MAIN STREET AND WALL STREET DISCONNECT
reasonable pieces of the puzzle for why share prices are rising. But none of these explain the divergence between stock prices and the economy. It turns out that economic growth being good for stock investors is a giant myth – like Bigfoot, an-apple-a-day-keeps-the- doctor-away, and doing-lots-of-crunches- will-give-you-abs-of-steel, combined – of the investment world. As a 2004 paper by Jay Ritter of the University of Florida explains... It is widely believed that economic growth is good for stockholders. However, the cross-country correlation of real stock returns and per capita GDP growth over 1900–2002 is negative. Ritter analyzed GDP growth and stock market appreciation over more than a century in 16 countries that account for around 90% of total global market capitalization... and he waved a professorial math wand at it all. In other words, he found that higher economic growth is linked to lower stock market returns. Ritter continues... The point is that economic growth does result in a higher standard of living for consumers, but it does not necessarily translate into a higher present value of dividends per share for the owners of the existing capital stock. Thus, whether future economic growth is high or low in a given country has little to do with future equity returns in that country. ... Future economic growth is largely
Although a lot of that money is earmarked for various purposes... much of it is in the form of direct payments to individuals, and plenty of it leaks out at the edges. And right now, there’s a lot of demand. The Federal Reserve has been pumping cash into the American economy at an unprecedented pace to soften the blow of the contraction in the economy. And although a lot of that money is earmarked for various purposes – from small business loan forgiveness to PPE for schools to fund for COVID testing – much of it is in the form of direct payments to individuals, and plenty of it leaks out at the edges. And all those Robinhood speculators with their stimulus cash burning a hole in their brokerage account are a source of enormous demand. When there’s liquidity, stocks rise. Considering everything last year threw at us, 2020 earnings weren’t so bad... Markets are forward-looking, and what’s in the future for corporate earnings is actually pretty promising... And there’s a ton of money chasing stocks. These are all perfectly that Investing 101 says matter about a stock – earnings, management, strategy, competitive position, balance sheet strength, and of course valuation – is trumped by supply and demand for shares. The share price of a company, whether it’s a shell that controls a pile of old dust, or the Superman-meets-Thor-meets- God of most excellent companies, is dictated solely by supply and demand.
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February 2021
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