Q4 2019 Returns By Asset Class

For the last several quarters, I’ve posted returns by asset class (by representative ETF), as well as last twelve months, last five years, and since the financial crisis lows of 3/9/2009. While there is still no predictive power in this data, I updated those charts as of the end of Q4 2019 for those of you that are interested.  Charts shown in the link below, now more readable with each on a separate page, legend at the bottom, zoom to your liking):

2019Q4 Asset Class Performance

A few call-outs from the data:

  • Q4 was a quarter of strong returns with all asset classes in the positive, despite continued predictions of impending economic doom.  The best performing asset class was Emerging Market Stocks (+11.8%), with US Large Caps (+9%), US Small Caps (+8.3%) and Foreign Developed Stocks (+8.3%) all not far behind.  Emerging Market Bonds (+5.2%) also did very well, as did Commodities (+4.8%), which have underperformed for over a decade.  Bond returns were more muted, but still positive, running more like the tortoise than the hare of equities.  High-yield was up 2.5%, with Short-Term Investment Grade up 1% and Aggregate US Bonds up a modest 0.2%.  REITs underperformed for most of the quarter, but eeked out a positive return of 0.6% with a great run in the closing days of Q4.
  • Long-term interest rates climbed a bit from their sharp decline in Q3, while short-term rates fell following the Federal Reserve’s 25 basis point rate cut in October.  This led to shorter-term bonds outperforming longer term bonds in the quarter.  The Fed has indicated that it plans to keep rates steady for the foreseeable future unless the economy tanks or inflation spikes.
  • The one-year charts show just how fantastic 2019 was for equity returns despite (or maybe because of) the extreme pessimism toward the economy in late 2018.  Q4 2018 was the worst quarter in a long time and scared a lot of people.  Those who stuck to their plan and continued to invest were well-rewarded in to 2019.
  • On the long-term chart, you can continue to see 1) the massive outperformance of US stocks and REITs since the financial crisis, with Q4 2018’s meldown as just a blip on the radar 2) the slow and steady stable grown of bonds, and 3) the utter devastation in commodities, still down ~30%+ from March 2009, despite fairing slightly better of late.

The SECURE Act & Tax Extenders

Over the last week, Congress passed its Appropriations Act, designed to continue to fund the government. To it, they attached the SECURE Act (Setting Every Community Up for Retirement Enhancement) and the extension of multiple expired/expiring tax provisions, known as the “Tax Extenders”. The president is expected to sign the entire bill before departing for the holidays.

The SECURE Act modifies a number of qualified plan (401k, SIMPLE, SEP, etc.) and IRA/Roth IRA rules, along with a couple of 529 plan rules and the treatment of the “kiddie tax”. Below, I highlight the changes along with their likely impact on PWA clients. Virtually all of these changes take place as of 1/1/2020, but unlike the last few tax changes that passed in late December, there is no action that you need to take immediately. If you’re having trouble sleeping, you can read the Secure Act in its entirety on pages 1532-1656 of the Appropriations Act. There are only a few tax extenders that are likely to impact PWA clients. I’ve highlighted those below as well. For the full list, see pages 3-26 of the Division Q amendment to the Appropriations Act.

Secure Act Summary

First a little editorial… the name of the Act (Setting Every Community Up for Retirement Enhancement) and a lot of the press around it is completely misleading in my opinion. The Act’s changes to the retirement system are mostly minor positive tweaks with one somewhat concerning opening of Pandora’s high-cost-annuities-in-a-401k Box (more on that below). It is a far cry from the type of changes that would give everyone access to and the incentive to participate in a tax-advantaged retirement plan. The Act has been sold as “the”, or at least “an” answer to modern retirement issues, but it really doesn’t change a whole lot other than opening a new way for insurers to profit. Call me skeptical, but the insurance industry’s lobby game was strong on this one and when lobbyists step up to the plate in Washington, a home run is rarely a good thing for anyone other than their interest group. So, rather than reading this to see the multiple amazing ways that the Act will help you, please read it to get a sense for the minor positive changes and the couple of things to cautiously look out for in the future. Without further ado, the Secure Act:

· Eliminates a roadblock to Multiple Employer Plans (MEPs) that would allow two or more employers to join a pooled retirement plan, ideally expanding access to plans and reducing costs due to plan size. Pretty self-explanatory and nothing but positives here. Theoretically, this could allow anyone who works for a small business to have a 401k plan available, or a better 401k plan available in the future. Whether or not employers do band together to do this remains to be seen.

· Allows more part-time workers to participate in 401k plans. Specifically those who work 500-1000 hours per year, who were previously excluded from participation, will now be able to participate in the plans. That’s a clear positive for part-time workers and a slight negative for other workers who may see the increased costs to employers as a result of this change passed down to them in some form.

· Increases the business tax credit for new employer retirement plans to $5000 from $500 and adds a $500 credit for auto-enrollment feature. All good incentives that help motivate employers to create retirement plans and get their employees to participate. When compared to the cost of maintaining these plans though (esp. with any sort of matching or profit sharing), it’s honestly still chump change.

· Tweaks the Safe Harbor 401k rules to allow for a higher default employee contribution % while removing notification requirements for plans that make non-elective contributions. Employers can now auto-enroll employees with as much as a 15% contribution level (up from 10%) or with an automatic annual escalation to 15% max. Employees can still opt out though.

· Allows a new exception from the 10% early distribution penalty from a retirement plan for childbirth/adoption within one year after birth, up to a max of $5k per parent. Repayment is allowed to certain types of plans, though the rules are unclear. The increased flexibility is great and maybe more people will participate in employer retirement plans if they can get money back out of them for events like this. But generally, giving people the ability to raid retirement savings for non-retirement reasons isn’t setting anyone up for retirement.

· Eliminates the use of 401k loan “credit card” arrangements. Did you know that some plans adopted provisions that let an employee take out a 401k loan credit card that they could use for any purpose up to the loan limit? That’s not setting anyone up for success in retirement. There are already well-established reasons that loans can be permitted and formal arrangements to make sure participants are taking loans for those reasons only, and are aware of the terrible tax and penalty implications of defaulting on those loans.

· Requires plan administrators to include on quarterly statements an estimate of lifetime income that could be produced at retirement age based on current 401k balance. In other words, if you used your lump sum 401k balance to purchase a straight annuity (series of monthly payments for your life), how much could you expect each month in retirement? I think framing the question in this way is helpful in leading people to realize they may need to save more (or less) based on where they stand.

· Extends the date by which a retirement plan needs to be in place for a tax year from 12/31 of that tax year to the filing deadline of the tax return (plus extensions). This is helpful if you started self-employment or a small business and don’t realize you could benefit from setting up a retirement plan until you prepare your taxes, only to find out that you previously had to open most retirement plans by 12/31 to make a difference. Now you can see the benefit in real numbers and make the decision to open and fund the plan at tax time.

· Allows for portability of lifetime income options in a retirement plan. If the plan decides to eliminate a lifetime income option that was offered, employees enrolled in that option would be allowed to take an in-service withdrawal either by a direct rollover to an IRA or retirement plan or by a distribution to the employee. This is a necessary precursor for the next bullet.

· Provides a fiduciary safe harbor for including lifetime income options using annuities. As long as the cost is “reasonable” and the insurer is thought to be financially capable of satisfying its obligations, the plan sponsor will not be held to the same standards as they are with the selection of other investments in the plan as set forth by the Employee Retirement Income Security Act of 1974 (ERISA). This is the provision that drove the insurance industry lobbying for the SECURE Act. It essentially allows employers (and those they hire to select 401k options) to include annuities in the plan. This is not inherently bad. Some annuities, especially annuities that convert a lump sum into an immediate or future monthly cash flow stream for life, make a lot of sense from some people. But there are also terrible annuity products with monstrous fees that take advantage of consumers with overcomplicated promises dressed up as “guaranteed lifetime income” that really make no sense for anyone, especially not inside an already tax-deferred retirement plan. Now, plan sponsors can be talked into including these options by insurers (who kick back commissions to the plan administrator) and will no longer be held to the same standard as they are for selecting mutual funds. For PWA clients, this isn’t an issue. If you have a new fabulous “guaranteed lifetime income” option in your 401k at some point in the future, we’ll evaluate it like any other option and will likely come to the conclusion that it doesn’t make sense. For those who don’t have an advisor looking out for them as a fiduciary, I fear this new ERISA exclusion is opening up Pandora’s Box just when we’re really starting to get plan fees and mutual fund fees down to something reasonable. I hope I’m wrong.

· Eliminates the maximum age for making an IRA contribution (which used to be 70). This is great as people are generally working longer and if they want to keep saving for retirement past 70, it allows them to do so. But, generally speaking, those who are working past 70 and contributing to their retirement past age 70 aren’t the people who have a retirement savings issue. So, it’s a nice provision, but not sure it really helps a whole lot.

· Changes the Required Minimum Distribution (RMD) starting age to 72 from 70.5 for pre-tax retirement plans (401ks, IRAs, etc.). A nice add, with people living longer, to not have to start withdrawing from their pre-tax money and therefore paying tax for an extra 1-2 years. Not a huge change, but it will have some impact for those that can rely on other sources of money from retirement to age 72 and can use that timeframe to tax-optimize their withdrawals over life (Roth conversions, gain harvesting, minimizing tax on social security income, minimizing Medicare IRMAA surcharges, etc.).

· Ends the stretch IRA. This provision will force inherited IRAs to be liquidated over 10 years in most circumstances, rather than over the lifetime of the person who inherits the account. No RMDs during the first 9 years. You just need to liquidate by end of year 10. Exceptions: surviving spouse, disabled, chronically ill, not more than 10 years younger than the deceased owner, and minor children of the deceased (until they reach the Age of Majority). This is a big negative for most who stand to inherit a 401k or IRA, and that’s intended since this provision is the primary “pay-for” of the bill in its ability to raise tax revenue. It stinks, but it’s hard to argue with it. Deceased people don’t need retirement accounts and therefore the tax benefits that go along with them don’t make a ton of sense for those who inherit them. I’m in the minority of advisors in admitting this, but the change seems fair to me… maybe even generous in giving 10 years. This one has major estate planning implications. If one leaves their retirement accounts to a trust that is directed to pay out only the RMD each year to the trust beneficiary (to minimize tax over their lifetime under the old rules), that trust won’t pay anything out for 9 years and then will pay the entire lump sum in year 10, or worse, will retain it and pay tax at trust rates. Estate plans and the wording of such trusts need to be re-evaluated and potentially re-written. If you have such a trust, or have one that will be created at your death by your will (testamentary trust), and your estate attorney doesn’t contact you shortly, you’ll need to reach out to him or her and evaluate if any changes are necessary.

· Add a new provision that up to $10k (lifetime) can be used from a 529 to pay off student debt without Federal tax / penalty. Another $10k to pay off a sibling’s student debt. State rules differ and will likely follow the same path as they followed on the addition of K-12 private school tuition. Sounds wonderful, but are there really a lot of people who have extra 529 money lying around to pay down their or a sibling’s student loans? It also doesn’t make sense to set up a 529 for this purpose (unless it allows you to game the state tax deduction rules). It would make more sense to just pay down the debt, not contribute to a 529 and hope it grows while the student loans continue to accrue interest at the same time.

· Reverses the Kiddie Tax changes made by TCJA which taxed investment income of minors at estate & trusts tax rates instead of parent rates. Back to parent rates now. This one has nothing to do with retirement. There was just a lot of pushback especially when people realized the Kiddie Tax applies to Military Survivor’s Benefits and the TCJA exposed much more of that to higher tax. Now it’s “fixed” back to the old rules.

Relevant Tax Extenders

· The deduction for mortgage insurance (PMI) expenses returns for those who itemize.

· The threshold to deduct medical expenses for those who itemize is 7.5% of adjusted gross income (down from 10% without the extenders).

· The qualified tuition deduction, which doesn’t require itemizing, is back (max $4k, income restrictions apply as before).

All of the above tax extenders apply for tax years 2019 and 2020. They expire again for 2021 unless further extended by future legislation.

Updated 2020 Tax Numbers

The IRS has released the key tax numbers that are updated annually for inflation, including tax brackets, phaseouts, standard deduction, and contribution limits.  Due to rounding limitations, not all numbers have changed from last year, but tax bracket thresholds have increased by just under 1.6%.  The notices containing this information are available on the IRS website here and here.  Some notable callouts for those who don’t want to read all the way through the update:

  • Max contributions to 401k, 403b, and 457 retirement accounts will increase by $500 to $19,500 (+$6,500 catch-up, up from $6,000, if you’re at least age 50).
  • Max contribution to a SIMPLE retirement account will increase by $500 to $13,500 (+$3,000 catch-up if you’re at least age 50).
  • Max total contribution to most employer retirement plans (employee + employer contributions) increases from $56,000 to $57,000.
  • Max contribution to an IRA remains at $6,000 (+$1,000 catch-up if you’re at least age 50).
  • The phase out for being able to make a Roth IRA contribution is $206k (married) and $139k (single). Phase out begins at $196k (married) and $124k (single).
  • The standard deduction increases by $400 to $24,800 (married) and by $200 to $12,400 (single) +$1,300 if you’re at least age 65.
  • The personal exemption remains $0 (the Tax Cuts & Jobs Act eliminated the personal exemption in favor of a higher standard deduction and child tax credits).
  • The child tax credit is not inflation-adjusted and remains at $2,000, phasing out between $400-440k (married) and $200-220k (single).
  • The maximum contribution to a Health Savings Account (HSA) will increase to $7,100 (married) and $3,550 (single).
  • The annual gift tax exemption remains at $15,000 per giver per receiver.
  • Social Security benefits will rise 1.6% in 2020.  The wage base for Social Security taxes will rise to $137,700 in 2019 from $132,900.

You can find all of the key tax numbers, updated upon release, on the PWA website, under Resources.

Q3 2019 Returns By Asset Class

For the last several quarters, I’ve posted returns by asset class (by representative ETF), as well as last twelve months, last five years, and since the financial crisis lows of 3/9/2009. While there is still no predictive power in this data, I updated those charts as of the end of Q3 2019 for those of you that are interested.  Charts shown in the link below, now more readable with each on a separate page, legend at the bottom, zoom to your liking):

2019Q3 Asset Class Performance

A few call-outs from the data:

  • Q3 was a mixed bag of results that really show the benefits of diversification.  Despite claims that all asset classes move together in a “risk-on” or “risk-off” manner these days, returns were all over the board.  US Real Estate Investment Trusts (REITS) saw the best performance (+7.5%) on the back of declining interest rates.  US aggregate bonds (+2.4%), US Large Cap Stocks (+1.7%), High-Yield Bonds (+1.3%) and Short-term Corporate Bonds (+1.2%) rounded out the positives.  On the other side were Foreign Developed Stocks (-0.9%), US Small Cap Stocks (-1.5%), Commodities (-2%), Emerging Market Bonds (-3.3%), and Emerging Market Stocks (-4.2%).  While not particularly evident in the chart, there was a shift, most notably in August, from Large Cap Growth Stocks toward Smaller Cap Value stocks.  It’s hard to read anything into a couple of months, but it would be very healthy for the market to rotate in this direction as valuations are actually below average in Small Cap Value stocks vs. Large Cap Growth where valuations are well above average on a Price to Earnings basis.
  • Interest rates continued their shocking rate of decline in Q3 with the US 10-year yield dropping to 1.46% in early September and the US 30-year yield dropping to an all time low of 1.94% in late August, before both normalized a bit into end of quarter.  Declining rates cause bond prices to rise, leading to the solid performance for US bonds in Q3 and over the last 12 months, outperforming everything other than REITs.
  • On the long-term chart, you can continue to see 1) the massive outperformance of US stocks and REITs since the financial crisis, with Q4 2018’s meldown as just a blip on the radar 2) the slow and steady stable grown of bonds, and 3) the utter devastation in commodities, still down ~30%+ from March 2009.

Q2 2019 Returns By Asset Class

For the last several quarters, I’ve posted returns by asset class (by representative ETF), as well as last twelve months, last five years, and since the financial crisis lows of 3/9/2009. While there is still no predictive power in this data, I updated those charts as of the end of Q2 2019 for those of you that are interested.  Charts shown in the link below, now more readable with each on a separate page, legend at the bottom, zoom to your liking):

2019Q2 Asset Class Performance

A few call-outs from the data:

  • After a fantastic Q1 that almost erased Q4 2018 losses, Q2 2019 was another solid quarter, with only commodities (oil still struggling) in the red.  Emerging Market Bonds led the way (+5.8%), followed by US Large Cap (+4.2%), Foreign Developed (+3.2%), Aggregate US Bonds (+3.1%), US Small Caps (+2.9%), Short-term Corporate Bonds (+2%), REITs (+1.5%), and Emerging Markets (+0.8%).  Commodities finished the quarter down 1.9%.  Probably the biggest surprise was the performance of bonds, as the interest rate landscape changed dramatically, with rates falling from already historically low levels and expectations for multiple upcoming Federal reserve rate cuts getting priced in.  The US 10-year treasury bond currently trades with a yield of about 2%…  that means lending your money to the government for 10 years (!!!) to earn an annual rate equal to the inflation rate that the Federal Reserve targets.  As crazy as that sounds, rates around the globe are even lower, with many developed countries in negative territory.  Germany’s 10-year bond yields -0.32% and Japans yields -0.16%.  That means you pay the government to hold your money in those countries.
  • On the chart that shows the last 12 months, the ongoing divergence of US and non-US markets is evident with US Large Caps (think S&P 500) up over 10% and Foreign Developed flat (+0.1%).  This is explained by the relative strength of the US economy and the US Dollar vs. the rest of the global economy and other currencies.  This is even clearer on the 5-year and “since the bottom” charts.  Of course US equity valuations are much higher than the rest of the globe (i.e. the US stock market is relatively more expensive given the stronger economic outlook).  One other note is that while US Large is approaching all-time highs (and hit all time highs today, 7/1), US Small Caps have lagged dramatically, up only ~2% over the past 12 months and still well below their all-time highs.
  • In the long-term chart, you can continue to see 1) the massive outperformance of US stocks since the financial crisis, with Q4 2018’s meldown as just a blip on the radar 2) the slow and steady stable grown of bonds, and 3) the utter devastation in commodities, still down ~30% from March 2009.

Q1 2019 Returns By Asset Class

For the last several quarters, I’ve posted returns by asset class (by representative ETF), as well as last twelve months, last five years, and since the financial crisis lows of 3/9/2009. While there is still no predictive power in this data, I updated those charts as of the end of Q1 2019 for those of you that are interested.  Charts shown in the link below, now more readable with each a separate page, legend at the bottom, zoom to your liking):

2019Q1 Asset Class Performance

A few call-outs from the data:

  • Q1 2019 was almost as good as Q4 2018 was bad.  For Large Cap US (+16%), Small Cap US (+13.5%), and Emerging Market Equities (+12%), returns were almost the mirror image of the previous quarter.  All asset classes posted positive returns, led by Real Estate Investment Trusts (REITs) (+17.5%), which have a strongly negative correlation to interest rates and did very well as rates fell along with expectations for further Fed rate hikes.  Foreign Developed stocks were up 10.5% despite economic slowdown fears.  High-Yield (“junk”) bonds were up 7.5%.  Short-Term Corporate Bonds, Aggregate US Bonds, and Emerging Market Local Currency Bonds all held their own, up 2-3% for the quarter.
  • On the chart that shows the last 12 months, the ongoing divergence of US and non-US markets is evident.  This is explained by the relative strength of the US economy and the US Dollar vs. the rest of the global economy and other currencies.  This is even clearer on the 5-year and “since the bottom” charts.  Of course US equity valuations are much higher than the rest of the globe (i.e. the US stock market is relatively more expensive given the stronger economic outlook).
  • In the long-term chart, you can continue to see 1) the massive outperformance of US stocks since the financial crisis, with Q4’s meldown as just a blip on the radar 2) the slow and steady stable grown of bonds, and 3) the utter devastation in commodities, still down almost 30% from March 2009.

Q4 2018 Returns By Asset Class

For the last several quarters, I’ve posted returns by asset class (by representative ETF), as well as year-to-date, last twelve months, and last five years. While there is still no predictive power in this data, I updated those charts as of the end of Q4 2018 for those of you that are interested.  Since year-to-date and last 12 months are the same right now, I added a chart that shows returns since 3/9/2009 which was the S&P 500 low after the financial crisis.  Charts shown in the link below, legend at the bottom, zoom to your liking):

2018Q4 Asset Class Performance

A few call-outs from the data:

  • Q4 2018 was terrible for all risk-based assets led by declines in US Small Caps (-18.5%) and US Large Caps (-13.5%) with Foreign Developed Stocks not far behind (-13%).  Emerging markets fared somewhat better (-6.5%).  Commodities were down nearly 11%, led by a 40%+ fall in the price of oil over the course of the quarter.  Bonds outperformed by a ton, as they typically do when stocks do poorly and that’s why they’re of such value in even aggressive portfolios.  Both short-term investment-grade bonds and aggregate bonds posted slightly positive returns.
  • All asset classes were down for 2018 as a whole except short-term investment-grade bonds.  Aggregate bonds were down less than 1%.
  • In the 5-year and long-term charts you can see that foreign stocks are closing the gap somewhat with US stocks recently.  That’s coming from foreign stocks falling less than US stocks over the quarter / year.  Valuations on forward looking basis are about average now for US stocks and downright cheap for emerging stocks.  Unfortunately, that’s based on estimated earnings going forward and if there is a global economic slowdown, those earnings estimates would come down making US stocks seem more expensive and emerging markets less cheap.  No one knows if that will happen, and the market has already priced in some probability of a recession.  For more on the what’s currently plaguing the market, the risks, and the upside, please see my last post from December.
  • In the long-term chart, you can clearly see 1) the massive outperformance of US stocks since the financial crisis, with the recent fall being a fairly small give back, 2) the slow and steady stable grown of bonds, and 3) the utter devastation in commodities, still down more than 30% from March 2009.