THE ECRI LEADS TO OUTPERFORMANCE
The ECRI index might be worth paying more attention to. They recently reported a new high in their leading index and now proclaim that the recovery train has left the station and has “unstoppable” momentum. Well, a new development from ECRI gives some credence to the indicator. A recent article at The Street.com details an investing strategy using the ECRI data:
good leading indices are designed to flag recessions and recoveries before they arrive. Not all leading indices are created equally, but the best can help avert much of the damage that recessions wreak on stock portfolios. The Economic Cycle Research Institute’s leading indices are a case in point.
In mid-September 2000, for the first time in nearly a decade, ECRI warned publicly of a coming recession. (The column is at the right side of the page in the link above.) Then, in early February 2002, it made its economic recovery call. Six years later, in March 2008, ECRI announced that the economy was in recession — a call that remained in force until April 2009, when it predicted a recovery this summer.
Mind you, these weren’t stock-market calls, which ECRI doesn’t make. (Full disclosure: On March 19, 2009, ECRI sent its clients what Grant’s Interest Rate Observer described as a “table-pounding” missive: In Jim Grant’s words, “The implication could not have been clearer that a market rally, when it started, would be no sucker’s affair but the real McCoy.”)But it’s still worth examining what would have happened to the value of a stock portfolio over the course of the past two recessions and recoveries if an investor had simply sold stocks on the day ECRI publicly predicted a recession and bought back stocks on the day ECRI publicly predicted an economic recovery. It’s instructive to compare this to a long-term buy-and-hold strategy for the S&P 500.
The results are compelling. If you had started with $100 in stocks on the day in September 2000 when ECRI publicly warned of recession and followed the standard buy-and-hold strategy, those stocks would have been worth just $72 nine years later, at the end of September 2009.
Alternatively, suppose you had sold all your stocks on that very day in September 2000 and put the cash under your mattress until the day in early 2002 when ECRI announced a recovery, at which point you used all of that money to buy stocks. Then, suppose you once again sold all your stocks on the day in March 2008 that ECRI made its next recession call, and used all of that money to buy stocks on the day ECRI made its 2009 recovery call.
Following that simple buy-low, sell-high strategy, your stocks would be worth $148 at the end of September 2009 — more than double what a buy-and-hold strategy would have given you. You can do the math — over the nine-year period, you would have beaten the buy-and-hold returns by more than 8 percentage points a year, on average, and even more if you had put your cash in money market funds instead of your mattress.
This indicator is certainly worth keeping an eye on and we’ll be sure to keep reporting any changes should they occur.
In my view, the leading indicators index of ECRI, the Fed, and other sources can be dangerous. They place large emphasis on the effects of monetary stimulus and stock performance. These are powerful when the economy has a lot of room to increase its debt load, and in boosting asset prices that have fallen to or below fair value.
However, M2 has been shrinking for the past couple months, due to private sector develeraging exceeding government loose monetary policies. The question is whether the fed will continue to pull back on monetary stimulus. Congress does not appear to have much appetite for more bailouts. And the Fed is under fire from Congress due to proposals to strip it of its regulatory powers and to subject it to GAO audits and to shift power from the NY Fed to other member banks, like Kansas city.
In these circumstances, using leading indicators to predict stock or economic performance may be like driving using the rear view mirror. Monetary policy has a lagging effect and the Fed’s stimulus in 2008 kicked in for the big rally in risk assets since march 2009. The Fed’s balance sheet has not expanded significantly in the past year, so it may not make as much sense to place a lot of evidence on leading indicators.
The gross private investment will set the tone for revovery P2,predicated upon a better order in the financial world,still far out reach.
http://research.stlouisfed.org/recession/8countries.pdf
Check this out– Puts the question to ECRI
http://globaleconomicanalysis.blogspot.com/2009/10/can-we-really-trust-leading-economic.html
Backteating an indicator and actually implementing it are two different things.
This index also forecasted the 1998 Japanese downturn. Maybe I underestimated this indicator but I am still skeptic about it.
It is said that the WLI is forecasting economic conditions approximately six months in the future.ECRI´s WLI is based on S&P 500, M2, JOC-ECRI industrial materials price index, initial unemployment insurance claims, mortgage applications, bond quality spread and 10-year Treasury bond yield. Like you, I can also find many reasons why this index is rising based on it´s components but I can also find many skeptical things why it´s components is improving and why it doesn´t reflex the real market. Do someone have any idea how these components are mixed to get the index?
To start with you can examined if WLI does lead the stock market, or vice versa?
http://www.cxoadvisory.com/blog/internal/blog4-09-09/
The Finn,
Thanks for the analysis, it appears that it may have usefulness as a confirming/nonconfirming indicator to the market to identify long term, not short term, market direction changes. We’ll see how it behaves when or if we ever get a significant correction ;>
AWF,
I respect Mish a lot, but listening to his economic analysis would have probably influenced you to miss a great portion of the recent 70% ‘fake’ rally.
Van said:
I respect Mish a lot, but listening to his economic analysis would have probably influenced you to miss a great portion of the recent 70% ‘fake’ rally.
Van: I’m influenced by my own hard data and my eyeballs
I have missed the last 100 points on the S&P 500.
Silly Me–I’m on the bench
The point of his or should I say Puplava analysis is that
“Bubbles Ben’s ” helicopter money is the driver of this stockmarket rally.
Of course: everyday people are influenced by the “Crank it Up” market reports and brokerage recommendations –the positive bias.
When there is “Real” growth–that will be something–someday
It is always possible that the ECRI is correct. But if it is, it doesn’t jive with what I am seeing happening in the economy in my community. If we are on the brink of great growth, where is it going to come from? The U.S. has too much debt and unemployment to lead a consumption-driven recovery. The idea that the Chinese are going to start real consumer-driven consumption spending (rather than their Potemkin-village style government-mandated spending they have been doing) at this time is also ludicrous. Your average Chinese citizen makes a pittance compared to what we make, and they are losing their jobs too.
On the other hand, it could be that the ECRI is responding to data that is currently behaving in strange ways because of the massive liquidity out there. The monetary aggregates, the stock market, oil prices, and other commodity prices, for instance, have been kept unreasonably high by the massive injections of liquidity and the fear of inflation that we have seen. Spending on cars and homes has been severely distorted by government spending. Hopefully the ECRI is correct, but it seems much more likely that it is being distorted by the massive government intervention we are seeing all over the world.
By the way, if you had followed their call in early February 2002 you would have seen the stock market go down by something like 25% afterwards, before it turned up again.
http://globaleconomicanalysis.blogspot.com/2009/10/look-at-ecris-recession-predicting.html