December 4, 2012
Your Guide to the Fiscal Cliff
The Investment View from Prescott, Arizona
The Boston Globe last week published a simple by-the-numbers guide to the Fiscal Cliff that provides a handy reference for something you are all going to be bashed over the head with relentlessly for the next few weeks:
More than $500 billion – The amount taxpayers will pay in increased taxes in 2013, due to the expiration of the Bush-era tax cuts and other tax increases, according to a Tax Policy Center analysis.
30 million – The number of people who will be subject to the alternative minimum tax, or AMT, up from 4 million currently, accounting for more than $221 billion in additional revenue for the United States between fiscal years 2012 and 2013, the Congressional Budget Office estimates.
$3,500 per year – The amount in increased taxes each household, on average, will pay in taxes in 2013, according to the Tax Policy Center.
$2,000 per year – The amount in increased taxes a middle-income family will pay in 2013, according to the Tax Policy Center.
$1,000 per year – The amount someone making $50,000 a year will pay a year from the expiration of a payroll tax cut — the 2 percentage point break in Social Security taxes enacted in 2010, which is set to expire at year’s end.
$412 per year – The amount the lowest 20 percent of earners would pay more, on average, in taxes, the Tax Policy Center calculates.
$14,000 per year – The amount the top 20 percent of earners would pay on average in more taxes.
$121,000 per year – The amount the top 1 percent of earners would pay on average in more taxes.
$110 billion – The total amount of annual spending reductions that will kick in for 2013.
$55 billion – Half the spending cuts will come from the defense budget, which accounts for about a 10 percent decrease from its current funding.
$55 billion – The other half of spending cuts comes from domestic programs like highway funding, aid to state and local governments, and health research – a total reduction of around 8 percent.
$11 billion – Amount of cuts from a reduction in Medicare payment rates for physicians.
2 million – The number of people who will lose extended unemployment benefits, which provide up to 73 weeks of aid per unemployed job seeker. It will save $26 billion in spending.
$607 billion – The amount the deficit will be reduced through the tax hikes and spending cuts. This amount is approximately half of the federal deficit.
3.4 million – The number of jobs that could be lost in 2013 due to the tax hikes and spending cuts, a Congressional Budget Office report estimates.
A Slice of Life
The Industrial Development Authority (IDA) of the City of Prescott is a quietly deliberative body that is charged with reviewing proposals to grant tax-free municipal bond status for financing for non-municipal entities. For the last few years most applications have been from non-profits, such as Prescott College and Mingus Mountain Academy, a school for at-risk girls, although private enterprise may qualify if their project involves a public purpose.
I have been a board member of the IDA for 12 years, and was just elected as Vice-President of the IDA going forward. This is a volunteer position, so it is safe to say that this, plus $5 will buy me a cup of coffee. But it is nice to be giving something back to the community.
How’s the Market Doing?
The stock market normally does well during Thanksgiving but surprisingly, the rally continued into the following week. All this is in the face of the Fiscal Cliff, much in the news and discussed elsewhere in this newsletter.
Is it the market climbing the proverbial “wall of worry” or is this the market’s last gasp before reaching the cliff. It is hard to tell, but it is probably safe to say this is not a market to take a lot of risk in until the outlook becomes clearer.
The bond markets continue to be stable with the federal government “sitting on” the interest rates. Municipal bonds and funds continue to perform strongly as money seeking to avoid taxation pours into them.
Gold markets are sort of stuck in a trading range, currently about 4% below their October highs. Much to the surprise of the gold bugs, who expected gold to soar because of the election, prices are below the level they were at on election day. I don’t know why but I’d say it is not a time to be either a buyer or a seller of gold until the market tells us which direction it is going.
What’s Going On In Your Portfolio?
Flexible Income* model portfolios had another positive month in November, our 4th in a row. In fact, our 1-month November return beat the 12-month returns of CDs (the average reported by BankRate.com). Since the objective of this strategy is to beat CD rates without stock-market like risk, we are meeting the objective. If your money is in our Flexible Income* program you are in a good spot.
We continue to hold about 1/3 of the portfolio in municipal bond funds. With this being one of the hottest areas of investing, it is tempting to put more into munis, but it is very risky to put all of our eggs in one basket, especially a “hot money” basket. A deal that changes the taxation outlook could have money pouring out of muni funds as fast as it has poured in.
The rest of the Flexible Income* model is made up of government, corporate and floating rate bond funds.
Our growth portfolios* were hedged against the possibility of us plunging off of the Fiscal Cliff, but with the recent market strength those hedges were sold. The small cost of holding them can be likened to the cost of insurance against a big market decline. This cost caused us to
underperform the S&P 500** for November, and we are now just about even with the stock market since our portfolio changes in August, despite November’s disappointing numbers.
As of this writing on December 2nd, we continue to be about 55% invested and 45% in cash in our growth model*.
Why does someone believe you when you say there are four billion stars, but check when you say the paint is wet?
Yavapai College Classes Coming Up
I will be teaching two classes at Yavapai College for the Spring semester.
Fundamentals of Investing for Retirees will be 6 classroom hours, 3 hours each on February 7 and 14, 2013. This course, one I have taught at YC since 1990, is designed to help investors become more confident about their financial decisions. In an easy to grasp format, this class provides a broad knowledge of investments preferred by investors approaching or already in retirement. Learn the ins and outs of stocks, bonds, mutual funds, annuities and more. Topics include recognizing risk, controlling the tax impact of IRA withdrawals, avoiding common investment mistakes and simple risk reducing strategies that anyone can use.
Advanced Investment Analysis Using Charts will also be 6 classroom hours, 3 hours each on February 28 and March 7, 2013. We will discuss lots of charts and the indicators used on them.
Mark your calendars, and tell your friends.
What We Were Saying Back Then
From John Mauldin’s “Things that Make Me Go Hmmm” 10/9/12
Greece’s domestic banks are effectively using ECB (European Central Bank – their equivalent of our Fed) money to buy Greek bonds so that they can continue to borrow from the ECB. Meanwhile the Greek government is selling bonds to its ECB-funded banks so it can repay the ECB for what it has previously borrowed. It is very circular, isn’t it?”
Reprinted from our 12/20/2011 Newsletter
Wondering what will ever become of this huge pile of loans reminded me of the story of the guest who walked into the hotel in a very cash-strapped town, plunked down a $100 bill and went off to inspect the room. The hotel’s proprietor, desperate for cash, grabbed the bill and ran to the butcher to pay off his $100 tab there. The butcher quickly took the $100 to pay the rancher he owed for beef. The greatly relieved rancher, promptly paid the gas station the $100 it was owed, and the gas station owner finally had enough to pay his tab at the hotel, which he promptly did. Just as the gas station owner laid the $100 bill on the hotel counter, the hotel’s guest showed up saying he changed his mind about staying there and took his $100 back. In the few minutes he had been in town he had provided the cash to retire many $100s of old loans.
There is an oddly accurate logic to how that scenario unfolded in the small town, and that is exactly what central banks all over the world, including our own Federal Reserve Bank are trying to engineer with the stacks of money they are printing and loaning out all over the world. It is called de-leveraging.
We badly need to de-lever our finances. The habit of borrowing needs to be replaced with saving money and using it to pay down the mountain of loans we face. The alternative is to wait helplessly for, and be at the mercy of, a stranger with a bunch of $100 bills. [end of reprint]
Maybe the ECB should read my newsletter for an easy to understand explanation of what they are doing.
Please do not email trading instructions or leave messages on our answering machine about trades or needing money from your account.
It is important that we confirm your instructions personally to ensure that they are actually coming from you, and also to get your acknowledgement that we understand the instructions correctly.
So please call the office and talk to a live person when you want to give us instructions on your account. (928) 778-4000.
Scottsdale Office Date
Will Hepburn will be in the Valley on Friday December 7th. If you would like to meet with Will at the Scottsdale office, please call for an appointment at (928) 778-4000.
Our Spotlight Strategy
With Adaptive Balance* we strive to provide high total return from a combination of investments in both the equity and income markets with an emphasis on the income markets.
Our proprietary Stock Market Exposure Indicator is used to determine a stock market exposure that adapts to both strength and weakness in the market, directing exposure to the HCM Long/Short Equity strategy ranging from 0% to a maximum of 50% of account value. The balance, 50% to 100% of account value, is invested in the Flexible Income Strategy. The HCM Safety Net indicator is designed to warn of sudden potential declines in which case stock market exposure is quickly reduced.
If you would like a current copy of our SEC Form ADV, Part 2, it is on our website at hepburncapital.com/form-adv.html
* 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.
This newsletter may contain forward-looking statements, including, but not limited to, statements as to future events that involve various risks and uncertainties. Forward-looking statements involve known and unknown risks, uncertainties and other factors which may cause actual events or results to differ materially from those that were forecasted. Information in this newsletter may be 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.