Welcome to the Q3 2024 Pomona Newsletter
In this edition of Pomona’s quarterly newsletter, I wanted to cover a range of topics that I’ve discussed with clients throughout the quarter: a market update, what’s going on with interest rates and the economy, strategies to optimize charitable giving from a tax standpoint, investment opportunities and firm / personal updates.
As always, please let me know if you have any questions or would just like to chat. My cell is (509) 643-6028 or schedule a virtual/in-person meeting HERE if that is preferable.
How Pomona Wealth is Different
Most financial advisors enter the industry intending to prioritize client interests. Generally, from what I have seen, this is still the intention. However, the company structure and size drastically affect how an advisor interacts and serves their clients. Initially, I thought larger advisory firms were inherently better, but I've learned that is not always true. As firms grow, they can become encumbered by bureaucracy, profit goals, and the challenges of scaling. Unfortunately, bureaucracy and profit targets don’t lead to better financial outcomes for clients.
These consequences may come in various forms, such as standardizing products and advice for widespread use or pushing additional products/services on clients. However, the greatest downside is the number of clients an advisor at a large firm needs to manage, typically between 150-300. While technology has improved efficiency in many areas, it hasn't replaced the need for deeply understanding each client's unique needs, goals, and challenges on a personal level. It's difficult to genuinely care about a client's financial success when they are just one among 200 or more. This level of understanding takes time and can't be achieved through a few meetings or annual check-ins.
To address these structural challenges, I founded Pomona Wealth. Our goal is to combine the personal touch, availability, and adaptability of a small firm with the resources and expertise of a larger institution. Pomona Wealth is an independent boutique firm, unencumbered by external pressures, outdated procedures, or incompatible technology systems. We aim to serve a limited number of families or businesses (less than 100), offering high-quality investment resources and technology to ensure an exceptional client experience. Our smaller size fosters more personalized and frequent interactions, all while maintaining lower fees compared to most other firms.
Deeper dive into Why I Started Pomona, click HERE.
Recent article in the Tri-City Business Journal featuring Pomona, click HERE.
Charitable Giving Strategies to Maximize Tax Impact
With year end around the corner, charitable giving is on a lot of people’s mind. This can be a meaningful way to support the causes you care about while also optimizing your financial situation. While many families donate cash to charities, there are several tax-efficient strategies that can help you maximize your financial impact. Consider these three options:
Donor-Advised Funds (DAFs): A DAF allows you to contribute cash or appreciated assets and receive an immediate tax deduction. You can then recommend grants to charities over time, creating a flexible, long-term charitable plan. Setting up a DAF is straightforward and can be done through most major custodians, like Charles Schwab. A key benefit of a DAF is the ability to take the full charitable deduction in the year you transfer assets, making it especially valuable in years with higher income or when you are in a higher tax bracket. For example, if you plan to donate $10,000 annually for the next 10 years, you could contribute $100,000 in investments to a DAF and receive the full deduction upfront, potentially creating a more meaningful tax benefit.
Gifting Appreciated Stock: Donating stocks to a charity with a low-cost basis is a smart way to avoid capital gains taxes while still receiving a deduction for the stock’s full market value. This strategy increases the value of your gift to the charity, as they receive the full value without paying taxes on the appreciation. It also reduces your taxable income, making it a win-win for both you and the charity.
Qualified Charitable Distributions (QCDs): For those required to take distributions from their IRAs (required minimum distributions), QCDs offer an efficient way to give to charity. QCDs count toward your Required Minimum Distributions (RMDs) and exclude the amount donated from your taxable income. This can be an effective strategy to lower your tax liability while supporting a cause that’s important to you.
By incorporating these strategies into your charitable giving plan, you can align your philanthropy with your financial goals and maximize your impact on the community. If you’d like to explore which approach might be right for you, please feel free to free to reach out.
Market Update - Q3 2024
U.S. stocks extended their winning streak to five consecutive months, reaching multiple record highs in September and contributing to another quarterly gain. Similarly, non-U.S. stocks delivered positive returns for both the month and quarter, while U.S. bonds rallied over the same period.
U.S. Stocks:
The S&P 500 rose by more than 2% in September, supported by easing inflation, continued economic growth, and the Federal Reserve's initiation of its first rate-cutting cycle in four years. This resulted in a 5.9% gain for the third quarter and a year-to-date increase of 22.1%.
Small-cap stocks rallied more than 9% and outperformed their large-cap peers for the quarter. Year to date, large-cap stocks gained more than 21%, while small-caps returned 11%. Value stocks outperformed growth stocks across the board in the third quarter.
Non-U.S. Markets:
Developed markets outside the U.S. also recorded positive returns in September and outperformed U.S. stocks for the quarter. Emerging markets, led by a 24% surge in China's stock market, outperformed their developed market counterparts for both the month and quarter. Small-cap stocks gained more than 10% for the quarter and outperformed large-cap stocks. Year to date, large- caps gained more than 13% versus nearly 12% for small-caps. Across the board, value stocks outperformed their growth peers for the quarter and year-to-date. Large-cap value stocks were the top year-to-date performers, up nearly 15%.
Bond Market:
Amid expectations for the Fed to start cutting interest rates in September, U.S. Treasury yields steadily declined in the quarter, particularly among short-maturity securities. The broad U.S. bond index advanced for the month and quarter. The Bloomberg U.S. Aggregate Bond Index returned 5.2% for the second quarter, and its year-to-date gain climbed to 4.5%.
Potential Investment Opportunities with Higher Yields
While the market generally processes information efficiently, some areas, particularly in fixed income, may lag in reflecting changes in rates and yields. For instance, bond yields fluctuate daily, but money market yields and fixed-rate annuities from insurance companies adjust more slowly. Historically, annuities have had a (well deserved) negative reputation due to high commissions and lack of transparency. However, some providers now offer low or no-fee fixed-rate annuities with attractive rates, akin to bank CDs but through insurance companies.
As an investment fiduciary, I prioritize exploring all opportunities for my clients, even if it requires more effort on the advisor’s end (initial funding and on-going value reporting). These fixed-rate annuities can add +2% additional yield to a client's fixed income portfolio over similar government bonds, and Washington state guarantees up to $500k per contract, providing meaningful protection.
Economic & Interest Rate Update
Federal Reserve Rate Cut: The Fed cut interest rates by 0.50% in September 2024, marking the first reduction since March 2020. More rate cuts are anticipated throughout the remainder of the year and into 2025.
Historical Context: Historically, rate cut cycles tend to follow a similar pattern. Once cuts begin, rates often decline rapidly. This environment typically benefits intermediate-duration bonds and small-value stocks.
Future Rate Expectations: The Fed’s latest projections indicate two additional 0.25% rate cuts by the end of 2024 and an estimated federal funds rate of 3.4% by the end of 2025 (down from the current 4.75-5.00%). Market participants have priced in an even more aggressive path, expecting a total of 0.75% in cuts this year and additional cuts through the first half of 2025, which could lower rates to a target range of 3.00-3.25%.
How Stocks Have Performed When Rates Fall: The below analysis is on the performance of U.S. stocks (total market and small-cap value) since 1976, focusing on how these asset classes have performed during periods when interest rates have risen or fallen over six-month intervals.
As illustrated below, both the total market and small-cap value stocks have historically generated strong positive returns regardless of whether rates were rising or falling. However, what stands out is the difference in performance between these two asset classes under varying rate environments.
Rising Rate Environments: When rates have increased over a six-month period, small-cap value stocks have outperformed the total market by an average of 4.2%.
Falling Rate Environments: During periods of declining rates, the outperformance of small-cap value stocks over the total market has increased to an average of 5.8%.
While value stocks don’t consistently outperform every month or year, the analysis shows that falling rate environments have historically been particularly favorable for value-focused investors. This highlights the importance of considering interest rate trends when making investment decisions, particularly when allocating to small-cap value stocks.
Although the future path of interest rates is never certain, the consensus between the Federal Reserve and the market is that the current federal funds rate is significantly above the “neutral rate” and is likely to decline in the coming months.
As always, aligning your investment strategy with current rate environments and valuation considerations can help position your portfolio for long-term success.
US Economy: Although the future path of interest rates is never certain, the consensus between the Federal Reserve and the market is that the current federal funds rate is significantly above the “neutral rate” and is likely to decline in the coming months.
The Fed’s projected pace of rate cuts is now expected to be even quicker than anticipated earlier this year. Historically, during periods of rapidly falling rates, extending portfolio duration beyond cash or money market funds has generally resulted in improved outcomes. Additionally, focusing on valuations within equity allocations remains crucial, but the benefit of this approach has historically been more pronounced when rates are decreasing.
Labor / Inflation: A softening labor market is expected to help reduce inflation. The unemployment rate has increased in recent months, raising concerns that the labor market and the overall economy may be slowing down too rapidly. However, with layoffs remaining near historic lows, the uptick in unemployment may simply reflect a normalization of conditions rather than a more concerning trend. As slack in the labor market increases, wage growth has begun to decelerate. Continued cooling in labor markets should alleviate wage pressures, contributing to a decline in inflation.
Firm & Personal Update
Thank you again for all the support with Pomona. We continue to grow at a measured, almost mythological pace—what I like to call “deliberate growth.” One of the traps I’m very cognizant of, and have seen time and time again, is trying to be an advisor to everyone and anyone, which doesn’t work out well for either party involved in the long term.
While that may sound appealing when starting out, over time, excessive client load inevitably erodes the level of service we’re able to provide. With this deliberate growth strategy, we’ll always have the bandwidth to support our clients as their needs and life events evolve. However, if you think Pomona may be a good fit with some you know, introductions and referrals are always appreciated.
On a related note, I recently visited my colleague John Hetzel in Dallas. John is my support advisor here at Pomona, and I serve as his back-up advisor at his firm, No Fate Wealth Management. While there, I got to check off a bucket-list item: attending an ESPN College GameDay!
Since GameDay isn’t likely to visit either of the Washington schools anytime soon, we opted for the season opener between Texas A&M and Notre Dame in College Station, TX—and even got to see Johnny Manziel in his element the night before the game.
Lastly, Melissa and I were brave (not sure if that’s the right word) enough to bring the kids (ages 5 and 7) on a short trip over the pond in September for my college roommate’s wedding in London. We even managed to fit in a quick visit to Paris. As you can imagine, the time change and small apartments made for a few challenges with the kids, but as a wise man once told me: “Memories only grow fonder with time.”
As always, don’t hesitate to reach out with any questions. I truly enjoy what I do and love helping those I care about.
Sincerely,
Kevin Floyd, CFA, CFP®, AIF®
