Ed's Eye on the Economy

The Aughts Were for Naught

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Monday, January 11 2010

Ed's Eye on the Economy

January 11, 2010

This is the time of year when everyone has an opinion of what the new year will bring. If you don’t have one, you have to make one up. We are not quite as susceptible to this because our clients “know” that we are market agnostic, and try to position portfolios that will be somewhat resistant to severe market downturns. Let’s first do a quick review of the last decade (2000-2009):

· The S&P 500 gained +26.5% (total return result including the impact of reinvested dividends) in calendar year 2009, the 2^ndbest performance of the decade (behind the +28.7% gain in 2003) and the 11^thbest result in the last 50 years for the index (i.e., the years 1960-2009). The S&P 500 is an unmanaged index of 500 widely held stocks that is generally considered representative of the US stock market (source: BTN Research).

· Since dropping to a bear market low on 3/09/09 (i.e., about 10 months ago), the S&P 500 has gained a remarkable +67.8% (total return) through the close of trading on 12/31/09 (source: BTN Research).

· The S&P 500 was down 9.1% in aggregatefor the decade on a total return basis (i.e., the 10 years from 1/01/00 to 12/31/09). That performance is the worst decade ever for the stock index, falling below the negative 0.3% performance achieved during the 1930s. The best decade everfor the S&P 500 was the 1950s, a 10-year period when the stock index gained +487.1% (source: BTN Research).

· There has been zero net job creation since December 1999. No previous decade going back to the 1940s had job growth of less than 20 percent. Economic output rose at its slowest rate of any decade since the 1930s as well (source: Washington Post).

· “This was the first business cycle where a working-age household ended up worse at the end of it than the beginning, and this was in spite of substantial growth in productivity, which should have been able to improve everyone’s well-being,” said Lawrence Mishel, president of the Economic Policy Institute, a liberal think tank.

With all the good news in domestic and international stocks for 2009, why aren't we feeling any better? For many of us, 2009 felt like we were getting some of our money back, but we didn't get all of it. By the perverse math of down and up markets, an investor who took the full brunt of the 37.31% decline in the Russell 3000 index in 2008, would have required a 59.6% return in the next year to break even.

In addition, there is unhappy evidence that many investors didn't participate in the upturn--and, therefore, didn't make ANY of their money back. Some investors retreated from stocks after the downturn and watched the upturn from the sidelines.

We are emerging from a historically bad decade for stock investors. If you managed to increase your wealth over the last ten years, then you deserve congratulations.

Only the Great Depression-era 1930s and our recent decade of the 2000s delivered negative stock performance. Meanwhile, on December 31, the S&P 500 index closed out its first decade ever with a total return loss--which means a loss even with dividends reinvested.

So perhaps this is a time to count our blessings. The recession that began two years ago is officially ended, and the TARP program officially ended its existence in the final months of last year.

Riddle: How many 9s are in the range of numbers from 1 to 100? (Remember, the number 99 has two 9s in it.) See answer below.

What's ahead? With so many surprises over the past two years, professional soothsayers and prognosticators are being unusually cautious this time around. Normally, the year after a recession brings a hard and fast recovery, with GDP growth in the 6-8% range over the following 12 months. But a recent survey of economists by the Bloomberg organization found a consensus expectation of just 2.3% growth in U.S. economic activity, largely because the deleveraging process--paying back debts on the federal, state, local, corporate and personal balance sheets--may continue far into the future. Fortunately, if this continues, it will lead to a thriftier, financially healthier economy--eventually.

Of course, those predictions are merely guesses, as are anything you hear about investment returns during the next year. There are positive and negative surprises in our future, changes that will help or hurt. But generally, over time, the positive influences always tend to outweigh the negative ones, which is why we don't still live in caves or drive mules to work, and why the Dow is not still hovering around 43, as it did in the early 1930s. We don't know what the future brings, but it's a good guess that the trauma of 2008, and the first decade of the millennium, will be remembered as unusual detours in the longer-term upward march of the markets.

So here’s to 2010 and a new decade. May it offer many opportunities and bountiful returns!

Best regards,

Edward J. Kohlhepp, CFP^®, ChFC, CLU

Edward J. Kohlhepp, Jr., CFP^®, MBA

“An optimist stays up until midnight to see the new year in. A pessimist stays up to make sure the old year leaves.” ~ Bill Vaughn

“Cheers to a new year and another chance for us to get it right.” ~ Oprah Winfrey

Answer to Riddle: 20, as follows: 9, 19, 29, 39, 49, 59, 69, 79, 89, 90, 91, 92, 93, 94, 95, 96, 97, 98 and 99 (note two 9s in that last numeral.)

Compiled from various sources, including Bob Veres

These are the views of the author, Bob Veres, and not necessarily those of Kohlhepp Investment Advisors, Ltd. or Cambridge Investment Research, Inc. Past performance is not a guarantee of future returns.

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Could You Raise Your Social Security Income by $1,000 a Month?

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Sunday, January 10 2010

Ed's Eye on the Economy

How filling out Form SSA-521 could help you put more money in your mailbox.

January, 2010

A couple of years ago, Boston University economics professor Laurence Kotlikoff publicized a mindblowing discovery: retirees could dramatically increase their Social Security checks by reapplying for Social Security benefits.

It was entirely legal; it was an opportunity that had lay unnoticed for years. It was soon discussed on National Public Radio and PBS, and in USA Today and a number of in financial magazines. Let’s discuss it here.

Hit “restart” and reset your SS. Everyone eventually applies for Social Security, but few people reapply – and that’s the key to this strategy, which can potentially bring retired couples $1,000 or more in additional SS per month. Kotlikoff calls it “restarting the Social Security clock”. If you have retired within the last few years, it is a move worth considering.

You can start collecting Social Security benefits when you’re first eligible, and then restart your payments at a higher rate later. You simply file Form SSA-521 (www.ssa.gov/online/ssa-521.pdf) to request a withdrawal of your Social Security application. After the SSA processes that form, you reapply for Social Security – and since you are older now than when you first applied, this time you will receive much higher payments.

For example, a 63-year-old individual who started Social Security benefits in 2008 at age 62 would have received a payout of $18,794 a year; waiting until age 66 or age 70 would have meant $25,732 or $35,250 annually for that person.¹

So if you feel you applied for Social Security too soon, this presents you with a remedy. As Kotlikoff noted in USA Today in 2008, a 70-year-old receiving $11,556 as a result of claiming early retirement benefits could reapply for Social Security benefits at age 70 and boost her standard of living by 14%. It would be like having an inflation-indexed annuity for about 40% less than the cost of a similar investment from an annuity provider.²

What’s the catch? You have to repay the Social Security benefits you have already received. But you don’t have to pay interest on that money.² Basically, you’re repaying an interest-free loan from Uncle Sam.

Now if enough people do this, there is the risk that the federal government may say, “Wait a minute – look at all these people exploiting this opportunity.” But very few retirees do.

If you do reapply, there’s nothing fishy about it. Visit your local Social Security office (make an appointment by calling 1-800-772-1213). Bring Form SSA-521 with you, or ask for it and fill it out while you are there. Don’t be surprised if the person on the other side of the desk doesn’t know what you’re talking about when you mention reapplying for benefits. So bring a copy of the formal SSA explanation (www.ssa.gov/OP_Home/handbook/handbook.15/handbook-1515.html ) with you.³

Once you repay your benefits, you can restart them whenever you want. If you fill out Form SSA-521 and hand over a check repaying the money you’ve received, you can reapply for benefits right then and there – the request is routinely approved.⁴

For the record, Form SSA-521 only allows you to check one of two boxes for why you want to reapply for benefits. The first is “I intend to continue working” and the other is “Other (please explain fully)”.⁵Mickie Douglas, a spokeswoman with the Social Security Administration, told Financial Advisor Magazine that it is entirely legitimate to write down that you are reapplying because it is “financially better for you".¹

What risks do I run by doing this? The big risk is that you could die soon after you repay your benefits – you could be out, say, $50,000 or $60,000 without living long enough to enjoy much of the additional income. But survivor benefits would be larger for your spouse, of course. Speaking of spouses, widows and widowers cannot employ this strategy to reapply for a deceased spouse’s benefits.²

Is this a good move for you? It might be. In case you are wondering, Kotlikoff is no hack - he holds a Harvard Ph.D. in economics and is a former member of the President's Council of Economic Advisors. He knows his stuff, and so should you. If you have the money to repay a lump sum equivalent to the benefits you have received, this may be a great move – but talk with your financial or tax advisor to see how this decision affects your overall financial strategy.

Taxes: Note that you can also apply for a refund of the federal income taxes that you paid on the SS benefits received during the earlier years.

Riddle: A mall parking lot has 1,000 parking spaces, and 40% of them are for compact cars. This morning, there are 200 compact cars and some standard-size cars in the lot, which is 75% full. How many standard-size cars are in the lot?

Best regards,

Edward J. Kohlhepp, CFP^®, ChFC, CLU

Edward J. Kohlhepp, Jr., CFP^®, MBA

“Live in such a way that you would not be ashamed to sell your parrot to the town gossip.” ~ Will Rogers

Answer to Riddle: 750-200=550 standard-size cars.

These are the views of Peter Montoya Inc., not the named Representative nor Broker/Dealer, and should not be construed as investment advice. Neither the named Representative nor Broker/Dealer gives tax or legal advice. All information is believed to be from reliable sources; however, we make no representation as to its completeness or accuracy. The publisher is not engaged in rendering legal, accounting or other professional services. If other expert assistance is needed, the reader is advised to engage the services of a competent professional. Please consult your Financial Advisor for further information.

Citations.

¹fa-mag.com/fa-news/3209.html [2/29/08]

²usatoday.com/money/perfi/retirement/2008-02-21-early-social-security-loophole_N.htm [2/21/08]

³ ssa.gov/OP_Home/handbook/handbook.15/handbook-1515.html [8/1/06]

⁴www.esplanner.com/case-reapply-social-security [3/2/09]

⁵ ssa.gov/online/ssa-521.pdf [7/03]

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A Foggy Crystal Ball for the New Year

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Thursday, December 31 2009

Ed's Eye on the Economy

12/31/2009

It’s a good thing that economists and journalists aren’t paid to predict the future because nobody seems to be doing a very good job of it lately. I hope you’ll remember this as all the major financial magazines come out with their yearly “Here’s what will happen in 2010” cover stories.

Reading through some back issues, we find that at this time two years ago (early 2008), nobody, anywhere, was predicting a 3rd and 4^th quarter 2008 meltdown in the investment markets, or a global economy teetering on the edge of disaster. In fact, not one of the prognosticators seems to have realized that the U.S. economy had already fallen into a recession.

If you read the magazine issues in early September 2008, right before the markets suddenly went into a 400-point free-fall in two trading days (triggered by the collapse of Lehman Brothers, the AIG bailout and the federal rescue of Fannie Mae and Freddie Mac), you realized that nobody had a clue that a storm was brewing on the horizon. The Wall Street Journal talked confidently about Lehman’s efforts to secure a line of credit or divest some assets, and the consensus seemed to be that the damage from the burst housing bubble had been safely contained. Postmortem articles about the crisis showed that the Federal Reserve Chairman Ben Bernanke and Treasury Secretary Hank Paulson, who both watch the economic numbers DAILY, were caught totally flat-footed.

In January of 2009, economists and pundits were talking about the possibility of a sustained market drop similar to the slow investment torture the Japanese have experienced since 1989. Kiplinger’s magazine identified the people who had been most right in their 2008 predictions and asked them what they thought was going to happen in 2009. Not one of them predicted what actually happened: a dramatic rise in stock prices (the S&P 500 touched bottom on March 6 with an intraday price of 666.79 and rose to over 1,100 recently), and an end to the economic recession—what economists are now describing as a jobless recovery.

Here’s what they actually said. David Tice, chief equity strategist for Federated Investors, told the magazine’s readers that “The dollar will decline, and it’s very possible that inflation will pick up. The S&P 500 index could easily fall to 450 or so. This will be a longer-term decline,” he added, and gave the worst advice possible for investors over the next three quarters, saying that “Investors should be selling equities and conserving cash.”

Bob Rodriguez and Tom Atteberry, of First Pacific Advisors, confidently predicted that: “The upturn won’t come until 2010, and when it does, it will look very sluggish and lethargic.”

Economist Nouriel Roubini told Kiplinger readers: “I expect that the recession will be very severe and that it won’t be over before the end of 2009. I think there is a further 15% to 20% downside risk for global and U.S. stocks, and a further 15% to 20% downside risk for commodity prices. So 2009 will be a year of recession and deflation.”

The worst advice was being given right at the bottom in March, when global stock prices were about to reward patient investors with an amazing rally. Consider this evaluation from the March 5 issue of Business Week magazine:

All told, more than $10 trillion of stock market wealth has vanished, and with it the confidence that springs from financial security. “We are looking at a 60% to 70% chance that this bear market is not over,” says Robert D. Arnott, chairman of Research Affiliates, a Pasadena (Calif.) firm that manages $25 billion.

The article went on to predict “more debt busts and government trial and error until things get set right again. That could mean two more years of bouncing around and then another six or so before the Dow is back above 14,000.

The hardest part about investing is controlling the natural urge to sell when the market has cratered, or to buy when the market is euphoric. But that’s like going to the mall and waiting to buy until all the sales are over and prices have gone up, and then, as soon as the store has its next “25% off “ sale, going back and selling whatever you bought. Nobody would even think of doing that with their holiday gift purchases, but it’s normal behavior in the investment markets.

The unhappy truth is that nobody can foresee the future, and the investment markets tend to be far less predictable than other areas of our lives. Our focus now and in the future will be on capital preservation primarily, and growth when available. We see the range of possible outcomes in the financial markets & the economy to be extremely wide. However, in concert with you, our clients, we all agree on maintaining defensive strategies in order to minimize downside risk and reduce volatility. None of us want to deal with another market like 2008.

Here’s to a wonderful 2010 for you and your family.

Health, happiness, and prosperity to everyone in the New Year!

Sincerely,

Edward J. Kohlhepp, CFP^®, ChFC, CLU
Edward J. Kohlhepp, Jr., CFP^®, MBA

“Life is 10% of what happens to me and 90% of how I react to it” –John Maxwell

Source: Bob Veres, Inside Information

The views expressed are not necessarily the opinion of Cambridge Investment Research and should not be construed directly or indirectly as an offer to buy or sell any securities mentioned herein. Investing is subject to risks including loss of principal invested. No strategy can assure a profit nor protect against loss.

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Obama's Plan to Overhaul the Financial System

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Thursday, December 31 2009

Ed's Eye on the Economy

The President calls for more regulation – and a more powerful Federal Reserve.

Since September 2008, the federal government has committed $10.5 trillion to fixing the economy – bailing out Citigroup, Bank of America, AIG, Freddie Mac, Fannie Mae, Chrysler and General Motors in the process.¹ To try to prevent further economic nightmares, President Obama is proposing a “sweeping overhaul” of the U.S. financial system on a level unseen since the 1930s.

An answer to “an absence of oversight.” If enacted, Obama’s plan would hand more power to the Federal Reserve, the Treasury and the Federal Deposit Insurance Corporation, fuse two federal agencies into a single regulator of the nation’s largest banks, create a new agency to regulate consumer financial products, police hedge funds and private equity funds, and rein in the use of mortgage-backed securities.

The Fed’s role. Under the plan, the Federal Reserve would become the top watchdog of the U.S. financial system. It would regulate the banks, brokerages, insurers and hedge funds deemed too big to fail, see that they are keeping enough capital in reserve, and respond quickly in a crisis. The goal is to avoid another Bear Stearns or Lehman Bros. debacle, and the system-wide shock that could follow.²

The Treasury could get veto power. Treasury Secretary Timothy Geithner would chair a regulatory council to work side-by-side with the Fed as it monitors the biggest financial firms. This council could potentially veto emergency loans made by the Fed to financial companies.³

The FDIC could expand its reach. It would gain the ability to seize and unwind not only banks, but other kinds of financial firms.³

The OTS dies. If Obama has his way, the much-criticized Office of Thrift Supervision would merge with the Office of the Comptroller of the Currency. This revamp would create a new entity, a National Bank Supervisor to monitor all deposit-taking thrifts. Under current rules, some banks may essentially select their regulator.^2,3

The CFPA would be born. That’s the Consumer Financial Protection Agency. This new office would regulate credit cards, mortgages and other consumer-marketed financial products. If would set guidelines for banks and bank holding companies, and if they got out of line, it would punish them with penalties and fines.²

More scrutiny over hedge funds & private equity funds. Under the plan, all private equity and hedge funds would have to register with the Securities and Exchange Commission, and throw open their books when regulators demand.⁴

A tighter rein on securities and derivatives. Banks that package and sell mortgage-linked securities (and other debt-linked securities) would have to keep at least 5% of those securities on their books. In fact, all financial firms that originate a security would have to retain 5% of the “securitized exposure” and maintain an investment interest in that security even if it is resold. The idea here is to discourage the promotion of exotic home loans and other complex financial products that were half-understood by investors and borrowers.^3,4

Will all this change really take place? It will likely take several months for any version of the Obama proposal to become law. The plan notes that the Fed has “the most experience to regulate systemically significant institutions.” But some Capitol Hill opinion leaders are especially concerned about expanding the Fed’s powers. Even Sen. Chris Dodd (D-CT) is unconvinced. “Giving the Fed more responsibility at this point … is like a parent giving his son a bigger … faster car right after he crashed the family station wagon,” he noted, referencing the testimony of former Federal Reserve examiner Mark Williams.⁵

“You cannot convene a committee to put out a fire,” Treasury Secretary Tim Geithner noted June 18, defending the idea of the Fed as the “first responder” to any future financial crisis. But Sen. Richard Shelby (R-AL) pointed out that the Fed could end up regulating “insurance companies, hedge funds, asset managers, mutual funds, and a variety of other financial institutions that it has never supervised before.” Rep. Jeb Hensarling (R-TX), a vocal critic of last fall’s Wall Street bailout, says the plan “disappointed” him: “They essentially leave all the old regulatory infrastructure in place, and then they simply add on to it.” When it comes to regulation of the financial industry, however, many consumers and individual investors may feel the same as Sen. Dodd, who called for “focused and empowered, aggressive watchdogs rather than passive enablers of reckless practices.”⁵

Citations.

¹money.cnn.com/news/storysupplement/economy/bailouttracker/ [6/15/09]

²bloomberg.com/apps/news?pid=20601103&sid=aJTI_GE0pf8Y [6/17/09]

³ money.cnn.com/2009/06/17/news/economy/regulatory_reform/index.htm?postversion=2009061712&eref=rss_topstories [6/17/09]

⁴ topics.nytimes.com/topics/reference/timestopics/subjects/c/credit_crisis/financial_regulatory_reform/index.html [6/17/09]

⁵features.csmonitor.com/politics/2009/06/19/congress-%E2%80%93-including-democrats-%E2%80%93-in-no-hurry-to-approve-obamas-regulatory-reform/ [6/19/09]

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Market Update - February 6, 2009

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Sunday, December 06 2009

Ed's Eye on the Economy

Welcome to 2009! I was hoping by this time to have good news to report, but the year has gotten off to a rocky start.

In the next few paragraphs we are going to summarize some of the more significant events of the month of January and early February.

First and foremost, Barack Obama was inaugurated on January 20, 2009. It was a monumental day with an impressive turnout in Washington, D.C. The newly elected President hit the ground running on Wednesday the 21^st. Many had hoped the markets would find a reason to rally when the new regime took over. However, the Dow fell 332 points on Inauguration day (the largest decline ever on that day), and January closed as another terrible month for the markets. It was the worst January ever for the S&P 500 as it lost 8.4%. The bad news keeps flowing in the form of poor earnings announcements, housing data, and job losses.

The Obama team is pushing hard to get the latest stimulus package signed into law by Presidents day. They are also trying to determine how the next $350 billion in TARP will be spent.

The Banks

Because the banks are still struggling as a result of having toxic assets on their books, two strategies are possible going forward. One is the “nationalization” of one or more of the large banks, the other is the formation of a so called “Bad Bank”.

A “Bad Bank” sometimes called an “Aggregator Bank” would be a new entity created to hold troubled assets purchased from financial firms. The bank would not do any lending nor take deposits. Essentially, financial firms would receive cash in return for their bad assets. I will provide you with more details if the government decides to go in this direction. Obviously this would be financed by the Treasury.

“Nationalization” – A nationalized bank is owned and run by the government. It only makes sense if a large bank is about to fail. In the U.S. the government took over hundreds of institutions during the S&L crisis. If a bank is nationalized there would be little difference to the consumer. Because of the cost and enormity of this task, the government would likely take over only a handful of the largest institutions.

- - - - - - - - -

Riddle: I went into the woods and got it. I brought it home in my hand and removed it. What am I talking about?

Answer will be at the end of the letter

- - - - - - - - -

RMD Waiver

Please note that the government is allowing a one year waiver (2009 only) of the Required Minimum Distribution from IRAs, 403(b) programs, and retirement plans for anyone over age 70 1/2. For more details contact our office. You may still take withdrawals, but you do not have to.

Tax “Cheats”

President Obama has run into difficulty with some of his cabinet nominees owing back taxes: Tim Geithner (Treasury), Tom Daschle (Health & Human Services) and Hilda Solis (Labor). Tom Daschle has withdrawn his nomination, Tim Geithner has been confirmed despite his tax problems, and Hilda Solis’ nomination has been delayed due to her husband’s tax problems.

Stimulus Package

Like it or not, it appears that a new stimulus package will be signed into law in the next week or so. The House already passed its version. The Senate is close to passing a slightly different version. Then a conference committee will hash out the differences so that it can go back to Congress for final passage and then on to the President. Once the final bill is passed, I will detail the main provisions in a future email. The size of the stimulus will likely exceed $800 billion.

Unemployment

Layoffs continue and the January numbers were 598,000 additional jobs lost. This raises the rate to 7.6% and the monthly job loss is the highest since 1974. We still expect the rate to surpass 8% and approach 9% before the economy starts to turn.

Bernie Madoff

The list of Madoff clients has been released. It is hard to believe that so many people were duped by this character. Madoff perpetrated such an outrageous scheme on people who considered him a friend. It is important to understand some red flags and differences in how legitimate firms operate.

Never operate on a handshake. The investment business requires signed documentation of new accounts.
Never believe returns which are too good to be true. Madoff reported consistent year-over-year returns, which should have been questioned.
Your assets should be safeguarded by an independent custodian, such as Schwab, Fidelity, TD Ameritrade, etc. We do not act as our own custodian, and are not permitted to hold clients’ assets. You should always receive statements from the custodian not directly from the firm.
Madoff was very secretive about his process. This was his cover for everything. It was all about an exclusive club which he “might” let you into.
Never write your investment check to the investment firm. It should always be made payable to the independent custodian, Schwab, Fidelity, etc.

There is no magic formula in our business. If you ever have any questions, make sure you ask them and get satisfactory answers.

Conclusion

Things may still get worse. The country is waiting for a stimulus package. The entire populace has virtually deified President Obama and expect him to fix the economy, Wall Street, the housing market and health care all in his first 100 days. Obama is not a miracle worker and it will take time.

The economy will not turn around soon. The recession will likely last through the end of 2009. Unemployment will get worse and GDP will probably contract at least through the third quarter.

The markets occasionally show glimmers of hope, but healthier banking systems are needed first. If the S&P 500 can hold without breaking down below 800 again, this could be a foundation for at least a mini-rally. We can only hope!

If you have any questions about the economy, the markets, or your portfolio, please call us. If you are uneasy, let’s make an appointment. We look forward to hearing from you.