Stimulus, More Stimulus and Taxes

Five Drivers of Markets in a Biden Administration
The reasons to be bullish on stocks continue to mount.
Bloomberg, January 20, 2021




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Which matters more to equities, valuations or the economy? This is not an abstract academic question, but rather the core of the debate between the stock market’s bulls and bears. Answer that question, and I can probably tell you what your portfolio looks like, and whether you believe stocks are going to go higher or are due for a major correction – or worse.

The problem with these binary debates is that they tend to narrowly ignore the complexity of markets. How quickly will the post-pandemic economy recover? Are we over- or under-estimating future earnings? Will investors still remain enthusiastic for equities as they get pricier? These discussions are subtly cloaked guesses as to what the world will look like over the next 12 months in a Biden administration, including whether these improvements in economic activity and corporate earnings are already reflected in market prices.1 though there are other — admittedly modest —  data points supporting that view. Let consider these drivers of the markets in 2021:

Market Reset: What happens when markets fall 30% or more? Before last year, we only have five examples going back to 1950 when the S&P 500 Index fell that much: 1970, 1974, 1987, 2001 and 2008. On average, the ensuing five-year period following a 30% crash shows returns that are about 90 basis points higher annually than any five-year period on average.

The caveat is that this is too small a sample set to get very excited about. Still, I am reminded of 1987, when the markets crashed not due to economic contractions, but rather the combination of portfolio insurance issues and the clunky, manual infrastructure of the New York Stock Exchange. Those externalities remind one of 2020, when a very different biological externality punished markets.

2020 Stimulus: How much did the Cares Act relief package benefit the economy? Signed into law on March 27, 2020, it included $2.2 trillion in direct stimulus to individuals as well as small and large businesses. Not only was it much larger than the response to the great financial crisis of 2008-09,2 but it arrived in about eight months – far quicker than the earlier stimulus.

This generated a massive economic response, driving Americans’ cumulative after-tax personal income higher by more than a $1 trillion. This dollar amount rose 8% from March to November of 2020 versus the same period in 2019.

Personal income also increased, as did the savings rateCredit card delinquencies plummeted, and are currently among the lowest in history. And retail sales not only recovered, but soared above pre-pandemic levels.

I drive my Libertarian friends crazy when I say this: The fiscal response of Congress not only averted another Great Depression, it reconfirmed that John Maynard Keynes has been right along.

2021 Stimulus: The success of the Keynesian response to the Covid-19 crisis will likely drive the policies of the Biden administration. The President-elect is pushing for a $1.9 trillion relief package, perhaps as part of temporary Covid lockdowns and a national mask mandate. But that’s just the start. Decades of neglect is likely to lead to a massive multi-year upgrade of the nation’s infrastructure. Hopefully, the new administration uses 50- or even 100-year bonds to lock in today’s ultra-low rates.

And it won’t merely be roads, highways, bridges, tunnels and airports that get a refresh. Look for things like some form of “smart road” initiative and implanted RF devices for self-driving cars. That’s the future, and it’s coming – the only question is how soon it gets here. Some of this will be part of the “Green New Deal,” and it will include tax credits for more solar/wind generation installations, electric vehicles and clean, green buildings, perhaps even an expansion of electric vehicle charging network.

Even more stimulus: A major expansion of Obamacare is also likely. Adding 35 million more paying consumers to the health-care system turned out to be good for hospitals, pharmaceutical firms and healthcare workers. The healthcare sector rallied every time Obamacare survived another Supreme Court ruling. Adding another 25 million people to the ranks of the insured will further drive this sector, which makes up a substantial portion of retail sales.

Taxes: All of these programs are going to goose the economy for years, not just months. These total from $5 trillion to $8 trillion in spending over the next five to 10 years. But they will be offset by an uptick in personal income taxes on all earners making more than $400,000. Expect to see the top rate higher by a few percentage points.

Corporate tax rates will likely go up much more — best guess, ~28%. The key unknown is an alternative minimum corporate tax. The current guesstimates are for somewhere in the neighborhood of about 12%, aimed at companies such as Apple and Facebook that despite being wildly profitable pay almost no taxes. To be sure, even with higher taxes, we are still looking at a massive, multi-year stimulus plan.

There are many factors that drive markets and government, which accounts for about 20% to 25% of the economy. If we see an even bigger stimulus in 2021 than 2020, it should filter into company revenues and profits. The biggest unknown is how much of this year’s gains were already captured in last year’s rally.


1. I define a “secular bull market” as an extended period of time, lasting anywhere from 10 to 20 years, driven by broad economic shifts that create an environment conducive to rising corporate revenues and earnings. The dominant feature is the increasing willingness of investors to pay more and more for a dollar of earnings as the bull market progresses.

2. The Congressional response to the Great Financial Crisis, the American Recovery and Reinvestment Act of 2009, was a $787 billion package composed of a hodge-podge of direct payments, expanded and unemployment benefit extensions, temporary tax cutsand a very few shovel-ready infrastructure programs. That money was spread out over fiveyears. It managed to nudge GDP slightly higher over that period.




I originally published this at Bloomberg, January 20, 2021. All of my Bloomberg columns can be found here and here





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