Despite the global economy’s synchronized and broad-based acceleration in growth momentum, the recent upswing in U.S. economic activity has been characterized by an unusual divergence between “soft” and “hard” economic data. This discrepancy raises questions about the strength and durability of the current U.S. upturn.
What do we mean?
In the jargon of financial market participants, “soft” data refers to survey-based statistics such as business and consumer sentiment, while “hard” data refers to actual economic statistics such as industrial production, consumer spending, car sales and housing construction. Survey-based indicators typically lead the “hard” data by a few weeks or months, with the latter eventually catching-up and validating the leading characteristic of the “soft” data.
However, the current cyclical upswing is unusual. We are seeing a historically pronounced and prolonged divergence between surging “soft” data and stable “hard” data, with this discrepancy lasting more than five months. Exhibit 1 shows the Bloomberg U.S. Economic Surprise Index, split between soft and hard data, illustrating the extent to which survey-based statistics have been much stronger than consensus expectations, while actual economic statistics have performed in line with expectations.1
Can this divergence be attributed to unusually large forecast errors by economists? We think the answer is no.
Analyzing the Data Divergence
In Exhibit 2 we plot one of our proprietary indicators of U.S. data momentum,2 which captures the pure momentum in economic activity while ignoring economists’ forecasts. Our analysis reveals the same discrepancy in both magnitude and duration, confirming that this divergence resides in the underlying economic data, not the forecasts.
Some of the exuberance in survey-based statistics can be attributed to post-U.S. election optimism surrounding fiscal spending and corporate tax reform. Recent setbacks on the policy front may begin to weaken that optimism.
So, what’s next?
In our opinion, the sustainability of the recent upswing in U.S. equity markets will be increasingly dependent on the performance of “hard” data in the second quarter of 2017, especially given the anticipation of additional Federal Reserve monetary policy tightening, recent setbacks on tax reform efforts, and rising vulnerabilities in the credit cycle.
While we maintain a modest overweight to global equities over fixed income given favorable economic conditions, we closely monitor the evolution of our medium-term macro indicators to assess risks to the current outlook and adjust our portfolios accordingly.
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1 Note that “soft” and “hard” data are plotted on different axis to reflect the higher volatility of “soft” economic statistics. Despite the different volatilities, the two data sets typically share the same directional movements, i.e. they tend to move together.↩
2 This indicator is built using a similar methodology and the same universe of economic statistics as in the Bloomberg index.↩
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These views represent the opinions of OppenheimerFunds, Inc. and are not intended as investment advice or to predict or depict the performance of any investment. These views are as of the publication date, and are subject to change based on subsequent developments.