When Lakshman Achuthan of the Economic Cycles Research Institute (ECRI) speaks, we listen.
In one of his latest podcasts (link), Lakshman outlines the thinking and collective wisdom of ECRI’s suite of leading indicators that sketch an assessment of the global economy – and in particular the United States as the leading engine.
Our summary does little justice to capture the fantastic work that ECRI does in this field, but our experience as investment professionals with their work leads us to place great faith in how their understanding of the business cycle is taken as an input into the investment process.
Two key outcomes emerge from this interview with Bloomberg’s Masters in Business:
- A cyclical upturn in the global industrial production cycle is underway.
- ECRI’s suite of inflation indicators point to an arrest in the declining trajectory of inflation.
Global Industrial Production Cycle
As consensus continues to form around the type of landing that underwrites the need for policy easing, there is one area which gives hope to key areas of the economy that may see strength – industrial production. This represents areas of the economy that is heavy in the output of the industrial sector such as mining, utilities and manufacturing.
In the US, there are plenty of supporting reasons to understand why this may be the case. One need only point to the secular trend of re-shoring which is said to be underway as the globalized world takes a back seat to countries building out their domestic capacity. Again, in the US one of the best example would be related to manufacturing in technology sectors like semiconductor where the CHIPS Act remains a dominant economic incentive for companies to create more reliable supply change in the areas of the economy that will shape the future.
This is unlikely to change and makes it easy to get behind ECRI’s call. If you’re a believer in ECRI’s research (as we are), you know that this bodes well for certain asset classes that stand to benefit from continued activity – commodities come to mind. In particular, industrial commodities (energy and base metals) that represent key inputs into the expansion of such cycles.
Inflation
The big question on everyone’s mind is inflation. How far will the downtrend go? Have we already seen the bottom? Are we reliving the 1970s?
The answer of course is that no one knows.
However, we pay attention to ECRI’s work in this area because few others have a track record in being able to understand the endogenous dynamics of inflation and work within a consistent framework that has some predictive power. In fact, my first boss (a 50 year veteran of the markets who’s seen enough economic indicators to last four lifetimes), once remarked it was widely rumored that the Federal Reserve of the 1990s and early 2000s paid careful attention to ECRI’s Future Inflation Gauge (FIG).
So what is ECRI saying now? We suggest you listen to the podcast yourself.
However, what we understand is that while reluctant to call a bottom in inflation – in other words we’re not going down any further – ECRI seems to grow more comfortable with the fact that inflation’s descent has turned into a sideways motion. This could be signaling that inflation has indeed started the process of forming a base at these levels.
Conclusion
Taken together, ECRI’s views on industrial production and inflation paint an interesting picture. If inflation has indeed bottomed out, will the demand-side effects of higher commodity prices typically associated with a global cyclical industrial production upturn conspire to nudge the new trend of inflation higher? What would that mean for other asset classes that have firmly priced in the slaying of the inflation dragon (like bonds)? We think it pays to be mindful of these things, so we are.
We encourage clients to listen to the podcast, consult ECRI’s website and indeed if appropriate contact ECRI themselves to enquire further about their research.
Vernier Capital Advisors (Europe) Ltd is in no way affiliated or compensated by ECRI, and this article does not constitute investment advice.