Financial Forum - October 2020
Market Commentary – Stages of the 2020 Stock Market
Life has its seasons, or perhaps, better put, its stages. For example, a little over a week ago, we switched from summer to fall. There are seven stages to the human life cycle – beginning with infancy and finishing with old age, or more poetically put, “The senior years.” Psychiatrist Elisabeth Kübler-Ross is known for her work evolving around the five distinct stages of grief after the loss of a loved one: denial, anger, bargaining, depression, and finally acceptance. On Wall Street, it seems as if every quarter has been marked by its own stage, as stocks suffered the quickest bear market in history, returned to bull-market territory, and then dipped back into a correction, as September lived up to its reputation as the worst month for stocks. The major indexes suffered their first decline since March and their worst September in nine years. I would label this year’s market stages as follows:
- First, despair in Quarter 1 (Q1), as stocks saw the biggest declines since the financial crisis, with the S&P 500 falling more than 30% from all-time highs as the novel coronavirus put most of the world in lockdown mode while also straining the healthcare system.
- Then, hope in Q2, as Fed and government stimulus stabilized the system and the U.S. and global economies began to slowly reopen.
- Next, elation in Q3, as stocks surged on a gathering economic rebound combined with continued Fed stimulus and vaccine hopes, and the S&P 500 rocketed to fresh record highs – a feat once thought impossible back in Q1.
- Now, some trepidation as we enter Q4, because over the next three months some of the biggest issues facing this market will be decided and the market consequences could be significant. By year-end, we should know:
- Who will be our next President? If the election is contested and we don’t know the outcome until later in the year or possibly next, this could cause severe market volatility, making Bush v. Gore look like a pillow fight, relatively speaking.
Will we get another spike in Covid-19 cases as we enter flu season and, if so, will parts of the economy have to be shut down again? Currently, daily coronavirus case counts are on the rise in 30 states.
- Will a vaccine be approved in October/early November and ready for widespread distribution before the end of the year or early next year?
Will Congress pass another stimulus bill? House Speaker Pelosi and Treasury Secretary Mnuchin have been working behind the scenes to get a coronavirus stimulus bill passed.
Bottom Line: Whether or not the economic recovery continues, or stalls, will mostly depend on the above factors. We wrote last quarter about the disconnect between Main Street and Wall Street and that disconnect continued in Q3. While Main Street continues to suffer with high unemployment, corporate bankruptcies, struggling state and local government budgets, etc., the stock market continues to get more expensive. The stock market’s price/earnings ratio is within the top 10% in history, while the economy is among the worst 10%, perhaps even its worst 1%. Eventually, these discrepancies will have to be resolved.
Wealth Management – Should You Have a Roth Conversion Strategy?
Consider the following:
- The U.S. federal debt is now north of $26 trillion and rising. Eleven years ago, it was only $10 trillion.
The above numbers do not include local and state government debt, private and business debt, or the estimated $100 trillion of unfunded liabilities at the local, state, and federal levels, which, at some point, are going to have to be paid for out of current revenues.
I bring these points to your attention for two reasons. First, from an economic standpoint, unproductive debt is a constraining factor on growth. The more we increase our debt, the more difficult it will be to grow our way out of our debt problem. To prove this, all we have to do is look at Japan and Europe – two places with larger debt ratios and lower growth rates than ours. This could have a chilling long-term effect on corporate profits down the road, which would be a drag on stock prices. Secondly, I believe there is a good chance that because of our debt problems, we will also follow Europe and Japan and raise taxes in the future. In other words, income tax rates could be at generational lows, thus making a Roth conversion potentially beneficial.
Taxes, taxes, taxes…The first aspect of a Roth conversion to consider is the taxes you will have to pay on the funds converted. (Remember, converting to a Roth is a taxable event, but if certain requirements are met, all future withdrawals are tax-free.) Therefore, if you decide that a Roth conversion strategy makes sense for you, it is important to be able to pay the taxes due on the conversion from sources other than from the IRA/401(k) you are converting. Additionally, because you must pay income taxes at conversion, you should know what tax bracket you’re in today, as well as make assumptions about your tax rate in the future. Obviously, if you’re in a higher tax bracket today than you expect at retirement, you may not want to convert. However, if you expect to be in a higher tax bracket down the road (very possible given the country’s looming debt obligations), then conversion probably makes sense. Of course, no one has a crystal ball and Congress could also change the rules on taxation of Roth accounts.
Bottom Line: The decision on whether to convert (or partially convert) your traditional IRA or 401(k) plan to a Roth account is one filled with variables, uncertainty, and guestimates. However, it’s always good to make informed decisions and, if you have any questions about what’s best for your situation, we’re here to help.
Quarterly Thought – Doubt
“Doubt is not a pleasant condition, but certainty is absurd.” …Voltaire
This observation certainly applies to the current state of affairs around the globe. Have a great week and stay safe!
Pinnacle Wealth Management Group, Inc.
Securities offered through Private Client Services, Member FINRA/SIPC. Advisory products and services offered through Pinnacle Wealth Management Group, Inc., a Registered Investment Advisor. Private Client Services and Pinnacle Wealth Management Group, Inc., are unaffiliated entities.