Not everybody loves meetings and even fewer enjoy reading the minutes, but investors make an exception with the Federal Reserve. This week the Fed published the minutes from its August 1 meeting. While no changes were made to interest rates, the minutes did provide insight to how the Fed sees the U.S. economy.
While the Fed remains concerned about the risks of inflation, it also is concerned about slowness in the housing market. Home building has declined due to a labor shortage and to higher cost in materials from tariffs, according to The New York Times.
The Fed is content, for now, with their current policy stance of steady rate hikes, but are on edge as they wait to see how fiscal policy plays out in the data. The Fed is more likely to raise rates two more times this year given the strength of the economy.
As Maxwell Smart used to say…
Missed it by THAT much! After a rocky start, the Standard & Poor’s 500 Index came within 1 percent of an all-time high last week, reported Ben Levisohn for Barron’s. It’s significant because the Standard & Poor’s 500 Index has been trading below its January record all year. The article suggested the lack of progress begs the question: Are we still in a bull market?
It’s the old ‘Shrink Global Markets with Corporate Buybacks’ trick. Last week, Robin Wigglesworth of Financial Times reported, “The global equity market is shrinking at the fastest pace in at least two decades, as a wave of corporate share buybacks swamps the overall volume of companies going public, issuing new stock or selling convertible debt.”
The value of the global equity market is increasing despite the reduction in volume. In part, this is because stock buybacks help push share prices higher.
There is a potential downside to buybacks, though. Nasdaq.com explained, “…rewarding current shareholders so liberally can lead to a systemic extraction of value from companies on a macroeconomic scale. Throw in dividends and little is left for growth and expansion.”
Would you believe…the President asked for it? “President Trump on Friday asked regulators to review a decades-old requirement that public companies release earnings quarterly, a change some executives support to promote longer-term planning but that some investors worry could reduce market transparency,” reported Dave Michaels, Michael Rapoport, and Jennifer Maloney of The Wall Street Journal.
While transparency is essential to investors, critics suggest quarterly reporting “distracts companies from focusing on longer-term financial and strategic goals and may deter companies from going public,” wrote Andrew Edgecliffe-Johnson and Mamta Badkar for Financial Times.
Let’s talk Turkey!
So, how did a country that represents just about 1.4 percent of the world’s economy spark a global selloff?
Turkey was once a rising star. The country’s Prime Minister Recep Tayyip Erdogan took office in 2003 and his “conservative, pro-business policies helped pull the country back from an economic crisis,” reported Financial Times.
As Turkey’s economy strengthened, investors saw opportunity. Investments from outside the country averaged about $13 billion a year, according to World Bank figures cited by Financial Times, although investment slowed after terror attacks in 2015.
Bloomberg reported Prime Minister Erdogan has become more authoritarian since being re-elected in 2018, giving himself power to name the head of Turkey’s central bank. Financial Times reported the Prime Minister’s “…unorthodox views on interest rates…has proved disruptive for monetary policy, leaving…Turkey’s central bank, struggling to contain inflation that is running at close to 16 percent.”
Lack of central bank autonomy concerned investors. The Turkish lira began to weaken against the U.S. dollar, making it costly for businesses to repay dollar-denominated debt.
Politics have factored into the situation, as well. During 2018, negotiations were underway to secure the release of an American pastor who was arrested on “farcical terrorism charges,” reported The Economist. However, talks collapsed early in August. Asset freezes and sanctions followed, along with promises of additional tariffs on Turkish goods imported by the United States.
The subsequent steep drop in the value of Turkish lira sparked concerns that rippled through global markets. Financial Times reported:
“Turkey’s deepening crisis punished emerging market currencies and sparked a global pullback from riskier assets on Friday…The S&P 500 fell 0.7 percent in New York on Friday. Treasury yields also moved lower, with the 10-year dipping below 2.9 percent for the first time this month, as investors sought safe assets…Investors’ shift from risky assets knocked equities across Europe, with Germany’s Dax, France’s CAC 40 and Spain’s Ibex all about 2 percent weaker.”
For quite some time, investors have appeared immune to geopolitical risks. Perhaps that is beginning to change.
Capital gains tax reform comes with a big price tag: $100 billion over 10 years.
A capital gain is any increase in the value of an asset, such as an investment, a home, land, etc., between its purchase and its sale. The amount of a gain is determined by subtracting the purchase price from the sale price.
Last week, the White House proposed capital gains be adjusted or ‘indexed’ for inflation before they are taxed. Princeton Professor Alan Blinder explained the idea in The Wall Street Journal:
“Why index gains? Suppose you own a stock for many years, during which time overall prices have doubled because of inflation. Over the holding period, the value of your stock also has doubled. When you sell, the proceeds have precisely the same purchasing power as the original purchase. There’s no gain, no loss. But under current tax law, you owe taxes on the phantom ‘gain.’ Worse, if your stock went up by less than the cumulative inflation, you’ll still get taxed despite your loss. This is unfair and dysfunctional.”
While the suggestion is appealing to many investors, it’s not without controversy. For example, the White House suggested the Treasury Department change the tax code without Congressional approval by modifying enforcement regulations. However, the legislative branch – Congress – is constitutionally responsible for tax law.
In addition, adjusting capital gains for inflation without doing the same for interest expense and depreciation may allow some taxpayers to be able to generate significant losses on paper. Current tax law includes provisions that limit this kind of tax strategy, but indexing capital gains would reopen the door, reported the Tax Policy Center.
Another consideration is the impact of the change on the deficit and the national debt. The Congressional Budget Office estimates suggest 2017 tax reform will increase “…the total projected deficit over the 2018-2028 period by about $1.9 trillion.” Adjusting capital gains for inflation could increase the shortfall by about $100 billion over a decade, reported Naomi Jagoda for The Hill.