Experts assess the tenuous link between the markets and the economy

By Michael R. Malone

Experts assess the tenuous link between the markets and the economy

By Michael R. Malone
Miami Herbert Business School specialists examine the current paradox of the surging stock markets and the sagging economy and the seemingly capricious link between the two.

Bludgeoned by the pandemic that has killed 110,000 Americans, the U.S. economy continues mired in the muck with more than 30 million Americans out of work, food banks deluged with the demands of a hungry populace, and a rent and eviction crisis looming amid the financial turmoil.

Yet this past Monday, the S&P 500 rallied up at the close of the day to bump this leading stock market index into positive territory for 2020, seemingly oblivious to the economic malaise.

The stock markets and the economy share the same corpus that manages the exchange of goods and services, yet their faces like those of the Roman god Janus—according to myth the first to mint coins—look in decidedly different directions: the economy to the past and stock markets to the future.

Sandro Andrade, a business professor who specializes in investment and international finance, referred to several wedges that differentiate the stock market from the economy.  

“First, the stock market is about the present value of the future—it’s not about how the economy looks today, but instead is based on the expectation of what it will look like in the future,” he said. “Right now, the economy is really bad, but market participants are forecasting a dramatic improvement.”

“Second, in simplified terms, there are profits and wages, or capital and labor,” he explained. “The stock market going up is great for the shareholders—the owners of this capital—but it’s not necessarily good for wage earners.”

Andrade noted that the stock market has done well over the past 20 years in the United States, a gain of roughly 6–7 percent increase per year. “But compare that to the fact that the median household income has remained stagnant in real terms,” he said. “The markets doing well and the economy doing well are not the same, because the prosperity is not shared.”

He highlighted, too, that U.S. firms in the stock markets operate in both the local and global economies. “There could be a situation where the U.S. economy is doing really poorly, but the rest of the global economy is doing well, so these stocks are going to be doing well,” he said.

Andrade explained that movements of foreign markets inform, but do not directly impact, U.S. markets or the economy, such as what occurred recently in China.

“If, for example, there is news about some problem or a pandemic in China, which is a big part of supply chains globally, then this will affect the Chinese market first,” Andrade explained. “And because markets are super quick, that information will quickly appear in U.S. market prices. So, it’s not the Chinese market, but the news about the pandemic there that is affecting markets here as well.”

Early each semester, Seth Levine, the academic director for the Master of Professional Accounting program, guides students through a history lesson of the stock markets. He takes them from the launch of the Dow Jones in the 1880s with its 12 original companies to the modern-day expansions of the Dow to 30 companies. They also learn about the advent of the S&P 500, which tracks the 500 largest corporations, and the electronic stock exchange NASDAQ, which has the largest trading volume of any market.

“We try to peel back and see what the markets are, why they go up and down, and try to understand what stock ownership means—that you get to vote and elect the board of directors,” said Levine.

Leaning on his long-term passion for indices, in 2016 Levine launched the Miami Herbert Business School’s Florida 50 Stock Index, which acts as a bellwether for the Florida economy. The index, which is not real investment but instead a research and learning tool for students, finished 2019 with a 29.13-percent gain, and 17 of its firms saw their stock prices rise by more than 40 percent.

Levine is hopeful that the Florida 50’s successful showing during the past few years will interest the Federal Reserve Board in Atlanta (the regional Fed for Florida) for exactly the reasons that mark the distinctions between the market and the economy.

“The Fed only tracks trailing economic indicators—consumer price index, gross domestic product, unemployment—that’s the only info they can get,” said Levine. “But the stock market is a leading indicator, a multiple of future earnings, so if you’ve got a school that’s doing research on companies that fall under their jurisdiction then there’s a value there for them.”

Despite his familiarity with the markets, Levine is as surprised as anyone at the rapid reset of the stock markets, though he recognizes that the benefits are not shared by all.  

“A lot of Americans are concluding—perhaps incorrectly—that this is not as bad as we thought it was going to be, in spite of the fact that you’ve got 100,000 people dead,” he surmised. “You’ve got places reopening, and a lot of younger Americans who just want to ‘get back to normal.’ The market’s recovery is so remarkable.”

Yet, he pointed out, approximately three of five working Americans earn an hourly wage, not a salary. “They’re living paycheck to paycheck and don’t have a rainy-day fund,” Levine said. “So, you’ve got so many Americans who are now furloughed or laid off, or at least one family member is, and the Stimulus Act is not going to do it for them long term.”

Approximately 55 percent of Americans participate in the stock market, according to a recent Gallup Poll. The percentage has remained steady before and through the pandemic but dipped from the record high of 62-66 percent in 2001-08. The number fell in the wake of the 2007-09 recession and has not rebounded. 

The survey indicates that stock ownership is strongly correlated with household income, formal education, age, and race. In 2020, the percentages owning stock range from highs of 85 percent of adults with postgraduate education and 84 percent of those in households earning $100,000 or more, to lows of 22 percent of those in households earning less than $40,000 and 28 percent of Hispanics.

“Corporations are not people; they’re owned by someone. So, the owners of these corporations benefit when the markets go up, but many of us are part-owners,” Andrade stated. “But there’s a lot of disparity of who owns those companies.”

Eighty-four percent of stocks owned by U.S. households are held by the wealthiest 10 percent of Americans, according to an analysis of 2016 Federal Reserve data by Edward Wolff, an economics professor at New York University, and as reported by Reuters.

Unlike the stock markets that respond relatively quickly, Andrade and Levine concurred that the economy, which is based on policy decisions, moves with “long time lags” of multiple years, and that there are winners and losers depending on those policies.

“The prosperity in say early 2018 was not because of policies of the current president—those decisions were made a long time ago—and it’s really hard to measure those things,” Andrade said.

“Of course, when the government decides to slash corporate tax rates, that’s going to help the stock market. Now is that going to help the economy? Well, it’s not clear,” he noted.

A wide and complex range of factors, both local and global, impact the health of the economy, he said, and leaders can neither realistically take responsibility for nor be held solely responsible for what occurs.

“You cannot put the economy in a laboratory and do experiments where, if you do this, this will happen,” Andrade said. “There are so many things that are happening at the same time, and after the fact it’s really hard to untangle what causes what.”

While the economy remains muddled, will stock markets continue to surge?

“If you look at what the market thinks, it looks like it’s pricing in a very fast recovery, as if like 2021 corporate profits are going to be as high as they were in 2019,” Andrade noted. “So, 2020 would be a mere hiccup, and we’re going to soon be back to where we were. But the market might be wrong. Maybe just turning the economy back on is not going to be that simple.”