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Barclays: End Of Bush Tax Cuts = Lower Stocks
By Matt Hougan | July 26, 2010

A new research report from Barclays Capital says that the expiration of Bush-era tax cuts could drive down equity valuations by about 8 percent.

The report, released today, examined the historical link between capital gains tax increases and equity valuation levels. It found that there was “enough of a relationship” between the two to suggest that allowing Bush-era tax cuts on capital gains and dividends to expire could drive the current price-to-earnings ratio of the market down from 12 to 11, a drop of 8.3 percent, or about 870 points on the Dow Jones industrial average.

Looking at data from 1976 to present, the study found the correlation between dividend and capital gains tax rates and market P/E multiple to be 0.54. It admitted this relationship was relatively weak. Still, it said that “a big chunk of market cap is vulnerable to tax policy changes,” and suggested that the link was strong enough to merit study in the current political landscape.

The study dismissed the impact of the White House’s current plans to reduce taxes on the middle class, noting that three-quarters of all stock market wealth is held by families in the top decile of income.

Bush-era tax cuts for the wealthiest Americans are set to expire in 2011. When they do, the top margin tax rate will rise from 35 percent to 39.6 percent. More importantly for the stock market, the tax rate on dividends and long-term capital gains will rise from 15 to 20 percent.

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