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What GDP Growth Says About Stocks

A report today by the Organization for Economic Cooperation and Development projects the world’s largest economies will continue to slow down, but at different speeds. For investors, is it as simple as investing in those countries with better prospects?

According to the report, the economies in Europe, Brazil, and India will hit the brakes the hardest in coming years, while Japan and Russia will hold up better. But investing pros say faster economic growth doesn’t necessarily translate into better market returns. Investor expectations play a big role, so fast growth can still lead to poor market returns if it’s not quite as fast as expected, says Kate Warne, a market strategist for Edward Jones. “It really depends on what’s expected rather than who’s growing faster or slower,” Warne says. “As an investor, if you’re watching the economy, you’re watching a lagging indicator.”

Indeed, from an investing standpoint, what’s more important than the growth rate is a change in direction, says Robert Johnson, the associate director of economic analysis at Morningstar. “If the U.S. has been growing at 2% forever and China has been growing at 10% forever, the market has learned how to price that,” Johnson says. More important for investors is the fact that China’s rate of growth appears to be slowing, while growth here appears to be accelerating, he says.

Investors should also keep in mind that corporate earnings and GDP growth don’t always move in the same direction, Johnson says. Over the past couple of years in the U.S., “earnings and margins have been growing wonderfully, but the U.S. economy is sort of limping along,” he says. Large U.S. corporations can make a product in Asia and sell it in Europe without ever affecting America’s GDP — or its unemployment rate. A recession in Europe may not have much impact on America’s GDP, but it could well hurt the bottom line at some companies in the S&P 500, Johnson says. For investors, that means corporate earnings and stock market valuations are more important indicators than the rate of GDP growth.

Investors may want to look at countries such with stronger prospects, but cheap valuations, experts say. For instance, investors may find good deals in Japan, despite the challenge posed by its aging population, says Jeffrey Saut, the chief investment strategist for Raymond James. Japanese small-cap stocks are very cheap, and “good things tend to happen to cheap stocks,” Saut says. Investors can get exposure to this area through the Japan Smaller Cap Fund (JOF) or the WisdomTree Japan SmallCap Dividend fund (DFJ).


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