It’s forecasting time. Goldman Sachs strategist David Kostin called his 2018 outlook “rational exuberance” and he expects the S&P 500 to reach 2850 by the end of 2018. That’s a 9.5 percent rise from here. The driver will be corporate tax reform, which will generate greater profits. Bank of America/Merrill Lynch expects stocks to rise 11 percent in the first half, then head down. Few are outright bears.
On the economic front, Goldman sees unemployment falling to 3.7 percent and interest rates staying relatively low here and abroad. What’s more, growth in the major and emerging markets will accelerate. It is already accelerating here. GDP growth topped three percent in the second and third quarters and is expected to grow at least 3.5 percent in the fourth fueled in part by consumer spending. If Goldman is right about the global and U.S. economies, that doesn’t necessarily mean that stocks will continue upward though that’s a very good bet.
This is also the time of year that most equity mutual funds begin paying capital gains distributions to shareholders. For that reason, it’s a bad idea to buy mutual funds in taxable accounts late in the year. Shareholders must claim those payments on their tax returns, even if they only held the fund for a few days or have a capital loss on the investment. Here’s why: Mutual fund managers constantly sell securities in order to meet redemptions or rebalance their assets. The capital gains from the sales are passed on to shareholders. The 2017 gains will be substantial, especially for large-cap growth funds.
ETFs don’t have that problem. They meet redemptions with an “in kind” redemption of shares. ETFs are treated like stocks, so investors only have to pay capital gains taxes on securities that they’ve sold for a profit. There are some cases where ETFs pass on capital gains, but they are rare.
Tax efficiency is one of the reasons ETFs are preferred over mutual funds. Investors who buy mutual funds today in their taxable accounts will likely be forced to pay taxes on gains that they haven’t seen. If you invest in a taxable account, think twice before buying a mutual fund before it declares their December capital gains.
