When you compare the current stock market performance to economic data, you see a major disconnect. Indices are up sharply since the March bottom, even though the unemployment, hospitality sales and retail sales data have been awful.
Here’s why this is happening.
Why the stock market predicts economic data will improve
Well, first of all, once the economy collapses, there is nowhere to go but up.
Second, the markets (stocks, bonds and commodities) are driven by Fed liquidity.
Third, the stock market is forward-looking, and as far as its performance as an indicator goes, it’s right most of the time.
So that leads us to the big question: Why does the stock market look ahead?
Simply put, investors have faith in the innovative and can-do spirit of our country’s business leaders, entrepreneurs and workers. History shows that even in tough times, we manage to figure it out and right the ship. Investors know this, so they get ahead of the game. The stock market discounts future data just as stock prices discount future earnings.
By the time positive economic data comes, the stock market is miles ahead, looking over the horizon. I would venture to say the market is even now looking past the November presidential election results and into 2021.
Even with a more positive jobs report on Friday, there is no question the current economic data is ugly. The Fed knows it and has provided a soft landing strip for the crashing economy. Will it be enough? Will they hold it in place long enough? These are both important questions. The only way we’ll know the answers is to watch how the stock market responds.
So far in 2020, the SPX 500 is down just 4% (through June 4) and the Nasdaq is higher by 10%. These are truly stunning moves after such a severe market crash. They seem to indicate a belief that the economy will get better faster than anyone believes.
