Granite Group Advisors

                Tomorrow evening our President will be giving his first State of The Union address of his new term.  The expectation is that he will be talking about the economy and ways to create jobs.  Our expectation is there will be more political jawboning and no real offering to improve the economy.  While the President has been in charge for the last four years, there has been more regulations and costs added to every corporation and entrepreneur.  The major contributor to the mild economic recovery is the continuous pumping of liquidity by the Federal Reserve.  When that stops,  the headwinds in our economy will come home to roost if the economy has not picked up on its own.  As Nancy Pelosi said this weekend “So, it is almost a false argument to say we have a spending problem. We have a budget deficit problem that we have to address.”   Denial is not a river in Egypt.

After Fridays big run up in the equity market we now find ourselves trading at roughly 14x 2013 earnings.  Many traders on Wall Street think we have come to far too fast, especially with growth hovering around 2% and we agree.  This morning European markets renewed their belief that there is still much risk in the Eurozone.  The markets needed some excuse to sell off a bit and that is what we are seeing today.  If we do sell down, our expectation is the market will be down 3-5% before we resume this uptrend we saw this January. 

Once again the government in it’s ultimate wisdom has set out to do yet another program to help homeowners.  This program is only for homeowners who have responsibly paid their mortgages and the mortgage is higher than the value of their home.  If your house is worth 300,000.00 and your mortgage is 400,000.00, Fannie Mae will let you walk away with no debt but no house. 

This program will begin in March and you and I will be footing the bill.  This comes way too late in the game as well as it uses our tax dollars to fund bad investments.  From our perspective, this is market interference that threatens our economic freedoms.  While the government’s gesture is a nice idea, like all government programs, it comes at the expense of other people.  We do not agree with this plan nor do we think it will do anything to truly help the housing recovery.

Over the weekend Phil Mickelson came out saying that he may leave his residence in California to escape the new burden of higher taxes.  The media slammed him in multiple ways and he has since apologized for his comments.  Why should he apologize?  Phil is telling the truth and unfortunately the truth is something that our politicians don’t accept. 

California recently passed a new tax law that raises taxes on wealthy individuals just as our congress has done.  Mr. Mickelson’s tax rate is now effectively 62% if he stays in California.  As a businessman who would ever think this is a good idea, when he can move and reduce his tax burden by over 13% just by relocating to Florida. 

Politicians think he is being ridiculous, but the truth is the politicians don’t get it.  You can’t tax prosperity without unintended consequences.  This is a warning to other states that think they can raise revenue by taxing the wealthy.  What the politicians in California are doing is asking people to leave their state. They will get exactly that and of course that will translate to even lower revenue and more budget deficits.  It is Phil Mickelson that is owed an apology by politicians who have squandered and wasted the tax revenue and not the other way around.

Last week, the GOP decided to do a temporary measure pushing off a full vote on the debt ceiling. This temporary measure to increase the debt ceiling for a 3 month period while the congress and the President work on a budget is a good idea.  The stock market responded by going higher as more uncertainty was removed from the economic landscape.  This is wonderful news as we have not had a budget in 4 years.  Even better, these measures would withhold payment on congressional paychecks until a budget is reached.  Although many in congress don’t like this provision, I think it is about time congress is held accountable.  If this can be achieved, more uncertainty will be diminished and the markets will focus on the economy rather than Federal jawboning that has dominated the investment landscape since Obama has taken office.     

As discussed in previous blogs, the very little talked about payroll tax holiday is now over.  The promises that taxes would not go up for the middle class from the present administration has proven to be false and will now show itself in every paycheck.  The increase in the payroll taxes of 2% affected roughly 77% of all workers.  This means less money in the pockets of almost the entire working class of our nation.  Although the tax is relatively small, the US economy is dependent  on spending and is sure to take a hit when it comes to vacations, dining and other extras. With less disposable income, coupled with an already anemic US growth rate, the increase in the payroll tax will hurt.  If the economy starts to pick up, the payroll tax could be mitigated, but we do have many more fiscal fights in the upcoming months.  Stay tuned for more updates as we get closer to the debt ceiling.  

This week we turn to underfunded State pensions. As the baby-boomers retire,  this will become an incredible problem for State Governments.  The State Governments are currently underfunded by 2.8 Trillion dollars. With the expectation that the outsized fixed income returns are now over, how will the States solve these problems? 

The answer; they cannot solve these problems unless they change the current structure of the pension market.  A few years back the Federal Government bailed out the states and helped them plug a whole in pension benefits but states did not change the way they do business.  The best performing state is North Carolina, they are 1/3 underfunded, as opposed to Illinois’ 80% underfunded plan.  This is not sustainable and action needs to be taken.  Granite Group Advisors recommended in the past that State and Local Governments freeze their defined benefit plans and migrate to 401ks.  The effect in the long term would eliminate state and local municipalities liabilities and save the next generation taxes. The time is now before it is too late. 

    There has been rhetoric, meetings and discussions as we sit on New Year’s Eve looking over the edge of the “Fiscal Cliff”.  If that was not enough, the debt ceiling limit will be reached today.  The one thing that did get done in Washington this weekend was the President signed an executive order to give everyone in the 3 branches of government a raise which will cause a billion dollars a year more in spending.  This weekend proves more and more how broken Washington is when it comes to handling our finances.

At this stage our perspective is that going over the Fiscal Cliff is probably the best thing that could happen to our country.  Sure , we will all have less spending money which negatively impacts our GDP, but in the long run we will look more promising.  So let the administration do nothing.  Any deal that could be reached would not be as effective as what will be mandated by law nor stave off a second downgrade to our debt by the rating agencies. 

Have a Happy and healthy New Year!!!!!!          

With a shortened trading day and Congress on vacation we will also be taking a short pause from our comments and wish you a happy and peaceful holiday.