Romney 2012?

Last time I blogged, I outlined the very ambitious tax plans of Herman Cain and Rick Perry, who at that time were looking like strong contenders in the 2012 republican presidential race.  How quickly things change!  Infidelities and flubs have all but eliminated both candidates from the race (Cain officially, and Perry for all practical purposes).  With Mitt Romney currently leading the race, I thought it might make sense to summarize what he has to say about taxes.  His plan is pretty straightforward, though much less specific than some of the others we’ve seen.

Individual Tax Rates

• Maintain low marginal tax rates
• Make the lower tax rates for investment income put in place by Bush permanent
• Eliminate the death tax
• Pursue a conservative overhaul of the current tax system that includes lower and flatter rates on a broader tax basis

Corporate Tax Rates

• Reduce corporate tax rates
• Switch from a “worldwide” tax system to a “territorial” tax system, in which income is taxed only in the country in which it is earned  (this would relieve U.S. corporations that repatriate profits from paying higher U.S. tax rates on those profits)

I’m certainly not an expert on taxation, but it seems that Romney’s plan is more viable than some of the more extreme plans promoted by other candidates.  What remains to be seen is whether Romney will ever have the opportunity to implement his tax plan.

Source:  Believe in America: Mitt Romney’s Plan for Jobs and Economic Growth

Emerging Markets equity performance across the world: a look back and a look ahead

Over the past month emerging markets (EM) equities have underperformed domestic markets (DM) by about 3%, especially since the start of December. After treading water for most of the past year, EM equities underperformed DMs (especially the US markets) sharply in September, and after a period of stabilization, have underperformed again over the past month, bringing their total underperformance over the year to between 10% and 15%. In this most recent bout of underperformance, the biggest laggards have been China, India and Taiwan. Taiwan also screens as the equity market index with the greatest underperformance relative to its underlying macro drivers over the past month, although, pretty much all Emerging Market Equity indices (outside of Korea) either underperformed or were in line with their macro drivers.

Taking a slightly longer perspective over the past 12, 6 and 3 months, and looking at equity performance across 20 EMs, the list of the worst absolute performers and underperformers is populated by three groups of countries: (i) the CEE countries of Czech Republic, Poland and Hungary (ii) India and China (iii) and Taiwan.

This cast of underperformers highlights the three concurrent concerns that have challenged EM equities over the past year.

• First, the poor performance of the CEE countries simply reflects that they are most directly affected negatively by the European sovereign crisis in two ways: because they have very deep trading linkages with the Eurozone so that any sharp cyclical slowdown can be expected to extract a direct cost on their net exports. For the Czech Republic and Hungary, goods exports to the Euro area constitute more than 40% of GDP, and in the case of Poland it is about 20%. In addition, because several Euro area financial institutions are significant participants in the local banking markets, this means that the ongoing deleveraging pressures on those banks will likely imply a tightening in financial conditions and a pull back in credit in these countries. Reflecting these fears, these equity markets have been especially hard hit as the European sovereign crisis has deepened.
• Second, the poor performance of the large EMs, in particular China and India (and Brazil in parts of the year) has reflected the fact that it is hard for growth levered equities to do well when policy is being tightened in order to slow growth and dampen inflation. For much of the past year, the expectation of a peak in EM inflation over the summer and a turn in the policy cycle kept investors  interested. But whereas inflation has indeed moderated as expected, the policy stance has not shifted decisively and the recent growth data have, if anything disappointed on the soft side.
• Third, with little prospect of an acceleration demand in the large DMs and policy constraining demand in the large EMs, the equity markets in the more open trading economies of Asia – Taiwan is the obvious example, but Singapore and Korea to a more limited degree – have suffered too.

At the other end of the spectrum of EM equity markets, there was a small group of countries that have managed decent performance throughout the year. This includes the ASEAN economies of Philippines, Indonesia, Thailand and Malaysia but also South Africa. Countries such as Philippines, Indonesia and Thailand are relatively less exposed to G3 demand and have less pressing inflation concerns than some of the larger EMs.

Looking ahead, if EMs deliver better equity market performance it will be necessary to see clearer signs of stabilization in the growth momentum in some of the larger EMs, specifically China, India and Brazil, with the prospect of acceleration further ahead. Our economic forecasts call for healthy growth in most emerging regions in 2012: 8.6% growth in China and 7.2% growth in India, and overall 7.1% growth for the BRIC economies. Based on these forecasts of we see the greatest upside over 12 months in the Asia (ex Japan) region. But a critical assumption of these forecasts is that policy responds in a timely manner.

To be fair, policy has already begun to shift in China – the recent cut in the Reserve Requirement Ratio being the most visible example – but we expect further steps towards easing, including rate cuts in China, India and Brazil over the next twelve months. EM equity is an important growth component to our asset allocation models over the next decade.  Given relative attractive valuations – We have begun to increase our allocation in these markets, but still have room to increase further if opportunities arise.  The PMI survey data at the start of each month should provide a timely indication of the growth momentum across the EM universe, and we continue to monitor these closely alongside nascent signs that the momentum our global leading indicator may also be turning.

Fed maintains guidance for low rates to 2013

In yesterday’s FOMC meeting, the committee maintained its pledge to keep the Fed Funds rate in the 0%-0.25% range until at least mid-2013.

They did note some improvement in the overall labor market, but there is still substantial concern around the unemployment rates and the still struggling housing market.

The market did not respond favorably to the meeting as many investors were hoping for additional stimulus from the Fed.  As of now, the committee seems content to let their actions play out.  Economic news and unemployment do seem to be heading in the right direction, but just not fast enough.  The first meeting of the new year will be on January 25th and barring additional issues in Europe, don’t expect anything new from the Fed.

STOCK Act Most Likely to Pass

On Tuesday, the House Financial Services Committee is scheduled to hold a hearing on the Stop Trading on Congressional Knowledge Act, also known as the STOCK Act.

The bill, which has languished since first being introduced in 2006, now has over 150 sponsors and the Senate held it’s first-ever hearing on related legislation last week.

“We’ve had a lot of new converts now that the public knows what’s going on,” quips Peter Schweizer, author of Throw Them All Out, a book which, along with a subsequent 60 Minutes profile, helped spotlight the nation’s awareness on the trading activities of sitting members of Congress.

“To me it’s a little encouraging,” Schweizer says of Congress’ sudden interest in the STOCK Act. “It shows if the American people are irate about something…there is an opportunity to effect change in a positive way that’s not partisan one way or the other.”

While encouraged by support for the STOCK Act, which he believes will pass; Schweizer says other reforms are needed, such as mandating sitting members of Congress use blind trusts for their portfolios.

A Tale of Two Tax Plans

It looks as though tax plans are shaping up to be an integral part of the 2012 GOP campaign.

Herman Cain has recently catapulted to the front of the 2012 GOP race, fueled in large part by his 9-9-9 tax plan.  For those of you that aren’t yet familiar with 9-9-9, Cain’s plan is to replace the existing tax code with a flat 9 percent personal income tax, a 9 percent national sales tax, and a 9 percent corporate income tax.  The 9-9-9 plan would eliminate the capital gains tax and the estate tax, as well as nearly all tax deductions.  Cain claims that his tax plan “is fair, simple, transparent and efficient. It taxes everything once and nothing twice. It taxes the broadest possible base at the lowest possible rates. It is neutral with respect to savings and consumption, capital and labor, imports and exports and whether companies pay dividends or retain earnings.”  Following successful implementation of 9-9-9, “Phase 2” of Cain’s tax plan would put an end to the IRS as we know it (sounds kind of nice, doesn’t it?) and repeal the 16^th Amendment.  It’s ambitious, to say the least.

Hot on the heels of Herman Cain’s tax plan came Rick Perry’s tax plan.  Perry is proposing a plan that would allow taxpayers to choose whether to use their current tax rate or pay a 20 percent flat rate.  Perry claims that his plan would simplify taxes to the point that it “will allow Americans to file their taxes on a postcard.”  A postcard?!?  That seems wildly optimistic, but I digress…  Like the 9-9-9 plan, Perry’s tax plan would eliminate taxes on capital gains and end most tax deductions.  However, Perry’s plan would continue to allow deductions for charitable contributions and mortgage interest.

 The jury is still out on whether either of these plans is actually viable.  According to former Reagan Treasury official Gary Robbins, the 9-9-9 plan would “expand GDP by $2 trillion, create 6 million new jobs, increase business investment by one third, and increase wages by 10%.”  That sounds very positive, albeit a tad optimistic.  However, a Bloomberg analysis determined that if the 9-9-9 plan had been in place in 2010, tax revenues would have been $200 billion less than they were, and in 2007, tax revenues would have been cut nearly in half.  Critics of the 9-9-9 plan call it “shockingly regressive” and “likely unconsititutional.”  And according to Ted Gayer, a tax policy expert who served on George W.’s Council of Economic Advisers, Perry’s plan “is more regressive than the current system” and puts more of a burden on lower-income taxpayers.   Perry’s critics also take issue with the fact that his plan would most certainly reduce tax revenues, yet he has not outlined how he plans to avoid widening the deficit or reduce spending.

It will be interesting to see how this all plays out in the Presidential campaign, and even more interesting to see what actually happens to the tax code if a Republican candidate wins the 2012 election. It seems that changing the current tax code would be tantamount to raising the Titanic. 

 I’ll leave you with a quote by Doug Larson:  “Some of the world’s greatest feats were accomplished by people not smart enough to know they were impossible.”

Leslie Squires Rojas

A Study in Volatility:

At Gill Capital Partners we spend considerable time discussing the potential adverse impact of volatility with our client’s assets.  High return investments look extremely attractive until you consider the impact the downside volatility adversely affecting your ability to compound money.  We thought we would share with you a simple story of the Tortoise & Hare. 

In the following example, the fast-moving Hare has a 36 year average return of 10%.  The slow-moving Tortoise has a 36 year average return of 8%?  Which one would you choose?  If you opted for the Hare, you, like many investors, have underestimated the impact of volatility on a portfolio value. The term volatility indicates how much and how quickly the value of an investment, market, or market sector changes. The hypothetical example here, which repeats the six-year pattern of returns over 36 years, clearly shows the value of slow but steady Tortoise wins out when it comes to growing a portfolio.

Year	Hare	Total	Tortoise	Total	Difference
1	20%	$120,000.00	8%	$108,000.00	-$12,000.00
2	30%	$156,000.00	12%	$120,960.00	-$35,040.00
3	-20%	$124,800.00	4%	$125,798.40	$998.40
4	50%	$187,200.00	20%	$150,958.08	-$36,241.92
5	30%	$243,360.00	12%	$169,073.05	-$74,286.95
6	-50%	$121,680.00	-8%	$155,547.21	$33,867.21
7	20%	$146,016.00	8%	$167,990.98	$21,974.98
8	30%	$189,820.80	12%	$188,149.90	-$1,670.90
9	-20%	$151,856.64	4%	$195,675.90	$43,819.26
10	50%	$227,784.96	20%	$234,811.08	$7,026.12
11	30%	$296,120.45	12%	$262,988.40	-$33,132.04
12	-50%	$148,060.22	-8%	$241,949.33	$93,889.11
13	20%	$177,672.27	8%	$261,305.28	$83,633.01
14	30%	$230,973.95	12%	$292,661.91	$61,687.96
15	-20%	$184,779.16	4%	$304,368.39	$119,589.23
16	50%	$277,168.74	20%	$365,242.07	$88,073.33
17	30%	$360,319.36	12%	$409,071.11	$48,751.75
18	-50%	$180,159.68	-8%	$376,345.42	$196,185.74
19	20%	$216,191.62	8%	$406,453.06	$190,261.44
20	30%	$281,049.10	12%	$455,227.43	$174,178.32
21	-20%	$224,839.28	4%	$473,436.52	$248,597.24
22	50%	$337,258.92	20%	$568,123.83	$230,864.91
23	30%	$438,436.60	12%	$636,298.69	$197,862.09
24	-50%	$219,218.30	-8%	$585,394.79	$366,176.49
25	20%	$263,061.96	8%	$632,226.37	$369,164.42
26	30%	$341,980.55	12%	$708,093.54	$366,112.99
27	-20%	$273,584.44	4%	$736,417.28	$462,832.84
28	50%	$410,376.66	20%	$883,700.74	$473,324.08
29	30%	$533,489.65	12%	$989,744.83	$456,255.17
30	-50%	$266,744.83	-8%	$910,565.24	$643,820.41
31	20%	$320,093.79	8%	$983,410.46	$663,316.67
32	30%	$416,121.93	12%	$1,101,419.71	$685,297.79
33	-20%	$332,897.54	4%	$1,145,476.50	$812,578.96
34	50%	$499,346.32	20%	$1,374,571.80	$875,225.49
35	30%	$649,150.21	12%	$1,539,520.42	$890,370.21
36	-50%	$324,575.11	-8%	$1,416,358.79	$1,091,783.68
	10%		8%	Average Annual Return

The Hare falls behind because of the mathematics of gains and losses.  It doesn’t take 50% to recover from a 50% loss.  It takes 100%!  Sometimes it’s not how much you make, but how much you don’t lose.

This is a hypothetical example to illustrate the impact of volatility on a portfolio and does not represent the actual returns of any index or managed portfolio. There can be no assurance that any portfolio will match the returns show here. All investments have the potential for loss as well as gain. Past performance is not indicative of future returns.

Reduce Portfolio Volatility with Alternative Investments

To combat volatility and diversify risk, investors have utilized asset allocation strategies, with the theory that some asset classes will go up, some down and others neutral. Over the long-term, this is an effective strategy, with the exception of 2008-2009 when all asset classes declined in tandem. A typical allocation would include domestic stocks and bonds, developed international stocks and bonds, and real estate.

 Accredited investors, pension plans and endowments have included alternative investments as an asset class. Alternative investments typically have a low correlation to traditional investments and are an effective tool to help reduce overall investment risk through additional diversification.

An alternative investment is an investment product other than the traditional investments of stocks, bonds, cash, or property. The term is a relatively loose one and includes tangible assets such as art, wine, antiques, coins, or stampsand some financial assets such as commodities, private equity, hedge funds, venture capital, and financial derivatives.

While many investors do not meet the requirements to invest in such instruments listed above, or may not wish have their capital committed to illiquid investments, mutual fund companies have introduced a number of products to the marketplace designed for the retail investor that provide liquidity, transparency, and low purchase minimums. Strategies may include equity long-short, managed futures, currencies, and bond arbitrage. Adding 10 to 20 percent of alternatives to your portfolio will reduce the correlation of your portfolio to stocks and bonds, dampening downside volatility. Investors can search for these types of investments using MorningStar categories, multialternative, market neutral, managed futures, long/short equity, and currency.

10 Year Treasury Hits All Time Low – Approach with Caution

On Thursday, August 18th the 10 year U.S. Treasury briefly dipped down to a record low of 1.99%.  The previous record was a yield of 2.03%.  This dip to historic lows was a culmination of investors fleeing for safety, uncertainty around monetary policy and a plummeting equity market.  The downgrade of the Treasury has obviously not spooked buyers in this space.  However, investors need to be very cautious and it isn’t in regards to default risk.  It is the risk of falling prices.  We don’t see the 10 year rebounding quickly back to a 4% level anytime soon, but 2% levels will be hard to sustain for the long haul and yields are much more comfortable in the 3% realm.  Approach bond portfolios with caution.

US Debt Ceiling

There has been a lot of buzz around the debt ceiling negations and how various outcomes may impact the capital markets and investor portfolios. Liz Ann Sonders, Chief Investment Strategist with Charles Schwab offers some perspective in her recent commentary, Staring at the Ceiling. You can read the commentary in its entirety by going to:

<http://www.sim.wallst.com/schwab/alerts/metrics/dynclick.asp?YYY20_aujgP0uo1/nWlyXGfEdSXD1YujLhxXX2RuJb1AcX5BPPe5a3CuLb5YSBacYg4f4symEHNyfBdGMArIgBRQCa4cLtMjlJszF8aD1y1wPGVHBfkEb6dgx78GVrGIRRECmWmF7fotBE2LH62fLu9krpv9cOAJP9xwolaTWvz4w8l9nwE4fMZTrobE6V77JHSx1Npw+mwRTPnv6TmQdiqWWo/rpzth44yFHAmbXFoGxp+JxSz4ZJtam4ki4MU88Kt+BDlTU/YA238XT7npKCiVhnmq5BreY3Idyq6hW2+6sHz/wZ1Zst/mhC8e5w289c0iRMPw5ocKWO2Sq1MidrRmaUL3nZHXw0YQtJu2YfFrHmuwWZE6sdCK+ssmGGAPway9He&a=a>

 If want to know more about how these events may impact your portfolio, contact your Relationship Manager at Gill Capital Partners.

Little-Known Facts About Employer-Owned Life Insurance

Many companies purchase life insurance on their employees.  Employer-owned life insurance, or EOLI (also known as corporate-owned life insurance, or COLI) is most often purchased on the lives of key employees, owners, and executives.  The proceeds are typically used to recruit and train replacement personnel and/or provide liquidity to redeem stock upon the death of an owner.  EOLI is often referred to as “key person” insurance.

In general, life insurance proceeds are not taxable.  However, due to abusive practices involving EOLI by some companies in the past, the IRS implemented regulations that placed limitations on the extent to which proceeds from EOLI policies are exempt from income tax.  The final regulations, which were part of the “COLI Best Practices Act,” were not released until November 6, 2008, but they applied retroactively to all employers owning EOLI policies purchased after August 17, 2006, which is the date the Pension Protection Act of 2006 was signed into law.

 In order for proceeds from EOLI policies to be excluded from gross income, and therefore exempt from income tax, employers must ensure that all of the following requirements are met:

 They must file IRS Form 8925  with their income tax return each year.  This form must indicate the following:

1. The employer’s total number of employees
2. The number of employees insured under EOLI contracts at the end of the year
3. The total amount of insurance under EOLI contracts at the end of the year
4. The name, address, and taxpayer identification number of the employer and the type of business in which it is engaged
5. Whether the employer has a valid consent for each EOLI policy

 The insured employee must, prior to the issuance of the contract:

1. Be notified in writing that the employer intends to insure the employee’s life and the maximum face amount for which the employee could be insured at the time the contract is issued
2. Provide written consent to be insured under the contract during and after active employment
3. Be informed in writing if the employer will be a sole or partial beneficiary of any death benefits

 One of the following Specified Exceptions must be met:

1. The insured was an employee at any time during the 12-month period before the insured’s death
2. At the time of contract issue, the insured employee was a director, or a 5% or greater owner of the business at any time during the preceding year, or received compensation in excess of $95,000, adjusted for future inflation, in the preceding year, or was one of the five highest-paid officers, or was among the highest-paid 35% of all employees.

 If any of the above conditions are not met, the proceeds from an EOLI contract could be taxable to the employer, which could be a very costly mistake.

Owning life insurance on key employees can make good financial sense for many employers, but as you can see, it’s not necessarily a simple, buy-it-and-forget-about-it transaction.  Contact your tax advisor if you have any questions about IRS Form 8925 or the tax implications of owning EOLI contracts.  Contact us if would like more information about the benefits of employer-owned life insurance.