Friday, December 19, 2008

Leading Economic Indicators Continue To Show Weakness

The leading economic indicator (LEI) from the Economic Cycle Research Institute continues to show weakness within the economy.

Figure 1 is a monthly chart of the S&P500. The orange line in the second panel is the LEI data; the yellow "box like" indicator is an analogue representation of economic expansions and contractions as determined by the National Bureau of Economic Research (NBER), which is the official body that declares the starting and ending dates of a recession. The indicator in the bottom panel is a simple 12 month rate of change of the LEI data.

Figure 1. S&P500 v. LEI/ monthly

Point 1
Recessions occurred in 1970 (not shown on chart), 1974, 1980, 1982, 1991, 2001, and 2008. Recessions are typically heralded by the 12 month rate of change of the LEI significantly below zero. The current value of the indicator is at its lowest level ever, yet more importantly, it shows no sign of turning up. This suggests continued economic weakness and a prolonged recession.

Point 2
With the LEI data heading lower and the stock market heading higher, this divergence is noteworthy. We should see the rate of change indicator move higher as a confirmation that higher stock prices are sustainable.

Point 3
In the 1970, 1974, 1980, 1982 and 1991 recessions, the stock market's low occurred during the recession. The 2001 recession ended prior to the ultimate bottom in the stock market. Stocks don't always turn up prior to the end of the recession.

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