May 2017

Macro Overview

Political turmoil was not able to derail market momentum in May as the three major market indices continued on their upward trajectory. Delayed passage of stimulus driven legislation is reducing inflation expectations as markets anticipate an extended low rate environment.

The Federal Reserve Bank of Atlanta’s closely watched GDPNow forecast model is predicting second quarter economic growth of 3.4%, a generous number.

The equity market’s rise is broad with small, mid, and large capitalization stocks all rising in tandem, a healthy dynamic as noted by most analysts. As inflation expectations have fallen, the equity markets have been rising in hopes of a slower process of increasing rates by the Fed.  Globally, the price of commodities such as iron ore, copper and oil have fallen since the beginning of the year. A weaker dollar is also buoying emerging markets as their currencies rise to fend off inflationary pressures in emerging market economies.

Changes in banking rules and regulations may be in the air as the Trump Administration made its first major regulatory change, replacing the head of the Comptroller of the Currency, the banking industry’s primary regulatory entity.

The Republican led House of Representatives voted to repeal and replace the ACA (Affordable Care Act) with the American Health Care Act of 2017. The Act must now pass through the Senate in order to initiate any healthcare mandate changes. Congressional leaders reached a bipartisan agreement to fund the U.S. government through September.  The omnibus spending measure provides nearly $1.2 trillion of funds until leaders meet again in the fall to formalize longer term spending provisions.

The Treasury department is exploring the issuance of longer term bonds maturing in 50 and 100 years. Current ultra low rates encourage debt issuance for longer periods of time.

Puerto Rico sought court protection in the largest ever U.S. municipal bankruptcy, owing over $72 billion to creditors, including Puerto Rican municipal bond holders. Detroit’s bankruptcy in 2013 amounted to $18 billion, which at the time was considered the largest municipality to go bankrupt. Moody’s & S&P credit rating agencies both downgraded the credit quality of Illinois state municipal bonds to one notch above junk status, giving it the lowest rating of all 50 states. Illinois state legislators’ impasse on passing a budget and spending cuts led to the downgrades.

The Fiduciary Rule goes into effect on June 9 after being postponed two months from its original effective date of April 10, 2017. Created by the Department of Labor two years ago, the Department’s definition of a fiduciary demands that advisors act in the best interests of their clients and to put their clients’ interests above their own. It leaves no room for advisors to conceal any potential conflict of interest, and states that all fees and commissions must be clearly disclosed in dollar form to clients. All affected financial institutions will have until January 1, 2018 to fully comply. (Sources: Dept. of Labor, Fed, Moody’s, Reuters, Bloomberg)

The IRS Collected Revenue On Over 134 Million Tax Returns In 2016

Equity Markets – Domestic Equities

Despite political turmoil in Washington, equity markets propelled ahead, resilient to any political and media interference. Heightened corporate cash levels and steady earnings growth continue to fundamentally fortify equities across various sectors.

The three worst performing sectors so far in 2017 have been energy, telecommunications, and financials, while consumer, healthcare, and technology stocks have led since the beginning of the year. (Sources: Reuters, Bloomberg)

Fixed Income Update – Domestic Bond Markets

U.S. Treasuries strengthened at month end as demand for government bonds increased in anticipation of lessening inflationary pressures. The yield on the 10-year U.S. Treasury ended May at 2.21%, down from 2.29% at the end of April.

Inflation, the primary determinant for the Federal Reserve to raise rates has been muted over the past few weeks, allowing confidence to build among investors that rates will not spike up anytime soon.  Fed members this past month suggested a slow yet consistent manner in raising rates. The Fed is being careful to communicate the rise in rates as slow and steady in order to avoid another “taper tantrum” as occurred in 2013 when the Fed spooked markets by aggressive rate hike language. (Sources: U.S. Treasury, Federal Reserve)

What Most Tax Payers Earn -Tax Fact

With tax cuts and IRS simplification proposals on the agenda, tax revenue statistics are focal points as certain taxpayers in various age and income groups may or may not see beneficial changes.  The Internal Revenue Service (IRS) keeps careful detail on tax revenue and how it is broken down. Tax revenue data is based on Adjusted Gross Income (AGI) which is compiled and revised during every tax season.

Of the more than 134 million tax returns filed for tax year 2016, the bulk of returns fell between the $30,000 to $200,000 income range. The median income group of taxpayers earning $50,000 to $75,000 comprised the largest segment of tax payers nationwide with over 18 million filers. The second largest group includes those earning between $100,000 to $200,000, with nearly 16 million filers in 2016. Demographical factors drive tax revenue, such as middle-aged, dual income households tending to earn more for a longer period of time. The amount of income also determines the number of filers in each income group. For 2016, there were only 3,469 taxpayers reporting $10,000,000 or more in income and 1,086,092 filers reporting no income. (Source: IRS)

China is buying US Treasuries again

China Buying U.S. Treasuries Again – Global Fixed Income

Currently valued at over $13 trillion, the U.S. Treasury Bond market continues to be the world’s largest and most liquid bond market, attracting capital from foreign central banks seeking safety and stability.  Federal Reserve data as of May 17 shows that foreign central banks held nearly $3 trillion of the $13 trillion Treasury market, an increase of over $60 billion since the beginning of the year. Of the various foreign buyers, China’s central bank has increased its Treasury holdings the most by $29 billion to a total of $1.08 trillion. China is currently the second largest holder of Treasuries, with Japan the largest holder.

A reversal in the U.S. dollar has also helped propel buying by foreigners in order to help stabilize their local country currencies. U.S. Treasuries continue to offer higher yields than other developed country debt such as Japan or Germany, attracting yield seekers.

For the first time in almost 30 years, China’s government debt rating was lowered in May by one of the major credit reporting agencies, Moody’s. Such a move could diminish China’s ability to borrow funds from domestic and foreign investors. (Source: Federal Reserve Foreign Holdings Report, Moody’s)

U.S. Oil Reserves At Record Highs – Oil Market Review

A recent proposal by the Trump Administration to sell a portion of the U.S. Strategic Oil Reserves has brought the subject to the forefront. The higher level of oil reserves and supply over the past few months has led to a recent pullback in oil prices both domestically and internationally. The U.S. has become a dominant player in the global oil markets, becoming the 3rd largest producer of oil worldwide. The U.S. Energy Information Administration (EIA) estimates that U.S. production will reach 10 million barrels per day, surpassing Saudi production. The increase in U.S. production is primarily attributable to American technology and skills created by U.S. drillers using hydraulic fracturing, also known as fracking.  Part of the downward pressure on oil prices has also been a lessening demand for oil by American consumers. Demand for imported oil has also fallen, as the U.S. reaches the highest production levels in over 45 years. Foreign oil imports now account for less than 21% of all U.S. consumption. (Source: EIA)

Bitcoin has doubled in value during 2017

The Evolution of Bitcoin – Market Fact

An emerging form of digital currency has received tremendous media coverage this past month, Bitcoin, which is essentially virtual money that is traded digitally by exchanges. Bitcoins can only be purchased and sold with legitimate currency, such as dollars or euros, making it available worldwide. The total estimated value of Bitcoins worldwide as of May 30, 2017, is over 36 billion dollars.

Bitcoins exist as software, not physical currency, and are not regulated by any country or banking authority. Even though U.S. Senate hearings disclosed that Bitcoin could be a means of exchange, it gave no assurance that it would actually become an accepted medium of exchange.  Government regulations would need to be created and then enforced in order for Bitcoin to become accepted by other government entities. The currency can be traded without being tracked, thus raising the potential for illicit activity, such as involving weapons, drugs, and prostitution. Bitcoins are not illegal, but it is also not legally recognized by governments as a currency.  Since the beginning of 2017, the total market value of Bitcoins have risen over 20 billion dollars, more than doubling since January 1 2017.

Some believe that the price appreciation of Bitcoin has been a result of speculation that perhaps one day digital money will become a legitimate global currency and even replace currencies from certain countries. Some compare Bitcoin to the tulip craze in Holland of 1637, when speculators pushed the price of tulip bulbs to incredible levels, followed then by a collapse in the tulip bulb market.

The growing mobile payment industry could be a big benefactor to the acceptance of Bitcoin as new and creative applications are being devised to accept digital currency. Bitcoin transactions are very popular among mobile users, where rather than using a credit card or cash to make a purchase, all you’d need is your phone. Bitcoins emerged in 2008 designed by a programmer or group of programmers under the name of Nakamoto, whose real identity remains unknown.  New Bitcoins can only be created by solving complex math problems embedded in the currency keeping total growth limited.

In 2014, the value of Bitcoins fell by over fifty percent following remarks by China and Norway to not recognize the digital currency as legal tender. The government of Norway ruled that Bitcoin does not qualify as real currency but rather qualifies as an asset, producing taxable capital gains. Norway said that Bitcoins don’t fall under the normal definition of money or currency.  More and more nations have been taking an official stance as the popularity of Bitcoins has evolved.  The European Banking Authority has warned about the risks of trading digital money and being subject to losses where consumers are not protected by any government entity or authority.

As digital currency evolves, some believe that it will eventually be accepted as a legitimate currency.  But for the time being, others believe that its time hasn’t arrived yet.  Various studies have recently emerged with different opinions, such as a Stern School of Business study conducted by David Yermack, which concluded that Bitcoin behaves more like a speculative investment than a currency and has no currency attributes at all.  (Sources: Bloomberg, Reuters)