In mid July the Dow was at 12,670. Five weeks later is was almost 1800 points lower. The S&P is down approximately 19% since July; at -20% it’s technically called a Bear Market.
Weeks ago people were wondering whether there was going to be a deal between democrats and republicans as to whether they were going to vote again to raise the debt ceiling and go another trillion or two in debt.
This time the Republicans weren’t going to agree to increase the debt limit and go further into debt without getting the government to cut expenses and not raise taxes. The two opposing views and ideologies were so far apart that they couldn’t broker a deal until literally a few hours before the deadline on August 2.
But if a deal was signed in time why has the market reacted so badly?
There’s a rating agency called the S&P that rates the creditworthiness of state and local governments based on how likely they are to pay their bills, and as importantly how well they are able ,to work together in the event that there was a major problem that called for an immediate joint resolution. Several weeks before the deadline of August 2 the S&P warned the government that even if they made the deal on time, but the S&P didn’t like the deal, they could still downgrade the USgovernment from an AAA to an AA+.
As soon as that announcement was made the market started its descent from 12,670. On Friday August 5 after the market closed the S&P announced it had made an historic decision to for the first time in its history to downgrade the rating of the U.S. to a second rate classification. The S&P was not happy with the fact that only 2.5 Trillion was slashed from the budget when it was looking for a more meaningful cut of 4 trillion.
Secondly and perhaps more importantly there were no negotiations of any meaningful nature. Neither side had really participated in any hard to swallow cuts; they just kicked the final decision off to a super committee in November 2011 and then again after the 2012 election. The S&P had decided to punish the government for not being able to work together to solve its fiscal problems of spending more money than it’s taking in.
On August 5th, the first day the market opened after the downgrade the market dropped 90 points; the next day it dropped another 80; the day after that it dropped another 100 and then on the following day it dropped 360 points. Many people didn’t get right out of the market because it dropped very slowly and a little at a time. The following week was the most volatile week in the stock market history as there were 4 days within one week that had swings of more than 400 points each of those 4 days.
This past week we’ve seen nothing but bad news building on more bad news almost as in a perfect storm of bad news. This week alone we’ve been advised our jobless rate has increased, our housing starts have decreased, inflation has increased and consumer confidence has decreased and we are manufacturing less goods because we as consumers a are buying less goods. In other words our economy is contracting rather than expanding and that may mean a slowdown at best or at worst a double dip recession, neither one being good for our economy.
All of this has led the stock market to further dramatically decline this week. As if all of that wasn’t bad enough, European banks are on the brink of insolvency and unless certain countries continue to bail out some sovereign governments they will go bankrupt and wreck havoc on our banks and economy in the rest of the world. First it wasGreeceandSpainand now it’s possibly France.
If you haven’t gotten out of the stock market by now this may not be the right time to panic and liquidate your position and take a 18% loss. Just make certain you are within your risk tolerance: Consider 10% in bonds for every decade old you are. For example, a sixty year old could have approximately 60% of their portfolios invested in bonds. In addition you also have to be able to sleep well at night and not worry about assets that you won’t need for the next few years.
While the market has bounced back to approximately 11,300, as of this writing, you can still expect the volatility to continue. As always the idea of diversifying assets across several different asset classes is of utmost importance.
Keep in mind that the U.S. government is still under a credit watch from the S&P rating agency which issued the initial downgrade several weeks ago that set off the beginning of this recent decline. Unless the both sides agree on certain cuts, then the door is open to more downgrades.
You can and should consider incorporating various types of income annuities as they may provide you with a higher monthly income than that of a bond but with absolutely no market risk as many of these income annuities provide a guaranteed lifetime income. In today’s climate more and more people are interested in providing themselves with a guaranteed lifetime flow of income that can’t or won’t be interrupted by any vagaries in the stock or bond market nor in what the Fed does and its effect on interest rates.
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About the Author: Henry Montag is an Independent Certified Financial Planner as well as a CLTC. He’s been in practice since 1976. He is a contributing writer for The Moneypaper, a national financial publication, and sourced by Investors Business Daily, Long Island Business News, Newsday, Wall St Journal, The Moneypaper, Investment News, Senior Lifestyles and has held insurance and securities licenses for over thirty years.
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