Friday, May 31, 2013

Recovery and Depression At the Same Time



Recovery and Depression At the Same Time

If you remained heavily invested in stocks throughout the credit crisis and recovery, you’ve probably recovered all of what you lost.  Although housing prices are still below peak levels, the stock market has been hitting all-time records in recent weeks.  According the Federal Reserve, the net worth of America’s households has made a 99% recovery, and about at an 87% recovery after adjusting for inflation.  In the first quarter of 2007, we had a collective net worth of $66.7 trillion.  During the ensuing two years, we lost $15.3 trillion.  However as 2012 came to a close, our overall net worth was back to $66.1 trillion, and when the Federal Reserve issues data for the first quarter of 2013, America will be able to report that it has fully emerged from the decline.
 
Market Neutral Proposal (1999)
However, when you dig into the numbers, which is what William Emmons and Bryan Noeth do for a living at the St. Louis Fed’s Center for Household Financial Stability, you get a very different picture.[1]  If you run your finger down the rightmost column from rows four to nine in the table below, you’ll observe the hugely uneven shape of the recovery.  While middle-aged, college-educated white and Asian families have recovered (98% recovery after adjusting for inflation), their parents have lagged (84%) and their children have far to go before they recover (63%).




The recovery is even more uneven as you begin to explore the data for African-Americans and Hispanics or look at households with less than a high school diploma (the bottom three rows).  Young educated African Americans and Hispanics are only at 31% of their pre-crisis net worth and families without a high school degree are at a mere 21%.  Take a moment to look across row 9, and imagine the financial damage.  Those families without a high school diploma had an average net worth of $85,000 as the credit crisis began; today there net worth is only $17,800.

Investment strategists and policy makers describe our most recent economy decline as the Great Recession.  When I look at the data, I have to conclude that families in the lower half of our economy are suffering through the Second Great Depression.  These folks had fallen far behind the rest of the country throughout the bull market that characterized the 1980s and 1990s, so their failure to recover in recent years is an American tragedy.

As I’ve written in recent posts, there’s nothing pending in Washington, Raleigh, or most other state governments to address these gross imbalances.  Rather, we’re actually considering tax policies that would be regressive or preserve tax breaks that help the well to do.  And on the expenditure front, those Americans living through the Second Great Depression are largely on their own.





[1] http://www.stlouisfed.org/publications/pub_assets/pdf/itb/2013/In-the-Balance-issue-3.pdf

Thursday, May 30, 2013

Wasting Retirement Tax Incentives

Wasting Retirement Tax Incentives

The Congressional Budget Office estimates that we spent $137 billion on tax expenditures associated with pension and retirement benefits in fiscal 2013.[1]  That’s about 0.9% of GDP.  In the next ten years, the CBO estimates we will spend another $2 trillion in tax expenditures on retirement.  What is a tax expenditure?  When Congress creates a deduction in the tax code, the federal government forgoes the revenue it would otherwise collect because taxpayers are able to deduct certain personal expenditures from their income.  Instead of sending someone a check as part of a grant, tax expenditures are giving taxpayers money by lowering their ultimate tax liability.    While Congress is attacking spending programs, it’s giving tax expenditures a free pass.
 
Early Days (1996)
I don't think many people would dispute that encouraging people to save for retirement is a laudable goal.  Thus, providing deductions for pension and retirement contributions seems like a perfectly sensible idea.  Without the deductions, taxpayers might otherwise spend too much on current consumption and leave themselves without sufficient resources to fund their retirement years.  So it shouldn't come as a surprise that Republicans and Democrats have both supported tax deductions that encourage retirement savings.

There’s only one tiny problem with our $137 billion tax expenditure for retirement.  It’s largely a waste of money.  Roughly $90 billion, or 66% of the benefits, accrue to the top 20% of taxpayers, and the top 1% of all taxpayers receive 14% of the benefit.    While I’m sure that these folks thoroughly appreciate the government’s largesse, this is an absurd waste of precious tax dollars.  We find ourselves with a long-term structural deficit, and our only solution, so far, has been an across-the-board expenditure reduction  (sequester) of discretionary spending that unduly burden our poorest citizens.  Meanwhile, our wealthiest citizens are enjoying a form of retirement welfare.

Just like you, I’ve taken the various retirement deductions year after year.  It has, undoubtedly, helped to swell my retirement nest egg.  Did I really need a sizable boost from the federal government to build my wealth?  Absolutely not.  These deductions have merely built up the amount of money that the top 20% will leave to their heirs.   Ironically, that money will never be properly taxed because Congress has more or less destroyed the inheritance (death) tax.

The retirement deductions are, of course, good for money managers.  The top 20%, and even more so the top 1%, have sizable account balances.  As a result, there are hefty fees to be earned from managing their money.  Meanwhile, the remaining 80% have relatively paltry account balances, so their money is shunted into all sorts of automated programs and mutual funds that bleed away fees and don’t add value.  In the end, many in the bottom 80% will have entirely inadequate retirement net eggs despite the tax benefits.

It is a dismal picture.  We have tax policies that mostly help the people who don’t need help to save.  Meanwhile, the people at the bottom are left to fend for themselves.  We should be getting a much better return on the $137 billion we’re spending to promote retirement security.



[1] http://www.cbo.gov/sites/default/files/cbofiles/attachments/43768_DistributionTaxExpenditures.pdf

Wednesday, May 29, 2013

Removing the Mystique of Money Management

Removing the Mystique of Money Management

Yesterday, Michael Corkery, the Wall Street Journal’s reporter on matters of public finance and pensions, was kind enough to be an art critic yesterday (One Man's Oodles of Doodles Draw a Picture of Life in Finance”[1]).   He described my efforts to fill business notebooks with images while sitting through hour after hour of meetings.   I very much appreciate Mr. Corkery’s article and the kind comments from my former bosses.  I’ll leave it to you decide the quality and meaning of my doodles, which are scattered across this blog and appear on the Journal’s website.

Misc. Meeting (1997)

What strikes me, once again, is the fascination with money management.  If my pictures had been drawn while conducting meetings in any other industry I’m not sure they’d have received such prominent display.   However, there’s something of a mystery about what happens when money managers, investment bankers, or financiers get together to strategize or plot.  In all honesty, it is absolutely essential to the industry’s continued profitability that you continue to be baffled by the inner workings of the finance industry.  If it ever becomes evident that money managers and financiers are mere mortals making slightly educated guesses about the future, the economics of our business would collapse.  We’d just be an ordinary industry making normal profits.

While many of the meetings depicted in my drawings seemed to be of great consequence when they originally occurred, I’ve learned through the passage of time that most of them covered rather mundane matters.  All too often the meetings resulted in decisions that were good for my employer and me personally and not so good for the average employee or our clients.  This is the reality of the industry and the aim of my blog.

Perhaps, the mystique of money management is the reason my story appeared in the Journal.  However, it’s my hope that my drawings, particularly the pictures from my notebooks, will help remove that aura and enable investors and the public to see out industry for what it really is. 



[1] http://online.wsj.com/article/SB10001424127887324787004578495240762756144.html?mod=WSJ_hp_EditorsPicks

Tuesday, May 28, 2013

My Drawings Featured in the Wall Street Journal

Michael Corkery of the Wall Street Journal wrote a front page article about my drawings during my career in money management.

One Man's Oodles of Doodles Draw a Picture of Life in Finance

Monday, May 27, 2013

Policies of Exploitation

Policies of Exploitation

Two seemingly unrelated items caught my attention this weekend.  One involves the expansion of Medicaid, and the other concerns options trading by retail investors.  As I pondered these matters, it dawned on me that they are very much related.

Turning first to health care, a number of states have opted out of the Medicaid expansion included in the Affordable Care Act.[1]  The opt-out became possible when the Supreme Court upheld the overall constitutionality of the Act, but struck down provisions that penalized the states if they failed to expand Medicaid.  As a result, a large swath of the poorest Americans, especially in the south, will remain uninsured even after the Affordable Care Act is fully implemented.  Ironically, these states have taken this decision even though the federal government is prepared to pick up most of the tab.
 
Fund Blends (1996)
On the brokerage front, Schwab, Fidelity, TD Ameritrade, and other firms are pushing their retail clients into options trading.[2]  As the stock market rises, the brokers are plying clients with advertisements that offer “sophisticated” tools designed to help them make lots of money through options trading.  This campaign is sweet music to the ears of professional traders.  It’s like inviting novices to sit at the same gaming table with professional card players.  The professionals will make a lot of money and the house (brokers) will clean up as well.  The retail investors who fall for the options pitch are going to lose.

The failure to expand Medicaid and the attempt to woo retail investors into options trading share a common characteristic: exploitation of the least able.   Equitable treatment and fairness seem to have no place in either the states’ decision to exclude the poor from insurance coverage or the business decision to woo retail investors into trading options. The poor are being grossly exploited so the middle class can hang onto their entitlements and the wealthy can enjoy their tax breaks.  Retail investors are being exploited because there’s nothing like options trading to generate profits for a brokerage firm.  While Schwab and Fidelity compete to offer the least expensive stock trades, the competition is far less intense when it comes to options.  

Unfortunately, our economy and government are increasingly rife with policies that take advantage of the weak.  The failure to expand Medicaid and the push to ensnare retail investors in options trading are merely the latest examples.



[1] http://www.nytimes.com/2013/05/25/us/states-policies-on-health-care-exclude-poorest.html?hpw&_r=0
[2] http://www.nytimes.com/2013/05/25/business/growth-in-options-trading-helps-brokers-but-not-small-investors.html