The stock market rallied on Thursday as it appears the mini 3% correction is over. As I’ve mentioned, there is a large group of investors who are dying to get into the market. Whenever there is a 5% correction, they plow money into stocks. Because 5% corrections have become rare, these bullish investors preempt them by buying stocks earlier. This strategy sounds dumb on face value because it ignores the fundamentals, but it has been reinforced by a rising stock market. Even though it’s irrational, it has worked which means the fund managers using this strategy have multiplied. Being a good investor means ignoring rational arguments sometimes because it’s more important to make money than worry about being right. That’s why these mostly bearish articles I write are meant to give you perspective on the markets and aren’t about short term recommendations.

One of the reasons the stock market rallied on Thursday is because progress is being made on the legislative front. Just because the aggressive deadlines likely won’t be met and the first attempt at healthcare reform was a mess doesn’t mean nothing will get done. It’s tough to believe the GOP would squander the opportunity to show it can govern. The one uniting motivation that all politicians have is they want to get re-elected. This is what will push them to vote for a bill they don’t completely agree with. Not producing any results is indefensible because no voting faction will be satisfied with that.

The first update is on healthcare reform which is the first step towards enacting tax reform because of the budget savings it will provide. The point that healthcare reform paves the way for tax cuts has been echoed by the president, but it’s not 100% accurate. As with many aspects of legislation, the wonky procedural rules add nuances to the situation. If the Republicans pass tax reform through a budget reconciliation, they only need majority approval. However, if the tax cuts add to the deficit than the bill needs 60 votes in the Senate, meaning it needs Democrat support. The exception to this rule is that the cuts which add to the deficit can be temporary (last 10 years).

Therefore, there are a few permutations which result. The Republicans can decide they are happy with 10 years of tax cuts in the hopes that they will be extended. While they may be extended, the uncertainty prevents businesses from making long term investments in America which is why this is not a favored approach. The Republicans can also decide to pass tax reform which adds to the deficit. They would need Democratic support, so they would add an infrastructure spending plan to sweeten the deal. While deficit spending may excite the stock market, it doesn’t seem likely because Senate Democrats aren’t in the mood to work with President Trump and conservatives aren’t going to favor ballooning the debt. The most likely path is a tax reform plan which doesn’t add to the deficit. This means healthcare reform doesn’t necessarily have to happen before tax reform. Both the decisions on the order of the plans and which tax reform plan strategy will be employed depends on what the President thinks is the most likely to pass and win him approval from the voters.

Getting into the latest specifics of the healthcare plan negotiations, there is a new plan which is gaining steam which was put together by the chairman of the conservative Freedom Caucus, Mark Meadows, and co-chairman of the moderate Tuesday Group, Tom MacArthur. Because the main reason why the Ryancare plan didn’t pass was because of the House Freedom Caucus, the plan is going to be more conservative than the last one. The problem with this is some moderates didn’t support the Ryancare plan, so it will be even tougher to get them on board with this new one. There was specific analysis done by a few media outlets about how Ryancare could cost some moderates their house seats because of benefit cuts. These will resurface once the new plan is released.

Specifically, there’s a limited waiver option for states to opt out of the famous pre-existing conditions clause in Obamacare. Firms will be allowed to charge higher rates for people with pre-existing conditions if the state offers a high-risk pool or is participating in a federal high-risk pool. The second conservative aspect to the measure is it allows states to eliminate Obamacare’s essential health benefits. This is part of the aspect of Obamacare which President Obama was criticized for because people who had cheap plans which didn’t offer complete coverage weren’t allowed to keep their plans like he promised.

The healthcare news represents movement on Capitol Hill in the right direction, while the news on tax cuts is a potential change in strategy. There was a NY Times op-ed written by a few influential Republicans in which they made the push for a strategy which only focuses on cutting the corporate income tax and ignores the personal income tax. This could be a potential plan which can save face for Republicans if they fail at this second healthcare reform plan and can’t get a comprehensive tax reform bill passed. The most important part of fiscal policy for the stock market, in my opinion, is the temporary repatriation tax holiday because that money will be used to fund buybacks which will boost stock prices. Technically, that’s not the goal of the plan as the government wants firms to invest in new initiatives. The one way this can be avoided is if the clause in the Trump infrastructure plan is enacted where businesses get tax credits for investing in infrastructure. Both buybacks and tax free infrastructure spending would boost stock prices.

Conclusion

Stocks rallied on Thursday because of movement towards the GOP passing healthcare reform. The next key date is Saturday as the House GOP will host a conference call with its members. Besides healthcare and tax reform, the GOP also must discuss raising the debt ceiling by the fall to avoid a default on the government’s obligations. Stocks won’t worry about that until the late-summer as the debt ceiling has always been raised in the past. If the debt ceiling can be raised in a divided Congress, it should be easy to raise it when the GOP controls both houses of Congress.