It doesn’t take a lot to get hopeful investors excited these days. In fact, it seems as though weary investors are hitching their retirement wagon to the promises of solid gross domestic product (GDP) growth in the coming months and with it, strong earnings and revenue growth!
Perhaps “promise” is a little strong of a word. Maybe investors are pinning their hopes on the idea or essence that the U.S. economy is going to pick up.
The stock market surged higher and the VIX fell on Tuesday after word that Trump’s top aides and congressional leaders made “significant strides in shaping tax overhaul.” By that, it means they have moved beyond the high-school-level, six-paragraph skeleton that was bestowed upon the American public in July. (Source: “Trump’s team and lawmakers making strides on tax reform,” Politico, August 22, 2017.)
Both the Dow Jones Industrial Average and the S&P 500 were up nearly one percent and on track for their second straight day of gains. Meanwhile, the tech-heavy NASDAQ was up nearly two percent from Monday’s close and poised to end a three-day session losing streak.
At the same time, the VIX, better known as the “fear index,” which measures market volatility, plunged more than five percent, or 23% over the last three days.
Again, the euphoria is placed on the mere hope that Trump will be able to get his proposed tax cuts implemented and juice GDP, which was just 1.4% in the first quarter and a more respectable 2.6% in the second quarter.
Word of progress on corporate and individual tax cuts has wide implications. Most notably, it suggests there could be an end to the gridlock in Washington; a log jam that has stalled Trump’s proposed tax cuts, which was one of the campaign promises that helped usher him into the White House.
It’s also encouraging in light of the fact that Trump couldn’t repeal Obamacare, which was widely seen as low-hanging fruit and should have been an easy victory. It wasn’t. In fact, nothing has been easy for Trump when it comes to signing legislation.
This is why the tax cuts are so important. If they can agree on this, it would be Trump’s first major piece of legislation passed since he entered the White House, and would certainly look good on his resume in the run-up to the 2018 midterm elections.
According to sources familiar with the behind-the-scenes talks on proposed tax cuts, there is broad consensus on some of the best ways to pay for cutting both corporate and individual tax rates.
The options include capping the mortgage interest deduction for homeowners, scrapping the ability for people to deduct state and local taxes, and eliminating businesses’ ability to deduct interest while also phasing in full expensing for small businesses that allows them to deduct investments like new equipment or facilities.
The corporate tax rate is expected to fall to between 22% and 25%; far higher than Trump’s preferred 15% tax rate, but much better than the current 39% tax rate.
Whether this and additional cuts will translate into a tax plan that can get approval by both the House and Senate remains to be seen. But just the idea that there is actual motion on something that has otherwise been dead in the water is encouraging.
Maybe investors are a little too encouraged, though. Trump’s proposed tax cuts are certainly something Wall Street and Main Street wants to see happen, but it’s being mired by the fallout from Charlottesville, the high turnover and unemployment rate in the White House, ongoing investigations into Russian interference in the 2016 presidential election, and tensions with North Korea, Russia, Syria, etc.
Still, what has not been addressed with regards to the proposed tax cuts is who will pay for them. At first blush, it appears that it will simply be tacked on to the deficit, which is approaching $20.0 trillion.
When push comes to shove, the White House is not that concerned about adding to the deficit because the Trump administration believes any economic growth that comes from the lower tax rates will pay for any budget shortfalls.
Still, the tax cuts are in the early stages and nowhere near coming to fruition. That hasn’t stopped overly enthusiastic investors from sending the stock market to near record levels again with nosebleed valuations.
If word leaks that there has been a hurdle with the tax plan or black swan events in North Korea, Afghanistan etc., the stock market will just have further to fall.