[Editor's Note: This article was written almost five weeks ago in mid-March. Why markets were so surprised yesterday by the White House confirming it would seek to raise capital gains taxes dramatically, as it had promised, remains uncertain.]

In his first 50 days in office, President Biden failed to mention the words “higher taxes” in his first 50 days in office. That changed on St. Patrick's Day.

The hesitancy may be explained by the presiden's focus on ending the pandemic and jump-starting a recovery. But so far Biden shares one common characteristic with his predecessor—a remarkable degree of commitment to follow through on his campaign pledges.

One of these promises could exert a powerful effect on the financial markets. Biden has said he would raise the capital gains from its current 20% rate for high-earners to the ordinary income rate of 39.6%, or 43.4% including a surcharge for ultra-high earners. Whether it could pass legislation to reach this objective is questionable.

A lookback at recent capital gains tax hikes over the last four decades provides little meaningful evidence of their influence on financial markets. President Reagan raised the capital gains tax rate from 20.9% to 28% as part of the 1986 tax reform legislation. At the time, he reasoned that it was unfair that a millionaire trading stocks could pay a lower rate than a bus driver.

President Obama let the Bush tax cuts expire for those earning more than $400,000 in 2013. For those individuals, their tax rate on capital gains and dividends went from 15% to 20%, or 23% if the taxpayer reached certain threshold outlined within the Affordable Care Act.

The results for stock prices were inconclusive. In 2013, the Standard & Poor’s 500 soared about 33%. In 1987, stocks rocketed more than 45% in the first eight months before tumbling in October of that year.

However, the magnitude of the tax increases on capital gains and dividends that Biden envisions dwarfs the Reagan and Obama tax hikes. Biden previously has said nobody earning less than $400,000 annually will see a tax increase.

It’s not clear, however, whether that applies only to ordinary income or investment income as well. The administration has yet to issue a formal proposal. If investment income below $400,000 is not exempted, it’s hard to see how it wouldn’t have an effect on a broader swath of investors—or retirees who rely on dividends for a substantial portion of their income.

Phil Orlando, chief market strategist at Federated Hermes, believes markets saw a glimpse of what could happen last September and October when it became apparent that Biden was likely to be elected. In those two months, the S&P 500 dropped 10%. But the S&P tech index, which had completely outperformed every other benchmark in 2020, fell 20%.

Orlando thinks that could be harbinger of things to come, as many wealthy investors have huge unrealized capital gains in technology stocks. These shares haven’t performed particularly well in recent weeks. However, most market observers chalk that up to a rotation to value in anticipation of an economic recovery and a rise in interest rates that has hurt a variety of long-duration assets, ranging from tech stocks to long-term bonds.

Could the reality of a whopping increase in the capital gains tax trigger a wave of tech stock selling? It’s possible. But Michael Cuggino, CEO and CIO of Permanent Portfolio Funds, thinks the reaction could be more nuanced.

One subset of investors might dump their shares, but another group could just opt to hold onto their winners and sit on their gains. Cuggino fears this would raise the cost of capital. That, in turn, could impair capital mobility.

Some would argue that, as a matter of social equity, leveling ordinary income and investment income tax rates as Reagan did in 1986 addresses the argument over preferential treatment of one group over another. As a resident of California, Cuggino is acutely aware that capital gains tax revenues from Silicon Valley have managed to save the Golden state’s bacon on many occasions, including the pandemic. Some would argue that it has also encouraged profligate fiscal behavior.

Higher taxes also have a downside for California, as evidenced by the decisions of a growing cadre of companies to leave the state. “The risk for California” is that “if you raise taxes you will get less revenue,” Cuggino said.

Bob Browne, chief investment officer at Northern Trust Asset Management, agreed that significantly higher taxes could pose a major risk that financial markets aren’t factoring to their prevalent rosy outlook. “It is possible that the Biden administration will be less market-friendly than the market thinks,” he said.

It is clear deficit spending can’t continue at the rate it has maintained over the last 12 months. One solution could be higher taxes. “It might be good social policy, it might [even] be good for the economy but not necessarily the market,” Browne said.

There are huge unrealized capital gains in many sectors of the equity universe besides technology shares, Browne observed. That’s one reason why he is urging clients to maintain their exposure to the high-flying sector even if they might want to make adjustments. One option could be to “take profits in Facebook and reinvest them in Microsoft,” he said.