*** THIS IS NOT FINANCIAL ADVICE! ***
*** YOU'RE A LITERAL CRAZY PERSON IF YOU TAKE ME SERIOUSLY ***
Myself and a few friends on Slack like watching certain indicators and gleaming something resembling insight from them and since the Yield Curve inverted several days ago there's been a back and fourth about what next given that the Yield Curve is the single best predictor of recessions in the United States since the 60's, and I thought I'd get all of my indicators together in one place and give a bit of an explanation of the what and why of their predictive power and then make some pages with all the data so that we can track what's going on and spark some discussion with friends
If you want to gleam some insight from the following indicators, ignore one out of sigma or one day events. For example, the Yield Curve's trend is down and has inverted BUT to be effective in predicting recessions, there needs to be a sustained inversion over roughly a quarter or two to predict a recession in the next 4 quarters.
Also even if say the Yield Curve remains inverted, no indicators is perfect therefore, you need to look at the longer time frame across several indicators and since me and some friends like to talk on Slack about this exact thing, I thought I'd put together some of the things that I look for in
This project is in its early stages and for the moment, there will be this explainer on the different pieces of data and what to interpret from them as well as a few pages displaying the data sources by country or maybe also region since a whole page for the Euro Zone might be interesting. Hopefully in time I will start every page have a composite of all of the data with a graph of the past composite number and a simple indication of if we're on for a recession somewhere or not.
The Currently completed Models are below
Major To-Do Models
What Indicators and Why
Generally, indicators can be broken into the following three categories, Leading, Coincidental or Coincident and Lagging indicators. In the US and some other nations like Japan, Germany and the UK, they are made easily available by The Conference Board, who have a page that breaks down what all of them mean and why they are important. As well as details about the current indicator, past indicators and details on calculating it yourself. Below I will try to break down in the simplest terms, why they are important and useful. Note though that I will not be using all of them in every model.
For the moment I will not be including most of Lagging indicators because I don't think they are that useful at predicting a recession since they can only be assessed after a fluctuation in the data. I will be including the Average duration of unemployment indicator though as I think employment figures are generally good, though the overall employment figure is not.
These are indicators that change prior to a change in the economy as a whole. These are generally seen as the following
1. Average weekly hours (manufacturing)
Over the long term you get a baseline of the average weekly hours worked in manufacturing. As a recession approaches, employers will tend to cut hours prior to cutting the workforce.
2. Average weekly jobless claims for unemployment insurance
People filing for unemployment can be a volatile number but getting the average over a period of weeks, for example 4 weeks, indicates the overall strength of an economy. If the graph is trending down, less people are filing for unemployment whereas if the graph is trending up, more people are filing for unemployment.
3. Manufacturers' new orders for consumer goods/materials
These are goods primarily used by consumers and adjusted for inflation. If the number is trending up, there is demand for more consumer goods while if it is trending down, demand is dropping off, which is indicative of a slow down in consumer orders for goods.
4. ISM New Order Index
This index reflects weather the surveyed participants are reporting increased or decreased orders over the previous month. Readings greater than 50 reflect that orders have increased while orders lower than 50 reflect that orders have decreased, which is indicative of a slow down in consumer orders for goods.
5. Manufacturers' new orders for non-defense capital goods
This index is the same as 3, but includes aircraft purchases and as such should be read the same way.
6. Building permits, new private housing units
This is the number of residential building permits issued in the prior month and is an indicator of construction activity. While trending up, more residential buildings are under construction whereas if trending down, construction activity is dropping. Construction generally leads to other forms of economic production and activity so a long term downward trend is indicative of a recession.
7. Stock prices of common stocks
Tracks the movement of prices in a board selection of common stocks. An increasing price trend shows broad economic growth while a decreasing price curve shows a board economic slowdown.
8. Interest rate spread/The Yield Curve
This is the spread between a government 10 year bond and 3 month bond or 10 year and 2 year bond. When the curve is trending up, investors are confident that they can make returns on investments into the future, while if it is trending down, or inverted, it shows that investors are not confident they will make a return in the short term, be that 3 months or two years.
This is the single most effective predictor of recessions and is backed by piles of data with an impressive track record that has yet to fail.
9. Consumer Confidence Index
Is a measure of how confident consumers are in the coming 6 or 12 months and if they are positive, negative or unchanged about future economic conditions. Trending up or flat means that consumers are confident whereas if it is trneding down, consumers are not confident in the future.
These are indicators that change as a change occurs in the economy as a whole.
1. Employees on nonagricultural payrolls or Net Employment
This is the net net hiring and firing rate of all but agricultural employees. When this is trending up, firings are down and more people are being hired, while when trending down, more people are being fired rather than hired.
2. Personal income less transfer payments
The value of the income received from all sources adjusted inflation to measure the real salaries and other earnings of all persons. Income levels help determine both aggregate spending the general health of the economy, so trending up is healthy while trending down or flattening to, or below inflation is not as wage growth will have stopped.
3. Index of industrial production
This is the total output of a number of manufacturing, mining, and gas and electric utility industries and it covers physical product counts, values of shipments, and employment levels. Though this is a small fraction of the total economy, it has historically captured a majority of the fluctuations.
4. Manufacturing and trade sales
This is the total, inflation adjusted spending in business to business transactions. A drop off in business to business spending is indicative of reduced investment due to low confidence in the economy.
1. Average duration of unemployment
The average duration, in weeks, that a person is counted as unemployed. This index is inverted and thus when the trend is downwards, people are spending less time unemployed whereas if it is trending up, people are spending more and more time unemployed.
While all of these indicators are useful, there are also some personal indicators that are not covered, that I also think are crucially important to to understanding what is going on in an economy at any given time and all of these are market indicators.
1. Over Night Indexed Swaps
These indicators are extremely good at showing credit risk in markets as it is a direct representation of the difference between safe government bonds and what interest rate a bank is willing to offer another bank. If the spread is large enough, it is indicative of a credit crisis as banks are not willing to lend to other banks without the other bank paying a premium.
2. High Yield Bond Spread/Junk Bond Spread
This is the spread between safe government bonds and low quality bonds that are not of investment grade. These indicators are also good at showing credit risk as investors are demanding a premium and it shows their risk tolerance as the size of the spread shows that they will only invest for big returns to match the perceived risk
3. Market Volatility indicators
These indicators do not in themselves indicate a recession but they let you know how volatile a market is and recessions are extremely volatile times for markets, so lots of volatility along with numerous other indicators is hugely indicative of a crisis.
4. The Economist Intelligence Unit's Yield Curve to GDP spread
The Economist had a fantastic piece about the predictive power of the yield curve as outside the US, it is not a predictor of recessions at all, in fact it has not predictive power whatsoever. The team at the Data Unit decided to see if they could come up with a method to have the same predictive power and noticed that for ever percentage point the Yield Curve flattens or inverts in a given nation, GDP tends to drop by half a percentage point
A note on Data Sources
I would love to have the same kind of data that the US has so easily available to an idiot like me who's just good at google and research, but sadly it's harder to find. Generally the US will have basically all it's data coming from the St. Louis Federal Reserve FRED and other nations will probably use a combination of Trading Economics and Trading View until I figure out how to properly identify and use data in places like ECB Data Warehouse.
Other Indicators I Like
The Indicator from Planet Money
This is probably my favourite daily podcast. It's generally less then 10 minutes, and covers some of the most interesting things happening in the world of economics for JOBS DAY to the Yield Curve. Also Stacey and Cardiff are great for a back and fourth on twitter! Though I'm still annoyed the TED Spread isn't an indicator since that's the original Indicator from back in 2008
Planet Money Podcast
This is what got me started into thinking about predicting recessions by having daily and sometimes several times per day podcasts, with time stamps so you knew exactly what was happening, as it was happening in 2008. Post 2008 they have reported on why it all happened, got some of the assets responsible and started coving more general economic stories but they are no less interesting! I just hope their coverage will be the same in the next major crisis
Calculated Risk blog by Bill McBride
Comprehensive, in depth analysis of an astonishing array of topics related to the US Economy with the odd prediction about where we are going and a track record of being right
A Brilliant Magazine and Podcast provider with interesting stories as well as having in depth analysis of what's going on from day to day in the world, in financial markets, in tech, or Data.
A Podcast about trade from trade wonks. Simple. Also includes bad jokes about double underscores.