Fiscal CliffSubmitted by Grunden Financial Advisory, Inc on November 29th, 2012
The fiscal cliff represents a combination of government spending cuts (especially in the military through sequestration) and tax hikes set to take effect in January. Congress brings the nation to this point after their inability to forge a deficit reduction deal over the summer of 2011. If no deal is reached and the fiscal cliff is realized, expect to see significant budget cuts to military and Medicare programs and taxes go up for everyone. Estate taxes increase substantially as estates over $1 million dollars per person will increase from 35% to 55%. Social Security tax increases to its normal level and the new healthcare taxes begin to take hold. These cuts and tax hikes will weigh heavily on the economy and may push us into a recession. Small consolation if the economy is pushed into a recession, but the silver lining is that the federal deficit in 2013 would be cut in half. Without resolution to the fiscal cliff, we believe stocks will go lower for at least two quarters.
If the fiscal cliff is averted, the drastic cuts and tax increases on all Americans would be avoided and we would have a handle on what future taxes would more than likely be. The stock market likes predictability. The market should react favorably to this outcome and therefore reward investors with a period of gains to make up for negative volatility as a result of all the uncertainty prior to January 1st. Additionally, gains may be tempered by what is actually agreed upon in Congress.
There is also the possibility Congress will pass a temporary stopgap measure designed to prevent an immediate tax increase and stop or drastically reduce the planned spending cuts. This simply kicks the can down the road, which unfortunately has become the go to plan in our Congress for many years now.
We all know something will get done. We believe whatever direction our elected leaders take us as it relates to your investments and the stock market will be volatile in the short term and eventually positive over the longer term holding period. Please remember, there is no free lunch. The “payment” once makes to benefit from higher expected returns over time is an emotional payment, understanding that markets go up and markets go down, but over the many, many years of stock market research, the long-term trend remains up.