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Things to watch 2021

(1) FOMC - Interest Rate

One of the best legislation to help the US economy is the CARES Act; this legislation helped businesses and people. It helped alleviate the pressure of monthly payment for student loans. It gave businesses cash to burn when states force closure of their business. But it did not really solve the problem. People are unemployed and the economy is not generating the same production level as it once were. The CARES act simply shift the damage of the pandemic towards the year 2021. So why does the FOMC and interest rate have to do with the CARES Act? When the CARES act expire, student loan payments will continue, unemployment insurance increments will be reduced (putting pressure on the individual states to support the unemployed), and business may incur more costs. Fortunately the Consolidated Appropriations Act (CAA) did pass. The CAA will alleviate operational burdens caused by the pandemic. But it did not extend provisions of the CARES act such as supporting states with their unemployment problems and freezing student loans. Come April, if business does not open and the unemployed will not get back to economy, there will be a liquidity crisis and people might have to incur more debt.

So how is that situation related to the FOMC and interest rates? Anything that charges non-fixed interest rates (ie. your credit cards, potentially your mortgage and car payments - if you went for a variable interest rate, etc) will increase in parallel with FOMC's policies. When the FOMC increase interest rates, this typically signals the market of contraction of the money supply. The cost of debt will be a little bit more significant that if the FOMC's interest rate was near a zero.

Here is a caveat; in 2019, the Feds did gradually increase the interest rates and contracted the money supply. But when the micro REPO crisis in the fall and banks enacting CECL methodology, the Feds realize that there might be a liquidity problem if they continue to increase interest rates. The global pandemic had to force the Feds to deploy a near zero interest rates and established liquidity facilities to ensure that the market will continue without breaking any cogs in complex economic machine. But what happens when business will run as usual? The debt that people and firms compiled due to the pandemic crisis will be factored in much heavier. If the FOMC slowly increase the interest rates by keeping in mind of the debt burden compiled, then the market will potentially do fine. But if it increases and people and firms cannot make their monthly premiums, then we can expect economic contraction.


(2) Companies whose valuation is driven by the global pandemic (i.e. tech - Amazon, Zoom, Pelaton, etc).

A lot of the companies that relies on physical interactions are undervalued: Airlines, hotels, cruises, etc. Even energy companies, specifically oil are undervalued as well. There are a lot of factors that cause them to be undervalued. But their problems are simply solvable with time. Mr. Market simply value them today are driven by expectation and confidence. Once political leadership are back to normal, and science drive the solution to this pandemic, these companies will surely reach their intrinsic values. Whereas the price appreciation due to retail investors heavily investing on simply momentum and volume, might reach an exit point and will put a negative pressure on price.


(3) TCJA's 2021 Implication

There are a lot of provisions within this act that is dangerous to the everyday people. For one is the tax rate increase that is scheduled to be enforced if this act is not repealed. The TCJA enabled a lot of companies to have a sugar rush and a lot of the companies took that extra savings for short term gains (stock buybacks, paying off debt, acquisitions, and if they are smart, long term capital investment development). Extra cash given by the tax cuts allow company's valuation to soar (and with buybacks) it was a really good thing if you were a shareholders of the companies that benefited. If they did not spend those extra cash, they are not strapped as much as they should during the crisis. Regardless, if the next administration decided to repeal this act, one can expect the price appreciation of those companies will be exacerbated as the tax burden will puts a downward pressure on the company's price.




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