According to McKinsey & Company, the business sector accounts for roughly 72% of global GDP. Therefore, the health of “the economy” is largely a function of the health of businesses. Another measure of the health of businesses is the stock market. Because of this linkage, economic data can be a powerful tool to understand stock market outcomes.
In this paper, we present a simple metric for the state of the global economy: the proportion of tracked economic indices that improved in the prior year. We call this the “Percentage Improving” or “PI.” We then make the following observations:
The one-year performance of the global stock market is closely aligned with the PI.
When the PI is below 45% and falling, it has been better on average to not invest in stocks.
The Percentage Improving (PI)
At Atlas Capital, we track more than three hundred economic indices. These indices represent the fourteen largest countries by GDP and all the major categories of economic information including employment, GDP growth, confidence, industrial production, consumption, housing, and financial conditions. We then calculate the proportion of the indices that improved over the prior twelve months (PI).
The green line on the chart shows the PI. When the PI is below 50%, the majority of economic indicators weakened in the prior year. In most instances in which the PI fell below 30%, the US was in a recession.
The PI and the Stock Market
The next chart adds a blue line showing the one-year performance of global equities relative to cash. The close connection between the global economy and stock market outcomes is clear. Since 1968, the two lines have often overlapped, and their turning points have aligned.
Another way to see the relationship is to calculate the historical average stock market return as a function of the PI. On average, global equities have outperformed cash only when most economic indices improved—i.e., when the PI was at 50% or higher.
When Equity Investors Should Worry
The most dangerous times to be invested in the stock market have been when the PI was low and falling. In the following chart, the shaded “Danger Periods” are when the PI was below 45% and the PI trend was down. This has happened 25% of the time. In those periods, the average return of global equities was 6.3% per year below the return of cash. In the non-shaded periods, the average return of global equities was 7.4% higher than cash.
Summary
The performance of the stock market is tightly linked to the performance of the global economy. Historically, the stock market has delivered a return well above cash if most economic indicators improved in the prior twelve months. On average, the global equity return was meaningfully below cash when the Percentage Improving (PI) was below 45% and falling.
The economic dataset is a key component of the framework used by Atlas Capital Advisors to identify equity downside risk. Monthly updates of this information are provided at https://atlasca.com/core-concepts/markets-and-the-economy/.
Notes
Source for 72% figure: McKinsey & Company, “A new look at how corporations impact the economy and households.” The PI bucket averages shown are computed using all values within ±5% of each displayed point (e.g., the 50% point averages instances from 45% to 55%).
Disclaimer
The information and opinions contained in this document are for background purposes only and do not purport to be full or complete. No reliance may be placed for any purpose on the information or opinions contained herein. Atlas does not give any representation, warranty or undertaking, or accept any liability, as to the accuracy or the completeness of the information or opinions contained herein. This document does not constitute an offer or solicitation to any person in any jurisdiction. Any such offering will only be made in accordance with the terms and conditions set forth in a private placement memorandum or other offering document.
Certain information contained herein (including any forward-looking statements and economic and market information) has been obtained from published sources and/or prepared by third parties and in certain cases has not been updated through the date hereof. While such sources are believed to be reliable, Atlas and its affiliates do not assume any responsibility for the accuracy or completeness of such information. Atlas does not undertake any obligation to update the information contained herein as of any future date. Any views or opinions expressed may not reflect those of the firm as a whole.
Any illustrative models or investments presented are based on a number of assumptions and are presented only for the limited purpose of providing a sample illustration. Hypothetical performance information does not represent the results of actual trading using client assets. Past performance is no guarantee of future results. Investments are subject to risk, including the possible loss of principal. There is no guarantee that projected returns or risk assumptions will be realized or that an investment strategy will be successful.
Investment advisory and management services are provided by Atlas Capital Advisors, Inc., registered as an investment advisor with the Securities and Exchange Commission.
What’s Discussed
According to McKinsey & Company, the business sector accounts for roughly 72% of global GDP. Therefore, the health of “the economy” is largely a function of the health of businesses. Another measure of the health of businesses is the stock market. Because of this linkage, economic data can be a powerful tool to understand stock market outcomes.
In this paper, we present a simple metric for the state of the global economy: the proportion of tracked economic indices that improved in the prior year. We call this the “Percentage Improving” or “PI.” We then make the following observations:
The Percentage Improving (PI)
At Atlas Capital, we track more than three hundred economic indices. These indices represent the fourteen largest countries by GDP and all the major categories of economic information including employment, GDP growth, confidence, industrial production, consumption, housing, and financial conditions. We then calculate the proportion of the indices that improved over the prior twelve months (PI).
The green line on the chart shows the PI. When the PI is below 50%, the majority of economic indicators weakened in the prior year. In most instances in which the PI fell below 30%, the US was in a recession.
The PI and the Stock Market
The next chart adds a blue line showing the one-year performance of global equities relative to cash. The close connection between the global economy and stock market outcomes is clear. Since 1968, the two lines have often overlapped, and their turning points have aligned.
Another way to see the relationship is to calculate the historical average stock market return as a function of the PI. On average, global equities have outperformed cash only when most economic indices improved—i.e., when the PI was at 50% or higher.
When Equity Investors Should Worry
The most dangerous times to be invested in the stock market have been when the PI was low and falling. In the following chart, the shaded “Danger Periods” are when the PI was below 45% and the PI trend was down. This has happened 25% of the time. In those periods, the average return of global equities was 6.3% per year below the return of cash. In the non-shaded periods, the average return of global equities was 7.4% higher than cash.
Summary
The performance of the stock market is tightly linked to the performance of the global economy. Historically, the stock market has delivered a return well above cash if most economic indicators improved in the prior twelve months. On average, the global equity return was meaningfully below cash when the Percentage Improving (PI) was below 45% and falling.
The economic dataset is a key component of the framework used by Atlas Capital Advisors to identify equity downside risk. Monthly updates of this information are provided at https://atlasca.com/core-concepts/markets-and-the-economy/.
Notes
Source for 72% figure: McKinsey & Company, “A new look at how corporations impact the economy and households.” The PI bucket averages shown are computed using all values within ±5% of each displayed point (e.g., the 50% point averages instances from 45% to 55%).
Disclaimer
The information and opinions contained in this document are for background purposes only and do not purport to be full or complete. No reliance may be placed for any purpose on the information or opinions contained herein. Atlas does not give any representation, warranty or undertaking, or accept any liability, as to the accuracy or the completeness of the information or opinions contained herein. This document does not constitute an offer or solicitation to any person in any jurisdiction. Any such offering will only be made in accordance with the terms and conditions set forth in a private placement memorandum or other offering document.
Certain information contained herein (including any forward-looking statements and economic and market information) has been obtained from published sources and/or prepared by third parties and in certain cases has not been updated through the date hereof. While such sources are believed to be reliable, Atlas and its affiliates do not assume any responsibility for the accuracy or completeness of such information. Atlas does not undertake any obligation to update the information contained herein as of any future date. Any views or opinions expressed may not reflect those of the firm as a whole.
Any illustrative models or investments presented are based on a number of assumptions and are presented only for the limited purpose of providing a sample illustration. Hypothetical performance information does not represent the results of actual trading using client assets. Past performance is no guarantee of future results. Investments are subject to risk, including the possible loss of principal. There is no guarantee that projected returns or risk assumptions will be realized or that an investment strategy will be successful.
Investment advisory and management services are provided by Atlas Capital Advisors, Inc., registered as an investment advisor with the Securities and Exchange Commission.
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