By Trader's Narrative | 15 June 2010
Yesterday we looked at the decline in the ECRI's Weekly Leading Indicator and what it means for the market. For many, the ECRI's fall has galvanized into a bearish signal for the stock market. This, even though a frustrated Lakshman Achutha, Managing Director of the Economic Cycle Research Institute, tried his best to calm everyone down on CNBC with Kudlow and on the WSJ (comment section).
Perhaps it has to do with Albert Edwards belief that in a secular bear market, cyclical bull markets are synchronized with swings in the economy. Or maybe it is the arguments from David Rosenberg:
Click Here, or on the image, to see a larger, undistorted image.
Hat tip: Barry Ritholtz
Or perhaps it is a reflection of the gloomy sentiment pervading the Street and a convenient way to be an intelligent pessimist these days. Whatever it may be, as promised yesterday, here is a reliable metric to help us gauge whether we are indeed headed towards a "double dip".
It is informally known as the Anxious Index [[see post below at link at left: normxxx]]. In reality it is a quarterly forecast of economic activity by a select group of professional forecasters. I know it may seem strange for someone who normally uses surveys as a contrarian measure to take one on face value but click on the link to find out the details about this survey and why it is different.
Click Here, or on the image, to see a larger, undistorted image.
Source: Federal Reserve Bank of Philadelphia
Most recently it peaked in late 2008 at 75% and has since declined to a low of 9.8%. This means that the consensus is that there is less than a 10% chance that we'll see a recession in the next quarter. The probability of a recession for the next 2, 3, and 4 quarters forward has also dropped to very low levels [[this contrasts markedly with the Consumer Metrics Institute numbers I provided in earlier posts…: normxxx]].
In the past, a rise above 30% has been a reliable predictor of recessions. But we are far from that level right now. Needless to say, no indicator or index is infallible no matter how stellar its record. While recessions are declared by the NBER in hindsight (grey bars) you have to remember that the 44 forecasters in this survey were making predictions about the future. This data series is not only one of the longest continuously running economic forecasts, the record of the consensus is very good.
The last time that we had two recessions within a very short time of each other was in the early 1980's. At that time, the Anxious Index fell to 20% in the second quarter of 1980 but then it rose above 30% in the third quarter as the "double dip" arrived. The difference now of course, is that the index is less than half of where it was back then.
The general message of the recent survey is that the economy is on the mend and will avoid a "double dip". On the downside, the forecasters predict that unemployment will continue to be high: 8.9% in 2011, 8.0% in 2012 and 7.1% in 2013. You can read more at the Philadelphia Fed's website. The next quarterly results are released on August 13th 2010— so mark your calendar.
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The Anxious Index: Worst Of Recession Over?
By Trader's Narrative | 28 April 2009
The Survey of Professional Forecasters is little known or followed outside of econometric circles but it deserves more respect. Not because it is the oldest continuously calculated macro-economic prediction survey, but because it has an uncanny ability to predict both the start and end of recessions. Now, I know, if you're as cynical as me, you're thinking, "But experts are hazardous to your financial health"! Yes, that is true.
But there is wisdom in a crowd of prognosticators. With one caveat: as long as they toil away in obscurity and near anonymity. The more public their image and the higher their pay, the worse their predictions— yet another reason to ignore the chicklet-toothed "strategists" on CNBC.
The results are gathered and disseminated quarterly from the answers provided by a small group of about 40 handpicked experts. I use the term 'expert' because they all are required to produce forecasts as part of their normal jobs. The select group are academic, Wall St. economists, consulting firms, economists at multinationals, etc. But the one thing common to all of them is anonymity; ensuring that whatever the result, none of them can take claim for correct calls or be held accountable for terrible predictions.
Although this may be appear as a disadvantage, it allows them to focus on the data [[without fear of 'consequences': normxxx]]. For some anonymity is liberating because it removes the potential stigma of not towing the party line (within their company or organization). One specific survey question, referring to the probability of economic weakness has gained the most fame. This measure has come to be known by its nickname: "The Anxious Index", given by David Leonhardt in his September 1st, 2002 article in the New York Times.
Alright, enough background. What does the data say? Here's the chart showing the probability that GDP will fall in the following quarter:
Source: Federal Reserve Bank of Philadelphia
The recent data is the highest in the series. In the last quarter of 2008, the probability of a decline in GDP in the following quarter was 74.78% and in the first quarter of 2009 it was 73.98%. The next closest to this was back in the last quarter of 1974 (74.06%).
Interestingly enough, the probability for the present [[current, as opposed to future: normxxx]] quarter [[Q2 2009: normxxx]] experiencing a declining GDP was also the highest on record coming in at 90.14% and 94.41%. Basically the forecasters are saying, Duh? We are in a very deep recession! Why are you bothering to ask this silly question?
The Anxious Index foretells a recession when the probability of the next quarter experiencing a fall in GDP is 30% or more. You can see from the chart that it either coincided with or predicted every single recession we've seen in the US [[since the start of the series: normxxx]]. The most recent signal came in the first quarter of 2008 when the probability jumped to 42.91%. Of course, there were many other reasons why it was predictable at the start of 2008 that we were in a recession.
Similarly when it peaks and begins to come back down, it predicts that very soon, the economy will return to normal. Not immediately, but that the worst is over. The second quarter data for 2009 will be released in a little while and if it continues to head down or fall dramatically as is the pattern from previous recessions, then we have even more reason to believe that the worst is over.
Of course, that doesn't mean that everything is suddenly peachy. It means that things stop getting worse at an accelerated rate. Then the next step is for them to plateau and then to rise.
I've focused on the predictions for GDP but the Forecast survey includes data on many other macro-economic variables. Follow the above link to the Philli Fed's site and take a look around to discover more. But the Anxious Index from the Survey of Professional Forecasters seems to concur with the Index of Coincident Indicators and, at the same time, manage to be one tiny step ahead:
Source: Recession, Far From Over, Already Setting Records
That isn't surprising since the whole point of coincident indicators is simply to reflect the current situation while the Anxious Index attempts to predict the future economic situation. So while the stock market is a forward discounting mechanism, here's an interesting reason why, this time, the S&P 500 may actually lag GDP.
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Normxxx
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The content of any message or post by normxxx anywhere on this site is not to be construed as constituting market or investment advice. Such is intended for educational purposes only. Individuals should always consult with their own advisors for specific investment advice.
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