Since the 1990s, priced in Real GDP the Dow Jones Industrial Average (as well as the S&P500) has been far above their 20th-century norm:
There is an unsurprising coincidence — as stock prices (and corporate profits) have soared above their historical norm, wage growth has been very stagnant. The economy has come to be tilted toward bankers, financiers, insurance brokers and away from wage-earners, manufacturers and artisans.
Does that mean that as Hassett and Glassman projected in Dow 36,000, stock prices have climbed to a new plateau? Well, while it is impossible to say exactly what prices will do in future (nominal, or otherwise) the “new plateau” has been very much supported by the Federal Reserve, first by lowering rates and keeping them low:
And second through expanding the monetary base by buying securities directly (Bernanke estimates a simulated interest rate decrease of 0.25% for each 250 billion dollars of quantitative easing):
Each time stocks have turned cheaper, the Fed has stepped in and eased, and stocks have reversed upward.
Some might take that as a sign that stocks aren’t going to get much cheaper, because the Fed won’t let them get much cheaper. First under Greenspan, and second under Bernanke the Fed has succeeded at reinflating the bubble. But the secular trend is back toward the pre-1990s norm. Gravity is against the Fed. The Fed (to use a tired old metaphor) is Atlas, holding stock prices up on its shoulders. Will it be third-time unlucky for the Fed, hell-bent on wealth-effecting and financialising the US economy to prosperity?
Would be interesting to do the same comparison for Chinese stocks, which are still depressed. http://www.alsosprachanalyst.com/markets/on-the-absurdly-weak-chinese-stock-market.html
You might think that Fed easing helps to push up also Chinese stocks, but it did not. The reason is that there is too much wage inflation in China and in other emerging markets, but still low inflation and employer bargaining power in developed economies.
The suppression of salaries in the U.S. but also in Germany due to the competition of emerging markets led to higher company margins. With the starting recovery and smaller wage differences and smaller global imbalances against EM, this will change soon.
The first major country in developed economies with high wage increases and future price inflation is Germany. http://snbchf.com/2013/03/new-inflationary-cycle-starts-in-germany/
That is a very interesting comparison… You’d expect the implications of importing billions and billions of dollars per year (not to mention the lax monetary policy in China itself) would strengthen Chinese equities, but presumably not. Possibly because Chinese corporate sector is perceived as untrustworthy and corrupt by Chinese citizenry? (Total speculation there)…
Go to a casino and watch Asians gamble. their methodologies are different to Western probability science. The stock market is the same game.
Imparting stimulus by boosting the wealth of the wealthy has to be the most ridiculous, immoral, crass ways of doing the job. No doubt there are numerous so called “professional” economists who think this is a good way of doing the job. They’re morons.
I agree with every word you wrote.
Can you show the P/E ratio for the same period.
I have a strong feeling that the demand for stocks (Limit quantity of good reliable earning monopolistic industry leading companies) from 401K plans and other Pension schemes where retirement savings of workers has gone into stocks, instead of traditional cash and bonds, has boosted the price of stocks, so P/E should be rising. This would vindicate a new permanent high for the Dow, SP500 etc.
The big worry is the pension phase where capital is wound down to fund retirement. Unless you have demand from the next generation (I don’t see it due to risk aversion) then I don’t think it will wise. Plateau or decline slowly. A fright rotation out of risky stocks and into bonds may precipitate a feedback loop. A permanent crash. P/E ratios may return to their historic trend (about 10)
P/E ratios are much higher than the historic norm, but not so much higher than the price in terms of real GDP.
As boomers retire, I expect to see the kind of permanent crash you’re talking about…
Aren’t most state pensions funds (teachers, policemen, nurses, firemen etc) invested in the stock market. Considering there will be a shortfall in meeting the demands of these retirees pensions, isn’t it in the interest of the government to have a booming stock market in order to cover them?
I’d say it’s much more in the interests of governments to have booming Real GDP to cover pensions. Booming stock market without booming real economy bit of a house of cards…
I agree of course, but since they don’t have a booming gdp…
I agree with you. In Australia public service (And world wide I presume) and politicians especially are defined benefit, meaning the Government has to throw in money to cover the short fall from a declining market. Artificially high market rates via printed money is illusory for Pensioners. But gets Governments off the hook.
I totally disagree with defined benefit plans. It is a gravy train for the lucky few.
Well the Chinese joke about GDP: GDP is Chicken Fart because it sounds like 鸡的屁 (chicken fart.) in Chinese. Corporations really don’t care much about GDP. All they care about is profit. They will make lots of money even without the GDP.
Looking like that the corporations have been applying the same sales tactic in selling their stocks as APPL/ Steve Job of selling APPL products. They simply just created artificial demands greater than supplies by largely decreasing the number of stocks for sale, making their stocks scarce or even unavailable so the stock prices are up and up and up so the corporate CEOs getting huge pays companies are making lots of money. ( As Charles Biderman said in this Video. http://www.youtube.com/watch?v=Ym_EFHU6Shs )
It’s suspected that in the future when the economy gets better, they can always re-package their buyback stocks for sale by to dilute or split their stocks turning 1 into 2 or 3 so they may not raise the stock prices but the actually shares you’ll get actually be half or 1/3 of value as much as the original shares, just like money printing devalue the purchasing power or adding water to dilute the milk they sale. Hell the corporation totally can learn from the Fed’s money printing to print as many stocks as they want.
Isn’t it called INFLATION? It’s the hidden inflation same as corporation lower the quality, shrinking the size, use cheaper substitutes. in the goods they made and sale for bigger profits.
They always win…. unless another 2008 crisis hit. But that may not happen in many years. So people who short stocks will very likely go broke long before their big harvest days arrived.
Agreed. I am seeing a lot of stock buy backs these days. “Blue Chip” Corporations know their stocks are in demand. The “great rotation” usually goes to these stocks only.
Great points ricecake.
Correct about companies caring about profit. GDP is a gross and an aggregate of every one. So much meaning is lost.
Profit is Net: Income – Expense. It is not an aggregate.
Compared to “my” profit and “your” profit who cares about gross?
Gross can include horrible losses and inefficiencies.
Question: You folks seem smart. Does any one know if personal income tax is in GDP any where? I have not been able to find in in the flow of funds.
Where is personal income tax in the break down of GDP?
When you think about how modern stock exchanges operate, it is simply AMAZING that anybody would send a red cent to these thieves. But people do because the insiders have convinced the rest that you can truly have something for nothing [legally steal].**
**Of course, this only works for the few, i.e., those who have ascended to positions of leadership and power.
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I’m impressed by your blog list. I read the right and the left too. I saw Paul Krugman
on the Fareed’s GPS program on CNN today. Krugman is well aware
that the DEBT must be attended to, though he explains not while the economy
remains so relatively weak. Yet we realize that the Senate and House do not/probably
will not carry through on their Keyesianism so far as the tighter fiscal part when/if things
can/do really get moving again. As long as the USA dollar is the prevailing/predominant
currency, then okay, Dr. K. But if the rumors about a basket of currencies as the
international standard do become implemented, then as Porter Stansberry predicts,
all bets are off on not drastically/severely limiting our DEBT and the hellacious ramifications. I am thinking in Econ 111 in my university years the 1960s, when Keynesianism implicitly dominanted, and would change my ole fashion perception if/when I perceive Krugman is whistling by the graveyard because our dollar is no longer so respected by the world.
Exter’s Pyramid explains the Fed’s Pyramid Scheme
Apples vs oranges. What is the reasoning to compare real gdp and nominal sp 500 index? Real vs nominal. Stock index is always nominal so the comparison should be to nominal gdp.
I’m not comparing, I’m pricing a nominal index in a inflation-adjusted denominator. Think about it.
Sorry if i was too harsh on my comments. Thanks for introducing new features in fred database. But here is sp 500 to gdp (nominal)
Sorry. Link was wrong.
But pricing it in a nominal denominator does not take into account the effects of inflation on output…
I agree this is apple vs oranges. All things being equal, inflation should drive up profits and stock prices.
It’s also possible that the companies in the SP500 are responsible for a higher percentage of output than before. If this is the case, you would expect the index to rise faster than GDP.
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