Don Luskin, CIO of Trend Macrolytics, is out with a new op-ed in the Wall Street Journal warning about the impact of the “fiscal cliff.” From Luskin:Why doesn’t the stock market, that most sensitive of economic barometers, seem to care that the U.S. economy faces a “fiscal cliff” at year-end? On Dec. 31, trillions of dollars in tax cuts will expire, trillions more in new tax hikes under ObamaCare will kick in, and a trillion in automatic spending cuts will begin. Yet stock prices are the highest in four years.
Maybe with the date still far away, the fiscal cliff just doesn’t seem real.
Experts have identified all of the various components of the fiscal cliff that would be bad news for stocks and the economy. But Luskin focuses on one key thing: dividend taxes.
The big deal is that one key element at stake here is not a matter of theory at all—it’s simple arithmetic. And it leads to the simple yet alarming conclusion that unless current law is amended before year-end, the stock market has to fall by at least 30%.
It’s all about how dividends are taxed—and the reality that we are facing the biggest single hike in dividend tax rates in history.
The market sets the price of a dividend-paying stock so that it will pay the after-tax yield required to attract capital. When the tax rate on dividends goes up, the after-tax yield necessarily goes down—to restore the after-tax yield to its required level, the stock price has to fall.
In his piece, Luskin goes through the arithmetic behind his conclusion.