From Here to QEternity

It’s been just over four years since the Federal Reserve announced the first of several rounds of Quantitative Easing (“QE”) programs launching the most aggressive monetary intervention program in U.S. history.  Every time one of the QE programs has ended the economy and markets have pulled back.  So this last time the Fed stepped back in, it decided to leave the program open-ended.

In case you are wondering how long this round will last?  In short, we do not know, however, it may be longer than you can imagine – if history is a guide.

In 1935, at the urging of the US Treasury, the Federal Reserve announced a standing bid for US Treasuries at 2.5% (the price depended on the maturity and coupon rate of the bonds). This standing bid essentially put a floor underneath the price of US Treasury bonds so that any buyer of bonds had limited risk. This was the point. The US government needed bond buyers to be confident of their purchases.  This standing bid lasted for 17 years, until 1951.

During this time, inflation fluctuated wildly due to the recession of 1937-1939, the second World War, and the boom that followed that war. Inflation was briefly negative at a couple of points during that time frame, and also reached near 20%. And the yield on US Treasuries never rose above 2.5% because of the Fed.

The point is that Keynes, the noted economist, might have been wrong about many things, but one statement stands out as solid – the markets can remain irrational longer than you can remain solvent. Of course this statement requires an ending phrase – particularly when the market is driven by a guy with a printing press!

Source: Rodney Johnson, HS Dent Investment Management

Real Estate is Pacing the U.S. Economy

Housing starts and building permits once again came in strong last week, extending a growth streak that’s been in place for more than a couple of years now.  New homes were started at an annual pace of 917,000, and permits were issued at an annual pace of 946,000.

Home prices also continued their recovery, rising 8.1% in January from year-earlier levels.  The S&P Case-Shiller index, which tracks prices across the 20 largest markets in the nation, posted the biggest year-over-year gain in prices since June 2006.  “This marks the highest increase since the housing bubble burst,” said David Blitzer, chairman of the index committee at S&P Dow Jones Indices.

The report shows the recovery in home prices is widespread. All 20 markets posted a year-over-year gain in home values, and the pace of increase picked up in every market except Detroit.  Some of the markets hurt the most by the bursting of the housing bubble have enjoyed the biggest gains in the last year, led by a 23% rise in Phoenix.  But even with the recent rise in prices, the overall index is down 28.4% from the 2006 peak in prices.

Home prices have been helped in recent months by a number of factors, including tight inventory of homes available for sale, near record-low mortgage rates and a drop in homes in foreclosure. All those factors have driven up home sales. A decline in unemployment is also helping the housing recovery.

The Truth About Sequester Cuts

Brinkmanship over sequestration has reached a fever pitch as the next deadline draws near.  According to the administration and other Washington actors, the cuts that have been scheduled for the past eighteen months will have a devastating affect on such things as teachers, air traffic, medical science and deployment of aircraft carriers, etc.  So why are the investment markets largely discounting these so-called “draconian” measures?

Most likely the reason is that investment professionals are used to deciphering accounting reports and cutting through the spin to get to the real story.  In this case, the real story is that sequester cuts are not actual decreases in spending.  They are mostly cuts in the rate of increases in government’s spending of our tax dollars – and they are relatively small cuts at that.

The Congressional Budget Office (CBO) has provided spending projections before and after sequestration.  In the first year, the federal government would spend $3.62 trillion with sequestration versus $3.69 trillion otherwise.  By 2021, the government would spend $5.26 trillion versus the $5.41 trillion expected.

Taking this all into consideration, economists are projecting that sequestration will still have a negative impact on GDP.  Since stock markets tend to lead the economy, it is curious that the markets continue to rise in the face of what is looking more and more like an eventuality.  For the time being, it appears that investors are not buying what Washington politicians are selling.  Of course, this could all change very quickly which is why a nimble, active investment approach continues to be warranted.




Late Night Fiscal Deal is Done

As many expected, Congress put together a deal to avert the fiscal cliff at the eleventh hour.  The bill heads off the massive tax hikes that were scheduled to take effect and shuts down the automatic spending cuts that were negotiated back in 2011.  Removing this lingering uncertainty has cheered investors for the time being, and markets have moved up on the news.
While the Bush-era tax cuts were made permanent by the bill and the most dire fiscal cliff scenario was averted in the near term, the deal still contains tax hikes on just about everyone.  It raises income taxes for the “wealthy”, dividend taxes, death taxes and payroll taxes.  These are on top of new Obama-era tax hikes (for example, Obamacare tax on net investment income).
Unfortunately, this particular deal does not meaningfully address spending or job creation.  Further, as the bill was rushed through in the dark of the night, Congress managed to stuff pork-barrell programs into the package.
It remains to be seen what the impact of this bill will be on the economy.  Early estimates are that it will shift $600 billion out of the private economy to spend on government programs.  Also, Congress has once again kicked the issue of spending cuts and entitlement reform down the road setting up more of the same brinkmanship later this year.


What’s all the fuss about the Fiscal Cliff?

If you are like most people, you probably are getting tired of hearing about the so-called fiscal cliff.  At its core, this issue is about government spending and tax revenue.  Most citizens, unlike many of our elected officials, understand that our current spending levels are unsustainable.  This is largely because our entitled programs, which make up the majority of government spending, are broken.  Simply, they are projected to pay out more than they are taking in.  Legislators in Washington – at least the ones who believe the programs are broken – cannot agree on how to fix these programs.  The others are just willing to pass the problem along to future generations.

But what about the revenue side of the equation?  Some feel that raising taxes particularly on the rich can solve the problem.  This is another point of contention.  Any discussion of raising taxes should start with some basic understanding of taxes and rates.  Following is a link to a video that offers a very good explanation of this topic.  You may find this helpful as you filter the news about the ongoing fiscal cliff brinkmanship in Washington D.C.