There are two things going on in Washington that one might think would cause stocks give up some ground: the legal challenges of several of President Trump’s associates and the ongoing trade disputes with China, the European Union, Canada and, until recently, Mexico.
Despite these uncertainties, stocks are trading just below their all-time highs after having had a very productive summer. Why do stocks seem to be ignoring President Trump’s legal headaches and the trade disputes?
In our view, there are two primary reasons why stocks have stayed strong through the negative headlines.
Lower Corporate Taxes
First, the item on the administration’s legislative agenda that is most impactful for stocks—the corporate tax cut—is already complete. Companies are now benefitting handsomely from their statutory tax rates having dropped from 35% to 21%. In the second quarter, U.S. companies paid 33% less to the government in tax than in the year-ago quarter, which amounts to more than $100 billion on an annual basis.
Soaring Corporate Profits
Second, corporate profits are booming, and by far the most important sustenance for stocks is earnings. Riding a wave of rapid economic expansion, a robust job market and high consumer confidence, companies are growing their earnings at a very fast rate. For the three month period that ended on June 30th, the per-share earnings growth for the companies in the S&P 500 Index was 24.5%, the second fastest rate since 2010—trailing only this year’s first quarter. Sales for these companies rose 9.5%, which is the fastest rate in seven years. The overall economy grew at 4.2% in the quarter, reflecting a broad base of economic growth. Across industries, corporate executives sounded roundly bullish on their quarterly conference calls, with their main hesitations arising from the trade uncertainties. As for now, the economy continues to barrel ahead while corporate coffers are filling up.
With the tax cut a done deal and earnings on a tear, companies have more cash on hand to invest in plant and equipment, hire workers, increase dividends and repurchase their shares. Stocks, at least right now, seem to care much more about earnings and the economy than about the goings-on in Washington.
Please don’t hesitate to contact me if you would like to discuss your portfolio or the markets.