A subscriber responded to our post on consumer confidence with a few follow up questions regarding which data series tended to have the strongest correlation. I sent him a quick note along with consumer confidence charted vs. unemployment and told him that it seems that the strongest correlation was to employment, and that a bottom in confidence tends to lead the unemployment spike slightly –something of a tautology (most see the writing on the wall, know that layoffs are coming and stops spending before the pink slips actually arrive). In his follow up note he said that he expected “the stock market should in theory be acting similarly to prior periods entering recessions although w/more voracity this time b/c of housing”.
The part that I stumbled on was “acting similarly to prior periods entering recessions”. I charted confidence vs. unemployment since the Consumer Confidence Index was created in 1967 to arrive at a channel to gauge points of maximum pessimism. In the year following each of the five inflection points the S&P had positive returns. What’s more, four out of five realized double digit gains greater than 15%.
This is pretty intuitive stuff. From a market psychology standpoint, looking at the convergence of consumer pessimism and unemployment as an indicator may provide a valid rear view mirror indicator. In each of these historical periods an investor that took long positions in the quarter subsequent to improving confidence numbers was rewarded.