Time for a financial caddie?

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“Pro Jock.” “Looper.” That’s what I strived to be in my early days of youth. Those that are familiar with the movie Caddyshack may recognize the reference and, yes, one of my first jobs was that as a caddie. And whereas the Caddyshack movie was quite whacky, in real life the lessons learned by growing up as a golf caddie were life lessons and things as a “financial caddie” I still exhibit today.

  1. Preparation / Guidance – a good golf caddie (“GC”) should arrive to the ball before the golfer and remove any surrounding debris and have yardage-to-the-green ready for the golfer. This is quite similar to how a financial caddie (“FC”) prepares his client for the next big shot in their life, by assessing the current investment environment and creating an Investment Policy Statement/target asset allocation mix and chart of course that can help the client navigate “all 18 holes”.
  2. Paying attention – a good GC needs to be paying attention to their golfer’s needs, i.e. is she cold and needs a jacket from the bag?, is her ball dirty and in need of cleaning?, is she familiar with what the next hole does? A good FC is one that is not only paying attention but being proactive with the client’s needs, i.e. running tax projections to make sure there are no surprises come tax time, running estate planning flow reports to make sure that the clients’ estate planning is in-line with their wishes, etc.
  3. Commitment – I remember some caddies that would quit – sometimes physically, sometimes mentally, sometimes both – out there. That’s bad caddying and a lack of commitment and perseverance. Some days will be beautiful, sunny ones but some will be stormy with difficult conditions. Like a good GC, a good FC makes you, the client, the priority and makes sure that our professional attention, focus and best efforts always have you in mind.
  4. Resourcefulness – Every “loop” is different, every golf shot is different, every round is different the same way in the financial world there are always new things being thrown at you. A good GC and FC will embrace change and always look for new possibilities to solve the problem, unravel the puzzle, and complete the task.
  5. Attitude – the good caddies know that they need to show up to the caddie shack early in the morning with a smile and a hard-working, respectful attitude if they want to earn the continual right of “toting the bag”. At DWM, one of our most valued qualities is a conscientious attitude used to apply diligence for the timeliness of project completion and adherence to punctuality in schedules in respect to the clients we gratefully

That being said, I’d like to share a wonderful experience with you. Schwab & Co invited my father/business partner, Les, to play in the Schwab Cup Senior Pro-Am last week. Pros like Bernard Langer, Vijay Singh, Fred Couples, Lee Janzen, and our new favorite, Brandt Jobe were all there. These are golfers my dad grew up watching and idolizing. Les was able to share the course with these guys and, after a 20+ year break, I came out of golf caddie retirement to strap on the bag one last time!

“So, I tell them I’m a pro jock, and who do you think they give me?” No, not the Dalai Lama, but Les Detterbeck, himself. Third generation of the first Lester. The long putter, the grace, not yet bald… striking. So I’m on the first tee with him. I give him the driver. He hauls off and whacks one – big hitter, the Lester – long, into a one foot crevice, a couple miles east of the bottom of the desert, right on the fairway. And do you know what the Lester says? Gunga galunga…gunga…No, actually he says, “give me the 4 wood” and the Lester proceeds to put it onto the green and two putt for a gross par, net birdie to start our Pro-Am team off in the right direction.

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It was exhilarating day to say the least. We didn’t win the event, but we had a once-in-a-lifetime day, coming just a couple weeks before Les’ 70th birthday. And whereas I doubt I will ever caddie for someone in an official tournament ever again, I know that I will always strive to do my best as a FINANCIAL CADDIE to the wonderful clients we currently serve and future ones.

Of course, this was the first time I had officially caddied in over twenty years. I thought I did a splendid job, my gift to Les for his 70th. Back in the 80’s, I’d be happy to earn $20-$40 for the round to go blow at the local music shop on a few CDs. But this time… there was no money; only total consciousness. So I got that going for me, which is nice.

(*If you haven’t figured by now, Caddyshack is the author’s favorite move of all time. Happy BDay, Les! Gunga Galunga!)

Understanding Risk and Reward

Electronic Discovery Risk Assessment3-1024x664Mark Twain once said “There are three kinds of lies:  lies, damned lies and statistics”.  We are inundated nowadays with statistics.  Statistics are a scientific method for collecting and analyzing data in order to make some conclusion from them.  Very valuable indeed, though not a crystal ball by any means. 

When you study investment management, you must conquer the statistical formulas and concepts that attempt to measure portfolio risk in relation to the many variables that can affect one’s investment returns.  In the context of investing, higher returns are the reward for taking on this investment risk – there is a trade-off – the investments that usually provide the highest returns can also expose your portfolio to the largest potential losses.  On the other hand, more conservative investments will likely protect your principal, but also not grow it as much. 

Managing this risk is a fundamental responsibility for an investment advisor, like DWM.  You cannot eliminate investment risk. But two basic investment strategies can help manage both systemic risk (risk affecting the economy as a whole) and non-systemic risk (risks that affect a small part of the economy, or even a single company).

  • Asset Allocation. By including different asset classes in your portfolio (for example equities, fixed income, alternatives and cash), you increase the probability that some of your investments will provide satisfactory returns even if others are flat or losing value. Put another way, you’re reducing the risk of major losses that can result from over-emphasizing a single asset class, however resilient you might expect that class to be.
  • Diversification. When you diversify, you divide the money you’ve allocated to a particular asset class, such as equities, among asset styles of investments that belong to that asset class. Diversification, with its emphasis on variety, allows you to spread you assets around. In short, you don’t put all your investment eggs in one basket.

However, evaluating the best investment strategy for you personally is more subjective and can’t as easily be answered with statistics!  Investment advisors universally will try to quantify your willingness to lose money in your quest to achieve your goals. No one wants to lose money, but some investors may be willing and able to allow more risk in their portfolio, while others want to make sure they protect it as well as they can.  In other words, risk is the cost we accept for the chance to increase our returns.

At DWM, when our clients first come in, we ask them to complete a “risk tolerance questionnaire”.  This helps us understand some of the client’s feelings about investing, what their experiences have been in the past and what their expectations are for the future.  We also spend a considerable amount of time getting to know our clients and understanding what their goals are and what their current and future financial picture might look like.  With this information in mind, we can then establish an asset allocation for each client’s portfolio.  We customize the allocation to reflect what we know about them, looking at both their emotional tolerance for risk, as well as their financial capacity to take on that risk.  We also evaluate this risk tolerance level frequently to account for any changes to our clients’ feelings, aspirations or necessities.  While we use the risk tolerance questionnaire to start the conversation, it is our understanding of our client that allows us to fine tune the recommended allocation strategy.

A Wall Street Journal article challenged how clients feel about their own risk tolerance and suggested that being afraid of market volatility tends to keep investors in a misleading vacuum.  The article suggests that investors must also consider the risk of not meeting their goals and, that by taking this into account, the investor’s risk tolerance might be quite different.

The WSJ writer surveyed investors from 23 countries asking this question:

“Suppose that you are given an opportunity to replace your current portfolio with a new portfolio.  The new portfolio has a 50-50 chance to increase your standard of living by 50% during your lifetime.  However, the new portfolio also has a 50-50 chance to reduce your standard of living by X% during your lifetime.  What is the maximum % reduction in standard of living you are willing to accept?” Americans, on average, says the article, are willing to accept a 12.65% reduction in their standard of living for a 50-50 chance at a 50% increase.   How might you answer that question?

So, bottom line, it is the responsibility of your advisor, like DWM, to encourage you to choose a portfolio allocation based on reasonable expectations and goals.  However, understanding your own risk tolerance and seeing the big picture of your investment strategy is also your responsibility.  Our recommendations are intended to be held for the long-term and adhered to consistently through market up and downs.  We know that disciplined and diversified investing is the strategy that works best for every allocation!

We want all of our clients to have portfolios that give them the best chance to achieve their financial aspirations without risking large losses that might harm those chances.  Through risk tolerance tools and in-depth conversations, we get to know our clients very well, so we can help them make the right choice.  After all, our clients are not just numbers to us!

Ready for a quick quiz?

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Two-thirds of the world can’t pass this financial literacy test.  Can you?  You don’t need a calculator, just 3-5 minutes of time.

 

Risk Diversification: Suppose you have some money to invest.  Is it safer to put your money into one business, piece of real estate or investment or to put your money into multiple businesses or investments?

a)One business, piece of real estate or investment

b)Multiple businesses, pieces of real estate or investments

 

Inflation:  Suppose over the next 10 years, the cost of things you buy including housing, food, taxes and health care and all others double.  If your income also doubles, will you be able to buy less than you can buy today, the same as you can buy today, or more than you can buy today?

a)Less

b)The same

c)More

Mathematics: Suppose you need to borrow $100 for one year.  Which is the lower amount to pay back: $105 or $100 plus 3% interest?

a)$105

b)$100 plus 3% interest

Compound Interest:  Suppose you put money into a bank and the bank agreed to pay 3% interest per year to your account.  Will the bank add more money to your account in the second year than the first year, or will it add the same amount of money for both years?

a)The same

b)More

Compound Interest II:  Now suppose you have $100 to invest in a (very aggressive) bank who will pay you 5% interest per year.  How much money will you have in your account in 5 years if you do not remove any of the principal or earned interest from the account?

a)Exactly $125

b)More than $125

c)Less than $125

 

Pretty simple, right.  The answer is b for all.  We’re sure our regular DWM blog readers got them all right.

Across the world, however, the 150,000 people who took the test didn’t do so well.  Two-thirds of them answered at least 2 of the 5 questions incorrectly.  The survey pointed out some key findings.  Norway has the greatest share of financially literate people worldwide.  Canada, the UK, the Netherlands and Germany also finished in the top 10. The U.S. didn’t.

downloadIn the Emerging Market countries, like China, India, Brazil and Russia, the young people, ages 15 to 35 were the most financially literate.  Apparently the kids in Shanghai “knocked the cover off the ball” (just like George Springer of the Astros).

So, what’s the takeaway? Financial literacy for Americans could use improvement.  In addition, as we pointed out in our blog two weeks ago highlighting Nobel Prize winner Richard Thaler, people, even if they are financially literate, can make systematically irrational decisions.  This means you may need a financial coach and advocate.  That’s what we are for our DWM clients.  Whether it’s professional investment management, financial decisions and planning, income tax planning, insurance and estate planning matters, we provide our financial literacy, rational analysis and proactive solutions and suggestions.  It’s our expertise and our passion.  At DWM, this is how we hit home runs!

DWM SAYS THANKS – LAST WEEKEND AT THE SWEETGRASS PAVILLION

This past Saturday, many clients/family/friends attended our annual Charleston Friends of DWM Appreciation Event at Sweetgrass Pavillion in Mt. Pleasant, SC. Although the sun evaded us, the room was filled with bright faces!

A great time was had by all!

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Marilyn Dingle, the resident sweetgrass basket weaver, educated us on the history of sweetgrass baskets.

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And some even participated!

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Everyone learned a thing or two about Marilyn and the art of sweetgrass basket weaving!

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And had lots to talk about!

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Many thanks to all who waded through the rain and joined us for our appreciation event! And to both those that did attend and to those that couldn’t make it, let us reiterate that we are honored to have you all as our friends and look forward to a continued great relationship! Thank you!!!

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Nobel Prize Winner Helps Add $30 Billion to Retirement Accounts

Richard Thaler received the Nobel Prize in economics last week, principally by showing that people don’t always behave rationally and, in fact, we are systemically irrational.

Here’s an example: Two friends are given tickets to a basketball game in the Northeast.  The night of the game there is a tremendous snowstorm.  One friend calls the other and suggests there is no way they are going to the game now, in the snowstorm, and they don’t go.  But, he said “You know, if we had paid for those tickets ourselves, we’d be going.”

Studies by Dr. Thaler show that if the friends had paid for the tickets, they would likely driven through the snowstorm because they didn’t want to “lose” their money.  Classical economics would say that’s crazy, but it’s true.  People pay huge attention to “sunk costs,” often irrationally.

Because of Dr. Thaler and others, we know more about human biases and anomalies that impact our financial decisions. These include compartmentalizing (putting money in mental boxes), mental accounting (thinking differently about money in your pocket versus money in the bank) and the endowment effect (once you own something you value it more than before you owned it).

Dr. Thaler not only helped discover our biases but also identified ways to make irrational behavior work to our advantage.  Savings and retirement has always been a big area for him.  He applauds the fact that if we compartmentalize (have a “mental box”) for retirement savings we are doing a very good thing.  Putting money in a 401(k) plan makes it much “stickier” than other money and it stays there.

In 2004, Dr. Thaler and Shlomo Benartzi published “Save More Tomorrow.”  It is based on the idea that instead of asking people to save more now, ask them to save more in the future.   We tend to irrationally discount our future commitments.  Hence, we tend to put off savings because retirement is so distant, but we will commit to future savings because it is also so distant.  Dr. Thaler suggested that people save 50% of every raise.  No need to give up anything now.  And, this concept would mean that if you save 50%, then the remainder will be left for current spending, without any guilt.  Every raise therefore increases both spending and savings- a much more palatable idea than taking away some of our current income to save.

Over the past few decades, most company pension plans have been discontinued and replaced by company sponsored defined contributions plans, where employees needed to make contributions.  These voluntary accounts should have worked better.  Rational employees were expected to save and invest to meet their long-term goals.  But, it didn’t work that way-participation rates early on were very poor.   Dr. Thaler was asked about the problem and his response was that workers can be their own worst enemies- “without help, they’ll never retire.”

His solution: “Nudge” them into joining company retirement plans, using a concept known as automatic enrollment.  Rather than waiting for employees to complete paperwork, companies would automatically enroll them and workers, if they don’t want to be in, can opt out.

Last year, 58% of companies were automatically signing up workers. That’s up from 8% in 2000.  And some companies are automatically escalating the contributions or giving the employees the option to do so.  Thaler and Benartzi’s research shows, as compared to 2011 data, 15 to 16 million more people are saving.  Assuming an average contribution of $2,000 a year, that’s $30 billion a year in additional contributions.

Dr. Thaler, with his colleague Hersh Shiffrin, suggested that our mental accounting of money is often a battle in our brains between the “doer” (focused on short-term rewards) and the “planner” (focused on the long-term.)  How choices are presented to us (“the choice architecture”) makes a big difference in our decision.  Making enrollment in the 401(k) occur by default and requiring a worker to “opt out” will likely put the “planner” in control, not the “doer.”

One of our key jobs and challenges at DWM is to assist our clients by framing questions and choices in the appropriate way.  Like Dr. Thaler, we understand that wealth, health and happiness decisions are not always rational yet we do our best to find a way to “nudge” both your doer and planner parts of your brain in order to help protect and grow your assets and your legacy. We haven’t made a $30 billion impact yet, but we’re passionately working on it every day.

October: Halloween and National Cybersecurity Awareness Month

What a combo!  Ghosts and goblins seem pretty tame compared to the potential theft of our financial information.  146 million Americans got a big scare last month when Equifax announced that hackers had stolen their personal information.  Fast food chain Sonic just announced that customers’ debit and credit card information was stolen last week.  So, while Halloween costumes, haunted houses and trick or treats get put away on November 1st, cybersecurity issues cannot be put away in the attic trunk or tossed into the garbage.

We probably all wish we could just email Equifax a two word message:  “You’re Fired!”  Unfortunately, it’s not that easy.  For example, Fannie Mae, who sets the rules for most mortgages, requires information from all three credit “repositories.”   If you will never need a mortgage, you can try to delete your files from Equifax.  However, those who have tried have been put “on hold” for hours and then told that deletion of their files was impossible.  The “no” response to deletion was confirmed by Equifax former CEO Richard Smith last week to Congress. For now, the best we can do is freeze (not “lock”) our accounts at Equifax, Transunion and Experian.

New “cyber-vampires” are emerging from the darkness.  Did you ever watch the movie “Catch me if you can?” Great film.   It is the story of Frank Abagnale, Jr., played by Leonardo DiCaprio, a master of deception and a brilliant forger who stayed one step ahead of the FBI (Tom Hanks) for five years with his highly successful scams.  Once arrested, he spent five years in jail from age 21 to 26.  Since that time, Mr. Abagnale has put his unique skills to good use teaching FBI agents around the country about cybercrime, identity theft and fraud.    He also serves as an ambassador for AARP’s Fraud Watch Network and lives in Daniel Island, SC.  Here are some of Frank Abagnale’s (“FA”) recent warnings:

FA: “Stop writing checks- if you are still paying by check, you might be putting your life savings at risk.”  If you go into a grocery store and write a check, you have to hand the clerk the check with your name and address, phone number, your bank’s name and address, your bank account number, the bank routing number and your signature.  And then, the clerk may ask to write down your date of birth and driver’s license number as well.  You never get the check back, it goes to the store’s warehouse, where it may be destroyed thoroughly (or not) six months from now.  Anyone seeing the check has all they need to draft on your bank account tomorrow.

FA: “It is now 4,000 times easier to forge checks (with today’s technology).”  50 years ago, FA used a Heidelberg printing press, originally costing $1 million, to forge checks.  The press was 90 feet long and 18 feet high.  Now, one simply opens their laptop and says, “Who’s my victim today?”  In fact, FA indicates that forging checks is so easy these days that street gangs that used to deal in drugs and narcotics are forging checks instead.  FA: “It’s easier and you spend a lot less time in jail if you are caught.”

FA: “Technology breeds crime-whether it is forging checks or getting information.”  Facebook is a great source of information for the crooks.  One of the most common scams now is the “grandparents scam.”  The bad guys go on Facebook and find out who the grandparents are and see who the grandson is dating.  They easily manipulate their telephone caller ID to show a call coming from the NYPD or other police department.  The thieves place their call on a Friday night and tell the grandparents that the grandson is at the jail after being picked up for DUI/DWI and being held for bail.  If money for bail is not received in two hours, the grandson will have to spend the weekend in prison.  “Millions of grandparents have fallen for this scam.”

At DWM, we recognize that you have worked and continue to work very hard for your money.  Our goal, in every facet of providing Total Wealth Management, is to protect and grow your assets.  Cyber-safe practices are a key element of risk management.  Our first job is to educate our clients and friends about the importance of cybercrime, identity theft and fraud.  Charles Schwab & Company, the custodian for our clients’ money, is as dedicated as we are to keep you and your funds safe and help prevent attacks.

Watch for more blogs this month (and beyond) on cybersecurity.  It’s a tremendously important topic!!

HURRICANE SEASON 2017: SPOTLIGHT ON FLOOD INSURANCE

Water seems to be everywhere right now.  Hurricane season lasts until November 30th, but many of us in the coastal areas of the United States are already weary from this year’s active storm season.  Texas, Florida, Georgia and the Carolinas have seen widespread damage from Hurricanes Harvey and Irma and those in the East and Northeast are closely watching Jose and Maria to see what kinds of impacts they will bring.  As we watch the news and see the photos of flooded homes, streets turned into waterways and communities working to recover from the mess, the reported costs of these two storms seems almost unfathomable – estimates of the total economic cost for both storms range from $115 billion to $290 billion!  Many of those in need of assistance appeal to FEMA, the Federal Emergency Management Agency, and, while FEMA can provide small assistance payments as a safety net, much of the flood damage assistance must come through FEMA’s National Flood Insurance Program (NFIP) – and you must have a flood insurance policy to receive anything from them.

Premium rates for flood insurance policies are partially subsidized by the federal government and, without these subsidies, the cost for this type of insurance could be exorbitant.  Complicating the matter is that most banks won’t loan money to build or purchase homes in flood-prone areas without it.  Currently, flood insurance claims, partially paid-for by those premiums, will cover replacement costs for property of up to $250,000 and up to $100,000 for contents.  The average NFIP claim payment is around $97,000.  According to a September 10th Post & Courier article, in SC it is estimated that 70% of properties in the high-risk areas are insured.  Also, high-risk areas have a 1 in 4 chance of flooding during a 30-year mortgage, according towww.southcarolinafloodinsurance.org.   However, 30% of flood losses occur in flood zones that are not at high risk.  As the head of the SC Department of Insurance said, “our entire state is in a flood zone.”

The NFIP is now reportedly close to $25 Billion in debt, even before these most recent storms, and the program was set to expire on September 30th.  Last Friday, PresidentTrump signed legislation reauthorizing the National Flood Insurance Program until Dec. 8, 2017 and providing federal disaster assistance for the nation’s hurricane recovery.  This buys more time for Congress to consider reforms to the program, which, by all accounts, is drastically needed.  Reportedly, program costs overrun annual premium income, even without the catastrophic losses from natural disasters.  While a lot of communities have flood mitigation programs in place, there is much discussion that it is time for stronger flood-proofing standards – like making sure that all flood-prone properties are reinforced or elevated and redrawing outdated flood maps to properly assign risk to those properties.  Critics have claimed that the NFIP has wasted money rebuilding vulnerable homes when it would be cheaper to help homeowners move to higher ground.  There is also concern that “grandfathering” certain properties allows homeowners to pay subsidized rates based on outdated flood maps.

The National Flood Insurance Program was created in 1968 when private sector insurance carriers stopped offering the non-profitable coverage.  The idea was to transfer some of the financial risk of property owners to the federal government and, in return, high risk areas would adopt flood mitigation strategies to reduce some of that risk.  Some are now arguing that these subsidies mask the true risk of living in these high flood-prone areas and full actuarial rates for flood insurance premiums should be phased in, subsidizing only those truly in need.  In a Bloomberg article from September 18th, U.S. Rep. Sean Duffy (R-WI) and U.S. Rep. Earl Blumenauer (D-OR) are appealing for reform and suggest that “…the NFIP’s subsidized rates make flood-prone properties more affordable… and that for “ the sake of people’s health and safety”, it’s critical that we “stop paying to repeatedly rebuild flood-prone properties.”  They hope to encourage Congress to reform NFIP and to make bi-partisan recommendations to protect future flood victims.

At DWM, we recommend that you annually review all of your insurance, including property & casualty and flood insurance.  There are many ways coastal or flood-prone homeowners can mitigate their own risk with upgrades to roofs, windows, landscaping, hurricane shutters etc.  You should find out your home’s elevation and evaluate your risk.  You may also want to check on your flood zone and consider a flood insurance policy for added protection.  Flood insurance has a 30-day waiting period, so once there is a hurricane en route, it is too late to sign up and be covered in time.  For most policies not in high-risk flood areas, annual premiums range from $400-$700 under the current regulations – high-risk flood zones will be more.  We will continue to monitor the legislation as it approaches the next deadline of December 8th.  Luckily, our DWM office did not have to contend with any direct flooding issues, but we will most certainly be keeping an eye on the weather!

Please let us know if we can help review any of your insurance policies to make sure you have affordable and appropriate coverage on all aspects of your life and property.

Total Eclipse of the Sun

We all spend a lot of time thinking about our Sun.  In the summer, we want to know if clouds or rain will obscure the Sun’s heat and brilliance and perhaps impact our plan for outdoor activities.  We must think about the Sun’s intensity by protecting our skin and our eyes from the powerful UV rays with sunscreen, protective clothing and eyewear.  Sunrise and sunset mark the ebb and flow in our days with beautiful atmospheric displays.  The Sun, as we all know, keeps us alive on this planet!

On August 21st, our moon will pass between the earth and the Sun, throwing shade across a wide path of the United States that includes Charleston, SC.  Temperatures will drop, the sky will darken and animals will be confused about what to do. The Great American Eclipse of 2017 will begin in the Charleston area with the first phase at 1:17 pm, will hit the peak or “totality “ period at 2:46 pm and will finally end around 4:10 pm.  This is the first total solar eclipse to occur in the US since 1979 and is the biggest astronomical event that America has seen in years.

There are five stages to a solar eclipse and there are some interesting features to look for during each phase, for those of you getting ready to participate.  Here are the 5 phases:

1. Partial eclipse begins (1st contact): The Moon starts becoming visible over the Sun’s disk. The Sun looks as if a bite has been taken from it.

2. Total eclipse begins (2nd contact): The entire disk of the Sun is covered by the Moon. Observers in the path of the Moon’s umbra, or shadow, may be able to see Baily’s beads and the diamond ring effect, just before totality.  Baily’s beads are the outer edges of the Sun’s corona peeking out from behind the moon and the diamond ring effect occurs when one last spot of the Sun shines like a diamond on a ring before being obscured.

3. Totality and maximum eclipse: The Moon completely covers the disk of the Sun. Only the Sun’s corona, or outer ring, is visible. This is the most dramatic stage of a total solar eclipse. At this time, the sky goes dark, temperatures can fall, and birds and animals often go quiet. The midpoint of time of totality is known as the maximum point of the eclipse. Observers in the path of the Moon’s umbra may be able to see Baily’s beads and the diamond ring effect, just after totality ends.

4. Total eclipse ends (3rd contact): The Moon starts moving away, and the Sun reappears.

5. Partial eclipse ends (4th contact): The Moon stops overlapping the Sun’s disk. The eclipse ends at this stage in this location.

Historically, solar eclipses have been significant events and have been recorded dating back to 5,000 BC.  There are writings of mathematical predictions of eclipses from ancient Greece, Babylon and China.  Rulers and leaders often used the predictions of astronomical events to gain power or to offer reassurance to a fearful population.  George Washington was grateful for a heads up about a coming solar eclipse prior to a battle in 1777 so he could alleviate any superstitions that his troops may have.  And scientists have used the opportunity of an eclipse to study the Sun, measure distances and features in the universe and learn about the Earth’s atmosphere.  The discovery of hydrogen can be credited to a solar eclipse and a solar eclipse in 1919 provided observational data for Einstein’s theory of general relativity.  This year, NASA has set up many sites within the path of the eclipse to monitor, measure and capture data to further their knowledge.  There is much to be learned from studying these phenomena.

As we have seen throughout history, the science of astronomy can be used to predict and measure certain events and occurrences with regularity.  Wouldn’t it be nice if there could be more certainty in predicting the ups and downs of the stock market?  One study found that stocks around the world rise on sunnier days!  However, no one can predict the future.  We need to focus on what we can control, including an appropriate asset allocation, diversification and keeping costs low.  That is why actively managed funds underperform the benchmarks and why even the geniuses like Warren Buffet recommend using passive index funds.  At DWM, we think you should stick with your investing plan and not look for the latest fads or trends or even astronomical events to impact your strategy.

We hope that NASA and other scientists learn some spectacular new things from this years’ eclipse.  Here in Charleston, we will be avid, yet passive spectators to the historical occurrence and will use our ISO certified eclipse glasses to watch the once-in-a-lifetime event unfold.   Happy eclipse watching!

Next on the Agenda- Income Tax

Washington is moving on to tax reform. Earlier this week, the Senate Republicans made it clear that they want to focus on tax overhaul and critical fiscal legislation.  Republicans and Democrats have already outlined their plans.  Income taxes have always been a very important and often contentious subject. Before we review the key issues, let’s step back and review tax policy generally.

I remember my first tax class in Champaign, Illinois over 50 years ago.  We learned that income tax policy was more than simply raising money.  Taxes have always been an instrument of economic and social policy for the government, as well.

Income taxes became a permanent part of life in America with the passage of the 16th Amendment in 1913.  The first tax amount was 1% on net personal incomes above $3,000 with a surtax of 6% on incomes above $500,000 (that’s about $9 million of income in today’s dollars).  By 1918, at the end of WWI, the top rate was 77% (for incomes over $1 million).  During the Great Depression, the top marginal tax rate was 63% and rose to 94% during WWII.  The top rate was lowered to 50% in 1982 and eventually 28% in 1988.  It slowly increased to 40% in 2000, was reduced again from 2003 to 2012 and now is back at 40%. Corporate tax rates are 35% nominally, though the effective rate for corporations is between 20% and 25%.

Changes in the tax structure can influence economic activity.  For example, take the deduction for home mortgage interest.  If that deduction were eliminated, the housing market would most likely feel a big hit and economic growth, at least temporarily, would likely decline.  In addition, an argument is often made that tax cuts raise growth.  Evidence shows it’s not that simple.  Tax cuts can improve incentives to work, save and invest for workers, however, they may subsidize old capital that may undermine incentives for new activity and growth.  And, if tax cuts are not accompanied by spending cuts or increased economic growth, then the result is larger federal budget deficits.

Our income tax system is a “progressive” system.  That means that the tax rate goes up as the taxable amount increases.  It is based on a household’s ability to pay.  It is, in part, a redistribution of wealth as it increases the tax burden on higher income families and reduces it on lower income families.  In theory, a progressive tax promotes the greater social good and more overall happiness.  Critics would say that those who earn more are penalized by a progressive tax.

So, with that background, let’s look at some of the key issues.

The Republicans and the White House outlined their principles last Thursday:

  • Make taxes simpler, fairer, and lower for American families
  • Reduce tax rates for all American businesses
  • Encourage companies to bring back profits held abroad
  • Allow “unprecedented” capital expensing
  • Tax cuts would be short-term and expire in 10 years (and could be passed through “reconciliation” procedures by a simple majority)
  • The earlier proposed border adjustment tax on imports has been removed

Also this week, Senate Democrats indicated an interest in working with Republicans if three key conditions are met:

  • No cuts for the top 1% of households
  • No deficit-financed tax cuts
  • No use of fast-track procedures known as reconciliation

The last big tax reform was 1986.  It was a bipartisan bill with sweeping changes.  Its goals were to simplify the tax code, broaden the tax base and eliminate many tax shelters.  It was designed to be tax-revenue neutral.  The tax cuts for individuals were offset by eliminating $60 billion annually in tax loopholes and shifting $24 billion of the tax burden from individuals to corporations.  It needed bipartisan support because these were permanent changes requiring a 60% majority vote.

With all that in mind, sit back, relax and follow what comes out of Washington in the next few months. It will be interesting to watch how everything plays out for tax reform, the next very important piece of proposed legislation.

What’s Ahead for the Global Economy and Financial Markets?

Last week, the Federal Reserve raised rates- the third increase since the financial crisis.  Yet, despite world economic growth and the stock markets surging since President Trump’s election (until yesterday), the Fed is still cautious about the future.

The world economy has been picking up.  The Economist reported last week that “today, almost ten years after the most severe financial crisis since the Depression, a broad-based economic upswing is at last underway.”  This is a big change from the early months of 2016 when stocks were down 10% or more due in part to anxiety about China’s economy and related plunging raw material prices.  Fortunately, China, through controls and stimuli, turned things around and by the end of 2016, China’s nominal GDP was growing again.

At the same time, global manufacturing has gotten stronger.  Factories are much busier in the U.S., Europe and Asia.  Taiwan and South Korea are rocking.  Worldwide equipment spending is up; growing at an estimated annualized rate of 5.5% in 4Q16.  American companies, excluding farms, added 235,000 workers in February.  The European Commission’s economic-sentiment index is at its highest since 2011.  Japan, whose growth has been anemic, has revised their 2017 forecast from 1% to 1.4%.

The stock markets have, until yesterday, risen dramatically based on both current economic growth stats and expectations about the future.  With Mr. Trump’s election, there has been hope that taxes and regulations will be reduced which would help businesses and increase corporate profits.  Further, the expected return of $1 trillion of untaxed cash held overseas by American companies could be coming back (repatriated) at new low tax rates.  These funds could produce a big boom in business investment.  And, then add to this the possibility of a $1 trillion private-public infrastructure push for America. Mr. Trump has been talking about growth of 3.5-4%.  There’s been lots of optimism.

Yet, Fed officials forecast growth of only 2.1% this year; about where it has been for 8 years.  So, what’s their cause for relative skepticism?

The list of concerns includes fears about protectionism stifling trade, political disruption in Europe, China’s ability to sustain strong growth, and closer to home, whether or not the White House and Congress can work together to get legislation passed.  If the repeal of Obamacare gets sidetracked, there is concern that tax reform and infrastructure will endure the same fate.  And, of course, we haven’t even talked about a black swan- an unexpected event of large magnitude and consequence.  All bets are off in the case of major problems such as war, terrorism or some other major catastrophe.

We could be on the precipice of a new era with the cutting of taxes and regulations and a huge infrastructure boom creating a turbocharged economy.   Or, we could have a repeat of the many times in the past decade when optimism at the start of the year faded as the year progressed.  No one knows what the future holds.

Yesterday’s stock market declines of roughly 1% were, in large part, a concern about the ability of the White House and Congress to enact their legislative agenda, starting with the repeal of Obamacare.  People are nervous that if the health-care bill doesn’t pass or gets delayed, what will that mean for other policies.    Tax cuts could be delayed and even face a tougher fight in Congress.  Treasury Secretary Steven Mnuchin had earlier thought that tax reform would pass Congress by August and now he is hoping for early next year.  And, infrastructure would come after that.

With all of that in mind, the Fed understandably is cautious and we at DWM are as well.