Capital Ideas & Analysis

Often on Wall St. you will hear that lower taxes is better for the economy and the stock market. Further following this it is then often asserted that Republicans are thus better for the market. I long held this belief as it seemed the most logical conclusion. It makes a lot of sense, supply and demand. If people have more money they will spend it and that will fuel the economy. Right?

Well…maybe.

I did some research and found some very interesting info. Since 1926 the market is generally up 72% of the time on a yearly basis. Since then taxes (either income or capital gains) have been raised 15 times and the market was up 73% of these years. In the same time frame, these taxes were lowered 16 times and the market was up 75% of the time. The numbers are slightly better for lowering taxes but there has also been one more year added to that list so it is not statistically a clear advantage. Not to mention, the years where taxes were raised the market did slightly better than the average.

Even more interesting, of the largest negative years in the market (measured as down 20% or greater), four of the five years a Republican was in office. Hoover (R) in 1930-31, FDR (D) in ‘36, Nixon (R) in ‘74, G.W. Bush (R) in 2002. Getting even more damning for Republicans, of the years that were negative 10% or more, 7 out of 10 were under Republican rule. All of the negative years in this time frame are more balanced. Out of the negative stock years since 1926 there were 23 total with 13 under a Republican president. Scaring you yet? Out of the market years that were up 20% or greater, of which there were 32, 18 were under a Democrat and 14 under Republicans.

So are Democrats actually better for the market? Not really, Reagan and Ike were among the best for the market (on a year by year basis Eisenhower is still the best). But then again, Clinton was the second best. Is lowering taxes better for the economy? Not really. In fact, the Presidents who had the best stock markets were Presidents who raised and lowered taxes under their terms (or lowered then raised).

FDR, 208.8% gain, who raised taxes throughout his term(s) till the end in 1945 when he cut taxes. Eisenhower, a republican, who temporarily raised taxes in 1954  then lifted that temporary raise (1954 was the best year end result of the century – Ike ended up with 160.9% gain in his time), Reagan, 150.4% gain, who cut taxes but raised taxes on the low end from 11% to 15%.  Clinton 153.5% gain in which he raised taxes but lowered capital gains taxes greatly. You see two republicans and two democrats on this list. You also see, taxes and or capital, being shifted around in different ways in all four cases.

What I take away from this is that raising or lowering taxes does not hurt, nor help the stock market inherently. It may do both, or neither, but isn’t an instant positive or negative thing for the market. My own theory is, it’s entirely possible that the continuous movement of money to different parts of the economy is what is more important. It should not be just reallocating wealth from rich to poor nor should it only be advantageous to have more money go to business and investors.

Taxes Raised                 Taxes Lowered    

yr.     %   Party              yr.    %    Party

32  -8.2   (R)                 26    11.6    (R)

35  47.7   (D)                28     43.6  (R)

40  -9.8  (D)                 45     36.4  (D) 

41 -11.6  (D)                 48     5.5    (D)

42  20.3  (D)                 54    52.6   (R)

43  25.9  (D)                 64     16.5   (D)

44  19.8  (D)                 69     -8.5    (R)

50  31.7  (D)                 75      37.2   (R)

51  24.0  (D)                 76     23.8   (R)

54  52.4  (R)                 77    -7.2     (D)

62  -8.7  (D)                  78     6.6     (D)

68  11.1  (D)                  81     -4.9    (R)

71  14.3  (R)                  86     18.5    (R)

82 21.4  (R)                   97      3.3    (D)

93 10.0 (D)                   01    -11.9   (R)

                                       03      28.7   (R)

11 up 4 down              12 up  4 down

11 (D) 4 (R)                 4 (D)   10 (R)

Sources: Tax acts in the United States , S&P 500 Total Return (extrated from Ken Fisher’s “The Only Three Questions That Count”)

Total Credit Exposure to Risk Based Capital (07Q1) (%)*                                    

                                     96Q4 97Q4 98Q4 99Q4 00Q4 01Q4 02Q4 03Q4 04Q4 05Q4 06Q4 07Q1

JPMorgan Chase (JPM)  266   329   380   416   442   589    655   845   593   665   742    799

Bk of America (BAC)      112    92     90    120   115   142    205   222  233   165   316    288

Citibank (C)                    162   205   203   176   191   167    201   267  305    386   413    460

HSBC Bank USA                                        32     45     72    127   289   302   491   583    565

Friday will be the big mover as we get the employment outlook. Consensus range for unemployment is 4.6-4.8 and consensus is 4.7. The worst thing for the markets right now would in fact be a low unemployment rate. This would almost end the chance of the Fed cutting rates if we were to see 4.5% unemployment. However, we do have some tells that indicate this will probably not happen. On Wednesday we learned that layoffs almost doubled in from 42,897 to 79,459. Yet, today new jobless claims were lower than expectations clocking in at 318k vs consensus 330k. So the question is, are there going to be more layoffs that are offset by people quickly picking up other jobs or will the increase in layoffs catch up with workers and create a higher unemployment rate. My bet is that we will see tomorrow higher unemployment or hitting consensus, which should give the Fed the numbers they need to cut interest rates. We shall see tomorrow though.

Whats going on with retail? Last month everyone said stay with Costco, dump WalMart. Now, we hear WalMart did better than expected for back to school, and Costco did worse than expected. So what is going out there? Do we sell COST? Not at all, you buy on the dip. Who goes to Costco for back to school? Perhaps a few college students, but does Costco have pencils and binders? I’ve never seen a lot of them there if they do have them. It isn’t what they do, not at all their bread and butter, and this last month families needed to go get back to school stuff. While there (at WalMart) they probably did the grocery shopping to save gas money.

 The idea that there is going to be a spilover from housing to the consumer is real. It just isn’t really big – yet. People will not spend as much as they used to but will spend money on things that are really important to them. The next thing we need to judge is, what is really important to them?

Though construction spending was down it appears that it is rebounding. it could be a head fake but for now there tends to be a rebound. If this is not a head fake this could be very bullish for construction companies, CAT comes to mind. JEC, FWLT, CAT, FLR and others have all been strong to spite the lower rates due to their international exposure. However, higher construction spending in the U.S. could definitely help their equity prices. We will probably need to see construction turn positive before we see these stocks take their next leg up. They have still thrived and outperformed in this environment though.

At the time of this writing I am long JEC

Ironically today the domestic motor vehicle sales clocked in solidly above expectations. Yet there does seem to be a very solid trend downward.  Yet, truck sales hold very strong and in my interpretation has to do with the fact that agriculture is still very strong and stocks are indicating their growth is not dependent on financial markets and credit crunches.

“Volatility in the financial markets is appearing to have limited economic effect, at least on light vehicle sales which proved surprisingly strong in August, at a 12.6 million annual rate for domestic-made vehicles vs. 11.4 million in July. Sales of trucks were especially strong, at a 7.5 million rate and the best rate since February. The gain reflects the dip in gas prices during August, down roughly 15 cents a gallon in early indications to about $2.80″

-Fidelity Investments