Tax Planning

Riding the Storm Out

Investors are aware the markets have begun the year with some volatility and may be asking questions such as, is this a precursor of what may occur throughout the rest of the year?  What does history tell us about market turmoil?  We will try to answer these questions and provide some further insight into what we see ahead.  

Since the year 2000 the markets have dropped at least 10% in 14 out of 22 years.  In the same time span only six times was the S&P 500 negative for the year and three of those times were the first three years of this time period (2000, 2001, and 2002) and another time, 2015, the market was only lower by about 1%.  A major takeaway from this might be that corrections are normal and do not necessarily lead to negative returns on longer time periods.  But it is also worth mentioning there are periods of time when the market is negative for a prolonged period, such as the first three years of this century.  Given what we see in the markets, we feel right now we are most likely the former and not the latter – this is part of a normal market cycle and not the beginning of a prolonged downturn. 

At its intraday low a couple of weeks ago, the S&P 500 was more than 12% below the all-time highs reached at the very beginning of the year. And a few days later the index closed a little more than 10% off the highs, placing it into correction territory.  The tech-heavy Nasdaq at one point was more than 19% off its highs.  The S&P 500 is generally used as a barometer for the broader stock market, but does not always reflect what is occurring within specific sectors.  The index is now dominated by a small handful of names, most of which are associated with the tech sector.  The S&P 500 now sits 6.5% lower than where it was at the beginning of the year, but the Energy sector is higher by a whopping 24% and Financials are also positive. The overall Technology sector is in line with the broader market, however many tech stocks are more than 60% lower than their highs reached last fall. 

This past week brought out a great deal of volatility in some individual stock names after earnings were released.  The company formerly known as Facebook, now called Meta Platforms, lost 25% of its market value in a single day.  Prior to this it had been the seventh largest holding in the S&P 500.  Conversely, the third largest component of the S&P 500, Amazon, gained more than 13% after releasing earnings.  We generally see large price fluctuations, both positive and negative, after earnings but these abnormally large swings reflect current market sentiment and how stock prices are largely predicated upon expectations for future earnings.  As earnings reports continue, we expect to see more fluctuations in stock prices.  Overall earnings reported thus far have been mostly better than estimates, indicating continued growth, albeit at a little slower pace than we experienced in 2021. 

State of the Economy

This year’s stock market volatility has been primarily attributed to the expectation interest rates will rise.  The market has currently priced in four to five interest rate hikes by the Federal Reserve.  The liquidity added by the Fed during the pandemic was needed to help the economy stay afloat and is widely viewed as a success, but it came at the expense of higher inflation since more money being was pumped into the system.  Now we are paying the price for that with higher prices and soon-to-be higher interest rates.  Given the shutdowns which occurred and how they could have severely crippled the economy, this may be a relatively minor price to pay.  (We will reserve our commentary on the necessity of the shutdowns, but will mention there was a Johns Hopkins study released last week showing they did not work.)  Our children and grandchildren will pay for this for generations to come since the national debt is significantly higher than it was prior to the pandemic and will eventually need to be repaid.  On a positive note, higher interest rates and reduced liquidity from the Fed are an indication the economy is strong enough to now stand on its own without support. If there are not as many interest rate hikes as currently expected, the stock market will likely view that positively and we could see a rally. But if there are fewer than expected rate hikes it might be because of slowing economic activity, so it is a bit of a double-edged sword. 

Higher inflation and slowing economic growth have led to fears of a return to stagflation similar to what was experienced in the 1970s.   Thus far the economy continues to show strength, as evidenced by a continued rise in Gross Domestic Product (GDP).  Another characteristic of stagflation was high unemployment. The employment report last week showed that employment remains surprisingly strong with a very low rate of unemployment and a very high level of job openings.  The inability to fill open jobs is leading to higher wages, which contributes to a rise in inflation and labor shortages.  These are a drag on economic growth since businesses are not operating at full capacity.  If labor force participation increases and more jobs are filled, we could see GDP growing at a level closer to full potential which would be a tailwind for the stock market.   

Looking Ahead

Earnings season continues in earnest over the next few weeks and so far positive earnings surprises have outpaced negative reports so we would expect earnings to provide a much needed push to the markets.  Also on tap this week is the most watched measure of inflation, the Consumer Price Index (CPI) report.  It is expected that inflation remains elevated but the rate of growth could be slowing.  Our prediction is that inflation will slow this year but still remain at levels higher than faced over the previous two decades. 

As was evidenced by some of the recent earnings reports and the divergence in performance between sectors, we continue to see a dichotomy within the stock market.  We expect this continue with companies producing table and solid earnings performing best.  Even though market pullbacks are a normal part of the market cycle, the recent turmoil serves as a strong reminder the market can, and will, retreat from time to time. For retirees, it is especially important to ensure you have a plan in place with multiple sources of income so you are not forced to draw upon your investments during times when markets are lower.  This is also a good opportunity to ensure your portfolio is aligned with your risk tolerance and goals.  If you would like to review your portfolio or want to consider strategies to navigate what may lie ahead, please give us a call to schedule your review.  We continue to monitor the markets and position portfolios appropriately to weather all storms that blow our way. 

Have a wonderful week!

Nathan Zeller, CFA, CFP®

Chief Investment Strategist

Secured Retirement

nzeller@securedretirements.com

Please contact us if you would like to review your individual financial plan or learn how the TaxSmart™ Retirement Program can help you.   

info@securedretirements.com
Office phone # (952) 460-3260

What Should You Do….?

After the market declines experienced so far this year, many people may be wondering what they should be doing.  The meteoric rise of the markets since the drop experienced at the onset of the COVID pandemic has caused complacency amongst investors and belief the markets can only go one direction – up.  The last few weeks have been a reminder the markets are indeed volatile and can go down at times.  If you have not done so recently, it might be best to take time to clearly identify your personal financial goals and how you plan to achieve them.  And then ask yourself a few questions, such as, if the stock market were to continue on a downward trajectory for a sustained period how would it affect your goals?  Would you be able to maintain your income and lifestyle?  Are the projections you have used in the past still valid or were you perhaps a little too optimistic in what the market could return?  The primary objective for many of our clients is to create a sustainable, steady income throughout retirement. When this is achieved, market fluctuations, such as what we have experienced so far this year, do not cause concern nor do they impact long term spending. 

There are other questions investors might be asking right now, including what is causing recent volatility?  When will it end?  What should investors expect going forward?  Let’s take a look and review recent activity.  The major economic event last week was the Federal Reserve meeting.  There was no immediate action taken but it was conveyed their bond-buying program will wrap up over the next couple of months, as was previously expected.  The Fed remains on track to raise interest rates at their next meeting in March.  What has changed over the past few months, and most likely caused investor angst, is the acceleration of the bond buying program taper and projections for more interest rate increases in 2022 as the Fed feels pressure to act with inflation remaining at multi-decade highs and showing no signs of slowing.   

On a positive note, Gross Domestic Product (GDP) growth for the fourth quarter came in at an annualized pace of 6.9%, well ahead of the 5.5% estimated.  2021 was the strongest full year for economic growth in the U.S. since 1984 as the recovery from the unprecedented drop in activity during the early days of the pandemic continued in earnest.  The largest component of GDP, consumer spending, appears to have been strong during the quarter, which included the traditionally busy holiday season.  Concern about a return to 1970’s style stagflation remains, but the latest GDP reading gives plenty of reason to think a broad slowdown in economic growth remains unlikely.  

Not a Walk in the Park

Many descriptions or analogies are used when referring to the stock market, especially during volatile times. These analogies might include a ship sailing in troubled waters or a casino when speculation seems to be rampant.  Most investors would be pretty content if the markets behaved like a leisurely stroll through a city park where there is continued, steady forward movement.  The market does not always act in that manner and similarities are more often made using wild amusement park rides.  With the ups and downs last week, the most fitting ride is probably a roller coaster. The markets began the week Monday with a major sell-off bringing the S&P 500 down almost 10% from the beginning of the year.  Fortunately, the markets quickly recovered during the day and somehow managed to eke out a small gain.  The total market fluctuation for the day between high and low was more than 4%! 

The volatility continued leading up to and after the Federal Reserve meeting in the middle of the week. There were two days where the markets showed great promise and began the day much higher only to give up most of the gains by the end of the day.  Finally, the markets were able to gain traction on Friday and staged a massive rally.  The turnaround on Monday and strength on Friday lead us to believe the worst is behind us.  But we also think if this is the beginning of a rebound, it may not be consistent across all sectors.  We do not anticipate the more speculative growth stocks, which have been especially beaten down, to stage a quick comeback or even return to the same levels where they were trading prior to this market downturn since many do not have positive earnings or still have extended valuations.  Those sectors which perform better during times of rising interest rates and slower growth will most likely continue to be the best performing.  Fortunately, market pullbacks present buying opportunities.  Even if the market is not finished with this downturn, we are closer to the bottom than the top. 

Thinking of most roller coasters, the ride begins by being pulled up a large incline and upon reaching the top, slowly crests before beginning a rapid descent.  It is at the top where riders experience the most nervousness and as the ride gets closer to the bottom riders’ anxieties subside.  Investors generally view the markets with more fear toward the bottom and less worry at the top when, in fact, they should have the opposite view. The challenge is knowing when that bottom will occur and how close (or far) away the market is from that point at any given time.  Despite all the volatility during the week, the stock market ended about the same way roller coaster rides do – at the same place they began.  The S&P 500 did manage a very small gain, the first positive week of the year, with the Dow Jones Industrial Average showing a larger gain but the Nasdaq ended almost exactly where it began. 

Looking Ahead

Much of the market movement of recent weeks has been attributed to uncertainty about possible Fed action, which has now been priced into the market so the focus will shift towards earning releases.  Overall earnings this quarter have not shown levels of earnings growth as high as the previous few quarters but have remained solid so there remains optimism earnings reports will provide positive momentum to the markets, especially with some of the mega-tech names reporting earnings this coming week.

The resilience of the markets last week provides hope better days are ahead, but this is a reminder of how the markets can behave.  It has been often said that as January goes, so will the remainder of the year. There will undoubtedly be continued ups and downs in the market but we still believe there will be positive returns for the year.  If you are unsure what to do or if the recent market downturn has caused you worry this is a good time to re-visit your complete retirement plan, which not only includes investments but also tax and income planning with the last being the most important of all.  Be sure you can confidently answer the questions posed at the beginning and if not, please give us a call to review your situation.  Do not get caught up with short-term market movement but rather focus on the long term and do not lose sight of your goals and objectives.

Have a wonderful week!

Nathan Zeller, CFA, CFP®

Chief Investment Strategist

Secured Retirement

nzeller@securedretirements.com

Please contact us if you would like to review your individual financial plan or learn how the TaxSmart™ Retirement Program can help you.   

info@securedretirements.com
Office phone # (952) 460-3260

Does Your Dog Bite?

In the film The Pink Panther Strikes Again, as Inspector Clouseau is checking into a hotel he sees a dog sitting on the floor and asks the innkeeper if his dog bites.  The man says no, so Clouseau proceeds to pet the dog and is subsequently bitten.  An obviously agitated Clouseau says to the innkeeper, “I thought you said your dog did not bite,” to which the innkeeper responds, “That is not my dog.”  The stock market also seems to bite investors from time to time, just as it has over the past couple of weeks.  The year has gotten off to a rough start.  The S&P 500 is lower by more than 7.5% since the beginning of the year and the tech-heavy Nasdaq is now in correction territory as it has fallen by more than 14% from its all-time high reached in November.  Last week was the worst week for the markets since the beginning of the pandemic.  What caused this pullback and is it going to continue? 

The largest sources of angst in the market are continued inflation and possible action from the Federal Reserve, both of which are very much intertwined.  Recent inflation data indicated that year-over-year price increases are at the highest levels since the early 1980’s with prices of consumer goods 7% higher than a year ago and wholesale inflation nearing 10%.  It seems inevitable the Fed will raise interest rates this year in an attempt to combat inflation, with the questions being how much and how often?  Current estimates range anywhere from two to seven interest rate hikes this year.  It is widely anticipated the Fed will begin to raise rates at their March meeting with some speculation of the first rate hike possibly being half of a percent and not the more traditional quarter percent rate hike.  Our expectation is the Fed will start slow and raise rates by a quarter of a percent and then determine the effects on the economy and markets, which generally takes at least a few months to fully ascertain.  The Fed will want to be deliberate and not risk unnecessary damage to the economy so we anticipate they will raise rates in quarter point increments throughout the year, most likely once each quarter.

The prospect of higher interest rates, which lead to higher borrowing costs, have had an outsized effect on technology stocks which were already trading at expanded price to earnings (P/E) multiples.  Stock prices are based upon expected future earnings, which are then discounted back to present value based upon current interest rates.  As interest rates rise, it makes the present value of future earnings less, causing downward pressure on stock prices.  This has a lesser impact on companies with established earnings.  Abnormally high Price-to-Earnings ratios last year were mostly brushed off as being a result of irregular earnings due to the pandemic but as we are now getting farther away from the lockdowns which temporarily crippled the economy, earnings are being more closely watched and those companies still trading at high multiples are being punished.  Conversely, with the recent market pullback many companies with histories of stable earnings are now trading at fairly reasonable multiples. 

Safely Losing Money…

In anticipation of action from the Fed, interest rates have moved higher causing bond prices to fall.  As a reminder, there is an inverse relationship between bond yields and bond prices.  Historically high-quality bonds have been viewed as a safe haven during times of volatility in the stock market and therefore have been a good way to diversify a stock portfolio and reduce overall portfolio risk.  However, with interest rates being very low and upward pressure in yields from inflation, they have not provided this safe haven nor do we expect them to over the next few years as interest rates rise.  Year to date the Bloomberg Barclays Aggregate Bond Index, which is the most widely followed bond benchmark, is lower by about 1.5%. This follows a loss of almost 2% in 2021.

Many of our clients have protected income and therefore should not be overly concerned with the recent market volatility since they are not required to take money out of stocks or bonds when they are trading lower, as they are now.  They should be able to rest easy despite the market volatility.  At Secured Retirement, our goal is to ensure our clients remain confident in their retirement spending and have reliable income regardless of what the markets are doing. 

Looking Ahead

We would refer to the recent market pullback as a “reset” since earnings are again being considered and high-quality names are back in focus.  The coming week brings a Federal Reserve meeting, where there is a chance of an interest rate hike, but most likely will set the stage for a March liftoff.  Earnings season will be fully underway, which we think will provide some support for the market.  Thus far earnings have been mixed but we have seen more earnings surprises than disappointments.  We anticipate continued earnings growth this year, but not at the pace seen last year.  And despite the recent setbacks in the market, we remain optimistic for what lies ahead.

Cash or low-yielding investment are losing purchasing power due to inflation remaining elevated.  If you have been on the fence and hesitant to invest cash, this pullback provides a great opportunity to do so but we would recommend being selective given the rotation occurring in the market.  Give us a call to discuss investment strategies, especially if you are worried about recent market volatility.  There is quite a bit going on in the markets right now and you do not want to get bitten.   

Have a wonderful week!

Nathan Zeller, CFA, CFP®

Chief Investment Strategist

Secured Retirement

nzeller@securedretirements.com

Please contact us if you would like to review your individual financial plan or learn how the TaxSmart™ Retirement Program can help you.   

info@securedretirements.com
Office phone # (952) 460-3260