First 200 Days of 2015 Mediocre

A diversified portfolio using stocks (S&P 500), bonds, 20 year Treasury, Cash (money market), and Gold bullion has returned -1% thru July 17th.

The stock portion was ahead 4.3%, bonds -3.2%, cash even, and Gold lost 5%. 

The above equal mix of investment is diversified and has historically returned a positive 6-1/2% on average over 25 years, with small risk to principal (drawdown) of -2% to -6 over the five negative years (2008 was down 6%).

Interest Rate Rise Hurts Bonds Bad in 2Q

The U.S. stock market ended the second quarter in a standstill from March 31st. After a decent April and May, as the popular broad market averages gained about 2-3 percent, most of those gains were given back in June. True, the stock market as hovering near all-time highs, a static condition for four months now. That’s old news now. We’re all salivating on what’s in store next. Will fear or greed control our investing decisions going forward?

If you divide the stock market into the 9 sectors that S&P publishes, the health of the market is soon diagnosed as not so chipper. Interest sensitive areas such as Utilities, Industrials, and Real Estate, are all well below their recent peaks in prices in late 2014 and late February 2015. Two stand outs we've owned for months now: HealthCare and Consumer Discretionary stocks/ETFs.

The focus in the media is always on stocks, and the casual follower of the markets may be hearing only the headline news. The BIG story of the second quarter was the rise in interest rates, and the toll taken in the bond markets. The confluence of events the past 6 months or so has led to much higher interest rates on longer term debt, which affects shorter term debt. The ending of the Fed’s quantitative easing, or QE, a stronger U.S. Dollar, and then the rise in long-term interest rates.  Why is this important to stock market investors? Higher borrowing costs equate to lower profits. The super low rates have supported profits the past years, and now the rum is being watered down in the punch bowl. Can the end of the stock market party be too far off? Of course, this is just one catalyst that might support a bear market or top in stock prices. But one worth considering as our markets and lives depend in a large part, of being able to borrow short or long term money to accomplish our financial goals.
To wit: in the April-June period, the 10 year Treasury Bond lost 3%, the 20 year T-Bond lost 8%, and the 30 year T-Bond lost 11% ! If a 20 year Treasury Bond loses 8%, and the interest it pays is 2.7%, then 3 years of interest was lost in the last three months owning this bond. Not a good outcome. The bond price/yield teeter-totter has reversed its course; the weight of the higher rates is causing prices to fall. There will come a tipping point in which bond investors will give up all hope and frantically sell their bonds and bond mutual funds. Perhaps that will mark a temporary bottom and an opportunity to buy. If stocks are not behaving well, they will sell stocks, and that doesn't leave many places to hide. The price drop in the U.S. Treasury bonds was quite dramatic, rippling through the many fixed income areas.

Earning an above inflation rate rate on your savings and investments may be a difficult task the rest of 2015 and beyond, unless  you're nimble and can look outside the "box".

There is a touch of good news for savers here: fixed rates on CD's and annuities are rising. The July rates across my desk are more enticing for those who wish to beat the bond markets ups and down, and have stability of principal. Ask me about how that may work to your advantage. Stay tuned.

Retirement Accounts; the Cold Hard Math on your Savings

                                                                                                                            
* American's have an estimated $24 Trillion in retirement assets.
* The entire gross national US debt is just $18 Trillion, making the retirement market 33% larger.
* There are more than 600,000 people with $1 million in an I.R.A. account; 630,000 from the Government Accounting Office Data from 2011, so there are no doubt many more now.
* More than 300 folks have $25 million or more in their IRA's. Since contributions to IRA's are capped at rather low amounts, the majority of this money was no doubt rollovers from company-retirement plans.
* Defined Contribution Plans, sponsored by employers, total $6.6 Trillion, about a trillion dollars less than I.R.A. account values.

So. Although this is very interesting factoids about I.R.A.'s and retirement plans, what's the take-a-way on this after about 30 years these accounts have been offered and funded.

My first thoughts are that the U.S. government knows all the details about your retirement accounts. You report much of it on your tax forms each year; deposits, withdrawals, year end balances. Next, specific rules are in the law that you must follow along the way to retirement and well into retirement perhaps years from now. They are not easy to follow.

For example: take your retirement money too early – a penalty is due. Put in too much money above their limits – a penalty applies. Take out too little money starting retirement (generally after age 70-1/2), penalty applies. I can see the rationale on this from the Governments view: they gave you the tax break on the money on the way in; so they want their tax when you retire. It was not counted as salary as earned, but now it’s treated as salary when you take distributions.

Some troubles to be aware of: Retiring Early – due to a great pension plan at work, or you were fortunate in your other ‘non-retirement’ assets. You cannot access your IRA money at 56 or 57 without a penalty, 10% normally. 59-1/2 is the rule. It’s your money, and you owe a penalty after having retired? I know folks in this quandary.

Taxes: Oh, yes, the sticky wicket of taxes owed when you pull out your retirement money. That $300,000 in those IRA’s and 401-k’s is now $225,000 net to you after the 25% taxes owed. It’s taxed as a salary would be on your tax return; that’s called ordinary income. The rates range from 10% to 39.6% for 2014. It's a progressive tax; the higher earners pay a larger percentage. The lower capital gains tax rates (if you owned stocks or mutual funds and sold them) are not available to you. Sorry.

The other argument bandied about by the financial media is: you will be in a lower tax bracket when you retire – not always the case: it will depend on a lot of factors outside of this discussion. Plus, the Government is constantly monkeying with the rates anyway, and will find a way to get their ‘pound of flesh’ from you, be it through retirement withdrawals, Social Security taxation, or other nefarious schemes. It can be done, but you have to tax plan diligenltly throughout the year.

The Seed and the Harvest

A workshop I attended last year placed this all in perspective with a presentation on retiring tax free with unlimited amounts of funding for this particular investment. Quite unique if you fit the profile. Anyway, let’s assume you are a farmer plowing a field in the summer, laying down your seeds for the season’s planting, hoping for a bountiful harvest this fall. Your IRA account is being taxed as the ‘harvest. You pay tax on the seed (your contributions), plus the crops growth (your investment growth + dividends paid on your seeds). And, unlike a business, you can’t deduct your expenses for the upkeep on your farming operation (i.e. commissions, fund expenses, management fees, investment losses).  A ROTH IRA is an excellent choice for the younger crowd who can save after tax funds over many years and be assured of no taxation down the road. No deduction on the contributions, no tax when withdrawn. That’s paying on the seed, not the harvest.

Recommendations:

I recommend to own both types of accounts; IRA’s and qualified plans like 401k and 403b, etc., and to have outside money in taxable accounts that you can access prior to retirement age. Each will have different objectives to some degree, with the end goal of being tax efficient when you need to spend the money. If you need help figuring this out, call upon me for a meeting, and maybe you can avoid or mitigate the tax man’s involuntary tithe that’s coming down the road upon retirement.  

Barry L. Unterbrink
Chartered Retirement Planning Counselor (954) 719-1151
Fort Lauderdale, Florida