Simply Money: Economic data isn't always elementary

May 30, 2014

Sherlock Holmes is one of the all-time great characters in literature, film, and television.  From his residence at 221B Baker Street, the English detective and his trusted assistant Dr. Watson solve a variety of seemingly impossible cases while battling wits with their arch-nemesis, Mr. Moriarty.  

The name “Sherlock” is synonymous with an unflinching conviction based upon a rigorously applied brand of deductive reasoning.  No clue is too small, no leap or inference too fantastic. This is a detective who can eliminate suspects based on cigar ash, and reveal a stranger’s occupation by noting how he handles his pocket watch.

Since the economic crash of 2008 and the rise of 24-hour news cycle, it’s difficult to go a few hours without hearing economic figures or data points. The inclination for some professional and amateur investors is to take this information and form hard-and-fast forecasts, a la Sherlock Holmes.  Moderation or hesitation is abandoned for bold conclusions and audacious pronouncements.  

Be cautious of this. While their confidence is alluring, a long-term investing strategy is not a Sherlock short story. They may indeed have noble intentions but the economy is too complex - and the data cache too vast - to permit an absolute consensus on what is currently happening, let alone what the future holds. 

Barring the emergence of a Holmesian-type figure, economists and advisors are left with indicators to help disclose – in hard-to-decipher bits and pieces - what’s going on. These indicators can be separated into three categories and are based upon when they occur in the business cycle. Here’s a straightforward breakdown, along with a few extra unconventional approaches. 

Leading indicators: These usually change before the economy changes.  If you want to predict the direction of the economy, this is the category to watch. The most common leading indicator is the stock market.  It tends to go up before the general economy improves, and declines before the economy slumps.  Other popular leading indicators include building permits, money supply, and the average weekly jobless claims for unemployment insurance. 

Lagging indicators: These indicators trail the general economy and usually by a few months or quarters.  They often help confirm suspicions originally conceived when analyzing the leading indicators.  The most common lagging indicator – and certainly one we watch – is the unemployment rate.  It typically improves slower than the rest of the economy, which we’ve witnessed the last few years.

Coincident indicators: These move with the economy and provide great insight into its current state.  Some good examples include GDP (Gross Domestic Product) and retail sales.  Look at these to see where we currently stand.

Unconventional indicators: One example is the Hemline Indicator. Introduced in 1926, the thinking was that during robust times, women shortened their dresses to show off their expensive stockings – so the higher hemline, the stronger the economy. Other examples include the Men’s Underwear Index (men will stop buying new underwear during hard times to save money), the Buttered Popcorn Index (to escape reality during down times, you’ll hit the movies – and the popcorn) and the Craigslist Indicator (tracking the average price of apartments available on Craigslist for a particular urban market). 

And even with all these indicators, the task of predicting the economy and financial markets remains incredibly difficult.  Everything is not as “elementary” as some of the more bold prognosticators would have you believe.  Our advice for long-term investing success is to find a good – and humble – financial professional, preferably a Certified Financial Planner (CFP®) who understands that strategic planning eliminates the need for any mystery. 

 

Nathan Bachrach and Ed Finke and their team offer financial planning services through Simply Money Advisors, a SEC Registered Investment Advisor. Call (513) 469-7500 or email simplymoney@simplymoney.net