Tax reform and its positive impact expected to show on business side of economy soon


23 May 2018


As the Fed continues to reduce the scale of accomodation, calls for an economic slowdown have increased, despite the market’s fundamental backdrop.

Historically speaking, economic recessions have followed Federal Reserve tightening cycles. As such, some market participants see the removal of accommodation as the beginning of a reversal of both, the economy and the long bull market in equities. According to the Investment Adviser, an important difference to highlight is that this time the expansion has not been characterised by a households’ credit expansion, nor overextended borrowing at the corporate level. The Investment Adviser finds it difficult to believe that the removal of something that has not managed to boost the cycle significantly beyond its organic potential will be the cause of its demise. To be clear, the Investment Adviser hence struggles to make sense of the argument that the Fed’s gradual removal of accommodation will lead to a sharp economic slowdown.

Going forward, GDP is expected to receive a solid push from recent tax incentives, with the Investment Adviser expecting the impact to be seen on the business side of the economy first, before any significant acceleration will be noticed with regard to consumer spending.

The jump in retail sales in March wasn’t sufficient to considerably improve consumption in the 1st quarter, with real consumer spending appearing underwhelming. In any case, the Investment Adviser would only be concerned if the decline was due to a deterioration in consumer fundamentals, which does not appear to be the case – at least for now.

On the employment side, the continued cyclical recovery in labour participation is very important for the near-term pace of payroll growth to be sustainable. Over the past 2 years or so, the market has witnessed a comeback from the cyclical segment of the work force (25-54 years old) into the labour force. Given that this trend continues, it should result in firmer job growth and a more persistent downward pressure on the unemployment rate according to the team. However, this trend (if continued) should also temper wage growth in the shorter term, which would probably already be growing at a faster pace if it was not for this labour force dynamic.

Regarding inflation, headline CPI will most probably increase as gasoline rose by more than 5% in April. At a higher level, the Investment Adviser expects persistent energy price pressures coupled with easier year-on-year comps to eventually push the headline CPI to above 3% on a year-on-year basis at some point later this year.

In April the Fund returned +0.84% against +0.37% for the benchmark. In terms of stock selection, Ulta Beauty was the largest contributor, followed by Shire and Becton Dickinson (+0.53%, +0.26% and +0.23% contribution to return respectively). On the other hand, Allergan was the largest detractor, followed by Sherwin Williams and Signature Bank (-0.27%, -0.20% and -0.19% contribution to return respectively).

The views and statements contained herein are those of the Eric Sturdza Banking Group in their capacity as Investment Advisers to the Fund as of 16/05/18 and are based on internal research and modelling.