Market Insider

Tax package could bring on a strong year-end Santa rally in stocks

Key Points
  • Markets are hyperfocused on congressional votes in the coming week that would make sweeping changes to U.S. corporate and individual tax law. 
  • The bill, which is expected to pass, would chop the corporate tax rate to 21 percent from 35 percent and give many Americans a tax cut.
  • Many strategists see that tax break as the catalyst for another rally higher in stocks, though some say the record high market has already priced it in and could "sell the news."
A man dressed as Santa Claus walks the floor of the New York Stock Exchange.
Shannon Stapleton | Reuters

Congress could give corporate America one giant gift-wrapped tax package next week, and that could help fuel an even higher-octane Santa rally in stocks.

The House and Senate are expected to vote on a compromise tax bill by midweek, and stocks have been racing higher ahead of it. Even so, some strategists say there is still room to run as earnings should get a boost from the new 21 percent corporate tax rate and increases in capital spending.

"I think the bill is going to pass. I think everyone will get on board. I don't think the markets are priced for this," said Daniel Clifton, head of policy research at Strategas.

The House votes on the bill Tuesday.

Keith Parker, chief equities strategist at UBS, said he believes the bill has been only about 40 percent priced into the market and into individual stock names. "It should not feel like you should sell the news," he said.

"Our expectation is there would be a fairly swift pricing in of tax reform," he said. 

He expects the tax bill could drive the S&P 500 to 2,800 in the near term, possibly January, from its Friday close of 2,675.

Companies with high tax rates have been the obvious winners, along with domestic-oriented companies.

The tax bill will change the tax rate for individuals, with many getting a tax cut but with the loss of some key deductions. The corporate tax is being restructured as a territorial tax, and there is also a change in expensing that would encourage capital spending.

"We do expect to see a pickup in buybacks, M and A, and a sizeable pickup in corporate dividends. Corporate profits have rebounded this year, and we expected that anyway. You could see that continuing with the tax plan," said Parker.

TrimTabs reports that corporate stock buyback announcements this month, as of Thursday, totaled $55.7 billion, higher already than the totals for each of the last five months.

The Dow closed at a record 24,651 Friday, up 1.3 percent for the week, while the S&P 500 was up 0.9 percent, also at a record. Nasdaq was up 1.4 percent for the week to a new high of 6,936. Tech has been beaten down recently because it will pay higher taxes, but this past week it was up 1.8 percent, the second-best performer after telecom's 4 percent gain.

"On the corporate spending theme, software and services is one that should benefit from increased corporate spending, and they've lagged," Parker said.

FundStrat on Friday recommended overweighting tech, but not the high-flying FANG names. It said those stocks — Facebook, Amazon, Netflix and Google parent Alphabet — could face headwinds from the FCC's removal of the net neutrality rules this week. Those rules prohibited internet providers from giving some content providers a higher level of service over others. The telecom sector should benefit from the rule change, and it was the top performer this past week.

FundStrat also recommended overweighting value. Some tech names will pay higher taxes, but FundStrat expects the sector to do well regardless.

FundStrat quantitative strategist Sam Doctor said stocks could see a boost in the coming week, once the tax plan is approved, but that most of the gains from taxes are priced in.

"I certainly believe that you could see another bump up, but you've had a lot of information flow, and in the movement forward in the last few days, I think the market responded to that. I wouldn't say it's 100 percent priced in," he said.

But James Paulsen, chief investment strategist at Leuthold Group, said he believes the market may already have priced in the tax cuts and it could be "a sell on the news" type of market initially.  Paulsen warns that the stock market has been burned by year-end trading in the past and hasn't always traded higher in a Santa rally.

"A lot of people are going to want to get out. … If it passes, they're going to pull in their horns and leave the office," he said.

George Goncalves, head of fixed-income strategy at Nomura, said he expects interest rates to rise if the tax bill passes. The market will also monitor some economic data, like existing home sales Wednesday, and durable goods and personal income and spending Friday.

"It's all about the tax bill getting through and then a beeline to the holidays. We're still in this kind of suspended animation of 'we'll believe it when we see it.' The bond market has been the most skeptical throughout the whole year," he said.

Goncalves said because of the year end, many bond players will wait until January to really adjust positioning.

"On the back of the news of this bill passing, [yields] should go higher. If they don't, the bond market is sending you a message that they don't think this will lead to growth," he said. "If they do pass it, stocks probably melt up into year end."

In other market developments, the CME becomes the second exchange to launch trading in bitcoin futures Sunday night. 

What to Watch 


8:30 a.m. Business leaders survey

9:45 a.m. Services PMI

10:00 a.m. NAHB survey


8:30 a.m. Housing starts

8:30 a.m. Current account

1:10 p.m. Minneapolis Fed President Neel Kashkari


10:00 a.m. Existing home sales


8:30 a.m. Initial claims

8:30 a.m. Real GDP Q3

8:30 a.m. Philadelphia Fed manufacturing

9:00 a.m. FHFA home prices


8:30 a.m. Durable goods

8:30 a.m. Personal income

8:30 a.m. Philadelphia Fed nonmanufacturing

10:00 a.m. New home sales

10:00 a.m. Consumer sentiment