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Financial Insights- June 15, 2021

Written by Eric Ebbert CFP®, MBA

On June 16, 2021

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DEBT FOR SENIORS OFF THE CHART!

Given that we are coming out of the pandemic with a lot of pent-up demand, banks are looking for people to borrow after spending whatever they saved from all the stimulus checks. At the same time, banks are relaxing their creditworthiness but not quite back to pre-pandemic levels. One group of consumers has been piling on the debt over the past 30 years. People aged 50 and above have three times as much debt as they had just 30 years ago. Debt increased from $19,000 in 1989 to $55,000 in 2016, and the number of households with some debt rose from 58% to 71% over the same time. It is primarily a result of student loans, credit cards, and mortgages, but health care costs have also been a significant contributor. (Source: Government Accountability Office)

 

SOCIAL SECURITY AND MEDICARE…OH MY

It is no secret that both very popular programs are in financial trouble and there is no secret to fixing the problem – raise more revenue, increase the qualifying age, or cut benefits for some or all beneficiaries. It is the last one that has AARP concerned. Earlier this year, Senator Mitt Romney introduced the TRUST Act to form a 12-person commission to develop recommendations to shore up both programs.  The proposal has some bipartisan support. AARP is lobbying heavily against the bill out of fear that benefits would be cut…and they are probably right. They surveyed those age 50 and above (their membership qualifying age), and there was no surprise in the results. Over 85% said they were opposed to any cut in benefits. But here is the interesting part. When broken down by political leanings, the results were virtually the same for both Democrats and Republicans. Assuming AARP wins the battle, the only alternative is to raise more revenue through taxes for both programs and higher premiums for Medicare. In short, the wealthy (however that is defined) will likely be paying more.

 

INHERITED IRA RULES CLARIFIED BUT NOT DONE

We recently reported that guidelines issued by the IRS on inherited IRAs came with a surprise. Most assumed that the elimination of the Stretch IRA by the SECURE Act, except for certain Eligible Designated Beneficiaries (EDB), which includes a spouse, minor child, disabled individual, chronically ill individual, or a beneficiary that is no more than 10 years younger than the deceased IRA owner, would allow the beneficiary to take distributions however they wanted as long as the IRA was emptied no later than the end of the 10th year following the IRA owner’s death. Under that scenario, beneficiaries could take it all at the beginning or after 10 years and everything in between. But the new guideline suggested that Required Distributions must be taken each year. The furor that followed caused the IRS to issue further clarifications about the guidelines. Now they have made it clear the original thoughts were correct and a beneficiary can wait 10 years before withdrawing anything. However, that might come with a big tax bill, so planning is needed. Interestingly, they also said that an EDB may elect the 10-year rule in lieu of the Stretch IRA rules if they want, but only if the IRA is a traditional IRA and was inherited before the IRA owner had to take Required Minimum Distributions (RMD) – currently age 72. They must also announce this intention before taking the first distribution. In the case of a Roth IRA, the beneficiary can use the 10-year rule, or they can use the stretch concept regardless of the Roth owner’s age because there is no RMD for a Roth IRA. But what happens if the beneficiary dies before the 10 years are over? Let us just say that more clarification is needed in this situation. Stay tuned.

 

LONG-TERM CARE PRICES JUMP IN 2020

The annual cost of Long-Term Care jumped by 9.2% in 2020, according to Mutual of Omaha. A studio room in an assisted living facility increased to $57,610, a semi-private skilled nursing facility room increased to $98,129, and a private skilled nursing facility room climbed to $112,291 on average in the US. It varies from state to state, but Alaska takes the prize for the highest with an annual room cost of over $183,000, while West Virginia was the lowest at $43,384. These numbers are frightening when you consider that 40% of people over 65 will spend time in a nursing home, based on data at www.acl.gov. The average length of stay is 3.7 years for women and 2.2 years for men. Thus, the average cost for women is about $414,000, and for men, it is $246,000. Will these costs be paid for by insurance, Medicaid, or out of assets of the resident? Each person needs to consider the best way to fund these potential costs. If you would like to learn more about Long-Term Care insurance and other alternatives, please give us a call.

 

JOBS, JOBS, AND MORE JOBS

During May, employers added 559,000 jobs, with many of them coming in the much-needed hospitality industry. Also, the previous two months were adjusted higher by another 27,000. This dropped the unemployment rate to 5.8%, but this might go up in the coming months as more people start to look for jobs, with unemployment benefits being reduced in many states. By the end of the summer, there will not be any additional benefits paid by the Federal government. Look for continued gains as there are a record number of jobs available. As the economy continues to recover from the pandemic, even more job opportunities will be created. The good news is that people are going back to work. However, some companies are finding that they have to raise salaries to attract workers. As you have heard us say many times before – permanent inflation occurs when salaries go higher. It is something we all need to keep an eye on.

 

 BIRTHRATES PLUMMET

The world’s two largest economies, U.S. and China, have each seen their birthrates decline to worrisome levels. In 1960 the US average birthrate per woman was 3.65 children, but now it is about 1.7 according to the World Bank. It is estimated that a country needs a birthrate of 2.1 to sustain its population. For China, there is an even bigger problem. Many years ago, China tried to slow down population growth by allowing a couple to only have one child, with certain exceptions. Then, they changed it to two, and now they are encouraging couples to have three children. As a result, the number of births in China has declined for four straight years, and the birthrate is now only 1.3. An expanding population is essential for economic growth, and a declining population makes economic growth harder to achieve. One way the U.S. can overcome this issue is through immigration, but, of course, it is a political hot potato. In the long run, this is not healthy for either the U.S. or China.

 

IS INFLATION GOOD OR BAD FOR EQUITIES? 

Most investors are aware of the adverse effects of inflation on a fixed income, with the name of the asset class itself describing its pitfalls. The impact on equities, however, is not as clear. Various factors determine the ultimate outcome for stocks, and one must differentiate within the broad asset class as part of that analysis. For example, a utility stock will react differently to inflation than a bank stock and a large-cap stock differently than its smaller brethren. It’s also important to discuss the two types of inflationary pressures: supply push and demand-pull. The hyperinflation of the 1970s is an example of supply push inflation (due to oil shortages) and represents a more difficult inflationary environment. Demand-pull inflation was experienced in the US in the 1960s due to strong economic growth without offsetting growth in production capacity. The pandemic has brought about a perfect storm of both. The shutdown of production and supply chains early on has created a shortage of many goods, increasing input prices for producers. Easy monetary and fiscal policy and the release of pent-up demand thanks to vaccine rollouts have compounded that inflationary pressure in the form of demand-pull. 

So, is this good or bad for stocks? Assuming that inflation is not entirely transitory (though some should be with the loosening of supply chain bottlenecks), the Fed will eventually raise interest rates to cool down the economy and temper inflation. The Fed is now targeting an average long-run inflation rate of 2%, allowing it to run over 2% temporarily, though not meaningfully higher. Stocks have historically absorbed inflation of up to 3-4% before being negatively impacted. The effect can be more significant on growth stocks (technology and communication services sectors) and industries with lower pricing power (utilities and real estate). However, basic industry-level characterization can be an overgeneralization. Some growth companies can pass on inflationary costs to customers and provide technologies that are likely to be prioritized in budgeting. Similarly, some real estate categories offer a hedge against inflation, such as homebuilders, and others can raise rents fast enough to offset rising interest rates, such as lodging.

All this to say, moderate inflation is good for equity investors as it results in higher earnings and dividends. However, the impact varies across industries and sub-industries alike. With that said, hyperinflation is bad for everyone as it forces central banks to raise real interest rates, which chokes off business investment and economic growth at some point while also eating into consumer purchasing power and limiting investment opportunities. As Nobel Prize-winning economist Milton Friedman, once said, “Inflation is taxation without legislation.”

EMPTY NESTER 

When children leave home to embark on their adult lives, it can be an emotional time for parents. As an “empty nester,” a woman transitions out of the role as her children’s supporter and can be forced to rediscover herself and revisit long-term goals. Here are five topics to consider as you enter this new transition in life. 

  1. Revisit your retirement plan

When children graduate off the “payroll,” your everyday expense should decrease. Revisit your retirement plan and invest extra funds to accumulate more wealth. College payments may have affected your financial plan, and we recommend talking with a financial planner to help get you back on track. 

  1. Reconsider real estate needs

Where do you want to live in retirement? If you do not require or desire the extra space, consider downsizing your home. The current housing market is “on fire” and a sellers’ market. As interest rates increase, housing prices may decrease.

  1. Educate your children on finances

In a survey, Business Insider found that almost 40% of empty nesters help subsidize their children’s lives – paying for everything from groceries and cell phones to rent and student loans. Though it may be natural for parents to provide for their adult children, it is more important to educate them about becoming financially independent. Prolonged support may ultimately harm your financial plan and your children’s mental health.

  1. Reallocate education funds

If you find yourself with leftover funds in an education savings plan such as a 529 account, talk with a financial planner on utilizing the funds. Typically, you can change the beneficiary and, in some cases, pay down qualified education loans, to name a few strategies. 

  1. Make time for yourself

Many women lose their sense of identity when their children leave home. Take time to explore your passions and use extra funds to invest in yourself. 

As you send your children on their way to make an impact on the world, let us help you identify how you can leave your mark too. At ProVise, we will be glad to assist you to identify your goals and plan for your future.