This is a huge week for US economic data but it’s bound to tell the expected story that the Yanks continue to grow at a nice pace, justifying the elevated levels of their stock market indexes. However, there remains one market-influencing issue that gets sorted this week and that’s these damn Trump tax cuts.
The odds are shortening that these tweaked tax cuts will be given the thumbs up by Congress but the question is will it send stocks up once we get concrete evidence that they will happen?
The economy and US company profits have underpinned the stocks rally this year. The Dow Jones Index has gone from 19,762 at the start of the year to where it is now at 24,651 and that’s a 24% gain, but this has not simply been driven by an improving economy and better corporate bottom lines.
The huge rally has been partly on hopes of pro-corporate tax cuts that President Donald Trump promised during his election campaign last year. The tax cut for companies looks like being 14%, taking the rate to 21% from the current 35%.
By the way, individual states can add more to the company tax bill while others give business a break.
Those interested in when we might hear the final word on these tax cuts, ahead of seeing how the stock market responds, was made pretty clear by CNN over the weekend.
“Republicans unveiled their final tax bill Friday evening, a step that will place them on track to vote on their plan next week and potentially have President Donald Trump sign it into law by the end of the year,” the news agency reported.
“After months of negotiations in both chambers, a narrow vote in the US Senate and this last-minute tweak to the child tax credit aimed to win back the support of Florida Sen. Marco Rubio, Republicans were upbeat Friday afternoon as they briefed reporters on where the bill stood.”
By the middle of this week, we should see if the Santa Claus rally comes to town. My bet is there will be a kick when it is certain that the tax bill will be passed and signed by the President for enactment before New Year’s Eve.
And US market experts agree with my hunch.
“The last catalyst left for this year is tax reform — any market move is based on the shifting probabilities of its passage,” said Michael Antonelli, managing director, institutional sales trading at Robert W. Baird in Milwaukee. (Reuters)
This was a market-dominant view on Thursday when it was thought that Senator Rubio might be the fly in the ointment.
Showing the significance of the tax bill, stocks fell even as US retail sales increased more than expected in November as the holiday shopping season got off to a brisk start, pointing to sustained strength in the economy.
“The fear they can’t get corporate tax cuts across the finish line might be causing the market to turn down, despite the strong retail sales and other good economic data,” said Kim Forrest, senior equity research analyst at Fort Pitt Capital Group in Pittsburgh. (Reuters)
Talking to the positive prospects of the tax bill getting across the line, David Joy, chief market strategist at Ameriprise Financial in Boston, explained what it might mean.
“It’s meaningful in terms of its impact on shareholders,” he said. “You’re going to see an increase in stock buybacks, maybe some dividend payouts.”
And then there’s the tax cut-economic effect on consumer confidence and stock prices.
“By and large there’s a high correlation between higher equity prices and consumer confidence and consumer spending,” he said. “Some translates into rising consumer sentiment and better feelings about job security.” (Reuters)
So, the case for the tax cuts being passed, squeezing some more rises out of stock prices is believable but what if the opposite happens in the crazy world of Washington, D.C.?
“I think the bill is likely to pass, but if it doesn’t, we could see a 5-to-10% decline in stocks,” said Ed Keon, managing director and portfolio manager at QMA, the quantitative and dynamic asset allocation business of PGIM. (CNBC)
“This market has been going in lockstep with the progress made in the tax bill,” said Art Hogan, chief market strategist at B. Riley FBR. “When you see bumps in the road, you’re going to get some volatility.”
On Friday, this is what CNBC’s lead column kicked off with underlining the importance of the tax cuts bill.
“Wall Street has been eagerly awaiting the tax bill, which if passed would slash the corporate tax rate to 21 percent from 35 percent,” it said. “Investors expect this to be accomplished by year-end, and President Donald Trump has expressed his desire to sign a bill by Christmas.”
And how did Wall Street respond to the good news of Senator Rubio and other potential dissenters getting on board? That’s simple — stocks surged. Dow up 143 points or 0.58% while the more important S&P 500 Index was up 24 points or 0.9% and that says a lot about the potential power of these tax cuts.
But even the more important Russell 2000 Index wacked on 1.56% because these tax cuts will favour the small to medium-sized businesses in the USA and doesn’t this Index prove the point?
The New York Times over the weekend looked at the winners from the tax cuts and this is what they found for business:
“Industries like big retailers will benefit from the new corporate rate of 21 percent, since those companies pay relatively close to the full 35 percent rate. Other aspects of the corporate tax cuts will be enjoyed by an array of multinational industries, particularly technology and pharmaceutical companies, like Google, Facebook, Apple, Johnson & Johnson and Pfizer.
“Such multinational companies have accumulated nearly $3 trillion offshore, mostly in tax haven subsidiaries, untouched by the United States taxman. The tax bill will force those companies to gradually bring that money home, but it will be taxed at rates ranging from 8 percent to 15.5 percent.
“That’s far lower than the current 35 percent tax rate on corporate profits and even lower than the new 21 percent rate.”
If Santa Claus can’t bring home a decent rally on what tax cuts will mean for so many US businesses then this would wind up being the greatest case of where investors will stand accused of “buying the rumour and selling the fact.”
I just don’t think that influential market players were 100% confident about these tax cuts or they would never have sold off on Thursday and then bought up big on Friday.
Go Santa go!
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