12/05/12   The Irony Of Revenue Seeking Tax Rate Hikes

Editor’s Corner

Ron Rowland

I normally avoid making predictions, but today I will make an exception.  I predict higher tax rates next year will produce a decline instead of an increase in U.S. income tax revenue for 2013 versus 2012.  When the data comes in it may prove me wrong, but here’s my rationale:  The mere thought of higher tax rates in 2013 is causing companies and individuals to alter their behavior in 2012.  Corporations are accelerating dividend payments from 2013 into 2012, and many are issuing “special dividends” before year-end to take advantage of the current lower rates.  Additionally, many investors are deciding to realize capital gain profits in 2012 that they were previously not considering.  The net result of all this activity will be a massive shift of taxable income and tax revenues from 2013 and later years into 2012.  Government revenue for 2012 will come in well ahead of plan, and 2013 income will be reduced so much that even the higher tax rates won’t make up the difference.

Yes, tax policy affects corporate and individual behavior.  You can see it happening today as more and more companies announce accelerated and special dividends.  Some are even going as far as borrowing money to fund these dividends.  I don’t know to what extent the Congressional Budget Office can accurately model the impact of altered behavior. The intent of the potential policy changes is to increase revenues in 2013.  Whether or not that happens is yet to be seen.  However, those same policy changes are on course to increase revenues for 2012.  Beware of unintended consequences.

We’ve got another month before fourth quarter earnings season gets under way.  When it does, I predict nearly every earnings shortfall will mention Clifford & Sandra Blame.  Who are they you ask?  You probably know them by their nicknames:  Hurricane Sandy and Fiscal Cliff.  Hurricane Sandy disrupted many businesses and consumers along the east coast.  For some, a return to normalcy has yet to occur.  Uncertainty surrounding the fiscal cliff has resulted in many businesses delaying, reducing, or canceling their spending plans.  Whether their customers are retail consumers or other businesses, companies missing consensus earnings estimates will have a ready scapegoat.

The FOMC has one more meeting before year-end, and it is scheduled for next week.  Fed watchers are not anticipating anything new to come out of this get-together, and reiteration of previous statements and warnings is probably a given.

Investor Heat Map: 12/5/12


The number of sectors with positive trends held steady at six.  Consumer Discretionary leads the way again, although many of the underlying industries are posting lackluster short-term results.  Retailers and homebuilders will likely receive a large amount of attention from analysts throughout December.  Industrials held its second place spot for now, but Consumer Staples is trying to take its place.  Health Care made its way back into the upper half of the rankings, climbing two spots to fourth.  Materials and Financials are tied for fifth, providing the demarcation between positive and negative trending sectors. 

Telecommunications jumped two spots and is on the verge of erasing its minus sign.  Technology is still struggling, and individual company performance has been mixed.  Many of the group’s leaders and laggards swapped roles this past week.  Energy slid another notch downward even though crude oil prices improved.  Utilities turned in good performance for the week, but is wasn’t enough to move the sector out of last place.


All but one of our Style categories are in the green today.  Mid Cap Value and Mid Cap Blend, the occupants of the top two positions a week ago, continue to provide upside leadership.  Small Cap Value jumped four positions to knock Mid Cap Growth down a notch to fourth.  This places two of the three Value categories at or near the top.  Small Cap Blend, Small Cap Growth, and Micro Cap all jumped ahead of the three Large Cap categories, signaling a shift in relative strength that favors Small Caps over Large Caps.   In the case of Micro Cap, it actually climbed four spots, as last week it was in last place behind Mega Cap.  That leaves the Large Cap groups crowding the bottom.  Mega Cap, the largest of the large, is now in last place and is the only Style category with negative momentum.


Last week we said Europe was mounting a serious challenge for the top spot in the Global rankings.  It successfully accomplished that task, with the help of a strong euro, and put some distance between itself and other challengers.  Pacific ex-Japan and EAFE both improved and now find themselves tied for second place.  Despite the good news out of China, such as factory orders expanding for the first time in eleven months, it fell from its former first place position all the way to fourth.  However, we view this as a short-term relative strength surge for the top three categories as opposed to being weakness for China.  China funds are up strongly today, so this could indeed turn out to be a short-term aberration.  The U.K. climbed two spots to fifth.  Like Euroland, the U.K. benefited from strength in its currency versus the U.S. dollar.  Emerging Markets held steady in sixth as its neighbors swapped positions.  Japan fell two places, replacing the U.K. in seventh.  Japanese stocks are near the high end of their half-year trading range.  They have been turned back from these levels on their four previous visits.  One of these times, there is likely to be an upside breakout.  World Equity is close behind Japan, and the three categories representing the Western Hemisphere are occupying the bottom spots again.  The U.S. moved ahead of Canada, leaving Latin America in last place and the only Global category with a negative reading.



The charts above depict both the relative strength and absolute strength of various market sectors, styles, and geographic locations on an intermediate-term basis. Each grouping is sorted (top to bottom) by relative strength. The magnitude of the displayed RSM value is a measure of absolute strength, which is our proprietary method of measuring and reporting the intermediate-term strength as an annualized value.


“The way to think about the fiscal cliff is more of a slope. Just going over the fiscal cliff and reversing yourself pretty quickly – the fiscal bungee jump – I don’t think it’s a good thing, but that’s not recessionary.”

Jared Bernstein, Center on Budget and Policy Priorities


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