Bad news for employment can be good news for the stock market

A recent study in The Journal of Finance finds that the way the stock market reacts to unemployment news conveys information about the state of the economy.

Stock prices rise on average on announcement of higher than anticipated unemployment during economic expansions, This is because unemployment news itself is a bundle of three primitive types of news: the level of future interest rates, the growth of corporate earnings and dividends in the future, and the expected return on stocks.

The nature of the bundle and, hence, the information that unemployment news conveys, and the importance of its effects, varies based on the state of the economy. Information about interest rates dominates during economic expansion and information about future corporate earnings and dividends dominates during economic downturns.