Not affiliated with The United States Office of Personnel Management or any government agency

May 27, 2019

Federal Employee Retirement and Benefits News

Category: Thrift Savings Plan (TSP)

Does Your TSP Account Have a Touch of Pre-Recession Blues?

Some experts predicted that December was on the dark side and was about to be the worst ever experienced December since 1931. 2018 was a year of unpredictability, which had many investors unsure of what to expect especially those that were in the process of investing in something that would give them long-term returns through their retirement, approximately 20 to 30 years.

Arthur Stein, a financial planner, has lots of active and retired feds as clients, and some of them are even TSP millionaires. He claimed that the year’s TSP C and F return reminded him of when Shakespeare described life in Macbeth:

“It is a tale … full of sound and fury, signifying nothing.”

After an unstable and unpredictable period for the C fund (S&P 500 stocks), and a declining year for the F fund (intermediate-term bond index), very few things have changed. Everything is still unstable. By Dec 13, the C fund had increased by less than 1 percent while the F fund had declined by less than a percentage. Nothing much exciting happened throughout the year.

The stocks for small and medium-sized businesses, represented by ‘S’ and international stock represented by ‘I’ funds have shown more dramatic and negative results. The two funds declined at a shockingly high rate, with the (S fund) going down by up to 4.2 percent and the (I fund) decreasing by 10.8 percent.

The G fund was the best performer of the year, having yielded an increase of 2.8 percent.

What does this mean for investors? The way these changes will affect you depends on your specific financial situation. Take an example of a case where one is 62years old, retired and already making TSP withdrawals for Social Security and annuity supplements. This type of person should be worried.

If you are at least ten years from your retirement, you should not be worried as these changes may have no or very slight impact on your finances.

If you wish to learn and understand more about the recent TSP performance and how these performances can impact your investment plans, be sure to reach out to your financial advisor.

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TSP’s I Fund To See A Much Brighter Future With FRTIB’s Change

In November 2017, the Federal Retirement Thrift Investment Board option to expand its I Fund, which included the following: small-capitalization businesses, emerging markets, and Canada.

You can read the full plan by checking out their November meeting minutes. In a nutshell, the board decided that in 2019 the index the I Fund follows will change. The hope is that this will lead to better risk-adjusted returns for the future.

In June 2017, Aon Hewitt, a consulting firm, had spoken with the board, recommending they make the change. The Board agreed to look at what the implications would be in doing this and would address the matter sometime in the fall.

How Is The I Fund Going To Change?

Should the TSP follow through with this planned change, the I Fund will no longer watch the following indexes – Far East Index, Australasia and the Morgan Stanley Capital International Europe. Instead, the index it will follow is the Morgan Stanley Capital International All Country World Ex-US Investable Market Index.

What will this change allegedly do?

Simply put, it would increase the I Fund’s scope.

For instance, the Far East/Europe index the I Fund is currently following has more than 24 percent of the size financed in Japan, with 17 percent financed in Europe. This is a more than 40 percent investment in two leading countries. The seven countries, comprising of 80 percent of the I Fund index, are:

• Australia
• France
• Germany
• Japan
• Netherlands
• Switzerland
• UK

The I Funds’ All Country index is the one the fund will end up following, which only has between 12 percent and 17 percent invested in both the U.K. and Japan. The other countries make up 60 percent of the fund. By making this change, it would mean exposure would be given to South America and Asia and would nearly double the number of countries it will invest in.

Currently, the Far East/Europe index takes into consideration just mid-to-large-sized businesses, which makes up 85 percent of the respective market capitalizations. The All-Country index comprises any sized company (or 99 percent of the market capitalization).

Everything within the TSP funds, except the G Fund, is managed by BlackRock Inc. The company, along with its iShares ETFs charge about the same expense ratios for Far East/Europe and All Country ETFs, which means there shouldn’t be that big of a change happening to the I Fund expense ratio.

What Will The Value Of Emerging Markets Be?

Obvious changes occurring in the I Fund are the additions of small companies and Canada. However, the most notable difference is the inclusion of emerging markets such as Brazil, China, India, South Korea, Thailand, etc. Up to 25 percent of the All Country index is made up of emerging markets; they are not even considered in the Far East/Europe index.

While the “I fund” was regarded as the best TSP fund in 2017, with 25 percent yearly returns, it narrowly missed a 37 percent returns from the emerging markets in that same period. While the performance change is significant for each index every year, there are some indicators that the faster-growing markets will do well over the next ten years. Investors with no exposure are likely to be disappointed if they don’t invest in them.

The International Monetary Fund expects developed economies will see a two percent or less gross domestic product increase in the next five years. Japan, which is the most significant player of the Far East/Europe index, is anticipated to grow less than one percent a year because of two reasons – aging population and declining population. Emerging markets, however, are likely to develop five percent GDP every year.

PricewaterhouseCoopers believes the same thing is to occur. A look at their 2050 outlook notes that the top seven emerging markets were half the size of the top seven markets in 1995 and are currently the same size in 2015. They are thought to be two times the size in 2040. The reasons for this significant change include rising GDP per capita, larger population sizes, and quick population growth.

Along with all this, the Far East and Europe index have had a seven percent exposure in the technology industry, but the MSCIs Emerging Markets index has seen a whopping 27 percent exposure. Thus, the joint All Country index has had a 12 percent exposure to the technology sector.

Adding these economies to the “I fund” would ensure similar effects – the exposure of the technology industry would double.

With exposure like this, one would assume emerging markets would be valuable. In 2007, that happened. According to many metrics like the market-capitalization to GDP- ratios and price-to-earnings ratio, this market would be far more valuable than European or U.S. stocks.

While the yearly returns for the emerging markets haven’t done so well, their corporate earnings and economies have grown. Still, it appears investors see flat returns.

As it stands, emerging markets are still rather valuable even with higher growth expectations for the long-term. Of course, they don’t follow the same indices as other markets, and they trade at lower values than the markets in the U.S., gauging by price-to-book and price-to-earnings.

Developed international markets have similar low values but have extremely low growth in earnings.

The MSCI indices have comparable numbers, with emerging markets seeing low assessments and quicker anticipated growth than international and U.S. stock markets.

What Does It All Mean?

While investors should have international exposure, the kind of index they follow plays a massive role in how well or poor their investment is. Most of them don’t understand how intense the international funds are.

Look at the current set up of the I fund shows that it’s reasonably valued for the short-term, but, looking at the long-term view, it’s liable to miss out on worldwide growth. The heavy concentration of the I fund is focused in Europe and Japan, and adding the emerging markets, Canada, and small companies changes it very little but could have a tremendous impact in the long range.

With the FRTIB’s choice to use the All Country Market Index, the I Fund is going to see more exposure to geographic diversification and worldwide growth. Thus, TSP investors may end up with a much brighter future.

Congress Makes Some Changes To TSP With Modernization Act, Still Misses Opportunity To Improve It Further

What Does the TSP Modernization Act Mean?

A significant number of federal employees are using the Thrift Savings Plan as their key retirement savings account. After all, it comes with easy-to-comprehend market indexes with little fees. It allows them to match funds, make secure contributions and lower costs – all of which have helped millions of federal employees use the TSP to boost their nest egg.

The TSP, on the other hand, has not been great for retirees who want to use the money for retirement expenses or income. The complex distribution rules have countered the simplicity seen in accumulation. The regulations have created some confusion for federal employees.

Congress has attempted to deal with these issues by signing the TSP Modernization Act into law. This act will go into effect in November 2019 and has some intriguing improvements for TSP participants.

Unrestricted In-Service Withdrawals Starting AT 59 1/2

As it currently stands, federal employees can make a single in-service withdrawal from their TSP after they hit 59 1/2. The possibility gives impending retirees more options for retirement transition along with putting together meaningful distribution plans for the future rather than waiting for retirement.

The great news is that the option is even better. With the Modernization Act, TSP participants can do an infinite number of in-service withdrawals when they turn 59 1/2. This means they can successfully use their money to ready themselves for retirement, transferring it to a Roth IRA and carry out a post-separation plan.

Unrestricted Post-Separation Withdrawals

With the TSP Modernization Act, federal employees can withdraw their money from their accounts during retirement. Thus, they’ll be able to use their money without any restrictions. Some restrictions that were not taken care of include:

Restricted Number of Choices

The key funds of the TSP stay the same. The funds are low-cost, but the plan’s choices are not what is seen with others, not in the TSP. These choices don’t include market indexes that tie to key asset classes like commodities, emerging markets, long-term bonds and real estate. With five funds offered, the choices are easy but do restrict people from implementing a highly-diversified portfolio.

It’s a bit of a surprise Congress didn’t improve the TSP funds, especially since companies have determined how they can offer an array of options for a low fee.

RMD on Roth TSP

The TSP’s Roth part will still be subjected to the Required Minimum Distributions. For people to avoid this requirement to withdrawal when they turn 70 1/2 is to let the money go into a Roth IRA. Doesn’t seem right and counterproductive to force withdrawals from tax-free accounts.

TSP Annuity

This kind of annuity won’t change. The TSP annuity is considered an immediate annuity, which demands that complete surrender of the principal be made for assured income. This option isn’t that good for a retirement plan as they rarely evolve. TSP participants would be better off finding other annuities that offer some flexibility.

What Does It All Mean?

The TSP Modernization Act does have some positive changes to it. The distributions flexibility for impending retirees and retirees provides a plethora of chances to move away from the TSP into other retirement-appropriate accounts that don’t have so many restrictions tied to them.

However, Congress failed federal employees by not doing the following:

• Upgrading the TSP choices
• Getting rid of the Roth RMD
• Improving the TSP annuity

While the TSP has undoubtedly gotten some improvements, it’s not enough in some people’s eyes. However, something is better than nothing.

Will A Trade War Hurt The TSP?

The last few months have been a rollercoaster ride for the stock market, and the rollercoaster seems to be getting even faster with the prospect that a U.S. and China trade war could ensue. The question is, does it really matter and how big of a deal is it?

 

Nothing is conclusive at this moment.  And, only time will tell if a trade war possibility will, in fact, have an effect on the market and TSP funds. Still, there is some idea of what could happen.

 

U.S. Trade Deficit

 

The U.S., since the 1980s, has had an ever-increasing trade deficit with the world, as we import more goods than the country exports.  At the current rate, the U.S. deficit is sitting at $60 billion a month.

 

Based on 2017 information from the Census Bureau:

 

  • The U.S. exported approximately $1.5 trillion goods but took in $2.3 trillion, giving the nation an $800 billion deficit.
  • The U.S. imported $505 billion of Chinese goods but exported $130 billion to the country, meaning there is a $375 billion deficit with China.

 

Nearly half of the country’s total trade deficit is with China alone, and the number is only increasing. The start of a deficit between both countries occurred in 2002 when it hit $100 billion. In 2005, that number hit $200 billion, and the number continues to grow. It could hit $400 billion before too much longer.

 

Why is that?

 

It’s because many U.S. companies have outsourced manufacturing jobs to China. As China grows in its development and becomes more expensive, companies are looking to other Asia regions to outsource jobs and manufacturing.

 

Simply put, the country’s gross domestic product is just below $20 trillion, which means the deficit of $800 billion is about four percent of the country. A China trade deficit equates to two percent of the U.S. economy.

 

Understanding The New Tariffs and What It Means Competition-Wise

 

It’s only natural the U.S. government wants to get control of the deficit, especially with China. For U.S. workers, it also makes sense. After all, outsourcing means companies can find less expensive labor overseas, which drives down wages and boosts the unemployment rate in the U.S.

 

However, many companies are looking to embrace both outsourcing and globalization where financially it makes sense to do it. After all, they save money, provide goods to American consumers at a lower price and stay competitive in the worldwide market.

There are a plethora of competing interests going on here.

 

The Trump administration announced in 2018 that it would implement tariffs on certain types of exports. To date, here’s what has been suggested.

 

  • January 2018 – 30 percent tariff on imported solar panels – to last four years and decrease five percent each year. Tariffs were added to imported washing machines.
  • March 2018 – 25 percent tariff on steel; 10 percent tariff on aluminum. A number of economic regions were excluded from the tariffs, but China remains included in them.
  • March 2018 – New tariffs were included on $50 billion worth of imports from China. This caused the Dow to drop 724 points – the fifth-biggest daily drop in American history.

 

In response to all this, China announced it would put a 15 to 25 percent tariff on more than 100 American import goods, and then announced a few days later, an additional 100 or more items would be tariffed.  This is when President Trump announced another $100 billion of Chinese imports would be subjected to tariffs, but this has yet to be implemented. This created rumblings of a U.S. and China trade war, but there is no direct announcement as of yet.

 

A big concern investors have is how much China owns in U.S. Treasuries, which is $1.2 trillion – more than five percent of the nation’s federal debt. Should China quit buying or selling them in retaliation for these tariffs, it could lead to higher interest rates for the U.S. debt and cause upheaval in the global bond market, so a U.S. and China trade war may not be in China’s best interest.

 

Is there a balanced solution to it all?

 

As it currently stands, the S&P 500 is roughly 10 percent off from the highs, and the future price-to-earnings ratio is thought to be 16.4x. The latest market drops and volatility have given some high U.S. stock valuations some breathing room, but the U.S. is still considered expensive by the majority of the metrics.

 

There is still a lot of room for stock prices to drop should the U.S. and China trade war become reality. However, you can decrease your portfolio’s volatility by holding onto a lifecycle fund or TSP funds. Just ready yourself for the news – good or bad.

 

 

Not affiliated with The United States Office of Personnel Management or any government agency