ECRI Predicts Global Economic Slowdown

The world is headed for an economic slowdown, according to the Economic Cycle Research Institute's (ECRI) Long Leading Index of global industrial growth.

"It is not country specific, but imagine if you could add up all the activity in factories around the world and see if it was accelerating or decelerating, that is what this indicator is focused on," says Lakshman Achuthan founder and managing director of the research center. "And it has been telling us very clearly, unambiguously, that we have a peak in global industrial growth this summer."

ECRI Says Inflation on Verge of Taking Off!

(ECRI) - In early March, former Fed Chairman Alan Greenspan was asked to comment about ECRI's long-held criticism that the Fed is chronically behind the curve on monetary policy because its forecasting models are based on core inflation and the output gap, rather than forward-looking inflation indicators.

Related Slides

January 2011, Excerpts

Mr. Greenspan agreed with our critique of both the output gap and core inflation. First, he acknowledged, “I have always been somewhat skeptical about the output gap… The bottlenecks with the system are never captured obviously by that… So it’s not an infallible indicator.” On the usefulness of core inflation, he then went on to say: “But more importantly the general presumption of core is that oil and food fluctuate, but have no trend. That is incorrect.”

Finally, he asserted that the Fed also watches forward-looking inflation expectations and could thus forecast inflation no better – but no worse – than ECRI. He went on to say, “The problem is, none of these indicators will tell you when inflation is about to take hold.”

With respect, Mr. Greenspan is wrong.

By using good cyclical indicators, you can – and we do – correctly forecast when inflation is about to take hold.

And it’s precisely because the Fed – first under Mr. Greenspan and now under Mr. Bernanke – adamantly believes that inflation turning points can’t be predicted, that the current U.S. recovery stands in danger of being snuffed out prematurely.

ECRI’s future inflation gauges – which, unlike econometric models, monitor the evolution of self-feeding cycles in inflation – are designed to do just what Mr. Greenspan says can’t be done. Specifically, they are more direct measures of underlying inflation pressures that signal the timing of upcoming inflation cycle turning points. In fact, they also anticipate inflation expectations.

Mr. Greenspan says that by watching inflation expectations the Fed can forecast inflation no better – but no worse – than ECRI, yet the real-time records are quite different. This disconnect underscores a fundamental misconception among policymakers, that because inflation expectations can’t anticipate inflation cycle turning points, it can’t be done. Over the past decade, such misperceptions have led to serious errors in monetary policy timing.

For instance, in June 2003, the Fed cut rates to 1% as “insurance” against deflation, when, based on our Future Inflation Gauge (FIG), we had ruled out any deflation risk. The housing bubble then inflated further, and commodity prices rose.

In June 2008, six months after the recession began, a hawkish Fed was telegraphing rate hikes exceeding 100 basis points by year-end, according to the Fed funds futures markets. At that time, the forward-looking FIG was indicating the absence of any sustained inflation threat.

Just last summer, blindsided by a growth slowdown clearly foreseen by our leading indexes, the Fed abandoned its “exit strategy” rhetoric. Doing an about-face, it launched the second round of quantitative easing to guard against a newfound “tail risk” of deflation. Again, the FIG offered a different conclusion, having ruled out any deflation risk by late 2009.

The Fed’s ongoing reliance on inflation expectations, along with core inflation and the output gap – which Mr. Greenspan agrees don’t work – strongly implies that they have no workable tools to decide when to pull back on stimulus. Their incoherence about policy timing is rooted in the belief expressed by Mr. Greenspan that forward-looking indicators of inflation can’t tell when inflation is about to take hold.

Mr. Greenspan and his successor, Mr. Bernanke, are top-notch economists in an echo chamber where they are surrounded by other economists, who all tend to believe, deep down, that the best forward-looking information must be found in market prices. This is an economist’s mistake. Even in the face of compelling evidence that markets aren’t the best predictors of what’s around the bend, it’s really hard for economists to abandon their basic world-view.

This keeps the Fed chronically behind the curve. The “insurance” taken out by the Fed has been far from costless, especially in terms of the collateral damage from unintended consequences. Yet, damaging as it might have been in the past, the sheer size of the Fed’s current balance sheet makes it more critical than ever to improve the timing of monetary policy shifts.

As U.S. economic growth begins to revive, the long-term jobless rate, which is still around record highs, remains a festering sore. However, it’s obvious from a scrutiny of past cyclical patterns that only a long economic expansion – like those in the 1980s and 1990s – can heal that wound.

Central bankers need to stop clinging to policy orthodoxy and pay attention to proven cyclical leading inflation indicators that can actually tell them when inflation is about to take hold. Otherwise, if a well-meaning Fed stimulates the economy for too long, it will let inflation and/or asset prices get out of control, fostering boom-bust cycles that keep long-term unemployment at elevated readings as each short boom ends with a bust that pushes the jobless rate back up.

So, if the FIG takes off, watch out!

David Rosenberg Points Out Something Fishy With Latest Economic Data

The latest batch of data has been highly confusing, to say the least. The chain store sales data were skewed by one-offs, such as retroactive jobless benefit checks that were mailed out in early August and the growing number (17 this year) of States offering sales tax holidays. We estimate that absent these influences, year-on-year sales growth would have been closer to 1% than 3%.
The spending data also belied the information contained in the Conference Board’s consumer confidence survey, as the facts-on-the ground ‘present situation’ index sagged to 24.9 in August from 26.4 in July — only 5% of the time in the past has it been so low. The ISM manufacturing index, which really got the ball rolling on this ‘take out the double-dip’ trade, managed to spike even though the three leading sub-indices — new orders, backlogs and vendor performance — all declined in what was a 1-in-100 event.
Not only that, but the employment component of the ISM surged to its highest level since December 1983, and yet the manufacturing employment segment of the payroll survey fell 27,000 — the first decline this year and the sharpest falloff since last October. Furthermore, the manufacturing diffusion index slumped to a seven-month low of 47 from 53 — in other words, fewer than half of the industrial sector was adding to staff requirements last month. It begs the question as to what exactly the ISM is measuring.
The list of inconsistencies in the data didn’t stop there. The entire increase in private sector employment in August was in the service sector — mostly health and education, which says little about the cyclical state of the economy. Yet 90 minutes after the jobs number was released, we got the ISM non-manufacturing survey and it flashed a contraction in services employment to a seven-month low of 48.2 from 50.9 in July.
Just a tad confusing, but the newly found bullish view of the economy is sort of corroborating evidence.
The employment report did not detract from the view that the economy is losing steam. The fourth quarter of a recovery typically sees real GDP growth of over 6% at an annual rate, but in this post-bubble credit collapse, what we got this time was 1.6% at an annual rate in Q2.
Moreover, there is nothing in the data to suggest anything but a further slowing in Q3, and the only reason why there is no contraction this quarter is because it looks as though we are getting another lift from inventories — though now the buildup looks involuntary, which will cast a cloud on fourth-quarter GDP barring a sudden reversal in the declining trend in real final sales.
Private payrolls were +247,000 when the equity market peaked in April, it slowed to +107,000 by July and was +67,000 last month. What does that suggest about the trend? Ditto for goods-producing employment, which was +67,000 in April, subsequently softened to +37,000 by July, and in August was the grand total of zero.
One can easily draw the conclusion from the data that we have dodged a bullet. But that does not mean we are out of the woods. Employment is a coincident indicator. Leading indicators, such as the ECRI, continue to deteriorate and to levels still consistent with nontrivial double-dip risks. Keep this in mind — private payrolls came in at +97,000 in November 2007 and the “Great Recession” began the next month. In other words, the +67,000 tally we saw today basically tells you nothing about how the pace of economic activity is going to unfold as we move into the fall.

ECRI Drops Below 10.0 to Signal Recession Yet Again

The ECRI Leading Indicator Index just came at -10.1%, a drop from last week's -9.9%, once again inflecting into double dip territory.

ECRI Continues to Signal Recession

The ECRI Weekly came in at an annualized -9.9%, once again straddling the critical -10% boundary. Of course with two previous downward revisions, it appears the index' creators have taken up the government's favorite data fudging ploy of downward revising prior data, as the past week's -10% now ends up being -10.1%. No doubt next week this week's -9.9% will be revised to a worse number. But by then all the beneficial impact of the better number will be long forgotten.

ECRI Dips Again

from Zero Hedge:
The ECRI's micro dead cat bounce is over... or is it? The ECRI Leading Indicator came in at 120.8 W/W, lower from a previous number of 122.4, revised from 122.0. In practical terms, this means that the annualized change is now back to a double dip predictive -10. Which is a deterioration from last week's actual -9.8. Well, not really - the prior number was just revised to -10.2, meaning all those early chants of ECRI improvement were premature (just as we had expected, as this is merely becoming one more in the endless series of downwardly revised series to mitigate the negative data impact). Either way, the weekly chart speaks volumes. And with all input signals into the ECRI once again deteriorating, we expect the second leg down in the ECRI to continue, revised or not.

2-in-3 Odds of Another Contraction

ECRI [Economic Cycle Research Institute, his favorite forecasters] is pointing to 2-in-3 odds of another contraction in real GDP. Whenever we get three straight declines in Household employment, we are in recession or about to head into one fully 98% of the time." David Rosenberg

ECRI Continues Its Plunge Even Deeper Into Recession Territory

The ECRI Leading Indicator has just moved further into certain recession territory, hitting -10.7 for the most recent week (the previous revised number is -10.5). The market goes green on the news, as the Liberty 33 traders have done their job for the day and are off to the Hamptons. And what is so odd about the market reaction one may ask - bad news are as always priced in, as the apocalypse is nothing that a little money printing can't fix, while minimal upside surprises (soon to be revised far lower) are sufficient to move the market higher by over 100 points intraday. Hopefully the HFT operators unionize and go on strike soon in demanding greater pay, and get the Greek trucker treatment as a result, because this market is not even a joke anymore.

The ECRI's Weekly Leading Indicators (WLI) has now fallen 8 consecutive weeks and has been below -10 for two consecutive weeks.



click on chart for sharper image

Given the July bounce in the stock market, the ever-optimistic me expected some sort of anemic bounce in the WLI as well, but that bounce never came. Of course, it would be helpful to know the makeup of WLI (components and percentages), but unfortunately that information is proprietary.

Nonetheless, we can say there has never been a WLI plunge in history of this depth and duration, nor any dip at all below -10 that has not been associated with a recession.

ECRI Hits Recession Level

ECRI hit -10.5 yesterday, a level that has never been wrong in predicting a recession within 13 weeks. Here comes the double dip!

ECRI - How to Use

ECRI Plunges to -9.8%!

This is just a hair's breadth from calling for a new recession!

from Zero Hedge blog:
The ECRI Leading Economic Index just dropped to a fresh reading of 120.6 (flat from a previously revised 121.5 as the Columbia profs scramble to create at least a neutral inflection point): this is now a -9.8 drop, and based on empirical evidence presented previously by David Rosenberg, and also confirming all the macro economic data seen in the past two months, virtually assures that the US economy is now fully in a double dip recession scenario."It is one thing to slip to or fractionally below the zero line, but a -3.5% reading has only sent off two head-fakes in the past, while accurately foreshadowing seven recessions — with a three month lag. Keep your eye on the -10 threshold, for at that level, the economy has gone into recession … only 100% of the time (42 years of data)." We are there.

Complete collapse in the long-term chart:

ECRI Index Continues Fall to -8.3

The dreaded level that predicts a recession with 13 weeks (approximately 3 months) is -10. We're getting close!

ECRI Falls Again

ECRI dropped from -6.9% to -7.7% last week. More bad news!

ECRI Continues Lower, Pointing Toward Double Dip

from Tyler Durden at Zero Hedge blog:
It's getting close: the fabled -10% annualized change (see David Rosenberg) which guarantees a recession is now just 3.1% away, which at this rate of collapse will be breached in two weeks. The ECRI is now at December 2007 levels, the time when the last recession officially started. The index dropped from an annualized revised -5.8% (previously -5.7%) to -6.9%. As a reminder, from Rosie, "It is one thing to slip to or fractionally below the zero line, but a -3.5% reading has only sent off two head-fakes in the past, while accurately foreshadowing seven recessions — with a three month lag. Keep your eye on the -10 threshold, for at that level, the economy has gone into recession … only 100% of the time (42 years of data)." We are practically there.

ECRI Isn't Looking Pretty

from Zero Hedge blog:
The ECRI weekly leading index is continuing its accelerating dive, and is now well into negative territory, hitting -5.7 for the past week: a 2.2 decline from the prior week. Here is why, as David Rosenberg, this is a critical indicator, and why we may have just 4.3 more points to go before the critical -10 threshold: "It is one thing to slip to or fractionally below the zero line, but a -3.5% reading has only sent off two head-fakes in the past, while accurately foreshadowing seven recessions — with a three month lag. Keep your eye on the -10 threshold, for at that level, the economy has gone into recession … only 100% of the time (42 years of data)." At this rate of decline -10 will be taken out in the first week of July.
And some more recent observations on ECRI from Rosie:

Suffice it to say, when the ECRI was drifting lower in 2007, it got to -3.5%, where are we are now, in November and unbeknownst to the consensus at the time that a recession was only one month away. Remember that the economics community did not call for recession until after Lehman collapsed — nine months after it started; and go back to 2001, and the consensus did not call for recession until after 9/11 and again the economy had been in recession for a good six months).

Updated ECRI:

ECRI Confirms Almost Certain Likelihood of Double Dip Recession

from John Hussman of Hussman Funds:

Barry Switzer, the former head coach at the University of Oklahoma, once said "Some people are born on third base, and go through life thinking they've hit a triple." Among the fascinating aspects of the recent economic "recovery," probably the greatest is the failure of analysts to understand that this growth is none of the private sector's doing.

Wall Street seems to have no concept at all that every bit of growth we've observed over the past year can be traced to government deficit spending, with zero private sector expansion when those deficits are factored out. As I noted last week, if one removes the impact of deficit spending, "the economy has recovered to the point where the year-over-year growth rate since early 2009 now matches the worst performance of any of the 50 years preceding the recent downturn." In effect, Wall Street's is seeing "legs" where the economy is in fact walking on nothing but crutches.

Similarly, it is apalling that Ben Bernanke can say with a straight face that many of the "investments" made by the Fed have been repaid "and some have even made a profit," without immediately noting that the two primary sources of these repayments have been, directly or indirectly, the U.S. Treasury, and savers who are receiving near-zero interest on bank deposit instruments.

If we fail to recognize that the "good news" reported over the past year is due not to a recovery in intrinsic economic activity, but instead to massive government intervention, we risk being blindsided as those synthetic effects gradually erode.

On that point, it is notable that the Economic Cycle Research Institute (ECRI) reported Friday that its Weekly Leading Index has slumped to the lowest level in 44 weeks, and has now gone to a negative reading.

Chart thanks to Mike "Mish" Shedlock www.globaleconomicanalysis.blogspot.com

ECRI head Lakshman Achuthan is quick to point out that the downtrend in the WLI is not (yet) sustained enough to indicate an oncoming double dip. Then again, it's important to recognize how quickly the ECRI is likely to shift its position if we observe further deterioration. The WLI also moved to negative readings in 2007, but the ECRI cautiously avoided interpreting it as a recession warning until a few weeks later when the deterioration was sufficiently persistent.

John Markman, writing for MarketWatch, reports " Looking out over the horizon using his longer-term leading indexes, Achuthan sees a 'strong chance' of more frequent recessions in the coming decade than at any time since the 1970s. If that occurs, then he points out there will be major constraints on politicians' counter-cyclical response that did not exist in 2008. That's because the next recession will begin with unemployment not at 4.5%, as the last one did, but in the high 8% range. Also policy makers won't be able to cut rates as they are likely to still be near zero, and fiscal spending will be a problem due to all of the borrowed stimulus already fired off.

"A lot of people are going to wonder, Achuthan says, how this could happen again so soon after the last crisis. And he points out that the 'great moderation' in economic growth from 1985 to 2007 -- when recessions seem to have been ironed out of the system -- is over. That was an anomaly. The new reality will be a return to sharp cyclicality with a vengeance"

From my perspective, the evidence isn't yet sufficient, from a probability standpoint, to firmly anticipate a double dip. But it is notable how close the evidence is to locking in on that conclusion.

The following is our refined set of "Aunt Minnie" criteria for identifying oncoming recessions. See the November 12, 2007 comment Expecting a Recession for details. In every instance we've observed these conditions, the U.S. economy has either already been in a recession, or has been within a few weeks of what turned out in hindsight to be the official beginning of a recession. There have been no false signals.

1: Widening credit spreads: An increase over the past 6 months in either the spread between commercial paper and 3-month Treasury yields, or between the Dow Corporate Bond Index yield and 10-year Treasury yields. This criterion is currently in place.

2: Moderate or flat yield curve: A yield spread between the 10-year Treasury yield and the 3-month Treasury yield of anything less than 3.1%. As of last week, the 10-year Treasury yield was 3.22%. The 3-month Treasury bill yield was 0.08%. So virtually any decline in the 10-year yield from here will put this criterion in place.

3: Falling stock prices: S&P 500 below its level of 6 months earlier. This is not terribly unusual by itself, which is why people say that market declines have called 11 of the past 6 recessions, but falling stock prices are very important as part of the broader syndrome. This criterion is currently in place.

4: Moderating ISM and employment growth: Manufacturing PMI (at or) below 54, coupled with either total nonfarm employment growth below 1.3% over the preceding year (this is a figure that Marty Zweig noted in a Barron's piece years ago), or an unemployment rate up 0.4% or more from its 12-month low. At present, both of the employment measures are in place. Last month, the ISM PMI dropped from 60.4 to 59.7.

For all intents and purposes, unless the credit spreads, the S&P 500, or the yield curve reverse, a further decline in the Purchasing Managers Index to 54 or below would be sufficient to confirm a "double-dip recession." Note that by itself, such a level might not be particularly troublesome. But in concert with the other evidence we observe, it would be sufficient to complete the syndrome of risk factors.

The historical recession signals based on the foregoing criteria are depicted in blue in the chart below. Actual recessions are depicted in red. The chart reflects the widely held assumption that the recent recession ended in June 2009, though it is not clear that this assumption is appropriate. Given that the economy has not recovered to anywhere near its previous peak, a second downturn would most probably be viewed by the NBER as a continuation of the recent recession rather than a separate event.

In short, it is small relief that neither the ECRI Weekly Leading Index nor our recession risk Aunt Minnie have provided confirming evidence of a double dip, because both would require rather minimal extensions of their recent deterioration to go to a hard warning.

Market Climate

As of last week, the Market Climate for stocks remained characterized by unfavorable valuations and unfavorable market action, holding the Strategic Growth Fund to a fully hedged investment stance. In this position, the primary source of day-to-day fluctuations in the Fund is the difference in performance between the stocks held by the Fund and the indices we use to hedge (the S&P 500, Russell 2000 and Nasdaq 100).

The somewhat oversold condition of the market on a short-term basis may soften the impression that there is any urgency to risk management here. I think that could be a mistake. It's worth repeating that if you are following a disciplined investment program and your asset allocation is constructed to weather a wide range of potential risks, I would prefer that you ignore my views and do nothing. But if your investment security or future plans would be unacceptably affected by a further, possibly substantial market loss, and particularly if you'll need the funds in a short number of years, I would suggest getting your risk exposure to the point where you can tolerate negative market outcomes.

Randall Forsyth offered the following nugget in Barron's last week, with which I can't disagree: According to Bespoke Investment Group, there have been 58 "corrections" of 10% or more in the Standard & Poor's 500 since 1927. In 33 cases, the corrections stopped short of the 20% bear market threshold and the market went on to higher highs, while 25 times they grew into a full-grown grizzly. But in the 32 instances when the market has dropped as much as this one has -- 14.4% from the April 23 peak through Monday -- the outcome has been heavily weighted to the losing side. Only seven times drops of that size stopped short of the 20% bear mark. In the 25 other times the decline extended to 20%, the average bear market decline was 35.5%.

As with our own work, we've observed fairly benign market outcomes from similar conditions about 20% of the time. The remaining 80% of the time has been characterized by more pointed losses. The probability mix is not good, particularly because that 80% group has several "fat tail" events featuring deep market plunges. Keep in mind that after a clear break of major support levels, markets often recover back to that previous support, which can create a feeling of "all clear" complacency. Be careful - as I've noted many times over the years, the steepest losses in a market downturn typically follow the "fast, furious, prone-to-failure" rallies that clear an oversold condition.

In bonds, the Market Climate remained characterized last week by moderately unfavorable yield levels and favorable yield pressures. Credit spreads continue to reflect concern about default risk that tends to benefit default-free securities, particularly U.S. Treasuries. Yield levels are not compelling on the basis of holding to maturity, so Treasuries are not long-term values. We have to recognize that the merit of U.S. Treasuries is essentially based on "speculative" factors relating to further credit strains. For that reason, I expect that we will clip our duration in Treasuries (now less than 4 years, mostly in intermediate term notes), in response to a significant further retreat in yields.

My views relating to inflation hedges such as TIPS and precious metals shares still hold - while I strongly expect inflation pressures in the second half of this decade, it is very difficult for investors to maintain that sort of thesis in the face of contradictory short-term evidence. As further credit strains are likely to prompt fears of deflation, I expect that our heaviest positioning in investments like TIPS and precious metals shares will be in response to price weakness on those fears. We've got enough exposure in Strategic Total Return that we would be comfortable with a sustained advance in these investment classes, but again, my expectation is that we'll see opportunities in the quarters ahead to establish larger positions on weakness rather than strength.