On average, the business cycle represents five or six years of fun times followed by a tough year or two. When the good times roll past that six-year milestone, it's time to watch for signs that the party is coming to an end.
"When you get stock tips along with a haircut," says Cassidy, "the game is just about over."
There are several other nonscientific signals he uses to see whether business is slowing.
Signs of a slowing economy:
- Less traffic at your local airport means less business and personal travel. Check your local newspaper for airport traffic statistics.
- More "For lease" signs in storefronts and office buildings when it isn't right after the holidays could mean businesses are consolidating space or laying off employees.
- Desperate discounting by airlines, car dealers and stores. "You get 15 percent off coupons for one store item all the time," says Cassidy. "But 25 percent or 50 percent off any item in the store sounds like desperation."
- Politicians and economists start saying "slowing growth" or "soft landing," because they never want to say the word "recession" too early.
- Consumer consumption stalls or begins to drop. See whether same store sales growth for companies like McDonald's is flat or decreasing.
- Stock prices of major retailers like Target or Kohl's decrease when the rest of the stock market is reasonably OK.
A contrarian view is another way to recognize the top of the economic cycle, which is by definition the start of a recession. Chances are you're there when nonfinancial magazines such as Time feature glowing stories about the economy or stock market, or cartoons and television humor joke about how great things are.
Read the tea leaves of the financial markets for a second opinion. Financial market measures aren't perfect, but you can use them to confirm your personal observations.
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John P. Hussman, the president of the Hussman Investment Trust, recommends considering the yield spread between 10-year corporate bonds and 10-year U.S. Treasury bonds to the yield spread six months earlier. A wider spread means that the corporate bond yields are going up and the Treasury yields are going down.
When investors think earnings and default risk are heading higher, they start buying Treasury bonds because they are safer. That makes the T-bond prices go up and their yields go down. At the same time, investors pay less for the more risky corporate bonds, which increases the yields on those bonds.