US Gross Domestic Product (GDP), a measure of the overall output of the US economy, grew at an average rate of 6.5% before inflation over the past 58 years. The GDP growth rate itself was relatively stable and positive in all years but 2009. Contrast this with erratic annual stock price changes, ranging from a gain of 34.1% in 1995 to a loss of 38.5% in 2008. Stocks appreciated in 72% of the years but delivered a significantly higher average annual growth rate of 11.1%.
NOMINAL US GDP AND S&P 500 PRICE INDEX CALENDAR YEAR PERCENTAGE CHANGE (1961 – 20181)
Source: S&P Dow Jones Indices LLC, Bloomberg | Note 1: 2018 figures are partially based on estimates.
Over the long-term, stock prices rise as economic output rises. But over shorter periods like calendar years, there can be large discrepancies between economic growth and the stock market. Like a supertanker, the overall economy changes course slowly and absorbs most short-term disturbances in its steadfast advance. GDP is widely used to measure this advance, but it is a trailing metric that is frequently revised, so it is not particularly timely or accurate.
Stock prices, on the other hand, incorporate investors’ forward-looking estimates of economic growth. These estimates contain a great deal of uncertainty, which introduces dramatic price swings as new information becomes available and investors’ expectations shift. The stock market remains one of the best predictors of the economy six to nine months into the future, but this relationship is weak and the market is still wrong about the economy the vast majority of the time.
By the time individual investors become aware of economic conditions, any real or perceived economic factors are likely already priced into the market. So, stop worrying about the economy, stay fully invested and stick to your long-term investment strategy.
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