March 8, 2019
Stocks fell this week as investors grew nervous over slowing global economic growth. Driving markets lower was the European Central Bank’s (ECB) surprise announcement that it would initiate a new stimulus program. The news spooked markets because it indicates a complete reversal from its decision to end its $2.9 trillion bond-buying program just three months ago. China added to the market’s growth jitters by announcing that both exports and imports fell sharply in February while, in the U.S., February job gains proved weaker than expected. The saving grace in the U.S. jobs numbers was that it came on the heels of a blowout January jobs report, and February’s wage gains remained strong. Still, there was not much enthusiasm from investors this week, resulting in the Dow 30 declining -2.21%.
ECB Makes a U-Turn
Having just ended its $2.9 trillion bond-buying program in December, the European Central Bank shocked markets this week when it announced a fresh round of stimulus to help boost the Eurozone’s flagging economy. The ECB is trying to step on the accelerator to coast through a rough patch at a time when the region is already experiencing deceleration and facing the additional risks from Brexit in the weeks ahead. The ECB’s new targeted long-term bond refinancing stimulus program, which would be the third stimulus injection since 2014, is expected to start in September and run through March 2021. The program is designed to provide low cost funds to European banks, which in turn should result in more commercial and consumer lending to stimulate the economy. The central bank also elected to hold interest rates steady at their current levels. While markets responded negatively, concerned the ECB is more nervous about the current situation than they are letting on, this is nonetheless a proactive step that is being taken prior to Europe actually falling into recession. The Eurozone registered 1.10% GDP growth in Q4 2018, and for 2019, the central bank expects Eurozone GDP growth to achieve the same. This is a reduction to their previous estimate of 1.70%, and hence their announcement of the preemptive stimulus package.
China Trade Slump Continues
China’s trade numbers took a hit in February as dollar-denominated exports fell -20.70% from the year ago period. This was much worse than the -4.80% decline expected. The drop was even more glaring given January’s 9.10% year-over-year (yoy) increase. Like the exports, imports also remained weak during the month, falling -5.20% yoy compared to estimates of a -1.40% decline. That follows January’s -1.50% slide from the year ago period. On a positive note for the U.S., the China trade surplus with the U.S. fell sharply to $14.72 billion in February from $27.3 billion in January. It needs to be noted that the magnitude of February’s slowdown is not entirely indicative of the impact from China’s trade battle with the U.S. The reporting period contained the week-long Chinese New Year holiday during which businesses are shuttered and import/export activity slows considerably – even during normal times. A rebound is likely next month once China is back to work, but how sustainable such a rebound will be is ultimately dictated by the timing of the trade resolution with the U.S.
Jobs Growth Stalls
After a blistering start to the new year, where businesses added 311,000 to the payrolls in January, February saw just 20,000 jobs added to company payrolls. While that seems dismal on the one hand, there were some positives in the report. The unemployment rate fell by -0.20% to 3.80% and workers continued to see their paychecks go up, with average hourly wages rising 3.40% from the year ago period. The headline figure threw markets for a loop but digging into the report, there were healthy gains in professional business services (+42,000), wholesale trade (+10,900), and financial activities (+10,900). The main area of weakness was in construction (-31,000) but poor weather conditions likely had an impact there, while construction overall has added a healthy 223,000 jobs during the past 12 months. Retail trade continues to face a structural problem in competing against online retailers. That sector lost -6,100 jobs as big box retailers continue to decline in numbers. Aside from just being a shockingly low, topline figure for February, the trend for the job market still looks very strong.
A lot of expectations have been built into the market’s rally for the year to date, and none more so than the expectation that a deal with China is just around the corner. As that timeline has slipped and extended, the markets have become weary and recent data has reminded investors that we are still in the midst of a trade war that comes at a financial cost. While the market may have been in a sour mood, there were no smoking guns in this week’s batch of reports. China’s trade data and U.S. jobs were tainted by one time or explainable items, and the ECB’s move, while surprising, can be cast as being prudent as much as it can be concerning. Weary is the best word for the market right now, needing some catalyst – a trade deal, a Brexit resolution, or consumers spending higher tax refund checks – in order to mover higher.
The Week Ahead
Should a First Time Home Buyer Borrow from their 401(k)?
As we near the spring home buying season, lower mortgage rates and greater supply combined with a healthy jobs market and growing wages are expected to help boost activity in the residential housing market. According to realtor Caroline Whiteside with Briggs Freeman Sotheby’s, millennials will make up the largest percentage of home buyers this spring as many of them will be reaching the prime home buying age of mid- to late-20s. Saving for a down payment can be the biggest hurdle for homeownership, and millennials are often buried under high levels of student loan debt and generally haven’t hit their peak earning years, making it harder to save the cash required for a down payment.
A down payment of 20% of a home’s purchase price is a longstanding benchmark, and while there are mortgage options that require less than 20% down, buyers should beware of the financial downside of low-down payment-loans, including the extra fees or insurance that might be required and the risk of ending up underwater in a property value downturn. These factors lead many first-time buyers who don’t have an equity nest egg wondering if they should use their 401(k) to come up with a hefty down payment.
One of our advisors, Tyler Ozanne, a Certified Financial Planner™ with expertise in 401(k) plans and Financial Planning 101 education, regularly addresses this topic for 401(k) plan participants, financial planning clients, friends, and family. Tyler cautions that while there may be a few advantages to borrowing from your 401(k) for a down payment, the pitfalls outweigh any benefits.
Tyler explains that some but not all 401(k) plans allow participants to borrow from the retirement savings they have accrued in their workplace savings plan. The plan sponsor — the employer who establishes the plan for employees — may set limits for how much participants may borrow, but loans generally cannot exceed the greater of $10,000 or 50% of your vested account balance up to a maximum of $50,000. Ordinarily, withdrawing money from your 401(k) is a taxable event where you must pay federal income taxes on the withdrawals at your ordinary income tax rate. Additionally, if you are younger than the plan’s normal retirement age, you may also be hit with a 10% tax penalty for early withdrawals. However, there are a few exceptions. One of those exceptions occurs when you take a loan from your 401(k).
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Let’s cover the pitfalls Tyler explains first.
1) Your paycheck will decrease. Most plans require that employees repay the loan through payroll deductions, so you can expect a reduction in your take home pay in the amount of the loan payment.
2) You will have a shorter repayment period. In many cases, 401(k) loans must be re-paid within five years. However, when a 401(k) loan is taken out for a home, the amortization period may be stretched out to a period longer than five years but generally up to a maximum of ten. The maximum amortization period will be outlined in the 401(k) plan document.
3) You will be taxed twice. Traditional 401(k) contributions are made with pre-tax dollars. The 401(k) loan repayments that you are making to yourself will be made with after-tax dollars. When you retire and start taking 401(k) distributions, the interest dollars will get taxed all over again.
4) You will miss out on retirement savings. Some 401(k) plans do not allow participants to make new contributions while they have a loan outstanding. If you take ten years to repay your loan, that could mean an entire decade without making contributions — and without getting your employer’s match to your 401(k) plan. You will miss out on the free money you could be getting from matching contributions. Furthermore, during this time, your money isn’t generating investment returns.
5) Changing jobs could be disastrous. If you leave employment with the company sponsoring your plan, you must pay the remaining balance on the loan in full within 60 days, or the outstanding balance is treated as a distribution subject to ordinary income taxation plus a 10% tax penalty if you are under the age of 59 ½.
Tyler explains that the few advantages to taking a loan from your 401(k) for a down payment include:
- You don’t have to meet underwriting requirements. When banks loan money, the borrowers must meet certain credit-worthiness criteria. If you have the funds in your 401(k), you can typically avoid having to meet the lender’s underwriting requirements — at least for the down payment portion of your home purchase.
- You may access funds more quickly. A typical loan application requires providing a credit history, copies of bank statements, proof of income, and much more. If you are tapping into your 401(k), you can generally access the funds more quickly.
- You pay interest to yourself, not a lender. When you borrow from your 401(k), the interest you pay goes back into your own retirement account — not to a lender.
While borrowing from your 401(k) may be a temptation, Tyler advises first time buyers to wait to purchase a new home until you can afford the expense without jeopardizing your financial future and your retirement.