Low economic growth not necessarily bad for investors

Investors worried about the International Monetary Fund's prediction of an extended era of lousy economic growth should probably relax.

Or rather, they might want to pay better attention to the price they pay for growth rather than the absolute rate at which the economy is going to grow.

The IMF last week released a report predicting an extended period of subpar growth in developed and emerging markets, laying the blame on slowing population growth and a puzzling lack of investment.

In developed economies potential growth will average just 1.6 percent over the next five years, up from the 1.3 percent since 2008, but a lot weaker than the 2.3 percent clip from 2001 to 2007.

The implications for stock market investors is perhaps less dire than you would assume. In fact, though studies find different outcomes, there does not appear to be a positive correlation between economic growth and equity returns, with some studies showing quite the opposite.

And this is not just a monetary-policy-driven phenomenon.

"The cross-country correlation of real stock returns and per capita GDP growth over 1900–2002 is negative," Jay Ritter of the University of Florida wrote in a benchmark 2004 study. "Economic growth occurs from high personal savings rates and increased labor force participation, and from technological change."

But overall, Ritter argues that not only is past economic growth irrelevant for equity investors, but that even knowledge of future rates of growth is of little use.

This argument throws the focus onto the quality of the investments being made by a given corporation. It also makes crucial the price an investor pays for that growth.

Two elements of the IMF study that could be troubling: The working age population will, from 2020, be contracting in Germany and Japan, with Korea and China not far behind. Second, growth is being impaired by a lack of investment in large economies.

Perhaps the best advice is for investors to concentrate on what they can control: what they are willing to pay.