By definition, a recession occurs when a country’s growth level (GDP) falls for two consecutive quarters. The problem is that we can only establish that fact after the Bureau of Economic Analysis has had a few weeks to crunch the numbers and release a preliminary report. In other words, the GDP report is a trailing, or lagging indicator of an established state of being. Professional market watchers often scan the economic data for leading indicators, recessionary signals that portend future troubles, but where should they look?
We could make very reasonable arguments for the supremacy of various economic factors including earnings reports (EPS), consumer & business confidence, capital expenditures, cyclical sector momentum, and so on. Consider, the key lever the government uses to influence the rate of economic growth is the price of borrowing (i.e. the federal funds rate), so we could make an even better case for bond market health as the most dominant, prescient signal of economic growth.
With that argument in mind, we note Reuters’ latest story on how US online lenders, including LendingClub and Avant LLC, are scrutinizing loan quality, securing long-term financing and cutting costs in an attempt to immunize themselves from a weaker market in the very near future. If lending volume falls, costs increase, and losses accrue, it’s a clear recessionary signal. At very least, a tightening credit environment is not a signal for optimism.