We are going to present the dependence of the stock market on various macroeconomic variables at a two to ten year horizon and, specifically, to evaluate the future behaviour of the S&P 500 index. The evolution of such macro variables as population, labour force, employment, and real GDP might have a good reason to affect the stock market both fundamentally and emotionally. The overall economic growth does speed up the S&P 500 return and a recession is seen as a deep valley in the shape of the index.
To begin with we present in Figure 1 the evolution of the S&P 500 index since 1980. After 1995, the index behavior reveals some saw teeth with peaks in 2000 and 2007. The current growth resembles those between 1997 and 2000 and from 2003 and 2007. There are two deep troughs in 2002 and 2009 which are marked by red and green line, respectively. For the current analysis we assume that the repeated shape of the teeth is likely induced by a degree of similarity in the evolution of macroeconomic variables. The intuition behind such an assumption is obvious - in the long run the market depends on the overall economic growth.
Having two peaks and troughs between 1995 and 2009, what can we say about the current growth in the S&P 500? Before making any statistical estimates, in Figure 2 we have shifted forward the original curve in Figure 1 in order to match the 2007 peak (red line) and the 2009 trough (blue line). When the 2007 peak in matched, the historic curve shows that the 2007 to 2009 fall was by several months faster than between 2000 and 2002.
When the 2002 and 2009 troughs are matched, one can see that the current growth path closely repeats that after 2002. The first big deviation from the blues curve in Figure 2 started in 2011 and had amplitude of 150 units (from 1210 to 1360). The black curve returned to the blue one in August/September 2011. Currently, we observe a middle-size deviation of about 100 units.
Hence, one cannot exclude that the index will have a negative correction down to the level of 1300 any time soon. If the index will repeat the path of the previous rally one-to-one, one may expect the peak level of 1500 in the end of 2013. In two to four weeks it might be a good time to invest for a 15% return cumulated to October 2013 (but not more than two months), when the negative correction is over.
Does any macroeconomic variable support this prediction? Figure 3 presents the evolution of the annual increment of civilian working age population in the U.S. with one month step, i.e. the increment is cumulated during the previous 12 months. There are peaks associated with the change to so called population controls after decennial years. The most recent change was introduced in January 2012. All these revisions to the population controls are artificial and thus should be disregarded when one evaluates the growth in the working age population. The annual increment is a crucial parameter which defines a good part of real GDP growth. This extensive part of the growth in real GDP was of 1% per year during the past decades. Figure 3 shows that the current level of annual increment is the lowermost since the 1980s. With the increasing total population, the growth rate of the extensive GDP component has lost around 0.2% relative to the 1990s and 0.3% to 0.4% per year relative to the 2000s. This effect has a negative overall impact on the growth of the S&P 500 - real growth is slower and the expectations of the growth fail over and over. Looking into the deceleration of the population growth one might doubt about the good reasons behind the current market rally.
In Part 2, we are going to compare the evolution of employment after 2002 and 2009.
Figure 1. The evolution of the S&P 500 market index between 1980 and 2012.
Figure 2. The curve in Figure 1 peak is shifted forward to match the 2007 peak (red line) and 2009 trough (blue line).
Figure 3. The annual increment of the civilian working age population with one month step, i.e. the increment is cumulated during the previous 12 months. There are peaks associated with the change to population controls after decennial years. The most recent change was introduced in January 2012.