Lots of Inventory to Work Down Before Production Picks Up

Just how deep is the current slowdown? And how long before we work our way out of it?

The Institute for Supply Management (ISM) released its U.S. manufacturing survey today, which may hint at some answers. Today’s headline figure, originally expected to fall near 36.0, was actually better than expected at 41.5. Ranging from 0 to 100, index readings below 50 tend to signify contraction and above that, expansion. At first blush, today’s number doesn’t seem too bad. But when you look under the hood at the various sub-components that make up the index, things are less sanguine.

There is noticeable weakness in a forward-looking measure that often turns down when manufacturing is slowing — the “new orders less inventories” measure. As you can see, this measure is the weakest ever in the history of this survey, dating all the way back to 1947. What does it mean? There aren’t many new orders, which represent future production, relative to the amount of inventories businesses already have on hand. So once the economy starts to reopen, businesses will have a lot of inventory to work down before they can get “back to work” in a meaningful way. According to ISM, sentiment is “strongly negative” for the near-term outlook due to the impact of COVID-19 and the energy market recession.

Given the PMI report, and considering that more than 30 million jobless claims have been filed in the U.S. in just the past six weeks — meaning 1 in every 5 workers is newly unemployed — April’s stock market run (the best month for the S&P 500 since 1987) is a bit of a head scratcher.

You can’t help but wonder, has the market gotten a little ahead of itself?