The reality of the problem in D.C. and should I be fearful?

 

The U.S. Treasury Department is warning that unless Congress raises the debt ceiling by October 17th, the U.S. will run out of money. Supposedly America won’t be able to pay its bills.

This may seem like scary stuff, but don't panic. Here are three reasons why: 

  • Even if Congresses misses the October 17th deadline, the impact won’t be immediate and the United States won’t be bankrupt no matter what you hear. 
  • Since 1939 the debt ceiling has been raised an average of more than once a year. In almost every case negotiations went down the last possible minute. 
  • The number one risk to the U.S. economy is losing the faith of foreign debt holders. Leaders on both sides of the aisle know this would be catastrophic and, while they may take their time coming up with a compromise, the likelihood of such a default is remote. 

 

None of this has to happen. There have been a few close calls, but the U.S. has never officially defaulted on its debt. Despite the rhetoric on both sides this remains a political debate rather than a financial disaster. Emotions are running high but there's still a long way to go before this crisis becomes a global catastrophe. 

That being said, I have read articles written by, or viewed interviews from, several respected economists and institutional fund managers, and all of them have stated that what is going on in D.C. is nothing more than political gamesmanship. Without going into too much detail, they noted that monthly the U.S. Government on average collects taxes and fees that total ten to twelve times what the monthly interest payment on its debt. This is similar to someone making the minimum payment on their credit card. In essence, the default is not going to happen! 

Yes, we may see some short-term market volatility (see related article below), but that is about it. It will be very short-term and then the press and all of us will be onto something else we consider more important in short order.  

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Handling Market Volatility

Conventional wisdom says that what goes up, must come down. But even if you view market volatility as a normal occurrence, it can be tough to handle when it's your money at stake. Though there's no foolproof way to handle the ups and downs of the stock market, the following common sense tips can help.

Don't put all your eggs in one basketDon't put your eggs all in one basket

Diversifying your investment portfolio is one of the key tools for trying to manage market volatility. Because asset classes often perform differently under different market conditions, spreading your assets across a variety of investments such as stocks, bonds, and cash alternatives (for example, a money market fund or other short-term instruments), has the potential to help reduce your overall risk. Ideally, a decline in one type of asset will be balanced out by a gain in another, though diversification can't eliminate the possibility of market loss.

One way to diversify your portfolio is through asset allocation. Asset allocation involves identifying the asset classes that are appropriate for you and allocating a certain percentage of your investment dollars to each class (e.g., 70 percent to stocks, 20 percent to bonds, 10 percent to cash alternatives). A worksheet or an interactive tool may suggest a model or sample allocation based on your investment objectives, risk tolerance level, and investment time horizon, but that shouldn't be a substitute for expert advice.

Focus on the forest, not on the trees

As the market goes up and down, it's easy to become too focused on day-to-day returns. Instead, keep your eyes on your long-term investing goals and your overall portfolio. Although only you can decide how much investment risk you can handle, if you still have years to invest, don't overestimate the effect of short-term price fluctuations on your portfolio.

Look before you leap

When the market goes down and investment losses pile up, you may be tempted to pull out of the stock market altogether and look for less volatile investments. The small returns that typically accompany low-risk investments may seem attractive when more risky investments are posting negative returns.

But before you leap into a different investment strategy, make sure you're doing it for the right reasons. How you choose to invest your money should be consistent with your goals and time horizon.

For instance, putting a larger percentage of your investment dollars into vehicles that offer safety of principal and liquidity (the opportunity to easily access your funds) may be the right strategy for you if your investment goals are short-term and you'll need the money soon, or if you're growing close to reaching a long-term goal such as retirement. But if you still have years to invest, keep in mind that stocks have historically outperformed stable value investments over time, although past performance is no guarantee of future results. If you move most or all of your investment dollars into conservative investments, you've not only locked in any losses you might have, but you've also sacrificed the potential for higher returns.

Look for the silver lining

A down market, like every cloud, has a silver lining. The silver lining of a down market is the opportunity you have to buy shares of stock at lower prices.

One of the ways you can do this is by using dollar cost averaging. With dollar cost averaging, you don't try to "time the market" by buying shares at the moment when the price is lowest. In fact, you don't worry about price at all. Instead, you invest a specific amount of money at regular intervals over time. When the price is higher, your investment dollars buy fewer shares of an investment, but when the price is lower, the same dollar amount will buy you more shares. A workplace savings plan, such as a 401(k) plan in which the same amount is deducted from each paycheck and invested through the plan, is one of the most well-known examples of dollar cost averaging in action.  For example, let's say that you decided to invest $300 each month. As the illustration shows, your regular monthly investment of $300 bought more shares when the price was low and fewer shares when the price was high:

Dollar Cost Averaging Example

Although dollar cost averaging can't guarantee you a profit or avoid a loss, a regular fixed dollar investment may result in a lower average price per share over time, assuming you continue to invest through all types of markets. You should consider your financial and emotional ability to make ongoing purchases, regardless of price fluctuations, however.  (This hypothetical example is for illustrative purposes only and does not represent the performance of any particular investment. Actual results will vary.)

Making dollar cost averaging work for you

Get started as soon as possible. The longer you have to ride out the ups and downs of the market, the more opportunity you have to build a sizeable investment account over time.  Stick with it. Dollar cost averaging is a long-term investment strategy. Make sure that you have the financial resources and the discipline to invest continuously through all types of markets, regardless of price fluctuations.  Take advantage of automatic deductions. Having your investment contributions deducted and invested automatically makes the process easy and convenient. 

Don't stick your head in the sand

While focusing too much on short-term gains or losses is unwise, so is ignoring your investments. You should check up on your portfolio at least once a year, more frequently if the market is particularly volatile or when there have been significant changes in your life. You may need to rebalance your portfolio to bring it back in line with your investment goals and risk tolerance. Don't hesitate to get expert help if you need it to decide which investment options are right for you.

Don't count your chickens before they hatch

As the market recovers from a down cycle, elation quickly sets in. If the upswing lasts long enough, it's easy to believe that investing in the stock market is a sure thing. But, of course, it never is. As many investors have learned the hard way, becoming overly optimistic about investing during the good times can be as detrimental as worrying too much during the bad times. The right approach during all kinds of markets is to be realistic. Have a plan, stick with it, and strike a comfortable balance between risk and return.

To the extent that this material concerns tax matters, it is not intended or written to be used, and cannot be used, by a taxpayer for the purpose of avoiding penalties that may be imposed by law. Each taxpayer should seek independent advice from a tax professional based on his or her individual circumstances.  These materials are provided for general information and educational purposes based upon publicly available information from sources believed to be reliable—we cannot assure the accuracy or completeness of these materials. The information in these materials may change at any time and without notice.

Prepared by Broadridge Investor Communication Solutions, Inc. Copyright 2013

Quotes 

"Circumstances should never alter principles."

                   Oscar Wilde 

'"My father used to say, "Don't raise your voice. Improve your argument." Good sense does not always lie with the loudest shouters, nor can we say that a large, unruly crowd is always the best arbiter of what is right."'     

                   Desmond Tutu 

"I wish I could stand on a busy street corner, hat in hand, and beg people to throw me all their wasted hours."

                   Bernard Berenson

 

Tony Moeller, CPA 

The information listed in this commentary is a compilation of various publicly available sources and is for informational purposes only. It is not a recommendation or solicitation of any particular investment or strategy. A risk of loss is involved with investments in the stock and bond markets.  

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