Market news is full of economic indicators valuable to investors. Unless they’re not. Some experts swear that nothing signals the future for stocks and bonds better than interest rates set by the Federal Reserve. Others…
Market news is full of economic indicators valuable to investors. Unless they’re not.
Some experts swear that nothing signals the future for stocks and bonds better than interest rates set by the Federal Reserve. Others doubt that tea leaves can reveal anything worth knowing.
“It is not that there are no good indicators, or the existing ones are lousy, it is just that most of the data that traditionally can be extracted have been incorporated into analysis [already],” says Terence Tse, associate professor of finance at ESCP Europe.
In other words, if a piece of data is worth knowing, it’s baked into the markets so quickly it’s nearly impossible to use it to get an edge.
Between the extremes are experts who feel the more you know the better, though there are no guarantees.
Indicators commonly used by investors include Federal Reserve interest-rate policy, gross domestic product, inflation, the monthly payroll number and unemployment rate, and consumer sentiment, says Michael S. Sury, lecturer on finance at the University of Texas at Austin.
“Most of these usual suspects are important primarily because of their linkage with the business cycle and their portents of shifts in Fed monetary policy,” he says, referring to the Federal Reserve’s effort to raise interest rates when inflation threatens and to lower them when the economy slows.
Also useful, he says, are the CBOE Volatility Index, or VIX, which indicates if investors are dangerously complacent or overly fearful, as well as the yield curve on Treasury bonds, which forecasts a recession when short-term bonds pay more than long-term ones.
“Monetary policy, the outlook for inflation and economic growth, corporate earnings, and the labor market are probably the most important indicators from our standpoint, says Sameer Samana, a global equity and technical strategist at the Wells Fargo Investment Institute in St. Louis.
Oil prices come high on many lists of best indicators. Gerald Celente, publisher of the Trends Journal says, for example, that rising crude oil prices are combining with drops in some currency values to signal trouble ahead.
“While the cost of oil, which is dollar denominated, is climbing, many developed and emerging market currencies and economies are declining,” Calente says in a recent statement.
He says that these factors have raised the cost of crude in India by 47 percent over the past year, a worrisome sign for the Indian economy.
Corporate earnings, of course, are a key driver of stock prices.
“If companies are earning reasonable rates of return and have visibility toward that continuing, they tend to continue hiring and investing,” Samana says. “If the rates of return start to slow or uncertainty starts to increase, then businesses tend to pull back on hiring and investing.”
Rising inflation is bad because it makes raw materials and labor more expensive and undermines the value of corporate earnings.
Many experts also keep a close watch on labor statistics like unemployment rates, job creation and workforce participation.
“Given the U.S. economy’s composition, consumers are the main driver of economic growth and inflation,” Samana says. “A healthy labor market with solid wage growth drives growth close to potential, allows corporate earnings to grow, keeps the Fed at bay, and keeps inflation in check. A too-hot labor market leads to too much money chasing too few goods, [causing] inflation, and starts to short-circuit the recovery. The reverse is also true.”
Mike Loewengart, vice present of investment strategy at E-Trade in New York, says that some indicators are influenced by others.
“Housing can have a butterfly effect,” he says. “So, if we’re seeing a decline in housing starts, existing home sales, or construction spending, it could signal more widespread issues. It’s a leading indicator meaning that it moves in advance of economic changes. It has broad cross-sector implications like lumber, home furnishing, and energy.”
Loewengart adds there are other factors investors can see for themselves.
“Sometimes there are signals hiding right in front of you, like weather,” he says. “For example, during hurricanes there is a fear that oil demand will outweigh supply, driving up crude prices and energy sector performance.”
Hurricane season can be bad for insurance stocks and good for home improvement stocks, he says.
So, what does it all add up to?
Michael Tanney, co-founder and managing director of Wanderlust Wealth Management in New York, suggests investors resist the impulse to rely on market and economic data and instead use common sense, avoiding short-term bets and making their own assessment.
“The strongest indicator isn’t from government agencies or a pundit on TV,” he says. “The strongest indicator that the good times are coming close to an end is when people in your life, who have no financial savviness, start talking about investing their money into the market because everyone is making money and they aren’t. It’s the cleanest, purist indicator that there is now a bubble and stocks are overreaching.”