We started our last quarterly letter discussing how the Fear & Greed Index had risen to 94, indicating elevated risks. We had no idea how fast things could change in one quarter, as history was made with COVID-19 declared as a pandemic. Markets turned sharply negative as the world economy grounded to a halt. U.S. equities declined by the most in a quarter since 2008, with small U.S. stocks losing 30.6% and large U.S. stocks falling 19.6%. International equities also dropped 22.7%. Most notable was the volatility, as the S&P 500 incurred its 3rd largest percentage drop on March 16th, exceeded only by 1987’s Black Monday and 1929’s “Great Crash.” We started our last quarterly letter discussing how the Fear & Greed Index had risen to 94, indicating elevated risks. We had no idea how fast things could change in one quarter, as history was made with COVID-19 declared as a pandemic. Markets turned sharply negative as the world economy grounded to a halt. U.S. equities declined by the most in a quarter since 2008, with small U.S. stocks losing 30.6% and large U.S. stocks falling 19.6%. International equities also dropped 22.7%. Most notable was the volatility, as the S&P 500 incurred its 3rd largest percentage drop on March 16th, exceeded only by 1987’s Black Monday and 1929’s “Great Crash.”
With the Federal Reserve dropping interest rates to essentially zero, high-quality fixed income delivered a positive return of 3.1% for the quarter. Mortgage rates plummeted and Americans once again rushed to refinance. Russia and Saudi Arabia could not reach an oil output deal, which sent prices plummeting as supply skyrocketed. At the same time, demand for oil was dropping with airlines canceling flights and cars staying off the road while we all practice social distancing.
Through several stimulus packages, including the CARES Act which we will elaborate on below, the federal government is doing its part to keep Americans “ready to go” when it is safe to do so. The packages amount to over 10% of America’s GDP, with the national debt to GDP ratio expected to eclipse 100% for the first time since WWII. Though the debt can be financed at very low interest rates, it is likely that higher taxes will be needed in the future to repay what was already a rising debt level.
Patient investors either stayed put or deployed excess cash in the first quarter, with U.S. Price to Earnings valuations now 5% below their 25 year average. Granted, estimating the earnings component of U.S. equities for the 2nd quarter would be as good as a monkey throwing darts as we all watch the new case counts each day, waiting for the curve to flatten. Nevertheless, it has been said that recessions (which we are likely in now) are similar to forest fires--very painful, but necessary to remove the dead wood in order for new trees to thrive. While industries such as commercial real estate, airlines, cruise lines and restaurants are getting crushed, other areas involving streaming platforms, food delivery, telehealth and consumer staples are thriving. While we would not encourage trying to place bets during such uncertain times, we would at least point out that from an economic perspective, even recessions can breed new opportunities.
Operations at First National Corporation
It is our top priority to make sure we are always available to clients, particularly during these volatile times when many have questions about being able to fulfill their personal and financial goals.
When we became an independent Registered Investment Advisor in 2006, we put in place a business continuity plan which allows for the operation of the firm despite many potential business disruptions, such as social distancing. It is a written plan that is tested annually by simulating an emergency preventing our ability to get into the office. We routinely update the plan based on the lessons learned.
We’re pleased to have such a plan in place now, with Robin and Mike working from opposite ends of the office, and Jason, Alex, Ken, Kim, Richard & Phil all working from home.
In addition to our business continuity plan, nearly the entire business operates in the cloud through significant technology investments we’ve made over the last several years. Even when we are in the physical office, our computers are accessing everything through cloud based servers which are fully compliant with the latest in data security, encryption, 2-factor authentication and archiving. The only portion of the business that is not cloud based is the mail!
You should note that even though most of us are working remotely, all respond to email in timely fashion and that includes voicemails left on our office phones. All voicemails are forwarded to us via email and we can listen to the recording of your messages through our phones and computers. So please, if you call the office and get routed to voicemail, leave a message and we will get back to you!
While we are not meeting in person with clients during social distancing, we are available to meet via GoToMeeting (or Zoom if that’s your preference), and we continue to schedule one-on-one’s with employees using Calendly. If you would like to set up a meeting, please do not hesitate to ask!
Weathering the Economic Storm
The primary way to deal with volatility is for participants to have a diversified portfolio allocation. For those plans using our model portfolios, they are benchmarked against an appropriate Morningstar® Target Risk Index. These indices appear as benchmarks on your quarterly performance reports in lieu of arbitrary benchmarks like the S&P 500 or the Dow Jones Industrial Average. The portfolios rebalance automatically.
For participants managing their own allocation, we suggest they regularly rebalance portfolios back to target to avoid taking too much risk. This often means selling some gains and re-investing those into underweighted portions of the portfolio. Rebalancing can be set to occur automatically quarterly, semi-annually or annually through most recordkeepers. Note that target date funds automatically rebalance and get more conservative over time, so participants using only target date funds do not need to rebalance. Anyone using our model portfolios benefit from automatic rebalancing.
We continually monitor the underlying investments that form the core of each plan. We monitor long-term performance relative to peers, consistency of investment process, fees and manager tenure amongst other factors. Occasionally, when an economic storm arrives, we find that some of the underlying investments are not meeting our expectations for return relative to risk. In those cases, we will replace the investments which have not met our expectations.
Finally, we applaud those participants making regular contributions to their accounts during the downturn. By doing so, they are engaging in a dollar-cost-averaging strategy regardless of market direction which will serve them well over the long term.
The “CARES” Act
On March 27th, the CARES Act was signed into law, providing over 2 trillion dollars of economic relief for Americans, businesses, and the health care industry. On April 3rd, we recorded a webinar to discuss this in great detail, which can be found at www.fncadvisor.com/webinars. Below, we would like to provide a summary of the provisions, split into the two relevant sections:
For Individuals:
One-time payments of $1,200 for individuals and $2,400 for married couples will be made and not have to be paid back. Phase outs begin at $75k of 2019 AGI for individuals and $150k for married couples. For qualifying children under age 17, you will have $500 added for each child. These will be sent to either your bank account on file (from your tax return) or your latest known address. Social security recipients will have these deposited to the same accounts as their social security payment.
Unemployment benefits were increased by $600 week and the max benefit timeframe extended by 13 weeks. This is a very generous benefit, as a $40,000 earner in MA would now receive more than that salary for not working! Any person who has been furloughed or has reduced hours may apply. Self-employed workers, including freelancers and gig workers, may also apply.
Early retirement plan withdrawals for hardships can now avoid the 10% penalty. Payment of taxes can also be deferred for three years.
Required Minimum Distributions (RMDs) from retirement plans are waived in 2020--speak to your advisor as every client’s situation is unique.
401(k) or 403(b) loans can now be taken up to $100,000 (up to 100% of the vested balance) and delay repayment for one year.
Federal student loan payments are now stopped through 9/30/2020. In fact, any payments made after 3/13/2020 can be refunded. This is crucial for those seeking Public Student Loan Forgiveness, as these skipped payment months will still count as months of service toward that forgiveness period!
Employers can now pay up to $5,250 of their employees’ student loans as a tax-free benefit through 12/31/2020. This avoids income tax to you and saves your employer their own payroll taxes.
Be sure to donate $300 to charity if you can--it is now an above the line deduction, meaning you don’t have to itemize to claim the deduction!
New HSA eligible expenses include over the counter medications and menstrual care products.
For business owners:
Economic Injury Disaster Loans (EIDL) allow borrowers to receive $10,000 in an emergency cash advance that can be forgiven if spent on paid leave, maintaining payroll, increase costs due to supply chain disruption, or a mortgage or lease.
Paycheck Protection Program loans are for employers with generally under 500 employees. A loan of up to 2.5x the average monthly payroll costs over the previous year can be initiated to be used on payroll costs, group health insurance premiums, salaries/commissions, rent, mortgage interest, and utilities. Most importantly, some or all of this loan can be forgiven if certain criteria are met. This is a first come, first served program so you will need to move quickly!
For those not seeking the Paycheck Protection Program, you may be eligible for an Employee Retention Credit if your revenue has fallen 50% or more. The credit is equal to 50% of wages paid to each employee up to $10,000 (max of $5,000).
For those that are not seeking forgiveness under the Paycheck Protection Program, you may delay paying your 6.2% portion of Social Security taxes. Half of this will be due on 1/1/2021 and the other half is due on 1/1/2022.
We know these can get complicated. We also know there will possibly be more stimulus packages if the economy continues to worsen due to prolonged social distancing measures. As such, if you don’t already receive our electronic newsletters, please subscribe at the bottom of our homepage www.fncadvisor.com to ensure you hear about any future webinars or updates that we provide.