The US economic trend remains solidly positive, but signs of slowing growth persist. For now, the risk of recession remains virtually nil and it’s unlikely that a downturn will start in the immediate future, according to broad set of indicators. But projections for next year, which remain highly speculative at this point, suggest that recession risk will rise – a forecast that deserves close attention as new data arrives in the weeks ahead.
Keep in mind that looking beyond two or three months for business-cycle analysis is a dicey affair and so at this stage it’s wise not to take the warning signs for 2019 too seriously. A lot can change between now and next April, when projections point to a possibility that a new downturn could start. It’s short-sighted to ignore this potential turning point for the business cycle, but for now it’s prudent to consider this a distant threat that may or may not arrive.
Meantime, the macro profile for the US remains healthy, based on data published to date. Although the strength of the broad trend has decelerated in recent months, the current reading still aligns with a solid expansion and low recession risk.
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By James Picerno
The Capital Spectator continues to estimate a virtually nil probability that a new NBER-defined downturn started in September, according to analysis of a diversified set of economic indicators. (For a more comprehensive review of the macro trend with weekly updates, see The US Business Cycle Risk Report.)
Aggregating the data in the table above continues to indicate a strong positive trend overall through last month. The Economic Trend and Momentum indices (ETI and EMI, respectively) remain well above their respective danger zones (50% for ETI and 0% for EMI). When/if the indexes fall below those tipping points, the declines will mark warning signs that recession risk is elevated and a new downturn has started or is near. The analysis is based on a methodology that’s profiled in my book on monitoring the business cycle.
Although ETI and EMI remain in positive terrain, both indexes have been edging lower this year, as shown in the chart below. The deceleration may turn out to be noise, of course, and so its premature to read too much into the downside bias at this point. As the historical record for these indexes reminds, periods of deceleration can sometimes be temporary affairs that eventually lead to rebounds rather than recessions.
Translating ETI’s historical values into recession-risk probabilities via a probit model points to low business-cycle risk for the US through last month. Analyzing the data in this framework indicates that the odds remain effectively zero that NBER will declare September as the start of a new recession.
For the near-term outlook, consider how ETI may evolve as new data is published. One way to project values for this index is with an econometric technique known as an autoregressive integrated moving average (ARIMA) model, based on calculations via the “forecast” package in R. The ARIMA model calculates the missing data points for each indicator for each month — in this case through November 2018. (Note that July 2018 is currently the latest month with a complete set of published data for ETI.) Based on today’s projections, ETI is expected to remain well above its danger zone through next month.
Forecasts are always suspect, but recent projections of ETI for the near-term future have proven to be reliable guesstimates vs. the full set of published numbers that followed. That’s not surprising, given ETI’s design to capture the broad trend based on multiple indicators. Predicting individual components, by contrast, is subject to greater uncertainty. The assumption here is that while any one forecast for a given indicator will likely be wrong, the errors may cancel out to some degree by aggregating a broad set of predictions. That’s a reasonable view, based on the generally accurate historical record for the ETI forecasts in recent years.
The current projections (the four black dots in the chart above) suggest that the economy will continue to expand for immediate future. The chart also shows the range of vintage ETI projections published on these pages in previous months (blue bars), which you can compare with the actual data (red dots) that followed, based on current numbers.
For more perspective on the track record of the ETI forecasts, here are the vintage projections in the past three months:
Note: ETI is a diffusion index (i.e., an index that tracks the proportion of components with positive values) for the 14 leading/coincident indicators listed in the table above. ETI values reflect the 3-month average of the transformation rules defined in the table. EMI measures the same set of indicators/transformation rules based on the 3-month average of the median monthly percentage change for the 14 indicators. For purposes of filling in the missing data points in recent history and projecting ETI and EMI values, the missing data points are estimated with an ARIMA model.