How Leading Are Leading Economic Indicators?

This morning’s report from the Conference Board showed that the index of leading economic indicators in the United States rose in November by what appears to be the most in eight months and marks the fifth consecutive gain.  The hope is that this signals a further recovery in early 2011.

The outlook for the next 3-month to 6-month period rose 1.1% to a reading of 112.2.  This basically matched the Bloomberg consensus estimate of 1.2%.  We would note that 6 of the 10 components had gains in the latest month.  The leading indicators rose 0.4% in October and 0.6% in September.

The Coincident Economic Index rose 0.1% in November to 101.7, following a 0.2% gain in October and a -0.1% drop in September. The Lagging Economic Index fell by -0.1% in November to 108.6, versus no change in October and a 0.6% gain in September.

It seems that the “Leading Indicators”  are  just not as leading as many investors think.  We wanted to delve deeper into the reality of leading indicators versus how leading the data truly is.  Bloomberg’s definition is “A composite index of ten economic indicators that should lead overall economic activity. This indicator was initially compiled by the Commerce Department but is now compiled and produced by The Conference Board.”

Here is our take on why leading indicators may not be as leading as many think they are on the surface.  There have been revisions to the calculation when LEI has lagged in predicting turning points.  Here are the ten components that comprise LEI, with our comment about why and how much of the data is not so leading:

• Average weekly hours, manufacturing;
• Average weekly initial claims for unemployment insurance;
• Manufacturers’ new orders, consumer goods and materials;
• Index of supplier deliveries – vendor performance;
• Manufacturers’ new orders, nondefense capital goods;
• Building permits, new private housing units;
• Stock prices, 500 common stocks;
• Money supply, M2;
• Interest rate spread, 10-year Treasury bonds less federal funds;
• Index of consumer expectations.

Much of this data is known by the time LEI is released.  That is why it is surprising when there are large differences in the LEI versus consensus estimates.  The combination of these figures is meant to predict the few months ahead, and that is where the “leading indicator” comes from rather than this just being another outlook that might seem more “leading” than these retroactive numbers.

Leading… Sort of.

JON C. OGG