Thoughts on the “Tax cuts and jobs act”

Near the end of 2017, we saw a large tax reform signed into law that will have some significant changes and effects.

—-Corporate changes

The primary focus of the law was the corporate tax side, so I’ll start there. These tax changes are “permanent,” meaning it will take a new congressional law to change them. The theory is that corporate changes take time, and that corporations wouldn’t make a decision to relocate to the US or invest in more production here.

Here are some of the biggest changes:

– A single 21% flat tax on corporate earnings replaces the previous progressive tax with the 35% top rate.

– Capital investments can now be expensed immediately instead of over a 5-year period

– Foreign earnings are no longer subject to tax in the future, and a system is in place to tax commonly used methods (such as profit sharing) used to repatriate domestic earnings as foreign tax liabilities.

-Foreign earnings (currently on the balance sheet) can be re-patriated at an 8% rate if classified as investments or a 15.5% rate if cash equivalents.

My thoughts:

These changes are designed to encourage foreign registered corporations to re-register under the US banner, and discourage US companies from registering in foreign countries. As such, expect that other countries will react with their own tax reforms and complain at the UN.

Tax receipts are likely to go up the first year as one-time tax charges to repatriate incomes at lower rates are taken. Much of this money will be classified as investments, freeing up domestic earnings for stock buybacks. Expect significant stock market support from stock buybacks next year.

Much of the capital investments in the US will be in various forms of automation- requiring less workers for higher production. This is a good thing long term, as productivity per person is essential to supporting per-capita income growth which can increase standards of living. In the short-term it can also lead to increased income inequality, but this will inevitably be addressed at some point because we have a functioning Democracy which allows for election upsets and votes for change.

It is likely that many S-Corporations will redesignate as C-corporations to take advantage of the lower corporate tax rates. Similarly, individuals with high earnings will try to shift some tax liability to the corporate side. This will cause “average” individual incomes to come down significantly as they are reclassified in the system. A change in taxes for S-Corporations was made to somewhat mitigate this.

Politically, Trump will crow about higher tax receipts and a rising stock market while Democrats crow about corporate incomes rising while private incomes fall. Both are red herrings; neither argument will reflect real or permanent changes to the system.

I’d like to mention one positive change, not big but a force in the right direction. A major side-effect of current low interest rate policies is to encourage way too much corporate leverage, as large amounts of debt are created for stock buybacks and companies or hedge funds use leveraged buyouts to pile debt onto otherwise solvent companies. That has lead to many large bankruptcies. Now, not only do lower corporate rates reduce the value of the interest payment deduction, but the law caps corporate interest deductions to discourage this shift from equity to debt that has been going on.

The only way to really fix this problem in my view is to make stock buybacks illegal again (made legal under Reagan in 1986), to better regulate leveraged buy-outs so that the SEC will not allow them if the underlying company ends up with too much debt, and to make one-time dividends illegal for a period of time (say 5 years) after any leveraged buyout occurs.

—Individual changes

Note that unlike the corporate tax changes, the individual changes are mainly set to expire in 2025. The inflation rate, which adjusts certain deductions, will calculated in a new way to make it lower, so that individuals will see an increase in 2017 tax levels after expiration.

The reason these individual tax changes are temporary is to game the system so that the tax changes seem more revenue-neutral. In reality, everyone expects them to be extended as a sharp increase would be unpopular.

– There are 7 tax brackets, which all go down except for the lowest at 10% and the second-highest at 35%. Middle class earners will notice the 3% reduction in each of the second and third brackets.

– The personal deduction goes away, and the standard deduction is doubled. This will cause a significant shift as the middle class homeowner will no longer itemize taxes; the mortgage interest deduction will effectively only apply to the most expensive homes. This will be a noticeable benefit to renters while homeowners won’t see their taxes increase, so it is one of the few progressive measures of the tax bill. At the same time, the real estate lobby will fight it, so expect to hear a lot of quacking on it next year.

– The child tax credit increases to $2000 (up to $1400 refundable for low incomes). The child must be under 18. A $500 non-child dependent is also created. This is another progressive change as it helps young families, and making the benefit a credit means it keeps its value for low earners. I hope this survives the 2025 expiration because it actually helps young families.

—Other noteable changes

Some of these are individual tax changes, but the consequences wont be noticed by middle class households or were unique in ways that deemed separation. I’ll start with one of the latter.

– The tax penalty of the “Affordable Care Act” reduces to zero starting in 2018. This will have an unknown effect on insurance premiums. Big insurance companies like to claim that healthy people will drop coverage which will increase rates. However, I like to think insurance premiums will stabilize or drop because the companies will once again have to “sell” their plans again instead of merely dictating what people have to pay. Time will tell, though their is significant political will on both sides to overhaul the ACA anyways. I see this as a temporary reprieve for squeezed middle to lower-middle class families who will no longer be forced to pay a large portion of their take home pay in health premiums for high deductible plans that don’t help them much anyway.

– The estate tax exemption is raised. This only helps the newly wealthy really, as too many loopholes exist to keep dynastic wealth intact while the vast majority will never hit the old exemption amount.

– State tax deductions are limited to $10,000. This only affects high earners in high tax states directly. Indirectly, it is an added incentive for high earners to relocate from high tax states to lower tax states. While arguably a mixed bag, I tend to hope it helps to counteract the disturbing trend for jobs to leave the countryside and crowd into the big cities. People can only live where the jobs are, and it would be nice for people to be able to aspire to home ownership instead of being stuck in a tiny apartment in an overcrowded city while paying crazy high rents.

– Much of the arctic wildlife refuge in Alaska has been opened up for oil & gas drilling. This will have the typical groups fighting, but most people won’t notice the change.

—That’s it

Perhaps I should mention the affect on the national debt. Many will talk about it in the news and political circles, but it’s not something that will cause a quick change we can usefully analyze. Our country will not go bankrupt, as the Federal Reserve can simply purchase all of it the way the Bank of Japan does.

The wealth divide is very real, and the tax plan primarily helps the top. However, the trickle-down monetary policy during the Obama years created far more wealth disparity than trickle-down tax cuts will.

This plan isn’t the end of the world or the savior of the country, it has its pluses and minuses like anything else and we’ll continue to muddle through. In my view the real way to fix the county and rebuild the middle class is to use the SEC to break up companies that have gotten way too big while lowering barriers to entry for small business formation, and we don’t see any interest there from the leadership of either of the two major parties. Monopolies are simply bad economic policy which leads to stagnant growth and rising inequality. I don’t mean to get sidetracked. Our country still has a good system going overall, I just don’t want to be dragged in to the pro- or anti- Trump camps in the wave of relentless over-politicization.

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A history of stock market cycles. Where are we today? Charts from 1950-2017.

Mid 1950’s-1960’s: Buy and hold is the way to go

Late 60’s-70’s: Caution is king – watch that valuation because holding alone will set you back:

Early 80’s: from flat and choppy to spike and crash:

Early 80’s-mid 90’s: Buy and hold is king again. Note the great 1987 crash is now visible as a market correction in an up-trend.

1997-2008: Caution is again king. The flat and choppy 1970’s looks a lot smaller compared to these tidal waves.

2006-2017: Note how small that peak seams compared to this one. Will 2008 be seen as a market correction in the major trend just like in 1987, or are we seeing the latest major wave which will retest the lows from 2002 and 2008?

There are a few things to note here…

1. These charts are not corrected for inflation. The “flat” 1970’s would be a big loss for a buy-and-hold investor for example.

2. Stocks come in and out of the S&P 500 without reflecting the catastrophic losses of a buy-and-hold investor riding them out and later selling to buy the replacement. If you owned Kodak from the nifty 50 and held it with the S&P, you would have lost more than reflected when it shook out. Similar with massive Enron or world on bankruptcies that would have hit S&P index investors.

3. Look at the big waves of the past 2 decades, and think about “what if” you jumped out 2 years prior to the peak and waited in bonds until valuations hit below that level again. Would you be better off? It wouldn’t seem so while missing out on the last 25% gains, but it makes sense with a 10-year view.

I advise you to draw your own conclusions. My thinking is that the largesse of central banks throughout the entire world over the past decade has created the mother of all waves. I don’t believe that this central bank money can create a lasting up-trend by itself … the overall market should roughly follow GDP. In my view, when it crashes it will seem like the end of the world like it did in 2008 or many cycles past, but it won’t be … markets will simply cycle up again just as before (perhaps with even more central bank intervention? Who knows?).

A few thoughts:

1. Avoid leverage. Just like in 1987, leverage can make a significant drop clean you out so that you won’t even be able to float back on the next up-cycle.

2. Don’t be afraid to lose out on some gains – think seriously about upside vs downside risk. Take a look at valuations such as price-to-earnings so you can methodically phase out of stocks as it gets higher, and then methodically phase in as valuations drop. “Methodically” is key – try to take the emotional response out of it. Emotional response is dangerously pro-cyclical!

3. “Easy money” policies from central banks may be here for a long time – think of the entire post 1989 BOJ stance. If this is the case, the new money will always flow somewhere – and it will tend to float some sort of financial asset: land, stocks, bonds, precious metals, and commodities are different examples of these. I tend to support the idea of a rotation toward precious metals, but that’s just me.

4. Beware of crypto-currencies. Keep in mind a couple of things…

– They are not sovereign debt so that CAN go to zero and many have

– They are currently unregulated and impossible to regulate worldwide. Watch for pump-and-dump schemes which large funds are very good at taking advantage of

– Even the most established are less than 10 years old. They have shown themselves vulnerable to hacking many times, and they are very vulnerable to government policy (think of a crackdown of bitcoin by the Chinese government… yikes).

Merry Christmas, and may you be as nimble as a surfer on these waves!

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Is the stock market overvalued?

Does anyone else agree with my assessment that physical gold, physical silver, some stocks in the miners, relatively safe debt, and uninvested cash are the only things worth holding now?
Here’s my reasoning:

1. The stock market is still at all time highs with crazy high valuations.

2. ETF’s are the new craze in “safe” passive investing.  When investors get scared from a decline, much of the money that’s been piling in and pushing values up will rush to safety and pull values down.

3. Since 2009, Central banks around the world have been creating large amounts of money for “investments,” including outright stock market purchases in some cases.  This is beginning to reverse in minor ways with the fed and other central banks may slow their easing as well.

Here’s what I think will happen:

1. The decline of new hot money from central banks along with quantitative tightening will spark a minor correction, maybe 5%.

2. Many ETF investors will get spooked, put out and more will follow, causing a more significant downturn in stocks.

3. Central banks will respond once again with easy money policies.

4. Hot money will be more excited about gold and silver this next time around.

I’m at the airport writing on my phone, so I’m not going to include links or charts.  Interested in your thoughts though.

——

I’m back from my trip, and I can’t resist posting this chart I got from realvision.com

CBTOTL is, verbatim from the website: CBTOTL is a custom index of the FED, ECB, PBOC, BOE, and BOJ. Note the correlation with the S&P 500, including the stall in the S&P coinciding with a steadying of central bank balance sheets in 2014.

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Quantum Mechanics question and proposed experiment

I’m watching simplified lectures on quantum mechanics to try to get the gist of it, and I have a question:

Background:

In Quantum Mechanics, the law of superposition states that all possible states need to be added to determine the end state. This test uses a device that splits and recombines photons which have two possible ways to go. They interact like waves to cancel each other one way (destructive interference) and recombine the other way (constructive interference). It shows that even when using one photon at a time, they always go the same way, as if the two possible states are still interacting with each other.

Question:

Could it be that the probabilities aren’t totally random?

Note that using normal probabilities, flipping a coin is a 50-50 shot at heads or tails, but if you flip the coin 10 times you’re most likely not going to get 5 of each. In quantum mechanics are you guaranteed 5 of each?

Proposed experiment:

If you do a 2-slit experiment with light the light forms an interference pattern, and you calculate the exact number of photons that create this pattern and shoot them through one at a time, will it always show the pattern?

Or a more realistic version: you have a low-light laser (close to or at one photon at a time) going through a two-slit experiment hitting photon detectors that record the position of the hits. You take very short time exposures and see if they are always getting the same pattern, or at least close enough to defy normal probability?

In normal probability, there’s a chance that only one side or the other lights up and you’d see a test reflecting a perfectly probable off-normal distribution in a very short exposure.

Anyone hear about anything like this?

—————————————————————-

Answers from physicist friend:

1) I’m not sure how to interpret your first question, but in QM, the wave function is used to describe how the probability varies as a function of space and/or time. As regards individual events, all of the experimental data would say it is perfectly random.

2) For a 50/50 situation, the QM case would behave the same as the classical coin toss case.

3) It doesn’t matter how slowly the photons are sent. You can send one every 100 years and you will still get the interference pattern.

That doesn’t just go for photons, it goes for electrons too, or atoms or anything, e.g. people. The notions of a pure wave or a true particle are only figments of the human imagination. The reality is everything has properties that we associate with both classical waves and particles. Therefore everything will generate an interference pattern.

—————————————————————-

My reply:

I’ll stick with the photon as an example here simply because it’s the easiest to experiment with. So here’s what I’m thinking…

Perhaps the probabilities expresses in quantum mechanics aren’t truly random. If you set up a single photon in a dual slit experiment, we can use the probabilities to predict where it goes next, but each photon leaves a trace behind – perhaps a shift in a currently undetectable medium – and the next position hit reacts to these previous traces such that it’s next destination would be predictable if we knew where these traces were.

If random chance plays a role, then you should only rarely get a perfect interference pattern when you shoot through just enough photons to complete it – think of the actual probability of flipping a coin 10 times and getting exactly 5 heads and 5 tails and you see what I mean.

If random chance doesn’t play a role, then every short exposure in my proposed experiment should show almost exactly the same pattern.

My hypothesis is that there is some kind of shiftable non-detectable medium that these photons react to in a wave-like way, but that the medium isn’t necessarily stable over time. In a short-duration test you would get close to the same pattern every time, but if you separated the photons over longer periods then something outside the experiment is bound to affect this medium and it will more closely exhibit true randomness.

Keep in mind that only a small fraction of the universe is in any way detectable, so I think something in that unknown realm is influencing detectable matter in a wave-like way, and that potentially other non-detectable particles exist that could influence it over time. Think of muons shooting through for example – those are really hard to detect and the apparatus to do so is quite bulky, yet they could potentially affect a quantum calculation.

My goal here is to create a more realistic visual model that fits the data – like picturing all particles moving through a dark stream. Note that the stream involves energy waves rather than physical matter in my view, which is why it acts like a continuous stream … electric and magnetic fields are still thought of as continuous phenomena, hence the term “fields”.

The problem with quantum mechanics that Einstein and others have is that:

1. it is more of a mathematical theory than a visual one

2. Einstein was always convinced that the physical part of particles like electrons have only one physical location in a point in time (though in real-time the probability cloud is more useful)

3. It uses a lot of random probability. Though this fits the calculations in macro-time very well, many believe it shouldn’t be the basis of theory and that there’s a deeper story there.

I think a theory of matter moving in dark streams built at first to explaining quantum mechanics could address these points and lead to interesting questions in how to further test and define them.

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Running through nature is essential for mental health and happiness 

I felt absolutely amazing running today – made it nearly 3/4 of the way without alternating to a walking pace. I felt like sprinting and did some good sprints.

Then I noticed the sprinklers shooting straight into the sidewalk with others jogging around it. I sprinted straight into the sprinkler blast with a big wolffish grin on my face … I don’t know what it is, but I love to break with convention and let my freak flag fly.

When I got back to the car, I didn’t want to go home, so I went exploring. Neat trails, graffitied bridges, shopping carts full of who knows what, empty beer cans & cases, and a few tents.  

I turned back of course. It’s just fellow humans going through tough times, but I couldn’t help thinking it’s why I don’t go out running after sunset. That and its colder I suppose.

I hate to say it, but it does remind me of how truly blessed I am. Now I’m back at my place, ready to get some reading done in the yard. 

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Just a post

It’s been months since my last post.  What can I say, I’ve been busy.  Construction boom in LA, lots of work in tile right now.  As a project manager with all the change orders, submittals, RFI’s, etc. I can’t stand to look at a computer when I get home.  I long to write, I really do.  I’ve been reading a decent amount – mostly fiction lately.  The Trump stuff gets old … I get that the “status-quo” crowd lost because there are real, ignored problems in the country today, and I get that Trump won’t fix it.  It’s time to move on already- it’s old news.  We’re lucky to be in the US at a time when central banks are extending the market cycle to the extent that it destroys the working class with ever more minuscule gains for the paper wealth of the rich.  Most countries have a rich-poor divide far worse than ours – and every bit as self-righteous and abnoxious.  

Anyway, keep plugging away while there’s still work, one of these years it will evaporate as surely as it did in 2008.  The main question is will it be yet another step down where wages fall while costs rise, or will a real socialist hero come forth talking of things long forgotten- like a living wage, and housing for the middle class.  The alternative is the authoritarian type which merely consolidates his own power, but change will come.  Who knows when it will be safe to own a home, who knows when it will be safe to raise a family … the day will come, one way or another.  Those on top are insatiable parasites who would push all into slavery to increase the paper value of their assets, but a democracy like ours allows built-up pressure to create just enough change to prevent the bloody revolutions seen in more autocratic societies.  There’s hope for future generations at least, and our life isn’t so bad if you can give up on raising a family or meaningfully shaping the world.

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The real problem with voter fraud

Both the Trump camp before the election and  the Hillary camp after the election cried voter fraud.  Is this just modern politics?  To some degree yes – but there really is a problem with voter fraud in the US.

I wonder if Trump will bring back the idea of Voter ID requirements. The Bush administration pushed that for a while but ultimately they caved to media pressure as it was fought in liberal courts.

The Dems always block it claiming that minority’s can’t get ID’s or something, but minorities are just as American and just as capable as anyone else in this country.  

The real reason it’s routinely blocked is not minorities and has nothing to do with illegal immigrants either … Illegals are often poor, nervous, and careful – more worried about survival in a heartlessly treated underclass than political manipulation. 

So why block voter ID legislation?  Because the hardcore ends-justify-the-means liberals like to stuff the ballot boxes by voting multiple times. They do this all the time in big cities like my current hometown of Los Angeles. It’s two-faced and shameless behavior, but that’s our corrupt political system for you.  They believe it’s to protect the environment or for some media-hyped racial divide when the elites could care less about those issues and are merely using these people to fix elections so they can line their own pockets. 

When I voted in Los Angeles at the women’s center, the person in front of me asked if you needed ID to vote.  The person at the booth said no, and the next person had a list of names and asked his name.  He could’ve said any name he spotted on that list – it was right on the table for all to see.  I kept my mouth shut, moved on, and voted … It was late in the day and any protest would just cause me problems without solving anything. Will things change?  Probably not, but there’s hope.

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