Jim Nabors, who played the bumbling but lovable Gomer Pyle in The Andy Griffith Show and subsequent Gomer Pyle, U.S.M.C., passed away on November 30. Inspired by a couple of Gomer Pyle’s catch phrases, this month we highlight the recent strength in economic surprise indices that hit multi-year highs in November. These new highs might have led Gomer – if he were an economist instead of a filling station attendant and then a Marine Corp private – to say, “Surprise, surprise, surprise!”
Economic surprises in November into early December may deserve a “Shazam!”, Gomer’s catch phrase for something dramatically unexpected that happens as if by magic. Two of the more well-know surprise indices both hit multi-year highs in November, indicating actual data have outpaced expectations at a rate not seen in years. The Citi U.S. Economic Surprise Index rose to its highest level since January 2014 in November and has continued to climb, while Bloomberg’s Surprise Index rose to its highest level since March 2011. The steady stream of net positive surprises was due to data breaking to the upside, as well as somewhat muted expectations due to increased uncertainty about the impact of Hurricanes Harvey and Irma.
The two surprise indices have a lot of similarities. They both use similar scales, but express them a little differently – multiply Bloomberg’s scale by 100 and you get something comparable to Citi’s numbers. Both indices reflect the average positive or negative surprise compared to the spread of forecasts. As a result, when there is a wide range of forecasts (reflecting a greater uncertainty), you don’t get much credit for a miss compared to the same miss when forecasts have a narrower range. One key difference: the Bloomberg index’s average is longer than Citi’s, resulting in a number that’s a little less responsive but also a little less subjected to noise.
Do the surprise indices have a meaning for asset prices? Since current economic consensus typically points to a continuation of the current state of the economy, and therefore acts as a coincident or even lagging indicator, economic surprises signal that something has happened that has not been absorbed by expectations. Markets react to new information and the “newness” of the information is part of what the indices are measuring. There will also be short stretches where misses are just randomly too high or too low; but when the average of surprises moves meaningfully higher or lower, it usually means something more is going on. Historically, an above-average level of economic surprises has been associated with greater odds of market strength and vice versa. But while this relationship has held true on average, it has not been particularly strong in the long term.
“Gawwllleeey.” That’s just “golly” for most of us, but for Gomer, who used it when struck with a sense of awe, it would get dragged out with a Mayberry drawl. While the strength of the surprise index is certainly a positive sign that expectations have been toolow relative to overall economic activity, we should not be too easily overawed by the current stretch of surprises.
First, these kinds of moving averages are measured relative to expectations. For example, the Citi index reached a multi-year low back in June of this year that had not been seen since 2011. Equity markets, however, were unmoved by the stretch of negative surprises. Also, things certainly did not feel like 2011, when a U.S. debt downgrade and concerns that the European Union might break under the weight of government debt led to the S&P 500 Index tumbling almost 20%. Back in 2011, expectations were already low, and the economy still failed to keep up with them. In the period leading up to June 2017, expectations were elevated, and uncertainty was lower, giving smaller misses a larger impact but potentially less meaning.
Second, during the recent upswing, some of the surprise has been due to difficulty gauging the impact Hurricanes Harvey and Irma would have on economic data, initially to the downside due to the disruptive impact of the storms, then to the upside as the impacted areas began to rebuild and recover and disrupted transportation networks came back on line. It has also been noteworthy that much of the strength in the rebound has been in “soft data” – surveys and business cycle indicators – rather than “hard data,” numbers that directly reflect economic activity. Soft data include reports like consumer confidence data and the Institute for Supply Management’s Purchasing Managers’ Indices. The most recent value for Bloomberg’s Surveys and Business Cycle Indicators Surprise Index, at 1.82, is more than double the most recent value of the overall surprise index, at 0.81. The hard data have been getting better, but the numbers have been more in line with expectations. However, soft data can still be important. Many reports reflect underlying economic activity and even when they simply reflect mood or perception, optimism is a force that can help drive the economy. But ultimately, soft data need to be confirmed by hard data to be meaningful.
Recent multi-year highs in the economic surprise indices help support the overall picture of an economy growing faster than the 2.2% average we have seen for much of the current expansion. With gross domestic product (GDP) growth for the first three quarters of the year in the books, overall GDP growth for 2017 is tracking near 2.5%, and the upside surprises signal at least a similar run rate headed into early 2018.
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