Wednesday, September 10, 2008

Its only partly the economy stupid

Each day we get a steady diet of disembodied economic data. Inflation is up, unemployment is up, GDP is up. From this constant drone of economic news scrolling across the bottom of the television screen many of us try to intrepret all this information into an investment theme. Depending on our emotional constitution that might be, "it can't go lower," "it's hopeless, get out," or "to the moon alice!"

In fact that economic news is only half the story. Valuation is the other half. The global economy will always grow. Sometimes fast, sometimes slow, but world economic growth only very rarely grinds to a halt, and then for a very short time.

When determining an investment strategy don't look for the answer in the economic data alone. Consider how much the market is charging for future earnings and be dispassionate.

Below are two charts to exhibit the fact that the market and the economy don't always move in lockstep.

The first is the annual growth of China's GDP from 2003 - 2008. The second is the Shanghai Stock Exchange index from 2006 to 2008. As the economy in China continues to grow strongly, the market "slipped" 60%.