Dow almost flat after mixed PMI, but surged on mixed NFP data

·         Although the headline US unemployment rate inched up to 4.1% Fed red line zone in June, the 6M rolling average is still at 3.9%; Fed may not cut from Sep’24

On Wednesday, Wall Street Futures, Gold got some boost on less hawkish Fed talks as Powell, and Goolsbee acknowledged the resumption of the disinflation process; thus the market is now quite optimistic about both Sep’24 and Dec’24 rate cuts. Following Powell's speech, US interest rate futures slightly increased the chances of a Fed rate cut in September, from around 60% to 65%. Although, Fed Chair Powell acknowledged progress on inflation but emphasized that the central bank is not yet ready to cut interest rates.

Wall Street edged up soon after Powell started speaking when he stated that "the disinflation trend shows signs of resuming", following the bump in the road on the inflation path that we saw recently, which sparked fears on the Feds rate cut path. Powell said there’s been a “substantial” move toward a better balance between the supply and demand for workers. He continued to describe the job market as strong but also noted that it is cooling off appropriately. For the first time in its history, the S&P 500 closed above 5,500, while the Nasdaq 100 hit the 20,000 mark. But Powell said nothing new Tuesday and overall, the Fed may not cut rates before Dec’24.

The overall progress of disinflation is still incremental rather than monumental and the Fed may go for -25 bps rate cuts from Dec’24 rather than Sep’24; the market is still expecting -50 bps rate cuts in H2CY24 against Fed’s dot-plots of only -25 bps one rate cut.

Apart from the JOLTS job openings report, some focus of the market was also on the US PMI report. On 1st July, the final data from S&P Global shows US Manufacturing PMI was revised slightly lower to 51.6 in June from a preliminary of 51.7, but continued to point to the highest reading in three months and to an improvement in the US private manufacturing sector. New orders rose for a second month running and production continued to rise, albeit at a weaker rate. Also, employment increased the most since September 2022. Although input costs continued to rise sharply, the rate of inflation eased in June, while selling prices increased at the slowest pace in the year-to-date. Meanwhile, business confidence hit a 19-month low, although client demand remained muted.

On 3rd July, the S&P Global final data shows the US Services PMI revised slightly higher to 55.3 in June from 55.1 flash estimate and 54.8 sequentially, and the sharpest expansion in services sector activity since Apr’22. Inflows of new work rose at the sharpest pace in a year during the period, resulting in an expansion in output. In the meantime, employment levels increased the most in five months to rebound in Q2, as firms aim to increase the capacity and halt the recent expansion of outstanding work. On the price front, input inflation fell to a five-month low.

Finally, the S&P Global data shows US Composite PMI for June was revised higher to 54.8 from the initial estimate of 54.6 and higher than 54.5 sequentially. This marks the fastest growth in private US business activity since Apr’22. Service sector activity expanded at a faster rate compared to manufacturing. The increase in output was driven by a boost in new orders, growing for the second consecutive month and reaching the highest level in a year. Despite a decrease in new export orders, overall new business saw a rise. Companies responded to higher demand by increasing staffing levels for the first time in three months. Input cost and output price inflation rates slightly eased from the previous month. Looking ahead, firms remained optimistic about future output growth, with confidence levels little changed from the previous month.

The S&P Global comments about US PMI for June’24 (final data):

“The S&P Global PMI survey shows US manufacturers struggling to achieve strong production growth in June, hamstrung by weak demand from domestic and export markets alike. Although the PMI has now been in positive territory in five of the first six months of 2024, up from just one positive month in 2023, growth momentum remains frustratingly weak.

Factories have been hit over the past two years by demand switching post-pandemic from goods to services, while at the same time household and business spending power has been diminished by higher prices and concerns over higher-for-longer interest rates. These headwinds persisted into June, accompanied by heightened uncertainty about the economic outlook as the presidential election draws closer. Business confidence has consequently fallen to the lowest for 19 months, suggesting the manufacturing sector is bracing itself for further tough times in the coming months.”

US service sector companies reported an encouragingly solid end to the second quarter, with output rising at the fastest rate for over two years. Both new order inflows and hiring have also accelerated the latter buoyed by firms taking on more workers in response to rising backlogs of work. With additional – albeit more muted – support coming from the manufacturing sector, the survey data point to GDP rising at an annualized 2.0% rate in the second quarter, with a 2.5% rate seen for June. Forward momentum is therefore gathering pace.

There is some nervousness creeping in regarding the post-election business environment, but for now, at least confidence about the outlook for the coming year remains elevated by recent standards and supportive of businesses investing in expansion. Some of this optimism relates to ongoing convictions that interest rates will start to fall before the end of the year. In this respect, a further cooling of price pressures in the survey – notably in the services sector – adds to signs that inflation should trend lower in the coming months to open the door further for rate cuts.”

On Monday (1st July), some focus of the market was also on ISM Manufacturing apart from the final S&P Global Manufacturing PMI data for June. The ISM Manufacturing PMI edged lower to 48.5 in June from 48.7 sequentially and below market forecasts of 49.1. The reading showed another expansion* for the US private manufacturing activity, but at the lowest pace since Feb’22 amid subdued demand & subsequent output (production). In June, ISM recorded Production PMI at 48.5 vs 50.2 sequentially and employment at 49.3 vs 51.1-all contracted while faster decreases were seen for inventories at 45.4 vs 47.9 and a backlog of orders at 41.7 vs 42.4. On the other hand, new orders 49.3 vs 45.4 shrank less and price pressures eased to 52.1, the lowest since December, vs 57.0. Also, the supplier deliveries index remained in ‘faster’ territory (49.8 vs 48.9).

*Although ISM MFG PMI continues under the usual boom/bust line of 50.0 in 2024 and most of the time in 2023, ISM now defines Manufacturing PMI above 42.5 percent, over some time, generally indicates an expansion of the overall economy (to stay relevant with S&P Global PMI survey).

 

The ISM comments about US Manufacturing PMI for June:

·         Economic activity in the manufacturing sector contracted in June for the third consecutive month and the 19th time in the last 20 months

·         The Manufacturing PMI registered 48.5 percent in June, down 0.2 percentage points from the 48.7 percent recorded in May. The overall economy continued in expansion for the 50th month after one month of contraction in April 2020 as a Manufacturing PMI above 42.5 percent, over a period of time, generally indicates an expansion of the overall economy*

·         Demand remains subdued, as companies demonstrate an unwillingness to invest in capital and inventory due to current monetary policy and other conditions. Production execution was down compared to the previous month, likely causing revenue declines and putting pressure on profitability.

·         Suppliers continue to have capacity, with lead times improving and shortages not as severe.

·         Sixty-two percent of manufacturing gross domestic product (GDP) contracted in June, up from 55 percent in May.

·         More concerning is the share of sector GDP registering a composite PMI calculation at or below 45 percent — a good barometer of overall manufacturing weakness — was 14 percent in June, 10 percentage points higher than the 4 percent reported in May

·         The eight manufacturing industries reporting growth in June — in order — are: Printing & Related Support Activities; Petroleum & Coal Products; Primary Metals; Furniture & Related Products; Paper Products; Chemical Products; Miscellaneous Manufacturing; and Nonmetallic Mineral Products.

·         The nine industries reporting contraction in June — in the following order — are Textile Mills; Machinery; Fabricated Metal Products; Wood Products; Transportation Equipment; Plastics & Rubber Products; Food, Beverage & Tobacco Products; Electrical Equipment, Appliances & Components; and Computer & Electronic Products.

On Wednesday (3rd July), the market focus was also on ISM and S&P Global service PMI data to have an early assessment of the health of service industry heavy US economy. The ISM data shows services PMI in the US plunged to 48.8 in June from 53.8 sequentially, much below market expectations of 52.5 and the sharpest contraction since April 2020. But despite tumbling below 50.0, as per the new narrative (definition) by the ISM, it still would be regarded as ‘expansion’, being above 46.0 (~45.00).

In June, the US service business Activity Index also fell, registering 49.6, the first contraction since May 2020; New orders (47.3 vs 54.1) and employment (46.1 vs 47.1) declined.

The ISM comments about US Service PMI for June:

·         To be clear: The Services PMI has indicated expansion for 46 of the last 49 months and has not recorded consecutive months in contraction since the coronavirus pandemic engulfed the globe in April and May 2020. That reflects consistent growth in the sector, and as the saying goes, one month does not make a trend

·         But two months out of three raises flags, especially considering the sub-index data and industry trends in the June report.

·         The Business Activity (49.6 percent) and New Orders (47.3 percent) fell a combined 18.4 percentage points, and the Inventories Index dropped 9.2 points to 42.9 percent as companies actively tried to reduce their stocks, aiming to cut costs and respond to sagging demand; (The Business Activity and New Orders indexes directly factor into the Services PMI® calculation; the Inventories Index does not)

·         Eight industries reported growth in June, down from 13 the previous month

·         The largest industry — Real Estate, Rental & Leasing, which accounts for 14.9 percent of services gross domestic product (GDP) — reported the fastest rate of growth among 18 industries in May but contracted in June.

·         The second-largest industry, Public Administration (12.7 percent of sector GDP) was also in contraction.

·         The Employment Index was down 1 percentage point to 46.1 percent

·         Service industries such as Accommodation & Food Services and Arts, Entertainment & Recreation, which typically boost staffing for the summer months, reported decreases

·         It looks like there’s some weakness in the consumer sector, and that was certainly a surprise to me after the previous month

·         The decrease in the composite index in June is a result of notably lower business activity, a contraction in new orders for the second time since May 2020, and a continued contraction in employment.

·         Survey respondents report that in general, business is flat or lower, and although inflation is easing, some commodities have significantly higher costs.

·         In the wake of surprisingly weak index readings in June — ISM was asked if brighter days were ahead for the sector; ISM said: “I wish I could say yes---But nothing stands out to me, at least this month, that you could call out”

·         And a Services PMI of 48.8 percent, a 5-percentage point decrease compared to May and the second contraction in three months, was just the start of the parade of sobering numbers.

·         For the first time in 18 months, the composite index fell below the threshold of 49 percent that, based on historical PMI data, indicates growth in the overall U.S. economy.

There are some historical differences in methodology and sample size between ISM and S&P Global PMI surveys:

The ISM PMI is based on a survey of approximately 300 supply management professionals across the US (mostly MSMEs). These professionals are involved in a broad range of industries within the manufacturing sector. The S&P Global PMI surveys a larger sample of over 800 (mostly big companies/corporates) in the manufacturing sector, providing a broader base of data.

The ISM PMI is a composite index derived from five equally weighted components: New Orders (30%); Production (25%); Employment (20%); Supplier Deliveries (15%); Inventories (10%) and Survey Questions. ISM Respondents are asked whether business conditions are improving, deteriorating, or staying the same for various aspects of their operations. The ISM survey uses equal weights for its components, which can highlight different aspects of manufacturing activity.

The S&P Global PMI is also a composite index but derived from five different components: New Orders; Output; Employment; Suppliers' Delivery Times; Stocks of Purchases and Survey Questions. Similar to ISM, S&P Global respondents also indicate changes in business conditions but often provide more granular detail and regional breakdowns. The S&P Global uses its proprietary methodology to weight these components, which might differ slightly from the equal weighting of the ISM survey.

Although the S&P Global PMI data is broader and may be more scientific than ISM, the latter has more influence on the US financial market traditionally; but the Fed now looks into both reports closely for any policy stance and overall health of the US economy. However, the ISM PMI is still considered a leading indicator of economic activity, often providing early signals of changes in the economic cycle due to its proximity to the US GDP trajectory (?).

In contrast, while the S&P Global PMI is also valuable and offers broader international comparability, it does not have the same historical depth or market impact within the US context as the ISM PMI. This long-standing reputation and its significant influence on market behavior and policy decisions contribute to the ISM PMI being viewed as more important for the US economy. The S&P Global PMI survey covers more big-size US manufacturing sectors than ISM. The U.S. is ultimately a service-oriented economy, while manufacturing contributes only around 11% of the GDP and 8.4% of the labor force, mainly from defense and aerospace; i.e. industrial goods rather than consumer items.  

In the last few quarters, it becomes evident that the S&P Global Composite PMI is aligning with the real GDP of the US more than ISM as the latter continues to indicate recession, whereas the US economy is now quite upbeat, growing over +2.0% trend rate on an annualized basis. This anomaly may have forced the new Chief of ISM to change the narrative of PMI; now manufacturing PMI would be regarded as an expansion if it scales over 42.5 and service PMI above 46.0 (instead of an unusual 50.0). It also seems that ISM is now too preoccupied with finding a correlation between its PMI data and that of the market (bond, equity indices-SPX-500) reaction rather than overhauling/modifying the PMI calculation methodology to stay relevant. Thus overall, the ISM PMI data is now almost irrelevant and it fails to influence the market meaningfully.

Conclusions:

The Fed may start the long-awaited eleven rate cut cycle from Dec’24 and may also indicate the same by Sep-Oct’24; the Fed will be in ‘wait & watch’ mode till at least Dec’24. But at the same time Fed will continue its jawboning (forward guidance) to prepare the market to ensure the official dual mandate (maximum employment, price stability) along with an unofficial mandate to ensure financial stability (Wall Street and bond market); Fed may not allow core real bond yield (10Y) above +1.0% under any circumstances to manage government borrowing costs.

Market impact:

Overall, although the ISM PMI report is in sharp contrast to S&P Global, as per new defections of ISM, the US economy is still in expansion mode albeit at a slower pace due to increasing borrowing costs, subdued demand, and election (political/policy) uncertainty. Both ISM and S&P Global indicate cooling inflation and labor market, supporting the Fed’s narrative for the start of much much-awaited 11-rate cuts cycle from Dec’24, after the Nov’24 US election. Thus there was no meaningful market reaction after ISM and S&P Global PMI data for June as the Fed will not change its narrative based on these PMIs data; the Fed will look into the 6M rolling average of US core inflation and job data before any change in rate action or stance of monetary policy/outlook thereof.

On Friday, all focus of the market was thus on NFP/BLS job market data for June, which was mixed/goldilocks in nature despite a huge beat in headline NFP job addition (mainly boosted by government jobs), the headline unemployment rate rose to Fed’s red line zone 4.1%. But after the latest revisions, the 6M rolling average of the US unemployment rate is now 3.9%, still below the 4.2% Fed red line, while that of the NFP job addition is now around +222K/M and if we take into account multiple job holders, it may be almost equivalent to the divergence between number of employed persons as per BLS Household survey and number of employees as per BLS Establishment survey.

On Friday, Gold, and Wall Street Futures initially slid on the ‘blockbuster’ headline NFP job addition number (above expected) but soon recovered as the headline unemployment number 4.1% came higher than expected at the Fed’s red line zone. But the overall impact/boost was quite limited despite the implied probability of the Sep’24 rate cut surging to 65% from the prior 60%. Gold surged due to fading hopes of an imminent Gaza war ceasefire as Mossad returned to Israel for more discussions about the latest Hamas proposal.

Weekly-Technical trading levels: DJ-30, NQ-100, SPX-500 and Gold

Whatever the narrative, technically Dow Future (39400) has to sustain over 39500-39850 for any further rally to 40050*/40200-40350*/40500 and may further rally to 40600-40700/41000 and even 42000-42700 in the coming days; otherwise, sustaining below 39800/39600-39400/39200 may again fall to 39000/38800-38600/38400 and further 38200/38100-37900*/37600-37400 in the coming days.

Similarly, NQ-100 Future (20250) has to sustain over 20350-20500* for a further rally to 20700-21050 in the coming days; otherwise, sustaining below 20450-20300 may again fall to 20000/19850-19750/19650* and 19450/19100-18800/18500 and 18400/18100-18000/17700 and 17600/17500-17300/17150 in the coming days.

Technically, SPX-500 (5560), now has to sustain over 5650 for any further rally in the coming days; otherwise, sustaining below 5625/5600-5575/5550 may again fall to 5500/5450-6375/5350 and 5250/5200-5175/5100 and further 5000/4900*-4850/4825 and 4745/4670-4595/4400* in the coming days.

Also, technically Gold (XAU/USD: 2325) has to sustain over 2350-2365 for a further rally to 2375/2385-2395/2400 and further to 2410/2425-2435/2455* and 2475-2500; otherwise sustaining below 2345-2320, may further fall to 2290/2275* and may further fall to 2245/2230-2220/2180 and 2155/2115-2085/2045 in the coming days.