Fundamental Stock Market Indicator

I claim that initial unemployment claims may be the most important economic indicator for the stock market in 2012. It is one of the three components of our Fundamental Stock Market Indicator (FSMI), which is highly correlated with the S&P 500. It is a coincident indicator, which I use to confirm or question short-term movements and intermediate-term trends in the stock market. It worked very well in confirming last year’s range-bound market.

It is still range-bound, but has moved higher during seven of the past nine weeks and is approaching its February 2011 cyclical peak. The recent rebound is attributable to the sharp drop in initial unemployment claims late last year. Naysayers have been saying that this indicator’s seasonally factors can be faulty around yearends and may be exaggerating the improvement in the labor market.

They can point to the big jump in temporary hiring during Decembers by FedEx and UPS, companies whose business is boosted by increased holiday shipping. Those job gains were reversed last year during January, and that could happen again this year. Nevertheless, there are lots of other indicators confirming that the labor market is improving.

So if initial unemployment claims remain under 400,000 and possibly continue to head lower during January, that would support the strong stock market rally that has kicked off the New Year so far. Also supportive is the recent strength in the CRB raw industrials spot price index, which is another component of our FSMI. This commodity price index is also highly correlated with the S&P 500 Transportation index, which is only 5% below its record high of early last year. (More for subscribers.)