In January, the total output of the country’s factories, mines and utilities — collectively referred to as our Industrial Production — rose by 0.9%. This follows gains of 0.7% in December (revised up from 0.6%) and 0.6% in November, so we are also seeing a nice acceleration in the trend. However, the Industrial production numbers were just plain awful early in 2009, so on a year-over-year basis production is up just 0.9%.

This marks the 6th straight month of rising overall industrial production since the index bottomed at 95.75 in June. The level is now at 100.30, a 4.75% rise.

Deeper into the Numbers

When one drills down into the numbers, the 0.9% increase in January was much more impressive than just the increase from 0.7% in December would indicate. The December numbers for mines and factories were actually on the weak side, and the entire increase in December was due to higher utility output. Utility output is as much a function of the weather as it is of economic activity.

In January, manufacturing output rose 1.0% from December, rebounding from a 0.1% decline in December relative to November, and matching the 1.0% rise in November from October. On a year-over-year basis, manufacturing output is now up 1.7%.

That is very good news, but really says much more about just how terrible the economy was a year ago than how great it is today. Mine output (which includes oil and gas production) rose by 0.7% in January, more than reversing a 0.2% decline in December, but was much slower than the 2.1% rise in November. On a year-over-year basis, mine output is still 3.3% lower than a year ago.

Utility output was up 0.7% in January after a huge 6.3% surge in December (mostly weather-related), but better than the 3.0% decline in November (again, weather was a factor). Relative to a year ago, utility output was down 0.6%.

Output of final products rose 1.2% in January, up from a 0.8% increase in December and a 0.3% decline in November, and is up 1.2% from a year ago. Within final products, consumer goods output was up 1.1% after a 0.7% increase in December and a 0.3% decline in November. Consumer goods output is now up 3.2% year over year. Output of business equipment rose 0.7% in January on top of a 1.3% increase in December and a 0.3% decline in November, but is still off 3.8% year over year.

Capacity Utilization

The other data released in the report was on Capacity Utilization. This is one of the most under-appreciated of all economic data. It is effectively the employment rate for physical capital.

The graph below (from http://www.calculatedriskblog.com/) shows the history. Given that there will always be plants down for maintenance, it is never going to come close to 100%. As a general rule of thumb, 80% is normal, and represents a healthy economy. The long-term average (1972 to 2009) is 80.6%.

If the level gets up around 85%, it means that the economy is absolutely booming and is in grave danger of overheating. Levels of 75% are generally what you see in a deep recession; levels below 70% had been unheard of prior to this downturn, what I call the Great Recession. Prior to this, the lowest it had ever fallen was to 70.9%, in December of 1982.

In January, the overall level of capacity utilization rose to 72.6%, up from 71.9% in December and 71.3% in November. It bottomed in June at 68.3% and has been up every month since. So we are now up 430 basis points from the bottom, which is a very significant move, but we still have a long way to go. Total capacity utilization was 71.1% a year ago. 

However, just like the industrial production numbers, total capacity utilization encompasses factories, mines and utilities, and the utility numbers in particular can be skewed by the weather. Thus a better overall indicator of the economy is to just look at manufacturing capacity utilization. There the trends are the same but the overall picture is not as bright (or should I say even dimmer).

Factory utilization rose to 69.2% from 64.8% in December, which was unchanged from November. Its long-term average rate is 79.2%, so again the 80% rule of thumb holds. Factory utilization is up from 67.1% a year ago and from a low of 65.2% in June. Prior to the current downturn, the worst we had ever seen was a 67.9% reading in December of 1982.

Still, it is hard to paint a pretty picture where over 30% of factories are sitting idle; it is just not as hideous as it was a few months ago and clearly seems to be on the path to recovery. However, the increase in the utilization rate is partly due to a 1.4% decline in the overall level of capacity for manufacturing (and a 1.1% decline overall).  If some of the factories are permanently shut down and torn down, it is easier to have the remaining ones working at closer to full capacity.

Mine utilization climbed to 86.2% in January from 85.7% in December and November, but is still below the 88.4% level of a year ago, though pretty close to its long-term average level of 87.5%. It also benefited from a 0.9% decline in the level of capacity.

Utility utilization also rose, reaching 83.1% in January from 82.7% in December, and just 77.9% in November. A year ago, utilities were operating at 85.1% of capacity. However, unlike factories and mines, we have actually been increasing the number of power plants in the country, with total utility capacity up 1.9% from a year ago. The long-term average for Utility utilization is 86.6%.

Crude, Intermediate & Refined

By stage of processing, the nation is doing well on the crude goods front, with output running at 85.9% of capacity, sharply higher than the 81.5% level of a year ago, and up from 85.2% in December and 84.8% in November. It is within spitting distance of the long-term average of 86.5%. This is very good news for the suppliers of industrial equipment to crude goods producers.

Crude goods are basically commodities. Thus, consider this to be a green-light report for firms like Joy Global (JOYG) and Bucyrus (BUCY).

It is the later stages of production where the shutdowns have been most acute. In semi-finished goods (for example steel, whereas iron ore would be a crude good), plants are only running at 69.4% of capacity. While that is up from 69.0% in December and 68.1% in November, it is still below both the 69.7% level of a year ago and well below the 81.6% long-term average.

Finished goods capacity utilization is doing only a little bit better, rising to 70.1% in January from 70.1% in December and 69.8% in November. A year ago it was running at 68.5%, and its long-term average is 77.5%. While the trends are in the right direction, the absolute level is still abysmal.

If a factory has 10 lathes and three of them are just sitting there gathering dust, the lathe salesman is not going to get many new orders. Thus, firms selling equipment to factories that produce finished and semi-finished goods factories, like Parker Hannifin (PH) and Rockwell Automation (ROK) are starting to see things move in the right direction, but may have a bit longer to wait for the orders to actually come through. Still, the trends are very much in the right direction, so investors might want to get ahead of the curve on these names.

In Summation

Overall this was a very encouraging report, especially after it disappointed so badly in December (especially if you blacked out the weather effects from the utility numbers). However, the report was basically in line with expectations (hit right on the nose for total capacity utilization while the industrial production numbers came in at 0.9% vs. an expected 0.7%), which should limit its market impact.

It is good news for the economy. Notice that the bottom in capacity utilization almost always corresponds to the end of a recession, and we are now well off the bottom. Welcome news indeed coming as it does on the first anniversary of the Stimulus Act being signed into law.

Clearly the stimulus is working in turning the economy around, but the job is far from finished. Given the enormity of the economic challenges we were facing at the time, the act was too small to fully do the job. One can argue that it cost too much for the amount of benefit we have gotten, but to claim it has had no effect is just plain ignorant.

Dirk van Dijk, CFA is the Chief Equity Strategist for Zacks.com. With more than 25 years investment experience he has become a popular commentator appearing in the Wall Street Journal and on CNBC. Dirk is also the Editor in charge of the market beating Zacks Strategic Investor service.

More about Zacks Strategic Investor >>

Read the full analyst report on “JOYG”
Read the full analyst report on “BUCY”
Read the full analyst report on “PH”
Read the full analyst report on “ROK”
Zacks Investment Research