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The stock market reflects an economy’s economic conditions because of the influence they have on it. While it is nearly impossible to predict the stock market to precision, some indicators help in knowing what to expect.
Economic news is important to the stock market because the health of the economy has a direct impact on the profitability of any given company. A good economic environment is ideal for companies whose shares trade on the market.
When the economy is growing, people buy more and invest more. When the economy is struggling, people avoid buying and company stocks decline. Below are six economic conditions that influence the stock market:
Price pressure influences the stock market. Inflation is the upward price pressure that makes things expensive. When inflation is high, buying power is lowered, stock prices drop and the currency loses value leading to a decline of investors equity. On the other hand, deflation is just as big a problem as inflation. While low prices lead to higher buying power, deflation is a sign of major economic problems. Inflation to a certain level is considered ideal, and interest rates are used as tools to keep inflation within a desirable range.
Interest rates have a big impact on stock prices. When interest rates are high, it is expensive to borrow money, hence affecting the profit margins of companies. When a company has lower prices, it’s stock prices are likely to fall. If the economy is struggling and stock prices are declining, interest rate cuts are issued to provide a boost. These make borrowing money less expensive for companies. However, interest rate cuts do not always provide a boost and can at times be insignificant and not have any impact on improving the stock market.
Gross domestic product
Known as the GDP, the gross domestic product is a key factor when it comes to influencing the stock market. If the GDP is high, consumers and investors tend to become optimistic about the economy’s output and this helps increase the stock prices. As a result, increased sales and spending because of optimism lead to an even higher GDP. On the flip side, when the GDP is lower than expected, it can be an indicator of things to come. Stock prices drop due to a decline in confidence levels. The market is commonly referred to as operating in a system of bears and bulls. This simply means that the prices are shifting either in favor or against the favor of traders.
It is important to note that unemployment is a lagging indicator of the stock market. This is usually seen as an indication that the economy is not right. When people start losing their jobs, there is already a decline in the economy. Unemployment tends to rise even with economic improvement because companies wait until they are certain of economic recovery before hiring starts again. When the unemployment rate is high, it can negatively impact the stock market. This is because high unemployment leads to low confidence levels and ultimately low stock prices.
The health of foreign markets such as Asia and Europe can sometimes impact the US stock market. The impact is determined by how dependent US consumers or corporations are on the foreign markets. Investors fear that crisis in a foreign market or country could spread due to the global nature of companies that are part of US exchanges.
When economies in other countries are struggling, American companies are not in a position to generate good sales from them. This leads to a decline in sales revenue, which can show a decline in the stock market. The U.S stock market is also affected by foreign stock exchanges. If a foreign exchange suffers a sharp decline, this activity can make investors fear a similar scenario in the U.S market, leading to a decline in the U.S stock exchange.
Reports of economic projections and growth are known for triggering intraday and multi-day swings in the stock market. When the economic outlook and projection is positive, stock prices are likely to rise. Investors may purchase more stocks in anticipation of higher stock prices, resulting in profits.
On the other hand, a disappointing or uncertain economic projection may lead to investors to reduce their purchase and even start offloading their stocks. While economic growth reports can be hard to interpret for the stock market and the economy, investor sentiment is clear once the report has been released.