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The latest smoothed annualized growth rate of the ECRI Weekly Leading Indicator in the week ended 22 January improved from -7.6% to -6.5% published last week – the 23rd consecutive week of contraction since August last year.
Sources: Dismal Scientist; Plexus Asset Management. But where is it heading? In previous articles I argued that the smoothed annualized growth rate of the WLI bottomed at -10.1% (officially adjusted from 10.2%) in the week ended October 23 last year. In light of the significant movements in investment markets over the past week, I had a look at what growth rate can be expected of this important number that will be published at the end of this week for the period ended last Friday. To get to my forecast I use different variables that seem to explain the growth in the ECRI WLI fairly accurately. (Please note that I do not have knowledge of the proprietary ECRI WLI constituents and simulate the Index using my own research.) The smoothed annualized growth rate of S&P 500 Index remains my best indicator of the ECRI WLI growth rate.
Sources: Dismal Scientist; I-Net Bridge; Plexus Asset Management. The contraction in the S&P 500‘s smoothed annualized growth rate ended in the second week of January after contracting for 22 weeks in a row. Over the past week the growth accelerated to 2.9% from 0.4% a week ago. It is evident that the improved growth rate of the S&P 500 is likely to have exerted upward pressure on the smoothed annualized growth rate of the WLI over the past week.
Sources: Dismal Scientist; I-Net Bridge; Plexus Asset Management. The contraction in the smoothed annualized growth rate of the yield on the U.S. 10-year Government bond index recorded its 34th week of contraction and remains close to its worst levels since January 2008.at -65%. It is unlikely that U.S. bond exerted downside pressure on the WLI growth last week.
Sources: Dismal Scientist; I-Net Bridge; Plexus Asset Management. Last week also marked the 24th consecutive week of declines in the smoothed growth rate of the Economist Metal Price Index. After slumping to -35% at the end of December last year the rate of contraction eased to -22.4%. This easing probably eased the contraction in the growth rate of the WLI last week.
Sources: Dismal Scientist; I-Net Bridge; Plexus Asset Management.
Sources: Dismal Scientist; Plexus Asset Management. Another indicator that I value is the growth rate of initial jobless claims. Contrary to other factors that forced the contraction in the growth rate of the WLI over the past 25 weeks plus, the growth rate of jobless claims indicates contraction for 35 consecutive weeks. Assuming that jobless claims were unchanged from the previous week’s 377 000 the growth rate declined to ‑14.4% from -15.1%. Initial jobless claims needed to fall to 365 000 to continue to exhibit a faster decline in growth.
Sources: Dismal Scientist; I-Net Bridge; Plexus Asset Management. I have also identified another factor that may have a major bearing on the WLI. The smoothed annualized growth rate of the yield spread between the 30-year government bond and Moody’s Baa Corporate Bond is highly correlated to the growth rate of the WLI smoothed annualized growth rate. (Please note the reverse order of the axis of the WLI in the graph below.)
Sources: Dismal Scientist; FRED; Plexus Asset Management. Last week the yield spread entered its 24th consecutive week of positive growth but eased to 38.9% from 42.5% the previous week and is significantly below the 61.2% level reached in the first week of December last year. The lower growth rate of the yield spread is likely to alleviate further downside pressure on the WLI growth rate last week.
Sources: Dismal Scientist; FRED; Plexus Asset Management. Another factor that some columnists advocate may influence the WLI is the MBA Mortgage Application Survey Purchase Index. Although there is some quantitative evidence the correlation between the smoothed annualized growth rate of the Purchase Index and the WLI, it is not very helpful in forecasting the WLI, though.
Sources: Dismal Scientist; Plexus Asset Management. M2 money supply growth is also cited as an important factor in the WLI. To my mind the Fed’s intervention since 2008 makes it an unreliable factor in forecasting the growth rate of the WLI. On balance, I therefore expect last week’s smoothed annualized growth rate of the ECRI WLI (to be published on Friday) will have eased significantly to approximately -4.5% from -6.5% the previous week. I think the easing of the contraction in the smoothed annualized growth rate of the WLI is set to continue in coming weeks, supported by further growth in especially the S&P 500, further easing in the contraction in growth in metal prices and a further contraction in growth in initial jobless claims. The Fed’s TWIST program may depress the WLI and the growth thereof due to artificial low long bond rates. A very interesting aspect came to the fore when I delved into other factors that might influence the WLI. The smoothed annualized growth rate of the U.S. dollar/euro exchange rate tracks the WLI growth rate. In fact, it tends to lead the WLI at major bottoms.
Sources: Dismal Scientist; Plexus Asset Management. More on this topic (What's this?) East Coast Asset Management's Q4 Letter: Embracing Uncertainty (market folly, 1/26/12) ECRI WLI: Is the Rot Over? (GreenLightAdvisor Views, 10/26/11) Deutsche Bank Executives Decides to Choose Asset Management Sale (ValueWalk.com, 1/12/12)
Stephen Roach, non-executive chairman of Morgan Stanley Asia, discusses the U.S. economy, Federal Reserve monetary policy, China’s economic strategy and the prospects for Europe. He talks with Bloomberg’s Tom Keene at the World Economic Forum in Davos, Switzerland. Source: Bloomberg, January 26, 2012. 
The article below is a guest contribution by Cees Bruggemans, Chief Economist of First National Bank. Last week, the Euro area Purchasing Managers Index (PMI) rose for the second month in a row, topping out above 50, surprising market analysts who had expected 48. It suggests no EU recession, or at least the possibility of already moving on, bolstered by late last year’s French output data and also this week by German IFO business confidence data (all perking up). Yet on the very day of the PMI release the IMF released with the usual fanfare its latest world outlook, heavily revising down its global growth forecast from 4% to 3.3% with dire words for Europe. This greatly added to the creative tension bearing down on that unhappy continent, with the IMF, as so many others, presumably inspired by the thought “why waste a good crisis?” As usual, though, the IMF was six months late where events are concerned. This doesn’t mean to say Europe is out of the woods. But the pain is mainly on the plain in Spain and other peripherals. The core EU may have slowed but is not necessarily sinking. As the latter carry the greater weight in the overall picture, it decides the overall colour scheme in the Eurozone. So while Europe is bad, it is a tad premature for funerals. Three articles in recent weeks drew attention, by former Fed Vice Chairman Alan Blinder, Bank of Greece Governor George Provopoulos and Portugal’s Carlos Moedas (secretary of state to the prime minister), each in turn emphasising just how very complex and challenging the European makeover is and will be and choices on offer. In considering this, one should also keep in mind Italian prime minister Monti’s earlier reform announcements, and Spanish prime minister Rajoy’s intentions. The communality and interchangeability between is something to behold. —————————— George Provopoulos, Governor of the Central Bank of Greece, highlighted a few home truths last week for those perhaps ignorant of what his country is going through and will still face. It makes for shocking reading. But also, perhaps surprisingly, it makes for possible redemption and not via Euro exits either. Greece is now in its fifth year of economic contraction, unemployment is surging, fiscal and current account deficits remain large and Greek borrowers are shut out of financial markets. This is far worse than envisaged under the May 2010 adjustment programme. As Greece negotiates yet another adjustment programme, why did the first one go off track? Firstly, implementation was slow and inefficient. Secondly, fiscal consolidation based on spending cuts lead to a smaller economic contraction than ones based on tax increases. Yet Greek measures depended for 60% on tax increases and for 40% on spending cuts. This mix reduced the incentive of businesses to invest by reducing after-tax returns on investments. Temporary tax increases still hold the economy back by creating policy unpredictability. Tax increases also reduced after-tax income, restraining consumption. Government spending remained over 50% of GDP, reducing scope for private investment to boost exports and import-competitive goods and generate growth. Worse, government scaled back public infrastructure investment most sharply, yet it is the key contributor to the country’s future economic growth. Thirdly, the scale of fiscal cutbacks was large because of the size of the initial budget deficits. Such cutbacks were never going to be easy. Still, they were almost twice as large for Greek households in 2011 as for those in Ireland and more than twice those in Portugal. Indeed, difficulties in implementing structural reforms, privatisation and measures to improve efficiency of tax collection exacerbated unavoidable pain. As a consequence these fiscal cutbacks led to a greater economic contraction than expected as not all interconnected parts of the programme were in place. Fourthly, Greece has experienced a much bigger negative fiscal multiplier than other peripherals. Greece has undergone a larger fiscal cutback than Ireland or Portugal, but relative to the size of the cutbacks the economy has contracted more, as Greece is a relatively closed economy (any decline in demand hitting domestically produced goods more than imports). This decline in demand for domestic production affects output more than if the economy were more open (with a greater share of imports in final demand). Together these factors have produced a cycle of pessimism, cuts in private spending and negative growth. Continue reading European choices More on this topic (What's this?) European Commission Vice President Wants to Throw Greece “Overboard” (Wall Street Daily, 2/7/12) Europe’s Crisis Hits the “Real Economy” (Wall Street Daily, 2/3/12) Why Silver Prices Are Dropping So Fast (Learn Mining News, 12/14/11)
John Authers, FT’s Long View columnist, and Martin Wolf, FT’s chief economics commentator, on whether Mario Monti and Mario Draghi can save the eurozone. Click here or on the image below to watch the video.
Source: John Authers, Financial Times, January 20, 2012.
This post is a guest contribution by Chetan Ahya, Derrick Kam and Jenny Zheng of of Morgan Stanley. Backdrop: Have Both Nations Been Living on Borrowed Growth for Too Long? Following the credit crisis, both China and India relied on aggressive tactical measures to revive growth quickly. Given the pace at which the external environment was deteriorating then, policy-makers in both China and India had to act quickly and decisively to boost domestic demand. • Specifically, in China, the key driver of domestic demand was an aggressive credit expansion – close to a 30pp rise in the ratio of bank loans to GDP (excluding non-bank loan lending by banks), in addition to some support from the expansion in the government’s budget deficit. Bank loans to GDP has been maintained at these high levels of close to 130% until recently. • In India, the biggest driver was the doubling of the national fiscal deficit – from 4.8% of GDP in the year ending March 2008 to 10% in the year ending March 2009. By our estimates, the national deficit is likely to be 9.2% for the year ended March 2012 – implying that the government has now maintained this expansionary fiscal policy for four years in a row. China’s Fetish for Investment, India’s for Consumption As growth began to slip immediately after the credit crisis, China focused on supporting investment with the large rise in the ratio of bank loans to GDP. India focused on supporting strong consumption (particularly rural consumption) growth with its major fiscal stimulus. These stimulus measures were largely instrumental in helping China and India to recover quickly from the global recession. Indeed, this counter-cyclical response – a rise in bank loans in China and fiscal expansion in India, respectively – had also been employed during the 2001 US recession and global growth slowdown. Macro Stability Risks – Only Symptoms of Low Productivity Dynamic The stimulus measures helped to boost growth quickly – but they also brought macro stability risks. A major rise in property prices, inflation pressures and banking sector asset quality issues – symptoms which surfaced in China and India over the course of 2010-11 – are only a reflection of the low productivity dynamic of growth driven by tactical stimulus, in our view. We believe that the aggressive policy stimulus was not based on what was truly needed for achieving a sustained growth trend in these countries. Rather, the stimulus measures were based on what both governments could do best in that short period in response to the sudden growth shock on account of the credit crisis. Given the sharp and rapid pace of the deterioration in growth conditions, we believe one can hardly question this move at the time the credit crisis was unfolding. However, persistent reliance on tactical measures for such a long period (September 2008 to late 2010) was at the heart of the emergence of these symptoms of macro stability risks. Continue reading China and India: Strategies for sustainable growth More on this topic (What's this?) Don’t Fall for This China Head Fake (Wall Street Daily, 1/25/12) Scary: Why China is Buying Gold Like Mad (Learn Mining News, 1/30/12) Chinese Gold Demand is Increasing (Learn Mining News, 2/9/12)  By Prieur du Plessis, on January 18th, 2012 posted in: Economy, Investment, US  2 people had their say - chime in!
When reporting on the unfolding of the credit crisis I often referred to the Barron’s Confidence Index. This Index is calculated by dividing the average yield on high-grade bonds by the average yield on intermediate-grade bonds. The difference between the yields is indicative of investor confidence. A rising ratio indicates bond investors are growing more confident, in other words preferring more speculative bonds over high-grade bonds. On the other hand, a declining ratio indicates investors are demanding a lower premium in yield for increased risk. That shows a waning confidence in the economy. Since hitting an all-time low in December 2008, the Index was almost back to pre-crisis levels in January this year as investors grew increasingly confident. But that was when investors started focusing on sovereigns that were starting to get into trouble. Since the start of 2011 the Index has given up more than 40% of its gains. This puts us back at levels experienced during mid-2008 – just prior to confidence falling off a cliff. Based purely on this chart, one has to conclude that confidence remains fragile.
Source: Barron’s More on this topic (What's this?) The Secrets of Bond Investing (Investment U, 2/7/12) An Important Sell Signal (Comments for thetechnicaltake, 1/29/12) Bonds – Difficult Buy These Days (Intelligent Speculator, 2/8/12) |
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ECRI Leading Indicator: Turning for the better?
Roach on U.S. economy, Fed policy, China, Europe
Prieur’s Readings (Jan 30, 2012)
European choices
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