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I just got a Vanguard survey, and they asked a bunch of questions that I honestly don’t think about, such as:
- what do you expect the real GDP change to be over the next year? 10 years?
- what do you expect market returns to be over the next year? 10 years?
- what do you expect inflation to be over the next year? 10 years? How confident are you?
I don’t really follow GDP, but it seems healthy GDP growth is something like 2-3%, whereas typical market returns are 8-12%, which seems kind of crazy to me. As an average investor, I don’t feel like understanding the connection between GDP and market returns is particularly important, and I tend to just stick with understanding market returns and inflation.
So, do any of you find tracking/understanding GDP growth is important?
One thing to keep in mind is that the reported GDP is net of inflation and the average market return is not. So, 2-3 percentage points of the gap is explained by inflation. We’re also sitting at or near all-time highs from a valuation standpoint, so some of that 8-12% is explained by increased valuations. To get 8-12% going forward, we would either need to see a GDP boom or valuations have to keep growing.
That said, valuations do seem to go up at a higher rate than GDP over the long run, even with those issues accounted for. I’m guessing the rest of the issue is some combination of productivity growth and the fact that GDP is defined by national borders and companies are not. There is also likely some impact from credit cycles, particularly the fact that interest rates declined from 1980 to 2022.
The mean GDP growth rate is ~3%, while the total US market real growth rate is something like 6-7% (S&P 500 since 1960) over that same period.
So it seems the stock market returns roughly double the GDP growth. That seems kind of odd to me. I know the stock market isn’t the economy, but why would stocks grow twice as fast as GDP over the long term? Is it because so many people invest their savings there, pushing up prices? Is this an expected correlation between GDP and stock prices?
GDP is defined by national borders
This is probably it. A lot of companies on US exchanges do a significant amount of business in other countries, so it’s possible international markets are pushing returns up here. But it seems global GDP returns are similar. I think I need to go find a book about how GDP and markets are related.