Newsletter Articles

2024 has been a great year so far, with stocks rallying and bonds showing moderate gains. The Federal Reserve began cutting rates last week as inflation has cooled. We remain cautiously optimistic about the economy and while we expect more market volatility heading into the election, there’s a possibility for a strong finish to the year.

As a quick summary:

- Volatility has been low, but stocks and bonds have performed well year-to-date; we expect increased volatility heading into the election.

- While a mild recession is possible, the Fed’s easing of interest rates could provide an additional tailwind to the equity markets and hopefully give some relief to US consumers (2/3 of our economy) preventing a possible recession. Corporate earnings and cash flows remain strong and consumer spending/confidence have been resilient, both positive signs for the economy and markets.

- Elections matter, but not really to the stock market. History shows us that most presidents have seen gains in the S&P 500 and there is not a clear advantage of one party over the other.

- Long-term concerns persist around Federal spending, specifically with the difficult position it puts the Fed in when it comes to its influence on the economy.

What has been surprising this year is the lack of volatility, which is common in election years. The sharp jostle we experienced the first week of August was certainly unpleasant, however the S&P 500 closed that Friday almost exactly where it opened that previous Monday. 10%+ intra-year drops are the norm, not the exception. Don’t be surprised if we see more volatility heading into November.

As is often the case since late 2021, this year has largely been about the Fed and we finally heard last week that they are cutting interest rates by half a percent. With inflation clearly cooling, the Fed appears confident in entering this next phase of the economic cycle.

Don’t expect to hear any more from the Fed until after the election (more on that in a minute), when they may make additional incremental rate cuts. Our hope is that the Fed can continue to gradually lower rates to navigate this “soft landing” – a cooling of inflation without causing a recession. We believe there is a chance we experience a mild recession in the next 12-18 months, however there are plenty of reasons for optimism. While we have started to see less job openings and a creep up in unemployment, the labor market generally remains strong and consumer confidence rose in August. In addition, corporate earnings and cash flows have continued to grow, setting records in Q2; many of the Leading Economic Indicators (LEI) picked up as well, signaling strength and resilience.

With the Fed lowering rates, yields on short to medium term bonds will continue to fall, as well as the rates on CD’s.  In anticipation of falling rates, we have done our best to lock-in rates on short-term reserves and rebalance portfolios where appropriate. Borrowing rates have already come down in anticipation of the Fed’s cut, with mortgages and car loans looking more palatable than a year ago. Lower mortgage rates should help loosen the gridlock in the housing market, an important part of the economy.

Now, onto the election… we’d like to remind you that election years and the first years of a Presidential term tend to be positive for equity markets, regardless of the winner. As we’ve highlighted before, there are only two presidents that have seen a negative return in the S&P during their tenure – Richard Nixon and George W. Bush. Markets have performed well under both Republican and Democratic presidents, as well as under blue and red controlled Congresses. Political wins have very little influence on long-term investment results. 

While each candidate offers proposals and policies that may impact different sectors positively or negatively, all-in-all we are not concerned with the election, other than the volatility and noise it can cause.

A longer-term concern we do have is that the Fed will continue to be on an island when it comes to meeting its dual mandate of full employment and stable prices. In economic speak, there are two ways to stimulate or restrict an economy: monetary and fiscal policy. The Federal Reserve can lower or raise rates and the Federal Government can spend more or less. While we’ve certainly seen fiscal stimulus (tax credits, tax cuts, forgiven loans, etc.), we have yet to see any restrictive fiscal policies, i.e. less government spending. This is not a political statement – both parties have spent well beyond their means while in control, and neither platform presented for the 2024 election have any plans for less expenditures. As long as the US economy continues to grow, the concerns over the Federal deficit are not significant; however navigating the next economic cycle could prove more difficult and volatile, especially when it comes to battling inflation.

As we always mention – we feel the key to long-term investing success is a solid financial plan. If you anticipate changes in your spending or have upcoming expenditures we are not aware of, please reach out to us so we can review and update your plan as needed.

Finally, we’d like to recognize it has been almost 2 years since we converted from Hefren-Tillotson to Baird. While change is never easy, we are happy to be sitting where we are today. Baird is an amazing firm that we feel has our clients’ best interests at heart. Our leaders have continued to provide us with resources to better serve you our clients, from new technology, to research and insights, to conferences where we can collaborate with fellow advisors from across the country. We are proud not only be Baird associates, but also shareholders.

Thank you for the trust you have placed in us as your advisor and all the best to you and your family through the rest of the year.

With the end of the year approaching, it is often a great time to review potential tax planning opportunities. While many investors tend to focus on ways to save and grow their money in the long run, fewer dive into the details of building a more tax efficient portfolio over time. if you have a good understanding of a Roth IRA, then you understand just how powerful utilizing one can be. If most of your assets are pretax, then a Roth conversion may be a powerful planning strategy to explore.

Before discussing the strategy, it’s helpful to first provide some background and basics on how IRAs and Roth IRAs differ (in case you are unaware). Prior to 1998, Traditional 401(k)s and IRAs were the main ways that investors could save money on a tax advantaged basis. These plans work by providing a tax benefit upfront. In essence, the government allows you to add money that was never taxed to the plans and then invest and grow the money without paying taxes until you reach a certain age (RMD age). At that point you are required to take the money out and pay income tax at ordinary income tax rates.

In 1998 the Roth IRA was officially created. With Roth IRAs, you add after tax money to the account, but the money can then grow entirely tax free. The money can also be withdrawn in retirement without paying any additional taxes provided certain requirements are met. As you can probably guess, the tax-free compounding in a Roth IRA over time can make a huge difference on the tax efficiency of your portfolio and your overall financial plan.

So, what do you do if most or all your existing assets are pre-tax, but you want to take advantage of the Roth IRA? This is where Roth conversions can be considered. The mechanics are simple (but imperative to understand). The money is moved directly from your IRA to a Roth IRA. You will owe taxes on any money distributed from the IRA and converted to the Roth so detailed planning and understanding of tax consequences is critical. You must be willing to pay taxes to utilize the strategy and best practice is to pay the taxes with non-IRA after tax monies. We often find this is a disqualifier for those looking to utilize the strategy since most are not willing to pay the required taxes on money they are not using which can be substantial or do not have outside monies available to pay the taxes.

However, if structured well, the strategy can assist you in creating a more tax efficient portfolio for the long run. We most often assist retirees with the strategy since conversions can be done in a lower tax bracket due to no longer having employment income. The strategy is also a great option for those looking to create a more efficient estate plan. Unlike traditional IRA money, beneficiaries are also not required to pay income tax on money taken from a Roth IRA that is inherited.

If you or a loved one would be interested in discussing Roth conversions in greater detail, please reach out to us. Roth conversions are not right for everyone and whether to consider the strategy depends on your individual tax situation.

Disclaimer: Baird does not provide tax or legal advice. Please consult your legal or tax professional for specific information.

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