Gambling on Congress
Last week the Dow Jones Industrial Average set another record, closing above 22,000. The other major indexes, the SAP 500 in and the NASDAQ composite index, are also near their record highs.
These record high stock prices are the result of the “Trump Rally” which began the day after the election. The Stock Market rose on the expectation that Trump’s promises to eliminate job killing regulations, cut taxes, and reform Obamacare would create an economic boom. So far this expectation has proven to be correct, as consumer and business confidence is up and unemployment is down.
However, there are now substantial warning signs in the market as earnings growth may not be keeping up with stock price increases and the ratio of prices to earnings is at high levels. The expected price earnings ratio for the Dow sits at 18.61, while the historical price earnings ratio is 16. By this measure, which is the most reliable measure of overall stock valuations, the Dow is overpriced by 16%. Similarly, the S&P, at 18.95 is overpriced by 18%, and the NASDAQ at 21.43 is overpriced by 34%.
Those stock price levels would normally indicate that a market correction is in order. However, there is a wild card in the picture which is keeping stock prices high. This wild card is tax reform, which would cut corporate taxes, increase corporate earnings by about 15%, and provide a substantial boost to the economy. Up until now the expectation of the reform has kept the stock market at abnormally high levels.
The problem is Congress. After their failure to fix Obamacare, there is increasing concern that Congress may also fail to deliver the benefits of tax reform. If this happens there could be a slowdown in the economy and a sharp Stock Market decline.
In other words, everyone in the Stock Market is gambling that Congress can pass tax reform. Everyone else is gambling that Congress will follow through with tax reform to bring back the economic growth lost after 2008 by anti-growth policies.
The prophet Samuel warned Israel against bringing in a king who would institute oppressive taxation (1 Samuel 8:14-18). Today it is Big Government that sits like a king in Washington DC and oppresses the people.
There are many things which need to be done to return economic freedom to the people, but tax reform would be a good place to start.
Let us pray that our gamble on Congress will pay off.