Clients needed grit and perseverance last year as they whipsawed through a pandemic, a market crash, a record-setting rebound and massive government stimulus.
This year may require that they summon up the same qualities to face a much-altered investing environment.
Investors are gradually emerging from a COVID-19 world into what could be an optimistic time for company earnings and government support, as many billions of dollars are put back to work. They’re also facing stock market highs, bond-yield lows and tax reform potentially on the horizon.
Even in a market environment studded with superlatives, clients can be forgiven for feeling skittish. But they can still rely on foundational financial wisdom to guide them through what undoubtedly will remain uncharted, and probably choppy, waters. In this respect, they should keep a long-term outlook to help maintain and grow their wealth through the highs and lows to come.
A stable large picture supports this view. Central banks have worked together to
At the same time, there are opportunities to take advantage of the market and tax policy uncertainty as vaccines ease pandemic fears, industries reopen, optimism rises and consumers spend more money. Consumers may look for prudent and tax-efficient openings to dive back into the markets, particularly in stocks and real estate.
Chutes and ladders
Consumer optimism is growing, in our opinion, as many start to think and plan beyond COVID-19. Fortifying this positive outlook are increasing vaccination rates, supportive monetary and fiscal policy, a one-party government that can drive monetary and fiscal changes, rock-bottom interest rates and heavy consumer savings across all income levels.
There are also areas of concern. The coronavirus pandemic remains a threat to economy and health; the stimulus that’s propping up the economy is being funded by mountainous levels of government debt; stubbornly high unemployment lingers amid numerous job vacancies; and equity and some private market valuations are reaching record highs as fixed-income market yields hover above all-time lows.
Yet despite all this, clients are putting money back to work. During the sell-off between February and April 2020, investors pulled
Inflation eats into returns
Investors have been asking whether to change long-held investment strategies in an environment of barrel-scraping interest rates, which could hover near
Inflation may have a negative effect on traditional investing strategies that lean heavily on bond returns. The influx of printed money could bring an accompanying rise in asset prices. The bond market typically reacts to these negative real rates.
Thus, receiving a 1% return in a bond when the inflation rate is 2% means a real return of negative 1% for the year. Without yield-curve control, investors who recognize an economy is running hotter may start demanding higher returns. For now, stocks and real estate investments typically perform well in periods with low interest rates, as consumers seeking yield pile into assets.
The case for stocks
Now’s the time for clients to remember to focus on the long term. Typically, those who stay invested — and don’t chase fads that mostly leave them buying high and selling low — see, on average,
As investors consider equity exposure that’s aligned with their goals, they should bear in mind that as the economy reopens, the post-pandemic recovery could likely boost company earnings — even beleaguered sectors like health care and hospitality may do well. Companies are operating more efficiently, which should also help their earnings. Many may focus on controlling expenses, especially around hiring. Stronger earnings often create a virtuous cycle of optimism among consumers and higher asset prices. Looking forward, consumers might anticipate strong years for most industries and companies.
Another factor supporting equities, in our opinion, is that consumers looking to put billions of dollars back to work over the coming weeks and months may likely gravitate to assets such as stocks that are showing a strong potential to generate solid returns. As they reinvest in equities, they could boost stock valuations further.
To create a strong portfolio, clients should maintain a goals-oriented approach rather than an asset-class approach that simply invests in equities for growth and bonds for yield. Instead, they should focus on broader growth, income and diversification goals with low-cost and tax-efficient strategies.
Following trends rarely works to clients’ advantage. As they invest for the future, explain how investments and taxes coexist, and how higher tax burdens typically accompany those lucrative short-term investments.
Murky tax forecast
While the Biden administration mulls multiple changes to the tax code, individuals may find it difficult to plan and position themselves for success. Among other changes, the administration is proposing higher-top capital gains rates for taxpayers earning more than $1 million, as well as higher estate tax rates and lower estate tax exemptions.
Here, it’s important for clients to understand how potential changes may affect them specifically while not overreacting to policy changes that may never see the light of day. Advisors and clients can prepare a road map for potential new tax law changes, but it’s likely the finalized version of the tax plan may differ from the one initially introduced in the news.
With this in mind, staying agile is key. Clients may want the option to roll back their proactive strategies in the event of a change to the proposed tax plan.
Investing in real estate could bring tax savings and help diversify consumers’ portfolios. Current tax benefits include Section 1031 tax deferred exchanges; tax depreciation and favorable tax rates upon sale; and selling a home and paying no capital gains tax.
In addition to real estate, these strategies can help generate tax savings:
- Charitable contributions
- Taxable gifts to heirs
- Opportunity Zones
- Long term care insurance
- Funding a retirement account
- Buying equipment
- Purchasing a business
Today, cost controls may drive tax planning. Cost segregation studies help allocate the purchase price of a group of assets to create more deductions; fixed asset studies look backward to see if more deductions could have been taken in prior years; and net operating loss carrybacks can transform current tax losses into tax refunds.
Alongside market uncertainty, the new administration’s potential policy changes present compelling wealth planning opportunities for thoughtful, forward-looking investors within the tax and wealth management spaces. They should anticipate upcoming legislation to reshape estate and tax planning.
Consumers and other investors are gradually emerging from Covid-19 into what could be an optimistic time for company earnings and government support with many billions of dollars to put back to work. They’re also facing stock market highs, bond yield lows and tax reform potentially on the horizon.
Consumers should review their financial plans carefully to affirm they still maintain a long-term perspective and adequate levels of risk management for reaching their goals.
