Risk/Reward Vol. 376
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
Another week, another record as Mr. Market celebrated enactment of the President's tax reform bill. Articles pro and con are yours for the reading, but a few things are clear. Corporate tax rates for both Subchapter C and Subchapter S filers have dropped. People in high tax states are disadvantaged. And the amount exempt from estate tax has been doubled. Will any of this impact you? Probably, but as my banner above reads "This is not tax advice."
The most underreported story of the tax bill is its impact on interest rates. The rate on the all important 10Year US Treasury Bond is now almost 2.5%, a meteoric rise in just a few days. Why? Well for several reasons. One, the tax bill is deemed inflationary and the rate on the 10Year is most responsive to inflationary pressures and expectations. Second,, the tax bill has been scored to create a $1.5 trillion deficit over the next ten years which can be gapped only by more borrowing by the US government. With more debt available it arguably will become cheaper to buy. And remember lower bond prices means higher rates. Third, as reported last week, the spread between the rate on the 2 Year and the 10Year was out of whack given the health of the economy. The two year rate was not going to drop so the spread had to widen on the long end. Fourth, bond buyers are becoming nervous as the biggest buyers in the world's bond markets, central banks via their quantitative easing policies, have signaled that they are curtailing bond purchases and reducing balance sheets in the coming months and years. All of these factors contributed to the fact that bond mutual funds experienced their biggest outflow of the year last week. Parenthetically, this may be a buying opportunity for me.
I would like to take this time to wish all of you who celebrate the holiday---Merry Christmas. We do celebrate it. It is our favorite time of the year. Our Christmas card this year is entitled "Blessings." Barb chose it, but the more I look at it the more I embrace it. I keep a framed copy on my credenza and look at it every day. It serves to remind me of all the blessings that have been bestowed upon me and for which I give thanks everyday. May all of you be so blessed. And for those who have been challenged this year, know that our thoughts and prayers are with you.
Sunday, December 24, 2017
Sunday, December 17, 2017
December 17, 2017 Tony Seba
Risk/Reward Vol. 375
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
Surprise! Yes, Virginia, there is an edition this week. Why? Well my dear wife/girlfriend took a few spills on the slopes. The last one resulted in a wrenched knee. After consulting one of the Team USA Snowboard doctors, we decided to head home early for an in person inspection. The diagnosis: a grade 2 LCL sprain and a skier's thumb. Nothing she can't handle, but some pain and a great deal of inconvenience nevertheless. Shame on me for pushing her back into something she does not love. Thankfully she will not be disabled from her number one sport: trekking to the beach with grandchildren and libations in hand.
Wow. Another record setting week. The fuel continues to be tax reform. As the specifics emerge, financial consultants are listing those corporations that will benefit the most. Not surprisingly, they are mostly big names (e.g. Apple, financial instituions and C corporatins in general). Thus the blue chips found in the Dow Jones Industrial Average are leading the charge; up nearly 25% year to date. As I have stated repeatedly, I see no end in sight.
No end in sight despite a paltry 52 basis point spread between the yield on the 10 Year and the 2Year US Treasury Bonds, the smallest spread since the fall of 2007 . Conventional wisdom is that the flattening of this spread or yield curve suggests a slowing economy as investors opt for the safety of longer term Treasuries over shorter term ones. This time is likely different at least according to such market mavens as Mohamed El Erian. He posits that the shorter term, 2 year Bond, is reacting to the rise in the Federal Funds interest rate which the Fed raised again just this week and which is scheduled to rise three more times in 2018. In contrast, the longer end (the 10Year) is experiencing downward rate pressure due to two factors: one, low inflation and two, an influx of foreign buyers. This latter point is extremely significant. It suggests that the most important pricing mechanism for each and every US financial asset (the rate on the 10Year) is now dominated by factors outside the US. And the facts bear this out. Remember, because the European Central Bank is still buying every sovereign bond available at whatever price, the rates on the 10Year bonds of every major European country (e.g. Germany, France) remain well below ours. Therefore, foreign investors seeking highly rated government securities have no choice but to bid on US bonds thereby raising their prices and depressing their yields. Take a look at the spike in foreign buyers of US debt year to date. Foreign entities currently hold $6.3 trillion of US Bonds out of a total tradable amount of $14.7 trillion or nearly half. (Although the total US debt is $20.24 trillion, approximately $6 trillion is held by the Social Security Trust and similar government agencies and is not deemed tradable.) This means that rate watchers such as myself must keep an eagle eye on what the ECB does. Once it ends its bond buying spree (quantitative easing) our bonds will become less attractive and we should see the 10 Year yield spike. This will have a ripple effect on the price of all financial assets.
Three seemingly unconnected news reports on Thursday caught my eye. One, Toyota and Panasonic signed a joint venture to develop the next generation of lithium ion batteries for use in automobile production. Two, the Renault/Nissan Alliance announced that in the near future it will have 40 models with various driver autonomy capabilities. And three, Morgan Stanley issued a report that once driverless cars are the norm it foresees a 6.5% increase in alcohol consumption given the additional drinking time available to commuters. Seemingly unconnected but in reality very much interrelated. To this end, I HIGHLY RECOMMEND watching a 1:03 hour video presentation dated June 9, 2017 by futurist Tony Seba. It is available on YouTube. His premise is that single technology developments do not move the needle but the convergence of several innovations does. He cites the fact that the iPhone (which is only 10 years old) arose due to a combination of technological developments (computer, telephony and touch screen) He sees the same thing occurring with the development of longer lived and significantly cheaper batteries, improved electric vehicle performance and driving autonomy. The implications are enormously disruptive. It is a real mind blowing thought piece. A shoutout to a subscriber for alerting me to it.
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
Surprise! Yes, Virginia, there is an edition this week. Why? Well my dear wife/girlfriend took a few spills on the slopes. The last one resulted in a wrenched knee. After consulting one of the Team USA Snowboard doctors, we decided to head home early for an in person inspection. The diagnosis: a grade 2 LCL sprain and a skier's thumb. Nothing she can't handle, but some pain and a great deal of inconvenience nevertheless. Shame on me for pushing her back into something she does not love. Thankfully she will not be disabled from her number one sport: trekking to the beach with grandchildren and libations in hand.
Wow. Another record setting week. The fuel continues to be tax reform. As the specifics emerge, financial consultants are listing those corporations that will benefit the most. Not surprisingly, they are mostly big names (e.g. Apple, financial instituions and C corporatins in general). Thus the blue chips found in the Dow Jones Industrial Average are leading the charge; up nearly 25% year to date. As I have stated repeatedly, I see no end in sight.
No end in sight despite a paltry 52 basis point spread between the yield on the 10 Year and the 2Year US Treasury Bonds, the smallest spread since the fall of 2007 . Conventional wisdom is that the flattening of this spread or yield curve suggests a slowing economy as investors opt for the safety of longer term Treasuries over shorter term ones. This time is likely different at least according to such market mavens as Mohamed El Erian. He posits that the shorter term, 2 year Bond, is reacting to the rise in the Federal Funds interest rate which the Fed raised again just this week and which is scheduled to rise three more times in 2018. In contrast, the longer end (the 10Year) is experiencing downward rate pressure due to two factors: one, low inflation and two, an influx of foreign buyers. This latter point is extremely significant. It suggests that the most important pricing mechanism for each and every US financial asset (the rate on the 10Year) is now dominated by factors outside the US. And the facts bear this out. Remember, because the European Central Bank is still buying every sovereign bond available at whatever price, the rates on the 10Year bonds of every major European country (e.g. Germany, France) remain well below ours. Therefore, foreign investors seeking highly rated government securities have no choice but to bid on US bonds thereby raising their prices and depressing their yields. Take a look at the spike in foreign buyers of US debt year to date. Foreign entities currently hold $6.3 trillion of US Bonds out of a total tradable amount of $14.7 trillion or nearly half. (Although the total US debt is $20.24 trillion, approximately $6 trillion is held by the Social Security Trust and similar government agencies and is not deemed tradable.) This means that rate watchers such as myself must keep an eagle eye on what the ECB does. Once it ends its bond buying spree (quantitative easing) our bonds will become less attractive and we should see the 10 Year yield spike. This will have a ripple effect on the price of all financial assets.
Three seemingly unconnected news reports on Thursday caught my eye. One, Toyota and Panasonic signed a joint venture to develop the next generation of lithium ion batteries for use in automobile production. Two, the Renault/Nissan Alliance announced that in the near future it will have 40 models with various driver autonomy capabilities. And three, Morgan Stanley issued a report that once driverless cars are the norm it foresees a 6.5% increase in alcohol consumption given the additional drinking time available to commuters. Seemingly unconnected but in reality very much interrelated. To this end, I HIGHLY RECOMMEND watching a 1:03 hour video presentation dated June 9, 2017 by futurist Tony Seba. It is available on YouTube. His premise is that single technology developments do not move the needle but the convergence of several innovations does. He cites the fact that the iPhone (which is only 10 years old) arose due to a combination of technological developments (computer, telephony and touch screen) He sees the same thing occurring with the development of longer lived and significantly cheaper batteries, improved electric vehicle performance and driving autonomy. The implications are enormously disruptive. It is a real mind blowing thought piece. A shoutout to a subscriber for alerting me to it.
Sunday, December 10, 2017
December 10, 2017 Full Employment
Risk/Reward Vol. 374
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
Another stellar week in stocks. And why not? Although all of the contours of tax reform have not been finalized, the most likely amendments provide a boon for Corporate America. According to Merrill Lynch the overall tax package is expected to provide a 14% boost in earnings to the stocks comprising the S&P 500. Since stocks are priced in part on a price to earnings ratio, a 14% boost in anticipated earnings should result in a 14% rise in stock prices assuming multiples (currently 19.8 times projected earnings) remain the same. This anticipated boost is IMHO the cause of the most recent spike in the indices.
Also helping is the continuing good news on the employment front. Unemployment is at 4.1% which is well below what economists once believed was "full employment." But how relevant is that unemployment rate? How can we be below "full employment"? Peek behind the numbers. The unemployment rate only measures the percentage of those currently participating in the job market who are without employment. Not measured are the 40% who choose not to participate. When they are added to the mix, one sees that the total employment rate is still down 2% from 2007. More striking is the fact that in the critical age bracket of 25 to 54, the rate of total employment is down 1.3% from 2007.
How come? In the upper age brackets, Baby Boomer retirements are contributing. But the numbers below retirement age are a direct result of overly accommodating disability benefits. In 1990 fewer than 2.5% of working age Americans received disability. In 2015, the number stood at 5.2%. That's right, one in 20 workers is on the dole. More shocking is the fact that 35% of disability beneficiaries (the largest group) claimed that a mental disorder precluded them from working. That's crazy.
The above statistic is why most market watchers focus on wages, not unemployment. Conventional wisdom is that wage increases are the key to economic growth. Higher wages mean more disposable income which means more consumption which means more production/economic growth. This number has been anemic with wages growing only 2.5% on an annual basis. Why remains a mystery to the economists at the Fed who still slavishly adhere to the Philips Curve about which I have written in the past. See Vol. 367 Riskrewardblog
There may not be an edition next week. Barb and I are headed to Colorado. We are skiing a few days in Keystone and then going to Denver to spend some time with Abby and her family. Speaking of Abby, if you have not followed her exploits you are missing out on a great story of entrepreneurship. Check her out at abbylouwalker.com and check out her product at vivianlou.com. Her book "Strap on a Pair---A Middle Aged, Middle Management, Middle Class Mom's Quest for Something More" is a triumph and makes an excellent stocking stuffer.
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
Another stellar week in stocks. And why not? Although all of the contours of tax reform have not been finalized, the most likely amendments provide a boon for Corporate America. According to Merrill Lynch the overall tax package is expected to provide a 14% boost in earnings to the stocks comprising the S&P 500. Since stocks are priced in part on a price to earnings ratio, a 14% boost in anticipated earnings should result in a 14% rise in stock prices assuming multiples (currently 19.8 times projected earnings) remain the same. This anticipated boost is IMHO the cause of the most recent spike in the indices.
Also helping is the continuing good news on the employment front. Unemployment is at 4.1% which is well below what economists once believed was "full employment." But how relevant is that unemployment rate? How can we be below "full employment"? Peek behind the numbers. The unemployment rate only measures the percentage of those currently participating in the job market who are without employment. Not measured are the 40% who choose not to participate. When they are added to the mix, one sees that the total employment rate is still down 2% from 2007. More striking is the fact that in the critical age bracket of 25 to 54, the rate of total employment is down 1.3% from 2007.
How come? In the upper age brackets, Baby Boomer retirements are contributing. But the numbers below retirement age are a direct result of overly accommodating disability benefits. In 1990 fewer than 2.5% of working age Americans received disability. In 2015, the number stood at 5.2%. That's right, one in 20 workers is on the dole. More shocking is the fact that 35% of disability beneficiaries (the largest group) claimed that a mental disorder precluded them from working. That's crazy.
The above statistic is why most market watchers focus on wages, not unemployment. Conventional wisdom is that wage increases are the key to economic growth. Higher wages mean more disposable income which means more consumption which means more production/economic growth. This number has been anemic with wages growing only 2.5% on an annual basis. Why remains a mystery to the economists at the Fed who still slavishly adhere to the Philips Curve about which I have written in the past. See Vol. 367 Riskrewardblog
There may not be an edition next week. Barb and I are headed to Colorado. We are skiing a few days in Keystone and then going to Denver to spend some time with Abby and her family. Speaking of Abby, if you have not followed her exploits you are missing out on a great story of entrepreneurship. Check her out at abbylouwalker.com and check out her product at vivianlou.com. Her book "Strap on a Pair---A Middle Aged, Middle Management, Middle Class Mom's Quest for Something More" is a triumph and makes an excellent stocking stuffer.
Sunday, December 3, 2017
December 3, 2017 24000
Risk/Reward Vol. 373
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN
In breathtaking fashion, the Dow Jones Industrial Average broke through the 24,000 mark this week. This was the fifth time that it has surpassed a 1000 point milestone this year and it took barely a month. The impetus this time was the prospect and now reality of tax reform. And not even the guilty plea of General Flynn could derail it. The Dow and NASDAQ are both up over 20% year to date, and the S&P 500 is up over 18%. As has been discussed in numerous editions, the reasons are clear (low interest rates, TINA and an improved economy). No end is in sight, but I am intrigued by what could stop this bull run.
As I discussed last week, I see credit defaults as the biggest risk. But, that is not to dismiss other potential causes arising out of the surfeit of debt worldwide. Indeed, in her Congressional valedictory, out going Fed Chair Janet Yellen said that the trajectory of US government debt (currently $20trillion) was something "that should keep people awake at night." How ironic, Janet! Guess who is primarily responsible for this hot mess? How much of a mess is it? Let's look at the recently enacted budget. In the next fiscal year, the US government will spend $4.094trillion, $315 billion of which will be spend on interest payments on that $20trillion debt. Total government revenues from income tax, withholding, etc. are projected to be $3.654trillion under the old tax regime, a number that may total less under the tax plan passed this week. That leaves a deficit of $440 billion. Now, it does not take a genius to see that our Federal government is not only NOTrepaying debt, but is adding to it and borrowing money TO PAY THE INTEREST ON THAT DEBT. And the future looks worse. Next year 62% of all of that spending goes to MANDATED programs (Social Security and Medicare) which are scheduled to escalate rapidly in coming years as more Baby Boomers retire. Now you see why Janet can't sleep.
But will adding to the deficit adversely impact the stock market anytime soon? I don't think so. In fact, it likely will keep the "easy money" machine and thus the TINA effect (There Is No Alternative to stocks) alive. Think about it. What would happen if the Fed actually "normalized" interest rates? They would double thus raising interest payments from $315billion to $630 billion. In turn that would increase the deficit to over $700billion, and more borrowing would be necessary. No one, least of all those at the Federal Reserve wants to be responsible for that. So here is the dirty little secret that no one wants to admit. The Fed can't normalize rates because we can't afford the interest payments. And if you think the US is in the debt hell, take a look at Europe, Japan and China. To quote my favorite economist, Oliver Hardy, "Well here is another fine mess you've gotten us into."
So how does this play into credit defaults? Remember that all private debt is priced in relation to government debt. If Treasury bonds pay low interest then corporate bond rates correspondingly are low. And at present they are near historic lows. So the corporate world continues to borrow. Why not? Money is cheap. The corporations comprising the S&P 500 now have a debt to adjusted earnings ratio of 150%. Historically that number has been 0.70%. That's right, corporate debt has doubled and is growing. The ratio for less credit worth companies is worse. As investors in search of yield lend even more money to even riskier ventures, the likelihood of massive credit defaults increases. Keep your eye on this. I am. Remember it was credit defaults (eg subprime mortgage foreclosures) that caused the crash of 2008-2009
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN
In breathtaking fashion, the Dow Jones Industrial Average broke through the 24,000 mark this week. This was the fifth time that it has surpassed a 1000 point milestone this year and it took barely a month. The impetus this time was the prospect and now reality of tax reform. And not even the guilty plea of General Flynn could derail it. The Dow and NASDAQ are both up over 20% year to date, and the S&P 500 is up over 18%. As has been discussed in numerous editions, the reasons are clear (low interest rates, TINA and an improved economy). No end is in sight, but I am intrigued by what could stop this bull run.
As I discussed last week, I see credit defaults as the biggest risk. But, that is not to dismiss other potential causes arising out of the surfeit of debt worldwide. Indeed, in her Congressional valedictory, out going Fed Chair Janet Yellen said that the trajectory of US government debt (currently $20trillion) was something "that should keep people awake at night." How ironic, Janet! Guess who is primarily responsible for this hot mess? How much of a mess is it? Let's look at the recently enacted budget. In the next fiscal year, the US government will spend $4.094trillion, $315 billion of which will be spend on interest payments on that $20trillion debt. Total government revenues from income tax, withholding, etc. are projected to be $3.654trillion under the old tax regime, a number that may total less under the tax plan passed this week. That leaves a deficit of $440 billion. Now, it does not take a genius to see that our Federal government is not only NOTrepaying debt, but is adding to it and borrowing money TO PAY THE INTEREST ON THAT DEBT. And the future looks worse. Next year 62% of all of that spending goes to MANDATED programs (Social Security and Medicare) which are scheduled to escalate rapidly in coming years as more Baby Boomers retire. Now you see why Janet can't sleep.
But will adding to the deficit adversely impact the stock market anytime soon? I don't think so. In fact, it likely will keep the "easy money" machine and thus the TINA effect (There Is No Alternative to stocks) alive. Think about it. What would happen if the Fed actually "normalized" interest rates? They would double thus raising interest payments from $315billion to $630 billion. In turn that would increase the deficit to over $700billion, and more borrowing would be necessary. No one, least of all those at the Federal Reserve wants to be responsible for that. So here is the dirty little secret that no one wants to admit. The Fed can't normalize rates because we can't afford the interest payments. And if you think the US is in the debt hell, take a look at Europe, Japan and China. To quote my favorite economist, Oliver Hardy, "Well here is another fine mess you've gotten us into."
So how does this play into credit defaults? Remember that all private debt is priced in relation to government debt. If Treasury bonds pay low interest then corporate bond rates correspondingly are low. And at present they are near historic lows. So the corporate world continues to borrow. Why not? Money is cheap. The corporations comprising the S&P 500 now have a debt to adjusted earnings ratio of 150%. Historically that number has been 0.70%. That's right, corporate debt has doubled and is growing. The ratio for less credit worth companies is worse. As investors in search of yield lend even more money to even riskier ventures, the likelihood of massive credit defaults increases. Keep your eye on this. I am. Remember it was credit defaults (eg subprime mortgage foreclosures) that caused the crash of 2008-2009
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