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Flynn-Russia-Trump-Markets!

Author: David R. Kotok, Post Date: February 15, 2017
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Is the Flynn–Russia–Trump leaks–Russian missile ball of wax a distraction that is causing market agents to think more about other things than economic issues?

You bet.

When Congressman Kevin Brady (R-Texas) takes to doing interviews (CNN this morning) on national television and has to spend that time talking about the items listed above instead of about tax policy for US corporations and individuals, you know he’s being distracted. Brady is Chairman of the House Ways and Means Committee. The tax policy of the United States originates in his committee. The memo that outlines proposed tax strategies and rates is in the public domain only because he allowed it to be there (hat tip John Mauldin).

That memo suggests implementing an 8.75% repatriation tax that could bring one to two trillion foreign-housed dollars into the US (Cumberland Estimate). That money is owned by American corporations who park it abroad to avoid a 35% tax rate. Lower that rate to 8.75% and the impact is huge.

That memo also proposes a maximum personal tax rate of 33% and a lower tier of 25%. It further suggests a major revision in business taxation, with a top rate of 20%. The memo recommends altering capital investment treatment, reshaping the interest cost on debt, and preserving charitable deductions. It puts in place the framework for a large infrastructure expansion in the US, and it does NOT threaten the status of tax-free bonds that will be needed to finance the state and local government share of the infrastructure buildout.

Brady and his committee are doing hugely important work, and yet now he is brought out to defend the administration’s handling of the Flynn affair and to patch up the general Trump disarray. That is a scandalous waste of resources.

The interests of the United States would be better served by letting Brady and his colleagues concentrate on creating an infrastructure rebuilding program along with a streamlined and competitive tax code that favors growth. Congress needs to move that agenda, and Trump needs to organize a government built on that direction and to leave off tweeting criticisms that do not help to advance any legislation.

In place of tweets blaming the current debacle in Washington on the previous administration and the election, let’s focus on the rebuilding of America with a financing structure that can pay for it.

I would encourage Trump to announce his plan while standing on Oroville Dam in California and pointing to it as a prime example of the infrastructure repair that is necessary. BTW, that dam was not on the California governor’s wish list (What does that say about research done by California?).

When Convergex recently asked professionals their opinions about markets, investment strategy, and plans for the American economy, they obtained views from people who are involved in day to day operations in the business arena. They asked the folks who are “in the weeds.” (See info.convergex.com/e1t/c.)

One question asked was, “In order to stay long US equities, you have to believe that ______________.”

The answers were diverse, but here is one of them:

“President Trump’s recent troubles are just the typical teething pains of any new administration.”

Convergex adds the comment:

“It has not been a great week for the new President, between the Flynn resignation and the overturning of his Executive Order on immigration. Since US stock prices continue to rally, it seems clear that investors see these bumps in the road as temporary rather than a signal of systematic dysfunction. The new President’s economic agenda will proceed largely as expected and ultimately be enacted.”

Another respondent said that in order to stay long equities, he or she would have to believe that “The Street, for once, is too pessimistic on earnings.”

Convergex adds:

“The real juice to the earnings story, therefore, is the expectation of lower individual and corporate tax rates as part of a reform of the US tax code. None of that has been baked into analyst estimates yet; they will certainly wait for legislation to pass and get some guidance on what new rate to include in their models from the companies they follow.”

And here is another response to Convergex’s question: “Tax rates go down.”

To which Convergex adds:

“[H]alf of all companies that mentioned ‘Trump’ on their earnings call also mentioned ‘Tax Policy’. It is clearly a top-of-mind issue in corporate America. And, of course, the easiest way to increase corporate earnings and consumer spending is to lower Federal taxes.”

The conclusion we draw is that a disorganized Trump Administration is placing major economic and financial policy change at risk. Having to trot out Kevin Brady to explain Flynn and then call for a Congressional investigation is evidence for that assertion. Meanwhile, businesses are on hold waiting for new policy. Investment decisions are being delayed since agents do not know what the new rules will be.

At Cumberland, we think there will be eventual substantial tax code revisions that will include lower tax rates. And we expect that the tax-free municipal finance structure will be preserved. We believe the alternative minimum tax (AMT) will be repealed. And we believe the changes in corporate taxation will add to the competitiveness of American companies and result in higher earnings for them. But we are concerned that the government’s taking its eye off the ball to put out fires will incur a penalty.

It would be welcome news to see the Trump Administration show that it understands how costly these distractions can be.

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