Business Cycle Rotation Part 6: Conclusions
To Recap:
In parts one and two we used MACD monthly perspective momentum across a large number of tradable assets to produce a matrix of tradable assets, and then to distill an overview of each category's momentum state.
The raw data is placed in the quadrant most consistent with the combination of the MACD momentum state and its price trend.
The raw data is distilled into 7 categories and placed into the position in the matrix that best describes the majority of the group.
Part three illustrated using the Organization for Economic Co-operation and Development (OECD) Composite Leading Indicator (CLI) for the United States plotted in conjunction with the assets from the matrix to view the economies and position in the business cycle and the markets position in the market cycle.
To better visualize the cycles, the data is also placed in stylized business and market cycle diagram.
In part 4 we focused on the changes between the end of 2022 and the end of 2023 with a focus on the rates market.
After considering the weight of the evidence presented in the first four installments of this series:
Business Cycle: Despite the great Q3 2022 GDP print and above trend GDP growth over the 4 quarters ending with September 2023, the business cycle continues to gradually weaken. This can be seen in the chart of the Organization for Economic Co-operation and Development (OECD) Composite Leading Indicator (CLI) for the United States.
Rates: Led this business cycle lower (as one would expect) and it is likely that they will lead the next business cycle higher. Short rates (inverted to place on the same scale as price) may be turning as they have lost their momentum and are threatening to turn higher in price (lower in yield). A confirmed turn would suggest that a recession (probably in excess of the current soft landing narrative) had arrived.
It is important to note that since early 2021, short rates have risen significantly more than long rates. This created the type of yield curve inversion that has historically signaled a coming recession. Over the last three months short rates have fallen significantly, flattening the curve back toward un-inverted.
I view the initial inversion as a "something odd is happening" warning. What captures my undivided attention is a rapid reversal (back to normal) in which short rates fall more quickly than long rates and the curve moves back into it's normal, positively sloped, configuration. When this happens, a recession is only a few months away. For now, the curve has moved sharply toward normalization, but still hasn't moved above 0 (flat).
Equities: I have equities in the "strong decline" quadrant (explanation in part two of the series). While the rally of the last three months does call this view into question, the positioning of rates, the CLI position, and the positions of commodities all tend to support the view. Note that the NYSE Comp is still significantly below its early 2022 cycle high.
Importantly, equities are typically strong, often setting new highs, just prior to a recession and that they subsequently trough during or just after a recession. As the recession matures, technical lows in equity charts generally offer important entry points to positional longs.
I will repeat again, new highs imply very little about the likelihood of an economic recession.
To believe that the US is going to escape a recession, one would need to embrace the soft or no landing thesis. This is not my base case. But, the best argument for that outcome is the M2 money supply regression chart discussed in part 5. The existing stock of money offers a strong argument that this time may be different, or at least delayed.
The next best argument is that AI is going to provide immense, immediately available improvements in productivity and immense technological gains. But, I think this is an argument for the business cycle that follows the next recession.
Once the recession matures, lower rates will eventually lead to better equities, higher commodities, and an improving business' cycle. As the flight-to-quality runs its course and the economic cycle becomes more normal the DX will begin influencing commodities again. The Dollar and commodities TEND to trend in opposite directions but the Dollars relationship to other asset classes and the cycle is highly variable. Commodities charts remain consistent with a weaker business cycle.
The Dollar index remains mired in the center of both a long term trading range and an multi year channel. This period of generally trendless trading may be ending as volatility has broken above a 40 year down trendline, and is finally making a higher low and a higher high.
Conclusions:
The weight of the evidence (even with the SPX/Tech rally) remains consistent with a weakening business cycle that has yet to enter recession.
Rates: The violent decline in short relative to long rates over the last three months is normalizing the curve. Market driven short rates generally lead and the Fed the Fed Funds rate follow. A positive sloped curve (long rates higher than short rates) would strongly suggest that a recession was likely in coming months.
Equities: Generally peak prior to a recession before correcting significantly during the recession. Recessions typically provide excellent entry points for equity and risk asset investors.
Commodities remain consistent with a weakening business cycle.
Man plans, God laughs.
And finally, many of the topics and techniques discussed in this post are part of the CMT Associations Chartered Market Technician’s curriculum.
Good Trading:
Stewart Taylor, CMT
Chartered Market Technician
Taylor Financial Communications
Shared content and posted charts are intended to be used for informational and educational purposes only. The CMT Association does not offer, and this information shall not be understood or construed as, financial advice or investment recommendations. The information provided is not a substitute for advice from an investment professional. The CMT Association does not accept liability for any financial loss or damage our audience may incur.
In parts one and two we used MACD monthly perspective momentum across a large number of tradable assets to produce a matrix of tradable assets, and then to distill an overview of each category's momentum state.
The raw data is placed in the quadrant most consistent with the combination of the MACD momentum state and its price trend.
The raw data is distilled into 7 categories and placed into the position in the matrix that best describes the majority of the group.
Part three illustrated using the Organization for Economic Co-operation and Development (OECD) Composite Leading Indicator (CLI) for the United States plotted in conjunction with the assets from the matrix to view the economies and position in the business cycle and the markets position in the market cycle.
To better visualize the cycles, the data is also placed in stylized business and market cycle diagram.
In part 4 we focused on the changes between the end of 2022 and the end of 2023 with a focus on the rates market.
After considering the weight of the evidence presented in the first four installments of this series:
Business Cycle: Despite the great Q3 2022 GDP print and above trend GDP growth over the 4 quarters ending with September 2023, the business cycle continues to gradually weaken. This can be seen in the chart of the Organization for Economic Co-operation and Development (OECD) Composite Leading Indicator (CLI) for the United States.
Rates: Led this business cycle lower (as one would expect) and it is likely that they will lead the next business cycle higher. Short rates (inverted to place on the same scale as price) may be turning as they have lost their momentum and are threatening to turn higher in price (lower in yield). A confirmed turn would suggest that a recession (probably in excess of the current soft landing narrative) had arrived.
It is important to note that since early 2021, short rates have risen significantly more than long rates. This created the type of yield curve inversion that has historically signaled a coming recession. Over the last three months short rates have fallen significantly, flattening the curve back toward un-inverted.
I view the initial inversion as a "something odd is happening" warning. What captures my undivided attention is a rapid reversal (back to normal) in which short rates fall more quickly than long rates and the curve moves back into it's normal, positively sloped, configuration. When this happens, a recession is only a few months away. For now, the curve has moved sharply toward normalization, but still hasn't moved above 0 (flat).
Equities: I have equities in the "strong decline" quadrant (explanation in part two of the series). While the rally of the last three months does call this view into question, the positioning of rates, the CLI position, and the positions of commodities all tend to support the view. Note that the NYSE Comp is still significantly below its early 2022 cycle high.
Importantly, equities are typically strong, often setting new highs, just prior to a recession and that they subsequently trough during or just after a recession. As the recession matures, technical lows in equity charts generally offer important entry points to positional longs.
I will repeat again, new highs imply very little about the likelihood of an economic recession.
To believe that the US is going to escape a recession, one would need to embrace the soft or no landing thesis. This is not my base case. But, the best argument for that outcome is the M2 money supply regression chart discussed in part 5. The existing stock of money offers a strong argument that this time may be different, or at least delayed.
The next best argument is that AI is going to provide immense, immediately available improvements in productivity and immense technological gains. But, I think this is an argument for the business cycle that follows the next recession.
Once the recession matures, lower rates will eventually lead to better equities, higher commodities, and an improving business' cycle. As the flight-to-quality runs its course and the economic cycle becomes more normal the DX will begin influencing commodities again. The Dollar and commodities TEND to trend in opposite directions but the Dollars relationship to other asset classes and the cycle is highly variable. Commodities charts remain consistent with a weaker business cycle.
The Dollar index remains mired in the center of both a long term trading range and an multi year channel. This period of generally trendless trading may be ending as volatility has broken above a 40 year down trendline, and is finally making a higher low and a higher high.
Conclusions:
The weight of the evidence (even with the SPX/Tech rally) remains consistent with a weakening business cycle that has yet to enter recession.
Rates: The violent decline in short relative to long rates over the last three months is normalizing the curve. Market driven short rates generally lead and the Fed the Fed Funds rate follow. A positive sloped curve (long rates higher than short rates) would strongly suggest that a recession was likely in coming months.
Equities: Generally peak prior to a recession before correcting significantly during the recession. Recessions typically provide excellent entry points for equity and risk asset investors.
Commodities remain consistent with a weakening business cycle.
Man plans, God laughs.
And finally, many of the topics and techniques discussed in this post are part of the CMT Associations Chartered Market Technician’s curriculum.
Good Trading:
Stewart Taylor, CMT
Chartered Market Technician
Taylor Financial Communications
Shared content and posted charts are intended to be used for informational and educational purposes only. The CMT Association does not offer, and this information shall not be understood or construed as, financial advice or investment recommendations. The information provided is not a substitute for advice from an investment professional. The CMT Association does not accept liability for any financial loss or damage our audience may incur.
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