Macroeconomic Indicators and the Stock Market

Here are some references for evaluating the stock market in relation to various macroeconomic indicators.

Essentially, a relatively high Wilshire5000/GDP ratio indicates an over-valued stock market.

Likewise, a relatively high Shiller PE ratio also indicates an over-valued stock market.

Also, rising interest rates are generally bad for the stock market. There’s an old saying that investors should pay attention to what the Federal Reserve is doing. It says: “Don’t fight the Fed.” In other words, if the Fed is raising interest rates, that means the stock market is probably going to decline. In contrast, if the Fed is lowering interest rates, that means the stock market is probably going to go up.

In addition, if short-term interest rates are BELOW long-term interest rates, that means a recession is not in the offing, at least in the short-term. In contrast, if short-term interest rates are ABOVE long-term interest rates, that means a recession may be in the offing.

Finally, if inflation is on the rise, that’s usually bad for the stock market since it generally means the Fed will have to raise interest rates. If the latter happens, then that’s bad for the stock market.


References


Wilshire 5000 Total Market Full Cap Index/Gross Domestic Product
https://fred.stlouisfed.org/graph/?g=qLC

“””
The observations for the Wilshire 5000 Total Market Full Cap Index represent the daily index value at market close. The market typically closes at 4 PM ET, except for holidays when it sometimes closes early.

The total market indexes are total market returns, which do include reinvested dividends. The designation Full Cap for an index signifies a float adjusted market capitalization that includes shares of stock not considered available to “ordinary” investors.
“””

FMB Note: A relatively high Wilshire5000/GDP ratio indicates an over-valued stock market.


Shiller PE Ratio
https://www.multpl.com/shiller-pe

FMB Note: A chart of the cyclically adjusted price-to-earnings ratio, otherwise known as the Shiller PE Ratio. A relatively high Shiller PE ratio indicates an over-valued stock market.


Cyclically adjusted price-to-earnings ratio
https://en.wikipedia.org/wiki/Cyclically_adjusted_price-to-earnings_ratio

“””
The cyclically adjusted price-to-earnings ratio, commonly known as CAPE,[1] Shiller P/E, or P/E 10 ratio,[2] is a valuation measure usually applied to the US S&P 500 equity market. It is defined as price divided by the average of ten years of earnings (moving average), adjusted for inflation.[3] As such, it is principally used to assess likely future returns from equities over timescales of 10 to 20 years, with higher than average CAPE values implying lower than average long-term annual average returns.
“””


Stock Market Valuation and the Macroeconomy
https://www.frbsf.org/economic-research/publications/economic-letter/2017/november/stock-market-valuation-and-macroeconomy/

“””
History suggests that extreme run-ups in the cyclically adjusted price-earnings ratio are a signal that the stock market may be overvalued. A simple regression model using a small set of macroeconomic explanatory variables can account for most of the run-up in the CAPE ratio since 2009, offering some justification for its current elevated level. The model predicts a modest decline in the ratio over the next decade. All else being equal, such a decline would imply lower stock returns relative to those in recent years when the ratio was rising.
“””


10-Year Breakeven Inflation Rate
https://fred.stlouisfed.org/series/T10YIE

“””
The breakeven inflation rate represents a measure of expected inflation derived from 10-Year Treasury Constant Maturity Securities (BC_10YEAR) and 10-Year Treasury Inflation-Indexed Constant Maturity Securities (TC_10YEAR). The latest value implies what market participants expect inflation to be in the next 10 years, on average.
“””

FMB Note: If inflation is on the rise, that’s usually bad for the stock market since it generally means the Fed will have to raise interest rates. If the latter happens, then that’s bad for the stock market.


10-Year Treasury Constant Maturity Minus 3-Month Treasury Constant Maturity
https://fred.stlouisfed.org/series/T10Y3M

FMB Note: If short-term interest rates are BELOW long-term interest rates, that means a recession is not in the offing, at least in the short-term. In contrast, if short-term interest rates are ABOVE long-term interest rates, that means a recession may be in the offing.


Market Yield on U.S. Treasury Securities at 10-Year Constant Maturity
https://fred.stlouisfed.org/series/DGS10


3-Month Treasury Bill Secondary Market Rate
https://fred.stlouisfed.org/graph/?id=DTB3,

“Series is calculated as the spread between 10-Year Treasury Constant Maturity (BC_10YEAR) and 3-Month Treasury Constant Maturity (BC_3MONTH).””

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