The Only Things Certain in Life are Death and Taxes… Really?

In the markets, as in life, there are no guarantees but everyone is entitled to their opinion. Here’s my opinion on the financial markets today.

I think that we can certainly put the second part of that phrase to rest forever with all of the tax focus out of Washington over the past 24 hours. As we often say in our office and is true of in all of our lives, the “land of uncertainty” is just a difficult place to have your address. The markets, of course, are no different.

The President yesterday announced a compromise plan after weeks of negotiations with Republicans to extend the Bush tax cuts for two more years. In addition to the time extension, the dividends and capital gains tax stays at 15%, there are temporary cuts in Social Security and payroll taxes, and unemployment benefits are extended. Keep in mind, though, that the “hay is not in the barn” yet, as Democratic lawmakers objecting to parts of the plan are meeting on the matter today. The overarching “negative” is that these changes are likely to substantially increase the deficit over the next two years. Not surprisingly, stocks are pushing towards 2010 highs this morning on the announcement of this working compromise. More than anything, the American business community (and investors!) needed this compass to quit spinning and finally have the needle point in one direction so that 2011 strategic plans could be “firmed up.”

In addition to the U.S. markets moving up this morning based on the tax news, European markets were higher today based in resource sector strength. Likewise, most Asian markets were higher with the exception of the Nikkei. Agricultural, crude and metals commodities are up 1% or more. As we discussed yesterday, the economic report front is quiet this week, with only weekly chain store sales and consumer credit data being published.

Along with the news coming out of Washington, here are four items that we discussed this morning and are focused on in our office today:

Treasuries opened weaker this morning on the tax cut extension news. High-quality bond prices are near recent lows. Inflation expectations in the market are higher (to 2.24%) as measured by TIPS. Focusing in on technical data, if you look at the mid-range forecast for 10-year Treasuries, a 3.2% level seems fair given current inflation levels and economic growth.

Corporate bonds are showing recent attractive signs versus Treasuries. Looking at last week’s data, positive yield advantages in investment-grade corporate bonds stood at 1.73% versus Treasuries. This yield advantage is notably above levels for early November.

The bond market will be focused on the Treasury auctions and news out of Europe this week. The Treasury will auction 3-year securities today and follow later this week with 10 and 30-year securities. These should go off smoothly with now higher level rates.

Are state governments as bad as what we are seeing in Europe? In a word, no. Primary credit metrics are nowhere near what nations like Ireland and Greece are currently facing. Having said that, a state financial profile such as California, which represents one-third of the U.S. GDP, is getting our attention along with other states like Illinois.

As always, email me with questions or comments.  I love to hear from you and thoroughly enjoy the “intellectual debate” with our clients and friends that these opinions generate.

Greg Powell, CIMA
Wealth Consultant

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