Fiscal Cliff 101

The critical need to raise the debt ceiling will be the “catalyst for short-term measures to avoid falling off the fiscal cliff,” according to Morgan Stanley’s Government Affairs Office in Washington.

Morgan Stanley believes one likely outcome will be adoption by the lame-duck Congress of a six-month extension of the status quo (“kick the can”), to give the new Congress time to see if it can reach a “grand bargain” compromise later in 2013.

Another possibility, in the view of Morgan Stanley Wealth Management’s Global Investment Committee, is a one-year extension of existing tax rates for most taxpayers, with some compromises on the upper-income brackets.

The Global Investment Committee expects that action to mitigate the “fiscal cliff” will reduce the impact on the economy – from 5 percent of GDP (without action) to 1-2 percent.

Post-election, Morgan Stanley’s Global Investment Committee made the following strategic asset allocation recommendations:

• Increased exposure to risk assets by adding US and Europe ex-UK equities, investment grade credit and commodities. 1
• Lowered weightings in cash, short duration and high yield bonds.1

According to Morgan Stanley’s Nov. 12 weekly market commentary, “The catalyst for this change is our view that the impending U.S. fiscal cliff – fiscal drag of 5 percent of GDP that threatens another U.S. recession – will be mitigated and delayed. Progress on fiscal policy reduces uncertainty and is thus positive for risk assets.”

The most important advice I can offer investors during this time is to focus on your long-term financial plan rather than short-term market dips. Be realistic, but not fatalistic, about current market conditions and returns. Investors prepared for occasional declines will be less likely to fall prey to panic selling. And finally, don’t try to time the market, and keep your portfolio well-diversified to help cushion volatility.

Categories: Finance