The benchmark Standard & Poor's 500 index could rise by as much as 370 points, or about 15%, over the course of the next year if President Trump and House Republicans achieve a 10% reduction in the corporate tax rate, according to an S&P analysis.
GOP promises of across-the-board tax cuts for American companies have helped drive markets higher in recent months, and potentially for good reason. According to an analysis from S&P Global Market Intelligence, a 10% decrease in the corporate tax rate (a less aggressive reduction than what Republicans have put forth) could drive the S&P 500 up by 15% over the course of a year.
Companies in the S&P 500 are expected to earn $146 a share in 2018, according to S&P's calculations. A 10% reduction in the corporate tax rate, to about 25% from 35%, would add an additional $14.60 to earnings-per-share, equaling $160.60. Assigning a 17-times forward price-to-earnings ratio for 2018 suggests the S&P 500 could trade at about 2,730 a year from now, compared to about 2,360 today.
Bob Keiser, vice president at S&P Global Markets Intelligence, emphasized the calculation is a "pure hypothetical" and does not take into account other revenue-raising measures that could be included in a tax package, like the border adjustment tax and interest deductibility.
"This is a very complex topic, because [lawmakers] are not talking about instituting just an across-the-board tax cut, they're discussing offsetting in a couple of different ways," Keiser said. "If they reduce the rate but increase tax elsewhere for corporations, the net effect is going to be zero."
Wall Street is already, to a certain extent, pricing in items like tax reform, infrastructure and deregulation promised by Trump and Republican members of Congress. Stocks have retreated slightly in recent days, but major U.S. indexes are still up significantly since November.
Since Election Day, the Dow Jones Industrial Average has gained 14%, the S&P 500 is up 10% and the Nasdaq 13%. The S&P 500 is trading at 18.5 times forward earnings compared to 17.5 times pre-election.
"That reflects the amount of bullishness and optimism, partially based on things like tax reform, tax cuts and infrastructure spending," said Keiser. "A lot of this news is already priced into the market."
To be sure, tax reform is not a foregone conclusion. Treasury Secretary Steve Mnuchin has said he hopes to get a package out by August, but Republicans aren't in complete agreement on what that package will look like. Moreover, the GOP is looking to tackle healthcare first -- and using up a lot of political capital doing it.
"There are a lot of different ways we can go from here," said Keiser.
Changes to the American tax code won't affect all companies alike. The border adjustment tax, which taxes imports and exempts exports, would benefit some firms while hurting others. The retail sector has come out in opposition to it.
And not all companies are bogged down by taxes under the current code in the first place.
A new study from the Institute on Taxation and Economic Policy (ITEP) found that 258 consistently-profitable Fortune 500 companies paid an effective federal income tax rate of 21.2% over an eight-year period, well below the statutory 35%. Eighteen corporations, including General Electric (GE) and Priceline (PCLN) , paid no federal income tax, and one-fifth of companies paid an effective tax rate of less than 10%.
"Many of the big corporations that are lobbying for a lower corporate tax rate to be more 'competitive' already pay substantially less than the 35% statutory rate," said ITEP senior fellow Matthew Gardner in a statement.