Why is the stock market doing so well when the economy is not?
With headlines about skyrocketing unemployment and an impending recession, how has the stock market rebounded so quickly? Despite the historic drops in March, the S&P 500 is only hovering in a range 10-15% from its overall highs. While the stock market and the economy are influenced by each other, there are key differences that emerge during market extremes.
The economy has taken a beating
We have all heard the negative news surrounding the economy. It seems to be one of the only topics that news channels talk about. GDP declined 5% in the first quarter and is expected to decline by 20-30% in the second quarter. Unemployment has shot up at a historic pace from 5% to 15% in just a few short months. However, the Federal Reserve and the CARES Act have helped keep people and companies on their feet.
Why is the stock market doing so well?
The stock market went through record-setting drops back in March but since then it has bounced in the 35-40% range off the lows. We are still nowhere near the all-time highs that preceded those March declines, but the S&P 500 continues to rise and has been trading in a range 10-15% below it’s all time highs reached in February. This creates confusion for most, in the face of terrible economic headlines.
One reason is that companies and investors are constantly looking at what is to come. They aren’t making decisions based just on the next 6 months, instead, they are projecting the growth over the next 5-10 years.
It’s also important to remember that for every distressed seller there is a buyer. Investors are considering their bets for the future and if they anticipate we’ve seen the worst, then better than expected potential outcomes can drive stocks higher.
The stock market recovers before the economy
Historically, the stock market tends to make a recovery before the economy. For example in 2009 the stock market hit its bottom in March, but the country continued in its recession until the second half of that year. World War II is another example. The stock market was up every year during that period, despite all the turmoil going on in the world and the restrictions that were put in place by the war.
What will happen in the stock market going forward?
Well, unfortunately, we don’t have a crystal ball. But there are plenty of opinions you’ll hear, skimming the headlines or talking with your neighbors. This type of information can be detrimental to your investment decision-making as it tempts you to make more changes than you might without it. Allowing your emotions to take the investing wheel, can leave you second-guessing what otherwise may be a sound investment strategy.
In fact, the next time you want to look at your investment accounts, we’d suggest instead opening your financial plan. You’re better off focusing on what you can control, like your risk tolerance, your rate of saving and spending, and your tax situation. Evaluating how your personal economy has changed, can leave you better positioned for the long-term. This allows you to have the appropriate investment allocations, so your worry can be abated, no matter how wild the stock market or economy gets in the short-run.
Outline of This Episode
- [1:27] Investments, forecasting, and good investments strategy
- [5:14] The stock market looks forward
- [6:24] What will happen with the economy and the stock market going forward?
- [9:09] The stock market doesn’t trade on good or bad, simply better or worse
- [11:43] Focus on what you can control
- Dimensional Fund Advisors Article – Under the Macroscope: When Stocks and the Economy Diverge
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