Since we are currently experiencing the second longest bull market in history, some investors are worried we are nearing the end of our hot streak and therefore should move out of stocks. I don’t recommend moving out of stocks, but I do recommend a portfolio pit stop, which is a fun way of saying stopping to reassess your current allocation. In this pit stop you can make sure that your current allocation continues to suit your risk tolerance and long-term investment goals since markets have moved up significantly.
It might seem like a review might not be necessary, seeing how neglect has actually benefited portfolios in the recent past. The problem with this is the bull market makes everyone look like their strategy is the right one. You want to make sure your allocation is right in “good times” and also right when we experience a correction.
Not rebalancing your current allocation can make a significant impact on your portfolio over time. For example, let’s say you started your portfolio five years ago with 40% U.S. stocks, 20% international equities, and 40% in core bonds, and haven’t touched it since. Since then, U.S. equities are gaining more than expected, foreign investments are lagging, and bonds are having modest returns, so your portfolio would have shifted from 40-20-40 to 52-19-29 allocation. It might not seem like a huge shift, but you now have a 70% stock and 30% bond portfolio, rather than the more conservative 60/40 you had set up. You are also five years older now and closer to retirement, so that might not be the right allocation according to your risk tolerance.
The allocation between stocks and bonds is not the only allocation that shifts. Really any allocation between assets with differing returns will shift over time. In my opinion, now is the time to take some of the profits from your U.S. holdings and add to your less expensive international stocks. As mentioned earlier, foreign stocks have lagged over the past several years, which is why I believe that now is a good time to consider increasing the weighting of foreign stocks in your portfolio. Having international stocks does not always reduce your risk, but it’s still helpful because global markets tend to move with the stock sectors that dominate their economies. Also, 70% of the stocks trade outside the U.S., so you don’t want to limit your opportunity.
Unfortunately, rebalancing can come with tax consequences depending on the type of account. If you’re rebalancing inside of a tax-sheltered 401(k) or IRA, there’s no tax consequences to hassle with. If you’re selling shares in a regular, taxable account, things can get a little trickier. If the investment has been owned for at least a year, you have to pay the long-term capital gains tax typically of about 15%. However, it is possible to get around the tax bill by donating appreciated shares of stock to a charity. When you donate an appreciated asset to charity, you owe no capital gains tax and also get to claim the donation as a charitable contribution on your itemized tax return.
After determining that the U.S. economy is expanding at a healthy pace, the Federal Reserve recently began raising rates up from what have been historic lows. Since the financial crisis in 2008, the Fed has raised rates three time, resulting in current rates sitting a full percentage point higher. Historically, the Fed has raised interest rates to reign in excessive economic growth and to contain inflation. Currently, the Fed’s goal is to normalize interest rates without negatively impacting growth. The Fed cited steady growth in the U.S. GDP, increasing jobs, very low unemployment, and a minor increase in inflation as reason for a rate hike. There is still uncertainty regarding how often rate changes will occur, but it is safe to say we have entered an environment of higher interest rates.
Changing interest rates can affect the performance of various investment assets. Outside of U.S. treasuries, short-term corporate bond performance improved greatly during periods of rate hikes. In each of the past five rate-hike episodes from 1986 through 2006, an index of one to three-year investment-grade corporate bonds outperformed both classes of U.S. treasury securities. The average return for those rate hike episodes was 3.29% versus 2.41% for 2-year treasuries and -1.87% for 10-year treasuries. Although we can’t predict the future based on the past, I do think it makes sense to be sure you are not in long term government bonds. I often see this in accounts that are being managed by investors themselves in Deferred Compensation plans. Investors don’t realize the interest rate risk they are taking on by having long term government bonds.
With high-yield bonds, the performance increase is even larger than corporate bonds. In every period besides June 1999-May 2000, the Bank of America Merrill Lynch High Yield Index outperformed the Barclays U.S. Aggregate Bond Index. The High Yield Index returned more than the two-year U.S. Treasury note during 3 out of 5 of the periods as well. Combining all five periods, the high-yield index returned an average of 3.84%, compared to 1.21% for the Barclays Aggregate Index and 2.42% for the two-year Treasury Index.
Increases in interest rates also affects the stock market. In the past four out of five rate hike periods, the S&P 500 Index outperformed a conservative investment strategy which invested in two-year Treasury notes. The only time the conservative strategy outperformed the S&P was in 1994 when the Fed raised rates in a surprise move. During the five periods, the S&P averaged a 13.71% return, compared to 2.41% for the two-year strategy. Rising rates are beneficial to bank stocks, since banks rely heavily on income generated by debt. Increases in fixed income and currency-trading revenue should help to boost financial companies higher. Compounded with talk of deregulating portions of the industry, the financial sector looks very healthy. On the other hand, utility stocks and stocks that are related to disposable income tend to not perform very well in high interest environments. In my opinion, investors may also want to look outside of the U.S. for growth opportunities. With global valuations lower than U.S. stocks, it’s likely foreign stocks could provide better return prospects.
U.S. stocks have been the best performing asset class in the world over the past three years with an average return of 16%, and we are currently on-track for a return above 20%. The DJIA has crossed over 22000 for the first time in history and has reached 33 closing records so far this year. There are plenty of reasons why the markets could be moving higher, but it’s extremely difficult to nail down what exactly is causing the push. Five of the most popular theories have to do with corporate earnings, monetary policy, passive investing, global outlook, and lack of other options.
The stock market’s trajectory is generally determined by the rate of earnings growth, and continuing strength from U.S. companies should push the market further. First quarter 2017 earnings were 15% higher than the previous year. As of August 11th, with 91% of the companies in the S&P 500 reporting Q2 results, 73% of the companies have reported positive EPS surprises and 69% have reported positive sales surprises. Second quarter earnings are projected to grow by double digits.
Interest rates play a large role in determining where an investor’s funds are funneled. Despite raising rates periodically, and indicating that they will do so again in the future, the Federal Reserve has chosen not to raise the Federal Funds Rate quickly. Low rates lessen incentives to invest in “safer” assets, like bonds or cash in a savings account. Without other attractive options, stocks look like the best option. The new business-friendly administration has been seen as good news for the corporate world. With talks of cutting taxes and loosening regulations, investors seem confident that companies will remain profitable in the near future. The DJIA experienced its second-fastest 20% gain following a presidential election based on the past 40 years. Hitting a 20% rise in 183 days is second only to the rise of 171 days, which occurred after George H.W. Bush was elected in 1988. These can be compared to 308 days for Bill Clinton in 1992, 537 for Barack Obama in 2008, 586 for Ronald Reagan in 1980, 1,626 for George W. Bush in 2000, and 1,630 for Jimmy Carter in 1976.
Global growth is generally projected to pick up. Despite plow horse growth in the U.S., the rest of the world seems to be heading into areas of strong growth. Both large multi-national companies and foreign-oriented funds are expected to benefit most from this steady growth and weaker dollar. Companies in the SP500 get nearly 30% of their revenue overseas, and a weaker dollar has further increased profits. The International Monetary Fund sees global growth staying steady through the end of next year. There are of course risks, Europe’s political calm could end or China’s debt bubble could burst. There’s also geopolitical risks with Russia, Iran, Syria, North Korea or China.
With such a steady track record of growth, our current market is very interesting. We are currently experiencing very low volatility. The CBOE Volatility Index recently closed at its lowest since 1993. Also, so far this year we have not experienced a decline of even 5% from the previous high. The Wall Street Journal recently reported that three major stock-market benchmarks: the U.S., Europe and Asia have avoided pullbacks this year. Never in the past 30 years have all three indexes (the S&P 500, MSCI Europe, and MSCI Asia-Pacific ex-Japan) gone a calendar year without falling at some point by at least 5%.
Markets have continued to reach all-time highs, lengthening what is currently the second-longest bull market in U.S. history. Surely this growth can’t be sustained for long, right?
The answer…it might! Even though closing in on the longest growth streak in our history (10 years) has made some investors anxious, the growth isn’t unsupported. The most recent catalyst is projections in global earnings growth. Global corporate earnings have beaten estimates driving markets higher than anticipated. According to reports from Blackrock, the ratio of analysts revising their global earnings estimates higher rather than lower recently jumped to its highest level in about five years.
So, what are the markets actually at right now? All three major U.S. stock market indices are currently at all-time highs. As of July 21st 2017, the DJIA is above 21,000 after returning 10.67% YTD, the S&P 500 is above 2400 after returning 11.67% YTD, and the Nasdaq is above 6410 after returning 22.495 YTD. The market also has very low volatility. The CBOE Volatility Index recently closed at its lowest since 1993. Also, so far this year we have not experienced a decline of even 5% from the previous high. The Wall Street Journal recently reported that three major stock-market benchmarks: the U.S., Europe and Asia have avoided pullbacks this year. Never in the past 30 years have all three indexes (the S&P 500, MSCI Europe, and MSCI Asia-Pacific ex-Japan) gone a calendar year without falling at some point by at least 5%.
While the market’s growth has been strong and steady, it wouldn’t be unusual to experience a correction at some point. In fact, with corrections normally occurring at a rate of about one or two per year, it would actually be more unusual to not have a correction. Corrections are defined as market decreases of around 10% (compared to decreases of 20% or more for bear markets) and are natural phenomenon of healthy markets.
Even so, plenty of investors might think they’ll be able to sit on the sidelines with their cash and jump in when the correction brings the market to its lowest. But in reality, market timing on average doesn’t work. It actually turns out that the market makes most of its gains for the year during a handful of days. For example, if you were invested in the S&P 500 Index from 1993 to 2013, you would have earned about 9.22% per year. But if you removed the 20 best days during that 20-year period, your return would end up at about 3.02% each year.
So what advice would I give to investors worried about market declines? I would encourage them to accept corrections as a normal part of investing. If you are in retirement, I would also look at my portfolio from an income standpoint, not just growth. If you can switch your focus to how much the portfolio is creating in income, it makes market fluctuations much easier to live through. Currently a well-diversified portfolio of stocks and bonds is creating anywhere between 4 to 6% in income. That goes a long way to helping you continue to receive an income and yet not require you to sell shares when prices are temporarily lower.
Can markets go further? Despite market highs, most analyst feel the economy is fundamentally strong and therefore do not see a full Bear market or a recession in the near future. In addition, earnings power of companies is another indicator that the market could continue to move higher. In 2008, S&P500 earnings were $49.50 and next year they could triple to $145 to $146 per share according to Jeffrey Saut, Chief Investment strategist at Raymond James. Investment news May 22, 2017.
One of the most challenging areas for advisors and investors is to know how much one can safely withdraw from their accounts in retirement without running out of money later. The question is difficult because markets can be unpredictable in the short term and we also don’t know at what age we will live until. Most of the information that’s in the popular money related articles refers to the rule of thumb of a 4% withdrawal rate as considered “safe”; meaning if you withdraw only 4% of your account value, no matter what markets you face when you first retire, you are not likely to run out of money.
Recently, I was very excited to come across an article that discussed market history with reference to the 4% rule of thumb. A trustworthy source, Michael Kitces, CFP discussed a study that showed the actual market performance year by year since 1870 with a balanced portfolio (60% stock & 40% bond) and a 4% withdrawal rate. As predicted, he found it was exceptionally rare the retiree finished with less than what they started with at the end of the thirty-year period if you withdrew only 4%. "There was only a small number of wealth paths that finished below the starting principal." More surprising was that in two thirds of the scenarios, the retiree finished with more than double their net worth assuming a 4% withdrawal rate. (Michael Kitces, www.kitces.com) The article went on to say, based on historical year by year market returns for a 60/40 portfolio, assuming a 4% annual withdrawal rate, your wealth would more than likely increase five times in value after thirty years than to finish with less than your starting principal!
So why does the media and at times advisors rely on the 4% rule of thumb? According to this article, the 4% rule is built for environments that have severe bear markets in the first part of retirement. The article went on to suggest if we assume averages, then the safe withdrawal rate would be over 6%.
Here at the Investment House, we understand there is no way to predict market cycles; hence we rely on income from your portfolio as well as appreciation. Currently, most of our balanced portfolios are creating an income of about 5% in the form of dividends and income from bonds. When asked how much we think you can take from your account and not run out of money, we believe a 6 to 7% withdrawal rate is reasonable. (Of course, there are no guarantees and past performance does not indicate future performance.)
Please click the link (http://wiba.iheart.com/media/play/27198137/) to hear more about this topic. Also remember to tune in to “Straight Talk from the House” every Tuesday morning at 8:20 a.m. or visit our website (www.tantoninvestmenthouse.com) for archived programs.
Whether you’re looking to be conservative or aggressive with your withdrawal rates, we look forward to helping you in all market cycles.
The first thing to do on your year-end planning is talk to your tax person or investment advisor about 2015 taxes! Here's some year-end items to be thinking about:
1. Can you or your spouse add more to your 401k plan yet this year? Maximum for this year and next year is 18,000 if under age 50 and 24,000 if age 50 or over.
2. Can you or your spouse contribute to an IRA or Roth IRA? Maximum is 5500 under age 50 and 6500 if age 50 or over or 100% of employment compensation, whichever is less. Deadline is April 18th, 2016! A few more days than "usual".
3. What about Roth Conversions? Look to see if your income this year is expected to be lower than future years. You may want to pay the tax today and have those dollars growing for you TAX FREE.
4. If your income limits are too high for a Roth IRA, you can make a non-deductible contribution to an IRA and before it makes any earnings, convert it to a Roth IRA. (I think of this as a "backdoor" Roth IRA)
5. Gifting - Your Mother always said, it's better to give than to receive! You can give cash or appreciated securities to a qualified charity. By gifting appreciated securities/mutual funds, you can avoid any capital gains tax and the charity receives it tax free as well!
6. What if I don't know what charity to gift to? Set up a "Donor Advised Fund" which will allow you to receive the deduction this year and you can postpone the decision of what charity will receive the money until some future date.
7. Can I gift to my family? Yes, you can give $14,000 to any individual (related or unrelated) without having to file a gift tax return. This helps reduce your taxable estate, but it does not save you any income taxes since the money is not deductible!
8. Portfolio Review - Have there been changes in your life like retirement or needing an income from your assets that would necessitate a change in your mix of stocks and bonds? Check in with us to review your allocation....anytime!
9. Tax Loss Harvesting - This tax technique receives a lot of press time. The idea is to sell the investments which have a loss in non-retirement accounts to offset the capital gains. This strategy has a lot of merit depending on your portfolio, but it is secondary to the investment decisions. First and foremost you want to own stocks and bonds you believe will go up in value over time. Often we want to sell the "dog" in our portfolio, but those might be the ones that are likely to do well in the future since they are currently undervalued.
10. Have you met your Required Minimum Distribution? If you have turned 70 1/2 this year, you now must take out the required amount from your IRA/ 401k plan by April 1st of the year following you turn 70 1/2. However, we usually recommend taking the withdrawal in the year you turn 70 1/2 to avoid taking your RMD twice in one year which may increase your tax bracket and therefore tax bill. It can also increase the cost of Medicare Part B premiums which are based on Modified Adjusted Gross Income (MAGI) of your previous year's tax return.
Saturday Morning's Wall Street Journal said it all, "Stock Plunge Picks up Speed". Fear led the market decline as the CBOE volatility index doubled. Our bruising week ended with the Dow Jones Industrial Average dropping a total of 10.1% from a high reached in May, SP500 down 7.5% from May record. We've hit a true correction in the DJIA index which is a decline of 10%. The market declines 10% a year on average, 15% every three years and 20% or more (true Bear) every five years. We have not experienced a correction since 2011 when the market fell due to the Standard and Poor's downgraded it's rating of US Debt. We have been expecting this correction for sometime and are over due for this normal occurrence. Of course, market declines, no matter how "correct" the correction, never feel good. We wonder if the sky is falling and in particular, if the sky over China's economy shows signs of significant slow down. According to the Wall Street Journal, China is a bit of black box because of their government tight controls make it difficult to know exactly what to expect from their economy. China has had a tremendous growth trajectory increasing at a rate of about 10% a year for about thirty years and most recently slowing down to 7% per Brian Wesbury an economist at First Trust. Another big concern is the federal reserve is expected to raise rates in September and how the strong dollar will impact big company earning reports due to a drag on exports. (Our goods are now more expensive with a stronger dollar).
Let's assume the worst with China's growth. What would happen if china's GDP measured in at 0%? Brian Wesbury, an economist at First Trust discussed raised the question in one of his latest video posts. He notes that we currently export .7% of our Gross Domestic Product (GDP) per year. Hence if China stopped growing and buying our imports our GDP would fall by only .7% to about a growth rate of 1.8% per year. He also notes that this would only be a one time hit against our growth number. He admits this is rudimentary economics. But the point still is valid. We do not need China to keep growing.
Our take, is market corrections are very normal and needed to keep a market healthy. When investor sentiment becomes to bullish we become prime candidates for a market bubble. We believe company fundamentals still indicate growth opportunity in US and Internationally. If you have "extra" funds to invest for the long term. This could be opportunity knocking!
I'm excited to be writing to you from the desk of the President of T. Anton Investment House! For many years, I've had the desire to own an investment management company to help people achieve their dreams. What's that you say, it's hard to dream? I agree. Having the freedom to dream can feel like a luxury. Most of us have many demands on us as our life choices dictate, whether that be a mortgage, small children, aging parents and an ever approaching retirement date. But another reason we don't dream is that we feel intimidated by numbers, financial jargon, financial institutions and financial markets. Our head starts swirling when discussions turn to money. I know because I see that same glazed look in myself when I go to the car place and they start talking head gaskets, internal combustion and fuel injector. I start thinking to myself my head feels like it's going to combust and I better eject out of here! But similar to the car place, we can get the knowledge we need to make informed decisions about our money (or car) to get us on the financial "road" of our choice. I noticed that many times in my office once investing was explained in a common sense way and the focus was placed on the person or couple's goals, their progress toward them and a plan to achieve their goals, the most amazing thing happened; the mood in the room changed from despair or confusion to hope, understanding and excitement! I would think to myself, YES!, their dreams are back in clear focus and they are empowered to make them happen! It's as if the room and it's inhabitants let out a sigh of relief displayed by wide smiles and a mutual understanding that today the scales were tipped in favor of them reaching their dreams. Feelings of gratitude would engulf me knowing that I was able to break down the unnecessary and unhelpful walls toward investing and create a sense of freedom, opportunity and understanding that money can give. I believe, money confidence improves not only our lives and the lives of our loved ones, but also our neighborhood, community and the greater world. Once we feel empowered in our financial life we can use our resources to live out our values and truly help one another. I'm excited to have created a company where your dreams are at the focal point of our work and listening to your life story and how you want it played out is essential to how we invest for you. It is a privilege to help you write your life story and a privilege in the opportunity to make a difference.
We are a boutique investment management and financial planning company. Our goal is for you to understand your money, your portfolio and help you realize your dreams. We help take the angst out of managing investments, retirement, estate and tax planning. We create a roadmap to retirement that incorporates your timeline and your lifestyle.