Fiscal cliff is the most immediate worry, advisers say

Nov 11, 2012 @ 12:01 am

By Darla Mercado

With Election Day in the rear-view mirror and President Barack Obama ready to kick off a second term, advisers and investors are shifting their focus to the realities of the looming fiscal cliff.

Top-of-mind worries for advisers include contending with the flurry of spending cuts and higher taxes that will go into effect in January unless Congress and the White House reach a compromise, according to panelists on an InvestmentNews post-election webcast last Wednesday.

Although issues such as a universal fiduciary standard and regulatory oversight of investment advisers are likely to be hot topics in the second Obama administration, the most immediate worry is preparing clients for the ill effects of the fiscal cliff.

TALKING TO CLIENTS

“The thing to fixate on right now is what the market is doing, and talking to clients to help them un-derstand the tax issues if a lame-duck [congressional] session punts these issues down the road,” said panelist Duane R. Thompson, senior policy analyst at fi360 Inc.

The effects of the fiscal cliff are twofold: Not only will the Bush-era tax cuts expire but steep automatic cuts in spending — known as sequestration — will take place if Congress fails to come up with a deficit reduction plan.

Lately, investors have been feeling paralyzed, fearing that there may be another pullback in the market. However, panelists on the webcast were cautiously optimistic that there may be a compromise that will soften the blow.

“[House Speaker] John Boehner has said that the Republicans are willing to take new revenue under the right conditions,” said Neil Simon, vice president for government relations at the Investment Adviser Association.

“To me, that means that part of this deal that's talked about quietly would leave marginal tax rates alone,” Mr. Simon said. “They could raise revenue from ending deductions and, as part of that, Democrats will have to concede on entitlements.”

INVESTMENT OPPORTUNITY

Jeffrey Kleintop, chief market strategist at LPL Financial LLC, also said he thinks that a compromise would include some combination of spending cuts and tax increases. That could lead to some optimism — and investment opportunities — if the solutions address long-term fiscal concerns.

“Stock valuations are lower now than they were in 2008 and 2009, as the markets are braced for pain,” Mr. Kleintop said. “There might be some room for upside.”

Naturally, it is also possible that Congress could kick the can further down the road and come up with an extension that will postpone sequestration, Mr. Simon said.

Tax breaks that hang in the balance due to the fiscal cliff include a 2% payroll tax cut, which Mr. Kleintop says “is not on the table” in Congress.

“Nobody cares about the payroll tax cut; it's a sugar high,” he said.

The real worry is the alternative minimum tax, which, without congressional action, will hit an additional 26 million households in the 2012 tax year and add an average of $3,700 to their tax bills.

This is a prospect both parties want to avoid, Mr. Simon said.

STATUS QUO

The legislative picture for the next two to four years is the status quo, the panelists noted, with the GOP maintaining control of the House of Representatives and the Democrats adding two seats in the Senate, less than needed for a supermajority.

Some shuffling in the committees and at the federal agencies, however, will affect advisers.

Rep. Jeb Hensarling, R-Texas, is favored to replace Rep. Spencer Bachus, R-Ala., as chairman of the House Financial Services Committee. Meanwhile, Rep. Maxine Waters, D-Calif., is expected to replace Barney Frank, D-Mass., who is retiring, as the top Democrat on that committee.

She is a strong advocate of having the Securities and Exchange Commission continue regulating investment advisers and has introduced a bill to impose fees on advisers to fund enhanced SEC exams, said Mr. Simon, adding that she is poised to rally committee Democrats on that issue.

Mr. Thompson said that Ms. Waters' bill for user fees on advisers likely won't go anywhere, because Republicans control the House.

However, it is questionable whether Mr. Hensarling will continue Mr. Bachus' crusade for an adviser self-regulatory organization.

FANNIE, FREDDIE

Reform of government-sponsored enterprises, namely Fannie Mae and Freddie Mac, is Mr. Hensarling's priority, and though Mr. Bachus will remain on the committee, he won't have the chairman's firepower to push legislation, Mr. Simon said.

Over the next two years, advisers ought to pay attention to revolving doors at the SEC and the Federal Reserve.

The panelists forecast that SEC Chairman Mary Schapiro will leave her post well in advance of her term's ending in January 2014.

They didn't suggest any possible contenders for a successor.

The panelists did agree, however, that Federal Reserve Board Chairman Ben S. Bernanke, whose term is also up in January 2014, will be succeeded by Janet L. Yellen, the vice chairwoman.

Mr. Obama hasn't indicated whether he intends to reappoint Mr. Bernanke to a third term.

dmercado@investmentnews.com Twitter: @darla_mercado

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