Why Deutsche Bank Thinks The S&P Is Going To 2,500 Next

Tyler Durden's picture

For the past year, Deutsche Bank was one of the most stubbornly pessimistic banks. Then, overnight, everything changed for one reason: Donald Trump.

The German bank laid out its 180-degree change in opinion in a 30-page Friday note titled "Trump: the huge picture for stocks", in which it revealed that it now expects the S&P to easily rise to 2,250 by Trump's inauguration, and then rise to 2,500 by 2018 "before suffering its next bear market."

While not necessarily the "huge picture", here is the big picture summary of DB's note:

In the first week of President elect Trump, most of our investor conversations centered on their concerns about a higher fiscal deficit lifting Treasury yields and pressuring PEs and a stronger dollar/ weak oil prices pressuring the EPS outlook and the possibility of protectionism. While we don't ignore such risks, we think the market is under appreciating the likely big boost to S&P EPS from a lower corporate tax rate and the boost to Bank profits from rising yields (and lower pension expense) and the much higher chance now of a long lasting economic expansion that rivals the 10 year US record. We're more confident now that the S&P will reach 2500 in 2018 before suffering its next bear market.

The key reason for optimism: a surge in corporate earnings as a result of corporate tax reform, which as Goldman noted yesterday, will mean not only lower taxes but the $200 billion in offshore cash which will be repatriated will be mostly used (some $150 billion of it according to Goldman) to fund stock buybacks

With corp. tax cuts S&P EPS should be at least $130 & $140 in 2017 & 2018: We’re unsure how much the US corporate tax rate will be cut, but we think a significant cut is likely, and we see ~25% as most likely because it aligns with the OECD avg., it shouldn’t raise the deficit more than 0.75% of GDP, it significantly reduces repatriation taxes and it provides small businesses that want to reinvest their profits for growth a more tax efficient alternative than pass trough entities generally taxed at higher individual rates; this alternative would be especially attractive if the C class dividend tax rate is not over 15%. We’re unsure what happens with personal income taxes, but we don’t see cutting the top marginal income tax rate as the top near-term priority if C class treatment can be made more attractive to small businesses. Every 5pt cut in the US corporate tax rate from 35% boosts S&P EPS by $5. Assuming that the US adopts a new corporate tax rate between 20-30%, we expect S&P EPS of $130-140 in 2017 and $140-150 in 2018. We raise our 2017E S&P EPS to $130.

As DB notes, companies with the highest effective tax rate, which generally stems from a high domestic share of profits, have the most to gain from cutting the US tax rate. Companies that pay very low effective tax rates on their foreign profits will have less to gain if a lower US corporate tax rate is the tax policy change used to encourage repatriation of offshore cash rather than a special repatriation holiday tax rate. If a company pays a 0% tax rate on foreign profits then they would need to pay the full (albeit lower) US statutory rate to repatriate profits. These companies would prefer a low special tax rate repatriation holiday or a move to a US territorial system. Thus, what Trump proposes is good for multinationals, but best for domestic companies with high tax rates.

Unlike SocGen (and others), Deutsche is also confident that even as Treasury yields are rising, they have a "long way to climb before threatening" the bank's elevated PE multiple, although it admits that should the climb be too rapid it poses a risk to equities.

Treasury yields have a long way to climb before threatening our PE targets: We’re comfortable with the 17-18 trailing PE that our 2350 S&P target for 2017 end and 2500 in 2018 imply, provided 10yr yields don’t exceed 3% in 2017 or 3.5% in 2018. We stress our over-weights on big Banks and Health Care and see upside at Tech, Cons. Disc. and Utilities, but find valuations too demanding at Energy, most Industrials & Materials. Staples have FX risk. The pace of the climb in yields is as important as the destination, as any rapid climb in yields could shock real estate and fixed income and weigh on growth. However, this is why we think Congress will try to find the right balance in its fiscal package and why we think it important that the Fed hike at a moderate pace to prevent the labor market from overheating and to slow the ascent in long-term yields.

DB believes that 10yr investment grade bond yields would need to be 4.5%, and 10yr Tsy yields exceed 3.5%, before companies would face higher borrowing rate than what’s currently in place and thus hurt S&P EPS.

Finally, for those who believe the entire move is just a headfake, here is DB's recommendation on what bonds to buy:

If you are OW bonds or need a reliable real yield asset then look to Utilities. Utilities benefit from: 1) a lower US corp tax rate given nearly 100% US profits and thus no FX risk, 2) likely continued 15% tax rate on dividends vs. income tax rates for interest income and the 3.8% ACA tax is likely dropped, 3) more Federal infrastructure grants and loans for transmission upgrades, 4) a safe haven for retirees and institutions looking to reduce fixed income exposure. We expect corporate sponsored pension plans to reduce their equity allocation in favor of long duration IG corporate bonds, but public sponsored pensions and retirees will still likely seek reliable real yield bond substitutes like Utilities.

Of course, with DB making a U-turn and saying buy now that the S&P is at all time high, we feel that Goldman's warning (to be posted shortly) that the future is far less bright than assumed, may actually be the correct one for a change.

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VW Nerd's picture

I can't help but ask why all the banking institutions that hated Trump prior to the election, are now horiffically bullish on his presidency.  I expect Trump to make them bleed.

wee-weed up's picture

I don't think I'll be taking advice from the likes of DB.

Manthong's picture

The SnP will hit 2500 just before Douchebank hits 2.50.

Arnold's picture

DB was/is very opposed to raising rates via The Federal Reserve.

Expect contrary information from the different trading desks.

They still own the big trouble in River City meme.



VW Nerd's picture

Amen brother. Hopefully the ZH family can be a driving force in his decision making

Raffie's picture

S&P = Sock & Puppet market.

PitBullsRule's picture

Of course!  Building walls and Freeways will make everybody rich!  Buy those shares!

Dragon HAwk's picture

The toes you step on  on the way up,  may be attached to the ass you have to kiss on your way down..

  So when Trump interviews these guys who insulted him  last Quarter, does he put a skunky Beer in front of them on the table, daring them so say something..

Vardaman's picture

So, can douche bank invest its way out of a mess on Trump's back?

Keltner Channel Surf's picture

"Thus, what Trump proposes is good for multinationals, but best for domestic companies with high tax rates."

Had a feeling small caps rocketing 15% past other indices in a few weeks wasn't from "traders", but instead the investment mgmt arm of big firms with stir-crazy Ph.D.s horsing around with 'what-ifs' in Excel and tweaking line charts like monkeys, assuming strong, non-complex, non-interactive effects to be seen immediately.  

Let's see now much capital they're willing to deploy to keep the "Most Shorted," whose short interest was largely obliterated last week, from floating back to earth like a wet, densely packed pound of feathers.

Racer's picture

Are they vying for the role as 'the' über contrarian indicator instead of Garty boy?

Absalon's picture

The author thinks there is $200 Billion in off shore cash.

More like $2.5 Trillion.   That represents an awful lot of tax avoidance which is now going to be mostly forgiven.  

south40_dreams's picture

I always turn to zombie banks for fortune telling advice

max2205's picture

This people never stop 

FreeShitter's picture

Two words: Quantitative stealing.........not donald trump.

Osmium's picture

Yep.  Janet is going to print like a Mth Fkr.

FreeShitter's picture

"I love debt, Im the king of debt" -Donald Trump........meet the new puppet same as the last 10.

jomama's picture

HAHAHAHAH the American public gets fucked again!!

Vlad the Inhaler's picture

Socgen says 10yr yeild needs to be 2.6% and DB 3.6% to hurt stocks, hmm...

OliverAnd's picture

Whatever Deusche (deusche meaning :receptacle used to cleanse one's vaginal area after rough, vigorous sex) Bank thinks, count on the exact opposite.

Herdee's picture

Along with a severe shortage of U.S. Dollars across emerging marlets. Europe will take a bath along with the rest as American Dollars come home.

thesonandheir's picture

They aren't coming anytime soon.

wareco's picture

Ironically, ZHers see DB going to zero.

SHsparx's picture

This is the one with the trillions in derivatives, right?

olebugger's picture

Trumponomics will trump any recession.  American dollars will flow out of Europe and China back home and create jobs, like in the golden 80s. I see a big crash though like 1987 down the line because of too much hot money looking for quick gains! But overall the 20s should be a golden era like the 1920s.

AlbertthePudding's picture

Two words - Wiener emails!