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On Friday, October 26, 2012, the Economic Cycle Research Institute (ECRI), a New York-based independent forecasting group, released its latest readings for its proprietary Weekly Leading Index (WLI). In the latest release, ECRI's WLI rose and its growth rate fell.

Despite the trend of higher WLI and today's release from the U.S. Bureau of Economic Analysis (BEA) saying Q3 GDP rose to 2.0% from 1.3% in Q2, ECRI's website continues to say we are in a recession, "Nine months ago we knew that, sitting here today, most people probably would not realize that we are in recession - and we do believe we are in recession."

For the week ending October 19, 2012:

  1. WLI rose to 126.8, up from the prior week's reading of 126.6.
  2. The lowest reading for WLI on record was 105.3 for the week ending March 6, 2009.
  3. WLI growth fell to positive 6.0%, up from last week's reading of positive 6.1%.
  4. The lowest reading for WLI growth on record was negative 29.9% on Dec. 5, 2008. It turned higher months before the stock market bottomed on March 6, 2009, at 666.79.
  5. Occasionally the WLI level and growth rate can move in different directions, because the latter is derived from a four-week moving average.

Chart 1 (Click to enlarge)

Annual WLI growth: Based on a simple, year-over-year annualized basis, annual WLI growth is 4.8%.

The next chart below shows ECRI's reported WLI growth rate, which is derived from a four-week moving average.

Chart 2 (Click to enlarge)

Chart 3 Showing SPY Adjusted for Reinvested Dividends. (Click to enlarge)

WLI peaked at 127.6 for the week ending October 5, 2012. It is no surprise that SPY was $146.14 on October 5th and today it is lower.

Does SPY Lead WLI or Does WLI Lead SPY?

Since ECRI releases WLI numbers for the prior week, and the stock market is known in real time, you can sometimes get a clue for next week's WLI from the weekly change in the S&P 500 or its exchange-traded fund, SPY. But this is not always the case. Specifically, in the lead up to the last two recessions, the WLI turned down months before the stock market did.

Is WLI predicting lower prices for SPY in the weeks ahead?

Chart 4: S&P 500 vs. ECRI's WLI (Click to enlarge)
(Note, I would plot SPY vs. WLI, but I don't have the data in my spreadsheet going back as far since I only started trading SPY in early 2007.)

Over the next 10 years, I expect the S&P 500 will keep up with inflation and the dividend it pays should grow with or even exceed inflation. An added benefit to owning equities is that the dividends and capital gains currently get favorable tax treatment. Finally, Treasury rates are artificially low (see Current U.S. Treasury Rates at a Glance) giving all bond funds significant interest rate risk.

I was asked in my Facebook group, "Investing for the Long Term," why I own SPY: "I'm confused; if the ECRI is projecting a recession, why are you long SPY? Is it a market timing strategy?" My answer was:

I don't believe in "all or nothing" market timing. I explain it more in my newsletter, but I'll adjust my allocation to stocks based on many things including ECRI's outlook. My last two moves for SPY was to sell SOME shares earlier this year when higher and buy them back on June 4, 2012 at $127.50 using "Auto Buy and Sell targets" in my monthly newsletter. Hope that helps. (Seeking Alpha requires its writers to disclose if we hold a position. Thus, I would report I was long SPY even if SPY was only 1% of the portfolio with the other 99% in cash.)

What Does The Future Hold?

At the time of this writing, the S&P 500 is down 1.9% for the week with SPY at $141.34 so this will help WLI move lower next week.

With ECRI's WLI growth now positive and moving higher for two consecutive weeks, will ECRI call for an upturn in the business cycle without their predicted recession occurring?

Given that deficit spending is adding significantly to GDP, see my Seeking Alpha article "U.S. Borrowed 31 Cents Of Each $1 Spent In Fiscal 2012: Final Deficit Is $1.1 Trillion." I won't hold it against ECRI if we do not get an "official recession."

Notes

  1. Occasionally, the WLI level and growth rate can move in different directions because the latter is derived from a four-week moving average.
  2. ECRI uses the WLI level and WLI growth rate to help predict turns in the business cycle and growth rate cycle, respectively. Those target cycles are not the same as GDP level or growth, but rather a set of coincident indicators (including production, employment income and sales) that make up the coincident index. Based on two additional decades of data not available to the general public, there are a couple of occasions (in 1951 and 1966) when WLI growth fell well below negative 10, but no recessions resulted (although there were clear growth slowdowns).
  3. For a better understanding of ECRI's indicators, read its book, "Beating the Business Cycle."
  4. SPY is the exchange traded fund for the S&P 500 Index.
  5. VTI is Vanguard's "Total Stock Market" exchange traded fund.
  6. VOO is Vanguard's new exchange traded fund that tracks the S&P 500 Index. It is a lower cost alternative to SPY. I own and write about SPY, as I have many years of data for it, but VOO could do slightly better than SPY over time because it has a lower expense ratio.

Disclosure: I am long SPY and own the traditional index fund versions of VTI and VOO bought long ago in various taxable and tax deferred accounts. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Source: GDP Rises To 2% And ECRI WLI Growth Positive, But ECRI Still With Recession Call