|
|
|
TXCM: The Political Effect/Affect
November 15, 2012
Nothing seems more fitting than the first dilemma I immediately experienced when compiling the following report than having gotten no further than typing the subject line: Affect, or Effect?
Effect: something that is produced by an agency or cause; result; consequence
Affect: to act on; produce an effect or change in
As you probably noticed by the subject line, they both seemed to fit. In the following report we'll dive into the potential obstacles ahead of us surrounding the "Fiscal Cliff", what it means to you, what happened in the past, and just how big the changes might be. I'll try to summarize these issues in the most straight-forward and visually pleasing means possible, and I'll even cap it all off with a song about the Fiscal Cliff (because who doesn't love a song about monetary policy?).
|
|
The Situation: Fiscal Cliff
 Contrary to wise-cracked opinion, Fiscal Cliff was not the nickname given to Bill Cosby's character 'Cliff Huxstable' by his wife on the 1980's hit TV series "The Cosby Show" when he attempted to teach his children the importance of budgeting. Rather, it is a set of major tax and spending policy changes that are scheduled to occur on January 1 and 2, 2013.
Unless Congress intervenes, these changes will have a substantial impact on the federal budget and the economy at large. The term fiscal cliff was used by Federal Reserve Chairman Ben Bernanke when he warned of the harm that the American economic recovery would face if Congress does not act. [ timeline for the Fiscal Cliff here] To gauge the broad impact the automatic reset might have if 2013 were to arrive without Congressional agreement, the following charts show the 2012 vs. 2013 tax rates and the historical average minimum tax rate by decade.
 | |
Source: IRS, The Tax Foundation, J.P. Morgan Asset Management. Tax rates based on maximum U.S. individual income tax. Wage income tax rates include employer and employee contributions to the Medicare tax. *Includes recently enacted healthcare tax of 3.8%. **In 2011 and 2012, the payroll tax cut reduced the employee's share of Social Security taxes by 2%. Rates shown include both employer and employee contributions to the payroll tax. ***In 2013, the estate tax exemption amount was expected to fall to $1 million from $5.12 million in 2012.
|
 | |
Source: IRS, J.P. Morgan Management. Wage income tax rates include employer and contributions to the Medicare tax.
|
cont...
Pundits seem to be enjoying the various metaphors associated with the fiscal cliff, such as "Falling off the Fiscal Cliff". Though it would initially help to lower Federal budget deficit projections, it is widely agreed upon that this imposition at such a delicate time in America's economic recovery following the Housing Bubble/Financial Crisis would result in catastrophe.
Ahead of that, however, a lesser degree of catastrophe lingers: Political Gridlock.
|
|
|
|
|
Looking Back at 2011's Debt Ceiling Debate
The Start: On the heels of multiple government-sponsored bailouts and rapidly growing national debt, President Obama in February 2010 issued an Executive Order to establish the National Commission on Fiscal Responsibility and Reform, also known as the Bowles-Simpson Commission. The mission of the Commission was to propose recommendations designed to balance the budget, excluding interest payments on the debt, by 2015, and report with a set of recommendations by December 1, 2010. Later that year following the US midterm elections, having campaigned on cutting federal spending to control debt and stopping any tax increases, the balance of power in congress changed.
That December the Bowles-Simpson Commission issued its report, but the recommendations failed to win support of at least 14 of the 18 members necessary to adopt it formally. The recommendations were never adopted by Congress or President Obama. Shortly into the new year on January 6, then again on April 4, and May 2, 2011, Secretary of the Treasury Timothy Geithner sent letters requesting an increase in the debt ceiling. Thus began the 2011 Debt Ceiling Debates in Congress.
The Result: That year saw a tremendous amount of market volatility. From heightened rhetoric, failed compromises, credit downgrade warnings, to eventual compromise, the S&P500 index dropped almost -20% between May 1 - October 3, 2011. Our research analyst has compiled the following chart of the S&P500 during that time, with notable events listed throughout. You will notice that even though a compromise was reached and passed in congress, it took a while for the market to stabilize and eventually begin a steady ascent higher. All this considered, the S&P 500 ended almost exactly where it began, returning a whopping 0.0032%
 | |
Click for the image for a larger version of congressional debate timeline vs. S&P 500 Index
|
|
|
Conclusion
As the reality of a prolonged period of political uncertainty around resolution of fiscal policy sets-in, we're benefited by our experiences here in the States and by our friends across the pond in Europe. An economist recently made the analogy of a car approaching a cliff when comparing what it takes to get politicians to work together. The imminence of the cliff isn't enough to spur action. It takes the car reaching the cliff, and then dangling the front two wheels over the edge, before progress can be made. As such, there is quite a lot of conjecture in financial circles that absent a market sell-off large enough to force a compromise, the two sides will not agree on a starting point for tax rates.
As the end of the year approaches, analysts have been modifying their up-side targets for Year-End S&P500 Index projections. They range from the incredibly bearish (MorganStanley @ 1167, which is -15.43% lower as of 11/09/2012) to the gleefully optimistic (UBS @ 1525, which is 10.52% higher as of 11/09/2012). Going into the holidays we expect to maintain an abundance of low-volatility investments, such as bonds, some exposure to precious metals to offset any changes in the dollar, and will begin to reduce our already small allocation to equities as our price targets are met.
The best gift that our elected officials could give investors in 2012 would be a reasonable compromise, balancing spending cuts and tax changes. Furthermore, a return to less volatile equity markets with stable growth cannot begin until the Fed initiates the exit strategy process. We all yearn for the day when the stock market can detoxify from steady injections of Fed 'hopium', and return to a period of valuation based on core fundamentals.
As promised, your Fiscal Cliff song.
 | | Merle Hazard - Fiscal Cliff |
|
 Gary Clemmons | Portfolio Manager
Texas Capital Management
407-C West Baker Road
Baytown, TX 77521
(281) 427-8000 - office
(281) 428-2796 - fax
Registered Investment Advisor
-----------------------------------------------
Investment advice through Texas Capital Management
Securities offered through CEROS Financial Services Inc. Member FINRA/SIPC.
(not affiliated with Texas Capital Management) |
| All information, commentary and opinions herein has been prepared solely for informational purposes, and is not an offer to buy or sell, or a solicitation of an offer to buy and sell any security or instrument or to participate in any particular trading strategy. Any commentary herein is general in nature and should not be construed as rendering or offering to render personalized investment advice. Accordingly, Texas Capital Management (TXCM) expressly disclaims all warranties, express or implied, including but not limited to, any implied warranties of merchantability or fitness for a particular purpose. To the full extent permissible by applicable law, neither TXCM, nor any affiliates, nor any of their employees will be liable for any indirect, incidental, special or consequential damages arising out of use of the information contained herein or any investments made based on information obtained herein. Investors should not act upon momentary or general investing opinions as the basis for investment decisions. No investment should be made unless you have carefully considered the investment in conjunction with your personal investment objectives, risk tolerance as well as, but not limited to, your investing time horizon. Investing involves risk, including the possible loss of the principal amount invested. The information contained in this e-mail message is intended only for the personal and confidential use of the recipient(s) named above. If the reader of this message is not the intended recipient or an agent responsible for delivering it to the intended recipient, you are hereby notified that you have received this document in error and that any review, dissemination, distribution, or copying of this message is strictly prohibited. If you have received this communication in error, please notify us immediately by e-mail, and delete the original message. |
|
|
|
|
