Global Macro Strategy

A weekly analysis of timely economic strategy issues from Wells Fargo Investment Institute.

January 10, 2017

Craig P. Holke, Global Research Analyst
Paul Christopher, CFA, Head Global Market Strategist

Continued Signs of Recovery in U.S. Manufacturing

  • Manufacturing recently has faced many difficulties, from slowing domestic and global demand to an appreciating U.S. dollar (making American goods less affordable overseas). This has led to a decline in business investment that has had a negative effect on economic growth.
  • There are signs of moderate, but sustainable, recovery in the manufacturing sector. Surveys on new orders, employment, and management’s willingness to invest all have reflected improvement in recent months.

What it may mean for investors

  • An improvement in the manufacturing sector likely will lead to increased business investment and broader economic growth, and help to support a recovery in corporate earnings.

Several factors contributed to the difficulties faced by the domestic manufacturing sector following the most recent recession. Domestic and global demand declined significantly due to the global financial crisis. This reduction in demand led to a decline in production orders and, as a result, a decline in output and employment. As Chart 1 shows, manufacturing sector sentiment contracted sharply in 2015. It stabilized at the start of 2016 and has been recovering since that time. Sentiment regarding employment in the manufacturing sector continued to weaken for most of 2016. The economic resurgence (that began before the U.S. elections) ticked higher as firms expected stronger orders in the fourth quarter, in turn, benefiting manufacturing.

Chart 1. Sentiment Among Domestic Manufacturers Continues to RecoverChart 1. Sentiment Among Domestic Manufacturers Continues to RecoverSources: Institute for Supply Management (ISM), Wells Fargo Investment Institute, 1/6/17. Note: Each month, the ISM asks purchasing managers if sentiment is better, worse, or the same. The results are calculated so that 50 denotes “the same,” and values above (below) 50 denote better (worse). We show three-month moving averages to reflect trends more clearly.

Domestic Manufacturing Continues to Show Signs of Recovery

In general, businesses have held off on investing in their operations due to increased uncertainty over demand—with manufacturing having been hit harder than the rest of the economy by sluggish economic growth following the financial crisis. This has caused them to delay business investment. Chart 2 shows a survey of manufacturing CEOs on the likelihood of investing in their business within the next six months. As can be seen, management’s likelihood to invest has risen (along with the recent signs of economic improvement). Business-investment expectations have been trending upward since the summer of 2016, and the current reading of 43 percent is the highest since 1987. This is likely due to the fact that investment has been put off for so long that manufacturers have significant pent-up demand for updating, and possibly expanding, their operations.

We believe that continued recovery in the manufacturing sector will benefit domestic economic growth. The lack of investment by manufacturing firms has acted as a drag on the economy, but signs of the recovered willingness of management to invest point to improved economic expansion. Risks to the manufacturing recovery do exist. Further appreciation of the U.S. dollar, and any event that would reduce global trade, will negatively impact manufacturers and act as a further drag on economic growth. However, in the near term, we see a gradual and ongoing recovery in global trade, reinforced by stable commodity prices. Stronger global demand, especially for U.S. goods used in producing oil and gas, should result in orders for U.S. goods that are strong enough to offset the moderate U.S.-dollar appreciation that we anticipate. At this time, we maintain our U.S. economic growth forecast of 2.1 percent for 2017.

Chart 2. Manufacturing CEOs’ Increasing Expectations of Business InvestmentChart 2. Manufacturing CEOs’ Increasing Expectations of Business InvestmentSource: Philadelphia Federal Reserve, Wells Fargo Investment Institute, 1/6/17. CapEx is capital expenditures.
Note: Survey of manufacturing CEOs expecting to increase capital expenditures over the next six months.

The lack of business investment has been a drag on economic growth in recent quarters. There have been signs that business investment is showing signs of becoming a positive contributor to growth, or, at the least, no longer detracting from economic expansion. Nonresidential fixed investment, a proxy for overall business investment, grew 1.4 percent in the third quarter after rising by 1.0 percent in the previous quarter. Although manufacturing only accounts for roughly 12 percent of the U.S. economy, a pickup in investment in this sector will have a positive effect on economic growth.

Investor Implications

These positive signs indicate a perceptible recovery, and one that should balance economic growth, but we do not expect a manufacturing surge. Since 2014, the U.S. economy has grown in a one-sided way— driven by consumer spending. The recovery in manufacturing broadens the recovery beyond services and should reinforce consumer spending and wage growth. Yet, consumers have not yet shown themselves willing to assume large new debts. Additionally, many countries around the world also are still struggling with debt. Bottom line: Even a gradual manufacturing recovery is another sign that the domestic economy continues to broaden its expansion. This breadth should sustain the U.S. economic recovery into at least the coming year and possibly beyond.

Global Investment Strategy (GIS) is a division of Wells Fargo Investment Institute, Inc. (WFII) WFII is a registered investment adviser and wholly-owned subsidiary of Wells Fargo & Company and provides investment advice to Wells Fargo Bank, N.A., Wells Fargo Advisors and other Wells Fargo affiliates. Wells Fargo Bank, N.A. is a bank affiliate of Wells Fargo & Company.

The information in this report was prepared by Global Investment Strategy. Opinions represent GIS’ opinion as of the date of this report and are for general information purposes only and are not intended to predict or guarantee the future performance of any individual security, market sector or the markets generally. GIS does not undertake to advise you of any change in its opinions or the information contained in this report. Wells Fargo & Company affiliates may issue reports or have opinions that are inconsistent with, and reach different conclusions from, this report.

This report is not intended to be a client-specific suitability analysis or recommendation, an offer to participate in any investment, or a recommendation to buy, hold or sell securities. Do not use this report as the sole basis for investment decisions. Do not select an asset class or investment product based on performance alone. Consider all relevant information, including your existing portfolio, investment objectives, risk tolerance, liquidity needs and investment time horizon.

There is no assurance that any of the target prices or other forward-looking statements mentioned will be attained. Any market prices are only indications of market values and are subject to change.

Wells Fargo Advisors is registered with the U.S. Securities and Exchange Commission and the Financial Industry Regulatory Authority, but is not licensed or registered with any financial services regulatory authority outside of the U.S. Non-U.S. residents who maintain U.S.-based financial services account(s) with Wells Fargo Advisors may not be afforded certain protections conferred by legislation and regulations in their country of residence in respect of any investments, investment transactions or communications made with Wells Fargo Advisors.

Wells Fargo Advisors is a trade name used by Wells Fargo Clearing Services, LLC and Wells Fargo Advisors Financial Network, LLC, Members SIPC, separate registered broker-dealers and non-bank affiliates of Wells Fargo & Company.

Special Reports

A collection of the most recent thematic reports from Wells Fargo Investment Institute that cover varying topics of interest and importance to investors.

Read Our Insights
CAR0116-04983
CEX1707