-Dashiell Hammett

One of the key mantras of the entertainment industry is “know your audience.” If you’re DJing a 50^th high school reunion, don’t play a lot of rap music. If you’re hosting a sleep over of a bunch of 8-year old’s, The Silence of the Lambs may not be the best movie choice. If Will Smith is sitting ten feet away, maybe don’t make fun of his wife. What works for one crowd may not work for another. Back in February I said I didn’t think we’d go into an official recession in 2022. I still somewhat standby that prediction; The Fed was already going to purposefully try and slow down economic growth to tame inflation which I knew at the time, but the war in Ukraine and the disruption of global trade in several important commodities may be enough to push growth into negative territory, which is what defines a recession. These things take time to work their way through the economy, and in March the Fed only raised rates ¼ of a percent rather than the expected ½ a percent so it’s possible whatever slow down occurs technically happens in 2023 – but it’s also possible we slip into a technical recession this year. (Just as I was writing this a report came out saying we have 5 million more job openings than unemployed people, so once again, a deceleration may take a while.) But what if it’s a “good” recession.

First let me clarify what type of recession I think may be coming, if one does at all. I don’t think it’s a particularly terrible one. Long and deep recessions are usually caused by some big event, the “tech bubble” in the U.S. caused the recession in the early 2000’s but we were basically coming out of that recession when the economic impact of 9/11 extended it. The 2008 recession was caused by a banking crisis where a large percentage of U.S. financial institutions almost went out of business and had to be bailed out. I’m not forecasting that type of recession, I’m thinking more along the lines of the shorter, shallower recessions we have more commonly that last month’s not years. (Technically Covid-19 caused a recession in 2020 that lasted only 2 months and Government stimulus payments by and large made up for the impact.) But whatever happens, a recession is generally bad for the average American; but in this case it may end up being good for most of you out there reading this newsletter, because we, my friends, are not average Americans.

The average American is 38 years old, makes $31,133 a year, has about $24,000 in non-mortgage debt and about $41,000 of investment assets. Most of you reading this are retired or close to retirement, have almost no debt beyond a car payment and maybe a small mortgage balance, and far more than $41,000 of investment assets. The most important financial issue in the average American’s life is the dependability of their income. In a recession, when unemployment goes up it puts many of them out of work and certainly raises the economic anxiety and limits the upward mobility of others. For most of you out there, the most important financial issue in your life are the earnings of your investments vs. the rising cost of your expenses. In a world where your earning 5-6% on your investments and your costs are going up by 6-7%, you are falling behind. For the last year that’s the world you’ve been living in, even as unemployment has dropped to historic lows and economic growth is the highest it’s been in over 30 years. If you’re retired, however, what good does any of that strong economic news do you? (With the exception of stock market growth of course.)  A Fed induced, inflation controlling recession might actually help you more than our current, high growth, low unemployment, high inflation environment. I don’t hold out hope we’re going to go back to one-point-something inflation again soon, but imagine a world where inflation is running at 2.5 – 3% and you can put money in some kind of guaranteed account; like a CD, Treasury bond or fixed annuity and make a positive rate of return after taxes? Where you can get say, 5% for three years and 6% for five?

This is not to say a recession won’t cause some heartache. Stock prices typically go down and as people who have investment assets that can cause temporary pain – but if this is a short and shallow recession those values can respond very quickly. When you lose a job, even if you find another a few months later, studies show it sets back your career by several years compared to those who continued working. If you’re invested correctly, the money you need during the downturn should be there in cash or other, safer assets, so you can afford to wait things out. If you lose your job, and have debt – things can compound and go bad pretty quickly. Of course, all this is prefaced on the Fed actually being able to get control of inflation with whatever economic slow-down they may cause, whether a full recession or not. If rates go up and growth slows, but inflation stays high, that’s not good for anyone. Sure, it’s better to get a 5% return on that CD in a 6% inflation environment than it is to get only 2% - but you’re still going backwards albeit more slowly. As we’ve seen, the Fed is at best the hand on the tiller in very rough seas, the wind, rain and waves can have more impact on the direction of the economic ship than the Federal Reserve. If things go sideways in Ukraine, if the war expands into NATO territory, if drought, or wildfires, or hurricanes, or volcanic eruptions, or unseasonably cold or hot weather, should disrupt agriculture or trade – should a thousand other things happen, then a short and shallow recession can turn into a more protracted period of stagflation. But let us not dwell on the possible negatives, good surprises are just as likely. I guess what I’m trying to say is, don’t worry much about rising interest rates. If you’re primarily a borrower they’re a negative, but if you’re primarily a lender – as most of you out there are through your bond holdings – then they are a positive.

One more issue before I go this month. I don’t have a good segue into this topic so I won’t even try. The SECURE Act that went into effect in 2020 and changed some of the rules for IRAs continues to be tweaked by the IRS. The main issue is the inheritance of IRAs into what are called beneficiary IRAs. As I’ve mentioned before in these newsletters, the SECURE Act changed the rules that used to allow beneficiaries to take distributions from inherited IRAs over their life expectancy, to requiring them to take all the money out of an IRA within ten years – year one being the year after death. The sticky point seems to be; is there any year-by-year requirement for distribution or do you just have to take out the full amount by the end of year ten? Originally, the new law read like you would still have to take out distributions each year based on the old schedule – but then you would have to take the remaining balance out by the end of year ten. Then the IRS put out a letter ruling saying that was not the case, you simply have to take out all the money by the end of year ten, having no specific requirement each year. Most people who inherited an IRA from someone who passed away in 2020, did not take any distributions in 2021 based on this ruling. Now the IRS is trying to finalize the rules, and as a surprise to everyone, the new proposed final rule brings back the year-by-year distribution requirement. These “final” rules are not yet finalized, they are currently in the public comment stage of development so they can still be changed. If they are not changed, however, it is unclear what happens to all those people who used the IRS’s previous guidance and did not take out any distribution in 2021. At the very least we hope there are no penalties for not being able to peer into the future! We will keep you posted as soon as we know anything – the rule should be finalized sometime over the summer but if there’s enough push back on this change it could delay things. If that weren’t confusing enough, the House of Representatives just passed the SECURE Act 2.0, which changes all these rules once again and it now heading to the Senate where it is sure to be modified. I’ll keep you posted.

That’s enough for this month. As always, please call with any questions or concerns, and we are accepting new clients.