February 2013 REMEMBER: ADVICE IS NOT A COMMODITY The JIM DUNN CONSULTING REVIEW james.h.dunn@ms.com 800 E 96th Street Suite 400 Indianapolis, IN 46240 As you can imagine, I am getting a lot of questions about the debt ceiling fight and the fiscal cliff, here are some thoughts. I feel it is a very similar situation as before the election. The market knew that the election was going to be close and it was. So Obama won and the market had anticipated that could happen. The market went down for a while then it went back up but was mostly a nonevent. Nancy L. Wallis Consulting Group Analyst nancy.l.wallis@ms.com Beth Sturgeon Senior Registered Associate elizabeth.a.haner@ms.com 317-818-7373 Ph What is the new reality; is uncertainty dying down????? fiscal cliff was very similar. The market knew the facts surrounding the negotiations including the lack of negotiations and discounted it. The Bush tax cuts expired, I was not expecting a strong reac- Some prognosticators had said the market would be down 1000-2000 points if Obama won. The market is a discounting mechanism. I did not think that a lot was going to happen and it did not. So the paradigm with the Notice how Federal outlays vs. Revenues has the widest gap since 1960. Source JP Morgan Asset Management. r-
Page 2 tion one way or the other and not much happened. Again the market discounting the event. About the Federal Deficit; The situation of a trillion dollar deficit is unsustainable long term in my opinion. Right now we are near 100% in debt compared to gross domestic product. Greece blew up when they were about 165% of GDP in debt. Source MSSB research insights 2/13/12. Japan, however, is currently over 200% in debt ( Source Below are some opinions by outside experts; From Erskine Bowles (Member of the President s National Commission on Fiscal Responsibility and co-author of the generally respected Bowles-Simpson deficit reduction plan) at his presentation at the Council on Foreign Relations in April of this year: 100 percent of the tax revenue that entered the Treasury in 2011 went out the door to pay for mandatory spending, such as Medicare, Medicaid and Social Security; and to pay the interest on our staggering $15.6 trillion in debt. That means that every single dollar we spent on everything else, including two wars, national defense, homeland security, education, infrastructure, high valued research and the like, was borrowed and, half of it was borrowed from foreign countries. The U.S. is now paying $250 billion a year in interest on the debt, and that is because, mercifully, interest rates are at historic lows If interest rates were normalized, the annual bill would be $600 billion a year. Mr. Bowles also offered an interesting example of the U.S. obligation, by treaty, to defend Taiwan if China were to attack it: There s only one problem with that, we ll have to borrow the money from China to do it. Byron Wien, a famous institutional investor, points out that in the year 2000, the national debt that we had accumulated over 200 years, was less than $6 trillion. Today it is more than $15 trillion it has gone up over 2.5 times in only twelve years.
Page 3 MSSB Advisor Insights Debt to GDP 7/13/2011) and their currency is still strong and their economy is sluggish but still functioning. So, as an advisor, it leaves me in the situation of being concerned. However, there have been a lot of things to be concerned about over the last 200 years and the economy continued to grow as have stock prices for the long-haul. So the dilemma is if we had managed the portfolios as if a crisis could be eminent, we would have been out of the market the whole 200 years. So the charge I have as your advisor, is to try figure out how far out into the future we are going to have an event. Right now I think it is several business cycles out and is probably a serious worry for our children and grand children. For now there are some big positives that many are ignoring. Before the election we did not know who the president was going to be, now we do. We did not know if we were going to have Obama care, Note that corporate cash is at record highs, where is that money going to go, Buy back stock? Raise dividend? Both could be good for the market.
now we do. We did not know what our taxes were going to be and we didn t know what the fiscal cliff negotiations would look like. Now we do, even though the uncertainty is not over on that part. That uncertainty definitely contributed to the market not having much momentum in either direction and keeping investors very concerned and on the sidelines. Look at the situation now. We know who the president is going to be, we know that we are going to get Obama care, we went over the fiscal cliff without anything dramatic happening. Now of course the debt ceiling will be next but we have been through that before. So the uncertainty is dying down. If you couple that with the fact that we have had record earnings, we have record amounts of cash on the sidelines, we have record low interest rates so that fixed income is not competing with stock prices and there is a decent chance that this could lead to some kind of move up in the market this year. The Fed has actually publicly stated that one of the reasons they are keeping interest rates low on fixed income investments is to try to drive investment money into the stock market. Note that the stock market earnings yield is more that the bond market for the first time in history. This is another clue that the market represents value.
Page 5 The other thing I would like to mention is that most everyone, is negative and concerned about taxes, the budget deficit, the dollar, inflation, etc. etc. etc. When the entire investment crowd is unanimous in thinking something is going to happen it almost never does. For example, when everyone was throwing money at the market convinced that the old economy was dead, like in March 2000, the market made a top. Conversely when everyone was scared to death in early 2009 thinking all the banks were going to fail, the market made a bottom, then had a very sharp move up. So, obviously, nobody knows what is going to happen but I am definitely keeping myself flexible in case this all works out for the better. So stay tuned we will be here to help you as the situation unfolds. In addition, we're going to have some important announcements to make about the additions to our team to help clients and their families and beneficiaries for the very long term. Stay the course! Best Regards from Jim. The views expressed herein are those of the author and do not necessarily reflect the views of Morgan Stanley Wealth Management or its affiliates. All opinions are subject to change without notice. Neither the information provided nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. Past performance is no guarantee of future results. Information contained herein has been obtained from sources considered to be reliable, but we do not guarantee their accuracy or completeness. Morgan Stanly Smiith Barney LLC, Member SIPC Jan/Feb 2013 1/13