We are initiating our 2025 year-end S&P 500 Index target of 6,600 based on 21.5x 2026 consensus EPS estimate of 305 with risk skewed to the upside due to AI impacts. Our target assumes that there is not a democratic sweep as the betting odds implied. The probability of a Democratic sweep has declined to below 3%, primarily driven by prospects for Republicans in the Senate. In the case of a Democratic sweep our target goes to 6,000, assuming a rise in the corporate tax rate to 25%, which will lower 2026 EPS estimates, and a 28% capital gains tax, which will trigger heavy harvesting of capital gains in 2024.
Contrary to public opinion, the president usually has very little impact on stocks or the economy as the US 3 branch system of government puts severe limits on the President’s power. The exception to this rule is the case of significant changes in taxes that impact corporate profits and capital formation. The IMF estimates that capital formation is 70% correlated to GDP growth with every 10% increase in gross investment rate contributing to a 1.5% increase in the GDP growth rate. Significant changes in taxation of capital almost always requires one party control of the executive and legislative branches of government. The average corporate tax rates of socialist countries in Europe is only 20%, despite very high personal tax rates, due to the fact that corporate tax rates are 60% inversely correlated with economic growth.
Our target assumes a 10-year treasury rate of 3.5%. We believe the recent rise in the 10-year is irrational as the market’s manic-depressive estimates of future Fed rate cuts continues with excessive pessimism about future Fed rate cuts being the latest trend. Fed policy is currently highly restrictive as the Fed has had to shrink the Money Supply by .6% over the last year (vs. a normal growth rate of approximately 5%) to maintain the elevated level of the Fed Funds rate. Negative money supply growth will eventually result in inflation approaching zero and the economy going into recession driven by the housing sector. Consequently, the Fed will need to pursue the rate cuts implied by its own projections in order to avoid a recession. We expect the current pessimism about future rate cuts to abate as we continue to see steadily declining inflation rates driven by the normalization of the distorted shelter component of CPI/PCE. are required to inject liquidity into the global capital markets.
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