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Some Economists Doubt Dire Effects From Tax Increases

December 3, 2012 by Leave a Comment

Mr. Kass, the founder of Seabreeze Partners Management, thinks much of the investing world has overestimated how hard the markets and investors would be hit if tax rates on dividends and capital gains rise at the end of the year, as the White House has proposed.

Mr. Kass can look for support to several economists who have studied past changes in tax rates and found that the shifts had less of an impact on investor behavior than was initially expected.

That’s largely because a dwindling number of investors are subject to the taxes on investment gains that are set to rise at the end of the year, with most stocks held in accounts that are exempt from taxes.

For example, only 14.7 percent of American households have mutual funds in taxable accounts, down from as high as 23.9 percent in 2001, according to data from the Investment Company Institute.

Douglas A. Shackelford, an economist who has examined the 2003 legislation that lowered the tax rates on capital gains and dividends, said that when those changes were being put in place “people thought this would be revolutionary,” setting off a wave of changes in the way companies rewarded their investors, and how investors evaluated companies.

In the end, “it made a difference, but it certainly was not revolutionary,” said Mr. Shackelford, a professor of taxation at the University of North Carolina’s business school. The limited number of investors who were subject to the changes in 2003 has grown even smaller today, he said.

While data on the tax status of all stockholders is hard to come by, many economists agree than an increasing proportion of the entire equities market is now held by retirement investors whose holdings are not subject to current tax law; by foreign investors who don’t pay American taxes, or by institutional investors like insurance companies and pension funds that are exempt from taxes.

Sam Stovall, the chief investment strategist at SP Capital IQ, said that even among individual investors who do pay the taxes, many have incomes under $250,000 and would not be subject to the increased rates on investment income proposed by the White House. The result Mr. Stovall is anticipating is that the coming changes will cause “a lot less of a hit than most people are making it out to be.”

Mr. Stovall and others who share his views are not discounting the potential disruption to the financial markets if the White House and Congress fail to reach any agreement on the broad set of tax increases and spending cuts scheduled to hit at the start of the year. The largest of these changes are not on investment income. An increase in the payroll tax, for example, could remove $95 billion from the take-home pay of Americans.

But even if a broad agreement is reached, many strategists are expecting that taxes will rise on investment income, with the White House proposing that for households earning over $250,000 the rate on dividends rise to a peak of 39.6 percent from the current 15 percent, and the rate on capital gains increasing to 20 percent from 15 percent.

Wealthy households will face an additional 3.8 percent charge on most investment income to help pay for the recent health care legislation.

Neil J. Hennessy, the founder of Hennessy Funds, said at a year-end investing event last week that if politicians allow the rates to rise as much as the White House has proposed, dividends will become much less attractive and there could have a “disastrous effect” on the willingness of investors to put money into stocks.

Some companies have already acted ahead of the changes, with Costco and Las Vegas Sands leading the way in issuing special dividends before the end of the year so their shareholders can take advantage of current tax rates. Some investors have sold off stocks that issue regular dividends expecting the companies to become less valuable once a greater proportion of dividend income is lost to taxes.

Andrew Garthwaite, an analyst at Credit Suisse, has predicted that if the White House’s view on investment taxes prevails, it could lead to a long-term reduction in the value of the Standard Poor’s 500-stock index of as much as 5 percent. Mr. Garthwaite cautioned that the figure is likely to be lower, and that investors have already incorporated some of those losses into the market by selling stocks.

Mr. Kass disputed Mr. Garthwaite’s estimates in a note to clients, and said he was looking at market losses of at most 1.6 percent and more likely closer to 0.8 percent. Part of the disagreement arises from Mr. Kass’s contention that many people who are subject to tax are either uninformed about tax law — and unlikely to respond to changes — or more focused on the long-term performance of their portfolio than on short-term tax payments.

Mr. Kass said that even the losses he has predicted assume that wealthy people will be willing to cash out of their stock positions and stay out, something that he said is unlikely given the small returns available in other financial investments.

But an even larger source of misunderstanding has come from the difficulty of ascertaining the amount of all United States stocks held by people who will have to pay the new, higher tax rates. Foreign investors controlled 12.4 percent of American stocks in 2011, up from 8.8 percent in 2004, Treasury Department data shows.

Among the stocks that are held in the United States, 48 percent are held directly by households, down from 65 percent in 1988, according to Federal Reserve figures. And 40.7 percent of households have mutual funds in tax-exempt accounts.

But only some of these have income over $250,000 a year, and a portion of those people have their money in accounts protected from taxes. Eric Toder, a co-director of the Tax Policy Center, said as a result market prices should have little to do with the taxes paid on gains because prices are largely “being determined by tax-exempt investors and by foreign investors.”

Article source: http://www.nytimes.com/2012/12/03/business/some-economists-doubt-dire-effects-from-tax-increases.html?partner=rss&emc=rss

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Letters: Letters: Volcker and the Money Market Funds

October 30, 2011 by Leave a Comment

Re “How Mr. Volcker Would Fix It,” Fair Game, Oct. 23), in which Gretchen Morgenson quoted Paul A. Volcker as criticizing money market mutual funds because they aren’t subject to bank-style regulation:

Mr. Volcker’s comments about money market funds read like another attempt to use the financial crisis — a crisis rooted in banks and banking regulation — to deprive the economy of the enormous benefits that these funds bring investors, businesses, and governments.

Money market funds are subject to tight risk-limiting regulations. They invest in diversified portfolios of short-term, highly liquid securities. They are required to ensure that the securities they own pose minimal credit risk. And they disclose every security they own to the public every month.

Contrary to your assertion that “few in Washington seem willing to discuss” reform of money market funds, our industry led the way on comprehensive regulations that tightened credit, maturity, liquidity and disclosure standards. We continue to work with the Securities and Exchange Commission and other regulators on measures to make money market funds more resilient without undermining their critical role in the economy. Paul Schott Stevens

Washington, Oct. 24

The writer is president and chief executive of the Investment Company Institute, the trade association for mutual funds, including money market funds.

Article source: http://feeds.nytimes.com/click.phdo?i=945c4601d15e8f4bb5b855ab2f2718a6

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Municipal Bonds Are on a Tear, but for How Long?

October 9, 2011 by Leave a Comment

Total returns for some muni funds were in the 10 percent range for the calendar year, although their 12-month returns were generally lower. Analysts and fund managers see continued good performance for intermediate and long-term muni funds, along with periods of high volatility.

Miriam Sjoblom, lead bond fund analyst at Morningstar, said, “Muni bonds have had a great year, but yields across all levels are near all-time lows.” As a result, she said, “yields are likely to rise, so prices could fall.”

Many fund shareholders have been “buying and selling at the wrong time,” Ms. Sjoblom said. There was a surge of sales last November, December and January, she added, amid fears that state and city fiscal woes could lead to waves of defaults. That hasn’t happened, and, she said, the funds have turned in “a great performance since then.”

Still, muni bond funds had a net outflow of $1.01 billion in August, the Investment Company Institute said late last month.

In Ms. Sjoblom’s opinion, the funds are appropriate for anyone seeking tax-exempt income in a regular account, not a retirement account. Investors should be prepared to hold them at least a year, or preferably several years. Given today’s low-yield environment, she said, investors should focus on no-load funds with low expenses, like those from Fidelity, Vanguard and T. Rowe Price.

Investors should be aware of three other considerations when choosing a muni fund:

• Interest paid by state and local governments and agencies is generally tax-exempt for in-state residents, but when people own bonds from another state — say, a Californian who invests in Texas bonds — their home states often tax the out-of-state interest. So many fund groups offer state-specific funds.

• Capital gains that are incurred either when a portfolio manager trades holdings — or when an individual shareholder sells — are taxable.

• Some municipal bonds, while exempt from regular taxes, are not exempt from alternative minimum taxes, so investors who face a perennial A.M.T. obligation should select funds with little or no A.M.T. exposure.

Regina Shafer, who manages three municipal bond funds — short-term, intermediate-term and New York — for USAA in San Antonio, another no-load, low-expense organization, said, “Our goal is to provide as much tax-free income as possible and to try to be very tax-efficient and avoid taxable capital gains.”

The market has changed greatly since 2008, she said. Before that disastrous year, she said, muni bond insurers guaranteed bonds’ triple-A ratings, “so an investor didn’t have to think” much about individual holdings. Now credit research is important, she said, and there is more interest-rate volatility, which brings opportunity.

Ms. Shafer called muni bonds “a safe asset class” over all, pointing out that municipalities have taxing authority, unlike corporate issuers. Yields on munis in the 10- to 20-year range are actually higher than those of comparable Treasuries, which are taxable, making many munis very attractive right now, she said.

In a similar vein, Jason T. Thomas, chief investment officer of Aspiriant, a national fee-only wealth management firm, said, “By almost every measure, municipal bonds are priced attractively relative to U.S. Treasuries and U.S. corporate bonds.”

He contends that concerns about munis are overblown. The market is diverse, he said, and defaults have historically been rare, with 10-year cumulative default rates for all municipals of less than one-tenth of 1 percent.

Aspiriant uses short-, intermediate- and long-term municipal funds from Vanguard and a commingled separate account for clients.

In the high-yield part of the market, research and active management are crucial, he said, and his firm uses the Nuveen High Yield Municipal Bond fund, which Morningstar says had a total return of 10.05 percent for the first nine months of this year.

The 10-year cumulative default rate for high-yield munis is just over one-half of 1 percent, he said, citing studies that have found that muni defaults often share these characteristics: They are issued by smaller entities for risky or nonessential projects like a municipal golf course, are not rated, or are rated by only one rating agency and are nongeneral obligation bonds.

On the other hand, he said, these factors reduced the risk of defaults: a low current cost of debt service, opportunities for increased revenue like raising property taxes, efforts by governments to cut expenses, and the relatively high security of states’ general obligation bonds. And while states’ costly obligations for their pension plans are often cited as a worry, he said those obligations are long term in nature, giving plan sponsors time to make needed adjustments.

Barnet Sherman, portfolio manager of the TIAA-CREF Tax-Exempt Bond fund, called munis “a tremendous value, a core part of a fixed-income portfolio.” His fund holds only investment-grade issues, no junk. The best returns come from long-term investments, he said, adding that munis are desirable because they finance schools, ports, hospitals — “the fabric of a community.”

Article source: http://feeds.nytimes.com/click.phdo?i=61af0768936b0588f526c84d552a2eca

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