Locally based CPA firm since 1956

The Markets – The S&P 500 index finished July +2.94% bringing the year-to-date return to +5.19%. The Dow was +3.78% for the month bringing it to positive territory year-to-date at +2.13%. The bright spot in the markets is the NASDAQ which finished the month +1.96% and year-to-date +12.03%, according to the Wall Street Journal.

In recent weeks we have seen headlines such as: Oil Set for Gains Amid Iran Sanctions & Shrinking Supply, Trade Tensions Rattle Stocks, & Wells Fargo Reaches $2.09 Billion Settlement Over Mortgage-Backed Securities. Since the market has experienced more than a dozen periods of declining returns this year, and according to CNBC every one of these pullbacks directly correlate with Trade War news, we thought we would elaborate a bit.

The impact of trade war talk will be long lasting. Roughly 43% of the sales revenue generated by the largest 500 publicly traded companies in the U.S. (The S&P 500) is derived by overseas sales. Whether or not the administration approves tariffs on an additional $200 billion of Chinese imports, the damage has been done. There is no doubt the U.S. could face down China and the Europeans, for that matter, in a trade war. China and Europe export far more to the U.S. than vice versa. The damage is that the confrontation has begun. Simultaneously President Trump; insulted leaders of numerous countries, threw NATO into shock, labeled the European Union a foe, and seemingly endorsed President Vladimir Putin over our own intelligence agencies. All of this serves to disrupt supply chains and when you demonstrate that we, the U.S., are an unreliable trading partner, you lose those relationships permanently. The U.S. has served as the lynch pin of international institutions since World War II: The World Trade Organization, The United Nations, NATO, The International Monetary Fund, The World Bank are all at risk if the U.S. declines to cooperate.

There is little doubt that the Clinton-Bush-Obama strategy of engagement has failed to elicit more cooperation & a less mercantilist economy, especially with China. But even those who are in favor of a new, tougher stance on China have to question the lack of delicacy, poorly spoken rhetoric, and downright lack of diplomacy. The support for a tougher stance on China is not in question, the tactics are. The long-term loss of trading relationships will have negative connotations for years if not decades.

The short term winners may be the industry’s most hurt by all this trade war talk. Recently the Chinese announced they will provide “targeted assistance” to certain industries. The Trump administration responded in-kind. Short term, these industries may benefit due to the “targeted assistance” but long term, market forces will adjust to the loss of trust with our trade partners. No one understands this better than the American farmer. However, the pundits are completely wrong in their assumptions. Just this morning, on CNBC, a market pundit stated: “no-one is more entrepreneurial than the American farmer. They don’t want government, so-called targeted assistance, they want fair trade”. Oh-contrar! Ask any cotton farmer in the panhandle of Texas and they will tell you, if they plant enough crops to qualify, then due to bad weather the crop is condemned, they collect insurance and other government assistance; they make more money and do not have to run their equipment to harvest. That sounds like they prefer the assistance over the competitive fair market.

Economy – last month we talked a bit about Stagflation; persistent high inflation combined with high unemployment and stagnant demand in a country’s economy. Pursuant to the Oil headlines, we see rising oil prices, rising tariffs, and a labor force participation rate that has remained stubbornly poor; as a possible drag on earnings and subsequently to the equity markets.

Financial behavior and retirement planning: perhaps the most common question we receive is “should I pay off my house”. The short answer is driven by the math. Calculate any tax benefit you receive for paying a mortgage and subtract that from the cost of the loan (the interest paid). Then you have a true cost of the mortgage loan. A person who owes $200,000 on a loan and pays $10,000 annually in interest may be able to deduct that interest. If so, the tax benefit (roughly 30% or $3,000) means the cost of the loan is $7,000 or 3.5% on the $200,000. The question is this: if you have $200,000 invested, can you make more than 3.5% or $7,000? If so, that math dictates you do not pay off the house. If you are not comfortable you can achieve greater than 3.5% return on your $200,000, you should pay off the house. If you pay off the house, you have a guaranteed rate of return of 3.5%. If you do not, you assume market risk. Finally, there is the emotional aspect of being debt free or mortgage free. We cannot put a number on the emotional feeling of not owing on a home, in our experience, it is significant.

We realize we over simplified the equation a bit for illustrative purposes. We also recognize that with the new, higher, standard deductions in the tax code, fewer folks will itemize, thus negating any tax benefits of owing a mortgage. We encourage you to discuss with your accountant and estimate the benefits of owing a mortgage versus paying the note on your home. Once you have the math in front of you, only you can determine the emotional benefit.


Have a question? Let me know! Email me at kcompton@wsmtexas.com.