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This newsletter was written on Thursday, a few days earlier than normal because this weekend, when I would normally be writing my newsletter, Cathy and I will be contemplating the meaning of life at the beautiful North Rim of the Grand Canyon. The Arizona Strip between the Canyon and the Utah border is one of the least developed regions of the country and I don’t want to count on technology being available to send my draft back to the office for publishing. So, please forgive me if any of my comments seem dated. In This Issue…
Welcome Ceros
The entire Rydex staff has been retained by Ceros so I expect no change in service levels. The transition, underway for more than 6 months, has been one of the smoothest I have ever witnessed. These folks have proven they know what they are doing. In a few days, account holders will receive a letter from custodian National Financial Services thanking you for opening a new Ceros account there. This is a result of your Rydex serviced account being transferred into Ceros’ service agreement at National Financial and is not the result of a new account being opened. Your account number remains unchanged. There is nothing for you to do. Welcome to Ceros and congratulations to the staff for a job well done.
Is the FDIC About Broke? According to Seeking Alpha (8/31/09), the FDIC closed three more banks on Friday, August 28th with an expected cost to the FDIC‘s deposit insurance fund of $446M. The closures bring this year’s total failures to 84 and mark the fastest pace of bank closures in 17 years. To encourage potential buyers of failed banks, the FDIC has agreed to numerous loss-sharing arrangements, assuming most of the risk on $80B in loans and other assets held by failed banks. The agency said it expects around $14B in future losses on the agreements signed so far, but its total exposure is about six times the $10.4B left in its insurance fund. Just three of the banks that failed in late August may cause a financial hit to the FDIC’s deposit-insurance fund is expected to be about 50% of their assets. Back in the early 1990’s the FDIC went hat-in-hand to Congress several times for funding when it ran out of money. They were given the money to repay depositors, but this type of scenario puts the security of your bank deposits in a political realm, which introduces a whole new kind of risk to bank depositors. The other effect on depositors is that FDIC assessments to member banks must be paid out of the same pool of money that pays your CD interest. If more has to go to FDIC to pay for their insurance, the result will be lower CD rates going forward. Not good news for savers.
What to Expect From the Markets
A “counter trend rally” is just a zag in the zig-zag of a generally declining market. My work leads me to believe that since March, we have been in a counter trend rally rather than the birth a new bull that will take the market back to it’s 2007 high of 1,565 on the S&P 500 Index**. To get to that level would require a further 56% gain from the Sept 3rd closing price. That isn’t going to happen for quite a while. There are still too many economic problems to fix first. In my March 31, 2009 newsletter I said of the stock market, “It is normal for rallies to recover half of earlier losses even if the stock market ultimately resumes its decline.” This rally has done just what I suggested it might back in March and as of September 3rd sits 49% higher than in March. But what next? As 2009 shows, there is good money to be made in counter trend rallies. But, making money is only half of the equation. Keeping it is the other half. Am I saying that the current rally is about to end? Certainly it will end, but I just don’t know exactly when. Don’t trust anyone who says they do. And, run from anyone who suggests you invest in anything that will tie your money up so you can’t get out of quickly if market conditions change again. Flexibility is important in fast changing markets. My point is that although things feel a lot more warm and cozy than they did during last winter’s crash, we must not get too comfortable with the current market. Although things feel better now, this is often a crazy, backward business. Things feel better when risk is not recognized. That does not mean the risk is not there. Actual risk is much higher now than it was 6 months ago. This is no time to invest aggressively without a system to help you mange the risk of doing so. Consider:
If I am correct and we are still in a long-term bear market, this suggests we will have more violent declines ahead of us and history suggests that the risk of a serious decline starting before too long is very high. By serious, I mean a decline that could wipe out gains made since April or May. I don’t try to time the markets. However, part of what I do is to gage the risk of doing one thing versus another. I prefer to wait until I see a trend develop before I move into or out of investments for my clients so we are not hunkering down, but I am getting a little more conservative these days. “What is likely to happen if I am wrong?” is a question I ask myself often. Risk is very, very high right now. This is no time to get too comfortable and blindly throw money into the markets. 2009 Fall Class ScheduleBasic Investing For Retirees September 16th – 24th, Advanced Investment Analysis Using Charts September 30th – October 1st, Wed. & Thur. For details or to register call Yavapai College 717-7755 |
September 8, 2009
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Banks in the U.S. that failed in the past two years were in far worse shape than those that collapsed during the industry’s last crisis, a looming problem for the 
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Will Hepburn is a well-known expert on investment analysis and portfolio management. Mr. Hepburn is president of Hepburn Capital Management, LLC, a Registered Investment Advisor, Chairman of the Board of NAAIM, the National Association of Active Investment Managers, and he is an instructor at Yavapai College in Prescott, AZ. |
The Riddle of the Week
Feed me and I will live. Give me water and I will die. What am I?
Answer
Fire.
Account Updates
To protect your money from possibly being T-boned by an overdue down draft in the stock markets, our growth accounts have moved to only 75% invested, and half of what is invested is in low-volatility high yield funds. We can use our 25% cash positions to buy hedges or market leaders if a new trend – up or down – emerges.
Flexible Income accounts remain fully invested in high yield bonds. High Yields have not risen much in price over the past month, but as the name implies we rake in a high dividend even if the price does nothing.
Financial Planning Notes
I have not practiced financial planning for over 10 years, but I still sit in on the Prescott Estate Planning Council, a group of local attorneys and CPAs who meet monthly to discuss stuff that would bore the socks off most folks. A couple of things mentioned at the recent meeting were worth passing along:
1. Estate Tax
The estate tax is scheduled to expire next year, and the best guess is that prior to that time the current $3.5 million lifetime exemption will be extended indefinitely. In 2007 only about 17,000 people had to actually pay estate taxes, and those 17,000 votes pale when compared to the multi-trillion dollar federal deficits we are facing. Because of the small numbers of voters affected the chances of the estate tax going away completely is just about nil in my opinion.
Gift taxes and estate taxes are the same tax. The name just changes at death. This means you can also make $3.5 million in gifts without worrying about having to pay a gift tax.
I won’t tell your kids if you don’t tell mine.
2. Roth IRA conversions
Roth IRA conversions will get a lot easier next year as the income limitations go away. Until then, taxpayers with adjusted gross incomes of over $100,000 can’t convert traditional IRAs to Roth IRAs.
Unlike traditional IRAs, money in Roths is income tax free upon withdrawal. If you think that in the future you might be in a higher tax bracket later than you are now, this tax free withdrawal can be a powerful benefit.
The drawback is that the money transferred from a traditional IRA to a Roth, called a “conversion”, will be taxed as ordinary income at 2010 rates.
If you don’t have money outside your IRA with which to pay the tax, and have to pay it with IRA money, the benefit of a conversion is dramatically reduced. If you do have outside money to pay the tax, doing so is like super-charging your IRA.
The government has been so busy putting out economic brush fires with buckets of liquidity that it has not yet spent much time talking about how to pay for all the money they have been printing. They have not yet raised federal income taxes, so the 2010 tax rates may be a real bargain going forward.
So, thoughtful IRA owners have a window of opportunity to convert to a Roth, pay tax at a rate that has not yet been raised, to avoid taxes later that will almost assuredly be at higher rates.
I doubt that the government will close this 2010 conversion window since they do get the immediate pop of the initial tax payments, which the Treasury really needs right now.
Added benefits are that for conversions done in 2010, the payment of the tax, at 2010 rates, may be spread over two years (2011 and 2012). Also, if your traditional IRA (or 401k) took a hit last year you can convert the smaller amount and let the rebound-growth occur in your tax-free Roth IRA.
So, if you have traditional IRAs, think your taxes will be going up, and have the money to pay some taxes now to avoid them later, let me know and I will make a note to call you early next year to do the conversion paperwork.
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* The model accounts mentioned in this article are hypothetical examples of how the strategy may work as designed. Activity in client accounts may be different from that in the model in amount of each investment, specific timing of trades, and actual security used, which may vary from account to account. Not all trades are profitable. It should not be assumed that current or future holdings will be profitable. A list of all trades in these accounts for the past 12 months will be provided upon written request.
** The S&P 500 and Nasdaq Indexes are unmanaged lists of stocks considered representative of the broad stock market. Investors cannot invest directly in the S&P 500 Index.
Information in this newsletter is derived from sources deemed to be reliable, however we cannot guarantee its accuracy. Please discuss any legal or tax matters with your advisors in those areas. Neither the information presented nor any opinions expressed herein constitute a solicitation for the purchase or sale of any security.
In all investing, past performance cannot assure future results, and as such, our efforts are not guaranteed. Losses can occur. All strategies offered by Hepburn Capital Management, LLC, adapt to changes in the markets by changing the investments they hold. Therefore, comparisons to broad stock market indexes such as the unmanaged indexes listed above may not be appropriate. Sometimes client accounts are invested in stocks or markets not included in these indexes. Past performance does not guarantee future results. Investment return and principal value will vary so that when redeemed, an investor’s account values may be worth more or less than when purchased. Mutual fund shares are not insured by the FDIC or any other agency, are not guaranteed by any financial institution, are not obligations of any financial institution, and involve investment risk, including possible loss of principal. Advisory services offered through Hepburn Capital Management, LLC, a Registered Investment Advisor. HCM will not transact business unless properly registered and licensed in the potential client’s state of residence.
Adviser will not transact business unless properly registered and licensed in the potential client’s state of residence.
Copyright (C) 2009 William T. Hepburn. All rights reserved.
