Leading Economic Indicators Point to Continuing Economy and Stock Market Rally

By: Claus_Vogt

The Conference Board Index of Leading Economic Indicators (LEI) has a very good track record in forecasting recessions …

It gave advance warnings for each of the past eight U.S. recessions including the double-whammy recession of the early 1980s and the recent one.

That’s why I believe that it may be a good idea to keep following this indicator’s readings.

I prefer the LEI’s year-to-year percent change to get a glimpse of the U.S. economy’s future. During the current business cycle this version of the indicator made its low in March 2009 at -4 percent. From there it improved every month and turned positive in July. This indicated that an economic rebound had started.

Indeed, GDP grew by 3.5 percent in the third quarter!

And While the Growth Isn’t Genuine, The Market Doesn’t Really Care Now …

Government stimulus is keeping the economy afloat.

As some very good economists have pointed out, this growth is mainly due to government stimulus. This means we’re dealing with an economy on life support.

I don’t expect a genuine and durable boom to start any time soon. The huge balance sheet problems in the private sector and especially in the banks have not been solved. So I suspect they’ll haunt us again, probably in the second half of 2010. At least that’s what the current LEI readings are telling me.

At the same time, the LEI doesn’t differentiate between genuine growth and government-stimulus-based growth.

And the stock market doesn’t care, either — at least in the short to medium term as the monster rally off of the March lows has shown.

So as an investor, I’m not very worried right now about any future setbacks that the economy is likely to suffer.

Currently the LEI is still pointing to a continuation of the economic rebound. After rising 1.9 percent in August it accelerated again in September … up 2.9 percent. It’s also important to note that eight of the LEI’s ten components contributed to this rise, which makes its positive message even more valid.

Bottom line: I cannot see any reason to distrust this time-proven-indicator’s bullish message. Therefore, I expect the rebound to continue.

In last week’s Money and Markets column, I wrote about the technical setup that was signaling a stock market correction. Now that the correction has started, some shorter-term indicators are already entering oversold territory.

This medium-term rally is not over yet.

As I said last week, I expect a somewhat larger correction here, some 10 to 15 percent. So I don’t think it’s time to jump in with both feet yet.

But after this correction has run its course — probably in two to four weeks — I expect the medium-term uptrend that started in March to resume.

This expectation jibes well with the LEI and my medium-term technical indicators. What’s more, comparing last year’s severe sell off and this year’s monster rally to similar historical examples supports this forecast.

Best wishes,

Claus

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