The stock market is not the economy

Economists recently scaled back expectations for US economic growth, while financial market forecasters increased their expectations for US stock prices.

Why it matters: The divergence of these two metrics implies an uneven economic recovery as the stock market tends towards financially strong large companies.

Driving the news: On Thursday, BofA’s US equity strategy team raised its forecast for S&P 500 earnings per share for 2021 from an earlier estimate of $ 185 to $ 204 after being described as “another quarterly earnings result.”

  • While the BofA kept its bearish S&P price target of 3,800 for the year-end, Wells Fargo made waves on Tuesday, raising its target from its previous target of 3,850 to 4,825.
  • This translates into a further increase in the market of 8% by the end of the year from the close of trading on Thursday.
  • “Strong returns lead to higher prices,” said Wells Fargo strategist Chris Harvey. “In the past 31 years there have been nine cases in which the S&P 500 achieved a price return of more than 10% in the first eight months of the year; In the next four months, the index averaged a further + 8.4%. “
  • This follows a series of revised targets that Axios covered earlier this month.

Game Status: But last Friday, the US economic team at BofA lowered its outlook for US GDP growth in the third quarter from 7.0% to 4.5%, citing slower activity amid the proliferation of the Delta variant.

The big picture: While GDP is a measure of the activity of the entire US economy, the stock market – as measured by the S&P – largely reflects the financial performance of the country’s largest companies, which are much more competitive than the country’s small companies.

  • In contrast to GDP, which is a hard measure of activity, the stock market reflects prices determined by traders and investors, which in turn can be driven by forces such as sentiment.
  • Stock prices can also be influenced by various technical forces such as supply and demand.

The bottom line: For much longer periods of time, equity prices and GDP have generally moved in the same direction because they are exposed to the same overarching trends as aggregate demand.

  • But for shorter periods of time, they sometimes move in different directions, reminding everyone that they are not the same.

Go deeper: What should you think of trader sentiment?

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