Why Markets Love Trump's Tax Cuts
Here we go again.
It has barely been a month since the Tax Cuts and Jobs Act of 2017 passed. Despite a volley of criticism over the bill, Mr. Market has voted with his feet. The U.S. equity rally since then has been substantial -- so much so that many market observers seem fixated on negative issues such as valuation, the speed of the run-up, and why a bad ending is inevitable.
This smells to me like one of the most expensive errors investors can make: allowing partisan political views to creep into investment decisions. Experience teaches us that emotions -- and these play a large role in shaping our political views -- are not your friends when it comes to putting money to work in capital markets.
Market historians can point to multiple examples of this during the past few decades. Some of the most egregious investing errors began with a partisan (and therefore emotional) underpinning. Consider these four historical scenarios, and how they affected some investors at the time:
- A president is impeached for having an affair with a White House intern.
- A substantial tax cut would “blow out the deficit, won’t create jobs, was a wealth transfer from the poor to the rich, would be the first time taxes were cut during a war.”
- A newly elected president who was a “Muslim/Kenyan/socialist; was going to kill the Dow.”
- Another newly elected president who wasn’t expected to win was seen as possibly fatal for the bull market.
Each of those events involved a different president. That each was lamented by members of the opposing political party should come as no surprise. Each was followed by a substantial market rally, which in at least three cases lasted years (the long-run verdict on the last one is still pending.)
What is somewhat surprising -- but perhaps shouldn’t be -- is that professional money managers who identify with a specific political party allow their views to affect how they did their jobs.
I suspect this is occurring today.
Regardless of whether you like President Donald Trump, or what is happening to the Republican Party, or whatever you may think philosophically about the new tax cuts, none of it serves as a basis for establishing an investment strategy. You may believe the cuts are a reckless, ill-timed, deficit-expanding wealth transfer to the rich; indeed, you can hate the impact of this sort of partisan policy-making approach and its long-term implications for the nation’s fiscal health. But if you manage other people’s money for a living, you should sequester your personal views, and recognize the impact of $1.5 trillion in deficit spending will have on jobs, the economy and perhaps most of all stocks.
That is a large pile of money, and it will work its way through the U.S. economy. As we discussed previously, there is a spectrum of ideas -- some new, some old -- contained in the tax plan. I have long been a fan of the accelerated depreciation of capital spending, something Trump, Barack Obama and George W. Bush all included in their tax bills; other parts of the bill I find less impressive. I will leave the analysis of how efficient the tax cuts are to the economists and policy wonks.
But regardless of what you specifically like or dislike in the tax reform bill, the bottom line remains the sheer amount of deficit spending it contains -- and all those dollars probably will be good for the stock market during the next few quarters, or even years.
The U.S. was the epicenter of the financial crisis. The country led the global economy to the edge of the abyss as the nation’s credit system froze up and markets collapsed. But the U.S. under Obama and former Federal Reserve Chairman Ben Bernanke also provided the fastest and most vigorous response to the threat. The Fed’s policy of zero interest rates and asset purchases (quantitative easing) lead the recovery from the depths of the Great Recession. Japan and then Europe followed the U.S.’s example, and now they too are growing at a respectable pace.
What was missing from all of those monetary responses was some good old-fashioned Keynesian fiscal stimulus. The new tax cut provides that, albeit rather late in the economic cycle. We can argue whether such a cut would have been more appropriate when the economy was really weak in 2009 or 2010. I certainly believe that was a better time for such a stimulus.
But allowing your partisan views to get in the way is a mistake. The tax cut are a large and potent stimulus. There is no rational way to reach any other conclusion.
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James Greiff at firstname.lastname@example.org