Thursday, November 21, 2013

Tapering Into 'Economic Strength'

Another factor I look at to gauge the strength of the economy (present and near-term future) and one I have not discussed openly (that is until today) is the growth in private fixed investments excluding structures. More specifically, the year-on-year growth in my proxy for productive fixed investment relative to its rolling 10-year average. The present the chart of this measure, relative to year-over-year GDP, is shown since the late 1960's.

As you can see, the changes in fixed investment ex. structures has been an great indicator of present economic conditions or more appropriately, the inflection point in economic growth. More so, the changes in fixed investment can help predict, at least in a historical context, the future course of near-term economic growth. Since 1969, average GDP growth in any one quarter was 2.8%, and GDP gained in 88% of the quarters over this same time frame. In contrast, when you see fixed investment declining and below the 10-year rolling average in conjunction with stall-speed GDP (defined as GDP growth, year-on-year, of 1.6% or less), GDP in the future one or two quarters out has significantly trailed that average. To put some figures around that statement, GDP, on average, has shown a decline of 30 basis points in future quarters, and has increased in only 47% of the instances observed. That is a fairly powerful indicator.

I don't know about you, but when I see employment levels accelerating negatively, dividend cuts remaining high, and fixed investment levels trailing the averages and in decline, that is not the most abashed bullish case for the economy. We will only have to see what happens when the Fed decides to officially taper their bond purchases, or if they do how fast they reverse the decision.

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