Your Midyear Worries

This week Morningstar Premium members had a chance to tune into a midyear financial checkup webcast where Christine Benz and other Morningstar experts shared their takes on the first half of the year and thoughts on what the second-half might bring. (Premium members can see a replay  here. Not a Premium member? Click here to start your 14-day free trial.) We also heard plenty from Morningstar users about what has been on the top of their worry lists so far in 2012. Below are some of the most common concerns.

Will we fall off the fiscal cliff?
The expiration of the current tax code and mandatory spending cuts planned for 2013 were top-of-mind for many viewers. They were worried about what impact this sudden fiscal contraction could have on the shaky recovery and their pocketbooks. Morningstar director of economic analysis
 Bob Johnson played down fears. He expects that Congress will act after the election season to keep rates at current levels for the vast majority of tax payers and that spending cuts will be delayed.

What to do about bonds?
Fixed income is posing a tricky problem for many investors. The huge runup in Treasuries and other high-quality bonds has understandably left many anxious about how to handle their fixed-income allocations. Does it make sense to cut back on holdings or take on more risk in high-yield corporate debt? Do emerging-markets debt funds make sense? Is it time to buy longer-dated debt?

Morningstar's panel of experts cautioned against making any sudden moves. Bonds create important ballast to a portfolio, and for most investors, it isn't wise to totally dump them. But for those looking to eke out better returns, the threat of rising rates led the panel to support the idea of taking on some extra credit risk versus pushing out duration. 

Where to find income?
A related worry to the bond market was a broader concern about where to find income. For retirees or those about to retire, this is a critical question and one without a good answer. There is no magic bullet that can suddenly find a great, safe income steam into today's interest-rate environment. Fixed-income yields are paltry. Dividend stocks might have decent current yield, but they are looking fully valued. Buying an annuity now could mean locking in today's low rates forever. There just isn't a free lunch out there.

Benz encouraged investors to be patient and focus more on total return and less on current yield. It could mean dipping into principal at one point during retirement, but you will potentially be drawing from a larger pool of money. Stretching into esoteric, illiquid investments could leave you exposed in a market downturn.

Are stock valuations reasonable?
We got more than a few questions on the advisability of wading into the stock market at today's valuations. Morningstar director of global equity and credit research Heather Brilliant shared the opinion that blindly jumping into the market right now might not be the best strategy. She described today's market as a great one for stock-pickers. There are still some tremendous businesses that are tremendously undervalued. You just have to be careful about picking them and not falling into a value trip. Brilliant noted that some of the European pharmaceutical companies, such as  Sanofi (SNY) and  Novartis (NVS), look attractive right now.

Will my gains be inflated away?
Inflation has been at bay for a while now. But with the Federal Reserve pumping a huge amount of liquidity into the economy, many were worried that this could mean higher prices are right around the corner. Like some of the other concerns, there is no easy way to protect yourself against inflation. Treasury Inflation-Protected Securities are an obvious answer, but they are still Treasuries and have had the same huge runup as the rest of the asset class. Stocks are another possible option. The panel saw the best inflation-fighting equities are those that have significant pricing power. These firms will be able to keep up with rising prices and pass those earnings back to shareholders.

Will Europe's woes spill over to the United States?
It's no secret that Europe is a big worry for all investors. The big point of anxiety seems to be that a crisis in Europe will spill over into the United States and wreak havoc here. Investors wanted to know if they should pull back on European stock exposure or even the market altogether. The general consensus seemed to be that if Europe manages to escape the crisis with nothing more than a recession, then U.S. investors should come out all right. Johnson pointed out that import/export activity between the U.S. and Europe represents a relatively small share of gross domestic product. However, if the European crisis were to escalate into a full-scale financial crisis, the impact would be much less benign. 

There is no way to totally inoculate yourself against this real possibility, but by sticking to your financial plan and having a broadly diversified portfolio you can mitigate the risk.