Chart of the Month: A shift in lending standards signals growth.

Credit conditions continue to support a healthy 2011. The latest Fed survey of senior credit officers shows bank lending standards have remained easier and this development, while not thoroughly unexpected given indications of better corporate confidence in general, has meaningfully positive ramifications. Indeed, this data is a significant lead indicator for business activity. While many investors focus on credit market data such as high yield debt, credit default swaps [CDS] trading and even Baa-rated bond spreads, the survey tends to lead actual fixed income markets by a month or two.

Source of data: Haver Analytics and Citi Investment Research & Analysis - US Equity Strategy

Domestic gross domestic product [GDP] trends should be supported by the lending standards signal. In the past, bank lending tightening or easing standards have typically led economic trends directionally by nine months (see figure above) and thus one should be encouraged about likely positive outcomes for GDP into 4Q11. In many respects, the survey was a clear indicator back in mid-2010 that double-dip concerns were not well founded and the most recent readings provide incremental corroboration that GDP should be relatively robust through late this year, thereby generating an encouraging backdrop for the S&P 500 to record another year of gains, albeit in bumpy fashion.

The credit environment supports many forms of investment. The standards survey generally has led the direction of capital investment, industrial production and employment by a similar nine months, implying that spread between the return on invested capital and the cost of capital is wide enough for business people to begin investing in their entities.

NOTE: This post is adapted from Citi North America Equity Strategy's "February 2011 Chart of the Month" published on Feb. 2, 2011.