Monthly Markets Memo - September 2019

by Dan Zalipski, CFA 

Our Market Minute this month notes the consumer remains in good shape and is currently being credited for keeping the economic expansion going, supported by low unemployment, low inflation, and rising wages.  Retail sales continue to do well, and there’s hope that a recent drop in mortgage rates spurs another round of home buying activity.  With consumer activity doing well, I wanted to take the opportunity to check in on the other side, the producers.  This is where the stories diverge.  Consumers have, for the most part, been able to dodge the effects of the trade war.  Producers have been less fortunate.

Every month the Institute for Supply Management (ISM) releases a collection of reports that give insight into the underlying fundamentals of the U.S. Economy.  Among this data is the Purchasing Managers Index (PMI) for manufacturers, and the Non-Manufacturing Index (NMI) for the service sectors.  The indices look to summarize the direction of economic trends to provide information about the current and future business conditions.  It is useful for corporate decision makers, analysts, and investors.  A reading above 50 indicates expansion and growth, and a reading below 50 indicates contraction.

The service sector has been incredibly strong.  The latest reading came in at a 56.4 (see table below), indicating growth, and the rate of change of that growth has been accelerating.  In fact, economic activity for the service sectors has seen 115 consecutive months of growth.  Service sectors are reporting an increase in business activity, new orders, employment, and wage growth. 

The manufacturing sector is in a tougher spot.  The current trade policies are impacting their operations on a much larger and more direct scale than the service sectors.  The latest read on ISM Manufacturing PMI report came in at 49.1 (see table below), indicating the sector is contracting ending 35 consecutive months of growth.  In fact, the latest report was broadly negative with contractions reported in new orders, production, inventories, prices, and employment.  Businesses are concerned of a slowing global economy and are becoming more conservative in delaying investments in growth.

The overarching concern is that the weakness in the manufacturing sectors will bleed into the service sectors, triggering a broader slowdown in the U.S. Economy and potentially leading to a recession.  However, with the consumer sitting in a position of strength, the impact of the manufacturing sector’s weakness may be limited to an anchor on current growth rates.  In other words, the U.S. Economy may find it difficult to grow much faster than its current pace until the trade issues with China are resolved.  With wage growth coming in better than expected, consumers should be able to absorb the potential for higher prices related to tariffs and trade.  In the meantime, a strong labor market, low inflation and low interest rates should continue to enable the service sectors and consumers to thrive.