Oh, great googamooga, can’t you hear me talking to you
Just a ball of confusion
Oh yeah, that’s what the world is today.
The Temptations, Ball of Confusion
I used this immortal 1970 Temptations’ lyric in an investment missive a number of years ago (probably 20, but I’d rather not dwell on that), but classics never get stale, and it certainly applies to the markets today.
Turn on CNBC, scan the headlines on Real Clear Markets, or, in keeping with our retro theme, get your fingers dirty with a print copy of The Wall St. Journal, and what you will find is a gaggle of columnists and talking heads citing the latest statistic purporting to show that we are on the brink of disaster. What is usually lacking with these alarms is any sense of how this stat has actually performed over the years as a leading indicator.
Over the last couple months, I’ve been compiling a list of leading indicators, both those that have worked well in the past as bellwethers, and those that seem to offer guidance, but when you dig a little deeper, provide nothing but confusion.
For example, the “Small Business Optimism Index” is probably what Norman Whitfield and Barret Strong had in mind when they wrote Ball of Confusion. Though it has certainly been trending down before each of the last 3 recessions, by my calculations it accurately predicted 8 of those 3 downturns; that is, it gave a number of false positives. (The green arrows are stock market tops, and the yellow ones are these false positives. Shaded areas are recessions.) In the current bull market, if you had followed the emotions of small business owners, you would have quit the market in 2011 and 2012. In spite of this, you will frequently hear pundits refer to small business sentiment when trying to divine the market’s future.
The chart below has, at least in the past, been a much more reliable indicator. Commonly referred to as “The Fed Index”, it is a measure of the restrictiveness of the Federal Reserve. “Real Fed Funds” is the difference between inflation and the Fed Funds Rate, and the “1-10 Slope” is the difference between the yield on 10 yr. and 1 yr. Treasury Securities. Though it gave 2 slightly false positives (being early before the 1970 and 2000 recessions), most importantly, in the last 50 years, we have never had a recession when these indicators look like they do now.
For many years, one of the best “contrary” indicators of the stock market’s direction has been the actions of foreign buyers. When they are selling U.S. Equities, it’s a good time to be buying. In the last 30 years, there have been 13 instances where foreigners were very pessimistic about the U.S. outlook, and each time, the U.S. stock market was higher a year later. Today, selling pressure from overseas is as high as it has ever been.
In the coming weeks, I’ll have more on these types of indicators.
The information contained in this report does not purport to be a complete description of the markets, or developments referred to in this material. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. Any information is not a complete summary or statement of all available data necessary for making an investment decision and does not constitute a recommendation. Any opinions are those of Don Harrison and not necessarily those of RJFS or Raymond James. Expressions of opinion are as of this date and are subject to change without notice