Client Newsletter 1Q24
Dear Ambassador Family,
Happy New Year! I hope you had a wonderful Christmas season.
Our Strategy Remains Defensive
We have been fairly conservative since late 2021. It served portfolios well in 2022 and entering into last November, it also helped.
Market valuation was high, and earnings estimates outside of a few names (AI) were flat to declining. Inflation was declining but nowhere close to dead. The economy was being heated by fiscal spending, but other signs (declining financial stocks, consumer, small cap) pointed to a weaker economy. The Fed had been tightening consistently through the fall.
And then, the Fed cried, “Uncle!”
Fed Chairman Jerome Powell trumpeted the end of Fed hikes (at least for a while), which markets interpreted as the beginning of rate cuts.
Other stocks started to wake up. Bond yields turned lower. Commodities got a bid.
Does this now mean “the Fed is our friend” and the bulls keep running into 2024? Will the AI gold rush continue? Will it automatically spread to the other 493 (or 1993) stocks? What about international stocks?
Part of our job is not simply to make a forecast, but also to weigh risks (up and down). Some of the factors we analyze across different assets include:
- Fundamentals (Are earnings estimates believable? How much can earnings actually grow? How much are we paying for those earnings/growth? What is supply/demand for the asset class?)
- Technicals (What value do past prices and volumes tell about the future? What is their current message? Where are major players such as large institutions, retail, quantitative strategies positioned?)
- Macro (economics mainly, politics secondary).
Not to play the Grinch or Scrooge, but we remain skeptical.
How much will the Fed cut rates?
We don’t know. What we do know is this: if the Fed cuts rates too much, the inflation genie potentially might get new life. Supply constraints in a number of commodities along with robust government spending provide a potentially potent cocktail to revive inflation. (For this reason, it would surprise us to see rates go back to the lows of a decade ago, unless we are in a far worse crisis than what markets discount now.)
If the Fed cuts more slowly (or does not cut), risk assets might not be pleased especially coming off the strong “Santa Claus” rally we have just seen.
Additional potential risks include catch-up effects of higher interest rates on a weakening economy. The Fed continues to provide extraordinary amounts of short-term liquidity to regional banks (which is scheduled to run out in March 2024 – will it be renewed?). Jobs and industrial activity have clearly lost momentum. The housing market is mixed with new homes edging along, but existing home sales are stagnant.
Potential political volatility might come from geopolitical tensions (Mideast, Taiwan) or the election cycle (though many presidential elections have brought good returns to markets, tensions around 2024 might unveil unexpected surprises and volatility).
Overseas, Europe continues its stagnant path. While many emerging markets were early to hike rates and might seek to cut them, much depends on what the Fed does in the US. China still faces severe challenges in its overbuilt and leveraged real estate market.
Regarding the AI theme, no doubt it has validity. The question is how sustainable the cycle is (and who are the beneficiaries). Remember the Y2K cycle, which helped stoke a boom in technology capex and a roaring market in 1999, only to come crashing down the next couple of years. Additionally, will today’s winners be tomorrow’s winners? It might take more than just a year to sort the issues out.
Your portfolios generally remain defensively positioned. (Accounts with longer time horizons and less need for liquidity are invested more aggressively in the event this rally is more sustainable than what we expect.) They include cash-equivalents with meaningful yield and minimal credit and interest rate risk (T-Bills), alternative strategies less reliant on market direction, and a light allocation to traditional equities (mainly large cap US and modest exposure to emerging markets) and commodities.
As the clock struck midnight on New Year’s Eve, a wave of fresh regulations from the SECURE 2.0 legislation came into play. Let’s dive into the thrilling Roth-related updates taking effect in 2024!
- 529-to-Roth IRA Rollovers. The SECURE 2.0 legislation allows rollovers of unused 529 funds into Roth IRAs. However, there are important restrictions to consider with this new rule.
- RMDs Eliminated on Roth 401(k) Funds. Roth 401(k) funds will now be exempt from lifetime RMDs (required minimum distributions). That said, rolling over Roth 401(k) funds into Roth IRAs may still offer advantages due to more favorable distribution rules and broader investment options.
- Mandatory Roth 401(k) Catch-Ups – DELAYED. Originally set for January 1, 2024, SECURE 2.0 aimed to require highly-paid employees aged 50 and above to make catch-up contributions to their 401(k) plans on a Roth basis. However, due to concerns raised by recordkeepers and lobbying groups, the IRS postponed the effective date of this rule until 2026.
It’s Up to You to Protect Your Family
Each of you is in a unique situation. Depending on where you fall on the retirement timeline, we can offer some recommendations to potentially help you preserve your assets, grow your investments, and keep up with inflation.
- Retirement: You Are Retired. Set aside time to review your Trust documents. In seasons of high inflation and rising prices, you potentially might position your assets to mitigate estate taxes that your heirs might otherwise pay more of. The key in this stage is income, tax & estate planning.
- Preparation: You Are Getting Ready to Retire. As you prepare for your upcoming retirement, ask yourself if your investment accounts are working for you and if your business or real estate holdings are positioned to prepare you for retirement. The key in this stage is income & tax planning.
- Accumulation: You Are Establishing a Career. Establish a good, working budget to understand where your money is going. Think about ways to increase your savings, maximize retirement account contributions, invest in real estate, and/or work on paying down debts. The key in this stage is budgeting & saving.
We have and will continue to keep you informed about what we are doing with your portfolios to prepare for these challenging times ahead.
Elder law attorneys help seniors and their family caregivers with legal issues and planning strategies. When used properly, these attorneys can help with tax planning, disability planning, avoiding probate, disbursement of an estate, preserving assets, and many other legal issues.
I bring this up because we have referred many clients to elder law attorneys in few years.
For those who are aging or have aging parents, an asset preservation trust (APT) might help you pass on your life saving to the next generation(s).
If you are worried about spending down your savings for care and living expenses, let’s schedule a meeting to talk about an APT.
If I think it might be a good fit for your family, I will refer you to a couple of attorneys who specialize in elder law.
A little planning now can save you and your loved ones a big headache down the road. Let’s work to get your affairs in order so that your kids are not left to pick up the pieces once you’re gone.
TD Ameritrade to Schwab Transition: Dual From 1099s
Those who transitioned from TD Ameritrade to Charles Schwab in 2023 will be receiving two Form 1099s:
- One from TD Ameritrade—for pre-conversion reportable activity
- One from Schwab—for post-conversion reportable activity
Delivery will be based on your paperless preferences for Form 1099s. If you are enrolled for paperless delivery, you will receive a notification when your tax forms are available on SchwabAlliance.com, or you will receive tax forms via mail if you have selected to receive paper statements.
If you have any questions about your tax forms, please let us know!
The Backdoor Roth IRA might seem like an easy solution for high earners surpassing the Roth IRA income limits. However, it carries significant complications.
Here’s the breakdown:
- What it is: This strategy allows high-income earners to make non-deductible contributions to a traditional IRA and convert it to a Roth IRA, bypassing income restrictions.
- The Baggage:
- Pro-Rata Rule: Mixing after-tax and pre-tax funds in an IRA means conversions must include both types, creating complex tax implications.
- Multiple Tax Forms: Each transaction generates three or four forms, increasing the risk of filing errors and double taxation.
- Crossing Tax Years: Timing differences between contributions and conversions require extra paperwork across different tax years, resulting in more forms to manage.
Continuously using this method means constantly tracking after-tax dollars, adding up to a hefty paperwork and tax burden for high earners until those funds are cleared. The ease of the Backdoor Roth IRA comes with its own weighty baggage.
Maximizing & Reporting Roth IRA Benefits
If you missed your 2023 Roth IRA contribution, you still have time. The deadline to contribute for 2023 is April 15, 2024.
Surprisingly, there’s no need to report Roth IRA contributions on Form 1040; the custodian handles it on Form 5498. Though not required, tracking contributions is wise for future distributions.
Contributions are tax- and penalty-free, but using converted funds may incur penalties. Use your tax preparer or software to monitor contributions, aligning distributions with tax-year contributions to maintain their status. Ideally, wait until retirement age for qualified distributions, maximizing the tax- and penalty-free benefits of a Roth IRA.
Sincerely,
Petr Burunov, CFP®
President / Wealth Strategist