Why is the stock market thriving, even when the economy is in trouble, BIG TIME. No surprises here; you and I both know that the economy is not exactly booming and if anything, it is an uncertain web.
If you’re an investor or just a mind of curiosity like me, a question is burning you on the inside. Why on earth is the stock market thriving even when the economy is not? I mean, we’re in the middle of a pandemic, and some businesses are barely surviving, and unemployment has become common news, and despite all that, the stock market is hitting new highs.
So, what’s going on? Let’s break it down and understand the disconnection between the stock market and the economy in depth.
Table of Content:-
What Exactly Defines the Economy and the Stock Market?
● The economy refers to the system beneath which everything from money to commerce lies. Employment rates and production growths suggest the health of an economy.
● The stock market is a public marketplace where the trading of stocks and other financial instruments takes place. These stocks represent portions of a company’s ownership.
This means that while the stock market and the economy are related, they do not share intimate common grounds and are entirely separate entities.
The Market and the Economy Today
Uncertainty is everywhere. The economic numbers seem to lay low.
The US Bureau of Labor Statistics shows that the unemployment rate was 8.4%, and the goods and services were down by 32%.
Millions of people have filed for unemployment, and the economy is reeling in a way that has not been seen ever since the Great Depression. As a result, retail sales have plunged, and it took less than two weeks to exhaust $350 Billion in funding from the Paycheck Protection Program for small businesses.
Now let us glance over at why the stock market is thriving.
The common assumption was that the stock market would go down in a grave situation like this.
And it did. But only for about, say, a month, give or take.
After it hit rock bottom on March 23, 2020, it took a turn, and surprise surprise, record gains were seen- it was the best week since 1974. An all-time high was set in August 2020.
Why is the Economy Terribly Downtrodden?
For obvious reasons.
The global health crisis shut down many industries. These include but are not limited to travel, hospitality, and entertainment. Also, numerous small businesses have shut down since carrying on is too much investment and too little returns.
Also, the consumers that retain their jobs are spending reluctantly since most consumers have received a pay cut. But, even if they have not, there has been a heavy impact on health- both mental and physical- hence leaving little room for unnecessary expenditure.
When the demand and supply both begin shrinking, the economy as a whole inevitably begins to shrink too.
Adding to the lot, there were government-imposed lockdowns to limit the spread of the virus, limiting the recovery of the economy.
While the government is putting in efforts that are not completely in vain, they are not nearly enough to keep the country afloat.
So Then, Why is the Stock Market Going Up Even When the Economy is Not?
→ Firstly, the stock market is NOT the economy, only a part of it. Today, the stock market surrounds us so deeply that it is easy to confuse it for the economy.
In the long run, the market trends do not go hand in hand with the economy but are, instead, a measure of the economy’s prosperity. This is because the stock market reflects corporate offices and the investors’ reluctance or expectation of growth.
Less than a third of the Americans work for these publicly tradable companies.
The benefit of the corporate world is not the benefit of the economy. The market is a small window among skyscrapers. Wall Street is joyous when a company announces layoffs. Why? It can be read as a sign of cost-cutting and increased profitability.
In the current economy, technology stocks have risen while retail and hospitality stocks have dropped. This suggests that sectors employing many people are getting crushed while those sustaining few are rising.
Let us look at this through the example of Netflix vs. Macy’s, a rather trending comparison. Netflix’s shares jumped up by 50% since March 2020 and are now worth nearly $200B. How many full-time employees does Netflix employ? Just about 8,600.
On the other hand, Macy’s has a greater revenue than Netflix but is worth about $2B with 123,000 employees. While Macy’s has 1% of the influence on the stock market as compared to Netflix, it generated a lot more revenue and occupied 120 million square feet of retail space.
→ Governmental support and assistance are now generously visible, as was expected. Without this support, we would have been on the verge of another Great Depression since most people live from paycheck to paycheck, and with most small businesses crushed, the inflow of these paychecks has been severely ruptured.
Congress and the Federal Reserve have come forward to help the economy and make a smooth recovery. Investors have also responded each time amicably.
Stocks surged after hitting rock bottom in March 2020. The $2.2 trillion relief funds included payments to individuals, enhanced unemployment benefits, small business relief, airline bailout, and loans for big businesses.
So, now, investors just know that the government is willing to do whatever it takes, whatever at all, to enhance and stabilize their economy. Though the effectiveness of the actions taken is a bit debatable, one thing is for sure: they have helped lift many companies that were at the risk of bankruptcy and, in doing so, have boosted the recovery of the market.
→ It is no secret that the stock market indicates the prosperity of the economy. It looks at the future, and now that the initial fear-driven selling is behind us, it is clear more than ever that investors are now betting on the future potential.
During the recession, stocks return once recovery seems possible. In the recovery of the market, this is seen when low prices lure back investors and incentivize the risk-taking element of buying stocks amid a recession.
The comeback shows that the long-term economic potential of the corporate world is rising and has significantly improved in recent months. Investors now follow the “what’s the worst that could happen” thought process because the worst possible happenings from the situation have been averted ever since the government set foot in.
The S&P is back at levels, and when the USA has witnessed a record high, the market’s sudden recovery may be a cause of worry. The unemployment rate is high, and even if the lockdowns are released, the virus may still cause wreck and havoc for an undeterminable period.
There is a lot of uncertainty, and whether profits recover and how quickly they do so is dependent on virus control and reversing unemployment. Also, even if all goes well, who knows if consumer trust can be regained?
Unemployment, death, disease, mistrust, and reduced needs are all making earth-shattering claims. Yet, among all these factors, it is ignorant to believe that we can understand where an economy stands solely by examining the stock market.
Honestly, everything is in a tangled web at this moment. Questions like, what will happen in the future? Why is the stock market thriving, and will it continue to? Nobody knows. The economy is on a seesaw, and nobody knows which way it’ll bend. The stock market is in the gym, building itself up, but who knows if it’ll reach for the top or overwork itself and end up on the ground.
Bottom line: we may not know the future, but we know the history.
Investors look at the future potential. They expect, and they invest. Investment markets are so aptly called “forward-looking” indicators.
Right now, their belief holds that a scientific cure will be discovered, and until then, they believe that they’ll receive support from the Fed- both in the form of liquidity and low rates of interest.
Of course, right now, it feels like the stock market and the economy have taken diverging roads, but most believe vehemently that they will, in a while, start to run together. And that belief seems rational and plausible.
As said before, we may not know the future, but we do know the history. And so, it goes without saying that it will not take too long for the world to recover and grow its economy as strong as it is in terms of the stock market. That is what history says.