We created the Doom Index to sound the alarm ahead of the next crisis. It tracks 12 key indicators to detect when there’s stress in the economy and markets are overheating.
[For more information on how we calculate the Doom Index reading each quarter, have a look at our Introducing the Doom Index report.]
The chart below shows our Doom Index levels by quarter. The red bars indicate a reading of 8 or higher. That’s when we raise our “crash alert” flag and tell investors it’s time to prepare for a market crash.
Crash Alert
We raised our “crash alert” flag at the end of Q2 2019, when the Doom Index hit 8. We stayed in the “Danger Zone” for the next four quarters.
Economic conditions improved slightly in the second half of 2020, as evidenced by our Doom Index reading dropping to 7 for Q3 2020 and Q4 2020… before shooting back up to 8 – crash alert territory – in Q1 2021.
Our recent Doom Index reading – based on the Q2 2021 data – is 7…
So we’re packing away our tattered “crash alert” flag… for now.
In Q2 2021, manufacturing continued to hum along, albeit at a slightly slower pace than the previous quarter. The employment situation continued to improve. Junk bonds finished the quarter marginally higher than the previous quarter.
The biggest positive was the number of corporate bond upgrades. They outnumbered downgrades by a factor of two-and-a-half.
However, just like last quarter, the stock market still appears to be way ahead of the economy…
Stock market valuations remain sky high, and leveraged investing continues… though investor sentiment has cooled off a little.
Meanwhile, the number of building permits issued is on the decline… and commercial and industrial loans dipped again.
Below, we break down what we found when we looked under the hood – the good… and the bad.
The Good News
The Institute for Supply Management (ISM) Manufacturing Index is a great indicator of economic activity. A reading above 50 signals expansion.
We award one Doom Point whenever the reading falls below 50.
The Q2 2021 reading came in at 60.6.
Doom Points awarded: 0
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U.S. Railcar Utilization tells us the amount of goods moving throughout the economy. When railcar utilization falls, it indicates that economic activity is slowing down.
We award one Doom Point whenever railcar utilization falls.
At the end of Q2 2021, railcar utilization was at 75% (up from 74% in Q1).
Doom Points awarded: 0
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Nonfarm Payroll comes directly from the U.S. Bureau of Labor Statistics (BLS). It measures the number of workers in the U.S., excluding farm workers and workers in a handful of other job classifications. It accounts for approximately 80% of U.S. business sectors contributing to gross domestic product (GDP)
We award one Doom Point whenever nonfarm payroll falls.
Nonfarm payroll increased by 0.59% in Q2 2021.
Doom Points awarded: 0
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Junk Bonds are the riskiest bonds for sale on the open market. We follow the iShares iBoxx High Yield Corporate Bond ETF (HYG), which tracks movement in the junk bond market.
We award one Doom Point whenever HYG trades down for the quarter, meaning the ratings agencies see a greater risk of default for junk bonds.
HYG increased by 1% in Q2 2021.
Doom Points awarded: 0
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Corporate Bond Downgrades tracks the number of corporate bonds downgraded relative to the number upgraded each quarter.
We award one Doom Point whenever downgrades exceed upgrades.
In Q2 2021, there were 333 upgrades and 129 downgrades.
Doom Points awarded: 0
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U.S. Investor Sentiment tells us what investors think will happen in the markets over the next six months. We use this as a contrarian indicator.
We award one Doom Point whenever more than 45% of investors are bullish on the markets for the next six months.
Investor Sentiment for Q2 2021 came in at 40.5%.
Doom Points awarded: 0
The Bad News
Stock Valuations
All three of the stock market valuations we use for the Doom Index signaled that the stock market is overvalued:
The Shiller P/E Ratio – also known as the cyclically adjusted price-to-earnings (or CAPE) ratio – compares stock prices to their average inflation-adjusted earnings over the past 10 years.
The long-term average – over 140 years – is 17.
We award one Doom Point when the Shiller P/E ratio is above 24.
At the end of Q2 2021, the Shiller P/E ratio was 37.38.
Doom Points awarded: 1
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The Buffett Indicator compares the market capitalization of all U.S. stocks to GDP. Renowned investor Warren Buffett says the indicator is “probably the best single measure of where valuations stand at any given moment.”
We award one Doom Point when the ratio tops 1.
The Buffett Indicator hit 2.04 (est.) at the end of Q2 2021.
Doom Points awarded: 1
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Tobin’s q Ratio compares the market value of 5,000 U.S. stocks to the replacement cost of their assets. Then, it looks at where the stock price is relative to those replacement costs. It’s a great way to compare stock prices to something tangible.
We award one Doom Point when Tobin’s q Ratio tops 1.
At the end of Q2 2021, the ratio was at 1.7.
Doom Points awarded: 1
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Bank Loan Growth tracks commercial and industrial loans. When bank loans are growing, it’s a sign that businesses are borrowing money and expanding.
We award one Doom Point whenever total credit growth falls below 2%. We award two Doom Points whenever credit growth is negative.
In Q2 2021, credit growth declined by 8%.
Doom Points awarded: 2
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Margin Debt Outstanding tells us how much leverage investors are using. It’s a good contrarian indicator.
We award one Doom Point whenever it exceeds 2%. We award two Doom Points whenever it exceeds 3%.
In Q2 2021, margin debt outstanding was at 2.4%.
Doom Points awarded: 1
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U.S. Building Permits gives us a pulse on the real estate market – an important component of the overall economy.
We award one Doom Point whenever the number of new building permits issued falls by 2% or more on a quarterly basis. We award two Doom Points whenever it falls by 7% or more.
In Q2 2021, the number of building permits issued decreased by 5.1%.
Doom Points awarded: 1
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Total Doom Points awarded based on Q2 2021 data: 7