The stock market is not the economy, and the economy is not the stock market. The two have always been distinct, but the disconnect has perhaps never been more pronounced. Yet, confusion abounds (thanks, in part, to the efforts of self-styled investing gurus on TikTok and other social media “finfluencers”). I hope to alleviate some of that confusion with this article. If I can save at least one fellow law student from suffering a panic attack on their first day of securities law, I’ll have succeeded.
In the simplest terms, the stock market is just a means by which certain businesses raise funds by offering interests in the business to the general public. The stock market can’t exist without the people and businesses that comprise the broader economy. Therein lies the main distinction, as the economy is not merely large public companies. The economy is also niche clothing boutiques, banana stands, and your local plumber. If IBM is doing well, it doesn’t necessarily follow that Brandon’s Fidget Spinner Emporium is also doing well. But what, you might ask, does it mean for a business to “do well”? One measure you might consider is a company’s valuation. What drives the value of a company’s shares? The answer discloses another point of divergence. A meme I found on my Instagram feed not long ago characterized the stock market as a graph of rich peoples’ feelings. While this account may not capture all of the nuances, it strikes at the heart of what makes markets move: feelings. Specifically, investors’ feelings.
The S&P 500 Index, for example, is a proxy for investor sentiment about the future of the economy, the performance of businesses, and so on. In other words, stock markets are by nature speculative, forward-looking creatures. By contrast, “the economy” generally refers to the actual, present state of affairs as expressed by various indicators. If the economy asks how many bananas were sold today or the previous quarter, the stock market asks how many bananas will be sold next quarter. If the S&P is gaining, it means that investors are, on the aggregate, optimistic about the future. Its fluctuations don’t necessarily reflect real changes in economic conditions.
This point should become abundantly clear when one considers how the markets have behaved since the dawn of the COVID-19 pandemic. If, at one point, stock markets loosely tracked economic conditions, they now seem to be tracking some phenomenon that one can only presume exists in some parallel universe. The “apples and oranges” metaphor does not do it justice. Consider the U.S. case. Amid a spiraling health crisis which has claimed almost 200,000 lives, a buckling economy, record unemployment rates and widespread social unrest, the markets have remained remarkably resilient. The S&P appreciated 50% since March 2020. Tesla grew 600% in the same timeframe and is now the most valuable automaker in the world, dwarfing Ford, General Motors, and Fiat Chrysler combined. (Yes, you read that right.)
What warrants this kind of optimism? Are the markets drunk? If so, who is supplying the alcohol? Why aren’t markets reacting to the hurt and uncertainty we are now experiencing in the way that they did to the housing crisis of 2008?
Granted, the nature of this crisis is much different in many ways. While it was difficult to forecast when economies would recover after ‘08, perhaps investors see light at the end of the tunnel with the prospect of an effective vaccine. Moreover, while large corporations were bailed out in the wake of the Great Recession, now the individual is getting a government stimulus check.
Perhaps all this market madness can be attributed to bored and unsophisticated Robinhood traders looking to make a quick buck. Perhaps it has something to do with the sweet sound of the federal money printers going “brrrr”. Maybe it’s a mix of these and other considerations. Whatever the rhyme, reason, or lack thereof, all of this usefully serves to highlight the fact that the economy cannot be reduced to, or explained in terms of, the stock market.
