Disappointing Empire Fed Manufacturing Report
General business conditions index in the September Empire Fed manufacturing report fell modestly. But the expectations index fell significantly, so I’ll call this a disappointing report. Empire Fed index is just one of the 5 regional Fed reports, but it gains prominence because it’s the first one.
It is out even before the August industrial production report. That report comes out on Tuesday. Estimates are for 0.2% monthly industrial production growth and 0.1% monthly manufacturing growth. I’m most interested to see if yearly industrial production growth goes negative and if yearly manufacturing growth stays negative. Both the ISM and Markit manufacturing readings were weak. They differed widely on the services sector.
Getting back to the Empire Fed report, the general business conditions index missed estimates for 4.9 as it came in at 2. That fell from September’s reading of 4.8. The August Empire Fed index actually showed slight improvement. We will get a better sense of whether to trust this Empire Fed report if the industrial production report improves. Keep in mind, the Empire Fed reading is a soft data survey on just one part of the country. It can be imprecise, but it usually is correlated with manufacturing in the rest of the country.
Shipments index fell 3.5 points to 5.8. The index was negative for parts of 2015 and 2016. This supports the notion that manufacturing is in a borderline recession; it’s not as bad as the last manufacturing recession though. It could end up being worse, but that partially depends on whether there is a trade deal. New orders index fell 3.2 points to 3.5. It was negative for a brief moment earlier in the year like the last manufacturing recession, but has since rebounded.
Inventories index rose 2.7 points to 8.5 which is nearly as high as it has gotten in the past five years. That means production needs to fall to meet the weakness in demand. There was a large increase in the number of employees index (11.3 point increase to 9.7) which is odd because manufacturing hasn’t shown solid job creation this summer.
As you can see from the chart above, the 6 month expectations for general business conditions index fell 12 points to 13.7. The only good news here is that this isn’t the low for the year. New orders and shipments indexes fell 9.8 and 10.7 points to 21.9 and 20.4 which were both close to the lows in the last manufacturing recession.
Expectations are grim partially because of the trade war and partially because of the strong dollar since a strong dollar hurts global trade growth. Capex and technology spending indexes were disasters as they fell 18.6 and 10.9 points to 4.6 and 6.5. Similarly, they are also near their previous manufacturing recessionary troughs. It’s still not as bad as Markit’s reading though which showed manufacturing output at about a 10 year low.
Another Weak Cass Freight Index
At first the August Cass Freight index looks like an improvement because monthly shipments growth was 1.6%. Yearly growth increased from -5.9% to -3%; it fell 6% in May. However, yearly growth improved because of the easier comp as the 2 year stack fell from 4% to 2.8%. Specifically, that means the comp was 4.1% easier. This explains why Cass Information Systems stated, “the shipments index has gone from warning of a potential slowdown to signaling an economic contraction.”
This hasn’t yet correlated with a recession, but the recessionary signal got stronger in this report. In May, yearly shipments growth fell slightly below the 2016 low. That was because of tough comps. As you can see from the chart below, the 2 year stack has a ways to go to get to the 2016 trough. It's consistent with manufacturing growth in the industrial production report.
Expenditures index is trending in the same direction. Difference with shipments is monthly expenditures growth was negative and its 2 year growth stack was much higher because of high growth in 2018. Specifically, the index fell 0.7% monthly and fell 2.6% yearly. 2 year stack was 13.6%.
Yearly expenditures growth fell from -1.4% in July. Because the 2 year growth stack fell more than yearly growth, it means the tough comp didn’t cause the decline in yearly growth. Specifically, the 2 year comp fell from 16.3%. That’s a 2.7% decline.
Quotes in this report were mostly bad. For example, Cass Information Systems stated, “We know that freight flows are a leading indicator, so by definition there is a lag between what they are predicting and when the outcome is reported. Nevertheless, we see a growing risk that GDP will go negative by year’s end.”
China Can’t Maintain 6% GDP Growth
China’s GDP growth was 6.3% in 1H 2019. Morgan Stanley believes growth is tracking near the low end of the government’s full year target range of 6% to 6.5%. Analysts expect Q3 growth to fall from Q2’s near 30 year low of 6.3%. Chinese Premier Li Keqiang stated, “For China to maintain growth of 6% or more is very difficult against the current backdrop of a complicated international situation and a relatively high base, and this rate is at the forefront of the world’s leading economies.”
He blamed slowing global growth which is ironic because a China is big reason the global economy is weakening. He also blamed protectionism which means he’s blaming the trade war. The weaker the Chinese economy gets, the more likely it will agree to a trade deal soon.
It's interesting to see this weakness in expectations and negative commentary from the Chinese Premier because the Caixin general services business activity index improved from 51.6 to 52.1 in August. Manufacturing index improved from 49.9 to 50.4 which means it isn’t in contractionary territory anymore. This explains why the composite index increased from 50.9 to 51.6. That’s the best reading since April. Clearly, there is a difference between the soft data and hard data.
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