Don’t Confuse a Soaring Stock Market for a Roaring Economy

The Stock Market Has Become a Poor Proxy for the U.S. Economy

Does anybody find it strange that so much of the conversation in the business media these days is focused on slowing economic growth, record amounts of corporate leverage and a possible recession in 2020 while the stock market is in full melt-up mode and flirting with near record highs? Or that the Fed’s expressed concerns of economic headwinds that justified its pivot on monetary policy caused stocks to rocket higher? Or that a yield curve that recently inverted, historically a reliable leading indicator of recession, has been virtually ignored by equity markets?

This seemingly contrary reaction by stocks is a stark reminder that equity markets often can be a poor proxy for the performance or condition of the U.S. economy. This has always been true to some degree but especially so in recent times, for reasons we’ll discuss shortly. Yet too many commentators and policy makers continue to conflate the two and refer to them almost interchangeably when in fact there have been considerable stretches of time when they are disconnected. Arguably, we are in one of those moments.

Let’s use the S&P 500 Index as a proxy for the U.S. stock market, as it represents about 80% of the total market value of domestic equities. Generally speaking, what’s been good for S&P 500 companies usually has been beneficial for the U.S. economy but that relationship is not nearly as definitive as it once was. The S&P 500 has been comprised of only U.S.-domiciled stocks since 2002 but increasingly has global exposure as domestic companies sell more goods and services abroad.