Stocks vs. Economic Growth – What Relationship?


QUESTION: Did you contradict yourself when you said a higher dollar will weaken US economy? Then you said interest rates will make stocks rise?

ANSWER: No. What you have to grasp here is that the stock market can rise for two entirely different reasons and it depends upon the mix of trends.

1) The normal market rally unfolds with higher corporate earnings and economic expansion regardless of the trend in interest rates. This generally materializes with rising rates.

2) When capital fears government, be it domestic or international, then capital will park in stocks as a hedge irrespective of corporate earnings. Assets have an international value that rises in proportion to the decline in a currency as long as there is underlying confidence within that private sector. You can actually have GDP growth decline and the stock market will still rise. The DAX in Germany has risen even with corporate earnings not expanding. Their economic growth has been in decline as people try to hedge the collapse of the euro.

The rise in the stock market with a declining economy unfolds exactly as hyperinflation does: assets rise against a depreciating currency value. This is not simply a one-dimensional relationship. It can become complex and this is why most people lose money for they try to reduce any trend to a one-dimensional cause and effect which does not exist.