Economy is Showing Some Green Shoots

As we often talk about the stock market is a barometer of future economic activity. With amazing accuracy and precision this great indicator will generally tell us what is in store for us, almost like a crystal ball. The market sniffs out the good/bad of the economy far in advance, likely six to eight months out. As traders/investors it is hard to think more than six to eight minutes away let alone hours, days, weeks or months. However, if we step back and look at the bigger picture we can see some very positive developments for the future – yes, even with the political wranglings in Washington overhead.

I look to several economic reports to form an opinion on the economy, and what is significant is all of this data have an effect on the stock market. Further, many of these indicators are forward-looking, so we can see why they are in sync with the markets. Now, there are many indicators that can be great predictors but I prefer the ones with little noise and represent various areas of the entire economy.

Let’s briefly take them one-by-one. On the domestic side, the most important is Industrial Production. This is a great leading indicator of economic strength/weakness. Recent trends in this indicator are strong but not strengthening but production is at a pretty decent level. Purchasing Managers Index (PMI) ties into this one and the most recent trend is higher, along with the ISM figure which also shows robust growth occurring. When it turns lower that is a very important warning sign as many of the other indicators will trickle down from this one. For now this one is fine.

Next up is Retail Sales, which have been unusually resilient. What do they say, never count out the consumer? The holiday shopping season was seen as a success for most retailers, now we head into a slower period into the summer. Home sales, starts and permits are a great indicator of economic activity as it has tentacles that reach many economic growth areas. From jobs to lumber to copper and Home Depot sales the housing market renaissance has been a major contributor to the recovery. We continue to see strong numbers, and that should continue through 2013. Additionally, the good housing market reflects a favorable interest rate environment courtesy of the Fed. Banks are also gaining the benefit as they start to make loans to consumers and businesses.

Factory orders and durable goods are important catalysts and show inventory levels, re-stocking and trends in ordering. Employment figures are a major part of growth too, the Fed being vocal about it as well. Jobless claims are a bit noisy but smoothed out the data will show good trends, the monthly job number is also a bit noisy but taken with the revisions a collection of months paint a pretty decent picture. While the growth is not as robust as many would want let’s remember this is a very big economy and it takes small steps to lead to bigger steps. In this world of ‘Veruca Salt‘ where everyone ‘wants it now’ the growth in jobs will never be satisfying.

Finally, let’s talk earnings. Much talk has been made recently of a downturn in the next earnings cycle but frankly the recent data is not showing it. Earnings acceleration and growth are trend figures, and the turn higher to better numbers may be occurring right now. According to Stephanie Link, co-portfolio manager of Action Alert Plus, third quarter came in lower by 5% but so far the fourth quarter is coming in at a healthy 6.5% growth over 2011, revenues up a modest 2.2% with 2/3 of the companies beating estimates. This all with reduced economic activity during the quarter due to Hurricane Sandy.

So, collectively the economic data is showing some positive trends. The GDP is expected to grow at 2-2.5% this year, but if these trends continue we’ll see a 3 handle on that number and approaching a 4. Next article we’ll talk about the strong trends currently overseas and how they could boost the domestic performance.

Bob Lang

Bob Lang, Senior Market Strategist and trades various option strategies for option trading newsletter Explosive Options