Objective research to aid investing decisions

Value Investing Strategy (Strategy Overview)

Allocations for January 2022 (Final)
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Momentum Investing Strategy (Strategy Overview)

Allocations for January 2022 (Final)
1st ETF 2nd ETF 3rd ETF

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.

Labor Force Participation Rate and Stock Market Returns

Does the labor force participation rate, measured monthly by the U.S. Bureau of Labor Statistics along with employment and unemployment rate, predict U.S. stock market returns? An increasing (decreasing) participation rate may may indicate strong (weak) employment demand and therefore a strong (weak) economy. To investigate, we relate participation rate to performance of the S&P 500 Index as a proxy for the stock market. Using monthly participation rate and index level during January 1948 (limited by the former) through December 2021, we find that: Keep Reading

Inflation Forecast Update

The Inflation Forecast now incorporates actual total and core Consumer Price Index (CPI) data for December 2021. The actual total (core) inflation rate is higher than (higher than) forecasted.

Business Inventories and Stock Market Returns

Do monthly business inventories data, released with a lag of about 1.5 months, reliably predict U.S. stock market behavior? To investigate, we relate monthly change in business inventories to monthly S&P 500 Index return. Using survey-based monthly seasonally adjusted business inventories and the S&P 500 Index during January 1992 (limited by business inventories data) through November 2021, we find that: Keep Reading

FFR Actions, Stock Market Returns and Bond Yields

Do Federal Funds Rate (FFR) actions taken by the Federal Reserve open market operations committee reliably predict stock market and U.S. Treasuries yield reactions? To investigate, we use the S&P 500 Index as a proxy for the stock market and the yield for the 10-Year U.S. Constant Maturity Treasury note (T-note). We look at index returns and changes in T-note yield during the one and two months after FFR actions, separately for FFR increases and FFR decreases. Using data for the three series during January 1990 through late December 2021, we find that:

Keep Reading

Interest Rate Changes Exploitable for Sector Rotation?

A subscriber asked about a strategy that rotates among equity sectors according to changes in interests rate as set by Federal Reserve Bank monetary policy. To investigate, we consider the following nine sector Standard & Poor’s Depository Receipts (SPDR) exchange-traded funds (ETF):

Materials Select Sector SPDR (XLB)
Energy Select Sector SPDR (XLE)
Financial Select Sector SPDR (XLF)
Industrial Select Sector SPDR (XLI)
Technology Select Sector SPDR (XLK)
Consumer Staples Select Sector SPDR (XLP)
Utilities Select Sector SPDR (XLU)
Health Care Select Sector SPDR (XLV)
Consumer Discretionary Select SPDR (XLY)

We use monthly effective federal funds rate (EFFR) as the interest rate. We consider two EFFR-based variables: (1) monthly change in EFFR; and, (2) 3-month slope of EFFR for signal smoothing. For each variable and each sector ETF, we consider two tests: (1) correlation of the variable with ETF return each of the next three months; and, (2) average next-month ETF returns across ranked fifths (quintiles) of the EFFR variable. The first test looks for linear relationships, and the second test looks for non-linear relationships. Measurements are at month ends, with a 1-day delay for ETF return calculations to ensure availability of EFFR data. Using monthly levels of EFFR since September 1998 and dividend-adjusted monthly levels of the above sector ETFs and of SPDR S&P 500 (SPY) since December 1998 (limited by sector ETFs), all through November 2021, we find that: Keep Reading

Leading Economic Index Exploitable for Sector Rotation?

A subscriber asked about a strategy that rotates among equity sectors according to the Leading Economic Index (LEI), published monthly by the Conference Board (see “Leading Economic Index and the Stock Market”). To assess LEI usefulness for sector rotation, we consider the following nine sector Standard & Poor’s Depository Receipts (SPDR) exchange-traded funds (ETF):

Materials Select Sector SPDR (XLB)
Energy Select Sector SPDR (XLE)
Financial Select Sector SPDR (XLF)
Industrial Select Sector SPDR (XLI)
Technology Select Sector SPDR (XLK)
Consumer Staples Select Sector SPDR (XLP)
Utilities Select Sector SPDR (XLU)
Health Care Select Sector SPDR (XLV)
Consumer Discretionary Select SPDR (XLY)

We consider two LEI-based variables: (1) monthly change in LEI; and, (2) 3-month average change in LEI (average of current value, revised value for prior month and twice-revised value for two months ago) for signal smoothing. For each variable and each sector ETF, we consider two tests: (1) correlation of the variable with ETF return each of the next three months; and, (2) average next-month ETF returns across ranked fifths (quintiles) of the LEI variable. The first test looks for linear relationships, and the second test looks for non-linear relationships. Monthly measurements employ closes on LEI release dates, generally after the market open about three weeks after ends of calendar months reported. Using monthly changes in LEI from archived Conference Board press releases and contemporaneous dividend-adjusted daily levels of the above sector ETFs and of SPDR S&P 500 (SPY) from mid-July 2002 (limited by LEI press releases) through mid-November 2021 (233 monthly LEI observations), we find that: Keep Reading

Leading Economic Index and the Stock Market

The Conference Board “publishes leading, coincident, and lagging indexes designed to signal peaks and troughs in the business cycle for major economies around the world,” including the widely cited Leading Economic Index (LEI) for the U.S. Does the LEI predict stock market behavior? Using the as-released monthly change in LEI from archived Conference Board press releases and contemporaneous dividend-adjusted daily levels of SPDR S&P 500 (SPY) for June 2002 through November 2021 (233 monthly LEI observations), we find that: Keep Reading

Testing Wilshire 5000/GDP as Stock Market Predictor

Is the Buffett Indicator, the ratio of total U.S. stock market capitalization (proxied by Wilshire 5000 Total Market Full Cap, W5000) to U.S. Gross Domestic Product (GDP), a useful indicator of future U.S. stock market performance? W5000/GDP clearly has no stable average value over its available history (see the first chart below), so using the level of the ratio as a predictor is not reasonable. To investigate, we therefore consider several variables based on W5000/GDP as predictors of W5000 returns at horizons up to two years, including:

  1. Quarterly change in W5000/GDP.
  2. Average quarterly change in W5000/GDP over the past two years (eight quarters).
  3. Average quarterly change in W5000/GDP over the past five years (20 quarters).
  4. Slope of W5000/GDP over the past two years.
  5. Slope of W5000/GDP over the past five years.

We consider two kinds of tests: (1) a linear test that relates past changes in these variables to future W5000 returns up to two years; and, (2) a non-linear test that calculates average next-quarter W5000 returns by ranked fifths (quintiles) of past changes in these variables. Using quarterly levels of W5000 and quarterly GDP lagged by one quarter to ensure availability during the first quarter of 1971 (limited by W5000) through the third quarter of 2021, we find that: Keep Reading

Consumer Inflation Expectations Predictive?

A subscriber noted and asked: “Michigan (at one point) claimed that the inflation expectations part of their survey of consumers was predictive. That was from a paper long ago. I wonder if it is still true.” To investigate, we relate “Expected Changes in Prices During the Next Year” (expected annual inflation) from the monthly final University of Michigan Survey of Consumers and actual U.S. inflation data based on the monthly non-seasonally adjusted consumer price index (U.S. city average, All items). The University of Michigan releases final survey data near the end of the measured month. We consider two relationships:

  • Expected annual inflation versus one-year hence actual annual inflation.
  • Monthly change in expected annual inflation versus monthly change in actual annual inflation.

As a separate (investor-oriented) test, we relate monthly change in expected annual inflation to next-month total returns for SPDR S&P 500 (SPY) and iShares Barclays 20+ Year Treasury Bond (TLT). Using monthly survey/inflation data since January 1978 (limited by survey data) and monthly SPY and TLT total returns since July 2002 (limited by TLT), all through October 2021, we find that: Keep Reading

Federal Reserve Treasuries Holdings and Asset Returns

Is the level, or changes in the level, of Federal Reserve (Fed) holdings of U.S. Treasuries (bills, notes, bonds and TIPS, measured weekly as of Wednesday) an indicator of future stock market and/or Treasuries returns? To investigate, we take dividend-adjusted SPDR S&P 500 (SPY) and iShares Barclays 20+ Year Treasury Bond (TLT) as tradable proxies for the U.S. stock and Treasuries markets, respectively. Using weekly Fed holdings of Treasuries, and SPY and TLT total returns during mid-December 2002 through mid-November 2021, we find that: Keep Reading

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