Employment is typical of a class of economic indicators, called lagging indicators, that are poor at predicting how the economy will perform in the near future. However, when it comes to providing confirmation that a particular trend is in place — whether it be a recovery or a recession — lagging indicators can play a vital role. Here’s a roundup of some common lagging indicators and why they can provide useful information for investment decisions.
Employment
Rising unemployment is usually one of the final signals that a recession has begun, and rising employment is among the last indications that an economy is recovering. In both situations, it’s difficult to miss the influence of human emotion in the business cycle. During a slowdown or a recession, employers may cut back on other expenses in order to avoid layoffs for as long as possible. And when conditions begin to improve, employers may avoid hiring until they are confident that the recovery is sufficient to justify additional labor costs.
Corporate Earnings
Earnings are a lagging indicator because they reveal past performance. Most publicly traded companies release their quarterly earnings one month or more after the quarter has ended. So even though stock prices are technically a leading indicator, actual corporate earnings performance may say little about what to expect in the future. However, if economic activity seems to be faltering, yet no recession has been officially declared, economists may look at earnings and other measurements of business revenue for confirmation.
The Conference Board Lagging Index®
Perhaps the most important lagging indicator, which actually gets little attention, is The Conference Board Lagging Economic Index. As with other lagging indicators, this index is most useful when compared with leading and coincident indicators. Coincidentally, The Conference Board also produces coincident and leading indexes, which makes comparisons convenient.
The lagging index tracks average duration of unemployment, manufacturing and trade inventories to sales ratio, labor cost per unit of manufacturing output, the average prime rate, outstanding commercial and industrial loans, ratio of consumer credit outstanding to personal income, and the consumer price index for services.1 Changes in these seven variables are averaged to arrive at an index value.
Although some experts consider the lagging index to be a lackluster source of information, economists tend to pay close attention when it shows something other than a confirmation of the direction of the leading and coincident measures. A divergence suggests that the stock market may have misinterpreted the direction of the economy.
Lagging indicators rarely make headline news, but they are an important source of information. We can help you keep an eye on these and other indicators.
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1) The Conference Board, 2010
The information in this article is not intended as tax or legal advice, and it may not be relied on for the purpose of avoiding any federal tax penalties. You are encouraged to seek tax or legal advice from an independent professional advisor. The content is derived from sources believed to be accurate. Neither the information presented nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. This material was written and prepared by Emerald. © 2011 Emerald Connect, Inc.
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