Thursday, April 19, 2012

LEI index points to improving economy but is it reliable?

Economic numbers out of the US continue to surprise to the downside. Just today the jobless claims came in higher than expected. The Philadelphia Fed activity came in lower than expected. Existing home sales were down 2.6% month over month versus up 0.7% per economists' survey. The Citigroup US Economic Surprise Index is continuing to trend down.

Citigroup US Economic Surprise Index

It was therefore strange to see the Conference Board US Leading Economic Indicator (LEI) beating expectations to the upside. Does it mean that LEI is ahead of the game and is pointing to improved economic conditions in the near future? Not necessarily. The chart below compares LEI with the US existing home sales data.

LEI (LHA, white) vs existing home sales (RHA, orange, MM homes)

In the past decade, at least compared to US home sales, LEI was actually more of a lagging indicator. This doesn't mean that LEI is irrelevant, but it does indicate that LEI may not always signal an improving economy. Below are the components of the index, some of which may have a considerable amount of "noise".

1. Average weekly hours, manufacturing
2. Average weekly initial jobless claims
3. Manufacturing new orders, consumer goods and materials
4. ISM new orders, consumer
5. Manufacturers' new orders, nondefense capital
6. Building permits, new private housing units
7. Stock prices
8. Leading Credit Index
9. Interest rate spread (10 treasury yield less fed funds)
10.Average consumer expectations
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