The ISM Purchasing Managers Index data on new orders for the manufacturing and non manufacturing sectors of the economy shows an interesting pattern of deterioration over the past couple of years, in spite of positive current readings. To see and evaluate this pattern, it’s necessary to go behind the headline numbers to the raw data. I stick with the new orders index only, rather than the overall index, on the theory that it’s a purer leading indicator of what’s coming than the composite PMI, which is an amalgamation of several data sets.
The January headline seasonally adjusted (SA) aggregate Manufacturing Purchasing Managers Index reading of 53.1 was substantially better than the consensus expectation of 50.5. I like to track the not seasonally adjusted ISM Manufacturing New Orders index raw data as the kernel of the measure of manufacturing conditions in the US. It fell from 53.8 in December to 53.1 in January (See Why Seasonal Adjustment sucks). While a decline, anything over 50 signals expansion.
The ISM reports only the seasonally adjusted data. To derive the actual data I divide the reported data by the SA factors applied, which are established by the US Department of Commerce each year in advance. Later, all of the data is rebenchmarked and restated. Last week the ISM just issued a restatement of all the Manufacturing and Non Manufacturing indexes since 2009. Some of those restatements were a point or more. The headline numbers initially reported for each month are essentially garbage. The charts in this post show the restated data.
In order to get an idea of how good or bad the actual, not seasonally adjusted number is for January, I compare it to January in past years. January was a down month in 9 of the past 10 years. The only exception was January 2009, when the economy was beginning to recover from the disastrous December 2008 reading at the bottom of the financial collapse. The January average month to month change over the previous 10 years was -4.8. Last year the reading was -3.1 and in 2011 it was -0.4. In that context this year’s decline was far better than average, and excluding the outlier year of 2009, and almost as good as the next best year, 2011.
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However, the slide in the trend that began after the 2009 peak is continuing. The index is now 3.4 points lower than last year at this time. It has bounced back from a low reading of 46.9 in June 2012. That was the same level the index had reached in March 2007, 7 months before that bull market ended. While it is now 7 months past the low reading of 2012, it’s impossible to say how long a lead time the indicator may have, if any, before the next bear market.
This index trended lower from late 2003 to 2007 while stock prices continued to rise. That was a potential hint that the stock market was in a bubble beginning in 2005, since the market kept rising while ISM’s new orders were slowing. The new orders index briefly went negative in early 2007, but then recovered until October, which is about when the Fed pulled the plug on the System Open Market Account. The index next went negative in January 2008, by which time the market was down for the count. The ISM manufacturing new orders index is usually a good leading indicator of economic activity, but over the long haul it has not been very useful as a stock market indicator in terms of its year to year trends.
The manufacturing sector represents about 11% of the economy. The ISM Non Manufacturing (services) sector data representing the bulk of the US economy, is released a few days after the manufacturing data, typically lags the manufacturing index by a month or two although this year it turned up before manufacturing did.
The ISM Non Manufacturing New Orders Index fell by 5.2 points in January to a reading of 55.3. Again, readings above 50 indicate growth. The monthly decline of 5.2 was worse than last January which had an increase of 4.7 . The current reading left the index 5.4 points below the year ago figure. Evidence of January seasonality is weak. Over the prior 10 years, January declined three times and rose seven times.
The Non Manufacturing index is less volatile than the Manufacturing index which is subject to the large swings inherent in capital goods orders. Both have been decelerating since 2011, but both remain on the growth side of 50. The negative divergences between these indexes and stock prices may be a long term warning sign, but those divergences persisted for 4 years before the markets topped out in 2007. Therefore these indicators cannot be used for timing purposes. They do suggest that the Fed is driving stock prices to levels which can only be sustained by continued money printing. These indexes suggest that economy is not responding in kind and that the economy probably does not have self sustaining momentum without the Fed providing artificial stimulus.
This post is derived from the permanent chart page on ISM and Factory Orders.
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