your financial future
YOUR FINANCIAL FUTURE Your Guide to Life Planning January 2017
In This Issue
Weekly Economic Commentary | Week of January 9, 2017 The new year is underway and there are several economic and potentially market moving events to monitor.
Weekly Market Commentary | Week of January 9, 2017 Fourth quarter 2016 earnings season gets underway this week (January 913), and it looks like it will be another good one. Mark Dutram, CFP First City Bank of Florida Vice President 135 Perry Ave. SE Fort Walton Beach, FL 32548 850-244-5151 ext. 1125 Fax: 850-244-1417 [email protected] www.LPLFCB.com
Bond Market Perspectives | Week of January 3, 2017 Muted returns for high-quality fixed income may await investors in 2017.
401(k) or IRA? Finding the Right Plan for Your Business If you're a small-business owner, make sure you compare the features and benefits associated with some of your options.
Year-End Planning to Help You Lower Your Tax Bill By planning ahead and taking advantage of these time-proven tax strategies before year-end, you may be able to lessen your tax bite come April.
2
Your Guide to Life Planning
Weekly Economic Commentary | Week of January 9, 2017
JANUARY GAME PLAN KEY TAKEAWAYS We will be monitoring many significant events this month, including fourth quarter earnings, Chinese New Year, and the first FOMC meeting of 2017. We'll know quickly how the economy is looking and if the earnings recovery that started last quarter is real, or was a short-lived bounce. The new year is underway and there are several economic and potentially market moving events to monitor. While 2016 was a year no one will soon forget, as it opened with global turmoil in equity, credit, and energy markets; surprising results from the Brexit vote and the divisive U.S. presidential campaign and election; and finished with the end of the earnings recession, the highest consumer confidence in 15 years, and record highs on major indexes. As we turn the page to 2017, it is important to stay on top of the significant happenings coming up. To help, we've created this guide to the January 2017 market calendar, providing an overview of key events. January 6 December Employment Report Review The initial reaction to the December 2016 nonfarm payrolls was disappointment, as it came in at 156k, shy of the consensus of 175k. Yet, after closer examination there were some positives; November payrolls were revised up to 204k from 178k, and average hourly earnings increased 2.9% year over year, the highest annual rate since April 2009. Manufacturing data has been strong recently, with the Institute for Supply Management (ISM) manufacturing survey index for December 2016 coming in at 54.7, a fresh new two-year high; and this was confirmed by 17k jobs added in the manufacturing sector last month, the most since January 2016. Also initial jobless claims came in near a 43-year low. We continue to think that job creation will decelerate, as we said in 2016. In fact, looking at last year, the U.S. economy averaged "only" 180k new jobs per month, after averaging 230k per month in 2015. Taking a closer look at 2016, monthly job creation averaged around 200k in the first quarter of 2016 and slowed to just 165k per month by the fourth quarter of the year. Many market participants have been skeptical that decelerating jobs growth could still foster a tightening labor force and rising wages. Well, with the December 2016 wage growth up 2.9% year over year, improving wages and other key measures of wages may finally heal the disconnect between the market and the Federal Reserve (Fed) on the labor market [Figure 1].
January 9 - 13
3
Your Guide to Life Planning Fourth Quarter Earnings Season Begins The third quarter marked the end of the year-long earnings recession, as S&P 500 earnings posted a 4% year-over-year gain, nearly 5% above estimates. The third quarter also marked the end of the revenue recession, as revenue grew for the first time since the fourth quarter of 2014. Financials and technology, the two largest components of the S&P 500, led the way with strong results. Turning to the fourth quarter, Thomson-tracked consensus estimates are looking for a 6.1% year-over-year increase. Assuming we get an average upside surprise of 4%, we think double-digit earnings growth is within the realm of possibility. Reasons for optimism include a favorable pre-announcement ratio and the return of earnings growth to the energy sector. With energy being a big reason for the earnings recession, it will be a major tailwind for the group to finally show some growth. Uncertainty this earnings season circles around a strong U.S. dollar, suggesting a modest drag to earnings. Also, concern regarding the U.S. election could have pushed back spending and investment decisions until later in 2017 in some cases. For much more on our thoughts about the upcoming earnings season, be sure to read this week's Weekly Market Commentary. January 28 Chinese New Year China and many other Asian countries (including Hong Kong, Taiwan, and Singapore) will celebrate the New Year on January 28. Markets will be closed for several days after the holiday, varying by country. In mainland China most economic activity stops as people return to their native provinces and spend time with families. Chinese central bankers are usually busy before and during the holiday, as people withdraw cash in order to travel. There are frequent media stories that confuse the government's desire to have ATM machines properly filled with meaningful changes in monetary policy. The fact that the timing of the New Year holiday changes each year also can make some economic data, particularly areas like retail sales, difficult to evaluate comparing one year to the next. Some also like to examine the Chinese zodiac for clues regarding the economy, or corporate and economic policy for the new year. The rooster is associated with pride and overt shows of power and authority. Some Chinese astrologers have been predicting that 2017 will be a year of increased criticism of public officials. This is consistent with Chinese President Xi Jinping's consolidation of power and anti-corruption campaign. One need not accept the cause and effect of Chinese astrology on a global power to see how old cultural beliefs can still be seen as relevant to modern times. January 31 - February 1 Federal Reserve (Fed) Meeting The Federal Open Market Committee (FOMC), the policymaking arm of the Fed, will hold the first of its eight policy meetings of 2017 on January 31-February 1, 2017. Although we (and most market participants) do expect the Fed to raise rates two to three times (by 0.25% each) over the course of 2017, we (and the market) don't expect a hike at this meeting. As of January 6, 2017, the fed funds futures market suggests that there is just a 12.4% chance of a hike at the January 31-February 1, 2017 meeting. As 2017 begins, Fed Chair Janet Yellen starts the final year of her four-year term (ending in January 2018), and she has expressed interest in serving out her term under the first year of the Trump administration. As the year progresses, markets will begin to more seriously discuss potential replacements for Yellen, if as many expect today, President-elect Donald Trump doesn't reappoint her for another four-year term. Yellen won't be asked about that at this meeting, as there is no press conference nor a new set of economic forecasts or dot plots released at the conclusion of the meeting. All markets will have to react to is the FOMC statement. Conclusion January is an important month, and with it comes many hopes for improved changes and a better year. We have a glimpse into how the economy ended the year with the jobs report in the books. Now we turn our attention to the Fed, earnings season, and China to help tell us where markets may go from here. Whatever happens in January and the rest of 2017, know that we'll be here for you to share what we see. Most importantly, we wish each of you a great year, filled with success both personally and professionally. Thank you to Matthew Peterson and Jeff Buchbinder for their contributions to this report. January 2017 Calendar
4
Your Guide to Life Planning
IMPORTANT DISCLOSURES The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results. Any economic forecasts set forth in the presentation may not develop as predicted and there can be no guarantee that strategies promoted will be successful. Investing in stock includes numerous specific risks including: the fluctuation of dividend, loss of principal, and potential liquidity of the investment in a falling market. Because of its narrow focus, specialty sector investing, such as healthcare, financials, or energy, will be subject to greater volatility than investing more broadly across many sectors and companies. The fast price swings in commodities and currencies will result in significant volatility in an investor’s holdings. International investing involves special risks such as currency fluctuation and political instability and may
5
Your Guide to Life Planning not be suitable for all investors. These risks are often heightened for investments in emerging markets. All investing involves risk including loss of principal.
INDEX DESCRIPTIONS The U.S. Institute for Supply Managers (ISM) Purchasing Managers’ Index (PMI) is an economic indicator derived from monthly surveys of private sector companies, and is intended to show the economic health of the U.S. manufacturing sector. A PMI of more than 50 indicates expansion in the manufacturing sector, a reading below 50 indicates contraction, and a reading of 50 indicates no change. The Standard & Poor’s 500 Index is a capitalization-weighted index of 500 stocks designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries. The USD Index measures the performance of the U.S. dollar against a basket of foreign currencies: EUR, JPY, GBP, CAD, CHF and SEK. The U.S. Dollar Index goes up when the dollar gains “strength” compared to other currencies.
This research material has been prepared by LPL Financial LLC. To the extent you are receiving investment advice from a separately registered independent investment advisor, please note that LPL Financial LLC is not an affiliate of and makes no representation with respect to such entity. Not FDIC or NCUA/NCUSIF Insured | No Bank or Credit Union Guarantee | May Lose Value | Not Guaranteed by Any Government Agency | Not a Bank/Credit Union Deposit
Tracking #1-570177 (Exp. 1/18)
6
Your Guide to Life Planning
Weekly Market Commentary | Week of January 9, 2017
HIGHLIGHTS The fourth quarter 2016 earnings season begins this week, and we expect it to be another good one. Energy prices rebounded in the fourth quarter, positioning the energy sector to potentially deliver its first earnings growth since the third quarter of 2014. Financials is poised to be a sector standout, with rising interest rates, stock market gains, and healthy credit markets all helping to buoy the sector's profit picture.
FOURTH QUARTER 2016 EARNINGS PREVIEW: LOOKS LIKE ANOTHER GOOD ONE Fourth quarter 2016 earnings season gets underway this week (January 9-13), and it looks like it will be another good one. With Alcoa no longer the unofficial kick off of the earnings season, we will consider Friday the start of the season when several big banks with the potential to move the market will report. Here we preview fourth quarter earnings season, which we expect to be another good one, marking the return of earnings growth to the energy sector.
OVERVIEW Thomson-tracked consensus estimates for the fourth quarter of 2016 are calling for a 6.1% year-over-year increase in S&P 500 earnings. That means based on the typical upside companies generate, near 4%, double-digit earnings growth may be within the realm of possibility. We have several reasons to be optimistic: Resilient estimates. Earnings estimates held up very well during the last three months of 2016. Since October 1, 2016, fourth quarter 2016 earnings estimates for the S&P 500 have fallen 2.2%, about half the five-year average of minus 4.3% and 3% better than the 10-year average of minus 5.3%. Fourth quarter estimates for the two biggest S&P sectors, technology and financials, have actually risen since October 1 and over the past month providing encouraging signs. The S&P 500's 7% jump since Election Day increases the odds that estimates prove conservative, as stocks do tend to signal earnings moves. Improved pre-announcement ratio. The ratio of companies pre-announcing negative fourth quarter 2016 results relative to those pre-announcing positive results, at 2.0, is better than the year-ago quarter (2.9), last quarter (2.3), and the 20-year average (2.7). This ratio suggests a high proportion of companies will exceed estimates, potentially higher than in recent quarters. A solid 71% of S&P 500 companies beat estimates in the third quarter of 2016 with a 4.8% upside surprise. Good manufacturing data. Although the U.S. economy, based on gross domestic product (GDP), is approximately two-thirds consumer spending driven, the composition of the S&P 500 is quite different. We estimate that more than 60% of the S&P 500 is manufacturing driven, making manufacturing data that much more important. As a result, we believe the recent uptick in the Institute of Supply Management (ISM) Manufacturing Index bodes well for earnings this quarter and next [Figure 1]. Energy rebound. Oil prices rose 11% during the fourth quarter, putting the quarter's average price 17% above the average for the year-ago quarter [Figure 2]. That has the energy sector poised to deliver its first earnings growth since the third quarter of 2014 (Thomson-tracked consensus calling for +2.1%). Energy will be a big swing factor from the third quarter of 2016 when the sector's earnings fell 67% year over year. And perhaps the best news of all? We don't have to deal with "ex-energy" earnings calculations anymore! Looking ahead, should West Texas Intermediate (WTI) crude oil prices stay at January 6, 2017, levels near $53/barrel through March 31, the average price would be 60% above the first quarter 2016 level.
7
Your Guide to Life Planning
8
Your Guide to Life Planning On the flip side, a strong U.S. dollar may limit the upside to forecasts. The average U.S. dollar level for the fourth quarter of 2016 was 2.1% above the year-ago quarter's level, and 4.2% above the third quarter 2016 level, suggesting currency may be a modest drag on earnings in the fourth quarter of 2016. U.S. election-related policy uncertainty may also cap gains. Even though corporate, consumer, and investor sentiment have all been on the rise since the election, the first six weeks of the quarter were clouded by political uncertainty. The policy outlook remains unsettled even after the election, suggesting that some spending and investment decisions may have been put off into 2017. Wage gains may lead to some modest profit margin compression in the quarter for non-energy sectors (higher oil prices will overwhelm wage growth for oil producers). Friday's jobs report (January 6) showed a 2.9% increase in wages, the biggest increase since April 2009, based on average hourly earnings. The offset to that profit margin pressure is consumers have more money in their pockets to spend, which we think may have contributed to a healthy increase in holiday sales this year. SECTOR STANDOUTS The biggest story of the season, besides energy's turnaround, will likely be financials, with Thomson-tracked consensus estimates calling for a market-leading 15.7% year-over-year increase. Both the outlook and earnings estimates for financials have improved in recent months. Rising interest rates, stock market gains, and healthier credit markets (in part due to energy sector stability) all help buoy the sector's profit picture, while more help could be on the way later this year in the form of deregulation. We also expect a strong season for technology, buoyed by the recent increase in the sector's estimates and generally favorable demand trends across the sector. Eight of eleven sectors are forecast to produce earnings growth in the fourth quarter, with only modest declines expected for real estate, telecom, and industrials [Figure 3]. Should all sectors produce an upside surprise near the long-term average, all 11 S&P sectors would produce positive earnings growth for the quarter. The one sector that could stand in the way of a perfect 11 for 11 is industrials. Capital spending has been lackluster and the energy downturn has led to earnings weakness for the past several quarters. Although estimates have been revised lower in recent months, industrials may get a boost from higher energy prices, which gives the sector a chance at the 3.5% upside surprise required to post an annual earnings increase.
POLICY OUTLOOK
9
Your Guide to Life Planning Actual results and forward guidance are always important to markets. But with so much on the policy agenda following the election, we will keep one eye on Washington and the potential earnings impact of policy changes. The big one is a lower corporate tax rate, potentially down to 20% from 35% currently. Although there will almost surely be revenue generating offsets, the impact from a lower rate could be 5-6% in S&P 500 earnings, if not more. We won't have details for several months and actual legislation, which may include infrastructure spending in it, may not be enacted until the fourth quarter of 2017 and go into effect on January 1, 2018. This is an important item to watch. Tax reform is also likely to include a discounted rate for multi-nationals to repatriate overseas cash (currently taxed at the full corporate rate of 35%). As such, a significant amount of cash (estimated near $2.4 trillion) is trapped overseas because companies do not want to pay the tax to bring it back to the U.S. Should this proposal be enacted, we could see a significant jump in share buybacks (Goldman Sachs estimates a 30% increase) that would take share counts down and therefore earnings per share up, potentially by 1-2%. A repatriation tax holiday in 2004 at a rate of 5.25% saw a similar result. The concept of a border adjustment tax policy where imports are taxed more heavily than exports in order to encourage U.S. production has received a lot of media attention in recent weeks. We see the odds of a proposal like this getting through Congress as fairly low, but a moderate version of it could be put in as a nod to President-elect Donald Trump's pledge to bring back overseas jobs. The proposal would be a revenue generator for the U.S. government, and would reduce overall S&P 500 earnings. CONCLUSION There are several reasons to expect good results from corporate America this earnings season when compared with expectations, including solid manufacturing data, resilient earnings estimates, and the rebound in energy profits. Investors will have one eye on these results and another on the potential earnings impact of policy developments over the coming weeks and months. IMPORTANT DISCLOSURES The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results. The economic forecasts set forth in the presentation may not develop as predicted and there can be no guarantee that strategies promoted will be successful. All company names noted herein are for educational purposes only and not an indication of trading intent or a solicitation of their products or services. LPL Financial doesn’t provide research on individual equities. Investing in stock includes numerous specific risks including: the fluctuation of dividend, loss of principal, and potential liquidity of the investment in a falling market. Because of its narrow focus, specialty sector investing, such as healthcare, financials, or energy, will be subject to greater volatility than investing more broadly across many sectors and companies. The fast price swings in commodities and currencies will result in significant volatility in an investor’s holdings. All investing involves risk including loss of principal. INDEX DESCRIPTIONS The Standard & Poor’s 500 Index is a capitalization-weighted index of 500 stocks designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries. The U.S. Institute for Supply Managers (ISM) Purchasing Managers’ Index (PMI) is an economic indicator derived from monthly surveys of private sector companies, and is intended to show the economic health of the U.S. manufacturing sector. A PMI of more than 50 indicates expansion in the manufacturing sector, a reading below 50 indicates contraction, and a reading of 50 indicates no change. The USD Index measures the performance of the U.S. dollar against a basket of foreign currencies: EUR, JPY, GBP, CAD, CHF and SEK. The U.S. Dollar Index goes up when the dollar gains “strength” compared to other currencies. DEFINITIONS Gross domestic product (GDP) is the monetary value of all the finished goods and services produced within a
10
Your Guide to Life Planning country’s borders in a specific time period, though GDP is usually calculated on an annual basis. It includes all of private and public consumption, government outlays, investments and exports less imports that occur within a defined territory. This research material has been prepared by LPL Financial LLC. To the extent you are receiving investment advice from a separately registered independent investment advisor, please note that LPL Financial is not an affiliate of and makes no representation with respect to such entity. Not FDIC or NCUA/NCUSIF Insured | No Bank or Credit Union Guarantee | May Lose Value | Not Guaranteed by Any Government Agency | Not a Bank/Credit Union Deposit Tracking #1-570141 (Exp. 01/18)
11
Your Guide to Life Planning
Bond Market Perspectives | Week of January 3, 2017
Highlights Upward trending economic growth and inflation, in addition to Fed rate hikes, may put pressure on high-quality bond prices in 2017. Fixed income allocations should nonetheless be maintained as they play a vital role in suitable investors' portfolios, despite prospects of low returns.
Please see our Outlook 2017: Gauging Market Milestones publication for insights on the economy, stock and bond markets, and investments for the year ahead. This week's commentary features content from that publication.
2017 Fixed Income Outlook: Despite Liftoffs, Expect Muted Bond Returns Muted returns for high-quality fixed income may await investors in 2017. Higher rates of economic growth and inflation, along with our base case of two potential Fed rate hikes, may put bond prices under pressure in 2017, leading to muted returns for high-quality fixed income. Amid this backdrop, most of the return potential for bonds may lie in their income component, or "coupon." Immediately following the election of Trump and a Republican majority in both houses of Congress, interest rates rose and the Treasury yield curve steepened as the market digested increased prospects of fiscal stimulus through spending and tax cuts and their potential impact on economic growth and inflation, two of the key drivers of interest rates. Low and negative yields on sovereign bonds in international developed markets, however, may continue to put downward pressure on U.S. yields, limiting the future strength of the post-U.S. election run-up in rates as 2017 begins. The restraining effect of international rates could become larger if concerns about the erosion of the EU continue, as in the case of Brexit, potentially forcing the European Central Bank (ECB) to expand or extend quantitative easing. Nevertheless, for rates to reverse meaningfully, we would likely need to see the onset of a recession in the U.S. in 2017, a scenario we believe to be unlikely.
GAUGING GRADUAL PROGRESS Despite our expectation for muted bond market performance in 2017, we continue to believe fixed income plays a vital role in a well-diversified portfolio. Even in a low return, low-yield environment, high-quality bonds serve as an important diversifier, helping to manage risk from equities and other higher risk asset classes. During equity market pullbacks (greater than 5%) since 2010, the S&P 500 averaged a -11% total return, while the broad bond market returned 1.6%, on average [Figure 1]. Although this absolute return is not very exciting, the outperformance relative to equities (+12.6%, on average) demonstrates high-quality fixed income's value as a risk mitigation tool. Click here Figure 1: Bond Performance Relative to Equities Shows Diversifying Role of High-Quality Fixed Income
RETURNS LOSING STEAM, NOT BROKEN Scenario analysis for the broad bond market in 2017 shows the influence that interest rates can have on high-quality fixed income returns [Figure 2]. If Treasury yields are flat it would result in an estimated 3.1% total return. A 0.25% increase in intermediate-term Treasury yields could reduce the total return to an estimated 1.6%, while a 0.25% decrease could boost the broad bond market's total return to 4.5% for the year. We expect the 10-year Treasury yield to end 2017 in its current 2.25-2.75% range, leaving bond prices near flat with the majority of their total returns driven by coupon income. Our bias is toward the upper end of the range, and we do see the potential for the 10-year Treasury yield to end the year as high as 3.0%, should meaningful fiscal stimulus be enacted. Even with that wider range, our total return estimates for the broad bond market range from approximately 0.5% to 4.0%. This drives our expectation for the broad high-quality bond market's "muted" return, relative to the 10-year average total return of 4.6% and 25-year average of 6.3%. Click here Figure 2: Broad Bond Market Returns May be Muted in 2017 The onset of a U.S. recession or a major unexpected shock to the global economy could push rates lower and
12
Your Guide to Life Planning bond prices higher; however, prices on high-quality fixed income securities are more likely to be under pressure from several major sources in 2017. Fiscal stimulus. Long-term bond yields compensate investors primarily for the risk of not being invested in higher return opportunities related to economic growth and inflation (which eats away at real returns). The "term premium" in fixed income markets represents the additional compensation that investors demand for holding longer-term bonds relative to shorter-term bonds. If Trump is able to pass fiscal stimulus measures, including tax cuts, through a united Congress, that term premium could continue to rise with the increased prospect of greater growth and higher inflation. This would push long-term yields higher, pressuring bond prices. In addition, at least one top rating agency has warned that should all of Trump's proposed economic and fiscal policies be enacted, it would be negative for U.S. sovereign creditworthiness due to its impact on the deficit, which may also be putting upward pressure on yields. Ongoing Fed rate hikes. Fed rate hikes will likely push short-term interest rates higher in 2017. Though potentially painful for many fixed income investors, normalization of interest rate policy by the Fed is also a positive milestone for the health of the economy. Raising interest rates further will also give the Fed more tools at their disposal should the economic recovery sputter. Foreign selling. Foreign countries have been liquidating Treasuries during 2016 at a pace above that seen in recent years. Many foreign nations sell Treasuries to fund international payment obligations or to devalue their currencies in response to liquidity issues, export weakness, or defaults at home. Investors are less apt to hold longer duration Treasuries if they find Trump's tariff proposals credible, due to the possibility of a trade war. Until clarity on U.S. trade policy is provided, we expect more volatility in the Treasury market. Increasing risk premiums due to political uncertainty. Trump's policies are likely to be pro-business and anti-regulation, but his outsider status and complicated mix of priorities may increase policy uncertainty from the nation's highest office. Investors demand additional compensation in the form of higher yields for the added risk. The more Trump's plans are known and understood by markets, the lower this additional yield compensation may need to be.
SEARCH FOR YIELD ISN'T OVER High-yield bonds and bank loans could be two potential ways to help some suitable investors increase yield in their fixed income portfolios, in what is still a historically low-rate environment. High-yield returns have been mainly driven by fluctuations in the high-yield energy sector since mid-2014, when the price of oil began its steep decline from $105/barrel to a low of $26 in mid-February 2016. A substantial number of defaults occurred in the energy sector in 2015 and 2016, helping to remove some of the weaker industry players. With oil oscillating in the $40-50 range throughout the majority of 2016, high-yield valuations increased throughout the latter half of the year as default prospects slowly improved. Despite this improvement, the price of oil remains a powerful force in the high-yield market and an ongoing risk. Amid continued improvement in the price of oil, the theme of improving fundamentals is poised to continue into 2017, as default levels for high-yield bonds are projected to decline from 4.5% at the end of 2016 to roughly 3-3.5% in 2017, based on estimates from credit rating services. While this is good news for the high-yield bond market, much of that improvement is already reflected in current valuations, leaving high-yield with little room for error in the case of equity market weakness or another destabilizing force. Non-financial corporate debt-to-earnings levels, which can indicate how much debt firms in the high-yield market are carrying on a relative basis, continue to increase. This is a negative fundamental trend, on balance, but the limited amount of high-yield debt maturing in 2017 should help support the asset class. However, we do expect high-yield valuations to richen slightly during 2017, which would support prices, in part due to the prospect of business-friendly policies from a Trump administration. Nevertheless, we believe interest payments will drive the majority of high-yield's return, similar to high-quality fixed income. Given that, we anticipate mid-single-digit returns driven by interest income for high-yield bonds.
BANK ON HIGHER SHORT-TERM RATES While longer-term Treasury rates are largely driven by expectations of future U.S. economic growth and inflation, short-term Treasury yields are more sensitive to Fed policy. With the prospects of additional Fed rate hikes in 2017, short-term rates are poised to continue to move upward. One potential beneficiary is bank loans, which are similar to high-yield bonds in that they are below investment grade, but different in that they are generally less volatile and have interest payments that fluctuate based on global short-term interest rate benchmarks. Bank loans may represent a similar, but somewhat more conservative option than high-yield bonds for investors who seek yield while simultaneously attempting to manage interest rate risk. Bank loans are also less sensitive to the energy sector, which only represents approximately 3% of the bank loan market,
13
Your Guide to Life Planning compared to roughly 14% of the high-yield market. Although the yield of bank loans is lower than that of high-yield bonds and the prospects for capital appreciation are more limited, the sector remains a solid option for income for suitable investors who understand their risks, in our view.
MUNICIPAL OUTLOOK Post-election, as fixed income markets digested the economic implications of a Trump presidency, yields in the tax-sensitive municipal market began to spike, though not as much as Treasury yields. Prices should stabilize relative to Treasuries once the new administration clarifies its tax policy. The overhang of underfunded pension liabilities may drive credit risk up in certain states until they shore up their fiscal positions. If Trump's infrastructure plan necessitates borrowing by states and municipalities, excess supply could also pressure the municipal market in 2017, but this is another area where the impact cannot be fully evaluated until we have greater policy clarity.
IMPORTANT DISCLOSURES The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance reference is historical and is no guarantee of future results. All indexes are unmanaged and cannot be invested into directly. The economic forecasts set forth in the presentation may not develop as predicted and there can be no guarantee that strategies promoted will be successful. There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk. Bonds are subject to market and interest rate risk if sold prior to maturity. Bond values and yields will decline as interest rates rise, and bonds are subject to availability and change in price. Government bonds and Treasury bills are guaranteed by the U.S. government as to the timely payment of principal and interest and, if held to maturity, offer a fixed rate of return and fixed principal value. However, the value of fund shares is not guaranteed and will fluctuate. Corporate bonds are considered higher risk than government bonds but normally offer a higher yield and are subject to market, interest rate, and credit risk as well as additional risks based on the quality of issuer coupon rate, price, yield, maturity, and redemption features. High-yield/junk bonds are not investment-grade securities, involve substantial risks, and generally should be part of the diversified portfolio of sophisticated investors. Bank loans are loans issued by below-investment-grade companies for short-term funding purposes, with higher yield than short-term debt, and involve risk. These Lower-quality debt securities involve greater risk of default or price changes due to potential changes in the credit quality of the issuer. Municipal bonds are subject to availability and change in price. They are subject to market and interest rate risk if sold prior to maturity. Interest income may be subject to the alternative minimum tax. Municipal bonds are federally tax-free but other state and local taxes may apply. If sold prior to maturity, capital gains tax could apply. Because of their narrow focus, specialty sector investing, such as healthcare, financials, or energy, will be subject to greater volatility than investing more broadly across many sectors and companies.
INDEX DEFINITIONS The S&P 500 Index is a capitalization-weighted index of 500 stocks designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries. The Barclays U.S. Aggregate Bond Index is a broad-based flagship benchmark that measures the investment-grade, U.S. dollar-denominated, fixed-rate taxable bond market. The index includes Treasuries, government-related and corporate securities, MBS (agency fixed-rate and hybrid ARM pass-throughs), ABS, and CMBS (agency and non-agency).
14
Your Guide to Life Planning RES 5736 0117 | Tracking #1-568239 (Exp. 01/18)
15
Your Guide to Life Planning
401(k) or IRA? Finding the Right Plan for Your Business The types of retirement plans that are available to small-business owners today may rival those used by large corporations. If you're a small-business owner, take a few minutes to compare the features and benefits associated with some of your options.
401(k) Plans If you have employees in addition to yourself and want a plan that's relatively easy to administer, you may want to consider a SEP IRA or a SIMPLE IRA.
Named after the section of the tax code that created them, traditional 401(k) plans are funded largely through employee payroll deduction. Employee contributions are made on a pre-tax basis, which reduces a participant's taxable income. Investment returns potentially compound on a tax-deferred basis until qualified withdrawals, which are taxable, are made during retirement. Maximum employee contributions for 2016 are $18,000, plus a $6,000 catch-up contribution for those aged 50 and older. Employers may offer a matching contribution, which is tax-deductible by the business, although they are not required to do so. There is also a Roth 401(k), in which contributions are taxable but qualified withdrawals during retirement are tax-free. Most plan sponsors offer either a traditional 401(k) or a 401(k) with a Roth 401(k) feature.
SEP IRAs and SIMPLE IRAs If you have employees in addition to yourself and want a plan that's relatively easy to administer, you may want to consider a SEP (simplified employee pension plan), IRA, or a SIMPLE IRA. In general, employees who are expected to earn at least $600 in 2016, have worked for you for three of the preceding five years, and are age 21 or older are eligible to participate. The maximum annual contribution, which is tax-deductible, is up to 25% of compensation or $53,000, whichever is less. SIMPLE IRAs are limited to companies with 100 or fewer employees earning at least $5,000 in the preceding year. Employees may contribute up to $12,500 in 2016, plus a $3,000 catch-up contribution for those aged 50 and older. There are two types of SIMPLE IRAs: a matching plan and a nonelective contribution plan. With a matching plan, the employer provides a matching contribution up to 3% of annual salary. With a nonelective contribution plan, employers contribute a fixed amount of 2% of an eligible employee's salary (up to $5,000) regardless of whether the employee contributes. Note that a SIMPLE IRA can be set up in conjunction with a 401(k) plan. When it is, employee contributions cannot exceed the $18,000 annual limit. There's more to learn about each of these plans. Your financial advisor can help you sort through the facts and select a plan or a combination of plans that fits your needs. You should also consult with your tax professional, who can help you determine which solution may be the most appropriate for your situation. © 2017 Wealth Management Systems Inc. All rights reserved. 1-044967
16
Your Guide to Life Planning
Year-End Planning to Help You Lower Your Tax Bill As the end of the year draws near, the last thing anyone wants to think about is taxes. But if you are looking for ways to minimize your tax bill, there's no better time for tax planning than before year-end. That's because there are a number of tax-smart strategies you can implement now that will reduce your tax bill come April. And with higher rates, being tax efficient is more important than ever. Consider taking losses before gains, since unused losses may be carried forward for use in future years, while gains must be taken in the year they are realized.
Put Losses to Work If you expect to realize either short- or long-term capital gains, the IRS allows you to offset these gains with realized capital losses. Short-term gains (gains on assets held less than a year) are taxed at ordinary rates, which range from 10% to 39.6%, and can be offset with short-term losses. Long-term gains (gains on assets held longer than a year) are taxed at a top rate of 20% and can be reduced by long-term capital losses. 1 To the extent that losses exceed gains, you can deduct up to $3,000 in capital losses against ordinary income on that year's tax return and carry forward any unused losses for future years. Given these rules, there are several actions you should consider: Avoid short-term gains when possible, as these are taxed at higher ordinary rates. Unless you have short-term losses to offset them, try holding the assets for at least one year. Take a good look at your portfolio before year-end and estimate your gains and losses. Some investments, such as mutual funds, incur trading gains or losses that must be reported on your tax return and are difficult to predict. But most capital gains and losses will be triggered by the sale of the asset, which you usually control. Are there some winners that have enjoyed a run and are ripe for selling? Are there losers you would be better off liquidating? The important point is to cover as much of the gains with losses as you can, thereby minimizing your capital gains tax. Consider taking losses before gains, since unused losses may be carried forward for use in future years, while gains are taxed in the year they are realized.
Unearned Income Tax A 3.8% tax on "unearned" income for high-income taxpayers effectively increases the top rate on most long-term capital gains to 23.8%. The tax applies to "net investment income," which includes interest, dividends, royalties, annuities, rents, and other passive activity income, among other items. Importantly, net investment income does not include distributions from IRAs or qualified retirement plans, annuity payouts, or income from tax-exempt municipal bonds. In general, the tax applies to single taxpayers with a modified adjusted gross income (MAGI) of $200,000 or more and to those who are married and filing jointly with a MAGI of $250,000 or more.
What's to Come? While there are currently no scheduled changes in federal tax rules, there are many steps you can take today to help lighten your tax burden. Work with a financial professional and tax advisor to see what you can do now to reduce your tax bill in April. 1Under certain circumstances, the IRS permits you to offset long-term gains with net short-term capital
losses. See IRS Publication 550, Investment Income and Expenses. This communication is not intended to be tax advice and should not be treated as such. Each individual's tax situation is different. You should contact your tax professional to discuss your personal situation. © 2017 Wealth Management Systems Inc. All rights reserved. 1-210148
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and cannot be invested into directly. Mark Dutram, CFP is a Registered Representative with and Securities are offered through LPL Financial, member FINRA/SIPC. Insurance products offered through LPL Financial or its licensed affiliates. First City Bank of Florida is not a registered Broker/Dealer and is not affiliated with LPL Financial Not Bank/Credit Union Guaranteed Not Insured by any Federal Government Agency
Not FDIC/NCUA Insured
May Lose Value Not a Bank Deposit
This newsletter was created using Newsletter OnDemand, powered by Wealth Management Systems Inc.
In This Issue
Weekly Economic Commentary | Week of January 9, 2017 The new year is underway and there are several economic and potentially market moving events to monitor.
Weekly Market Commentary | Week of January 9, 2017 Fourth quarter 2016 earnings season gets underway this week (January 913), and it looks like it will be another good one. Mark Dutram, CFP First City Bank of Florida Vice President 135 Perry Ave. SE Fort Walton Beach, FL 32548 850-244-5151 ext. 1125 Fax: 850-244-1417 [email protected] www.LPLFCB.com
Bond Market Perspectives | Week of January 3, 2017 Muted returns for high-quality fixed income may await investors in 2017.
401(k) or IRA? Finding the Right Plan for Your Business If you're a small-business owner, make sure you compare the features and benefits associated with some of your options.
Year-End Planning to Help You Lower Your Tax Bill By planning ahead and taking advantage of these time-proven tax strategies before year-end, you may be able to lessen your tax bite come April.
2
Your Guide to Life Planning
Weekly Economic Commentary | Week of January 9, 2017
JANUARY GAME PLAN KEY TAKEAWAYS We will be monitoring many significant events this month, including fourth quarter earnings, Chinese New Year, and the first FOMC meeting of 2017. We'll know quickly how the economy is looking and if the earnings recovery that started last quarter is real, or was a short-lived bounce. The new year is underway and there are several economic and potentially market moving events to monitor. While 2016 was a year no one will soon forget, as it opened with global turmoil in equity, credit, and energy markets; surprising results from the Brexit vote and the divisive U.S. presidential campaign and election; and finished with the end of the earnings recession, the highest consumer confidence in 15 years, and record highs on major indexes. As we turn the page to 2017, it is important to stay on top of the significant happenings coming up. To help, we've created this guide to the January 2017 market calendar, providing an overview of key events. January 6 December Employment Report Review The initial reaction to the December 2016 nonfarm payrolls was disappointment, as it came in at 156k, shy of the consensus of 175k. Yet, after closer examination there were some positives; November payrolls were revised up to 204k from 178k, and average hourly earnings increased 2.9% year over year, the highest annual rate since April 2009. Manufacturing data has been strong recently, with the Institute for Supply Management (ISM) manufacturing survey index for December 2016 coming in at 54.7, a fresh new two-year high; and this was confirmed by 17k jobs added in the manufacturing sector last month, the most since January 2016. Also initial jobless claims came in near a 43-year low. We continue to think that job creation will decelerate, as we said in 2016. In fact, looking at last year, the U.S. economy averaged "only" 180k new jobs per month, after averaging 230k per month in 2015. Taking a closer look at 2016, monthly job creation averaged around 200k in the first quarter of 2016 and slowed to just 165k per month by the fourth quarter of the year. Many market participants have been skeptical that decelerating jobs growth could still foster a tightening labor force and rising wages. Well, with the December 2016 wage growth up 2.9% year over year, improving wages and other key measures of wages may finally heal the disconnect between the market and the Federal Reserve (Fed) on the labor market [Figure 1].
January 9 - 13
3
Your Guide to Life Planning Fourth Quarter Earnings Season Begins The third quarter marked the end of the year-long earnings recession, as S&P 500 earnings posted a 4% year-over-year gain, nearly 5% above estimates. The third quarter also marked the end of the revenue recession, as revenue grew for the first time since the fourth quarter of 2014. Financials and technology, the two largest components of the S&P 500, led the way with strong results. Turning to the fourth quarter, Thomson-tracked consensus estimates are looking for a 6.1% year-over-year increase. Assuming we get an average upside surprise of 4%, we think double-digit earnings growth is within the realm of possibility. Reasons for optimism include a favorable pre-announcement ratio and the return of earnings growth to the energy sector. With energy being a big reason for the earnings recession, it will be a major tailwind for the group to finally show some growth. Uncertainty this earnings season circles around a strong U.S. dollar, suggesting a modest drag to earnings. Also, concern regarding the U.S. election could have pushed back spending and investment decisions until later in 2017 in some cases. For much more on our thoughts about the upcoming earnings season, be sure to read this week's Weekly Market Commentary. January 28 Chinese New Year China and many other Asian countries (including Hong Kong, Taiwan, and Singapore) will celebrate the New Year on January 28. Markets will be closed for several days after the holiday, varying by country. In mainland China most economic activity stops as people return to their native provinces and spend time with families. Chinese central bankers are usually busy before and during the holiday, as people withdraw cash in order to travel. There are frequent media stories that confuse the government's desire to have ATM machines properly filled with meaningful changes in monetary policy. The fact that the timing of the New Year holiday changes each year also can make some economic data, particularly areas like retail sales, difficult to evaluate comparing one year to the next. Some also like to examine the Chinese zodiac for clues regarding the economy, or corporate and economic policy for the new year. The rooster is associated with pride and overt shows of power and authority. Some Chinese astrologers have been predicting that 2017 will be a year of increased criticism of public officials. This is consistent with Chinese President Xi Jinping's consolidation of power and anti-corruption campaign. One need not accept the cause and effect of Chinese astrology on a global power to see how old cultural beliefs can still be seen as relevant to modern times. January 31 - February 1 Federal Reserve (Fed) Meeting The Federal Open Market Committee (FOMC), the policymaking arm of the Fed, will hold the first of its eight policy meetings of 2017 on January 31-February 1, 2017. Although we (and most market participants) do expect the Fed to raise rates two to three times (by 0.25% each) over the course of 2017, we (and the market) don't expect a hike at this meeting. As of January 6, 2017, the fed funds futures market suggests that there is just a 12.4% chance of a hike at the January 31-February 1, 2017 meeting. As 2017 begins, Fed Chair Janet Yellen starts the final year of her four-year term (ending in January 2018), and she has expressed interest in serving out her term under the first year of the Trump administration. As the year progresses, markets will begin to more seriously discuss potential replacements for Yellen, if as many expect today, President-elect Donald Trump doesn't reappoint her for another four-year term. Yellen won't be asked about that at this meeting, as there is no press conference nor a new set of economic forecasts or dot plots released at the conclusion of the meeting. All markets will have to react to is the FOMC statement. Conclusion January is an important month, and with it comes many hopes for improved changes and a better year. We have a glimpse into how the economy ended the year with the jobs report in the books. Now we turn our attention to the Fed, earnings season, and China to help tell us where markets may go from here. Whatever happens in January and the rest of 2017, know that we'll be here for you to share what we see. Most importantly, we wish each of you a great year, filled with success both personally and professionally. Thank you to Matthew Peterson and Jeff Buchbinder for their contributions to this report. January 2017 Calendar
4
Your Guide to Life Planning
IMPORTANT DISCLOSURES The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results. Any economic forecasts set forth in the presentation may not develop as predicted and there can be no guarantee that strategies promoted will be successful. Investing in stock includes numerous specific risks including: the fluctuation of dividend, loss of principal, and potential liquidity of the investment in a falling market. Because of its narrow focus, specialty sector investing, such as healthcare, financials, or energy, will be subject to greater volatility than investing more broadly across many sectors and companies. The fast price swings in commodities and currencies will result in significant volatility in an investor’s holdings. International investing involves special risks such as currency fluctuation and political instability and may
5
Your Guide to Life Planning not be suitable for all investors. These risks are often heightened for investments in emerging markets. All investing involves risk including loss of principal.
INDEX DESCRIPTIONS The U.S. Institute for Supply Managers (ISM) Purchasing Managers’ Index (PMI) is an economic indicator derived from monthly surveys of private sector companies, and is intended to show the economic health of the U.S. manufacturing sector. A PMI of more than 50 indicates expansion in the manufacturing sector, a reading below 50 indicates contraction, and a reading of 50 indicates no change. The Standard & Poor’s 500 Index is a capitalization-weighted index of 500 stocks designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries. The USD Index measures the performance of the U.S. dollar against a basket of foreign currencies: EUR, JPY, GBP, CAD, CHF and SEK. The U.S. Dollar Index goes up when the dollar gains “strength” compared to other currencies.
This research material has been prepared by LPL Financial LLC. To the extent you are receiving investment advice from a separately registered independent investment advisor, please note that LPL Financial LLC is not an affiliate of and makes no representation with respect to such entity. Not FDIC or NCUA/NCUSIF Insured | No Bank or Credit Union Guarantee | May Lose Value | Not Guaranteed by Any Government Agency | Not a Bank/Credit Union Deposit
Tracking #1-570177 (Exp. 1/18)
6
Your Guide to Life Planning
Weekly Market Commentary | Week of January 9, 2017
HIGHLIGHTS The fourth quarter 2016 earnings season begins this week, and we expect it to be another good one. Energy prices rebounded in the fourth quarter, positioning the energy sector to potentially deliver its first earnings growth since the third quarter of 2014. Financials is poised to be a sector standout, with rising interest rates, stock market gains, and healthy credit markets all helping to buoy the sector's profit picture.
FOURTH QUARTER 2016 EARNINGS PREVIEW: LOOKS LIKE ANOTHER GOOD ONE Fourth quarter 2016 earnings season gets underway this week (January 9-13), and it looks like it will be another good one. With Alcoa no longer the unofficial kick off of the earnings season, we will consider Friday the start of the season when several big banks with the potential to move the market will report. Here we preview fourth quarter earnings season, which we expect to be another good one, marking the return of earnings growth to the energy sector.
OVERVIEW Thomson-tracked consensus estimates for the fourth quarter of 2016 are calling for a 6.1% year-over-year increase in S&P 500 earnings. That means based on the typical upside companies generate, near 4%, double-digit earnings growth may be within the realm of possibility. We have several reasons to be optimistic: Resilient estimates. Earnings estimates held up very well during the last three months of 2016. Since October 1, 2016, fourth quarter 2016 earnings estimates for the S&P 500 have fallen 2.2%, about half the five-year average of minus 4.3% and 3% better than the 10-year average of minus 5.3%. Fourth quarter estimates for the two biggest S&P sectors, technology and financials, have actually risen since October 1 and over the past month providing encouraging signs. The S&P 500's 7% jump since Election Day increases the odds that estimates prove conservative, as stocks do tend to signal earnings moves. Improved pre-announcement ratio. The ratio of companies pre-announcing negative fourth quarter 2016 results relative to those pre-announcing positive results, at 2.0, is better than the year-ago quarter (2.9), last quarter (2.3), and the 20-year average (2.7). This ratio suggests a high proportion of companies will exceed estimates, potentially higher than in recent quarters. A solid 71% of S&P 500 companies beat estimates in the third quarter of 2016 with a 4.8% upside surprise. Good manufacturing data. Although the U.S. economy, based on gross domestic product (GDP), is approximately two-thirds consumer spending driven, the composition of the S&P 500 is quite different. We estimate that more than 60% of the S&P 500 is manufacturing driven, making manufacturing data that much more important. As a result, we believe the recent uptick in the Institute of Supply Management (ISM) Manufacturing Index bodes well for earnings this quarter and next [Figure 1]. Energy rebound. Oil prices rose 11% during the fourth quarter, putting the quarter's average price 17% above the average for the year-ago quarter [Figure 2]. That has the energy sector poised to deliver its first earnings growth since the third quarter of 2014 (Thomson-tracked consensus calling for +2.1%). Energy will be a big swing factor from the third quarter of 2016 when the sector's earnings fell 67% year over year. And perhaps the best news of all? We don't have to deal with "ex-energy" earnings calculations anymore! Looking ahead, should West Texas Intermediate (WTI) crude oil prices stay at January 6, 2017, levels near $53/barrel through March 31, the average price would be 60% above the first quarter 2016 level.
7
Your Guide to Life Planning
8
Your Guide to Life Planning On the flip side, a strong U.S. dollar may limit the upside to forecasts. The average U.S. dollar level for the fourth quarter of 2016 was 2.1% above the year-ago quarter's level, and 4.2% above the third quarter 2016 level, suggesting currency may be a modest drag on earnings in the fourth quarter of 2016. U.S. election-related policy uncertainty may also cap gains. Even though corporate, consumer, and investor sentiment have all been on the rise since the election, the first six weeks of the quarter were clouded by political uncertainty. The policy outlook remains unsettled even after the election, suggesting that some spending and investment decisions may have been put off into 2017. Wage gains may lead to some modest profit margin compression in the quarter for non-energy sectors (higher oil prices will overwhelm wage growth for oil producers). Friday's jobs report (January 6) showed a 2.9% increase in wages, the biggest increase since April 2009, based on average hourly earnings. The offset to that profit margin pressure is consumers have more money in their pockets to spend, which we think may have contributed to a healthy increase in holiday sales this year. SECTOR STANDOUTS The biggest story of the season, besides energy's turnaround, will likely be financials, with Thomson-tracked consensus estimates calling for a market-leading 15.7% year-over-year increase. Both the outlook and earnings estimates for financials have improved in recent months. Rising interest rates, stock market gains, and healthier credit markets (in part due to energy sector stability) all help buoy the sector's profit picture, while more help could be on the way later this year in the form of deregulation. We also expect a strong season for technology, buoyed by the recent increase in the sector's estimates and generally favorable demand trends across the sector. Eight of eleven sectors are forecast to produce earnings growth in the fourth quarter, with only modest declines expected for real estate, telecom, and industrials [Figure 3]. Should all sectors produce an upside surprise near the long-term average, all 11 S&P sectors would produce positive earnings growth for the quarter. The one sector that could stand in the way of a perfect 11 for 11 is industrials. Capital spending has been lackluster and the energy downturn has led to earnings weakness for the past several quarters. Although estimates have been revised lower in recent months, industrials may get a boost from higher energy prices, which gives the sector a chance at the 3.5% upside surprise required to post an annual earnings increase.
POLICY OUTLOOK
9
Your Guide to Life Planning Actual results and forward guidance are always important to markets. But with so much on the policy agenda following the election, we will keep one eye on Washington and the potential earnings impact of policy changes. The big one is a lower corporate tax rate, potentially down to 20% from 35% currently. Although there will almost surely be revenue generating offsets, the impact from a lower rate could be 5-6% in S&P 500 earnings, if not more. We won't have details for several months and actual legislation, which may include infrastructure spending in it, may not be enacted until the fourth quarter of 2017 and go into effect on January 1, 2018. This is an important item to watch. Tax reform is also likely to include a discounted rate for multi-nationals to repatriate overseas cash (currently taxed at the full corporate rate of 35%). As such, a significant amount of cash (estimated near $2.4 trillion) is trapped overseas because companies do not want to pay the tax to bring it back to the U.S. Should this proposal be enacted, we could see a significant jump in share buybacks (Goldman Sachs estimates a 30% increase) that would take share counts down and therefore earnings per share up, potentially by 1-2%. A repatriation tax holiday in 2004 at a rate of 5.25% saw a similar result. The concept of a border adjustment tax policy where imports are taxed more heavily than exports in order to encourage U.S. production has received a lot of media attention in recent weeks. We see the odds of a proposal like this getting through Congress as fairly low, but a moderate version of it could be put in as a nod to President-elect Donald Trump's pledge to bring back overseas jobs. The proposal would be a revenue generator for the U.S. government, and would reduce overall S&P 500 earnings. CONCLUSION There are several reasons to expect good results from corporate America this earnings season when compared with expectations, including solid manufacturing data, resilient earnings estimates, and the rebound in energy profits. Investors will have one eye on these results and another on the potential earnings impact of policy developments over the coming weeks and months. IMPORTANT DISCLOSURES The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results. The economic forecasts set forth in the presentation may not develop as predicted and there can be no guarantee that strategies promoted will be successful. All company names noted herein are for educational purposes only and not an indication of trading intent or a solicitation of their products or services. LPL Financial doesn’t provide research on individual equities. Investing in stock includes numerous specific risks including: the fluctuation of dividend, loss of principal, and potential liquidity of the investment in a falling market. Because of its narrow focus, specialty sector investing, such as healthcare, financials, or energy, will be subject to greater volatility than investing more broadly across many sectors and companies. The fast price swings in commodities and currencies will result in significant volatility in an investor’s holdings. All investing involves risk including loss of principal. INDEX DESCRIPTIONS The Standard & Poor’s 500 Index is a capitalization-weighted index of 500 stocks designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries. The U.S. Institute for Supply Managers (ISM) Purchasing Managers’ Index (PMI) is an economic indicator derived from monthly surveys of private sector companies, and is intended to show the economic health of the U.S. manufacturing sector. A PMI of more than 50 indicates expansion in the manufacturing sector, a reading below 50 indicates contraction, and a reading of 50 indicates no change. The USD Index measures the performance of the U.S. dollar against a basket of foreign currencies: EUR, JPY, GBP, CAD, CHF and SEK. The U.S. Dollar Index goes up when the dollar gains “strength” compared to other currencies. DEFINITIONS Gross domestic product (GDP) is the monetary value of all the finished goods and services produced within a
10
Your Guide to Life Planning country’s borders in a specific time period, though GDP is usually calculated on an annual basis. It includes all of private and public consumption, government outlays, investments and exports less imports that occur within a defined territory. This research material has been prepared by LPL Financial LLC. To the extent you are receiving investment advice from a separately registered independent investment advisor, please note that LPL Financial is not an affiliate of and makes no representation with respect to such entity. Not FDIC or NCUA/NCUSIF Insured | No Bank or Credit Union Guarantee | May Lose Value | Not Guaranteed by Any Government Agency | Not a Bank/Credit Union Deposit Tracking #1-570141 (Exp. 01/18)
11
Your Guide to Life Planning
Bond Market Perspectives | Week of January 3, 2017
Highlights Upward trending economic growth and inflation, in addition to Fed rate hikes, may put pressure on high-quality bond prices in 2017. Fixed income allocations should nonetheless be maintained as they play a vital role in suitable investors' portfolios, despite prospects of low returns.
Please see our Outlook 2017: Gauging Market Milestones publication for insights on the economy, stock and bond markets, and investments for the year ahead. This week's commentary features content from that publication.
2017 Fixed Income Outlook: Despite Liftoffs, Expect Muted Bond Returns Muted returns for high-quality fixed income may await investors in 2017. Higher rates of economic growth and inflation, along with our base case of two potential Fed rate hikes, may put bond prices under pressure in 2017, leading to muted returns for high-quality fixed income. Amid this backdrop, most of the return potential for bonds may lie in their income component, or "coupon." Immediately following the election of Trump and a Republican majority in both houses of Congress, interest rates rose and the Treasury yield curve steepened as the market digested increased prospects of fiscal stimulus through spending and tax cuts and their potential impact on economic growth and inflation, two of the key drivers of interest rates. Low and negative yields on sovereign bonds in international developed markets, however, may continue to put downward pressure on U.S. yields, limiting the future strength of the post-U.S. election run-up in rates as 2017 begins. The restraining effect of international rates could become larger if concerns about the erosion of the EU continue, as in the case of Brexit, potentially forcing the European Central Bank (ECB) to expand or extend quantitative easing. Nevertheless, for rates to reverse meaningfully, we would likely need to see the onset of a recession in the U.S. in 2017, a scenario we believe to be unlikely.
GAUGING GRADUAL PROGRESS Despite our expectation for muted bond market performance in 2017, we continue to believe fixed income plays a vital role in a well-diversified portfolio. Even in a low return, low-yield environment, high-quality bonds serve as an important diversifier, helping to manage risk from equities and other higher risk asset classes. During equity market pullbacks (greater than 5%) since 2010, the S&P 500 averaged a -11% total return, while the broad bond market returned 1.6%, on average [Figure 1]. Although this absolute return is not very exciting, the outperformance relative to equities (+12.6%, on average) demonstrates high-quality fixed income's value as a risk mitigation tool. Click here Figure 1: Bond Performance Relative to Equities Shows Diversifying Role of High-Quality Fixed Income
RETURNS LOSING STEAM, NOT BROKEN Scenario analysis for the broad bond market in 2017 shows the influence that interest rates can have on high-quality fixed income returns [Figure 2]. If Treasury yields are flat it would result in an estimated 3.1% total return. A 0.25% increase in intermediate-term Treasury yields could reduce the total return to an estimated 1.6%, while a 0.25% decrease could boost the broad bond market's total return to 4.5% for the year. We expect the 10-year Treasury yield to end 2017 in its current 2.25-2.75% range, leaving bond prices near flat with the majority of their total returns driven by coupon income. Our bias is toward the upper end of the range, and we do see the potential for the 10-year Treasury yield to end the year as high as 3.0%, should meaningful fiscal stimulus be enacted. Even with that wider range, our total return estimates for the broad bond market range from approximately 0.5% to 4.0%. This drives our expectation for the broad high-quality bond market's "muted" return, relative to the 10-year average total return of 4.6% and 25-year average of 6.3%. Click here Figure 2: Broad Bond Market Returns May be Muted in 2017 The onset of a U.S. recession or a major unexpected shock to the global economy could push rates lower and
12
Your Guide to Life Planning bond prices higher; however, prices on high-quality fixed income securities are more likely to be under pressure from several major sources in 2017. Fiscal stimulus. Long-term bond yields compensate investors primarily for the risk of not being invested in higher return opportunities related to economic growth and inflation (which eats away at real returns). The "term premium" in fixed income markets represents the additional compensation that investors demand for holding longer-term bonds relative to shorter-term bonds. If Trump is able to pass fiscal stimulus measures, including tax cuts, through a united Congress, that term premium could continue to rise with the increased prospect of greater growth and higher inflation. This would push long-term yields higher, pressuring bond prices. In addition, at least one top rating agency has warned that should all of Trump's proposed economic and fiscal policies be enacted, it would be negative for U.S. sovereign creditworthiness due to its impact on the deficit, which may also be putting upward pressure on yields. Ongoing Fed rate hikes. Fed rate hikes will likely push short-term interest rates higher in 2017. Though potentially painful for many fixed income investors, normalization of interest rate policy by the Fed is also a positive milestone for the health of the economy. Raising interest rates further will also give the Fed more tools at their disposal should the economic recovery sputter. Foreign selling. Foreign countries have been liquidating Treasuries during 2016 at a pace above that seen in recent years. Many foreign nations sell Treasuries to fund international payment obligations or to devalue their currencies in response to liquidity issues, export weakness, or defaults at home. Investors are less apt to hold longer duration Treasuries if they find Trump's tariff proposals credible, due to the possibility of a trade war. Until clarity on U.S. trade policy is provided, we expect more volatility in the Treasury market. Increasing risk premiums due to political uncertainty. Trump's policies are likely to be pro-business and anti-regulation, but his outsider status and complicated mix of priorities may increase policy uncertainty from the nation's highest office. Investors demand additional compensation in the form of higher yields for the added risk. The more Trump's plans are known and understood by markets, the lower this additional yield compensation may need to be.
SEARCH FOR YIELD ISN'T OVER High-yield bonds and bank loans could be two potential ways to help some suitable investors increase yield in their fixed income portfolios, in what is still a historically low-rate environment. High-yield returns have been mainly driven by fluctuations in the high-yield energy sector since mid-2014, when the price of oil began its steep decline from $105/barrel to a low of $26 in mid-February 2016. A substantial number of defaults occurred in the energy sector in 2015 and 2016, helping to remove some of the weaker industry players. With oil oscillating in the $40-50 range throughout the majority of 2016, high-yield valuations increased throughout the latter half of the year as default prospects slowly improved. Despite this improvement, the price of oil remains a powerful force in the high-yield market and an ongoing risk. Amid continued improvement in the price of oil, the theme of improving fundamentals is poised to continue into 2017, as default levels for high-yield bonds are projected to decline from 4.5% at the end of 2016 to roughly 3-3.5% in 2017, based on estimates from credit rating services. While this is good news for the high-yield bond market, much of that improvement is already reflected in current valuations, leaving high-yield with little room for error in the case of equity market weakness or another destabilizing force. Non-financial corporate debt-to-earnings levels, which can indicate how much debt firms in the high-yield market are carrying on a relative basis, continue to increase. This is a negative fundamental trend, on balance, but the limited amount of high-yield debt maturing in 2017 should help support the asset class. However, we do expect high-yield valuations to richen slightly during 2017, which would support prices, in part due to the prospect of business-friendly policies from a Trump administration. Nevertheless, we believe interest payments will drive the majority of high-yield's return, similar to high-quality fixed income. Given that, we anticipate mid-single-digit returns driven by interest income for high-yield bonds.
BANK ON HIGHER SHORT-TERM RATES While longer-term Treasury rates are largely driven by expectations of future U.S. economic growth and inflation, short-term Treasury yields are more sensitive to Fed policy. With the prospects of additional Fed rate hikes in 2017, short-term rates are poised to continue to move upward. One potential beneficiary is bank loans, which are similar to high-yield bonds in that they are below investment grade, but different in that they are generally less volatile and have interest payments that fluctuate based on global short-term interest rate benchmarks. Bank loans may represent a similar, but somewhat more conservative option than high-yield bonds for investors who seek yield while simultaneously attempting to manage interest rate risk. Bank loans are also less sensitive to the energy sector, which only represents approximately 3% of the bank loan market,
13
Your Guide to Life Planning compared to roughly 14% of the high-yield market. Although the yield of bank loans is lower than that of high-yield bonds and the prospects for capital appreciation are more limited, the sector remains a solid option for income for suitable investors who understand their risks, in our view.
MUNICIPAL OUTLOOK Post-election, as fixed income markets digested the economic implications of a Trump presidency, yields in the tax-sensitive municipal market began to spike, though not as much as Treasury yields. Prices should stabilize relative to Treasuries once the new administration clarifies its tax policy. The overhang of underfunded pension liabilities may drive credit risk up in certain states until they shore up their fiscal positions. If Trump's infrastructure plan necessitates borrowing by states and municipalities, excess supply could also pressure the municipal market in 2017, but this is another area where the impact cannot be fully evaluated until we have greater policy clarity.
IMPORTANT DISCLOSURES The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance reference is historical and is no guarantee of future results. All indexes are unmanaged and cannot be invested into directly. The economic forecasts set forth in the presentation may not develop as predicted and there can be no guarantee that strategies promoted will be successful. There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk. Bonds are subject to market and interest rate risk if sold prior to maturity. Bond values and yields will decline as interest rates rise, and bonds are subject to availability and change in price. Government bonds and Treasury bills are guaranteed by the U.S. government as to the timely payment of principal and interest and, if held to maturity, offer a fixed rate of return and fixed principal value. However, the value of fund shares is not guaranteed and will fluctuate. Corporate bonds are considered higher risk than government bonds but normally offer a higher yield and are subject to market, interest rate, and credit risk as well as additional risks based on the quality of issuer coupon rate, price, yield, maturity, and redemption features. High-yield/junk bonds are not investment-grade securities, involve substantial risks, and generally should be part of the diversified portfolio of sophisticated investors. Bank loans are loans issued by below-investment-grade companies for short-term funding purposes, with higher yield than short-term debt, and involve risk. These Lower-quality debt securities involve greater risk of default or price changes due to potential changes in the credit quality of the issuer. Municipal bonds are subject to availability and change in price. They are subject to market and interest rate risk if sold prior to maturity. Interest income may be subject to the alternative minimum tax. Municipal bonds are federally tax-free but other state and local taxes may apply. If sold prior to maturity, capital gains tax could apply. Because of their narrow focus, specialty sector investing, such as healthcare, financials, or energy, will be subject to greater volatility than investing more broadly across many sectors and companies.
INDEX DEFINITIONS The S&P 500 Index is a capitalization-weighted index of 500 stocks designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries. The Barclays U.S. Aggregate Bond Index is a broad-based flagship benchmark that measures the investment-grade, U.S. dollar-denominated, fixed-rate taxable bond market. The index includes Treasuries, government-related and corporate securities, MBS (agency fixed-rate and hybrid ARM pass-throughs), ABS, and CMBS (agency and non-agency).
14
Your Guide to Life Planning RES 5736 0117 | Tracking #1-568239 (Exp. 01/18)
15
Your Guide to Life Planning
401(k) or IRA? Finding the Right Plan for Your Business The types of retirement plans that are available to small-business owners today may rival those used by large corporations. If you're a small-business owner, take a few minutes to compare the features and benefits associated with some of your options.
401(k) Plans If you have employees in addition to yourself and want a plan that's relatively easy to administer, you may want to consider a SEP IRA or a SIMPLE IRA.
Named after the section of the tax code that created them, traditional 401(k) plans are funded largely through employee payroll deduction. Employee contributions are made on a pre-tax basis, which reduces a participant's taxable income. Investment returns potentially compound on a tax-deferred basis until qualified withdrawals, which are taxable, are made during retirement. Maximum employee contributions for 2016 are $18,000, plus a $6,000 catch-up contribution for those aged 50 and older. Employers may offer a matching contribution, which is tax-deductible by the business, although they are not required to do so. There is also a Roth 401(k), in which contributions are taxable but qualified withdrawals during retirement are tax-free. Most plan sponsors offer either a traditional 401(k) or a 401(k) with a Roth 401(k) feature.
SEP IRAs and SIMPLE IRAs If you have employees in addition to yourself and want a plan that's relatively easy to administer, you may want to consider a SEP (simplified employee pension plan), IRA, or a SIMPLE IRA. In general, employees who are expected to earn at least $600 in 2016, have worked for you for three of the preceding five years, and are age 21 or older are eligible to participate. The maximum annual contribution, which is tax-deductible, is up to 25% of compensation or $53,000, whichever is less. SIMPLE IRAs are limited to companies with 100 or fewer employees earning at least $5,000 in the preceding year. Employees may contribute up to $12,500 in 2016, plus a $3,000 catch-up contribution for those aged 50 and older. There are two types of SIMPLE IRAs: a matching plan and a nonelective contribution plan. With a matching plan, the employer provides a matching contribution up to 3% of annual salary. With a nonelective contribution plan, employers contribute a fixed amount of 2% of an eligible employee's salary (up to $5,000) regardless of whether the employee contributes. Note that a SIMPLE IRA can be set up in conjunction with a 401(k) plan. When it is, employee contributions cannot exceed the $18,000 annual limit. There's more to learn about each of these plans. Your financial advisor can help you sort through the facts and select a plan or a combination of plans that fits your needs. You should also consult with your tax professional, who can help you determine which solution may be the most appropriate for your situation. © 2017 Wealth Management Systems Inc. All rights reserved. 1-044967
16
Your Guide to Life Planning
Year-End Planning to Help You Lower Your Tax Bill As the end of the year draws near, the last thing anyone wants to think about is taxes. But if you are looking for ways to minimize your tax bill, there's no better time for tax planning than before year-end. That's because there are a number of tax-smart strategies you can implement now that will reduce your tax bill come April. And with higher rates, being tax efficient is more important than ever. Consider taking losses before gains, since unused losses may be carried forward for use in future years, while gains must be taken in the year they are realized.
Put Losses to Work If you expect to realize either short- or long-term capital gains, the IRS allows you to offset these gains with realized capital losses. Short-term gains (gains on assets held less than a year) are taxed at ordinary rates, which range from 10% to 39.6%, and can be offset with short-term losses. Long-term gains (gains on assets held longer than a year) are taxed at a top rate of 20% and can be reduced by long-term capital losses. 1 To the extent that losses exceed gains, you can deduct up to $3,000 in capital losses against ordinary income on that year's tax return and carry forward any unused losses for future years. Given these rules, there are several actions you should consider: Avoid short-term gains when possible, as these are taxed at higher ordinary rates. Unless you have short-term losses to offset them, try holding the assets for at least one year. Take a good look at your portfolio before year-end and estimate your gains and losses. Some investments, such as mutual funds, incur trading gains or losses that must be reported on your tax return and are difficult to predict. But most capital gains and losses will be triggered by the sale of the asset, which you usually control. Are there some winners that have enjoyed a run and are ripe for selling? Are there losers you would be better off liquidating? The important point is to cover as much of the gains with losses as you can, thereby minimizing your capital gains tax. Consider taking losses before gains, since unused losses may be carried forward for use in future years, while gains are taxed in the year they are realized.
Unearned Income Tax A 3.8% tax on "unearned" income for high-income taxpayers effectively increases the top rate on most long-term capital gains to 23.8%. The tax applies to "net investment income," which includes interest, dividends, royalties, annuities, rents, and other passive activity income, among other items. Importantly, net investment income does not include distributions from IRAs or qualified retirement plans, annuity payouts, or income from tax-exempt municipal bonds. In general, the tax applies to single taxpayers with a modified adjusted gross income (MAGI) of $200,000 or more and to those who are married and filing jointly with a MAGI of $250,000 or more.
What's to Come? While there are currently no scheduled changes in federal tax rules, there are many steps you can take today to help lighten your tax burden. Work with a financial professional and tax advisor to see what you can do now to reduce your tax bill in April. 1Under certain circumstances, the IRS permits you to offset long-term gains with net short-term capital
losses. See IRS Publication 550, Investment Income and Expenses. This communication is not intended to be tax advice and should not be treated as such. Each individual's tax situation is different. You should contact your tax professional to discuss your personal situation. © 2017 Wealth Management Systems Inc. All rights reserved. 1-210148
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and cannot be invested into directly. Mark Dutram, CFP is a Registered Representative with and Securities are offered through LPL Financial, member FINRA/SIPC. Insurance products offered through LPL Financial or its licensed affiliates. First City Bank of Florida is not a registered Broker/Dealer and is not affiliated with LPL Financial Not Bank/Credit Union Guaranteed Not Insured by any Federal Government Agency
Not FDIC/NCUA Insured
May Lose Value Not a Bank Deposit
This newsletter was created using Newsletter OnDemand, powered by Wealth Management Systems Inc.
