MARKET FLASH - October 8, 2013

The Politics of Debt
By Charles Webb

We're now a week into yet another round of Washington dysfunction with no indication as to how the funding impasse is going to get resolved. Clients are starting to call us worried about what they're hearing in the news and wondering what this means to their finances. Clearly, people are worried. But then that's exactly what the politicians want. They want us worried. They want to make the situation seem as scary as possible to pressure the other side to move. It's wrong, immature and probably immoral. It's also classic politics.

As your financial advisor, it's our job to keep our finger on the pulse of world events and try to understand how these various issues may impact your portfolio and ultimately your financial goals. So here's our take on this latest fiasco. As I'm sure most of you know, there are two issues on hand that need to be resolved in Washington. The first is passing legislation that will fund the government's expenditures for this year and the second is passing a bill to allow the government to borrow more money.

The first issue to hit us dealt with funding the government's current expenses. Unlike most businesses, the Federal government's fiscal year runs October 1st thru September 30th. Every year Congress must appropriate funds to pay for its upcoming year's expenses. Without that legislation, come October, it technically doesn't have the funds to pay its bills. It's important to note that this doesn't impact all spending but only some. What we have now is a partial stoppage of one government. I say one government because it is not "the government" but only one of our governments. This has no bearing on state or local government activities where the vast majority of our services come from. In fact, most people would be hard pressed to identify something that the Federal government does for them on a daily basis.

In our opinion, this aspect of the crisis is really a non-event. Legislation has already been passed to see that furloughed workers will get their back pay once this is over. So we're not going to have some big impact on consumer spending because of all these people out of work. Some specific contractors or specific industries will see their revenue cut for the month. Not exactly something to put the markets in a tailspin.

Instead, what we have are a bunch of people whose power comes from spending our money unable to do so and screaming about it. It makes great news and eye catching headlines but has very little to do with our day to day lives. There's no better proof than the extremes the Feds are trying to go to make the regular folks feel their pain. The pettiness is on full display at open air venues where barricades have been paid to be erected and guards paid to keep visitors out in the name of the park being closed.

The second aspect of this crisis dealing with the debt limit is a different story. The implications of not extending our credit limit reach far and wide. Because the prospects of the U.S. not living up to its debt are so ominous, no one is really taking that seriously. If that possibility were in the cards, the bond market would have crashed by now.

The importance of Treasury securities is the byproduct of the U.S. dollar. Treasuries function as a holding place for dollars used in trade and since 1945, most of the world has been on a dollar standard. Today, for emerging markets outside of Europe, the dollar is used for invoicing both exports and imports, it is the intermediary currency used by banks for clearing international payments, and the intervention currency used by governments. To avoid conflict in targeting exchange rates, the rule of the game is that the U.S. remains passive without an exchange-rate objective of its own.

Countries like China that run large trade surpluses with the U.S. find themselves with ever-growing balances of dollars on their hands. They have to do something with this cash and they find themselves with little alternative but buy U.S. Treasuries with those dollars. The lack of alternatives is the key. If there was an alternative, you would see an immediate drop in the number of investors lining up at the Treasury auctions. It is this interdependency that makes the thought of a U.S. default so unimaginable. International chaos would ensue if we were not able to resolve the current dispute. If you're thinking of getting out of the market (any market) to avoid the fallout from a default, good luck. There's nowhere to go.

So we can only conclude that none of the players involved are really going to let the country default but are posturing themselves politically. The President wants his spending priorities unfettered and the Republicans want to limit those priorities. Let's be clear that it is entirely appropriate and necessary to have to debate the debt limit. This is an important check on the various branches of government. As much as all those involved disagree on details, they all agree that the debt limit should be limited by Congress and only expanded by a consensus. There is no greater proof than the fact that both parties, historically, only raise it enough to cover a year or two's worth of borrowing at a time. Otherwise, just set the limit to fifty trillion and be done with it. Even the President, who now seems to detest the idea of debating the debt ceiling, once argued for it. Here's what then Sen. Barack Obama said in 2006, when President Bush sought an increase in the debt ceiling:

"The fact that we are here today to debate raising America's debt limit is a sign of leadership failure. It is a sign that the U.S. government can't pay its own bills. It is a sign that we now depend on ongoing financial assistance from foreign countries to finance our Government's reckless fiscal policies. . . . Increasing America's debt weakens us domestically and internationally. Leadership means that "the buck stops here." Instead, Washington is shifting the burden of bad choices today onto the backs of our children and grandchildren. America has a debt problem and a failure of leadership. Americans deserve better."

Here's what he said last Thursday:

"If the borrowing limit isn't raised, "the whole world will have problems, which is why, generally, nobody's ever thought to actually threaten not to pay our bills,"... "I'm going to repeat it: There will be no negotiations over this,''

The outstanding debt in 2006 was 8.5 trillion. Today it's about 17 trillion.

The difference now is that the outstanding debt balance has become so large so quickly that the consequences of a runaway deficit are much greater than ever. This has led to a much greater philosophical divide on the issue. It's also less likely to be resolved in a timely manner and pushed right up to the deadline as we see today. Unfortunately, this may be the new normal until the government can get back on a sustainable fiscal path - regardless of who is in office. This is yet another reason to get our fiscal house in order.

So here's where we are today. The Dow is off about 800 point's or roughly 5% and still headed lower. With your current investments you really have two choices - get out or ride it out. Our belief is that whatever decline in the stock market prior to a resolution will be reclaimed by the end of the year. If that's the case, it's best to ride it out. The challenge to getting out is trying to figure out when to get back in. Investor fears usually only subside after the recovery. That's usually after the market is higher than where you sold it.

The greater threat to our financial future is for the national debt to continue this path and not a selloff in the stock market lasting a couple of months.

Drawing Social Security - The Age-Old Question

By: Lori Eason, CFP(R)

Social Security Boot Camp

As a financial planner, the most frequently asked question when it comes to retirement planning is when should I start drawing Social Security benefits? And the answer is; it depends. Many factors need to be considered when determining whether to take benefits early at 62 or wait until full retirement age. This is especially true if you are married. There are some complex planning strategies that can really help couples maximize their benefits, but few people even know about them. I recently participated in a Social Security Boot Camp webinar and wanted to share the key topics as I think you'll find them very interesting.

Taking Benefits Early

I'll start out by saying that current government policies are such that it is usually best to wait until your full retirement age to begin collecting Social Security. If you start drawing benefits at age 62, your benefits are reduced 25% or more for the rest of your life.   Also, if you collect benefits before full retirement age and continue to work, you lose $1 in benefits for every $2 over the limit until the year you reach full retirement age. For 2013, the limit is $15,120. The two most obvious reasons for drawing benefits early are poor health or if you really need the money and are no longer working or earn less than the earnings cap.

Waiting Until Full Retirement Age (FRA)

If you wait until full retirement age, you can collect your full retirement benefit even if you continue to work. Below is a chart that shows the FRA by birth year and the benefit reduction for drawing early:

Birth Year	Full Retirement Age	Benefit Reduction at 62
1943-1954	66	25%
1955	66 and 2 months	25.83%
1956	66 and 4 months	26.67%
1957	66 and 6 months	27.5%
1958	66 and 8 months	28.33%
1959	66 and 10 months	29.17%
1960 and later	67	30%

 

Furthermore, every year you defer collecting benefits past your FRA, your benefit increases by 8%/year up to age 70. After 70, there's no benefit to waiting.  For married couples, it usually makes sense for the higher earning spouse to delay benefits as long as possible to lock in the maximum retirement benefit as well as the largest survivor benefit. The survivor benefit is 100% of the worker's benefit if collected at 66 but is reduced if claimed earlier. Creating the largest possible benefit for the surviving spouse should be main goal for most married couples. There is also a spousal benefit which is 50% of the worker's benefit if collected at 66 and less if claimed earlier. This is commonly used when one spouse has little or no Social Security earnings based on his or her own work history.

Widows and Widowers

If you are a widow or widower, you can collect survivor benefits as early as age 60, but your benefit is subject to reductions and the earnings cap if you continue to work. One option is to collect survivor benefits and later switch to your own benefit that continues to grow at 8% until age 70. Another option is to collect your own reduced retirement benefit early and switch to the full survivor benefit at 66.

Exes

As long as you were married at least 10 years and are not currently married, you may be able to collect on your ex-spouse's work history as long as you are both at least 62. I have certainly heard of couples not getting married because they don't want to forfeit their Ex's benefits. Even if your Ex has not yet started to collect Social Security, you can collect spousal benefits as long as you have been divorced for at least 2 years. If your Ex passes away before you, as long as you wait until age 60 to remarry, you can keep the survivor benefits, assuming they are larger than the spousal benefits for the current husband.

Dependent Minors

If you are collecting retirement benefits and have minor dependent children (unmarried children under 18 or 19 and still in high school), they are entitled to benefits, too. I don't really understand why your children qualify for retirement benefits, but it's not like the program is in jeopardy or anything. Each child is entitled to 50% of parent's FRA benefit even if parent collects reduced benefits early, subject to a family max payment (150-180% of parent's full benefit amount). If you starting drawing benefits before FRA and keep working, you are subject to earnings cap and both your benefit and your dependents' could be reduced.

Strategies

Now we get into the little known "magic" of Social Security planning.   The two main strategies are "File and Suspend" and "Restrict Claim to Spousal Benefit Only". File and Suspend triggers benefits for a spouse but allows the worker to delay collecting. Both spouses cannot file and suspend. Restricting the claim to spousal benefit only lets you collect only your spousal benefit while deferring your own retirement and letting your benefit grow. Both spouses cannot file a restricted claim. So here's an example of how to use these strategies if both spouses have earned substantial retirement benefits. One spouse can file and suspend triggering benefits for the other. The other spouse files a restricted claim for spousal benefit only. They both defer claiming their own benefits until 70 but from FRA to age 70, they receive monthly income equal to the spousal benefit.  It's free money.

Alternatively, if one spouse has little or no work history, the main breadwinner can file and suspend at 66 to trigger spousal benefits while deferring his or her own retirement benefits until 70. Ex-spouses can also use these strategies since they are eligible for spousal benefits. If you have dependent minors that are eligible for benefits, you can also file and suspend at FRA to trigger benefits for your spouse and children.

Do-Over

If you change your mid within 12 months of first claiming benefits, you can repay the money received and that of any dependents and restart your benefits at a higher rate later. If you wait until 66, you can voluntarily suspend your benefits (but not repay them) and earn 8%/year in delayed credits up to 70. This would basically put you back at what you would have received had you waited until 66 to start.

In Conclusion

While this article just scratches the surface and doesn't fully explain each subject, I hope it has shed some insight on Social Security planning. If you have any further questions, please don't hesitate to contact me.

 

 

 

 

Looking Out for You

By Charles Webb

By early adulthood most everyone figures out that very few people beyond your family are really looking out for you. In this day and age of economic uncertainty, I can't help but to notice the preponderance of people and institutions that are claiming to be there for us. A lot of them seem to be sales people. A lot of them seem to be selling financial products. I'm convinced that most people who claim to "have my back" are simply there because it's closer to my wallet.

Among all of these folks, the one group that stands proudly at the top of claiming to look out for all of us is the federal government. The fortress of cradle to grave support that is being constructed around us was made poignantly clear to me as I poked around the Health and Human Services website promoting the benefits of the soon to be fully implemented healthcare legislation.

Now I'll freely admit that I'm skeptical about how this whole legislative package is going to get implemented. I was curious when the President was selling insurance on TV and directing people to their new website. Drilling down through a bunch of pages full of pictures of people who looked like they didn't need insurance, I came across a link where I could find out who would qualify for premium assistance. What I found out was that the government will help pay the health insurance premium for a family of four earning over $94,000 a year. Two things struck me about this. First is that government assistance isn't just for the poor anymore and second, this is going to be really expensive. They're taking the concept of looking out for us to a whole new level.

But I wonder if they really are looking out for us? Where is all this free stuff coming from? Is there a price to pay and if so, how much and who's going to pay it? Even with the government's ability to print money, there is a price to pay. That price is the massive debt that the Feds are racking up. That debt in turn is driving the Federal Reserve's monetary policy.

This is the point that needs to be made. Through QE1, QE2, QE3, operation twist, the mortgage back security purchase program and a host of other market interventions, the Fed has been artificially holding down all interest rates for at least five years now. Traditionally, the Fed has exerted direct control over the shortest term rates but all the other rates have been established by market forces. For anyone living off their savings or those like us who are trying to find ways to generate that income, this has become an incredibly challenging time.

Investors now have to look to unfamiliar and riskier places for even modest income. This is a big deal. Based on the current market rates, you would need twice the savings today to generate the same income that you would have had seven years ago. We're now being told that this lost income can be made up by the gains in the stock market but that's far from a sure thing. Stock investors have loved these easy money policies as they've accounted for much of the run up in stock prices over the last few years, but even with the nice gains over the past few years, stocks are only up a few percentage points from 2007.

So if the economy is performing better than it was four or five years ago, why is the Fed still actively manipulating interest rates lower? We're told it's because the economy still needs it and they won't change course until a bunch of data points change their minds. I'm beginning to wonder. Who is really benefiting from these lower rates? Clearly anyone who is carrying a lot of debt is benefiting. And wouldn't you know that the very same folks that are holding rates down happen to also be the largest debtors on the planet - the U.S. Federal Government.

So if you're wondering when savers and those relying on their portfolio income to pay for their retirement are going to get a break, it may be a while. Just one percentage point more that the government has to pay in interest on 17 trillion dollars adds 170 billion in additional expense per year. That's real money even by Washington standards. So who are they really looking out for? The price for all of this government help is looking more and more like our retirement income.

Settlement Eases Medicare Rules

By Lori Eason, CFP(R)

Following a national class action lawsuit settlement, the government has decided to revise its Medicare manual. The new language will ensure broader availability of Medicare coverage for skilled nursing, home health and outpatient care. Before I go into the details, I'd like to refresh your memory on the different parts to Medicare since it is quite complicated, but very important given it is pretty much the only cost-effective health insurance available these days for senior citizens.

 

The Social Security Act of 1965 created Medicare to provide insurance for people over 65. While there were originally only 2 parts to Medicare, there are now 4 parts: Parts A, B, C and D. Part A provides hospital and skilled nursing care coverage and is paid for by the government as long as the insured has 40 or more quarters of Medicare-covered employment. It is financed mostly by the Medicare tax of 2.9% split between employer and employee. A deductible of $1,184 does apply. Part B covers physicians and other out-of-hospital expenses. The insured person contributes to the cost through a monthly premium, currently $104.90 with a deductible of $147 per year. Medicare Advantage plans are private plans that can help supplement Medicare benefits for an additional premium and are referred to as Part C. In 2006, Part D, a prescription drug discount plan, became effective.

 

A key point to remember is that Medicare does not cover long term care. While Medicare does pay for some short-term nursing home stays, the requirements to qualify for benefits are very specific and it is not intended for long-term stays.  Among the requirements is an inpatient hospital stay of 3 consecutive days or more.  One notable illness that often does not meet this requirement is Alzheimer's because the patient is often physically in okay shape, but mentally unable to care for his or herself.   If all requirements are met, Medicare pays the full cost of the nursing home for the first 20 days.  For days 21 through 100, Medicare covers the cost after the patient pays a daily copayment, currently $148.  After 100 days, Medicare pays nothing. 

 

Now I'll move on to the upcoming changes. According to current Medicare language, beneficiaries are required to show a likelihood of medical or functional improvement before Medicare will pay for skilled nursing and therapy services. Under the settlement of Jimmo v. Sebelius in October of 2012, the U.S. Department of Health and Human Services has agreed to relax these requirements. The government is set to revise its Medicare manual to make benefits available when care would only "maintain the patient's current condition or prevent or slow further deterioration." Standard nursing home care still won't be covered beyond its current limits (no more than 100 days), but it will expand access to skilled nursing, home health and outpatient care.

 

The lead plaintiff in the case is a 76 year old woman who has been blind since childhood and had her right leg amputated below the knee due to blood circulation problems. She received care from nurses and home health aides, but Medicare denied coverage saying her condition was unlikely to improve. At first, the Obama administration urged the judge to dismiss the lawsuit stating that the court lacked jurisdiction and that the plaintiffs had failed to state a claim for which relief could be granted. This motion to dismiss was denied. A proposed settlement was approved in October of 2012. The settlement was approved on January 24^th, 2013 during a scheduled fairness hearing and the Centers for Medicare and Medicaid Services will have one year to make the manual changes and carry out an educational campaign.

 

A spokeswoman for the U.S. Department of Health said the proposed settlement "clarifies" existing policy and that they do not expect change in access to services or costs. I completely disagree that the change in language only clarifies the current rules. Requiring that a beneficiary show a likelihood of improvement and requiring that the care maintains the condition or slows deterioration are very different things.

 

Some 10,000 cases in which Medicare beneficiaries' claims for skilled nursing and therapy were denied will have their claims re-examined. A public trustee of the Medicare program said that the proposed settlement would unquestionably increase costs but couldn't say by how much. Some argue that the program's higher costs for providing the additional coverage will rise but could be offset by allowing some beneficiaries to access physical therapy and home health care and avoid more expensive care in hospitals and nursing homes. While I could see this to a certain degree, there's no way the savings will be greater than the cost of expanding coverage. Medicare spending is expected to top $590 billion this year without the proposed changes.

Chicken Little

By: Charles Webb

 

As of this writing, there is no doubt that the automatic federal spending cuts, known as the sequester, will take effect on Friday March 1^st. You'd be hard pressed to miss the news coverage surrounding this deadline and the impending doom that it will bring about. Once the "meat cleaver" cuts "painfully and indiscriminately" into the various programs, teachers, firemen, the police and other first responders are going to be fired in mass. Our aircraft carriers will no longer be able to project our power abroad and will immediately be recalled to port. There will be no air travel for the lack of air traffic controllers. The next life-saving drug will not be discovered. Prisons will be emptied. GDP will fall precipitously throwing our weak recovery into another recession worse than the last one we came out of (although tax increases have no impact). Brace yourself. The end is near.

Satire usually doesn't translate well into writing. So in case you missed it, there was plenty of it in the previous paragraph. But if you listen to the comments coming from those who like to spend our taxes and borrow on our behalf or recipeints of those dollars, no truer words have been spoken than the above.

This is, of course, the biggest bunch of nonsense to come out of Washington in a very long time. The "draconian" cuts simply don't mathematically come close to matching the rhetoric being thrown about. This is bad politics at its worst. Let's go over some of the numbers.

$2,468,000,000,000 - Revenues 2012 (estimate)
$3,795,000,000,000 - Spending 2012 (estimate)
$1,327,000,000,000 - Deficit 2012 (estimate)
$44,000,000,000 - Sequester driven spending cuts (2013)

Let's drop 8 zeros and look at this using recognizable numbers.

$24,680 - Annual income
$37,950 - Annual spending
$13,270 - Debt incurred (this year)
$440 - proposed spending cut

So cutting back $440 on total spending of $37,950 represents a 1.16% spending decrease. That's a joke. Even after the spending cuts take place, the government will spend roughly $15 billion more than it did last year. Granted, the government works in big numbers so 1.16% looks like a lot when you assign a dollar amount to it (read that as scare tactics). But it's insulting to have us believe the government can't find barely over one percentage point worth of waste, fraud or ineffectiveness to cut.

The truly scary part of all this is the stink that's being raised over such a small step towards fiscal sanity. It makes you wonder how Washington will ever get its house in order.

The sky isn't falling.