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Summary

  • SPY and my U.S. Economic Index moved in different directions in June for the first time in four months. However, the divergence appears to be within historical parameters.
  • SPY hit another all-time-high monthly closing share price on an adjusted basis, as it rose to $195.72 from $191.76, an advance of $3.96, or 2.07 percent.
  • Meanwhile, my USEI, mainly founded on Institute for Supply Management figures, fell to 55.91 from 56.19, a decline of -0.27 point, or -0.49 percent.

Anomalies in the continuous feedback loop between the American equity market, as represented by the nonproprietary SPDR S&P 500 ETF (NYSEARCA:SPY), and the economy, as represented by the proprietary U.S. Economic Index, have been commonplace during the Federal Reserve's Age of QE3+.

Because of the Federal Open Market Committee's moves to taper the amount of the Fed's asset purchases on a monthly basis to $45 billion in June from $85 billion in December, the anomalies in the SPY-USEI relationship began dissipating recently, as mentioned in "SPY And U.S. Economic Index Both Head Higher For Third Consecutive Month."

The divergence between SPY and the USEI observed in the data for last month does not appear to augur a renewal of those anomalies.

I developed the USEI in an effort to encapsulate all U.S. economic activity in a single monthly figure I could employ in guiding my financial-market operations. I founded it mainly on Institute for Supply Management (ISM) manufacturing and nonmanufacturing numbers, as mentioned in the blog post that introduced the USEI at J.J.'s Risky Business. ISM released its latest manufacturing figures Tuesday and its latest nonmanufacturing figures Thursday.

Figure 1: SPY And USEI Monthly Values, Jan 2008-Jun 2014

(click to enlarge)

Note: The SPY adjusted monthly closing-price scale is on the left, and the USEI monthly value scale is on the right.

Source: This J.J.'s Risky Business chart is based on proprietary analyses of ISM data and Yahoo Finance adjusted monthly closing-price information.

ISM has published the relevant manufacturing figures dating back to January 1948, but the nonprofit organization founded as the National Association of Purchasing Agents in 1915 has published the relevant nonmanufacturing numbers dating back just to January 2008. Accordingly, the complete data set for the USEI covers only 78 months. I calculate the SPY-USEI correlation coefficient as 0.61 during this period (Figure 1). This statistic has been steady for the past four months.

Figure 2: SPY And USEI Monthly Values, Jan 2008-Sep 2012

(click to enlarge)

Note: The SPY adjusted monthly closing-price scale is on the left, and the USEI monthly value scale is on the right.

Source: This J.J.'s Risky Business chart is based on proprietary analyses of ISM data and Yahoo Finance adjusted monthly closing-price information.

During its first 57 months (i.e., before the dawn of the Fed's Age of QE3+), the USEI acted primarily as a leading indicator and secondarily as a coincident indicator of SPY's upward and downward movements. I calculate the SPY-USEI correlation coefficient as 0.75 over this period (Figure 2).

Immediately before and immediately after the dawn of the Age of QE3+, this same statistic quantified an observable positive correlation between the stock market and the economy that was not only stable but also strong, with the SPY-USEI coefficient calculated as 0.75 each of the six months from July to December in 2012.

Figure 3: SPY And USEI Monthly Values, Oct 2012-Jun 2014

(click to enlarge)

Note: The SPY adjusted monthly closing-price scale is on the left, and the USEI monthly value scale is on the right.

Source: This J.J.'s Risky Business chart is based on proprietary analyses of ISM data and Yahoo Finance adjusted monthly closing-price information.

During the past 21 months (i.e., after the beginning of the Fed's Age of QE3+), there was a breakdown in the SPY-USEI relationship, indicating a disruption in the continuous feedback loop between the equity market and the economy, a rupture first observable around January of last year.

I calculate the SPY-USEI correlation coefficient as 0.03 over this period (Figure 3). The comparable numbers were -0.07 a month ago, -0.22 two months ago and -0.30 three months ago. Collectively, these statistics therefore suggest progress in the move toward normality and away from abnormality in the SPY-USEI relationship.

And the divergence between SPY and the USEI observed in the data for June does not appear to have had an appreciable effect on this progress.

Figure 4: USEI Monthly Values, 2014 Versus 2010-2013 Mean

(click to enlarge)

Source: This J.J.'s Risky Business chart is based on proprietary analyses of ISM data.

The USEI was an underachiever to a significant degree in 2014's first quarter and an overachiever to a significant degree in the year's second quarter when compared with the relevant mean values compiled for the months between January and June during the first four years of the current expansion (Figure 4).

Figure 5: USEI Monthly Values, 2014 Versus 2010-2013 Median

(click to enlarge)

Source: This J.J.'s Risky Business chart is based on proprietary analyses of ISM data.

The USEI also was an underachiever to a significant degree in 2014's first quarter and an overachiever to a significant degree in the year's second quarter when compared with the relevant median values compiled for the months between January and June during the first four years of the current expansion (Figure 5).

Bearing in mind I designed the USEI not as an economic indicator but as an equity-market indicator (i.e., a weather vane to determine economic headwinds and tailwinds for the stock market), I believe its recent readings suggest U.S. gross domestic product moved to expansion in Q2 from contraction in Q1, a belief that will be put to the test when the U.S. Bureau of Economic Analysis delivers its first estimate of GDP for the quarter on July 30.

I also think the USEI's recent readings suggest the economic recovery associated with the godawful weather last winter is now complete.

Disclaimer: The opinions expressed herein by the author do not constitute an investment recommendation, and they are unsuitable for employment in the making of investment decisions. The opinions expressed herein address only certain aspects of potential investment in any securities and cannot substitute for comprehensive investment analysis. The opinions expressed herein are based on an incomplete set of information, illustrative in nature, and limited in scope. In addition, the opinions expressed herein reflect the author's best judgment as of the date of publication, and they are subject to change without notice.

Source: SPY And U.S. Economic Index Behaviors Diverge In June