Please update your browser. For this JPMorgan Chase Institute report, we analyze granular administrative retail bank data to explore the relationship between the U. Our research provides a historical perspective that can help policymakers understand how market fluctuations may be transmitted to the real economy over relatively short time horizons.
This report documents a correlation between credit card spending and stock returns that plays out over the course of just a few months. This relationship appears to be driven disproportionately by specific types of activity—notably, temporary spending spikes on credit cards—and investor status or gender. In addition to spending patterns, we examine retail flows to investment accounts. These transfers suggest "returns chasing" behavior; they track lagged stock market changes with an R-squared of over 20 percent.
In sum, procyclical behavior can be seen on both spending and investment fronts, and the magnitudes vary across gender and wealth indicators. Specifically, in our sample, credit card spending by men and investors was more responsive to stocks than that of women and non-investors.
With respect to investment flows, gender differences were smaller; the sensitivity of male investment flows to market returns was only modestly above the estimate for women. Our data cover much of the period following the Great Recession, from through mid Importantly, we separate the COVID-crisis from the rest of the sample, to prevent outliers from this unique shock from driving the results. The analysis can be summarized in the following four findings:. In our credit card sample, a 10 percent rise in stock prices is associated with a rise in average spending of just under 1 percent.
The effect is somewhat smaller, 0. The time horizon for this relationship is relatively short, with the stock market leading by less than 4 months. Line graph which displays the regression-predicted effect of stock market returns on the distribution of individual-level credit card spending changes related to their typical levels. Estimates are presented at 5 percentage point intervals from the 5 th to 95 th quantiles of that distribution along the x-axis, as well as the coefficient for the mean spending change as a dotted line just under 1.
Many financial assets are liquid; some may have secondary markets to facilitate the transfer of existing financial assets at a low cost. Table I provides a list of several well-known U. It includes such familiar types of financial institutions as banks, pension funds, mutual funds, and insurance companies. Table II provides a list of several categories of U.
Financial markets play a critical role in the accumulation of capital and the production of goods and services. The price of credit and returns on investment provide signals to producers and consumers—financial market participants. Those signals help direct funds from savers, mainly households and businesses to the consumers, businesses, governments, and investors that would like to borrow money by connecting those who value the funds most highly i.
In a similar way, the existence of robust financial markets and institutions also facilitates the international flow of funds between countries. In addition, efficient financial markets and institutions tend to lower search and transactions costs in the economy. By providing a large array of financial products, with varying risk and pricing structures as well as maturity, a well-developed financial system offers products to participants that provide borrowers and lenders with a close match for their needs.
Individuals, businesses, and governments in need of funds can easily discover which financial institutions or which financial markets may provide funding and what the cost will be for the borrower. This allows investors to compare the cost of financing to their expected return on investment, thus making the investment choice that best suits their needs.
In this way, financial markets direct the allocation of credit throughout the economy—and facilitate the production of goods and services. The European Union , with its single banking market and single currency, the Euro, has created Europe-wide financial markets and institutions.
These markets use the Euro to facilitate saving, investment, borrowing, and lending. Euro-denominated stock, bond, and derivative markets serve all of the EU countries that use the Euro—replacing smaller, less-liquid, offerings and products that previously were available mostly on a country-by-country basis.
In addition, the Euro likely increases the attractiveness of Euro-based financial markets and instruments to the rest of the world.
Within the EU, the Euro eliminates the cross-border exchange rate risks that are part of transactions between countries with different currencies. The Wilshire tracks the stock prices of essentially all U. Other measures of stock markets focus on where stocks are traded.
The Nasdaq stock market includes about 3, stocks, with a concentration of technology stocks. Table 1 lists some of the most commonly cited measures of U. The trend in the stock market is generally up over time, but with some large dips along the way. Broad measures of the stock market, like the ones listed here, tend to move together.
When the Dow Jones average rises from 5, to 10,, you know that the average price of the stocks in that index has roughly doubled. Figure 4 shows that stock prices did not rise much in the s, but then started a steady climb in the s. From to , stock prices bounced up and down, but ended up at about the same level. The total return here includes both dividends paid by these companies and also capital gains arising from increases in the value of the stock.
For technical reasons related to how the numbers are calculated, the dividends and capital gains do not add exactly to the total return. In the s and s, the gap between percent earned on capital gains and dividends was much closer than it has been since the s.
In the s and s, however, capital gains were far higher than dividends. In the s, dividends remained low and, while stock prices fluctuated, they ended the decade roughly where they had started. The overall pattern is that stocks as a group have provided a high rate of return over extended periods of time, but this return comes with risks.
The market value of individual companies can rise and fall substantially, both over short time periods and over the long run. During extended periods of time like the s or the first decade of the s, the overall return on the stock market can be quite modest.
The stock market can sometimes fall sharply, as it did in The bottom line on investing in stocks is that the rate of return over time will be high, but the risks are also high, especially in the short run; liquidity is also high since stock in publicly held companies can be readily sold for spendable money. Buying stocks or bonds issued by a single company is always somewhat risky. An individual firm may find itself buffeted by unfavorable supply and demand conditions or hurt by unlucky or unwise managerial decisions.
Thus, a standard recommendation from financial investors is diversification , which means buying stocks or bonds from a wide range of companies. Purchasing a diversified group of the stocks or bonds has gotten easier in the Internet age, but it remains something of a task.
To simplify the process, companies offer mutual funds , which are organizations that buy a range of stocks or bonds from different companies. The financial investor buys shares of the mutual fund, and then receives a return based on how the fund as a whole performs. Mutual funds can be focused in certain areas: one mutual fund might invest only in stocks of companies based in Indonesia, or only in bonds issued by large manufacturing companies, or only in stock of biotechnology companies.
At the other end of the spectrum, a mutual fund might be quite broad; at the extreme, some mutual funds own a tiny share of every firm in the stock market, and thus the value of the mutual fund will fluctuate with the average of the overall stock market. A mutual fund that seeks only to mimic the overall performance of the market is called an index fund.
Diversification can offset some of the risks of individual stocks rising or falling. In average U. This steep drop in value hit hardest those who were close to retirement and were counting on their stock funds to supplement retirement income. The bottom line on investing in mutual funds is that the rate of return over time will be high; the risks are also high, but the risks and returns for an individual mutual fund will be lower than those for an individual stock.
As with stocks, liquidity is also high provided the mutual fund or stock index fund is readily traded. Households can also seek a rate of return by purchasing tangible assets, especially housing.
About two-thirds of U. For many middle-class Americans, home equity is their single greatest financial asset. The total value of all home equity held by U. Investment in a house is tangibly different from bank accounts, stocks, and bonds because a house offers both a financial and a nonfinancial return. Of course, if you buy a home and rent it out, you receive rental payments for the housing services you provide, which would offer a financial return.
Buying a house to live in also offers the possibility of a capital gain from selling the house in the future for more than you paid for it. There can, however, be different outcomes, as the Clear It Up on the housing market shows. Over these 23 years, home prices increased an average of 3. Figure 5 shows U. Census data for the median average sales price of a house in the United States over this time period. Go to this website to experiment with a compound annual growth rate calculator. However, the possible capital gains from rising housing prices are riskier than these national price averages.
Certain regions of the country or metropolitan areas have seen drops in housing prices over time. As of , home values had almost recovered to their pre-recession levels.
Visit this website to watch the trailer for Inside Job , a movie that explores the modern financial crisis. Investors can also put money into other tangible assets such as gold, silver, and other precious metals, or in duller commodities like sugar, cocoa, coffee, orange juice, oil, and natural gas. Investing in, say, gold or coffee offers relatively little in the way of nonfinancial benefits to the user unless the investor likes to caress gold or gaze upon a warehouse full of coffee.
Indeed, typically investors in these commodities never even see the physical goods; instead, they sign a contract that takes ownership of a certain quantity of these commodities, which are stored in a warehouse, and later they sell the ownership to someone else.
Most collectibles provide returns both in the form of services or of a potentially higher selling price in the future. You can use paintings by hanging them on the wall; jewelry by wearing it; baseball cards by displaying them. You can also hope to sell them someday for more than you paid for them. However, the evidence on prices of collectibles, while scanty, is that while they may go through periods where prices skyrocket for a time, you should not expect to make a higher-than-average rate of return over a sustained period of time from investing in this way.
The bottom line on investing in tangible assets: rate of return—moderate, especially if you can receive nonfinancial benefits from, for example, living in the house; risk—moderate for housing or high if you buy gold or baseball cards; liquidity—low, because it often takes considerable time and energy to sell a house or a piece of fine art and turn your capital gain into cash.
The next Clear It Up feature explains the issues in the recent U. The cumulative average growth rate in housing prices from to was 5. The price of an average U. However, at the time many serious analysts saw no reason for deep concern. After all, housing prices often change in fits and starts, like all prices, and a price surge for a few years is often followed by prices that are flat or even declining a bit as local markets adjust.
The sharp rise in housing prices was driven by a high level of demand for housing. Interest rates were low, so people were encouraged to borrow money to buy a house. Banks loaned money with low, or sometimes no, down payment. They offered loans with very low payments for the first two years, but then much higher payments after that; the idea was that housing prices would keep rising, so the borrower would just refinance the mortgage two years in the future, and thus would not ever have to make the higher payments.
In retrospect, these loans seem nearly crazy. Many borrowers figured, however, that as long as housing prices kept rising, it made sense to buy. In this way, the lenders off-loaded the risks of the mortgages to investors. Investors were interested in mortgage-backed securities as they appeared to offer a steady stream of income, provided the mortgages were repaid.
Investors relied on the ratings agencies to assess the credit risk associated with the mortgage backed securities. In hindsight, it appears that the credit agencies were far too lenient in their ratings of many of the securitized loans. Bank and financial regulators watched the steady rise in the market for mortgage-backed securities, but saw no reason at the time to intervene.
When housing prices turned down, many households that had borrowed when prices were high found that what they owed the bank was more than their home was worth. Many banks believed that they had diversified by selling their individual loans and instead buying securities based on mortgage loans from all over the country.
After all, banks thought back in , the average price of a house had not declined at any time since the Great Depression of the s. These securities based on mortgage loans, however, turned out to be far riskier than expected. The bust in housing prices weakened the finances of both banks and households, and thus helped bring on the Great Recession of — The discussion of financial investments has emphasized the expected rate of return, the risk, and the liquidity of each investment.
Table 3 summarizes these characteristics.
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