• Washington & your portfolio
• A lesson from history: The mistake of selling out of fear
• Expect delays as nationwide productivity is slowing
• NSAG’s call w/ Jamie Diamon, CEO of JP Morgan Chase
• Recap, reply & two additional calls – What to expect in November’s Election
• Airline travel hits milestone while slowly recovering
• Charles Schwab completes acquisition of TD Ameritrade
• Free weekly online credit reports
• Where will the equity markets go next?

Washington & your portfolio

While the 2020 election season is finally winding down, we are likely to see prolonged controversy after November 3. Several betting markets and election experts currently give former Vice President Biden a lead over President Trump for winning, and Democrats are also the favorite for the Senate and House. The Senate is arguably the most important to follow and the control is narrowing and coming back to a virtual 50/50 tie. Of all elections of the post-WWII era, there have been six other Democratic sweeps of the Presidency, House, and Senate. We can always argue that “this time is different.” Democratic sweeps have typically come on market weakness both before and after Election Day. In these years, the S&P 500 has been down an average of 2.6% in the three months leading up to Election Day. Immediately after the election, there has historically been further downside pressure over the next few weeks, though those losses are reversed a bit afterward. By three months after the election, the S&P 500 has found itself at similar levels as Election Day on an average basis. Currently, we are expecting downside volatility to be short lived and be less than 10%.

October 2, it was announced that President Trump tested positive for COVID-19 and later that night was moved to Walter Reed National Military Medical Center for observation and treatment. Trump received a treatment of Dexamethasone, Remdesivir and Regeneron in addition to his current regiment of zinc, vitamin D, famotidine, melatonin and aspirin. While his case was thought to be mild, he was released three days later back to the White House. Trump’s positive COVID test caused the cancellation of one Presidential debate and changed the format of the third debate on October 22. Selling stocks on Trump’s COVID news would have been detrimental as the market has continued to move higher on hopes of an agreement for the next round of planned fiscal stimulus from Washington.

We believe it is unlikely that we will see a pre-election stimulus package and discuss this further in the following section “What to expect in November’s Election.” After the election, it is possible to see a $2 trillion package followed by an additional $4 trillion for infrastructure in early 2021 (originally slated as a $2 trillion bill for Q4 2020).

A lesson from history: The mistake of selling out of fear

Thirty-three years ago (10/19/87), US equity markets experienced their worst single day decline on record as the S&P 500 fell 20.5% while the Dow dropped more than 22%. If you were alive or old enough to remember things at the time, you remember the 1987 crash. In the case of the Dow, it wasn’t the worst single-day decline on record as the index dropped more than 23% on 12/12/1914, but the caveat here is that the 1914 decline came after a nearly five-month stretch where the stock market was closed due to World War I. In 1987, the only closure the crash followed was a two-day weekend.

While the crash of 1987 surprised most investors, it wasn’t as though the weakness came out of the blue. In the two months leading up to the crash, the S&P 500 was already under significant pressure leading up to that day. For example, from the closing high on 8/25/1987 through the close on the Friday before the crash, the S&P 500 was already down more than 16%!

With the market already down 16% heading into the Monday crash, you wouldn’t have faulted an investor for thinking the sell-off was overdone and putting some money to work right before. As the saying goes, buy low and sell high, right? While that approach may have sounded good in theory, in practice it was a disaster. It didn’t take long before that initial investment was already down more than 20%, putting the investor in what would have seemed like an insurmountable hole.

Picking up a copy of the New York Times on 10/20/1987 would have only reinforced that sentiment. While they are more frequent now, headlines that spanned the entire front page used to be extremely rare, but the day after the crash, that’s exactly what we saw, including one headline which read, “Does 1987 Equal 1929?” Given the sheer size of the decline and the headlines, it was reasonable for an investor to cut their losses and move on.

While the New York Times deemed the crash of 1987 as an event worthy of the entire front page, the Wall Street Journal took a more reserved approach dedicating just two columns to its main headline, and explaining that in reference to the question “A Repeat of ’29?” that a “Depression in ’87 Is Not Expected.”

With the benefit of hindsight, while it was understandable for an investor to sell the day after the crash, it was the entirely WRONG move, as Black Monday essentially marked the low of that bear market. The ’87 crash obviously looked disastrous on a short-term intraday chart of the S&P 500 from 1987, but from a longer-term perspective, it looks a lot less intimidating. The chart below shows the S&P 500 on a log-scale going back to 1987, and from this perspective, the 1987 crash now looks like a minor blip.

To further illustrate this point, let’s take the theoretical example of the person who plowed some money into the stock market on the day before the crash. From a timing perspective, it couldn’t have been worse. With the benefit of time, though, an investor who held on for the ride actually fared pretty well, even outperforming long-term Treasuries. As shown in the chart below, the S&P 500’s annualized total return from the Friday before the ’87 crash through this past Friday works out to 9.9%. Long-term US Treasuries have also performed well over the same time period, but with an annualized gain of 8.7%, they’ve underperformed the S&P 500. While past performance is not indicative of future results, the ability of long-term treasuries to keep up with equities is going to be virtually impossible. The average 10-year treasury yield in 1987 was 8.4%, compared to <1% in 2020!

The lesson here is clear: even the worst-timed trade ever worked out in the long-term. Panic selling after steep market drops throughout history has been the wrong move 100% of the time if your time frame is long enough.

Expect delays as nationwide productivity is slowing

NSAG has been back in the office since June and our productivity has increased; we hired our second Paraplanner in June 2020. However, we are seeing firsthand that working from home is now slowing productivity across the country at both large and small companies. There has been a decided change in productivity as of July this year. Initially at the start of COVID, the work from home productivity was high as workers pushed hard to help keep their jobs and the economy moving forward. Self-motivated workers can be productive no matter where they work, while others can be easily distracted. Kids learning from home are probably the biggest current distraction. However, we are also hearing that limited access to support technologies like faxes, scanners, printers, business speed/capacity internet, and office phone systems are also contributing to reduced productivity.

Our concerns were affirmed on Mark’s October call with Jamie Diamond (below).

NSAG’s call with Jamie Diamon, CEO of JP Morgan Chase

On October 1, Mark had an opportunity to sit in on small group meeting with Jamie Diamon. The following are a few of Jamie’s highlights from the call:

• There is a small chance of a double dip, so don’t rule it out.
• We are experiencing a bifurcated economy. If you are in the retail, hospitality and restaurant industry, you feel terrible. However, the consumer spending and housing-focused businesses are thriving.
• While initial productivity was high when workers went home for COVID in March, productivity has dropped significantly in the last few months.
• Chase is finishing up a comprehensive productivity research project. While they initially thought they would be able to have a high percentage of employees work from home in the future, they have found that as little as 30% actually can. Many companies like theirs are built on apprenticeship and in-person teaching. This summer alone, Chase had 3,000+ interns that never worked with someone one-on-one.
• Chase is looking to rebuild a long-term sustainable effort to put banking back into communities of the country that are not served by any bank. These are likely the same communities that banks pulled out of years ago due to lack of profitability. It will be interesting to see how long these new branches can last if they are not able to be profitable.

Recap, reply & two additional calls – What to expect in November’s Election

October 7, Frank Kelly, who is the Head of Government & Public Affairs for North & Latin America for Deutsche Bank, provided an update on the election and answered client questions. The following are a few of Frank’s highlights from the call:

• When you throw out the highest and lowest state polls, Biden & Trump are much closer than the media is letting us believe.
• The Shy voter swing for Trump could be as much as a 5% deviation in his favor.
• The Senate race is tightening up. There was a 60% chance that the Democrats took the senate a week ago. It is now a 50/50 toss-up without taking into consideration a sexting scandal developing in the NC race.
• Delays in the races/polls could be as long as 2-7 weeks. There are currently 200 lawsuits on how states are managing vote counting. The key battleground state of PA has expanded voting days to November 3, 4, 5, 6 & 7!
• It is very unlikely that we will see a stimulus program before the election.
  • President Trump wants one-off packages so they are cleaner and more direct. Pelosi can only get support for a massive package.
  • Pelosi is looking for a $2.2T+ package. Trump offered a $1.5T package.
  • Either way… the Senate will not approve a package larger than $500B. Therefore, even if Trump and Pelosi agree on a number, the Senate is still not likely to approve.
• The massive $4T stimulus program for infrastructure is being pushed back from this fall to the spring of 2021.
• US/China Relations did not come up in the debate because both the Democrats and Republicans generally agree on this topic.
• Something is structurally wrong inside of China (income inequality, corruption, COVID death rates and they are attacking every other western country).
• The new division of our defense department called the Space Force will grow by over 6,200 personnel in the next year and has been allocated a budget of $15B for 2021.

You can click HERE to hear a replay of the call.

Our October 7 call with Frank Kelly went so well, we were able to secure two more times with Frank. On call #2 & #3, Frank will provide his insight into what is going on behind closed doors in Washington on stimulus negotiations and what he is seeing real time as we head towards the November 3 election.

Date & time

#2 = Thursday October 22 @ 2pm EST, each call will be ~50 minutes.
#3 = Tuesday October 27 @ 2pm EST

R.S.V.P.

events@ns-ag.com

Airline travel hits milestone while slowly recovering

The airline industry may be in crisis, but October 18 marked a big milestone for the industry. US total passenger throughput crossed back above the one million level for the first time since March 16. While the trend is higher, it is still down by a lot. Normal throughput is ~2.6 million passengers a day. Therefore, this recent milestone is still down more than 60% from the same day last year!

Looking deeper into the numbers, we continue to find positive trends. The increase in passenger traffic wasn’t just a one-day blip. On a seven-day average basis, daily passenger traffic has also been steadily rising. Ten days ago, the seven-day average jumped back above the prior post-COVID high of ~780K from early September. Since then, we have seen a steady increase to the current level of ~872K, which is nearly 100K above the prior high.

Charles Schwab completes acquisition of TD Ameritrade

As you may have seen, the deal with TD Ameritrade officially closed on October 6.

We are excited about the potential benefits to our clients of what’s on the horizon with the combined scale, technologies and product offerings.

It is important to know that for now, things remain business as usual. Schwab Advisor Services and TD Ameritrade Institutional will remain separate custodians until the account conversion is complete, and we expect that to take between 18 and 36 months. Mark has quietly heard that due to the size of the two firms, the integration could take up to 60 months. We will keep you apprised of important updates as we move through the process together.

Free weekly online credit reports

Credit reports may affect your mortgage rates, credit card approvals, apartment requests, or even your job application. Reviewing credit reports may also help you catch signs of identity theft early.

During these times of COVID-19, accessing your credit is important. That’s why Equifax, Experian and TransUnion are now offering free weekly online reports through April 2021. Annualcreditreport.com is one of many sites that consumers can use to access the free reports.

Where will the equity markets go next?

As we sit less than 5% below market highs, our vision and communication has not changed since 2010. We still believe we are in a secular bull market, which typically lasts around 15 years. Historically, it is not uncommon to have a bear market (which essentially occurred in Q4 of 2018) or even a brief recession (which we may be experiencing right now) during a secular bull market. Markets will trade on fear or momentum from time-to-time. In-between earnings reports, the markets may even trade on a single data point (like Trump’s COVID test or stimulus updates). Eventually, the markets return to trading on fundamentals. We believe that fundamentals are slowly rebuilding across the globe. But the gains will be clouded until we get the first (or second) approved vaccine. Meanwhile the Fed and Treasury are doing a tremendous job of providing a financial bridge to get through the end of the year. The next round of stimulus will occur, but probably not until after the election.

We are passionately devoted to our clients’ families and portfolios. Let us know if you know somebody who would benefit from discovering the North Star difference, or if you just need a few minutes to talk.

As a small business, our staff appreciates your continued trust and support as we all work through these stressful and trying times for our country and world.

Please continue to send in your questions and see if yours gets featured in next month’s Timely Topics.

• Fidelity re-confirms North Star’s view that we are in a secular bull market
• Client Question: If Presidential elections don’t matter for markets, what in this election does?
  • Answer: A contested election
• The holidays are coming & mail orders will be significantly impacted
• As predicted, mortgage rates are lower again
• What to expect in November’s Election: A virtual client speaker for October
• Where will the equity markets go next?

Fidelity re-confirms North Star’s view that we are in a secular bull market

Prior to starting North Star in 2013, Kangas was writing clients in 2010 to educate them on the likelihood that we have entered a secular bull market. We have not wavered from this viewpoint and this has been one of the many reasons why we expected the market (and eventually the economy) to be so resilient during the last few downturns.

On September 1, 2020, Fidelity’s Director Jurrien Timmer, who is their specialist in global macro strategy and active asset allocation, published an article titled, “5 Reasons the bull market could continue.” (Click HERE to view in its entirety.) The article has a few great charts, including one showing bear market bottoms in various types of market cycles (hint, not all behave the same). The following are a few highlights from Timmer’s article.

1. An early cycle bull market has only just started.
2. Not only is this likely a cyclical bull market, but I think we are also likely still in a secular bull market. A cyclical bull market typically lasts as long as the business cycle while a secular bull market may show higher than average returns for nearly 20 years. Timmerman first started writing about the secular bull market thesis in 2013. Since then pretty much everything that this market has done has confirmed as much, including the sharp recovery off the March 2020 lows.
3. If the de-equitization of the stock market continues, the supply/demand dynamic should remain favorable. (De-equitization means that the number of public stocks is declining.) The number of publicly traded equities has been cut in half since the late 1990s—peaking at 8,309 in 1996 and down to 3,853 by 2016. A similar and related dynamic is the ongoing shrinkage of the share count in the S&P 500, driven in large part by share buybacks.
4. Monetary policy remains ultra-accommodative and, I believe, is likely to stay that way for a number of years to come (as confirmed by the Fed’s new inflation targeting stance). It’s a “there-is-no-alternative” world as far as the eye can see.
5. A lower dollar would also be a big tailwind for the secular trend. The Fed seems to be winning the global race to the bottom, as evidenced by the weakening of the dollar against foreign currencies for about the past 4 months. A lower dollar is bullish for equities and hard assets like real estate and commodities.

Timmer and Kangas have both identified trends and used data to look through short-term volatility to help generate wealth. While there is always room to be tactical on a short-term opportunity, there is no place to let emotions change the course of long-term planning.

Client Question: If Presidential elections don’t matter for markets, what in this election does?

Last month we covered the Dow Jones Industrial Average’s (DJIA) return under every President since 1900 from the time they took office to the time they left. The findings showed that there was no clear advantage to either a Democrat or Republican president. In spite of these findings, opinions are all over the place.

Investment manager Howard Marks recently stated that the stock market will “breathe a sigh of relief” if President Trump is re-elected.

The Wall Street Journal recently wrote: “Get Ready for the Biden Stock Boom.”

Echoing the sentiment, The New York Times wrote, “Why a Biden Presidency Could Be Bullish for Stocks.”

Over the last week, we held calls with our political contact at Deutsche Bank and our Equity Income portfolio manager at JP Morgan. On both calls we had a similar conversation about the pending election. Equity market risk is being misplaced on a Trump vs. Biden victory. The true risk is around a contested election. Lets look a scenario where this can playout…

In June, the odds were rising for a Biden victory in November as he has opened up a 10%+ lead. In September, the average of the national polls has since decreased to a 7.5% lead. However, if you start looking at the following current data at battleground state level, you see Biden’s lead is even less.

Poll Biden
National Average +7.5%
Wisconsin +6.4%
Arizona +5.7%
Michigan +4.2%
Pennsylvania +4.3%
North Carolina +1.5%
Florida +1.2%

Next, we look at a relatively new phenomenon called the “Shy Voter.” The shy voter is where a voter is not telling the truth to their family, friends and pollsters on who they are going to vote for. Current estimates by Deutsche Bank are that 10% of Independents and 6-7% of Republicans are saying they will vote for Biden, when they in fact plan on voting for Trump. The United Kingdom experienced a similar shy voter issue with Boris Johnson. If this theory is correct, the Trump could receive enough shy votes to make this election much closer than the polls are showing. This is where things get interesting for a COVID election year. It is expected that the US will be utilizing a higher than normal amount of mail in votes. Historically, more Democratic voters utilize mail in voting compared to Republicans. This sets the stage that Trump could “win” the election based on Polls closing on election day, yet Biden could retake the lead when the mail in votes start to get counted!

In this scenario, unless Biden wins by a big margin, it is highly likely that Trump will challenge the election results based on the postmark on each mail in vote. A Trump election night win, a delayed Biden mail in victory or a split popular vs electoral college victor could all lead to rioting. It is this drawn out contested election with rioting that poses the biggest risk to the markets. It would not be unreasonable to see a brief 20% correction. Call us if you would like to discuss strategies to limit downside risk.

For those that are curious, about 18 states will count your ballot as long as it’s postmarked by Election Day or the day before AND received in a few days. States are currently scrambling to clarify their rules. Here are a few notable changes:

• California will count ballots received up to 17 days after the election.
• Wisconsin’s Supreme Court recently allow ballots with no postmark to be counted if it is “more likely than not” that they had been mailed on time.
• New York’s federal judge recently allowed votes to be counted that didn’t have a postmark.
• Pennsylvania election officials have asked the state Supreme Court if they can count ballots without a postmark as long as they’re received within a few days.
• Nevada and Virginia have already received approval to count ballots without a postmark as long as they’re received within a few days.

Every vote should count as long as it is legitimately made. The argument already being made is that the postmark is the timestamp that legitimizes the vote, no different than the postmark when you file your tax return. Thankfully, the solution is easy. Voters who are worried about this issue are encouraged to mail their vote in early and take their vote to the post office so it can be postmarked in front of them.

This month’s polling numbers are provided by Real Clear Politics.

The holidays are coming & mail orders will be significantly impacted

While we are only in September, it is important to already start thinking about the holidays. While COVID has already cancelled holiday parties and altered travel plans for families, shopping will also be impacted. Many stores have already announced that they will be closed the day after Thanksgiving and will instead offer their 1-day specials for 30-days. Mail delivery will be impacted the most. The US is expecting record online sales for Q4-2020. Due to a higher than normal volume, shipping companies have already announced that buyers should be prepared for extended delays and increased shipping costs.

Therefore, now is a great time to start picking up those gifts for the special people in your life.

As predicted, mortgage rates are lower again

In July, we wrote a section titled “Mortgage rates are at record lows. Is now the time to refinance?” and referenced that while rates are low, they could drift lower over the coming months. Fast forward to September and we have indeed seen rates drift lower for mortgages and home equity lines of credit. During this low interest rate environment, it could be advantageous to refinance your mortgage into a lower fixed rate. Refinancing to a lower interest rate could potentially save you thousands of dollars & help you pay off your mortgage sooner. Rates can vary based on credit score, loan balance and term. As of September 9th, rates are as low as 2.375% for a 15-year loan and 3.0% for a 30-year loan.

While rates may drift lower, we have seen an uptick in clients locking in these record low fixed mortgages. We recognize that there are several factors to consider when deciding if refinancing is best for you. If this is something you would like us to review with you, we would be happy to help compare your options, potential savings or assist in finding a low-cost lender.

What to expect in November’s Election: A virtual client speaker for October

We are finalizing plans right now for a virtual guest speaker for Mid-October. We are happy to bring back Frank Kelly who is the Head of Government & Public Affairs for North & Latin America for Deutsche Bank. Frank has presented at prior events in 2015 & 2016 with North Star. During 2020, Frank has been on weekly calls with North Star providing insight into what is going on behind closed doors in Washington. The date and time will be announced shortly.

Where will the equity markets go next?

As we sit at new market highs, our vision and communication has not changed since 2010. We still believe we are in a secular bull market, which typically lasts around 15 years. Historically, it is not uncommon to have a bear market (which essentially occurred in Q4 of 2018) or even a brief recession (which we may be experiencing right now) during a secular bull market. Markets will trade on fear or momentum from time-to-time. In-between earnings reports, the markets may even trade on a single data point (like the new cases and death count of COVID-19). Eventually, the markets return to trading on fundamentals. We believe that fundamentals are starting to return. But the gains will be clouded until we get the first (or second) approved vaccine. Meanwhile the Fed and Treasury are doing a tremendous job of providing a financial bridge to get through the next few months.

We are passionately devoted to our clients’ families and portfolios. Let us know if you know somebody who would benefit from discovering the North Star difference, or if you just need a few minutes to talk.

As a small business, our staff appreciates your continued trust and support as we all work through these stressful and trying times for our country and world.

Please continue to send in your questions and see if yours gets featured in next month’s Timely Topics.

• Presidents have less of an impact on the market than you think
• Don’t let your emotion wreck your returns
• Volatility is likely to pickup
• Tech’s Q3 Performance has been a dog!
• Record earnings season
• Biden’s tax increase for Social Security
• Our GARP process has not waivered

Presidents have less of an impact on the market than you think

With the Presidential election less than three months away, analysis over which candidate is better for the stock market is starting to take up the spotlight. While conventional wisdom says that Republican Presidents are better for the stock market, historical market performance suggests otherwise.

We looked back at the Dow Jones Industrial Average’s (DJIA) return under every President since 1900 from the time they took office to the time they left. For the 12 presidents since 1900 (including Trump), the DJIA’s average annualized return during their tenure has been a gain of 3.5%. For Democrats, though, the average is nearly twice as much at 6.7%. Since WWII, the spread between Democrats and Republicans is a bit narrower (7.5% vs 6.1%), but that’s shrinking what was already a small sample size of 20 to 13.

While historical returns of the market under different political parties receives a lot of attention, its impact is a bit over-rated. A President’s policies can have an impact on the performance of stocks in specific industries, but even though it is considered the most powerful position in the world, not even the President is big enough to fully steer the US (or global) economy. More often than not, Presidents deal with the hand they’re dealt rather than act as the dealer themselves.

Look no further than President Trump and President Obama to see a real-world example of this. If there is one thing everyone can agree on, it is that in both their policies and personalities, the two men couldn’t be more different. However, when we look at sector performance under each President’s time in office, the results look a lot more similar than different. During Obama’s tenure as President, the two best performing sectors in the S&P 500 were Consumer Discretionary (+338%) and Technology (+286%). The two best performing sectors under President Trump? Consumer Discretionary and Technology. Under Obama, the worst-performing sector in the S&P 500 was Energy (+53%). Under Trump? Energy as well (-47%). These aren’t the only similarities either. Of the six sectors that underperformed the S&P 500 during Obama’s eight years in office, five of them are also underperforming during Trump’s tenure as well. Conversely, of the three sectors that have outperformed the S&P 500 during Trump’s tenure, two also outperformed during Obama’s eight years.

Besides the fact that market returns under different political parties gets more credit than it deserves, conventional wisdom regarding individual Presidents seems to be wrong more often than its right. For both President Clinton and Obama, expectations were extremely low leading into their administrations, and by the end of their terms in office, the annualized returns of the DJIA for each of them ranked in the top three for all Presidents since 1900. Similarly, President Trump was a wildcard heading into the 2016 election, and when he won, US equity futures immediately plunged. No one ever sells stocks because they are bullish on the outlook, but with a 9.4% annualized gain since he took office, returns under President Trump have also been better than average. The key lesson as we approach November is that if Biden wins, whatever the conventional wisdom is for his impact on the market, the smart move will likely be to do the opposite.

In a search to create and share the historical comparisons we stumbled upon a very simple an interactive chart (compliments of macrotrends.net) that shows the running percentage gain in the S&P 500 by Presidential term. Each series begins in the month of inauguration and runs to the end of the term. The y-axis shows the total percentage increase or decrease in the S&P 500 and the x-axis shows the term length in months. Click on any president’s name in the legend to add or remove the graph lines. Click HERE or on the picture below to see if you can make a case that one party has more influential on the market than others.

We understand that there are many factors that play into or out of favor for each economic period under each President. And while past performance is not indicative of future returns, we will continue let fundamentals drive our investment process, not just a political party.

Don’t let your emotion wreck your returns

With our education has helped guide many clients through and away from many tough investing decisions. Discussions around “panic selling” earlier this year or trying to call a market top this summer are two perfect examples of frequent topics brought up by clients. Life is emotional, but it has no place in investing. North Star welcomes these difficult conversations as we navigate the a very confusing market and economy.

“The investor’s chief problem – and his worst enemy – is likely to be himself. In the end, how your investments behave is much less important than how you behave.” – Benjamin Graham

Volatility is likely to pickup

Anyone who invested with the “sell in May and go away” strategy is clearly kicking themselves. We are moving from a historically quiet summer period in the market and we have the added complexity of the 2020 Presidential Election. We are working with clients to consider strategies to help limit downside risk while still participate in any potential upside market appreciation. Furthermore, a Biden victory could bring increased trading in Q4 as investors look to sell winners to lock in gains at the current capital gains rates compared to the potentially much higher ordinary income rates during his Presidency. While investors may take their profits, it doesn’t necessary mean they are going to park their proceeds into cash. It is highly likely that 80%+ of the proceeds may find its way back into the market. Please call us if you would like to discuss this or any other topic further.

Tech’s Q3 Performance has been a dog!

If there has been a reliable trend in the market over the last several years, it has been the leadership of the Technology sector. While there have been days or weeks where tech lags and value rallies, more often than not, it all comes back to tech, especially when the market is rallying. So far this quarter, though, tech hasn’t been leading, and it hasn’t even been playing second fiddle. In fact, Technology finds itself in the unconventional position where it is actually underperforming the S&P 500 quarter to date (QTD)! While sectors like Consumer Discretionary (1276%), Industrials (12.63%), and Materials (11.02%) are all up by double-digit percentages, the Technology sector’s ranking in terms of QTD performance is actually 6th out of 11 at 8.77%. What a dog.

Record earnings season

Analysts were rapidly increasing earnings estimates leading up to earnings season. Normally when that happens, stocks have trouble performing well during earnings season because the expectations bar has been set higher. This season, even with analyst estimates on the rise in the four weeks leading up to the start of the reporting period, companies managed to beat bottom-line EPS estimates at the highest rate in the history of our database going back to 1999.

• 76% of companies reported stronger-than-expected EPS numbers this season, which eclipsed the prior record high of 73% seen during the Q3 2006 reporting period.
• While the bottom-line EPS beat rate set a record this season, the top-line revenue (sales) beat rate came in at 66%. This was not a record, but it was the highest revenue beat rate seen since the Q2 2018 earnings season.

Forward guidance numbers were even more impressive than the backwards looking EPS beat rate that set a record this season. Our guidance spread measures the difference between the percentage of companies raising guidance and lowering guidance. The guidance spread this season was +9 (12% raised guidance, 3% lowered guidance). That’s easily a record high and nearly double the prior high seen in the Q1 2004 earnings season!

With beat rates and guidance so ridiculously strong this season, it unfortunately sets the bar extremely high for the last few months of 2020. Continuing to beat expectations at a high rate is not out of the question, but we think it will be much more difficult for companies to impress when Q3 numbers start coming in late September/early October.

Biden’s tax increase for Social Security

In April 2020, the Social Security Administration said the funds were projected to run out in 2035, at which point 79% of benefits would be payable.

Biden has a proposal to help shore up Social Security that many Americans can get behind (and a few will object to).

In 2020, all earned income (wages and salary, but not investment income) between $0.01 and $137,700 is subject to the 12.4% payroll tax that funds Social Security. Approximately 94% of workers will pay into Social Security this year with every dollar they earn. Comparatively, the other 6% of workers who’ll make more than $137,700 in 2020 will see their income above $137,700 exempted from Social Security’s payroll tax. Between 1983 and 2016, the amount of earnings exempted ballooned from a little over $300 billion to $1.2 trillion.

Under the Biden tax plan, a “doughnut hole” would be created between $137,700 and $400,000, where this 0% taxation exemption would remain in place. However, for earned income above $400,000, the 12.4% payroll tax would be reinstated. It’s estimated this would raise between $800 billion to $1 trillion over the next decade.

The flip side of the additional revenue to shore up the system could be lost due to additional benefits Biden is considering which may include:

• Increased benefits for those who have received Social Security for 20+ years.
• A minimum benefit of 125% of the poverty level for those who have worked for 30+ years.
• Increased widow benefits to 120% of their deceased spouse’s benefit.
• Elimination of the windfall prevision.

Even if the additional revenue plan is put into place without additional benefits, we expect other small changes will still be needed to shore up the Social Security system. Our expectation remains that workers less than age 55 may have their benefits reduced, their retirement age pushed back or both. While it not impossible, the Government is less likely to change benefits for workers who are within less than 10yrs of their current full retirement age.

Our GARP process has not waivered

In 18+ years of investing and working, I have seen a lot. It is the collection of these experiences combined with the knowledge passed on from some of the best investment managers has forged the investment process that we utilize with our clients today. It is not what happens over the next one or two months. Maybe not even the next one or two years. However, what we are going to do for our clients over the next five, seven, ten or even twenty years will allow for them to enjoy a comfortable retirement. We don’t want retirees to be forced to work part-time or be forced to sell at a market low.

If we follow our rules-based strategy, we should be able to continue to achieve growth while mitigating the downside risk. Nothing we do at North Star is based on headlines or emotions. We focus on economic data, personal family objectives and mathematics to drive our “Growth At a Reasonable Risk” process. We follow our strategy now matter what happens. Managing risk and volatility is the foundation of our approach to wealth management. As far as client satisfaction is concerned – the referrals speak for themselves. This year was one of the most challenging markets to read and we are pleased that our process and intuition has once again been correct. Did we go “all-in” on the next stock that increased 100%? No. But, that is not what our clients have asked us to do.

The election is also going to present its own challenges. We will continue our process and we are working on a few great educational surprises for the next two months.

Where will the equity markets go next?

As we wrote about last month, cases of Covid-19 are getting better in the US and the number of new deaths continues to fall. However, we expect a slight uptick as we send kids back to school. This moderate “school” increase would be consistent with what other counties have experience in Europe recently. If we can follow Europe’s trend, we should not see another significant impact to the economy or market.

As we sit at new market highs, our vision and communication has not changed since 2010. We still believe we are in a secular bull market, which typically lasts around 15 years. Historically, it is not uncommon to have a bear market (which essentially occurred in Q4 of 2018) or even a brief recession (which we may be experiencing right now) during a secular bull market. Markets will trade on fear or momentum from time-to-time. In-between earnings reports, the markets may even trade on a single data point (like the new cases and death count of COVID-19). Eventually, the markets return to trading on fundamentals. We believe that fundamentals are starting to return. But the gains will be clouded until we get the first (or second) approved vaccine. Meanwhile the Fed and Treasury are doing a tremendous job of providing a financial bridge to get through the next few months.
We are passionately devoted to our clients’ families and portfolios. Let us know if you know somebody who would benefit from discovering the North Star difference, or if you just need a few minutes to talk.

As a small business, our staff appreciates your continued trust and support as we all work through these stressful and trying times for our country and world.

• Summer doldrums are here
• This is not your parent’s S&P 500, nor will it be your kids!
• While banks are under stress, many are strengthening their balance sheet & capital ratios
• There’s no such thing as a free lunch
• Mortgage rates are at record lows. Is now the time to refinance?
• CARES Act renewals needed this week to avoid major headwinds
• Early data is showing Covid “Wave 2” maybe winding down
• A Biden Presidency & your money
• Major student loan services changes are coming in December 2020
• Where will the equity markets go next?

Summer doldrums are here

The summer doldrums refers to the perception that the period between July and Labor Day is particularly dangerous for investors because many are away on vacation and, as a result, volatility is higher because liquidity is lower than it otherwise would have been.

Taking a longer-term look at the S&P 500 shows a similar trend of subpar performance in the short to intermediate-term. Below is an annual composite chart of the S&P 500 for all years since 1980. What’s interesting to note about this chart is that on an average basis, the peak for the summer comes on 7/17, and from there, the S&P 500’s YTD performance doesn’t top the level from 7/17 for another 58 trading days until 9/13. As is apparent in the chart, you can see that this is also the longest period throughout the calendar year that the S&P 500’s average YTD change doesn’t make a high for the year. While the S&P 500 tends to make a modestly higher high on 9/13, the period from 9/16 through 11/1 has historically been the second-longest stretch where the S&P 500’s average YTD change goes without making a new high.

For the entire 40-year period, the S&P 500’s average change has been a gain of 0.05% (median: 0.70%) with positive returns 60% of the time. In those 40 years, though, there have been four years (1990, 1998, 2001, and 2011) where the S&P 500 was down over 10%, while there were three years (1982, 1984, and 2009) where the index was up over 10%.

Whenever we discuss seasonality trends in the market, it’s good to have a baseline estimate of how the market historically acts during different periods, but we always stress that these types of trends are often trumped by other factors. Therefore, they should only be used by investors as one of several tools in developing their outlook. Returns can and do vary significantly on a year-by-year basis. This summer, less people are taking vacations and vaccine news will likely be the key driver of market returns during a historically quiet period for the S&P 500. As we have previously stated, we expect this summer market returns will not turn out to be too exciting as we go through a period of consolidation between the recent market movements with earnings forecasts and vaccine trials.

This is not your parent’s S&P 500, nor will it be your kids!

It is easy to lose sight that the list of companies that make up the S&P 500 is constantly changing. We have also found that the pace of change has picked up after the 2008 housing crash. From 1964 to 2007 there were 188 companies removed/added to the list. We were shocked to see that there have been 220 removed/added since 2007! As you can see from the graph below the rate of change has picked up significantly.

Our economy is going through a recession that is especially hurting the travel industry, restaurants, energy producers and retail companies. Inclusion in the S&P 500 is primarily predicated on the market capitalization (value per share x number of shares outstanding) of a company’s stock price. The economic impact on certain companies has caused their share prices to plummet and put them at risk for removal from the index. Iconic names that have already been removed in 2020 include Harley-Davidson, Nordstrom and Macy’s. We are only halfway through the year and we are certain more changes will happen before 12/31. Similar industry specific changes took place after the housing crash of 2008 with removals of Fannie Mae, Freddie Mac, Lehman Brothers, Wachovia Bank, RadioShack, Janus Capital Group & Ambac Financial.

Many of the companies that lagged the overall economy during the recession are going to be removed from the S&P 500 and some will even be left for dead/bankruptcy while they are replaced with stronger growing companies. This natural turnover of the S&P 500 helps to reflect the evolving makeup of the US economy. Many of the household names that you know today will eventually be replaced just like Eastman Kodak. This evolution is partially how the S&P 500 can continue to climb to new levels as areas of the economy fail to recover.

While banks are under stress, many are strengthening their balance sheet & capital ratios

The end of June, The Federal Reserve Board released the results of its stress tests for 2020 and additional sensitivity analyses that the Board conducted considering the coronavirus event.

“The banking system has been a source of strength during this crisis,” Vice Chair Randal K. Quarles said, “and the results of our sensitivity analyses show that our banks can remain strong in the face of even the harshest shocks.”

In addition to its normal stress test, the Board conducted a sensitivity analysis to assess the resiliency of large banks under three hypothetical recessions, or downside scenarios, which could result from the coronavirus event. The scenarios included a V-shaped recession and recovery; a slower, U-shaped recession and recovery; and a W-shaped, double-dip recession.

Under the U- and W-shaped scenarios, most firms remain well capitalized, but several would approach minimum capital levels. The sensitivity analysis does not incorporate the potential effects of government stimulus payments and expanded unemployment insurance.

During the third quarter, no share repurchases will be permitted. In recent years, share repurchases have represented approximately 70% of shareholder payouts from large banks. The Board is also capping dividend payments to the amount paid in the second quarter and is further limiting them to an amount based on recent earnings. As a result, a bank cannot increase its dividend and can pay dividends if it has earned sufficient income.

In the near term, the banking sector is going to be under stress. However, in the long term, there are a few names that continue to be leaders and will come out of this environment even stronger than they were pre-Covid. From our recent calls with the mangers of our funds, we have heard across the board that they have been making slight adjustments to improve the quality of any exposure to the banking sector. As noted above, many of these banks are paying a dividend, so investors are getting paid to be patient. However, as we will also discuss this month, falling mortgage rates are going to put a further pinch on earnings potential.

There’s no such thing as a free lunch

We knew the government was going to step up big to help counter act the financial damage they were causing from a national shut down. As we progress through July, we now have three months of supply and demand data during Covid. The following commentary from Brian Westbury, Chief Economist at First Trust, provides a great insight into the current disparity.

“There is no such thing as a free lunch.” It’s been attributed to many different people, Milton Friedman and Robert Heinlein, among others. Regardless of who said it, we think it’s one of the most basic economic truths.

A lunch has to come from somewhere, and once it is consumed, it’s not available for someone else to consume. ‘Another way to say it, someone needs to produce what we consume. Supply comes before demand. Without supply & without production, we have nothing to bring to “the market” in exchange for something else.

Recent reports show a huge gap between supply and demand, a gap that can’t go on indefinitely. Retail sales in the US, a measure of demand, fell off a cliff in March and April, bottoming 21.7% below the level in February. Since then, retail sales have rebounded sharply, rising 18.2% in May and 7.5% in June. Amazingly, retail sales are now 1.1% higher than a year ago, during a time where unemployment has climbed from 3.7% to 11.1%.

By contrast, industrial production, one proxy for supply, hasn’t done as well. Industrial production fell a combined 16.6% in March and April and has since risen a more modest 6.9% combined in May and June, leaving it down 10.8% from a year ago.

How can Americans go out and buy more when they’re making less? The answer: borrowing from the future through government deficits. Government transfer payments in April and May, combined, were up 86.7% from a year ago due to COVID spending on “tax relief” checks that have been sent out by the IRS, as well as a surge in unemployment compensation, mostly because of more people collecting benefits, but also because benefits were increased substantially.

As a result, government transfer payments made up 30.6% of all personal income in April and 26.4% in May. Let’s say that again…government made up over 25% of all personal income in May!! From 2015 through February 2020, government transfers averaged roughly 17% of all consumer income. Prior to the Panic of 2008, transfer payments averaged 14%. This year, government transfer payments have been so generous that they’ve more than offset declines in wages & salaries and small business income.

Retail sales have maintained while the personal saving rate has surged! The personal saving rate is the share of our after-tax income that we don’t spend on consumer goods or services. It hit 32.2% in April, the highest level on record – by far – going back to at least 1959. The next highest level was 17.3% in May 1975, and the average rate last year was 7.9%. The saving rate remained at a still elevated 23.2% in May.

The fact that people are not rushing out all at once to spend their transfer-padded incomes has helped keep inflation in check. The gap between consumer spending and production has also come in the form of big reductions in business inventories, a reduction that can’t continue forever (eventually, we’d run out of inventories to reduce).

Companies have been working down inventory levels for over a year now. Low to no inventory levels are causing consumers to finally feel the inconvenience of delays on their orders. Even Amazon has had to walk back the ability to do Prime delivery on many items. Something has to give… consumers need to stop buying or the companies need to start stocking up their inventory. We can attest to clients increasing their savings levels and even using the extra savings to pay down debt and invest for the future.

Mortgage rates are at record lows. Is now the time to refinance?

Mortgage rates have pressed below 3% and continue to fall. As a result, mortgage purchase applications remain relatively elevated, but the real action is in refinancing.

When interest rates fall, borrowers have an incentive to refinance their loan to a lower rate and reduce their monthly payment. Refinancing application volume is having its third major surge this century! Typically, it makes sense to refi a mortgage when the rate reduction is at least 1%. This reduction is typically enough to offset the closing costs of the refi over a 12-24 month period.

If you were not aware, Fannie Mae currently buys mortgages to pool them together with other mortgages so they can sell the bundled group together in large bond issues. This diversification of mortgages theoretically reduces the risk exposure to a particular bad loan or region (2008 clearly proved this theory wrong).

Less than 3% for a 30-yr mortgage may sound attractive. The unfortunate reality is that consumers aren’t getting very good deals on rates. Borrowers rates are roughly 1.3% above where Fannie Mae buys mortgages for pools, versus a ~0.5% difference pre Covid-19. If the Fannie Mae rate difference shrinks back to the pre-Covid environment, mortgage rates could fall as low as 2% without any change in benchmark risk free rates.

If a bird in the hand is worth two in the bush, it makes sense to refi today if you can drop your rate enough to cover any refi costs. If the refi doesn’t make financial sense just yet, you may get a chance to refi if rates drop further later this year.

The particulars of each mortgage make a difference and we are happy to assist with the analysis.

CARES Act renewals needed this week to avoid major headwinds

The nation is slowly re-opening and financially recovering. The steps taken by the Federal Government have helped to avoid a horrific depression, many of these programs are set to lapse. We have been having a weekly call with our contact in DC and we expect that the powers that be on Capital Hill will act to extend many of these programs so the country can continue to financially heal. The following is a brief list of programs set to expire:

• $600/week extra unemployment pay… This subsidy is set to expire the last week of July. While the benefit maybe extended, the excess benefit is likely to be reduced.
• Eviction protection… nearly 7 million households are currently protected until July 24th by the temporary moratorium on evictions from federal subsidized housing.
• Foreclosure protection… Federally backed mortgages account for 70% of the outstanding mortgages and these households are eligible for two 180-day forbearances on their mortgage.
• Student loans… Federal student loans have been suspended, including interest accrual through the end of September 2020.
• The Paycheck Protection Program (PPP) has already received additional funds and multiple additional extensions. Further enhancements are being discussed including the automatic forgiveness of all loans for less than $150k and allowing certain businesses who have been hardest hit (>50% drop in sales) to apply for a second PPP loan.

Early data is showing Covid “Wave 2” maybe winding down

It’s increasingly looking like “wave 2” of Covid in the US peaked at some point in early July and is now on the downslope. The first US Covid wave centered around the northeast corridor and the Midwest took 4-6 weeks from start to peak and then another two months to make its way down the backside of the mountain. The second US Covid wave centered around the south and southeast began in early June, and it’s looking like it peaked in early July over a roughly 5-6 week period. We would now expect a gradual slowing of cases in the current hotspots similar to what we saw in the northeast during the first wave. (Note that wave 2 is really wave 1 for the current hotspots.)

In a review of Google search trend data, we can clearly see the two waves of search trend data for “covid symptoms” over the last 12 months in the US. A look at US search trends for “covid symptoms” over just the last 90 days shows a peak in early July and a gradual trend lower beginning. We see a similar peak in early July and now a gradual move lower for the three hotspot states of California, Texas, and Florida.

Once investors are confident that the current US wave has peaked, we expect the “re-open” investment plays to take on a leadership role once again. In fact, Dallas Federal Reserve Mobility & Engagement Index, which tracks the degree to which Americans are moving around using a mobile device dataset. This index has almost perfectly tracked stock prices on roughly a three-week lag, providing a compelling example of why the stock market gets so much credit as a leading indicator of economic activity in general. The continued recovery of this index is suggesting that the economy should continue to improve in August.

It’s a virus that’s not going to just disappear, so expect new waves to occur. Potentially around the reopening of schools. Ideally, the US won’t see a third wave until the first of the vaccines are available, but even if a new wave occurs prior to a vaccine, the progress that has already been made on treating and defeating the disease should make it so that each successive wave is less damaging than the prior one.

A Biden Presidency & your money

Joe Biden’s average polling lead over President Trump is larger than any other pre-presidential election over the last 25 years (Bill Clinton vs. Dole). Big polling leads tend to erode over time and this year may not be any different. Lets not forget that Trump trailed Hillary Clinton in 2016 prior to the final November election results. The US’s ability to get through Covid-19 and re-open will likely be the key driver of Trump’s ability to get re-elected.

Over the next few months, the presidential election will gain a larger share of the media and unfortunately also advertising. We are collaborating on research to help answer client questions on the potential financial impact of a Biden Presidency. For July, we will focus on taxes and drug pricing.

Raising taxes… In June, Biden came out swinging during a digital fundraiser by saying “a lot of you may not like it, but I’m going to close loopholes like capital gains and stepped-up basis.” If elected, it is unclear if these changes would take place immediately in 2021 or would be delayed until the economy is on more solid ground post Covid-19. Here are a few of his changes Biden is contemplating and how they may impact clients.

Capital gains rates will no longer be given preferential rates of 0% to 20% and instead be taxed at ordinary income rates. This change will impact the decisions on liquidating highly appreciated securities, businesses, rental property and collectables. Under 2020’s tax table, this change would increase the tax rate by 3-22%. With the majority of families seeing an increase of ~10%. We are already having conversations with clients who are considering liquidating assets and deciding if they want to take the gains in 2020 or run the risk of higher capital gains rates in 2021 which may be further compounded if the rates for ordinary income tax brackets are also increased.

Biden is considering a reduction of the deductible amount for expenditures on employers’ contributions for employees’ medical insurance premiums and medical care, a preferential rate structure for dividends, benefits for tax-qualified retirement saving accounts, and deductions for charitable contributions. As a business owner and advisor to many small businesses, I am concerned that a reduction of these expenses will cause a further reduction of benefits being offered to employees.

An elimination of the setup in basis at death allows assets to pass to heirs without paying capital gains. The topic does not significantly impact families who have the majority of their assets in retirement plans. However, it becomes tricky when a family holds highly appreciated and illiquid assets like businesses, antiques, real estate and farms. North Star can assist with additional planning to provide liquidity to the estate to avoid a forced sale of assets to pay taxes.

Biden has said he will raise corporate tax rates to 28%. This would raise rates to a level below the 35% rate prior to Trump’s reduction to the current 21% rate. Goldman Sachs estimates that Biden’s corporate tax increase would reduce the S&P 500’s earnings by 12%. This change will not only hit corporations, it will also ripple through the values of all equity holders in Traditional & Roth IRAs, 401(k), 403(b), pensions 529s…

A reduction of the estate tax exemption allowed when passing assets to heirs. Currently inheritances of up to $11.4M per person or $22.8M per couple can be passed before having to pay a 40% federal estate tax. It is expected this amount will be reduced (potentially in half), but the true number of families impacted by the change will be small and there are planning tools that we can implement to offset these changes. Many states “piggy-back” their estate tax levels off the federal numbers. So families who are impacted, may see a second tax hit at the state level.

Of course, all of these changes are in addition to the recent removal of the stretch IRA provision and other proposed tax increases like the financial transaction tax. While death and taxes are two certainties in life, we currently sit at 50-year lows in tax rates. It seems inevitable in a post Covid-19 world that taxes are increased (in many different ways) to help pay for the Trillions of dollars that have and will be injected into the economy.

Drug pricing… The following is an excerpt from our friends at Morningstar on this topic:

The Affordable Care Act is being debated at the U.S. Supreme Court level, with a decision on whether it should be overturned expected by next spring.

Biden’s moderate position and status as the presumptive Democratic presidential nominee reduces the likelihood of significant drug pricing policy changes, despite more-aggressive reform recommendations from the Biden-Sanders unity task force. This also reduces the likelihood of a major policy-related impact on drug innovation.

We see a less than 10% probability of a “Medicare for All” system within the next decade, and we don’t include it in our analysis/forecasts.

The changes most likely to pass that could realistically influence drug pricing are those encompassed in the Senate’s proposed Prescription Drug Pricing Reduction Act, but we believe this bill holds a less than 50% chance of passing, based on mixed support by both parties, and we haven’t included it in our models. If it is passed, we estimate a 5% aggregate hit to U.S. branded drug sales from Medicare inflation price caps and Part D redesign.

Major student loan services changes are coming in December 2020

In a recent press release, the Department announced that it signed servicing contracts with five new companies who will take over much of the federal student loan portfolio:

• EdFinancial Services
• F.H. Cann & Associates LLC
• MAXIMUS Federal Services Inc.
• Missouri Higher Education Loan Authority (MOHELA)
• Texas Guaranteed Student Loan Corporation (Trellis Company)

Some existing student loan servicers such as Nelnet and Great Lakes have not been awarded new servicing contracts. This means that millions of student loan borrowers could end up having their student loans transferred to one of the new loan servicing companies listed above. The following are a few proactive steps that you can take before changes arrive in December.

• Download all payment records
• Retain copies of all correspondence
• Public service borrows will need to certify their employment
• Monitor payments for any potential over/under payment errors
• Monitor your credit report for erroneous data caused by the transition

Where will the equity markets go next?

Overall, while the situation has been bad, it continues to get less bad each day.

Our vision and communication has not changed since 2010. We still believe we are in a secular bull market, which typically lasts around 15 years. Historically, it is not uncommon to have a bear market (which essentially occurred in Q4 of 2018) or even a brief recession (which we are experiencing right now) during a secular bull market. Markets will trade on fear or momentum from time-to-time. In-between earnings reports, the markets may even trade on a single data point (like the new cases and death count of COVID-19). Eventually, the markets return to trading on fundamentals. We believe that fundamentals are starting to return and equities are looking at earnings 12-18 months out instead of the traditional 6-9 months.

No one knows for sure what the second half will bring, much less 2021 and beyond. But we think that, like in the past, those who have faith in the future will be rewarded.

We are passionately devoted to our clients’ families and portfolios. Let us know if you know somebody who would benefit from discovering the North Star difference, or if you just need a few minutes to talk.

As a small business, our staff appreciates your continued trust and support as we all work through these stressful and trying times for our country and world

Here are the key topics that we cover this month:

• Revisiting President Obama’s heartfelt MLK dedication
• A tale of two recessions: Some Americans thrive as others suffer
• Paycheck Protection Program (PPP) updates
• Is there a chance that we will see a PPP 2.0?
• Investing is not gambling
• Odds falling for another nationwide shutdown
• Odds rising for a Biden victory in November
• Companies are getting back to work
• Good news… NBER said that our recession started in March 2020
• Where will the equity markets go next?

Revisiting President Obama’s heartfelt MLK dedication

October 16, 2011 President Obama gave his remarks at the Martin Luther King, Jr. Memorial dedication. I encourage all to read his entire speech by clicking HERE. Obama’s humbling speech:

We honor historic the March on Washington, a day when thousands upon thousands gathered for jobs and for freedom. It is right that we honor that march, that we lift up Dr. King’s “I Have a Dream” speech –- for without that shining moment, without Dr. King’s glorious words, we might not have had the courage to come as far as we have. Because of that hopeful vision, because of Dr. King’s moral imagination, barricades began to fall and bigotry began to fade. New doors of opportunity swung open for an entire generation. Yes, laws changed, but hearts and minds changed, as well…

Our work is not done. And so on this day, in which we celebrate a man and a movement that did so much for this country, let us draw strength from those earlier struggles. First and foremost, let us remember that change has never been quick. Change has never been simple, or without controversy…

If he were alive today, I believe he would remind us that the unemployed worker can rightly challenge the excesses of Wall Street without demonizing all who work there; that the businessman can enter tough negotiations with his company’s union without vilifying the right to collectively bargain. He would want us to know we can argue fiercely about the proper size and role of government without questioning each other’s love for this country — with the knowledge that in this democracy, government is no distant object but is rather an expression of our common commitments to one another. He would call on us to assume the best in each other rather than the worst, and challenge one another in ways that ultimately heal rather than wound…

As tough as times may be, I know we will overcome. I know there are better days ahead. I know this because of the man towering over us. I know this because all he and his generation endured — we are here today in a country that dedicated a monument to that legacy.

And so with our eyes on the horizon and our faith squarely placed in one another, let us keep striving; let us keep struggling; let us keep climbing toward that promised land of a nation and a world that is more fair, and more just, and more equal for every single child

A tale of two recessions: Some Americans thrive as others suffer

Federal Reserve chair Jerome Powell said last week during a Senate Banking Committee hearing. “The burden of a downturn has not fallen equally on all Americans. Instead, those least able to withstand the downturn have been affected most. If not contained and reversed, the downturn could further widen gaps in economic well-being that the long expansion had made some progress in closing,”

This gulf between White and Black Americans is greater than at any other point in five decades. CNBC compiled the following list to highlight the growing disparities and underlying inequalities contributing the BLM movement.

• 72% of White households own a house compared to only 42% of Black and 47% of Hispanic households. Homeownership was about 57% for other racial and ethnic groups, primarily Asians. Home ownership is a key source of household wealth creation. Source: 2019 report from the Urban Institute
• White households control 80% of the $29.3 trillion in U.S. real estate wealth, according to Federal Reserve data as of year-end 2019.
• The richest 10% of Americans own 88% of the $29 trillion in corporate stock and mutual fund shares, according to the Federal Reserve. The gap was even wider by race with whites owning more than 92% of the pot. Investors saw much of their recent losses in U.S. stocks erased since the market bottom on March 23, with the S&P 500 index up almost 40% through last week.
• Individuals with less than $500 in their bank accounts spent almost half of their stimulus payments within 10 days, while those with bank accounts exceeding $3,000 saved the money, according to a study published last month by the National Bureau of Economic Research.
• White households are again in a better position to reap rewards from the financial system, due to their likelihood of having better credit. More than 50% have a FICO credit score above 700 — which is more than double the 21% of Black households, who were also twice as likely as White households to have insufficient credit and lack a credit score, according to the Urban Institute.

Paycheck Protection Program (PPP) updates

The government continues to make adjustments to the PPP program. Most recently with June’s passing of the PPP Flexibility Act. The following are a few important changes:

• The minimum amount of the PPP to spend on payroll has been reduced from 70% to 60%.
• Employers now have the option to spend the PPP over 24 weeks instead of the original 8-week time frame.
• The safe harbor of June 30, 2020 to re-hire or eliminate pay cuts has been pushed back to December 31, 2020.
• Repayment for any unforgiven amount has the option to be extended from 2 years to 5 years.
• As a result of the extensive COVID-19 legislation, the Internal Revenue Service is updating layout and reporting requirements on the quarterly Form 941. As of this communication, the final draft and instructions for this updated form have not been released by the IRS. Businesses will be required to submit this form when they apply for PPP forgiveness.

Is there a chance that we will see a PPP 2.0?

Yes. The Prioritized Paycheck Protection Program Act (PPPP), was recently introduced and would allow businesses with fewer than 100 employees to tap the taxpayer-backed fund for a second time if they can prove that they lost half of their revenue as a result of the virus outbreak. Only time will tell if this well needed Act is passed.

There are also other household stimulus plans in discussion which may include another $1,200-$2,000 check, tax credits for taking a vacation and/or an extension of the $600/week unemployment benefits.

Investing is not gambling

While all investments contain risk, Wallstreet is seeing a surge in investors gambling on various companies. Examples of this behavior can be seen by money pouring into:

• The cruise industry that has all their boats docked at least till the 4th quarter
• Airlines with passenger travel down 80% year-over-year and they are raising billions of dollars to stay afloat
• A car rental company after they filed for bankruptcy

By definition, buying shares of a bankrupt company is gambling and the odds of a return on your money (let alone a return of your money) are not in your favor. We do see a few glimmers of light to this behavior. Investors seek guidance of professionals and become better investors after they have gotten burned by gambling on a bad trade. While the media has focused on this recent trend, it is not pervasive and widespread. However, when things go wrong, it can be devastating for a family. This month a 20-year-old trader died by suicide after thinking he racked up $730,165 in losses on an online trading application.

If you know someone who needs guidance, please have them give us a call.

Odds falling for another nationwide shutdown

COVID-19 and the lack of preparation to deal effectively manage a global pandemic have called for the unprecedented action of shutting down the country. It is now widely believed that the countrywide shutdown was too broad, and we will not repeat this process if/when we see another spike in COVID-19 cases.

This month we are starting to see new hot spots develop across the country. We expected the spread of COVID-19 to new areas and anticipated the new modified restrictions (that honestly should have been utilized earlier this year for the first lock down). Localized shut downs with new travel restrictions should help to quickly slow the spread in the new hot spots.

Odds rising for a Biden victory in November

It is still too early to hold any weight to the early Presidential election polls. However, in many polls, Biden has opened a 10%+ lead over Trump. The direction of COVID-19 and the economy over the next few months will be the biggest swing factors for Trump’s ability to get reelected. Historically, Presidents do not get reelected when a recession occurred. While this recession is different, the pure weight of the downturn maybe something that Trump will not be able to overcome.

Companies are getting back to work

Companies across the country are starting to pull their employees back to the office. While working from home has helped to bridge the gap, companies from all industries are preparing to ask their employees to return to the office. We are seeing the trends developing in conversations with our clients, gasoline consumption and even cars in parking lots.

Just this week we talked to a client who works on a floor with around 100 other members of his firm. For the last few months, he was one of maybe three employees working at the office. This week there were around 15 employees and within the next month they expect most of the staff to return. Even tech companies are starting to re-evaluate the benefits of employee in person interactions versus the cost savings of having them work from home. There is an intangible benefit of being in the office that was not previously factored into this calculation.

The return to work is already putting an instant focus on real estate. Offices with open floor plans are being re designed with higher walls for privacy and health codes.

Good news… NBER said that our recession started in March 2020

The National Bureau of Economic Research (NBER) made it official and said that the longest economic expansion in US history ended in February at a record 128 months. While the NBER typically defines a recession as lasting “more than a few months,” it noted in the release that the pandemic caused a “downturn with different characteristics” than prior recessions. It went on further to say that the scope and magnitude of the decline in economic activity warranted the designation of a recession even if it ends up being shorter than the traditional definition of a recession or any other one for that matter.

Now that the NBER has made the recession official, as an investor, should you care? We charted the S&P 500 going back to 1980 along with each recession. While the NBER has classified periods of expansions and recessions going all the way back to 1857, it only started formally declaring the start and end dates of recessions in ‘real-time’ back in 1980.

In terms of performance, while it often sounds dire, the official declaration of a recession hasn’t exactly been negative for the market. While short-term returns have been mixed, and the S&P 500 actually saw declines on an average and median basis over the following three months, six and twelve months later, the S&P 500 was up on both an average and median basis. For the last five recessions, the S&P 500 was higher one year later four times with the only decline being in the aftermath of the dot-com bust when it declined an additional 19.4% following the bankruptcies of Enron and Worldcom. By no means are recessions a good thing for equities, but by the time they are made official, they are usually either over or close to it. In fact, the only time a recession was declared by the NBER and it wasn’t at least two-thirds over was in the second leg of the double-dip recession in the early 80s. That recession spanned from July 1981 to November 1982 and was officially declared on 1/6/1982 (~40% into the recession).

Where will the equity markets go next?

In the short-term, parts of the market are fairly valued, but there are many parts that are not overvalued. Looking further out, we feel differently.

It is possible to see the market recover close to or above the prior highs by yearend 2020, while the economic recovery maybe delayed until mid to late 2021. Market valuations typically reflect earnings 6-12 months out. Right now, we could be entering a period of time when the market is willing to look out 12-18 months. This is why we are seeing the market rally at the same time that we are seeing elevated numbers of new daily cases, deaths and unemployment. Overall, while the situation is bad, it continues to get less bad each day.

Therefore, our vision and communication has not changed since 2010. We still believe we are in a secular bull market, which typically lasts around 15 years. Historically, it is not uncommon to have a bear market (which essentially occurred in Q4 of 2018) or even a brief recession (which we may be experiencing right now) during a secular bull market. Markets will trade on fear or momentum from time-to-time. In-between earnings reports, the markets may even trade on a single data point (like the new cases and death count of COVID-19). Eventually, the markets return to trading on fundamentals. We believe that fundamentals will not return until we get into Q3-2020 and the Fed and Treasury are doing a tremendous job of providing a financial bridge to get through the next few months.

The US has gone through tremendous turmoil so far this year, with a response to COVID-19 that included unprecedentedly widespread government-mandated economic shutdowns, followed by a combination of legitimate protests, riots, and looting. No one knows for sure what the second half will bring, much less 2021 and beyond. But we think that, like in the past, those who have faith in the future will be rewarded.

We are passionately devoted to our clients’ families and portfolios. Let us know if you know somebody who would benefit from discovering the North Star difference, or if you just need a few minutes to talk.

As a small business, our staff appreciates your continued trust and support as we all work through these stressful and trying times for our country and world.