Impending fiscal cliff has financial planners reviewing their options

Posted: June 27, 2012

America's so-called fiscal cliff is making it hard for investors to plan ahead.

The fiscal cliff is the paradox that Congress and the White House now face: If they pass measures to slice the country's massive budget deficit — potentially raising taxes and cutting spending — the very austerity measures helping to reduce a government budget crisis could ultimately plunge us into another recession.

What's an investor to do in a portfolio?

The fiscal cliff is prompting consternation among financial planners, some of whom warn their retirement-age clients to avoid the stock market. "The U.S. is where Greece was four years ago," opines Dan White, a financial planner in Glen Mills, founder of Dan White & Associates L.L.C. "Retirees can't afford to lose money in the market. It's great [to invest] when you're working. But you can't when you're withdrawing" money from retirement accounts. He advises older clients to stick with index annuities.

Long-dated Treasuries have risen so much in price that many investors are either selling out of them slowly or shunning them. Yields on Treasuries (which move down when prices go higher, and vice versa) are pitiably low — and likely to stay that way. That amounts to a tax on savers who place money in U.S. government bonds. With yields at a historic low around 1.4 percent, Treasuries aren't even keeping up with inflation.

"I don't own them," said David Pottruck, former chief executive of the Charles Schwab discount brokerage, on the sidelines of the 2012 Milken-Penn GSE Education Business Plan Competition at the University of Pennsylvania's Annenberg Center last week. Pottruck, a Penn graduate, is now cochairman of HighTower Advisors, which oversees about $30 billion in assets.

"At a 2 percent to 2.5 percent inflation rate annually, that means essentially if you leave your money in cash for the next few years, you lose 2.5 percent of that every year. And that's a tough principle for people to understand. They're worth 2.5 percent less each year by doing nothing," says Chris Millard of JPMorgan's Philadelphia office.

Adding to the uncertainty, the Federal Reserve surprised the market last week when it failed to implement a new round of quantitative easing despite signs that the world is slipping into another recession. Although the Fed cut its U.S. economic growth forecast and said unemployment will remain above 8 percent, our central bank chose only to extend its so-called Operation Twist program.

Operation Twist means the Fed sells short-term while buying long-term bonds in an effort to "twist" the yield curve. Under the program, the Fed has been buying longer-dated Treasury bonds and selling Treasury bills and notes maturing up to three years, but its inventory of securities in that short-term band is down to about a two-month supply.

Investors wary of the impact of Jan. 1's looming fiscal cliff, when the Bush-era tax cuts are due to end, could put a portion of their wealth into precious metals to hedge against the market's volatility — either in exchange traded funds or gold mining shares, which have lagged the bullion price.

The United States could see consumer purchasing power fall substantially, notes investment bank Fairfax in a letter to clients. "We expect the Fed to take further action before this event to avert yet another potential crisis," writes Fairfax. It advises investors to allocate money to gold as "we see the potential for further QE in the United States, China and Europe as leading gold higher this year."

What else is working now in portfolios? Strangely enough, sectors benefiting from the historically low prices in U.S. natural gas, Millard says. He points to utilities switching over from coal to natural gas. They should benefit from lower fuel costs over the long term.

Speaking of natural gas, JPMorgan has stopped issuing new shares in its popular $4.27 billion Alerian MLP (symbol: AMJ), the master limited partnership exchange traded note. The fund reached 129 million shares last week, the maximum number allowed. By no longer issuing shares, the Alerian MLP essentially changes into a closed-end fund — and could trade at a premium or discount to its net asset value.

There are other options for natural gas exchange-traded funds, such as the ALPS Alerian MLP (symbol: AMLP), with $3.7 billion in assets. However, its structure as a C-corporation opens it up to corporate-level taxes, according to Investment News' Jason Kephart. Master limited partnerships don't pay corporate taxes.

Says Abbot Downing's Thomas Raymond Jr., a shareholder in the Alerian MLP: "It's unfortunate as the menu of legitimate MLP investment vehicles is limited to begin with. As an owner, I wouldn't mind a scarcity element creating a premium to [net asset value]. That said, AMJ could just as easily trade at a significant discount. It creates execution risk."

Erin Arvedlund is a finance reporter in Philadelphia. Contact her at 646-797-0759 or erinarvedlund@yahoo.com. Read more of her columns at www.philly.com/arvedlund.

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