Pure Financial Advisors’ Director of Research and Executive Vice President, Brian Perry, CFP®, CFA®, provides a 2020 market review and an outlook for 2021, then takes viewer questions.
What’s next for the economy?
– COVID-19 US confirmed cases and fatalities
– High-frequency economic activity
– Unemployment and wages
– Economic growth and the composition of GDP
– Payroll employment
What’s up with the stock market?
– Stock market since 1990
– Market volatility
– World asset classes
– Quarterly market summary
– Long term market summary
– Annualized returns during presidential terms
Why don’t I just buy Apple and Tesla?
– US stocks
– S&P 500 Performance by sector
– Small cap vs large cap stocks
– Returns and valuations by sector
– Beware concentration risk
– Is success inevitable?
Why should I invest outside the US?
– Select market performance
– International equiies vs. US equities
– International valuations
– Sector weights: US & International
– COVID 19 global confirmed cases & fatalities
Doesn’t inflation have to go higher?
– Inflation
– Returns in different inflation environments
Why should I own bonds now?
– Yield curve
– Fixed income market dynamics
– Fixed income yields and correlation to the equity market
– Interest rates and inflation
Are my taxes headed higher?
- Where are taxes heading?
- Tax diversification
- Taxes stairstep
QUESTIONS:
What factors make you think that there will be a stock sell-off in 2021?
Do you think the market correction (potential sell-off) will occur shortly after the one-year anniversary of last year’s crash on or around March 16th?
Is there a good way to rationalize: generally first-year presidential terms are positive returns, vs the expected sell-off in 2021?
what is your opinion on what is happening on the short squeezes e.g. GME, AMC etc. are we in wild exuberance, and will the SEC get involved in changing the landscape?
If you plan to retire in 20 years is this high value of the stock market bad?
What sector is fully valued?
What do you think about stocks in Biotechs making vaccines?
As COVID is going to be over, are airlines, travel stocks a good buy as they are at a 30%-60% discount now?
I did a partial Roth conversion in early 2020 right before things crashed. I’d like to convert more this year. Any idea on when to plan to make this conversion? If a selloff happens, I’d rather pay tax on the lower value or convert more of the account.
Should we stay invested in passive index funds? Or look for actively managed funds going forward?
What are your thoughts on using emerging markets to boost returns as compared to small-cap value? would you need both to boost overall returns in retirement? Is there more risk in emerging markets where you don’t get a premium?
I’m moving some of my aggressive growth funds to safer dividend ETFs. I want to put those funds in my Roth since dividends are taxed at ordinary income. But to do so I will have to sell some growth funds in my Roth, use that money to buy the dividend ETF. But I like those growth funds. So I thought I would sell a growth fund in my taxable account that I don’t like and purchase the exact same fund in my taxable account that was in my Roth. It’s like a one-to-one switch. But if that fund I bought in my taxable account goes down can I sell it and write off the loss if I sell LIFO? Or is that not legal because it is a wash sale? Hope that is clear.
What is the status of bills in Congress to alter 401k deduction rules and other changes?
Any thoughts on the housing market in San Diego?
TRANSCRIPTION
Andi: Hello and welcome. My name is Andi Last, and thank you for joining us for this market update webinar, 2021, ‘What’s Next for the Financial Markets?’ Your presenter today is Brian Perry, CFP®, CFA. He is the executive vice president and director of research for Pure Financial Advisors, a financial planning firm headquartered in Southern California. Pure Financial is entrusted by our clients with over $3,000,000,000 in assets under management and was ranked among the top registered investment advisors in the nation in 2020 by RIA Channel and the Financial Times.
Brian Perry has been actively involved in the financial markets for more than 20 years as a portfolio manager, strategist and trader. You saw him just there for a second. He’s a widely published author and his newest publications are Ignore The Hype: Financial Strategies Beyond the Media-Driven Mayhem and Retirement Revamp: Financial Planning in Times of Crisis. Brian has presented at hundreds of seminars and conferences around the country, and he appears frequently in the media, including regular appearances on the TD Ameritrade Network and on the Your Money, Your Wealth® radio show, podcast and television show. Now, please welcome your presenter, Brian Perry, CFP®, CFA. Hello, Brian, how are you?
Brian: I’m good. Am I here for good this time? Or am I gonna get blotted out again?
Andi: You’re here for good. You’re here for good.
Brian: How’s everybody? Hopefully everybody’s doing great today here in Southern California. The rain has stopped for a couple of days. We’re even allowed out to go get a haircut I heard.
Andi: Amazing. I could probably use one. It’s about time.
Brian: What a year. I mean, right? Like the title is ‘What’s Next for the Markets?’ I mean, that’s a scary question. What’s next? Right? 2020. We had a pandemic which continues towards the end of the year, beginning of this year. We almost had a revolution. I mean, good Lord, we live in interesting times, huh?
Andi: That is definitely the truth.
Brian: Let’s- before we dive into some slides, what do you put up a question? I know we’ve got a question prepared around taxes and where you think they’re going. So, could you put that up?
Andi: With all of this craziness that’s been going on and what’s going to happen in the markets? What do you think is going to happen to taxes in the future? That is a poll question that is on screen now. It’ll take about 15, 20 seconds between the time that we say it and when you hear it. So I’ll leave this up for a little bit. Your options are, do you think they’re going to go up, go down, stay the same, or if you are uncertain. So, you can click your answer there, or if you don’t see the poll on screen, you can type it into the chat. Let us know what you think is going to happen to taxes in the future. And I’m going to close up this poll in 5, 4, 3, 2 and 1. And right now we are at 100% of people believe that taxes are going to be going up in the future.
Brian: We finally found something in America everybody can agree on, Andi?
Andi: I’m leaving it up just to see if anybody else says anything different. And no, everybody thinks taxes are going up.
Brian: That’s it. I’m running for office. I’m the only person in America that can bring the people together. I have done it.
Andi: All right. I’m ending the poll. I’m resetting the results.
Brian: All right. 100% of you think taxes are going higher. Excuse me. We’ll circle back to that later. Let us dive into a few slides here and talk about- what I want to do is answer some of the questions we’re hearing a lot of. Right. We meet with many people, whether it’s through the radio show, the TV show, classes, webinars, we teach in that sort of thing, or just our clients. And we get similar questions pretty frequently. And so I wanted to go through some of those common questions we’re hearing as 2020 transitions into 2021. And along the way, if you have questions, please ask them. Andi’ll moderate, weigh in and let’s make this as interactive as possible. I know that it’s not the same as being in person, but with technology- thank God for Zoom. Right. It’s been a crazy year but imagine life without Zoom and Facetime and all these other tools of connectivity that we’re fortunate enough to have.
Andi: I swear I haven’t had to leave my house since March, Brian, it’s ridiculous.
Brian: I’ve been getting out a little bit, but it’s been sparse, so- All right, well, let’s do this. Let’s dive into some slides here. What I want to do is run through, starting with the question of, what’s next for the economy? And, you know, I’m going to freely admit here that I don’t necessarily know the answer to all these. Some of these will be determined. But when it comes to what’s next for the economy, I think you really need to start with COVID. And by way, a preview. I’m not a doctor. I’m not a disease specialist. I don’t know any more than you other than what I read. I do know that how COVID acts and what happens with these vaccines is going to have a lot of impact on the economy. And on the left-hand side here, you see the spike in cases back in March and the big spike that we had where the world more or less shut down. And then you see it tailing off as we entered into Summer. Right. Restrictions were eased. And I don’t know that life went back to normal, but people started being able to leave their houses. In some states quite a bit. In other states, not as much. Same thing with other countries. And then as we got into Fall, cases started to rise again. Right. And some of that’s just from restrictions being eased over the Summer. Some of it is people gathering more in homes and spending more time indoors in close quarters. Cases started to go up. Here in California, we got to the point where ahead of Christmas they shut everything down again. You could still go to the beach, but you couldn’t go to the mall, you couldn’t eat out, you couldn’t get your hair cut, that kind of stuff. Because there was no room in the intensive care units. That just recently got eased. We’ve got vaccines available now. They’re not being distributed maybe as fast as some of us would have hoped. But the idea is that maybe we’re not at the end of COVID, but maybe we’re at the beginning of the end of this pandemic. With the big caveat being these new strains that we keep hearing about and whether or not the vaccine is effective on them. You hear about these more contagious strains of COVID. What happens with that is going to be really important. Because not so much from the disease itself obviously has a terrible toll from a human perspective, but it’s more the restrictions on our lives and everyday activities that have had an impact on the economy. And what you see here is a measure of high frequency economic activity. So this is stuff without much of a lag. This is movie theater attendance and hotel occupancy and dining and stuff. And you see it falling off a cliff. Look at this here with seated diner. This is the number of people that ate out. It fell by 100%. How do you build a business where you forecast something- you want to do, risk scenarios of what might go wrong? I don’t think many people plan for a scenario where 100% of their business evaporates overnight based on something beyond their control. Right. And so that’s what we saw from the shelter-in-place restrictions. And that’s the worry from an economic perspective, if we don’t get it under control is what happens to some of these businesses. A lot of them have been hanging out, surviving, thanks to government support, but that can only go on so long. And what we’ve seen is a rebound in some of those things, just as we’ve seen a rebound in some of the economic indicators. Right. So, we saw unemployment spiked to the highest levels on record, almost 15%. But then come down quite a bit, get cut more in half to a little bit under 7%, still historically high compared to what we’ve seen. Still too many long-term unemployed people, but lower than it has been. And I think that’s the story throughout the economy is a recovery, but not a complete recovery. And if I go over here to the whiteboard, what I want to do is show you as we went into COVID, there was a lot of talk about what the economic recovery from it might look like. And people used the letters to describe it. They said well, maybe we’ll have a ‘V’. The economy will collapse, but then as soon as we get it under control, it’ll skyrocket really sharply, a ‘V’. Other people said maybe it’ll be more of a ‘U’, will decline and then we’ll drag along the bottom before coming back up. And other people forecast a ‘W’. Right, rebound, but then another fall and a back. And then the one so I think so far has been the most accurate isn’t a letter at all, but rather a checkmark. The economy fell and then it rebounded, but it didn’t rebound all the way. It rebounded part of the way really sharply, though, but then it started to even out. And we’ve been kind of going along sideways since then. So, the economy has recovered, but it’s not back to where it was before we entered the pandemic. And it probably can’t get back there until you have a full vaccine and full mobility for people who live their lives the way that they used to. We’re going to get out of that. Go back to the slides here. And so, if we continue on- the bottom line for the economy, like I said, is that unemployment is still high, the economy is still recovering. What we need to see really, again, is a vaccine. And then we need to see people back to work. Because ultimately the consumer is almost 70% of economic activity in the United States. And so, you need people to be working to have discretionary income to spend. Now, here’s the good news. This has been the first recession in history in which people’s incomes across- this is across the country- actually went up and the savings rate increased. Usually in a recession, people are forced to draw down their savings. But because some people were able to switch to remote work, other people were supported by government stimulus packages. Yes, on an individual basis, there are many, many people that have suffered terribly from a financial perspective from COVID. But if you look at the country as a whole, accumulated savings have actually risen. That represents dry powder. Once people can take a vacation, once they can go to the movie theater, once they can go out to eat. That’s a lot of dry powder that can help stimulate the economy. That’s definitely a reason for some level of optimism. Right. So what does all that mean for the stock market right? You know we put up that question at the beginning. How about if we had a different question and we were doing this a year ago? Right. So imagine it’s the end of January, 29, 2020. Right. We’re at record highs in the stock market at that time. Everything looks ok. We know we have an election 9 months ahead, 10 months ahead. We know that we have trade troubles with China. But I ask the question, what’s the stock market going to do over the next 12 months? And then I’ll give you a preview. Right. You want to be able to see the future. So, I say, hey, you can see the future. I’m going to give you the gift of foresight. What’s going to happen in the next 12 months is that we’re going to have a global pandemic. People aren’t going to be able to leave their houses. There’s gonna be runs on toilet paper and paper towels where you can’t even find them in the food store. Right. You’re not going to be able to do the things you’re used to doing. Oh, by the way, we’re going to have social and racial unrest in the United States. We’re going to have one of the most contentious elections of our lifetime. And then we’re going to cap off the 12-month period with an attempted coup where people march on the Capitol building and break into the Senate. Right. If I told you all of that and I said, oh, by the way, stocks are going to do pretty good in the next 12 months, you’d probably all have clicked off and ignored everything I ever said again. The reality is that stocks have done pretty good considering how crazy the world has been. Why? Well, there’s a couple of reasons. One is simply this, is over time markets tend to go higher. If you look at the long-term track record here, over time, you get these long periods where stocks go up. It’s because there’s an upward momentum. I’ve heard the question asked on the Your Money, Your Wealth® podcast that we host, we had Jonathan Clements, long time reporter for The Wall Street Journal, and he said something to the effect that over the last 100 years, people’s standards of living have increased, right, they’ve have gotten better; whether it’s vaccines for medicines, whether it’s travel, technology, life has improved, life expectancy is better. It’s because companies have made goods and products that made people’s lives better. So if you think that people’s lives are going to continue to improve over the next 2 or 3 decades, it’s because some company is going to do something to make a product or service that makes people’s lives better. That doesn’t tell you what company is going to do better, what stock to buy, what the market’s going to do next week. But it does tell you that there’s just inertia, this rising tide that as humanity progresses, companies are making things that people like, which flows through to corporate profits and tends to lift the stock market over time. But it’s not without volatility. So even going back to the 1980s, you can see- 1990s- you can see these various drops, right? Almost 20% in 1998. That was the Russian and Asian debt meltdown. You can see here the .com bust of 48%, 49% in the early 2000s. Right. Obviously, most of you remember the financial crisis and then more recently we had the COVID pandemic. So, there’s always going to be volatility. And here’s a prediction. I feel pretty comfortable making it. We don’t- we have not seen the end of volatility. Markets are going to continue to go up and down. You’re going to continue to see volatility. I’m thinking we’ll probably have a significant sell-off again at some point in 2021. We’ve had a really good recovery, really good rebound. We’ll probably see a sell-off. You need to buckle up. That’s where the asset allocation comes in, having growth assets that are going to participate in this long term upward rise of markets, but also having safe assets that when you see one of these periodic sell-offs allow you to have some sort of stability. And have money to live off of to support your lifestyle or your cash flow needs until markets recover. If we look at last quarter bringing the lens in a little bit more narrow, what you see is that pretty much everything went up in the 4th quarter led by small companies and value companies. And this was a change. We went through a period of a couple of years and particularly the first 6 months of last year, where big companies and growth companies really led the market. Think of the fang stocks, the Facebook and the Apples and the Alphabet’s and the like. Right. That shifted the 2nd half of last year where momentum switched to smaller companies and more value oriented, less expensive stocks that tended to outperform everything else. And that’s really usual, guys. And one suggestion I’d make is take a look under the hood in your portfolio and see what you own. Because most of the people that we meet- and if you just own the S&P 500 or something have a really high concentration of large companies and in particular maybe large growth companies and not so much small in value. The evidence is really clear, at least historically over the last century, that smaller and less expensive companies outperform in the long run. And so that’s one reason to own them. The other is that, as you can see, different things do better at different times. If you’re distributing income back to yourself at some point, you want to be able to sell what relatively has done well. So maybe last quarter it would have been selling some of the small companies and buying bonds or larger US companies that didn’t do quite as well. So that diversification is really key. You want to look under the hood at what you own in your investment portfolio. Longer term, you know, like I said, big US companies have done the best and the US in particular has done better. So last year what you see here at the top is that the US stock market did north of 20%. Emerging markets did 18% or 19%, international developed companies- so this is your Australia, Canada, Europe and the like- only did about 7.5%. This- 7.5%, that’s still not a bad year, but it pales in comparison to these other markets, the US and emerging markets. And you can see longer term that the US has really led the way, leaving international markets in their wake a little bit over the last 5, 10 years. We’ll talk more about that here in a bit. One last thing I want to comment on, and then we’ll see if any questions have come in yet, is the presidential term. Guys, I don’t know if you heard this or not, but there was an election recently. We have a new administration in office. By the way, if you miss the silly season, if you’re like, oh, God, I miss all that political turmoil. Oh, goodness, I miss those political ads and all the- the disagreements on cable TV and stuff. Don’t worry. We’re only about a year or 18 months away from the next congressional election cycle. You’ll be right back in the midst of it. But in the meantime, look at this chart, because this shows the stock market’s performance under different presidents, blue’s Democrat, red’s Republican. And what you notice is that most of the bars go to the right. Markets have gone higher under almost all presidents. You see a couple of exceptions here, where you’ve got George W. Bush, who the market didn’t do as good under. He had the 2- the 2 nasty bear markets during his term. The first one, the .com bust and the second one the financial crisis, which really skew those numbers. And then you see Franklin Delano Roosevelt down here with the Great Depression back then. But other that, you see all of these presidents having positive returns during their terms. So why am I bringing that up? Because it’s really common to have a strong view on who did or didn’t win the election. We all have our own opinions, right. But what you don’t want to do is abandon markets just because your candidate didn’t win. Right. You probably want to stay invested. It’s ok to be concerned about the direction of the country or excited about the direction of the country. But you want to try to, as you read the news and look at some of the stuff, step back and say, ok, given all of that, what is the impact on my financial plan? What is the impact on my investment portfolio? And what changes, if any, should I make to react and adapt to the changing environment? Let’s take a pause here before we talk about why you don’t just want to buy Apple and Tesla and Bitcoin and see if there’s any questions. Andi?
Andi: Yes, we do have 2 questions that have come in. First one is from Bill. “What factors make you think that there will be a sell-off in stocks in 2021?”
Brian: You know, there’s a long list of them. I mean, A) we’re in the middle of a pandemic. B) we’ve got a lot of unrest in the country and around the world. C) trade disagreements between the US and China and other countries haven’t necessarily gone away. D) valuations in some parts of the market are relatively full. I don’t- I don’t think stocks are in a bubble or anything like that. But if you look at some parts of the market are relatively fully valued and they’ve had a heck of a run higher over the last 9, 10 months. But here’s the most important reason of all. I’m not going out on a limb in saying I think that there’s going to be a sell-off in the next 12 months. The reason I’m saying that is because almost every year, and I don’t have this chart in this slide, but if you look- almost every year, there’s a sell-off at some point during the year. In fact, on average, stocks have declined double digits once every 12 months for the last century. Right. So am I saying I think there’s going to be a sell-off? Yeah, I could name a whole bunch of reasons why something might happen. But the reality is it happens just because stocks go up and stocks go down. And the historical precedent is that in most years you get some sort of a meaningful sell-off at some point. The other thing I would also say is keep in mind that even though there’s market volatility, most selloffs don’t turn into a bear market. Some of them do, but not most of them. So it’s important to kind of, again, have that asset allocation based on your required rate of return that you can stick with and live with. So, you run your cash flows, figure out what your financial goals are, run your cash flow and determine what returns you need to meet that goal and then take as little risk as possible. Because building a portfolio that way will then allow you to stick with that approach as markets fluctuate.
Andi: All right, the next question comes from Dave. “Do you think the market correction or potential sell-off will occur shortly after the one-year anniversary of last year’s crash on or around March 16th?”
Brian: Not necessarily. I mean, I don’t think historically there’s not really any kind of correlation around that.
Andi: Wasn’t that directly related to COVID as well?
Brian: Yeah, the reason the market fell then was that COVID was picking up, picking up, and the world was increasingly shutting down. And what you see with a lot of sell-offs- and this has always been the case. I mean, at the end of the day, guys, markets are fear and greed. I want to make money. I want to lose money. And the degree that you can take your emotions out of it, you’re going to be better off. Right? That’s one of the reasons not to watch a whole lot of media when it comes to investing is that they play on those fears. Right? We’re all subject to it. And the whole point of the media is to hook you and sitting up there and railing off logic. I could sit here all day and hit you with statistics and you’re going to nod along politely and say, wow, Brian really knows his stuff. Then you’re going to go watch TV and somebody’s going to be screaming that the world is coming to an end and you’re going to be in the front of your seat looking like, oh, my God, and you’re afraid or you’re worried or what if this really happens? And then you don’t turn off. And the media’s goal is to sell advertising by making sure that you’re watching. Right. With the exception of Your Money, Your Wealth®, which is completely educational and a great show. But all the other media is there to fool you, right? So you need to be careful not to get sucked into that. Right. And what happens- anyway, getting back to last March- is that sell-offs usually begin for a fundamental reason. Hey, it’s COVID. The world’s shutting down. It makes sense to sell. But then it becomes like a snowball running downhill. We’re selling begets selling. You have technical factors that come in where people have stock losses or need to liquidate positions. People just get afraid and run for the hills and move to cash. And these things tend to exacerbate themselves. So that’s what we saw last March. But from a calendar perspective, there’s no reason to expect that March would be any worse than any other month of this year.
Andi: We’ve got a number of questions that are coming in now. Again, if you do have questions for Brian, you can just enter them into the chat. Aja says, “Is there a good way to rationalize generally a first-year presidential terms are positive returns versus the expected selloff into the 2021?”
Brian: Yes, so I want to be a little bit careful and maybe- people don’t usually buy in quite this much to what I say- I want to back a little bit away from, I’m saying that, yes, at some point we’re probably going to have volatility. I’m not calling for some sort of stock market crash or something in 2021. So let’s be clear on that. I’m simply stating that most years you see a period where markets go up, a sell-off, and a period where markets go up again. Right. And so I always like to caution that when we’ve had a really strong period and I mean, the market’s up 50%, 60%, 70%, depending on what part of the stock market you’re looking at since last March. I mean, that’s a remarkable recovery. And it hasn’t had that many selloffs along the way. If you look at historical precedent, usually when you get that sharp of a recovery, you see a sell-off at some point. And I’m not talking about a bear market, but some sort of a correction along the way. I’m just cautioning to be aware that that can happen more so that you- you’re on the alert for not- I don’t think people should necessarily change what they’re doing. It’s more by being aware of it, you’re emotionally prepared. Because back to those emotions again, if you know something’s coming, it’s not frightening. Hey, yeah, at some point the market is going to sell-off. It had a good run. It’ll come back again and then you stay the course. So that’s the reason for bringing that up.
Andi: Allan has 2 questions. “What is your opinion on what is happening on the short squeezes like GMC, AMC, GME, sorry, and are we in wild exuberance and will the SEC get involved in changing the landscape?”
Brian: Yeah, so this is getting a little bit technical, so I’ll touch on it at- at a pretty high level and then we can always continue the conversation offline. A short squeeze. So basically, when somebody thinks stocks are falling, they can borrow the stock and sell it. And that’s called shorting, you’re betting it’s going down. A short squeeze involves trying to drive the price up in order to hurt those people. And then as they cover those short positions, it tends to build upward momentum in the stock price. And you’re seeing a lot of volatile prices in a lot of stocks. I think it’s part of a bigger phenomenon of day traders. And you hear a lot of stories about how people got stimulus money or they’re sitting at home. They don’t have anything to do. There’s a lot of apps now that make investing and trading almost like a video game. Right? You buy or sell something, and confetti goes off. And so people are approaching almost like a video game and you’re seeing it- a bunch of individuals aren’t going to move the price of Microsoft. Right. It’s a trillion dollar company. They don’t have enough money. But if you get some of these smaller companies that don’t have as much liquidity and you have a bunch of individual traders moving in, they can sway the price one direction or another in the short term. And I think that’s the key. In the long term- so Warren Buffett said that in the short run, the markets are a voting machine. In the long run, there are weighing machine. And I think that that’s a really good way of putting it, because in the long run, fundamentals play out. In the short term, traders can move markets. It never lasts, though. Back in the 1970s, early 1980s, the Hunt Brothers, famous billionaires out of Texas tried to corner the silver market. They drove the price from $10 up to $50. Before the kinda gig was up, the price turned around and collapsed. They went bankrupt, lost all their money. So you can move markets for a little while, not indefinitely. I think it’s about stepping back and looking at fundamentals. If you do want to get involved in- that was kind of why I had the slide up there. Hey, should I just buy- pick something hot, Tesla, GameStop, Bitcoin, whatever it is. Right. You can get involved in that kind of stuff. Just know what you’re doing. Right. I think it’s important to understand the difference between investing and trading. Investing is you put money aside. And you know that at some point you’re putting this money in, you’re looking at future cash flows. At some point there’s going to be a dividend or an interest payment or some sort of rent or some sort of cash flow coming back. And you then discount the value of those cash flows back to net present dollars. That’s how a company decides whether or not to build a factory. And it’s how you look at an investment. When you’re doing something like, hey, I think that the price of XYZ is going to go up next week, next month, 6 months. You’re no longer looking at cash flows. And some of these things don’t even provide cash flow. Think of like gold or Bitcoin. There is no cash flow. Right. There’s nothing wrong with buying them. But you’re betting that somebody else is going to pay more in the future. So it’s just a different exercise. It’s much more trading as opposed to investing. And again, not saying one is good or bad, it’s just important to know what you’re doing and what exercise you’re actually pursuing. And then for most people, if you want to get aggressive and do some of that trading with some of these hot sectors, having most of your money invested in your long-term strategic allocation probably makes sense. And then carving off a slice to pursue some of these other positions, if they work great, it helps you out. But if not, you haven’t kind of destroyed your finances.
Andi: We’ve got another really good question. And like I said, a number of questions are coming in. So maybe we’ll take one more now and then save some of them for later. George says, “If you plan to retire in 20 years, is this high value of stock market bad?”
Brian: If you want to retire in 20 years, the best thing that could happen to you is a really bad bear market that lasts a long time. Truly. For anybody that’s got 20+ years to retire, the best scenario, if you run the numbers is the stock market- and this is not a prediction, I want to be really clear- The best thing that could happen is if the stock market falls 50% and stays there for a decade. Because if you think about it, you’re putting money in and now you’re just buying really low and you’re accumulating all these assets. And now you’ve got a lot more shares that when the price recovers, you’re going to be far better off. Right. So what that means is that as an investor, the more time you have in general, this is a generality, the more time you have until retirement, relatively speaking, the more growth oriented your portfolio can be. Right. You might be able to have more stocks, more natural resources, whatever it is- a slightly more aggressive stance. But again, not everything is overvalued. Right. I talked about how small companies were doing the best last quarter. A lot of smaller companies are still relatively cheap. A lot of value stocks are historically cheap. International markets are quite cheap compared to historical precedent. Some emerging markets. Right. So I think it’s important to differentiate. We talked so much about the stock market or the bond market. There’s no such thing at some level. What you really have is a market of stocks or a market of bonds. Right. The averages you see, the Dow, the S&P, the Russell 2000, are just a collection of dozens or hundreds or thousands of stocks. Each of them have their own characteristics. Some are expensive, some are cheap. And if you look at it right now, in the S&P500, the dispersion or the difference in valuation between the best performers and the worst performers is almost the widest it’s ever been. What that means is that there’s probably a lot of opportunities out there for investors who just want to be cautious about looking under the headlines and not just buying into what’s done best lately, because some of that is fully valued.
Andi: All right, I think I’m going to throw it back to you and we’ll answer the rest of these questions closer to the end.
Brian: Ok, cool. Yeah, great question. So keep on keep on asking. And so this kind of leads into, you know, why don’t I just buy Apple and Tesla and whatever else? And what I want to point out is something here that I think is important. And I’m going to pull it up here, too, because I want to draw on it a little bit, is when you look at- when you look at this slide, what it shows here is that different sectors and how they’ve done in the last 12 months and you can see that the best performer here is online retail. I’m going to change color here. Here is online retail, up almost 70%. And guess what? It’s probably not surprising that if you can no longer leave your house to go shopping, what’s going to do well is shopping at home, right? What else is done well? Well, technology is up 44%. Right. And now let’s flip it to the other side, where if you can’t leave the house, you can’t do the things you’re used to. What isn’t going to do as well? Well, what isn’t going to do as well is airlines, cruises and hotels, real estate focused on retail. How about energy? You don’t need as much energy. Right. And the reason that I’m pointing this out is there’s these big differences in what has and hasn’t done well in the last 12 months. This gets back to relative valuations. Maybe energy stocks aren’t that expensive. Maybe some of the technology companies are expensive. You know, I’m not commenting on any particular company. The point is that there’s a lot going on under the hood of these indexes. There are two things. There are two takeaways from that. One is that just because an average is priced at a certain level doesn’t mean that all the companies in there are priced similarly. But the second is that how these indexes are built has a big influence. And what I mean by that is if you look at the slides again, I talked about small companies and value companies. Look here, the gray is big companies, and the green is small companies. And what you see is that IT is 28% of the big company index, the S&P, but only 14% of the small company index. Right. So, again, if IT is doing the best, you would expect large companies to outperform small companies just because there’s more of a weight. Same thing with value versus growth, and there’s a ton of numbers on here, guys, so please don’t try to kind of memorize every one. Can we move my picture so I can get to the-? There, thank you. So if you look here, just highlighting technology. All right, the Russell growth, so the growth stock index, 45% of that is made up of technology, the value index, 10%. So, again, if IT is doing the best, you’re going to see growth stocks do better than value. And so, again, I think you need to look under the hood at what’s going on in the world and have diversification. Or you could just buy, you know, big tech companies. But in the past, concentrating on just one sector hasn’t always been the best approach. One of the reasons why you want to focus on that is simply this. So let’s take a look here. I’ve got some stocks up here. Right. And so if you look here, this one on the left, this is Amazon, from 1997 to present. And you can see that it’s kind of gone hyperbolic, it’s going, going, going, and then all of a sudden it just went crazy. Apple, same thing over 40 years, flat, flat, flat and then spiked. And then I also want to point out GE over here. So General Electric from the late 60s into the 2000s, that chart looks really similar straight up. Right. GE was the king of stocks for many decades. Look at GE since 2000, though. Since it went into that shape, it’s gone down pretty significantly. Right. And the reason I’m pointing this out is not to say, hey, Amazon is not a great company. Apple’s not a great company. Don’t buy these. No. The reason that I’m pointing this out is simply because, over time different companies do better or worse. Right. And just because something has done great lately doesn’t mean it’s always going to be the best. And so this is the part where I go to one of my favorite slides and this is my caution against buying what’s done the best lately. I want to bring up a company that was the biggest company the world has ever known. At its peak, it was bigger than Apple, Amazon, Facebook, Google, McDonald’s, Bank of America, JPMorgan, Tesla, Microsoft, all of these companies put together. The name of the company was the Dutch East India Company. Right. Back in the 1600s, if you adjust for inflation, it was as big as all of these corporate behemoths put together. The reason I’m bringing this up is that none of you have shopped at the Dutch East India Company recently because it doesn’t exist. Right. Do you think when this company was as big as Apple, Alphabet, Microsoft, etc., put together, its prospects were pretty good? I would think so. The outlook was probably pretty positive or wouldn’t have been worth so much. Times change. And again, I want to be clear, this isn’t a comment on any one company. It’s just a caution that you want to, when you’re investing, make sure that you’re looking forward to what’s likely to continue to do the best, as opposed to what’s done best in the past. And remember, stock market’s investments, stocks themselves, don’t do good or bad based on good news or bad news. I want to be really clear on that. Good news and bad news are not the key to what a market does. What matters is whether the news is better or worse than expected. That’s why during the height of the pandemic back in March, when we couldn’t leave our homes, stocks started a ferocious rally. It’s because the news was still awful. It just wasn’t quite as bad. Similarly, most selloffs start when the news, maybe it’s good- you’ve probably all seen a company come out, announce earnings, hey, earnings are positive, they’re better than expected and the stock gets killed. It’s because they might have been better than the consensus, but they weren’t quite as good as people were hoping for. So you always need to remember that markets are moving based on expectations and what might happen in the future as opposed to the past. And I want to touch a little bit on investing outside of the US as well. Right. And so when you talk about international markets. Last quarter, they did really good. So this is all of the developed countries on the left, the emerging market countries on the right. You can see a lot of positive. By the way, here is the US down here- kind of up about 15% last quarter, so kind of a middling performance by the US relative to all these other developed countries and then all these emerging market countries, but a lot of things did well. Over the last decade or the last handful of years, international markets haven’t done as good as the US. But what I would point out is simply this, is there are long periods of time in which international stocks do well and then long periods of time in which the US does well. And these periods in green are times that the US is doing better and red is when international stocks are doing better. Right. Part of this is driven by the dollar, part is just corporate profits. Part of it is the makeup of the indexes. So, for instance, international markets have more industrial companies, more financial companies, more energy companies. In the US, the US has more technology companies. Right. In the last handful of years, tech’s done the best. So US markets have outperformed, say, France or Germany or something like that. Right. So we’re believers here at Pure in global diversification because a couple of reasons. First of all, like this chart shows, there are times when international is doing better or worse. Again, having the ability to choose what to sell to put income in your pocket in retirement. The second thing is simply this. The US does not have a monopoly on great companies. There are great companies in all kinds of countries. Switzerland has Nestlé, Japan has Toyota. Right. Great companies. If you just invest in the US, you don’t own them. So we’re believers that you want to look again under the hood of your portfolio, have some global diversification. Furthermore, you know, COVID has impacted different countries in different ways and some of these countries are going to come out of COVID at different speeds. Right. China was the first country in and then had pretty much a full recovery and it was back to some semblance of normalcy for the better part of 2020. Their economy is growing quite quickly now. So you want to focus on what countries might do well. Or if you don’t have that expertise, which few people do, you just buy a ball, you buy a broad basket of global countries. You’ll get some exposure to countries that are doing well, some that maybe aren’t doing as well. But the whole basket as a whole, you would think would perform positively over time. Let me pause again and see if there are additional questions coming in, Andi.
Andi: Let’s see at this point, Kathleen would like to know “What sector is fully valued?”
Brian: You know, I think it depends on what kind of metrics you want to look at. I’ll tell you where I think that there are some pockets of full valuation, even stepping back from sectors. I think that for a while over the Summer and it’s tailed off a little, the relative performance of a handful of big technology companies relative to the rest of the market was probably outsized, where you saw those big companies just substantially outperforming pretty much other countries. So you could have looked in like September or something like that and seen where for the year, let’s say the S&P at the point- I’m cuffing these numbers- was up 8% or something like that. And if you took out 5 companies, the S&P was down on the year. Right. You have 495 companies basically doing nothing and 5 companies dominating. I think some of those valuations got a little bit excessive. That’s- that’s rationalized a little bit where there’s a lot more catch up for the market, which I- which I think is healthy for the market. You know, I think that some of the companies that you’re seeing in the news, some of the smaller companies, not small value companies so much, but some of these small growth companies, GameStop and some of these other things that are up 600% on the year, that’s probably a little bit excessive. So I think you want to look around for these pockets. But again, the flip side is that just because something is fully valued doesn’t necessarily mean you don’t want to own it. Right. Things can continue to go higher and higher and you have to remember what you’re investing for. So if you tell me, hey, you’re looking to put money aside to make money by June, well, then, yeah, what sector is fully valued really matters. Right? But you know what, quite frankly, if you’ve got a time horizon from now until June, you shouldn’t be buying stocks anyway. You should have the money in cash or a CD. Right. If you’re saving for retirement 20 years from now or even if you’re retired, a good portion of your funds, even if you’re 70 and retired, is for 10, 20 years from now. Who cares what the sector or the market does next month, next year? Right. You’ve got a 10, 20-year time horizon. So the question is, do you think the market as a whole, including all of its sectors, is going to do pretty well in the next decade or two? I happen to think the answer is yes. And so I would buy it. But you need to answer that question for yourself.
Andi: Got a couple of more questions that are specifically related to stocks. Giri says, “As COVID is going to be over, airlines, travel, stocks, are they a good buy as they are at 30% to 60% discount now?” And then Hilda says, “What do you think about stocks and biotechs making vaccines?”
Brian: Yeah, so there’s two things. One is, again, I would circle back to a couple of things. One is, it’s about performance relative to expectations. So it’s not like we’re the only ones that know that when COVID stops, people will fly more. Right. Or go to stay in hotels more. So I think a lot of that eventual recovery is priced in. So then it’s like, all right, do you think the recovery is going to be more robust? Do you think there’s going to be more travel than the general consensus expects? Right. With biotech’s, the question is, all right well, there’s winners and losers, right? If somebody is making a vaccine, first of all, is that vaccine going to make them as much money as anticipated or more? Right. The second of all, is you’re talking about a lot of companies, what about all the companies that don’t have an effective vaccine. How are they going to do? So again, it’s relative to expectations. We don’t necessarily go out and try to forecast which company is going to do best. What we focus on is what kinds of companies are going to do the best. Maybe that’s companies that are more profitable than their peers. Maybe it’s companies that are less expensive than their peers. Right. Based again on academic research, which we think is a more repeatable process and frankly, an easier process. And you think about it this way. If you are going fishing and you have two choices. One is to go fishing in, I don’t know, the Salton Sea where nothing lives, and another is to go to a stocked pond where they just threw a bunch of fish in. Well, you have to be a pretty darn good fisherman to pull something out of the Salton Sea.
Andi: I don’t think you’d want it!
The flip side is the stocked pond. You could probably throw a boot in there and catch something. Right. So we think idea of finding the most fertile parts of the market and just buying all of that, getting broad representation is a much more repeatable way of getting success from an investment perspective than trying to pick the winner. Because you know what? There’s a lot of smart people out there that are also trying to pick the winner. And you don’t just have to be right. You have to be more right than all of them. And that’s really tough to do. It’s possible once, twice, three times. You need to do that again and again and again over the course of your career. You know, I think anybody that’s trying to do that needs to look in the mirror and ask themselves, what is your competitive advantage compared to somebody that has an MBA from Harvard, spent 20 years at Goldman Sachs and manages a billion dollar hedge fund with 10 PhDs and spends 100 hours a week looking at the markets? Why is it that you’re going to be more successful than them? And if you know the answer to that and there’s a good, honest answer, then pursue trying to buy individual stocks. But if you can’t honestly answer that question, looking for a broad, diversified portfolio that buys the right kinds of stocks is probably a more sustainable path to success.
Andi: Susan says, “I did a partial Roth conversion in early 2020 right before things crashed. I’d like to convert more this year. Any idea on when to plan to make this conversion? If a sell-off happens, I’d rather pay tax on the lower value or convert more of the account.”
Brian: Yeah, you know what? Let me- I’m going to talk a little bit about that, so let me put that question aside for the moment.
Andi: All right. So, Susan, hold that thought. Greg says, “Should we stay invested in passive index funds or looked at actively managed funds going forward?”
Brian: We as a firm- so there’s really 3 ways to invest in funds. There are passive funds. There you’re buying an index that- that just- a fund that buys a broad index of stocks. Right. And those indexes are usually based on some sort of market capitalization. The S&P500 is a well-known one. Those are fine. You got low cost, broad diversification. There a factor-based funds, where you’re basically buying a broad diversified pool of securities. But instead of being market cap weighted, it’s weighted according to some sort of academic factors like, hey, we’re going to overweight companies that are less expensive than their peers or we’re going to overweight companies that are more profitable than their peers. We think that makes a lot of sense as well. The third approach is trying to buy an actively managed fund where that manager is going to go out and either time the market to know when to get in and out or again, be smarter than all of their peers and buy the best stocks. The evidence is just absolutely overwhelming that that’s really difficult to do. I mean, if you look in any given time frame, usually about 15% of mutual funds outperform their indexes. The average actively managed mutual fund on the stock side adds about .25% in value, but the average fee is closer to 1%. So if you do that math, it’s not great. So we don’t believe in actively managed stock funds simply because the evidence is overwhelming that a) not only do most of them not do well, but b), it’s- I’ll say difficult, but probably closer to impossible- to predict ahead of time which fund is going to do the best. And most of the time what happens is people buy the fund that’s done well lately and usually that happens right before the performance lags.
Andi: Ricky says, “What are your thoughts on using emerging markets to boost returns as compared to small-cap value? Would you need both to boost overall returns in retirement? Is there more risk in emerging markets where you don’t get a premium?”
Brian: We’re believers in doing both, right. This is where- after this question, we’ll kind of segway- I want to talk a little bit about taxes, because it’s what you make, but it’s also what you keep. Yeah, we’re believers in both. Right. And so we’re believers in small company stocks and value company stocks. And we also believe that emerging markets make sense for many investors. And again, this is all broad, it depends on your circumstance. But emerging markets have the most dynamic economic growth around. They’re the host, they’re home to a lot of exciting new companies. In a lot of cases, valuations are relatively reasonable. So we’re believers in buying emerging markets as well as US small value companies. And in fact, in emerging markets, we think tilting there, the evidence suggests that both in the US, in international developed countries and then also in emerging markets, tilting in the direction of smaller, less expensive, more profitable companies is a good path to go in emerging markets as well. So, yeah, we would suggest doing both or at least evaluating whether or not doing both makes sense for you.
Andi: Ok, there are a few more questions, but we’ll save them to the end so that you can get back into your presentation.
Brian: Yeah, let’s do this. Let’s kind of let me jump in here and, you know, we’ve got in a few questions around taxes. And I think that, you know, at the end of day, we’re talking about investments and the outlook. But I want to circle back to that question that we got at the beginning, which was where do you think taxes are going? And again, I’m going to like now, considering myself the great unifier and the person that brought the country together in harmony with 100% of you agreeing. Right. But we would agree too that taxes are going higher. I mean, when you look at it, it’s like we’ve got trillions of dollars of deficit. Look at this slide here. Let me come in here. And look at this slide, this is the national debt. This is the debt clock. I’ve got to flash forward a few slides here, but what’s happened is that there’s a ton of debt out there, in case you didn’t know. Right. And so if you look here, you’ve got the national debt and you see here on the left-hand column, US national debt. $27,818,000,000,000. That’s a big number. And by the way, I gave this similar presentation or an update back in November, and I used a similar slide. I looked at the one when I was putting this together, this has gone up $1,000,000,000,000 since November. Look at the debt per citizen. $84,000. Look at the revenue per citizen, that’s taxes, that’s $10,000. Guys, that math doesn’t work. If you owe $84,000 and you’re bringing in $10,000. That’s not great math, right. So for that, and a host of other reasons, we would agree taxes to have to go higher. So as you invest, you want to consider how to hold the investment because ultimately, what’s the point of investing? The point of investing is that you’re building a pool of assets, that you can then distribute it back to either yourself or your heirs for your needs or their needs. Right. How you put the money aside, how you accumulate it, will have a big impact on how much you pay in taxes. The less you pay in taxes, the more you can spend on yourself, your family, charity, whatever you want to do. And I’m just going to give a brief overview here, because we don’t have time. But basically, when you think about it, there’s 3 different ways to invest. There are tax-free accounts. Those are Roths for the most part. There are taxable accounts. These are sometimes called non-qualified. So this would be something like a brokerage account, something outside of retirement. And then there’s tax-deferred accounts. These are IRAs, 401(k)s and the like. Right. And what you see is that each of these has different pros and cons and different taxation, Where with the Roth account, you put money in, there’s no tax advantage when you put the money in. But when it comes out, the money you put in and any growth comes out at zero. So that’s the best tax rate you’re going to get. But the taxable account is really flexible. There’s no rules or restrictions. When you put money in, you’ve already paid tax on the money you put in, so you don’t pay taxes again on that. Any gains can be taxed one of two ways. But if you do it right, you can get special preferential rates of anywhere from 0% to 20%. And for a lot of folks, it’s 15%. And then there’s the IRAs and the 401(k)s, the 403(b)s, the tax-deferred accounts. Here, when you put the money and you get a tax break. Uncle Sam, the IRS, they’re so nice. They say, you know what? We got ya. We’re going to float you your taxes. You don’t have to pay. You put the money in, it grows tax-deferred. But when it comes out, I agree with 100% of you that taxes are going higher, but even if Congress does nothing, even if the law doesn’t change, taxes are scheduled to go higher after 2025. As the law is currently written, taxes are reverting to higher levels in 5 years. That’s if Congress doesn’t act. If they do, my guess is it’s not going to be to lower taxes. And so what you want to look at is what mix do you have of your assets? Where are they held? And then you look at two things. Where are you now in taxes? And then where are you going to be in retirement in taxes then? Right. And so you do a tax projection and you look and you say, all right, what tax bracket am I in now? What am I going to be in in the future, given where taxes are? And where they might be? Right. And then it’s like, ok, what impact is distribution from this account or where you take money from going to have on your future taxes? And for a lot of people, what winds up making sense is having some diversification where maybe you’ve got some money here, you’ve got some money here, and you’ve got some money here. Right. And so a lot of people have a fair amount of money in the tax-deferred pool. Hopefully maybe save some money in here. This can be really important. In here, again, as you invest, you want to focus on things that generate long term capital gains or qualified dividends, so you get those special rates. The idea that you want to have some tax diversification. Right. So, when you look at the Roth account, maybe doing some Roth IRA contributions, right. The limit there is $6000. And if you’re over age 50, you can do a $1000 catch-up for a total of $7000. You need to be working. Need to have earned income. Right. You have until April 15th to make a 2020 convert- contribution. So if you haven’t done it yet for 2020, you’ve still got time. Maybe doing a Roth 401(k) if you have that option. There the limits are the same as with the pre-tax for 401(k). So, you might consider putting some money in there. Right. Now if you do that, your taxes in the current year, let’s say if you switch from putting money in your 401(k) pre-tax to putting it into the Roth, your taxes are going to go up because you don’t get that tax break. But again, every dollar that grows in here is going to grow tax-free, come out tax-fee. The way a lot of people look at this as they look at doing Roth conversions. They take some of the dollars in their IRA and they convert it up to a Roth. Now, the downside is that when you do that, you pay taxes. Right? But the upside is this. You are always going to pay taxes on the dollars in your tax-deferred account. The IRS gave you a break when you put the money in there. They’re not the forgiving kind. They’re going to come around and get their pound of flesh. So whether it’s now, whether it’s when you need the money in retirement, whether it’s at 72, because at age 72 RMDs kick in and you’re going to owe your taxes, you’re going to owe the distributions and pay taxes, whether it’s your heirs. If you don’t spend the money, your heirs take it out. And over 10 years, you- they have to pay something called income in respect to the decedent. They will pay taxes on that money. There’s no getting away from it. So your only choice is when do you pay the taxes? At what rate? Do you pay them at today’s rates or future rates? And on how much? Do you pay taxes on the seeds? Or on the harvest? Do you want growth here? Or here? And for a lot of people, it can make sense to get some money in the tax-free pool. But here’s the reason I bring it up right now is because this is marrying it to the investments. Right. Is when you look at it, you’re going to have your portfolio, right? Let’s say you have a mix. And I’m just going to make this up real quick. Let’s say you have 4 investments. 1, 2, 3, and 4. One is the most aggressive, 4 is the most conservative. Well, this is your portfolio. It’s held in different accounts, but this is your whole portfolio. A lot of people take their mix and hold it in each account. But what you want to do is this. You have a pool of money here in the tax-free pool that’s going to grow forever, tax-free, come out tax-free. Take whatever has the most expected growth. Maybe it’s small company value stocks. Maybe it’s emerging market. I don’t know. Put it in the tax-free account because all that growth is free of taxes. Then you’ve got a portfolio down here, the tax-deferred, where you’re going to pay taxes at the highest possible rate. Take your most conservative investment, put it down there, put a lid on that future growth. You don’t- it’s not that you don’t want your portfolio to grow. It’s just that, relatively speaking, if there’s a slice that doesn’t grow as much, put it where growth is taxed at the most punitive rate. So each of these portfolios might wind up looking a little bit differently. But at the end of the day, your overall mix is whatever you want it to be. It’s called asset location. It’s the closest thing to a free meal you’re going to get in the financial markets. Right. So at the end of the day, what you want to do with investments, again, it’s- we could talk about the market and we’ll keep answering questions of where things are going. But it’s like what mix is right for you? That depends on what required rate of return you have and then taking the least amount of risk possible and then allocating your investments as efficiently as possible from a tax perspective. You know, there’s a lot here and we’ve covered a bunch of stuff. I’m going to keep taking questions. But the biggest thing I’ve seen over the years, I’ve been doing this for 25 years, is people get information, but they don’t do anything with it. So here’s what I would suggest. Do something with this information. Study it some more, learn it some more. Go do some more research. If you have an advisor already, go talk to them. Ask them about your tax allocation, whether or not it’s appropriate. Ask them about asset location. Right. Ask them how you’re doing. Look under the hood. If you want a free set of eyes, my colleagues and I offer free financial assessments. Usually, we charge $200 an hour to work with people. But for people that come to these webinars, we waive the fee. If you want, there’ll be a thing that Andi’ll put up for a free financial assessment. Click the box, set an appointment. We’ll set a time for myself or one of my colleagues, a CERTIFIED FINANCIAL PLANNER™, to meet with you. We’ll go over your investments, take a look under the hood to see how you’re doing, what kind of risk you’re taking, what kind of allocation you have. We’ll take a look at your cash flows in the future to see if you have enough to retire or stay retired. We’ll take a look at your taxes. Where are you allocated right now? What tax bracket are you in? What tax bracket are you likely to be in? And does repositioning some assets makes sense for you? Again, there’s no cost, no obligation. If you don’t talk to us, talk to somebody. But again, we’re CERTIFIED FINANCIAL PLANNERs™ and we’re fiduciaries. We’re legally obligated to act in people’s best interest even when they’re not our client. So, if you want an objective pair of eyes to give you some thoughts on your portfolio, your taxes, your cash flows, fill it out for the free financial assessment. We’re happy to meet with you and go through all of that. But if you don’t meet with us, do something. With that, let me pause, Andi, and continue going back to questions.
Andi: All right. Richard has been waiting patiently for his question to be answered. So he says, “I’m moving some of my aggressive growth funds to safer dividend ETFs. I want to put those funds in my Roth since dividends are taxed at ordinary income. But to do so, I will have to sell some growth funds in my Roth, use that money to buy the dividend ETF. But I like those growth funds. So I thought I would sell the growth fund in my taxable account that I don’t like and purchase the exact same fund in my taxable account that was in my Roth. It’s like a 1-2-1 switch. Can I sell it, write-off the loss, and if I sell, is it LIFO or is that not legal because it’s a wash sale? Hope that’s clear.”
Brian: Ok, yes. So, let’s just kind of- that’s a pretty long question. Let’s say this. First of all, dividends are not taxed as ordinary income. Right. So that’s just at the most basic level. If you do it right- remember, we’ll come back to here- remember we talked about the 3 pools of money, if I can get this to work.
In this taxable pool here, depending on how you’re invested, if you own a stock, if it’s a qualified dividend and essentially a qualified dividend means- this is a little bit complicated- but if you own something for 61 days in the 120 days on either side of the ex-dividend date, and if it’s either a US company or a company that has a tax treaty with the US, that dividend is qualified and you get special rates of 0%, 15% or 20%. Right. If it’s short-term dividends or non-qualified dividends, then it’s ordinary income of anywhere from 10% to 37%. So what that means is that dividends actually can be relatively tax efficient. So I think that that’s important. And a lot of times you do want to own stocks in here, because not only can you get efficient distribution of income, but you can also tax loss harvest, which is that over time, as markets go up and down, you take advantage of the volatility to harvest those losses, offset them against future gains. The second part about- about wash sale. Yeah, you need to be careful. So a wash sale refers to when you take a capital loss on an asset, you can use that to offset future gains and be really tax efficient. Sometimes you can take this pool and turn a slice of it into a tax-free slice. Right. But there’s a wash sale, which means that if you buy the same thing within 30 days that you sold, the IRS disallows the loss. What you want to do is you want to find things that have different benchmarks. So maybe it’s selling a S&P 500 fund and buying an S&P 100 fund or something like that. So you want to find something that’s similar but not identical and that will alleviate the wash sale rules. Third thing, and then this is like the kind of last thing I’ll comment on, that is up here, you do want growth. But keep in mind that when you hear aggressive growth, over time growth stocks have underperformed value stocks. But I want to be really clear on that. Right. And so there’s often this thought that, hey, I’m going to own my growth stocks up here because growth stocks go up. The reality is growth stocks have not done as well as value stocks over time. So small company value stocks over the long run have done about 13%. The S&P is about 9%. Right. So small company value stocks and value stocks in general have outperformed growth. So if anything, that would argue that you want small companies up here and value up here and you’d want growth in a different pool.
Andi: Next one comes from David. “What is the status of the bills in Congress to alter 401(k) deduction rules and other changes?”
Brian: Yeah, I mean, Congress- so what he’s referring to is there’s talk about a SECURE Act 2.0 where there’s going to be some additional changes to some of the retirement accounts, as well as a host of other things. It seems like there is some support for that. The last I heard; it sounds like there’s support for that. Congress has a lot on their plate right. And I mean, first of all, they’re just transitioning to the new administration, new Congress. It seems like some sort of additional stimulus for COVID is probably first on the list. It seems like there’s certainly a possibility of some of those things passing. But we’ll see kind of how Congress and the new administration prioritizes as far as what they try to do first. So no, I haven’t heard any recent updates on the passage being imminent.
Andi: All right, and we have one more question from George. “Any thoughts on the housing market in San Diego?”
Brian: Yeah, wish I had bought a dozen houses a year ago. No, I mean, I’ll freely admit, if you know, back in the Spring with the world shut down and the economy collapsing, I certainly didn’t think housing was going to go on a run. The only thing I would say is that, I mean, it’s like any market, it’s supply and demand. And this doesn’t just speak to San Diego. It speaks across the country. Very few houses are for sale, inventories at all time lows, partly just because if you don’t need to move during COVID, a lot of people are choosing not to move. So it’ll be interesting to see. I know that there’s a lot of pent-up demand and you hear about bidding wars, not just in Southern California, but around the country. It’ll be interesting to see what prices look like once supply/demand dynamics start to equalize. Because Spring is usually the big moving season. We missed last Spring. We’ll see if we get this Spring or Summer with a wave of supply coming on the market, what that means for prices. But I mean, historically, you haven’t gone wrong buying real estate in Southern California. My personal guess is- and I’m not an expert on real estate- my personal guess is at some point there’s a price point at which people just can’t afford houses or the down payment no matter- no matter what. Interest rates are so low and that’s helping. But if you look around the country, there’s a lot of markets where without some sort of help from parents or a gift or something like that, people can’t afford the down payment. So I do wonder about that. But in the longer- in most markets, supply and demand is key. And if there’s no supply and demand is there, and prices go up. So, yeah, so again guys- do something with the information here. Do some more research. If you want the free assessment, click on that. We’ll reach out. We’ll set an appointment. Again, if you want to know how you’re allocated right now, whether or not Roth conversions make sense, whether you should contribute to the Roth or the pre-tax, what kind of investments you should have in this taxable account, how you’re invested, future cash flow sources, we’ll take a look at all that. Again, we’re CFP®s, we’re fiduciaries. We’ll dive under the hood, give you some thoughts. No cost, no obligation. If you want that, click on that box. We’re happy to give you the free assessment. But either way, do something, do additional research, talk to your trusted professionals, dive under the hood on all this. It’s really important. And again, I just want to reiterate, markets probably will fall at some point for a variety of reasons, including just that they go down sometimes. What you want to do is set your long-term allocation so that you don’t care when it falls. It’s not fun, but your positions because, you know, markets go up and, you know, markets go down – you know that you have a mix that’s going to get you the required rate of return you need over time. You’re positioned tax efficiently and you’ve set yourself up to distribute. And at that point, the less attention you pay to the media, the less attention you pay to what’s going on in the sensationalist headlines, the less that tug of the emotions urging you to do something, urging you to change what you’re doing, the less impact that will have and the better off you’ll be with that. Thank you all very much. Stay healthy and safe. Again, if you want that financial assessment, click on it. Thank you for attending and best of luck going forward.
Andi: Thank you, Brian. Have a great day, everybody.
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