Assessing How The Economy Is Doing

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by: Donald Lingerfelt
Summary

I updated my Co-Incident Recession Indicator recently.

It shows that our Economy has deteriorated in the last few months.

I broke down my indicator and show how each component is doing.

We are still not in recession, but things are not as good as we might think. The Yield curve is also problematic.

Yesterday, when I updated my Co-Incident Recession Indicator, I was surprised at the newest level of recession it indicated. A few months ago, the recession indicator was far from showing an imminent recession. (See my article from March 13, Are We Going Into Recession Soon?). The latest reading is not as good. The indicator has fallen almost to the point of showing that we are dangerously close to recession, despite an improvement last month.

Data: FRED website

My indicator is comprised of the S&P 500 index, the Non-Farm Payrolls, Durable Good Personal Consumption, Industrial Production, New One Family Houses for Sale, and Personal Income per Capita, all year over year. All data is recorded on a monthly basis and this indicator is not too complicated for anyone to work out for themselves. It is not as complicated as many other similar indicators, but captures the most cyclical aspects of the economy and gives a fairly good indication of how it is doing.

Since my last report of this indicator, several changes have occurred. The S&P has continued to rally as have the Non-Farm Payrolls, Personal Consumption Expenditures, and Industrial Production numbers. However, the New One Family Houses for Sale has declined and the Personal Income per Capita, while rising, has declined year over year.

From the graph, you can see that the indicator line came very close to the horizontal Recession line at about 5.8 and bounced off. A close call by any judgment. I was very surprised by this as Unemployment numbers are at a 50-year low. Usually, Employment is the primary indicator of economic health. The Austrians consider employment the most important indicator of recession, the others being of secondary importance. The best book on the Austrian Theory of the Business Cycle is Rothbard's America's Great Depression, though by far not the only good explanation of it. The article I wrote on the business cycle can be found on my website at List of Portfolios and Standards.

The charts below show each individual component of my indicator in a year over year version. One can see the trends that each one shows and why the composite indicator shows what it does.

Data: Federal Reserve of St. Louis - Fred database

Data: Federal Reserve of St. Louis - Fred database

Data: Federal Reserve of St. Louis - Fred database

Data: Federal Reserve of St. Louis - Fred database

Data: Federal Reserve of St. Louis - Fred database

Going back to January 1980, whenever the indicator line crossed the horizontal line in the chart, there has been a recession. Currently, we are not in one based on this indicator, but we came very close. In my opinion, we are approaching an unstable economic environment. I think that the current decline in the market is due to fundamental problems in the economy, rather than any problems associated with our trade negotiations with China. The China news is a cover-up by the news media. When I attended Commodity Futures and Options Magazine's Commodity Futures and Options School in Chicago in 1987, the Technical Analysis Instructor told the students that whatever the media said was the cause of a move in the market, wasn't. I have found that to be true.

The lesson of this analysis is that we need to be cautious and highly selective about our investments for a while. We are not on the verge of a recession at the moment, but things need to become more stable before we can resume our Bull Market attitude. Currently, the Yield Curve is also problematic, as the 90-day 10-year ratio is only .02 positive. This ratio, as you probably know, crossed below zero not too long ago, indicating a recession next year. This is one of the best leading indicators we have. The charts below show the current condition.

Data: U.S. Department of Treasury

Data: Barron's

The Fed has continued to pressure interest rates upward to the upper end of the range by selling bonds on the open market and, recently, rates at the lower end have declined. This pressure tends to widen the yield curve, giving investors some hope that a recession will not be realized after all. It remains to be seen if this effort will succeed. In any case, though rising rates are an impediment to the stock market, they are very good for the economy.

Real Interest rates are now at 1.38%, giving some relief to those on fixed incomes. They had been below 0% since 2008 in response to that recession. This situation is also very good for the economy, as malinvestment of resources is disincentivized somewhat.

Conclusion:

We are still not in a recession. However, we must be cautious for the time being for two reasons: the economy has not been doing as well as we might think because the economic fundamentals are borderline, and the market seems to have changed direction. When this correction exhausts itself, then we can resume our normal approaches.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.