The month in brief. We saw a very pleasant 180º from January. New M&A action, nice corporate profits and the possibility of a rescue for Greece helped the market. By the end of February, 457 companies in the S&P 500 had issued 4Q earnings reports, with earnings per share about 154% above a year ago.¹ The S&P 500 had its best February since 1998, rising to 1,104.49.²

Domestic economic health. Consumer spending increased, even though consumer confidence didn’t. Personal spending advanced by 0.5% in February, and the Commerce Department also noted a 0.7% gain in inflation-adjusted purchases of durable goods and a dip in the personal savings rate to October 2008 levels. It suggested consumers were shopping enthusiastically.³ Yet consumer confidence indices went south: the Reuters/University of Michigan index went from 74.4 to 73.6 and the Conference Board barometer went from 46.0 from 55.9.⁴

How about the manufacturing and service sectors? The February data showed more growth. ISM’s manufacturing index came in at 56.5, and its service sector index read 53.0 (up from 50.5 in January.)^5,6

As for consumer and producer prices, something really notable happened: core CPI fell by 0.1% in January. It was the first monthly decline since 1982. Overall CPI rose 0.2% for January. PPI rose 1.4% in January, 0.3% factoring out food and energy costs.⁷

In Washington, it appeared to be reconciliation or nothing when it came to health care reform. (Since 1980, reconciliation has been used 22 times in Congress and succeeded 19 times, one of those results being the Bush administration tax cuts.)⁸ Sen. Harry Reid (D-NV) introduced a jobs bill that would exempt employers from payroll taxes on new hires for the rest of 2010. Its fate was uncertain in the House.⁹

In February, the Federal Reserve took a small but notable step away from the emergency tactics put in place during the recession. It unexpectedly raised the discount rate from 0.50% to 0.75% – a little move that luckily didn’t send a big shock wave through the stock market.¹⁰

Global economic health. Would the Eurozone ride to the rescue of Greece? At the close of the month, it formally asked Greece for a plan to control its debt. Meanwhile, some economists speculated that the nation would be bailed out by some kind of unprecedented EU action. The respected Markit Economics PMI survey showed manufacturing increasing in Europe at the fastest rate in over two years; Eurozone joblessness also ticked down 0.1% to 9.9% in February.¹¹

Japan’s jobless rate was 4.9% in February, down from 5.1% a month earlier. Its GDP, which had been flat in 3Q 2009, came in at +1.1% for 4Q 2009. New data showed that China’s economy grew by 8.7% in 2009. Impressive? Certainly. Yet look at Taiwan: we learned last month that its economy was growing at an annualized rate of 18.0% during 4Q 2009.^12,13,14

World financial markets. It was truly a mixed bag last month – some indices had great gains, others big losses. Some gains in the Asia-Pacific region: Shanghai Composite, +2.10%; Hang Seng, +2.42%; Australia All Ordinaries, +1.18%; Sensex, +0.44%. Losses in that region: South Korea’s Kospi, -0.49%; Nikkei 225, -0.71%. In Europe, the FTSE 100 gained 3.20% while the DAX and CAC 40 respectively declined -0.18% and -0.82%. Russia’s always volatile RTSI was -4.51%. The best-performing and worst-performing indices of the month were the benchmark indices of Mexico (+4.09%) and Turkey (-9.05%). The MSCI Emerging Markets Index declined by 0.27% in February, while the MSCI World Index gained 1.77%.^2,15

Commodities markets. The broad commodities market staged a rebound last month – and the dollar kept strengthening. The U.S. Dollar Index gained another 1.12% in February to go +3.20% on the year. On the NYMEX, the big mover was oil, which had its finest month since May 2009, advancing 9.29%to erase some severe January losses. Other fuels did well last month: RBOB gasoline futures gained 8.64% and diesel fuel gained 8.00%.²

In metals, copper shot up another 7.58%. Other metals logged nice gains in February: gold rose 3.31%, silver 1.91%, platinum 2.25% and palladium 5.11%.²

It was winter, and when it came to crops, there was volatility. Pork bellies performed better than any other notable commodity in February, posting a 12.02% gain. Other commodities had banner months: soybean oil, +9.82%; wheat, +9.55%; copper, +7.58%. Sugar futures cratered, dropping 21.07% on the month. Orange juice was +5.51% last month and +11.27% through the first sixth of 2010.²

Housing & interest rates. Snow or no snow, the January numbers weren’t pretty. Existing home sales fell 7.2% from the previous month – on the bright side, they were 11.5% above January 2009 figures.¹⁶ New home sales dropped 11.2% to a record low adjusted annualized sales rate of 309,000 units – and that was a 6.9% descent from year-ago levels.¹⁷

We all knew mortgage rates would rise; it was just a question of when. Last month turned out to be “when”. By the end of February, rates on 30-year FRMs averaged 5.05%. As for averages on other kinds of mortgages, the percentages were as follows: 15-year FRMs were averaging 4.40%, rates on 5-year hybrid ARMs were averaging 4.16% and rates on 1-year ARMs averaged 4.15%.¹⁸

Oh yes, Fannie Mae asked for $15.3 billion more from the Treasury to keep its net worth in the plus column. It also announced plans to buy up as many as 200,000 delinquent home loans out of mortgage-backed security trusts in March.^19,20

Major indexes. Stocks made up a lot of ground last month. It was not only the S&P 500’s best February in 12 years, but also the NASDAQ’s best February since 2000. At the end of February, the real yield on the 10-year TIPS was at 1.48% – right where it was at the end of 2009.^2,21

March outlook. We had some really nice signals at the start of the month – consumer spending increasing by the biggest monthly amount since mid-2008, a mid-50s ISM manufacturing index reading, and some strong M&A activity, all welcome after some very poor numbers concerning housing and consumer confidence in preceding days. The market ultimately decided to pay attention to mergers and earnings in February and take some of its collective mind off economic challenges. Will that trend continue this month? The markets have weathered the sovereign debt crisis nicely, and seem resilient enough to handle all but the biggest geopolitical shocks. Worth noting: at the start of March, the Dow, NASDAQ and S&P 500 had each crested their 50-day moving averages.²²

The major economic releases for the balance of March: January factory orders and pending home sales (3/4), February’s jobless data (3/5), January wholesale inventories (3/10), February retail sales, January business inventories and the University of Michigan’s February consumer sentiment index (3/12), February industrial production (3/15), February housing starts and building permits (3/16), February PPI (3/17), February CPI and the Conference Board’s February leading indicators (3/18), February existing home sales (3/23), February new home sales and durable goods orders (3/24), February consumer spending (3/29), the Conference Board’s February consumer confidence survey and the Case-Shiller home price index for January (3/30), and February factory orders (3/31).

Riddle of the month. A rope ladder hangs over the side of a docked ship and dips into the water. The rungs are 15.75″apart, all equally distanced. At low tide, two of the ladder’s rungs are underwater. At high tide, which is exactly 3.5′above low tide, how many rungs will be underwater?

Contact my office or see next month’s Update for the answer.

How effectively could it address America’s unemployment rate?

How about a tax break for companies that hire? A new jobs bill introduced by Sen. Majority Leader Harry Reid (D-NV) proposes major tax incentives for hiring businesses. If the bill becomes law, will these incentives make a dent in the unemployment rate? Or will they matter little? Not everyone is optimistic.

On February 24, the $15 billion job creation measure passed 70-28 in the Senate and headed for the House of Representatives.¹ Just what is in this Senate bill?

The big perk: the “Hire Now” tax cut. If the bill becomes law, a business that hires someone who has worked less than 40 hours in the previous 60 days could skip paying its share of the new hire’s Social Security tax for the rest of 2010. That’s 6.25% of the employee’s salary. Companies could realize a payroll tax savings of up to $6,622 per new hire. (In case you are wondering, the federal government would reimburse the SSA for the lost taxes.) ^2,3,4

If the new employee lasted 52 weeks on the job, the business would get a $1,000 tax credit on its 2011 federal return.³

The other perks. The Section 179 deduction limit for small business capital purchases was raised to $250,000 for 2009, and this bill would keep the limit at $250,000 for the 2010 tax year. The “Build America” bond program would be extended and expanded – that’s the program created to help state and local governments raise funds for infrastructure projects. The current federal subsidy for state highway spending would also be extended.^1,2

The fine print. Any private-sector employer, any non-profit organization and any public-sector college or university would qualify for the “Hire Now” tax break. While a business that owes no tax could not get the $1,000 new-hire tax credit for 2011, it would be allowed to carry that credit forward to the future. There would be no limit on the amount of new employees a business could hire en route to claiming the credit.⁸

Is this really going to make a difference? Well, Sen. Reid believes that the bill could create and save as many as 1 million jobs. Analysts feel that may be stretching it. Economic Policy Institute economist Heidi Shierholz thinks the measure could result in “tens of thousands of jobs, but it is absolutely nowhere near big enough” to reduce the unemployment rate.³

Under the bill, a “new” hire does not have to be an additional employee. It can also be a worker replacing someone who quit or was fired.³ So service sector businesses with high turnover might get some major tax breaks. There might be a lot of hiring among such companies, but not a lot of net job creation.

Is another bill just ahead? According to The Atlantic, Sen. Reid plans to introduce a second jobs bill with much greater scope. This proposed (and almost certainly more expensive) legislation would extend jobless benefits and COBRA for millions, as well as numerous tax credits and programs scheduled to sunset. State Medicaid funding would be extended and Medicare physician payments would be updated through this bill as well. While The Atlantic says it has copies of the bill, Sen. Reid’s office has not yet confirmed its contents. The Senator has mentioned rolling out multiple bills in the next few weeks to address the country’s unemployment problem.⁵

You may be tempted to do it – but do you really want to?

While you might be able to borrow from a 401(k), that doesn’t mean you should. Yes, we are in a recession. Yes, times are tough. But borrowing from your 401(k) could prove highly detrimental to your financial health.

Some 401(k) plans will not even allow you to take a loan. Those that do commonly permit you to borrow up to 50% of your vested account balance or $50,000, whichever is less.¹ How do you pay the money back? You pay it back (with interest) from future paychecks. How long have you got to pay it back? Usually, up to 5 years. If you use what you borrow to buy a home that will be your primary residence, you may be given longer to pay back the money.²

But again, this doesn’t mean you should. Here’s why this idea belongs in the category of “last resort”.

It could pressure you to reduce your 401(k) contributions. You’ll repay the loan out of your paychecks. Can you do that and continue to contribute to your 401(k)? If you have to lessen or cease 401(k) contributions as a consequence of this move, it could further hurt your retirement savings potential, especially if your company offers you a match on contributions.

If you can’t repay the loan, it becomes a distribution. If you can’t pay the money back within the time period allowed, it is considered a distribution, subject to federal and state income taxes. If you are younger than age 59½, you will face the usual 10% penalty for making a premature withdrawal from your retirement account on top of that.¹

If you lose your job, guess what: in most cases, you have to pay the loan back within 60 days, or it becomes a taxable distribution. Ow.³

The money isn’t tax-sheltered after you borrow it. Nor is the loan tax-deductible.¹

It works against the time value of money. In other words, compounding. One of the key tenets of investing is that money available to you now is worth more than money available to you in the future. Any money you put in a bank account or tax-advantaged investment account now has potential earning capacity – the capacity to grow and compound over time.

This is why we would all prefer to have, say, $20,000 to invest today rather than $20,000 to invest 30 years from now. If you wait 30 years to invest it, you will lose 30 years of time value. Additionally, that idle $20,000 will be worth less 30 years from now due to inflation.

If you borrow from your 401(k), you are working against the time value of money and the power of compounding. By removing assets from that tax-advantaged account, you are hindering its potential earning capacity.

Every 401(k) plan loan carries an opportunity cost. Years from now, you may have to reckon with some sobering questions – how much could those funds have earned if they were left inside the 401(k), and how much did they earn for you when you took them out of the 401(k)? Did the money you borrowed earn you a dime? Did you take on another debt using the money you borrowed?

Are you paying yourself interest? Think again. As you pay back a 401(k) plan loan, the 401(k) program puts the principal and interest back into your 401(k) account. So it looks like you are paying yourself interest. Technically, you are. But to pay that interest, you need to earn money (a salary) and pay income tax on what you’ve earned. You pay the interest on your loan with post-tax dollars. Guess what: when you withdraw those dollars from your 401(k) at retirement, they’re taxed again (as taxable income). So in essence, those dollars are being taxed twice. (It must be noted that specific tax rules apply to Roth 401(k) contributions.)²

Why harm your retirement fund? Borrowing from your 401(k) could amount to an injurious financial mistake, one that could haunt you for years. If the thought has crossed your mind, talk to your financial or tax advisor – there may be other ways to find the money you need.

Stocks log best month since November. The S&P 500 rose 2.85% last month even with worries over Greece, China and the U.S. housing and job markets. The S&P had its best February in 12 years.^1,2

4Q GDP revised to 5.9%. That tops the initial 5.7% estimate from the Commerce Department. It means 4Q 2009 was the strongest quarter since 3Q 2003.³

Home sales in deep freeze. The January numbers were very poor: -7.2% for residential resales, -11.2% for new homes. However, existing home sales were 11.5% above where they had been a year before.⁴

Case-Shiller index: home prices rising. The widely watched 20-city home price index posted its seventh straight monthly gain in December. Prices increased in 15 of the index’s 20 metro areas.⁵

Durable goods orders up 3.0%. The January figure from the Commerce Department was hugely positive. Yet with transportation orders factored out, durable goods orders were down 0.6%.⁵

Less confidence last month? The February Conference Board index of consumer confidence fell to 46.0 from 55.9 in January. The index’s assessment of current conditions was the lowest since 1983.⁶

Soft week but strong month. The major U.S. indexes lost from 0.25% (NASDAQ) to 0.74% (Dow) last week. Monthly gains were quite strong: DJIA, +2.56%; NASDAQ, +4.23%; S&P 500, +2.85%.¹

Riddle of the week. Al gives Jane three boxes, one labeled DIAMONDS, one labeled PEARLS and one labeled DIAMONDS OR PEARLS. He tells her that all three boxes are labeled incorrectly and that one box contains diamonds, one pearls and the other emeralds. Al then tells Jane that if she can guess the contents of any box without opening it, she can keep the contents. How many boxes must Jane open to do this, and/or how many boxes can she keep?

Contact my office or see next week’s Update for the answer.

Last week’s riddle: In 15 minutes, a dress will dry on a clothes wire. How long would it take you to dry five dresses?

Last week’s riddle answer: 15 minutes.

If you’re laid off, what happens to your retirement money? Well, you have three basic choices with your 401(k). One gives you more freedom and control than the other two.

You could just leave your 401(k) alone. The money will remain invested, and the financial firm handling your 401(k) will keep mailing you quarterly statements telling you how it is doing. Any future growth will be tax-deferred.¹

But this passive choice comes with an opportunity cost. If you just leave the 401(k) assets in the plan, you’re giving up control and flexibility. Your investment choices may be limited, the plan fees may be high, and you may not be able to quickly access your money or do what you want with it. If you have a trail of old 401(k)s left with a bunch of former employers, things can get really complicated when you retire – especially when you have to take Required Minimum Distributions (RMDs). Leaving the money in the plan may not be the wisest choice.

You could withdraw the money. This is a terrible choice – a last resort. It comes with a severe financial penalty. You will not get all the money you have invested back – far from it. You will lose 20% of your 401(k) assets to withholding taxes, and if you are under 55, the IRS will levy an additional 10% penalty for early withdrawal of the assets. By the way, distributions from a 401(k) are considered taxable income – so expect a big tax bill in the year you cash out.¹ The federal government does not want to see you wipe out your retirement savings. Neither does your financial advisor. (If you really need money, you could consider borrowing from your 401(k). The problem here is that most companies want the loan balance paid off when you leave – whether you leave work by choice or not.)

You could roll it over into an IRA. This is the choice that usually makes the most sense. You can move the money into an IRA through a rollover or trustee-to-trustee transfer. Or, you could direct the money into a so-called “conduit IRA,” a traditional IRA created to hold your old 401(k) assets until you move the money into another qualified retirement plan. (You can’t contribute to a conduit IRA.)² There’s no tax penalty when you do an IRA rollover or trustee-to-trustee transfer. After you do it, you have total control of the money, continued tax-deferred growth, expanded investment choices, and possibly lower management fees.¹

Rolling over the money into a Roth IRA might be a great move, provided you can meet two conditions. First, your adjusted gross income has to be less than $100,000 for the year in which you make the rollover. Second, you’ll have to pay taxes on the assets you convert.¹ The upside is considerable: you get tax-free compounding, tax-free withdrawals if you are older than age 59½ and have owned your account for at least five years, and the potential to make contributions to your IRA after age 70½ without having to take RMDs. Contributions to a Roth IRA are not tax-deductible, but there are fewer restrictions on withdrawals.^3,4

In 2009, you can fund a Roth IRA with after-tax contributions to a 401(k), 403(b) or 457 retirement savings plan – you can take those contributions and convert them to a Roth IRA tax-free, provided your AGI is $100,000 or lower. There is no limit on the conversion amount. Incidentally, in 2010, anyone can convert a traditional IRA to a Roth IRA – the AGI restriction on such conversions disappears.⁵

What if you have to shiver through a 401(k) freeze? A “freeze” is when your employer reduces or suspends matching contributions to your retirement plan. FedEx, General Motors and Motorola have all recently chosen to do this.⁶ The answer: don’t let up on your personal contributions. If you can manage it, adjust your 401(k) contribution to a level where you effectively replace what your employer contributed. Saving for retirement should remain one of your highest priorities.

How is your money positioned? How are you invested today? Are you doing things designed to preserve and enhance your retirement money? You may want to talk with me about your options. If you’d like to, call me at 800-990-2734 or email me at Pete@PeteMitchellinc.com.