Monday, November 12, 2012

The Fiscal Cliff: Much Ado About Nothing?


Elections have consequences and this one will have consequences for what happens with the Fiscal Cliff.  Wall Street immediately sold off after  election results that looked like more of the same gridlock but this election might actually have been a pretty good scenario for avoiding the Fiscal Cliff.  While the Republicans maintained their majority in the House they lost seats and were expecting a much better outcome across the board in many winnable elections.  While the Democrats kept the White House and the Senate, and picked up seats, this was far from a landslide or a mandate.   In their post election rhetoric both sides look willing to deal.  Republicans seem to understand that some sort of tax increase, no matter how it is ultimately packaged, is inevitable.  Democrats seem to understand that they need to compromise with the other side and may not get everything they want.  What type of agreement we ultimately get is anyone's guess, here are a couple of ideas:

1. No "tax increase" on the wealthy but a phasing out of loopholes that is expected to generate somewhere near the same amount of revenue.  This would allow the Republicans to stick to their no tax increase pledge while basically being the same as a tax increase.

2. A smaller tax increase on the wealthy than the Democrats want.  This would allow Republicans to say they held the line somewhat.  This could also be sweetened with some sort of agreement to tackle the tax code and/or entitlements.

3. We could actually go off the Fiscal Cliff at year end, then in January have a retro-active deal.  Any deal in January could be spun as a "tax cut" as rates would have risen and a deal would bring them back down (even though they would still be higher than December).

At the end of the day the stakes are too high and the public has spoken.  Both sides will figure out some agreement that allows them to save face with their base and claim some sort of victory.  Whether this turns out good for the economy longer term is anyone's guess.  We still have a lot of problems that need solving and it is doubtful they will be addressed. 

Of course I could be wrong and there could be no agreement, what happens then?  That is the beauty of being tactical.  We don't move based on predictions, we follow market trends.  If the Fiscal Cliff is not solved we will just move to Treasuries, Gold, bonds, and/or cash and wait out the turmoil.  If it does get solved we will participate in any rally that ensues.  Either way we are prepared.

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