Why the sharemarket can fall on good news

A strong economy and a falling market look like a contradiction. There is a simple mechanism behind it, and once you understand it, market moves around rate decisions start to make sense.

A strong jobs number comes out, the economy looks healthy, and share prices fall. It happens often enough to confuse plenty of investors. With the Reserve Bank of Australia (RBA) lifting the cash rate to 4.6 per cent on 29 September 2026, its fourth increase this year, it is worth knowing why. There is a logic to it, and it has a name: discounting.

A share is a claim on a company's future profits. What you would pay today for money you will receive later depends on what else you could earn in the meantime. When interest rates rise, safer options such as cash pay more, so investors want a higher return from shares to justify the extra risk. The result is that every dollar of future profit is worth less in today's money.

A simple example shows how. At a 5 per cent annual return, $100 due in one year is worth about $95.24 today. Lift that return to 7 per cent and it is worth $93.46, a fall of about 2 per cent. Now push the $100 out ten years. At 5 per cent it is worth $61.39 today. At 7 per cent it is worth $50.83, a fall of about 17 per cent.

That gap explains a great deal. Companies whose profits are mostly years away, such as fast-growing technology businesses, are hit hardest when rates rise. Companies earning steady profits today are hit less.

The year 2022 showed it clearly. As the United States Federal Reserve raised rates aggressively, the tech-heavy Nasdaq Composite fell 33.1 per cent and the broader S&P 500 fell 19.4 per cent, according to CNBC. The energy sector, earning strong profits in the moment, rose 59 per cent. The same pattern has shown up on the ASX in recent weeks, with technology and consumer discretionary stocks leading the falls.

So why does good news hurt? Markets trade on expectations. A strong economic reading can make investors expect rates to stay higher for longer, which lowers the value of future profits across the board. The reverse also happens: weak data can lift share prices if it points to rate cuts.

Warren Buffett put it memorably in Fortune magazine in 1999. Interest rates, he said, "act on financial valuations the way gravity acts on matter: The higher the rate, the greater the downward pull."

Gravity is only one force, though. In 2023 the Federal Reserve kept raising rates until July, taking them to their highest level in 22 years. The Nasdaq still rose 43 per cent that year and the S&P 500 gained 24.2 per cent, buoyed by a resilient economy, according to CBS News. Rates set the backdrop. Profits still decide the long-run result.

For a long-term investor, that distinction matters. A change in rates changes what the market will pay for a company's future profits today. It does not change the profits a good business eventually earns.

Higher rates make future profits worth less today, which is why growth stocks tend to fall hardest when rates rise and why good economic news can send markets lower. With the RBA signalling it may not be finished, we expect rate-sensitive sectors such as technology to stay volatile around each data release. None of this changes the case for investing over decades. If you understand that short-term moves are largely about rate expectations, you are far less likely to sell a sound investment at the wrong moment.