What Goes Up Must Come Down
In the early 1970’s, my wife and I took a vacation which included some international travel – driving across the border into Canada for dinner. Back then, the two of us could eat for less than $10. As I paid with a ten-dollar bill, I was surprised to see the cashier ring up $9.75. When I asked why, she explained to a very young and globally inexperienced tourist that the US dollar was worth less than the Canadian dollar. The restaurant’s owner didn’t care if someone used US change to buy after-dinner mints but the difference was noticeable in a larger transaction, so she was required to take the discount into consideration.
Since 1974, the US dollar has generally been the stronger of the two, as you can see by looking at the cover of a paperback book. In most cases, you will find two different prices, one for US currency and a second, higher one, for Canadian. As recent headlines have pointed out, the two country’s dollars are nearing parity for the first time in many years.
I have written before about the constant fluctuation in the relative value of national currencies. In a recent note, I linked to a chart from Wired magazine showing the retail price of gasoline in several countries – at least partially a reflection of currency valuations. Last year, I commented on the weakness of the Chinese yuan. This low value has made Chinese exports more competitive in the world market, helping the Chinese find customers for their goods, thus providing needed employment for their citizens. I also noted that currency fluctuations tend to even out over time, as a weaker US dollar makes our own exports comparatively cheaper to buyers in other countries. These days, many of the containers which arrive in the US full of finished goods are returned to China full of scrap. The weak dollar has made it cheaper for China to import paper, fabric and metal than to obtain needed raw materials from the earth.
Most of us who lived through the inflationary period of the late 70’s would prefer not to do so again. While a weaker dollar tends to bring jobs back into the US, it also makes those items we choose to import more expensive. Governments, like individuals, must earn more than they spend or they will find themselves going deeper into debt as time passes. If the United States continues to spend more than it collects in taxes, it must go on borrowing ever greater sums, continuing the trend to ever lower currency valuation. We have encouraged our clients to invest internationally in hopes of profiting from these fluctuations and our model portfolios now contain investments in both developed and emerging international markets.
Unfortunately, economics is as much an art as it is a science. You can easily find two well-qualified economists who believe the same set of circumstances will lead to two entirely different results. Because of that, both private citizens and politicians are almost always able to quote a famous economist whose view reinforces their own. Regardless of what economic strategy a politician espouses, it has been my experience that most are more interested in being reelected than facing and solving problems. They know that spending taxpayer dollars in their home districts is the quickest route to reelection, with more spending yielding more votes.
It will be pretty easy to keep an eye on the relative values of the US and Canadian dollars but our dollar’s value in relation to the rest of the currencies in the world is not quite so obvious. At this point, the trend I see is not a positive one. Perhaps our future will hold a balanced national budget, leading us toward a stronger currency and away from the risk of inflation. However, I suspect that achieving such an end will require a re-evaluation of the way we judge our politicians, perhaps leading to a less political way of making national spending decisions.
The Politics of Sound Bites
The Politics of Sound Bites The popular TV series The West Wing provided a fictional glimpse into the day-to-day operations of the White House and the lives of the people who worked there. In one episode, during President Bartlett’s final debate, his opponent responded to a question with a “ten word answer”. Bartlett countered, “There it is. The ten word answer my staff has been searching for. But what I want to know is what are the next ten words and the ten words after that.” He concludes the debate by saying that he is the leader of “a country that’s way too big for ten words”.
We all need information but don’t always have time to search-out complete answers for ourselves. We have come to depend on TV and other sources for “ten word answers”, also known as “sound bites”, to fill in the blanks. Although sound bites can be quite useful in our multitasking culture, they have very real limitations. Like all shortcuts, they are incomplete, requiring that some details be truncated, glossed over or simply ignored. While they can be effective in making a point, people shouldn’t assume that sound bites tell the whole story.
Last fall, Speaker of the House Nancy Pelosi provided a “fourteen word answer” regarding gas prices, stating that “oil companies had unfairly earned record profits by gouging consumers at the gasoline pump”. I know that I can be overly quick to assume that capitalism works reliably and that price issues will sort themselves out through the actions of the marketplace. However, the fact is that taxes represent a larger percentage of retail gasoline prices than do oil company profits – taxes imposed by Representative Pelosi and other politicians at various levels of government.
The May 2007 issue of Wired magazine featured a map of the world showing the price of a gallon of gasoline in numerous countries. Comparative information about global gas prices can only be given via a “snapshot”, since most of the world purchases its gasoline in other than gallon increments and the value of our dollar fluctuates constantly versus almost every other currency in the world. At the time of the article, prices ranged from $6.65 per gallon in London to 33¢ in Tehran, with New York at $2.76 and Chicago at $2.69. Here’s a link to the original map for those who’d like to see what prices consumers in some other countries are payiying.
The map makes it clear that there’s a significant disparity in gasoline prices around the world. I believe that two basic factors govern retail prices: the cost of crude oil and local politics. Obviously, there is a direct relationship between crude oil and gasoline prices. However, energy costs and politics are also inextricably linked. If there is a political reason to keep prices low, some portion of the costs will be subsidized in order to increase the popularity of the seated government (viz Tehran). On the other hand, if political will leans towards reducing consumption, additional taxes can be assessed (viz London).
Award-winning columnist Robert Samuelson wrote an article titled The Politics of Symbolism for the January 22, 2007 issue of “Newsweek”. In it, Samuelson says: “Both parties have marketed government as a source of aid and comfort. Benefits are to be pursued, burdens shifted and choices avoided”. This seems an apt description of what usually happens when politicians engage in discourse regarding gasoline prices. As former President Ronald Reagan remarked: "It has been said that politics is the second oldest profession. I have learned that it bears a striking resemblance to the first."
I cannot very well stand up and debate Ms. Pelosi on the fairness of oil company profits. I can say that without oil company profits, there would be no capital available to locate new sources of energy, nor would the oil companies be able to pay the dividends on which their retired employees (and numerous other retirees) depend. Creating national energy policy is a complex task. It deserves serious discussion and full revelation of the facts, not oversimplification via sound bite.
They Are From The Government and They Are Here to Help
Once again, I have turned to former president Ronald Reagan for a quotation in a political context, slightly modifying his "nine most terrifying words" for the title of this article.
The year is coming to an end and while Warren Ward Associates does not generally recommend major shifts in financial plans to accommodate taxes, it certainly makes sense to consider any strategy which offers the potential for tax savings.
Unless a last minute bill is passed, a couple of portions of the tax code will change with the year end/new year. First, if you are now taking Required Minimum Distributions from an IRA, you are allowed to make a gift directly from your IRA to a church or charity. This counts as your RMD and avoids your having to take the distribution, pay the taxes, then make the contribution. Under the current law, 2007 is the last year a gift may be made in this way. Your broker or the charity you wish to support can provide specific instructions on how to accomplish such a transfer.
Second, there are adjustments coming related to the "kiddie tax". That’s the section of the tax code which causes a child’s earnings above a certain level to be taxed at the parent’s highest marginal rate. Beginning this January 1st, the age at which it is applied will rise from 17 to 18 and, for the first time, full-time students up to the age of 24 (with some exceptions for those who are working) will also be covered. Especially for families with students in college, it might be worth making a quick gift of appreciated stock to a child over 17, allowing the proceeds from its sale to be taxed at her or his lower rate. This does not make sense for everyone, however, since income in a child’s name tends to reduce need-based college financial aid.
As always, people who own individual stocks (whether kept in a lock box or on deposit with a brokerage firm) can donate appreciated shares, rather than a gift of cash, to a charity. Givers receive a deduction based on the present value of the stock and neither the donor nor the charity pays tax on the gain.
On the other hand, if you own stocks which have lost value, this might be a good time to "clean out the closet" and use some of those losses to offset other gains, perhaps from mutual funds. Application of such losses against ordinary income is limited to $3000 per year but can be carried forward to subsequent years. If you believe in the long-term potential of one of your stocks, it is possible to sell it then re-purchase it later, although you must wait 30 days before buying the same stock again. If you believe in an industry rather than a specific company within it, you could make a sale of one company followed by the immediate purchase of a competitor. You might also be able to locate an ETF which includes the stock you like. Again, your own broker can provide you with specifics.
Finally, most flexible spending (Section 125) accounts have a calendar year end, so be sure you spend yours before the cut-off date.
WWA has never believed that taxes should be allowed to drive investment decisions but neither do we believe that investing can be sensibly done without considering tax implications. I hate to be a political cynic but taxes are the lifeblood of government. I’d like to think that our politicians consider their taxing and spending decisions to be in the best interests of all of us and that they really are "here to help". Whether that’s true or not, keeping up with changes in the tax laws which our representatives enact is an important part of the financial planning process, at least as practiced at Warren Ward Associates. Your tax advisor can supply specific advice about the appropriateness of any of these strategies in your own situation.
The Times They Are a Changing
I recently attended a Bob Dylan concert and found myself thinking about how times have changed. Back when he first became famous, few people were talking about protecting the environment. Now "green" issues have become important to many and Socially Responsible Investing (SRI) has become a part of our investment planning at Warren Ward Associates. One of the interesting things about SRI, and "green" issues in general, is that different people have different definitions of what’s acceptable and what’s not. Today, I’m thinking about future sources of our country’s electricity and more specifically, the potential acceptability of nuclear power to environmentalists.
Coal-fired generators supply most of America’s electricity and they are our least expensive source of power. Coal is our country’s most abundant energy source, so mining more of it and building more coalfired generators might conceivably reduce our dependence on imported oil. Yet, mining and burning coal are both relatively messy operations and most advocates of environmentally-conscious energy are not interested in adding to our coal usage. We must be practical, though. Our ever-increasing use of electrical devices means that more electrical power must somehow be made available. With coal considered environmentally unacceptable and hydrogen fuel cells a long way off, people have begun to re-evaluate nuclear power’s role in our energy future.
Although no new nuclear power plants have come on line in the US since 1996, some recent changes by the US government are making it easier for utility companies to add nuclear capacity. The Nuclear Regulatory Commission has streamlined its application process and Congress passed a range of subsidies to encourage nuclear power generation. As a result of these changes, the NRC anticipates receiving about two dozen new applications for review over the next year or so, the first ones in thirty years.
In operation, nuclear power is clean and perhaps more environmentally friendly than coal. Reactors heat water into steam which then turns turbine generators. Since the day-to-day by-product is simply water vapor, most environmental concerns relate to one of two issues: potential catastrophic failure or the need to safely store the spent nuclear materials. Reactors have been extensively redesigned over the past thirty years and current versions are considered by many to be safe.
Stewart Brand, who published The Whole Earth Catalogue in 1968, is one of our country’s original environmentalists, a visionary thinker whose ideas are still worth considering. In a recent issue of "The Economist", Mr. Brand shared that he has reversed his original (in his words, "knee-jerk") opposition to nuclear power, having decided that global warming is the major environmental issue facing the world today and that nuclear power offers a way to supply the world’s increasing power needs in a "low-carbon" manner. He goes on to offer what seems to be a very original thought – that we don’t need to worry about how to store spent nuclear fuel for 10,000 years or more but for just 100 years. Since it still contains a considerable amount of energy, it only has to be kept safe until a future generation comes up with a way to harvest that energy through new technology, similar to the way improved engineering now allows our cars to go farther on a gallon of gasoline.
Back in the late 60’s, Mr. Brand suggested that people attempt to live "off the grid", separating themselves from much of society, and – perhaps – its ills. That is still the goal of many environmentalists who believe that numerous small and widely distributed power plants would be the ideal solution to meet our growing need for energy. Unfortunately, not all distributed power is green (i.e. home-sized gasoline powered generators) and not all green power can be widely distributed (i.e. a windmill farm large enough to be practical). If you decide to remove yourself from the grid, then you have to plan for the highest possible peak energy need, leaving excess capacity until the hottest day next summer. This is the same issue which faces our energy companies today – operating efficiently regardless of the demand for power but being sure there is always enough available.
In many ways, storing energy is harder than generating it. Recent attempts to do so by pressurizing underground caverns and spinning flywheels at extremely high speeds are clearly beyond practical application by individuals. Storing energy in batteries seems obvious but power is lost in both the charging/discharging cycles as well as during the conversion from DC to AC. Until both generation and storage can be easily distributed, some fuel must fill our ever-growing need for electricity.
Resolving an issue this controversial may require that each side back away from extreme positions and try to negotiate a solution which is at least acceptable to the other. Along the lines of "a good plan today is better than a perfect plan tomorrow", perhaps increased use of nuclear power can help us bridge the energy gap until a large network of smaller power plants can be developed and brought on line.
Peter Townsend Got Old
Considering the frequent allusions to the music of the 60’s which appear in this space, it may not be surprising to learn that many years ago I was personally involved in that genre, managing local bands and producing rock concerts in and around Indianapolis. One of the few perks afforded by that job was my exposure to lots of great musical groups. One of my favorites was the English band, The Who. Their guitar player, Peter Townsend, wrote the "rock opera" Tommy, as well as the somewhat less famous My Generation, which includes the line, "I hope I die before I get old".
Despite that lyric, Peter is indeed aging just like the rest of us. In fact, he’s reached the point at which he could begin receiving Social Security payments were he a US citizen. Since he appears to enjoy continued touring with his band and since his music is being introduced to a whole new generation as the theme of the CSI TV shows, perhaps he has changed his mind regarding his preference for an early death.
All of us, of course, have the right to change our minds and I have recently done so about a related issue. For years, I have recommended that my clients not purchase long term care (LTC) insurance. My hesitation didn’t stem from any sense that it was never going to be needed but out of a concern that the insurance companies might not have had sufficient experience with people needing to collect on the policies. That lack of data left me uncomfortable with their ability to price the policies accurately. The last thing I wanted was to suggest insurance coverage which would later need to be re-priced to cover claims, making it too expensive for my clients to keep in force just when it was needed most.
As with most of the decisions we make regarding financial planning, this one has been re-evaluated many times over the years. The most recent review led me to a different conclusion. A few of these policies have now been available for more than ten years and I think that enough companies have enough experience to price them appropriately.
The availability of insurance in its various forms makes financial planning much easier, allowing us to help clients choose which risks to face on their own and which ones to share with a wider group. For example, we rarely suggest a policy offering very narrow coverage like cancer or accidental death. On the other hand, we almost always recommend term life insurance for people with children they plan to educate, especially when one of the parents is actively working at raising them instead of working outside the home. Likewise, we think liability insurance is an important component of protection, as we wouldn’t want an accident to permanently alter a client’s life by requiring a settlement which wiped out their assets.
Just as we have previously recommended the judicious use of insurance in these circumstances, we are now recommending LTC insurance for some clients, depending on their specific situation. As with all forms of coverage, the greater the perceived risk, the greater the cost. Thus older (or less healthy) clients tend to pay higher premiums than younger (usually healthier) ones. The challenge, of course, is to find a balance between buying too early and perhaps having to pay too long or buying too late and perhaps having to pay too much.
Helping to determine a sensible balance between such time and price factors is an element of financial planning that we deal with frequently. Our discussions with clients aged 62 and above now include LTC insurance, especially in cases when we hope to preserve an estate for their heirs. If you are not a client of Warren Ward Associates, you might wish to contact your own insurance agent about this issue. Because new companies are entering this market all the time, we would suggest that you shop for insurance coverage, as we do for our clients.
We believe that a good financial plan is one which provides our clients with options as their lives take different twists and turns. Based on our latest review, we think it may be time for more people to consider LTC insurance.
Pa Cartwright, Financial Planner
When I was younger, perhaps because it was still something of a novelty, I watched more TV than I do now. I always made it a point to catch the new episode of Bonanza, the continuing story of a middleaged widower raising three sons on a ranch out West. Courtesy of the show’s writers, Pa Cartwright was always capable of nurturing the distinct personalities of each son while providing sage advice on a wide variety of topics.
One episode I remember had to do with Pa’s leaving his muscular middle son Hoss in charge of things while he was away. In hopes of teaching him something about problem-solving, Pa gave Hoss a bundle of sticks and told him to break them. Strong as he was, Hoss couldn’t do it. Then came Pa’s lesson. He picked up one of the sticks and handed it to Hoss saying “This time, try breaking them one at a time”.
Looking at things from a different perspective can be an important life skill for any of us. Jalene and I are both Certified Financial Planner practitioners and, as fee-only advisors, are free to suggest the solution we believe to be most appropriate in a given situation, whether insurance, bank or investment-based. Yet, sometimes, the most important service we can offer is simply helping our clients break down complicated problems into smaller pieces so they can be understood, then solved. That might mean mentally separating insurance from investments, college planning from retirement planning or taxes from everything else. It might require the “translation” of what appears to be a financial issue into its component questions about life choices, helping with the clarification of goals.
Pa Cartwright made raising three sons while managing a huge ranch look simple. Somehow he was always able to spend quality time with each of them while dealing with the day-to-day stresses of his work. Of course, TV has very little in common with reality. Every day, each of us must balance the requirements of our jobs with those of our families while still finding time to deal with such things as errands and chores.
When confronted with a plumbing crisis, I think most of us are more likely to pick up the phone than a wrench. The same can apply to personal finances. Whether you are wrestling with numerous investment choices in your 401(k), considering changes in your insurance coverage or wondering how you’ll pay for college, we might be able to help. Warren Ward Associates’ slogan is: Financial Advice as Individual as You Are. Over the years, we have found that financial issues have a way of splashing over into other parts of our clients’ lives. If that has happened to you, perhaps it’s time to consider professional help so you can deal with that bundle of conflicting priorities one stick at a time.
Goldfinger
I was a high school student when I first encountered Ian Fleming’s secret agent, James Bond. I was always fascinated by the exotic locales to which Bond traveled on behalf of the British Secret Service, as well as the larger-than-life villains who populated his world. Most of the books were eventually made into movies, including one about a chain of pawn shops owned by Auric Goldfinger. Those shops bought gold from people in need of quick cash, then it was collected for illegal export. In the movie, Goldfinger explains to Bond that he is "in love with gold: its color, its texture, its divine heaviness".
Gold has long been admired for those and other reasons but has recently been in the news as its price has risen to all-time highs. A couple of weeks ago, it was briefly valued at over $1000 per ounce compared to about $35 per ounce during my high school years in the mid 1960’s.
During times of market upset, like the current one associated with the sub-prime mortgage problems, people have a tendency to re-evaluate their investment choices. When investors are afraid, something with intrinsic value can be appealing and gold is very often the choice. It might or might not be an appropriate investment in any specific situation but for most people, purchasing it represents an attempt to capture something of unshakable value. Unfortunately, the potential for loss in gold is really no different than with other investments, although many people consider gold prettier than stock certificates.
Generally, it can be purchased either in physical form by taking delivery of coins or bullion or indirectly by purchasing the stock of gold-oriented companies. We do not generally recommend that our clients invest in gold as it is a very narrow asset category which does not fit well within our allocation model. However, if it is of interest, there are a couple of different ways to do so.
While you can always purchase gold items from a local jewelry store, obtaining bullion requires the services of an out of town dealer. One drawback in purchasing gold is storage. If you feel that it might be needed for use as currency during time of crisis you will want it nearby but must then deal with keeping it safe. Having it readily available might be comforting but losing it through theft would certainly spoil the fun. Leaving it in the hands of a dealer is almost certainly safer but raises the question of getting to it when necessary. Also, most dealers charge a safekeeping fee which, through the additional costs, reduces the potential for profit.
Investing indirectly avoids those issues but adds a couple of its own. I think they might have been most clearly described by Peter Lynch, the celebrity manager of Fidelity’s Magellan Fund during its glory years. He often said he did not like investing through options because when you did so, you had to be right twice: first about the direction of the price movement and second about the timing of that movement. I think his caution might be equally valid in the context of investing in gold. The recent move has been eye-popping but it took over twenty-five years before the previous peak ($750 per ounce in 1980) was reached again in December of 2006. In line with Lynch’s comment, you would have been largely out of the broader market for that period if you had invested in gold stocks or, in order to have remained invested, would have had to renew your options many times.
Warren Ward Associates puts considerable effort into following market data in hopes of being able to offer good advice to our clients. Among the fifty or so data points we track are the prices of commodities in general as well as both oil and gold individually. We continue to believe that most people will be best off through investing in a collection of asset classes, sometimes including gold, than they will be by placing a large bet on a particular narrow niche like gold.
Swans a-Swimming
In his 2007 best-seller The Black Swan, Nassim Nicholas Taleb assures us that a pair of pure white swans, each from a long line of pure white swans, can produce a black offspring from time to time. He uses this concept of unexpected black swans to help describe sudden changes that take place in our world, especially in the investment world. He worked as a trader on Wall Street and marveled at the lengths that other traders, not to mention newscasters, went to in trying to explain the generally unexplainable events which affect those markets.
Virtually no one predicted the fall of the Berlin Wall. Yet, in hindsight, it seems so obvious that we are surprised no one got it right. All sorts of media, from newspapers to websites to TV commentators, offer us regular examples of a headline predicting one thing when, in fact, something else entirely takes place. In my experience, no segment of the media has a particularly good record of anticipating interest rate changes, inflation or market moves even though it seems that, with all the information at their disposal, at least some of them should be capable of greater accuracy. Here are a few predictive comments followed by a quick summary of what actually happened:
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Mid-October 1929 - "Stock prices have reached what looks like a permanently high plateau."
Yale economist Irving Fisher, (just days before the market crash)
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Nov. 6, 1982
- "Sell all stocks. This is a bubble market, not the normal entrance to a new bull market. The recent rise of 37.1% in the Dow average in 12 weeks is the largest bet Wall Street has ever placed on expected economic recovery. It equals the final blowoff rise between June and September 1929."
Technical analyst Joseph Granville, (preceding the greatest upward market run in history)
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March 17, 1999
- "How high will the market go? Our calculations show that with earnings growing in the long term at the same rate as the gross domestic product and Treasury bonds below 6%, a perfectly reasonable level for the Dow would be 36,000 — tomorrow, not 10 or 20 years from now."
James K. Glassman & Kevin A. Hassett, in the Wall Street Journal
(the Treasury bond is now below 4.4% and the Dow is trading around 12,000)
Keeping focused on long-term goals is the very essence of financial planning. When we become involved with new clients at Warren Ward Associates, the process of planning their investments begins with getting to know them as individuals, evaluating their experience and trying to gauge their comfort level with investing. It is especially important to us to evaluate how much volatility they might be willing to accept before we prepare a plan. These steps lead us to a personalized balance between stocks, bonds, CDs and real estate for each client. The point of this allocation process? To try to minimize the damage to our clients assets as a result of the black swans which the markets will almost certainly continue to have in store for us.
Although our record on behalf of our clients has been good, success has not come through using special insights to predict what is about to happen. We focus on asset allocation in an attempt to avoid significant losses by hedging against those black swan events. When we are able to successfully protect our clients from the worst of the corrections, then the broad market up-sweeps have the ability to provide reasonable overall returns.
Tax Dates to Remember
I suspect that most everyone who reads my periodic comments about financial planning and investing is familiar with April 15th, tax day for most US citizens.
Another, less well-known tax date is Tax Freedom Day®, a date which has been calculated by the Washington DC-based Tax Foundation (www.taxfoundation.org) since 1971. For 2008, they figure it to be April 23rd, meaning that, on average, we work the first 113 days of the year to pay for our governments and their services. While there is legitimate debate about what this figure/date actually means, it is at least a stab at answering the question: "What does our government cost us?"
Income taxes have been imposed by most countries at one time or another but, in the United States, it took ratification of the Sixteenth amendment to make it clear that the federal government could legally do so. The first rate was 1% on yearly incomes above $3000 (about $60,000 in today’s dollars) with an additional 6% surcharge for incomes above $500,000 (about $10,500,000 today).
Services like police protection and maintaining a standing army appear to be here to stay. Even the staunchest advocates of "small government" agree to the need for at least some services which can only be provided by the government. These services, whether provided at the federal, state or local level, obviously require taxes to fund.
I avoid debates about the fairness of taxes, since I know I’m unlikely to influence the outcome. Instead, I try to help my clients understand the system and orient their financial planning and investment decisions to accommodate it.
Seventeen years ago, when I earned my first brokerage license, interest rates were relatively high and tax-free municipal bonds were often a very appropriate investment. As interest rates fell, we searched for a strategy to replace tax-free bonds in our clients’ portfolios. Over the past couple of years, we have implemented a process for selecting dividend-paying stocks which provide a similar result. Our clients receive tax advantaged income (in the form of dividends) but we are able to choose when to take any capital gains by deciding when to sell the stocks.
Recent changes in interest rates have made municipal bonds somewhat more attractive, so we have begun to consider that option again, at least for some clients.
When we choose managers for our clients’ assets (usually through mutual funds), one of our screening elements is tax efficiency. Different managers employ different strategies but we generally try to place our clients’ non-retirement assets with managers whom we expect to be able to minimize current-year taxation.
Here’s one final tax date to think about. On December 31, 2010, our current federal estate tax structure will expire and we will revert to the 2001 rules. The original estate taxes were enacted largely to help break up the huge family fortunes amassed by the early steel and railroad "barons". The effects of inflation eventually brought those taxes to bear on most middle class families. The 2001 revision of the law brought a phased adjustment, moving most of the middle class back out from under them. As this revision approaches its "sunset", debate continues about the fairest way to implement estate taxation.
I spend more hours in continuing education every year on taxation than any other topic. Our hope is to always be able to make suitable options available for our clients, regardless of what form taxation might take.
The “R” Word
Like most other professionals, financial planners live in a world which requires a high degree of accuracy. Columns of figures must add up, reports must be filed on time, details must be attended to. I almost said that words must have exact definitions but I’m not sure that one is always true. My wife and I recently watched a cute movie which followed a year in the life of some teenagers. Unfortunately, we didn’t understand the meanings of all the words they used. While we were almost always familiar with the words themselves, about half of the time we had never heard them used in quite the way they were in the film.
Since I’m not a high school teacher, being a little out of date on the latest teen-age slang is really not a problem for me. In the case of the movie, the context allowed me to keep up, even without understanding everything that was said. However, not staying abreast of words which are part of my professional language is a different story. The word I have in mind today is recession (sometimes referred to in our industry by the title of today’s article). People are sometimes afraid to say it aloud because just mentioning it might make it a reality, especially when uttered by an important government figure.
Recession is properly defined as "two consecutive quarters of negative growth in a country’s real gross domestic product", i.e. six months of reduced output. Headlines questioning whether we are in a recession have been a media staple recently (as of April of 2008) and I recently saw a website where a poll was being conducted to decide whether we were in one or not.
One of this era’s most successful money managers is Forbes magazine columnist Ken Fisher. In his new book, he questions the point of "asking people" if there’s a recession going on. In his mind either there is or there isn’t – per the definition. Although I usually agree with Mr. Fisher regarding investment issues, I’m not sure he’s right about this one.
I am a close observer of the activities of the Federal Reserve Board of Governors (the Fed), that group of bankers charged with keeping our economy on track. One of my regular concerns is that, at least under previous Chairman Alan Greenspan, they always seemed to be driving by looking in the rear view mirror. That is, they were waiting for data to be posted before making a decision - looking to the past to decide what to do about the future.
Although knowing exactly when a recession begins or ends might be of historical importance (or political importance in an election year), how people feel about the economy is probably more important to most of us. People tend to feel better about their lives when they are comfortable with the level of their savings, whether through increases in the value of their homes or their other investments. Naturally, the opposite is also true, with reduced assets bringing on concerns about their future. Many people incurred significant losses during the 2000 market correction which followed the "dot-com boom" of 1998 and 1999. In today’s market, however, most people are not going to lose their homes through foreclosure related to the sub-prime mortgage problem. Yet enough of us have become cautious in our spending that "the ‘R’ word" is being uttered. It seems as if the more it’s talked about, the more worried people become and the more likely a true recession might be.
How does this debate affect us and our clients? Very little, in fact. Although there are a few circumstances which would make us consider cashing out our clients’ investments, we have not seen any sign of them yet. We have faith in the process of asset allocation and believe it is possible to avoid the worst of a market correction by being properly diversified. Although we have made several recent changes in our client’s asset allocations, we continue to be fully invested and are likely to remain so, regardless of the latest poll declaring the presence or absence of a recession. Long term investing is what we do.
