JPMorgan: 66% Of The Stock Market Rally Is Based On “Improving Economic Surveys

It has been difficult to quantify the bullish sentiment that has driven the stock market since the election of US President Donald Trump. That doesn’t prevent JPMorgan’s Michael Cembalest, Chairman of Market and Investment Strategy, from allocating performance driver causation on a rough percentage basis as he considers tax cuts and public-private partnerships for fiscal stimulus.

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JPMorgan’s Cembalest says majority of rally based on improving economic surveys

On a day when the stock market engaged in a sharp afternoon reversal – after being up to 180 points, the Dow Jones Industrial, the elite large cap measure turned tail in the afternoon to end lower by 41 points. It all came after the Federal Open Market Committee released its minutes. It might have been the Fed noting the overheated speculation in the stock market that was most jarring or the notion that it might be raising interest rates on non-economic factors that caused concern. The sharp turnaround – among the largest point advances and declines in day trading – comes as odd technical formations were detected in volatility Tuesday.

Cembalest, for his part, takes a wider view.

He speculates nearly 66% of the stock market rally is based on “improving economic surveys,” often considered “soft data,” along with a decidedly “hard data” point of an upturn in corporate profits. He anticipates 8%-10% earnings per share growth in 2017, for instance, with much of that EPS growth based on anticipated legislative benefits.

The remaining 33% of the market rally is based on expectations for tax reform, infrastructure spending and the benefits from deregulation – some of which has hit a slight snag.

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Watch for tax reform to be packaged with popular fiscal stimulus in creative ways

On the tax reform front, Cembalest looks at a combination of US corporate and personal tax cuts, but both could be constrained by those pesky budget deficits. That’s the sticking point. Everyone loves a free lunch, the issue is who is smart enough to leave the table before the check arrives.

But here the crafty Trump administration might have tricks up its sleeve, combining tax reform with populist politics. Trump has started mixing plans to increase infrastructure spending through with a one-time tax on nonrepatriated corporate profits, and through public-private partnerships.

Cembalest notes that some progressives have attacked public-private partnerships as “basically fraudulent” and “corporate welfare,” he points to the Obama Treasury department issuing a report in 2015 which strongly endorsed the concept as a method of building future infrastructure. “Odd that such criticisms were not thrown around back then…” he noted with a dry wit.

Separately, talk of tax repatriation being tied in part to infrastructure spending is just some of the whispers that are being bandied about. On a day in which Speaker of the US House Paul Ryan (R-WI) said tax reform needs more time – pushing it without consensus in place might result in a defeat much like the healthcare reform efforts.

That said, there is an emerging movement on tax reform that Cembalest noted:

On personal tax rates, the House GOP plans to cut personal tax rates and pay for it in part by reducing deductibility of state and local taxes on Federal returns, which could raise ~$400 billion over 5 years. Such a change could have wide-ranging consequences: low-tax states already enjoy higher growth in population, employment, income, gross state product and government revenues. If hightax state citizens really had to pay full freight on their state taxes, these gaps could grow further, putting even more pressure on states like New Jersey, Michigan, Illinois and New York

Another market positive from JPMorgan’s perspective is developments in Trump trade rhetoric. While it was initially “aggressive,” the reality of trade policy implications may be less than feared.

The path of least resistance that would be acceptable to the banking wing of the Trump administration might actually result in a “quite small” market impact: