Does the Stock Market Anticipate Economic Growth? Empirical Evidence Based on the U.S. Stock Market

Abstract

It is essential to understand the relationship between stock market returns and economic growth. We investigate whether the stock market is a leading indicator, a lagging indicator, or it has no relation to economic growth. Identifying this can help households plan their investments for business cycle contractions and expansions, as well as provide legislators and federal government agencies with the information they could use to maximize the effectiveness of their policies. Through our research, we identified the relationship between stock market returns and the changes in the percentage of gross domestic product (GDP) growth in the prior and the year following the market returns. By running a regression analysis of GDP percent change on the prior-year S&P 500 annual return, we find a significance level of 0.00159, which is highly statistically significant. Therefore, we conclude that the stock market is a leading indicator of a recession, which further allows us to better understand how policymakers can make optimal decisions.