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ISM Divergence Bullish, Suggests Economy Likely to Soon Improve
By James Kostohryz Jun 06, 2011 9:20 am
The trend supports the view that the overall economic slowdown experienced between May and June was driven by transitory factors, and that the economy will soon pick up.
The latest ISM Non-Manufacturing Index registered 54.6 compared to 52.8 for April, indicating a rebound in the service sector in the month of May. Notably, the New Orders Index increased by 4.1 points to 56.8. The Employment Index increased 2.1 points to 54, indicating that the improvement of employment conditions in the service sectors is accelerating.
According to the report, 16 out of 18 non-manufacturing industries reported growth in May. According to the report, “respondents' comments were mostly positive about overall business conditions. There is a sentiment that there is a degree of stability in the economy.”
At first glance, the results of the ISM Non-Manufacturing survey seem odd. The ISM manufacturing survey reflected a sharp slow-down in May. Furthermore, the most recent employment report also showed that economic activity has been decelerating. So, how is it that the service sector is expanding?
Divergence
The divergence of the ISM Non-Manufacturing Index from the Manufacturing Index is entirely understandable in terms of the thesis I've been propounding in my most recent articles. In fact, this divergence supports my view that the overall economic slowdown experienced between May and June was driven by transitory factors and that the economy will soon pick up.
Specifically, I have cited factors such as supply line disruptions related to the Japan earthquake/nuclear incident, unseasonably heavy rainfall, flooding, tornadoes, as well as other factors which I believe are transitory in nature.
In particular, these types of factors mainly affect manufacturing intensive industries.
Service industry production and sales tend to be indoor affairs, relatively unaffected by weather and rely on domestic labor rather than far-flung and complex supply chains.
The employment data are also confirming the manufacturing and service sector divergence. The recent BLS employment report suggests that much of the weakness in the US economy in May was driven by a slowdown in the manufacturing sector. By contrast, services sector employment growth remained fairly robust.
Conclusion
My contention has been that the general slowdown in the economic data from March to May has been due mainly to transitory factors and that the economy will soon show signs of picking back up.
Friday’s ISM Non Manufacturing report and the BLS Employment Report lend further credence to this hypothesis.
Virtually the only thing that can explain a slowdown in manufacturing at the same time as there has been an expansion of service sector activity are the sort of factors such as weather and supply line disruptions that tend to affect the former greatly but not so much the latter. And the good news is that these factors are transitory and should already be wearing off.
I reiterate that I expect significant improvement in the economic numbers in the weeks and months ahead. I believe that Friday's ISM Non-Manufacturing report provides a foreshadowing. In the context of extremely bearish sentiment toward equities due to fears of an economic slowdown, a turnaround in the economic data could trigger a sharp rally in equities in the weeks and months ahead.
Last Wednesday, I announced a short position on iShares Barclays 20+ Year Treasury Bond ETF (TLT) to take advantage of the panic surrounding the ADP report. On Friday, I took advantage of equity market weakness to increase my overall equity exposure through purchase of ProShares Ultra 2X S&P 500 (SSO).
According to the report, 16 out of 18 non-manufacturing industries reported growth in May. According to the report, “respondents' comments were mostly positive about overall business conditions. There is a sentiment that there is a degree of stability in the economy.”
At first glance, the results of the ISM Non-Manufacturing survey seem odd. The ISM manufacturing survey reflected a sharp slow-down in May. Furthermore, the most recent employment report also showed that economic activity has been decelerating. So, how is it that the service sector is expanding?
Divergence
The divergence of the ISM Non-Manufacturing Index from the Manufacturing Index is entirely understandable in terms of the thesis I've been propounding in my most recent articles. In fact, this divergence supports my view that the overall economic slowdown experienced between May and June was driven by transitory factors and that the economy will soon pick up.
Specifically, I have cited factors such as supply line disruptions related to the Japan earthquake/nuclear incident, unseasonably heavy rainfall, flooding, tornadoes, as well as other factors which I believe are transitory in nature.
In particular, these types of factors mainly affect manufacturing intensive industries.
Service industry production and sales tend to be indoor affairs, relatively unaffected by weather and rely on domestic labor rather than far-flung and complex supply chains.
The employment data are also confirming the manufacturing and service sector divergence. The recent BLS employment report suggests that much of the weakness in the US economy in May was driven by a slowdown in the manufacturing sector. By contrast, services sector employment growth remained fairly robust.
Conclusion
My contention has been that the general slowdown in the economic data from March to May has been due mainly to transitory factors and that the economy will soon show signs of picking back up.
Friday’s ISM Non Manufacturing report and the BLS Employment Report lend further credence to this hypothesis.
Virtually the only thing that can explain a slowdown in manufacturing at the same time as there has been an expansion of service sector activity are the sort of factors such as weather and supply line disruptions that tend to affect the former greatly but not so much the latter. And the good news is that these factors are transitory and should already be wearing off.
I reiterate that I expect significant improvement in the economic numbers in the weeks and months ahead. I believe that Friday's ISM Non-Manufacturing report provides a foreshadowing. In the context of extremely bearish sentiment toward equities due to fears of an economic slowdown, a turnaround in the economic data could trigger a sharp rally in equities in the weeks and months ahead.
Last Wednesday, I announced a short position on iShares Barclays 20+ Year Treasury Bond ETF (TLT) to take advantage of the panic surrounding the ADP report. On Friday, I took advantage of equity market weakness to increase my overall equity exposure through purchase of ProShares Ultra 2X S&P 500 (SSO).
