Get out of the market before the second wave hits! Wait….. But…….

This is a sample of headlines clogging our spambox. The premise is that a second wave of infections is coming, leading to a second round of lockdowns. The lockdowns will lead to continued job losses, GDP contraction and thus poor returns for the stock market. The logic is intuitive. Is there a link between GDP growth and market returns?

We examine the evidence to support this link. We’ll leave the debate on market valuations to a later post. Today we have a long post. We begin by examining how learned minds deal with evidence.

The rejection of evidence and Ignaz Semmelweis

(You can read more behind this paywall:

Semmelweis figured out in 1847 that hand washing reduced death rates in maternity wards. It took decades for science to explain this observation. Correlation is not proof of causation. Science needed to understand why it happened. Semmelweis performed an experiment akin to modern day A/B testing. This means he recorded death outcomes in wards where there was handwashing vs wards where there wasn’t. Death rates were drastically reduced if handwashing was prevalent.

It’s obvious to us today why that’s true. But the takeaway for us was that it didn’t matter what his explanation was. It takes awhile for science to make the link. He had empirical evidence that death rates dropped. So, wash your hands! There seems to be a similar debate right now over whether masks prevent the spread of respiratory infections or whether cutting carbohydrate intake boosts health outcomes but I digress.

Semmelweis’ science-based colleagues gave him the treatment any evidence-based man deserved. They laughed at him, then fired him. When he managed to publish a book about his findings, it was roundly criticized as being “unscientific”. He suffered a mental breakdown within 2 decades, and died a broken man from a hand infection. It took over a century before handwashing became mainstream recommendation in hospitals.

6 pack shortcuts and market returns

Which quarter of the 20th century did hand hygiene become mainstream?



1951-1975; or


Answer at the end of this blog post. Free diabetes / 6 pack abs advice pack from us if you’re among the first 20 readers to reply with the correct answer.

I can’t tell where the stock market will settle next week but I reckon a lot of you will benefit from 6 pack abs. Also, if you’re an Accredited Investor and sign up as a client before the end of September with the promo code COVIDLOCKDOWN, you get to see the 8 pack.

GDP Growth and Market Returns

The minds that comment on the stock market today are no different from Semmelweis’ time. I’ve been guilty of ignoring evidence from time to time. It’s highly intuitive that GDP contraction should lead to negative stock market returns. That being the case, there should be plenty of evidence to support this.

We searched for the link between GDP growth and market returns.

We couldn’t find any.

Here’s what we found.

  • MSCI Barra studied multiple markets over 1958-2008. They found a negative correlation. Yes, it turns out that EPS is related to GDP growth, but you need to take into account that the multiple changes, i.e. PE changes. They propose some ideas why this is so.  Maybe these reasons are right, maybe they are wrong. We know the evidence is that there is persistent negative correlation between GDP growth and stock market returns.  You can download the study here:
  • Prof Jay Ritter of Florida has also been challenging the conventional wisdom that Economic growth is good for stockholders. This leads to his 2004 paper. From 1900- 2002 the correlation of stock returns and GDP growth is negative. Yes, the time period captured the 1918 flu pandemic, and two major world wars including the 50 mm to 85 mm loss of life in World War II. Whether the Chinese economy grows at 3% per year or 7% per year is irrelevant to Chinese stock market returns. What really matters is entry stock market valuation. Interestingly, Malaysia and Singapore are the only markets where the GDP per capita returns were in line with stock market return.

I could go on. Like hand-washing, it takes a couple of centuries for ingrained opinions to change when presented with contrary evidence or the lack thereof. Of course, the lack of evidence is not proof that there is no link between GDP performance and stock market returns. But it’s clear that the lack of evidence means the linkage is just not as simple as people thought. More pertinently, in the modern A/B testing world, shouldn’t we just do what works and avoid what doesn’t?

Buffett’s Rule of Thumb

Why then does Buffett use the Stock market/GDP ratio as an indicator? It’s a short hand. Just like Price to Earnings is a rule of thumb. There are implicit assumptions in the PE multiple just like the Stock Market/GDP ratio, the first is that there is no change in the competitive dynamics of companies making up the market. This used to be true in the past couple of decades. It’s readily apparent that monopoly power in the large tech companies is fast exceeding that of many other monopolistic type companies of the past (cable anyone?).

Prof Ritter reminds us that Buffett, Jeremy Siegel and Robert Arnott have all observed that economic growth comes from technological progress. But in a competitive economy, the progress ends up in the hands of consumers. Owners of capital do not benefit from productivity growth unless there was some monopoly power in their businesses.  Economic growth raises the standard of living, and real wage rates, it remains to be seen if owners of capital can harvest any share of this. Flipping that around, it remains to be seen if lowered economic growth will be borne more by the providers of capital or the consumers. We know that a lowered standard of living is here for consumers and there are many businesses suffering.

Yet, revenues and margins have also increased for broad swathes of companies. Ecommerce adoption plans for various businesses, say Nike, have also accelerated, they’ve achieved 5 years of progress in the span of 5 months.


So, what’s the second half going to look like? This is for a future post.

In the meantime, we’d encourage you to follow another Singapore based manager, Lyall Taylor here.

This was an excellent (but long) dissection on momentum and why we’re in the flywheel moment. There’s a freebie analysis thrown in for old school value investors’ beloved HK Land stock. If you’re short on time, I’ve produced the comment by the reader Liron Shapiro on Taylor’s blogpost:

(1) Liquidity flywheels make the market inefficient from a long-term value perspective, because shorter-term momentum dynamics exist for structural reasons decoupled from underlying asset values

(2) The cost of capital in various assets is determined by a coarse-grained bucketing into leaky abstractions like “listed equities”, and there aren’t many participants capable of arbitraging when the specifics of an asset defy their category bucket, due to structural forces of short time horizons and fund management principal-agent problems.

We’re value investors in that we like to buy low and sell high, but it’s important to remember that the market can stay irrational longer than you can stay liquid or in the job. We’d really like to stick to the old Soros adage, buy what goes up and sell what goes down. More in the next post.

Answer: 1975 to 2000. Handwashing’s first became mainstream in the 1980s, probably linked to the spread of STDs and HIV.

Need help?