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If you are reading this site then hopefully your goal is to be confident in your investment choices and strategy. There is simply nothing confident that you can say about US budget nightmare that has the nickname "fiscal cliff" in the news media.

The fiscal cliff is a term referring to the effect of a number of laws which (if unchanged) could result in tax increases, spending cuts, and a corresponding reduction in the budget deficit beginning in 2013. The deficit — the difference between what the government takes in and what it spends — is expected to be reduced by roughly half in 2013. That sharp reduction is the cliff. The Congressional Budget Office (CBO) estimates the sudden reduction will probably lead to a recession in early 2013 with the pace of economic activity picking up after 2013.

The laws leading to the fiscal cliff include tax increases due to the expiration of the Bush tax cuts and spending cuts under the Budget Control Act of 2011. The Budget Control Act of 2011 was enacted due to the failure of the 111th Congress to pass a Federal Budget and therefore as a compromise to resolve a dispute concerning the public debt ceiling. Deficit spending previously appropriated by Congress was bringing the federal government's total debt close to the statutory ceiling. Republicans in Congress refused to approve an increase in the ceiling unless there were deep spending cuts in order to come closer to a balanced budget and reduce the amount of national debt that was accruing. The Budget Control Act included an immediate increase in the debt ceiling, along with a mechanism for facilitating two additional increases. It also provided for automatic spending cuts to begin on January 2, 2013.

As an investor, this causes huge uncertainty in your portfolio. Combined with the 1/2/2013 date is the reality that markets tend to be a little less predictable during the Christmas and New Years holidays anyway.  The holidays are times when large numbers of professional investors spend a bit more time with family and less time investing so markets tend to behave a little differently than the rest of the year. Also, even in a 'regular' year, managed funds and large investors may be balancing out portfolios, dropping losers, flipping investments to cash or other activity that is unique to the end of the year.

According to the Wall Street Journal, "Erskine Bowles, the Democrat who was co-chairman of a presidential deficit-reduction commission in 2010, said last week that the U.S. will briefly go over the cliff before Washington comes to its senses and reaches a compromise. Given the uncertainty, one would think a little insurance was worthwhile in case stories like Mr. Bowles's happen to be the ones that come true."

These three events:

  1. Uncertainty with the cliff
  2. Investors taking holiday time
  3. Investors balancing portfolios

will make the end of 2012 even more uncertain than normal.

With uncertainty comes less confidence. So you may be wise to start to analyze your portfolio and decide the investments you can take a loss (Jim Cramer, below, thinks it could be a 10% loss). You may want to start moving some of your investments to cash until the dust settles.

Some investment advisers will try to analyze the companies that can thrive go over the cliff. I am never confident in this type of prediction since we have no historical record to look at and learn from. These 'successful' companies are simply a logical guess.  Things that are unusual are difficult to predict.  Here is part of an article that Jim Cramer put out:

It's becoming increasingly apparent there will be no federal budget deal by January, Jim Cramer told "Mad Money" viewers Wednesday.

So if the nation falls off the proverbial fiscal cliff, investors need to be ready with a game plan.

Cramer said compromise appears to still be the enemy in Washington, with several congressmen digging in their heels and sticking to their previous vows to never raise taxes, no matter how desperately they may be needed.

He said the current scenario feels much like the passage of the Troubled Asset Relief Program, or TARP, a few years ago, where politicians only got on board with the plan after the market fell by 10% and they realized just how bad things would become.

Cramer predicted the markets will see their first leg lower during the last week of the year as nervous investors liquidate positions ahead of the new tax rules. Afterward, Cramer said, we're likely to see further declines every Thursday as jobless claims begin to rise.

So how can investors protect themselves? Cramer said all stocks will feel the pain of the cliff, but those that will recover first will be those with the biggest gains before the cliff.

Mr. Cramer then goes on to detail the companies to consider.  Since I don't agree with him, I won't repeat those companies here.  If you are interested, go to the source article.

My advice is simple if the news doesn't improve:

Consider going to cash by Christmas for as much of your portfolio as possible.

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One Response to “What should an investor do before we go over the ‘cliff’?”

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