Dear Sir/Madam:

During the third quarter ending in September 2010, equities clearly began a rebound, but remained highly volatile. Small cap stocks ran up in June (Russell 2000 Index up 6.79%), got pounded in August (Russell 2000 Index down 7.50%), and en­joyed a huge run in September (Russell 2000 Index up 12.30%). While we would love to get on the “everything is back to fine” bandwagon, it’s hard to ignore the enormous commitment to more federal stimulus as a possible explanation for this dramatic run-up in equities. And, frankly, such extreme volatility is not generally associated with clear-cut bull markets.

Russell 2000 Index Q3 2010 Performance

Source: Yahoo Finance.

Some Strong Coffee

Volatility is once again the order of the day. While equities have been on a tear recently, overall market sentiment remains highly ambiguous. The U.S. government is back to “quantita­tive easing,” the euphemism for direct intervention in various debt markets. Essentially, the government floods the banks with cash, artificially driving down long-term interest rates. This has led to long-term concerns over the value of the U.S. dollar, which plunged during the third quarter. As the dollar depreci­ated, commodity prices took off, especially gold, which reached record highs. Concerns over the dollar and the health of the U.S. economy have diverted investors’ attention towards emerging markets. According to Bloomberg, the Sri Lanka stock market was up 111% YTD as of the end of September, beating Mongolia, which only returned 109.7%. At a P/E of 28, that’s some strong coffee. Drink it if you like, but watch out for the bubbles.

Positioning For the Long-Term

It’s gratifying to see that some of our favorite long-term ideas performed well during the quarter. Technology names have re­sponded nicely to an environment of renewed takeover interest and hopes of a stabilizing economy. Asset rich oil and gas com­panies started to reflect their intrinsic values. The moratorium on deep water drilling in the Gulf has been lifted (sort of) and we remain firmly convinced that oil companies will work hard to access the vast oil wealth stored below deep water.

U.S. Treasury securities will remain held-aloft by federal policy, despite a growing body of political objection. Treasury bonds will eventually fall off a cliff, however, we have no ability to predict how long that will take. As always, we are positioning ourselves for the long-term and not trying to time the market. We feel so strongly about this issue that we have launched an Alternative Fixed Income program for our clients.

Life at Wanger

The Alternative Fixed Income Strategy is designed to act as a bond replacement portfolio, targeting total return (growth + yield) with an extremely low correlation to the bond market (in­terest rates). Our goal is to provide solid current returns while positioning our clients to withstand the eventual (inevitable?) popping of the bond bubble.

Wanger OmniWealth, our multi-family office, multi-man­ager wealth management solution, continues to thrive and grow under the leadership of Don E. Scott and Suzanne Campion.

I continue to work with analysts Lee Wolf and Joel Hains­further, our investment committee, and the good folks at Asset Consulting Group to uncover long-term investment opportuni­ties. It has been a crazy year and the markets have been extreme­ly volatile, leading most investors to adopt a short-term outlook. We reiterate that in times like these, it is essential to stay focused and think like a long-term investor. We are thinking like long-term investors on your behalf, and we are very excited about what the future holds.

Email us at: info@wangerinvestments.com or visit us on the web at: www.wangerinvestments.com or www.wangeromniwealth.com.

Best,
Eric Wanger, JD, CFA