FRIDAY’S BOUNCE BACK DOESN’T SAVE WALL STREET FROM WORST WEEK SINCE MARCH: Stocks rose about 1% on Friday, but that did not prevent major indices from experiencing their worst week in over half a year. As the Fed raises rates, risk-averse investors seeking dependable returns get pulled back into safer investments that are now giving off returns that are getting close to respectable. But, the Fed raising rates is nothing new, and yet sentiment turned fast, and the week turned our poorly.
WHAT HAPPENED?: Stocks dropped last week despite Friday’s bounce. What caused the drop in stock prices, and why was it so quick? One clue was that the downturn was led by tech stocks, and followed more broadly thereafter. But in general, traditional growth stocks were hurt the worst. Investors were jumping away from risk. Here are some of the factors that caused last week’s pullback.
Interest rates are rising. The primary cause was worry about rising interest rates. Historically low interest rates have encouraged investors to take on risk by piling into stocks, the only place, it seemed, to get a good return. Low interest rates have also encouraged business growth. The cheap debt trend is reversing, mostly for very good reasons. The American economy is strong, and the Fed is trying to keep inflation at bay. But higher interest rates worry investors and move risk-averse investors back into their safe, higher returning CDs. Strong economic news convinces those who are scared of higher interest rates that the Fed will keep going. If the economy grows too strong, too fast, the Fed will keep going with interest rate hikes. The economic news in the past week or so has been all good making investors fear that inflation will kick in and interest rates, by necessity, will have to rise. Fed Chair Jerome Powell stated last week that the Fed has a “long way” to go before rates are at “normal levels”.
Tariffs and Corporate Profits. Corporate growth has been a major factor in the rising stock market. Anything that reduces profit margins, and thus corporate growth, will cause investors to pause. Of course, rising interest will lower profits, but there are also concerns about tariff activity and rising labor costs biting into this growth.
Corporate Stock Buy Backs. When companies buy their own stock back, it generally increases the stock price. Goldman Sachs predicts that corporations will buy back nearly $800 billion of their own stock this year, a 44% increase from last year. This is a major boost for those stock prices. However, prior to companies reporting their quarterly earnings, they are in possession of nonpublic financial information about their company, and they want to avoid any insider trading issues or perceptions. This week, as stocks were declining, corporations were not buying back their stock, which was one less set of brakes for this particular drop.
A SOCIAL SECURITY BOOST: Social Security benefits will increase by 2.8% in 2019. The contribution base will increase to $132,900, meaning that the first $132,900 in earned income you make will incur Social Security tax in 2019.
MORTGAGE RATES: According to Bankrate.com, 30-year mortgage rates last week moved up to 5.04% from 4.89% the week before.
TRADE TRAFFIC: One of the ongoing factors in stock market moves has been international trade and tariffs. The Port of Long Beach, long one of the key indicators of overall trade activity, reports that it just closed out its fiscal year (it ended on September 30) having handled the most cargo in a twelve month period ever. September was the second busiest month for the port in its history. According to its report, “Despite tariffs imposed by Washington and Beijing, international trade is showing resilience.” It could also be that trade speeded up in anticipation of tariffs and other trade-war related restrictions. We will see.
DONOR ADVISED FUNDS: We are utilizing these vehicles for clients more and more. Donor advised funds are registered as charities. Therefore, if you give money to a DAF, it immediately qualifies you for a tax deduction. Once you give money to a DAF, you cannot take it back. It is an irrevocable charitable gift. But the money you contribute is put into an account that you control. You manage the investments (or even better, we manage the investments for you). The money ultimately goes to the charities you choose when you decide. For example, I can give $10,000 to a DAF on December 31 and get a 2018 tax deduction. The money can sit, invested in a stock portfolio, or bond portfolio, or however I direct. On March 31, 2019, I can direct the DAF to send $1,000 to the Red Cross. I don’t get another $1,000 tax deduction. I already got the deduction in 2018. DAFs can be helpful if you have a year, with bonuses or some other one-time income source and you need more deductions. They can be useful now if your accountant tells you that, due to the new tax law, you need to “bunch” your charitable giving (more on “bunching” in a later email). If you have investments that you do not want to sell because of the capital gains tax they will create, you can transfer the investment directly to the DAF, avoid the capital gains tax, and use the DAF for your giving instead of using your taxed current income.