We all have an inherent understanding of the concept, but let's explore why it's crucial for both investors and issuers of financial instruments to consistently monitor the economy's performance.

There is a significant correlation between the prices of financial instruments and the economic climate.

Consider this financial instruments are, in essence promises of future cash flows.

This includes dividends, interest payments, and the like.

And a rational investor would pay an amount equal to the present value of these anticipated cash flows to purchase these financial instruments.

This implies that in theory, the price of a financial instrument reflects the aggregated present values of the cash flows it is expected to generate.

And since calculating present value involves discounting future cash flows at a given interest rate, there's an intrinsic theoretical relationship between financial instrument prices, including bonds and stocks and interest rates.

Furthermore, while some instruments like fixed rate bonds offer predetermined cash flows, others such as stocks involve uncertain future dividends and sale prices.

Here, investor expectations come into play, which can shift based on various factors.

When these expectations or the discount rates applied to future cash flows alter, say, due to anticipation of higher company profits or changes in share prices, the value of these instruments is expected to adjust accordingly.

Now, what might prompt a shift in expectations or discount rates. On the company level, specific developments like changes in profitability, cash flows, and leverage, but also breakthroughs in, for example, product development can play a part.

Yet macroeconomic influences are also at play.

For example, when we anticipate the overall economy to grow strongly, it's logical to expect the profitability of companies within this economy to improve.

This brighter economic outlook tends to boost corporate earnings expectations, which in turn should see stock prices moving upward.

While it's true that investors' perceptions of economic trends can influence the market prices of stocks and other financial instruments, it's important to remember that it's the actual performance, that solid financial figures that ground these prices in reality.

But markets are forward-looking by nature, And as a result, financial instruments can sometimes become overvalued or undervalued.

And as for interest rates, remember they provide the basis for discounting in our above model. They are significantly influenced by macroeconomic factors.