Life Just Got A Lot Cheaper

By Charles Webb

As we conclude 2014 and look back over the year, much remains the same as in the previous couple of years. Global politics and strife seem to be in the headlines every day. Political divisions remain in Washington which has led to more legislative gridlock. European debt and lackluster growth are threatening the currency union and questioning the long-term viability of the Euro. And finally, the Federal Reserve looks for ways to exit the capital markets and let interest rates rise to more normal levels.

So as unsettled as the world seems, there was actually little reason for the U.S stock market to get derailed in 2014. It's important to keep in mind that the stock market is always forward looking and as such, it hates uncertainty. Good or bad, uncertainty leads to volatility (up or down). 2014 was a year in which we saw relatively little volatility in the overall stock and bond markets.

This is not to say that there weren't eventful moments during the year. Most notable was the drop in energy prices. Back in June 2014, the price of Brent crude was up around $115 per barrel. As of this month, it had fallen more than half, down below $50 per barrel. This has been a huge story and we think will be the main driver of the fundamental factors effecting stocks in 2015.

Ironically, the initial selloff in oil back in June spooked the markets due to the severity of the decline. Investors worried that this was due to a lack of demand that portended a significant slowdown in global GDP. The stock market actually declined in the third quarter based on these worries.

While these GDP concerns were partially justified, the primary reason for oil's decline was more and more new production making its way into the market. In addition, this new production was coming from non-OPEC sources - primarily the United States. This meant that the traditional oil cartel nations could do little about controlling the supply glut as they typically would in response to a decline in demand. In fact, OPEC has responded just the opposite by announcing at their last November meeting that they would continue current production levels in order to protect their market share and to try and drive out the more expensive sources of production (mainly U.S. hydraulic fracturing).

The oil price crash is a very big deal and is now upending the global economy, with ramifications for every country in the world. Low prices are excellent news for oil consumers in places like Japan or the US, where gasoline is the cheapest it's been in years. But it's a different story for nations reliant on oil sales. Russia's economy is facing a potential meltdown. Venezuela is facing serious unrest. Even better-prepared countries like Saudi Arabia could face heavy pressure if oil prices stay low.

In the U.S., cheaper energy prices are going to have a significant positive impact on our economy. It is estimated that U.S. drivers will spend $550 less per car in 2015 than they did in 2014. That will give consumers more money to spend on other things. Businesses that ship their products will see a huge benefit with lower transportation costs. Transportation companies will obviously see lower operating costs. The travel industry should experience higher volumes of traffic. Oil is also a major input in the production of everything from plastics to fertilizer. Farming will be cheaper and so on.

We believe that sustained lower oil prices will be the biggest factor driving earnings and thus stock prices in 2015. Oil below $60 per barrel should also create a nice counter balance to other negative forces such as the higher value of the Dollar vs. Euro and a possible Fed rate hike later in the year. While we're not expecting a year like 2013, we do believe stocks should do as well as in 2014 - mid to upper single digit returns.

The Land of Opportunity?

By:  Douglas Schwartz

A few weeks ago, I had the privilege of hearing the co-founder of Home Depot, Bernie Marcus, speak.  There was one thing that Mr. Marcus said that I have been unable to get out of my head.  He said that if he were trying to create Home Depot today, he would simply not be able to do so.  He went on to add that in the 1970's, Washington was your friend.  They used to help and encourage free markets, business and entrepreneurship. Today, making money and becoming wealthy is demonized.  Washington is increasingly becoming your foe.

All of the outrageous legislation and regulations are hindering the ability for Americans to start and grow businesses, which obviously has a negative impact on job creation.  For example, let's talk about the Dodd-Frank Act which greatly increases regulation in the financial services industry.  It was passed in July of 2010 yet bureaucrats are still adding regulations to that bill to this day.  As of April 1 of this year, only 52% of the rules mandated by the legislation were completed. Yes, you read that correctly.  All this red tape is making it more difficult to start a business in the so called land of opportunity than other countries. For example, it takes six months to start a bank in England.  It takes three years to start a bank here in America.  It is easier for someone to come out of poverty in China (Jack Ma) and create a thriving business, than it is to here in the USA.   What's wrong with that picture?  I can think of at least one thing.

The problem stems from our citizens, most of us are simply not informed.  As a country, most people vote for the party their parents align with, for selfish reasons, or maybe even for whoever has the best one-liners.  This is another subject Mr. Marcus is outspoken on.  He says it's time for voters to get their emotions under control and look at the facts.  Frankly, most people care about themselves more than their country.  But in their defense, it is hard for people to truly understand the bigger picture.  In terms of economic policy and global economics, just last month, the International Monetary Fund basically admitted that they are out of ideas on how to get the global growth engine running.  More specifically, IMF Chief Economist Olivier Blanchard was quoted in a WSJ article earlier this month saying, "There are two forces at work weighing down prospects: the legacy of high debt and falling growth potential in the future."  All this big government fiscal policy is not working. We have had an accommodative monetary policy (near zero interest rates and quantitative easing) for far too long that has masked the true problems and allowed crushing fiscal policy to take root.

We simply cannot afford to stay on this current trajectory.  Our national debt is out of control.  Mr. Marcus has stated that if we stay on this path of government spending, we'll be in no better shape than Greece, Spain and France, but with no one to bail us out.  We will not see all the consequences of our current government's actions for decades to come.   It is easy for politicians to make promises that feel good, or for them to borrow money now and spend the borrowed dime to push their agenda.  But make no mistake.  We will pay for these crimes one day.  Our leaders are stealing from the next generation.  $17,898,691,021,355.14 and counting in national debt is a big problem.  This number doesn't even come close to including the government's unfunded obligations to Social Security and Medicare.

We have a very important election coming up. Before you go to the polls on November 4th, take the time to educate yourself on the candidates and how each of them stands on important issues.  It is time that we the people take a stand and let our politicians know that this out of control spending and blame game has got to stop.  I want to live in a country where our government encourages entrepreneurs like Bernie Marcus, not hinders them.

A Map Would Be Helpful - Part 2

By Charles Webb

For those who have been paying attention to the stock market the last few weeks, there’s little doubt that it’s been a little nerve racking.  Our clients will have or soon get our latest market commentary in their quarterly reports (see previous post).   In that commentary, we’ve addressed some of the reasons that we feel the market has sold off this month.  However, since then, we’ve seen even more volatility and a further selloff in the global stock market.  We wanted to send out this brief note to address the last few days’ activity.

As of this writing, stocks have had more days of triple digit declines, including an intraday move of -350 points on the Dow Industrial Average.  This has essentially put all the indices in negative territory year-to-date.  While the international concerns mentioned in our commentary are still the primary drivers, other news seems to have amplified this negative sentiment, the Ebola scare being the primary headline. 

Experience tells us that this piling on effect is fairly common.  When stocks top out, such as what we saw this summer, investors get nervous and begin looking for reasons to sell.  Initially, you’ll see the various parts of the market diverge from each other as investors naturally pull away from the more richly valued sectors.  We saw this trading pattern in September as the small and midcap sectors underperformed large caps. 

News concerning fundamental factors such as GDP and earnings drive most of this initial selling, but from there things tend to get irrational.  Once again, the Ebola news would fall into this category.  This is what you’d call “headline risk”.  There’s no reasonable explanation at this point to link stock market performance to something like a few people in the U.S. contracting a virus.  What it does, though, is create a catalyst for those looking for a reason to sell.  The trading jargon for this is “capitulation” and the financial news loves to report on it.

Whenever stocks reach historic highs, it’s necessary to have a periodic retreat to consolidate those gains.  Investors are never comfortable when things go straight up.  They always expect there to be a selloff.  Once that occurs, the feeling is that it’s now behind us and it’s safe to get back in.  You’ll hear a lot of talk of “10% corrections” and technical terms such as “200 day moving averages” being thrown around.  This is all just an effort to figure out when the sellers are done.

We never felt that 2014 was going to be a particularly good year, but we do believe it will finish positive for the year.  The good news is that bonds continue to rally.  For those who like to frequently look at their account balances, that will help. 

A Map Would Be Helpful

By Charles Webb

The title of this quarter’s commentary is derived from what seems like a complete lack of direction in both the stock and bond markets.  There certainly has been no shortage of news for the financial markets to respond to, but much of it has been conflicting and of questionable importance.  Weeding through the headlines of the last quarter, the larger drivers of the U.S. market performance have been shifting Fed policies, U.S. dollar valuation and foreign growth trends.   

After years of unprecedented market intervention, the Federal Reserve appears to be ready to end its bond buying program, known as quantitative easing, and eventually raise interest rates.  We’ve just started to see the technical details of how they plan on accomplishing this, but there’s still little consensus among board members of when these policy changes should take place.  The primary task at hand is to raise short-term rates from essentially zero to a preferred 2% without adversely impacting the economy.

The Fed has announced that it will end its six year experiment in long-term rate manipulation this month.  Through QE 1-3 and Operation Twist, the Fed has successfully propped up asset values, such as the housing market, by buying Treasury and mortgage-backed bonds in the open market.  The Fed now holds roughly four and a half trillion dollars of these bonds in its portfolio.  We’ve seen relatively little volatility over the last number of years and that has been largely attributed to the Fed’s market interventions. Now the principal question is how the markets will respond to the various economic uncertainties in the world without the Fed’s safety net. 

The answer to that question, we may need to look no further than the last few weeks of market volatility.  The past two weeks in particular have seen a reemergence of back to back days of the Dow Jones Industrial Average whipsawing hundreds of points in either direction.  Driving these swings are economic concerns abroad.  While slow growth in Europe is nothing new, what is new is the absence of a response from our central bank – the Fed.

The European Central Bank cut interest rates in June and September, when it also announced a bond-purchase program. These measures are designed to combat anemic growth and low inflation in their economies. Meanwhile, the Bank of Japan, too, is considering whether to enhance its bond-buying program to raise consumer prices and boost growth.

These moves and others have led to a reduction in the value of the foreign currencies relative to the U.S. dollar.  The stronger dollar in turn has put pressure on corporate earnings as our exports become less price competitive.  In previous years, these moves would have been offset by the monetary expansion that comes with quantitative easing.  Absent that, the markets are unsure as to where the dollar will stabilize and what the ultimate impact on corporate earnings will be.

As of now, the recent selloff has erased this year’s modest gains and actually pushed most indices into the red.  Large cap stocks have fared the best from a total return standpoint at near or just above breakeven.  The small cap sector, on the other hand, performed the worst, losing around 7% thus far.

The bright spot has been in the bond market.  The benchmark 10 year Treasury bond has rallied considerably since the spring.  We’ve seen the yield drop from as high as 3% at the end of last year to its current level of 2.2%.  While this has been good for bond prices, it hasn’t been good for those seeking income. 

We view all of this as temporary, as the markets attempt to find the right trading levels in a world without the Federal Reserve market interventions.  We’ve been stating since last year that we felt this was going to be a mediocre year for stocks.  For most of the year that has been true.  We still hold out hope that this recent selloff will be temporary and that we’ll see values pick back up by the end of the fourth quarter. 

Income is still king in our book.  Our total return focus has taken our portfolios into more diverse areas of the market.  These include the addition of convertible bonds, expanded use of Master Limited Partnerships (MLPs) and preferred stocks. 

Generating cash flow continues to be a challenge for investors and we look forward to higher interest rates in the near future.  Investors need a break from the Fed’s easy money policies.  We’ve been concerned for years about the credit risk average investors have to expose themselves to in order to meet their income needs.  Although higher rates typically put pressure on the stock market, we feel this is necessary in the long run to achieve a more balanced and risk appropriate investment strategy. 

Religion, Politics, Sex and Money

By:  Charles Webb

Which of these subjects are Americans least likely to want to talk about? Based on several surveys, including ones from Northwestern Mutual Life, Wells Fargo and T Rowe Price Group, the subject of money is the least desirable topic that Americans feel comfortable discussing with friends or family.

 

The subject of money is a funny thing. After all, money is the one thing that we can pretty much all agree on - more is better, we're all working hard to acquire it and it buys us the things we like to show off to others. However, when it comes to openly talking about it, taboo is the word. We frown at others who talk about money in polite company, we keep our wealth a secret from our children, and we hide the truth (either better or worse) from our peers.

It's not that money isn't on a lot of minds. Those surveyed by Northwestern Mutual rated personal finance a top priority (second only to personal health), and the majority felt their financial planning could use improvement. Yet according to the survey, 42% have never spoken to anyone about their retirement and only 39% have spoken to their spouse or partner about the subject.

In our business, we see this phenomenon in many ways almost every day. On one end of the spectrum, you have very wealthy people who are worried that they'll be a target for others. On the other end are people who may feel ashamed of their situation. Then there are the countless situations in between.

While it's generally a good idea to keep your cards close to the vest as the saying goes, when it comes to your family, it is a good idea to be more open about things. This is especially true with adult children and aging adults.

From the adult child's perspective, understanding the parent's financial situation can alleviate uncertainty as to whether the parents will need support from their children in the future. Without planning, the burden of supporting one's parents can lead to significant marriage problems for the benefactor and resentment among siblings. Proper planning ahead of time can give all those involved time to discuss how the giving will take place and what the tradeoffs might be. For example, one sibling may contribute financial resources and another may provide personal resources such as directly caring for an ailing parent.

From the parent's perspective, early conversations are always helpful when it comes to estate planning. However, few parents want to dwell on their mortality-a subject that may also make the children uncomfortable. Parents may also dread sparking family squabbles about who's getting what, or worry that once the children know what's coming to them they'll become entitled, unmotivated heirs. But the benefits of getting everything out in the open can be enormous, both emotionally and financially.

Telling children ahead of time what to expect allows parents to explain their decisions and it allows the children to plan their lives accordingly. Plus, feedback from the children can be an eye opener, prompting parents to make wiser decisions about their wills, and there may even be a tax benefit in some cases.

When it comes to multiple children, there is plenty of room for resentment among heirs over the terms of a will. Those resentments can last their lifetimes, too. But talking things out while the parents are alive may help soothe hurt feelings. Parents can use this opportunity to explain things in their own words instead of the cold legal language of a last will and testament.  

Parents may choose to speak with each child individually or in a group, depending on family dynamics. Sometimes the individual approach makes it easier to discuss potentially sensitive issues such as unequal distributions, the use of trusts versus passing on wealth outright, or selecting one child over another for a fiduciary role.

Another huge benefit is to inform the children what they'll be dealing with. This can range from who the executor is to where all the accounts are located. That last thing a grieving family should have to deal with is hunting tax returns and bank statements trying to figure out where their parents held all of their accounts. The business of death should be minimized to the fullest extent.

Lastly, the children may actually have a better idea as to how the estate should be divided. Parents often think they understand the family dynamic but could be completely wrong when it comes to adult children. If the kids can agree among themselves ahead of time, those changes can be easily implemented while the parents are still alive.

The bottom line is that money conversations are an important part of maintaining healthy family relationships. All too often these conversations are overlooked or just avoided. While the benefits are obvious for the wealthy, it's also important for those of more modest means, too. Choosing when the kids are mature enough or responsible enough may be a challenge, but the subject eventually needs to come up.

Another Retailer Data Breach

By Lori Eason, CFP(R)

I’m sure you’ve heard about the latest large retailer affected by a security breach, Home Depot.  I personally received a text from my credit card company on Tuesday asking about a “business services” purchase of $49.95.  It was a fraudulent charge and I’m thankful Chase caught it and declined the charge right away.  Of course this meant I had to cancel my credit card effective immediately, and everything I have on auto-pay has to be updated.  But this is a small price to pay considering the alternative.  I took a close look at my statement and had another fraudulent charge for the same amount on 8/13.  This prompted me to double check all of my statements since the beginning of the year, but fortunately didn’t find any other suspicious charges.  I’ll never know if I was a victim of the Home Depot breach, but considering we have spent the month of August remodeling our kitchen, there’s certainly a good possibility!

Clark Howard has some good pointers on this subject in the following article:

6 Things You Need To Know After Any Retailer Data Breach

By Clark Howard

ClarkHoward.com

It's the latest in a string of high-profile breaches that has included Target, the Heartbleed breach, eBay and Lifelock, and the Russian hackers getting 1.2 billion usernames and passwords.

And now, in the midst of a severe case of "breach fatigue," we're getting word of the Home Depot data breach.

This one is still a moving target (no pun intended!)...but it could be larger than the Target breach that impacted more than 100 million customers late last year. Regardless of how the final numbers shake out, there are some things you need to keep in mind whenever you hear about these increasingly common data breaches.

Expect news of more breaches for the next 2 years

Our nation's banks were woefully behind the rest of the world when it came to investing in secure chip and PIN technology. We're the last place on Earth that uses '60s era magnetic strips on our cards; that's why all the criminals target us! The banks are only now making the wholesale switch to new safer technology, but that will take at least 2 more years. That's just the sad reality.

I think it's particularly important to know the retailers -- whether you're talking about Target, Home Depot, or anybody else -- are not at fault here. The blame lies with the banks.

Watch your statements carefully

If you're among those hit by the Home Depot breach, you need to go through your credit card and debit card statements this month and next month with a fine tooth comb. Identify any bogus charges the crooks may have pushed through and dispute them immediately with your bank or credit card company.

Use an abundance of caution

This is a time when you need to beware of anyone calling or emailing you trying to impersonate a breached retailer or your bank. The cons may ask you to click a link or to verbally confirm additional personal information over the phone.

When in doubt, hang up the phone or close out the email. Then call your bank or visit the merchant website to verify the legitimacy of the request.

If you remember one thing, it should be this: Do not click on any links in emails that come related to this or any other breach!

Limit the risks from debit cards by setting up a separate account

The reality is customers who use debit cards are hit hardest by any breach. If you wish to continue using debit in the future, be sure you tie it into a separate account that's only used for debit transactions. I like to call it your "walking around" money. That way, only that money you transfer to your separate account is at risk in a breach. Not the money you need to pay your mortgage or a car note, or to put food on the table.

Understand the real dangers of debit vs. credit

To understand just how bad debit cards are, you first have to look at the consumer protections afforded to credit cards. In a case like this breach where crooks potentially have your credit card number but not the physical card, normally that means zero dollar liability. In the worst case scenario, your maximum liability would be $50…and some issuers will waive even that.

If you used a debit card though, it's a whole different story. Debit cards are dangerous to your wallet. They don't have the normal protections under federal law offered by a credit card.

With a breached debit card, you have only 2 days after you notice that money is gone from your account...or else your liability rises to $500. And under some circumstances, your liability with a debit card can be unlimited.

You should do a credit freeze right now

You'll pay zero to $10 per bureau, depending on your state. This will shut a criminal down cold when they try to apply for new lines of credit in your name. You can find my credit freeze guide here; it will walk you through the easy process.

Creative Destruction

By Charles Webb

Economic issues have been a major concern for upwards of six years now. And while the economy and job market have improved over the last couple of years, our growth and employment rates seem to be stuck in second gear. Of these issues, the reasons for the long-term unemployed and what to do about it has become a hotly debated subject.

One of the questions raised is if a 6% or higher unemployment rate is going to become the new normal in the United States. This fear of us having a chronically high unemployment rate is based on several evolving factors, but a reoccurring topic is what role technology will play in the job market going forward.

Last month, Harvard University economist Lawrence Summers published an essay in which he envisioned a world in which computers and machines displace a vast new array of human work, creating an economy that produces few opportunities and sources of income for actual people.

Driverless trucks and taxis or drone package delivery don't seem that farfetched in this day and age. Shopping is more frequently done online and automated warehouses retrieve and ship packages efficiently with only limited human assistance. Even consumer habits seem to eliminate jobs. When was the last time you had someone pump your gas? Did you even pay the cashier or just swipe your card at the pump? Taken at face value, we seem destined for a world run by machines that maybe don't even need humans.

But the truth is there is nothing new in these changes. There's a long history of technologies displacing human labor. The green revolution displaced labor from farming. The industrial revolution replaced skilled artisanal labor with unskilled factory labor. The mass-produced automobile drastically reduced demand for blacksmiths, stable hands, and many other equestrian occupations. Successive waves of earth moving equipment and powered tools displaced manual labor from construction. In each case, groups of workers lost employment and earnings as specific jobs and accompanying skill sets were rendered obsolete.

However, along with these changes came opportunities in new industries that never existed before. In today's Internet age, those industries have names like Search Engine Optimization and Big Data Analysis. How big are these new players? The answer is really big. The industry that collects, analyzes and sells consumer data from our online activities is a multibillion dollar enterprise. Then there are the thousands of software developers and coders that will be needed to support the smartphone industry alone.

You'll often hear these dislocated workers referred to as "victims of the capitalist system" and see rules and regulations set up to prevent these kinds of changes.   In reality, this is a sign of progress and ultimately leads to higher productivity as a nation and a higher standard of living for everyone.

From the beginning of the industrial revolution, politicians and labor unions have attempted to keep the status quo. In 18th century England, riots would break out as workers destroyed the newly invented steam powered textile equipment that threatened their jobs. Labor unions arose to fight against the profit-hungry factory owners. Two centuries later, union negotiators would have the auto manufacturers limit the number of robots installed on the assembly line as part of their contract. In hindsight, these efforts now seem futile and counterproductive.

Policies using the government as the employer of last resort have also been attempted. The famous economist Milton Friedman once visited an Asian construction site where a dam was being built. He couldn't help but notice that instead of heavy machinery, thousands of workers used shovels and wheelbarrows. When he asked why, the government official explained that it was to insure more work. Mr. Friedman in turn asked, "why not use spoons then?"

In the future, machines will likely have a larger effect on a specific type of work done. Repetitive jobs that pay above average wages are the most likely candidates to be lost to automation. Low wage work isn't worth the investment and high end work tends to require abstract thinking not easily mimicked by computers.

Either way, in the long-run, the economy and workforce finds a way to adjust. There is no better proof than the fact that through all the years of innovation, the economy has continued to employ more people than in the past.