May 2016

Financial Times

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Debt Moratorium in Puerto Rico has PassedKevin ReichFixed Income Specialist

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Calmer waters are Welcome Gary Watts,CFP®Vice President - Financial Advisor CA Insurance License #0H85443

Probably the simplest reasons anyone invests in stocks are to make money (capital gains), generate income (dividends), or some combination of the two. Of course, that really is putting it in the simplest of terms. Many of you have chosen to follow our recommend- ations to place a portion of your nest egg in a diversified portfolio that includes equities, because the stock market has historically offered superior long-term returns. Others are nearing or at retirement. For you, the empirical research suggests that a limited exposure to a diversified and conservative stock portfolio will not only generate income, but also allows for some growth. It’s not a strategy that guarantees against short-term losses in the equity portion of your investments, but the limited exposure to the market mitigates much of the risk to your entire nest egg.

Collective wisdom, market volatility, and how stocks are priced There is an enormous amount of research that has gone into how stocks are priced. In our short time today, I will keep things simple. Whether we are reviewing an individual stock or a broad measure of equities such as the S&P 500 Index, in reality the price is a gauge of market sentiment that takes into account the collective wisdom of all market participants.

Debt Moratorium in Puerto Rico has PassedKevin ReichFixed Income Specialist

Calmer Waters are WelcomeGary Watts,CFP® Vice President - Financial

Puerto Rico has been struggling under its massive debt burden for quite some time, yet it has only defaulted on a small portion of its outstanding credits. Now, that may change as Governor Alejandro Padilla signed a moratorium bill in the beginning of April. This measure now gives Padilla the authority to suspend debt payments through January of 2017, on general obligation bonds, sales tax or “Cofina” bonds, as well as debt from other public agencies.

Padilla has been very outspoken in the press as he has continuously claimed that his commonwealth is insolvent, and that they will not be able to service their debt going forward. This may be the governor’s latest ploy as he aims to recruit help from our government in Washington DC. Also to be noted, the island’s main electricity provider, PREPA, has recently completed a deal with creditors in order to responsibly restructure its debt burden. This new moratorium may complicate the previously agreed upon deal, and destroy progress that had taken months to achieve.

At the moment, the only bond payments that can be suspended are those with a non- constitutional backing. Other debt with stronger securitization could end up being affected, but not until July 1, 2016. This extreme maneuver will essentially break the contract law between the island at its creditors, and its passing will not go over quietly. We can expect to see major holders of Puerto Rico’s debt file lawsuits to fight this freshly passed moratorium. Also, large insurers of the commonwealth’s paper such as MBIA and Assured Guaranty could possibly take action against the moratorium.

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These participants include everyone from the small investor to sophisticated institutions that have created complex models to value stocks. Simply put, they incorporate all publicly available information; collectively generating what they believe is a fair price for the stock or industry metric at that moment. As sentiment shifts, so does the price. These participants are all “putting their money where their collective mouths are,” so to speak. Since information is so readily available and is so quickly distributed, analysts and academics like to say that markets are efficient. While I would argue in favor of market efficiency, I believe the collective wisdom of investors can sometimes misprice risk, especially when emotions come into play. Still, I strongly encourage you to avoid trying to time the market. No matter what article you may have seen that seems to have special insights into the future says, no one has a crystal ball that consistently calls highs and lows. That brings us to the ups and downs in the market we’ve experienced – what analysts call ‘volatility.’ In some respects, the declines of just over 10% in the late summer 2015 selloff and the early 2016 selloff really weren’t particularly significant. Market corrections in the broader context of a bull market will happen from time to time. Our goal is to manage and mitigate risk, but we can’t eliminate it.

Economically speakingOne recent fear is that the economy was set to slip into a recession. Recessions will take a big bite out of corporate profits, and profits are the biggest medium and long-term factors that affect stock prices.

While recent data is not suggesting the economy is running on all cylinders, it does signal that the expansion is muddling along at a modest pace. Yet, that’s not what stocks seemed to be telegraphing early this year. Everything from China worries, falling oil prices, and fears about earnings seemed to be suggesting the economy was set to stall. While markets typically process information efficiently, once in a while the collective wisdom overshoots to the upside or the downside. We see it in hindsight. Expect to see headlines screaming of an impending bear market or even a market crash. They really don’t offer much in the way of solid market analysis, but they are designed to get “eyeballs,” or page clicks. The old news adage, “If it bleeds, it leads,” applies to sensational financial articles, too. "If you have a truly random variable, and there are, say, 60 million possibilities, it's impossible not to find some pattern somewhere," said Nassim Nicholas Taleb, a professor of risk engineering at New York University (New York Times).

Bottom lineMarkets will experience periods of tranquility and markets will experience periods of volatility. In some respects, it’s much like the weather. Even then, I might put more faith in the three-month temperature outlook then I’d put in the many and varied forecasts for stocks. It's noise and best to be avoided. All of you have financial goals. If you are to hit your goals, a plan, i.e., a financial roadmap, is crucial. Imagine starting out on a vacation without a roadmap?!

Unless new circumstances have arisen in your life, I strongly encourage you to stick with the plan. This includes an exposure to stocks. I hope you’ve found this review to be educational and helpful. As I always emphasize, it is our job to assist you! If you have any questions or would like to discuss any matters, please feel free to give us a call.