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After three years of stock market declines, many investors seem to believe that the future is just not what it used to be. - Charles Jaffe, Boston Globe 1-5-03 Comments from Barrons' Annual Roundtable Barrons, 1-13-2003 From Felix Zulauf, Founder and president, Zulauf Asset Management, Zug, Switzerland Before the early 1990s the savings rate was around 10%. Then it collapsed to zero. Now it's on the way back to 10%, I think. There is a structural problem in the U.S. economy, because economic policy is always targeting consumption. Personal consumption as a percentage of GDP was 61%-62% in the late 1970s, early '80s. It rose to 66% in the early '90s and now stands at 70%, after the boom in car sales and homebuilding. But if you throw more stimulus at the consumer, you probably won't get the same traction as in the past. For a sustainable economic expansion, you need rising corporate profits. But third-quarter profits in the nonfinancial sector were down 10% compared with a year ago. What about S&P earnings? Mario Gabelli, Chairman, Gabelli Asset Management: $53 versus $47. Abby Joseph Cohen, Goldman Sachs: There is no official arbiter of earnings. Most people are targeting $47 for this year. We're targeting $42, compared with $37 for last year. Everybody has a different definition of earnings. John Neff, Retired portfolio manager, Vanguard Windsor Fund: I'm an operating-earnings kind of guy. I'm using $53.50 this year. By my calculation, earnings came in around $47 last year. This sounds like a powerful increase, but productivity growth has been excellent, at 4% or 5%, with hardly any unit growth. We're getting some price increases in not-so-grand old areas, such as containers, tires, steel and insurance. Barrons: If everything goes up in price, the consumer won't consume. Neff: The consumer price index isn't going to shoot up. Core CPI will be up 2.2% or so. Gabelli: About 35%-40% of S&P 500 earnings come from non-U.S., primarily European, sources. Operating earnings are going to get a big lift; with the euro up; it was at $1.05 this morning versus 95 cents a year ago. On the negative side, last year was the perfect storm for pension plans, because both interest rates and investment returns came down. This impacts the discount rate, which will balloon the present value of liabilities. That's going to rob some from earnings. Oscar Schafer, Managing Partner, O.S.S. Capital Management: We'll be lucky to see high-single-digit growth, because of the pension problem, because of pricing pressure, because of competition. Gabelli: Look, the Bush tax bill is going to throw in something for the consumer, something for the business person and something for the investor. Last year companies were allowed to accelerate depreciation. Nobody talked about it, but it was an enormous boost to cash flow. We're going to have a lot of powerful elements helping corporate cash flow in 2003 and '04, but we don't know yet what they are. Zulauf: According to I/B/E/S, the consensus expects earnings to rise 13% in the U.S. and 9.5% in Europe. Historically, corporate profits have grown about in line with nominal GDP - now about 5%. So all these earnings expectations are outrageously high. Cohen: Felix, we are talking about the S&P, which is a pre-selected index of companies that hopefully do better than GDP. And we're talking about earnings per share, which could be boosted by share repurchases and such, which do not have an impact on underlying profits. Zuluaf: Still, these estimates are more than double the growth rate I come up with. There is a lot of room to make the adjustments you have mentioned. Cohen: We'll know for sure in a few months, but 2002 may turn out to be the year of the great clean-up. Many companies took advantage of 2002 to shift to much more conservative accounting. We see that in terms of pensions and employee stock options. If everybody is adjusting their numbers, some companies figured, let's get our adjustments done, too. Scott Black, Founder and president, Delphi Management: I'm in Abby's camp. If you take out pension costs and options, you get $43 to $44 for this year. Interestingly, sports fans, Barron's states that actual 12-month trailing earnings for the S&P 500 are only $30.34. So it's a real leap of faith to think you're going to $51 from $30.34. Technology accounts for one-sixth of the S&P, down from more than 30% at the top of the bubble. Yet with the exception of a handful of companies like Microsoft and Dell Computer, tech is moribund. That doesn't bode well overall for S&P earnings. Three See Us Stuck in a Trading Range Archie MacAllaster, Chairman, MacAllaster Pitfield MacKay: Stocks are fairly priced. By the end of the year, the market will be about where it is now. But there are lots of things you can buy. If you go to a brokerage, pay cash for a stock and put the certificate in your safe-deposit box, you'll do okay. But the averages won't do much by the end of the year. Schafer: Last year I said the market would be up or down 5% or 10%. I was obviously wrong. Now I agree with Archie. There were periods between 1934 and 1950, and 1966-82, when the market didn't do much. We're going into another period like that. Gabelli: On a long-term basis I see a '68-'81 kind of environment, where the market moves sideways. Earnings grow 6% a year and price-earnings multiples get bumped by higher rates. The year will be characterized by the chase for dividends.
Wall Street could see a boom in fees as companies rush to issue preferred stock, a relatively obscure security that could become the most popular way for many companies to raise money. And it could encourage more companies to pay dividends. For investors, the saving would be likely to accrue more to those who hold their stocks in taxable accounts - as opposed to 401(k)'s and individual retirement accounts. That could make such retirement accounts less popular, or at a minimum make investors less likely to use them for their stock investments. Dividend Reform & Loop-Holes The elimination of taxes on dividends would lead to a lot of questions about details to prevent abuse. Congress may have to consider what to do about investors who have borrowed money - whether through margin accounts or otherwise - to buy or hold shares that pay dividends that would become tax-free. The interest paid on such loans can now be tax-deductible, but that would probably change. "A lot will depend on how the proposal deals with extraordinary dividends," said David Hariton, a tax partner at the large New York law firm of Sullivan & Cromwell, referring to dividends of at least 10% of a share's value. He said that without rules to prevent it, "a shareholder could buy stock, receive a large tax-free dividend, and then sell the stock for a capital loss that offsets a capital gain" from another investment. [From Floyd Norris, NY Times 1-17: Greg Jenner, the deputy assistant Treasury secretary for tax policy, said in an interview that the administration might require investors to hold shares for 90 days to qualify for tax-free treatment of dividends. He said investors might be required to own shares for a full year to get the capital gains benefit from deemed dividends. Dividend Reform & Preferred Stocks Preferred stocks, at their simplest level, promise the investor a certain payment every year, just as a bond does. Preferred stocks now have relatively little appeal to most individual investors, in part because their yields are held down because the tax benefits for corporate holders of such securities are not available to individuals. But the elimination of taxes on dividends would mean that individuals who bought preferred stock could get tax-free income with risks similar to those of investors who buy bonds in the same company. That would be likely to drive up the price of existing preferred shares, while also leading many companies to sell new issues of preferred stock. Mr. Willens of Lehman Brothers suggests that Wall Street might move aggressively to issue such products as zero-coupon preferred stock. Such a share might cost $25 now and pay no annual dividend, but be redeemable in eight years for $50. "Under new rules, that could be very popular, for purposes like funding college tuition," he said. [From Jane Kim, WSJ 1-7: A zero-dividend preferred product isn't very tax efficient today because the spread between the original purchase price and the payout at maturity - known as the original issue discount - would have to be amortized into income over the life of the security. Thus, an investor would have to pay taxes as if he were receiving income while he held the stock. But if dividends were excluded from taxes, such a product would become more attractive. What could complicate their development, however, is the fact that a preferred stock is by definition a perpetual product with no fixed maturity date.] For companies, a movement to borrow less through the bond market while raising more cash from selling preferred stock would have the advantage of leaving them in a better position if they ran into hard times. Companies that are financially pressed can usually defer or eliminate dividend payments. But if they are unable to pay interest on loans, they can be forced into bankruptcy. Companies would still want to borrow money because interest payments would remain deductible from income in computing corporate taxes, while dividends would remain nondeductible. But if rates fall on preferred stock, as seems likely, there would no doubt be much more preferred stock sold. From USA Today 1-9: Investors need to understand what preferred stock is, and isn't, before buying. Factors to consider: Preferred shares that stand to benefit from Bush's proposal are very rare. Only about 100 companies, mostly banks and utilities, have $24 billion worth of traditional preferred stock outstanding. Those scarce issues are the only ones paying dividends that would qualify for a break, says William Scapell, director at Merrill Lynch. From James Toedtman and Pradnya Joshi, Newsday.com 1-10: About 85 percent or 90 percent of the pay out on preferred stock today is treated as an "interest expense" for companies. Therefore the company is getting a tax break, meaning shareholders under the Bush plan wouldn't get a deduction, says said Bala Dharan, an accounting professor at Rice University in Houston. From Jake Keaveny, Reuters 1-12: Companies that buy other companies' preferred stock get partial tax exemptions of about 70% to avoid what would be a form of triple taxation. See Preferred Shares 101 - Jeff Opdyke, WSJ for more information on preferred stocks.] Dividend Reform and IRAs The interplay of dividend taxation on retirement accounts could be important. Retirement accounts now collect income, whether from interest, dividends or capital gains, and pay no immediate taxes on it. Years later, when the owner of the account has retired, he or she pays individual income taxes on all the profits from the account. If dividends become nontaxable, that would make owning stocks, or mutual funds that invest in stocks, less desirable for such accounts, simply because taxes would still be owed when the profits were distributed to the investor. That could be changed, to make dividends on retirement accounts not subject to eventual taxation, but keeping track of such dividends over the years would require large amounts of paperwork and make the tax laws even more complicated, not to mention the impact it would have on government revenue. If retirement accounts do not benefit from the elimination of dividend taxes, however, that would mean that millions of Americans whose only investment in the stock market is through I.R.A.'s or 401(k) accounts would not benefit from the tax change. [From multiple sources: If IRA's DO benefit from the tax elimination, the accounting will be a nightmare.] In that case, investors who have money in both retirement and taxable accounts might choose to revamp their investments, leaving taxable bonds, and possibly stocks whose expected profits will come largely through capital gains, in retirement accounts, while shifting preferred stocks and high-dividend-paying stocks to ordinary taxable accounts. [A second reason to move stocks to taxable accounts - From Alex Tarquinio, NY Times 1-12: Taxable accounts currently have the advantage of being able to write off capital losses, which cannot be done in retirement accounts.] Original content: Retirement Math - IRA's are taxed at withdrawal. A hypothetical $1,000 investment from your current income is not taxed now - thus it starts at $1,000. At 7% for 20 years, it grows to $3,870 [I am using the 'compound sum' tables from my college finance text book to calculate the growth numbers]. Taking 10% out/year = $387. Less 28% tax = $278.64. A standard accounts' new investment dollar is taxed now: Your $1,000 pre-tax investment thus starts [assuming a 30% gross income tax] at $700. At 7% for 20 years, it grows to $2,709. Taking 10% out/year (and assuming all the increase comes from tax free dividends + cap gains) = $270.90. You would have been better off by 2.86% if you had an IRA than having a standard account. A 401(k) with 25% company match that is taxed later, thus your investment begins with $1,250. At 7% for 20 years, it grows to $4,837. Taking 10% out/year = $484. Less 28% tax = $348.48. You are better off by 28.63% than if you had a standard account. This data is replicated in the table below, with two other scenarios.
The expectation that income tax rates will be lower in the future [even at lower levels of income, which will happen for most in retirement] is in real peril. As problems with the cash flow from Social Security mount in the coming years, it is likely that the 'gap' in income vs outflow from the employment tax will be fixed by (1) lower Social Security benefits; (2) higher taxation of those benefits; (3) higher taxes on those future workers; AND (4) higher tax rates on federal income taxes. The figures in the tables above, for the standard account, assumed that 'all the increase comes from tax free dividends + cap gains'. Is that a safe assumption? It may be. Over the last 20 years, P/E ratios have grown as the equity risk premium has shrunk. If that trend would continue, then that portion of your gain would be taxable. But if the pendulum swings back to a higher risk premium and lower PE's, then your gain will be less than the cumulative dividends and capital gains. In theory, you could get a $1.05 deduction for ever $1.00 gained if PE's contract. And there is a large minority of pundits who are predicting exactly that. Dividend Reform and Variable Annuities From Christopher Farrell, BusinessWeek 1-9: If the Bush proposal becomes law, savvy savers will shun popular tax-sheltered investments like variable annuities - essentially a mutual fund wrapped in a tax-deferred insurance-firm account. "If there are no taxes on dividends, that's a huge argument against any kind of tax-shelter shell," says Ross Levin, a certified financial planner and president of Accredited Investors. Dividend Reform and Mutual Funds Russel Kinnel, Morningstar via MSN Money 1-14: If the bill passes and you want to get a healthy stream of dividend income, start by screening out high-cost funds. Mutual funds are required to extract their expenses from their portfolio's yield. If a fund's underlying portfolio yields 1.50% and its expense ratio is 1.25%, then only 0.25% flows through to you. If that same portfolio is owned by a fund with a 0.25% expense ratio, then you get 1.25%. Taking expenses out of yield isn't a big issue today because income is taxed higher than capital gains. If that should change, however, investors in high-cost funds will have yet another reason to be grumpy. From 'Tax Externalities of Equity Mutual Funds' by Dickson, Shoven & Sialm, April 2000: [At present, the requirement that expenses come from distributions is a good thing for the mutual fund holders.] Take for example, a mutual fund whose underlying portfolio of securities generates a 2% gross dividend yield. If the fund's expense ratio is 1%, then the net income distribution to shareholders would be 1%. Effectively, fund expenses are fully deductible for all taxpayers because they lower the taxable income received by shareholders. Generally, investment fees assessed in a non-registered investment vehicle (e.g., individually managed and trust accounts) are an itemized deduction that can be used only to the extent they exceed 2% of adjusted gross income. From Alex Tarquinio, NY Times 1-12: Stock dividends earned by mutual funds would be tax-exempt under the proposal, but the expenses of most funds effectively eliminate payments to investors; only 42% of domestic equity funds paid dividends in 2002, according to Morningstar. Patrick Dorsey, Morningstar's head of equity research, noted that some retirees might enjoy a windfall if taxes on their dividends were eliminated, but that younger shareholders who own stocks in taxable accounts could enjoy even bigger gains over the long run. (see below) Dividend Reform and the Power of Compounding From Alex Tarquinio, NY Times 1-12: "It gives the folks in retirement a boost," say Patrick Dorsey of Morningstar. "If you're counting on this for income, and you're getting $4,000 in dividends, that's really $3,000 after taxes. There's a little difference, but it's not huge." But an investor with 20 years before retirement would benefit from the power of compounding income. Say an investor owns a stock yielding 3% and reinvests the dividends. Assuming that the stock's price does not change, the cumulative total return after 20 years would be 80.6% without taxes, compared with 47.1% if the dividend income had been taxed annually at a rate of 35%. The difference would be even greater with a higher yield. Dividend Reform and Unusual Dividends From Jay Hancock, Baltimore Sun 1-12: What if Bill Gates decides to cash out $10 billion in accumulated Microsoft profits in one fat, tax-free dividend? Well, the administration says you can only pay tax-exempt dividends from profits earned after 2002. What if companies avoid corporate income taxes - if they lose money, perhaps - but want to pay a dividend anyway? That dividend would be taxable. Dividends from companies that don't hit a certain tax hurdle or come partially from profits earned before 2002 would be partially taxable. Dividend Reform and Municipal Bonds From Jonathan Fuergringer, NY Times 1-12: The Bush proposal would force interest rates higher on munis, to make them more attractive, and would send the munis' prices, which move in the opposite direction, lower. Also, accelerating the tax-rate cuts scheduled for 2004 and 2006 to Jan. 1, 2003, could subject more taxpayers to the alternative minimum tax [more about this in Reform and the AMT]. Because this tax rate, 28%, is less than the proposed new top tax rate of 35%, the tax-exemption benefits of municipal bonds would be less attractive to wealthy taxpayers. From Russel Kinnel, Morningstar via MSN Money 1-14: Should you dump munis in favor of stocks that pay big dividends? Probably not. "Asset-allocation decisions are primarily decisions about risk, and this proposal wouldn't change the risk equation," says Joel Dickson, Vanguard's tax guru. The average utilities fund lost 24% last year and 21% the year before. By comparison, over the last decade the worst calendar-year loss suffered by the muni national intermediate- term category was just 3.5% in 1994. Dividend Reform and Foreign Stocks From Tom Herman, WSJ 1-9: Depending on the law's fine print, investors "might wind up shying away from stocks in foreign corporations that pay dividends but don't pay U.S. tax," says David Hariton, a tax partner at the Sullivan & Cromwell law firm in New York. Reason: "Such dividends would be taxable, unlike the tax-free dividends paid by domestic corporations." Under the president's plan, the dividend exclusion "would apply only to dividends paid out of income that has been subject to U.S. corporate tax after 2002," Mr. Hariton says. Dividend Reform and Convertible Bonds From Ross Levin, Minneapolis Star Tribune 1-12: The Bush plan certainly would make preferred stocks, which pay a set dividend, preferable to convertible bonds, in which nontax-free dividends are paid and the bond is convertible into stock. Dividend Reform and Capital Gains John McKinnon, WSJ 1-9: What about shareholders of a company that doesn't pay dividends? They get a break, too, but only when they sell their shares. Say a share is bought for $100 and the company has $6.50 a share in fully taxed profits that year. The company will notify the shareholder of this. Then, suppose the share is sold for $110, for a $10 profit. The capital-gains tax will apply only to $3.50 of the gains ($10 minus $6.50.) Each year, a holder will be able to increase his "basis" - the cost for figuring out his gain on shares held, for tax purposes - by the amount of the company's taxed profits. The point of the plan is to stop taxing corporate profits twice - once when the company earns them and again when the shareholder gets the benefit, either as a dividend or as a capital gain. [A second] point is not to force companies to pay dividends. Dividend Reform and Corporate Income Taxes From Floyd Norris, NY Times 1-10: Once upon a time, the corporate income tax produced nearly a quarter of the federal government's revenue. Over the years it was whittled away. Rates came down and companies found a host of ways, some authorized by Congress and some involving clever ways around the law [like moving the companies out of the U.S. to some small island nation without a corporate income tax], to avoid the tax. By the boom of the late 1990's, corporate income tax receipts, whether measured as a percentage of government revenue or as a portion of the national economy, had declined by roughly half from their level in the 1960's boom. But now, President Bush has proposed a plan that might lead to a revival of the corporate income tax. The Bush plan gives tax breaks to owners of companies that pay taxes. Other dividends would still be taxed, so owners of companies that pay no taxes get no break. Conceivably, that might make companies less eager to pay Wall Street for clever strategies to duck taxes, since cutting corporate taxes would have a cost for shareholders. Enactment of the Bush proposal to end double taxation of corporate profits could have the surprising benefit of making it more likely that such profits would be taxed the first time. [Note: It is Norris' contention that companies that use tax credits to reduce their income tax have not had all their income taxed the first time. Thus, they will not be able to pass all their dividends to the shareholders tax-free. This is outside the norm in what has been discussed about the reform package. But a second source (Hancock of The Baltimore Sun) quoted above, appears to confirm this, as does White of the Washington Post - quoted below.] Dividend Reform and High Tech Jerry Knight, Washington Post 1-13 : "Profitable, tax-paying companies" is a key qualifier. They are the only kind that would be eligible for either the lower capital-gains rate or the dividend tax exemption. That rules out virtually the entire Washington high-tech community. Dividends are unheard of in high tech, even for profitable companies. Profits are practically nonexistent in biotech and are a recent phenomenon for many other technology companies. The losses that tech companies run up before they break into the black can be carried forward and deducted from future profits. Most high-tech companies here have so many millions of accumulated losses that it will be years before they have to pay income taxes. Dividend Reform and the AMT From David Johnston, NY Times 1-10: If Mr. Bush's plan becomes law this year, the number of people paying the alternative minimum tax will rise by 9%, to 3.3 million, and the amount of tax paid will swell by 28%, to $18.5 billion, according to the Tax Policy Center in Washington. Other groups estimated different figures, depending on how various complexities are interpreted, but they all agreed the burden of the minimum tax would continue to rise unless the law is changed. In a study done last fall, the policy center found that the revenue from the alternative tax is scheduled to rise so fast that it could cost as much as $951 billion over the next decade to return to the original intent of the law. By 2010 a quarter of taxpayers - about 36 million - will be subject to the alternative minimum tax, several studies have found. It will cost taxpayers - through 2010 - $566 billion, one study showed. The House Joint Economic Committee warned in a May 2001 report that "if nothing is done to reform the A.M.T. it eventually will become the dominant type of income tax." As for the alternative tax, the White House proposed only to increase the thresholds on deductions and exemptions that make the tax applicable. The plan calls for allowing married couples to take up to $57,000 in tax breaks before the alternative tax applies, up from $49,000 under current law. For single people, the threshold would rise by $4,000, to $39,750. The exemptions would fall back in 2005 to $45,000 for couples and $33,750 for singles. Paradoxically, the alternative minimum tax rarely applies today to those making more than $627,000. But because it has not been adjusted to reflect inflation or other economic changes it now applies to some single parents making as little as $32,000. It is the fastest-growing tax affecting those making $50,000 to $500,000. Dividend Reform and the Tax-Free Bonus From Tom Petruno, LA Times 1-12: Chief executives and other corporate managers who also are substantial shareholders in their own firms could give themselves a big tax-free bonus each year by paying a dividend, or raising the dividend. Ben White, Washington Post 1-13: Walt Disney Co.'s Michael Eisner, for instance, owns about 14 million company shares, a spokesman said. Disney announced an annual dividend of 21 cents a share this month, which adds up to about $2.9 million for Eisner. Under the current tax code, assuming Eisner is in the highest personal income tax bracket, the Disney chairman and chief executive would pay about $1.3 million in state and federal taxes on that amount. A Citigroup spokeswoman said Citigroup Chairman and Chief Executive Sanford Weill owns about 22.8 million shares in the financial-services firm, which paid dividends of 18 cents a share three times last year and 16 cents once. That would have earned Weill about $16 million. Under the Bush plan, he could save as much as $6.9 million in taxes. Coca-Cola CEO Douglas Daft owns about 2.5 million shares in the company, according to a spokeswoman. Coke paid 80 cents a share in dividends last year, which would have earned Daft about $2 million based on current holdings. Under the Bush plan, he could save about $875,000 in taxes. Some companies manage their finances to limit their tax exposure. Some strategists suggest that this practice may change as firms instead decide to pay tax on profit to reward shareholders with tax-free dividends. Conceivably, executives with large stock holdings at firms that now strive for tax efficiency could face a conflict of interest, seeking to increase their firm's tax payments - regardless of that strategy's effect on the firm and shareholders - to generate tax-free dividends. Dividend Reform and Short Selling From Floyd Norris, NY Times 1-17: Short selling may become more expensive. That is because an owner of shares on which tax-free dividends are paid will get the tax-free income only if the shareholder receives the dividend from the company. If that investor's shares were lent out to a short seller at the time of the dividend payment, the short seller would have to make a payment in lieu of the dividend. But that payment would be taxable to the shareholder. Dividend Reform and Companies that Receive Dividends From Floyd Norris, NY Times 1-17: Under the Bush proposal, a company that collects tax-exempt dividends would owe no taxes on them, and could pass them on to its own shareholders on a dollar-for-dollar, tax-exempt, basis. But if it collected taxable dividends, it would get no tax breaks on the income. [This may be under revision.] Dividends from Unprofitable Companies From Steve Liesman, WSJ 1-17: If a company had no after-tax profits, could that company pay a tax-free dividend? I called the Treasury to find out and here's the little wrinkle they told me about: a tax-free dividend could be paid up to the amount of last year's retained earnings. But, the company would have to go back and retroactively decrease a shareholder's basis. Dividend Reform, Confusion & Secrecy From Floyd Norris, NY Times 1-17: Companies will not file tax returns until many months after they pay the dividends. So some companies could declare in good faith that a dividend would be tax free, only to figure out months later that they were wrong. Companies declaring dividends now are not saying what their tax status would be under the new law. Company executives may know how much their companies actually pay in federal taxes, but they do not have to say. That information would be critical to investors if the Bush plan were in effect. From Floyd Norris, NY Times 1-22: Under a revision in the Bush dividend proposal issued 1-21-03, dividends paid in 2004 would be based on profits earned in 2002, rather than 2003. That would mean that when each dividend was declared in 2004, the company would be able to say what the tax status of it was. One new feature of the revised proposal would allow a company that has previously paid deemed dividends to go back and effectively reclaim them by paying dividends that would be tax free. This change makes Dividend reform much more attractive to some companies, particularly cyclical ones with variable earnings, than it had appeared to be. How Stocks are Held Richard Stevenson, NY Times 1-7-2003 Of the 84 million individual shareholders in 1998, the most recent year for which data is available, almost 60% held stocks in taxable accounts. [From Jim Jubak, MSN Money 1-9: A little more than 42% of all shares are held in tax-exempt or tax-deferred pension and retirement accounts.] [From Ian McDonald, WSJ 1-8: The benefits of a dividend tax break would trickle down to most investors via mutual funds, owned by more than 93 million Americans or about half of all U.S. (101 million) households. At the end of 2001 nearly 66% of U.S. investors' stock- and hybrid-fund assets were held in tax-deferred retirement accounts like 401(k)s and IRAs, according to the latest data from ICI.] [Sorry for too much information.]
Who Pays Dividend Taxes? Alex Frangos, WSJ 1-12-2003 Of 129 million tax returns filed, 34 million reported dividend income in 2000. Who Gets Dividends? Ianthe Dugan, WSJ 1-24-2003 In 2000, the latest IRS data show that dividends delivered a record $147 billion to shareholders, nearly twice what they paid in 1990. About 26% of taxpayers collected dividends in 2000, while most of those declaring income of more than $500,000 got dividends. Less than 1% of taxpayers reported income of more than $1 million, and they took in 21% of the dividends, making dividends "a very important source of income to a very small rarified group of households," says Mark Zandi, chief economist at Economy.com. Who Gets the Tax Savings? James Schembari, NY Times 1-24-2003 A study on the president's plan by the Tax Policy Center in Washington, a moderate-to-liberal research organization run by the Brookings Institution and the Urban Institute, says that the tax savings would be more like $123 a year for the average investor under age 65. The study shows that those under 65 making $40,000 to $50,000 a year would save an average of $31, with that increasing to $306 for those making $100,000 to $200,000. The biggest beneficiaries would be people making more than $1 million. Their annual tax savings would be about $22,700.
From the Spin Doctors Richard Stevenson, NY Times 1-7-2003 Ari Fleischer, the White House spokesman, said today that there were 35 million people who received dividend income, including 10 million elderly people. [From Steve Liesman, WSJ 1-17: The president said that half of all dividends go to the elderly. What he didn't say was that data provided by the non-partisan Congressional Research Service shows only 21% of all the elderly receive dividends.] The Center on Budget and Policy Priorities, a liberal research group, cited an analysis of Federal Reserve data today showing that 85% of the value of stocks and bonds was held by the top 10% of the income spectrum in 1998, the latest year for which comprehensive data is available. Citing IRS data from 2000, the group said 22% of taxpayers with incomes under $100,000 reported any dividend income, while 72% of filers between $100,000 and $1 million and nearly all filers above $1 million reported dividend income. More on the Stimulus Package B Davis & G Ip, WSJ 1-8-2003 Brookings Institution economist William Gale estimates that an extra $670 billion in deficits over 10 years would raise interest rates 0.2 percentage point in the first year and 0.5 percentage point over the longer term. "Those effects aren't gigantic, but they're insidious," he says. Eliminating dividend taxes would cost $364 billion over 10 years. Some economists argue that the double taxation has given corporations an incentive to fund themselves by debt, emphasize growth and even manipulate the books, all in efforts to boost stock prices. All three factors played significant roles in the excesses of the late 1990s. Because capital gains were taxed less than dividends, companies preferred to buy back stock, which boosts EPS and, in theory, stock prices. But Fed Chairman Alan Greenspan noted in a speech last year that this led investors to focus inordinately on earnings, whose definition was ambiguous and vulnerable to manipulation, rather than dividends, whose value was "unambiguous." The fixation on earnings growth also encouraged companies to pour money into risky projects with dubious prospects. Finally, companies were encouraged to finance themselves with bonds and bank loans, because interest is tax-deductible, rather than by selling stock, which left many highly leveraged when the economy slumped. [From Jonathan Clements, WSJ 1-8: In effect, the (current) tax code is encouraging companies to load up on debt. That's not exactly a recipe for economic stability.] If Americans started buying stocks for the dividends - which can't be faked by accounting gimmickry - some of those pressures might be reduced. "By ending this investment penalty, we will strengthen investor confidence," the president said in presenting the stimulus package Tuesday. The White House estimates that the "jobs and growth package," if adopted by the Congress that Republicans now control, would add 0.4 percentage point to economic growth this year and a further 1.1 points next year. Private economists tend to concur, estimating the additional growth at between 0.2 and 0.8 percentage point a year. Taxpayers would see extra money in their paycheck as soon as the tax package becomes law because the Treasury would quickly adjust the amount of taxes withheld. Under the plan, the top rate, now 38.6%, would drop to 35%. Taxpayers now in the 35%, 30% and 27% brackets would have their rates reduced by two percentage points. In addition, the plan would move several million Americans from the 15% bracket into the 10% bracket now, rather than later in the decade. From Charles Jaffe, Boston Globe 1-9: The average married couple with one child and $40,000 in income would save $732/year, according to numbers provided by the White House. 'I don't think [the Bush tax plan] changes anything about how people invest or how they use their money,' says Richard Geist, who publishes the Strategic Investing newsletter and heads the Congress on Psychology in Investing. 'It's not going to motivate people to come off the sidelines and invest in the stock market. It's not going to make them feel as if they got some big windfall that they need to go out and spend because you don't get too many times with extra, unanticipated money.'] From Tom Herman, WSJ 1-9: Says Anne Schetter-Clark of TurboTax: A married couple filing jointly with two children has $129,000 in wages. That includes $4,000 of dividends. The couple itemizes deductions. Tax cut: $3,992. Side-Effects of Reform Ian McDonald, WSJ 1-8-2003 Though the new proposal might not necessarily lead to electrifying results for Main Street investors if or when it's enacted, it will likely give the battered fund business a jolt. Here's a look at four developments we might reasonably expect: Higher returns and cash flows for income-oriented equity funds. The double advantage of real earnings and the prospect of tax-free dividends have boosted dividend-paying shares of late and might keep doing the same for these funds that focus on them. A flurry of new stock-funds with dividend focuses. Fund marketers will have a stock-fund story to tell for the first time in three years. Just as new Germany funds launched when the Berlin Wall fell and the tech boom presaged a geyser of new tech and Net funds, this proposal should lead many marketers to slap together income-oriented funds. More "growth" companies paying dividends and more growth managers owning income-paying stocks. 'Oracle has said they would do it [if the proposal passes],' says Bill Schaff, manager of the $26 million Berger Information Technology Fund. 'Cisco's management has said they wouldn't do it with double-taxation of dividends, but that might change now. It only makes sense to pay it out if you have a lot of cash.' Tough times for the municipal-bond market? If dividends are tax-free, a high-yielding stock might be an intriguing alternative for investors who've typically held municipal bonds to pocket modest, but tax-free income. That's particularly true now, with interest rates at 40-year lows. Do Reform the Right Way Jonathan Clements, WSJ 1-8-2003 Ending the double taxation of dividends by elimination of the tax on stock holders will not cure one current ill. Companies will still have a huge incentive to finance growth by borrowing, so that they can get the tax deduction on the interest, and they still won't have any tax incentive to pay dividends. Taxable investors may want fatter dividends. But there are a lot of shareholders who won't give a hoot. As of year-end 2001, 64% of households' stock-fund assets were held in variable annuities, individual retirement accounts and other tax-sheltered accounts, according to Washington's Investment Company Institute. These folks won't have any immediate tax incentive to demand higher dividends. The bottom line: If Washington really wants to encourage companies to make wiser decisions about how to finance themselves and what to do with earnings, it should give the tax break to companies, not individuals. That way, you incentivize 100% of corporations, rather than the minority of taxable investors. Ending the double taxation of dividends is a wonderful idea. But if we're going to do it, for goodness sake, let's do it properly. Related articles: Dividend History - Ken Brown, WSJ, Dividends vs Capital Gains - Scott Burns, Dallas Morning News
But that's not even close to the truth. In fact, there have been quite a few holiday shopping seasons since 1970 that were worse. Real retail sales - adjusted, as they should be, for changes in prices of the goods sold - have actually fallen several times since 1970. How can we have gotten it so wrong? Much of the problem arises because retailers report sales in nominal terms, not taking account of the typical inflation that occurs every year. Lately, it has become even more confusing, because prices of many retail products have been falling sharply. So, because of deflation in retail goods, the slight gain in nominal sales for 2002 - indeed low by historical standards - masks a significantly greater increase. In the past, when inflation was rampant, consumers could spend a lot more than they did in the previous year but go home with less-valuable stuff. The focus in retailing on same-store sales - those for stores open at least a year - also paints a distorted picture. Same-store sales may be useful for evaluating the success of one chain versus another, but they miss the just as important growth in consumption that occurs at new outlets.
1. Deflation worries subside as actual inflation emerges. The recent spike in commodity prices, the sharp devaluation in the dollar and rock-bottom interest rates in Japan, the U.S. and Western Europe, are together laying the groundwork for a surprising surge in inflation. Moreover, the Bush Administration, desperate to pump the economy ahead of the 2004 election, will do all it can to spend, spend, spend. As few fear the risk of overdoing all this stimulus action, overshooting to the inflation side is becoming a distinct possibility. The return of inflation will mean higher interest rates, crimping the real-estate market. Treasurys, the place of refuge for so many investors these past three years, will become a deadly locale as prices plummet and yields rise. The consumer price index will hit 5% by year end. 2. The stock market suffers its fourth down year. The year will start off strong, with stocks moving sharply higher after the swift conclusion of war in Iraq. But investors will have to start holding their breath shortly thereafter as more international crises emerge. The past year has shown how war - the war on terror and the possible war with Iraq - can temper investor enthusiasm even in the face of a growing economy. In addition, rising inflation concerns will erode corporate profits, helping to send major averages to narrow losses for the year. 3. Oil prices rise but then end the year sharply lower. OPEC will agree to pump more oil and non-OPEC nations will go along with them. Despite the growth in the U.S. economy, oil prices will end the year at $18. 4. The American Stock Exchange closes. The once-lively exchange, known for years as The Curb, will fail to attract a buyer. Instead, its current owner, the Nasdaq, will sell off its businesses at auction to various exchanges. This closure will deal one more blow to the ailing New York City economy, as the city's financial picture continues to worsen. 5. A new Medicare plan, with a new prescription drug benefit, gets passed. The cost of the drug program, which will subsidize prescription-drug purchases for senior citizens, will increase the deficit dramatically, adding to the pressure on long-term interest rates. 6. The consumer gets downright frugal. Burdened with debt and concerned about the future, consumers will step back dramatically from big-ticket spending. The productivity-driven, jobless recovery leaves the unemployment rate above 6%. Even another round of zero-percent financing will fail to attract car buyers. Daimler-Chrysler will sells its U.S. operations to General Motors. Ford Motor will continue to struggle and be at the brink of bankruptcy by year end. [I think Kansas should have included 'by the third quarter, there are finally no more mortgages left to refinance, further crippling consumer spending.'] 7. Alan Greenspan resigns as Fed Chief. Declaring victory over the recession and getting out before the inflationary debate can heat up, Sir Alan will decide to concentrate on his tennis game. Financial markets will barely react to the news, having already lost faith in Mr. Greenspan during the last three hard years. President Bush will shock his supporters by naming ex-Clinton man Robert Rubin, now at Citigroup, as the new Fed chief. Bonds rally. Byron Wien 'Ten Surprises for 2003' Lingling Wei WSJ 1-7-2003 Byron Wien, senior investment strategist at Morgan Stanley, predicts that U.S. stocks will defy "the return to-the-mean, modest-return" pundits and likely surge by more than 25% during the first half of the year, among other his guesses for what surprises lie ahead in 2003. This year, he expects a stronger dollar, strong U.S. gross domestic product growth, no major war in the Middle East and a continuation of the housing bubble. In the report Monday entitled "The 10 Surprises of 2003," Mr. Wien writes that the dollar will draw support from stronger-than-expected earnings growth this year and a recognition of the U.S.'s economic, political and military strength. Mr. Wien envisions a scenario in which "foreign capital inflows surge, and individual investors start to buy again." On the economy, Mr. Wien expects to see real economic growth of 4% in 2003 as "consumers hold their own and capital spending rebounds." He also expects inflation to move higher and the Federal Reserve to increase interest rates by 1 percentage point in the second half of the year. [An exerpt from the Wein 'surprise' memo - Washington Post 1-19:] 'The United States equity market defies the return-to-the-mean, modest-return pundits and surges more than 25% during the first half of the year [2003]. A Teflon-like dollar draws support from stronger-than-expected earnings growth and a recognition of America's economic, political, and military strength. Foreign capital inflows surge and individual investors start to buy again.' How Fund Categories Fared Barrons 1-6-2003
But "absent new shocks" is a major caveat these days, and forecasters are more guarded than usual. For example, Macroeconomic Advisers cites six items that would have to go "right" for growth to approach a 4% annual rate late this year, as it predicts. The firm's list: The stock market must trend higher, consumer spending must remain moderately strong, business confidence will have to improve, hiring will need to accelerate, business capital spending must turn up, and war with Iraq must either be avoided or resolved relatively quickly with minimal damage to oil production and distribution facilities. All six requirements are inextricably linked, with the overarching uncertainty the possibility of war. That prospect is hurting consumer and business confidence because of the potential for a continued escalation of oil prices that could damage economies around the world. War, Oil & Confidence Macroeconomic Advisers has estimated the widely varying impacts of four Iraq scenarios, which it labels "no war," "benign," "intermediate" and "worse," though it cautions that "worse" is not the "worst" possible outcome. The economic impacts range from negligible to renewed recession, depending significantly on what happens to oil prices. In the "benign" scenario, oil prices rise briefly to the mid-$30 range and drop back into the low $20s per barrel late this year. Shifting war fears and the current strike of oil workers in Venezuela have caused prices to increase to about $25 in mid-November to $33 last week. In the "worse" scenario, oil production facilities in both Iraq and Saudi Arabia are badly damaged and oil hits $80 a barrel. In the latter case, the firm told its clients recently, stock prices would plummet and longer-term interest rates would shoot up. "Consumer confidence also weakens sharply. The cumulative result is a sharp and sudden weakening of the economy. Moreover, because other major countries also suffer the impact of falling stock prices and spiking oil prices, a global recession occurs," the firm said. The possibility of other terrorist attacks on the U.S. - which might be spawned by war with Iraq or occur independently - are also a serious worry. Inaction in the Face of Uncertainty In the face of such uncertainties, it is little wonder that many corporate executives, as well as economists, are being cautious to an extreme. Heads of manufacturing firms, in particular, are holding back on making commitments to beef up their inventories, hire new workers or increase their spending on new plants and equipment because they cannot predict with much confidence where the economy is headed. Once the war issue is resolved, most economists expect the U.S. economy to forge ahead - with or without additional stimulus - because many of the imbalances that caused the 2001 recession have been largely resolved. And both fiscal and monetary policies are in place to boost growth. Stimulative Enviroment is in Place Economist Robert DiClemente of Salomon Smith Barney said last month that the decline in business investment over the past two years was so great that even in the high-tech area "spending did not even keep up with the rate of obsolescence." Eventually, he said, the need for new equipment "suggests a sustained revival of capital spending growth, once businesses begin to look past current geopolitical risks." Meanwhile, the Federal Reserve has pegged its target for overnight interest rates at only 1.25%, the lowest level in a generation. Two other positive forces are expected to help the economy, low inflation and rapid growth of productivity. In the 12 months ended in November, the price index for personal consumption rose 1.8%, and excluding volatile food and energy prices, it was only 1.5%. [CPI was up 2.2% using Novemeber year-to-year comparisions] Workers' pay has been rising faster than the prices of what they buy. This has allowed them to continue to increase their spending. The 2001 federal tax cut also boosted take-home pay. Between Q3-01 and Q3-02, increases in consumer purchases accounted for four-fifths of the 3.3% rise in the inflation-adjusted GDP, rather than their normal two-thirds share. The Down-Side of Productivity That moderate economic growth was achieved with essentially no increase in jobs. Over the same four-quarter period, productivity at businesses other than farms rose an extraordinary 5.6%, which allowed firms to increase the compensation paid to their employees noticeably faster than inflation while lowering the firms' labor cost per unit of output by 2.2%. And that lowering of costs was past on to consumers in the form of lower prices. In the long run, productivity gains are the ultimate source of improvements in the nation's standard of living. In the short run, the gains reduce the demand for more workers, which was the key reason only a handful of the roughly 1.5 million payroll jobs lost during the 2001 slump have been regained. The relatively high level of unemployment has helped depress consumer confidence and raised questions about whether households will continue to increase their spending. Finally, there are two more negatives weighing on the economy. First, state and local government budgets are a disaster. This is a result of sharp drops in revenue due to the recession and the big drop in stock prices, which wiped out capital gains income. As a result, states are cutting back spending and, in a few cases, raising taxes, and that is sure to be a drag on growth. Second, this country is likely to grow this year about twice as fast as Europe, while Japan will be lucky if it grows at all, a number of economists predict. That means the U.S. trade deficit could also be a further drag on growth. A Normal Tendency to Grow Despite all the caveats, most forecasters expect 2003 to be a better year economically than the last one and 2004 to be better still. After all, the U.S. economy does have a lot going for it: extremely low interest rates, continuing fiscal stimulus, strong productivity growth, low inflation, very low business inventories - and perhaps above all, a striking tendency to grow under normal conditions.
Sharply reduced returns for bond funds. It was an exceptional year for bond funds in 2002, with interest rates reaching historic lows that pushed these funds to high performance. Rates could stand still for months. But when interest rates rise - which I suspect will be in the second half of 2003 - bond funds will suffer. Expense ratios rising. Fund companies have tried to hold the line on costs through much of the market downturn. After three years of dwindling profits due to the declining markets and greatly reduced inflows into funds, the firms will step up the fee increases in an attempt to maintain their profit margin. By the end of 2003, the average stock fund will have an expense ratio north of 1.5%, up more than 0.1 from 2002. Fund consolidation mania. There is no better way for a fund company to bury a miserable track record than to merge its stinkiest funds right out of existence. If the market turns in 2003, it provides the perfect opportunity for firms to profit. More freedom for fund managers. In recent years, fund firms frequently handcuffed managers by limiting them to a specific area of the market. Anxious to post decent numbers, some firms will ease restrictions on managers. Gimmick funds preying upon fear. In the bull market, tricky new funds focused on greed, investing in niche markets like the Internet. In the bear market, funds with insurance kickers and other costly ways to protect investors have gradually become more common. In 2003, they'll become a full-blown epidemic.
The authors of the research, Randolph Cohen and Joshua Coval of Harvard and Lubos Pastor of the Univ. of Chicago, use a basketball analogy to illustrate their reasoning. Imagine a 10-shot free-throw contest between two players, one who shoots with one hand and the other who shoots with both hands. Which player would you bet on if, at the halfway mark, both players had made all five of their shots? If you rate basketball players by their records, you have no preference. But what if you find that, across the league, two-handed shooters make a much higher percentage of their free throws? The intelligent bet would then be on the two-handed shooter, because luck probably played a larger role in the one-handed shooter's good record. In other words, technique matters. Yet current systems focus on results alone. They overlook a wealth of information that can give insight into managers' ability. The new system is superior in two ways to approaches that focus only on results. First, there is a higher degree of statistical confidence in its conclusions. Consider funds that have been around for less than five years - a group that, according to Lipper, now contains 55% of all United States diversified and sector equity funds. According to Professor Cohen, a focus on track records alone for such funds "can be quite misleading" because there is not enough data to have much confidence that winning managers have genuine ability or that losers were not just unlucky. The second advantage of the new system is its better ability to identify funds that will outperform the market. Had this system been used from April 1977 to December 2000, investors who followed it would have made as much as 1% more per year than they would have by relying on ratings systems that focus on track records alone. Unfortunately, the mathematics and data needed to replicate the professors' new system are beyond most individual investors' capabilities. Our best hope of taking advantage of this new research is that a major fund rating service will incorporate it.
Start with two portfolios of $100 each. Divide the first into $60 worth of stocks, $30 in bonds, and $10 cash. If you assume 7% annual gains for stocks, 4% for bonds, and 2% for cash, with compounding you'd have $174.63 after 10 years. In the second portfolio, play it safer by switching $10 from stocks to cash, putting $50 into stocks, $30 into bonds, and $20 into cash. With the same returns in each category, you'd end up with $167.14 with compounding. That's 4.3% less over 10 years - not so much to give up. In exchange, you'd have the peace of mind achieved by doubling your cash reserve. [What scares me about this example is that the 7-4-2 expectations are not unreasonably low. And it makes me seriously ponder buying Mills (see past REIT Updates) preferred's that are paying almost 9% - safety at a reasonable opportunity cost.]
Pessimists say that since succeeding generations are smaller, retiring boomers who try to sell their stocks and bonds won't find enough buyers, depressing or even crashing the financial markets. Paul Hewitt, director of the Global Aging Initiative at the Center for Strategic and International Studies in Washington, sees boomers increasing their savings in the next 10 years, a phenomenon that could be as problematic as a subsequent sell-off. A study by John Shoven, professor of economics at Stanford, estimated that after the majority of baby boomers have retired in 2024, US pension plans, which own a huge part of US stock, will have a net outflow for the first time ever. And a simulation by the International Monetary Fund showed that since investors are likely to switch from stocks to bonds as they age, stock prices and bond yields will be substantially lower when the baby boom generation retires. Shoven, however, doesn't believe there will be a drastic sell-off in the financial markets. Instead, companies will find ways to make stocks more attractive to the shrinking number of buyers by increasing dividends and stock buybacks. There are other reasons the impact might not be very severe. Sam Stovall, chief investment strategist at Standard & Poor's, sees boomers selling off their holdings gradually. 'Their biggest fear in life is outliving their money.' But even if there is no massive sell-off, the departure of the boomers from the work force will affect the financial markets, since the amount they invest will decline, Stovall says. The aging population will strain the Social Security system, which pays retirees from taxes it levies on workers. Similar retirement systems will face even greater challenges in Europe and Japan, where the baby bust has been much more marked and immigration is limited. Deficits in the pension plans may force countries to borrow heavily, raising interest rates around the world, according to the International Monetary Fund. The retirement of the baby boomers will be only one of many factors affecting markets in the coming years, but just in case it proves a major factor, investors may want to pay attention to a tip that many economists put forward: Invest in countries that have a young population.
For the entire year, there were 1,425 announcements of dividend increases, up from 1,326 in 2001. But that figure remains far below the peak of 3,211 set in 1978. The number of companies announcing dividend reductions or omissions last year declined 34.1%, to 135 from 205, after rising in the previous year. In 2002, the stocks of S&P 500 companies that paid dividends declined by an average of 18.4%, while the stocks of companies that did not pay dividends fell by an average of 30.3%, Mr. Kaufman said. The dividend yield - the dividend as a percentage of the price paid for the stocks in the index - was 1.83%, based on the value of the index at the end of last year. Even for an investor who bought at the index's low value in October, the yield was just 2.07%. By contrast, at the lows in 1974 and 1982 - two bear markets that have been compared to the one that may have ended last year - the yields were 5.77% and 6.62%, respectively. More Dividend Stats Shirley Lazo, Barrons 1-6 After declining for two years, the total dividends paid by stocks in the S&P 500 climbed 2.1% in 2002, S&P reported. The recent increase was still short of the 4.7% average hike from 1928 through 2002. S&P estimates operating earnings on the 500 advanced 20% in 2002. For 2002, 14 of the Dow industrials' industrials hiked their dividends last year - nearly half the list of 30. By Peter Miller [Barron's statistics manager] count, the Dow group distributed a total of $189.68, up 4.76% from 2001 as $181.07, for a yield of 2.27%. Among the 20 Dow Transportation stocks, three had dividend increases. The group paid out a total of $29.76, down 12.50% from the previous year. The collective yield: 1.29%. In surveying the 15 Dow utilities, Miller could find only three dividend boosts. Yielding 5.30%, the Utilities disbursed total dividends of $11.40, 6.71% below the previous year's $12.22 - hurt by TXU's dividend cut.
The indexes for employment (47.4), inventories (46.2) and order backlogs (46.5) remained below 50 last month, indicating a contraction in activity. Still, all of the component indexes were higher in December than in November. Bill Sharp, an economist at J.P. Morgan Chase, isn't sure whether the December data represent `a fundamental upturn in manufacturing activity, a one-month blip of year-end business spending or evidence of a structural change in the month of December,' which typically shows the biggest unadjusted decline of any month of the year. Even if the magnitude is overstated, the December rise is `significant,' he said. [Note: The Dow jumped over 300 pts on the good news from ISM.] More on ISM Alan Abelson, Barrons 1-6 Even a cursory parsing of the ISM report leaves you with the impression that something's out of whack. The chief thrust came from an explosion of new orders, and the stunning size of the gain -- a rousing 22% or so - is hard to square with almost every other piece of available data, whether from corporations, industry, government statistics or even readings of regional manufacturing activity. Goldman Sachs economist Ed Mc-Kelvey, while not questioning the significance of the change in direction indicated by the ISM Report, speculates that perhaps the magic of seasonal adjustment may have had something to do with the extraordinary strength in new orders. Our own hunch is that it's conceivable that defense orders ballooned as Washington geared up for war with Iraq. Or that orders got a fillip as the auto makers geared up to do war with each other.
Just the Facts Every Dollar of Savings Does Double Duty Saving makes meeting your retirement goals easier because every dollar not spent on consumption is a dollar that doesn't have to be replaced at retirement. Here's the math: If you spent 100% of your income and saved nothing, your standard of living would decline in retirement unless you replaced 100% of your income. If you save 10% of your income, you need to replace only 90% of your income at retirement. If you save 20% of your income, you need to replace only 80% of your income at retirement. Basically, every dollar of savings does double duty. (Scott Burns, Dallas Morning News 1-12) Retirement Savings Math The employment tax takes 7.65% off the top of your income. Social Security will replace at least 25% (if single, 37.5% if married) of pre-retirement earnings. Paying off the mortgage by retirement should mean another 20% of income that will not need to be replaced. Minimal participation in a typical 401(k) plan Ä enough to capture the employer match Ä would have you saving 6% of gross income. As a result, if single, you would need to save enough to replace 41.35% of your income (100 - 7.65 - 25 - 20 - 6). This assumes that 100% of your Social Security benefit will be taxable, which is not the case now. And 25 years of 401(k) participation can get you close to that 41.35% replacement. (Scott Burns, Dallas Morning News 1-12) Dollar Update The value of the U.S. dollar is down about 11% since its peak early last year when compared with a weighted index of foreign currencies compiled by J.P. Morgan, reflecting continued worries about the U.S. economy and the possibility of war with Iraq. That is the steepest prolonged decline in eight years. For foreign investors, the U.S. market was a double loser last year: Not only did their stocks decline, but their shares were worth less when translated back into yen or euros. In Q3-02, foreigners invested a net total of $7.4 billion in the U.S. stock market, down from about $66 billion in Q1-00, and some economists expect to see that foreign investment had a net decline in Q4. (Patrick Barta and Michelle Higgins, WSJ 1-9) Global Debt Update According to capital-markets research firm Dealogic, issuance of all types of securitized debt climbed 41% last year. Mortgage-backed debt issuance globally rose 64% in 2002 to $819 billion, accounting for 21% of global debt volume, compared with 13% in 2001. Meanwhile, global issuance of investment-grade and high-yield debt fell 23% and 20%, respectively. American consumers were the beneficiaries of nearly half of all the debt proceeds raised globally in 2002. During 2002, German companies accounted for 11% of global debt issues, while U.K. and Japanese companies each claimed 3% of the total. (Christine Richard, Dow Jones Newswires 1-5) Investor Sentiment The American Assn. of Individual Investors regularly surveys members online about their attitude toward markets and their portfolio allocation. In the latest survey, stock bears outnumber bulls 37.8% to 32.4% (the rest are neutral). Asked how their money was allocated among stocks, bonds and cash, respondents to the AAII's December survey said they had 37% in cash, on average. That was down just slightly from 39% in October. Overall, cash levels reported by AAII members in recent months were the highest since late 1990 - which marked the bottom of that year's bear market. (Tom Petruno, LA Times 1-5) Related: Investor & Advisor Sentiment. 03 IT Spending Forecast A survey of CIOs at 100 large U.S. corporations suggests that overall spending on IT in 2003 will decrease by one percent compared to last year. An earlier version of the survey, conducted by Goldman Sachs, had forecast a 2% to 3% increase, and the report released with the newer survey calls the shift "an unprecedented drop." The report cites efforts to control corporate expenditures and lack of demand as reasons for the decline. The number of respondents who said their firms would postpone increased IT spending until 2004 or later rose from 26 to 43. (CNET 1-2) Rational Optimism U.S. economic growth has been positive for five quarters, through December. Profits of the big-name companies in the Standard & Poor's 500 index also have been rebounding, on the whole, since the second quarter of last year, after five straight quarterly declines, according to data tracker Thomson First Call. "I'm in the camp that says this is mostly a market problem," said Scott Grannis, economist at Western Asset Management. "There is no looming economic disaster. We're just kind of poking along." James Glassman, economist at J.P. Morgan Securities, argues that "every positive thing the economy had going for it in the 1990s is still in place," including strong gains in worker productivity, low inflation and rising personal income. (Tom Petruno, LA Times 1-1) Quick Facts, Stats & Opinions The New York Stock Exchange Composite Index was reconfigured last week. More than 700 issues that are not common stocks, such as closed-end funds and preferred shares, were eliminated. The index was recalibrated at the starting level of 5000 as of Thursday, from around 485. (Michael Santoli, Barrons 1-13) I have read that 40% of U.S. homeowners have less than 10% equity in their homes. (Marc Faber, Managing director, Marc Faber Ltd, Barrons 1-13) At the end of November the Vanguard 500 Index Fund had 24% of its assets invested in its ten largest holdings, but at the same time the average U.S. stock fund had more than 35% of its assets sunk into its ten biggest positions, according to Morningstar. (Ian McDonald, WSJ 1-9) About 60% of the almost 7,000 stocks tracked by the CNBC on MSN Money Stock Screener don't pay any dividends at all. (Jim Jubak, MSN Money 1-9) When perceived risk is high, I would argue actual risk is low. It is the high perceived risk right now that has changed the environment in a way that should make things better. It has caused the business sector to contract and investors to get overly bearish. If there is any change toward optimism, there is a lot of room for stocks to move higher. (James Paulsen, chief investment officer at Wells Capital Management, NY Times 1-5) After a nifty rebound in October and early November, stocks have recently begun to trace a more irregular path, with several sharp, but short, upward moves followed by equally abrupt selloffs, as investors balance the potential for a healthy economic and earnings rebound in 2003 with the reality of a very sluggish backdrop currently. The uncertainty globally only adds to investor uneasiness. This is clearly not a setting for the faint of heart, although we note that market upturns always begin in such environments. (Selection & Opinion, Value Line Investment Survey via Washington Post 1-5) Once liquidity returns to the markets the economy [and] high-yield bonds will rebound sharply, just as they did after the junk-bond debacle of the late 1980s and early 1990s. (Bob Carlson's Retirement Watch via Washington Post 1-5) Thomas McIntyre of Dessauer & McIntyre Asset Management noted that interest rates don't tend to bottom out quickly, but that the low point can often linger for a year or more. ''So just because rates have reached what we think is a low doesn't mean they have to go up again in a hurry.'' (Charles Jaffe, Boston Globe 1-5) The SEC wants to make sure that part of the $1.4 billion settlement announced last month with 10 Wall Street firms will be used to fund programs and research to help investors get the education they need to make smart investment choices. So $85 million of the settlement has been earmarked for investor education. (Michelle Singletary, Washington Post 1-5) Companies are paying less and less in taxes each year, making the 35% corporate tax rate a fiction. Effective corporate tax rates are, at many highly profitable companies, far below what individuals pay. Consider General Electric. Its effective tax rate has tumbled to 20.5% in Q3-02, from 31.2% in 1999. Bristol-Myers Squibb's effective tax rate on continuing operations fell to 15.4% from 25.2% in 2000. And Procter & Gamble's effective tax rate dropped to 31.8% in 2001 from 36.7% in 2000. (Gretchen Moregenson NY Times 1-5) Today nearly 60% of American women color their hair regularly, up from 40% in 1976, according to L'Oreal. But by dousing their hair with chemicals, drying it with hot air and ironing it straight, women have set off a dry-hair epidemic. Symptoms include split ends, ragged hair cuticles and the "frizzies." Now there is a quiet rebellion against daily shampooing. The idea isn't to create the look of unkempt dirty hair, but instead to create healthier, more manageable hair. Though daily shampooing is commonplace today, in the 1950s, the majority of American women still shampooed only about once or twice a week. (Sally Beatty, WSJ 1-3) According to the latest available IRS tally, 62% of the $126.88 billion in dividends paid to individuals in 1999 went to the 10% of taxpayers whose incomes exceeded $100,000. (David Wessel, WSJ 1-2) About half of the individual investors polled in December by the Gallup Organization and UBS said they thought it was a good time to invest in the markets. About 69% said they expected the stock market to be higher in a year. Both responses reflected greater consumer confidence than the same poll showed in November. (Jennifer Bayot, NY Times 1-2) Tech Tips & News E-Mail Tip Outlook Express has included an Inbox Assistant through a number of versions. The Outlook Express 6 Inbox Assistant offers options such as deleting messages, autoreply, and forwarding messages to another address. To check out the new options, choose Toos|Message Rules|Mail. [You can switch the color of font, from a given sender, in your inbox. Check out the options.] (Emazing 1-3) Home Page Previous Factoid Top Sites
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