STOCK MARKET VS TERROR TEMPLATE....Bob Brinker opening monologue comments: It was on last week's radiocast that we talked about terror attacks. Last weekend we were just coming out of the Friday night attacks in Paris.… We talked about terror attacks last weekend and their connection to the stock market, and we pointed out that the key to any terror attack in terms of the stock market is connected to the effect that it has on the economy. We've seen that over and over again. This is the template of the stock market versus terror.
Honey EC: I checked my last Moneytalk summary to verify that Brinker had his story straight about what he said. Nope! Methinks Mr. Brinker is not being truthful. The only thing he said that was even close to it was about the Fed's reaction it - whether or not they saw terror as "instability." Anyone who wants to read Brinker's comments from last week can do so HERE.
HISTORY OF TERROR AND STOCK MARKET.... BB continued: Go back to 2004. We saw.....Madrid Spain victimized by a devastating railroad train bombing. This was an attack that killed 191 and injured over 1800 people… Then we turn the page to July 2005 in central London, where the transit system was attacked – 52 civilians killed over 700 injured.… Then we turn the page to 2013, the horrific Boston Marathon bombings in April of that year – killing three, including an eight-year-old and two students – injuring 264 others.…
IN SPITE OF GRIEF IT'S ABOUT THE IMPACT ON ECONOMY.....BB continued: There are no words to describe the grief and compassion that one feels in the aftermath of such attacks. And we pointed out on Moneytalk that the economic impact of such attacks is a function of the impact they have on the economy.… Travel and leisure is going to be an area that is most vulnerable to this type of activity. However the rest of the economy seems to continue along without major disruption – based on what we've seen in these four attacks. And of course the stock market knows this and learns from this, and reacts accordingly. After the attacks in Madrid and London, we saw the stock market selloff and then recover in a matter of days. And even after the attack at the Boston marathon in 2013, we saw an initial selloff recover rather quickly.
PARIS ATTACK STOCK SELLOFF WAS OVER QUICKLY.....BB continued: And now in the case of the Paris attacks, we saw the selloff and it came quickly last Sunday night in the futures market – they sold off almost 1% – and then the market opened down ON Monday morning and then quickly recovered. So the model is the same in every case with a little bit of difference in the amount of time to recover – but not that much. If investors do not see a significant impact on the economy then the market simply returns to its ongoing track.… We saw this again last week – there was no meaningful impact to stock market investors. That's the way it's played out again and again.
FOMC ON COURSE TO HIKE RATES.....BB comments: This past Wednesday, we saw the minutes come forth from the most recent Federal Reserve meeting which was back at the end of October. The minutes showed that most Federal Reserve officials say that they think the economy is ready for higher rates when the FOMC meets in December.… Unless there are unanticipated shocks or disappointing economic data, the FOMC looks like it's on course to raise rates for the first time in nine years at the mid-December meeting.
FOMC NEEDS A LITTLE MORE CRITICAL DATA....BB continued: There is still a critical data point to come and that is the November employment report that will be released on Friday, December 4th – and the ADP employment report will be out two days earlier on Wednesday, December 2nd. The last jobs report was good for October – 271,000 new jobs, which is way above the consensus. The overnight federal funds rate has been at 0 to 1/4 of 1% since December 2008 – seven years.
STOCK MARKET GOES FOR RATE INCREASE.....BB continued: The stock market is interpreting the next rate increase as a vote of confidence in the economy… And that is certainly one of the factors that we have seen in the market since the minutes were released a few days ago. At the October Federal Reserve meeting, the committee expressed confidence in the health of the economy – that's important – because if they don't have confidence, they are not changing anything.
After all, the unemployment rate is at 5% – half of what was at the recession level of 10%.
YOU BETCHA IT'S BEEN A LONG TIME COMING.....BB continued: The Fed's been talking about doing this for a long time. For normalization to be complete, rates have to move up significantly over time. Normalization is not a 10 year Treasury yielding 2 1/4%, as it does now.
LONG-TERM BOND FUNDS ARE DOWN, HOLDERS WILL NOT BE HAPPY CAMPERS.....BB continued: And those with long-term bond funds will see the impact… over time. And they will probably be unhappy campers. Even this year, long-term bond funds are showing declines even though the real normalization process is ahead of us. Long-term rates have moved but not that much, but long-term bond funds are down.
Honey EC: Speaking of not being happy campers.....Anyone who followed Brinker's Marketimer advice to sell all Vanguard Ginnie Mae Funds (and others) back in 2013, are not happy campers if they realize the high opportunity cost to their net worth.
FOMC COULD HAVE LISTENED TO BOB'S NO-BRAINER AND AVOIDED THE DRAMA.....BB continued: They could easily have avoided all of this drama by using 1/8 of 1% increments in order to get the rate increase process underway. This was such an no-brainer – but they didn't do it. Ideas are very hard to come by sometimes. The Fed has been stuck in its age-old habit of using one quarter of 1% increment…
READY OR NOT, NORMALIZATION IS LIKELY ON ITS WAY.....BB continued: So it certainly appears that it will be one quarter of 1% at the mid-December meeting if the decision is made to raise rates at that meeting. And if the economy continues to grow, even at a moderate clip, you can expect additional rate increases next year – at a gradual pace as long as inflation stays low.
Interesting call of the day: Caller Gary from Centerton said: "I'm 69 years old, I drive a truck. I'm still working… My wife and I have $95,000 in cash in a safe deposit box and $25,000 in savings and checking. I have a mortgage at 4 1/2% – approximately a $60,000 balance on it. I was wondering since its money is in cash – it might be an issue as far as scrutiny from the IRS as to where it came from. Should I pay off my mortgage? Which your suggestion?"Honey EC: I'm not sure that Brinker gave Gary the correct advice on his cash in the safe-deposit. Maybe someone knows for sure, but I found this info on ZACK'S "Federal law allows you to withdraw as much cash as you want from your bank accounts. It's your money, after all. Take out more than a certain amount, however, and the bank must report the withdrawal to the Internal Revenue Service, which might come around to inquire about why you need all that cash." It's possible that if he plunks down $60K cash for his mortgage, that the IRS may well take a look at it since there is obviously no record of where it came from.
BB replied: I guess the reason that I probably would not be worried about scrutiny is you have worked throughout your lifetime to accumulate these assets. There's really no flag there that I can see. Do you see a red flag there somewhere?
Caller: "I just know that anything over $10,000 cash, they send the IRS and notification as a policy, and I did note that was can have an effect on the situation or not."
BB replied: It is true that records are kept on bank transfers starting at the $10,000 level. However you're talking about the fact that you have saved money, and I don't see any connection to that…This is your life savings so I don't see how anybody can question the fact that you have life savings.
FRANKJ'S SUMMARY OF GUEST-AUTHOR
The third hour guest on today’s MoneyTalk was Robert Pozen co-author of The Fund Industry: How Your Money is Managed (Wiley Finance) (His co-author is Theresa Hamacher).
Bob kicked off the interview at 3:15 by asking him why he wrote this book. The guest said it’s been 4-5 years since the first edition and there have been enough changes in the fund industry to warrant an update.
Bob and the guest first explored the question of loads and fees. Mr. Pozen said the number of no-load funds has gone up and the number of load funds has decreased. He views the load as what you pay for financial advice (in choosing funds). Bob asked, “Isn’t it possible that an advisor will steer a client into high load funds?” The guest said this was possible but there are more and more “fee based” planners who will use no-load funds and then charge a percentage for managing the client’s money.
“Ultimately you have to trust your advisor.”
When does indexing make sense and when do managed funds make sense?
The guest said that for big cap stocks, indexing makes sense. He touched on this later in the interview pointing out that there is so much information known about these stocks, it is “absorbed immediately” into the price and active managers have little or no advantage. On the other hand, he cited several areas where he believes active funds make sense: small caps, international, emerging markets and high yield. He didn’t specify whether he meant high yield bond funds or high (dividend) stock funds.
Bob contrasted the guest’s viewpoint by referring to a batting order of index-oriented heavy hitters who have been guests on the show: Charles Ellis, Larry Swedroe, William Sharpe, John Bogle and Burton Malkiel. The guest stuck to his guns, reiterating that an index fund of large caps can be a core investment with actively managed funds representing certain styles as satellite holdings.
Next, Bob and Mr. Pozen spent time kicking around the differences between mutual funds and exchange traded funds (ETFs). Regular passengers on the StarShip could probably write this next part … the differences.
- ETFs trade in real time. Mutual funds settle at the end of the trading day, 4 pm.
- You may or may not pay a brokerage commission to trade an ETF.
- ETFs (so far) follow a particular index – in that respect they are very similar to mutual funds.
- And a difference I would add: there may be a bid/ask spread when you trade.
- ETFs tend to be more tax efficient because actively managed mutual funds will sometimes make a capital gains distribution late in the year if they have had to sell holdings to make good on redemptions. Even if you haven’t sold any fund shares, you’ll get hit with this gain and if it is in a taxable account, you’ll need to report it.
Almost all followed broad indexes at the start, but with the proliferation of ETFs the focus has gotten pretty narrow for some. Active management is coming to the ETF world. You’ll still be able to trade during the day but the price you get will be settled at 4 pm, like mutual funds. Bob then asked whether actively traded ETFs will experience a discounted net asset value (NAV) like some closed end funds? He kept on this after the break and finally Mr. Pozen said, “No,” adding that he did not think CEFs were good for individual investors.
The guest gave his perspective on another financial industry product, the Target Date fund, common in 401K accounts. If you are 15 years from retirement, you might invest in a Target Date 2030 fund. Mr. Pozen said some investors don’t understand these well enough. They think because they shift to bonds as the target date approaches, you can’t lose money. You can indeed lose money if the market tanks, the stock component of the fund will tank.
Who manages the fund makes a difference. Two different funds, both targeting say, 2030 might have different “glide paths” according to the fund manager’s outlook for what proportion of the fund should be in bonds. He referred to this type of investment as a form of “market timing.”
Ed. Note: We do not know if Bob winced at the reference to market timing – maybe not since he hasn’t done any in about 84 dog years.
More discussion summarized in bullet points:
- The guest discussed beta and alpha.
- More individual financial planners are moving to the fee-based model.
- Robo advisors are good for small investors who need help but aren’t attractive to the retail planner type.
alternative funds became popular because they had some of the same
features as hedge funds. Performance has not been “that great.”
- An ETF will be about as tax efficient as an index mutual fund, and more tax efficient than an actively managed mutual fund.
- When index funds constitute 90% of invested money and actively managed funds 10%, the actively managed funds will outperform.
Bob wrapped up at 3:52 pm.
JEFFCHRISTIE'S MONEYTALK FINAL EXAM QUESTION:
Caller Carl from Chicago said he has been listening to Bob since:
A) The Dow first hit 1000.
B) The Cubs won the world series.
C) We found out the chocolate was good for you.
D) Hector was a pup.
Los Angeles. KABC 790. Moneytalk plays two hours later in the evening. They podcast and ARCHIVE podcasts.
(summary posted at 6:50pm PT)