Does positive GDP growth lead to strong stock returns?

Traditionally, GDP growth has been thought of as a leading indicator for domestic stock-market performance. But has this changed?

The chart below compares average rates of GDP growth to stock-market performance, from 1998 to 2020. The high level of dispersion between economic growth and stock performance means there was low correlation between the two. In other words, during this period, GDP growth was not a strong indicator of stock-market returns.

Why this disconnect? First, increased globalization means that domestic stock markets may be more exposed to global growth drivers than domestic ones. It’s also possible that stock markets had already priced in expectations about future economic growth. Finally, supportive monetary policies around the global have driven capital flows into riskier assets like equities, potentially severing the link between the real economy (proxied by GDP growth) and stock market performance and valuations.

Investors may want to account for this as they evaluate investments in higher-growth economies given that the higher growth may not necessarily translate into a strong stock market performance.