Economic Indicators

The U.S. economy is a very complex system, with indicators therefore ambiguous and difficult to interpret. To what degree do macroeconomics and the stock market go hand-in-hand, if at all? Do investors/traders: (1) react to economic readings; (2) anticipate them; or, (3) just muddle along, mostly fooled by randomness? These blog entries address relationships between economic indicators and the stock market.

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Commercial and Industrial Credit as a Stock Market Driver

Does commercial and industrial (C&I) credit fuel business growth and thereby drive the stock market? To investigate, we relate changes in credit standards from the Federal Reserve Board’s quarterly Senior Loan Officer Opinion Survey on Bank Lending Practices to future U.S. stock market returns. Presumably, loosening (tightening) of credit standards is good (bad) for stocks. The Federal Reserve publishes survey results about the end of the first month of each quarter (January, April, July and October). Using the “Net Percentage of Domestic Respondents Tightening Standards for C&I Loans” from the Senior Loan Officer Opinion Survey on Bank Lending Practices Chart Data for the second quarter of 1990 through the fourth quarter of 2015 (104 surveys), and contemporaneous S&P 500 Index quarterly returns, we find that: Keep Reading

Inflation Forecast Update

The Inflation Forecast now incorporates actual total and core Consumer Price Index (CPI) data for October 2015. The actual total (core) inflation rate for October is higher than (slightly higher than) forecasted.

Gold a Consistent Dynamic Inflation Hedge?

Is gold a consistent hedge against inflation? In their October 2015 preliminary paper entitled “Is Gold a Hedge Against Inflation? A Wavelet Time-Frequency Perspective”, Thomas Conlon, Brian Lucey and Gazi Salah Uddin examine the inflation-hedging properties of gold over an extended period at different measurement frequencies (investment horizons) in four economies (U.S., UK, Switzerland and Japan). They consider both realized and unexpected inflation. They also test the inflation-hedging ability of gold futures and gold stocks. Using monthly consumer price indexes (not seasonally adjusted) for the four countries and monthly returns for spot gold (bullion) in the four associated currencies since January 1968, monthly survey-based U.S. inflation expectations since January 1978, and monthly returns on the Philadelphia Gold and Silver Index (XAU) as a proxy for gold stocks since January 1984, all through December 2014, they find that: Keep Reading

Federal Reserve Economic Influence and Asset Returns

Does the level, or changes in the level, of Federal Reserve (Fed) participation in the U.S. economy affect stock and bond market returns? To investigate, we consider the annual Fed assets-to-Gross Domestic Product (GDP) ratio and the monthly Fed holdings of U.S. Treasuries as indications of the degree to which the Fed influences the U.S. economy. We use the S&P 500 Index as a long-term proxy for the U.S. stock markets. We use dividend-adjusted SPDR S&P 500 (SPY) and iShares Barclays 20+ Year Treasury Bond (TLT) as short-term tradable proxies for the U.S. stock and bond markets, respectively. Using annual (year-end) Fed assets-to-GDP ratio and S&P 500 Index as available during 1950 through 2014, and monthly Fed holdings of Treasuries, SPY and TLT during January 2003 through September 2015, we find that: Keep Reading

Public Debt, Inflation and the Stock Market

When the U.S. government runs substantial deficits, some experts proclaim the dollar’s inevitable inflationary debasement and bad times for stocks. Other experts say that deficits are no cause for alarm, because government spending stimulates the economy, and the country can bear more debt. Who is right? Using annual (end of fiscal year) level of the U.S. public debtinterest expense on the debtU.S. Gross Domestic Product (GDP)Dow Jones Industrial Average (DJIA) return and inflation rate data over the period June 1929 through September 2015 (about 86 years), we find that: Keep Reading

Federal Deficit and Stock Returns

Does the level of, or change in, the annual U.S. federal deficit systematically influence stock market returns, perhaps by stimulating consumption and thereby lifting corporate earnings (bullish) or by igniting inflation and thereby elevating discount rates (bearish)? To check, we relate stock market returns to the surplus/deficit (receipts minus outlays) as a percentage of Gross Domestic Product (GDP). We align stock returns with deficit calculations (federal fiscal years) as follows: (1) prior to 1977, we calculate annual returns from July through June; (2) we ignore the July 1976 through September 1976 transition quarter; and, (3) since 1977, we calculate annual returns from October through September. Using surplus/deficit data and returns for the Dow Jones Industrial Average (DJIA) during federal fiscal years 1930-2015 (83 years), plus deficit projections through 2020, we find that: Keep Reading

Personal Consumption Expenditures and the Stock Market

A reader, citing the book Ahead of the Curve by Joseph Ellis, inquired about the hypothesis that consumer spending drives economic cycles and is therefore a leading indicator for the stock market. For example, Mr. Ellis presents a chart showing annual change in Personal Consumption Expenditures (PCE) and annual change in S&P 500 operating earnings based on quarterly data. The chart also shows bear markets for U.S. stocks. The chart discussion states: “Most bear markets begin…when the Y/Y [year-over-year] rate of growth in consumer spending is peaking… Most bear markets then proceed as (the rate of growth in) consumer spending continues to slow, and are largely over by the time recessions…are under way. Importantly, most bear markets end…when consumer spending and S&P 500 profits are at, or even prior to, their worst Y/Y comparisons.” Does PCE usefully predict stock market behavior? The Bureau of Economic Analysis (BEA) releases seasonally adjusted, annualized total PCE monthly with a lag of about one month (Summary Table 2.85, Line 1: “Personal Income and Its Disposition, Monthly”). Using this series and monthly S&P 500 Index levels for January 1959 through August 2015 (680 months), we find that…

Keep Reading

Economic Policy Uncertainty and the Stock Market

Does measurable uncertainty in government economic policy reliably predict stock market returns? To investigate, we consider the U.S. Economic Policy Uncertainty (EPU) Index, introduced by Scott Baker, Nicholas Bloom and Steven Davis and constructed from three components: (1) coverage of policy-related economic uncertainty by prominent newspapers: (2) the number of temporary federal tax code provisions set to expire in future years; and, (3) the level of disagreement in one-year forecasts among participants in the Federal Reserve Bank of Philadelphia’s Survey of Professional Forecasters for (a) the consumer price index (CPI) and (b) purchasing of goods and services by federal, state and local governments. They first normalize each component by its own standard deviation prior to January 2012. They then compute a weighted average of components, assigning a weight of one half to news coverage and one sixth each to tax code uncertainty, CPI forecast disagreement and government purchasing forecast disagreement. They update the EPU index monthly with a delay of about one month, including revisions to recent months. Using monthly levels of the EPU Index and the S&P 500 Index during January 1985 through August 2015, we find that: Keep Reading

Consumer Credit and Stock Returns

Does expansion (contraction) of consumer credit indicate growing (shrinking) corporate sales, earnings and ultimately stock prices? The Federal Reserve collects and publishes U.S. consumer credit data on a monthly basis with a delay of about five weeks. Using monthly seasonally adjusted total U.S. consumer credit for January 1943 through July 2015 and monthly Dow Jones Industrial Average (DJIA) closes for January 1943 through August 2015 (871-872 months), we find that: Keep Reading

Stock Market Capitalization/GNP as Crash Predictor

Does the ratio of aggregate U.S. stock market valuation (MV) to U.S. Gross National Product (GNP) or Gross Domestic Product (GDP), the approximate value of goods and services produced by U.S. companies, reliably indicate stock market overvaluation? In their July 2015 paper entitled “Can Warren Buffett Also Predict Equity Market Downturns?”, Sebastien Lleo and William Ziemba investigate whether MV/GNP accurately predicts peak-to-trough declines of more than 10% in daily closes of the S&P 500 Total Return Index within a year. They consider: (1) a simple static model based on a 120% overvaluation threshold; and, (2) two dynamic statistical confidence models based on mean and standard deviation during a four-quarter rolling historical window. They consider both MV/GNP and the logarithm of MV/GNP (relating variable changes) as predictive variables. Using quarterly, seasonally-adjusted GNP and Wilshire 5000 Full Capitalization Price Index level as a proxy for MV (the limiting series) and daily level of the S&P 500 Total Return Index from the fourth quarter of 1970 through the first quarter of 2015 (177 quarters), they find that: Keep Reading

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