Why a great economy means bad stock returns
From Dr. Steve Sjuggerud, Editor, True Wealth:
In tonight’s State of the Union address, President Donald Trump will surely brag about today’s low unemployment rate.
He has good reason to be excited about the economy…
Today’s unemployment rate is 4.1% – the lowest we’ve seen since the dot-com era, when it bottomed at 3.8% in April 2000. And it’s nearly the lowest we’ve seen since 1970.
But here’s the important part for us as investors – the part that most people don’t realize:
A great economy is typically bad for the stock market going forward…
To start with one example… Did you notice when I said the unemployment rate last bottomed at less than 4.1%?
It was April 2000 – one month after the dot-com bubble burst. The Nasdaq Composite Index went on to lose nearly 80% of its value.
“But that’s a one-time occurrence, Steve,” you might say. “You can’t possibly tie a good economy to a bad stock market because of that one occurrence.”
Good point. So let’s take a look back at history…
Let’s look back over the past 70 years to see how stocks performed each time the unemployment rate was less than 4.5% (remember, it’s 4.1% today)…
The results are, frankly, amazing…
If you bought stocks when the economy was in bad shape (when unemployment was 7% or higher), you would have made double-digit returns on average 12 months later.
On the flip side, if you’d bought stocks when the economy looked great (when unemployment was 4.5% or less), your stocks would have performed terribly, barely returning more than 1% after one year. Ouch!
When you tighten the data up to more recent times – since 1985 – the results become even more extreme. Take a look…
You would have lost 3.7% one year after the economy looked as great as it does today.
And when the economy looked bad, you would have earned 13.2% in stocks over the following year.
I’m not suggesting that you use the unemployment rate as a stock market timing indicator… I just want you to be careful when you hear a politician crowing about the economy…
A good economy is not actually a great thing for investors, looking ahead.
As an investor, you want to load up on an investment when times look particularly bleak. And you want to get ready to sell when times look particularly rosy.
Why does this happen? Typically, when the economy starts overheating, the Federal Reserve steps in and raises interest rates to slow it down again. The Fed has already started down this road today.
My friend, we are having fun and making money here in the “Melt Up”… And I do expect these Melt Up gains to continue this year.
But looking ahead, be aware – the Fed is raising interest rates, and we are getting much closer to “rosy” than “bleak” times in the economy.