Weekly Capital Strategy – December 4, 2015

December 4, 2015

Excess Dependency
Andrew Pyle, Senior Wealth Advisor and Portfolio Manager

The problem with the post-2008 financial bailouts and stimulus measures was that consumers, businesses and, more importantly, investors might become dependent. When people believe there are risks to the decisions they make (i.e., you could lose money), they tend to take actions that are rational. If you believe someone will always have your back this creates an environment for irrationality. In some respects the housing boom and bust in the US leading up to the 2008 fiasco had its basis in this. Under Fed Chairman Greenspan, US interest rates were pushed to excessively low levels following the tech bubble burst and this cranked up valuations for hard (housing) and soft (stocks) assets to the point where all it took was for rates to move modestly higher before the economy was hit.
For seven years now the US has held official rates at zero and this has caused a stock market recovery (albeit shaky this year) that is out of sync with the actual growth of the US economy. Hence it was with much relief that we saw a stellar jobs report this morning, that saw non-farm payrolls advance by 211K in November, after an upwardly revised 298K headline for October. Following two months where employment growth was modest, the economy is once again creating conditions for a more ‘normal’ expansion in staffing. Barring some out of left field shock the Federal Reserve will announce its first rate cut since 2006 at its December 16th policy meeting and this will be the first test of just how stimulus-dependent investors are.
Judging by the jump in US equities following the jobs report one might assume that dependency is less of an issue. Indeed, one of the positive implications from hiking rates was that it could send a message that the Fed is more confident about the economy. And if the Fed is more confident then perhaps businesses would invest more and consumers would keep spending on homes, autos, etc. The proof, however, will be in the Christmas pudding. Considering that we typically get a Santa Claus rally from around the middle of December, any negative tone caused from the initial hike may be masked. It will be the first quarter therefore where we will be able to assess the degree of investor dependency, or withdrawal symptoms.

 

Stoxx 50 Dec 2015
As far as conditions in Europe we don’t have to wait to realize that dependency is running strong. This week’s meeting by the European Central Bank (ECB) offered up additional stimulus in the form of a one-tenth of a point reduction in the discount rate (to minus 0.3%) and extended the horizon for the ECB’s quantitative easing, or bond buying, program out to 2017. The move in the discount rate was important in that it created more room for quantitative easing to work since the ECB was limited to buying bonds that did not have a yield below minus 0.2%. As for the extension of the actual bond buying program it underscored the concern the ECB has over persistently low (or non-existent) inflation. Unfortunately, the market has developed a new definition for stimulus and it is what it thinks the ECB should do, rather than what it actually does. Investors wanted the central bank to also boost the monthly amount of bonds it purchases, so when it didn’t announce such a change, the European stock market dropped like a stone.
Apparently, failure to deliver on increased bond buying means that the ECB tightened policy. Really? It’s even more ridiculous than saying the Fed is tightening policy by raising rates a quarter-point, when a ‘normal’ fed funds rate is at least north of 2%. Where US markets were basically flat this week, the Euro Stoxx 50 index fell 4.5% and Germany’s benchmark index dropped by close to 5%. Worst of all the euro caught a bid after the ECB, though I would see euro strength as limited given that the economy is still dependent on stimulus and any weakness will ramp that stimulus up. Yet more room for excessiveness.

 

Capital Losses
(Natalie Warren, Investment Associate)

The Canada Revenue Agency (CRA) says that “you have a capital loss when you sell, or are considered to have sold, a capital property for less than its adjusted cost base plus the outlays and expenses involved in selling the property. The Agency also advises that if you have an allowable capital loss i.e. your capital loss for the year multiplied by the inclusion rate (50%) in a year, you have to apply it against your taxable capital gain for that year. If you still have a loss, it becomes part of the computation of your net capital loss, i.e. any net losses you have in a year. You can use a net capital loss to reduce your taxable capital gain in any of the three preceding years or in any future year.

Most folks are familiar with the concept of applying capital losses to capital gains incurred on stocks and other securities. One other gain that we can apply capital losses against is gains on real estate such as a cottage, second home or commercial property.  Primary residences are exempt from capital gains. So if you have sold a second home this year, you may want to have a look at your investments to see if there are any losses that you might realize.

The use of the words “gain” or “loss” can be confusing, leading one to assume that all gains or losses can offset each other.  One example of this is a gain on insurance policy.  This gain cannot be offset by any losses incurred and is taxed at your personal tax rate. Another example is a loss from personal use property.  These losses cannot be used against gains incurred from the disposition of any other assets.  Personal use property are items that you own primarily for the personal use or enjoyment of your family and yourself. It includes all personal and household items, such as furniture, automobiles, boats, a cottage, and other similar properties.

Another twist to the use of losses is the chance that you can forgo a loss if you transfer assets as an in kind contribution to a TFSA or RRSP at a loss. In this case, it would be better to sell the security at a loss and then make the contribution in cash.

If you have ever visited The Canada Revenue Agency website, you may have noticed how simply they explain concepts.  You may even use the word “ambiguous” and after further research, realize how much more there is to a topic.  As such, to insure that you correctly use your losses or any other tax strategy it would be wise to seek professional tax advice.

 

Upcoming Events

  • Canada: Housing starts, capacity utilization, new home prices,
  • US: Consumer credit, wholesale inventories, retail sales, producer prices, Univ of Michigan consumer sentiment

 

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