Author: sgstofka

Business Outlook Survey

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Each month for the past forty years, the Federal Reserve conducts a survey of businesses, attempting to ascertain both current conditions and future anticipations of orders, costs, inventory levels, and employment. December’s survey shows continued improvement in current activity but there is a disturbing decrease of confidence in the future in those businesses surveyed.

In 2010, the businesses surveyed are expecting their costs to increase about 8% in two areas: energy and health care for employees. They project only moderate increases of about 2% in other costs. Only 12% anticipate lowering prices, while 12% project higher prices.
Welcome to the “New Normal”.

Health Care & Medicaid

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Dr. Miller, dean and CEO of Johns Hopkins, wrote an op-ed piece in the WSJ 12/4/09 citing a CMS actuary that the House bill will increase Medicaid rolls by 18 million. The Senate version will increase eligibility for Medicaid to 133% of Federal poverty level. Miller cites the Kaiser Family Foundation that an additional 308,000 people will meet that eligibility in Maryland alone so the Senate version appears to have a similar impact as the House bill.

Dr. Miller is concerned about the costs. JH has already struggled handling the Medicaid patients it has and has lost a good deal of money in unreimbursed costs from the state.

From 1990 to 2004, Federal and state Medicaid spending increased yearly by about 10%, more than triple the average 3% CPI rate of inflation. For the three year period 2004-7, annual increases slowed considerably to 3.6%. States are reporting 2009 Medicaid spending increases averaging 7.9% because of the recession.

Gold ETFs

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The rise in gold prices has prompted a growing popularity in the SPDR Gold Trust ETF (GLD), which buys and holds gold bullion. The IRS regards ownership in this trust as an ownership in a collectible and taxes profits in the trust accordingly.

An investor who holds GLD for a year or more and sells for a profit might expect to pay the 15% long terms capital gains rate. However, the profit is taxed at the 28% collectibles rate. For this reason, an investment in gold bullion is more appropriate in an IRA or other tax advantaged plan.

Another way to play the gold market is to buy Market Vectors Gold Miners (GDX), an ETF that owns shares in gold mining companies. The average cost to produce an ounce of gold is about $850 – $900, so that a gold price above that amount is profit to the mining companies. Because of this leverage, mining company stocks are more volatile than the bullion itself. Long term profits in an ETF like this one would be taxed at the usual 15% long term capital gains rate.

Employed Not

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The often quoted unemployment rate of 10.2%, dire though it is, is only half of the unemployment rate in the construction industry, which stands at 19.1%. The lack of jobs in a predominately male work force has lowered the percentage of men in the work force so that women now make up 50% of workers, a first in the American economy.

Neither of these unemployment rates accounts for the number of people working part time jobs because they could not find full time work or those discouraged people who have stopped looking for work in the past month. That U6 rate is over 17%. In the construction field, it may be over 25%.

Smaller road building projects which received stimulus funds earlier this year have about run their course. Although housing sales have shown improvement, there remains a glut of pending foreclosures that will continue to amply supply the demand for houses in 2010. This steady influx of supply will only dampen new housing construction and continue to put pressure on construction related jobs.

For those who built their working careers in construction during the last 15 years of steady job prospects, this will be a life crisis requiring many to rethink their career path and develop new job skills.

Trends

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A few trends that have caught my attention in the past month:

Credit card offers in the mail are down 77% in the past year.
Gold, bonds, commodities, and stocks are up. It is unusual for all of these asset classes to rise at the same time.
Women now account for 50% of workers, up from 35% thirty years ago.
Only 25% of workers aged 55+ have saved more than $250K for their retirement (excludes house equity and pensions)
On average, the Employee Benefit Research Institute reports that Americans aged 65+ get almost 40% of their income from Social Security. In 2007, the median income for those 65 and older was $18K.
If you had 60% of your portfolio invested in a mix of stocks and 40% in bonds before the banking crisis, you have lost nothing in the past year.
In the past ten years, the Federal Reserve reports (click on debt) that consumer debt has increased 63% and mortgage debt has shot up 135%. Debt in the public sector has almost doubled. Both federal and state debts have risen 95%. For perspective, the Consumer Price Index has gone up on 30% in the past ten years.

Obscene Profits

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In any hotly contested debate, it is often difficult to separate the rhetoric from the facts. House Speaker Nancy Pelosi has decried the “obscene profits” of the insurance industry. How obscene are those profits?

Profits are, in fact, obscene – obscenely low, that is. On average, health insurers posted a 2.2% profit margin in 2008. Stodgy railroads made 5 times the profit margins that the health insurance companies did. In a good year, health insurance companies have not made more than 8%.

So why do health insurance premiums continue to rise by 7 – 8% each year, far above the average 3% rise in the Consumer Price Index? Because the insurance companies continue to pay out ever increasing amounts of money to health care providers. Some of that additional money is due to increased tests, more care, and an aging population but some is – dare I say it – fraud?

A doctor who works for a large health organization was recently admitted to an affiliated hospital for several days to have her baby. Familiar with the cryptic billing codes, this doctor noticed many discrepancies between the care she actually received and the care that was billed to her employer. As one example, a “hello, how are you doing” visit from her physician that lasted less than a minute was billed as a 15 – 20 minute check up. Therapies were billed but not received. Over the counter medication was billed at a 100+ times of the retail price. This was not a tale of Medicare fraud but of one member health provider gouging the group it belonged to, an indication that the practice might be both systemic and widespread. How many billions of dollars are “greased” from the system each year?

Stay the Course

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In a mid 2009 survey of 3000 investors, the giant fund group Vanguard found that 21% of stock investors had sold some of their holdings during the recent downturn. Almost as many, 17%, had increased their holdings during the crisis. Only 28% of respondents said that they were completely taken off guard by the crisis. Three-quarters of those surveyed said that they would reduce spending in response to any shortfalls in their retirement savings. Half of the respondents said they would save more and almost that many admitted that they might have to work longer before retirement.

Vanguard reported that, in 2008, 401K participants reduced their equity positions from 73% to 61% but that only 2% of participants had sold all their equities.

Job Loss

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Since the start of the current recession, the cumulative job loss is 8 million, a staggering figure when compared to past recessions. The 1981 – 82 recession was severe and has often served as a benchmark during the progress of this recession but the total job loss was less than 3 million.

In a 10/17/09 WSJ article, Sara Murray focuses both on the job loss of recessions in the past forty years and the recovery periods, the time it took to regain those lost jobs after the recession ended. The 2001 recession lost almost as many jobs as the 1981 – 82 recession but took a painfully long 47 months to regain the lost jobs. This recession has lost three times as many jobs as the 2001 recession and we are still counting job loss every month.

Consumer spending accounts for more than two-thirds of GDP in this country. Unemployment affects not only the unemployed but those with jobs who become more cautious in their purchases, fearing that they might be next. Those who have been betting on a swift recovery are likely to be disappointed.

Portfolio Strategy

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The conventional wisdom has been that, over any 20 year period, stock returns will beat bonds and other fixed income investments. For the past 80 years, returns on stocks have been greater than bonds. But, for the past 20 years, bonds have outperfomed stocks. If someone had retired 20 years ago, needing to live off the returns on a portfolio invested mostly in stocks, they would have had a difficult time.

SimpleStockInvesting has historical returns and charts, both actual and inflation adjusted, of the S&P500. A look at the chart of the inflation adjusted price of the S&P 500 (3rd chart) provides a sobering reminder that stock prices may just barely keep up with inflation. If an investor had bought the S&P 500 in 1965 and sold 27 years later in 1992, his inflation adjusted price would have been the same.

A 25 year old investor can use the 80 year history of the stock market as a guideline. The 50 or 60 year old investor doesn’t have that luxury and is more concerned with the volatility of an investment. Balancing both return and volatility is a difficult task.

Let’s look at another investment – gold. Gold prices have been rising this decade and the London fix price per ounce hit an all time high of $1060 this past week. So, is gold a good long term hold? In January 1985, gold had fallen to $300 an ounce. Let’s say an investor had bought at that price. Adjusting for inflation puts the cost at $750. In the past 25 years, you would have made 1.25% more than inflation. But what if you had needed the money in 2007? You would have broken even after 25 years.

You can solve the problem of volatility by keeping your savings in money market funds or short term Treasuries but the return often doesn’t keep up with inflation.

Several decades ago, Harry Browne and a few colleagues came up with a balanced strategy, the Permanent Portfolio, that they thought would give an investor returns that would beat inflation but would not be volatile. You can read about the history here and a 36 year history of returns using his strategy here.

Budget Aneurysm

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In mid 2008, the Office of Management and Budget (OMB) under President Bush estimated a $400B total deficit for fiscal year 2008, ending in Sept. 2008, and a deficit of $450B for the 2009 fiscal year.

In Dec. 2008, after the financial implosion of Sept. 2008, the non-partisan Congressional Budget Office (CBO) estimated that the total deficit would be about $1T. In Jan. 2009, before the new President was sworn in, the CBO revised their deficit projections upward to $1.2T, or 8.9% of GDP.

The 2009 fiscal year just ended Sept. 30th and the CBO announced this week that the actual deficit numbers will probably come in at $1.4T, or 9.9% of GDP. For a historical look at the budget numbers since 1968, click on Historical Budget Data at the CBO site. There you will see trends, like the defense spending trend shown in Table F-8. Although President Bush has been vilified by some for his military spending, he has spent less than his Dad did, and about 2/3 as much as President Reagan on defense as a percentage of GDP.

Since this data is in spreadsheet form, you can play with it. In dollars, personal income tax revenues almost doubled and Social Security taxes more than doubled during Reagan’s tenure. What were income tax revenues as a percentage of GDP? Go to the table with GDP figures, copy those figures into the table with income tax revenues and run a column of percentages. Bet you never had this much fun since you and Lindy Lou went to the lake in high school.

Can’t sleep at night because you are wondering what the size of the total public debt is? No problem. The Treasury updates the public debt daily.