A lagging indicator is a financial indicator that appears only after the effect of the indicator has taken place. In other words, they confirm the occurrence of a long-term trend but do not predict them. In practice, lagging indicators are markers for financial trends and changes in these trends.
They most often serve as signals to either acquire or sell assets in these financial markets. We are about to show you the scope of lagging indicators and how your knowledge of them can help you leverage your gains.
Why Are Lagging Indicators Important to Understand?
Lagging indicators are very important financial markers. As a result, it is important to know how and why these indicators exist. As financial markers, lagging indicators become noticeable only when a tangible, major shift has occurred. For that reason, they are not predictors. They do not predict trends but they confirm them.
Lagging indicators come in handy when the volatility that comes with leading indicators leaves very little to be trusted. In addition to that, the instabilities in the short term can be misleading signals which only the lagging indicator can confirm or disprove. On a macroeconomic basis, lagging indicators are a way to verify that a major shift in the economy has occurred.
By their nature, they are easy to measure and keep within reach of but are also hard to change or alter. They are output-based, meaning that they only communicate stably, the situation, or the economic trend at hand.
That being said, what is the significance of lagging indicators to investors?
Investors rely on lagging indicators to determine the correctness of their decisions in the share market. Lagging Indicators play the role of giving importance to the decisions that investors have made. Because leading indicators have a high chance of giving false signals due to their reaction speed, lagging indicators are corrective.
However, in some cases, slow response to trends can cause a lagging indicator to mislead investors. That being said, a lagging indicator is a measure of market performance for investors.
Types of Lagging Indicators
There are different forms of lagging indicators available in the financial sphere. There is a lot of lagging indicators, but they are majorly divided into three main categories as follows:
Economic Lagging Indicators
Economic Lagging Indicators are lagging indicators that operate within the economy. These indicators usually operate on a macroeconomic level. They are forms of economic information that give meaning and measurement after an economic activity occurs.
The Conference Board of the United States publishes a monthly index showing the lagging indicators and their values. The Conference Board which is an economic think tank founded in 1916 specializes in economic research. Some of these economic lagging indicators are the labor cost per unit of output and the unemployment rate which react to market movements. Other lagging indicators like the Gross Domestic Product and the Consumer Price Index, are indices of economic measurement.
Examples of Economic Lagging Indicators
As stated earlier, Economic Lagging Indicators act as both reactors to change and indices of economic measurement. Typically, they allow the investor to measure the performance of his investment. Some general examples of Economic Lagging Indicators are:
- Average Prime Rate
- Consumer Price Index
- Gross National Product
- Interest Rates
- Gross Domestic Product
- Corporate Profits
- Labour Cost per Unit of Output
- Balance of Trade
Technical Lagging Indicators
Technical Lagging Indicators are reactors that emerge after a price change has taken place. In contrast to other lagging indicators, technical lagging indicators do not compare two economic variables. Rather, it compares the instant value of the variable to its average over some time. Another mode of comparison is between the value of the variable and its historical data.
Technical Lagging Indicators are pattern-based. This means that the price, volume, and open interest can affect its reaction. They always follow currency trends. That means they follow the market. In practice, traders/investors make use of more than one lagging indicator before reacting to market trends.
Examples of Technical Lagging Indicators
A perfect example of a Technical Lagging Indicator is a 50 and 200-day moving average. They are designed to show where the recent valuation stands in comparison to historical indices. A stock trend becomes bearish when the 50-day moving average goes below the 200-day SMA. Conversely, the stock trend becomes bullish when the 50-day moving average goes above the 200-day SMA.
With this example, you will find that technical lagging indicators focus on the comparison of present value to historical data. Some examples of Technical Lagging Indicators are:
- Simple Moving Average
- Exponential Moving Average
- Moving Average Convergence Divergence (MACD)
- Moving Average Crossover
- On-Balance Volume
- Average Directional Index
Business Lagging Indicators
Business Lagging Indicators are indices that measure the performance of the business after all has been said and done. They provide clear insight into the results of different business models. In essence, they show you at a glance the fruit of work based on how your business is being run.
Many businesses convert these lagging indicators into a base for business intelligence. Doing this helps them to trace and gauge the progress of the business. These indicators are the metrics that directly gauge the impact of the business. You could call them ‘late KPIs’ and you wouldn’t be far wrong.
Examples of Business Lagging Indicators
Business Lagging Indicators are indeed markers of the success and/or failure of the business. In your business, chances are high that the best assessment of your efforts will come from a lagging indicator. Some examples of Business Lagging Indicators include:
- Sales Revenue
- Sales Cycle Length
- Customer Satisfaction
- Customer Churn Rate
- Gross Profit Margin
- Growth in Revenue
What Is the Difference Between Leading and Lagging Indicators?
Leading Indicators are markers that express potential changes in the future. In contrast to lagging indicators, they can be influenced or altered, and they are predictive. They are early pointers to performance.
They show the rate of progress your business is making towards set goals. In essence, they are indices that help you stay on course to attain your set goals. Some examples of Leading Indicators include:
- Pipeline Volume
- Average Stage Length
- Leading Credit Index
- Manufacturing Activity
- Consumer Confidence
To clearly show the contrast between leading and lagging indicators we will look at the examples below:
- Pipeline Volume is a leading indicator but Unemployment is a lagging indicator.
- User guide usage is a leading indicator while Customer Satisfaction is a lagging indicator.
- Consumer Confidence is a leading indicator, on the other hand, Customer Churn Rate is a lagging indicator.
In essence, these indicators (leading and lagging) are defined by time. One predicts the future, while the other measures past performance.
To grow your business, you must combine the use of both leading and lagging indicators. In addition to that, you have to know when and how to apply them. We recommend that you consult your Financial Advisor to know the best approach. Whichever way, your knowledge of lagging indicators will go a long way in helping you make sense of trends and changes you may see.