Fed Does a 180

Does the most dramatic change in the Federal Reserve’s policy outlook indicate a change in the economy?

Prior to December 1, the Fed had widely broadcast that it intended to raise it benchmark rate 3 more times in 2019.   At the December meeting, they lowered that to 2 times in 2019.  In January after the horrid December stock market fall, the Fed changed once again, removing expectations of further rate increases.

The Fed has claimed to be data-dependent and the major economic data points have been indicating slowing growth for most of 2018, and more so since Q2 2018.   The Fed may have realized it overtightened, having raised the Wu-Xia Federal Funds Shadow Rate (Atlanta FRB) by more than 5%.  This was the fastest rate of increase in almost 40 years.

Now the Fed’s balance sheet normalization plan is being questioned and pundits are calling for an early cessation.   In November 2017 the median targeted estimate for the Fed’s balance sheet was just under $3 trillion.   The balance sheet peaked at $4.5 trillion and is currently a tick under $4T.  At the beginning of 2008 it was $800 billion.

So, from a target Fed Funds rate of 3% and Fed balance sheet of $2.75T, to a ‘normalized’ rate of 2.25% and a Fed balance sheet of $4 trillion.    The last few recessions we have seen the Fed raise rates right into economic weakness, only to cease then ease as the recession begins.   With that kind of track record its no wonder people believe the Fed to either be behind the ball, or the outright cause of recessions.

The irony is that the US may have crossed the Rubicon regarding diminishing returns from cheap credit (low rates) aka velocity of money.   While over the past 40 years we have lowered the cost of credit to induce consumption, each recession we must lower the rate below the previous recession lows.  And while we ramp up credit expansion to boost the economy (borrowing more and spending more today) each time, we are getting less and less growth for each dollar borrowed/spent (velocity continues to decrease).  And when there is low velocity, in order to create growth, exponentially larger amounts of money (credit) are required.

I have seen a few reports discussing the idea that low rates decrease future potential growth.  Essentially low rates fail to attract capital, reducing investment, reducing future productivity gains which reduces overall growth.

We have seen the Fed essentially stop tightening (balance sheet runoff should continue to at least this summer) the next step will be for the Fed to ease again, indicating a recession has begun.

Blame the Fed! (for following through on previously telegraphed guidance)

The Federal Reserve today reiterated it plans to continue what it has been doing and said it would continue to do, much to the chagrin of market participants.

While the last Fed minutes showed more dovishness, actual actions that are indeed ‘dovish’ have yet to occur.  Reducing expected rate increases from 3 to 2 in 2019 was widely interpreted as, ‘the Fed might stop raising rates’, for some reason.  History shows us that the Fed telegraphs well in advance what it intends to do.  Thanks to Alan Greenspan, this has been the case for more than 20 years now.

What has the Fed said it will do in 2019?  Raise rates two more times and continue to drain liquidity from the system via its bond roll-off program.  It is also expected that other nations’ central banks will also cease adding liquidity this year. China may not have gotten the memo though, as they just lower their Reserve Requirement Ratio by 1%, freeing up approximately $100 billion in bank liquidity.  This was announced on Friday, January 4, but was not even mentioned in the Saturday Wall Street Journal!

Here is a picture of global liquidity for 2019.  From adding more than any given year in 2017, to net withdrawal in 2019.   Adjust your expectations accordingly.

qt central bank 10 2018

 

The 1031 Roadmap

Advantages of a 1031 exchange include many things aside from the tax benefits. Investors can consolidate, diversify, move markets, or increase income potential on their current investment property. dst 2 black-01

Some people choose to do a 1031 exchange to acquire more income. For example, they can exchange vacant land for commercial or residential real estate. The investor is able to increase income potential by exchanging a property that is not generating any revenue, such as land, into real estate that has greater income potential like commercial and residential real estate.

Another advantage of doing a 1031 exchange is consolidation. Depending on the investor’s situation, they may not want to manage multiple properties. They can exchange their properties into one larger investment property that is easier to manage. Others are tired of managing properties and of being a landlord altogether. These investors can exchange from a residential or commercial property into a more manageable and less time consuming piece of land.

Some investors are looking to diversify. With a 1031 exchange they can exchange one property for multiple property types. For example, an investor can exchange their residential investment property into a commercial, residential, and vacant piece of land. This is one of the most attractive of the advantages of a 1031 exchange!

A 1031 exchange is great for investors who have multiple properties in other states or for investors who are moving markets. Instead of traveling from state to state to manage multiple properties, investors can exchange the out of state real estate into property that’s in one state. If the investor is moving markets, for example from one state to another, they can exchange their investment property in the current states for an investment property in another state.

Every situation is unique when considering the advantages of a 1031 exchange, and it is always advised that the taxpayer consult with his or her tax advisors before making any decisions!

For more information, visit www.DST.investments.

Winter Solstice

They say its always darkest before the dawn, which seems appropriate as we meet the Winter Solstice today, at the lows of 2018.

There is a lot of commentary out there right now about hos investors are ‘worried’ about certain things like Brexit, slowing economies in China and Europe and if that slowing will seep into the U.S.  All these areas of concern have been with us for most of the year.  I have pointed out the Chinese credit impulse (slowing) more than a few times.  Housing and auto sales have been slowing for months.  The only difference is now there is a market decline and all these issues are being discussed.   If the market had not been declining these issues would still be with us, only accompanied by the tag line: “Investors shrug at concerns in Europe”.

In past posts I have described the coming year over year comparisons, 2018 v 2019, regarding earnings and GDP growth.  Every time I have mentioned that 2019 will look much worse than the stellar numbers put up in 2018, thanks largely in part to the one time cut in taxes.   That gave markets a boost and it was hoped that business investment, and wages would go up as a result.  Well it’s the end of 2018 and were still waiting.

The Federal Reserve gave a modest tip of the hat towards global economic concerns by reducing its estimate of rate increases in 2019 from 3 to 2.   There were even rumors that the Fed would skip raising its rate on December 19th and guide to 0 rate increases in 2019.   The Fed NEVER overtly bows to market or political pressures outside of an official recession or panic.   The Fed is in the process (as usual) of raising rates into the beginning of a recession.   Besides the yield curve, there are several other indicators that make recession in 2019 likely.  These indicators have been leaning this way for several months, and finally have tipped far enough that the markets are now concerned and discounting this likelihood.

As this is likely the beginning of a bear market (average -33% post WW2 era), we should expect large rapid moves, both down AND up in the markets.  During the bull market, a 2-4% pullback was common and quickly bought.  Today we see 2-4% intraday moves that continue to fall to hold support.  I expect several more percentage points south before a significant rally in stocks in the first few months of the year.   This will be an opportune time to reassess one’s risk tolerance and goals over the next 1-3 years, as well as make sure that one’s portfolio is properly diversified across asset classes. When stocks go down there are often other asset classes that are performing better, the core idea behind diversification.

Keeping Pace with Inflation

Inflation has been called the silent killer of wealth. It’s rarely discussed and many dollar picretirement income strategies ignore it completely. But over time, the steady increase in the cost of living can have a profound negative effect on your standard of living in retirement.

How inflation destroys wealth

As this chart shows, even at a modest rate of inflation, your spending power could decline by nearly 40% over the next 20 years.inflationNo one knows what the future may hold for inflation, but we do know that the Federal Reserve aims to keep the rate between 1% and 3% per year, and it has reached double digits in the 1950s, 1970s and 1980s.

Happy Thanksgiving !

Please note our office will be closed on Thursday, November 22 and Friday, November 23, 2018 in observance of the Thanksgiving holiday.  Normal operating hours will resume on Monday, November 26, 2018.

Feel free to contact me should you have any questions or if you have specific needs that require special attention.  You can reach me at 239-287-3789 or via email at pmcintyre@namcoa.com.

Have a safe and happy holiday!

 

Due Diligence for Commercial Real Estate Transactions

Due diligence usually refers to the time after signing a contract that the buyer has to inspect the property and make a decision whether they want to buy the property or lease the property or otherwise go forward with the transaction.

It’s important during due diligence period that you gather all of your information. You have to get your inspections done, you have to get your environmental inspections done, you have to gather all the documents that relate to the property, you have to do your zoning checks and you generally have to be one hundred percent certain that you are going to go forward with this deal.

If you don’t gather all that information, when due diligence expires, your deposit money may become non-refundable. Before due diligence expires, you can still walk away. It’s what’s also called a Free Look Period. It’s important to have a good broker and a good team of professionals around you to conduct all of these inspections, gather all of the documents, tell you what everything means and advise you whether you should go forward or not. A good broker will quarterback all of these players and make sure that everything is done timely and keep you on track.

The scope, intensity and focus of any due diligence investigation of commercial real estate depends upon the objectives of the party for whom the investigation is conducted.

A  “Due Diligence Review” will address issues important to the Seller, Developer and Lender including:  

  • WHAT IS CONSIDERED TO BE “THE PROPERTY”Bank Property
  • PURCHASE PRICE & OTHER CONSIDERATION
  • TITLE
  • SURVEY
  • BUILDING INSPECTION
  • THIRD PARTY SERVICE AGREEMENTS
  • ZONING
  • EXISTING LEASES
  • PURCHASER FINANCING
  • ENVIRONMENTAL ISSUES

IRS Provides Guide for New Tax Law

Last week the Internal Revenue Service (IRS) issued a new publication to help taxpayers learn about the recent tax reform law and how it affects their taxes.  The IRS estimates they will need to create or revise more than 400 taxpayer forms, instructions and publications for the filing season starting in 2019 — more than double the number of forms it would create or revise in a typical year.

While the 2018 Tax Cuts and Jobs Act includes tax changes for both individuals and businesses, this publication  —  Tax Reform Basics for Individuals and Families— is specifically geared to individual taxpayers. According to the IRS, the publication breaks down the law in easy-to-understand language and highlights the changes that taxpayers will see on their 2018 federal tax returns they file in 2019.

Specifically, the new guide provides important information about:

  • Increasing the standard deduction
  • Suspending personal exemptions
  • Increasing the child tax credit
  • Adding a new credit for other dependents
  • Limiting or discontinuing certain deductions

IRS Tips to Prepare for 2018 Federal Tax Filing

Federal Income Withholding

What You Need to Know

  • Due to tax changes in the Tax Cuts and Jobs Act, many taxpayers’ withholding went down in early 2018, giving them more money in their paychecks in 2018.
  • You may receive a smaller refund – or even owe an unexpected tax bill – when you file your 2018 tax return next year, especially if you did not adjust your withholding after the withholding tables changed.Other changes that affect you and your family include increasing the standard deduction, suspending personal exemptions, increasing the child tax credit, adding a new credit for other dependents and limiting or discontinuing certain deductions.

What You Need to Do

  • Use the IRS Withholding Calculator to perform a paycheck checkup to help you decide if you need to adjust your withholding or make estimated or additional tax payments now.
  • Use your results from this calculator to submit a new Form W-4, Employee’s Withholding Allowance Certificate, to your employer.
  • Make estimated or additional tax payments if the withholding from your salary, pension or other income doesn’t cover the 2018 income tax that you’ll owe for the year. Form 1040-ES, Estimated Tax for Individuals also has a worksheet to help you figure your estimated payments.

To download IRS Publication 5307, Tax Reform Basics for Individuals and Families, Click here.

Trends of the Wealthy

Let’s talk about some trends that are changing how private investors and especially the ultra-wealthy families worth $100 Million plus are allocating their capital.

While the mass affluent and billionaires are studied and talked about relentlessly in the media and by the general public, there are very few resources or facts available on those who are worth $100 million up to $2 billion.

These individuals are sometimes called Centimillionaires, a term rarely used.  This was similar to the use of the term “family office” used prior to 2000, and I think in the future the mass media, wealth managers, and dozens of other types such as industry service providers are going to sit up straight and realize that while there are only around 3,000 billionaires depending on what sources you trust, there are between 40,000 and 60,000 centimillionaires.

The families in the $100 million to $2 billion range need a lot of help, do not have as many gatekeepers as other 2 plus billionaires, and are less “famous” so they aren’t being pinged hundreds of times an hour with offers, pitches, requests and other inquiries.

Below are two trends we are seeing among Centimillionaires:

Transferring of Values (Not Capital): While the general public talks about baby boomers and the transfer of that wealth being central to their aging, Centimillionaire families seem to worry more about transferring values, responsibilities, family stories, and know-how being passed on to the next few generations.  Transferring of wealth in a tax efficient matter is important, but not much of that matters if the family tears themselves apart, wastes the money, embarrasses the family name, and squanders what past generations worked so hard to build as a family culture and legacy.  Many families are afraid that their family stories, governance structures, experience, etc. in creating the wealth is going to get lost between generations, and the true loss is either the family staying connected and/or the principles that lead to the wealth being created in the first place.  The wealth is truly transferred within the family values – not just a “warm fuzzy family emotions are more important than money” approach, but truly the only preservation and growth of the capital long-term is via the values/mission of the family.

Outsourcing: Most family offices are realizing that the only thing they should be doing in-house is what they did to create their wealth in the first place, the space where they believe there is great cross-over in a rising tide opportunity, using their experience and skills where they actively want to be 100% focused.  Trying to “recreate the wheel” just does not make sense.

Many single family offices, whether they hire a private bank or multi-family office or not, are leaning towards full outsourcing of their managers/stock/bonds/market exposure, a full in-house deployment of their investment back into the niches where they are playing offense, and then an in-between strategy of going through independent sponsors and some direct investments when it comes to real estate allocations.

This outsourcing trend with varying levels of accountability, control and transparency is likely to continue increasing with those with over $100 million in assets.

At NAMCOA we focus on adding real value, resources and peer connections to centimillionaires is one of those areas where those positioning now, building relationships now, and adding value now will do well long-term just as they will in the growing family office space.