February manufacturing output down but fundamentals remain strong, says ISM

Manufacturing output in February continued remained on an uneven sequential path but remained on the right side of growth according to the monthly manufacturing Report on Business, which was released today by the Institute for Supply Management (ISM) today.

The report’s key metric, the PMI, fell 2.4% to 54.2 (a reading of 50 or higher indicates growth). This comes on the heels of a 2.3% increase to 56.6 in January. The index has now grown for 30 consecutive months, with the overall economy now having grown for 118 consecutive months.  

February’s decrease marks the fourth sequential decrease for the PMI going back to September 2018, when it fell 1.3% from August’s 60.8. The February PMI, of 54.2, is 3.8% below the 12-month average of 58.0 and is the lowest monthly PMI reading during that span.

ISM reported that 16 of 18 manufacturing sectors reported overall growth in February, including: Printing & Related Support Activities; Textile Mills; Computer & Electronic Products; Electrical Equipment, Appliances & Components; Fabricated Metal Products; Paper Products; Wood Products; Primary Metals; Chemical Products; Food, Beverage & Tobacco Products; Miscellaneous Manufacturing; Petroleum & Coal Products; Transportation Equipment; Machinery; Furniture & Related Products; and Plastics & Rubber Products. The only industry reporting contraction in February is Nonmetallic Mineral Products.

Most of the report’s key metrics, including the PMI, saw declines in February.

New orders, which are commonly referred to as the engine that drives manufacturing, slipped 2.7% to 55.5 while still growing for the 37th consecutive month, with 13 of 18 manufacturing sectors reporting growth in February.

Production, at 54.8, decreased 5.7%, which nearly wiped out the 6.4% from December to January and showed growth for the 30th consecutive month. Employment fell 3.2% to 52.3, growing for the 29th month in a row. Supplier deliveries, at 54.9 (a reading above 50 indicates contraction) decreased at a slower rate for the 36th consecutive month. Inventories eked out a slight 0.6% gain to 53.4, growing for the 14th month straight.  

Comments submitted by ISM members for the report were mostly optimistic, with some concerns mixed in, too.

A chemical products shipper said it has been a strong start to the year while weather has been a challenge. And a machinery respondent noted that orders remain strong even though supplier delivery continues to be challenged on some commodities.  A plastics and rubber products respondent said that general business conditions starter to slow at the end of January and continued through February.

Tim Fiore, chair of the ISM’s Manufacturing Business Survey Committee, said in an interview that the February PMI reading is consistent with 2.2%-to-2.6% GDP growth, with U.S. GDP coming in at 2.6% for the fourth quarter.

Addressing the key metrics in the report, Fiore said new orders were good but not great, which is supported by customers’ inventories numbers (down 3.8% to 39), which he said is too low, and says more needs to be done to fill the customers’ inventories pipeline in March and April. The 2% gain in backlog of orders to 52.3 shows that demand remains solid. Prices were down 0.2% to 49.4, falling for the second straight month.

“The real issue for the month was the production number and, to some extent, the employment number,” said Fiore. “Employment is not a major concern, as it tends to follow things. February is the shortest manufacturing month, so we try to adjust for that with the seasonality factors, which were negative for the raw numbers this month. But what we really cannot adjust for are the weather conditions. The Polar Vortex impacted everybody, with factories shutting down everywhere for one or two days, and trucks were down on the side of the road. That and the shorter work month weighed down the production number.”

On a year-to-date basis, Fiore said things are moving along pretty well for manufacturing, with many positive signs, as February resolved a few different things like export expansion, which was up 1% to 52.8 as two of the six largest manufacturing sectors expanded, coupled with five months of historically low levels of exports.

“We also now know that the tariff war is going to be truced, and we will not see another $200 billion in goods go under tariffs and we will not see the $200 billion under tariffs now go to 25%,” he said. “That is really positive. The Fed also came out and said it is not going to suck money out of the economy by selling off bonds and not re-buying anymore. They are essentially going to keep it in neutral, and that leaves about $650 billion in the economy that had been getting pulled out every year. And it is likely we will not be talking about federal interest rate increases until at least the third quarter.”

But there are other factors to keep in mind, too, he observed, should China continue to struggle but it could stabilize with the lack of expansion in the trade war. The European Union is also struggling, with a potential extension for ongoing Brexit discussions.

Looking ahead at some key metrics Fiore said that even though prices contracted in February, they were still stable overall, which is allowing the Fed to not push for rate increases.

“If you see price increases start to come back to the 53-54 level, that would feel good,” said. “And if supplier deliveries stabilize and not get any faster, that would also be good. I expect a similar level of new orders next month, maybe slightly more, and production should come back 3%-to-4%.