Leading Indicators – Easy Pod: No Signs of Improvement in Next Six Months (Jan 3, 2012)

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Indicator: Leading Economic Index   |   POSITIVE
Easy Intro: None yet  |  Link to Source: Click here  |  Latest Date This Info Represents: November 2011

Quick ‘n Easy An index that combines the results of ten leading indicators into one number suggests that the pace of economic growth through early 2012 will pick up speed.  This is in stark contrast to statements made following September’s index reading.

Easy Description: Basically, this index from The Conference Board is a combination of several indicators that traditionally correlate well to the future state of the economy, generally 6-9 months ahead.  For simplicity, we won’t talk about all the indicators that it combines.  You can read about it yourself by clicking on the source link above.

From The Conference Board’s website:

The composite economic indexes are the key elements in an analytic system designed to signal peaks and troughs in the business cycle.

We’re singling out the “leading” part of their index.  They have other indices that tell us how things are now (coincident) and how they have been (lagging).

When this index declines in value by about 1-2% over several months, and during that time most of the individual components of the index are declining, that is a pretty good sign that a recession is coming soon.

Latest Reading: The latest reading of the Leading Economic Index is 118.0, which is 0.5% higher than the previous month.  The index is now 2.8 percent higher over the last six months, but during that time only five of the ten components have been positive contributors.  This month, seven out of the ten components that make up this index made positive contributions.  The biggest source of positive contribution in any single component came from the difference between 10-year Treasury yield and the federal funds rate (“interest rate spread”) – but this is artificially affected by the Federal Reserve’s lowering of interest rates, and so it may be overly optimistic.  Second highest was an increase in building permits, which is generally a sign that housing construction will be picking up in a couple of months.  The worst component was the average workweek, which means that workers’ hours were reduced, which is what often happens before workers are let go.

Implications: It was great to see the building permits component improve so much, and in fact, it is the second largest positive contributor to the index for the latest month.  However, the single largest contributor is the “Interest Rate Spread.”  Unfortunately, this has to do with the Federal Reserve’s interventions (reducing interest rates).  Normally, better interest rate spreads are true leading indicators, but not so much when their presence is largely “artificial” to some degree.  Since July 2010, this index has increased every month except for April 2011. One of The Conference Board’s economists stated, “The LEI is pointing to continued growth this winter, possibly even gaining a little momentum by spring.”  What a turnaround from a couple of months ago’s comment that the probability of an economic slowdown in the next six months was about 50 percent!

Easynomics Rating Methodology: For this index, I will base my rating largely on the comments from The Conference Board experts.

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Indicator: Daily Consumer Leading Indicators (Consumer Metrics Institute)  |   NEUTRAL
Easy Intro: Click here   |   Link to Source: Click here   |   Latest Date This Info Represents: Dec 31, 2011

Quick ‘n Easy Consumer spending makes up about 70% of our economy, so an indication of what this spending looks like down the road is key in predicting growth rates.  The level of interest from consumers in making discretionary (non-essential) purchases in the near term, as captured by the Consumer Metrics Institute on December 31, was about 5% below a fairly normal level seen in the year 2005.

Easy Description: Very unique indicator that captures the level of consumer  interest in purchasing discretionary (non-essential) items.  It measures activities that occur well in advance of the purchase, so that makes it a true leading indicator.  The indicator that I choose to focus on is called the “Absolute Demand Index.”  It tracks where demand is compared to levels in 2005, a fairly normal level.  So, if the Absolute Demand Index level is 90, it means the level of consumer interest in purchasing discretionary items is 90% of what it was in 2005.  The index is expressed in a daily form (see chart to right) and a monthly form (see chart below.)

Latest Reading: Absolute Demand Index daily reading is approximately 95 for December 31, which means preparations for consumer discretionary purchases is 5% below the levels back in 2005.

Implications: Since December 18, the daily index surged nearly 14 points before dropping a few points to its current level.  This unusually fast rise may have had something to do with unusual patterns around Christmas.  I am checking with the author of the index to see whether this is true.  A new rising trend began the day after Christmas, so we’ll see whether it is sustainable.  Regardless, the average for December is still somewhere around 90, which I would consider “negative.”  (NOTE: my dashboard rating is based on the current daily, not the monthly)

Prior to the latest surge, there was a clear downward movement since Dec 1.  The author of the index has offered that the big drop from late October was due to the drop in consumer discretionary income (the amount of money consumers have left over to spend on whatever they want after paying for mandatory things like housing, food, medical expenses, etc.).  Because the daily numbers temporarily improved starting around Thanksgiving, perhaps consumers abandoned that mentality briefly for their early holiday shopping.

Easynomics Rating Methodology: For this index, if the daily Absolute Demand Index is 98 or higher, I will rate that “positive” – between 90 and 98 will be “neutral” – below 90 will be “negative.”

 

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Indicator: ECRI Weekly Leading Index  |   NEGATIVE
Easy Intro: None yet |  Link to Source: Click here  |  Latest Date This Info Represents: Dec 23, 2011

Quick ‘n Easy The ECRI Weekly Leading Index, a closely followed index that is considered a leading indicator of the general economy about 6-9 months down the road, is still in rough shape right now.  The ECRI has gone on record as stating the chance of a U.S. recession is 100 percent.

Easy Description: The Economic Cycle Research Institute (ECRI) does something very similar to the Leading Economic Index already mentioned, but they are not at all transparent about how they do their calculations.  We can only wait to see what they publish as their index level and see where it leaves us.  But many people believe this is a good leading indicator for the economy.

Specifically, investors look at the indicator’s growth rate, which is annualized.  It is unclear exactly how ECRI calculates this, however.  When that is significantly below zero, there is usually a stronger chance of a recession.

Latest Reading: The latest growth rate of the ECRI Weekly Leading Index was minus (-) 7.6% thru December 23.  The ECRI has gone on record as stating that the chance of a U.S. recession is now 100 percent.  In other words, there is nothing that can be done from a monetary or fiscal policy standpoint to avert it.

The growth rate had been declining sharply since mid-April then stabilized a bit around 2% before beginning its most recent descent.  After a brief increase, it looks like the growth rate may be flattening out again.  I also do a weekly “Easy Trend” post about this indicator.  Here’s a link to the latest one.

Implications: As stated above, the ECRI believes we are certainly headed for a recession in the United States, which probably translates to sometime in the next 6-9 months or so, given the usual lead time the ECRI tends to provide.

Easynomics Rating Methodology: For this index, I will rate a growth rate between positive (+) 2.5 and minus (-) 2.5 as “neutral” – anything above or below that will be rated “positive” or “negative” respectively.

 

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Indicator: USA Today / IHS Global Insight Economic Outlook Index   |   NEUTRAL
Easy Intro: Click here   |   Link to Source: Click here   |   Latest Date This Info Represents: November 2011

Quick ‘n Easy A combination of indicators that predict the growth rate of the economy for the next several months suggests that the U.S. economy will grow at a slower-than-average pace through April 2012.  But at least it’s slow growth instead of a shrinkage.

Easy Description: Forecast of the 6-month annualized Real GDP growth rate for the next several months.  Based on an index of 11 leading indicators, each of which generally predicts future changes in economic growth.

Latest Reading: Forecast for November and December is 2.2%, and each month’s forecast is slightly lower from there, eventually reaching a April 2012 forecast of 1.6%

Implications: There has been some improvement in these numbers from last month.  However, these numbers continue to convey the risks ahead – growth should be very slow, and that means a recession is much more of a possibility, especially if there is a shock to the financial system (like a disorderly default on loan obligations for European governments.)  These growth rates will almost certainly result in an increase in unemployment rates.  Also, some of this forecast depends upon interest rate spreads (the difference in interest rates on short-term bonds versus long-term bonds, for example).  Those kinds of spreads have been artificially affected by the Federal Reserve’s interventions that are intended to keep interest rates low.  Their usefulness as tools for forecasting economic growth are lower as a result.  What I’m saying is that this forecast may be slightly too optimistic – it shouldn’t surprise anyone if we end up in a recession six months from now, despite what this forecast says.

Easynomics Rating Methodology: For this index, if the average growth rate of the forecast months is 3 percent or higher, I will rate that “positive” – between 0 and 3 percent is “neutral” – below zero will be “negative.”

 

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Indicator: OECD Composite Leading Indicators   |   NEGATIVE
Easy Intro: None yet  |  Link to Source: Click Here  |  Latest Date This Info Represents: October 2011

Quick ‘n Easy A composite index of leading indicators from the OECD, designed to predict changes in the direction of economies about six months in advance, is predicting a U.S. recession sometime in the next six months (as of October 2011).  The value of the index has dropped for six consecutive months.

Easy Description: The OECD has been publishing its CLI (Composite Leading Indicators) for countries around the world since 1981.  From the OECD website:

Turning points of CLIs tend to precede turning points in economic activity relative to long-term trend by approximately six months.

Translation: If you see the CLI go from “uphill” to “downhill” you can expect your country’s economy to enter a recession, most likely about six months later.

Latest Reading: The latest reading of the OECD Composite Leading Indicators for the U.S. for October 2011 is 100.9, a drop of 0.1 points from last month.  This also marks the sixth consecutive monthly drop.  The website states there is a “slowdown” for the U.S. index.

Implications: The chart on the OECD website reads “Slowdown in the United States” instead of “potential peak.”  This downgrade occurred in August.  Basically, this means the indicator is predicting a recession in the next six months (and did so starting in August).  That would mean a recession is expected by about February 2012.

Easynomics Rating Methodology: For this index, if the OECD website states “expansion” of any kind for the U.S., I will rate it “positive.”  If it states “slowdown” of any kind, I will rate it “negative.”  Anything else will basically be rated “neutral.”

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Easy Take

There were no changes in ratings this week.  Out of five indicators, we have 1 positive, 2 neutral and 2 negative.  Using a scale of positive=3, neutral=2 and negative=1, this would average a rating of 1.8 out of 3, which falls in the middle third of the possible range.  In other words, my set of indicators average a “neutral” rating.  The consensus view of the above leading indicators is that things are unlikely to be better about six months from now.  Two indicators are flashing a “recession” signal.  One is indicating stronger growth, but that is influenced by some artificial interventions.  All in all, I am still leaning toward a less than favorable outlook for the economy over the next six months.