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Finding the Missing Link Between Stocks and GDP

Summing It Up

If we throw all these measures into the econometric pot, the model improves somewhat, but the late-1990s equity bubble remains in the chart. Let's coin a phrase and call it "irrational exuberance." The good news is the stock market-GDP relationship was at fair value at the end of March 2003; the market's second-quarter rally has no doubt pushed us back into slight overvaluation at this point.


The Bubble Remains
Source: Howard Simons

What will we need to carry us higher? Over the past half-century, we cannot demonstrate stable causal links between total return on stocks and GDP, after-tax profitability, capital expenditures or inflation. All the usual suspects are hereby released on their own recognizance. The best model is the least-satisfying and most-circular one: Stocks will rise so long as people are willing to own them, and nothing more. An orangutan would agree.

Howard L. Simons is a special academic adviser at Nasdaq Liffe Markets, a trading consultant and the author of The Dynamic Option Selection System. Under no circumstances does the information in this column represent a recommendation to buy or sell securities. The views expressed in this article are those of Howard Simons and not necessarily those of NQLX. As a matter of policy, NQLX disclaims the private publication of materials by its employees. While Simons cannot provide investment advice or recommendations, he invites you to send your feedback to Howard Simons.

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