A question most investors ask themselves at some point is: “Is today a good day to buy into the market?” I waffle between two responses that sound the opposite but mean the same thing. It’s always a good day to buy and there is no such thing as a good day to buy. It’s always a good day to buy in the sense that markets go up over time and no one knows what the market will do tomorrow so it’s best to get your money into the market now. There are no such things as good days to buy in the sense that the question implies there are bad times to buy and you should wait until a good time, but you shouldn’t wait so there is no such thing as a “good day.”

That said we looked at daily moves in the S&P 500 going back to 1928, to see if some days have presented historically good buying opportunities. We sorted days into groupings and then looked at the return on the ensuing day. The following table summarizes the findings:

Any Day: In aggregate, the market goes up an average of 0.03% each day.

Up Days: The average return of the stock market the day after it goes up is a positive 0.07%.

Down Days: Some might say buying on just any down day isn’t a good move as it is one of two scenarios where the ensuing day averages a negative return. But the average is barely negative, effectively 0.

Up 2% Days: When the market has a strong day, the next day rises about the same as an average day.

Down 2% Days: Now we start getting into interesting numbers. When the market drops by 2% or more, the ensuing day tends to be quite positive with an average return of +0.19%. On average we get a handful of days like this a year.

Up 4% Days: When the market has a very strong rally, it’s probably best to wait a day before buying stocks. Unfortunately, these large rallies are rare. Despite having 8 such days in 2020, we only saw one from 2012 – 2019.

Down 4%: When the market is tanking, it’s reasonable to expect a rebound the next day. On days when the market drops 4%, we typically see it regain two-thirds of a percent the following day. Like with up 4% days, these seem to only happen in times of extreme volatility.

Consecutive up 2% Days: These are very rare and very boring. When the market has two strong days the ensuing day averages the exact same as any given market day.

Consecutive down 2% Days: Again, very rare but this time very good. When the market slides by 2% on back-to-back days, the following day is often very positive, up nearly a full 1% on average. This year we had three such days with the following days showing returns of -0.38%, +9.29%, and +9.38%. Coincidentally, the market’s bottom on March 23rd was the second consecutive down 2%+ day (-4.34% & -2.93%). Again, these are so rare they are not worth waiting and the days after the ensuing day may be bad, but that ensuing day is usually pretty good.

What can we conclude from this? My only takeaway is that you should buy when you have the funds available with the exception of a day when the market is up BIG (4%+). While large down days do present good buying opportunities, they are rare and not worth waiting for. Most other days tend to have positive ensuing returns reaffirming the idea that money should be invested.

This is not to say there isn’t merit to dollar cost averaging. When you have money that has been sitting in cash and are concerned with the psychological impact of getting unlucky, it can make sense to buy in over a period of months on a set schedule.

The stock market can be cruel, volatile, inexplicable, and frustrating for those who try to pick the perfect time to buy. By investing when the funds are available, accepting perfect is impossible, and blocking out the noise, you position yourself to contently reap the benefits of investing. As we get through the holiday season, take a look at your finances and if you have the capacity to invest additional cash- please reach out, now is as good a time as any!

 

Has 2020 left you feeling like the fabled Sisyphus, forever pushing a boulder up a steep hill? Thankfully, with multiple COVID-19 vaccines in the works, there’s hope the load will lighten in the new year, fast approaching. While we prepare for a fresh start, here are six financial best practices for year-end 2020 and beyond, none of which require any heavy lifting.

  1. Give as you’re able, get a little back. What the 2017 Tax Cuts and Jobs Act (TCJA) took from charitable giving, this year’s CARES Act partially gave back – at least for 2020.
  • A $300 “Gift”: Under the TCJA, it became much harder to realize itemized tax deductions beyond what the increased standard deductions already allow. But this year, the CARES Act lets you donate up to $300 to a qualified charity, and deduct it “above the line.” In other words, even if you’re taking a standard deduction, you can give a little extra, and receive an extra tax break back, without having to itemize your deductions.
  • Giving Large: If you are itemizing deductions, the CARES Act also temporarily suspends the usual “60% of your AGI” limit on qualified cash contributions. The exception does NOT apply to Donor Advised Fund contributions, and has a few other restrictions. But if you’ve already been thinking about making a large donation to a favorite charity, 2020 might be an especially good year to do so – for all concerned.

 

  1. Revisit life’s risks. As the pandemic reminded us, life is full of surprises. That’s why it’s imperative to build wealth, and protect it against the inevitable unexpected. Is your current coverage still well-aligned with your potentially altered lifestyle? Perhaps you’re driving less, with lower coverage requirements. Or new health or career risks now warrant stronger disability insurance. Might it be time to consider long-term care or umbrella coverage? Bottom line, there’s no time like the present to prepare for your future greatest risks.

 

  1. Leverage lower tax rates. While it’s never a sure bet, Federal income tax rates seem more likely to rise than fall over the next little while. Even before this year’s massive relief spending, the TCJA’s reduced individual income tax rates were set to expire after 2025, reverting to their prior, higher levels. As such, it may be worth deliberately incurring some lower-rate income taxes today, if they’ll probably spare you higher taxes on the same income later on. As a prime example, consider converting or contributing to a Roth IRA. You’ll pay income taxes today on the conversions or contributions, but then the assets grow tax-free, and remain tax-free when you withdraw them in retirement.

 

  1. Harness an HSA. Health Savings Accounts (HSAs) are another often-overlooked tax-planning tool. Instead of paying for a traditional lower-deductible/higher-cost healthcare plan, some may benefit from a higher-deductible/lower-cost plan plus an HSA. If a high-deductible plan/HSA combination is available to you, it may be worth considering – especially if a career change, early retirement, or some other triggering event has altered your healthcare coverage. HSA assets receive generous “triple tax-free” treatment – going in pre-tax, growing tax-free, and coming out tax-free (if spent on qualified medical expenses).

 

  1. Read a great book (or few). As we swing into a winter of continued social distancing, you may have more time than usual to curl up with a good book – whether in print or on your favorite device. Why not add a best financial book or two to the list? As good timing would have it, The Wall Street Journal personal financial columnist Jason Zweig recently shared an excellent “short shelf” list of his top picks. As Zweig reflects, “they all will help teach you how to think more clearly, which is the only way to become a wiser and better investor.” Looking for our own favorites? Let us know.

 

  1. Live a little more. Really, it’s always a best practice to ensure your financial priorities are driven by your life’s greatest goals – not the other way around. Perhaps our greatest purpose as your wealth advisor is to assist you and your family in achieving a satisfying work-life balance, come what may. What does this balance look like for you? Speaking of good reads, in his new book, “The Coffeehouse Investor’s Ground Rules,” Bill Schultheis offers his take:

 

“When you … have everything you need materially, how do you honor that part of your DNA that will forever yearn for more? It seems to me that the challenge is to turn this pursuit of ‘more’ away from material consumption and toward a ‘more’ that fosters more family, more community, more connections, more art, more creativity, more beauty.”

What more can we say about how to make best use of your time and money, this and every year? As always, we’re here to help you implement any or all of these best practices. In the meantime, we wish you and yours a happy and healthy 2021.

With the general election one week away, many Americans and capital markets are awaiting the results. In this piece, we will go over expectations heading into the election and possible market reactions based off those outcomes.

Before we dive in, it’s important to remember current market prices reflect all known information and expectations. And while we don’t know the outcome of the election or how the market will react, we do know it pays to be invested over the long run which is what we are recommending for all clients. Stick with your plan, take a personally appropriate level of market risk, and enjoy the long-term appreciation we’ve observed over the last 90 years and will observe over the next 90.

In the election forecasting world, two of the best sources are FiveThirtyEight.com and online betting markets (we’ll look at PredictIt). Between the two, we feel FiveThirtyEight is more reliable but it’s worth showing both.

Both sources show Biden as the expected winner with FiveThirtyEight showing very high likelihood. The betting website has Biden at 63% which indicates its users are less certain of a Biden victory. Though there are limitations around betting market regulations which make the true likelihood of a Biden victory larger. On the FiveThirtyEight side, Trump’s 11% chance of winning reelection is quite a bit lower than the forecasting website showed in 2016. While things with odds of 11% do happen 1 in 9 times, it is reasonable to say the market has priced in a Biden victory and will be surprised if Trump is the winner.

The following tables show a few other ways of looking at expectations of the upcoming presidential election.

We don’t have data for the expected PredictIt margin in 2016, but in 2020 we again are seeing a Biden victory, with a narrower margin among online betters than the forecasting website FiveThirtyEight. Again, it’s worth noting how much more decisive FiveThirtyEight is predicting the 2020 election than the 2016 election – reiterating that markets expect a Biden victory.

The House of Representatives is relatively boring. Democrats have a sizable advantage and that is expected to stay the same. The current makeup is about 54% Democratic and it’s expected to slightly rise to 55% Democratic.

It’s interesting that the online betting market and FiveThirtyEight are more or less saying the same thing when it comes to the House of Representatives, but not the Presidency.

What will likely be the most interesting part of the election is what happens in the Senate. At the moment, Republicans hold a 53-47 advantage. It is expected that Democrats will pick up seats, but how many is not known.

Republicans are expected to gain a seat in Alabama, where Democrat Doug Jones is up for reelection. Democrats are expected to gain a seat in Colorado as former Democratic Governor John Hickenlooper has a large polling lead over incumbent Republican Cory Gardner. Democratic candidates also have narrow(er) leads over incumbent Republicans in Arizona, Maine, North Carolina, and Iowa. If the polls hold in all those, that will give Democrats 51 seats in the Senate. If Republicans hold on to one of those, but Biden wins the Presidency, Democrats will have the ability to control the Senate because the Vice President (Kamala Harris) serves as the deciding vote in the event of a tie. In a dream scenario for Democrats, they could pick up additional seats in Georgia (2), South Carolina, Montana, and even Kansas. Republicans have an outside chance at picking up seats in Michigan and Minnesota.

A narrow Democratic majority isn’t expected to be overly liberal. Democrat Joe Manchin of West Virginia has a fairly conservative voting record, as does Jon Tester of Montana. Angus King of Maine is fairly moderate and it’s reasonable to expect a new Democratic Senator from a purple state like Iowa, Arizona, or North Carolina will want to strike a moderate tone in their first term. From a markets perspective, the expectation is for a fairly moderate Senate that doesn’t pass any policies overly different from the status quo (like Government run healthcare, or a Green New Deal).

If Democrats got 53-55 seats, this would be different from expectations, but it’s not clear how the market would react. Some might be concerned that a more liberal senate would pass policies unfriendly to businesses and a strong democratic showing might encourage liberals to push for more business regulation through the executive branch. Those would be seen as bad for future corporate profits and harmful to stocks. However, others might see a more democratic senate as better on getting COVID under control and more likely to pass a large and generous infrastructure / general spending bill. That would be positive for expected corporate profits and stocks.

Remember, under current Senate Rules most legislation needs 60 votes to avoid a filibuster. The exception is one budgetary bill per year that just needs a majority and passes by the “reconciliation” process. This is how Republicans passed their tax cut three years ago. While it’s only one bill a year, it can be a large bill with broad provisions/impact. It’s possible the next Senate could change the rules but that isn’t likely.

To conclude, the current expectations are for Democrats to maintain a similar majority in the House, Biden to win the presidency, and Democrats to narrowly gain control of the Senate. If all this happens you would not expect the market to react in a meaningful way over a longer period of time. There may be high volume that causes some choppiness in the immediate aftermath of the election, but the overall direction of the market should not move much from this outcome. It could move from other news – like COVID, or issues abroad.

We are quick to concede “experts,” forecasts, and predictions are wrong all the time. We saw it in 2016 with the election, we saw it with economists and interest rates in 2019, and we saw it with the American hockey team at the winter Olympics in 1980. That said they are often right. Despite poor performance in 2016, FiveThirtyEight was spot on in 2008 and 2012. They also called the House in 2018 almost exactly and were a seat off in the senate.

If we see an election outcome different than what’s expected that could lead to volatility, but like we saw in 2016, it’s hard to predict how the market will react. On the night of the 2016 election, stock futures were down 5% at midnight after it was clear Trump would win, however they regained all their losses by the market open and finished up 1% on the day.

 

Here’s an interesting puzzle: Why do we cringe at the sight or sound of breaking glass, but we salivate over breaking news?

In the run-up to the U.S. presidential election, you’ve probably been hit by enough breaking news to propel you well into 2021. Predictions abound on who will prevail, and what will happen to our political, social, and economic landscape as a (supposedly) direct result.

Come what may, the results will undoubtedly be attention-grabbing and action-packed. Social media and the popular press will see to that, as they feed on – and are fed by – our fascination with things that break.

To counter all the excitement, we offer three calming insights:

  • Cause and effect are rarely as direct as we might hope or fear. Please apply this point to any temptation you may be feeling to alter your investments because “X” has just happened, or in case “Y” seems about to. Before, during, and after the election cycle, pundits will be proclaiming they can predict the financial fallout from an election characterized by such stark contrasts. At least in terms of tomorrow’s market prices, they do not know. They cannot know. There are simply far too many interacting interests to make the call.
  • It’s much easier to explain an outcome than to predict it. In this Forbes column, the author describes how scientists have detailed models for explaining why volcanoes occur. But they still cannot predict each eruption. The same can be said for financial markets. We have excellent models for explaining a market’s overall factors and forces. But our ability to predict its individual events or specific moves remains as elusive as ever.
  • Elections come and go. Your investments last a lifetime. As U.S. voters, we have the opportunity to select our next president every four years. As investors, we are best served by measuring the balance of power in our portfolio across decades rather than years. As Dimensional Fund Advisors has demonstrated in this excellent illustration, “for nearly 100 years of US presidential terms [the data] shows a consistent upward march for US equities regardless of the administration in place.”

In other words, no matter which political party is in power, your best chance for achieving your personal financial goals remains the same: Continue to give your investments ample time and space to benefit from the market forces just described. As we move together through the breaking news yet to unfold, we hope you vote according to your values, but heed this valuable advice about your lifetime investments. Stay the course!

Stock Markets

Stocks continued to come back from their sharp declines earlier in the year. Over the September quarter, stocks are up across the board – Domestic Large-Cap stocks and Emerging Markets are up 9%. Since December 31st, a diversified global portfolio is off 8% year-to-date excluding the Domestic Large- Cap market, which is driven by the largest tech companies. Returns from domestic stocks continue to exceed those of non-domestic stocks.

Value stocks are priced based on expected earnings from assets in place while growth stocks reflect expected earnings mainly from future investments.

Research shows that markets tend to overprice these future earnings. Yet, there has been a significant discount to value stocks in recent periods, which is especially pronounced in the year-to-date numbers.

Looking back over a long history the average difference in five-year returns between a blended index and a value index is close to zero. The historical variability is such that a discount to value stocks of more than5%, such as we experienced over the most recent five-year period, is clearly an outlier.

Results over the past quarter show the stock market continuing to shrug off the economic and political uncertainties of today. The well-worn observation that the stock market is not the economy continues to resonate as stocks are based on expectations well into the future.

Bond Markets

The Yield Curve below shows the pattern of observed returns from holding bonds to term across several maturities. Today, these Treasury yields go from essentially zero to a little above 1% across a twenty-year spectrum – little change from last quarter which explains the essentially flat bond returns regardless of maturity over the period. On the other hand, look how yields have fallen over the past twelve months in response to the Fed providing the market with liquidity. This change explains bond returns over the past year that run from 4% to 11% – the longer the time to maturity, the greater the return.

In response to ongoing economic uncertainties the Fed is keeping interest rates low and doing all it can to ensure liquidity. These activities result in a yield on 10-year inflation adjusted Treasuries of a negative 1%, which means investors are essentially paying the Treasury to hold their money. While these negative yields have been the case since February, it does not seem sustainable over a long period.

Dealing with Today’s Unconventional Markets

It is difficult to reconcile today’s investment landscape with established expectations – negative real interest rates; massive government spending with little impact on inflation; some stocks trading at PE ratios well above 30 times trailing twelve-month earnings; sharp discount to value stocks; large variances in returns among several markets. Today’s conditions reflect the external shock of the Coronavirus pandemic; we have fewer clues as how things might look on the other side.

Massive government spending without inflation is inconsistent with conventional wisdom. Inflation did not happen with the 2008 financial crisis and is not happening now. The view from the Fed is that interest rates and bond yields will remain low. The only way to do better is to take risk – either credit risk, interest rate risk, or liquidity risk, which oftentimes is difficult to access. Yet, because bond results remain uncorrelated with stocks, they are important to managing a portfolio’s risk. While fulfilling that role, we need to accept an essentially zero return for the time being.

The Fed’s actions mean bonds are not attractive causing investors to turn to the stock market for expected positive returns thereby increasing the demand for these assets. Today’s stock market is driven by the largest tech companies. While other markets have come back to some extent from the sharp fall-off in March, it is just these tech companies that explain much of the results of the S&P 500 Index.

With some stocks beginning to look pricey and anemic bond returns assured, there is a strong urge to take profits in stocks and move to the sidelines until the investment environment improves. History has shown this is not a good idea. Moving away from established allocations due to a worry of the investment environment is “market timing,” which everyone acknowledges rarely works out.

There is no reason to think this time is different. Yet, just like a hot fudge sundae, market timing is something you know you should avoid but it is hard to do. History tells us to establish commitments based on long-term risk objectives, rebalance regularly, but expect a bumpy ride. u

With the general election approaching, many investors are worried about heightened volatility in the stock market. We have had several people reach out with three types of concerns: concern around an election without a clear winner (or a candidate not admitting defeat), concern around an election result different than their preference, and concern around general volatility.

This election is unique, but so is every election. That’s what makes it “news” and news moves markets. While the news is always different, the way markets react to news is fairly steady over time. In this piece, we analyzed market behavior in the 30-day period around each election over the last 96 years.

Starting 15 days before the election (a Monday in late October) and ending 15 days after the election (Wednesday in November) we looked at returns of the S&P 500 and the standard deviation of daily moves during that time.

In the 23 elections listed above, the average return over the month is 0.72%, which is slightly behind the 0.83% we’ve seen on a monthly basis over the last 95 years. The volatility (standard deviation of daily returns) during these 505 trading days was also slightly elevated, at 1.44% per day compared to an average of 1.20% (23,310 trading days since 1926).

The volatility is 20% higher, which isn’t a meaningful difference for a month. The return averages 0.11% less but is still rather positive and the difference is far from being statistically significant.

That message probably won’t allay the fears of those who feel this particular election is too unique to be captured by historical data. Still, it should provide a degree of comfort that returns around elections have historically been positive and close to average market returns.

Two things are worth remembering. First, markets move on events that differ from expectations. The stock market didn’t drop in 1984 because Reagan was reelected or in 2008 because Obama was elected, both of those outcomes were expected. The market dropped for other reasons. Second, a company is worth the present value of all future profits. Perhaps the market will be volatile around this election, but for stocks to drop, and stay down, the market must decide expected future corporate profits are worth less.

At Rockbridge, we believe the best course is to stay invested through the election, we are recommending that to all clients and doing it with our own investments. However, if you can’t sleep at night you should reach out and have a conversation with your advisor.

Departing thoughts: I recently overheard someone intending to get out of the market now and buy back in at a lower price. They said they were hoping to “make” a little money from the trade. They should have said “win” a little money. Timing the market is a zero-sum game, and a game of chance, it’s not earned money and if the market doesn’t behave as desired money will be lost.

The utility of living consists not in the length of days, but in the use of time.

Michel de Montaigne

For better or worse, many of us have had more time than usual to engage in new or different pursuits in 2020. Even if you’re as busy as ever, you may well be revisiting routines you have long taken for granted. Let’s cover eight of the most and least effective ways to spend your time shoring up your financial well-being in the time of the coronavirus.

  1. A Best Practice: Stay the Course

Your best investment habits remain the same ones we’ve been advising all along. Build a low-cost, globally diversified investment portfolio with the money you’ve got earmarked for future spending. Structure it to represent your best shot at achieving your financial goals by maintaining an appropriate balance between risks and expected returns. Stick with it, in good times and bad.

  1. A Top Time-Waster: Market-Timing and Stock-Picking

Why have stock markets been ratcheting upward during socioeconomic turmoil? Market theory provides several rational explanations. Mostly, market prices continuously reset according to “What’s next?” expectations, while the economy is all about “What’s now?” realities. If you’re trying to keep up with the market’s manic moves … stop doing that. You’re wasting your time.

  1. A Best Practice: Revisit Your Rainy-Day Fund

How is your rainy-day fund doing? Right now, you may be realizing how helpful it’s been to have one, and/or how unnerving it is to not have enough. Use this top-of-mind time to establish a disciplined process for replenishing or adding to your rainy-day fund. Set up an “auto-payment” to yourself, such as a monthly direct deposit from your paycheck into your cash reserves.

  1. A Top Time-Waster: Stretching for Yield

Instead of focusing on establishing adequate cash reserves, some investors try to shift their “safety net” positions to holdings that promise higher yields for similar levels of risk. Unfortunately, this strategy ignores the overwhelming evidence that risk and expected return are closely related. Stretching for extra yield out of your stable holdings inevitably renders them riskier than intended for their role. As personal finance columnist Jason Zweig observes in a recent exposé about one such yield-stretching fund, “Whenever you hear an investment pitch that talks up returns and downplays risks, just say no.”

  1. A Best Practice: Evidence-Based Portfolio Management

When it comes to investing, we suggest reserving your energy for harnessing the evidence-based strategies most likely to deliver the returns you seek, while minimizing the risks involved. This includes: Creating a mix of stock and bond asset classes that makes sense for you; periodically rebalancing your prescribed mix (or “asset allocation”) to keep it on target; and/or adjusting your allocations if your personal goals have changed. It also includes structuring your portfolio for tax efficiency, and identifying ideal holdings for achieving all of the above.

  1. A Top Time-Waster: Playing the Market

Some individuals have instead been pursuing “get rich quick” schemes with active bets and speculative ventures. The Wall Street Journal has reported on young, do-it-yourself investors exhibiting increased interest in opportunistic day-trading, and alternatives such as stock options and volatility markets. Evidence suggests you’re better off patiently participating in efficient markets as described above, rather than trying to “beat” them through risky, concentrated bets. Over time, playing the market is expected to be a losing strategy for the core of your wealth.

  1. A Best Practice: Plenty of Personalized Financial Planning

There is never a bad time to tend to your personal wealth, but it can be especially important – and comforting – when life has thrown you for a loop. Focus on strengthening your own financial well-being rather than fixating on the greater uncontrollable world around us. To name a few possibilities, we’ve continued to proactively assist clients this year with their portfolio management, retirement planning, tax-planning, stock options, business successions, estate plans and beneficiary designations, insurance coverage, college savings plans, and more.

  1. A Top Time-Waster: Fleeing the Market

On the flip side of younger investors “playing” the market, retirees may be tempted to abandon it altogether. This move carries its own risks. If you’ve planned to augment your retirement income with inflation-busting market returns, the best way to expect to earn them is to stick to your plan. What about getting out until the coast seems clear? Unfortunately, many of the market’s best returns come when we’re least expecting them. This year’s strong rallies amidst gloomy economic news illustrates the point well. Plus, selling stock positions early in retirement adds an extra sequence risk drag on your future expected returns.

Could you use even more insights on how to effectively invest any extra time you may have these days? Please reach out to us any time. We’d be delighted to suggest additional best financial practices tailored to your particular circumstances.

 

It doesn’t take a genius to be a good investor

And geniuses often aren’t. This summer marked the 300th anniversary of the South Sea Bubble when Britain’s South Sea Company went from £128/share in January of 1720 to over £1,000 by August, and then crashed to £124 by the end of the year.

The most famous person to be caught up in the bubble was Sir Isaac Newton. Widely considered a top 10 mind in history, few have contributed as much to the advancement of humanity. Newton is credited with formulating the laws of motion and gravity. He used his mathematical discoveries to prove planetary motion, explain the ocean’s tides, the earth’s equinoxes, and the shape of the earth. This work helped speed the general populace’s adoption of the sun as the center of the solar system. Newton also made advances in telescopes, thermodynamics, was the first to calculate the speed of sound and he developed calculus.

Despite his unrivaled mind, he was faced with a question in 1720 to which he didn’t know the answer, what to do about the South Sea Company? He had always been a conservative investor with a majority of his wealth in government bonds, and a lesser portion in large companies, including the South Sea Company. As the hype in 1720 around the South Sea Company became unavoidable, he had three choices – sell out, do nothing, or buy more of the South Sea Company.

Come April, a share of the South Sea Company had tripled in value to £340. Newton decided this rally was unjustified and liquidated his position, realizing a large profit. Unfortunately for Mr. Newton the story doesn’t stop there, come June a share had rallied to over £700 and Newton decided he had been wrong. Over the next three months he liquidated all other holdings and put his entire fortune into the South Sea Company near its peak.

The price of the stock collapsed as the market reached a consensus of future profitability that was far below the level needed to sustain the elevated valuation. Investors who had bought on margin were bankrupt and Newton saw his fortune decline by 40% from 1719 to 1721. The unpleasant experience caused him to proclaim, “I can calculate the motions of the heavenly bodies, but not the madness of people.”

In reality, the madness was his own and this was an uncharacteristically human moment for a man whose mind was supernatural. We can learn much from Mr. Newton’s investing errors. One of the problems with market timing is you have to be right twice. He made a sale in April that proved timely but picked the wrong time to get back into the market. Net, net he was worse off for it.

Our cognitive biases and thirst for riches betray the best of us. On average, the wisest course is to stay the course – develop a plan founded in reason and stick with it. The plan should change when circumstances change but not when emotions change. Please reach out to your advisor to discuss chancing life circumstances and how they affect your investment plan – and if you are able to stick with that plan, you’ll be smarter than Newton.

Now and then, we all wrestle with the fact that we will not live forever. While most of us find this topic difficult to think about, it will happen to all of us and the circumstances will vary. For some, it will be sudden, while others will have prolonged battles with health issues and may require nursing facility assistance for end of life care.  Responsible adults should be mindful of the fact that they are unlikely to choose how and when they will die. Once you accept this notion, your thoughts should eventually drift to, “How do I want my assets distributed after I die?”  This is where the Last Will & Testament comes into play.

As you may know, your “Last Will,” as it is commonly called, specifies how assets held in your name will be transferred to family members, friends, relatives or charities after you die.  I cringe when clients, friends, and relatives say they don’t have a will. Sometimes, they say, “Why would I need a will…I don’t have a lot of assets.”  Or they incorrectly assume things will just “get worked out” among a spouse, parent, minor child, stepchild, ex-spouse or relative. They often don’t.

The truth is, even if you don’t have a valid Last Will and Testament, you do have a ‘default’ estate plan provided to you by New York State. New York State’s intestacy laws (dying without a will) dictate how assets are divided at your death.  Unfortunately, these rules may not match the manner in which you want your assets distributed among your heirs.

If you have a few minutes, I recommend that you Google “New York State intestacy laws” to see how your assets would be distributed according to New York State.  The intestacy laws as a safety next protecting New York state residents who don’t have a valid will.  But, with a little effort, you can control exactly what happens to your assets when you pass.  I recommend meeting with an attorney who specializes in this area law since they are adept at answering your questions and spotting issues that may require more than a simple will (Trusts, buy-sell agreements…etc).  A Last Will nominates your Executor, a person who carries out the process of retitling assets, retiring debts, paying final expenses, etc.  Without a will, the New York State Courts will appoint an Administrator for you (identical duties as an Executor). We think it’s best that you name a capable and trustworthy Executor to ensure that your wishes are adhered to and family disputes are avoided.  You may own a private company, have involvement with business partners, a farm, real estate holdings, alimony, leases, child support, valuables, artwork or die in a wrongful death case.  The possibilities are endless and it is best to have a plan in place that suits your particular needs.

Assets such as IRAs, 401(k)s , 403(b)s, life insurance policies or annuity contracts should contain designated beneficiaries that you have named to inherit your assets. Your will does not control these assets unless you name your estate as your beneficiary (not typically recommended).  Assets jointly owned with your spouse will typically fall into their control when you pass.  However, assets jointly owned with persons other than your spouse need to be carefully titled to ensure they are passed on to the heirs you specify.  A Last Will can help avoid family disputes or costly court proceedings to sort out these matters after you die.

Financial advisors who have been in this field long enough will have seen some real family inheritance disasters.  Many of these disasters could have been avoided with a simple 1-3 page Last Will drafted by an attorney.  The costs of such a document can be only a few hundred dollars.  If you need to revisit your estate plan, please contact your Rockbridge advisor.  While we don’t provide legal advice or draft legal documents, we can guide you through the scenarios and options specific to you and your family.  Then we can refer you to trusted partners to help you draft the appropriate legal documents.

Arguably the most important thing Rockbridge does is forecast what kind of lifestyle families can expect in retirement. We believe our attention to retirement planning, and all aspects of financial planning, separates us from other wealth managers in Syracuse and across the country. The fee-only fiduciary model puts clients first and delivers on things investors can control.

As we’ve been reminded again this year, one thing investors can’t control is the stock market. A healthy couple in their 50s may have a 40-year investment horizon for their assets. If that family will be relying in part or in whole on savings (401(k)s or otherwise), return assumptions become hyper important. Each year our firm looks at our return and inflation assumptions and makes updates as necessary. With the profound impact of the Coronavirus on capital markets we updated these assumptions in May.

Inflation: Inflation is one of the most important assumptions in retirement planning. Spending in retirement increases with inflation, it erodes fixed payments like pensions and high inflation can reduce the spending power of a portfolio if returns don’t increase commensurately. Many economists forecast inflation and the market has an implied inflation number based on the Treasury Inflation-Protected Securities (TIPS) market. Through the pricing of TIPS and the non-inflation adjusted treasury bonds you can back into a market implied inflation number. When Rockbridge forecasts inflation in retirement, we use the implied 30-year inflation rate. In May the market implied 30-year inflation was 1.4%, which is what we are currently using in our forecasting. This is down from the 2.1% we used in 2018 and the 1.8% we were using in 2016.

Bond Returns: Bond returns are fairly straight forward in that their expected return in the near future is denoted by their published SEC yield. If interest rates rise or fall during a period, the returns we realize over that period will be impacted (negatively or positively). However, in the event interest rates rise and realized returns suffer, higher interest rates mean a larger expected return going forward and vice versa. We are currently using 1.6% for expected return on the bond portion of our portfolios.

Equity Returns: The expected return on stocks is the most difficult to forecast and is historically the most volatile. One of the best way to think of equity returns is an “equity risk premium”, which means you expect equities to return an extra amount over a risk-free asset to compensate you for owning something volatile. How one defines a “risk-free asset” can vary. Over the last 90 years we’ve seen the following returns from stocks and assets that carry little or no risk.

The average equity risk premium over that time has been 6.19%. If you average the current inflation expectations with treasury rates you get 0.62%

The historical equity risk premium plus the current risk-free average gets you to 6.8% which seems reasonable. Forecasting equity returns is challenging and even the most systematic forecasts have an element of subjectivity. Like any method, ours has flaws. The most notable is the treatment of equity returns during a recession. Typically, the middle of a recession comes with lower inflation expectations, and a drop in interest rates. Those conditions would lead to a lower expected return. However, if the middle of the recession comes at the same time as a large drop in stock market prices, then you wouldn’t expect a low return as we usually see a regression to the mean and a bounce back in stocks.

In the present situation, we think the lower expected return is warranted as the stock market has by and large recovered from the lows seen on March 23rd.

We will continue to monitor capital markets and update our financial planning assumptions as needed in order to deliver the best quality product to our clients. If you have any questions related to expected returns or how they fit into your retirement, please reach out to your financial advisor.

Many of our clients have been asking why the stock market has recovered so much in the last two months while the economy is shrinking, and unemployment is hitting record highs. Implied in the question is whether the stock market is “overvalued” and will drop in the near future. The stock market may drop in the future because of new information and events that have yet to happen, no different than any other day. Here we will try to put the market’s actions into perspective and provide an explanation for current share price.

The best way to look at market valuation is through fundamentals. The price of a stock, or the market as a whole, is the value of all future earnings, from now until the end of time, discounted back to today. If you’re retired and think “But I don’t have forever”, worry not because the market does and that’s what prices stocks.

Our valuation equation consists of earnings (numerator) divided by a discount rate (denominator). Earnings will be less this year, though the degree of the drop and its longer-term impact are open to debate. According to FactSet Market Aggregates, analysts are expecting a 22% decline in earnings for 2020 (still positive just smaller than 2019), with 2021 reverting to just shy of what 2020 was supposed to be. If this were to hold, and using a 12/31/2019 valuation baseline, the S&P 500 should be around 3,000 – a 2.7% discount from where it stands today. A larger decrease in earnings or a prolonged reduction in earnings growth would harm stocks further.

Earnings are only half the equation. Even a slight change to the discount rate can meaningfully alter equity valuations. Were the discount rate to drop from 8.2% to 7.7% equities would increase 9.1% in value. The most indisputable thing affecting discount rates at the moment is the drop in inflation expectations and bond yields. If inflation is lower and you’re getting a lower return from a safe investment like a treasury bond, it stands to reason the market will demand a lower return from the stock market, meaning a lower discount rate and higher stock prices.

Many think of stock market returns as an “equity risk premium” or the extra return you get by bearing the extra risk associated with the stock market. Since 1926, the S&P 500 has returned an annualized 7.3% more than inflation and 5.1% more than five-year treasury notes. At the start of the year, the 5-year treasury note was yielding 1.67%, which was about the same as 5-year inflation expectations. Now the five-year note is at 0.33% and five-year inflation expectations are 1.06%. If real bond returns are lower, you’d expect real stock returns to be lower which is manifested through a lower discount rate and higher valuations.

Some argue the market’s increased volatility should mean a higher discount and lower stock prices. This argument has merit and may be partially responsible for lower equity prices. However, others argue the recent fiscal policy of the legislature and monetary policy of the federal reserve has been faster and more accommodating than previously expected. With the government quick to intervene to protect corporate profits and prevent bankruptcies perhaps stocks are less risky than previously thought and the discount rate again should be lower.

Things that decrease future risk, lead to a lower discount rate, and lower expected returns.

In the appendix of this article we run through several scenarios adjusting corporate earnings and discount rates to assess their impact on S&P 500 fair value.  Some interesting observations:

  • At the end of 2019, the price of the S&P 500 Index, projected earnings (analyst expectations in the near term and historical real growth in the long-term), implied a discount rate/expected return of 8.2% over a 50-year window.
  • A temporary reduction in earnings, and a slight decrease in the discount rate can explain current market valuations.

No one knows what the market will do in the coming months, but it’s wrong to think the market must go down. Things like future earnings and discount rates are impossible to know and subjective to each persons’ point of view, but it is not difficult to get to current equity values under reasonable assumptions. The following are key takeaways:

  1. Markets are forward-looking and move when events transpire differently than expected.
  2. Earnings drive prices but one bad year will not make an enormous impact as long as future years return get back close to expectations.
  3. The rate at which future earnings are discounted is very important. A lowering of the discount rate will cause market prices to increase substantially and there is good reason to believe the market’s discount rate is lower today than it was six months ago.

Appendix

Key Terms

Discount Rate: The interest rate used to calculate the present value of cash flows in the future.

Earnings: Corporate earnings, either of a single stock or a weighted earnings of a whole index. For all examples below, we assumed a long-term growth rate of 3.5% which represents the 2% real earnings growth rate we’ve seen over the last 140 years, plus the 1.5% current long-term inflation expectation.

PV of E: The present value of earnings are the future earnings that have been discounted back to today’s dollars by the discount rate.

Value: This is the sum of the “Present Value of Earnings.”

The following table shows the value of a fictitious stock that will earn $5 next year, those earnings will grow 3.5% a year, and the discount rate applied to the stock is 8.5%.

 

 

 

If you sum the “PV of E” (present value of earnings) for the next 50 years you get $90.55. We cut the chart after 11 years to make it fit on one page. The most sensitive variable is how much larger the discount rate is than the growth rate. In this case it was 5%. If we lowered that to 3% (say a 4.5% growth and a 7.5% discount rate) the value jumps to $126/share. If we widen it to 7% it drops to $69/share. What makes valuing stocks difficult is that no one knows future growth, or the market assigned discount rate. A critical thing to note, the discount rate is the expected return.

We can put this formula to practice with the S&P 500 looking back to the end of 2019. At the time, the S&P 500 was trading at 3,231 with expected 2020 earnings of 170.

 

 

 

 

Using the same method of summing the next 50 years, we get an index value of 3,231 (the index’s close on 12/31/2019) from a discount rate of 8.2%.

With this premise in place, we can explore different scenarios. First let’s look at the consensus estimates by Wall Street analysts. They are forecasting the S&P 500 to make 127/share in 2020, with 2021 being close to 2020’s original forecast or 165/share in earnings.

 

 

 

Were that to happen we should see an S&P 500 valuation of about 3,000 or 1.7% below today’s prices. This is assuming no change in the discount rate. This may be what the market is expecting and how it’s currently priced.

But what if the effects of the Coronavirus are substantially greater than the market is expecting. The following scenario assumes earnings are 50% below expectations in 2020, stay at the same level in 2021, and then revert to expectations in 2022 and beyond.

 

 

 

We now get a fair value that is 8.2% below where the market is currently trading. To get a market valuation down in the 2,300s like we saw near the bottom  in March, earnings would have to come in substantially below expectations and would need to have a lasting impact through the rest of the decade, and likely we’d need an increase in the discount rate (we revisit this later).

The prior scenarios are all assuming a change in earnings but not a change in the discount rate. If the discount rate is altered, even slightly, then equity valuations would be meaningfully changed.

If earnings forecast came in on top of expectations, but the discount rate was lowered by 0.70% to match the decrease in the real yield of treasury bonds, we’d actually see a valuation near the record highs we saw in February.

 

 

 

 

The next table incorporates a more severe earnings decrease combined with a reduction of the discount rate. The result is an equity valuation about 3.2% above what we see today.

 

 

 

 

If you’re pining for an equity valuation around the lows we saw at the end of March, the following table is one way to get you there.

 

 

 

We’d need very depressed (50%) earnings for the next two years, followed by a year that gets us halfway back to what analysts are currently expecting for 2021. Furthermore, the discount rate would have to increase to 9.2% which would happen if investors became more nervous because of stock market volatility or if inflation were to increase substantially over expectations.

It is important to remember the relationship between discount rates, valuation, and expected returns. Most people’s Intuition would say to root for a lower discount rate in order to increase equity valuations. However, a lower discount rate means lower expected returns in the future. On the flip side, a larger discount rate would cause the market to drop, but you’d be compensated in the long run by greater expected returns going forward. For the market to do well in the long-run companies need to create wealth and make money.

The Senate just approved the Paycheck Protection Program Flexibility Act. The Bill, which was passed by the House on May 28th, will ease many of the restrictions on how businesses must use PPP funds in order to have their loan forgiven.

In addition to extending the deadline to apply for a PPP loan from June 30th to December 31st, the Flexibility Act made achieving loan forgiveness easier in the following ways:

  • Congress extended the period over which businesses must use loaned funds for qualified expenses, from 8 weeks to 24 weeks. Those who received loans prior to this Bill may keep the current 8-week time period.
  • The Bill removes the requirement that at least 75% of PPP funds be used for payroll costs. Instead, 60% must go to payroll costs, and the remaining 40% of loan funds may be spent on mortgage/rent payments or utilities.
  • Previously, businesses that were forced to lay off employees, or reduce their salary by more than 25%, between February 15th and April 26th had until June 30th to hire them back, or restore their compensation level, to qualify for full loan forgiveness. The Bill now gives employers until December 31, 2020 to restore their workforce without penalty.
  • Businesses that can document their inability to fully restore their workforce by December 31st, or their inability to return to the same level of business activity because they were complying with Federal COVID-19 safety, sanitization or social distancing guidelines.

Other modifications made under this Bill include changing the minimum loan maturity period from 2 years to 5 years, for loans that will not be forgiven. Also, borrowers may defer loan payments (interest and principal) until the amount of their loan forgiveness is paid by the SBA to the lender. Businesses that do not qualify or apply for loan forgiveness may defer payments for 10 months after the program expires.

Another significant provision of the Flexibility Act is that it allows companies that took a PPP loan to be eligible for payroll tax deferral under the CARES Act. This provision allows taxpayers (including the self-employed) to defer paying the employer portion of certain payroll taxes through the end of 2020, with all 2020 deferred amounts due in two equal installments, one at the end of 2021 and the other at the end of 2022.

Unfortunately, one issue the Flexibility Act did not address is the deductibility of business expenses paid for with PPP loan funds. It is not clear whether this was an oversight, or whether lawmakers are assuming the eventual passage of the HEROS Act, which provides a fix to this issue.

At Rockbridge we have been helping our small business clients navigate this ever-changing regulatory landscape. Continue to check back in for updated information, or reach out to a Rockbridge advisor for help.

Roth IRA conversions can be an important potential tool for implementing a tax efficient retirement plan. At its core, a Roth conversion involves prepaying a deferred tax liability in exchange for tax free growth going forward. Conversions are ideal for people who are in lower tax bracket today than they are likely to be in the future.

Having the ability to pay the tax due on the conversion with after-tax dollars (i.e. cash in a checking/savings account or brokerage account) increases the benefit of the conversion strategy. Furthermore, Roth IRAs do not have minimum distribution requirements (RMDs) during an account owner’s lifetime.

Dan, age 62, is recently retired. He anticipates funding his lifestyle in retirement with income from a pension, other after-tax investments, and eventually Social Security. Dan anticipates being in a higher tax bracket once he starts taking RMDs at age 72, than he is today. Dan decides to convert a portion of his pre-tax IRA assets each year so that by the time he turns 72 he will greatly reduce or eliminate his RMDs. Dan further benefits if he pays the resulting tax on the conversions each year from his bank account rather than from his IRA.

Legislation in response to the global pandemic has suspended the distribution requirement for 2020, presenting a unique opportunity to do a Roth conversion for those already taking RMDs.

Dave, age 74, had a $50,000 distribution requirement from his IRA in 2020 that he no longer has to take. Assuming Dave would remain in the same marginal tax bracket with or without the $50,000 of income, he might decide to make a $50,000 Roth conversion instead. Future growth on the converted assets is now tax-free, and Dave has the same tax bill he would have had if required to take the $50,000 as a taxable distribution.

The recent stock market decline is another reason to consider doing a Roth conversion now. Converting assets at depressed values allows for potentially greater tax-free growth as the market recovers. The timeline for a market recovery is unknown. However, investors who have a positive long-term view of the market (as we certainly do) might consider a conversion sooner rather than later.

Diane has a pre-tax IRA that was worth $1,000,000 on December 31, 2019. The value of her account has since decreased by 10% to $900,000. If she converts the $900,000 to a Roth now, and the value of the account recovers to its previous $1,000,000 mark, Diane would shield $100,000 from future taxes by doing the conversion.

Roth conversions can play an important role in a tax efficient retirement plan. Whether or not a conversion strategy is appropriate depends on your individual situation. A Rockbridge advisor can work with you and your accountant to see if a Roth conversion strategy makes sense for you.

Congress created the Paycheck Protection Program (PPP), to provide liquidity to small businesses dealing with the effects of the economic shutdown.  It was clear from the language in the CARES Act that loans used for covered expenses would not be included in a business’ gross income. However, the Bill was silent on the deductibility of these covered expenses. The IRS recently released guidance taking the position that allowing businesses to deduct expenses paid with tax exempt income (the PPP loan) would provide a “double tax benefit.” Now, after many small businesses have taken loan money in order to continue paying their employees, make rent, or cover utility costs, they face the possibility that they will not be able to deduct these expenses if their PPP loan is ultimately forgiven.

Lawmakers from both sides of the aisle are critical of this position and are proposing legislation that would override the IRS on this issue. Senators John Cornyn, R-Texas, Charles Grassley, R-Iowa, Ron Wyden, D-Ore., Marco Rubio, R-Fla., and Tom Carper, D-Del. proposed the Small Business Expense Protection Act, an amendment to the CARES Act which would allow covered expenses to be deductible.

A separate piece of legislation enacted by The House of Representatives, called the Health and Economic Recovery Omnibus Emergency Solutions (HEROES) Act, also addresses the deductibility issue. In addition to correcting the deductibility issue, the HEROES Act would allow employers receiving loan forgiveness under the PPP to take advantage of the CARES Act’s payroll tax deferral provisions, which was prohibited in the CARES Act.

So where does this leave small business owners who are wondering how to account for these PPP financed expenses? Unless Congress passes or negotiates a fix, they will have to assume that they will not get both loan forgiveness and the ability to deduct the expenses paid for with loan proceeds. This could ultimately mean companies may need to make larger than anticipated estimated tax payments by July 15th. Hopefully Congress will act swiftly to settle this issue so that business owners can turn their attention to safely reopening as soon as they get the green light to do so.

In order to provide the best advice to our clients, we pay close attention to updates and guidance on the various CARES Act provisions, including the PPP. As soon as we know more, we will release a follow-up article with the latest information and impact to small business owners.

 

Last week, the largest U.S. Banks reported earnings. Since then, sellers of news have been scouring the information in an attempt to entertain their viewers and readers with insights into the future of stocks and the economy. Let them, but know the real value to the investors is not in the headline earnings miss, the increased provisions for loan defaults, the updated economic outlook, or what might happen to tier 1 capital ratios and subsequent dividends. The real lesson is from the part of the banks that did well, their trading revenues.

Trading revenue is an abstract concept. When a bank sells a bond for $1,010 you might think that would equate to $1,010 of revenue but it doesn’t. If the bank had bought the same bond for $990 earlier in the day, that would equate to $20 of revenue. Trading revenue is the net the firm makes from being a market maker. Higher trading revenue was seen across all banks, with JP Morgan reporting a 32% increase for the quarter relative to Q1 in 2019. That’s a large increase, especially when you remember that volatility didn’t hit the markets until the last week of February.

The cause of the increase in revenue is from more volume and wider bid/ask spreads. More volume is straight forward, banks make money when people trade, and when people are trading more, they make more money.

Bid/ask spreads are more confusing. Banks are what are known as dealers, meaning they are willing to buy or sell a security at any time and hold it on their books. That exposes banks to the possibility that they won’t be able to get back to risk-neutral at a favorable price. As dealers, banks try to put a price on anything, so when markets get volatile, they charge wider bid/ask spreads to compensate themselves for the greater uncertainty that they won’t be able to get out of the position. When everything is averaged out, the greater risk generally means greater return which is what we saw this past quarter.

A good example of banks profiting off bid/ask spreads is seen with a corporate bond from CVS. CVS’s 3.7% maturing on 3/9/2023 is a very liquid bond. It has $6 billion outstanding and is heavily weighted in many bond indexes and funds. It’s the largest holding of one of our favorites, Vanguard’s Short-Term Corporate Bond Index Fund (VCSH). This is not an obscure bond; this is a very mainstream security.

The data from Charles Schwab in the following table shows how volatility can affect the spreads and subsequent profitability by banks trading securities.

In February and April, trading volume was average, and spreads were reasonable. But March! As views of the world diverge, profits explode. There are desperate sellers who only know they want out and are willing to sell at $89/share, a 15% discount from recent levels. Meanwhile, buyers view $98 as an easy way to get a safe, investment-grade bond maturing in three years, at a 7% discount. The colossal difference between $89 and $98 is profit for the banks – Wall Street loves volatility.

What is the lesson here? When the urge is greatest to do something, the best action is often doing nothing. Our advisors received numerous calls and e-mails in March asking what adjustments we were making to our portfolios to address these changing/uncertain times. We could have created a plan of actions that would have sounded sophisticated but the only one guaranteed to benefit from that would have been trading desks.

It’s important to remember the distinction between investing and playing the investment game. Investing is providing capital to entities who use the funds to create wealth. In exchange for providing the capital and enduring the ups and downs of the economy your funds appreciate over time. Playing the investment game involves keeping “dry powder” and “staying nimble.” It sounds sophisticated and exciting, and it may be good fun, but it’s a zero-sum game, akin to poker, and the banks are the house. At Rockbridge, we try our best to ensure you’re investing.

In the last quarter of 2018, the market was down 20% from previous highs and we had many clients reaching out concerned about declines and high volatility. But when we examined the market’s movements, we found the volatility to be higher than normal but far from extraordinary. Recently, we have gotten similar questions from clients again on returns and volatility. Here we examine historical daily price movements of the S&P 500 to try and see if the market has really been crazy or if people are overreacting.

The average daily price movement in the last 30 trading days of the quarter was 4.10%. In terms of 30-day stretches, this is the third most volatile period in history, behind the 4.41% seen on November 15, 1929 and the 4.13% on  November 21, 2008. In terms of acute volatility, what we’ve recently seen is not unprecedented, but we’ve never seen anything much higher.

If you look at the entire quarter, which had 62 trading days, the average daily movement was 2.28% which is the eighth most volatile quarter on record. The greatest quarterly volatility was at the end of 2008 (3.34%), and the other six were between 1929 and 1933. Three of those came in 1932 when the average daily movement for the year was 2.59%!

These are only a few ways of looking at volatility, but regardless of how we measure it, the recent volatility in the stock market is very high and very unusual. However, it is important to remember that volatility can be brief. On Friday October 16, 1987 the market dropped 5.2%. The following Monday it dropped 20.5%. The Monday after that it dropped 8.3%. Despite this unprecedented volatility and huge daily drops, the market finished 1987 up 5.3%.

We don’t know how long this type of volatility will last, but we know enduring it is worth it. Investors earn years like 2017 (+21.8%) and 2019 (+31.5%) by sticking it out during times like this.

Rebalancing the allocation among risky assets in your investment portfolio is an important discipline.  It provides a structured way to maintain consistent risk exposure over time and forces us to “buy low and sell high” when it is not always the comfortable thing to do.  This quarter is a good example, in the midst of crashing stock prices, and record volatility in markets, we have been selling bonds to buy stocks in our portfolios.  Buying stocks during all this uncertainty can feel uncomfortable if not downright frightening, but here are a couple of things to keep in mind.

Cash never “goes to the sidelines.”  If you listen to the talking heads of financial news-media, it can sound like all investors are reducing their exposure to stocks, and hoarding cash to buy back in when prices are lower.  But that’s not the way markets work!  Whenever a share of stock is sold, another investor buys it.  When there are more sellers than buyers, prices fall to clear the market.  Warren Buffet’s famous saying bears repeating now, “Be fearful when others are greedy, and be greedy only when others are fearful.”  Another famous quote strikes a chord as well, “In bear markets, stocks return to their rightful owners.”  Long-term investors want to be the owners of stocks and down markets are an opportune time to buy.

When stock prices drop, expected returns increase.  It may at first seem counterintuitive, but the math is fairly straightforward.  The value of a stock, or any other asset, can be described as the discounted present value of all future cash flows.  There are two factors that influence the value of a stock:  future cash flows and the discount rate.  When cash flows become more uncertain, we apply a higher discount rate.  Logically, a rational investor would pay less for an uncertain stream of cash flows than a stream with greater certainty.  The discount rate is a reflection of expected returns.  When risk and uncertainty increase, investors demand a higher expected return.  Over the past two months many stocks have decreased in value by 30% or more.  Some of the decrease in value is driven by an expectation of lost revenue and profits (future cash flows) resulting from Coronavirus’ shutdown of the global economy.  However, some of the decline is due to fear and uncertainty, which translates to a higher discount rate.  Both of which have a negative impact on stock valuations.  In turn, buying stocks at today’s prices comes with the expectation of higher rates as compared to two months ago.

Rebalancing is a valuable and important discipline.  If you still have questions about rebalancing, or worry about the appropriateness of your target allocation, talk to your advisor.

Stock Markets

The damage to stocks from the Coronavirus pandemic is shown in the chart below as all markets are down dramatically. The domestic large cap stock market (S&P 500), driven by the largest tech companies, held up a little better.  Except for this market, this quarter’s falloff brought the five-year returns to essentially breakeven and we must look to the ten-year numbers for returns that generally compensate for risk.

We are in uncharted territory and will be for a while.  It’s not the usual economic “slowdown”, but a “shutdown”.  Ben Bernanke, Fed Chairman during the 2008 financial crisis, likens to a natural disaster not a depression. Markets are clearly discounting the massive uncertainty of the trajectory of the Coronavirus pandemic, the global economic impact and government’s response.

It is reasonably clear that this health crisis and our response will alter the future economic landscape. There will be ups and downs as we move from where we are to where we are going. Today’s prices reflect current information about what is known and what is unknown about this journey. The expected return implied by these prices is not only positive but is apt to be better than what we have seen in the past to compensate for the greater risk in this period of heightened uncertainty. There is no reason to conclude this expected return won’t be realized eventually. To earn these returns means to remain committed to established investment plans.

Bond Markets

A yield is what you earn by holding a bond to its maturity. It has been shown to be a reasonable proxy for the return expected.  Changes in yields drive returns – falling yields positive, rising yields negative.  The longer a bond’s maturity the greater the impact a given change will have on prices and returns.

You can see to the right how yields have dropped over the last quarter.  It’s only at maturities greater than five years when yields are better than zero.  The falloff in bond yields of over one percent since last quarter reflects the Fed’s reduction in interest rates and its announced commitment to provide liquidity during this crisis.  In addition to the activities of the Fed, yields at the longer end are consistent with a desire to avoid risk and the expectation of low rates well into the future.  We have the Fed’s playbook from the 2008 liquidity crisis to give a sense of how they will apply the various tools.

The impact of the massive stimulus package is another uncertainty. No doubt we’ll see increased deficits, which is usually accompanied by inflation.  However, inflation has been benign over the last ten years as we worked through the effects of the last recession. The same could hold true this time around, although the deficits are going to be greater. The bond markets are telling us to expect that inflation will remain in check.

Risk and Uncertainty

Uncertainty can’t be measured, but risk can as both are associated with an unknown future. The stock market, where investors buy and sell based on an uncertain future, is an example.  Using historical data, we can construct expectations and a range of outcomes, which can be used to measure stock market risk.  A pandemic is new territory and if we accept that how markets deal with uncertainty is reasonably consistent through time, then history provides some insight into describing what’s ahead.

Today it’s the uncertain trajectory of the Coronavirus.  As more data is gathered through the ongoing testing’ the uncertainty is translated into measurable risk, which is then reflected in expected outcomes and variability. While the stimulus package signals Congressional support in lessening the economic fallout, there is not much history in implementing a package of this magnitude. Be prepared for a trial and error process, and volatility.

Where are We?

It is hard to imagine what we are going through won’t have a lasting social and economic impact.  The level of expected unemployment claims and government spending is new territory. The highest priority right now is to reduce the uncertainty of the health crisis. It will take time to expand the testing to better understand this pandemic and for “social distancing” to begin to work.  In the meantime, commitment and perseverance is our immediate future.

Markets look to the future, which is significantly murkier than a month ago.  It may be a while before the future looks much clearer.  While especially difficult in the face of today’s falloff, the time-worn prescription for investing in these times continues to be apt – maintain established commitments, endure the volatility in the near term and expect positive returns for bearing these risks over the long term.

With much of the country in self-isolation, perhaps you’ve got time to read the entire H.R. 748 Coronavirus Aid, Relief, and Economic Security Act, or CARES Act. If you’d prefer, here is a summary of many of the key provisions we expect to be discussing with you in person (virtually), depending on which ones apply to you. Questions? Please be in touch!

In General

  • Direct payments/recovery rebates: Most Americans can expect to receive rebates from Uncle Sam. Depending on your household income, expect up to $1,200 per adult and $500 per dependent child. To calculate your payment, the Federal government will look at your 2019 Adjusted Gross Income (AGI) if it’s available, or your 2018 AGI if it’s not. However, you’ll receive an extra 2020 tax credit if your 2020 AGI ends up lower than the figure used to calculate your rebate. This Nerd’s Eye View illustration offers a great overview:

  • Retirement account distributions for coronavirus-related needs: You can tap into your retirement account ahead of time in 2020 for a coronavirus-related distribution of up to $100,000, without incurring the usual 10% penalty or mandatory 20% Federal withholding. You’ll still owe income tax on the distributions, but you can prorate the payment across 3 years. You also can repay distributions to your account within 3 years to avoid paying income taxes, or to claim a refund on taxes paid.
  • Various healthcare-related incentives: For example, certain over-the-counter medical expenses previously disallowed under some healthcare plans now qualify for coverage. Also, Medicare restrictions have been relaxed for covering tele-health and other services (such as COVID-19 vaccinations, once they’re available). Other details apply.

For Retirees (and Retirement Account Beneficiaries)

  • RMD relief: Required Minimum Distributions (RMDs) go on a holiday in 2020 for retirees, as well as beneficiaries with inherited retirement accounts. If you’ve not yet taken your 2020 RMD, don’t! If you have, please be in touch with us to explore potential remedies.

For Charitable Donors

  • “Above-the-line” charitable deductions: Deduct up to $300 in 2020 qualified charitable contributions (excluding Donor Advised Funds), even if you are taking a standard deduction.
  • Donate all of your 2020 AGI: You can effectively eliminate 2020 taxes owed, and then some, by donating up to, or beyond your AGI. If you donate more than your AGI, you can carry forward the excess up to 5 years. Donor Advised Fund contributions are excluded.

For Business Owners (and Certain Not-for-Profits)

  • Paycheck Protection Program loans (potentially forgivable): The Small Business Administration (SBA) Paycheck Protection Program (PPP) is making loans available for qualified businesses and not-for-profits (typically under 500 employees), sole proprietors, and independent contractors. Loans for up to 2.5x monthly payroll, up to $10 million, 2-year maturity, interest rate 1%. Payments are deferred and, if certain employment retention and other requirements are met, the loan may be forgiven.
  • Economic Injury Disaster Loans (with forgivable advance): In coordination with your state, SBA disaster assistance also offers Economic Injury Disaster Loans (EIDLs) of up to $2 million to qualified small businesses and non-profits, “to help overcome the temporary loss of revenue they are experiencing.” Interest rates are under 4%, with potential repayment terms of up to 30 years. Applicants also are eligible for an advance on the loan of up to $10,000. The advance will not need to be repaid, even if the loan is denied.
  • Payroll tax credits and deferrals: For qualified businesses who are not taking a loan.
  • Employee retention credit: An additional employee retention credit (as a payroll tax credit), “equal to 50 percent of the qualified wages with respect to each employee of such employer for such calendar quarter.” Excludes businesses receiving PPP loans, and may exclude those who have taken the EIDL loans
  • Net Operating Loss rules relaxed: Carry back 2018–2020losses up to five years, on up to 100% of taxable income from these same years.
  • Immediate expensing for qualified improvements: Section 168 of the Internal Revenue Code of 1986 is amended to allow immediate expensing rather than multi-year depreciation.
  • Dollars set aside for industry-specific relief: Please be in touch for a more detailed discussion if your entity may be eligible for industry-specific relief (e.g., airlines, hospitals and state/local governments).

For Employees/Plan Participants

  • Retirement plan loans and distributions: Maximum amount increased to $100,000 on up to the entire vested amount for coronavirus-related loans. Delay repayment up to a year for loans taken from March 27–year-end 2020. Distributions described above in In General.
  • Paid sick leave: Paid sick leave benefits for COVID-19 victims are described in the separate, March 18 R. 6201 Families First Coronavirus Response Act, and are above and beyond any benefits received through the CARES Act. Whether in your role as an employer or an employee, we’re happy to discuss the details with you upon request.

For Employers/Plan Sponsors

  • Relief for funding defined benefit plans: Due date for 2020 funding is extended to Jan. 1, 2021. Also, the funding percentage (AFTAP) can be calculated based on your 2019 status.
  • Relief for facilitating pre-retirement plan distributions and expanded loans: As described above for Employees/Plan Participants, employers “may rely on an employee’s certification that the employee satisfies the conditions” to be eligible for relief. The participant is required to self-certify in writing that they or a direct dependent have been diagnosed, or they have been financially impacted by the pandemic. No additional evidence (such as a doctor’s release) is required.
  • Potential extension for filing Form 5500: While the Dept. of Labor (DOL) has not yet granted an extension, the CARES Act permits the DOL to postpone this filing deadline.
  • Exclude student loan pay-down compensation: Through year-end, employers can help employees pay off current educational expenses and/or student loan balances, and exclude up to $5,250 of either kind of payment from their income.

For Unemployed/Laid Off Americans

  • Increased unemployment compensation: Federal funding increases standard unemployment compensation by $600/week, and coverage is extended 13 weeks.
  • Federal funding covers first week of unemployment: The one-week waiting period to start collecting benefits is waived.
  • Pandemic unemployment assistance: Unemployment coverage is extended to self-employed individuals for up to 39 weeks. Plus, the Act offers incentives for states to establish “short-time compensation programs” for semi-employed individuals.

For Students

  • Student loan payments deferred to Sept. 30, 2020: No interest will accrue either. Important: Voluntary payments will continue unless you explicitly pause them. Plus, the deferral period will still count toward any loan forgiveness program you’re in. So, be sure to pause payments if this applies to you, lest you pay on debt that will ultimately be forgiven.
  • Delinquent debt collection suspended through Sept. 30, 2020: Including wage, tax refund, and other Federal benefit garnishments.
  • Employer-paid student loan repayments excluded from 2020 income: From the date of the CARES Act enactment through year-end, your employer can pay up to $5,250 toward your student debt or your current education without it counting as taxable income to you.
  • Pell Grant relief: There are several clauses that ease Pell Grant limits, while not eliminating them. It would be best if we go over these with you in person if they may apply to you.

For Estates/Beneficiaries

  • A break for “non-designated” beneficiaries: 2020 can be ignored when applying the 5-year rule for “non-designated” beneficiaries with inherited retirement accounts. The 5-Year Rule effectively ends up becoming a 6-Year Rule for current non-designated beneficiaries.

There. You’re now familiar with much of the critical content of the CARES Act! That said, given the complexities involved and unprecedented current conditions, there will undoubtedly be updates, clarifications, additions, system glitches, and other adjustments to these summary points. The results could leave a wide gap between intention and reality.

As such, before proceeding, please consult with us and other appropriate professionals, such as your accountant, and/or estate planning attorney on any details specific to you. Please don’t hesitate to reach out to us with your questions and comments. It’s what we’re here for.

Reference Materials:

U.S. Small Business Administration, Paycheck Protection Program and Disaster Assistance

The CARES Act establishes a new loan program through the Small Business Association (SBA), to aide small businesses who have had to lay off employees, and or, suspend their operations. To be eligible for a loan under this section an entity must have less than 500 employees, which includes full time and part-time workers.

Eligible businesses include:

  • Sole proprietors, and certain self-employed individuals
  • Independent contractors
  • Nonprofit organizations under section 501(c)(3)
  • food service industry businesses with less than 500 employees per physical location

Loans will be administered by SBA-approved lenders, and are limited to the lesser of:

  • 2.5 times the average total monthly payroll costs incurred during the 1-year period before the date on which the loan is made. Seasonal employers, and employers not in business between February 15, 2019 and July 30, 2019, will use an alternative calculation period.
  • $10,000,000.

Payroll costs for determining the eligible loan amount include:

  • Salaries, wages, commissions
  • Payment of cash tips
  • Payment for vacation, parental, family, medical, or sick leave
  • Payment required for group health care benefits, including insurance premiums
  • Payment of any retirement benefit
  • Payment of State or local tax assessed on employee compensation

Payroll costs do not include annual compensation in excess of $100,000 per person, or compensation of an employee whose principal residence is outside of the United States. They also do not include Federal employment taxes imposed or withheld. Qualified family or sick leave wages for which a credit is allowed under the Families First Coronavirus Response Act, will also not count as payroll costs.

Proceeds from a loan under this program may only be used for the following purposes:

  • Payroll costs
  • Costs related to continuation of group health care benefits and insurance premiums
  • Employee salary/compensation
  • Rent and utilities
  • Interest on other debt incurred before February 15, 2020

Loans taken under this program are eligible for full or partial forgiveness. The forgiven amount will be equal to the amount actually paid for payroll costs (not including salary amounts over $100K), benefits, rent, utilities and mortgage interest during the eight weeks following disbursement of the loan. Additionally, amounts forgiven will not be included in gross income as cancelation of indebtedness income.

The amount forgiven will decrease ratably if the employer does not retain an equivalent number of employees between February 15, 2020 and June 30, 2020, as it employed between either February 15, 2019 and June 30, 2019, or January 1, 2020 and February 15, 2020. Further reductions to the forgiveness amount will be incurred if the employer cuts an employee’s compensation by more than 25% (for employees making less than $100K), as compared to the previous quarter.

Any amounts not forgiven will have a maximum maturity of 10 years from the date the borrower applies for loan forgiveness, and maximum interest rate of 4%. Payments on these loans will be deferred for 6 to 12 months.

In response to the COVID-19 pandemic, Congress has passed the Coronavirus Aid, Relief, and Economic Security Act (CARES Act). This legislation is the third round of federal funding aimed at providing economic support for individuals and businesses. Below are some of the key provisions relating to small businesses and companies.

  • Paycheck Protection Program (PPP) – The CARES Act establishes a new loan program through the Small Business Association (SBA), to provide financing for businesses with less than 500 employees, including sole proprietors and independent contractors. Eligible businesses may borrow up to the lesser of $10,000,000, or 2.5 times their prior year’s average total monthly payroll costs (subject to some limitations). Loan proceeds that are used to cover certain costs over an 8-week period, may be eligible for complete or partial forgiveness. Amounts not forgiven must be paid back over a 10-year period and have a maximum interest rate of 4%.
  • Economic Injury Disaster Loans (EIDLs) – These disaster relief loans administered by the SBA have been around for a long time, providing working capital loans to small businesses. EIDLs offer 30-year loans up to $2,000,000, with interest rates of 3.75% and 2.75% for small businesses and nonprofits respectively. The CARES Act provides for an advanced payment of up to $10,000 for those businesses applying for this type of loan. The $10,000 advance will be paid within three days of the request, and may be used to maintain payroll, provide sick leave to employees, make rent/mortgage payments, meet increased production costs due to supply chain disruptions, or pay other business obligations. The $10,000 advance is not required to be repaid under any circumstances.
  • Small Business Debt Relief Program – The SBA will cover all loan payments for six months, for small businesses who have new or existing SBA loans, that are not EIDLs or PPP loans. Payments covered include interest, principal, and fees.
  • Employee Retention Credit for Employers Subject to Closure Due to COVID-19 – This provision of the CARES Act provides a refundable tax credit for businesses and nonprofits meeting at least one of the two criteria:
    1. A business whose operations have been fully or partially shut down due to governmental authority limiting commerce, travel, or group meetings due to COVID-19.
    2. A Business whose revenue (not profit) in 2020 is at least 50% less than revenue from the same quarter in 2019.

The credit is equal to 50% of wages paid to each employee, up to a maximum of $10,000 of wages per employee. The calculation of wages for purposes of determining the credit vary by business, employee, and payment type. Any business who believes they are eligible for this credit should consult with their tax advisor. Employers receiving assistance through the Paycheck Protection Program are not eligible for this credit.

  • Deferral of Payment of Payroll Taxes – This provision allows taxpayers (including the self-employed) to defer paying the employer portion of certain payroll taxes through the end of 2020, with all 2020 deferred amounts due in two equal installments, one at the end of 2021 and the other at the end of 2022. Payroll taxes that can be deferred include the employer portion of FICA taxes, the employer and employee representative portion of Railroad Retirement taxes (that are attributable to the employer FICA rate), and half of SECA tax liability. Employers receiving assistance through the Paycheck Protection Program are not eligible for this deferral.

Stay tuned for more in depth analysis on these, and other, provisions affecting small businesses.

 

Recovery Rebates for Individuals:

One the most talked about provisions of the CARES Act is the Recovery Rebates for Individuals. The Act creates a refundable tax credit (called the Recovery Rebate) for eligible taxpayers against income on your 2020 tax return. The refundable credit will be paid in the coming weeks, and eligibility will be initially determined based on the taxpayer’s 2019 or 2018 tax return.

The Act defines eligible individuals as “any individual other than a nonresident alien individual, an individual claimed as a dependent on another taxpayer’s return, or an estate or trust.” The amount of the Recovery Rebate is up to $1,200 for single filers, $2,400 for joint filers, and up to $500 for each qualified child. Among other things, a qualified child must be under the age of 17 and claimed as a dependent on the taxpayer’s return.

The amount of the Recovery Rebate will be reduced, and ultimately phased out, once a taxpayer’s adjusted gross income (AGI) reaches certain threshold amounts.

  • Married filing jointly – the credit gets reduced once AGI exceeds $150,000 and phases out completely when AGI exceeds $198,000.
  • Head-of-household – the credit gets reduced once AGI exceeds $112,500 and phases out completely when AGI exceeds $146,500.
  • Single filers – the credit gets reduced once AGI exceeds $75,000 and phases out completely when AGI exceeds $99,000.

For example, a married couple filing a joint return that had an AGI of $140,000 and two qualifying children on their 2019 tax return, would be eligible for a Recovery Rebate of $3,400. However, if that same couple had a 2019 AGI of $180,000, then their credit would be reduced by $1,500, and they would receive a Recovery Rebate of $1,900.

A taxpayer who receives a reduced credit, or is phased out completely, based on their 2019 tax return, but whose income in 2020 is below the AGI threshold will get this lost amount back when they file their 2020 tax return. Assume the couple from the above example whose AGI in 2019 was $180,000, then reports income of $140,000 in 2020. In this situation the couple would receive a refundable credit of $1,500 on their 2020 tax return.

The Act does not “claw back” rebates received by a taxpayer who is eligible based on their 2019 AGI, and then subsequently reports income above the AGI threshold on their 2020 return. It does appear that a taxpayer would be required to repay any rebate received based on their 2018 AGI, if their income in 2019 made them ineligible for the credit.

Suspension of Required Minimum Distributions (RMDs):

Another notable provision of the CARES Act is the suspension of Required Minimum Distributions (RMDs) for 2020. This applies to both account owners and beneficiaries of Traditional IRAs (including SEP and SIMPLE accounts), 401(k), 403(b), and 457(b) accounts. For those people who turned 70 ½ in 2019 but did not take their first RMD in 2019, they will not have to take the 2019 or the 2020 distribution. People who have already taken RMDs in 2020 may be able to return the distribution back to their account. Prior to the SECURE Act, certain beneficiaries of retirement accounts were required to withdraw the entire account balance by the end of the 5th year after the original account owner died. The CARES Act allows these beneficiaries to not count 2020 as one of these 5 years.

Penalty Free Access to Retirement Plan Funds:

For those impacted by the Coronavirus, the Act permits distributions from IRAs and employer-sponsored retirement plans of up to $100,000, to qualify as “Coronavirus-Related Distributions.” If a distribution is a Coronavirus-Related Distribution, then a number of potential benefits apply including:

  • Exemption from the 10% penalty for people under 59 ½.
  • The distribution is still considered taxable income but is split evenly over the next 3 years. A taxpayer may elect to include all of the income from the distribution on their 2020 return.
  • The distribution is eligible to be put back into a retirement account within 3 years of the date of the distribution. This can be done as a lump sum rollover, or as multiple partial rollovers.
  • Exemption from mandatory Federal withholding of 20% on distributions from employer-sponsored retirement plans.
  • Increasing the amount an individual may borrow from their employer-sponsored retirement plan to $100,000, or 100% of their vested balance. Payments on loans taken in 2020 may be delayed for up to one year.

To be considered a Coronavirus-Related Distribution a person must either have been diagnosed with COVID-19, have a spouse or dependent who has been diagnosed, or who has suffered some type of financial hardship because of the virus.

 

In response to the COVID-19 pandemic, Congress has passed the Coronavirus Aid, Relief, and Economic Security Act (CARES Act). This legislation is the third round of federal funding aimed at providing economic support for individuals and businesses. Below are some of the key provisions relating to individuals.

  • Recovery Rebate for Individuals – This widely anticipated provision will provide cash payments of up to $1,200 to individuals ($2,400 if you file a joint tax return). Taxpayers will receive an additional $500 for each child under the age of 17 that are claimed as a dependent on the taxpayer’s return. While those eligible will begin receiving this money in the coming weeks or months, taxpayers whose income is above a certain threshold will not receive payments.
  • Suspension of Required Minimum Distributions (RMDs) – The bill also waives required minimum distributions in 2020 for most retirement account owners and beneficiaries. This applies only to those taking RMDs under the rules in place prior to the SECURE Act.
  • Penalty Free Access to Retirement Plan Funds – People who are facing Coronavirus related hardships can take distributions from their retirement accounts and have certain benefits apply. Benefits include:
    • No 10% penalty for people under age 59 ½.
    • Distributions are still taxable, but income can be spread out evenly over three years.
    • Funds withdrawn in 2020 may be put back into a retirement account within three years. This may be done in a lump sum or with multiple rollovers.
  • $300 Above-the Line Deduction for Charitable Contributions – Taxpayers who make charitable contributions in 2020 but do not itemize their Federal deductions because of the increased standard deduction, will now receive a tax benefit for up to $300 worth of these contributions. Contributions must be made in cash and cannot be made to donor-advised funds.
  • Healthcare Benefits – The Act health insurance issuers, including Medicare, to cover any Coronavirus preventative service. This means that people will be eligible to receive the COVID-19 vaccine at no cost (once available). Additionally, over-the-counter medications and menstrual care products, are now considered qualified medical expenses for purposes of HSA distributions.
  • Deferral of Student Loan Payments – The bill suspends student loan payments through September 30, 2020. During this time interest will not accrue on the loans, and each month will count as a qualifying payment under any loan forgiveness program.
  • Increased Unemployment Benefits – Unemployment compensation is increase by $600 a week for up to four months. The Act also extends the amount of time someone can receive benefits for by 13 weeks. Assistance is also extended to those who are self-employed, or otherwise ineligible for unemployment benefits under normal circumstances.

In addition to the provisions effecting individuals, the CARES Act provides benefits to businesses and their employees. Stay tuned for future posts which will discuss these, and other, provisions in more detail. As always, if you have any questions on how the CARES Act may affect you, please reach out to your Rockbridge advisor.

Federal IRS Tax Payments:

On March 20th, in response to the ongoing COVID-19 pandemic, the IRS released Notice 2020-18, which postpones the Federal filing and payment deadline from April 15, 2020, to July 15, 2020. This relief applies to all individual returns, trusts, and corporations. This relief is automatic, taxpayers do not need to file any additional forms or call the IRS to qualify.

This relief also includes estimated tax payments for tax year 2020 that are due on April 15, 2020.

Penalties and interest will begin to accrue on any remaining unpaid balances as of July 16, 2020. You will automatically avoid interest and penalties on the taxes paid by July 15.

Individual taxpayers who need additional time to file beyond the July 15 deadline can request a filing extension by filing Form 4868 through their tax professional, tax software or using the Free File link on IRS.gov. Businesses who need additional time must file Form 7004.

Here are a few things to note in regard to the notice:

  • There is no extension form to file for this three-month postponement.
  • There is no limitation on the amount of payment that may be postponed.
  • This Notice does not address the postponement of 2020 2nd quarter Federal estimated income taxes. These payments are still due June 15, 2020.
  • Interest, penalties, and additions to tax for the Federal income taxes postponed will begin to accrue on July 16, 2020, on any unpaid balance.

NYS Tax Payments and Filing:

The NYS tax filing and tax payment deadline has also been extended from April 15th to July 15th, 2020 to match the Federal tax return guidelines.

IRA and HSA Contributions:

The Internal Revenue Service today has clarified that the deadline for making Individual Retirement Account and Health Savings Account contributions for the 2019 tax year has been extended to July 15, 2020.

The maximum amount you can contribute to an IRA for the 2019 tax year is $6,000 (plus a $1,000 catch-up contribution if you are age 50 or older). The maximum amount you can contribute to an HSA is $3,500 for individual coverage or $7,000 for family coverage (plus a $1,000 catch-up contribution per account). You have to have a qualifying high deductible health plan to open one of these triple tax-advantaged accounts.

Selecting an investment advisor is a significant decision. And choosing the right brokerage firm to custody your assets is an important decision for you and your advisor to make together. When you place your assets at Schwab, you are choosing a custodian experienced in serving the unique needs of independent advisors and their clients. Learn more about Schwab and our policies, services, and protections by reviewing the information below.

You, your advisor, and Schwab

Your advisor’s expertise and Schwab’s custody services come together to help protect your assets and support your investment goals.

You can learn much more about how Schwab works with your advisor to serve you in A winning relationship: You, your advisor, and Schwab Advisor Services™. This brochure provides an overview of how Schwab’s products and services support your advisor’s management of your investments, as well as how we handle our key role as your custodian: safeguarding your assets. You’ll also find information about Schwab, our procedures, and the support we offer.

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A winning relationship: You, your advisor, and Schwab Advisor Services™

 

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Schwab is committed to staying financially strong, and we have confidence in our ongoing financial health. We run our business with a sound capital structure and position our company for long-term strength and stability. We take appropriate actions to give our clients confidence in the security of their accounts.

Our brochure How client assets are protected at Schwab provides an overview of our asset safety and insurance policies. To learn more about our stability, review additional information about the Schwab Corporation.

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How client assets are protected at Schwab

Claim: Stock market volatility has been crazy this month.

Our Ruling: True! This past month has been shockingly volatile. On average, there are 21 trading days in a month. Looking back on the previous 21 trading days ending 3/23/2020, we see an average daily move of 4.56%. There were more days with a 9% or greater movement (3) than days which moved less than 1% (2). The only time we saw more volatility in a month was in November of 1929. What we are seeing now is slightly more volatile than what we saw during the height of the financial crisis in 2008.

Takeaway: If the markets seem wild to you that is understandable and rational. Feeling uneasy because of this is normal.

 

Claim: Because volatility is so high, we will experience a market drop like we saw in 2008 or the Great Depression.

Our Ruling: False! While that claim is possible, believing it to be certain is wrong. No one knows where the stock market will be in a day, week, month, year or decade. The logic of high volatility could have been applied to the stock market in 1987, when in just 4 trading days, the market declined 28.5%. But selling stocks then would have been a mistake. Over the ensuing 10 years, the market did little besides rise, appreciating at an annualized 18.7%.

Takeaway: Timing the market is a zero-sum game, it’s not investing. Every trade has two people on either side of it. If you are selling, someone else is buying. If you sell now thinking you’ll get back in when the market calms down, you’re counting on someone wanting to sell out when the market calms down. You may find markets can rise as quickly as they fall. Investing means enduring the ups and downs and being compensated for it. And you are compensated for it! Even with this month’s move, stocks have returned 9.75% annualized over the last 94 years.

 

Claim: Some investors are irrational.

Our Ruling: True! We have noticed two funny examples in the last month of irrational behavior. The first involved a hot stock and the second an unfortunate trade.

Zoom Video Communications (ZM), the video conferencing company from San Jose, is up 134% this year as their remote conferencing services are growing rapidly. Zoom Technologies (ZOOM), a defunct company from Beijing that hasn’t filed a 10-K in six years, was up 1,890% on the year as of Friday, March 20th. It has no reason to be up other than people confusing it with ZM.

State Street’s Mortgage-Backed Securities ETF, SPMB, had an interesting day on Thursday, March 12th. The fund which holds AAA-rated debt guaranteed by Fannie Mae and Freddie Mac was trading close to flat before plunging 12% in the last half hour of trading. The next day, it rallied to close little changed from where it opened the day before. The reason was a single trader placed a market order, rather than a limit order to sell 500,000 shares or $13 million worth of the ETF. When volatility is high, markets can be thin, especially near the end of the day. The order blasted through the bid, costing the seller roughly $1,000,000.

Takeaway: The market isn’t perfect, and some investors are irrational at times. Be wary of trying this at home on your own!

 

Claim: I should try to profit off other people’s foolishness.

Our Ruling: False! While the capital markets aren’t perfect, it’s the best system there is. Anomalies happen, but they can’t be predicted or modeled, and they vanish quickly.

Trying to profit off the movement in ZOOM is a risky endeavor. You could have bought early hoping for a greater fool to come and pay more in the future. This is a dangerous game; after peaking on Friday, the stock dropped 60% yesterday. You might think you could buy put options or short the stock. Unfortunately, you’d find no options market exists on ZOOM, and good luck finding someone long ZOOM willing to lend you the shares so you can short it. What happened with ZOOM is entertaining but profiting off it isn’t practical and it’s not investing.

There was a quick 10% to be made with SPMB if you bought right at the close on March 12th. To ensure you don’t miss the next opportunity you only need to create a system that monitors the 2,000 ETFs that trade in the United States, have several million in capital ready to put to work, and have the gumption to buy a plummeting ETF on a day the stock market is down 10% and bond liquidity is extremely low. In addition to all that you need another dummy to come along and place the foolish trade. Again, it’s not practical.

Takeaway: Profiting from irrational investor behavior is like betting on a game. In hindsight, it may seem obvious what was happening, but in the moment it’s challenging. You’re only going to make money if the person on the other side of the trade is losing money.

This is separate from investing where you give companies capital, the companies in turn provide goods and services, and wealth is created. You should expect a return from investing, but not from playing a game. At Rockbridge, we try to ensure you are investing.

 

That concludes this edition of Stock Market Fact Checker. Please reach out to Ethan directly if you have any claims you’d like a ruling on!

New York Gov. Andrew Cuomo announced Friday all non-essential businesses must close or have employees work from home.

Cuomo’s latest directive followed orders for businesses to reduce the in-person workforce by 25 to 75% in recent days. The 100% workforce reduction goes into effect on Sunday at 8 p.m.

The order has many asking: What’s considered essential work and what’s not?

The state is asking all businesses that are not on the list to close or have employees work from home beginning Sunday. Business owners who believe their in-person services are essential can ask to be added by contacting Empire State Development.

Businesses allowed to remain open are asked to implement social distancing rules of at least six feet.

The state is updating the list as circumstances change during the coronavirus pandemic, so check back for the most up-to-date information. Syracuse.com is keeping track. Check back for up-to-date information.

(See further below for a list of businesses that have been explicitly ordered to close.)

List of essential businesses (allowed to remain open):

Healthcare

  • Research and laboratory services
  • Hospitals
  • Walk-in care health facilities
  • Emergency veterinary and livestock services
  • Elder care
  • Medical wholesale and distribution
  • Home health care workers and aides for the elderly
  • Doctor and emergency dental services
  • Nursing homes, residential health care facilities, congregate care facilities
  • Medical supplies and equipment manufacturers and providers

Infrastructure / Transportation

  • Utilities (power generation, fuel supply and transmission)
  • Public water and wastewater
  • Telecommunications and data centers
  • Airports and airlines
  • Bus, rail, for-hire vehicles, garages
  • Hotels and accommodations

Manufacturing

  • Food processing and manufacturing (food and beverage)
  • Chemicals
  • Medical equipment and instruments
  • Pharmaceuticals
  • Safety and sanitary products
  • Telecommunications
  • Microelectronics and semiconductors
  • Agriculture and farms
  • Household paper products

Retail

  • Grocery stores (all food and beverage stores)
  • Pharmacies
  • Convenience stores
  • Farmer’s markets
  • Gas stations
  • Restaurants and bars (take-out / delivery only)
  • Food delivery services
  • Hardware and building material stores

Services

  • Trash and recycling collection, processing and disposal
  • Mail and shipping
  • Laundromats
  • Building cleaning and maintenance
  • Child care
  • Automotive repair
  • Warehouse (distribution and fulfillment)
  • Funeral homes, crematoriums and cemeteries (no ceremonies)
  • Storage (for essential businesses)
  • Animal shelters

Finance & Technology

  • Banks
  • Insurance
  • Payroll
  • Accounting
  • Finance markets services
  • Logistics
  • Technology support

Construction

  • Electricians
  • Plumbers
  • Emergency repair
  • Construction related to essential infrastructure and safety

Safety

  • Law enforcement
  • Fire prevention and response
  • Building code enforcement
  • Security
  • Emergency management and response
  • Defense and national security (U.S. government and contractors)

Sanitation

  • Building cleaners and janitors
  • General maintenance
  • Disinfection

Other

  • News media
  • Homeless shelters
  • Human services providers, basic needs providers and others serving economically disadvantaged populations
  • Congregate care facilities
  • Food banks
  • Residential facilities
  • Doormen
  • Essential government services
  • Government-owned or leased buildings

Non-essential businesses (not eligible for “essential” designation)

  • Barbershops and hair salons
  • Tattoo and piercing salons
  • Nail salons
  • Other personal care service such as hair removal businesses
  • Casinos
  • Gyms and fitness centers
  • Movie theaters
  • Auditoriums, concerts
  • Conferences
  • Retail shopping malls
  • Amusement parks
  • Bowling alleys
  • Sporting events and stadiums
  • Worship services (places of worship are not ordered closed but are asked to uphold social distancing rules and to not hold gatherings)

Given the volatility in the financial markets beginning the week of February 20th, it’s helpful to
review the state of the U.S. economy entering into this stressful period, what’s happened since,
and some of the potential economic impacts. Here is my take on those topics.

 At the beginning of 2020, the U.S. economy was in very strong shape, with
unemployment falling and the labour force participation rate and wages rising.

 Compared to 2008-09, this is not a financial crisis but rather a health crisis, which
tends to be much shorter in duration (typically several months) and which should
lessen in magnitude as the Northern Hemisphere approaches spring and
summer. Banks are in the strongest capital positions ever, and strong banks with
the ability to lend are obviously important to the sustainability and health of the
economy during times of crisis. Further, the ratio of consumer debt to gross
domestic product (GDP) is about 75 percent, its lowest since 2002, down from
almost 100 percent in 2008.

 Lower interest rates will help governments, consumers and corporations
refinance debt, leading to lower debt burdens within those sectors of the
economy. However, lower interest rates, along with lower stock prices, will put
further stress on state and local pension plans, many of which are already
severely underfunded. In order to minimise risk, we have been avoiding buying
bonds from a significant number of these states. A sustained period of low rates
will also impact savers, increasing the need for other parts of the portfolio to
generate the returns needed to fund retirement and other goals. We also expect
that we will see yields on short-term fixed income, such as money market funds,
drop substantially as well, increasing the “cost” of cash.

 While bad for energy companies, their stockholders and potentially their
bondholders, collapsing energy prices are effectively a big “tax cut” for
consumers. Also, companies that are heavy energy users (e.g., airlines) will
benefit, to some degree offsetting the losses associated with lower energy prices
in other sectors of the economy.  However, there is significant risk to the high-
yield corporate bond market, as there is $85 billion of high-yield debt issued by
energy companies, and with oil prices below $40 a barrel, many of these
companies will struggle to generate profits. Much of that debt matures in the next
four years. In this type of environment, one can expect the high-yield corporate
bond market to be highly correlated with the stock market, which is one of the

reasons we generally do not recommend high-yield bonds as part of client fixed-
income portfolios. High-yield bonds do not provide effective diversification within
a portfolio that already owns stocks.

 The U.S. has the lowest percentage of trade relative to GDP, at about 12 percent
(country trade-to-GDP ratios). In comparison, most of Europe varies from around
50 percent (Germany) to the high 80s (Belgium, Netherlands). Japan is about 16
percent and the UK is about 30 percent. So, if there is a prolonged deterioration
in trade, the U.S. should be less impacted than most countries.

 If the economic disruption associated with the coronavirus worsens, governments
are likely to take action to address issues, such as coming out with loan
programs to bail out specific industries (as the government did during the 2008-
09 crisis for General Motors and the banking industry) and enact fiscal stimulus
(tax cuts or other programs to more directly help those financially impacted by
the coronavirus) [1] . Given possibilities like this, one must also keep in mind that
markets are forward-looking, recovering well before the economy does, just as
they tend to fall before the economy is materially disrupted.

 Markets generally do a good job of incorporating both good and bad news and
anticipating potential impacts on the economy. When we see markets change, it
is almost always because of new information that couldn’t have been reliably
forecast in advance. However, markets can also fall for noneconomic reasons
due to a cascade of sellers who reach their get-me-out point, have margin calls,
or are covering short put options positions that are held by sellers of volatility
insurance and sellers of structured notes (which limit downside equity risks); or
market participants who are trading with the trend. In addition, banks and
investment firms using value at risk (VaR) metrics to assess possible losses on
their books for any single day may have to sell off risks as volatility
increases. Market participants can sometimes exacerbate downward trends in
markets, but we still believe it’s best not to try to predict these occurrences but
rather to be aware they are possible. Further, if you sell, you have no way of
knowing when to get back in or when trends like the above could reverse.

 While stocks and risky fixed-income assets or pseudo fixed-income strategies,
such as dividend paying stocks, REITs (real estate investment trusts), etc., are
falling in value, safe bonds are rising in value, demonstrating their value as
dampeners of portfolio volatility, which is why we include them in portfolios.
Some “true” alternative strategies, such as marketplace lending, reinsurance and
trend-following, have held up very well and have generally generated positive
returns on a year-to-date basis.

 Finally, remember that bear markets are periods when stocks are transferred
from weak to strong hands, as does wealth when recoveries occur. We have
recovered from every past crisis, which we tend to experience with great
frequency, about every two or three years. Further, we recovered quickly in the
past from the health crises of SARS, MERS and Ebola.
Footnotes

[1] On Sunday night, March 15 th , the Federal Reserve announced that it cut the Fed funds rate to
effectively zero, a drop of a full 1 percent. In addition, it announced a massive $700 billion
bond-buying program. These actions will provide cover for other central banks to cut rates
without fear of their currencies collapsing. Congress is also working on a massive stimulus bill,
on top of the $8.3 billion approved last week by the Senate. Governments around the world are
certain to follow with packages of their own.

In the 1960s, sociology professor James Henslin spent time with a group of cab drivers in St. Louis to understand their gambling habits. When the drivers finished their shifts for the night they would play craps into the wee hours of
the morning, typically from 3 am to 7 am. Henslin sat in on nearly 20 of the dice games to determine how the drivers’ thoughts and actions dictated how they played.

In his paper Craps and Magic, Henslin writes about how he discovered many of the players were operating under a sense of magic over the dice:

It became evident to me that these players were convinced that they could control the dice, that is, as shown by their behavior (by their statements, gestures, and betting practices), they were not playing solely under the assumption of probability or odds, but, rather, they also moved within the framework of a system of magical beliefs.

The players would routinely throw the dice harder when they wanted a high number and throw it softer when they wanted a low number. This is also why you so often see players blow on the dice before a throw at the casino. These practices have no bearing on the outcome but they give the gamblers an illusion of control.

When stock market volatility erupts, investors are always in search of their own illusion of control. We crave predictability and control when it comes to our money but the stock market provides neither.

When stocks are rising, investing is often boring, methodical and the opposite of newsworthy. When stocks are falling, investing is often exciting fast, and scary.

 

Investors often look to find some modicum of control through the answers of gurus. We just want someone to tell us what’s going to happen next so we can either buy or sell to relieve the fear and anxiety.

In all my years of doing this, I’ve never come across a single person who has all of the answers. That person doesn’t exist.

When stocks go down in a big way I find it’s more helpful to seek out the right questions as opposed to trying to find all of the answers.

Here are some questions you can ask yourself when trying to work through how to handle stock market volatility:

 If I sell my stocks now what is the plan for getting back in?

 Has my time horizon, risk profile or circumstances meaningfully changed enough to warrant a portfolio change?

 Will my lifestyle be impacted in a meaningful way if stocks continue to fall?

 Did I build my portfolio with the understanding that stocks can and will fall on occasion?

 Have I overestimated my appetite for risk assets?

 Do I need to use the money I have invested in stocks for spending purposes in the next 3-5 years?

 Does my portfolio match my willingness, need, and ability to take risk?

 Do I fully understand the potential range of outcomes when investing in stocks?

 Is my portfolio durable and diversified enough to withstand severe dislocations in the stock market?

 Does my investment strategy fit with my personality?

 How did I react to market carnage in the past?

 How much volatility am I willing to accept in order to earn higher expected returns over time?

 What are my core investment beliefs?

 What do I own and why do I own it?

 What will cause me to buy or sell securities, funds, or asset classes in my portfolio?

There are no right or wrong answers here because it all depends on your
circumstances.

These questions work in every market environment but more so when volatility rears its ugly head because that’s when we want to take the wheel to make something happen to give us the illusion of control. Most of this stuff boils down to having a comprehensive investment plan in place to guide your actions and set realistic expectations.

But the act of creating an investment plan is the easy part. The hard part is implementing that plan during periods of heightened stress in the financial markets or your own personal life.

Even the most rock-solid of investment plans won’t give you the same illusion of control as your favorite talking head who pretends to know what’s going to happen next in the stock market.

What happens next in the market is completely out of our hands which is why the most important reason for creating an investment plan is that it forces you to focus on what you can control.

The IRS is extending the federal income tax filing deadline to July 15 as part of a growing effort to stem the financial pain from the coronavirus pandemic, Treasury Secretary Steven Mnuchin announced Friday.

The move gives Americans three months more than they normally would have to file their income tax returns for the 2019 tax year, without incurring interest or penalties.

President Donald Trump later Friday said that “hopefully” by the time the new deadline arrives “people will be getting back to their lives.”

“At @realDonaldTrump’s direction, we are moving Tax Day from April 15 to July 15,” Mnuchin wrote in a tweet about the extension.

“All taxpayers and businesses will have this additional time to file and make payments without interest or penalties,” he wrote.

Trump echoed that suggestion during a White House press conference.

Most Americans are entitled to refunds when they file their federal tax returns.

As of March 13, the Internal Revenue Service had issued 59.2 million refunds out of the 76.2 million million individual income tax returns it had received, or 77.7% of the total number of returns filed by that date.

The average refund check was $2,973, according to IRS data.

Many individual states already had extended their own tax filing deadlines to various dates to give people relief from the financial fallout of the coronavirus outbreak, which has shuttered businesses nationwide and led to large-scale layoffs.

The IRS move will increase pressure on states to align their deadlines with the new one for federal income tax returns.

New York Gov. Andrew Cuomo, asked at a press conference if state residents should pay their state income taxes by the New York deadline of April 15, said the new federal guideline should be followed.

The IRS did not immediately return a call for comment from CNBC. It is not clear if the deadline extension also will include the deadline for funding Individual Retirement Accounts for the 2019 tax year.

A proposal to extend the federal filing deadline to July was included in the Senate’s coronavirus economic stimulus bill, which was released Thursday by Majority Leader Mitch McConnell, R-Ky.

That proposed relief package calls for new federal spending that could top $1 trillion.

Earlier this week, the Treasury Department released guidance that would have pushed back only the deadline for making federal tax payments — not for filing tax returns —  to July 15.

That 90-day reprieve on payments would have applied to 2019 income taxes owed, plus first-quarter tax payments that would have been due on April 15.

Federal lawmakers and members of the tax preparation community had criticized the proposal to have different dates for filing tax returns and making payments. Mnuchin’s announcement ends that debate by having returns and payments each due by July 15.

The White House declined to comment on Mnuchin’s announcement.

Recently, several markets, including in the US and Brazil, have hit circuit breakers, where trading is paused for a period after a specified percentage decline in the market. In all cases, trading resumed as planned. Circuit breakers can serve a useful function: they mandate a short halt during which participants can assess new information and calibrate their trading activity.

While market volatility has triggered these rarely used rules, markets have been functioning as expected, given the recent news. Both the bond and equity markets have had increased trading volumes, bid-offer spreads, and volatility. Despite this, Dimensional has continued to manage strategies efficiently and in a manner consistent with their investment guidelines.

Our investment process is designed to function robustly and account for changes in security prices, changes in available liquidity, and sharp market movements. During a trading day, it has long been part of our trading process to allow for flexibility in the timing of when to trade. For example, Dimensional may choose to pause trading around an event that could result in unusual volume or volatility, like a company earnings announcement, an index reconstitution, the release of economic data, or a development in the news.

This longstanding flexibility can be valuable when volatility is high. If needed, we can sit out the early moments after the stock markets open and overnight news is being priced in. We can also use this flexibility to plan for circuit breakers.

As we approach each trading day in each market, we consider news releases, activity in other markets, the performance of overnight stock futures, and other factors. Those evaluations may lead Dimensional to anticipate that index performance will result in a circuit breaker being triggered, which can lead to higher bid-offer spreads and other potential implicit trading costs. This information is available to portfolio managers and traders before a market opens and can be used to implement strategies as efficiently as possible. In such instances, our research1 has shown that a flexible trading approach tended to add more value when compared to an approach that requires immediacy.

Dimensional will continue to monitor markets closely. Our investment approach allows us to remain consistent in how we manage our clients’ assets through the market’s ups and downs.

FOOTNOTES

  1. 1Dave Twardowski and Ryan J. Wiley, “Global Trading Advantages of Flexible Equity Portfolios” (white paper, Dimensional Fund Advisors, 2014).

 

Sudden market downturns can be unsettling. Sticking with your plan helps put you in the best position to capture a recovery.

A broad market index tracking data since 1926 in the US shows that stocks have generally delivered strong returns over one-year, three-year, and five-year periods following steep declines.

Fama/French Total US Market Research Index Returns

July 1926-December 2019

Past performance is no guarantee of future results.

 

So, remember all those times we’ve said that investment risks and expected rewards are related?

Coronavirus-fueled fears, driving economic insecurities, aggravating a host of simmering global sore spots, spiraling into stomach-wrenching market sell-offs …

Be it confirmed. Today’s unfolding news is the realization of those risks we’ve been talking about all along.

In case you’ve forgotten – or never experienced – what investment risk feels like, we reach out to you today with three encouraging thoughts, to help you face any challenges ahead.

  1. For Real: Risks DO Drive Expected Returns

First, be assured, our advice on how to invest during volatile markets remains the same:

As a train needs its engine to move, markets require risks to drive them onward and upward.

Rather than spending too much time tracking passing headlines or watching every market move, consider reading a good book. For example, there’s Ben Carlson’s recently released “Don’t Fall For It: A Short History of Financial Scams.”

Carlson describes how the U.S. stock market (the S&P 500) has delivered a satisfying 9.5% annual return from 1928–2008. But during that time, there were only 3 years when returns hovered tamely between 9%–11%. Usually, annual returns deviated wildly from their norm.

So, yes, markets are risky. But here’s the reward to be expected in return: Most years (66 out of 91), steadfast investors earned positive returns, usually in the double-digits. Carlson concluded:

“Every successful investor must understand there is a sacred relationship between risk and reward. There is no proven way to earn a high return on your capital without taking some form of risk nor is it possible to completely extinguish risk from your investments.”

  1. Preparation Beats Panic

It’s one thing to embrace abstract risk. It’s quite another to endure it for real. So, second, remember this:

You have never been more prepared than you are today for whatever happens next.

In other words, if you’re worrying that NOW is the time to do something about the markets, consider what we’ve already been doing all along.

We’ve already been helping you identify the right balance between your willingness, ability, and need to tolerate risks. We’ve already been working with you to create your own investment plan, with your assets allocated accordingly. We’ve already been building and managing your evidence-based, globally diversified portfolio to capture the market’s long-term expected returns.

In other words, you’re not only already “doing something,” that “something” is expected to remain your best strategy for riding out any bad news to come.

  1. In the Face of Market Risks, We’ve Got Your Back

Now that investment risks are being realized, you may also be realizing your risk tolerance isn’t what you thought it would be. No shame, no blame. How could you have known in theory what your tolerances are for real? If you’re second-guessing yourself today, there are two possibilities:

You may be right. You may not be cut out financially and/or emotionally to withstand sustained risks to your investments. If this is the case, let’s revisit your plans, and talk about how to prudently adjust your risk exposures without sacrificing too many of your financial goals.

You may be wrong. It’s possible you are experiencing blind spot bias. That is, while we can often see when someone else is succumbing to an ill-advised behavior, such as fear or risk aversion, we often cannot see it when we’re experiencing it ourselves. Carlson addressed blind spot bias in his book. He pointed to research that has suggested, even once you know you have a blind spot, you still may not be able to overcome all the damaging biases you’re still not seeing.

That’s one of the primary reasons you’ve engaged us as your fiduciary financial advisor. If the breaking news is leaving you feeling strained to a breaking point, here’s one fast action we recommend: Please be in touch with us immediately. Together, we’ll take an objective look at your thoughts, hopes, and fears. Together, we’ll continue to chart a sensible course forward.

Come what may in the days to come, we’re here for you now.

“I’m not an optimist. That makes me sound naïve. I’m a very serious ‘possibilist.’ That’s something I made up. It means someone who neither hopes without reason, nor fears without reason, someone who constantly resists the overdramatic worldview.”

— Hans Rosling, Factfulness

Whether you’re considering an investment opportunity or simply browsing various media for insights and entertainment, it has become increasingly obvious: You cannot believe everything you see, hear, or read. Much of it is “overdramatic.” Too much of the rest is just plain wrong.

Thus it falls on each of us to be positively skeptical in our search for knowledge.

To be positively skeptical, we must continue to think and learn and grow.
But we also must aggressively avoid falling for hoaxes and hype.

Social Media: An Aggravating Allure

Of course, selling proverbial snake oil and falling for falsities is nothing new. As investors, citizens, and individuals, it will always be our task to remain informed purveyors of the truth. But in today’s climate of information overload, this is no easy task. The very features that make online engagement so popular also make it a powerful forum for sowing deceit and confusion.

First, it’s now all too easy to share a claim far and wide, long before it’s been through any sort of reality-check. One or two clicks, and it’s on its way.

Second, evidence suggests false online news spreads faster than the truth. In a March 2018 Science report, “The spread of true and false news online,” a team of MIT researchers analyzed approximately 4.5 million tweets from some 3 million people from 2006–2017. They found that “Falsehood diffused significantly farther, faster, deeper, and more broadly than the truth in all categories of information.”

The authors also found that “human behavior contributes more to the differential spread of falsity and truth than automated robots do.”

In other words, we can’t just blame it all on “the bots.” We owe it to ourselves to be vigilant.

A Rigorous, But Rewarding Role

The challenge is, few of us actually enjoy engaging in detailed fact-checking. That’s not entirely our fault. It’s likely due to a multitude of mental shortcuts, or “heuristics,” which we have honed over the millennia to make it through our busy days.

In their landmark 1974 paper, “Judgment under Uncertainty: Heuristics and Biases,” Nobel laureate Daniel Kahneman and the late Amos Tversky are widely credited for having launched the analysis of human heuristics, including when they are most likely to lead us astray.

Essentially, we’re more likely to share and comment on a social media post, than to take the time to substantiate its accuracy. When considering an enticing investment opportunity, we find it easier to skim the marketing materials, than to dig for deeper understanding. Academic research that refutes current assumptions can be dense, and difficult to decipher; if a particular assumption is already widespread, we’re prone to simply accept it as fact.

Unfortunately, there are legions of cunning con artists and slick sales staff who know all this, and have weaponized our behavioral biases against us.

This means it’s as important as ever to sharpen your skeptical lines of defense. Granted, it takes more time to carefully separate fact from fiction. But the upfront due diligence should ultimately save you far more time, money, and personal aggravation than it will ever cost you.

Being positively skeptical should richly reward you in the long run.

In this multipart series, we’ll explore how to strengthen your fact-checking skills. Join us next time, as we leap the hurdle of your own emotions in the quest to be positively skeptical about specious claims.

Each year large Wall Street firms post their expected returns for the next decade. A year ago, we saw the following forecasts:

*  Denotes a seven-year forecast

The biggest thing that stands out here is the poor performance expected by U.S. Equities. Despite 93 years of annualized returns in excess of 9.5%, the best research minds in the country were only forecasting an average of 3.4% for the ensuing 10 years. It is also interesting how much better they expect returns from non-U.S. stocks to be than from U.S. stocks.

Another thing to note is how far off last year’s realized returns are from the forecasted returns. For U.S. Stocks, an annualized 3.4% for a decade works out to a gain of 39.7%. If that were to be true, we got more than three-quarters of that gain just in the last year.

The following table shows the same companies and their expected returns for the next decade.

Relative to last year, it is interesting to see that U.S. Equities still have the same expected return, despite their great run in 2019. Expected returns from non-U.S. Stocks came down some but are still quite a bit higher than U.S. Stocks. One takeaway is that the U.S. economy and expected future earnings beat expectations last year by a greater margin than they did overseas. Still, overseas prospects are apparently brighter. Another interesting item is the expected return of U.S. bonds. The prediction fell from 3.2% to 1.9%, which is a function of interest rates falling. Currently, the U.S. Aggregate bond market is yielding 2.2%. To realize a 1.9% return off of a 2.2% yield means the underlying value of the bonds must be decreasing (interest rates are rising). The implied increase interest rates over the next decade would have to be towards the end of the decade and at least 0.50% for this to hold true.

We can think of a few takeaways from this information. First, despite the poor performance of international equities over the last decade, we believe it would be a mistake to reduce international equity allocation at this time. Second, markets are very hard to predict and years or even a decade can be short when it comes to markets and economic cycles.

A foolish investor last year would have seen an expected 3.4% return from U.S. Stocks and have been tempted to look elsewhere. If they had done that, they would have missed out on a 31% gain. We are again reminded that the most prudent thing is to stay diversified and stay invested while ensuring you are making all the correct decisions when it comes to saving and financial planning.

The following article by Ethan Gilbert was recently published on Jim Cramer’s website, “TheStreet”, in their retirement section. Ethan began being a guest contributor in 2019.

With recent headlines around the increasing national debt, our firm has had clients reach out to ask if they owned Treasuries and if the national debt is something that should worry them and their investments.

Most investors own U.S. government debt in some capacity. Whether it’s a pension, an insurance product, a mutual fund or ETF, savings bonds, or a Treasury note, government debt is everywhere. Part of the reason it’s so prevalent is because there is so much of it. Currently, the government owes $23 trillion and plans to add another trillion in 2020, making it the largest issuer of debt in the world.

Through the academic lens of investing, debt obligations of the U.S. government are assumed to be free of default risk as governments can print money. But through history we see that this does not always hold true.

Countries who let their debt get too large are forced to either print money or default. Neither is a good option, especially for investors. Could this happen to the U.S.?

It could, but it will likely be three or four decades until it reaches a tipping point, and even then, it’s not a guarantee. In the meantime, investors should feel safe buying Treasury bonds; safe in that they’ll receive their interest and principal, and safe that a buyer will exist should the investor want to sell them in the future.

First let’s look at the bad, our country’s fiscal health. The most relevant figure is debt as a percentage of the economy. Specifically, debt held by the public (excluding other government agencies). For the United States, that total is $17.1 trillion. The total size of the economy (gross domestic product, or GDP) is $21.7 trillion, putting public debt as a percentage of GDP at 79%.

This is high by historical standards, but not catastrophic. Countries that have defaulted tend to do so when debt as a percentage of GDP gets above 180%.

The credit rating agency, Moody’s, and the International Monetary Fund (IMF) each publish reports assessing developed countries’ “fiscal space” or how much additional debt they could incur before no longer being able to find buyers for their debt. Moody’s and the IMF each give a few numbers when assessing the U.S. In general, we are OK with debt up to 200% to 240% of GDP, but would struggle above that level. The U.S. is thought to have a relatively large fiscal ceiling because of our size and access to credit.

The reason for the multiple numbers is the uncertainty on interest rates and the cost of servicing the debt. Looking at data from 1962 to today, our debt is at an all-time high (79% versus an average of 41%). However, interest rates are low. The U.S. 5-year note is yielding 1.62% versus an average of 5.8%. Because of this, the cost of our debt as a percentage of GDP is close to average (1.85% versus 1.90%).

This cost has been rising in recent years as debt keeps increasing and the yield curve has risen. Were interest rates to return to their historical norm, the cost of the interest would become quite burdensome. Say with debt at 140% of GDP, and interest rates at 5%, the cost of the debt would be 7% of GDP. That’s more than a third of what our government raises each year through taxes.

Adding to the concern is the trajectory of our national debt. Since 1962, annual spending as a percentage of GDP has averaged 20.1%. In 2019, it will be 21.3%, by 2029 will rise to 22.5%, and by 2049 is expected to rise to 28.2%. Tax revenue will not keep up. Over the last 57 years, revenue has averaged 17.3% of GDP. This year it is expected to be 16.1%, by 2029 it is forecast to rise to 18.3%, and by 2049 will be 19.5%. In this scenario, debt held by the public would be 144% of GDP in 2049, and our annual interest expense would be 5.7%.

These projections come from the Congressional Budget Office’s (CBO) annual “Long-Term Budget Outlook” which was published in June 2019. These numbers are derived from a set of assumptions based on current law. Unfortunately, the situation worsened in August 2019 when congress passed the

Bipartisan Budget Act of 2019, which removed discretionary spending caps and didn’t offset those costs.

In anticipation of this, the Congressional Budget Office includes in their Long-Term Budget Outlook an Extended Alternative Fiscal Scenario, which tries to forecast elected officials’ propensity for increasing spending and reducing taxes. In this alternate scenario, come 2049 we have revenues of 17.6% of GDP and spending is 33.1% of GDP. Debt as a percent of GDP would be 219% and the annual interest component would be 9.4%. It’s hard to imagine this alternate situation would fully come to fruition but as recent history has taught us, forecasts under current law don’t seem to hold.

Estimating events 30 years away is guesswork at best, but it seems reasonable to think the United States would be reaching the point of insolvency in roughly 45 years, give or take a decade. A concern people have with budget issues is that waiting makes the future changes more difficult and abrupt. Like anything in life, if you plan ahead it’s easier. But Washington is doing the opposite, they are making the problem worse.

Still, there is good news for investors. The market doesn’t seem to mind our fiscal issues and markets are ruthless. When other countries have fallen out of favor with investors, buyers don’t exist, yields skyrocket, and countries are forced to print money or default. Nothing close to that has shown itself regarding Treasuries, instead the opposite has happened.

On Aug. 2, 2019, the Bipartisan Budget Bill was passed into law. It eliminated the 2011 sequestration on discretionary spending and raised the baseline for future discretionary spending. The market didn’t blink at this additional $1.7 trillion in spending over the next decade. Rather, within a month, interest rates on U.S. government debt declined to near record, or record levels, depending on the term. The U.S. 30-year, our longest-dated bond that in theory carries the most default risk, closed at a record low of 1.94% on Aug. 28. The market is clear, it doesn’t much care about America’s fiscal challenges.

This phenomenon of low interest rates is seen around the world. In August 2019, $17 trillion in global debt was yielding negative interest rates, and only $200 billion of that was in the United States. At the time this prompted investors to wonder why America’s government debt couldn’t get to negative yields. Negative yields are more a result of supply and demand than fundamentals. There is a lot of wealth in the world, and for those with a strong aversion to risk, owning negative yielding debt is a necessity.

The U.S. dollar is the reserve currency of the world. All types of institutions, companies, and people come across dollars and need to hold them for a period of time. Those who want a guarantee that their dollars will be returned purchase treasuries. This, along with other factors, should perpetuate strong demand for treasuries into the foreseeable future.

The situation in Japan may also relieve anxiety over the U.S. debt. Japanese debt currently stands at 238% and has been above 200% since 2009. Despite this high level of debt, over half of the outstanding debt trades with a negative interest rate. Factors supporting Japan’s yields are that the country is currently running close to a balanced budget and over 90% of the country’s debt is held within Japan.

America relies on foreigners for a larger share of Treasury ownership, about 30%. The following is a breakdown of America’s nearly $23 trillion in debt.

  1. $6.8 trillion – Foreign holders (Japan at $1.2 trillion & China at $1.1 trillion)
  2. $6.0 trillion – other U.S. government agencies (Social Security, Military Retirement, FERS)
  3. $2.6 trillion – Pension funds
  4. $2.3 trillion – Federal Reserve
  5. $5.3 trillion – All other U.S. investors (U.S. based mutual funds and ETFs, state and local governments, banks, insurance companies, U.S. Savings Bonds, private investors)

While we don’t have the same type of domestic demand that Japan enjoys, America does have a diverse form of debt owners reinforcing the argument that we have good access to credit.

Even if projections come to fruition in 40 years, the market may treat U.S. debt more like Japan than Argentina. Though we’d probably struggle to reach a balanced budget at that point.

When asked to identify the greatest threat to our national security, former admiral and chairman of the Joint Chiefs of Staff, Michael Mullen, and former Defense Secretary James Mattis have both cited the national debt rather than a foreign government or terrorist organization.

I agree, I think America’s national debt is the greatest threat to the world’s long-term prosperity outside of nuclear war (you could also argue a climate-induced catastrophe).

But from an investor’s standpoint there is no reason to be concerned about the national debt or holding Treasury bonds in the foreseeable future.

Often, all you need to be an excellent investor is a healthy dose of common sense: A penny saved is a penny earned. Buy low, sell high. Don’t put all your eggs in one basket.

That said, the best way to achieve these simple goals isn’t always as obvious. In fact, many of our favorite investment insights may at first seem counterintuitive. Today, we cover a trio of weird, but wonderful “upside-down” investment ideas.

Investment Insight #1: Market volatility is the norm, not the exception.

How often have you thought something like this: “The markets seem so crazy right now. Maybe I should back away, or at least wait until things settle down before I make my next move.”

The problem is, the markets rarely “settle down.” And when they do, we only realize it in hindsight. There are just too many daily seeds of doubt, forever being sown by late-breaking news. We never know which ones might germinate – until they do, or don’t.

We suggest putting market volatility in proper context.

“Being surprised at equities’ ups and downs is like visiting Chicago in January and being shocked by 8 inches of snowfall.” — William Bernstein

In other words, it’s normal for markets to swing seasonally. It’s just part of the weather. For example, in Dimensional Fund Advisors’ commentary, “Recent Market Volatility,” we see U.S. stock markets ultimately delivered positive annual returns in 33 of the 40 years between 1979–2018. But during the same period, investors had to tolerate average intra-year declines of 14%.

Investment Insight #2: Market volatility is your frenemy.

What if markets weren’t volatile? What if all the days, in every market, were like November 12, 2019, when the Dow closed at the same 27,691.49 price as the day before?

If prices never changed, traders would become unwilling to trade; they’d have no incentive to do so. In this extreme, markets would no longer be able to serve as a place where buyers and sellers came together and agreed to price changes. Soon enough, markets would cease to exist.

What if there were just far less market volatility? You would probably soon discover how much you missed those same, downward price swings you ordinarily loathe. That’s because, long-standing evidence has informed us: By giving up extra volatility, you also must give up the extra returns you can expect to earn by tolerating the volatility risk to begin with.

“If you’re living in fear of the next downturn, consider shifting your thinking instead of your investments. Focus on controlling what you can control, such as how much you save, or finding the right stock/bond mix.” — David Booth

Investment Insight #3: You can win for losing.

Wouldn’t it be great to hold only top selections in your investment portfolio, with no disappointments to detract from your success?

Of course it would. It would also be nice to hold a $100 million winning lottery ticket. But just as the lottery is no place to invest your life’s savings, neither is speculating on the razor-thin odds that you can consistently handpick which stars are next in line to shine.

Instead, we suggest building a broadly diversified portfolio covering a range of asset classes … and sticking with it over time.

By always being already invested wherever the next big run is about to occur, you’re best positioned to earn market returns according to your risk tolerance. At the same time, spreading yourself across multiple asset classes also means you’ll always be invested somewhere that isn’t doing quite as well. This means you’re unlikely to ever “beat the market” in a big, splashy way.

Here’s a helpful way to think about committing to a mixed-bag (diversified) portfolio:

On a scale of 1-10, with 10 being abject misery, I’m willing to bet your unhappiness with a diversified portfolio comes in at about a 5, maybe a 6. But your unhappiness if you guess wrong on your one and only investment for the year? That goes to 11. — Carl Richards

Obvious in Hindsight?

We hope the insights we’ve shared now seem a little more obvious. We also hope you’ll be in touch if we can help you incorporate or sustain these three upside-down ideas within your own portfolio management. Because …

“‘[O]bvious’ is often a long way from ‘really believed and internalized’ and in the gap between those two fortunes are made and lost.” — Cliff Asness

 

Although we believe it is reasonable to say that few of us know much (if anything at all) about the Coronavirus, it has quickly grabbed global headlines. As the viral news has spread, so too has financial uncertainty. What’s going to happen next? Will it infect our economy? So far, U.S. markets have remained relatively immune. But should you try to dodge markets that have been exposed?

Our advice is simple: Do try to avoid this or any other health risk through good hygiene. Wash your hands. Cover your mouth when you cough. Eat well, exercise, and get plenty of sleep.

But do not let the breaking news directly impact your investment stamina.

If you’re already following an evidence-based investment strategy …

  • You’ve already got a globally diversified investment portfolio.
  • It’s already structured to capture a measure of the market’s expected long-term
  • You’ve already accepted (at least in theory!) that tolerating a measure of this sort of risk is essential if you’d like to actually earn those expected long-term
  • You’ve already identified how much market risk you must expect to endure to achieve your personal financial goals; you have allocated your investments accordingly.

In other words, it may feel counterintuitive, but leaving your existing portfolio exposed to the risks wrought by a widespread epidemic is already part of the plan. All you need do is follow it.

Admittedly, that’s often easier said than done. Here are a few reminders on why sticking with your existing investment plan remains your best financial “treatment.”

Markets endure. We by no means wish to downplay the socioeconomic suffering coronavirus has created. But even in relatively recent memory, we’ve endured similar events – from SARS, to Zika, to Ebola. Each is terrible, tragic, and frightening as it plays out. But each time, markets have moved on. Whether coronavirus spreads further or we can quickly tamp it down, overwhelming historical evidence suggests capital markets will once again endure.

“Journalists who reported flights that didn’t crash or crops that didn’t fail would quickly lose their jobs. Stories about gradual improvements rarely make the front page even when they occur on a dramatic scale and impact millions of people.”
Hans Rosling

The risk is already priced in. The latest news on coronavirus is unfolding far too fast for any one investor to react to it … but not nearly fast enough to keep up with highly efficient markets. As each new piece of news is released, markets nearly instantly reflect it in new prices. So, if you decide to sell your holdings in response to bad news, you’ll do so at a price already discounted to reflect it. In short, you’ll lock in a loss, rather than ride out the storm.

“I’m assuming there will be no apocalypse. And that’s almost always, if not quite always, a good assumption.” — John C. Bogle

If you’re not invested, your investments can’t recover. Few of us make it through our days without enduring the occasional moderate to severe ailment. Once we recover, it feels so good to be “normal” again, we often experience a surge of energy. Similarly, markets are going to take a hit now and then. But with historical evidence as our guide, they’ll also often recover dramatically and without warning. If you exit the market to avoid the pain, you’re also quite likely to miss out on portions of the expected gain.

 “[T]he irony of obsessive loss aversion is that our worst fears become realized in our attempts to manage them.” — Daniel Crosby

Bottom line, market risks come in all shapes and sizes. This includes the financial and economic repercussions of a widespread virus, be it real or virtual. While it’s never fun to hunker down and tolerate risks as they play out, it likely remains your best course of action. Please let us know if we can help you maintain your investment plan at this time, or judiciously adjust your plan if you feel it no longer reflects your greater financial goals.

The SECURE Act was passed last month as part of a larger government spending bill. The new law is wide ranging, affecting retirees, heirs, those with 401(k)s, and 529 holders. The following are the most impactful sections of the new law.

New Rules on Inherited IRAs

  • IRAs inherited from people who die after 1/1/2020 can no longer be stretched over the inheritor’s lifetime. Instead, they must be taken out within 10 years.
    • Exceptions are:
      • Surviving spouses
      • Children who are minors. The 10-year rule starts when they turn 18.
      • Disabled people
      • Chronically ill people
      • Anyone not more than 10 years younger than the IRA owner. Many siblings inheriting an IRA will be able to take it over their lifetime.
    • Implications of the new Inherited IRA Rules:
      • Adults near retirement may want to backload Inherited IRA distributions. For example, if you plan on working for another 6 years when you inherit an IRA, it probably makes sense to take no distributions for the next 6 years and then liquidate the account over the following 4 years.
      • For high earners, inheriting an IRA is not as appealing as it was before. For those nearing the end of their lives with high-income children, it may make sense to do Roth IRA conversions as you’ll be converting the IRA in a lower tax bracket than your child will be taking it out once they inherit it. This will be more important for those with large IRAs, fewer children, and high-income children.
    • Inherited IRAs from people who died in 2019 or before are grandfathered into the old rules of a lifetime stretch.

 

New Required Minimum Distribution Age (RMD) of 72 (was 70.5)

  • For those born January 1st through June 30th, this delays the year of your first RMD by 2 years. For those born in the second half of the year it delays it by 1 year.
  • The distribution schedule does not change. The age 72 factor is 25.6 so the first year distribution is 3.9%.
  • Those who turned 70.5 in 2019 stay under the old rules. The later RMD age is only for those born 7/1/1949 and later.

 

No age limits to Traditional IRA contributions

  • You still need earned income, but in the past, traditional IRA contributions weren’t allowed after age 70.5. Income rules/limitations still apply.
  • This allows for Backdoor Roth IRA contributions for those over 70.5.

 

Annuities in 401(k)s

  • Portable annuities may be offered going forward in 401(k)s.
  • Despite its impact not being enormous, this feature is probably the reason the bill became law in the sense that insurance companies lobbied hard for the bill’s passage.
  • We will have to see the kind of imbedded fees associated with the 401(k) annuities, but assuming they are akin to immediate annuities that are bought in the open market, this will be very good for insurance companies and not good for investors who choose annuities in their 401(k)s. We will follow up with another post detailing how bad of an investment purchased annuities are and how high the fees associated with them are.

 

Expanded 529 uses

  • 529s can now be used to repay student loans. If you have loans and want a state tax deduction (if your state has one), you should run your payments through a 529.
  • 529s can now be used to pay for expenses related to homeschooling.

Stock Markets

Stocks were up nicely this quarter except for Real Estate Investment Trusts (REIT) which is quite a turnaround from last year’s fourth quarter. The one-year numbers including REITs, are well above what it is reasonable to expect over the long run but are necessary from time to time to make up for the down markets we will endure going forward. Overall it has been a good year for stocks.

Domestic markets, especially large cap stocks (S&P 500), have outpaced both international and emerging markets over longer periods. Because many consider the S&P 500 as the “stock” market, looking backward makes it easy to focus only on allocations to this index. Investment decisions are made by looking ahead where global diversification is expected to payoff.

Bond Markets

A yield is what you earn by holding a bond to its maturity. Changes in yields drive returns – falling yields are positive; rising yields negative. The longer a bond’s maturity the greater the impact a given change will have on prices and returns.

Financial Common Sense

Note, to the graph above that bond yields at the longer end ticked up but fell at the shorter end producing negative returns for longer maturing bonds and positive returns for short-term bonds. This twisting of the yield curve brought the pattern of yields across several maturities although low by historical standards back to its more “normal” upward sloping shape.

Impeachment

There is a lot of noise about a coming recession. While the numbers still look reasonable, the tools to respond may not be as potent this time around. The hue and cry for the Fed to reduce interest rates notwithstanding, with rates at historically low levels and massive Treasury securities on the Fed’s balance sheet there is not much room for monetary policy to make a difference. As far as fiscal policy is concerned, the Government is already running substantial deficits due to the recent tax cut. The positive impact may be behind us and with today’s political dysfunction the opportunity to do more with fiscal policy may not be available. With the large tax cuts in place and an accommodative Fed, we have enjoyed a nice ten- years that may be difficult to repeat.

A Twenty-Year Perspective

It’s been a good year, but let’s put it in perspective by looking at some history. The past twenty years produced an average 7% return from global equity markets amid significant ups and downs. Probably a reasonable long-term expectation. This year’s 24% return was well-above this average. Over this period, we had to endure some significant down years, including a three-year run of double-digit losses at the beginning. Seeking to avoid the pain of a fourth loss would mean missing the dramatic up market of the following year. Then after a few years of up markets, we went through the gut-wrenching drop of over 40% in 2008. This year’s results are not necessarily extraordinary in view of the ups and downs of the past twenty years – it’s how equity markets work. Seeking to avoid this variability is apt to mean missing out on years like this one. The past twenty years is reasonably representative of how equity markets behave over extended periods. Don’t pay any attention to the myriad of predictions that are typical for this time of year–they’re usually wrong. Focus instead on the appropriate tolerance for variability whilst expecting commensurate returns over the long run.

2018 was a less pleasant time to be an investor. In the four trading days leading up to last Christmas, the market dropped 7.7%, capping off what was a nerve-racking year for investors. But when we delved deeper, we found that 2018’s volatility wasn’t that unusual.

One measure of market volatility is looking at the number of days in which the market moves more than 2% in either direction. Since 1928, the stock market has annually averaged 17 such “volatile days” and over the last 30 years, the average stands at 16.

In 2018 we had 20 volatile days, making it more volatile than usual but not horribly so. One of the reasons it felt so volatile was because prior years lacked volatility, including 0 volatile days in 2017. Overall, 2019 was a pleasant year to invest. The market had a smooth ride with U.S. large caps up around 30% at the time of this writing, making 2019 the 17th best year since 1928.

This year we only saw 7 days of high volatility and two of those had happened by January 4 . In August we witnessed three such

days, all negative movements, as investors began to fret about an upcoming recession. However, the slow-down has not materialized and the market rallied to close out the year.

It pays to be invested and part of the reason long-term returns are so good is because it’s not easy to stomach market losses when things are bad. Staying grounded is key; when we have years like 2018 it’s important to remember the years like 2019 and vice versa.

Unfortunately, bad times will come, and when they do, we can take comfort remembering we’ve survived worse. In 1932, there were 133 volatile days, more than half of the year’s 250 trading days. The stock market dropped 43%, nominal GDP declined 23%, the dollar deflated 10%, and unemployment stood at 24%… but hey, the U.S. cleaned up at the Los Angeles Summer Olympics (in fairness, the number of countries participating declined 20% from 1928 to 1932 due to cost).

So, what’s the lesson here? Volatility is normal and we can’t predict its arrival. 2019 was a low volatility year with great returns while 2018 was the opposite. However, being invested through both has made Investors better off. Stay invested, diversify, and rebalance when volatility strikes (buy low, sell high). This isn’t always easy to do, but it’s one of the main reasons we are here as your financial partner.

You may spot the good news in the press sometime soon, but we wanted you to be among the first to hear it, straight from us! Please join us in congratulating Patrick Rohe, CFP® as we name him Chief Executive Officer of Rockbridge Investment Management.

Why the change? It’s an opportunity to recognize Patrick for the contributions he’s already made, as well as for his continued leadership in attracting and mentoring talented new team members.

More than that, you deserve no less from us. Through the decades, our vision has been to help Central New York families enjoy their wealth across generations. For that, we too must evolve and enhance our client care and our participation in the community.

To that end, Patrick will continue to engage directly with clients in his role as a senior financial advisor. As CEO, he’ll also focus on spreading the word about our services and positioning us for growth. Firm founders Craig Buckhout and Anthony Farella will continue as senior advisors and will join Patrick in providing strategic leadership as part of the firm’s management committee.

Had we searched the country over, we could not have found anyone more ideal than Patrick for this newly created position. First, as many of you know, his roots are firmly planted here in Syracuse. Having grown up on his family’s dairy farm just outside of town, he still enjoys spending some of his free time lending a hand at the homestead.

Patrick also has been instrumental in shaping the character of our firm. As he says, “We still want to grow our business here at Rockbridge, but with a deliberate eye toward helping more families and attracting new team members from an incredible pool of local talent. Through thoughtful growth, we look forward to striking that balance for our firm, our growing team, and our community. ”

Please be in touch with us with your questions or comments … and congratulations to Patrick!