Source: Bloomberg

The cost of protection against a 10% fall in the S&P 500 is exceptionally high even while the VIX Index of at-the-money options is fairly muted. As the chart shows, the Bloomberg calculation of the relative cost (implied volatility) of at-the-money options on the S&P 500 vs options with a strike price at 90% of the present index value is at a multi-year peak.

That says that at-the-money options don’t do much for investors. What they really want is insurance against a correction. It’s not surprising, given the thin base of the rally during the last couple of days. As we noted yesterday, two stocks accounted for 100 points of the Dow’s 250 point rise yesterday–Caterpillar and McDonalds. And they did so on relatively modest improvements in sales (following contraction in sales, to be sure).

Our take is that President Trump’s aggressive corporate tax cut proposals are a major signal to the market that a government finally is in place that really wants economic growth–not environmental sanctity, not protection for polar bears, not equality, not a social agenda, but plain old-fashioned economic growth.

Even though American stocks are selling at 18 times forward earnings (vs. a long-term average of 16 times forward earnings), an improvement in the policy mix justifies a limited degree of optimism. We say limited because valuations are more attractive in Europe and Asia right now. Unless Trump gets wrong-footed on taxes, though, we don’t expect an S&P correction.