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Stock Market Returns & GDP Growth

Posted:May 22, 2014


In my last article, I summarized the most recent World Economic Outlook from the IMF.  In that report, IMF economists stated:


The global recovery is expected to strengthen, led by advanced economies.  Growth in emerging market and developing economies is expected to pick up only modestly.


The gap between developed and emerging growth is expected to narrow, but for the most part, emerging economies are expected to have higher growth rates in the future.  Some investors may infer that higher economic growth should translate to better equity market performance.  Has higher economic growth rates historically translated to better stock market returns?  There have been a number of studies on this topic and the majority of the research shows that there is no relationship between GDP growth and stock market returns.  Ben Inker of GMO published an article in 2012 where he concluded:


Stock market returns do not require a particular level of GDP growth, nor does a particular level of GDP growth imply anything about stock market returns.


Inker includes the chart below in figure 1 showing that there is no strong correlation between GDP growth and stock market returns.  The confidence level is only 13% on a scale of 0 to 100 with 100 being the most confident predictor of correlation between stock returns and GDP growth.


Figure 1: Stock Market Returns and GDP Growth, 1900-2000

Source: GMO, Dimson, Marsh, and Staunton, Triumph of the Optimists


In this report, Inker points out that higher GDP growth seems to be associated with lower stock market returns.  The article goes on to say that stock market returns in the United States have historically been driven from dividends and real earnings per share growth.  As seen in figure 2, the gap between the 1.7% real earnings growth and 5.9% real return on the S&P 500 from 1929 - 2011 is made up by dividends and a small valuation shift.  


Figure 2: S&P Total Return and EPS vs. GDP

Source: GMO, BEA, Robert Shiller As of 12/31/11


As many investors know and have experienced, equity market performance is very unpredictable and volatile in nature.  The average return for the S&P 500 from 1900 through 2009 has been 6.6% real (after inflation).  However, the ride along the way has been bumpy for equity investors.  Figure 3 below shows rolling 3-year real return to the S&P 500, with shaded areas denoting large losses or “bad events” from the Great Depression in 1929 to the Global Financial Crisis in 2008


Figure 3: S&P 500 Returns and “Bad Events”  

Source: GMO, Robert Shiller


Bill Witherell of Cumberland Advisors has written that equity market performance has more to do with corporate earnings and earnings expectations than economic growth.  He reports that consensus earnings per share growth estimates for the MSCI World Index are 8% for 2014 and 11.3% for 2015.  Forecasting equity returns is beyond the scope of this article, but the numbers from Witherell suggest a continued moderate increase in global equity markets.


GDP growth for developed economies over the past five years has been abysmal, while equity markets have surged further proving the point that lack of correlation between GDP growth and stock market returns.  As long-term equity investors, it’s clear that being patient during the good and bad times is important.  Both the IMF and Witherell point to potential risks on the horizon including the crisis in Ukraine, concerns regarding the relationship between China and Japan, low inflation, and the removal of central bank stimulus.




GDP: Gross Domestic Product which is defined as the market value of all officially recognized final goods and services within a country in a given year. 


Correlation: the extent to which the values of different types of investments move in

tandem with one another in response to changing economic and market conditions.


Real Return: The return of a specified index after the effects of inflation. The return before inflation is typically called “nominal return.”




S&P 500 Index: a representative sample of 500 leading companies in leading industries of the U.S. economy; considered a large-cap index.


MSCI World Index: a representative sample of approximately 14,000 securities and includes large, mid, small and micro cap size segments for all Developed Markets countries in the index together with large, mid and small cap size segments for the Emerging Markets countries.


Past performance does not guarantee future results. Diversification does not ensure a profit or protect against loss. Indices are unmanaged and not available for direct investment. Investors should consider the investment objectives, risks, charges and expenses of each fund carefully before investing. This and other information is found in the prospectus or summary prospectus. The information contained in this communication is being provided for informational and discussion purposes only. It should not be considered an offer, or a solicitation of an offer, to buy or sell any security or financial instrument or to participate in any trading or investment strategy. It is provided to you on the condition that it will not form the primary basis for any investment decision.  Investments in foreign securities and ADRs involve risks such as currency rate fluctuations, different and sometimes less strict financial reporting standards and regulation, and the potential for political and economic instability.