Leading Indicators Higher: Will Commodity Stocks Benefit?

In August, the Conference Board’s Index of Leading Economic Indicators (LEI) rose 0.6%, following gains of 0.9% in July and 0.8% in June. This was slightly below the 0.7% consensus expectation, but on the other hand, the July number was revised up from 0.6%, so the gain was coming off a higher base.

Five of the ten indicators were up on the month, three were down and two were unchanged. This marks the fifth month in a row that the index has been up since it bottomed out in March. Prior to that, it had fallen for 20 straight months — one of the longest negative strings on record.

The five components that were up, in order of their impact on the index, were: the vendor performance index, which rose to 57.1 from 52.0; the spread on 10-year Treasuries versus Fed Funds, which rose to 3.43% from 3.40%; stock prices at 1009.72 versus 935.82; building permits at 579 versus 564; and the index of consumer expectations at 65.0 versus 63.2. Barring any major crash in the next few days, stock prices should be a nice positive influence on the September index.

The biggest drag on the index by far was the real money supply (M2 in chained 2005 prices), which was as big a drag as the interest rate spread was a boost to the index. New claims for unemployment insurance rose to 573,000 from 556,500, but since that data is released weekly, we know that it has since improved to around the 550,000 level and should be a positive contributor to the September numbers.

A decline in new orders for non-defense capital goods also weighed on the index. While capacity utilization has recently started to inch up, it remains extremely depressed, so it is not a big surprise that businesses are not spending money to expand capacity. The decline in the money supply indicates that banks are still holding back on lending, rather than the Fed being restrictive in its monetary policies.

Rather than get too caught in the weeds of the index, it is worth stepping back and looking at the big picture. The trend in the index has turned and it is accelerating. The six-month change in the index is now up 4.4%, while it was up just 3.3% in July, 2.1% in June. Back in March, the six month trend was down 2.7%.

These numbers seem to indicate a much-stronger-than-expected economic recovery in the making. I’m not sure I quite buy it, but the combination of the sweet spot of the economic stimulus package hitting and a stopping of inventory liquidation (even perhaps some rebuilding) could give us a few very nice quarters — it’s the sustainability of them that is the issue.

The U.S., however, does not seem to be alone in starting to recover, and if other countries are recovering, it will also aid in ours. They will be more likely to buy our exports if they are growing.

A world-wide recovery would, however, mean much higher commodity prices, particularly for base metals and energy. This would be good news for the miners like Freeport McMoran (FCX), Rio Tinto (RTP) and Vale (VALE).

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