John Adams – “In my many years I have come to a conclusion that one useless man is a shame, two is a law firm, and three or more is a congress.”[i]
Now that the government shutdown is over (at least until the beginning of 2014), the news media’s talking heads will stay busy by telling us who the winners and losers are. To some, the analysis of this episode’s heroes and goats, complete with self-righteous criticisms, is the critical next step. Those responsible for this ridiculous and childish behavior, in their view, need to be more responsible and conform better to Washington’s status quo. We think this indignation is misplaced.
While the Republicans are widely criticized and blamed for the recent shutdown, even from within their own party, their “offense” is not punishable by hanging (figuratively or otherwise). Fiscal responsibility is the duty of everyone in public service. That one prioritizes this responsibility higher than another does not make them the cause of all evil. Granted it is disheartening that the situation deteriorates into a shutdown. However, it is equally disappointing how our elected leaders have become so distant from their voters that they have taken on characteristics of an elite ruling class.
U.S. government deficits began around the same time as independence was declared. While George Washington and his men fought, John Adams and Ben Franklin were in Europe with their hands out. It’s unclear whether it was Adams’ ability to pitch high yield bond deals or the Dutch and French hatred of the British that secured funding but bonds were sold and debt accrued.
While fiscal deficits have been common during our country’s existence, there are also many stretches where Washington lived within its means. Government funding crisis resulting in shutdowns, though not as old as Treasury bonds, are not only a millennium event. It might surprise many, including President Obama, that government shutdowns and funding shortfalls began about three-quarters of the way through the 20th century. The first shutdown took place as cassettes were replacing 8-tracks and disco inexplicably started to gain popularity – 1976. For 10 days starting on September 30, 1976, the first partial government shutdown took place. These closures became a monthly event the next year. At the end of September, October, and November of 1977, we experienced a 12-day shutdown followed by two 8-day closings.[i]
Afterward, they became an almost annual event from the late 1970’s through the late 1980’s. In fact prior to the latest incident, there have been 16 separate federal government operational interruptions with the longest being a 21-day shutdown during the Clinton administration from December 15, 1995 to January 6, 1996.[ii]
Of course, having a smooth fiscal operation is preferable to a series of disruptions. However, a natural part of a representative democracy is differences of opinion and, sometimes, messy arguments. We can’t help but think that if those so appalled by this shutdown were in charge 200 years ago, we’d still be part of the British Empire.
One of the commonly believed risks associated with this shutdown was that it would slow the economy further and possibly resulting in a recession. So when Congress announced an agreement had been reached, stocks jumped. The Dow Jones Industrial Average rose over 300 points and the S&P 500 climbed over 2% on the day following the news.
Realization that the Fed would not begin to slow their monthly bond buying added another tailwind to the markets. Since our government got back to work, stocks have rallied over 6%. Bond yields have stabilized with the U.S 10-year Treasury note around 2.6%. Here are the numbers for the major averages through the end of last week.
Dow Jones Industrial Average +19.2%
S&P 500 +23.5%
Nasdaq Composite +29.9%
Russell 2000 +29.0%
Indices are unmanaged, do not incur fees or expenses, and cannot be invested into directly. These returns do not include dividends
These impressive gains have left many investors behind, which is easy to understand given 2013’s headlines. The year started off with fears surrounding the fiscal cliff which was followed by sequestration, which was followed by anxiety over “tapering”. Add in dismal job growth and an historically bad labor participation rate and a rational being would guess that stocks would be lower.
On the surface it appears that the worse news is, the better it is for stocks. Part of this is that bad news is good in that it better ensures continued monetary stimulus. However there are some overlooked positive developments. Corporate profits, as measured by the S&P 500 operating earnings, are at record levels.
Furthermore, energy related sectors focused on the North American drilling products and services are experiencing growth. Another talked about development is the American industrial renaissance. Cheap energy combined with increased cost of labor in developing countries has spurred the return of manufacturing to the United States. Of course, exciting new industries involved in the digitization of society and new technologies related to cloud computing, automation, and robotics are contributing to economic growth.
We think this reinforces our thought that the business community figures out the landscape and its rules and then works for success. In other words, while the media is telling us how damaging a government shutdown is, companies throughout the economy continue to strive to get better.
Nevertheless, some obstacles just won’t go away and it’s hard to believe that our political leaders will resolve the issues that caused last month’s shutdown. The result is that we will likely face another shutdown at the start of 2014. We don’t get a sense that the opposing sides of the debate have softened their views.
Unfortunately, this might be difficult to change. Currently, about 50% of the population pays no taxes but are recipients of many benefits. Another 30% pay taxes approximately equivalent to the benefits received. The remaining 20% do the heavy lifting. The 50% clearly like their situation and their representatives will do everything possible to keep it that way. The others might be more forcefully looking to change things.
Ben Franklin once said, “Democracy is two wolves and a lamb voting on what to have for lunch. Liberty is a well-armed lamb contesting the vote”[i] It’s possible that the 20%, feeling threatened, are digging in to force a more balanced equation.
If successful, this could ultimately result in a stronger economy and a more efficient government. We aren’t holding our breath but will be closely watching the upcoming debate over fiscal policy.
Returning to the stock market, prices seem a little extended. With year end in the near future and underperformance being grounds for termination (lagging the markets can mean loss of assets or even a pink slip), there are many anxious investors with significant ground to make up. We think it is hazardous to predict the next two months, but will be on watch for opportunities that the markets present.
This information should not be construed as investment, tax or legal advice and may not be relied on for the purpose of avoiding any Federal tax penalty. The Dow Jones Industrial Average is a price-weighted index of 30 actively traded blue-chip stocks. The NASDAQ Composite Index is an unmanaged, market-weighted index of all over-the-counter common stocks traded on the National Association of Securities Dealers Automated Quotation System. The Standard & Poor’s 500 (S&P 500) is an unmanaged group of securities considered to be representative of the stock market in general. The Russell 2000 Index is an unmanaged market-capitalization weighted index measuring the performance of the 2,000 smallest U.S. companies, on a market capitalization basis, in the Russell 3000 index. It is not possible to invest directly in an index. Investing involves risks, including the risk of principal loss. Additional risks are associated with international investing, such as currency fluctuations, political and economic instability and differences in accounting standards. All information is believed to be from reliable sources; however we make no representation as to its completeness or accuracy. All economic and performance data is historical and not indicative of future results. Market indices discussed are unmanaged. Investors cannot invest in unmanaged indices. If assistance is needed, the reader is advised to engage the services of a competent professional.
 US Diplomat & Politician (1735 – 1826)
 The Washington Post, September 25, 2013
 The Wall Street Journal, November 2-3, 2013
 GaveKal, Daily Comment, 10/1/13
Past performance does not guarantee future results
Jeffrey J. Kerr is a registered representative of
LaSalle St. Securities, LLC, a registered broker/dealer.
Kerr Financial Group is not affiliated with
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[i] The Wall Street Journal, November 2-3, 2013
[i] The Washington Post, September 25, 2013
Past performance does not guarantee future results