- Equity strategists across Wall Street have been reluctant to price tax-reform expectations into their already-bullish forecasts.
- A successful Republican bill could lead to even more optimistic estimates, especially in areas like small caps, banks, and tech.
With the Republican tax bill inches away from passage, many experts are expecting a fresh wave of strength in equities.
Sure, strategists across Wall Street are already bullish on the prospect of more stock gains through the end of 2018. But many of them have been reluctant to push the pedal to the metal, tempering forecasts until tax reform was done and dusted.
Now, with a technical vote in the House of Representatives on Wednesday as the lone remaining obstacle, it’s time to take inventory of the areas of the stock market set to get the biggest boost. After all, according to UBS, the benchmark S&P 500 as a whole could end up surging 25% when all is said and done. And JPMorgan would seem to agree.
These stocks with smaller market values are much more domestically focused than broader indexes and are thereby expected to see an outsize benefit from measures intended to boost US businesses. As such, the S&P 600 index of small caps has already outperformed as investors anticipate a possible windfall of gains.
A report from Jefferies on Wednesday reflected this dynamic, with the highest-taxed companies in the S&P 600 outpacing their larger counterparts over a long period of time. This can be seen in the chart below:
The banking sector has long been one of the areas singled out as having huge upside potential in the event of a successful GOP bill. The reason is simple: Banks pay a high effective tax rate, so a cut would be a huge help to their bottom lines. Not to mention that optimism around US growth is also something that trickles down to banks, which serve as major lenders.
Speaking of which, banks are poised to realise a double whammy of bullishness, with the Federal Reserve already having raised interest rates in December. That’s widely expected to translate to more interest income. Given these two drivers, it’s hard to not be bullish on the group.
The repatriation tax holiday in the GOP’s plan is expected to be the big driver of gains here. Many of the most heavily weighted companies in the tech sector are multinational corporations that get a large portion of earnings overseas. The ability to bring those profits back at a more appealing rate is expected to boost the stock prices of these companies, while also stimulating the US economy.
It must be noted, however, that tech has seen some weak patches in recent weeks as investors have questioned just how much of a boost the group will get from the corporate tax cut. According to a recent study from S&P Global, tech has the third-lowest tax rate out of any industry.
Still, many experts foresee gains from repatriation activities outweighing what could be a muted reaction to a lower effective tax rate.
The most highly taxed companies
This is an all-encompassing category that includes stocks from all sectors, and it’s the most obvious takeaway from the GOP tax plan. The companies paying the most in taxes have the most to gain from a cut. Simple as that.
Investors have been pricing this in for some time, as indicated by the chart below. But if Wall Street strategists are to be believed, it has further to run.