by Michael Tarsala
The U.S. economy is on the upswing – at least relative to expectations.
If you don't keep track of it, add the Citigroup Economic Surprise Index to the list of economic indicators that are worth watching. It gauges the ratio of major U.S. economic indicators that are beating expectations to those that are missing them.
The St. Louis Fed is where you can find more background about the index, including some data about how surveyed economists tend to hold on to their optimistic and pessimistic biases for too long.
Partly as a result, the CESI index may also give cues about stock market direction.
There is not a very strong correlation coefficient between the CESI and the 6-month price change in the S&P 500 (it's only 0.48: a high correlation coefficient would generally be 0.70 or above). The two things do not move directly in line with each other.
Yet there seems to be a mean reversion quality to the index; it tends to swing back to middle ground from extremes.
With few exceptions, 2009 being one of them, Citi's research suggests that declines in the CESI back down through the 50 level tend to result in stock market weakness in subsequent months.
Conversely, gains back up through the -50 level could then be associated with stock market strength.
That is very interesting in the context of the current chart:
Source: Citigroup, TheShortSideofLong.blogspot.com
After some difficult months, the economic surprise index is back above -50, and again gaining toward the zero line, where expectations are in line with the actual results.
The real goal is to get back above the zero line, where the actual economic numbers begin to beat expectations.
For now, there appears to be some progress.
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