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When Stocks and the Economy Diverge

By Rick Prime

It seems like the market is going up when the news on the economy is going down. How can investors make sense of the apparent disconnect between stock market performance and economic indicators? Below is a graph of equity premiums (higher stock prices) the year before GDP growth from Dimensional Funds based on US equity premium vs. GDP growth, 1930–2019.  In my opinion, this suggests the stock market is looking ahead to next year, and not this quarter’s GDP and unemployment figures. 

“That brings us to the latest news headline worrying some investors: the eventual fallout from increasingly large US government expenditures designed to ease the economic burden of the COVID-19 pandemic. Will these efforts ultimately create a financial burden for the US government that affects future stock returns? “ Source Dimensional.  There does not seem to be a significant statistical difference between the long-term returns of high-debt countries and low debt countries.

 Debt Defying: Average equity premiums for countries sorted on debt:

 (Past performance is no guarantee of future results.)

My conclusion is we need to stick to our disciplined investment approach and not get distracted by the latest news headline. The following is a link to Dimensional’s study Under the Macroscope: When Stocks and the Economy Diverge.

Please feel free to schedule a call at my website www.primewealth.com if you would like to discuss this further or reevaluate the appropriateness of your portfolio.