An Esoteric Market Indicator Just Flashed A Warning

Stock investors might need to look out below.

An esoteric financial markets indicator just registered a warning signal that historically augured in double-digit falls in the S&P 500, the index tracked by the SPDR S&P 500 (SPY) exchange-traded fund. The metric in question is the Marshallian K., which measures the liquidity in the economy. Recently, the liquidity started contracting.

“[T]he Marshallian K. now shows liquidity not only deteriorating but actually contracting,” states a recent report from financial company Leuthold Group.

That conclusion might surprise many people who look at the Federal Reserve’s money-printing program, which started during the financial crisis of 2007-2009. The Fed’s balance sheet has ballooned in the decade or so to more than $8.2 trillion recently from less than a trillion, according to government data. In other words, that would appear to be a lot of liquidity.

Marshallian K Could Kick the Market

However, if you believe the Marshallian K., what matters is whether the money supply grows faster than the economy. And right now, that isn’t happening.

The opposite is happening. According to the recent research by Leuthold and others, the growth of the money supply is lower than GDP growth. That’s likely to put a squeeze on the financial markets if history repeats.

“Since the Fed moved into ‘perpetual-crisis mode’ in 2008, the Marshallian K has dipped below zero only twice—2010 and 2018,” states the recent Leuthold Group report. “Those years featured S&P 500 corrections of 16.0% and 19.8%, respectively.” 

In other words, the recent negative turn for the Marshallian K could augur substantial drops in stocks.

Leuthold does note that before the financial crisis, which was also before the Fed began its perpetual money printing, negative Marshallian K readings did not correlate with market drops.