Economic Indicators-a more in depth look

An insight into the health, direction and potential of a country’s economy is one valuable extra for the investor to pack into his bag of decision making tools. Not always are economic indicators directly applicable to all stocks, but they can provide reliable insight into general market conditions and conditions of market segments. There are always specific stocks capable of moving to the beat of their own drummer.

Economic indicators are one of the most closely followed news items in the investment world. There are coincident indicators which change at about the same time as the overall economy, lagging indicators which change after swings in the economy, and leading indicators which are the ones of most interest to investors attempting to predict stock and market direction.

Leading indicators are those which are thought to change in advance of changes in the economy, giving a preview of what is going to happen before the change actually occurs.

These leading indicators are interpretations of reliable data generated by banking sources, government, and other economic and financial watchdogs. Most have been devised by economists or business analysts and are widely used and accepted.

In the explanations following, you will get a grasp of the origin and validity of leading indicators. With that understanding, it is easier to see why it is important to you in your stock market buying, selling and timing decisions.

One good direct source of economic activity and leading indicators is The Daily, a publication of Statistics Canada. It is published each work day morning and is available on the web. Much of the discussion you will hear on business shows and in media business reports derives their information from the figures released by StatsCan.

Gross Domestic Product (GDP)

The single most important leading indicator for you to be familiar with and understand is the GDP report. The GDP figure is calculated on a quarterly basis, reporting on the aggregated monetary value of all goods and services produced by the entire economy during the three month period.

The investor should be concerned with following changes in the GDP. Historically, our economy has grown at an annual rate of about 2.75%. Deviations from the norm can have significant impact. Growth of the GDP at rates higher than the norm may seem like a good thing, but it is generally referred to as a overheated economy. This is because rapid growth is usually unsustainable and is a precursor to high inflation rates. Growth of the GDP at rates below the norm means the economy is sluggish and can lead to lower spending, decreased confidence, and increases in unemployment.

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Consumer Price Index (CPI)

The CPI is the most commonly used measurement of inflation in the general economy. The CPI measures the dollar amount of change in a consistently constant “market basket” of common consumer goods and services. Prices of items in the basket are measured monthly by conducting actual price checks at a variety of retail locations and suppliers.

Because it is an index, changes in prices are compared against the previous month’s prices and reported as a percentage change relative to the base year, which is 100.

Probably the CPI isn’t a perfectly accurate way to keep track of the rate of inflation because, as indicative of the habits and needs of the general population the “market basket” attempts to be, there are too many variations to the habits of a “normal” consumer, so some population sectors will experience different levels of price change impact. Until a better measure is devised, the CPI will continue to be the most widely quoted number in the news and should be watched with interest even if only for its psychological

The Producer Price Index (PPI)

An index similar to the CPI, the PPI tracks and measures changes in the price of raw materials manufacturers and processors use to produce their products, as well as the wholesale prices they receive from re-sellers. This is another important way to measure inflationary signs existing in the economy. As noted, there are two sets of data. The finished goods figures are the most closely watched because they are the best measure of what consumers will actually have to pay in the near future.

Employment Indicators

The unemployment picture is a key gauge of the health of the economy. Simply, in a healthy economy, unemployment rates will be lower. The percentage of unemployed is not a percentage of the population at large, but rather a percentage of those in our population who are employable, able to work. A breakdown of employment figures also gives figures for the number of new jobs created, average hours worked per week, average hourly pay rate, and the number of people making their first ever unemployment benefits application.

Employment (or unemployment rates) influence greatly, the amount of money circulating in the economy. Every bit as important is the psychological impact. Unemployment rates strongly effect public confidence in the economy.

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Composite Leading Indicator

This is a valuable Statistics Canada calculation of 10 specifically chosen economic components used to track emerging changes in the direction of key sectors of our economy such as new housing starts, factory production orders, and commercial real estate development permits. The composite blend attempts to anticipate household spending, manufacturing, exports, and financial markets.

It is one attempt to overcome some of the objections analysts might have about the frailty or validity of certain single indicators such as CPI.

Retail Sales Index

The Retail Sales Index measures goods sold within the retail industry, from huge chains to small local stores. This index can be skewed by such purchases as a new car, so don’t give a reliable indication of purchasing trends unless they are viewed as “exclusive of autos”. The report can also be considered unreliable because it excludes the purchase of services, which in our modern society, represents more than half of our total consumption. These figures can still be of use to anyone watching indicators of the state of the economy, just be aware of the aforementioned limiting considerations.

Durable Goods Orders

The durable goods orders report measures how much people are spending on long-term purchases (products that are expected to last more than three years). The report is thought to provide insight into the future for the manufacturing industry. The reports are broken down by industry, which helps to eliminate the effects of single volatile industries. Investors are concerned with the overall picture and the markets are moved by general trends across most industries.

Consumer Confidence Index

For a number of years now, our economic performance has outstripped the weaker US economy. Even though we do not always move in unison with our neighbor’s economy, it is impossible to detach from what is happening in the United States.

Consumer confidence is considered a crucial part of the economic picture.

This US produced report measures how confident consumers feel about the state of the economy and their spending power. The basis for this index is the more confident people feel about the stability of their incomes, the more likely they are to make economy driving purchases. The Consumer Confidence Report samples about 5,000 actual households in different geographic areas to arrive at a measure of how the total population feels about their economic security. Many analysts believe that high consumer confidence despite even adverse conditions can cure a lot of what ails an economy. {mospagebreak}

The CCI is interesting to follow because, even when most other indexes and indicators point to a slumping economy, high consumer confidence and consistent spending may help soften the blow or even power a recovery.

The Productivity Report

The productivity report measures how much output is created by a unit of labor. Traditionally, this indicator has been widely overlooked because it was considered to be more important as a “boasting” figure, used to accentuate propaganda about the efficiency of a nations work force. That is changing of late, due to the influential US Federal Reserve Chairman, Allan Greenspan’s acute interest in productivity growth. He and many economists believe that productivity growth allows the economy to grow at unusually high rates without causing inflation.

If productivity is growing, employment costs can increase without heightened inflation resulting.

Canadian Economy Online

There are other leading indicators and as well as some coincident indicators useful to the analytical investor. Many of these are readily available and take little time to consult. Some, such as export figures might not tell a whole lot on their own, but should be monitored. Many times one index has to interpreted in conjunction with another in order to find meaning. For example, falling exports could be significant if it is occurring concurrent to an increase in the value of the Canadian dollar.

It is all about keeping informed.  One government site at www.canadianeconomy.gc.ca is a very good website to consult for officially issued figures on the Unemployment Rate, Inflation Rate, Real GDP, Export Figures, Import Figures, Dollar Exchange Rate, Prime Interest Rate, Standard and Poors Composite Index, Federal Debt, Retail Sales, and others. All these figures help the investor to get a handle on the health of the economy and make their own interpretations of the stability of their investments and projections pertaining to the direction some of their portfolio stocks and investment instruments are likely to move.

After making a practice of reviewing figures such as these, the investor will develop an automatic feel for what the economy is doing without having to enter into any great amount of analysis or calculation. It is all a part of staying informed.

When it comes to investing, no one likes surprises. If you take the time to assess movements in the economy by regularly monitoring the numbers put up on a site like Canadian Economy Online, unpleasantries can be minimized or even avoided, or conversely opportunities could be maximized.