Protecting Your Digital Information & Yourself from Ransomware

In a meeting with President Joe Biden last week, business leaders from major technology and insurance firms committed billions of dollars to beefing up cybersecurity defenses desperately needed after several high profile hacks into major infrastructure and technology platforms this year. This is long overdue given the lax approach taken over the past several years by most major firms.

On May 7, 2021, the Colonial Pipeline, which carries almost half of the East Coast’s fuel supply from Texas to New Jersey, shut down operations in response to a ransomware attack. A ransomware attack is where a hacker latches on to your computer or network, locks you out and threatens to delete or make your data public if you don’t pay a ransom (see below). Colonial paid a $4.4 million ransom not long after discovering the attack, and the pipeline was reopened within a week. While there was enough stored fuel to weather the outage, panic buying caused gasoline shortages on the East Coast and pushed the national average price of gasoline over $3.00 per gallon for the first time since 2014.(1)

Ransomware is not new, but the Colonial Pipeline incident demonstrated the risk to critical infrastructure and elicited strong response from the federal government. Remarkably, the Department of Justice recovered most of the ransom, and the syndicate behind the attack, known as DarkSide, announced it was shutting down operations.(2)

The Department of Homeland Security issued new regulations requiring owners and operators of critical pipelines to report cybersecurity threats within 12 hours of discovery, and to review cybersecurity practices and report the results within 30 days.(3) On a broader level, the incident increased focus on government initiatives to strengthen the nation’s cybersecurity and create a global coalition to hold countries that shelter cyber criminals accountable.(4)

Malicious Code

Ransomware is malicious code (malware) that infects the victim’s computer system, allowing the perpetrator to lock the files and demand a ransom in return for a digital key to restore access. Some attackers may also threaten to reveal sensitive data. There were an estimated 305 million ransomware attacks globally in 2020, a 62% increase over 2019. More than 200 million of them were in the United States.(5)

The recent surge in high-profile ransomware attacks represents a shift by cyber-criminal syndicates from stealing data from “data-rich” targets such as retailers, insurers, and financial companies to locking data of businesses and other organizations that are essential to public welfare. A week after the Colonial Pipeline attack, JBS USA Holdings, which processes one-fifth of the U.S. meat supply, paid an $11 million ransom. (6) Health-care systems, which spend relatively little on cybersecurity, are a prime target, jeopardizing patient care.(7) Other common targets include state and local governments, school systems, and private companies of all sizes.(8)

Ransomware gangs, mostly located in Russia and other Eastern European countries, typically set ransom demands in relation to their perception of the victim’s ability to pay, and high-dollar attacks may be resolved through negotiations by a middleman and a cyber insurance company. Although the FBI discourages ransom payments, essential businesses and organizations may not have time to reconstruct their computer systems, and reconstruction can be more expensive than paying the ransom.(9)

Protecting Your Data

While major ransomware syndicates focus on more lucrative targets, plenty of cyber-criminals prey on individual consumers, whether locking data for ransom, gaining access to financial accounts, or stealing and selling personal information.

Most people don’t know that before becoming a full time financial planner, I spent about twelve years working for major consulting firms helping with deployment of software, hardware and networking equipment, so I know a few things about data security (where do you think the “geek” came from in my moniker?)

Here are some tips to help make your data more secure: (10)

Use strong passwords and protect them. An analysis of the Colonial Pipeline attack revealed that the attackers gained access through a leaked password to an old account with remote server access.(11) Strong passwords are your first line of defense. Use at least 8 to 12 characters with a mix of upper- and lower-case letters, numbers, and symbols. Longer and more complex passwords are better. Do not use personal information or dictionary words and use different passwords for different web sites.

One technique is to use a passphrase that you can remember and adapt. For example, Jack and Jill went up the hill to fetch a pail of water could be J&jwuth!!2faPow (please don’t use this example as your password!). Though it’s tempting to reuse a strong password, it is safer to use different passwords for different accounts. Consider a password manager program that generates random passwords, which you can access through a strong master password. My personal favorite that I’ve been using for over 15 years is RoboForm, but most well-known password managers do a good job (if you click on the link and subscribe to RoboForm, we’ll both get an extra six months added to our subscriptions). Whatever you do, don’t share or write down your passwords.

There are no easy answers. Be careful when establishing security questions that can be used for password recovery. It may be better to use fictional answers that you can remember. If a criminal can guess your answer through available information (such as an online profile), he or she can reset your password and gain access to your account.

Take two steps. Two-step authentication, typically a text or email code sent to your mobile device, provides a second line of defense even if a hacker has access to your password. If your device is lost or stolen, immediately call your carrier and lock or wipe your device before they can hijack your accounts. Most devices can be wiped remotely or be set to automatically erase themselves after a set number of failed attempts.

Think before you click. Ransomware and other malicious code are often transferred to the infected computer through a “phishing” email that tricks the reader into clicking on a link. Data thieves have become adept at creating fake e-mails that look 100% legitimate, so you must be vigilant.

If you hover with your mouse over most internet links, you’ll see exactly where they’ll take you, and it’s not necessarily the site that’s displayed in the text. Never click on a link in an email or text (or a photo) unless you know the sender, are expecting it, and have a clear idea where the link will take you. Even then, you can’t be sure your friend’s or relative’s e-mail account has not been hacked and a seemingly innocent attachment or link is laced with malware.

Install security software. Install antivirus/anti-malware software, a firewall, and an email filter — and keep them updated. Old outdated antivirus software won’t stop new viruses. If your computer, laptop or other devices don’t have extra security software, you shouldn’t be online. Period. And no, in my opinion, Microsoft Defender is not sufficient to protect your PC. The old thought that Apple Mac devices are safe from vulnerability is no longer true; though safer than PC’s, they are prime targets for malicious attacks as well.

Back up your data. Back up regularly to an external hard drive. For added security, disconnect the drive from your computer between backups. Backing up to an online service is a great idea, but your backup might also be infected or affected by malware or ransomware. Only an offline backup, when disconnected at the time of infection, is safe. Never attach the external drive to restore data until you’re sure the threat or malware is 100% removed and the device is safe.

Keep your system up-to-date. Use the most recent operating system that can run on your computer and download security updates. Most ransomware attacks target vulnerable operating systems and applications. Fortunately, for better or worse, Microsoft Windows has made is nearly impossible to avoid installing periodic security patches.

Avoid Public Networks for Sensitive or Financial Transactions. Using public Wi-Fi networks is a prime gateway for malware and ransomware attacks. Networks with names like “Free Public WiFi” are meant to lure you in and install Trojan horses onto your device. If you have to type in a password to access an online resource, then you probably don’t want to do this on a public network (or at least use a password manager to log you in so your keystrokes aren’t tracked). Virtual private network software/services are also a help here.

Secure your entry points. This month alone, my home network router blocked over 4 million port scans and thwarted 75 live threats. If you don’t know what this means, then you need a home network security geek or the help of your internet service provider to help you beef up the security of your home network.

Your home network router/switch probably came with a factory set password which is widely known and easily accessed. Changing the default device password is the easiest way to reduce your vulnerability to an outside attack. Most modern day routers come with more user friendly instructions and software on how to disable your guest network and beef up home security. There’s no need to broadcast your WiFi network name to your neighbors, so that should be turned off, or you might as well call your home WiFi network “HACKERSWELCOME”.

If you see a notice on your computer that you have been infected by a virus or that your data is being held for ransom, it’s more likely to be a fake pop-up window than an actual attack. These pop-ups typically have a phone number to call for “technical support” or to make a payment. Do not call the number and do not click on the window or any links. Instead, try exiting your browser and restarting your computer. If you continue to receive a notice or your data is really locked, contact a legitimate technical support provider, but definitely not the one listed in the pop-up window.

For more information and other tips, visit the Cybersecurity & Infrastructure Security Agency website at us-cert.cisa.gov/ncas/tips.

If you would like to review your current investment portfolio or discuss any other financial planning matters, please don’t hesitate to contact us or visit our website at http://www.ydfs.com. We are a fee-only fiduciary financial planning firm that always puts your interests first.  If you are not a client yet, an initial consultation is complimentary and there is never any pressure or hidden sales pitch. We start with a specific assessment of your personal situation. There is no rush and no cookie-cutter approach. Each client is different, and so is your financial plan and investment objectives.

(1) (2) (11) Vox, June 8, 2021

(3) U.S. Department of Homeland Security, May 27, 2021

(4) The Washington Post, June 4, 2021

(5) 2021 SonicWall Cyber Threat Report

(6) The Wall Street Journal, June 9, 2021

(7) Fortune, December 5, 2020

(8) Institute for Security and Technology, 2021

(9) The New Yorker, June 7, 2021

(10) Cybersecurity & Infrastructure Security Agency, 2021

Tax Deadline Extended Amid Tax Changes in American Rescue Plan

2020 Individual Income Tax Return Deadline Extended

The Treasury Department and the IRS have extended the federal income tax filing due date for individuals for the 2020 tax year from April 15 to May 17. Although this relief applies to any balance due with the return, this relief does not apply to 2021 estimated income tax payments that are due on April 15, 2021. These payments are oddly still due on April 15, 2021. The IRS will provide formal guidance in the coming days.

The federal tax filing deadline postponement to May 17, 2021 is of no help to self-employed people and others who don’t receive a steady source of income because it only applies to individual federal income returns and tax (including tax on self-employment income) payments otherwise due April 15, 2021, not state tax payments or deposits or payments of any other type of federal tax. Given that the first quarterly 2021 estimated income payment due date is April 15, and knowing that it often is based on a prior year return, not extending that deadline as well, is an empty gesture by the IRS for these folks. The American Institute of CPA’s has appealed to the IRS to act swiftly to remedy this and extend the deadline for all returns and estimates until June 15, 2021. I concur with this appeal.

Taxpayers also will need to file income tax returns in 42 states plus the District of Columbia. State filing and payment deadlines vary and are not always the same as the federal filing deadline. Nonetheless, many states will conform with and follow the new IRS deadline. The IRS urges taxpayers to check with their state tax agencies for those details.

American Rescue Plan of 2021

On Thursday, March 11, 2021, the American Rescue Plan Act of 2021 (ARPA 2021) was signed into law. This is a $1.9 trillion emergency relief package that includes payments to individuals and funding for federal programs, vaccines and testing, state and local governments, and schools. It is intended to assist individuals and businesses during the ongoing coronavirus pandemic and accompanying economic crisis.  Major relief provisions are summarized here, including some tax provisions.

Recovery rebates (stimulus checks)

Many individuals will receive another direct payment from the federal government. Technically a 2021 refundable income tax credit, the rebate amount will be calculated based on 2019 tax returns filed (or on 2020 tax returns if filed and processed by the IRS at the time of determination) and sent automatically via check, direct deposit, or debit card to qualifying individuals. To qualify for a payment, individuals generally must have a Social Security number and must not qualify as the dependent of another individual.

The amount of the recovery rebate is $1,400 ($2,800 if married filing a joint return) plus $1,400 for each dependent. Recovery rebates start to phase out for those with an adjusted gross income (AGI) exceeding $75,000 ($150,000 if married filing a joint return, $112,500 for those filing as head of household). Recovery rebates are completely phased out for those with an AGI of $80,000 ($160,000 if married filing a joint return, $120,000 for those filing as head of household).

Unemployment provisions

The legislation extends unemployment benefit assistance:

  • An additional $300 weekly benefit to those collecting unemployment benefits, through September 6, 2021
  • An additional 29-week extension of federally funded unemployment benefits for individuals who exhaust their state unemployment benefits
  • Targeted federal reimbursement of state unemployment compensation designed to eliminate state one-week delays in providing benefits (allowing individuals to receive a maximum 79 weeks of benefits)
  • Unemployment benefits through September 6, 2021, for many who would not otherwise qualify, including independent contractors and part-time workers

For 2020, the legislation also makes the first $10,200 (per spouse for joint returns) of unemployment benefits nontaxable if the taxpayer’s modified adjusted gross income is less than $150,000. If a 2020 tax return has already been filed, an amended return may be needed. The IRS urges patience on filing amended returns until they issue additional guidance.

Business relief

  • The employee retention tax credit has been extended through December 31, 2021. It is available to employers that were significantly impacted by the crisis and is applied to offset Social Security payroll taxes. As in the previous extension, the credit is increased to 70% of qualified wages, up to a certain maximum per quarter.
  • The employer tax credits for providing emergency sick and family leave have been extended through September 30, 2021.
  • Eligible small businesses can receive targeted economic injury disaster loan advances from the Small Business Administration. The advances are not included in taxable income. Furthermore, no deduction or basis increase is denied, and no tax attribute is reduced by reason of the exclusion from income.
  • Eligible restaurants can receive restaurant revitalization grants from the Small Business Administration. The grants are not included in taxable income. Furthermore, no deduction or basis increase is denied, and no tax attribute is reduced by reason of the exclusion from income.

Housing relief

  • The legislation allocates additional funds to state and local governments to provide emergency rental and utility assistance through December 31, 2021.
  • The legislation allocates funds to help homeowners with mortgage payments and utility bills.
  • The legislation also allocates funds to help the homeless.

Health insurance relief

  • For those who lost a job and qualify for health insurance under the federal COBRA continuation coverage program, the federal government will generally pay the entire COBRA premium for health insurance from April 1, 2021, through September 30, 2021.
  • For 2021, if a taxpayer receives unemployment compensation, the taxpayer is treated as an applicable taxpayer for purposes of the premium tax credit, and the household income of the taxpayer is favorably treated for purposes of determining the amount of the credit.
  • Persons who bought their own health insurance through a government exchange may qualify for a lower cost through December 31, 2022.

Student loan tax relief

For student loans forgiven or cancelled between January 1, 2021, and December 31, 2025, discharged amounts are not included in taxable income.

Child tax credit

  • For 2021, the credit amount increases from $2,000 to $3,000 per qualifying child ($3,600 for qualifying children under age 6), subject to phaseout based on modified adjusted gross income. The legislation also makes 17-year-olds eligible as qualifying children in 2021.
  • For most individuals, the credit is fully refundable for 2021 if it exceeds tax liability.
  • The Treasury Department is expected to send out periodic advance payments (to be worked out by the Treasury) for up to one-half of the credit during 2021.

Child and dependent care tax credit

  • For 2021, the legislation increases the maximum credit up to $4,000 for one qualifying individual and up to $8,000 for two or more (based on an increased applicable percentage of 50% of costs paid and increased dollar limits).
  • Most taxpayers will not have the applicable percentage reduced (can be reduced from 50% to 20% if AGI exceeds a substantially increased $125,000) in 2021. However, the applicable percentage can now also be reduced from 20% down to 0% if the taxpayer’s AGI exceeds $400,000 in 2021.
  • For most individuals, the credit is fully refundable for 2021 if it exceeds tax liability.

Earned income tax credit

For 2021 only:

  • The legislation generally increases the credit available for individuals with no qualifying children (bringing it closer to the amounts for individuals with one, two, or three or more children which were already much higher).
  • For individuals with no qualifying children, the minimum age at which the credit can be claimed is generally lowered from 25 to 19 (24 for certain full-time students) and the maximum age limit of 64 is eliminated (there are no similar age limits for individuals with qualifying children).
  • To determine the credit amount, taxpayers can elect to use their 2019 earned income if it is more than their 2021 earned income.

For 2021 and later years:

  • Taxpayers otherwise eligible for the credit except that their children do not have Social Security numbers (and were previously prohibited from claiming any credit) can now claim the credit for individuals with no qualifying children.
  • The credit is now available to certain separated spouses who do not file a joint tax return.
  • The level of investment income at which a taxpayer is disqualified from claiming the credit is  increased from $3,650 (as previously indexed for 2021) to $10,000 in 2021 (indexed for inflation in future years).

If you would like to review your current investment portfolio or discuss any other financial planning matters, please don’t hesitate to contact us or visit our website at http://www.ydfs.com. We are a fee-only fiduciary financial planning firm that always puts your interests first.  If you are not a client yet, an initial consultation is complimentary and there is never any pressure or hidden sales pitch. We start with a specific assessment of your personal situation. There is no rush and no cookie-cutter approach. Each client is different, and so is your financial plan and investment objectives.

Should You Hit the Pause Button on Filing Your 2020 Tax Returns?

Note: Since the original publication of this article, the IRS announced that the federal income tax filing due date for individuals for the 2020 tax year is automatically extended until May 17, 2021.

As you likely know, President Joe Biden signed his sweeping $1.9 trillion Covid-19 economic relief package into law on Thursday afternoon March 11, 2021. Included in this package were several tax provisions that increase child tax credits and exempt certain 2020 unemployment benefits from taxation for lower income taxpayers.

Passing retroactive tax legislation just five weeks before the regular 1040 tax deadline of April 15, 2021, is virtually unprecedented, and has left the IRS and tax preparation software vendors scrambling to update calculations, guidance, tax forms, publications and program logic.

Add to the foregoing the IRS’ backlog of taxpayer correspondence and flood of erroneous taxpayer notices and you can understand that this has prompted the American Association of CPA’s to urge the IRS to extend the tax deadline for filing and payment until June 15, 2021, or at least provide guidance to taxpayers on their thinking about whether they are considering extending the tax deadline.

I was notified today that my own tax preparation vendor, Thomson Reuters, “highly recommends that no returns be filed at this time” due to the preliminary draft nature of several forms (which are based on 2019 forms and not yet approved for filing by the IRS) and the last minute passage of tax legislation. Make no mistake, updating the form calculations and logic is no small feat, especially considering that the IRS has issued scant guidance given that the legislation is still a “newborn”.

I imagine that things will look better in a couple of weeks, but if you’re anxious to file your returns in hopes of receiving a higher stimulus check, I can only advise you to cool your heels and, if applicable, save yourself a fee to have an amended return prepared. Eventually, you’ll receive every penny of stimulus you’re entitled to, albeit perhaps on next year’s tax return. Given that stimulus payments are due to start arriving this weekend, rushing to file your return will have virtually no effect on the amount of the stimulus check you’ll receive over the next month.

If you filed your return early, only your tax preparer can advise you if you’ll need to amend that return to take into account the most recent tax changes. If you have a very simple return (Form W-2 and no deductions), my guess is that you’re OK. If you received unemployment compensation in 2020, then you may need to file an amended return to claim a refund of overpaid taxes.

My standard advice to clients is not to file prior to March 15 each year (because of last minute issuance and changes to 1099s), and it appears that will now extend until at least March 31. I highly recommend that you do the same.

If you would like to review your current investment portfolio or discuss your 2020 tax return, please don’t hesitate to contact us or visit our website at http://www.ydfs.com. We are a fee-only fiduciary financial planning firm that always puts your interests first.  If you are not a client yet, an initial consultation is complimentary and there is never any pressure or hidden sales pitch. We start with a specific assessment of your personal situation. There is no rush and no cookie-cutter approach. Each client is different, and so is your financial plan and investment objectives.

Making Your Money Last In Retirement

Quick Questions: How much can you safely withdraw each year from your retirement portfolio without the risk of running out of money before you run out of life? How much should you withdraw if you don’t want to leave too much money behind when you die?

If you’re as perplexed about answering these questions as many financial planners are, then this article will help update you on the latest research in this area of retirement planning. Saving for retirement is not easy, but using your retirement savings wisely can be just as challenging. Withdraw too much and you run the risk of running out of money. Withdraw too little and you may miss out on a more comfortable retirement lifestyle.

For more than 25 years, the most common guideline has been the “4% rule,” which suggests that a yearly withdrawal equal to 4% of the initial portfolio value, with annual increases for inflation, is sustainable over a 30-year retirement. This guideline can be helpful in projecting a savings goal and providing a realistic picture of the annual income your savings might provide. For example, a $1 million portfolio could provide $40,000 of income in the first year, with inflation-adjusted withdrawals in succeeding years.

The 4% rule has stimulated a great deal of discussion over the years, with some experts saying that 4% is too low, and others saying it’s too high. The most recent analysis comes from the man who studied it, financial professional William Bengen (widely considered in the financial planning profession as the “father of the safe withdrawal rate”), who believes the rule has been misunderstood and offers new insights based on new research.

Original Research

Bengen first published his findings in 1994, based on analyzing data for retirements beginning in 51 different years, from 1926 to 1976. He considered a hypothetical, conservative portfolio comprised of 50% large-cap stocks and 50% intermediate-term Treasury bonds held in a tax-advantaged account and rebalanced annually. A 4% inflation-adjusted withdrawal was the highest sustainable rate in the worst-case scenario — retirement in October 1968, the beginning of a bear market, and a long period of high inflation. All other retirement years had higher sustainable rates, some as high as 10% or more (1).

Of course, no one can predict the future, which is why Bengen suggested that the worst-case scenario as a sustainable rate. He later adjusted it slightly upward to 4.5%, based on a more diverse portfolio comprised of 30% large-cap stocks, 20% small-cap stocks, and 50% intermediate-term Treasuries (2).

New Research

In October 2020, Bengen published new research that attempts to project a sustainable withdrawal rate based on two key factors at the time of retirement: stock market valuation and inflation (the annual change in the Consumer Price Index). In theory, when the market is expensive, it has less potential to grow, and sustaining increased withdrawals over time may be more difficult. On the other hand, lower inflation means lower inflation-adjusted withdrawals, allowing for a higher initial rate. For example, a $40,000 first-year withdrawal becomes an $84,000 withdrawal after 20 years with a 4% annual inflation increase, but just $58,000 with a 2% annual increase.

To measure market valuation, Bengen used the Shiller CAPE, a cyclically adjusted price-earnings ratio for the S&P 500 index developed by Nobel laureate Robert Shiller. The price-earnings (P/E) ratio of a stock is the share price divided by its earnings per share for the previous 12 months. For example, if a stock is priced at $100 and the earnings per share is $4, the P/E ratio would be 25. The Shiller CAPE divides the total share price of stocks in the S&P 500 index by average inflation-adjusted earnings over 10 years.

5% rule?

Again using historical data — for retirement dates from 1926 to 1990 — Bengen found a clear correlation between market valuation and inflation at the time of retirement and the maximum sustainable withdrawal rate. Historically, rates ranged from as low as 4.5% to as high as 13%, but the scenarios that supported high rates were unusual, with very low market valuations and/or deflation rather than inflation (3).

For most of the last 25 years, the United States has experienced high market valuations, and inflation has been low since the Great Recession (4)(5). In a high-valuation, low-inflation scenario at the time of retirement, Bengen found that a 5% initial withdrawal rate was sustainable over 30 years (6). While not a big difference from the 4% rule, this suggests retirees could make larger initial withdrawals, particularly in a low-inflation environment.

One caveat is that current market valuation is extremely high: The S&P 500 index had a CAPE of 34.19 at the end of 2020, a level only reached (and exceeded) during the late-1990s dot-com boom and higher than any of the scenarios in Bengen’s research (7).  His range for a 5% withdrawal rate is a CAPE of 23 or higher, with inflation between 0% and 2.5% (8) (Inflation was 1.2% in November 2020 (9)). Bengen’s research suggests that if market valuation drops near the historical mean of 16.77, a withdrawal rate of 6% might be sustainable as long as inflation is 5% or lower. On the other hand, if valuation remains high and inflation surpasses 2.5%, the maximum sustainable rate might be 4.5% (10).

It’s important to keep in mind that these projections are based on historical scenarios and a hypothetical portfolio, and there is no guarantee that your portfolio will perform in a similar manner. Also remember that these calculations are based on annual inflation-adjusted withdrawals, and you might choose not to increase withdrawals in some years or use other criteria to make adjustments, such as market performance. For example, some retirees, in an effort to reduce withdrawals after a “down” year in the market, forego taking an inflation-based increase for the following year.

Although there is no assurance that working with a financial professional will improve your investment results, a professional can evaluate your objectives and available resources and help you consider appropriate long-term financial strategies, including your withdrawal strategy.

If you would like to review your current investment portfolio or discuss your current or upcoming withdrawal rate, please don’t hesitate to contact us or visit our website at http://www.ydfs.com. We are a fee-only fiduciary financial planning firm that always puts your interests first.  If you are not a client yet, an initial consultation is complimentary and there is never any pressure or hidden sales pitch. We start with a specific assessment of your personal situation. There is no rush and no cookie-cutter approach. Each client is different, and so is your financial plan and investment objectives.

(1)(2) Forbes Advisor, October 12, 2020
(3)(4)(6)(8,)(10) Financial Advisor, October 2020
(5)(9) U.S. Bureau of Labor Statistics, 2020
(7) multpl.com, December 31, 2020

Disclaimer: All investments are subject to market fluctuation, risk, and loss of principal. When sold, investments may be worth more or less than their original cost. U.S. Treasury securities are guaranteed by the federal government as to the timely payment of principal and interest. The principal value of Treasury securities fluctuates with market conditions. If not held to maturity, they could be worth more or less than the original amount paid. Asset allocation and diversification are methods used to help manage investment risk; they do not guarantee a profit or protect against investment loss. Rebalancing involves selling some investments in order to buy others; selling investments in a taxable account could result in a tax liability.

The S&P 500 index is an unmanaged group of securities considered representative of the U.S. stock market in general. The performance of an unmanaged index is not indicative of the performance of any specific investment. Individuals cannot invest directly in an index. Past performance is no guarantee of future results. Actual results will vary.

GameStop-Shop, Chop or Slop?

By now, I’m sure you’ve heard or read about the whole GameStop stock market story in the news or online this past week.  I realize a lot of ink has already been spilled on this topic and I am not sure I can add much value or color to the discussion. Nonetheless, perhaps my added value can be to try and explain, in the simplest terms that I can muster, this craziness in the stock and derivatives market.

Let me say that the GameStop “short squeeze” debacle has had little effect on the individual investor, because we, and the majority of registered investment advisors I know, do not short-sell stocks in client portfolios. We typically only invest in blue-chip quality and solid value or growth companies, index funds, and actively managed funds. Short selling is more the domain of large hedge funds, who both buy stocks and sell stocks short. We also don’t invest in companies that were already circling the “bankruptcy drain” such as GameStop and AMC Theatres (GameStop stock traded as low as $2.57 last June).  

So what is short selling?
Short selling is betting that a stock price will go down instead of up (the exact opposite of what everyday stock investors do). To do this, traders ask their broker/dealer if they have any shares that can be borrowed from someone else’s owned shares in the broker’s inventory. If shares are available to borrow, you proceed to sell those shares (short) in the markets at their prevailing price, in hopes that their price/value goes down. Your objective is to subsequently buy them back at a lower price, and “re-pay” your borrowed shares.

Imagine this being done with millions of shares of GameStop, where so many people were already betting that the stock was going down, but instead, the stock went up these past few weeks, and went up a lot. In fact, as unbelievable as it is, more shares were sold short than the entire number of outstanding shares issued by the company (164% to be exact, so many out there were loaning shares they didn’t even have). If you’re short the shares, and they go up in price, you are said to be getting “squeezed”, and your only option is to buy back the shares at much higher prices before your broker/dealer decides that you can no longer afford to stay short, buys them back on your behalf, and charges your account for the losses (the difference between the price you sold them for and the price you paid to buy them back). Imagine selling your shares short for $65.00 per share on Friday, January 22, only to be forced to buy them back at $313 on Friday, January 29 (GameStop traded as high as $483 last week). That’s a loss of 4.8X your money (or if you were lucky and instead bought the shares, you made 4.8X your money).

What we saw this past week was a concerted effort by members of a Reddit subgroup known as Wall Street Bets (WSB) to force these short shareholders to “cover” their short positions. The whole rush to cover short shares is like tinder for a fire because the higher the shares go, the more the short shareholders have to pay to buy them back in a negative “feedback loop” for their positions. Momentum traders and other investors who see this kind of short squeeze also pile on to try and capture or “scalp” some profits.

While some large hedge fund who do/did hold short shares in client accounts lost a lot of money over the past few weeks, the majority of investment advisors and their clients were largely unaffected, other than the fact that these same hedge funds, in an attempt to ride out the short squeeze, used and sold other blue chip stocks (such as Microsoft, Apple, Johnson and Johnson) to cover their losses on the short sales. That’s why you saw the price of those stocks go down last week.

This kind of thing shall pass, and although this may be the first time you’ve heard about this type of “squeeze”, it has happened a lot in the past and will likely happen again. This type of activity tends to crop up when you have a lot of people receiving government checks who have nowhere to go and have nothing better to do (and therefore nothing to lose), so they might as well risk that money in the markets. The current COVID environment has created the perfect stock market storm. I believe that this is more media hype than substance, and will be out of the news cycle in a short time. Cries for regulating or investigating all of this are misplaced in my opinion.

In other words, it’s business as usual in the stock market, unless you owned or shorted the stocks of AMC Theatres, GameStop, Bed, Bath & Beyond, and a few others. As in other newsworthy stock markets “mania’s”, when the dust settles, the majority of the players will likely lose their money because risk management and profit protection isn’t a regular part of their stock trading discipline. If you’re a long term investor, you should grab some popcorn and enjoy the “show” from a distance, and resist the temptation to jump in and risk your hard earned money. Because when the music stops, I believe that GameStop shares will be back to trading in the low-double, if not single-digits once again.

If you would like to review your current investment portfolio or discuss short-selling, please don’t hesitate to contact us or visit our website at http://www.ydfs.com. We are a fee-only fiduciary financial planning firm that always puts your interests first.  If you are not a client yet, an initial consultation is complimentary and there is never any pressure or hidden sales pitch. We start with a specific assessment of your personal situation. There is no rush and no cookie-cutter approach. Each client is different, and so is your financial plan and investment objectives.

IRA and Retirement Plan Limits for 2021

As the year comes to and end, it is good to know the limits for 2021 contributions to IRA’s and employer retirement plans.  Many IRA and retirement plan limits are indexed for inflation each year. While some of the limits remain unchanged for 2021, other key numbers have increased.

IRA contribution limits

The maximum amount you can contribute to a traditional IRA or a Roth IRA in 2021 is $6,000 (or 100% of your earned income, if less), unchanged from 2020. The maximum catch-up contribution for those age 50 or older remains $1,000. You can contribute to both a traditional IRA and a Roth IRA in 2021, but your total contributions cannot exceed these annual limits.

Income limits for deducting traditional IRA contributions

If you (or if you’re married, both you and your spouse) are not covered by an employer retirement plan, your contributions to a traditional IRA are generally fully tax deductible. If you’re married, filing jointly, and you’re not covered by an employer plan but your spouse is, your deduction is limited if your modified adjusted gross income (MAGI) is between $198,000 and $208,000 (up from $196,000 and $206,000 in 2020), and eliminated if your MAGI is $208,000 or more (up from $206,000 in 2020).

For those who are covered by an employer plan, deductibility depends on your income and filing status.

If your 2021 federal income tax  filing status is: Your IRA deduction is limited if your MAGI is  between: Your deduction is eliminated if your MAGI is:
Single or head of household $66,000 and $76,000 $76,000 or more
Married filing jointly or qualifying  widow(er) $105,000 and $125,000 (combined) $125,000 or more  (combined)
Married filing separately $0  and $10,000 $10,000 or more

If your filing status is single or head of household, you can fully deduct your IRA contribution up to $6,000 ($7,000 if you are age 50 or older) in 2021 if your MAGI is $66,000 or less (up from $65,000 in 2020). If you’re married and filing a joint return, you can fully deduct up to $6,000 ($7,000 if you are age 50 or older) if your MAGI is $105,000 or less (up from $104,000 in 2020).

Income limits for contributing to a Roth IRA

The income limits for determining how much you can contribute to a Roth IRA have also increased.

If your 2021 federal income tax  filing status is: Your Roth IRA contribution is limited if your MAGI  is: You cannot contribute to a Roth IRA if your MAGI is:
Single or head of household More than $125,000 but less than $140,000 $140,000 or more
Married filing jointly or qualifying  widow(er) More than $198,000 but less than $208,000  (combined) $208,000 or more (combined)
Married filing separately More  than $0 but less than $10,000 $10,000 or more

If your filing status is single or head of household, you can contribute the full $6,000 ($7,000 if you are age 50 or older) to a Roth IRA if your MAGI is $125,000 or less (up from $124,000 in 2020). And if you’re married and filing a joint return, you can make a full contribution if your MAGI is $198,000 or less (up from $196,000 in 2020). Again, contributions can’t exceed 100% of your earned income.

Employer retirement plan limits

Most of the significant employer retirement plan limits for 2021 remain unchanged from 2020. The maximum amount you can contribute (your “elective deferrals”) to a 401(k) plan remains $19,500 in 2021. This limit also applies to 403(b) and 457(b) plans, as well as the Federal Thrift Plan. If you’re age 50 or older, you can also make catch-up contributions of up to $6,500 to these plans in 2021. [Special catch-up limits apply to certain participants in 403(b) and 457(b) plans.]

The amount you can contribute to a SIMPLE IRA or SIMPLE 401(k) remains $13,500 in 2021, and the catch-up limit for those age 50 or older remains $3,000.

Plan type: Annual dollar limit: Catch-up limit:
401(k), 403(b), governmental 457(b),  Federal Thrift Plan $19,500 $6,500
SIMPLE  plans $13,500 $3,000

Note: Contributions can’t exceed 100% of your earned income.

If you participate in more than one retirement plan, your total elective deferrals can’t exceed the annual limit ($19,500 in 2021 plus any applicable catch-up contributions). Deferrals to 401(k) plans, 403(b) plans, and SIMPLE plans are included in this aggregate limit, but deferrals to Section 457(b) plans are not. For example, if you participate in both a 403(b) plan and a 457(b) plan, you can defer the full dollar limit to each plan — a total of $39,000 in 2021 (plus any catch-up contributions).

The maximum amount that can be allocated to your account in a defined contribution plan [for example, a 401(k) plan or profit-sharing plan] in 2021 is $58,000 (up from $57,000 in 2020) plus age 50 or older catch-up contributions. This includes both your contributions and your employer’s contributions. Special rules apply if your employer sponsors more than one retirement plan.

Finally, the maximum amount of compensation that can be taken into account in determining benefits for most plans in 2021 is $290,000 (up from $285,000 in 2020), and the dollar threshold for determining highly compensated employees (when 2021 is the look-back year) remains $130,000 (unchanged from 2020).

If you would like to review your current investment portfolio or discuss 2021 IRA contributions, please don’t hesitate to contact us or visit our website at http://www.ydfs.com. We are a fee-only fiduciary financial planning firm that always puts your interests first.  If you are not a client yet, an initial consultation is complimentary and there is never any pressure or hidden sales pitch. We start with a specific assessment of your personal situation. There is no rush and no cookie-cutter approach. Each client is different, and so is your financial plan and investment objectives.

Medicare Open Enrollment Begins October 15

What is the Medicare Open Enrollment Period?

The Medicare Open Enrollment Period is the time during which Medicare beneficiaries can make new choices and pick plans that work best for them. Each year, Medicare plan costs and coverage typically change. In addition, your health-care needs may have changed over the past year. The open enrollment period is your opportunity to switch Medicare health and prescription drug plans to better suit your needs.

When does the Medicare Open Enrollment Period start?

The annual Medicare Open Enrollment Period begins on October 15 and runs through December 7. Any changes made during open enrollment are effective as of January 1, 2020.

During the open enrollment period, you can:

  • Join a Medicare prescription drug (Part D) plan
  • Switch from one Part D plan to another Part D plan
  • Drop your Part D coverage altogether
  • Switch from Original Medicare to a Medicare Advantage plan
  • Switch from a Medicare Advantage plan to Original Medicare
  • Change from one Medicare Advantage plan to a different Medicare Advantage plan
  • Change from a Medicare Advantage plan that offers prescription drug coverage to a Medicare Advantage plan that doesn’t offer prescription drug coverage
  • Switch from a Medicare Advantage plan that doesn’t offer prescription drug coverage to a Medicare Advantage plan that does offer prescription drug coverage

What should you do?

Now is a good time to review your current Medicare plan. What worked for you last year may not work for you this year.

Have you been satisfied with the coverage and level of care you’re receiving with your current plan? Are your premium costs or out-of-pocket expenses too high? Has your health changed?  Do you anticipate needing medical care or treatment, or new or pricier prescription drugs?

If your current plan doesn’t meet your health-care needs or fit within your budget, you can switch to a plan that may work better for you.

If you find that you’re still satisfied with your current Medicare plan and it’s still being offered, you don’t have to do anything. The coverage you have will continue.

What’s new for 2020?

The end of the Medicare Part D donut hole. The Medicare Part D coverage gap or  “donut hole” will officially close in 2020. If you have a Medicare Part D prescription drug plan, you will now pay no more than 25% of the cost of both covered brand-name and generic prescription drugs after you’ve met your plan’s deductible (if any), until you reach the out-of-pocket spending limit.

New Medicare Advantage features. Beginning in 2020, Medicare Advantage (Part C) plans will have the option of offering nontraditional services such as transportation to a doctor’s office, home safety improvements, or nutritionist services. Of course, not all plans will offer these types of services.

Two Medigap  plans discontinued. If you’re covered by Original Medicare (Part A and Part B), you may have purchased a private supplemental Medigap policy to cover some of the costs that Original Medicare doesn’t cover. In most states, there are 10 standard types of Medigap policies, identified by letters A through D, F, G, and K through N. Starting in 2020, people who are newly eligible for Medicare will not be able to purchase Medigap Plans C and F (these plans cover the Part B deductible which is no longer allowed), but if you already have one of those plans you can keep it.

If you would like to review your current investment portfolio or discuss any medicare or health insurance questions, please don’t hesitate to contact us or visit our website at http://www.ydfs.com. We are a fee-only fiduciary financial planning firm that always puts your interests first.  If you are not a client yet, an initial consultation is complimentary and there is never any pressure or hidden sales pitch. We start with a specific assessment of your personal situation. There is no rush and no cookie-cutter approach. Each client is different, and so is your financial plan and investment objectives.

IRS Clarifies COVID-19 Relief Measures for Retirement Savers

The Coronavirus Aid, Relief, and Economic Security (CARES) Act passed in March 2020 ushered in several measures designed to help IRA and retirement plan account holders cope with financial fallout from the virus. The rules were welcome relief to many people, but left questions about the details unanswered. In late June, the IRS released Notices 2020-50 and 2020-51, which shed light on these outstanding issues.

Required minimum distributions (RMDs)

One CARES Act measure suspends 2020 RMDs from defined contribution plans and IRAs. Account holders who prefer to forgo RMDs from their accounts, or to withdraw a lower amount than required, may do so. The waiver also applies to account holders who turned 70½ in 2019 and who would have had to take their first RMD by April 1, 2020, as well as beneficiaries of inherited retirement accounts.

One of the questions left unanswered by the legislation was: “What if an account holder took an RMD in 2020 before passage of the CARES Act and missed the 60-day window to roll the money back into a qualified account?”

In April, IRS Notice 2020-23 extended the 60-day rollover rule for those who took a distribution on or after February 1, 2020, allowing participants to roll their money back into an eligible retirement account by July 15, 2020. This seemingly left account owners who had taken RMDs in January without recourse. However, IRS Notice 2020-51 rectified the situation by stating that all 2020 RMDs — even those received as early as January 1 — may be rolled back into a qualified account by August 31, 2020. Moreover, such a rollover would not be subject to the one-rollover-per-year rule.

This ability to undo a 2020 RMD also applies to beneficiaries who would otherwise be ineligible to conduct a rollover. (However, in their case, the money must be rolled back into the original account.)

This provision does not apply to defined benefit (pension) plans.

Coronavirus withdrawals and loans

Another measure in the CARES Act allows qualified IRA and retirement plan account holders affected by the virus to withdraw up to $100,000 of their vested balance without having to pay the 10% early-withdrawal penalty (25% for certain SIMPLE IRAs). They may choose to spread the income from these “coronavirus-related distributions,” or CRDs, ratably over a period of three years to help manage the associated income tax liability. They may also recontribute any portion of the distribution that would otherwise be eligible for a tax-free rollover to an eligible retirement plan over a three-year period, and the amounts repaid would be treated as a trustee-to-trustee transfer, avoiding tax consequences.1

In addition, the CARES Act included a provision stating that between March 27 and September 22, 2020, qualified coronavirus-affected retirement plan participants may also be able to borrow up to 100% of their vested account balance or $100,000, whichever is less. In addition, any qualified participant with an outstanding loan who has payments due between March 27, 2020, and December 31, 2020, may be able to delay those payments by one year.

IRS Notice 2020-50

To be eligible for coronavirus-related provisions in the CARES Act, “qualified individuals” were originally defined as IRA owners and retirement plan participants who were diagnosed with the virus, those whose spouses or dependents were diagnosed with the illness, and account holders who experienced certain adverse financial consequences as a result of the pandemic. IRS Notice 2020-50 expanded that definition to also include an account holder, spouse, or household member who has experienced pandemic-related financial setbacks as a result of:

  • A quarantine, furlough, layoff, or reduced work hours
  • An inability to work due to lack of childcare
  • Owning a business forced to close or reduce hours
  • Reduced pay or self-employment income
  • A rescinded job offer or delayed start date for a job

These expanded eligibility provisions enhance the opportunities for account holders to take a CRD.

The Notice clarifies that qualified individuals can take multiple distributions totaling no more than $100,000 regardless of actual need. In other words, the total amount withdrawn does not need to match the amount of the adverse financial consequence. (Retirement investors should consider the pros and cons carefully before withdrawing money.)

It also states that individuals will report a coronavirus-related distribution (or distributions) on their federal income tax returns and on Form 8915-E, Qualified 2020 Disaster Retirement Plan Distributions and Repayments. Individuals can also use this form to report any recontributed amounts. As noted above, individuals can choose to either spread the income ratably over three years or report it all in year one; however, once a decision is indicated on the initial tax filing, it cannot be changed. Note that if multiple CRDs occur in 2020, they must all be treated consistently — either ratably over three years or reported all at once.

Taxpayers who recontribute amounts after paying taxes on reported CRD income will have to file amended returns and Form 8915-E to recoup the payments. Taxpayers who elect to report income over three years and then recontribute amounts that exceed the amount required to be reported in any given year may “carry forward” the excess contributions — i.e., they may report the additional amounts on the next year’s tax return.

The Notice also clarifies that amounts can be recontributed at any point during the three-year period beginning the day after the day of a CRD. Amounts recontributed will not apply to the one-rollover-per-year rule.

Regarding plan loans, participants who delay their payments as permitted by the CARES Act should understand that once the delay period ends, their loan payments will be recalculated to include interest that accrued over the time frame and reamortized over a period up to one year longer than the original term of the loan.

Retirement plans are not required to adopt the loan and withdrawal provisions, so check with your plan administrator to see which options might apply to you. However, qualified individuals whose plans do not specifically adopt the CARES Act provisions may choose to categorize certain other types of distributions — including distributions that in any other year would be considered RMDs — as CRDs on their tax returns, provided the total amount does not exceed $100,000.

For more information, review IRS Notices 2020-50 and 2020-51, or talk to us.

1Qualified beneficiaries may also treat a distribution as a CRD; however, nonspousal beneficiaries are not permitted to recontribute funds, as they would not otherwise be eligible for a rollover.

If you would like to review your current investment portfolio or discuss any other financial planning matters, please don’t hesitate to contact us or visit our website at http://www.ydfs.com. We are a fee-only fiduciary financial planning firm that always puts your interests first.  If you are not a client yet, an initial consultation is complimentary and there is never any pressure or hidden sales pitch. We start with a specific assessment of your personal situation. There is no rush and no cookie-cutter approach. Each client is different, and so is your financial plan and investment objectives.

2020: Not Your Average Election Year

If you decided to take a long nap on New Year’s Eve and just woke up today, looked at your account statements, you might have yawned at how unchanged and boring the market must have been. You’d probably think, “on average, the market has been unchanged.”

But that’s the problem of averages when it comes to the stock market — they can wall-paper over a lot of painful experiences, like the tech bubble of 1999-2000, and the housing bubble of 2006-2007.

Considering the health catastrophe created by COVID-19, the strong rebound in stocks since the late-March low is astounding, especially given the deep economic damage. But given that the stock market is a forward-looking discount mechanism, it suggests that the collective wisdom of investors is more optimistic than the evidence that we hear and read about every day.

Stock markets continue to express little concern about the many uncertainties in this environment. Stock market valuations have met or exceeded their pre-crisis levels by most measures and continue to expand despite the major ongoing risks. Existing home sales in June of 4.7 million exceeded a record level on the back of falling interest rates, even as the number of unemployment claims ticked up last week for the first time in four months.

Federal Reserve support, rock bottom interest rates, the re-opening trade, and stronger economic data have helped. I also believe investors are looking past this year’s hit to corporate profits and are expecting an upturn in 2021.

The jump in daily COVID cases has created some renewed volatility, and it bears watching, but it has yet to knock the bulls off course. New all-time highs in the stock market in the weeks ahead would not surprise me one bit (the NASDAQ index has already done it). Even more surprising, it’s entirely possible that we’ve embarked on a new bull market.

While we are cautiously optimistic and giving this market the benefit of the doubt, we are maintaining our defensive allocation, primarily due to the persistent level of exuberance in the markets and resulting current overvaluation, as well as the uncertainty around possible rollbacks in re-openings.

Ultimately, the path of the virus will play the biggest role in how the economic outlook unfolds. Some folks are itching to get back to normal, while others remain on guard against the disease and are taking a more cautious approach. It may take time for some businesses to fully recover. Some never will.

Last month I opined, “I don’t expect a return to a pre-Covid jobless rate anytime soon. But investors are betting that an economic bottom is in sight.”

Try to look past continued volatility. With elections coming up this year, I expect more wacky market moves to go along with the typical wacky political moves we always see in a presidential election year. Regardless, based on recent economic reports, I think we hit bottom in April.

Those worried about a return to the March lows currently don’t have much evidence in terms of stock market action to support their worries. With so much money on the sidelines, it seems that every little dip is getting bought by those left behind in the panic.

If you liken the February-March stock market crash to an earthquake, then sure, you may feel some tremors and aftershocks for months, but the likelihood of another earthquake within a short period of time is highly improbable.

What to Do

None of us expected an economic upheaval spawned by a health crisis as the year began. But it pays to discuss some of the lessons and takeaways from the COVID-19 crisis.  And as I discuss them, you’ll probably recognize some of the themes (yes I do repeat myself frequently, like a nagging parent). Let’s not forget that the fundamentals—the core financial precepts—are always the building blocks of any credible financial plan.

1. Money at the end of your month

Saving for an emergency cannot be underestimated. Six to nine months of spending needs is optimal. But there is an added benefit—financial peace of mind.

It’s reflected in the proverb “The borrower is servant to the lender.” It’s not that I would counsel against a mortgage for a home or a reasonable loan for a car. But accumulation of wants (not needs) with (credit card) debt doesn’t bring contentment.

Instead, it brings stress. I have seen it over and over. You want money at the end of your month, not month at the end of your money.

A financial cushion eliminates one of life’s worries.

2. Wants vs. needs

Many of us have learned to do without certain things during quarantine. Whether we wanted to or not, we were forced to cut back on certain items.

Ask yourself this question, “As businesses re-open, are there things I can do without? Can I continue to cut back and still maintain my lifestyle?”

Many of our entertainment options have been curtailed. As we emerge from our homes and businesses reopen, are there items that can be trimmed from the budget?

It’s not a cold turkey approach, i.e. no more eating out, sporting events, travel or theater. But can we reduce expenditures on some items without sacrificing our overall lifestyle?

3. Diversification and tolerance for risk

We’ve just witnessed an unusual amount of stock market volatility. Calling it a roller coaster does not fully capture the experience (and most amusement parks are still shuttered!)

The major indexes have erased much of their losses. Yet, how did you fare emotionally when stocks took a beating? Now is the time to reevaluate your tolerance for risk. We’d be happy to assist and make any adjustments as they relate to your longer-term financial goals.

4. Expecting the unexpected

From its March 2009 low to the February 2020 high, the bull market ran for over 10 years (measured by the S&P 500 Index). We know bear markets are inevitable, but I recognize that the onset of a steep decline may be unnerving.

Nonetheless, a well-diversified portfolio of stocks has historically had an upside bias. That upside bias is incorporated into the recommendations we make, even as our recommendations are tailored to your individual circumstances and goals.

Further, a mix of fixed income and contra-funds helped cushion the decline. While we monitor events and the markets over a shorter-term period, let’s be careful not to take our eyes off your longer-term goals.

Be proactive, not reactive

The ideas above are a broad overview and individual circumstances may vary.

Taking inventory is critical. It’s half the battle. Be proactive, not reactive. You may find you are in a much better position than you realized. As always, we are here to help.

I hope you’ve found this review to be helpful and educational.

I understand the uncertainty facing all of us. We are grappling with an economic and a health care crisis. It’s something none of us have ever faced. We have addressed various issues with you, but I have an open-door policy. If you have questions or concerns, let’s have a conversation. That’s what I’m here for.

If you would like to review your current investment portfolio or discuss any other financial planning matters, please don’t hesitate to contact us or visit our website at http://www.ydfs.com. We are a fee-only fiduciary financial planning firm that always puts your interests first.  If you are not a client yet, an initial consultation is complimentary and there is never any pressure or hidden sales pitch. We start with a specific assessment of your personal situation. There is no rush and no cookie-cutter approach. Each client is different, and so is your financial plan and investment objectives.

What’s Going on in the Markets June 7, 2020

Over the past week, the stocks of American Airlines, United Airlines and Delta Airlines were up 77%, 51% and 35% respectively. In addition, the stocks of Norwegian Cruises, Carnival Cruises and Royal Caribbean Cruises were up 43%, 37%, and 34% respectively.

But none was more bizarre than the stock of Hertz Car Rental, which was up a whopping 157% on the week. Now it’s not unusual for a cheap stock trading for $1.00 a share to double or triple in a week. But it is unusual when the company has already declared bankruptcy, meaning that stockholders will likely receive nothing in the reorganization.

In what I can only describe as a bit of overexuberance in a world where many don’t plan to get on an airplane in the next 12 months, and others who say they’ll never step foot on a cruise ship in their lifetimes again, can I say that the recent rally is getting a little “bubblelicious”?

That’s all to say that I cannot remember a time when I’ve seen such a widespread disparity between what is happening in the economy and what is happening in the stock market.

Let’s take a few moments to briefly outline the situation using hard data.

  • The unemployment rate soared to a post-depression high of 14.7% in April, while the survey of businesses by the U.S. Bureau of Labor Statistics revealed a loss of 20.5 million jobs in April, the worst monthly reading since records began in 1939.
  • In a single month, nearly all of the jobs created after the financial crisis disappeared, at least temporarily.
  • Then on Friday we got the May Jobs report and we were surprised that the economy had created 2.5 million jobs and the unemployment rate had actually declined to 13.3%. While 13.3% unemployment is a “depression-like” number, it was far better than numbers projected by economists: a loss of 7.5 million jobs and a 20% unemployment rate. To paraphrase Yogi Berra: “forecasting is hard, especially when it’s about the future”.
  • April’s 11.2% drop in industrial production, a metric the Federal Reserve has tracked since 1919 – is the biggest monthly decline on record. Furthermore, consumer spending in April fell 13.6%, the biggest decline ever recorded (U.S. BEA, data back to 1959).
  • The Institute for Supply Management’s (ISM) Manufacturing Index and the ISM Services Index both showed a slight improvement in May; however, both segments remain deep in contraction territory.
  • Record layoffs continue, with the number of first-time claims for unemployment insurance topping 40 million over a 10-week period ending May 23. Put another way, nearly one in four working Americans have experienced a job loss.

If there is any good news, it is that the number of first-time filings has been declining, and the number of individuals who re-certify on a regular basis in order to continue receiving jobless benefits is about half the number of first-time filings.

This would suggest that the economic injury disaster loans and payroll protection program loans are kicking in, and re-openings are encouraging businesses to recall furloughed workers.

Let’s Back Up Again for a Moment

  • In April, in just a three-week period, the number of first-time claims for jobless benefits totaled an astounding 17 million. For perspective, during the 18-month-long 2007-2009 recession…first-time claims totaled 9.6 million.
  • Yet the Dow Jones Industrial Average added 2,107 points over the three Thursdays when the massive number of new claims were released.
  • Since then (April 9), the Dow has added 3,600 points, or 15.0%. It is up 49% since its near-term March 23 bottom.
  • The broader-based S&P 500 Index eclipsed 3,000 by the end of May and has rebounded nearly 46% from its March 23 low to near 3,200.
  • Meanwhile the tech-heavy NASDAQ Composite has added 48%, is back above 9,800, and has already surpassed its all-time high.

Simply put, economic activity is falling with depression-like speed, but the major averages are in the midst of an historic rally.

Here’s one more piece of performance data:

  • During the financial crisis, the S&P 500 Index lost nearly 57% from its October 2007 peak to the bottom in March 2009. This year, in about one month, the S&P 500 Index shed 34% before hitting a near-term bottom on March 23.

The adage “stocks climb a wall of worry” has never been more appropriate amid economic devastation and an outlook that remains incredibly murky.

A Closer Look at the Wall Street/Main Street Disconnect

A combination of factors has fueled the rally since late March.

The response by the Federal Reserve has far outpaced its 2008 response, which has lent a tremendous amount of support to stocks. The same can be said of government fiscal stimulus.

Investors are also keeping close tabs on state re-openings, which will re-employ furloughed workers, help stabilize the economy, and set the stage for a possible economic rebound later in the summer. Talk of possible vaccines has also helped.

You see, investors don’t simply look at today’s data, which in many cases is backward-looking. Instead, they are forward-looking as they attempt to price in economic activity, the level of interest rates, corporate profits, and more over the next 612 months.

An Approaching Dawn

If we look at what is called “high-frequency economic data” (daily or weekly reports), we are starting to see signs of stability.

Daily gasoline usage has rebounded (Energy Information Administration), daily travel through TSA checkpoints is up, hotel occupancy is off the bottom, and the same can be said of weekly box office receipts (Box Office Mojo).

In addition, the weekly U.S. MBA’s Purchase Index (home loan applications) registered its fifth-best reading over the last year (as of May 22), suggesting that low-interest rates and some confidence that the U.S. economy is set to recover are lending support to housing.

Of course, these are highly unconventional measures of economic activity and are industry-specific. Outside of the Purchase Index, each remains well below previous highs, but the turnaround suggests we may be seeing some light at the end of a very dark tunnel.

Collective Wisdom

Any given level of a major stock market index represents the collective wisdom of tens of millions of stock market investors. It is not simply an opinion, but an opinion with money behind it. That’s an opinion worth listening to.

When stocks were in a free fall in March, investors were anticipating a devastating blow to the economy. Tragically, the data did not disappoint.

But has the rally been too much, too quickly?

Even in the best of times, economic forecasting can be difficult (refer to earlier Yogi Berra quote). Today, the outlook is clouded with a much greater degree of uncertainty.

  1. Will the virus lay down over the summer?
  2. How will re-openings proceed?
  3. How quickly can a readily available vaccine and treatment be developed?
  4. What might happen to COVID-19 next fall and winter?
  5. How quickly will consumers venture back in public and resume prior spending patterns?

These are difficult questions to answer.

I don’t expect a return to a pre-COVID jobless rate anytime soon. But investors are betting that an economic bottom is in sight or has already occurred.

I understand the uncertainty facing all of us and I don’t underestimate the enormous amount of work that has to be done or the difficulties we’ll encounter in getting back to “normal”. We are grappling with an economic and a health care crisis, not to mention recent civil unrest. It’s a combination none of us have ever faced.

A New Bull Market or the Most Epic of all Bear Market Rallies?

For our clients’ portfolios, I know that I will spend years analyzing the last few months and scrutinizing our moves. I’m pleased that we entered 2020 with a defensive stance that served us well. I’m also pleased that we followed our rules in further reducing portfolio risk and increasing hedges as we saw fit as the decline kicked into high gear. I’m very pleased that we held firm with our core holdings, never wavering from our belief that our core assets would ultimately be just fine, dividends would continue to accrue and that the foundation of our portfolios remained intact.

As we moved through the crash methodically with a steady hand and calm head,  I’m also pleased that not a single client panicked, and those that stuck with their investment plans and did not decide to tinker with their portfolio risk “on the fly” fared the best among our clients. Those that paid attention to the media (who regularly try their best to scare us witless), and who insisted on reducing their risk near the bottom and not follow their own investment plan still fared OK but cost their portfolios dearly. 

So I guess I’ll say it again: Neither they, you, or I know what’s going to happen next, no matter how smart we are. All we can do is watch the price action, put probabilities in our favor, and pay heed to risk. Ultimately, we’re in the risk management business, not the prediction business.

What I’m not as pleased about is that we didn’t more aggressively buy the panic that ensued in the market. Of course, this is easy to say in hindsight. It was my plan to do so, but the bounce proceeded too quickly and the shallow pullbacks did not allow for the necessary low-risk entries that I was planning for. While we bought some investments lightly on the way down and also on the way up, with the benefit of hindsight, we could have more aggressively reduced hedges and ramped up buying. 

I’m also not pleased that I underestimated the power of the Federal Reserve and found myself being overly moderate. Of course, the next few months could prove my current sentiment to be completely wrong and the gains quickly reverse. As it stands, it is my plan to increase our overall investment levels based on the “quality” of the next pullback.

Towards that end, if this is truly a new bull market, and the recession turns out to be one of the shortest ones on record, then the next pullback should be of the 5%-10% variety, and will give us a low-risk way to increase stock market exposure further.  If instead, this has been the “mother” of all bear market rallies, then our continued defensive stance will serve us quite well. Only time will tell.

Short-term, the market is a bit overheated, so a pullback could ensue any day now. For those who are phasing back into the market, or who need to rebalance their portfolio, it may be advantageous to wait for the pullback.

As we move forward from here, I’ll be the first to admit that I still have no idea how this all plays out into the remainder of 2020. From the coronavirus, we have now moved to national demonstrations and riots which are affecting cities all across America. In just a few months we’ll be heading directly into a presidential election. If that’s not a recipe for elevated volatility for the rest of the year, I don’t know what is.

On the investment horizon, I can tell you that this bust/ boom cycle we’ve just witnessed has solidified, more than ever, just how important it is to have a portfolio diversification not only in different asset types, but also across time-frames (i.e., short term, medium-term and long-term investments). It has solidified the idea that a client’s risk tolerance is much more important than age-based risk tolerance, and that I plan to spend more time in client meetings making sure that clients truly understand and accept their overall risk. As a firm, we’ll continue looking to do more of the things that have worked for us and less of the things that didn’t.

Bottom Line

Fueled by record amounts of stimulus in both monetary and fiscal policy, stocks have continued to move higher in spite of the ongoing economic damage. This disconnect between the economy and the stock market has confounded many analysts due to the fact that there is typically a tight link between the two. And while it’s key to understand the additional dynamics which affect the stock market, this divergence (between the economy and stock market) represents a high degree of risk which continues to warrant a defensive portfolio stance.

As always, I’m honored and humbled that you’re devoting time to read what I’m writing and/or given me the opportunity to serve as your financial planner/advisor. If you have any questions or would like to discuss any financial matters, please feel free to give me a call.

If you would like to review your current investment portfolio or discuss any other financial planning matters, please don’t hesitate to contact us or visit our website at http://www.ydfs.com. We are a fee-only fiduciary financial planning firm that always puts your interests first.  If you are not a client yet, an initial consultation is complimentary and there is never any pressure or hidden sales pitch. We start with a specific assessment of your personal situation. There is no rush and no cookie-cutter approach. Each client is different, and so is your financial plan and investment objectives.

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