Is the market underpricing the potential toll of tax, low growth and inflation?
Is the market underpricing the potential toll of tax, low growth and inflation? © AFP via Getty Images

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At a private briefing this month, Larry Fink of BlackRock warned corporate taxes would climb significantly higher, estimating the US rate would rise next year from 21 to 28 or 29 per cent.

Around the same time, Man Group chief executive Luke Ellis told investors in the world’s largest listed hedge fund manager that, “as we come out of all of this, government balance sheets are going to be in a mess . . . and I think that’s likely to mean higher corporate taxes and higher taxes more broadly.”

But the predictions of two investing heavyweights have not affected stock markets, which have roared back from their initial coronavirus crash. Nor do they resonate with much of the corporate world, which is still leaning on government support without fretting too much about the eventual bill.

Billionaire telecoms magnate Patrick Drahi conceded during results for his Altice group last week that, “as we are not in charge of the financial ministries”, tax rates may change significantly and hit future profits. “But hopefully, this will not change in the next few quarters.” The optimistic Mr Drahi concluded: “All those who said that the life after will not be the same as the life before, I agree — it will be better.”

Raymond McDaniel, Moody’s chief executive, acknowledged at a conference this week that there could be higher US taxes “post election”. But he demurred from predicting the impact, given what he said were the unknowable dynamics in Washington, “I do feel like I’ve got to kick the can a bit.”

It is true that a victory for Joe Biden, especially with a leftwing running mate such as Elizabeth Warren, and certainly if the Democrats win back the Senate, is a different proposition for corporate America than another term of Donald Trump, whose 2017 tax cuts remain appreciated even by executives who abhor many of his other policies. But the deficit has ballooned so much that even the Trump tax cuts may have to be reversed if he wins in November.

Is the market underpricing the potential toll of tax, low growth and inflation?

“Of course it is,” says Jonathan Golub, US equity strategist at Credit Suisse. “There’s a collective belief that there’s a free lunch here. And there’s not. If you look at valuations on stocks, what they’re not reflecting is that when we leave this, companies are going to be more indebted and individuals are going to be more indebted and the government is going to be more indebted.”

Some companies with soaring valuations have an excuse. Online retailers such as Amazon (whose shares up more than 30 per cent this year) and online payment tools like Shopify (up more than 90 per cent) are benefiting as we shun physical stores. Others include Moderna, whose shares have almost tripled this year on hopes it will deliver a vaccine, Zoom Video, which helps us work from home; and Netflix, which delivers our entertainment. Higher taxes will not hit these fast-growing companies, most of which make little in the way of profits to start with.

But this has been a broad-based equities recovery. The S&P 500 trades on a multiple of 23.5 times next year’s estimated profits, the highest valuation for 18 years. That rests on the heroic assumption that future earnings will not fall further. Those that do manage to navigate the crisis and report strong profits, will find governments want a bigger slice.

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