The Stock Market's Reaction to Unemployment News: Why Bad News is Usually Good for Stocks

Abstract

We find that on average an announcement of rising unemployment is 'good news' for stocks during economic expansions and 'bad news' during economic contractions. Thus stock prices usually increase on news of rising unemployment, since the economy is usually in an expansion phase. We provide an explanation for this phenomenon. Unemployment news bundles two primitive types of information relevant for valuing stocks: information about future interest rates and future corporate earnings and dividends. A rise in unemployment typically signals a decline in interest rates, which is good news for stocks, as well as a decline in future corporate earnings and dividends, which is bad news for stocks. The nature of the bundle -- and hence the relative importance of the two effects -- changes over time depending on the state of the economy. For stocks as a group, and in particular for cyclical stocks, information about interest rates dominates during expansions and information about future corporate earnings dominates during contractions.