The New Normal was a term to describe the financial conditions after The Great Recession of 2008-2009 by Mohamed El-Erian, currently the chief economic advisor at Allianz. The concept of the New Normal is that the economy would remain sluggish and take many years to recover.
The Old Normal
The Old Normal for many was fairly straightforward. Go to college and get a degree. Upon graduation get a job and start climbing the corporate ladder. This should allow you to get married, buy a house and raise your children. By keeping your nose to the grindstone for forty plus years, you might be able to retire at age 65 and enjoy your golden years. Getting a pension, collecting your Social Security and drawing from your 401(k) plan provided a reasonable retirement plan for many. This has changed, just a wee bit. It’s important to understand, This is Not Your Parents Retirement. Unfortunately Ward and June Cleaver have left the building.
The Governments Response
The government’s response to the Great Recession of 2008-2009 was two pronged. First, the Federal Reserve Board (“Fed”) cut interest rates to near zero. Then they went on a binge of buying U.S. Treasury Securities through their program called Quantitative Easing (“QE”). The Fed ran four QE programs and expanded their balance sheet from about $900 billion in 2007 to approximately $4.5 trillion in 2016. 1) These policies were designed to stimulate the economy.
The Fed will meet in November. No action is expected to be taken as the Presidential Election is a week later. The Fed will then meet again in December. Will they raise rates at this meeting? Who knows? The last time they raised the Federal Funds Target Rate was in December, 2015. Prior to that the last time they raised rates was in June, 2006, almost a decade earlier. Suffice it to say, All Eyes Are on The Fed.
Low, Lower and Even Lower
The result of these policies is that everything is lower. OK, well, not everything. Clearly the stock market is higher. The Dow Jones Industrial Average (“Dow”) closed at a low of 6,547 in March of 2009. The Dow reached an all-time high of 18,636 in 2016. The Dow Closed at 18,308 on September 30, 2016. The Standard & Poor’s 500 Index (S&P 500) closed at a low of 666 March of 2009. It’s most recent high in 2016 was 2,190. Likewise the technology heavy NASDAQ closed at a low of 1,299 in March 2009. It closed at a high of 5,262 in 2016.
The policies of near zero interest rates and QE has been clear to investors. Take risk. There is an expression in the markets of ‘Risk On and Risk Off.’ When risk was on, everyone quickly put in their sell orders headed for the hills. When risk was off everyone was couldn’t buy fast enough and dove into the deep end of the pool. This became known as Risk On / Risk Off (“RORO”). The Fed policies clearly changed this to Risk Off / Risk Off – Squared. Many equity investors have been rewarded. Many of the other economic metrics are lower however. Let’s start with interest rates.
Lower Interest Rates
Interest rates have been doing the Limbo. They are near zero. I guess this is better than the negative interest rates like they have in Japan and Europe. Low interest rates have been a blessing for borrowers. Your local Bimmer salesman, real estate agent and the sales associate at Tiffany are all smiles. Thanks to consumers opening their wallets and purses and putting down their credit cards or signing the loan or mortgage documents, they have all been going to the bank. Multiple times.
While near zero interest rates have made borrowers giddy, they have penalized savers in spades. Retirees used to be able to count on rolling over their CD’s and getting some income to help support them in retirement. This is no longer the case.
Growth is measured by the Gross Domestic Product (“GDP”). The GDP is a measure of how the country is doing economically. It measures all of the goods and services produced over time, either quarterly or annually. If the number is positive the economy is expanding. If the number is negative the economy is contracting. Real GDP rose at 1.1% in the second quarter of 2016.
Saying lower inflation is somewhat tricky statement. The government’s official figures indicate that Core Consumer Price Index Inflation was 2.3% in August. Core Inflation excludes food and energy in its calculation. Caution needs to be exercised here. I’m not saying these numbers are gamed, even though the numbers might be gamed. The rational for excluding food and energy is that these are too volatile. Perhaps they are. Investors however need to focus on the ‘Big Three.’ Many folks, at some point in their life, need to pay for higher education, medical bills or housing. It’s obvious that inflation is not 2% for higher education or medical expenses. It is clearly higher. According to the College Board in state tuition and fees at public four year colleges increased an average of 3.4% from 2015 -2016. 2) According to Aon Hewitt inflation medical costs was 4.3% in 2016. 3) While housing is cyclical and geographically based, for some the inflation rate also exceeds 2% for their housing.
One silver lining in this very slow recovery has been the jobs and unemployment statistics. The official unemployment rate, known as U-3 has declined from 10% in 2009 to 4.9% in September 2016. The official rate does not include ‘discouraged workers’, marginally attached workers or part-time workers looking for full-time work. When these workers are included, the unemployment rate, known as U-6, is 9.7%. 4) We can debate these figures if you want. The bottom line is:
If You Want to Work, There is a Job for You
This is good news. If you want to work that is. Sure, it may not be the job you want. It may not be the hours you want. Perhaps it’s not the boss you want. It may not even be the pay you want. But there is a job out there for you. All you need to do is apply. After you get a job just start setting your alarm clock. It’s all downhill from here. Everyone needs to start (or restart) somewhere.
What the New Normal Means to You
The key takeaways from the New Normal depend on where you are in your station in life. For example, the route of getting any four year college degree as a ticket to a fantastic career is likely over for some. Far too many twenty somethings with their bachelor’s degree are still living in their parent’s basement, working part time as a barista at Starbucks (SBUX) and trying to figure out how to pay back their huge student loans. This is not to say higher education isn’t worth it. Clearly it can be. It’s just that the major that is chosen is vital. With the cost of college continuously increasing, it certainly needs to be viewed as an investment. For some, it’s huge investment. When high school students and their parents are assessing colleges it’s important to be able to say, I Did The Math.
Additionally it’s not just getting a degree and then thinking you are good to go with education for the next forty years of your working career. It just doesn’t work that way anymore. To remain competitive you will need to adopt a mindset of lifetime learning.
The main thing to understand is that you are on your own. Hopefully you already knew that. If not, well, sorry for the bad news. What does this mean? You can’t rely on the government, the union or your employer to take care of you. You need to rely on yourself and, hopefully, your family. Therefore, it’s critical that you invest in you. It’s possible no one else will. This could be an investment of time, money or both. In my profession I am required to obtain a lot of continuing education hours. That’s fine. Many of these classes tend to be technical in nature. Therefore I have to branch out and ‘sharpen my saw’ in other ways. Although I have cut back somewhat, I still read a lot. I read the Wall Street Journal and their sister publication Barron’s on the weekends. I used to read a lot of business books. Then my son turned me on to some cool military books like Lone Survivor and No Easy Day. Now I’m reading The Red Bandana an awesome book about a young man who played lacrosse at Boston College, was a volunteer firefighter and was one of our 9/11 heroes.
With interest rates near zero and projected to being lower for longer, this will be challenging for your fixed income allocation. This means you will likely have to save more. Sorry about that. It’s important to understand that Only The Thrifty Survive. What influences your ability to expand your net worth is:
• How Much You Save
• What Your Rate of Return Is
• How Long You Invest For
Saving is just the first step. After setting up your cash reserve fund, then you will need to invest. The most common tool employees will use to invest is their 401(k) plan at work. This plan allows employees to contribute on a tax-deferred basis up to $18,000 per year. Investors over age 50 can contribute an additional $6,000 in a so-called ‘catch up’ contribution for a total of $24,000. If there is no employer match or it is very modest don’t worry. As long as the fees are reasonable and there is decent investment options enroll in the plan and start contributing. It’s likely the 401(k) plan will be the cornerstone to your retirement plan. What if your employer doesn’t have a 401(k) plan? Go to them and see if they can adopt a plan. The 401(k) plan is an effective tool for employee recruitment and retention. What if they still won’t adopt a plan? Start by funding your IRA or Roth IRA. Granted, the contribution limits for the IRA or Roth IRA are significantly lower than the 401(k) plan. Investors are allowed to contribute $5,500 annually to their IRA or Roth IRA if they are eligible. Taxpayers age 50 or older can contribute an additional $1,000 in a so-called ‘catch up’ contribution for a total of $6,500.
The Economic Cycle
The reality is that the economy is on a continuous cycle. Up, down, flat and up again. The issue isn’t that the economy isn’t coming back. It has and it is although it has been very slow. Domestically it is at least. As far as other countries, well, that’s another story. The other reality is that we are merely paying back for the excesses during the years leading up to The Great Recession of 2008-2009. These clearly are not the rock and roll times that lead up to this period. Or for that matter the party times that lead up to the dot-com meltdown in 2000. That’s fine. This is more like the Tortoise and the Hare. The Tortoise, while crawling slowing and methodically eventually wins the race.
CDs are insured by the FDIC and offer a fixed rate of return, whereas the return and principal value of investment securities fluctuate with changes in market conditions. The S & P 500 is an unmanaged index of 500 widely held stocks that is generally considered representative of the U. S. stock market. The Dow Jones Industrial Average (DJIA), commonly known as “The Dow” is an index representing 30 stock of companies maintained and reviewed by the editors of the Wall Street Journal. NASDAQ composite is an unmanaged index of securities traded on the NASDAQ system. Inclusion of these indexes is for illustrative purposes only. Keep in mind that individuals cannot invest directly in any index, and index performance does not include transaction costs or other fees, which will affect actual investment performance. Individual investor’s results will vary. Past performance does not guarantee future results.
The information contained in this report does not purport to be a complete description of the securities, markets or developments referred to in this material. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. Any opinions are those of Thomas F. Scanlon and not necessarily those of Raymond James.