If You Take a Walk, I’ll Tax Your Feet

Dan Greenhaus is at the Chief Economic Strategist at Miller Tabak + Co. where he covers markets and portfolio theory. He has contributed several chapters to Investing From the Top Down: A Macro Approach to Capital Markets (by Anthony Crescenzi).

This is his most recent commentary:


Monday November 23, 2009

After two weeks or so in which the equity and bond markets had little in the way of corporate earnings and macroeconomic data to deal with, the economy will again take center stage beginning today with existing home sales. Over the course of the week, numerous data points will be released, each of which have the ability to push the market around especially in the reduced trading environment in which we currently find ourselves. Indeed, two of the five trading days in the most recent week saw volume of less than 4 billion shares, something that hasn’t occurred since the beginning of July when trading is expected to slow down. Additionally, we haven’t seen a 5 billion share day since November 4, thirteen trading days ago.

As for the data, housing will be in the forefront as the market gets new data on existing home sales (the largest part of the housing market), the Case-Shiller HPI (YOY comparisons are starting to get much, much easier) and new home sales (high correlation with the homebuilders which are about 4% below September month end levels). Perhaps most importantly though, oddly enough, is the first revision to third quarter GDP. Usually revisions, even to data as important as GDP, are treated as old news however the importance of growth in GDP these days cannot be overstated. To repeat, with an unemployment rate north of 10% and an underemployment rate north of 17%, it takes a considerable amount of economic growth in coming quarters to put the 15.7 million unemployed persons back to work. This was key to the expansion in 1983-1885 which brought the unemployment rate down from nearly 11% to 7% and one of the reasons that the path of growth coming out of this recession, by any measure, will be muted in relation to what the models would suggest.

Key to our argument is that the pace of economic growth going forward will not be robust enough to soak up the unemployed and underemployed persons which will serve to put a lid on the pace of consumer spending going forward. With respect to this outlook, we will be monitoring not just the headline reading – which we are expecting to show growth of 3% rather than the 3.5% originally reported – but also its composition. We have argued that a large part of the growth experienced int he third quarter can be attributed to government spending and while there is a case to be made (we make it) that the government has a role to play at the depths of a recession this deep, it will be up to the private sector to carry us forward. It just wont happen after three months.

Which brings us to our final point this morning. We have detailed our believe that any given modest adjustment to the tax code, by itself and at current levels, is not enough to destroy incentives to the degree some would assert. While we believe that taxes should always and forever be as low as possible, we do not believe that a few percentage point move in either direction, at current levels, dramatically affects revenue and incentives. However, there is no doubt that going forward, the tax structure is going to be more challenging for many Americans and we are dismayed to see our colleagues on the economic side of things who are calling for robust rates of growth from 4-5% in coming quarters on the back of a rebound in consumer spending levels dismissing this major hurdle for the private sector.

We bring this up because the list of tax increases that we know about apparently just got a big longer this weekend:

  1. We know that the top marginal tax rate is going to increase in 2011 to 39.6% from 35%.
  2. We know that the capital gains tax is set to increase 5 full percentage points while dividends are set to be taxed as ordinary income.
  3. We know that the upper income brackets will lose the ability to deduct mortgage interest from their state and local tax liabilities.
  4. We spoke on Friday of our horror at learning the payroll tax would increase to 1.95% for some individuals and we spoke earlier this fall of the impending tax related to the health care initiative.

We know of all these tax increases and we have no doubt that upper income bracket consumption patterns (the top quintile accounts for anywhere from 40-50% of spending) will be affected. We would doubt the argument that it is enough to derail economic growth but it seems at least fair to say that consumption will be affected.

We reiterate this point after seeing a quote this weekend from chairman of the Senate Armed Services Committee Carl Levin, Democrat from Michigan. Senator Levin, a well respected member of the Government with respect to military affairs, suggested that an “additional income tax to the upper brackets, folks earning more than $200,000 or $250,000” could be implemented in order to help pay for additional troops in Afghanistan. We do not know whether such a tax will be implemented and this past weekend was the first occasion we saw a “war tax” brought up by such a senior member of Congress.

As we emerge from one of the worst recessions in our nation’s history, the Government has played an important role in helping to turn around the economy. Despite these positive contributions, we would be remiss in not pointing out the terrible decisions being made on the tax front. While higher taxes were a virtual certainty following the credit collapse in 2008, irrespective of who occupied the White House, there is a clear ambivalence with respect to taxing upper income brackets. In normal times, we agree with CBO director Doug Elmendorf when he recently made some headlines by saying:

The country faces a fundamental disconnect between the services the people expect the government to provide, particularly in the form of benefits for older Americans, and the tax revenues that people are willing to send to the government to finance those services.

In recent weeks, its become clear to us that the Government faces a fundamental disconnect between the services they are providing, will provide and want to provide, and the additional tax revenues that people are willing and able to send the government to finance those services. We cannot ignore the damaging effect these tax policies may have on the path of consumer spending and economic growth going forward as we continue to drag ourselves out of this economic malaise.

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All around the world

Eurozone manufacturing indexes improved almost universally with the broad based Eurozone PMI composite increasing to 53.7 from 53 in the prior month. As a result of the increase, the PMI is now at the highest level since November 2007. The service sector PMI rose to 53.2 from 52.6 while the manufacturing PMI rose to 51 from 50.7. Beneath the headline, the manufacturing index was somewhat restrained by a lack of movement on the new orders front while the employment component ticked downward. Output though, a measure of actual production, did rise. The dip in this manufacturing index echoes some of the pullback seen here in the U.S.. A concern is of course that after an acceleration coming out of the bottom of the recession, the global manufacturing sector is slowing down a bit to allow demand levels to catch up to the pace of production. To be clear, production is still ongoing as inventory drawdowns abate and restocking begins however there is, as always, only so much production that can occur in the face of stagnant end demand.

Turning to Taiwan for a moment, export orders on a YOY basis were stronger than expected, increasing by 4.4% as opposed to the 3.95% expected. Exports to the United States rose by a very modest 0.67% in October. This is the first YOY gain in exports to the United States since the summer of 2008, no doubt owing to the easy YOY comps. Exports to Hong Kong and mainland China though are up nearly 20% YOY, the 4th consecutive month of positive YOY trends. Simultaneously, IP by 6.6% from one year ago which was also higher than expected.


Existing home sales out today where expectations are for another move higher, coming in at 5.7 million. Existing sales declined from a pace of 7.25 million to 4.49 million which means we are very, very close to recovering 50% of the decline in the pace of sales. Given that this is an October number and the credit was set to expire at the end of November, there could have been a very large rush at the month’s beginning to qualify.

Dan Greenhaus
Chief Economic Strategist
Miller Tabak + Co.
331 Madison Ave
New York, NY 10017
(212) 370-0040

Although the information contained herein has been obtained from sources Miller Tabak + Co., LLC believes to be reliable, its accuracy and completeness cannot be guaranteed. This report is for informational purposes only and under no circumstances is it to be construed as an offer to sell, or a solicitation to buy, any security. Any recommendation contained in this report may not be appropriate for all investors. Trading options is not suitable for all investors and involves risk of loss. Although the information contained in the subject report (not including disclosures contained herein) has been obtained from sources we believe to be reliable, the accuracy and completeness of such information and the opinions expressed herein cannot be guaranteed. The analyst does not have equity positions in any of the stocks mentioned. No individual at Miller Tabak + Co., LLC holds a position on the board of directors of a covered company, nor does an individual at a covered company do so at Miller Tabak + Co., LLC. Miller Tabak + Co., LLC does not own one percent or more of the outstanding shares of the company discussed in this report. An options disclosure document may be obtained from Mr. Jay Stenberg, Chief Compliance Officer, Miller Tabak + Co., LLC, 331 Madison Avenue, New York, NY 10017. Additional information is available upon request. ©2008 Miller Tabak + Co., LLC, All Rights Reserved. Member SIPC. Member NYSE, NYSE Arca, FINRA, CBOE, PHLX, ISE, NFA. www.millertabak.com

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