Leading the Way

A quick and simple indicator of the US economy’s health is the year-over-year change in the Conference Board’s Index of Leading Economic Indicators (LEI); when this indicator turns negative the US is likely headed for recession. The LEI is assembled using 10 constituent indexes. Here’s a rundown of all 10 indicators, and what each means.

Average Weekly Hours Worked

This index measures the average number of hours production workers work per week. If a manufacturing company is looking to cut costs due to softening demand, its first step would be to cut back on the number of hours employees work.

Similarly, during upturns, as demand increases a company’s first move might be to increase overtime as a means of boosting output; it takes time to hire and train new workers.

Average Weekly Initial Jobless Claims

Jobless claims measure how many workers are filing for unemployment compensation for the first time in a given week. Because weekly claims are inherently volatile from week to week, the index averages claims over a given four-week (one-month) period.

This index offers a good gauge as to the state of the employment market–when initial claims rise, you can bet the unemployment rate will soon follow. Rising claims indicates a weakening economy.

Manufacturers’ New Orders for Consumer Goods and Materials

This is an index of the inflation-adjusted dollar value of new orders for consumer goods and related raw materials.

When retailers start ordering more goods from their manufacturers, that suggests underlying demand for those goods is starting to turn higher or, at the very least, inventories of those goods are beginning to fall and need to be replenished.

At any rate, as orders pick up, actual manufacturing output would begin to pick up some weeks later as orders are filled. This signals an upturn.

Vendor Performance

This index shows the speed at which companies receive deliveries from their suppliers. When delivery speed slows, this index rises.

If you’re a company that makes a product and it takes longer for you to get supplies, it likely means your suppliers are struggling to meet demand and are experiencing delays.

When demand is weak, your suppliers have plenty of spare capacity and will quickly send you the supplies you need; after all, in a weak demand environment they probably need the cash. Therefore, when this index begins to rise, it can be an early sign that there’s been an improvement in demand.

Manufacturers’ New Orders of Non-Defense Capital Goods

This index measures the total inflation-adjusted dollars worth of orders for nondefense capital goods. Capital goods include heavy equipment and machinery used to manufacture other goods.

If manufacturers need new equipment, it’s a good sign that demand for their products is picking up.

Because defense-related capital goods are more indicative of government demand than the economy’s overall prospects, they’re excluded from the index.

Building Permits

This is a measure of the number of residential building permits issued in the US. If consumers are filling for building permits, it typically means they’re planning construction projects. The filing for permits actually leads construction demand by several months.

Stock Prices

This is nothing more than the S&P 500 Index. The stock market has historically bottomed out roughly five months before the end of a recession. Therefore, stock prices are the quintessential leading indicator.

M2 Money Supply

A measure of the total amount of inflation-adjusted money in the economy, M2 encompasses physical currency, checking and savings deposits as well other immediately available, on-demand forms of money.

When the inflation-adjusted money supply grows, that means monetary policy is easy and expansionary. This tends to be stimulatory for the economy.

10-year Government Bonds Less Fed Funds Rate

This measures the difference between the yield on a 10-Year US Treasury bond and the current federal funds rate. This is essentially a measure of the yield curve’s steepness.

When short-term interest rates are low (fed funds rate is low) relative to longer-term bonds–a steep yield curve–it’s an indication that the US central bank has been easing monetary policy.

Index of Consumer Expectations

This data is collected by the University of Michigan and is derived via a series of questions asked to a large sample of consumers.

When consumer expectations for the future become more positive, they tend to spend more money, and that helps support economic growth. When they’re not optimistic, consumers tend to cut back and save money in case their circumstances change for the worse.

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