Provident Investment Management

News & Insights

Just Scale, Baby

Our neighbors recently engaged in a longtime summer tradition, the lemonade stand!  It was well done with homemade signs and cheerful service.  The price these girls asked for a cup of lemonade was in line with the current lemonade market, though when I think back to my youth a quick calculation would indicate we should all be glad the Fed uses the PCE Index instead of the Neighborhood Lemonade Index in gauging inflation.  Otherwise, we might be looking for a return of the hawkish Paul Volcker as Fed Chairman.

 The stand reminded me of my own occasional foray into the business as a child.  I would guess my experience mirrored your typical lemonade stand—tremendous excitement when you get a customer, but painfully long intervals between transactions.  Usually after a couple of hours I’d lose patience and close up shop.  One day I had an idea to drive more traffic.  I would sell a better-known product at a heavily discounted price!  There was a fresh case of Coca-Cola in the garage that my parents had recently purchased, so the timing could not have been better.  With a superior branded, packaged product, I set up shop and got to work selling cans of Coca-Cola below cost.  This actually worked great for me—it was pure profit.  However, it was obviously not so great for my parents, who served as my unwitting venture backers supporting a highly flawed business model.

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October Investment Comments

From listening to the media, it is hard to believe the market is again flirting with all-time highs.  An “inverted” yield curve, trade policy uncertainties, overseas economic weakness, and always-present political instabilities, such as the recent attack on Saudi Arabian oilfields, should surely be enough to make anyone run for cover.

 But these concerns don’t seem to be holding back equity investors.  The forward 12-month P/E ratio for the S&P 500 is 16.8, just slightly ahead of the 5-year average of 16.5 and about 14% above the 10-year average of 14.8, a period that includes very weak earnings from 2009 and 2010.  Further, unlike a year ago, analysts aren’t expecting double-digit earnings growth.  For calendar years 2019 and 2020, earnings are expected to grow 4.3% and 5.6%, respectively.

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Rich Kid Redux

In my March Viewpoint I asked readers to please share ideas and anecdotes about how money has affected their families.  My goal is to turn that feedback into a short book.  I think I have reasonable ambitions for the project.  This won’t be the next Harry Potter, and probably not even another The Millionaire Next Door, but I think there could be a gap in the market for a financial wisdom book specifically targeting an affluent audience.  With your help my project is moving forward, and this month I’m circling back with a progress report.

 I received some terrific feedback.  Thank you.  It’s not too late to contribute, by the way!  Just under 20 responses came by phone and email, slightly beating my minimum goal of 15.  Of course, quality matters more than quantity, and many responses were extremely—pardon the pun—rich in insight.  If I count the most thoughtful responses double or triple, then the volume of feedback looks a lot more impressive.  I still owe a few of you follow-up emails or phone calls, which should contribute more to my volume of notes as well.

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September Investment Comments

Cautionary Signs or False Signals?

The 30-year Treasury bond recently yielded just over 2%, an all-time low.  Think about it:  investing one’s money for three decades for a negative return after taxes and inflation are factored in.  Usually long-term Treasuries perform well during periods of economic uncertainty, especially at the onset of a recession.  That’s the initial message investors perceive from this low bond yield.

 Another cautionary sign is that the Treasury yield curve is partially “inverted.”  A “normal” yield curve is upwardly-sloping, meaning that investors demand a higher yield in exchange for taking on the risks of investing over a longer period of time.  The 30-year Treasury typically yields more than the 10-year, and the 10-year more than the 2-year or a 90-day Treasury bill.  An inverted yield curve occurs when the opposite is true, that short-term Treasuries pay better than long ones.  This is rational only when the outlook is for lower interest rates as long-dated bonds will appreciate more than shorter bonds when interest rates fall.  Recently, shorter maturities like the 2-year and 5-year Treasury and the 90-day bill yielded more than a 10-year Treasury.  The 30-year bond still yields about half a percentage point more, hence the term “partial inversion.”

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What the Proposed SECURE Act Might Mean for You

In last month’s Viewpoint, Dan Krstevski outlined Individual Retirement Account (IRA) distribution rules and alluded to legislation making its way through congress called the SECURE Act.  SECURE stands for “Setting Every Community Up for Retirement Enhancement.”

 We don’t usually like to talk about pending legislation in Washington, but almost all the changes to 401(k) and IRA retirement saving plans contemplated within the legislation enjoy strong bipartisan support.  The House passed the SECURE Act on May 23rd by vote of 417-3.  While not yet taken up in the Senate, support for the legislation is nearly universal.  President Trump has also expressed his desire for these retirement changes.  The late Steve Jobs used to say, “It’s not done until it ships,” which is quite true in this day of divided government.  However, we feel the changes contemplated by the SECURE Act are significant enough that they may impact your retirement and estate planning decisions.

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August Investment Comments

A famous investor once said, “Most of the time the Fed is not that important; occasionally it’s the only game in town.”  While the Fed is not the only thing that matters in the current environment—trade, for one, is another notable factor driving markets—one could certainly make a reasonable case that it has been the primary influence on market performance since the back half of 2018.  Last year, markets sold off following the Fed’s September 2018 meeting when, for the eighth time since 2015, it increased its target overnight lending rate and no longer referred to its own monetary policy as “accommodative.”  Subsequent to that meeting, Chairman Jerome Powell also stated his belief that the Fed was still a “long way from neutral” (i.e., rates that are neither stimulative nor contractionary), implying several more rate hikes were on the way and sending markets lower.

 In December, the Fed again increased rates while also signaling two rate hikes for 2019.  This was more aggressive than the market was anticipating, particularly in light of global economic uncertainty and ongoing trade disputes.  In response, markets took another leg down, declining a total of nearly 20% between the end of September and the Christmas Eve low.  For the year, the S&P 500 fell 4.4% despite earnings growth of approximately 20%.

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Individual Retirement Account Distribution Rules and Requirements

With an effort to increase the American retirement savings rate, Congress established Individual Retirement Accounts (IRAs) through the Employee Retirement Income Security Act of 1974.  IRAs have greatly advanced since their creation, allowing for tax-deferred, and in some cases tax-free, growth of retirement assets.  Also, they allow greater contribution limits and catch-up contribution provisions for older participants.

 It is easy to find advice on the contribution rules for IRAs, with little emphasis on the withdrawals.  That is why we will spend our time focused on the distribution rules of assets from your retirement account. Whether you’re taking early withdrawals, normal withdrawals, borrowing or gifting from your accounts or have a required minimum distribution due, you need to be aware of the rules and requirements in order to avoid costly penalties.

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July Investment Comments

After ten years of mostly steady expansion, the industrial economy currently looks tired.  Transportation, energy, and basic materials stocks have been among the market’s worst performers in the past one and three months.  The statistics confirm investors’ concerns.  April’s industrial production estimate showed annualized growth of less than 1%, about half its previous pace.  In May, the manufacturing Purchasing Managers’ Index (PMI) logged its worst monthly reading since 2009.  Statistics are noisy estimators, but it would be nearly impossible to generate data that bad purely by chance.

 Yet non-industrial indicators continue to hold up.  Retail sales and consumer spending are advancing steadily.  Consumer confidence, surveyed by the University of Michigan, remains strong. Measured unemployment is just 3.6%.  A slowdown in the economy’s industrial “engine” would have signaled a wider recession historically, but the industrial cycle just doesn’t seem to matter like it once did.  The American worker and consumer is doing just fine thanks, steel or no steel.

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The Boys of Summer

My five-year-old recently started t-ball and the games have been even more fun to watch than I imagined.  The kids are young enough that they don’t bother to keep score and the concept is just to introduce the game and help teach the rules.  Despite the best efforts of parents and coaches, there is a delightful regularity with which things tend to go awry.  Seeing a baserunner chase a ball his teammate hit into the outfield is something that never gets old.  Also, if you’ve never seen an entire team in the field swarm to a ground ball, I would recommend you catch a local t-ball game.  It’s great to see the kids enjoy themselves and full of entertainment for the spectators. 

 Baseball and investing have long been linked.  Nobody has done more to highlight the ties between the two than Warren Buffett, who hardly can conduct a single interview without making a baseball analogy.  He often talks about “no called strikes” in investing and waiting for the “fat pitch.”  My favorite baseball quote of his refers to focusing on underlying business performance instead of on stock price, “in investing, just as in baseball, to put runs on the scoreboard one must watch the playing field, not the scoreboard.”

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June Investment Comments

After the market hit all-time highs in late April, May marked the return of volatility as trade negotiations with China broke down.

 It all started on Sunday, May 5th when President Trump issued a tweet indicating the Chinese had backtracked on already-negotiated promises to write into Chinese law changes covering areas like intellectual property, subsidies, and forced technology transfers.  China wanted to issue regulations to support these changes, but in the past regulations haven’t been enough to change behavior.  In response, Mr. Trump chose to increase existing tariffs on approximately $200 billion of Chinese goods from 10% to 25% starting June 1st.

 It appears the reason for China’s change in position stems from misinterpretation of various comments from the President as well as internal Chinese politics.  Mr. Trump has called for interest rate cuts from the Federal Reserve, a request that usually indicates economic weakness.  Public comments that trade negotiations were going well and belief that an agreement was imminent gave China the impression that Mr. Trump had to make a deal.  Further, hard-liners within the Communist Party resistant to market reform expressed their displeasure at the proposed trade agreement.

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A Frank Discussion About Aging

Two recent developments have placed the financial status of older Americans in sharper focus.  One development was a report from trustees for Social Security and Medicare.  In 2020, Social Security revenue will be insufficient to pay benefits, requiring the fund to dip into its reserves for the first time since 1982.  By 2035, the reserves will be depleted unless steps are taken to shore up Social Security.  Beginning that year, according to projections, Social Security benefits would need to be reduced to the level of payroll tax receipts.  Medicare is expected to exhaust its reserves in 2026.

After the previous occasion when the Social Security Administration had to dip into reserves to pay benefits (1982), Congress and the President worked together to shore up the fund.  The payroll tax rate was increased, benefits became taxable to some recipients, and a program was put in place to gradually increase the eligibility age for full benefits.  The tax rate was raised a couple more times, most recently in 1990.  That was almost 30 years ago!

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May Investment Comments

After a strong start to 2019, markets have recovered from the significant declines experienced in last year’s fourth quarter.  Much of the rebound can be attributed to the relatively abrupt pivot by the Federal Reserve at the start of the year to be patient with further rate increases, versus a prior indication of multiple expected rate hikes in 2019.  At its most recent meeting in March, the Federal Reserve went a step further by indicating it no longer anticipates raising rates at all this year, while also pulling back on plans to shrink its balance sheet.  These moves were well-received by the market, which was somewhat perplexed by the Fed’s prior bias toward raising rates in what looked to be an environment of slowing global growth and well-contained inflation.

The U.S. economy is expected to grow in 2019, but at a slower rate than the 2.9% growth posted a year ago.  The Atlanta Fed’s GDPNow estimates Q1 growth of 2.3% and consensus expectations for full year GDP growth are closer to 2.0%.  This slowdown isn’t necessarily cause for alarm, as the data point to an environment that remains positive.

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Charitable Giving

In December 2017, the Tax Cuts and Jobs Act became law.  This new law created sweeping changes to the tax code that has impacted the landscape for charitable giving.  For example, the standard deduction has been greatly increased, whereas some itemized deductions have been reduced or eliminated.  While tax deductions are not the sole motivating factor behind charitable giving, they are a nice added benefit.  If you itemize your deductions instead of taking the standard deduction, they can help reduce your tax bill.

 I know by this time of the year tax fatigue has set in and many households have closed the books on the 2018 tax year.  This is also a great time to evaluate your charitable giving in 2018 and decide whether you need to make any adjustments for 2019.  Asking yourself some simple questions can help narrow the appropriate charitable giving options in order to maximize the impact of your gift.  For example, are you 70 ½ and own a Traditional IRA or an Inherited IRA?  Do you own highly appreciated stock in a taxable account that you would like to sell?  How much are you planning to give?  Do you anticipate exceeding the standard deduction limit in 2019?  The chart below lists the standard deductions by filing status.

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April Investment Comments

“With our policy rate in the range of neutral, with muted inflation pressures and with some of the downside risks we’ve talked about, this is a good time to be patient,” according to Federal Reserve Chairman Jerome Powell.  Comforting statements like this have helped restore investor confidence just as Powell’s confusing statements last year may have triggered the fourth quarter market stampede.  It is not unusual for new Fed Chairpeople to get their messaging wrong at first.

 At this point last year, investors were concerned about rising inflation and higher interest rates.  Fast forward twelve months and it appears that we might be in that fabled Goldilocks economy – not too hot, not too cold.

 U.S. economic growth in 2018 was the highest since before the Great Recession.  The current year is likely to be lower due to sluggishness outside the U.S. and the lack of incremental stimulus from tax cuts and extra government spending last year.  Some economists peg growth below 2% while many have it in the mid 2’s for 2019.

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Rich Kid Poor Kid

Dear Clients,

I have a favor to ask.  If you have a minute and the inspiration strikes, would you please reach out to me with any anecdotes or observations about how money has affected your family, for better or worse?

I’m particularly interested in relationships between parents and kids, something from your own childhood or something you encountered while raising your kids.  Don’t feel constrained though because relationships with siblings or extended family are complex and interesting too.  Anything goes.  You can anonymize your feedback as much as you like, although I’d point out that we never share our clients’ personal information anyway.

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March Investment Comments

So far, 2019 has been kinder to investors than was the finish to 2018.  A combination of stronger-than-expected earnings, a more accommodative Federal Reserve, and a strong labor market has supported the full recovery from December’s 9% loss for the S&P 500.

On the earnings front, results are coming in better than expected.  According to FactSet Earnings Insight authored by John Butters, fourth quarter 2018 earnings are projected to grow 13.3% for firms that make up the S&P 500 index.  This is a fairly solid reading as 66% of companies have already reported.  If this earnings growth rate holds it will mark the fifth consecutive quarter of double-digit earnings growth for the index.

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"Sell, Mortimer! Sell!"

The line, “Sell, Mortimer!  Sell!” comes from the iconic 1980s movie, “Trading Places,” where the film’s heroes, played by Eddie Murphy and Dan Aykroyd, get the better of villains Randolph and Mortimer Duke while trading orange juice futures contracts—which is yes, a real thing.  In the pivotal scene, Murphy and Aykroyd have duped the Dukes into thinking they received an advance copy of the government crop report indicating there will be an orange shortage, meaning the price of orange juice will go higher once the report is officially released.  The Duke brothers, believing they have an information edge, place bets on the price of orange juice going up.  When the actual crop report is released it indicates instead that oranges are plentiful, the price of orange juice futures drops like a rock and the Dukes realize they’ve been had.  In the panic to unload their position Randolph Duke directs his brother to, “Sell, Mortimer!  Sell!”

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February Investment Comments

Volatility returned to the stock market in 2018, ending the gentle melt up that investors had enjoyed.  The S&P 500 dropped at least 10% in three separate months last year—February, October, and December.  Stocks battled back bravely from the first two corrections, but a weak December finally torpedoed the S&P’s 2018 performance.  After a -9% showing in the final month, the index ended the year down 4.4%, breaking a nine-year streak of positive total returns.

From its September intraday peak to its December nadir, the S&P declined a hair more than 20%, the traditional line demarcating a bear market.  The index has since come back more than 10%.  If the rebound holds then we may have just experienced the shortest bear market in history, lasting only about 48 hours.  Traders sometimes speak of “purely technical” moves, and we have to say that an exactly 20% drop followed by a sharp rebound does suggest that something other than economic and business fundamentals took control of the joystick for a minute.

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Investors Need More Information, Not Less

President Trump often announces his policy interests through twitter.  Last August 17th he tweeted this:

“In speaking with some of the world’s top business leaders I asked what it is that would make business (jobs) even better in the U.S. “Stop quarterly reporting & go to a six month system,” said one. That would allow greater flexibility & save money. I have asked the SEC to study!”

It was later learned that the idea for dropping quarterly reporting came from a conversation with former Pepsi CEO Indra Nooyi that focused on ways to improve job growth.  Mr. Trump was quoted in the Wall Street Journal of semi-annual reporting: “I thought of it.  It made sense.  We are not thinking far enough out.”

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January Investment Comments

Investors hoping for a year-end rally have instead been treated to increased market volatility.  A near 5% decline in its first week was the market’s worst start to December since 2008, though this drop followed what was the S&P 500’s best week in almost seven years.  The recent turbulence is reflective of an environment where both market bulls and bears have valid arguments to support their stance.

Topping the list of current concerns is the U.S.-Chinese trade dispute.  The market initially celebrated what appeared to be a positive meeting between President Trump and Chinese President Xi Jinping following the G20 summit.  This meeting resulted in a 90-day postponement in tariffs on $200 billion in Chinese imports that were expected to jump from 10% to 25% at the start of the year.  However, the initial positive interpretation of the meeting was subsequently brought into question given reports of “significant differences” in the two governments’ versions of what was agreed upon at the dinner.  Markets also did not respond favorably to President Trump’s tweet days after the meeting proclaiming himself a “Tariff Man.”

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