By John Wasik
CHICAGO, March 19 A sluggish U.S. economy can
actually give stocks a boost.
According to a recent study from Ned Davis Research, when
the U.S. gross domestic product growth rate was 0.5 percent or
less, the S&P 500 Index rose at a rate of 10.5 percent
per year. Conversely, when the GDP rose above 6 percent, the S&P
500 lost 4.6 percent a year.
Of course, the stock market is not always a reliable
indicator of an economy. It often displays an exaggerated
reaction to most economic news from day to day.
Why doesn't a high-growth economy translate into great
numbers for stock prices? One theory is that the market is a set
of mass expectations. When things are slow, investors see a
pickup coming. And when all cylinders are pumping, they think a
slowdown is likely around the corner.
HISTORY IS A GUIDE
When inflation cratered in the 1980s, it was a boon.
Companies spent less to float debt and finance capital
investment. They hired more workers, and the resulting consumer
spending flowed back into the economy in the form of retail
sales and taxes. It's a basic Keynesian stimulus multiplier
We have low inflation now, and it is generally a positive
driver for corporate profit, although it has yet to translate
into robust gains in employment. This is generally a good time
to own stocks.
Historical data shows that the time to invest is when the
economy has hit some obvious troughs or is stuck in slow-growth
mode. It applied in the 1980s and certainly applies now. This
means ignoring the often-dour consensus on growth.
The last real barn-burner of a year in terms of U.S.
economic growth was 1984, when the GDP growth rate was slightly
more than 7 percent. Big-company stocks showed capital
appreciation of only 1.4 percent in 1984, while long-term
government bonds posted a return of more than 15 percent,
according to Ibbotson Associates.
The bond performance in 1984 was rivaled in that decade only
by 1982 and 1985, when total return on bonds was 31 percent and
40 percent, respectively.
THE STORY WITH BONDS
Overall, the 1980s were a mostly stellar decade for bonds,
and the reason was the Federal Reserve's policy under Paul
Volcker, who had a hammer-like plan to snuff out the stagflation
of the late 1970s and early 1980s. Volcker's aggressive attack
was so successful that in 1980 alone, the prime interest rate
collapsed from 20 percent to 12 percent.
The lower cost of money was great for bond prices, which
increase when interest rates drop. It also spread money
throughout the economy and jump-started entire industries when
the economy limped along during the stagflation days. See
William Silber's enlightening biography "Volcker: The Triumph of
Persistence" (Bloomsbury Press, 2012) for this story.
Moving past 1984, the GDP growth rate came back down to
earth and ranged between 3 and 4 percent. The stock market
roared back, producing back-to-back gains of 32 percent and 19
percent for 1985 and 1986, respectively. Those years led to a
bull run that lasted until 1990, when big stocks dipped 3
percent in total return. After that, stocks began a bull run
that lasted from 1991 to 2000, when the dot-com bubble burst.
There are a few other notable examples of the contrarian
idea that stocks rise in slow-growth years and slip in
faster-growth times. In 1991, the economy hit a minor slump,
with GDP growth dipping to a negative 0.4 percent. Large-company
stocks posted a 30 percent run-up that year. Four years later,
with the GDP at a meager 2.5-percent growth rate, blue chips did
even better - up 38 percent.
When the herd is emanating fear or is bearish on economic
growth, it may be the best time to buy.