It’s been pitched to the American public as the greatest tax cut in history. Our president has promised that it will be like rocket fuel for the economy. Then there was this chestnut: “If we do this, then America will win again like never, ever before.”
Oh boy. Winning.
Anyway. After the bill passed the Senate in a somewhat dubious midnight vote, stocks opened way to the upside on Monday. And it’s been downhill ever since.
How could this be? How could such an amazing bill lead to a big sell-off for the stock market?
Well, for starters, it’s kind of a crappy bill. It doesn’t really cut taxes for anyone. And yes, I am taking issue with that Supreme Court decision that declared that corporations are people, too. They aren’t.
I’ve already worked out my taxes under the plan. I won’t get any savings. And that’s fine, I didn’t expect the promised big tax break to actually be a big tax break. Remember this government we’re talking about.
I’m OK with a corporate tax break. And that’s because I understand that it will lead to more share buybacks and dividend hikes. As an investor, I will benefit from both of these. Like, one of my favorite stocks, Bank of America (up 230% in the Wealth Advisory portfolio), has already announced it will add $5 billion to its share repurchase program.
As I see it, Bank of America owes this big repurchase program to its shareholders. The company basically borrowed at least $50 billion in shareholder equity when it sold 5 billion shares at bargain-basement prices to shore up its balance sheet during and after the financial crisis.
In my opinion, BofA CEO Brian Moynihan is among the most shareholder-friendly CEOs out there. He has been adamant about raising shareholder value for years, and he is following through.
Economics 101
I really don’t like it when I hear that lower taxes will encourage companies to invest more in their facilities and employees. To me, this is just a lie, meant to make the tax cut sound good. I mean, we are all aware that corporations have more money in the bank than ever before. And they are making more in per-share earnings than ever before.
How has that worked out for the average employee? Is anybody making more money? Yeah, not really.
Corporations aren’t going to spend more on their business just because they have more money, either. That’s just not how it works.
Again, companies have been sitting on mountains of cash. But capital expenditure trends follow sales revenue, not cash piles. This chart shows the trend pretty well.
Companies spend more when they sell more. In other words, you gotta see demand before you increase supply. This is basic stuff. It’s Econ 101.
Now, perhaps you notice the right side of this chart. It looks like sales growth is surging, right? Yeah, the U.S. economy is 70% consumer spending, and GDP growth is likely above 3% this quarter. That’s what will get corporations spending. Not a tax cut.
Have you seen retail stocks lately? Macy’s is up darn near 50% in the last month. Ross Stores is hitting new highs. Kohl’s is up 20%. We’ve finally hit a sweet spot where employment and demand are working in tandem.
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Market Action 101
It’s widely reported that the new tax cuts are going to increase the budget deficit. And if the cuts are truly stimulative, well, that’s how stimulus works. It adds debt. If you just take from one place in order to add to another, well, that’s a zero-sum game.
I suppose one could argue that stocks are down because of the added debt, but come on. Stocks haven’t cared about that for the last 10 years — why would they start now? Fact is, stocks love it when debt is rising. Stimulus, right?
No, the reason stocks are down is because this is what stocks do. Buy the rumor, sell the news. Stocks ran hard over the last few weeks as the tax bill gained momentum. Investors were anticipating. Now the bill is basically a done deal, so it’s time to take profits.
I’ve already seen some talking heads say the rally is over. Once the tech stocks roll over, that’s it. And they could be right. Rallies can end at any time, and for a number of different reasons.
But that’s not what’s happening now. Stocks may go a little lower, but I say the buyers step in this week. The 50-day moving average for the S&P 500 is down around 2,585. That’s a pretty good spot.
If you’ve been looking for a spot to buy a stock or two for an end-of-year run, you should be paying close attention.
Until next time,
Briton Ryle
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A 21-year veteran of the newsletter business, Briton Ryle is the editor of The Wealth Advisory income stock newsletter, with a focus on top-quality dividend growth stocks and REITs. Briton also manages the Real Income Trader advisory service, where his readers take regular cash payouts using a low-risk covered call option strategy. He is also the managing editor of the Wealth Daily e-letter. To learn more about Briton, click here.
