The Institute for Supply Management’s (ISM) manufacturing survey rose to a reading of 60.4 from 59.6 in February, an increase of 0.8 points and above the 60.0 reading that was expected. Any reading over 50 indicates that the manufacturing economy is expanding, so this is a very strong reading, indicating that the manufacturing economy is not only expanding but doing so at an accelerating rate relative to March.
And it is at the highest level so far in this economic cycle. It is the highest reading since June of 2004, and is the fifth highest overall reading since the start of 1988! It is also a huge improvement over the rates we were seeing a year ago.
The ISM is a good coincident indicator of the economy, plunging during recessions but then recovering quickly as the recession comes to an end. While the ISM index did not set a new post-war record low in this recession the way that several other economic indicators did, it still got down to very scary levels hitting 32.5 in December of 2008. In addition to the overall ISM index, the history of three most important components are shown (production, new orders and employment) in the graph below.
Breakdown by Sub-Index
The overall ISM index is composed of 10 sub-indexes. Eight of those indexes are above the magic 50 dividing line. Relative to March, five of the indexes dropped; the other five rose.
The most important gauge of the current state of the economy in the report is the production index, which rose 5.8 points on top of a 2.7 point increase in March, making up for the 7.8 point plunge in February.
If the production index tells where we are, the new orders index helps tell where we are going. That story was very much the same, with a rise of 4.2 points in April on top of a 2.0 point increase in March to 65.7, but still below the January level of 65.9. That is still a very strong reading.
Of particular interest right now is the employment index. It rose 3.4 points to 58.5, more than reversing its 1.0 point decline in March. This is the fifth straight month it has been above 50, meaning that we should be seeing a pick-up in manufacturing jobs. However, that has yet to show up in the BLS statistics.
We will see on Friday if this discrepancy in the two data series is starting to be resolved. With the new order index lower than the production index (65.7 vs. 66.9) the backlog of orders sub-index fell 0.5 points but it is still at a very healthy 57.5.
The only sub-indexes that are below the 50 level are the ones relating to inventories. Customers inventories, with a reading of 33.0, are by far the lowest, and were down 6.0 points on the month. If I had to pick a sub-index to be in negative territory to be below 50, it would be this one, since having firms think that their customers inventories are too low indicates stored-up demand. Perceptions of their own inventories moved back into negative territory, falling 5.9 points to just under the magic 50 level with a reading of 49.4.
Inventories were the big story in the fourth quarter GDP — accounting for about 2/3 of the 5.6% overall growth — and in the first quarter were still responsible for more than half the growth recorded, but the absolute impact was to add 1.57 points to growth down from 3.79 growth points in the fourth quarter. In the fourth quarter, that was due to firms shrinking their inventories at a much slower rate than they had in the third quarter. In the first quarter it was from actual restocking of the shelves.
This fall-back in the inventory index means that manufacturing firms are starting to trim their inventories again. In other words, inventories will be a much less powerful force for the positive in the second quarter GDP growth numbers, and conceivably could even become a drag on growth again.
The index for new export orders fell 0.5 points to 61.0, reports on increased imports rose 1.0% to a level of 58.0. This could indicate some additional deterioration in the trade deficit going forward. The Greek Drama has greatly weakened the Euro, which is sort of the anti-dollar, causing the dollar to rise. This hurts our competitiveness by making our exports more expensive and imports cheaper.
In Summation
Overall this was a very encouraging report. It shows that the manufacturing side of the economy is clearly on the mend, and the market should like these numbers. The overall index, the PMI, has been above the magic 50 mark now for 9 straight months, or since August. That is probably around the time that — when they get around to it — the NBER will officially declare that the recession having ended.
The March reading is the highest since July 2004, and since 1968 the overall PMI index has been above this level in only 54 months, or 10.6% of the time. Clear evidence of an economy on the mend, at least on the manufacturing side, although manufacturing is a relatively small part of the overall economy.
The non-manufacturing index does not have as long a history as the manufacturing index, but covers a much bigger part of the economy, is due out next week. In recent months it has also been above the 50 mark, but much lower than the manufacturing numbers.
The gains appear to be very widespread, particularly in the new orders and production sub-indexes, where almost all of the industries reported improvements and no industries reported deteriorating conditions. The percentage of respondents saying they were seeing increased new orders jumped to 52% from 41% in March while the percentage seeing lower orders fell to 8% from 11%.
Production was a similar story, with those reporting higher production rising to 49% from 36%, while those reporting lower production falling to 7% from 11%. The ISM does list industries by how much things have improved for each of the sub-indexes (also lists in order for those with deteriorating conditions).
The one industry that seems to be on the top of most of the lists was Apparel and related. That probably means good things ahead for stocks like Maidenform Brands (MFB) and Under Armour (UA). Surprisingly, the Wood products area is also showing significant strength, with is bullish for firms like Plumb Creek Timber (PCL) and Rayonier (RYN).
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.
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