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How the Pandemic Chose Its Haves and Have-Nots

“We are all in the gutter, but some of us are looking at the stars.” – Oscar Wilde

Happy New Year to clients, friends and readers. 2020 was challenging to say the least, but the difficulties of this past year should not stop us from moving forward with optimism and hope. Belief that tomorrow will be a better day is a mind-set that separates us from the doom and gloomers, which in my view can manifest itself into reality. Stay positive, and never let anyone or anything which we have little control over break our spirits.

I would like to kick this year off with a shout out to prospective clients regarding their retirement assets held away. If you possess financial assets that sit in an old company 401K retirement plan, or with an adviser who exclusively picks mutual funds instead of doing the job of managing an investment portfolio consisting of individual stocks, bonds, exchange traded funds and alternative investments, it may be time to move on to a professional that is better able to serve your needs.

Mutual funds are a one size fits all solution for the masses. They over-diversify, meaning in many cases needlessly hold hundreds of issues, which all but guarantee higher internal transaction costs and mediocre results. In addition, mutual funds and some of the advisers who heavily utilize them are an inferior choice due to their:

· Tax Disadvantage – Mutual funds have certain tax disadvantages that negatively impact returns. Similar to individual securities such as stocks and bonds, profits in mutual funds are subject to capital gains tax. However, with mutual funds an investor will be held accountable for any capital gains the fund has throughout the year. As an investor, you have no control over when or what the fund sells or when it distributes these capital gains to you. For example, a mutual fund could have purchased shares in a company many years ago whose stock then increased in value. A new investor may have bought into the mutual fund after the gains in the stock occurred and therefore not received any of the benefit of the share price increase. However, when the fund goes to sell those shares, all current investors will be subject to the full amount of capital gains tax – whether or not the investor profited from the past purchase of those shares. Additionally, mutual fund capital gains can be incurred as the result of investor redemption requests, as the portfolio manager running the fund may need to sell securities to cover these sales requests. Also, because capital gains in a mutual fund are distributed to the shareholders of the fund, an investor could end up paying taxes on gains in a year where he/she didn’t sell any shares themselves or even worse when the overall fund had a losing year. In other words, an investor can lose money in a mutual fund and still have to pay taxes.

· High Fees or Complex Costs – Typically a separate account investment manager/adviser charges somewhere in the ballpark of 1% of assets under management. However, in addition to this charge the mutual fund company/manager must also be paid as well. Mutual fund expense ratios can be as little as a couple of basis points but as high as a couple of percentage points and include management fees, 12b-1 fees (marketing), administrative fees, and operating costs. Additionally, many mutual funds have high trading turnover within their portfolios, which can mean investors are paying implicitly more in both trading commissions and bid/offer spreads. Personal Capital, a robo-advisor firm published a table of estimated charges by large institutions who heavily utilize mutual funds, which was then re-published in Financial Advisor IQ in late 2017 here. Simply put, if you are paying an investment advisory fee of 1% to your investment manager/adviser and additionally paying a mutual fund expense ratio of 1% then you are paying at least 2% away in fees annually for the management of your investment portfolio. This is the amount an investor’s investment needs to return every year before he/she will begin to profit. The question an investor should ask – why am I paying double for an investment manager/adviser to simply pick mutual funds for me?

· Inability to Personalize – A mutual fund is an investment vehicle which pools together many investors assets. In order for this to work well, each investors’ return objectives and risk tolerance should be similar. This is unlikely to ever be the case. Factors such as investment time horizon, allocation preferences, ethical considerations, tax situations, concentrated investment positions, liquidity and income needs can vary widely between investors. Mutual funds are a generic, one size fits all investment vehicle.

· Poor Communication – Investors in mutual funds should not expect to communicate directly into the fund investment management team. Instead, investors will be assigned a sales representative whose main objective is to sell more mutual funds, not manage investments. Mutual funds can have thousands of shareholders, which makes communicating directly with a portfolio manager pretty much impossible. Investors who have questions about strategy and or portfolio changes will be unable to speak with anyone but a sales representative. Additionally, it is unlikely a mutual fund manager or sales representative will contact investors to see if their investment objectives have changed and if that particular mutual fund still fits their circumstances.

If you have questions on my above comments or would like more information on how we do things differently, feel free to reach out anytime.


I receive ex-hedge fund manager Whitney Tilson’s financial market commentary daily via email. It is not only enjoyable to read but it is also free. I encourage readers with a high level of interest in financial markets commentary to sign up as I have. Berna Barshay works with Mr. Tilson and writes Empire Financial Daily. She also hails from the hedge fund world and has excellent observations as well. In one of her latest pieces, she builds on a recently published New York Times article, “Why Markets Boomed in a Year of Misery.” Please see Ms. Barshay’s commentary below as I found her investigative work very informative.

How the Pandemic Chose Its Haves and Have-Nots

By Berna Barshay

Empire Financial Research

January 7, 2021

Much has been written about the stark contrast between the stock market and the ‘real economy’…

The market offered stellar returns in 2020. Meanwhile, the “real economy” saw many people suffer and entire sectors pushed to the brink of complete collapse.

In an article on New Year’s Day, the New York Times did a great job of diving into the numbers that made this phenomenon possible. The basic construct of their analysis was looking at aggregate personal income, spending, and savings across all households.

This is akin to looking at the aggregate household profits and losses (P&L) in 2020… Personal income is just another name for revenue, spending is analogous to expenses, and what’s leftover (savings) is just another word for profits available for reinvestment.

Looking at the personal income side of collective household income statements, revenue fell a lot less than you might have guessed…

And any personal income that was lost was made up nearly 20 times over via fiscal stimulus from the government. Take a look…

Salaries and wages fell by $43 billion, but they were more than replaced with $499 billion in unemployment benefits and $276 billion in stimulus checks. In fact, cumulative income from unemployment benefits was 25 times higher in March through November than it was in the same period during 2019. This increase was partly because a lot more people were unemployed, but also largely due to the extra $600 per week handed out through July, as well as some new programs that gig economy workers were eligible for.

If the magnitude of the lost wages seems small to you… I hear you and had the same reaction. I was shocked to see that total employee compensation only dropped 0.5% year over year in that period.

But a lot of this is because of who lost their jobs…

The job losses were disproportionately concentrated in low-paying service industries – workers at restaurants, hotels, theme parks, arenas, etc. The people who lost their jobs overwhelmingly were people who didn’t make that much and comprised a small part of the total income pie to start with. And there was some component of hourly workers who saw raises… such as grocery and warehouse staff – who suddenly found themselves “essential,” and in many cases got a higher hourly rate, at least temporarily.

Another factor in the smaller-than-you-might-expect wage drop is that office workers, who make more than hourly service workers, generally didn’t lose their jobs… They just worked at home. And a lot of them in booming areas like tech and finance actually saw their income rise materially. As the Times explains…

The arithmetic is as simple as it is disorienting. If a corporate executive gets a $100,000 bonus for steering a company through a difficult year, while four $25,000-per-year restaurant workers lose their jobs entirely, the net effect on total compensation is zero – even though in human terms a great deal of pain has been incurred.

Meanwhile, the Paycheck Protection Program – for all the valid criticisms leveled against it – flipped what would have been a $143 billion personal income drop for proprietors (small business owners) into a $29 billion gain.

Add all this up, and aggregate personal income was up a staggering $1 trillion last year.

Moving away from the revenue side and looking at the cost part of household P&Ls provides more info…

Regular readers of Empire Financial Daily will find this part of the Times article no surprise… Not spending on travel, dining out, and other in-person experiences led to more money available to spend on material things, such as tripping out your home or backyard with new furniture, electronics, or kitchen appliances.

Americans didn’t totally stop spending on things other than food and household goods (except perhaps in late March and April), they just allocated their spending differently. The Times breaks it down, referencing in the process a few pandemic beneficiaries I previously wrote about, such as home office furniture, bicycles, and fancy booze…

Americans spent meaningful dollars – those they wouldn’t or couldn’t spend on services – on stuff. Durable goods spending was up by $60 billion (a better chair for working from home, or maybe a new bicycle) while nondurable goods spending rose by $39 billion (think of the bourbon purchased for consumption at home that in an alternate universe would have been logged as “services” consumption in a bar).

But people whose income was unaffected (or even enhanced) by the pandemic couldn’t find enough stuff to spend their canceled travel budget on…

Let’s also remember, that first round of $1,200 stimulus checks went to a lot of people who didn’t lose their jobs. Having $1 trillion more income collectively – but fewer ways to spend it led to savings going up a lot. Take a look…

From March through November, personal savings were up an astonishing 173%. That’s what happens when income goes up by $1 trillion and spending goes down by $500 billion: Savings goes up by $1.5 trillion.

Savings can either sit in cash or get invested. Some of it did sit in cash… Deposits at commercial banks are up 19% since March.

But with rates near 0%, a lot of it ended up in the market. And when people put more money in the markets than they take out, markets go up. That isn’t hard to figure out.

The other place that savings went? Personal real estate. People bought houses, driving up the S&P CoreLogic national home price index more than 8% in October.

Essentially, the rise in savings among the people who have avoided major economic damage from the pandemic is creating a tide that’s lifting the values of nearly all financial assets.

As the Times explained, while the Fed helped, you can’t give it all the credit for the surge in financial assets during 2020…

The article does acknowledge that the Fed was essential to the markets stabilizing in March and April through their interventions… but suggests that since that period, the gain in financial assets has more to do with savings than with Fed action. As the article points out, areas that the Fed has not explicitly touched (like equities and bitcoin) have soared.

I would argue that if the Fed had only stabilized markets in the spring – but not also put in so much monetary stimulus that sharp declines reversed quickly – then the gains in the second half of the year might not have been as dramatic.

Markets were only meaningfully down for about a month before starting their rapid climb back… The psychological damage from the fall was limited by how quickly the drop reversed. That was essential for putting people in the mindset to speculate, which was the other big factor that drove markets higher.

So what happens next?

If 2020 taught us anything, it’s that predicting the future is hard. Here’s a phrase I often repeated during my years at hedge funds: “If I had today’s paper yesterday, I still would have made the wrong trade.”

That’s because sometimes companies report stellar numbers that beat all expectations, and their stocks go down anyway. Similarly, sometimes the world falls apart – and classic economic indicators like employment and GDP go down – but the market goes up anyway.

It’s easier to make a prediction about the direction of household revenue and expense lines than it is to forecast what the market is going to do… Clearly, as the threat of getting COVID-19 diminishes, more people will spend more on things like travel, dining out, and attending sports and live entertainment events. When these experiences start getting consumed in mass again, the lost jobs associated with them will come back, lifting cumulative household income.

What’s less obvious is how much spending on home goods and other “stuff” goes down. Some areas will likely stay elevated and others may abate, but if you add it all up, people will clearly start spending more in aggregate once they have more choices… which almost certainly means they will save less. Saving less takes away a market tailwind, but unless people start actually selling stocks to fund vacations, the return of experience spending won’t necessarily be a headwind for the market, either.

The bigger question may be when does inflation kick in from all the spending… and when will the Fed even care? As I wrote about last week, the Fed has already explicitly indicated that it will take a more hands-off approach to reacting to elevated inflation when it initially hits.

Putting it all together, this year will probably lack some tailwinds for the market that we had in 2020…

We’ll have less stimulus, more spending (and therefore lower savings), and likely lower equity inflows as a result.

So, some tailwinds are gone, but that doesn’t mean there will be big headwinds. It seems unlikely that rates will go up a lot this year based on Fed signaling.

We’ve shifted from an environment with many tailwinds to one with fewer, but it’s still going to be a while before explicit headwinds emerge. This leaves us in a less supportive environment for stocks than we had in 2020, but far from a hostile one.

Stocks will likely continue going up, but we may see more differentiation between them. This kind of environment might argue for stocks being driven more by fundamentals than speculation this year… But it’s hard to be that confident in this call, given all the momentum-driven Robinhood traders still lurking out there.

The wild card in this calculus that adds up to a continued accommodative environment for stocks (but slightly less accommodative on the margin) is that the flip of the Senate to the Democrats after the races in Georgia means that the White House and both sides of Congress will now all be controlled by the same party, and it’s the one that wanted to send $2,000 checks as opposed to $600 ones recently.

Already this morning, rumors are brewing of another round of stimulus. If that happens, it would be very bullish for the markets… not only because recipients would spend a lot of that money, boosting corporate revenues and earnings for the companies on the other end of that spending – but also because like we saw in 2020, some of those funds would convert to savings and in turn equity inflows into the market. Markets were up today, anticipating that potential stimulus, and despite the appalling events at the Capitol yesterday.



Justin Kobe, CFA

Founder, Portfolio Manager & Adviser

Pacificus Capital Management

Advisory services through Cambridge Investment Research Advisors, Inc., a Registered Investment Adviser. Securities offered through Registered Representatives of Cambridge Investment Research, Inc., a broker-dealer, member FINRA/SIPC. Cambridge and Pacificus Capital Management are not affiliated. Material discussed is meant for general illustration and/or informational purposes only, and it is not to be construed as investment, tax, or legal advice. Although the information has been gathered from sources believed to be reliable, please note that individual situations can vary. Therefore, the information should be relied upon when coordinated with individual professional advice. These are the opinions of Justin Kobe and not necessarily those of Cambridge Investment Research, are for informational purposes only, and should not be construed or acted upon as individualized investment advice. Investing in the bond market is subject to risks, including market, interest rate, issuer credit, inflation risk, and liquidity risk. The value of most bonds and bond strategies is impacted by changes in interest rates. Bonds and bond strategies with longer durations tend to be more sensitive and volatile than those with shorter durations; bond prices generally fall as interest rates rise, and the current low interest rate environment increases this risk. Current reductions in bond counter-party capacity may contribute to decreased market liquidity and increased price volatility. Bond investments may be worth more or less than the original cost when redeemed. Diversification and asset allocation strategies do not assure profit or protect against loss.

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