do not include the fees paid to thegeneral partners who manage the funds. Once those aresubtracted, average returns drop slightly below the S&P. Anequally important finding of Kaplan and Schoar was thatperformance differences between funds were huge. Forexample, top-quartile funds earned 23% on average comparedto 4% for bottom-quartile funds.

But what about future returns? As more capital has flowedinto hedge funds and private equity funds, competition for

Spring 2007 Investment News continued

Private equity funds are also partnerships that pool investorcapital for the purpose of investing in various businessventures. Common examples include venture capital fundsthat buy private companies with the intention of fueling theirgrowth or corporate buyout funds that take troubled publiccompanies private and restructure them. In both cases, thefunds might subsequently sell the companies to anotherprivate investor or take them public. Usually, private equityfunds borrow heavily to acquire companies, infusemanagement talent into the businesses to try to improveoperations, restructure balance sheets with more debt to leverup earnings and then try to sell or go public at a higher price.

In comparison to mutual funds, both hedge funds and privateequity funds are generally characterized by much lightergovernment regulation, considerably less portfoliotransparency and an infinitely greater degree of illiquidity.Thus, investors in these alternative funds must understandthat they are granting a tremendous amount of latitude to thefund managers. Hedge fund managers argue that thisadditional latitude provides them the opportunity to generateenhanced returns.

Two and TwentyThe demand for alternative investment products has had aprofound impact on the fees that these funds are able to chargetheir investors. What started as a share-of-the-profitsarrangement has morphed into flat-fee-plus-profit-sharing.Today, these private partnerships typically receive an annualfee equal to 2% of the assets managed (not dependent onreturns) and 20% of any gain. They do not share in any losses.At the Berkshire Hathaway annual meeting in 2004, WarrenBuffett suggested that such an arrangement “is not a fairproposition” for investors. Yet they seem to pay it willingly,and sometimes they are paying even more.

In a recent letter to its mutual fund shareholders, the managersat Tweedy, Browne told of a twist that has surfaced with a newhedge fund whereby the fund is first paid 25% of the gain andthen a 3% management fee. Think about this arithmetic: in ayear in which the gross return before fees is 20%, the managerwould take home 8% (25% of 20%, or 5%, plus 3%), leaving theinvestor with 12%. However, if the gross return is 10%, themath says that the manager would get 5.5%, and the investorwould net only 4.5%.

Thus, you can see how it is possible for hedge fund managerswith considerable assets under management to earn anenormous income, even with mediocre net returns. Considerthis item as reported in an April 24th article in The New YorkTimes by Jenny Anderson and Julie Creswell: “Raymond T.Dalio, head of Bridgewater Associates, which has more than$30 billion in hedge fund assets…took home $350 million lastyear even though his flagship Pure Alpha Strategy fund posteda net return of just 3.4 percent for the second consecutive year.”That placed Mr. Dalio among the top 25 hedge fund earners for2006 according to Institutional Investor’s Alpha magazine. Thetop earner for the second year in a row was James Simons ofRenaissance Technologies who made $1.7 billion and earnedhis investors 44% after fees last year. With such rewards, youcan understand why so many money managers are flocking to

acquisitions has heated up dramatically, resulting in fewerinvestment opportunities and higher prices for targetcompanies. For example, on February 7th, Blackstone Groupset a new high for a private equity acquisition at $39 billion forEquity Office Properties. Winning this type of bidding warhas become much easier for Blackstone given the kind ofmoney it now has at its disposal. A recent warning fromhighly-respected hedge fund manager Seth Klarman, famousfor his book Margin of Safety, seems appropriate here:“Alternative investments will ultimately obey the economiclaws that apply to every investment and every asset class.There are no magic investments that make money for you nomatter what you pay for them. The more you pay, the less thereturn; the greater the competition, the less the inefficiency.”

Others seem to agree with Klarman’s forecast. Noted portfoliomanager Chris Davis of Davis Advisors in New York wrote inhis 2006 annual review, “…the combination of significantlylarger pools of capital, high fees, more competition andleverage make it unlikely the future returns of these funds willbe as good as the records being used to attract all of the newclients.” Well said. And, consider this recent remark fromHeiko Ebens, Merrill Lynch’s managing director in charge ofequity derivatives strategy: “Alpha has essentiallydisappeared” from the hedge fund industry. Alpha refers tothe extra return that a manager is able to earn above thatoffered by the market. Why pay up when the risk is higherand the expectation is for nothing additional in return?

Some Final Words on Alternatives

“…focus on the basics and avoid the latest round of WallStreet fads -- of which private equity is one.” – ReubenBrewer, Executive Director of Research, Value Line (1/30/07)

“I fail to understand why it’s a good idea for clients to takemoney away from me and give it to private equity groupswho charge higher fees for buying quoted shares at a 20%premium.” – Anonymous Mutual Fund Manager

“The more that people understand that there is no magicalway to generate 10% to 15% returns in alternative markets, themore investors will be satisfied with average returns of 8% to10% in stocks.” – Dr. Jeremy Siegel, Wharton Professor (10/2/06)

Our Recent Travels

In November, Tim traveled to Washington D.C. to attendSchwab Institutional’s Impact 2006 meeting. In addition tonumerous educational sessions, the conference featuredseveral interesting speakers including former Chairman of theFederal Reserve Dr. Alan Greenspan, University of ChicagoProfessor and Author of Freakonomics Steven Levitt, andChairman of the Virgin Group of Companies Sir RichardBranson.

In December, Tim, Cecil, Kevin and Eddie went to Chicago formutual fund due diligence meetings. At Ariel CapitalManagement, they met with Portfolio Managers CharlieBobrinskoy and Tim Fidler of the Ariel Focus fund and MattSauer of the Ariel Appreciation fund, and at Harris Associates,

Cecil, Kevin and Eddie between meetings in Chicago

Tim Fidler, Matt Sauer and James Smith of Ariel Capital Management

A New FaceWe are pleased to announce that Beckie Jones hasjoined the firm as an operations team member.