Wall Street jumpy as Washington debates fiscal cliff
BY PATRICK GALLAGHER AND JENNIFER BISSELL
As signs pointed toward at least a partial solution to the oncoming “fiscal cliff,” financial experts cautioned that even with a grand bargain, U.S. economic growth over the early months of 2013 would likely continue to be in the 1 to 2 percent range.
At the opening bell Nov. 19, financial markets were quick to react positively to reports that Republicans were closer to accepting revenue increases – and perhaps even limited tax rate increases – in exchange for entitlement spending cuts and other reforms.
However, William Kennedy, chief investment officer of Fieldpoint Private Bank & Trust in Greenwich, said it is important to view the fiscal cliff issue in the broader context of what has been and will likely continue to be a slow-growth economy for the short term.
“We see the fiscal cliff as an extension of our broader investment thesis, which is that we think we’re in a multi-year deleveraging cycle,” Kennedy said.
What that likely means, Kennedy said, is that consumers will continue to reduce their debt as a percentage of their disposable income and that governments will continue to reduce their debt as a percentage of their gross economic output.
With the media and stock markets reacting to seemingly every innocuous comment that appears to shed new light on the fiscal cliff debate, “The important thing is to take all of this macro noise, this spin if you will, and break it down to the individuals’ situation,” said Peter Chieco, senior vice president of Morgan Stanley Wealth Management, which was previously called Morgan Stanley Smith Barney.
Chieco, who is based out of the firm’s Greenwich office, said the likeliest outcome points to a tax increase for at least some earners and for uncertainty to result in a low U.S. gross domestic product in the first quarter of 2013.
“There’s a lot of volatility around this issue,” Chieco said. “We do say that, irrespective of an agreement, that there will be a tax year that will be higher for some segments.”
‘What do I do?’
The volatility is in part a result of decreased trading volume in 2012 compared to previous years, Kennedy said.
In 2012, the average volume for trading on the New York Stock Exchange is down about 18 to 20 percent compared to 2011 and is down about 40 percent compared to where it was five years ago, he said.
“Low volume means that the quality of rallies are quite suspect because you don’t have the full market participating,” Kennedy said. When volume is low, “the propensity for dramatic volatility spikes is quite high.”
He cautioned, “It would not take much bad news around the fiscal cliff between now and the end of the year to see a pretty sharp downdraft” in U.S. equity markets.
As individuals seek to navigate the possible outcomes of the fiscal cliff negotiations, Chieco advised against overreacting to the markets or to making decisions fueled by tax considerations.
“Our clientele is asking on a daily basis, ‘What do I do?’ The answer is, it always depends on everybody’s specific situation,” he said. “When it comes to investments and taxes, you really have to know your numbers because you don’t want to make an investment decision with taxes as a major component. It’s a component, but it shouldn’t lead the decision.”
Now that President Obama has been reelected, Rep. Jim Himes, a Greenwich Democrat and former Goldman Sachs executive, said there’s been a definite change in tone on Capitol Hill.
While Republicans previously argued for the continuation of all of the Bush tax measures that are set to expire, House Speaker John Boehner has indicated that he would accept increased revenues, possibly through the closing of loopholes and deductions.
“The outcome of the election returned a cast of characters used to negotiating with each other,” Himes said. “There’s more of a conciliatory tone, especially from the speaker, that you’ve never heard before.”
Himes said Congress will likely be able to reach a deal, adding that he’d like to see a comprehensive, balanced approach that protects the country’s most vulnerable citizens and infrastructure.
As tax code and entitlement reforms would require significant legislation, Himes said the likeliest outcome is for Congress to establish a process to address the cliff during the lame duck session and execute it after Jan. 1. Writing the actual legislation will take time, he said.
Himes said that for the past two years, he has been trying to promote the principals behind the Simpson-Bowles plan that placed every area of government spending on the chopping block.
“The key thing is not determining what won’t be cut, but walking in with a compromising state of mind,” Himes said. “The approach has to be that everything is on the table.”
Joseph McGee, vice president for public policy and programs of The Business Council of Fairfield County, said Obama’s reelection puts the ball in his court, and added that a compromise is critical.
“There’s no one way or the other, there’s got to be a compromise on tax policy,” said McGee. “Yes the wealthy are going to pay more. Yes we’re going to cut the defense budget.”
McGee said businesses would like to see a deal reached as soon as possible. Until business leaders know what they can expect, he said the cash in their pockets will stay there.
“This is an artificially-created political problem,” McGee said. “And they better fix it.”
Researchers at think tank Citizens for Tax Justice said the impacts of any tax increases on the wealthy would likely be less severe than some are predicting.
Steve Wamhoff, legislative director of Citizens for Tax Justice, challenged the argument made by some economists and pundits that increased taxes on high earners would curtail hiring by small businesses.
“Businesses hire people if they believe that will result in profit,” said. “It would be irrational to turn down a profitable opportunity just because your tax on the profit may be five percentage points higher.”