Contents
- Quarterly GDP Estimates
- Can the GDP Predict Future Economic Performance?
- Why Do Investors Care About the GDP?
- Can GDP Drop Negative?
- The Stock Market and the GDP
- Conclusion
Gross domestic product, also known as the GDP, is a method that countries use to measure all of the finished goods and services produced within a country over a specific time frame.
The general overview of a country’s economic performance can be measured through the GDP it produces over a year.
You might be wondering why else GDP could be important to measure.
By understanding a country’s GDP, investors will immediately have a general insight into how the country’s economy is performing and what projections might be likely in the future.
For example, the United States releases GDP numbers on a quarterly basis and makes projections on its annual GDP production over the calendar year.
The metric of GDP can heavily influence the stock market because of its general accuracy in terms of measuring an economy.
This means that if GDP numbers are below their expected result, the stock market may plunge.
If GDP numbers are better than expected, investors will most likely buy stocks, creating a positive effect on the stock market.
Quarterly GDP Estimates
The quarterly GDP estimates that the United States of America uses in its economic forecast can sometimes be inaccurate and need to be adjusted afterward.
These adjustments can also be related to reflect the active amount of inflation that a country’s economy is experiencing.
Most investors prefer ‘real’ GDP because it accounts for inflation.
On the other hand, ‘nominal’ GDP is a similar metric that doesn’t account for inflation, which can lack context when investors compare two quarters of economic performance.
There’s not always a direct correlation between the stock market’s current performance and the most recent GDP numbers.
Generally speaking, though, the stock market will lean bullish after recent GDP numbers are better than expected.
For the United States, economists generally consider a calendar year of 2% GDP growth reasonable.
At the same time, anything less is not very good or even could be considered stagnation.
Can the GDP Predict Future Economic Performance?
When analyzing economic data, GDP may be one of the most important topics for investors.
The real GDP over an economic quarter can provide an instant snapshot of the country’s economy over various sectors.
Investors could use this information to help make future investment choices.
Many experienced investors believe that the GDP provides a historical analysis of the economy rather than a prediction of future economic performance.
Sometimes a positive quarterly GDP can have a positive short-term impact on the economy.
Still, there’s no guarantee for future economic performance when solely using a recently-released GDP number.
Why Do Investors Care About the GDP?
The GDP number provides investors with a baseline for expectations on many economic factors.
These factors can include expected profits, economic risks, and bond performance.
Generally speaking, positive GDP numbers can hurt some types of investments, including bonds.
While investors won’t be able to magically look into a crystal ball and predict the economy’s future, they can look into the recent GDP numbers and make calculated investment decisions based on recent performance.
This is one major reason that investors care about the GDP.
Can GDP Drop Negative?
The GDP has rarely dropped into the negative, but it can happen. In fact, during the 2020 Coronavirus pandemic, many countries had a negative GDP, which meant their economies shrank.
The United States watched its economy shrink by nearly 4% over the 2020 calendar year, and it didn’t recover that quickly either.
There have only been two calendar years where the United States realized losses in its annual GDP growth.
The years were 2009 when the country suffered a 2.6% collapse.
The other year was more recent. In 2020 the US experienced a 3.5% drop in the economy.
While it’s incredibly rare, most people will face severe economic hardship if the overall economy’s GDP growth is negative.
Other factors like inflation, homelessness, unemployment, and gas prices will likely be an issue when GDP is below the country’s annual target.
The Stock Market and the GDP
Many investors believe that the stock market’s future performance and recent GDP performance have a major connection.
While there are times that this appears to be true, most of the effects are fairly short-term.
While it can be a bit more likely for the stock market to struggle during times of poor GDP performance, the truth is that the GDP isn’t connected to future stock market performance.
In other words, the GDP is not an economic indicator that will get prioritized when investors make investment decisions.
The GDP may be used as a complementary factor to help investors make decisions, but it should never be used as the leading factor when making a stock market investment.
Conclusion
Now that we’ve spent some time talking about the fundamentals of real GDP and how it differs from nominal GDP let’s summarize everything else that we’ve covered up to this point.
A country’s Growth Domestic Product provides an instant look into the recent history of its economy.
Most countries lay out a target for their economy to reach on an annual basis in terms of the GDP growth percentage.
In most cases, a country’s economy will perform favorably if GDP reaches the target for the year. Suppose an economic collapse occurs, and the GDP falls shrinks.
In that case, the country’s citizens will also feel tons of other economic effects.
The GDP can also have an indirect short-term effect on the stock market, so investors should be careful about how they use the GDP growth percentage when making decisions.
Trade safe!
Disclaimer: The information above is for educational purposes only and should not be treated as investment advice. The strategy presented would not be suitable for investors who are not familiar with exchange traded options. Any readers interested in this strategy should do their own research and seek advice from a licensed financial adviser.
