Saturday, May 4, 2013


From the Desk of Joe Rollins

In case you hadn’t noticed, the U.S. government is doing everything within its power to help you personally feel the wealth effect. There’s never been such a concentrated effort by our government to make the average American feel wealthier than they were last year. There’s a complete and total full-court press on increasing the net worth of American taxpayers, so you may as well enjoy it!

In the last 30 days, the rest of the world has gotten on the bandwagon. Japan is flooding its economy with money, and even European countries have cut interest rates and increased liquidity. There’s a very important reason all of these actions have been taken by these governments, as I will later explain.

April was another excellent month for investing, and for the first four months of 2013, investors couldn’t have experienced a better investing environment. After six months of great investing, I wonder about those clients with cash sitting in money market accounts earning practically nothing. Over the last six months, the S&P 500 is up 13.13%, and money sitting in cash has earned ZERO. There are also so many people who refuse to contribute to their IRAs early in the year and prefer to keep money in non-interest bearing checking accounts. The last six months have certainly proven that strategy to be wrong.

Interestingly, for the month of April, the S&P 500, the NASDAQ and the DJIA all had an impressive total gain of 1.9%. Not only was it an excellent month, it was also unusual in that all levels of stock ownership gained exactly the same amount during the month. April’s performance is a continuation of the excellent returns we’ve had thus far in 2013. For the four months ended April 30, 2013, the S&P is up 12.7%, the NASDAQ is up 10.6%, and the DJIA is up 14.1%. Even the smaller and more volatile small cap Russell 2000 index has had an excellent return thus far for 2013 of 12%.

All of these excellent returns likely prove for most investors that regardless of where you invested in the market during the first four months of 2013, you made an excellent rate of return. It also points out that if you hadn’t been invested, you would’ve earned nothing. This very important point is the basis for which I am explaining the wealth effect and why the government wants you to enjoy it.

Off and on since 2008, the Federal Reserve has been flooding the U.S. economy with excess liquidity. This excess liquidity is designed to inflate asset basis so that Americans can enjoy the wealth effect. The wealth effect has an enormous number of positive attributes to the U.S. government, and therefore, that’s the specific reason they want you to enjoy it.

We actually see the wealth effect at Rollins Financial up close and personal. It is amazing how often we receive phone calls from clients expressing their opinion that since the market is up, they would like to take money out of their investments to spend before it goes down. While on the surface that seems like a strange approach, it’s exactly what the government is trying to get you to do.

Money withdrawn from investments is usually spent on consumer goods – things like vacations, house repairs, and purchases of vehicles or other items – all of which create additional commerce. This contrasts directly to time periods when the stock markets are down. After the markets have been selling at discounted values, we almost never hear of anyone wanting to withdraw money from their investments for consumer goods. At that point, investors sit tight and let their investments recover.

A similar concentrated effort is now working in the real estate market. With interest rates approaching zero, the government is making the ability to purchase homes available to most anyone with a good credit rating – and that’s working!! For the first time in several years, real estate prices are starting to appreciate. In many cities, there’s actually demand far in excess of the supply of homes available for sale. There are two reasons for this shortage of houses: (1) existing homeowners are refusing to sell, either because they think there house is worth more or they are underwater and cannot sell without paying at closing, and (2) virtually no one is financing spec homes, so builders are precluded from building until they find a buyer willing to close the transaction.

The effect of the foregoing is that real estate values are going up. We all know from prior experience that as values go up, investors tend to use their homes as piggybanks; they will take out equity loans and repair the house, build a pool, or purchase a car. Each and every one of these events creates additional commerce and increases GDP, which the government desperately wants to happen.

The most important reason the government wants to create the wealth effect is that it creates an enormous amount of income taxes when wealth is traded in. For example, when you withdraw money from your investments – either from an IRA or to sell for a capital gain – income taxes are created, which funds the U.S. government. It’s no coincidence that the administration massively increased income taxes on capital gains for 2013 in full contemplation that gains would be realized with the upward movement of the stock market. Therefore, the wealth effect has many positive attributes: it creates a confidence level with consumers so they can spend more money; it creates commerce by encouraging homeowners to repair and build new homes; and it increases the value of real estate. Most importantly, however, it creates income taxes to fund the huge and unsustainable deficits created by our government.

As April showers turn to May flowers, the media is in a feeding frenzy regarding the old Wall Street axiom, “Sell in May and go away.” Every time that’s said, I always wonder where it is we should be going. Cash is currently earning nothing, a five-year CD pays below the rate of inflation (creating negative wealth), and bonds may be attractive, but they have a bigger risk factor than stocks with the increase in interest rates in the coming years. Anyone buying a 10-year Treasury bond at a current rate of 1.7% would essentially lock-in losses for the next decade. Since the other investment alternatives are virtually non-existent, I always wonder about the value of moving money to the sidelines when the potential for gains continues to exist going forward.

A few items that continue to encourage me and dictates that we stay invested through the summer months are as follows:

  • The GDP for the 1st quarter of 2013 was at 2.5%. While this isn’t sterling, it is an improvement over the 4th quarter of 2012. One of the advantages of the GDP being muted is that the Federal Reserve is unlikely to do anything with GDP being as anemic as it is and unemployment still sky high. As long as there continues to be a question about GDP and unemployment levels, there is no chance that the Fed will withdraw its stimulus from the economy.

  • This morning, the Department of Labor announced that the U.S. economy added 165,000 during the month of April. In addition, they announced surprising revisions to the two prior months, adding another 114,000 jobs. These aren’t blowout numbers, but they are still positive enough to encourage the economy. Unemployment has ticked down to 7.5% which is still very high for this point in a recovery, but it is still much better than it was 18 months ago. You may rest assured that the Federal Reserve will do nothing to withdraw the stimulus to the economy as long as the unemployment rate stays in the 7.5% range. While this is bad for the people looking for jobs, it is great for stock investors.

  • With all the talk about new taxes and other negatives for the economy, corporate earnings continue to be outstanding. It appears that the vast majority of the S&P 500 stocks are reporting that there will be a 7.8% increase in net earnings over last quarter. Further, it is anticipated that earnings will increase again in the 2nd quarter and that is in the face of huge tax increases on the average American. As I have pointed out so many times before, it is earnings that lead to higher stock prices, and as long as earnings are increasing, stock prices are likely to reflect that trend.

  • In summary, 2013 has been great so far and I do not anticipate any major forthcoming decline. While volatility will likely rear its ugly head, I still fully expect for the stock market to be higher at the end of 2013 than it is today. With interest rates paying practically nothing and almost no alternative asset class anywhere close to giving a reasonable rate of return, in all honesty, investors would be completely naïve to invest anywhere other than the stock market.

    If you would like to discuss your investments or discuss adding to your investments, please feel free to call our office and set up an appointment.

    As always, the foregoing are my opinions, assumptions and forecasts. It is perfectly possible that I am wrong.

    Best regards,
    Joe Rollins