- Investors have been trained to believe that the
stock market hates uncertainty, but historical performance tells a different story. - Since 1985, high levels of economic-policy uncertainty have been associated with solid future stock returns, according to The Leuthold Group.
- "Investors hoping for more clarity should be careful what they wish for," chief investment strategist James Paulsen said.
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Investors have been trained to believe that the stock market hates uncertainty, but historical performance tells a different story, according to Leuthold Group chief investment strategist James Paulsen.
In a recent client note, Paulsen highlighted that periods of high economic policy uncertainty have been associated with solid future stock market returns. It makes sense, according to Paulsen, as people remained highly uncertain of Fed and fiscal policy many years into the economic recovery of 2008's great recession.
Uncertainty is high now among investors as they wonder when the Fed will taper its monthly bond purchases (and by how much), when the Fed will raise interest rates, and whether Congress will be able to spend as much as President Biden wants them too.
Utilizing various indicators that measure fiscal and monetary policy uncertainty, Paulsen found that the only time stock market returns disappointed was when both monetary and fiscal policy uncertainty were below average. "That is, the stock market struggled whenever investors were not worried about economic policies," Paulsen explained.
On the flipside, when concerns about monetary or fiscal policy were above average, the stock market delivered future annualized returns of about 20%.
"We guess that higher levels of policy uncertainty often result in superior stock returns because it creates a Wall of Worry. When investors are anxious about pending actions of monetary and fiscal authorities, the stock market's potential upside appears to be much greater than its risk," Paulsen said.
That plays into the Wall Street adage that the stock market climbs a wall of worry and falls on a slope of hope.
"Investors hoping for more clarity should be careful what they wish for...rather than fear policy uncertainty, stock investors should embrace it!" Paulsen concluded.