In our last update we noted that economic growth was slowing as the recovery matures and the weakest comparisons from 2020 have passed, but recession risk remains remote. The global PMI data last week provided some confirmation of this view.
The global Markit Composite PMI (services and manufacturing) declined one point to 55.7 as both services and manufacturing slowed from their recent highs. Each are both at high absolute levels and the underlying components show strong demand, but the composite is at a four-month low and is unlikely to accelerate back above the prior high. The breadth trends are also slowing as fewer countries are reporting PMI levels above 50 or monthly increases in the absolute level.
The same is true in the US, where the Markit Composite PMI declined four points, but is still high at 60. The ISM Manufacturing PMI fell one point to 59.5, a six-month low, while the Markit Manufacturing PMI rose one point to a record high 63. The ISM Non-Manufacturing PMI increased four points to a record 64, while the Markit Services PMI declined four points to 60, a five-month low. These indexes are based on monthly comparisons, and it is unlikely that activity will accelerate higher than the first 12-18 months following the shutdown in spring of 2020.
Source: Hedgeye.
The US and global economies are likely to continue to expand but at a pace that moves back towards the trend that was in place prior to 2020.
On the inflation side, global and US PMI Price indexes continue to report high pricing expectations with the US ISM Manufacturing PMI Price Index at 85 (down from a record high of 92) and the ISM Non-Manufacturing Price Index at a new record high of 82. On the global side, Manufacturing Input Prices were 70.5, near the highest level since 2010, and Services were 64, near the highest since 2008.
Source: Hedgeye.
These numbers should eventually normalize (US Services has yet to peak) but between now and then inflation levels will likely remain elevated compared to the trend prior to 2020.
The market signals continue to suggest growth rates are likely to slow while inflation remains elevated. Equity market leadership has rotated away from small caps, high beta, high leverage, and cyclicals towards large caps, organic growth, low beta, and high quality.
Source: Koyfin.
The fixed income markets are also experiencing this trend as 10-year Treasury rates are making lower highs, TIPS yields (a proxy for real growth expectations) are declining, the 2 year-10-year Treasury curve has been flattening, and high yield credit spreads have stopped tightening.
Source: Koyfin.
The commodities market is off from the recent high but is not showing signs of breaking down.
Source: Koyfin.
Oil volatility has been fluctuating but has not sustained levels that have been consistent with trend breakdowns in Oil or commodities in general.
Source: Koyfin.
The market signals are also suggesting recession risk is remote as the S&P 500 and NASDAQ ended the week at new highs. Even with the recent moves, high yield spreads remain historically low, equity volatility (VIX) is well below levels associated with weak economic growth, and the $US has been making a series of lower highs.
Source: Koyfin.
Until the market signals and economic data suggest otherwise, the rate of change in economic growth is set to move back towards lower levels, which should lead to a shift in the assets that should outperform but not a widespread decline in risk assets.
The views expressed herein are presented for informational purposes only and are not intended as a recommendation to invest in any particular asset class or security or as a promise of future performance. The information, opinions, and views contained herein are current only as of the date hereof and are subject to change at any time without prior notice.
Senior Vice President, Investment Strategy
Boyd Watterson Asset Management, LLC
