Manufacturing resurgence continued across the globe, services remain at healthy levels
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The U.S. manufacturing sector appears to be staging a resurgence following the strong February ISM report. The ISM Manufacturing Index jumped to 57.7 in February, up from 56.0 in January, led by a strong rise in new orders which increased from 60.4 to 65.1. The gauge on employment fell back slightly during the month, but the report showed pretty broad based strength and certainly highlights how the combination of strengthening global demand and fading USD strength has boosted manufacturing.
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Based on data released from Markit, global manufacturing continued to expand at a strong pace in February with rising PMIs from all the major developed and emerging market countries. The Markit Global Manufacturing PMI rose to 52.9 in February, its highest level since May 2011. Japan’s PMI hit a multi-year high, Eurozone activity remained at solid levels, and China’s manufacturing recovery shows little sign of slowing. This level of manufacturing data has historically signaled a global economy growing at a 4% pace.
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The February employment report was strong with 235K new jobs added to the economy and an unemployment rate that fell from 4.8% to 4.7%. Wage growth rebounded as well to a solid 2.8% annual rate. The Fed needs to raise rates this week and continued employment strength could solidify a move in June.
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The ISM Non-Manufacturing Index increased from 56.5 in January to 57.6 in February (16 month high). Business activity jumped to a six-year high of 57.6 in February, from 60.3, new orders improved to 61.2, from 58.6 and employment edged up to 55.2, from 54.7. The strong recent reports on manufacturing/services support a March rate hike by the Fed and although most estimates for Q1 GDP growth are in the 1.5-2% level, the February ISM reports point to a U.S. economy that is accelerating.
Eurozone showing signs of life
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The Eurozone Composite PMI hit a 70-month high in February with the reading surging to 56.0 from 54.4 in January. Activity/growth momentum picked up across both manufacturing and services, but the real story was strength in manufacturing new orders and exports. All of the big four countries reported stronger levels of activity output in February led by Spain (18 month high), Germany (34 month high), France (69 month high) and Italy (14 month high). The broad based gains in the Eurozone PMI data is consistent with 0.6% quarterly economic growth. The uptick in growth combined with rising inflation and falling unemployment could lead to sooner than anticipated QE tapering by the ECB. A 9.2% jump in energy prices fueled the 2% headline inflation figure reported for January (core CPI remained unchanged at 0.9%). The unemployment rate of 9.6% was unchanged last month from December, but it has fallen significantly from the 10.4% level reported in January 2016.
Sustained recovery taking hold in China, Brazil cuts rates again, & India shocks the world with its recent GDP print
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China’s official manufacturing index rose to 51.6 in February, beating the 51.1 expectation and the 51.3 reading reported in January. The Caixin Manufacturing Index increased to 51.7 last month, up from 51.0 in January. China’s manufacturing sector has seen a sustained recovery since the second half of 2016, but it has been led by record credit growth, infrastructure spending and a booming housing market. Recent data suggest that exports are beginning to benefit from better global demand/growth. While manufacturing continues to show signs of life in China, the service sector slowed a bit in February. The official service sector PMI fell from 54.6 in January to 54.2 in February.
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Inflation across Brazil has been rapidly falling over the past few months and this allowed Copom (central bank) to cut rates by 75 bps at its February meeting. Inflation currently sits at around 5% in the country and while it is above Copom’s 4.5% target, it has dropped sharply. The benchmark Selic rate currently sits at 12.25% and additional rate cuts are expected over the next few meetings. Brazil’s central bank expects inflation to fall to 4.2% by the end of 2017. After gaining nearly 67% in 2016, the MSCI Brazil Index has risen another 7% in 2017.
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India shocked the world by reporting better than expected GDP growth in Q416. Growth of 7% was better than the 6.4% expectation, but it was down from 7.4% growth reported in Q3. India retained its title as the fastest growing major economy, but most economists are questioning the numbers due to demonetization. A decline in economic growth was widely expected as Prime Minister Modi implemented demonetization that was designed to crack down on fraud and corruption. The process of swapping old currency notes for new ones effectively drained cash from consumers and businesses during the quarter. Most of the underlying consumption data remained fairly strong, but experts argue these numbers are flawed since they only look at the “formal” economy while Modi’s crackdown was aimed at the more “informal” shadow economy.
Solid earnings coming from the U.S. & Europe
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98% of companies in the S&P 500 have reported Q4 earnings and the aggregate growth rate has been 4.9%, well ahead of the 3.1% estimate at the start of the quarter. Revenues have also grown 4.9% in Q4 and EPS is projected to grow 9% in Q1 and 9.8% for all of 2017. The highest EPS growth in Q4 has come from real estate, utilities, financials and healthcare while telecom and industrials have posted declines. Energy sector earnings are forecast to grow 315% in 2017. The aggregate earnings growth rate for the European based STOXX 600 Index has been 11.5% Y/Y for Q416. Revenues have grown 4.8%, but earnings are projected to fall 3.6% for all of 2016. Based on the latest estimates from FactSet, earnings in Europe and the EAFE Index are forecast to grow 16.5% and 14.4%, respectively, over the next 12 months.
Strong returns since the election, potential vulnerability if Trump’s agenda fails to materialize
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Following the U.S. election on November 8th, equities, interest rates and inflation have moved substantially higher. Equity markets around the globe are trading near record levels with the strongest gains coming from financials, small caps and other cyclical companies that stand to benefit from higher growth or reflation. Stocks outside the U.S. have generally not fared as well since the election, but some of that is due to the stronger dollar and currency translation. Assets have certainly moved quite a bit post election on the belief that Trump will implement tax reform, infrastructure spending and reduced regulation, but valuations have grown more expensive and we believe there is some vulnerability to markets if his agenda fails to materialize.
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