A Few Tremors, No Major Quakes in Equities After Tax Proposals

(Bloomberg) -- It sent a quick shock through a couple odd corners of the market, but in the end the House’s tax proposal blended enough risk and reward for equity investors to leave them unfazed. Concern among bulls that they may have been mildly misled about the benefits to business was mixed with relief about retirement-account limits.

There were exceptions to the prevailing calm. Homebuilder stocks fell on concern about mortgage interest deductions, and companies with weaker balance sheets that may lose deductions on debt expense slipped.

Few traders or money manager said they expected the plan to survive in its current form, probably explaining the overall market’s muted reaction. After slipping as much as 0.5 percent earlier, the S&P 500 Index closed at 2,579.85, down less than a point.

Here’s what Wall Street said about the proposals and stocks.

Corporate Tax Cut

The bill would lower the corporate tax rate to 20 percent from 35 percent.

Jim Paulsen, chief investment strategist at Leuthold Group LLC

“There’s a lot of bias toward small companies overall. Small cap stocks are doing well again today relative to the market overall. If anything, pretty much most of what was bantered about for small caps is in there. The 20 percent rate is a big part of it.”

Seth Carpenter, chief U.S. economist at UBS

“The release confirms our view that tax reform is far from being a done deal. The bill contains several specifics that we believe will prove sticking points, which increase the difficulty of finding the votes to support the plan in both the House and the Senate. We maintain our view that tax reform is unlikely this year or next.”

Stephen Carl, head trader at Williams Capital Group

“There is a lot of uncertainty about how the tax plan is going to affect whom, and part of it is because the plan says it will help small businesses not to the extent people had anticipated. We are seeing an immediate knee-jerk reaction. There needs to be a serious assessment of the plan and see which concrete things will come out of it.”

Steven DeSanctis, equity strategist at Jefferies

“A 20 percent corporate tax rate would boost 2018 S&P tech earnings growth by only four points--to 17 percent from 13 percent. Healthcare earnings growth would rise to 16 percent from 8 percent. Discretionary earnings growth would rise to 27 percent from 9 percent with a 20 percent corporate rate, and Staples growth would go to 22 percent from 6 percent.”

The Russell 2000 rose 0.3 percent, outperforming large-cap indexes.

Corporate Interest Expense Deductions

A provision of the proposed rules would prevent companies from deducting interest expenses that exceed 30 percent of a measure of their income.

Ed Clissold, chief U.S. strategist at Venice, Florida-based Ned Davis Research

“In the long run, adjusting where the interest expense falls on the income statement could have positive implications for the economy but in the meantime there are companies and sectors that naturally use this more than others -- the financial sector for one. As a result they would be relative losers by this.”

Andrew Brenner, head of fixed income at Natalliance Securities

“This should reduce the amount of bonds that companies issue towards stock buybacks or dividend increases. This could be a problem for the stock market.”

A little over half of the S&P 500’s members rose on the day.

Overseas Earnings

The proposed bill would impose a tax of as much as 12 percent on multinational companies’ accumulated offshore earnings.

Peter Jankovskis, co-chief investment officer of Lisle, Illinois-based Oakbrook Investments

The tax on multinational companies should “capture some benefit of their overseas earnings. That’s certainly higher than was expected but I’m not sure if that will be applied going forward as income is earned or if it’s something applied when income is repatriated. Exactly how they’re going to apply that I haven’t seen details on.”

Mortgage Deductions

The bill would cap the mortgage-interest deduction on new home sales at $500,000, slashing deductions for mortgage interest payments by half for new home purchases.

Ian Winer, director of equities at Wedbush Securities Inc.

“Homebuilders are the ones that would suffer the most, hence a significant selloff. This could be a good excuse to take profits for someone who thinks the bill will pass, but I don’t think we are necessarily going to see an extended selloff in the sector.”

An S&P index of homebuilders sank the most in a year, while Home Depot dropped 1.6 percent.

Retirement Accounts

The bill will include “no changes” to popular 401(k) retirement plans and won’t repeal the Obamacare individual mandate.

Jankovskis

The 401(k) detail “should be a positive supporting the markets, especially money management firms and mutual fund companies. All those companies are not experiencing a down draft which they would have otherwise. Not that it creates an advantage for them, but certainly maintaining the status quo is a good outcome for them.”

An ETF tracking insurance companies was little changed.

©2017 Bloomberg L.P.