President Clinton hailed the economic news, claiming, “We have
the most solid American economy in a generation; wages for American
workers are finally on the rise again.”
But the financial markets were stunned. Long-term bond prices im-
mediately collapsed on both domestic and foreign exchanges as traders
expected higher interest rates. Interest rates on long- and short-term
bonds climbed nearly a quarter point. Although the stock market would
not open for an hour, the S&P 500 Index futures, which represent claims
on this benchmark index and are described in detail in the next chapter,
fell from 676 to 656, about 2 percent. European stock markets, which had
been open for hours, sold off immediately. The benchmark DAX index in
Germany, CAC in France, and FT-SE in Britain instantly fell almost 2
percent. Within seconds, world equity markets lost $200 billion, and
world bond markets fell at least as much.
This episode demonstrates that what Main Street interprets as good
news is often bad news on Wall Street. This is because it is more than mere
profits that move stocks; interest rates, inflation, and the future direction
of the Federal Reserve’s monetary policy also have a major impact.
ECONOMIC DATA AND THE MARKET
News moves markets. The timing of much news is unpredictable—like
war, political developments, and natural disasters. In contrast, news
based on data about the economy comes at preannounced times that are
set a year or more in advance. In the United States, there are hundreds of
scheduled releases of economic data each year—mostly by government
agencies, but increasingly by private firms. Virtually all of the an-
nouncements deal with the economy, particularly economic growth and
inflation, and all have the potential to move the market significantly.
Economic data not only frame the way traders view the economy
but also impact traders’ expectations of how the central bank will im-
plement its monetary policy. Stronger economic growth or higher infla-
tion increases the probability that the central bank will either tighten or
stop easing monetary policy. All these data influence traders’ expecta-
tions about the future course of interest rates, the economy, and ulti-
mately stock prices.
PRINCIPLES OF MARKET REACTION
Markets do not directly respond to what is announced; rather, they re-
spond to the differencebetween what the traders expectto happen and
238 PART 3 How the Economic Environment Impacts Stocks