The Best 'Unknown' Indicator

Tyler Durden's picture

Authored by Kevin Muir via The Macro Tourist blog,

Lately there has been all sorts of chatter about the collapse of Chinese Iron Ore prices. There can be no denying, the chart looks like death.

A move from 95 to 65 is more than 30%. Given it happened in a little over a month, the decline has been horrific.

What does this mean?

Without checking any of my charts, I expected most global industrial commodities to at least be trending lower along with iron ore. Combined with the recent soft economic releases in the United States, it was easy to envision a scenario where the CRB Spot Raw Industrial Index was down 10-20% from the highs.

Much to my surprise, the chart for US Spot Raw Industrial commodities was nothing as I expected.

After a big Autumn run, the CRB Spot Raw Industrials has barely declined. It is still within spitting distance of recent highs.

Why does this matter?

Recently the Trump reflation trade has tipped from exuberance to disillusionment. A few months ago investors were all bulled up on the prospects of deregulation and tax cuts. As the difficulties for the new President to pass his agenda has become obvious, the market has abandoned this theme quicker than Lindsay Lohan ducks out of her court ordered mandatory AA meetings.

Have a look at this chart from BofA Merrill Lynch that shows the degree to which global fund managers are overweight US equities.

Fund managers, who before the election had been underweight U.S. equities, rushed in to buy American stocks on Trump reflation hopes. But now that this optimism has faded, investors have quickly shifted from overweight to underweight U.S. equities.

The pessimistic attitude towards economic growth and stock market valuations has returned with a vengeance. Suddenly many investors believe the entire global economy is once again headed into the toilet.

I am sympathetic to the notion that Trump reflation hopes were overdone, but I wonder if market participants are now overly pessimistic towards global growth.

Which brings me back to the Chinese Iron Ore price and the CRB Spot Raw Industrials. With all the negativity out there, it’s surprising that CRB Spot Raw Industrials have not followed Chinese Iron Ore lower and confirmed the market’s abandonment of the reflation trade.

What’s going on?

Let’s first have a look at the index components that make up the CRB Raw Industrials.

It’s a hodgepodge of commodities, with some obvious ones (like copper), and some not so obvious ones (hides, hogs, lard?).

The CRB Spot Raw Industrial Commodity index is a strange index to follow, but its value as an economic indicator is underrated.

Equally underrated is the brilliant economist whose work has brought this non-standard index to my attention. Dr. Ed Yardeni is an outstanding strategist who recently created an entire presentation about this indicator - Global Economic Indicators: CRB Raw Industrials & The Global Economy.

Putting it all together.

The CRB Raw Industrial Index is not subject to the day to day whims of the legions of hedge funds jerking around financial asset prices. In this day and age of overly sensitive economic indicators, it is comforting to have something to watch that might give some hints about the true state of the global economy.

When we combine the CRB Spot Raw Industrial Index with the weekly unemployment claims and an economic confidence stat, we get what Yardeni calls his “fundamental stock market” indicator. (I wrote about it here in a piece titled Obi-Ed’s Magical Indicator).

Interestingly, even while investors are becoming increasingly bearish, Yardeni’s indicator has showed no signs of switching.

Here is Yardeni’s stock indicator versus the S&P 500 over the past 8 years.

Given the simplicity of the model, and the fact it does not have interest rates or earnings as inputs, the correlation is amazing.

What does the model say about today’s market?

Even though investors have given up on the Trump reflation trade, Yardeni’s model has not. In fact, it has pushed up to new highs.

Over the years I have learned the hard way not to fade Yardeni’s model. It doesn’t mean stocks cannot decline, but until I see either the industrial commodities roll over (and not just Chinese Iron ore), or employment claims skyrocket, I will avoid calling for a big crash. It’s tough for me to put this down on paper, but really, the proper bet is to assume Yardeni’s model will once again prove correct, and buy stocks.

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Looney's picture


Kevin should’ve started the article with “and buy stocks”. I would’ve stopped right there.  ;-)


runnymede's picture

Oh stop with the 'indicators'.

The Squid and Co. are all about manufacturing sentiment and blind faith. We left planet reality August 1971. Now it's just how many different ways to double down on fraud till you can't.  The depth and scope of the criminality is simply stunning.

junction's picture

I wonder, with barbarians at the gates of Rome, were the newspapers back then reporting on the price of fish?

runnymede's picture

It actually would explain a lot if they did :) !

chicken_goose's picture

The top must be getting close now that ZH is posting bullish articles.

Ricki13th's picture

LMAO the markets are up 1% as the algos are buying everything. Who cares about the economy and the weak hard data when you can just buy stawks and fiat money and slam the PMs.

PUNE's picture

It has been a long time now that Zerohedge has been bearish. 

runnymede's picture

Burlap, Lard, Rosin and Wool Tops. Good lord, is there anything not commoditizable, monetizable (and most importantly) commissionable? 

Anyone game to corner burlap? Shoot me a PM

innertrader's picture

WHILE I TRULY like the "Yardeni Indicator" and it's implied value during the latest BULL Market, it truly seems to have Real Value.  However, to live in the FULL SPECTRUM TRADE in the Real World, I have to see the "Indicator" during at least 3 complete Bull & Bear market cycles.  This "example" only shows the last Bull Market, which is NOT near enough historical value.

EXAMPLE:  Does the "Indicator" act in the same manner during a bear stock market or is it different.  It iit's different, how is it different so that I may have some clue as to the fact that it has or has not changed into a bear or bull market.  However, I truly like using BASE COMMODITIES as an indicator and I like what little I see.  It's just not enough data.



mofreedom's picture

Just pulled it up on the bloomberg.  Starts Dec 85.  Great correlation starting 2000.  Sometimes leading, sometimes tells you not to panic on equities.  Overall a good indicator.

Vlad the Inhaler's picture

How about the Juicero where it has now been shown the packet can be squeezed by hand and not the $400 machine.  That's a bubble indicator.

Iconoclast421's picture

What is this nonsense about the market abandoning equities? We are literally less than 1% away from the all time weekly closing high. A 1% rally tomorrow cements a new high. Doesnt look like anyone is bearish.

pebblewriter's picture

McClellan put out a nice article about iron ore, too.

Like every other indicator, the question is whether TPTB will ensure that stocks ignore this one too.  Lately, there's very little that a spike in USDJPY or oil or a hammering of VIX can't accomplish.

Wild Theories's picture

Inflation was on the creeping rise since before Trump's election, "Trumpflation" is just a nice catchy headline to get everyone emotional and add some churn.

the underlying inflation creep(as reflected in broad commodities) was happening either way.