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Chicago Fed NFCI as U.S. Stock Market Predictor

Posted in Economic Indicators

A subscriber suggested that the Federal Reserve Bank of Chicago's National Financial Conditions Index (NFCI) may be a useful U.S. stock market predictor. NFCI "provides a comprehensive weekly update on U.S. financial conditions in money markets, debt and equity markets, and the traditional and 'shadow' banking systems." It consists of 105 inputs, including the S&P 500 Implied Volatility Index (VIX) and Senior Loan Officer Survey results. Positive (negative) values indicate tight (loose) financial conditions, with degree measured in standard deviations from the mean. The Chicago Fed releases NFCI each week as of Friday on the following Wednesday at 8:30 a.m. ET (or Thursday if Wednesday is a holiday), renormalized such that the full series always has a mean of zero and a standard deviation of one (thereby each week changing past values, perhaps even changing their signs). To investigate its usefulness as a U.S. stock market predictor, we relate NFCI and changes in NFCI to future S&P 500 Index returns. Using weekly levels of NFCI and weekly closes of the S&P 500 Index during January 1971 (limited by NFCI) through May 2019, we find that:

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