October 2016

Macro Overview

A tightening of presidential polls added to market ambivalence as uncertainty regarding what fiscal and regulatory policy changes might affect the economy and markets. The outcome of the U.S. elections is considered by many to be a primary determinant of how the rest of the year could evolve.

Fiscal policy has now become a central concern as monetary policy, which is dictated by the Federal Reserve, has become less effective and predictable. A reduction in federal income tax rates could lead to higher deficit spending, yet may contribute to a rise in GDP and consumer spending.

During its September meeting, the Fed decided to leave rates unchanged but strongly implied that an increase was on the horizon. The Bank of Japan kept its key rate unchanged at negative .10% with a target for its 10-year government yield at zero, a stark contrast to the U.S. 10-year government bond yield at 1.46%.

10 Year Tsy Yield

Lagging retail sales and stagnant industrial production reports possibly encouraged the Fed to hold off on a rate rise during its September meeting. The Fed has two more meetings before the end of the year, one the week before the presidential election and another in December. Several market analysts believe that the Fed won’t raise rates in November, but will in December as it did in 2015.

The Atlanta Federal Reserve said its forecast of third-quarter real consumer spending growth fell from 3.0 percent to 2.7 percent, influenced by stagnant personal income and spending data for August. U.S. consumer spending fell in August for the first time in seven months while inflation showed signs of accelerating, mixed signals that could keep the Federal Reserve cautious about raising interest rates.

Anxiety over European banks has risen since the British voted to exit the EU. At first only smaller peripheral banks in Italy, Spain and Greece were of concern, but now larger banks in Germany have become focal points. Pressures are mounting for European banks as the low rate environment set by the ECB is starting to take its toll on bank earnings. An assemblance of dynamics has propelled Germany’s largest bank into a precarious position. (Sources: Fed, OPEC, Eurostat, Reuters, ECB)


Amount Of Bonds With Negative Yields Globally: $12.6 Trillion

Equity Update – Domestic Stocks

A data sensitive environment has evolved into a wait and see scenario as the Fed’s uncertainty regarding interest rates continues to cause volatility in the equity markets.

The third quarter was positive for equities as the technology and financial services sector provided gains for the major indices. For the quarter, the Dow Jones Industrial Average was up 2.78% and the S&P 500 Index added 3.85%, both on a total return basis. The technology heavy Nasdaq Composite Index was up 9.69% for the third quarter.

It’s always welcoming when the bond market helps the equity markets. The benefits of rising prices for high yield corporate bonds translate into lower borrowing costs for companies, thus leading to greater margins and propelling stock prices. (Sources: Reuters, Bloomberg)

Fixed Income – Global Bond Markets

Some fixed income analysts believe that the Treasury yield curve is showing signs of mispriced bonds between long-term and short-term maturities, adding volatility to the overall bond market.

It is now estimated that there are over $12.6 trillion worth of bonds globally that yield less than zero. This dynamic is placing tremendous pressure on the world’s central banks to find a policy that will eventually stimulate economic growth and inflation. The Bank of Japan has had little if any success with its ultra-low negative yielding government bonds. All in all, this essentially means that Japanese rates will stay well below those in the United States for quite some time.

Money market funds reform has triggered a change in the London interbank offered rate, also known as Libor. Historically, higher Libor rates translate into higher long-term bond yields.

U.S. money fund reforms are set to take effect in the middle of October and have already affected short-term rates, notably the benchmark London Interbank offered rate also known as LIBOR. LIBOR is the base rate for many U.S. loans including various home mortgages, thus if LIBOR increases, then some mortgages in the U.S. could also see an increase in lending rates. Libor has risen by over 50 bps in the past year to 0.8456%, while the Fed has barely raised its short-term rate just 25 bps to 0.25-0.50%. (Sources: Bloomberg, Reuters)

Median Household Income Rises – Demographics

Median household incomes in the U.S. rose for the first time in eight years, elevating the median annual national income to $56,516, yet still 1.6% below 2007 levels.

Income data is closely followed by economists and the Fed as a critical determinant of the economy’s strength and well-being. A rise or fall in incomes is an indicator of future spending habits by consumers. Employment numbers also give the Fed and economists plenty of data to digest, however, income is monumental since it helps identify discretionary income, the amount of money left over after paying all household and living expenses. So as incomes rise, consumers will tend to spend more, thus helping to elevate economic activity.

Sources: U.S. Census Bureau


What Countries Are Buying U.S. Oil - International Trade

What Countries Are Buying U.S. Oil – International Trade

Following a 40-year ban on U.S. oil exports that was lifted in December 2015, more than 87 million barrels of crude oil have been shipped to 17 countries in the first half of 2016. us-oil-exports

The largest and most consistent U.S. crude oil export destination for the first five months of 2016 has been Curacao, an island nation located in the Caribbean Sea north of Venezuela. Refineries on the island nation owned by a state run Venezuelan company, mix the higher quality U.S. crude oil with lower quality crude oil from Venezuela in order to re-export more easily to other countries.

In response to the Arab oil embargo, the U.S. imposed regulations in 1975 that restricted the exportation of crude oil. For years, oil companies and industry leaders have sought a relaxation of the export restrictions in order to compete in the global oil markets. U.S. oil exports are now directly competing with cheap Russian oil exports, which has been aggressively pursuing oil trading relationships from China to Belarus.

Another factor affecting U.S. oil exports is how oil is actually paid for. For decades oil has been traded internationally with the U.S. dollar, known in the oil industry as petrodollars. However, over the decades there has been a growing reluctance by many countries having to rely on the U.S. dollar to trade oil, especially China and Russia. So there has been a growing movement to de-dollarization oil trade internationally. Just recently, China and Russia forged an agreement to trade oil between their two countries in yuan and rubles only. Russia is now actively seeking establishment of a ruble based pricing system that will reduce the dependence on the U.S. dollar.

Sources: Department of Commerce, EIA

Cheap Oil Affects Countries Worldwide – Oil Industry Update

A non-routine meeting set for late September in Algeria disrupted oil markets as the meeting was seen as a precursor to production level changes. Non-OPEC member Russia, the world’s largest oil producer, is set to attend the meeting and could announce moves to help stabilize oil prices. Low oil prices have created a precarious situation for those countries that primarily rely on oil to keep their economies intact. Oil_Barrel_graphic copyVenezuela, the leader in proven oil reserves, could run out of cash within a year as well as dealing with a serious food shortage. Over 95% of the country’s total trade revenue is dependent on oil. The IMF estimates that inflation in Venezuela will reach 720% this year, and a projected 2,200% in 2017. Shortages are widespread with everything from food, beer, and medical supplies to toilet paper.

Oil markets expect a production cut agreement to evolve from the Algeria meeting, which will help stabilize prices from their two-year plunge. An obstacle to essential production cuts may continue to be Iran, which has declined to entertain a production freeze until its output returns to pre-sanction levels.

Sources: OPEC, IMF, Bloomberg

Financial Planning

Benefits of A Trust Versus a Will – Estate Planning

A properly drafted will or trust is essential for anyone that has assets to leave to heirs. Either a will or a trust allow you to designate anyone you wish as beneficiaries. Both a will and a “revocable living trust” allow you to identify who the heirs to your assets will be. detailed illustration of a Living Trust Letter, eps10 vector

The main difference between the two is that assets held in a trust will avoid probate upon your passing, which is inhibitive to the heirs and costly. A trust structured as a revocable living trust can help shelter family assets from taxes by properly placing assets within the trust. Currently, the first $5.34 million (per individual) $10.68 million (per married couple) is excluded from estate taxes with any assets over that amount taxed at the Federal Estate Tax rate.

If you own property in another state, a living trust eliminates the need to probate that property in that state. A living trust can immediately transfer management of your property if you become incapacitated either physically or mentally. There is no need to go to court to appoint a guardian or conservator.

If you choose to create a living trust, you should also create what is called a pour-over will. It provides for the distribution of any property that is not included in the trust. It will also allow you to name a guardian for any minor children.

Source: IRS

Conversion of Traditional IRA to ROTH Tax Treatment

Example # 1 – Full Conversion

Harold has two IRA accounts. One is a contributory IRA and the other is a SIMPLE IRA and the total value of both is $22,000. Since inception, Harold has contributed $9,000 as non-deductible contributions. He now decides to convert both IRAs to ROTH accounts. Because all his accounts are being closed, the $9,000 non-deductible amount is considered to be basis and is distributed tax free.

Example # 2 – Partial Conversion

John has three IRA accounts including a contributory IRA to which he has contributed $14,000 after tax, a SIMPLE IRA, and a rollover IRA. The contributory IRA balance is $29,000; the SIMPLE IRA balance is $23,000, and the rollover account balance is $60,000. Only the contributory IRA and the SIMPLE IRA are being converted to ROTH accounts. All three accounts must be taken into consideration in determining the taxable portion of the distribution:

$14,000 / ($29,000 + $23,000 + $60,000) = 0.1250 $52,000 x 0.1250 = $ 6,500 tax free distribution $ 45,500 taxable distribution Remaining basis in the rollover IRA $ 7,500

Example # 3 – Allocation of Basis

Rachel owns a traditional IRA with a value of $125,000 with a basis of $25,000. She takes a distribution of $125,000, converts $100,000 to a Roth IRA and keeps $25,000. Her basis of $25,000 cannot be attributed to the portion of the account that she keeps. The basis is allocated as followed:

$100,000 Conversions $ 20,000 Basis recovered $25,000 Kept $ 5,000 Basis recovered