SHORTHAND: We often use the economic outlook as a shorthand for company profits and the stock market. This is especially the case now with rising global recession risks but resilient 10% company profits growth. Whilst it is difficult for the two to diverge much in the long term, they often do significantly in the short term – most recently in the 2020 covid rebound. This is also well illustrated by the UK equity outperformance today. Markets are forward-looking, and they have a very different composition than economies. More global, large caps, and goods focused. Understanding the differences can be key to navigating the increasingly volatile environment.
DIFFERENCES: Using the US as an example that applies to many markets. Sectors like tech (28% of index) are overrepresented versus big real-economy sectors like energy and real estate (7% combined). Small caps are underrepresented, at only c15% of the stock market but over 50% of the economy. Company overseas revenues are 35% of total, much larger than trade/ GDP. Government is big in the economy, but largely absent from the stock market. Similarly, services is 70% of the US economy, but nearly 30 points less as a proportion of the S&P 500.
UK EXAMPLE: It’s the global poster child for ‘stagflation’, with the highest developed market inflation and economy flirting with recession. But it’s the best performing major equity market this year, with its cheap valuation, global focus, and mix of commodity and defensive stocks. But Thursday is the 6th anniversary of the 2016 Brexit referendum, and a clear reminder of its long impact. Since then the large-cap FTSE 100 and mid-cap FTSE 250 lagged global equities over 30 points, Sterling fallen over 15% vs the USD, and average GDP growth lagged 0.4%, per IMF.
All data, figures & charts are valid as of 20/06/2022