Thursday, May 20, 2010

Financial indicators still point to recovery

This chart has the best track record of signalling recessions of any that I'm aware of. The blue line is the real Fed funds rate, and the red line shows the slope of the Treasury yield curve from 1 year through 10 years. Every recession for the past 50 years has been preceded by a rise in the real Fed funds rate and an inverted (negatively sloped) yield curve. When real short rates are high and the yield curve is inverted, its because the Fed is aggressively tightening monetary policy, and this eventually strangles the economy.

Conditions today are the exact opposite, and point to continued recovery. The Fed is easy, real short rates are negative, and the yield curve is almost as steep as it's ever been (even though it has flattened somewhat today). It would be astonishing if a recession were to develop given how accommodative financial conditions are today. (And I note that conditions in Europe are quite similar to conditions here in the U.S.)


Unknown said...

I am a french canadian and i really appreciate your blog. I am reading your post everyday. Could you give us your opinion about the warning gave by Richard Russel this week ?

John said...

I think maybe you meant 'if recession were to develop' rather than 'recovery'.

If I am reading it correctly, please delete this if you wish.


Scott Grannis said...

oops, thanks for catching that

Scott Grannis said...

Re Richard Russell: I do consult charts from time to time, and I know they can be convincing at times. But I'm very reluctant to follow the advice of chart readers when I don't see any fundamental indicators backing them up.

In any event, I'm sure Russell's warning of impending doom is a factor behind the market's recent bout of nerves. There is no shortage of doomsayers these days.

Public Library said...

This wouldn't be the first indicator in the past couple of years to break long-held assumptions.

Public Library said...

Steep yield curve that is...

John said...


If you are out there, you asked earlier about BP and would I buy it here.

I have walked away from Bp because of the oil spill (I hold no grudge, it was an accident) but I choose not to be a shareholder. However, I know of a very astute INVESTOR who is buying. I think it is the yield and the extreme negetive sentiment that attracts him.

Just sayin'

Frozen in the North said...

I suspect that your analysis is correct, but at no time in the past 50 years has the U.S. economy been in a deleveraging situation (monetary contraction too -- gosh I would like for M3 to be still published). To see something similar you have to go back to the 30's and the 70s (1870s that is).

The usual tools of recovery don't appear to function. S/T Interest rates are low, and there is no recovery (aside from government expenditure), companies in the U.S. are reducing debt, reducing costs -- generating more profits (through an increase in productivity) but no top line growth.

The one modern comparison is Japan; after the 1987 crash, Japanese companies cut borrowing, top line growth went out of the window (BTW its not a very good comparison).

You know the phrase: This time its different -- this time, it may just be so.

P.S. Still enjoy your blog

Benjamin Cole said...

Understand on BP.

They are getting hit with a triple whammy--oil is soft, the blow-out and the stock market is skittish.

I think it is a buying opp..might wait for some more bad news on the spill, but it's looking pretty bad already...

You sure won't be buying at the top....

Scott Grannis said...

Frozen: The weakness in M2 has been way over-hyped. If you take a long-term view, what you see is that M2 grew very fast and was way above its long-term trend from Q3/08 through Q1/09. It then slowed way down and is currently approaching its long-term trend once again. There is no evidence at all of monetary contraction.

Over the past 15 years M2 has grown on average about 6% per year. That compares to 5% nominal GDP growth and 2.5% inflation over the same period.

I would also note that there is no reason for deleveraging to lead to economic weakness. Growth is not built on leverage, it's built on productivity.

Anonymous said...


I've been quietly reading your posts for a few months, never commenting (Dont feel qualified) but I simply have to thank you for what you do for us small investors.

Your posts are an oasis of calm, thoughtful and reasoned analysis in a sea of media hysteria!!

Thanks for helping and sharing your knowledge.




I'm getting pretty tempted with BP also,nice dividend!!

Scott Grannis said...

Thanks for the encouraging words!

John said...


Just remember a dividend is not a legal obligation. BP has a lot of potential liability and if the losses get really bad it could be cut.

I added a SMALL position in Exxon this AM. Lower divvy but it won't be cut. Also, the price is barely above the lows of march '09. IMO XOM is as strong as they come so the downside is limited.

Don't worry about your quallies. Most of us around here (except Scott) are groping through the fog together.

John said...


Enjoyed your bike video! You're a regular Jimmy Rogers!

Anonymous said...


The motorbike blog is my distraction, it also shows what a cheap bast&%d I am lol.

Yeah BP clean up liabilities is whats held me back, Obama seems to want to really stick it to them!!

I've got some divies arriving next week and am tempted to put it back in to my London comm real estate reits, they have been very good for me on both div yield and share price appreciation.

Thanks for the Exxon tip but I cant buy American stocks anymore, some IRS thing has expired and needs to be signed or something??

I'm a Brit living in the unknown tax haven of Turkey. They have a very similar tax collecting structure here as next door Greece (voluntary)I just cant see how the Greek gov can collect the tax due.

It really is cultural in this part of the World to not pay or grossly fiddle what little one pays!!

Jim Rodgers lol....I like listening to him also, hes funny, he and a friend drove a yellow Merc around the World many years ago, I would love to do that lol.



John said...


One euro company you likely can get in London is the Swiss drug giant Novartis (NVS). The yield is decent and they raise it regularly. They own a big hunk of Roach pharma, which owns probably the best biotech company Genentech. Someday NVS will own all of it. I think it is probably privately and informally understood that it will happen in time. Great generic drug business to go along with their pharma.

Check it out for yourself. I have had a small amount for many years.

John said...


I believe the majority of the case the bears are using is the dreaded 'double dip' recession. I therefore think that IF our economy continues to grow at least at a 3% pace the current fears in the market will subside rather quickly. I was frankly surprised the panic was as intense as it was/is. The European troubles are serious but I think manageable in the short term. They are also rather plain compared to the complexities of the Lehman debacle. We are apparantly still too close in time to that event for many market participants to have the patience and pain tolerance to weather the storm.

So I think either the market finds a bottom pretty close to where we are and rises later in the year OR we go down considerably more. It largely will depend on how our economy performs.

Just my cheap opinion.

John said...

I forgot to add, I am betting heavily on the continued economic recovery in the economy and the markets.

Unknown said...

Talking stock picking, I can't resist show you United Steel (X).Take a look on last three corrections,(IX -XI 2009, I-II 2010 and now (assuming the current one is over), they were ca 36% every time,

John said...


You have picked one wooley beast to ride! US Steel (X) is a highly cyclical company tied to the business cycle. You are correct. It will reward you handsomely if we have the recovery Scott thinks we will have. But be ready to sell it when times get good again (IF they get good again!).

Good luck!