Tonight, the President gives his State of the Union (SOTU) address, his first as President of the United States, and the pre-speech pundit commentary is out in full strength.
To keep this short-and-sweet, the real “reactionary” tell in terms of the US capital markets will come from the Treasury market, not necessarily from equities.
The Treasury market is very sensitive to GDP growth and changes in inflationary expectations. Without being political to any degree, but merely stating what I think is or was a long-held observation, the big complaint about President Obama’s economic policies, particularly Dodd-Frank and the plethora of regulation, was that it kept the US economy running or operating at a below-average GDP growth rate for many years.
The Trump Administration and the new Congress have a lot of initiatives on their plate, many of which are poised to stimulate growth.
Here are my thoughts on the the initiatives relative to the US economy:
1) The Border Tax: the BTA was panned last week by Gary Cohn, the chief economic advisor to the president. My problem with this is, if you listen to thepPresident, the BTA accomplishes everything the president campaigned on, in one so-called easy initiative. The BTA makes US manufacturers agnostic as to where they manufacture and the BTA potentially provides a major stimulus to US jobs -- if US companies start manufacturing here again. The simple fact is manufacturing employment in the US today is about 5% of total, but manufacturing as a percent of GDP (from the last data I saw) was roughly “mid-teens” thanks to productivity growth.
However, the job growth wage impact with a labor market already operating at a 4.6% – 4.7% unemployment rate could be shocking for Treasuries.
Stimulating what looks to be an already overheated job market at full employment could have nasty implications for interest rates and the Treasury market.
Gary Cohn says “not so fast” on BTA, Paul Ryan and Kevin Brady say “yes”, Mitch McConnell says “maybe not”. Id really like to hear how the President comes out on BTA.
2) Infrastructure: I never put much emphasis on these programs. As Tony Crescenzi of PIMCO noted in a CNBC interview a month ago, the spending has to to have some real economic benefit over the long-run. Certainly, improved roads help the trucking industry and any freight tonnage moved by trucks, but measuring benefits is often illusory and thus the local municipalities can game the economic impact.
3) Corporate tax rates: cash repatriation, personal tax-rate reduction and corporate tax-rate reform will all be done under the umbrella or in conjunction with the BTA as “comprehensive tax reform”, thus this is legislation with a lot of moving parts. I'd like to hear tonight how the president stands on all these issues and what he would like to see from Congress in terms of legislation.
Personally, I’d love to see my ordinary income rates reduced, even if it means some deductions are eliminated.
Back in the early-to-mid-1980s, President Reagan initially reduced individual tax rates and then signed off on comprehensive tax reform in 1986 -- 6 years after he was first elected.
It has been 30 years since tax legislation of this magnitude has been contemplated.
4) Affordable Care Act reform (or 'repeal and replace'): another bill tied to tax legislation.
Analysis/Conclusion: It was somewhat surprising to see the fed funds rate rise to 50% in the last few days. The FOMC is trying to be preemptive, with a mid-March rate increase after 8 years of sub-par growth. However, we get another jobs report on Friday before the next FOMC meeting.
The S&P 500 is on track for a good year. Even if some of the proposed policies get watered down, the S&P 500 should see +8% – +10% earnings growth in 2017.
The Treasury market will be the key reaction tell as to whether the president and Congress are on-point or whether the policies are more hype than substance.
Thanks for reading.