Resilient Economy Persists Despite Market Volatility

WOT Blog Graphic Template 8.21.2019.png
  • Volatile Markets, Steadier Economic Data

  • Capital Gains, Taxes and Knowing When to Sell

  • High-Quality Bonds Can Still Buffer

  • Financial Planning Advice: Buying a Second Home

  • Looking Ahead to Home Sales, FOMC Minutes and More

August 16 marked the close of the most volatile week the markets have experienced all year. On Monday, the trade war with China reignited and stocks dropped like a stone. On Tuesday, the trade war was off—or at least delayed until December 15 to give holiday shoppers some relief. Stocks climbed back. And Wednesday, the bond market appeared to signal recession, setting off an avalanche in the Dow, which fell more than 800 points (or 3%), its deepest one-day drop in 2019. Thursday, unexpectedly strong earnings from Walmart helped nudge the markets up for the day and they recovered some of Wednesday’s losses. 

Despite all the tumult, markets remain well into positive territory in 2019. For the year through Thursday, the Dow Jones Industrial Average and the broader S&P 500 have returned 11.4% and 15.1%, respectively. The MSCI EAFE index, a measure of developed international stock markets, is up 6.9%. As of Thursday, the yield on the Bloomberg Barclays U.S. Aggregate Bond index has fallen to 2.17% from 3.28% at 2018’s end. On a total return basis, the U.S. bond market has gained 8.8% for the year.

Volatile Markets, Steadier Economic Data

Investors should have no doubts after this week: On a day-to-day basis, the markets are more prone to rumors than facts. If you’ve been watching the financial news channels, you’ve seen lots of traders running around the exchange floors and heard plenty of breathless analysis of the Treasury bond yield curve along with calls for recession.

But theories about the yield curve may be the least of our causes for concern. Protests in Hong Kong continue, increasing the potential for market shocks. Trade tariff flip-flops and policy-by-tweets increase uncertainty rather than allaying fears. With Germany’s economy having contracted in the second quarter, the whole of Europe is close to tipping into recession.

But despite what you see on TV, there’s little chaos here at home. New unemployment claims increased slightly last week but remain near historic lows. U.S. productivity went up at a faster pace in the second quarter than expected. And retail sales accelerated in July, in the strongest month since March.

While policymakers at the Federal Reserve can’t save the U.S. economy if the world recesses, they can help deflect the brunt of such blows. And though we may be creeping closer to a global recession (something we could say just about any time growth slows), we’re not there yet. Given the relatively positive domestic economic data we’ve seen recently—as well as the data points mentioned above, the Fed should be able to defend our slow-growth, not no-growth, economy for a while yet. Moody, momentum-driven markets can swing both ways.

Capital Gains, Taxes and Knowing When to Sell

Though the data says we’re not yet in recession, it’s certainly true that this week’s headlines have been far from comforting. But does that mean now’s the time to get out of the stock market?

Since we don’t think it’s possible to accurately time the market, our position has always been that sticking with a disciplined, well-defined investment strategy is key to long-term profits.

Since we don’t think it’s possible to accurately time the market, our position has always been that sticking with a disciplined, well-defined investment strategy is key to long-term profits. That said, even the most stalwart investors may at times consider selling and booking profits when fears overwhelm them. If this sounds like you, here are a couple of points worth considering before making such a move.

First, the stock market regularly goes through periods of volatility, and uncertainty waxes and wanes with the news cycle. On average, the stock market tumbles 14% intra-year. If 2019 proves to be an average year, then you could see the S&P fall to about 2,600—an additional 8.5% decline from Thursday’s close—and that would be entirely, totally, completely average.

Second, selling equities after a 10-year bull run means you’re almost certainly going to be selling at a gain, which means you’ll owe taxes on those profits. After paying your taxes, you’ll have less money than you did before you sold—and when conditions stabilize and you’re looking to reinvest, you’ll have a lot of ground to make up.

One question you need to answer is: What’s the gain you’ll need to earn to return to where you started? The chart below shows the impact of deducting capital gains taxes for a range of returns.

Note: Chart assumes 20% capital gains tax rate and no state or local taxes.  Source: Adviser Investments.

Note: Chart assumes 20% capital gains tax rate and no state or local taxes.

Source: Adviser Investments.

Let’s say you invest $100 and it grows by 50% to $150. If you cash out the $50 you’ve gained and pay a 20% capital gains tax rate, you’ll be left with $140—$40 in cash and $100 in the account. Once you reinvest, you’ll need a 7.1% return on the $140 to get back to where you were before you traded. If you sold your holdings at a 100% gain, meaning you doubled your money, you’ll need an 11.1% gain.

The bigger the gains you have now, the bigger the return you’ll need to recover those IRS payments. And remember, these figures ignore any state or local taxes you’ll owe, making the recovery of profits needed even greater than the chart suggests.

At Braver Capital, we understand that every investor’s risk tolerance is different. Please contact your portfolio team if you have any questions about how your investments are positioned to handle a downturn. We’re happy to walk you through the numbers and discuss what options may suit you.

High-Quality Bonds Can Still Buffer

Low yields and yield-curve inversions may be the talk of Wall Street, but bond funds are still playing their role for investors like us—acting as the ballast that helps keep a portfolio steady when stocks turn stormy, as they did earlier this week.

Higher-quality bonds, even with their lower yields, did their job, buffering investor portfolios from heightened stock market volatility. U.S. Treasurys, the world’s go-to asset class in times of worry, returned 1.4% for the week (through Thursday) while the broader bond market returned 1.0%. Investors with allocations to bonds may not have completely escaped the week’s equity market selloff, but having a bond allocation likely blunted its effects. 

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Financial Planning Advice: Buying a Second Home

As summer wanes, many vacationers start to wonder what it would take to turn their favorite mountain, beach or lake home into a permanent family retreat.

Of course, buying a second property could have a serious impact on your finances. Before pulling the trigger, ask yourself the following questions:

Who will use it? Will the property be solely for your use, or do you plan on renting it out? Renting can defray costs, but don’t underestimate the time, hassle and expense of being a landlord. The need to hire a local property manager or professional cleaning staff can put a serious dent in the profits from any rental income. Plus, tax laws are different for rental properties than they are for those used solely as second homes.

How will I pay for it? We generally advise people pay off the mortgage on their primary home before buying a second property, even if they plan on renting it out. Demand for vacation rentals can be unpredictable, making a second home purchase a risky one if you need rental income to make the numbers work.

Do I understand the total costs? A second property will add a slew of new fixed expenses to your budget: Property taxes, insurance payments, mortgage payments, maintenance costs and utilities are all items you should have solid estimates for when considering a purchase. It’s also wise to allow for a rainy-day fund for unexpected expenses that pop up.

Have I priced other options? How many weekends and vacation days will you realistically be able to spend in your new place? Compare ownership costs with costs for a similar rental in the area. Continuing to rent may prove a more affordable, flexible and less stressful alternative.

Can I still meet my financial goals? Making room in the budget for a second home shouldn’t derail your other long-term goals, like paying for college or retiring.

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Looking Ahead to Home Sales, FOMC Minutes and More

Next week’s slate of reports will be light: We can expect existing home sales, manufacturing and service sector purchasing managers indexes, leading indicators and the Federal Open Market Committee (FOMC) minutes from July’s interest-rate-cut meeting.

If you’d like to learn more about our tactical or fundamental strategies, please contact Steve Johnson at 844-587-7393 or info@bravercapital.com.

Please note: This update was prepared on Friday, August 16, 2019, prior to the market’s close.

This material is distributed for informational purposes only. The investment ideas and expressions of opinion may contain certain forward-looking statements and should not be viewed as recommendations or personal investment advice, or considered an offer to buy or sell specific securities. Data and statistics contained in this report are obtained from what we believe to be reliable sources; however, their accuracy, completeness or reliability cannot be guaranteed.

Our statements and opinions are subject to change without notice and should be considered only as part of a diversified portfolio. You may request a free copy of the firm’s Form ADV Part 2, which describes, among other items, risk factors, strategies, affiliations, services offered and fees charged. 

Past performance is not an indication of future returns. The tax information contained herein is general in nature, is provided for informational purposes only, and should not be construed as legal or tax advice. We do not provide legal or tax advice. Always consult an attorney or tax professional regarding your specific legal or tax situation. 

Companies mentioned in this article are not necessarily held in client portfolios and our references to them should not be seen as a recommendation to buy, sell or hold any of them.

 © 2019 Braver Capital Management, an Adviser Investments, LLC company. All Rights Reserved.