Are we out of the woods yet?

My big question is: are we out of the woods yet? As investors, the biggest problem that we have experienced over the past six years is the high level of volatility in the stock market. Depending on good news or bad news, the stock market seemed to have had a knee jerk reaction to dispersed information. This has changed. Since the end of last year, the market has risen steadily. The only glitch was on February 25th, when the market took a rather big drop and then recovered. The “News Factor” is moving the market less, as we have seen with the bailout of Cypress. There is an old saying in the market: “the trend is your friend!” The trend appears to be upward. Looking at the long term, the U.S. Stock market appears poised for an extended rally as the economy continues to improve. I have no doubt that there will be bumps along the way, but moving forward, we want our clients fully invested in stocks relative to their risk tolerance. As I have noted in previous blogs, I still have concerns about the lasting value of intermediate to long-term bonds. At some point, the Federal Reserve will begin to allow interest rates to increase. When this happens, the principal value of bonds will begin to decrease. To mitigate this, we are using more short duration bonds in our mix. I am currently going through our clients’ asset allocations to make any necessary adjustments.

Taxes and Spending

Today we heard that the economy grew, just barely, at a 0.1% rate in the fourth quarter of 2012. Many reasons were given for this lackluster growth. To me, the most important part is that, at the beginning of 2013, taxes rose for all working Americans, with the increase in the payroll tax. Consumer spending accounts for about 70% of the economy. Higher taxes leave consumers with less to spend, so a rise in taxes generally dampens the economy. Now we are looking at a major reduction in U.S. Government spending, to begin March 1st. This too will impact the economic growth in the U.S.

For several years now, the Federal Reserve has been keeping interest rates low in an attempt to help the sluggish economy. This may now be more than offset by the tax increases and reduction in spending.

We are at a real juncture. The citizens of the U.S. want their entitlement programs left untouched: e.g. Social Security, Medicare, Obamacare, etc. Only 53% of the population pays income taxes and they don’t want to pay any more. So, we don’t want to cut spending and we don’t want to raise taxes. Sorry, can’t be done!

Congress and the President don’t seem to be in the mood to compromise. The pieces will fall as they may, leaving the consumer and business to pick them up and work with them as well as possible. Overall this scenario doesn’t seem to be good for our short-term economic outlook!

Ed Mallon