Will Bernanke Clear up Communication?

Tomorrow, Kansas City barbeque will be taking a back seat as Federal Reserve Chairman Ben Bernanke, or Big Ben as I like to call him, will be delivering a closely watched speech at the Kansas City Fed’s annual Jackson Hole Symposium.  This could likely be the most important speech he has given.

Here’s the skinny.   Each year since 1978 the Federal Reserve Bank of Kansas City has sponsored a symposium on important economic issues facing the U.S. and world economies.  The cast of characters is pretty spectacular –prominent central bankers, academics, finance ministers and other financial market experts participate.

*Symposium (sym-poh-zee-uhm) – a meeting or conference for the discussion of some subject, esp a meeting at which several speakers talk on or discuss a topic before an audience.

The Theme this year is, “Macroeconomic Challenges: The Decade Ahead”

It is no surprise the economy is moving about as fast as a snail.  While GDP (Gross Domestic Product) shows we are not in a recession, you sure wouldn’t know it by looking at almost everything else around you.  Jobs are on life support.  Housing is barely breathing.  Recent economic data has been pretty disappointing.

And like with your household budget, the government puts out a budget.  Their 2010 forecast – which lays out how they see the economy growing –  was pretty robust. Jobs are nowhere near their forecast, economy is moving slower than forecasted, and tax receipts are less due to the lack of folks employed. We are running enormous deficits.  If things slow down it more, look for that deficit to be even bigger in the future.

The Fed has been highly criticized for lacking leadership and direction. Their communication has stunk out loud. Highly respected business leaders such as Ivan Seidenberg, Chairman and CEO, Verizon and Jim Tisch, CEO Loews have expressed concern due to the uncertainty business leaders face.

Bernanke has said very little in recent months about monetary policy, opening the door for hawkish rhetoric from some regional Fed presidents.  And they are all over the board when it comes to inflation vs deflation.

Big Ben sure could clear some things up.

401(k) Provides Relief for Some

Could there be a silver lining? On the heels of an awful jobs report last week and a dismal housing market index, comes more troubling news. A record number of American’s are tapping into their 401K these days for hardship. In fact, hardship withdrawals from 401(k) plans hit their highest level in 10 years during the second quarter.

Much of this is tied to the economic situation. It really shouldn’t come as a surprise, with the current level of unemployment. In addition, the current housing mess is putting severe financial stress on folks. The latest figures show that 21% of mortgages are underwater.

Many have exhausted their savings and are now tapping into these funds to provide some relief – to put a roof over their heads and pay other critical living expenses.

Some analyst have suggested that some of these hardship dollars are put to other use – such as paying kids college or possibly down payment funds to purchase a home and take advantage of the home buyer tax credit earlier this year.

A hardship withdrawal is subject to a 10% penalty if you are age 59 ½ or younger. You can postpone paying at time of withdrawal…but don’t be surprised when you have to plop it on your tax return…and on your return, the line item is after you have calculated the amount you owe or amount of refund.  It can bite you worse than a nasty mosquito on a hot summer night.

Where is the potential silver lining, you ask? Trends show us that at the bottom of the market…before a recovery… is when people pull most money out. Recently GDP has revealed that we are no longer in a recession and many politicians and some economic analyst will emphatically say we are in recovery mode – however tell that to all the economic reports, because they didn’t get the memo.

Times are tough, no doubt. If you are one of the many people that are considering pulling your 401(k) funds out, be sure to visit with your financial planner and CPA. It is important to understand the short term tax implications as well as long term implications for your retirement.

Doing the Math on Jobs

It’s no secret that the Job market is struggling.  In fact, it is down right UGLY. Numbers are tossed around every week, but what we hear in the media could be a bit misleading.

We all know that without Jobs it is going to take a miracle for the economy to recover.  Why is that?  The short answer is this – without Jobs, people don’t spend, without spending, merchants don’t sell, inventory levels swell, manufacturing slows, company profits dwindle, people get laid off…and the cycle continues.

Each week we get a read on jobs.  First up to bat on Wednesdays is the ADP report.  They give us a forecast of what the private sector might look like.  I say “might” because their batting record isn’t so hot.  Then, next up to the plate is Initial Claims and Continuing Claims on Thursday.  And the big enchilada comes once a month – the first Friday – THE all important Jobs report.

Let’s break this down and keep it simple:

  • Initial Claims – (aka New Claims) people filing for unemployment for their very first time
  • Continuing Claims – people that are unemployed and still looking for work

Here is what unemployed folks can anticipate:

Unemployment benefits are 26 weeks

Then there are the numbers you don’t hear about – –

Extended Benefits – an additional 13 to 20 weeks, based on the state unemployment rate

Emergency Benefits –

Tier 1 – 20 weeks

Tier 2 – 14 weeks

Tier 3 – 13 weeks where total UE is 6% or higher

Tier 4 – 6 weeks where total UE is 8.5% or higher

And now an additional tier (Tier 5) has been proposed by Senator Debbie Stabenow (D) for what is termed the “99ers” (people who have exhausted all 99 weeks of unemployement) .  If they live in a state with 7.5% unemployment or higher, they would get a proposed additional 20 weeks.

Last week we added another 484,000 people who signed up for the first time to receive their unemployment benefits.  Today, it was another 500,000 people.  These are just awful readings which shows us that the “recovery” is still sucking wind.

Continuing Jobless Claims remain at 4.5 million, which does not include “discouraged workers” and in addition, many folks saw their benefits expire.   Look for these folks to eventually roll over to the Emergency Unemployment Compensation benefit category.

If we look to all the folks unemployed…we are hovering near 17% unemployment.

Doing the Math –

Naturally, we all want to see this improve.  The administration has thrown around a number of 6% unemployment as a 5 year target.  Our budgets are based on this 6% figure.  But how do we get to a 6% target for unemployment from these lofty levels?  Great question.

First – we need to account for population growth.  Births per women average 2.1%.  And don’t forget immigrants – those folks need to work also.  For population growth alone, the U.S. needs to add about 125,000 jobs per month.

Second – we are close to 10% unemployment (and this does not include the discouraged workers and those no longer receiving benefits.  So let’s do this math using the 10% figure.

There are 150 million people in the labor force.

That means 15 million unemployed (using 10% as our factor).

The administration says 6% is their target, or 9 million people.  Which means we need jobs for the difference ( 15M – 9M = 6 million jobs).

To create 6 Million jobs for the currently unemployed over 5 years (60 months) = 100,000 jobs per month each month for 5 years.

Add this 100,000 to the 125,000 we need for population growth and we are at a whopping 225,000 new jobs per month for every month over the next five years.

We have only done that for a mere 12 month span once in the history of our country…which was 2006.  To accomplish this month after month for 60 months seems like pie in the sky.

As I mentioned before, there is a link between Payroll Taxes and Jobs.  That could help.  Bottom line is this – to get the economy going…we must put people back to work.

Show Me The Money

Stimulus. Health care reform. Financial reform. Entitlement programs. These programs all cost money and America is racking up trillions in debt to pay for them.

You may be wondering – how does America rack up debt? They issue Treasuries. And lately, they have been auctioning tons of this paper at an alarming pace, in my opinion.

Here is how it works…the government borrows money by issuing Treasuries. Investors purchase this debt and receive a fixed rate of return. Think of the government as a borrower and the investors as the banker. This borrowing (incurring debt) provides the government operating capital.

The government’s borrowing has mostly been financed thru the auctions of short term treasuries… 1, 3, 5, and 7 year notes. This is very much like a homeowner taking out an ARM (adjustable rate mortgage) on your home instead of a fixed rate mortgage. Don’t get me wrong – oftentimes an ARM is the right instrument, it just depends on the situation.

Why didn’t the government go for the longer term instruments? Well…higher rates didn’t look so good on the books. So they opted for the short term picture instead…which offers a bit more attractive rates than longer term. However, here is the catch. They can’t pay the debt back when it matures. And what happens when you can’t pay off your loan? You must refinance. So as these shorter term instruments begin to mature, the government will be forced to “refinance” them, and at higher rates. Why?  Because rates will begin to move higher over time.

As rates move higher, the cost of borrowing becomes more expensive, and the hole gets bigger. A large part of this debt – currently 40% – is in the form of 1 year Treasuries .  In the very near term, the U.S. will be looking to refinance this.  Digging out of this mountain of trillions is going to be even harder as rates move higher. See for yourself the US Debt clock – and see your portion. Our country could have chosen a wiser path.

Currently the U.S. spends $1.42 for every $1.00 she takes in revenue. What would happen if you operated your household budget this way?

Homeownership Builds Wealth

Home. Just the word usually conjures up mental images, smells, sounds in our minds eye. Home is where the heart is. Home is where we make memories. Owning a home… that’s the American Dream.

While it may be the American Dream, don’t overlook the benefits that come with home-sweet-home. Let’s take a peek…

1. Real Estate is a great long term investment. Real Estate – just like interest rates – move in cycles. It is important to keep in mind it is a long term investment and a hedge against inflation. Home appreciation has averaged 6% in the 50 year period from 1977 to 2007. And since the bubble burst in 2007, the past 50 years from 1979 to 2009 the average is 4.51%. What does the math look like on this? If you bought a home today for $300,000…the same home appreciating at 4.51% for 30 years would be worth – $1,126,825!

2. Home prices are currently at a discount. It’s like getting the price roll back at Walmart. Homes are more affordable now than at any other point in time since 1970 according to the National Association of Realtors’ housing affordability index.

3. Rates are the lowest in the history of mortgage ratesdid you hear that? Mortgage terms affect your monthly payments. Check out this historical chart.

4. There is plenty of inventory. In most places it is taking many months to sell a home, creating loads of inventory…both new homes and existing homes. This gives you more choices than before.

5. It’s typically cheaper than renting. Renting deprives you of the tax benefits, which in can help in many households. Mortgage interest is fully deductible on your tax return in most cases. In addition, real estate taxes for both a first home and a vacation/2nd home are fully deductible.

6. Homeownership builds wealth in two ways – through the forced savings of paying down a mortgage and thru appreciation – (the rise in the home value over time). But don’t take my word for it – According to VIP Forum, Federal Reserve Board – the average net worth of homeowners vs renters is much greater. Its Survey of Consumer Finances consistently documents the gap between the wealth of homeowners versus renters. Take a look:

Great long term investment. Prices are at a discount. Rates are the lowest in my lifetime. Plenty of choices in inventory. Tax benefits. Build wealth. Seems like a no-brainer to me.

Where Are Rates Headed?

Interest rates have been dancing around a ceiling of resistance for about 5 days now. This ceiling marks the high water mark for mortgage back security pricing…translation – lowest rates in my entire life. These rates were last seen in the late 50’s.

I’m not sure that anyone expected rates to remain low – and more especially move even lower – after the Fed ended their MBS purchase program. But a few unexpected events around the world impacted us, thus impacting (positively) home loan rates.

Taking a look at the market and where rates currently dance, folks might be wondering if they will continue to improve. It is important to keep in mind that our present environment is a gift – with a big bow attached.

Here are a few things that would likely prevent rates from continuing to move lower:

  • Sovereign debt in Europe
  • Moody & Fitch warning of a possible down grade of the U.S. Triple A rating
  • Inflation, not present now, but could be a big threat once it begins to manifest
  • Fed, when they remove the “extended period” language
  • Fed – when they begin to sell their MBS

Any one of these would trigger a sell-off in the bond market putting pressure on bond pricing. Those “dancing” bonds will be falling fast and rates will rise.

The Fed meets next week. It will be interesting to hear what they have to say. In the meantime remember the proverb, “the best time to plant a tree is 20 years ago, the second best time is now.”



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