The impact of the new tax environment on financial markets

: International corporate tax reform bucks the trend of lowering effective tax rates, says Christian Schmitt, senior portfolio manager at Ethenea Ethenea

: International corporate tax reform bucks the trend of lowering effective tax rates, says Christian Schmitt, senior portfolio manager at Ethenea Ethenea

The international agreement on corporate taxation will certainly have an impact on the organisation of companies and on national public finances. But the impact on financial markets will not be structural, according to Christian Schmitt.

The reform of international company taxation is underway. Since the G7 finance ministers’ meeting at the beginning of June, it has been agreed that the “largest and most profitable multinational companies” will be taxed where they generate their income and that a global minimum tax of 15% will be introduced. It should also be known in October whether an agreement can be reached on the taxation of tech giants.

Of course, there is still room for improvement between the agreement in principle and its implementation. The practical details have yet to be worked out and some countries are contesting the decision. Ireland, for example, is holding back on both issues.

“This reform goes against the trend of lowering effective tax rates, which have been in a downward spiral for years. Many countries have been lowering their taxes in response to competition from tax havens. This means that, on the one hand, the reform addresses the issue of tax justice. On the other hand, the timing of the G7 agreement is also a reaction to rising public deficits in the wake of the covid-19 pandemic,” says Christian Schmitt, senior portfolio manager at Ethenea.

Schmitt believes it is too early to quantify the precise impact of the reform on corporate profits--and, by extension, on stock markets--due to a lack of precision and the absence of a global consensus. It is furthermore conceivable that the reform will have different impacts in different sectors.

Still, he sees two camps emerging. One would include sectors that are already heavily taxed, such as energy or automobiles, and whose capital-intensive activities do not favour profit-shifting. “These will probably not bear an additional tax burden.”

The other would be sectors that have emphasised digital business models and intellectual property, places where tax has systematically been avoided in the past. “This is particularly relevant to the pharmaceutical and technology sectors,” Schmitt comments. While this latter camp appears in principle more vulnerable to the tax increase, he believes that “due to the low proportional reallocation--it applies to 20% of profits above a 10% margin--and the also relatively low minimum tax--15%--the new tax deal will have only a moderate impact on corporate profits and share valuations.”

Schmitt continues: “On a broad scale, the overall reform will therefore have no structural effect on the market.” He extends this reasoning to the Biden administration’s plan to increase the US corporate tax rate from 21% to 28%. “Based on valuation models, this measure could have a single-digit impact on the US equity market. However, we can assume that this expected US tax increase has already been factored into the market to some extent, as it was announced at the end of March.”

For Schmitt, the projected marginal effects of the tax reform on the stock markets should not, however, stop investors from reassessing their sector and geographic allocations.

This article was originally published in French by Paperjam and has been translated for Delano