IS THIS IT?

Our most recent newsletter indicated that a correction was likely.  Is the selling of yesterday and today the start of the long-awaited correction to the great start this year?  With just over an hour left in trading, a few significant trading levels have been breached.   For the S&P, the 20 day moving average at 1507 was crossed early in the trading session and the Dow has fallen below the psychologically important 14,000 level with yesterday's losses.  The S&P was below 1500 earlier today but is trying to rally back above that important level.  Often, the last 30 minutes of trading gives a good indication of where the market wants to go so we will be watching the close carefully.  The bulls will need to finish with some strength in order to quell the losses.  As we have discussed recently, a correction along the lines of 5-7% would be normal considering the recent advance and, indeed, would be healthy for the longer term prospects of the market as it would give a good entry point for some of the money still left on the sidelines. 

Many in the financial press are pointing to the release of the Federal Reserve minutes yesterday as the cause for the recent selling.  While the minutes were a little unsettling as some of the members indicated disagreement with the continued easy money provided by the Fed, we don't believe the minutes were all that significant but rather just a reason for those nervous about the steep rise in the markets to take some of their profits. 

Watch the close for whether or not the correction has started or if this is just a little profit taking. 

WHY ACTIVE MANAGEMENT?

In times when the market is moving up on a steady basis, we are often asked why not just use a buy and hold approach?  It is a very good question and one that the financial media often espouses.  It should be noted that the financial media is largely supported by the advertising dollars of the financial industry which would love nothing more than for investors to buy their funds and hold to perpetuity!  However, not to be completely jaded, let's take a look to see if the buy and hold mantra holds true in actual real life situations. 

Let's say that an investor has $100 to invest and an 8 year time frame.  Furthermore, let's assume that the markets follow the usual trend of 3 up years for every 1 down year.

The market returns are:

Yr. 1     10%
Yr. 2       5%
Yr. 3     15%
Yr. 4    -25%
Yr. 5     15%
Yr. 6       5%
Yr. 7      15%
Yr. 8     -15%

Adding up the returns it appears that you have made 25%.  However, the math works much differently.

Yr 1	$110.00
Yr 2	$115.50
Yr 3	$132.83
Yr 4	$99.62
Yr 5	$114.56
Yr 6	$120.29
Yr 7	$138.33
Yr 8	$117.58

In actuality, because of the effect of losses on the portfolio, the value has gained only 17.58% over the 8 years. Furthermore, it does not matter in which year the losses occur - the results remain the same.

With active management, the advisor seeks to capture some portion of the gains while avoiding the losses.  What would happen if an investment professional were able to capture 75%, 60%, 50% and 40% of the gains in the up markets while avoiding 75% of the down markets?


                      75%         60%         50%         40%

Yr 1	107.50	106.00	105.00	104.00
Yr 2	111.53	109.18	107.63	106.08
Yr 3	124.08	119.01	115.70	112.44
Yr 4	116.32	111.57	108.47	105.42
Yr 5	129.41	121.61	116.60	111.74
Yr 6	134.26	125.26	119.52	113.98
Yr 7	149.37	136.53	128.48	120.82
Yr 8	143.77	131.41	123.66	116.28

As you can see from the table above, capturing as little as 40% of the gains in the up years would yield almost the same level of portfolio gains over the 8 years as a buy and hold investor.  Furthermore, a huge benefit of the active management approach would be the lessened stress and ability to sleep through the bad markets without seeing your portfolio drift down 10, 15 or 25% not to mention the unfortunate investor that had a need for his/her assets in the midst of a bad year like year 4.  Oftentimes, a picture is worth a thousand words.

 


So to answer the question posed by this post - why active management?  Why would an investor choose any other way?  Over time the benefits speak for themselves and Bills Asset Management has a 20 year history of effectively employing active management techniques.

BAM MARKET WRAP

THE TIMES THEY ARE A-CHANGIN'

SUMMARY OF MAJOR TAX CHANGES FOR 2013

Some of the more pertinent and relevant tax changes occurring in 2013 include:

Medicare Surtaxes

A 0.9% Medicare surtax on earned income for higher income earners.

The levy applies to wages and self-employment income and affects single taxpayers with incomes over $200,000 (Married over $250,000).

A 3.8% Medicare surtax on net investment income.

For the same income thresholds above, a 3.8% surtax is imposed on earnings from investment income including interest, dividends, capital gains, annuities, royalties and passive rental income.  The surtax is levied on the smaller of the filer’s net investment income or the amount over the income threshold.

Estate and Gift Taxes

The estate and gift tax exemption increases to $5,250,000.

The annual gift tax exclusion increases to $14,000 per donee.

New Tax Brackets

There is a new 39.6% tax bracket for those individuals making more than $400,000 ($450,000 for married taxpayers filing jointly).

Standard Deduction

The 2013 standard deduction increases to $12,200 for joint filers ($13,400 if one spouse older than 65 and $14,600 if both older than 65) and $6,100 for single taxpayers ($7,600 if over 65).

Phase out of Itemized Deductions

Single income earners of $250,000 ($300,000 if filing joint) will reduce their itemized deductions by 3% of any excess over the income thresholds with the reduction not to exceed 80% of the deductions. 

Personal Exemptions

Personal exemptions rise to $3,900 for filers and their dependents but are phased out for high income earners (same thresholds as the itemized deduction phase out).  The exemptions are reduced by 2% for every $2,500 over the thresholds.

Capital Gains and Dividends

For high income taxpayers (Single over $400,000 and Joint over $450,000) the tax rates rise to 20%.    For other taxpayers, the rate will continue to be 15% with lower rates possible for taxpayers in the 10-15% tax brackets. 

AMT Exemption

The Alternative Minimum Tax exemption increases to $80,750 for couples and $51,900 for single taxpayers.  The exemption level is now tied to inflation and will automatically increase in future years.

Social Security

The Social Security wage base rises to $113,700 for 2013.

Social Security benefits will increase by 1.7%.

Medicare

The basic Medicare Part B premium increases to $104.90 per month.  For higher income taxpayers ($170,000 for couples and $85,000 for singles), the premiums can be as high as $297.40 per month.

Medical Expenses

The threshold for deducting medical expenses jumps from 7.5% of adjusted gross income to 10%.    However, if over 65, the old 7.5% rate continues to apply.

Deductible contributions to Health Savings Accounts rise to $6,450 for family coverage and $3,250 for single coverage.

Health flexible spending accounts are now capped at $2,500.

Savings Accounts

The maximum 401(k) contribution is $17,500 for 2013.

The maximum IRA and Roth IRA contribution limits jump to $5,500 with an extra $1,000 allowed for taxpayers born before 1964.

Businesses and Self-Employed

The standard mileage allowance for business driving is 56.5 cents per mile.

Renewed Tax Breaks

The election to write off state and local sales taxes was revived.

Taxpayers aged 70 ½ and older can continue to directly transfer up to $100,00 tax free from their IRAs to a qualified charity.

More changes are sure to occur throughout the year and we will do our best to point out the most relevant changes on these pages.

FIVE PLUS YEARS LATER AND THE COST OF LOSING MONEY

For some perspective on the post-financial crisis rally, today's chart illustrates how much of the downturn that occurred as a result of the financial crisis has been retraced by each of the five major stock market indexes. For example, the Dow peaked at 14,164.53 back in October 9, 2007 and troughed at 6,547.05 back on March 9, 2009. The most recent close for the Dow is 13,954.42 -- it has retraced 97.2% of its financial crisis bear market decline. As today's chart illustrates, each of these five major stock market indices have retraced over 90% of their financial crisis decline. However, it is the S&P 400 (mid-cap stocks), the tech-laden Nasdaq and the Russell 2000 (small-cap stocks) that have recouped all the losses incurred during the financial crisis and currently trade higher than their 2007 credit bubble peak.  The takeaway - losing money is bad!  It has taken over five years to recover from the losses incurred in 2007/2008 and a big reason why Bills Asset Management strives to avoid losses and manage risk. 

BAM MARKET WRAP

COULD IT GET ANY BETTER?

DEBT CEILING EXAMPLES

These examples have been floating around for a few weeks but I find them rather striking when put into real life examples and reduced to numbers we all can relate to...

Debt ceiling debate in a nutshell … or two *

US Tax Revenue. $2,170,000,000,000
Federal Budget. $3,820,000,000,000
Deficit. $1,650,000,000,000
National Debt. $16,455,000,000,000
Recent budget cuts. $38,500,000,000

Now, let’s remove 8 zeroes from the above, and use it as a household budget

Annual income. $21,700
Bills. $38,200
New credit card debt. $16,500
Family debt. $164,550
Family belt tightening. $385.00

Solution? Call VISA and ask for increase in credit limit

* reasonable approximations from a given point in time.