Long Leading Forecast Deteriorates, Yield Curve Inverts

April 2, 2022 admin Stock News 0

Business graph with arrows tending downwards

peshkov/iStock via Getty Images

Purpose

I look at the high frequency weekly indicators because while they can be very noisy, they provide a good nowcast of the economy, and will telegraph the maintenance or change in the economy well before monthly or quarterly data is available. They are also an excellent way to “mark your beliefs to market.” In general, I go in order of long leading indicators, then short leading indicators, then coincident indicators.

A Note on Methodology

Data is presented in a “just the facts, ma’am” format with a minimum of commentary so that bias is minimized.

Where relevant, I include 12-month highs and lows in the data in parentheses to the right. All data taken from St. Louis FRED unless otherwise linked.

A few items (e.g., Financial Conditions indexes, regional Fed indexes, stock prices, the yield curve) have their own metrics based on long-term studies of their behavior.

Where data is seasonally adjusted, generally it is scored positively if it is within the top 1/3 of that range, negative in the bottom 1/3, and neutral in between. Where it is not seasonally adjusted, and there are seasonal issues, waiting for the YoY change to change sign will lag the turning point. Thus I make use of a convention: data is scored neutral if it is less than 1/2 as positive/negative as at its 12-month extreme.

With long leading indicators, which by definition turn at least 12 months before a turning point in the economy as a whole, there is an additional rule: data is automatically negative if, during an expansion, it has not made a new peak in the past year, with the sole exception that it is scored neutral if it is moving in the right direction and is close to making a new high.

For all series where a graph is available, I have provided a link to where the relevant graph can be found.

Recap of monthly reports

March reports started out with another excellent jobs report, a positive ISM manufacturing index, and positive construction spending.

February reports included positive personal income and spending (but negative once adjusted for inflation), continuing big increases in house prices as measured by both the FHFA and Case Shiller indexes, and mixed consumer sentiment as reported by the Conference Board.

NOTE: As of this week, I have discontinued all special comparisons with 2019 and early 2020.

Coronavirus Vaccinations and Cases

At least 1 dose administered: 255.5m, up +0.4m w/w (88.4% of population age 18+)

Fully vaccinated*: 217.6m, up +0.3m (75.5% of population age 18+)

*not counting booster shots

Infections have declined back to levels last seen in late July 2021, and deaths by almost 75% from their Omicron peak back to levels last seen last August. While subvariant BA.2 has risen to about 60% of all cases in the US, there has been no significant increase in cases at all so far.

Long leading indicators

Interest rates and credit spreads

Rates

  • BAA corporate bond index 4.35%, unchanged w/w (1-yr range: 3.13-4.37)
  • 10-year Treasury bonds 2.37%, down -0.11 w/w (1.08-2.20) (new 3 year high intraweek)
  • Credit spread 1.98%, up +0.11 w/w (1.65-4.31)

(Graph at FRED Graph | FRED | St. Louis Fed)

Yield curve

  • 10 year minus 2 year: -0.08%, down -0.12 w/w (-0.12 – 1.59) (NEW INVERSION)
  • 10 year minus 3 month: +1.85%, down -0.09% w/w (-0.99 – 1.90)
  • 2 year minus Fed funds: +1.85%, down -0.11% w/w

(Graph at FRED Graph | FRED | St. Louis Fed)

30-Year conventional mortgage rate (from Mortgage News Daily) (graph at link)

  • 4.88%, down -0.07% w/w (2.75-4.95)

Corporate bonds failed to make a new low in 2021. Therefore their rating changed to neutral. If they should increase to 4.6%, that would put them in the top 1/3rd of their 5 year range, changing their rating to negative.

Treasury bonds fluctuated near the middle of their 5 year range in later 2021. Similarly, mortgage rates made an all time low during the first week of 2021. Neither made a new low since then, so their ratings also changed from positive to neutral. 10 year Treasuries are now in the top 1/3rd of their 5 year range, so their rating changes further to negative.

Mortgage rates have risen to a level about 2% higher than 1 year ago – and are close to the top of 5 year range – more than enough to put downward pressure on the housing market, so their rating is negative.

The spread between corporate bonds and Treasuries remains positive, but the yield curve has inverted not only at the important 2 to 10 year levels, but throughout the 3 to 10 year range. Needless to say, that is now an important negative.

Housing

Mortgage applications (from the Mortgage Bankers Association)

  • Purchase apps up +1% w/w to 269 (184-349) (SA)
  • Purchase apps 4 wk avg. up +6 to 268 (SA) (341 high Jan 29, low 251 Aug 20)
  • Purchase apps YoY -10% (NSA)
  • Purchase apps YoY 4 wk avg. -9% (NSA)
  • Refi apps down -15% w/w (SA) (3 year low)
  • Refi apps YoY down -60% (SA)

*(SA) = seasonally adjusted, (NSA) = not seasonally adjusted

(Graph at here)

Real Estate Loans (from the FRB)

  • Up +0.3% w/w
  • Up +5.0% YoY (-0.9 – 4.8) (new 1 year high)

(Graph at Real Estate Loans, All Commercial Banks | FRED | St. Louis Fed)

Early in 2021 purchase mortgage applications declined to 2 year lows due to higher interest rates (and probably housing unaffordability as well). Purchase apps are now back down to the lowest 1/3rd of their 52 week range, and mortgage rates have failed to make a new low in the past 12 months, so the rating has now changed to negative. Refi is at 24 month lows, so they remain negative.

From 2018 until late in 2020 real estate loans with few brief exceptions stayed positive. Earlier last year they varied between neutral and negative, but for the past several months have been positive.

Money supply

The Federal Reserve has discontinued this weekly series. Data is now only released monthly. February data was released one week ago:

  • M1 m/m up +0.4%, YoY Real M1 up +4.8%
  • M2 m/m up +0.4%, YoY Real M2 up +3.1%

No recession has happened without a YoY real M1 negative, or YoY real M2 below +2.5%. If real M2 falls below 3% YoY, I will change its rating to neutral.

Corporate profits (Q4 actual +Q1 estimated S&P 500 earnings from I/B/E/S via FactSet at p. 29)

  • Q4 2021, down -.01 to 55.36, up +2.8% q/q
  • Q1 2022, down -0.02 to 51.83, down -6.4% q/q

FactSet estimates earnings, which are replaced by actual earnings as they are reported, and are updated weekly. The “neutral” band is +/-3%. I also average the previous two quarters together, until at least 100 companies have actually reported. Now that we are in March, the Q1 earnings enter the average. For Q4 and Q1 together, the average is -1.8%, which is within the neutral range.

Credit conditions (from the Chicago Fed) (graph at link)

  • Financial Conditions Index unchanged ( loose) at -0.33 (-0.33 – -0.72) (tied for new 52 week high)
  • Adjusted Index (removing background economic conditions) down -0.01 (looser) to -0.20 (-0.19 – -0.75)
  • Leverage subindex unchanged (loose) at -0.28 (+0.09 – -0.39)

The Chicago Fed’s Adjusted Index’s real break-even point is roughly -0.25. In the leverage index, a negative number is good, a positive poor. The historical breakeven point has been -0.5 for the unadjusted Index. Both the adjusted and un-adjusted indexes had been positive ever since mid-2020. This week is the second that the Adjusted Index is neutral, while the Leverage subindex rebounded back to positive.

Short leading indicators

Economic Indicators from the late Jeff Miller’s “Weighing the Week Ahead”

  • Miller Score (formerly “C-Score”): down -14 w/w to 241, -113 m/m (241 4/1/22 – 640 on 4/9/21)
  • St. Louis Fed Financial Stress Index: down -0.3144 to -1.3549 (-0.2562 12/3/21 – -1.3549 this week) (ALL TIME LOW)
  • BCIp from Georg Vrba: unchanged at 100.00 iM’s Business Cycle Index (100 is max value, below 25 is recession signal)

The Miller Score is designed to look 52 weeks ahead for whether or not a recession is possible. Any score over 500 means no recession. With this number having fallen below that threshold months ago, it is negative.

The St. Louis Financial Stress index is one where a negative score is a positive for the economy, and during its limited existence, has risen above zero before a recession by less than one year. Thus the present reading is also a positive for the economy.

Trade weighted US$

In early 2021, both the broad rating and the USD against major currencies turned higher YoY, and so changed to neutral. In the past few months, with the measure against major currencies usually above +5% YoY, this rating turned negative.

Commodity prices

Bloomberg Commodity Index

  • Down -5.97 to 123.88 (79.11-129.85)
  • Up +47.8% YoY (Best: +52.3% June 4)

(Graph at BCOM | Bloomberg Commodity Index Overview | MarketWatch)

Bloomberg Industrial metals ETF (from Bloomberg) (graph at link)

  • 213.84, down -3.28 w/w (131.43-230.32)
  • Up +50.0% YoY (Best +69.0% May 7)

Since April 2020 both industrial metals and the broader commodities indexes rebounded sharply. Both total and industrial commodities are extremely positive, with a recent downturn in the indexes having reversed higher, to new highs. In the past week alone, commodity prices increased over 10%! Although I will score them in accord with normal practice as positive, because this increase is due to a war interrupting normal trade, this needs to be taken with extra caution.

Stock prices S&P 500 (from CNBC) (graph at link)

This last high for this index was January 3. As there has not been a new three month high during the past three months, but there have been several new 3 month lows, this indicator has now switched to negative.

Regional Fed New Orders Indexes

(*indicates report this week)

The regional average is more volatile than the ISM manufacturing index, but usually correctly forecasts its month-over-month direction. These have usually been extremely positive ever since June 2020.

Employment metrics

Initial jobless claims

  • 202,000, up 14,000 w/w (new 50+ year low)
  • 4-week average 208,500, down -3,500 w/w

(Graph at St. Louis FRED)

New claims declined to repeated new pandemic lows since February 2021, and made yet another new one last week, so this metric remains positive.

Temporary staffing index (from the American Staffing Association) (graph at link)

  • Unchanged at 105 w/w
  • Up +11.7% YoY (Best +57.4% May 21)

This gradually improved to neutral at the beginning of 2021, and positive since then.

Tax Withholding (from the Dept. of the Treasury)

  • $253.7 B for the last 20 reporting days vs. $223.8 B one year ago, up +$29.9 B or +13.4% (Best +37.6% April 30)

YoY comparisons turned positive in the beginning of 2021, and have remained that way – usually very strongly so – almost every week since. As of now, these should be normally reliable again. If the YoY% change falls below 5%, I will change this to neutral.

Oil prices and usage (from the E.I.A.)

  • Oil down -$14.40 to $98.40 w/w, up +73.7% YoY
  • Gas prices down -$.01 to $4.23 w/w, up $1.38 YoY
  • Usage 4-week average up +1.0% YoY (Best +67.5% April 30)

(Graphs at This Week In Petroleum Gasoline Section – U.S. Energy Information Administration (EIA))

Both gas and oil prices remain firm negatives, particularly with oil still close to new multi-year highs.

We aren’t quite at the level yet that I would consider an “oil shock.” In the first place, it hasn’t lasted long enough at these elevated rates. Also, while we are at multi-year highs, and I would expect consumers to cut back a little on other types of purchases due to the cost of filling up their fuel tank, a hallmark of an oil shock is an overreaction by consumers – and we are certainly not there yet.

Bank lending rates

  • 0.469 TED spread down -0.016 w/w (0.02 -.568) (graph at link)
  • 0.452 LIBOR up +.005 w/w (0.0753- 0.449) (graph at link)

TED was above 0.50 before both the 2001 and 2008 recessions. Since early 2019 the TED spread had remained positive, except the worst of the coronavirus downturn.

The increases in the past four weeks, undoubtedly due to the Russian invasion of Ukraine, have been progressively adding more stress. The TED spread turned from positive to neutral two weeks ago, then negative last week, but rebounded this week. LIBOR also turned from positive to neutral one week ago.

Coincident indicators

St. Louis FRED Weekly Economic Index

  • Down -0.51 to +4.60 w/w (+4.60 April 1 – +12.30 April 29, 2021) (new 1 year low)

In the 5 years before the onset of the pandemic, this Index varied between +.67 and roughly +3.00. Just after the Great Recession, its best comparison was +4.63. After a very positive 2021, it declined to less than half its best YoY level, thus changing to neutral.

Restaurant reservations YoY (from Open Table)

  • Mar 24 seven day average -2% YoY (Best +31% Oct 21)
  • Mar 31 seven day average -1% YoY (Worst -29% Jan 13)

The comparison year for this metric is 2019 and not 2021. Compared with the depths of the pandemic, in 2021 reservations rebounded to neutral, and even positive for a number of months, before declining back to neutral. During the Omicron tsunami they turned very negative, but in the past several weeks have improved again. This week they are neutral.

This was the very first weekly indicator to signal collapse when COVID and the ensuing lockdowns started in March 2020. Note I am now measuring its 7 day average to avoid daily whipsaws.

Consumer spending

In April 2020 the bottom fell out in the Redbook index. It has remained positive almost without exception since the beginning of this year. There was never any perceptible change at all due to either the Delta or the Omicron waves.

Transport

Railroads (from the AAR)

  • Carloads up +0.5% YoY
  • Intermodal units down -6.2% YoY
  • Total loads down -3.2% YoY (Best +34.0% April 23)

(Graph at Railfax Report – North American Rail Freight Traffic Carloading Report)

Shipping transport

Rail carloads turned positive early in 2021, before gradually fading to negative from August through the end of the year and the beginning of this year. With carloads up but intermodal down, this indicator is a neutral.

Earlier in 2021 Harpex repeatedly rose to new multiyear highs, before leveling off in October. It declined from that peak, but in the past few weeks has increased slightly again. Meanwhile, BDI traced a similar trajectory, repeatedly making new multi-year highs. But several months ago it fell about 75%, warranting a change to negative. It has now rebounded enough to go back to neutral.

I am wary of reading too much into price indexes like this, since they are heavily influenced by supply (as in, a huge overbuilding of ships in the last decade) as well as demand.

Steel production (American Iron and Steel Institute) (no update this week)

  • Down -0.9% w/w
  • Down -2.4% YoY

Since the end of March 2021, against terrible comparisons, this metric had been positive, typically running at a double digits higher YoY percentage growth. Last week, after almost continuous deterioration, it turned negative.

Summary And Conclusion

Below are this week’s spreadsheets of the long leading, short leading, and coincident readings. Check marks indicate the present reading. If there has been a change this week, the prior reading is marked with an X:

Long leadingIndicators Positive Neutral Negative
Corporate bonds ✓
10 year Treasury ✓
10 yr-2 yr Treasury X ✓
10 yr-3mo Treasury ✓
2 Yr Treasury-Fedfunds ✓
Mortgage rates ✓
Purchase Mtg. Apps. ✓
Refi Mtg Apps. ✓
Real Estate Loans ✓
Real M1 ✓
Real M2 ✓
Corporate Profits ✓
Adj. Fin. Conditions Ind. ✓
Leverage Index ✓
Totals: 6 3 5

Short LeadingIndicators Positive Neutral Negative
Credit Spread ✓
Miller Score ✓
St. L. Fin. Stress Index ✓
US$ Broad ✓
US$ Major currencies ✓
Total commodities ✓
Industrial commodities ✓
Stock prices X ✓
Regional Fed New Orders ✓
Initial jobless claims ✓
Temporary staffing ✓
Gas prices ✓
Oil prices ✓
Gas Usage ✓
Totals: 8 1 5

CoincidentIndicators Positive Neutral Negative
Weekly Econ. Index ✓
Open Table ✓
Redbook ✓
Rail ✓
Harpex ✓
BDI ✓
Steel ✓
Tax Withholding ✓
TED ✓
LIBOR ✓
Financial Cond. Index ✓
Totals: 4 6 1

To reiterate my theme of the past several weeks, there are two separate dynamics operating on the economic indicators. One dynamic is the Fed reacting to high inflation and low unemployment by raising rates, a classic slowdown in the long leading outlook. The second dynamic is Russia’s invasion of Ukraine, and the world’s reaction to it, which immediately hits coincident and some short leading indicators. This week the former dynamic worsened, while the latter one improved.

There were two important changes this week. The first was among the long leading indicators, where important sections of the yield curve inverted. This is a classic negative indicator for the period 12-24 months out. Additionally, mortgage rates have continued to rise. Two weeks ago the long leading forecast turned negative, but then rebounded enough to be neutral last week. This week it sank back again to neutral. Should real money supply and corporate profits deteriorate any further, it could turn negative.

The short leading forecast remains positive, as manufacturing-related metrics and jobless claims remain very strong. But stocks have now turned negative.

The coincident indicators, hit by the effects of the Russian invasion of Ukraine, is only weakly positive, although some effects, like on commodities, reversed this week.

As of now, the outlook for the rest of 2022 is for a weakening, but positive, economy. The outlook for 2023 is increasingly worrisome, but not negative – at least not yet.

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