“A wise man makes his own decisions, an ignorant man follows public opinion” – Chinese Proverb
Right now it seems that public opinion is what it is all about in Washington. Both sides seem to think that the other side will get blamed if they fail to compromise on critical long-term issues of reducing deficits and federal debt levels. Rather than actually addressing the issues, both Democrats and Republicans are busy either over dramatizing the impact of the impending budget sequester ($85 Billion in mandatory spending cuts) or downplaying the impact entirely. Regardless of “opinion” it looks to me like the sequester will take effect on March 1st but the real impact will be felt gradually over the coming months.
Of perhaps greater importance is the March 27th deadline for a budget or new continuing resolution. I encourage all my clients to make a household budget. Without one how can anyone really know where their money is coming in from and going out to. It is mind-boggling that our federal government hasn’t had an actual budget since 2009. They have been operating on a series continuing resolutions (short-term spending measures). Come March 27th , without a budget or new continuing resolution, the government will technically face a complete shutdown as they will not be authorized to spend any money. I’m calling the next 3 weeks the showdown on the shutdown! Let the “opinions” begin.
There are 3 basic segments to the US economy – consumers, corporations and the government. Since the 3rd quarter of 2007 consumers have reduced their household debt from 14.1% of disposable personal income to 10.4% (the lowest is has been since the 1st quarter of 1980). US corporations have reduced their debt, as a percentage of their equity, from over 200% in the fall of 2007 to 107% (the lowest level since 1994). Over that same time period, Federal Net Debt (accumulated deficits) as a % of GDP has risen from roughly 40% to 72.5% (the highest it has been since WWII). Source: JPMorgan
It seems to me that families and businesses have found a way to tighten their belts and improve their overall financial health, in spite of a recession and a rather tepid economic recovery. The federal government has not. Consumption (goods and services made by corporations and purchased by consumers) makes up 71% of our economy, while government spending makes up just under 20%. This keeps me hopeful that the economic recovery will continue and not be materially impacted by the dysfunction in Washington.
When it comes to the financial markets there is a great deal of “opinion” as well. You may hear about a “bond bubble” or “financial repression” or “all-time highs on equities”.
Here again, my approach is to listen but then make my own decision. I encourage you to do the same. I follow a three-part mantra: don’t fight the Fed, don’t fight the trend, and beware of the crowd at extremes. Right now the Fed remains committed to stimulating growth and is practically forcing people to invest in equities as their almost zero-interest rate policy means CDs, money markets, and bonds are not generating enough interest for anyone. The trend has been up, specifically in equities, since June 2012. However, the crowd is currently at an extreme and that gives me a caution signal.
Another thing I am concerned about is the price of gas. Every time, since 2004, when unleaded gasoline hit $3.75 at the pump, the equity markets took a turn for the worse. Obviously, the price of gas was not the only catalyst for the significant market decline in 2008-2009. However, this is a driving nation and the price of gas has a direct impact on consumer pocketbooks, which then impacts their overall consumption, which makes up 71% of the economy.
The combination of political uncertainty, the rising price of gas and the current crowd sentiment leads me to believe we are in for a correction for equities or at least a deceleration of the uptrend. However, I feel the downside will be limited to the 5% – 8% range because of the Fed and improving economic conditions like the housing market and autos.
I will continue to monitor the markets, economy and the activity in Washington as they relate to your portfolio and adjust accordingly. Please don’t hesitate to call me if you have any questions or concerns.
Sources: JPMorgan, Riverfront Investment Group, Bespoke Investment Group
Although the information included in this report has been obtained from sources we believe to be reliable, its accuracy and completeness are not asserted. All opinions and estimates included in this report constitute the judgment of the financial advisor as of the dates indicated and are subject to change without notice. This report is for informational purposes only and is not intended as an offer or solicitation with respect to the purchase or sale of any security.
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