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Manufacturing Recession?

Markit ManufacturingBy this point, most readers of this blog know that I am in a very defensive posture relative to portfolio construction.  We are holding money markets and fixed income in an effort to have some dry powder available to buy our favored holdings when we get a correction.  I thought we would have had it by now given that corporate earnings are down 8% year-over-year and that valuations for the stock market are at their highest level since the last recession.

Fundamentally, stocks are over-valued and the US economy is slowing appreciably.  US GDP growth was 0.3% in the first quarter of the year according to the Atlanta Federal Reserve Bank.

Today, the Manufacturing PMI was released which shows the US manufacturing sector headed to recessionary levels not seen in several years.  Chris Williamson, chief economist at Markit said:

“US factories reported their worst month for just over six-and-a-half years in April,      dashing hopes that first quarter weakness will prove temporary.

     “Survey measures of output and order book backlogs are down to their lowest since the height of the global financial crisis, prompting employers to cut back on their hiring.

“The survey data are broadly consistent with manufacturing output falling at an annualized rate of over 2% at the start of the second quarter, and factory employment dropping at a rate of 10,000 jobs per month.

You can see in the graph above from Markit that manufacturing activity is just about to head into recession.

Below is a graph of manufacturing employment from Markit:

Markit EmploymentYou can see that this is seriously impacting employment in the manufacturing sector as well.

The stock market has been going up in spite of the fundamentals deteriorating.  However, even though it has tried multiple times to break out to new highs, it just has not been able to do it.  Check out the graph below:

S&P 500 2016.l04.22Over the past year, the market has dropped, recovered, then dropped again. The general pattern is for the market to fall, recover but not as strongly as before, then to fall again even further, recover but not as strongly – wash, rinse, repeat.

You can see that the market looks like it has rolled over but we need to see some follow-through before we determine if we’ve entered a correction or not.

From a technical standpoint, we are in a bear market correction until it can break above the horizontal blue line and start a new leg higher.  I have trouble believing it can continue higher in the face of falling earnings and a slowing economy – but given that the computers are now making most of the trades based upon momentum strategies, the index will go further in each direction than makes sense before it switches and moves in the opposite direction.

Happy Earth Day!

Mark