An investor needs to know the difference between the stock market and the economic cycle. Then, they can find the best timing strategies and portfolio structure. Thus, if you are now starting investing, you have to learn the relation between those two.
Market vs Economy
The market refers to the system collectively made up of all investors. That includes individuals, asset managers, banks, insurance companies, and many more.
Technically, it refers to capital markets. That is the place where investors buy and sell their investment securities, like stocks, bonds, and mutual funds.
Contrarily, the economy refers to what in the beneath of a country’s economic system, including industry, corporations, consumers, government, and financial institutions. To put it simpler, it refers to the overall financial environment of the country’s economy.
Stock Market Goes Further, the Economy Goes Backward
Traders usually study all the information related to the current economic condition. Especially, the financial health of corporations and consumers. Based on that information, they usually estimate prices for stocks today according to the reasonable expectations about the future.
If there is something unexpected happens later, then the stock price will react.
Also read: 7 Tips to Invest in Stock Market (Part 1)
Different from the market and investors, economists tend to look backward. They analyze the historical data, usually the one to three months back to measure economic health. Thus, if there is a recession today, they will not report it with certainty for at least one to three months.
Now imagine if the average length of duration from a bear market for stocks is a year. By the time the economists release the news, then the bear market has been there for three to four-month. If it happens below that average duration, then that signals for you to buy back the stocks.
Similar to that, once economists say that the recession has ended, a bull market for stocks may already be months old.
Therefore, the stock market usually called a “leading economic indicator” since it can predict the near-term future direction for the economy.
