October 4, 2019
Making Cents of the Markets
Be in the Know
Stocks staged a comeback on Thursday and Friday after taking a drop earlier in the week on the back of ISM manufacturing and non-manufacturing reports. A positive employment report helped investors feel more confident that the US economy is still moving forward and the S&P500 was able to claw back a lot of the initial drop, finishing the week down just 0.3% while the energy heavy TSX dropped 1.5%. The turnaround has some wondering, which should matter more, the soft ISM surveys or the hard data on jobs? History (and the statistics) would indicate the hard data.
The reports in question are a survey of purchasing managers at more than 300 manufacturing firms by the Institute for Supply Management. They ask these managers about the month over month changes in new orders, production levels, employment, supplier deliveries and inventories. The idea is that long before a recession hits, the factory floor feels it first. Orders start to slow and manufacturers cut back on production which is why the PMI is considered a leading indicator. This information is then put into an index and given a value. If the index is over 50, it represents growth or expansion of the sector (manufacturing and non-manufacturing). Under 50 indicates contraction. Since it’s a month over month reading, changes can be quick in both directions. A reading under 50% doesn’t guarantee an economic downturn or recession. We’ve seen it dip below a few times in the last 10 years since the last recession so it’s not a crystal ball. In fall 2015, US manufacturing contracted for five straight months due to the oil bust but that didn’t precede a recession. In 2012, manufacturing also hit a soft spot, dipping below 50% twice but again, no recession. It has to be used with other indicators and those are still showing the US economy moving forward, not backwards. Also keep in mind that the US economy is predominately services based now rather than manufacturing. In the 1950s through 1970s, manufacturing was a much larger portion of the US job market but many factory jobs have been sent overseas. Back then factories were the engine of the US economy giving 20-30% of just the non-farm jobs but that isn’t the case any longer as it only represents 8% of all US jobs today. The service industry is the engine today. Healthcare, tech, advertising, retail, food services. The US would still be better if manufacturing was expanding rather than contracting but it’s not the tip of the spear any longer.
We also note that Conference Board’s leading economic indicators index (of which the ISM numbers are a part of) is still positive/growing. This index has turned negative ahead of the last five recessions. Another reason to doubt ISM survey results is the recent hard data. You wouldn’t know it reading headlines, but durable goods new orders are up three months in a row, durable goods sales (shipments) are up three of the last four months, and our measure of “core” orders and sales are up three of the last four months as well. Recent months have seen some weaker commodity prices, so sales and new orders have slowed in that category but compared to the 2015-2016 decline in manufacturers’ revenues and orders, this is a completely different ballgame. The positive jobs report with unemployment hitting the lowest point since 1969 (3.5% is a 50 year low) is further evidence that the US economy is not done growing. In fact, companies are still struggling to find workers! And the weaker ISM surveys may result in forcing the US Fed to cut interest rates again at the end of this month, which would add gas to the economy. With a strong earnings season and an interest rate cut, equities can still gain without needing a huge turnaround in the data.
We raised some additional cash this week in some mandates but had already started making shifts to defensive sectors and fixed income. On a technical basis, October is traditionally the most volatile month and the month started off positive (for 30 minutes anyway) before turning negative. For investors looking for a silver lining, some of the worst starts to October have been followed by huge gains for the remainder of the month and year. By the end of the year, the S&P has been up 12 of 13 times after a 1% decline on the first trading day of October for an average gain of 7.22% in the quarter. Bulls would certainly take a 1% decline on Tuesday if it meant 7%+ gains through year-end compared to the average gain of 2.43% for all years. This isn’t to suggest that markets are going to be free and clear for the rest of the year, but it goes to show that bad starts to Q4 aren’t the end of the world either.
Chart(s) of the Week
We couldn’t decide on just one so included three interesting charts this week prepared by the analysts and strategists at Manulife. The first shows that the manufacturing survey has dipped negative multiple times without a recession following. The second shows that the overall leading indicators index is still positive and growing (albeit slower). And the third was too fascinating to not include… household debt levels in Canada vs the US.
Beyond the Markets
It is time to celebrate the spookiest season of the year and there is no better way to do that than with a visit to Mann Farms in Abbotsford! From now until November, you can take part in their fall festival which includes wagon rides, pumpkin picking, and apple cider slushies. And for those wanting a real fright, there are two haunted corn mazes that are sure to do the job!
Listen to this week’s Making Cents of the Markets on CKNW. We talked about US manufacturing, global headlines, and the bull vs. bear case. Listen here.
Take a look here at our latest North Shore News article where we explore different types of retirees! We get insight from our very own clients to give you a better idea of the possibilities you have when entering retirement.