Recession & Job Loss Predictor: Leads by 2.5 years!!

Rental Property Investor · Oakland, CA · Member since 2011 · 3k+ posts · 2k+ votes

As I was poking around at the relationships between jobs and potential predictors of job losses, I started looking at a mathematical representation of something less quantitative, that we are all familiar with. This statistic seems to have a strong correlation with job growth and losses in the US. As you read below, you will see how I went from the raw data, to a transformation that shows a more clear relationship..

Orange Line is job growth/loss in the US. Blue line is my indicator/predictor..

What we can see is that there appears to be a pretty strong correlation between changes in these two variables. What is even better is that I have already transformed this data to show the strong correlation, even though my predictor variable actually significantly precedes jobs growth/losses. The predictor above is already "lagged" in time by 2.5 years! So let’s “unlag” it to it’s natural timing.. Slowly...

24 Month Lag

18 Month Lag

12 Month Lag

No Lag - Actual Data

The yield spread is the difference between 10 year and 2 year treasuries. "10's and 2's." When I first saw the chart directly above, it wasn't so obvious what the relationship was, but I could see the changes in job growth seemed to "chase" changes in the yield curve. And looked like it took about 2 years.

The yield curve is both a result of and a driver of the economy. A steeper curve generally indicates more economic health (demand for long-term borrowing), an accommodative federal reserve,

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Brian Lacey

Rental Property Investor · Hailey, ID · Member since 2015 · 218 posts · 143 votes

10y

@J. Martin as always some great stuff.

@George Gammon

In regards to the deflation point. Here are my thoughts, take them as you will.

As far as REI goes and Inflation/Deflation/Stagflation:

Inflation: REI is where we want to be.

Stagflation: REI cashflow is vital here, and let the appreciation from the market do its work.

Deflation: Potentially a knockout punch to RE investors. Debt becomes too much to pay off. Rents decrease. Markets correct themselves. Cash is king.

RE = hedge to inflation, debt becomes cheaper with older dollars.

Cash = hedge to deflation, we can acquire more assets.

Gold, which I love, because I'm an Austrian believer, really doesn't hold as much necessity now.

The good news is, if you ever hear the mainstream media throwing the "D" word around, holy smokes things are really bad, or it's a smoke screen for something else.

The even better news is that the American economic nightmare is deflation, because that would force them to actually default, or take up "Helicopter Ben" Bernanke on his last ditch effort of saving a Keynesian economy. And it's time to hit the reset button, which has never happened before.

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J. MartinPro Member
OP
Rental Property Investor · Oakland, CA · Member since 2011 · 3k+ posts · 2k+ votes
10y
At the top graph is the actual data. Then I lag the yield curve spread back by 12mo, 18, 24mo, and finally, 30 months for the last graph. It appears the lag time is almost a full 2.5 years for the yield curve to feed through to job growth and losses. And a pretty good relationship.. I don't know why some graphs didn't post above.. Sorry!
The yield curve is both a result of and a driver of the economy. A steeper curve generally indicates more economic health (demand for long-term borrowing), an accommodative federal reserve (low short term rates), and job growth usually follows.
A flatter yield curve generally indicates less economic health (less demand for long-term borrowing), a less accommodative federal reserve (short term rates rising), and job growth deceleration and/or job losses usually follow (aka recession).
The yield curve as a potential predictor of a recession is nothing new. However, I was surprised by how close changes in these relationships tracked each other, especially after looking at the lag..
@Account Closed , @Gloria Mirza, @Robert Melcher,
I plan on adding this to my "recession monitoring" dashboard. What do you think? I think it's less than perfect, and more valuable than worthless ;) What do you say?
1 Reply
J. MartinPro Member
OP
Rental Property Investor · Oakland, CA · Member since 2011 · 3k+ posts · 2k+ votes
10y
At the top graph is the actual data. Then I lag the yield curve spread back by 12mo, 18, 24mo, and finally, 30 months for the last graph. It appears the lag time is almost a full 2.5 years for the yield curve to feed through to job growth and losses. And a pretty good relationship.. I don't know why some graphs didn't post above.. Sorry!
The yield curve is both a result of and a driver of the economy. A steeper curve generally indicates more economic health (demand for long-term borrowing), an accommodative federal reserve (low short term rates), and job growth usually follows.
A flatter yield curve generally indicates less economic health (less demand for long-term borrowing), a less accommodative federal reserve (short term rates rising), and job growth deceleration and/or job losses usually follow (aka recession).
The yield curve as a potential predictor of a recession is nothing new. However, I was surprised by how close changes in these relationships tracked each other, especially after looking at the lag..
@Account Closed ,
2 Reply
Account Closed
Investor · San Jose, CA · Member since 2012 · 2k+ posts · 3k+ votes
10y
J,
Remember I told you how the Fed can be an indicator? It seems like every time they raise their short-term interest rate, we're in a recession 2-3 years later. The average of 2-3 years is 2.5 years. LOL!
Kidding aside, you remind me of my earlier years. I suggest you get a wife, have some kids and you will not have as much time to graph these charts. It will be one hell of a trade off I promise. You either would love me if you married the right one, or you would hate me for my stupid suggestion.
The Fed is reactive rather than proactive IMO. They tend to lag in raising interest rate as well as cutting it. Remember Alan Greenspan cut interest rate to 1% after 9/11 and left it too low for too long? Then they raised interest rate well into May 2007 when the housing market has already slowed and on the verge of a decline, and housing inventory was piling up while sale has slowed down dramatically. They didn't cut interest rate until the housing market was in free-fall in 2008. However, Bernanke did an excellent job in preventing another Great Depression IMO. Did you send him a thank you card J?
Now, I hope I'm wrong with my prediction, and the housing party will continue well into 2019. I bet you @David C. would love it too. We would be making a boatload of money. Fingers crossed for being wrong. LOL!
2 Reply
Jason D.
Broomall, PA · Member since 2016 · 85 posts · 28 votes
10y
Minh Le what you're saying is once interest rate is raised this year or next year, I should expect a freed all and be more conservative. Switching to conservative in2.5 years? What would be s good investment while the market is in freefall? Should I always assume the market will rebound?
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Account Closed
Investor · San Jose, CA · Member since 2012 · 2k+ posts · 3k+ votes
10y
Originally posted by @Jason D.:

Minh Le what you're saying is once interest rate is raised this year or next year, I should expect a freed all and be more conservative. Switching to conservative in2.5 years? What would be s good investment while the market is in freefall? Should I always assume the market will rebound?
Jason,
The Fed raised interest rate late last year. I expect a couple more raises this year, and 2-3 more next year. As I told J Martin off-line, I believe there's high probability of us heading into a recession by the time the Fed raises rate to 1.5% and at most 2%.
The way they define a recession is two quarters of negative GDP growth. The average recession lasts about 10 months. So by the time the media reported that we're in a recession, we're almost out of it. If my prediction is correct, this should be a mild recession rather than another Great Recession. Housing don't drop as much during a recession vs. a Great Recession/Depression.
If housing only corrects say 15% from $100k to $85k, you should be able to buy these properties at the courthouse steps or sheriff sale for $65k-$70k. This is a niche that I suggest you spend more time to master. This niche will give you an unfair advantage compared to an average investor.
I'm always in a buying and selling mode. I'll buy for the right price (low) and I'll sell for the right price (inflated) regardless of the cycle of the housing market.
I don't know about your market, but history has shown tour market has always rebounded. The top of the next housing boom tends to double the price of the bottom of the previous cycle. It goes like this... $100k dropped to $75k, then doubled to $150k, then dropped to $110k, then doubled to $220k, etc.
As what to do during the downturn, hone up your skills, become liquid and go all-in when the indicators suggest that we've hit bottom. Gotta run now.
2 Reply
Jason D.
Broomall, PA · Member since 2016 · 85 posts · 28 votes
10y
@Account Closed
I just wanted to clarify that making money is most efficient when I buy low at a sherif sale during a depressed market. And the skill I should home is buying at a sheriff sale
0 Reply
George Gammon
Flipper/Rehabber · Las Vegas, NV · Member since 2016 · 174 posts · 251 votes
10y
Originally posted by @J. Martin:
At the top graph is the actual data. Then I lag the yield curve spread back by 12mo, 18, 24mo, and finally, 30 months for the last graph. It appears the lag time is almost a full 2.5 years for the yield curve to feed through to job growth and losses. And a pretty good relationship.. I don't know why some graphs didn't post above.. Sorry!
The yield curve is both a result of and a driver of the economy. A steeper curve generally indicates more economic health (demand for long-term borrowing), an accommodative federal reserve (low short term rates), and job growth usually follows.
A flatter yield curve generally indicates less economic health (less demand for long-term borrowing), a less accommodative federal reserve (short term rates rising), and job growth deceleration and/or job losses usually follow (aka recession).
The yield curve as a potential predictor of a recession is nothing new. However, I was surprised by how close changes in these relationships tracked each other, especially after looking at the lag..
@Account Closed , @Gloria Mirza, @Robert Melcher,
I plan on adding this to my "recession monitoring" dashboard. What do you think? I think it's less than perfect, and more valuable than worthless ;) What do you say?
Wow, great post J, thanks. You're rationale makes total sense. The yield curve is one of those things I personally just can't draw conclusions from currently. Not because it doesn't have merit, it undoubtably does. It may have more merit than anything else. The problem is I'm not smart enough to discount all of the variables that have no historical precedence. Because of the massive manipulation of markets by central banks, price discover becomes almost impossible, therefore using a price to draw a conclusion becomes more difficult...too difficult for a guy who almost flunked out of high school (me) ;)
As an example, the 10 year US bond is now not just a marker for the domestic economy it's almost become a marker for the world economy. If you're european or japanese with some capital to allocate US treasuries look pretty damn good compared to the sovereign debt available in your home currency. Therefore could QE by other central banks be creating artificial demand for US debt, artificially flattening the curve? If so, by how much? And even if its an artificial flattening of our curve at what point does the global weakness create the weakness in the US that would justify the flattening curve? It's a bit of a self fulfilling prophecy. These cause and effect scenarios seem limitless when interest rates are so heavily manipulated. The chart below illustrates this expanding hall of mirrors.
Let me go way off topic for a moment. I was listening to some macro guys this morning and one of them brought up a great point that never crossed my mind. If you believe in the deflation story obviously cash and assets like treasuries become attractive because they increase your purchasing power. But look at these assets vs. gold. Cash has been more attractive because gold has carrying costs and seen as inflation insurance so the value goes down unless there's fear of inflation. But gold historically has also been a risk off asset. Treasuries have been better than gold because gold doesn't have yield. What I find interesting is if rates go negative it potentially takes away the positive yield of treasuries. And what if they go so low that it becomes more expensive to hold cash and/or treasuries than own gold?? I'm not a gold bug at all but it's interesting to think about. Also, if the cost of cash and bonds becomes that high it could be wildly bullish for RE.
Back to topic...My view is my brain just isn't big enough to make all the necessary computations. I need to defer to you, Minh, David, Gloria and Robert! ;)
1 Reply
George Gammon
Flipper/Rehabber · Las Vegas, NV · Member since 2016 · 174 posts · 251 votes
10y
Originally posted by @J. Martin:

At the top graph is the actual data. Then I lag the yield curve spread back by 12mo, 18, 24mo, and finally, 30 months for the last graph. It appears the lag time is almost a full 2.5 years for the yield curve to feed through to job growth and losses. And a pretty good relationship.. I don't know why some graphs didn't post above.. Sorry!
The yield curve is both a result of and a driver of the economy. A steeper curve generally indicates more economic health (demand for long-term borrowing), an accommodative federal reserve (low short term rates), and job growth usually follows.
A flatter yield curve generally indicates less economic health (less demand for long-term borrowing), a less accommodative federal reserve (short term rates rising), and job growth deceleration and/or job losses usually follow (aka recession).
The yield curve as a potential predictor of a recession is nothing new. However, I was surprised by how close changes in these relationships tracked each other, especially after looking at the lag..
@Account Closed , @Gloria Mirza, @Robert Melcher,
I plan on adding this to my "recession monitoring" dashboard. What do you think? I think it's less than perfect, and more valuable than worthless ;) What do you say?
Wow, great post J, thanks. You're rationale makes total sense. The yield curve is one of those things I personally just can't draw conclusions from currently. Not because it doesn't have merit, it undoubtably does. It may have more merit than anything else. The problem is I'm not smart enough to discount all of the variables that have no historical precedence. Because of the massive manipulation of markets by central banks, price discover becomes almost impossible, therefore using a price to draw a conclusion becomes more difficult...too difficult for a guy who almost flunked out of high school (me) ;)
As an example, the 10 year US bond is now not just a marker for the domestic economy it's almost become a marker for the world economy. If you're european or japanese with some capital to allocate US treasuries look pretty damn good compared to the sovereign debt available in your home currency. Therefore could QE by other central banks be creating artificial demand for US debt, artificially flattening the curve? If so, by how much? And even if its an artificial flattening of our curve at what point does the global weakness create the weakness in the US that would justify the flattening curve? It's a bit of a self fulfilling prophecy. These cause and effect scenarios seem limitless when interest rates are so heavily manipulated. The chart below illustrates this expanding hall of mirrors.
Let me go way off topic for a moment. I was listening to some macro guys this morning and one of them brought up a great point that never crossed my mind. If you believe in the deflation story obviously cash and assets like treasuries become attractive because they increase your purchasing power. But look at these assets vs. gold. Cash has been more attractive because gold has carrying costs and seen as inflation insurance so the value goes down unless there's fear of inflation. But gold historically has also been a risk off asset. Treasuries have been better than gold because gold doesn't have yield. What I find interesting is if rates go negative it potentially takes away the positive yield of treasuries. And what if they go so low that it becomes more expensive to hold cash and/or treasuries than own gold?? I'm not a gold bug at all but it's interesting to think about. Also, if the cost of cash and bonds becomes that high it could be wildly bullish for RE.
Back to topic...My view is my brain just isn't big enough to make all the necessary computations. I need to defer to you, Minh, David, Gloria and Robert! ;)
1 Reply
George Gammon
Flipper/Rehabber · Las Vegas, NV · Member since 2016 · 174 posts · 251 votes
10y
Originally posted by @Jason D.:

@Account Closed
I just wanted to clarify that making money is most efficient when I buy low at a sherif sale during a depressed market. And the skill I should home is buying at a sheriff sale
Jason, one thing I'd add about housing prices always recovering.
I can say with a great degree of confidence if prices go below their inflation adjusted historic mean they'll recover. Why? The historic mean is tied to real wages not credit growth. Prices based on real wages are sustainable. If prices go below that they'll recover because people have more purchasing power than prices reflect.
Will prices always recover to an absolute high water mark? maybe but maybe not...it depends on credit expansion.
So my advice is if you can buy under the price of historic mean inflation adjusted, whether it's because of a drop in the market or you just get a smokin deal, your risk of the price not reverting to that mean or "recovering" is low.
* please note: this is referring to general prices and may not be applicable to street by street RE prices.
Good luck,
George
1 Reply
Jason D.
Broomall, PA · Member since 2016 · 85 posts · 28 votes
10y
@George Gammon
So given the sufficient data sample size the mean market prices should reflect what you're saying in terms of fluctuations. Theoretically should I go on citydata and find the median housing price or should I use some other metric to determine the median prices for the median homes.
I am starting to take inventory of my markets of interest. How should I interpret the data so that I'm not buying a good deal relative to inflated market rates but instead a good deal relative to historical mean?
Sorry for my lengthy question but as a newbie cash strapped until graduation I'm forced to analyze my investment vehicle and all the associated moving parts.
0 Reply
Mike Power
Mckinleyville, CA · Member since 2016 · 2 posts · 0 votes
10y
Anybody listen to exchange I Goldman sachs? I just listened to their latest episode, they seemed to be saying not much but "nothing to worry about".
They seem to think that because the Fed is still below their target inflation rate they will be raise the rates much slower than may have been anticipated. What are you guys' thoughts on that? They seemed rather bullish It seemed to counter what ive heard elsewhere.
http://www.goldmansachs.com/our-thinking/podcasts/episodes/02-25-2016-hatzius-currie.html
0 Reply
Brian Lacey
Rental Property Investor · Hailey, ID · Member since 2015 · 218 posts · 143 votes
10y
Originally posted by @Mike Power:

Anybody listen to exchange I Goldman sachs? I just listened to their latest episode, they seemed to be saying not much but "nothing to worry about".
They seem to think that because the Fed is still below their target inflation rate they will be raise the rates much slower than may have been anticipated. What are you guys' thoughts on that? They seemed rather bullish It seemed to counter what ive heard elsewhere.
http://www.goldmansachs.com/our-thinking/podcasts/...
I would suggest not listening to Goldman. Quite frankly, they should have gone down with Bear Stearns.
Hell, probably better off doing the opposite of what they advise.
As far raising rates, the Fed is screwed. Damned if they do, damned if they don't.
They raise rates next week, which I'm predicting will happen because they can't afford to allow this volatility to continue in the market, and need to take the hit sooner than later. They can't let this last until November, way too many variables to account for to maintain control over the situation. They need to raise them, so they can lower them, apply another round of QE, and then go negative with the rest of the world. And the government (The Fed and White House) can't allow there to be a clear cut recession (which one could easily argue we're in right now) with an election looming in November. Janet wants to be reappointed, and a Republican probably isn't going to do that, especially Donnie.
What they ought to do is lower them, and lower them fast. But in doing so, they're declaring that they made a mistake, and are actually saying we're heading towards a recession or are in a recession, and all that "positive" data is actually irrelevant to the health of an economy, which would further push the idea of the US economy moving to a part-time worker (hence why we're abel to add so many new "jobs").
1 Reply
Brian Lacey
Rental Property Investor · Hailey, ID · Member since 2015 · 218 posts · 143 votes
10y
@J. Martin as always some great stuff.
@George Gammon
In regards to the deflation point. Here are my thoughts, take them as you will.
As far as REI goes and Inflation/Deflation/Stagflation:
Inflation: REI is where we want to be.
Stagflation: REI cashflow is vital here, and let the appreciation from the market do its work.
Deflation: Potentially a knockout punch to RE investors. Debt becomes too much to pay off. Rents decrease. Markets correct themselves. Cash is king.
RE = hedge to inflation, debt becomes cheaper with older dollars.
Cash = hedge to deflation, we can acquire more assets.
Gold, which I love, because I'm an Austrian believer, really doesn't hold as much necessity now.
The good news is, if you ever hear the mainstream media throwing the "D" word around, holy smokes things are really bad, or it's a smoke screen for something else.
The even better news is that the American economic nightmare is deflation, because that would force them to actually default, or take up "Helicopter Ben" Bernanke on his last ditch effort of saving a Keynesian economy. And it's time to hit the reset button, which has never happened before.
3 Reply
George Gammon
Flipper/Rehabber · Las Vegas, NV · Member since 2016 · 174 posts · 251 votes
10y
Originally posted by @Jason D.:

@George Gammon
So given the sufficient data sample size the mean market prices should reflect what you're saying in terms of fluctuations. Theoretically should I go on citydata and find the median housing price or should I use some other metric to determine the median prices for the median homes.
I am starting to take inventory of my markets of interest. How should I interpret the data so that I'm not buying a good deal relative to inflated market rates but instead a good deal relative to historical mean?
Sorry for my lengthy question but as a newbie cash strapped until graduation I'm forced to analyze my investment vehicle and all the associated moving parts.
Jason no need for apology. I'm happy to answer any questions to the best of my ability. That's one of the main reasons I allocate time to BP.
I'm not familiar with citydata? It sounds like they give you the nominal median home prices for xyz area? If that's the case it'll require some math to get the inflation adjusted prices. You'd need to go as far back as they provide data (ideally pre 1970) and then figure out the annual rate of inflation and adjust each annual price accordingly. Once you have your points plotted draw the line and the historic mean should become clear. It may seem like splitting hairs but I like to adjust for the increase in home size too. Many times the average price has gone up in an area solely because the homes in that area have grown in size. Without factoring that into the equation one could easily confuse that with apples to apples price appreciation.
Another place to find the info fast is google. Just make sure prices are at minimum inflation adjusted.
Finally, if you can't find the data (or don't want to spend all the time using the method above) simply look at home prices in that area in 2012. That was the bottom of most markets and most markets bottomed close to their inflation adjusted mean.
As far as interrupting the data to determine if you're over paying... Let me take you through my thought process for buying a house today in a market like Kansas City (I'll use this area because I have several properties here and I know prices well).
I only buy in A and B areas, having said that a 3 bed 2 bath in an area I buy had an ARV of about 110k in 2012. Now that same home has an ARV of around 130k-135k. What that tells me is if we have another decline, prices have a high probability of recovering to at least the 110k mark because that mark is most likely based on real wages (because it's the historic inflation adjusted mean) and not credit expansion. The price spread between the 110k and 130k, to me, is credit expansion, so would prices recover to that mark after a decline? maybe, maybe not?
Armed with these data you can apply them to your investment strategy and risk management. That's different for every person. Someone extremely risk averse would only buy a deal where he/she was in it 70% of 110k. Others, may be comfortable buying a deal where they're in it for no more than 110k total. An easy way to think about it is the historic inflation adjusted mean ARV for a 3 bed 2 bath property in that area is 110k.
As credit expands and prices rise it becomes increasingly difficult to find a deal based on this metric. I've heard Florida had much longer foreclosure times so they're still clearing inventory from 2009? I know when I looked a recent chart of Orlando prices seemed reasonable. You might want to look there...
Please remember though this is only the macro analysis. The street by street micro is just as important if not more important. If you buy a house in a C or D area there's no telling what prices will do. Although there's always risk in A and B areas the probability of prices keeping up with inflation and/or recovering is far greater.
Hope that answer your question. If you'd like further clarification please don't hesitate to ask.
Good luck,
George
1 Reply
J. MartinPro Member
OP
Rental Property Investor · Oakland, CA · Member since 2011 · 3k+ posts · 2k+ votes
10y
Originally posted by @George Gammon:

Originally posted by @J. Martin:

At the top graph is the actual data. Then I lag the yield curve spread back by 12mo, 18, 24mo, and finally, 30 months for the last graph. It appears the lag time is almost a full 2.5 years for the yield curve to feed through to job growth and losses. And a pretty good relationship.. I don't know why some graphs didn't post above.. Sorry!
The yield curve is both a result of and a driver of the economy. A steeper curve generally indicates more economic health (demand for long-term borrowing), an accommodative federal reserve (low short term rates), and job growth usually follows.
A flatter yield curve generally indicates less economic health (less demand for long-term borrowing), a less accommodative federal reserve (short term rates rising), and job growth deceleration and/or job losses usually follow (aka recession).
The yield curve as a potential predictor of a recession is nothing new. However, I was surprised by how close changes in these relationships tracked each other, especially after looking at the lag..
@Account Closed
I plan on adding this to my "recession monitoring" dashboard. What do you think? I think it's less than perfect, and more valuable than worthless ;) What do you say?
Wow, great post J, thanks. You're rationale makes total sense. The yield curve is one of those things I personally just can't draw conclusions from currently. Not because it doesn't have merit, it undoubtably does. It may have more merit than anything else. The problem is I'm not smart enough to discount all of the variables that have no historical precedence. Because of the massive manipulation of markets by central banks, price discover becomes almost impossible, therefore using a price to draw a conclusion becomes more difficult...too difficult for a guy who almost flunked out of high school (me) ;)
As an example, the 10 year US bond is now not just a marker for the domestic economy it's almost become a marker for the world economy. If you're european or japanese with some capital to allocate US treasuries look pretty damn good compared to the sovereign debt available in your home currency. Therefore could QE by other central banks be creating artificial demand for US debt, artificially flattening the curve? If so, by how much? And even if its an artificial flattening of our curve at what point does the global weakness create the weakness in the US that would justify the flattening curve? It's a bit of a self fulfilling prophecy. These cause and effect scenarios seem limitless when interest rates are so heavily manipulated. The chart below illustrates this expanding hall of mirrors.
Let me go way off topic for a moment. I was listening to some macro guys this morning and one of them brought up a great point that never crossed my mind. If you believe in the deflation story obviously cash and assets like treasuries become attractive because they increase your purchasing power. But look at these assets vs. gold. Cash has been more attractive because gold has carrying costs and seen as inflation insurance so the value goes down unless there's fear of inflation. But gold historically has also been a risk off asset. Treasuries have been better than gold because gold doesn't have yield. What I find interesting is if rates go negative it potentially takes away the positive yield of treasuries. And what if they go so low that it becomes more expensive to hold cash and/or treasuries than own gold?? I'm not a gold bug at all but it's interesting to think about. Also, if the cost of cash and bonds becomes that high it could be wildly bullish for RE.
Back to topic...My view is my brain just isn't big enough to make all the necessary computations. I need to defer to you, Minh, David, Gloria and Robert! ;)
George,
I agree with your points about the 10yr being dictated by the world economy and worldwide QE. And the short term is controlled by the Fed, depending on how accommodative they want to be. But I still think the yield curve spread has informational and predictive value about where we are in the cycle. Like I said before, not perfect, but more than worthless. Here's why:
a) The relationship seems to hold up over the last 50 years or so
b) If there is QE worldwide and financial volatility pushing down the 10 yr, it probably means the world is weak. So if that is what is compressing the 10yr yield, and the yield spread, doesn't that also impact the US economy (exogenous shocks?)
c) In addition to the exogenous economic scenarios impacting the 10yr and our economy, the compressed spread itself does not help..
d) I will be monitoring this, in addition to several other variables, to try to see how closely and often several variables are doing what they did before prior recessions. As Minh Le says, history doesn't repeat itself, but it rhymes ;)
I agree with you that it is too difficult to isolate all the variables contributing to everything. We do not need to be statisticians here. If enough of the charts are reaching trends or levels they regularly reach before something takes place, its probably worth paying attention. The more pointing in that direction, the more I am getting cautious.. Call it tea leaves or whatever. But again, the information and predictive value of some these exceeds zero I think..
0 Reply
J. MartinPro Member
OP
Rental Property Investor · Oakland, CA · Member since 2011 · 3k+ posts · 2k+ votes
10y
Originally posted by @George Gammon:

Originally posted by @J. Martin:

At the top graph is the actual data. Then I lag the yield curve spread back by 12mo, 18, 24mo, and finally, 30 months for the last graph. It appears the lag time is almost a full 2.5 years for the yield curve to feed through to job growth and losses. And a pretty good relationship.. I don't know why some graphs didn't post above.. Sorry!
The yield curve is both a result of and a driver of the economy. A steeper curve generally indicates more economic health (demand for long-term borrowing), an accommodative federal reserve (low short term rates), and job growth usually follows.
A flatter yield curve generally indicates less economic health (less demand for long-term borrowing), a less accommodative federal reserve (short term rates rising), and job growth deceleration and/or job losses usually follow (aka recession).
The yield curve as a potential predictor of a recession is nothing new. However, I was surprised by how close changes in these relationships tracked each other, especially after looking at the lag..
@Account Closed
I plan on adding this to my "recession monitoring" dashboard. What do you think? I think it's less than perfect, and more valuable than worthless ;) What do you say?
Wow, great post J, thanks. You're rationale makes total sense. The yield curve is one of those things I personally just can't draw conclusions from currently. Not because it doesn't have merit, it undoubtably does. It may have more merit than anything else. The problem is I'm not smart enough to discount all of the variables that have no historical precedence. Because of the massive manipulation of markets by central banks, price discover becomes almost impossible, therefore using a price to draw a conclusion becomes more difficult...too difficult for a guy who almost flunked out of high school (me) ;)
As an example, the 10 year US bond is now not just a marker for the domestic economy it's almost become a marker for the world economy. If you're european or japanese with some capital to allocate US treasuries look pretty damn good compared to the sovereign debt available in your home currency. Therefore could QE by other central banks be creating artificial demand for US debt, artificially flattening the curve? If so, by how much? And even if its an artificial flattening of our curve at what point does the global weakness create the weakness in the US that would justify the flattening curve? It's a bit of a self fulfilling prophecy. These cause and effect scenarios seem limitless when interest rates are so heavily manipulated. The chart below illustrates this expanding hall of mirrors.
Let me go way off topic for a moment. I was listening to some macro guys this morning and one of them brought up a great point that never crossed my mind. If you believe in the deflation story obviously cash and assets like treasuries become attractive because they increase your purchasing power. But look at these assets vs. gold. Cash has been more attractive because gold has carrying costs and seen as inflation insurance so the value goes down unless there's fear of inflation. But gold historically has also been a risk off asset. Treasuries have been better than gold because gold doesn't have yield. What I find interesting is if rates go negative it potentially takes away the positive yield of treasuries. And what if they go so low that it becomes more expensive to hold cash and/or treasuries than own gold?? I'm not a gold bug at all but it's interesting to think about. Also, if the cost of cash and bonds becomes that high it could be wildly bullish for RE.
Back to topic...My view is my brain just isn't big enough to make all the necessary computations. I need to defer to you, Minh, David, Gloria and Robert! ;)
George,
I agree with your points about the 10yr being dictated by the world economy and worldwide QE. And the short term is controlled by the Fed, depending on how accommodative they want to be. But I still think the yield curve spread has informational and predictive value about where we are in the cycle. Like I said before, not perfect, but more than worthless. Here's why:
a) The relationship seems to hold up over the last 50 years or so
b) If there is QE worldwide and financial volatility pushing down the 10 yr, it probably means the world is weak. So if that is what is compressing the 10yr yield, and the yield spread, doesn't that also impact the US economy (exogenous shocks?)
c) In addition to the exogenous economic scenarios impacting the 10yr and our economy, the compressed spread itself does not help..
d) I will be monitoring this, in addition to several other variables, to try to see how closely and often several variables are doing what they did before prior recessions. As Minh Le says, history doesn't repeat itself, but it rhymes ;)
I agree with you that it is too difficult to isolate all the variables contributing to everything. We do not need to be statisticians here. If enough of the charts are reaching trends or levels they regularly reach before something takes place, its probably worth paying attention. The more pointing in that direction, the more I am getting cautious.. Call it tea leaves or whatever. But again, the information and predictive value of some these exceeds zero I think..
0 Reply
J. MartinPro Member
OP
Rental Property Investor · Oakland, CA · Member since 2011 · 3k+ posts · 2k+ votes
10y
Originally posted by @George Gammon:
Originally posted by @J. Martin:
At the top graph is the actual data. Then I lag the yield curve spread back by 12mo, 18, 24mo, and finally, 30 months for the last graph. It appears the lag time is almost a full 2.5 years for the yield curve to feed through to job growth and losses. And a pretty good relationship.. I don't know why some graphs didn't post above.. Sorry!
The yield curve is both a result of and a driver of the economy. A steeper curve generally indicates more economic health (demand for long-term borrowing), an accommodative federal reserve (low short term rates), and job growth usually follows.
A flatter yield curve generally indicates less economic health (less demand for long-term borrowing), a less accommodative federal reserve (short term rates rising), and job growth deceleration and/or job losses usually follow (aka recession).
The yield curve as a potential predictor of a recession is nothing new. However, I was surprised by how close changes in these relationships tracked each other, especially after looking at the lag..
@Account Closed, @George Gammon , @David Faulkner , @Gloria Mirza, @Robert Melcher,
I plan on adding this to my "recession monitoring" dashboard. What do you think? I think it's less than perfect, and more valuable than worthless ;) What do you say?
Wow, great post J, thanks. You're rationale makes total sense. The yield curve is one of those things I personally just can't draw conclusions from currently. Not because it doesn't have merit, it undoubtably does. It may have more merit than anything else. The problem is I'm not smart enough to discount all of the variables that have no historical precedence. Because of the massive manipulation of markets by central banks, price discover becomes almost impossible, therefore using a price to draw a conclusion becomes more difficult...too difficult for a guy who almost flunked out of high school (me) ;)
As an example, the 10 year US bond is now not just a marker for the domestic economy it's almost become a marker for the world economy. If you're european or japanese with some capital to allocate US treasuries look pretty damn good compared to the sovereign debt available in your home currency. Therefore could QE by other central banks be creating artificial demand for US debt, artificially flattening the curve? If so, by how much? And even if its an artificial flattening of our curve at what point does the global weakness create the weakness in the US that would justify the flattening curve? It's a bit of a self fulfilling prophecy. These cause and effect scenarios seem limitless when interest rates are so heavily manipulated. The chart below illustrates this expanding hall of mirrors.
Let me go way off topic for a moment. I was listening to some macro guys this morning and one of them brought up a great point that never crossed my mind. If you believe in the deflation story obviously cash and assets like treasuries become attractive because they increase your purchasing power. But look at these assets vs. gold. Cash has been more attractive because gold has carrying costs and seen as inflation insurance so the value goes down unless there's fear of inflation. But gold historically has also been a risk off asset. Treasuries have been better than gold because gold doesn't have yield. What I find interesting is if rates go negative it potentially takes away the positive yield of treasuries. And what if they go so low that it becomes more expensive to hold cash and/or treasuries than own gold?? I'm not a gold bug at all but it's interesting to think about. Also, if the cost of cash and bonds becomes that high it could be wildly bullish for RE.
Back to topic...My view is my brain just isn't big enough to make all the necessary computations. I need to defer to you, Minh, David, Gloria and Robert! ;)
George,
I agree with your points about the 10yr being dictated by the world economy and worldwide QE. And the short term is controlled by the Fed, depending on how accommodative they want to be. But I still think the yield curve spread has informational and predictive value about where we are in the cycle. Like I said before, not perfect, but more than worthless. Here's why:
a) The relationship seems to hold up over the last 50 years or so
b) If there is QE worldwide and financial volatility pushing down the 10 yr, it probably means the world is weak. So if that is what is compressing the 10yr yield, and the yield spread, doesn't that also impact the US economy (exogenous shocks?)
c) In addition to the exogenous economic scenarios impacting the 10yr and our economy, the compressed spread itself does not help..
d) I will be monitoring this, in addition to several other variables, to try to see how closely and often several variables are doing what they did before prior recessions. As Minh Le says, history doesn't repeat itself, but it rhymes ;)
I agree with you that it is too difficult to isolate all the variables contributing to everything. We do not need to be statisticians here. If enough of the charts are reaching trends or levels they regularly reach before something takes place, its probably worth paying attention. The more pointing in that direction, the more I am getting cautious.. Call it tea leaves or whatever. But again, the information and predictive value of some th
2 Reply
George Gammon
Flipper/Rehabber · Las Vegas, NV · Member since 2016 · 174 posts · 251 votes
10y
Originally posted by @Brian Lacey:

@J. Martin as always some great stuff.
@George Gammon
In regards to the deflation point. Here are my thoughts, take them as you will.
As far as REI goes and Inflation/Deflation/Stagflation:
Inflation: REI is where we want to be. Absolutely 100%...I don't think most investors do the math on how much money they can make on paying debt back in devalued dollars. It's not a straight forward concept but using the 1970's as an example, most of the "gains" (measured by an increase in purchasing power) in RE was not a result of home price going up but the value of the debt going down.
Stagflation: REI cashflow is vital here, and let the appreciation from the market do its work. I Agree
Deflation: Potentially a knockout punch to RE investors. Debt becomes too much to pay off. Rents decrease. Markets correct themselves. Cash is king. I Agree, It's why I like 50/50 cash and debt for investors whose priority is preserving wealth.
RE = hedge to inflation, debt becomes cheaper with older dollars. Yes, as long as it's fixed rate debt.
Cash = hedge to deflation, we can acquire more assets. And hopefully at a substantial discount to intrinsic value! ;) If an investor is experienced in RE and has an appetite for more risk they could use the cash for flips while they wait. Personally I take my cash and use it for flips in international markets that aren't correlated to the US...I don't recommend that for the average investor.
Gold, which I love, because I'm an Austrian believer, really doesn't hold as much necessity now. Right, unless the cost of holding bonds or cash exceeds the cost of holding gold because of neg interest rates...then gold may make a lot of sense. Could be why gold has spiked lately?
The good news is, if you ever hear the mainstream media throwing the "D" word around, holy smokes things are really bad, or it's a smoke screen for something else.
The even better news is that the American economic nightmare is deflation, because that would force them to actually default, or take up "Helicopter Ben" Bernanke on his last ditch effort of saving a Keynesian economy. And it's time to hit the reset button, which has never happened before. Right, over the long term there only 3 solutions to the US debt problem... A. Real economic growth B. Default or C. Default via inflation. My guess is the probability of the first is low, second is low and third is high. But over the short term/mid term probabilities might lean towards deflation but not convincingly enough for me to adjust my portfolio out of a neutral position.
Hey Brian, great post. I tried to respond above using bold print (open the quote). Hopefully it works. One thing I wanted to suggest... if you haven't seen it, the rap battle on youtube between Hayek and Keynes is something I think you'd get a kick out of. ;) https://youtu.be/d0nERTFo-Sk
1 Reply
Jason D.
Broomall, PA · Member since 2016 · 85 posts · 28 votes
10y
@George Gammon
Wow that was a great explanation. I think I will use the method you mentioned and gather some data and conservatively adjust for inflation and compare that to the Google data. I will use 1970 and 2012 as two separate starting points for analysis. My areas of farming are still within 45mins of me. Thank you for the explanation.
Hopefully by being cautious and determining a good low point to buy would allow me to stay in the game long term and accumulate assets to accomplish my long term goals
0 Reply
George Gammon
Flipper/Rehabber · Las Vegas, NV · Member since 2016 · 174 posts · 251 votes
10y
Originally posted by @Jason D.:

@George Gammon
Wow that was a great explanation. I think I will use the method you mentioned and gather some data and conservatively adjust for inflation and compare that to the Google data. I will use 1970 and 2012 as two separate starting points for analysis. My areas of farming are still within 45mins of me. Thank you for the explanation.
Hopefully by being cautious and determining a good low point to buy would allow me to stay in the game long term and accumulate assets to accomplish my long term goals
Sounds like a great plan Jason. It seems you're a conservative, long term, investor. If so, one more piece of advice...cash flow is always you're best hedge. If your property is in a good area, cash flows from day one and you've got a fixed rate loan, your exposure to risk is greatly reduced.
0 Reply
Jason D.
Broomall, PA · Member since 2016 · 85 posts · 28 votes
10y
@George Gammon
Absolutely. If the numbers don't work on day one and waiting for appreciation will most likely make me go broke. On average if I obtain a property with $300 cash flow with all expenses accounted for, could the property be recession proof and somewhat depression resistant?
f fI would feel comfortable with aggressive growth if my markets would allow for that. Currently I'm building liquidity as I finish school.
Thanks for f or all your advice. I will make good use of it.
0 Reply
Account Closed
Investor · San Jose, CA · Member since 2012 · 2k+ posts · 3k+ votes
10y
Originally posted by @Jason D.:

@George Gammon
Absolutely. If the numbers don't work on day one and waiting for appreciation will most likely make me go broke. On average if I obtain a property with $300 cash flow with all expenses accounted for, could the property be recession proof and somewhat depression resistant?
f fI would feel comfortable with aggressive growth if my markets would allow for that. Currently I'm building liquidity as I finish school.
Thanks for f or all your advice. I will make good use of it.
Jason,
I bet to differ. I buy properties that don't perform and/or lose money on day one and up to day 180. As they say in hockey "A good player goes where the puck is while a great player goes where the puck will be." Let me ask you this question. Do you mind losing $1k/month for 3- 6 months, but then you would get $2k-$3k/month cash-flow after that and you would have $400k-$600k built-in equity in each property? If the answer is yes, how many properties do you really need to do per year? I'm a lazy guy and I value my free time so 2-3 buildings/year are good.
Don't limit yourself. Be open minded and a problem solver. Immediate cash-flow is for suckers IMHO. Let's put yourself in the seller's shoes. If you have a property that's performing well and minting $300/month, would you sell it? If not, why do you expect the seller wants to sell it to you or anyone? Also, don't let others tell you appreciation is icing on the cake. IT IS THE CAKE. If you can force-appreciate to get both the cash-flow and equity, that's much much better. Think of ways to add-value to a property; see potential where others don't; looks where others wouldn't think of, and you should do well in real estate. Take the path that's less traveled.
Best of luck.
2 Reply
David Faulkner
Investor · Orange County, CA · Member since 2015 · 2k+ posts · 3k+ votes
10y
@J. Martin I have tremendous respect for you and your analytical abilities, but I have to agree with @Account Closed on this one ... we may need to get you a wife and kids or at the very least a good hobby (other than chartsmithing). Seriously, though, I like to keep it simple (market is high, about right, or low), position myself accordingly and while still covering myself for all reasonable outcomes ... beyond that, I think we can quickly pass the point of diminishing marginal returns on our analysis and into the realm of false precision.
When I wore a younger man's clothes I used to do something similar, except back then I was working at JPL and running monte carlo analysis and every possible worse case I could throw at the spacecraft simulator. In the end, there was always some super simple case we hadn't looked at (or sometimes one we had looked at) that got us into trouble in real life, and it was the robustness of our design and the quick reaction of some very smart engineers that saved the mission. I think REI is the same way ... useful to think through the scenarios and use them to stress test and improve our strategies, but in the end don't fool ourselves into thinking we know the way things are going to go down in real life.
2 Reply
David Faulkner
Investor · Orange County, CA · Member since 2015 · 2k+ posts · 3k+ votes
10y
Originally posted by @Account Closed:
Just to clarify and make sure I and others are accurately picking up what you're putting out here, you have a plan day 1 to force appreciate the property to this positive cash flow and appreciated state in 3-6 months through your hard work and skill, and not buying and praying that an appreciating market will do it for you without lifting a finger, right? An appreciating market might still do amazing things on your behalf in the long run, but only after you force appreciation and can therefore hold indefinitely from a position of financial strength ... is this about right? If so, I agree and think the distinction is an important one to make explicit. If not, please clarify.
2 Reply
John D.
Rental Property Investor · La Quinta, CA · Member since 2014 · 1k+ posts · 779 votes
10y
"What we can see is that there appears to be a pretty strong correlation"
--Doesn't look like all that strong of correlation to me, but instead of speculating and trying to eyeball correlation, why don't you have your model spit out precisely what it is? What is the correlation coefficient?
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