President Donald Trump likes to claim credit for the stock market rally, but there are other factors at work. He gets partial credit, but only partial.
The Trump trade gave a dramatic boost to the market shortly after the election one year ago Wednesday. While the components of that trade are still alive, others are arguably more important.
Let's take a look.
After the election, the market came to believe that a combination of tax cuts, infrastructure spending and regulatory reform would give an added boost to corporate profits. The S&P 500 rose roughly 6 percent in the first month after Trump's election, and that was certainly very real.
Stocks have often moved on perceptions of a tax cut. Most traders believe there is some kind of premium in the market for the cuts, so that if Trump tweeted, "There will be no tax cut deal," the market would react negatively. How negatively is debated, but a 5 percent drop in the S&P 500 is fairly frequently cited to me by traders.
Yet at the moment, it's popular to argue that tax cuts have not had any real influence on the stock market. Credit Suisse, for example, is one of many firms that developed a basket of high- tax stocks that would benefit from tax cuts. Its conclusion: "The market rewarded firms with high effective tax rates for only three weeks post-election, but not since."
Goldman Sachs' High Tax Rate basket has also posted weaker returns than the overall market, but David Kostin, the bank's chief equity strategist, had a different interpretation. He noted that stocks in the high tax basket generate a whopping 84 percent of their sales within the United States. He believes their underperformance has been hurt primarily by the weak dollar, which benefits firms with high foreign sales and penalizes those with lower foreign sales.
"The High Tax basket's performance this year has been influenced by exposures other than tax sentiment," Kostin said.
One feature of the Trump trade that is prominent is a basket of companies that get most of their sales from small- and mid-sized business customers. This basket is up 38 percent since the election, since small-business owners have been "thrilled at the prospect of deregulation under the Trump administration," Kostin wrote in a note to clients.
And tax cuts, should they materialize, definitely can influence future earnings estimates. Kostin is modeling roughly $139 for S&P earnings per share next year, a 7 percent increase from this year. But that is without tax cuts.
He figures tax cuts have the potential to add another $9 per share in earnings, to bring S&P earnings to $148 EPS next year, which would be 13 percent growth.
By the way, Kostin does believe that the market's perception of tax cuts has lifted stocks. He told me that without tax reform, the market would be closer to 2,400 than its current 2,590. That's about 8 percent lower.
What all these factors have in common is the perception that the administration is far more business friendly than the previous administration. Tim Anderson at MND Partners is one of many who believe that perception is a factor in the rally.
"Businesses are spending at a faster pace than they have in years, and there is no doubt that a more business friendly regulatory climate is a big catalyst," he said. "It's something the economists have a very difficult time plugging into their model."
While the whole infrastructure story has fallen by the wayside, Treasury Secretary Steve Mnuchin said last week the Trump administration would focus on infrastructure spending right after tax reform.
The U.S. stock market also is at a record high because earnings are at record highs and because the market believes that record high earnings will continue for at least the next couple quarters.
S&P 500 EPS
2017 (est) $130.90
Source: Thomson Reuters
Estimates are north of $140 for 2018.
Global growth has also returned. This is the largest contributor to the global rally we have seen this year. Upon surveying this landscape, Goldman Sachs concluded, "Most foreign equity markets have benefited from an upswing in global growth."
It's a rare event when the major global markets are all — almost without exception — up double digits, but that is indeed what has happened:
Global markets 2017
Hong Kong: up 32 percent
Vietnam: up 27.9 percent
Korea: up 25.6 percent
India: up 25 percent
Japan: up 20 percent
Germany: up 16.5 percent
Indonesia: up 14 percent
France: up 12.7 percent
Thailand: up 11 percent
Shanghai: up 10 percent
The only laggard is the U.K., up only 5 percent on Brexit concerns.
You can give credit to the ocean of liquidity provided by central banks if you want, but one key point is that the U.S. has dramatically outperformed the rest of the world over the past five years. The better growth this year was really overseas. Several traders noted to me that emerging markets went through a vicious bear market from 2011 to 2016. Japan badly lagged until this year. Even Germany didn't make a new high until this year.
Some have argued that the market is ignoring the Fed's raising of interest rates, but that is a stretch, since the Fed has been moving at a glacial pace, and its intentions have been well telegraphed. There's no reason to believe that incoming Fed Chairman Jerome Powell will mark a radical departure from this policy. Next year, though, is a different question, and I do agree that a key risk to the market is the Fed moving to tighten too fast.
The bottom line is Trump gets some credit for the rally, but only some. And a lot of it could vanish if we don't get more progress on tax reform.