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posted on 10 February 2018

Stock Market Volatility: Is The Economy Involved?

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Things are a little rough out there in the financial markets - but according to a CNBC post "Global markets may be a sea of red, but experts say solid economies lie below".

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Let me begin by saying there is currently little correlation between markets and the economy. There was more correlation in the last century, but since the Great Recession - the markets do their own thing whilst the economy does the same. Part of the reason for the lack of correlation comes from the repressed interest rates from the Federal Reserve. The stock markets were the only game in town to make money - and money flowed into stocks. Now, interest rates are creeping up - and this could be straw that changes the investing dynamics.

The above graph is indexed to the end of the recession which shows the economy has grown 20% and the markets grew over 250% [data as of 05FEB2018]. The dynamics within the markets are different than the economy. Investment money moves to places to maximize monetarygain - not economic gain. This author takes off his economic hat when investing. That is not to say that economic conditions are not a component of market prices - but in this New Normal other dynamics are governing.

I also take issue with the CNBC headline that the economy is "solid". It is not solid - and as the FOMC meeting statements continue to say:

Near-term risks to the economic outlook appear roughly balanced, but the Committee is monitoring inflation developments closely.

Many economic things seem to be strengthening. Others not so much.

Employment seems to be strengthening - but only if one completely ignores the BLS household survey.

The participation rate [the number of people who are either employed or are actively looking for work] from the household survey has been relatively static for the last 4 years. Further, I suggest that the total unemployed, plus all marginally attached workers plus total employed part time for economic reasons has bottomed and now this rate will start creeping up. however, there are headwinds. Labor saving technology is shifting into high gear coincident with higher wages.

There is a negative trend on construction spending.

Private domestic investment comprises about 17% of GDP - and has carried a growing load of GDP since 1990.

Many believe private domestic investment is a forecasting tool for GDP growth as it is an indicator of the future productive capacity of the economy. According to Wikipedia:

Gross private domestic investment includes 3 types of investment:

  • Non residential investment: Expenditures by firms on capital such as tools, machinery, and factories.
  • Residential Investment: Expenditures on residential structures and residential equipment that is owned by landlords and rented to tenants.
  • Change in inventories: The change of firm inventories in a given period.

Construction spending is nearly 40% of private domestic investment - and the growth rate has been slowing since the beginning of 2017.

Will the new tax law change private domestic investment? My guess is "no" as investment is based on making (or saving) money. The tax law does not change the investing environment. If I am correct on this point, then the deceleration of private domestic investment will continue and it will begin to affect GDP growth.

But to sum up the situation - there is no economic indicator which is signalling a recession. The economy is chugging along, and no data is saying that the current growth rate trend line for GDP would change significantly. The economy and the stock market may or may not being going their individual ways in 2018.

Other Economic News this Week:

The Econintersect Economic Index for February 2018 Economic Index declined and returned to territory associated with modest economic growth. Note that this index has been in a general down trend since July 2017

Bankruptcies this Week from Bon-Ton Stores Inc,

Weekly Economic Release Scorecard:

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