The US economy is still in recession but there are significant signs that the rate of contraction is slowing.  This increases the likelihood of an actual upturn coming sooner – a view held by those, including Federal Reserve chairman Ben Bernanke, who believe in ‘green shoots’ theory of US economic recovery. There are as many believers (opinion makers) as non-believers in ‘green shoots’ theory. On Wednesday (May 13), Morgan Stanley economists said that improving economic data have fueled hopes that the US recession is ending and recovery is looming, fueling a quick rally in risky assets and a sell-off in Treasuries. They said that judging by the recent credit and equity market performance, the systemic downside tail risks for the economy and markets have evaporated, and a virtuous circle between rising markets and an improving economy has taken their place. 

Contrarily, Steve Ricchiuto, chief economist at Mizuho Securities in New York said, "People have overplayed the green shoots. This is a very, very clear reminder that the world isn't suddenly changing gear." Same set of economic data can present a contrasting view depending on your risk appetite. So, it doesn’t matter which side of the fence I sit. But what investors should ask is that, assuming US economy is on its path to recovery, where will the green shoots sprout first? Which sectors are likely to post recovery/gains first? 

Answers to those questions can be found in few places – stock markets, capital equipment manufacturing sectors, oil, and more importantly policy making bodies such as Federal Reserve that influence interest rates, and money supply among others. Put it simply, leading economic indicators, are to a large extent reliable indicators of real recovery or false starts. On April 20, the Conference Board which maintains Leading Economic Index (LEI) reported in its press note that LEI for US fell again in March (it also fell in February and January). The next report is scheduled for Thursday, May 21, 2009. The report may confirm ‘green shoots’ view. Sectors that are likely to lead the economic recovery are: Energy and Basic Materials, Transportation, Technology, Retail. 

Demand for energy and basic materials rising 

If the economy is expected to recover soon, then demand for energy and basic materials should go up. As economic activity weakened during the second half of 2008 and prices of energy and other commodities began to fall rapidly, but of late, oil prices have started rising. For instance, Spot prices for West Texas Intermediate jumped significantly during the first week of May 2009.