Taking Away The PunchBowl--Why The Stock Market Could Go Down "Big Time"

Just when things start going good somebody wants to spoil the party.  Nothing out there right now to torpedo the market but a couple of events that could mess things up around 2010 or 2011.  Who cares?--that is light years away, you say.

True enough but the market is a discounter of future events.  The market deals with events before they happen.   

The first thing that could bode badly for stocks is one of the things driving stocks up right now--the private equity market.  Those equity guys don't want to own Burger King or Neiman Marcus forever.  They want to make money for their clients and, more importantly, for themselves.  So what are they going to do?  They are going to slim these companies down, cut expenses, close marginal units, sell off assets and emerge with a lean money machine.  Which they will then sell to the market by going public.  They are going to provide supply and more supply has a downward pressure on demand which means lower prices for stocks.  Not right off the bat.  In fact, the first offers will do great which will result in more offers until the market becomes glutted and the whole thing collapses.  Well, maybe not a collapse as these are real companies as opposed to dot.coms but the process is still there.  More supply usually results in lower prices.

Probably the larger threat to stocks is the elimination of the current tax code.  In 2001, at the beginning of the biggest stock market decline since the Great Depression, the Congress passed a tax package cutting marginal tax rates, cutting the capital gains tax to 15%, the tax rate on dividends to 15% and eventually eliminating the estate tax.  I don't understand all the parliamentary rules but for some reason the tax cutters didn't have enough votes to make the cuts permanent so they put a ten year life on them.  That life expires in 2011.

2011?  So what?  That is a long time away but already the parties are warring over the future of the tax cuts.  The Republicans are trying to make them permanent and the Dems are, and have been, complaining about these tax breaks for the 'wealthy' since the 2004 campaign.  Somehow the strong market that has resulted, record tax receipts, and the fact that 5% of the taxpayers (the wealthy) pay 55% of the taxes in this country seems to have been ignored.  But forget about all that.

A debate over the real or perceived inequities of the tax code is not worth having.  Let's just deal with the facts and the major fact is that the tax changes expire.  They don't come up for a vote, they don't automatically get renewed, they just expire.  Wake up on January 1, 2011 and your taxes went up.  And they will go up on you because the odds are that you will be wealthier on January 1, 2011 than you are now.

But, again, forget the debate and look at the impact on the market.  Increase the cost of an item and that item becomes less valuable.  Taxes are a cost so if you increase the cost of a stock that stock, by definition, becomes less valuable.  To reflect that loss of value, the price of the stock will go down.  Finance is simple.

What are the odds of this happening?  I don't know.  I heard from one source that the parties might cut a deal over the AMT.  Hmmm.  That would be interesting. 

I tend to think this one is not going to turn out well.  While finance is simple, most politicians are lawyers and you know what lawyers can do with simple things.

   

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[Fisher Investments Rx]

The information that everyone else already has is already built into stock prices. So even if it's correct, you can't profit from it. That, in a nutshell, is the efficient market hypothesis — and it's maddeningly correct.

[jim collins]

A light year is a unit of distance, not of time. It's the distance light travels in a vacuum in a year; 5,879,000,000,000 miles.