How the economy and stock market work together
How are the stock market and economy aligned?
At first glance, when you look at the stock market and the economy, you may believe that they move in concert with each other. “A growing stock market equals a growing economy.” But a deeper dive into the moves of both will show you that one is moving ahead of the other. The stock market moves in anticipation of where the economy is headed. The stock market attempts to predict where the economy is headed 3-6 months into the future. So, what you see happening in the stock market is in response to where investors anticipate the economy to be in 3-6 months.
How does the stock market respond to the economy?
Investors in the stock market often use the economic cycle to decide where to invest their money. There are four cycles to the economy that have been pretty consistent since 1854, according to the National Bureau of Economic Research, and four cycles to the stock market. Below are the cycles and how they can be aligned:
Economic Cycle Market Cycle
1. Full recession Bull Market
2. Early recovery Bull Market Top
3. Full recovery Bear market
4. Early recession Late Bear market
How financial sectors work during each cycle.
During each economic cycle, certain sectors, i.e., financials, technology, energy, healthcare, etc. perform better than other sectors. Studying the economic cycle and where it is headed is important for understanding which companies to invest in. For instance, during the early recovery cycle of the economy, the stock market may be nearing the top of a bull market (due to investors anticipating an economic recovery 6 months earlier) and as such, investors might rotate out of transportation and technology, which perform well during early recovery, into energy and healthcare which can perform better during the full recovery cycle and the corresponding Bear market.
Where I think the economy and market are headed.
Currently, I believe the economy is in the early recovery phase of the economic cycle, thus we are near a market top. In light of this, an investor may choose to move money into consumer staples, health care, real estate, and financials as the economy reaches full recovery with possible inflation leading to an early recession and bear market. I am looking at where our economy is headed to decide where to invest versus looking at where the economy is now.
How does stock market and investor money impact business operations?
I don’t believe the investor, per se, affects business operations other than through voting rights as a stock holder. Instead, the investor as a consumer affects the business operations. And as the economy goes through its expansion and contraction phases so does the wallet of consumers
For more information about how to approach your investment portfolio, feel free to schedule a free consultation.
