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Why I'm Glad About the Fiscal Cliff
12/31/2012 3:30:00 PM
America is looking over the precipice of the fiscal cliff and it appears that a dealwill not be reached before the New Year. About $600 billion in spending cuts and newtaxes will begin to drag theeconomy lower, but despite what you might hear in the financial news, the fiscal cliff could be a golden opportunity.
The markets have sold off more than 4% since their September high and could give back another 10% if no deal is reached early in the New Year. While many anxiously await every headline from Washington and others have fled stocks all together, informed investors are crafting a plan to take advantage ofmarket weakness.
A fiscal molehill
Ben Bernanke and the rest atthe Fed are nowhere near the point where they will start pulling back on monetary stimulus. In fact, they have explicitly guaranteed that policy will stay accommodative until unemployment comes down to 6.5% orinflation increases above 2.5% a year. The real effect of the fiscal cliff is the negative sentiment it has caused rather than any economic certainties.
The stars align
The Bank of Japan has already consented to implicit threats by its newPrime Minister and has doubled its inflation target in a sign that large-scale monetary stimulus is on the way. Manufacturing in China, meanwhile, grew at the fastest pace in 19 months in December. So the world's second largest economy appears ready for round two of its economic growth story. Together, the two Asian economies account for almost a fifth of globalGDP and should support both growth and sentiment.
The United States is just coming into a secular rebirth of American energy and manufacturing growth that the markets have yet to fully appreciate. [Street Authority's Nathan Slaughter has touched on some of the biggest opportunities in this area here , here and here. ]
Combine this renaissance in industrial growth with the fact that corporations are sitting on a historic $2 trillion incash and you get the ingredients for significant growth down the line. In fact, global mergers & acquisitions surged in the fourth quarter to the highest level in four years -- a sign that companies are finding value and looking to the future.
A New Year's strategy
A fiscal cliff-induced 5-10% drop in the market, however, would bring valuations down significantly and set investors up for great returns next year. For example, if we assume a trailing price multiple of 15 at the end of next year, to the S&P would be at 1537, which is only 9.8% higher than current levels. But if we can buy into a position closer to 1300, then the rebound would produce a 17.9% return.
Why am I not worried that going off the cliff could result in losses beyond the first month of the New Year? Going over the cliff is going to incite so much vitriol for those in Washington that a deal will be reached by the end of January with largely retroactive stipulations. Basically, the government is giving savvy investors a chance to buy into next year's growth at discounted prices.
Risks to Consider: A fiscal cliff deal will eventually get passed, though it is less certain when Congress and the President will come to an agreement. I would recommend a laddered approach to getting back into the market rather than waiting for a singular low entry point that may never come.
Action to Take --> Investors should take advantage of a further selloff in the market toprofit from some really promising growth next year. It is rare that the market offers a chance to get in at a lower price point ahead of strong tailwinds for growth, but the fear surrounding the fiscal cliff isoffering a gift that many investors do not fully recognize.
I am positioning my own portfolio inbonds and defensive stocks like Philip Morris International ( PM ) , which pays a 4.1%dividend yield , and should be fairly insulated against a market selloff. [Phillip Morris is a great example of what wecall a " Forever Stock ," which is why it's a cornerstone in StreetAuthority Co-Founder Paul Tracy's Top-Ten Stocks portfolio as well.]