Stock Market is Not the Economy

October is in the books, but not before my wife and I learned a lesson last night.  While we were out trick-or-treating with our boys (6 and 8) we realized that next year we will need to spend time training for Halloween night if we want to keep up with the boys.  The days of us holding their hands and making 15-20 stops have been replaced by running house to house through the entire neighborhood.

Speaking of October, it was another strong month for the stock market as the S&P 500 was up over 4%.  This was in spite of the much ballyhooed government shutdown.  This was not a surprise to us as we wrote in early October:

“It is important to understand that 17 times there have been government shutdowns since 1970, none of which did lasting damage to the stock market.  This does not mean that this time can’t be different if our “leaders” fail to reach an agreement, but it is to say that we have been here many times. The media and our politicians love to put out dire warnings and whip the public into a frenzy.  The bottom line is that government shutdowns have occurred in the past and our political parties negotiated, came to an agreement and markets moved on.”
http://bit.ly/16T0Y2o

Self-preservation is what the politicians in Washington are all about, the status quo must be maintained above all else.  We have seen this time and time again over the past several years and it will continue in the future.  Until proven otherwise, when the media and our politicians work the retail investor into a panic to achieve ratings and positioning respectively, any market pullback should be viewed as a buying opportunity.

Recently I have been asked a few times how the stock market can be hitting new highs with such a sluggish U.S. economy?  The answer is that the stock market and the economy are not one and the same, there are many other factors that influence stock performance outside of the strength of the U.S. economy.  Certainly there are times when the economy drives market performance, such as a recession or a period of explosive economic growth, but these times are not the norm.  Josh Brown, from thereformedbroker.com, has a piece up that addresses the link between the stock market and the economy:

“Stocks trade based on three things: sentiment, valuation and trend. Yes, economic data feeds into these things, but it is up to the trader or investor to determine their combined favorability, an economist does not do that sort of work. The Greek stock market was the most hated in the world (sentiment), one of the very cheapest on valuation (four times earnings at the bottom!) and the trend had only one direction to go (the Greek stock market, called the ASE, had hit a 22-year low in June of 2012 and was down 90% from the 2007 high). Investors should read voraciously about the economy and be up to speed on the data and prevailing opinions at all times. But the acquisition of this knowledge should be in service of a greater contextual understanding of the world around us – and not as a trigger to do something in our portfolios.”
For more from Josh click here:  http://bit.ly/1dYOCxh 

In the long run economic growth is important for stock market performance, but the beginning valuation of the market, as well as sentiment and trend, are very critical components to performance in the interim.