Tax Stimulus and Global Synchronization

The previous post briefly touched on market expectations for tax cuts and how various interests are competing to get certain provisions passed. Now that both houses of Congress have passed their own version of the bill, they will hash out the gory details and pass a final version. How this will affect individuals will differ based on your income, wealth, and location – a subject difficult to address broadly. The question we will focus on is how will this affect our aging bull market. The bill is overwhelmingly a gift to those with capital and to corporations more generally and stocks will surely get a lift from the corporate tax cuts. When companies pay less in taxes it frees up cash for mergers and acquisitions, company stock buy-backs, and distribution of dividends. Credit Suisse estimates that the 20% proposed corporate tax rate will boost earnings by 10% in 2018. The tax cut is coming at a very late stage of this bull market and has some investors worried that it will ignite inflation. One would think this would be cause for serious concern, but these are not normal times. Remember, we are just 8 years removed from the biggest economic catastrophe in a century. Inflation in the US on a year-over-year basis is currently running at 1.6%, which is not high. And although interest rates are low (conditions that are typically inflationary) the Fed has made it clear they will do everything they can to not allow a hyper-inflationary environment to develop. When you combine low inflation, increased corporate cash, and steady US growth with increased global growth, stocks look attractive even at these elevated valuations.

World manufacturing activity is at nearly 7-year highs as orders are coming in faster than anticipated and exports and employment are all up. By many indicators, global economic health has never been more robust. The number of countries in recession has dropped to its lowest level in decades. Synchronized global growth is finally in sight with no major industrial economy in contraction mode for the first time since 2008. World GDP is expected to advance to 3.5% this year and jump to 3.7% in 2018. For the stock market, this is all good news. More specifically, companies with exposure abroad have tended to reap the benefits over the last year. Those that derived 50% or more of their sales overseas reported revenue growth of 10% compared to 5.8% for all S&P 500 companies regardless of where revenues came from. In short, stocks have been on a long ride up but there are good reasons to believe the journey is not yet over.