What are the most important trends in the last decade? Which ones will continue and which ones will turn? I have taken 7 major trends –  gold, US stocks, emerging markets, debt, interest rates, housing and tech.

1. Spectacular rise of Gold.

From early 80s till the end of 90s, gold was a laggard. As inflation fears receded (thanks to China’s low cost exports) and growth fears subdued (due to “unreal” 90s – when growth skyrocketed due to open markets worldwide), gold’s role was really questioned. Most mainstream commentators thought gold bulls were dinosaurs and gold investing was anachronistic.

However, gold would prove its detractors wrong.

As the decade swung between two recessions (dot-com crash followed by jobless recovery in the US & Great financial crash of 2007-09) and harsh inflation in mid noughties, investors flocked to gold. While investors of real estate, bonds and stocks saw mixed fortunes, gold didn’t fail. In general gold goes up in uncertainties as investors are more comfortable with gold than anything else. the impacts of the financial crash might continue into this decade and inflation might oscillate when the monetary expansion is cut off. Also, as more of Indians and Chinese get wealthy they might buy more of gold ornaments and investment bars. So, gold trend has greater chances of continuing the current bullish trend.

2. Worst decade for US stocks since great depression – market going nowhere

Here is the performance of Dow (top 30 stocks in the US). For most of the decade the index went around the magic number of 10000 and except for 2006-07, investors have nothing much to cheer about. It looks likely that the market might continue this dance around 10000 for a 1-2 years before breaking out. Federal Reserve is most likely to start increasing its interest rates from this year and it remains to be seen how the market is going to handle that. The recession shows signs of ending with bottoming out job loss numbers, but a lot of recovery is already priced into the stocks. It is time to show greater attention to building a balanced portfolio – with more weight for bonds & emerging market stocks, that people used to in the past 20 years.

3. Rise of emerging markets

While developed country markets failed, emerging markets had a great run. Notwithstanding the cash post-September 2008, emerging markets gave 400% returns in the past 7 years. As India and China continue their economic growth, the stock markets should see further growth. Though there is worry about overheating –particularly in Chinese markets – in the long run, India & China markets are a far better bet than developed country markets.

4. Change at the top of the helm in Tech

After 2 decades of breakneck growth Microsoft stock had a poor decade. It followed the overall tech index and for most of the decade the index & MSFT when nowhere. On the other hand, Google (which was in their garage at the start of the decade and Apple which was close to dying, were the top tech companies of the decade. Microsoft is making valiant attempts to break Google’s hegemony in search and iPhone supremacy in smartphones, but so far it is on the losing end. Barring a major new product release, the trend would continue and Google/Apple could overtake Microsoft in marketcap in 2-3 years.

5. Historically low interest rates

In the US the interest rates hovered at or below 2% of most of this decade except for the 2004-07 period as the US federal reserve fought hard against the 2 recessions. There was a brutal side-effect to this low-interest policy – people borrowed a lot to buy homes and stocks and bonds in the 2002-07 period. Even now there is trend of borrowing  in dollar and investing in promising markets abroad (called the carry trade). This low interest trend cannot continue and within this year interest rates should start climbing again. By the middle of the decade, interest rates could be 5+% as the effects of stimulus plan cause a drag on the economy and reduction in credit.

6. Skyrocketing US debt

While US debt has been growing ever since the 1980s, the growth rate substantially increased since 2000. US debt is at highest among non-wartime periods. This will have significant impact on future interest rates and spending. This trend might continue, though there might be a push to slow the rate this decade.

7. Most spectacular housing market increase in US history

Since late 90s, US housing markets was on a tear. Part fear (of stock markets), part financial innovation (new ways of repaying loans came) and part interest rate drop, Americans flocked to the housing markets. The bubble started to break in 2006 and after effects are still showing. the market is still close to the inflated prices at the top of the decade, but is likely to come closer to the historical levels. The graph is adjusted for inflation. This decade is unlikely to repeat the performance of early noughties and growth could be low throughout the decade.

Companies came during or end of Long Depression:

Standard Oil (1870) – mother of most oil companies today, including XOM, Goldman Sachs (1882), AT&T (1880-85), J&J (1887), GE (1890), JP Morgan (1895), Ford (1903)

Still, this chart has some insight.

Source: Dshort.com

The title seems scary. Can we really get that bad and fall 3/4 from this point? Hopefully, we won’t. But, economic theories don’t preclude that possibility. This is because of the fundamental relationship between stock market and the economy.

Businesses produce profits and the profits impact both the GDP and stock values. You can have the profits go closer to zero and GDP still non-zero, due to the other components in GDP, but you cannot have GDP going to a toilet and profits keep going up indefinitely. Thus, GDP forms an upperbound for corporate profits. Generally Market capitalization of the entire economy is a product of GDP, corporate profits as a % of GDP and what investors think the future will be (Price to Earnings ratio).

Stock market value depends on 3 main factors in the short run –

1. Market Psychology (affects Price to Earnings)
2. Growth in corporate profits (affects Earnings)
3. Interest rates (affects Price to Earnings)

However, as Buffet once said, “In the short run market is a voting machine, in the long run it is a weighing machine”. In the long run, market psychology and interest rate growth don’t have much impact in stock valuation and corporate profits cannot grow forever – limited by GDP level. So, in the long run stock values would be linear in Gross Domestic Product (GDP) – that indicator of what the economy actually produces.

Figure 1 has the US GDP for the last 60 years in 2000 dollars. GDP has grown about 7 times since 1947. So you expect the stock market value to be somewhere in that region, right? The relationship held till about early 1980s and then it went out of whack (Figure 2). It grew nearly 30 times since 1950. From 1950 to 1982, Dow grew about 3.5 times while GDP grew about 3 times, roughly they tracked each other. However, since 1982, Dow has grown 8 times (assuming a value near 6500), while US GDP has grown only about twice. So, if the historic GDP relationship matters, Dow must come to a level of 1600 (twice what it was 27 years ago).

Some of the factors that partly helped this included an increase in foreign income (that gets to stock value but not to GDP), but for most part we formed a massive bubble built in the back of market psychology and historically low interest rates, while the corporate profits as % of GDP increased due to the relaxation of rules. These cannot continue forever. We might be in for a painful readjustment towards long term averages and that can make a Dow at 2000 a reality.

US GDP for the last 60 years in 2000 dollars

Data Source : St. Louis Fed

Dow Jones Industrial Average (Blue) and S&P 500 index since 1950.

Source: Yahoo Finance.

Header image: Courtesy of Eidur K

Have you ever wondered where do the money from your tuition go? How do the universities spend their money? Why does the cost of tuition grow 2X  more than the inflation rate? Why are the US universities extremely inefficient and uneconomical? I didn’t find any other study and workable stats on university spending in the net, so I just made a small exploratory study on how universities spend money.

Organization of this essay:

Part 1 concerns endowments, Part 2 contains analysis on a private University (Harvard) and Part 3 contains analysis on a public university (UW) and Part 4 is the initial conclusion. If there is enough audience interest, I will go deeper into this problem in further posts.

I started from this chart from my earlier post and started digging where the universities spend their money in.

1. Endowments in US Universities

A lot of universities have billions in endowments that they really don’t need to go for any tuition (I think Yale is doing this partly for its undergrads). 78 universities have $1 billion+ in their reserves and 1b is a lot of money [that is 10% more than the entire money spent by Indian government in higher education per year, for instance] and Harvard alone has more money than the GDP of 100 nations. The endowment pool of top 10 universities (after the current downturn) is more than $150b combined. And by law they have to spend 5% of it every year. But, it amazes me that they collect the tuition and other than the endowment interest part they are not able to run the universities in an economical way and have to constantly jack up the tuition. Look at Harvard’s endowment growth in second chart, for instance.

http://www.nacubo.org/documents/research/NES2008PublicTable-AllInstitutionsByFY08MarketValue.pdf

2. Spending at Harvard

Let’s look at Harvard. Audited statement: http://vpf-web.harvard.edu/annualfinancial/pdfs/2007fullreport.pdf

· It spent 3.2b per year, of which 1.2b is from its investments.

· Tacked in its footnote of its financial statement is a $680m expenditure [wow… most nations in the world cannot spend 680m on their entire nation’s education program and Harvard puts that amount in footnote].

· They incur a deficit of 2m even after the endowment money.

Where did your money go?

3. How University of Washington spends its money

http://www.washington.edu/admin/finmgmt/annrpt08/2008report/AR08_tagged.pdf

Tuition contributes less than a sixth of its sources and instruction forms a fourth of its expenditures.

In facts and figures.

The instruction part of the expenses has grown a whopping 14% in last 2 years, while general inflation was less than 4% in that period.

It has a pretty good endowment growth, with the current fund worth $2.2b.

4. Comments

I think US education system should go in for a major overhaul. It is extremely good at graduate level with unbeatable teaching and lab quality. It has huge requirements (Assistant professors, Doctors etc spend 10+ years in school) and strict quality control. But, I think such great quality has a huge cost penalty particularly when you go for lower levels. A lot of times you just need a nail and hammer, and having a $10000 driller doesn’t satisfy any more efficiently. They should shift most of their courses online, let students really think, reason and question, and use the university’s facilities when they need to. They should cut their substantial overhead (more than 2/3 of their expense) and achieve very high throughput. Universities (like automakers) spend a huge amount on benefits (500m for a mid-sized university like UW).

Header Image of Harvard – courtesy of http://www.flickr.com/photos/bunkosquad/29703357/

How come we see the computer revolution everywhere except in the [aggregate] productivity statistics?

- Robert M. Solow, Winner, 1987 Nobel Prize for Economics (Sveriges Riksbank Prize)

Computers, Internet and mobile phones have fundamentally changed our life the last 2 decades. We could do more efficient shopping, connect to a lot more people and be more productive at work. As an engineer who have been a part in developing an Operating system, a search engine and a social networking tool  – the three main products of this revolution, I feel they are great things to both build and to use. They make individuals much more productive looking at the micro level. However, looking from an economic point of view and see the Macro picture I’m bogged down with “Show me the money”. Economists of the 1980s and 90s have debated a lot about this and suggested that they may not have caused a lot of economic growth.  As this review shows, the economists of late 80s successfully argued that this paradox is due to “mismeasurement, lags, redistribution and mismanagement”.

However, over a long period of time you should see the effect in economic growth, as the indirect effect of the productivity increases reflect in the macro economy. And things have changed since the original “productivity paradox” came, as PCs came into the living room and internet connected the ordinary people to do their mundane stuff in networks originally designed to survive nuclear attacks.So in this decade, have the powerful PCs, Smartphones, Search engines, Facebook led an explosive economic growth? In reopening the debate and looking at the recent data, there still seems to be dismal evidence for the productivity growth from the modern revolution. It is possible that the economy might have reached a saturation as a $10 trillion economy cannot continue to be sprinting like a $1 trillion economy, but still 1.7% annual growth in per-capita income since WWW came seems less. There might be other small causes too. The article concludes with what might be a possible cause for this.

GDP growth in the last decade

Here is the annual GDP growth since the War. We see some big spikes in the 1950s, 60s and the 70s, but the growth since the 1990s has been pretty muted, inspite of all the hype of the late 1990s.

Let me take two sample years 1995-2007 to compute the range. 1995 is year of the Windows 95 (that brought PCs to common people), Yahoo (the first search engine), Java (the language that will become the foundation of the web for the next few years) and of Netscape that brought the world of Internet to a lot of people. The next year Hotmail came in and brought email access to everybody. So, 1995 is the pretty much the start of the revolution. And, 1995 was in the start of a massive boom and 2007 was at the peak of another boom – so we should be seeing some real super growth in the period.

According to BEA statistics the GDP (chained 2000 dollars) has grown from $8.03b to about $11.6b a 45% growth in 12 years from 1995. Well that might sound great till we see the Census stats that says the population has grown from 261 million to about  303 million now.  So, the GDP per-capita has effectively grown only 24% in this time -  growth rate about 1.7%/year. Not bad, but definitely not close to an explosion.

Contribution to GDP:

Now, how much of the growth is really caused from the real productivity growth. There were four other parallel forces that contributed to the growth.

1. Globalization – with the rise of China, India and other countries, US had access to cheap capital, labor and goods. They consumed a lot of American goods and services and gave in return a lot of cheap goods that US retailers used to sell the customers and generate jobs. Thus, there was a lot of growth from personal consumption.

2. Financial “Innovation” – Wall street created a phantom growth over the last decade as it played with ever more greater financial tools. This produced rich profits for the financial companies, cheaper credit for corporations and individuals, and increased the leverage.  All these directly fed into the GDP. Well, this doesn’t last long but still contributed to the growth over that period. OECD research shows that this growth contribution could be more than 1%/year.

3. Government expenditure – US government had embarked on a substantial spending program since the start of this decade (duh) with the war in Afghanistan and Pakistan, leading to a spurt in the government component of GDP growth. The spending on homeland security has given a lot of work to defense manufacturers, and the tax cuts introduced by Bush had contributed to economic growth. All these came at the back of heavy national debt notwithstanding, for the temporary period we saw some growth.

And last but not the least:

4. Housing markets – Well, Americans spent a lot on housing between 1995-2007 will be the world’s biggest understatement. Because that is a kind of spending that has put the world in this peril. They built ever greater McMansions [Massive homes that become kind of commodity at the hands of common people], decorated it with expensive toys and spent on all the related stuff, giving jobs to millions of people. People also used their homes like ATM machines and drew money to buy all sorts of stuff. BEA statistics show that over 1% of growth per year in this period could be attributed to increasing housing spending.

Now, out of a 1.7% annual growth in the economy, we have financial sector, globalization, increased government spending and housing growth all could have contributed to growth upwards of 1% each per year, that must be subtracted from the overall growth. So where do we see the explosive growth from Computer and the Internet? As the snippet below shows, the effect of computers and information systems might have even contributed a small negative growth to the economy since 1995.

That sounds incredible to me, but that is what I see from the facts, and fits in the picture given the growth contributors above. Thus, I have to conclude that the computers, internet and social revolution might cause a long term productivity growth, but we have not seen that yet.

Where did all the time go?

Well, computers really save us the time and that cannot be denied. So, if it doesn’t go to economic growth, where does it really go? One possible explanation is people are spending more leisure time. In fact, according to this research from the Federal Reserve of Boston Americans spend 6-8 hours more than they did in the 1960s and according to this research from TNS Market Research more than a third of it is spent online.

Charts courtesy of: Measuring Trends in Leisure, written by Mark Aguiar and Erik Hurst

Chart from the “The Productivity of Information Technology”

Related works:

1. http://ebusiness.mit.edu/erik/bpp.pdf
2. http://www.uac.pt/~amenezes/macroeconomiaII/macroeconomiaII_20062007/papers/solow1956.pdf
3. http://dspace.mit.edu/bitstream/handle/1721.1/2397/SWP-3406-27478720-CCSTR-125.pdf;jsessionid=123367F8887145F0D532558A455EF7A0?sequence=1
4. http://www2.ing.unipi.it/~d6889/Sist_Organ/Materiale_Consultazione/David_1990.pdf
5. http://www.brookings.edu/views/articles/triplett/199904.pdf

Header image courtesy: http://www.flickr.com/photos/61444548@N00/110855053/

Oil Vs. Gasoline prices

Tesoro is profiting

The refiners seemed to have cut down their production substantially since Christmas that contributed to their widening margins. Margin makes the refiners smiling. Tesoro (TSO) seems to be the rock star, followed by Valero (VLO) that have profited the biggest from this increase in margins. TSO has doubled and VLO is up 70% since November.

Being pure refiners unlike integrated petroleum companies like Exxon (XOM) and CVX (Chevron) they don’t have a lot to lose from the falling Crude oil prices. Tesoro has a forward PE of around 12 and a very good PEG ratio of around 0.63 compared to XOM (1.92) and VLO (2.25). This should excite the growth investors. It has a debt of around $1.5b, but the debt to equity ratio of 0.63 appears fairly acceptable given the nature of the capital intensive business.  The refinery workers strike that might have affected their production was called off a couple of days ago, and so the threat to production from that has temporarily dwindled.

The Tesoro index that is an indicator of how much profits refiners make is substantially up from last year. However, there seems to be an early indication that the value is coming down the last couple of weeks as seen in the chart below.  It is not clear whether this trend will continue, and how much it will impact the revenue growth. Valero took a 4b hit last quarter from a goodwill writedown (usually results out of past acquisitions), but otherwise it appears to have a good balancesheet.

(Tesoro index, courtesy of B2I)

And finally, here is the breakdown of gas price computed by EIA:

Related articles:

http://tonto.eia.doe.gov/oog/info/twip/twip.asp 

Disclosure: No positions in TSO, XOM, CVX and VLO

Did you know that the gold price in 1793 is about 20 dollars/ounce (ounce = ~31 grams) and now it is about $800 (about 40X gain in 300 years). http://goldinfo.net/yearly.html

Here is the 600 year history of silver and gold-silver ratio. http://goldinfo.net/silver600.html

Here is the relationship between gold and oil: http://goldprice.org/axstone/uploaded_images/Zeal_oil_gold-724067.gif

Here is a slightly different view of the chart: http://www.gold-eagle.com/gold_digest_00/images/hamilton063000c.gif

Here is the historic gasoline prices – inflation adjusted:

http://www.rawgreed.com/wp-content/gasoline.gif 

Related: http://econjournal.com/2009/03/03/detailed-gold-stats-and-analysis-for-q4-2009/

Chart source: Wikipedia

Laffer Curve

This is a famous research in taxation from Arthur Laffer that represents government’s revenue collected as a parabola, where the revenues keep increasing till a cut-off point and then revenues keep decreasing. This is because, at high tax rates people have less incentive to work, produce and innovate, thereby reducing economic growth and tax collection.

Hauser’s Law

Here is a study made by an American economist, Kurt Hauser that appeared in the  Wall Street Journal It states that regardless of tax rate, the tax collection as a proportion of GDP has been a constant in the US (at around 20%). If you are going to collect only X amount of money from revenues, why do you want to hurt your tax payers?

Chart source: Wall Street Journal

Growth vs. Taxes

It is not entirely clear whether lower taxes immediately cause high growth rates. However, there seems to be a correlation between higher tax rate and volatility in the economy. Looking at the historical graph below, the rate of change of GDP is comparatively smoothened out in the last 3 decades of lower taxation with no deep recessions like the ones seen in the 50s, 60s and 70s when GDP fell below 5% on a few occasions.

Chart source: SeekingAlpha

And even when the growth looks higher in the graph during the 1950s and 70s, if you adjust for inflation and population growth, the current era seems far better for economic growth. HEre is per-capita income adjusted to inflation.

Chart source: ValueInvest.org

High Taxing countries vs. Low Taxing Countries

Countries that tax less have far higher growth rates than countries that tax more. The top chart below show Tax/GDP for emerging countries and bottom chart shows for developed economies. The tax/GDP in slow growing countries in Europe seems far higher than those in fast growing countries like India, China, Brazil, Thailand, etc.

Chart source: New Zealand treasury

Inflation vs. Taxes

There seems to be some correlation between high tax rates and high inflation. This need not imply causation. The inflation during 1944 and in the 70s seems far higher than post 80s, and these were also periods of very high tax rates.

Chart source: ValueInvest.org

US had a fairly benign inflation from 1776 to 1913 when tax rates were extremely low. A dollar in 1776 will be worth the same in 1913. So, basically there was no inflation during that period. However, a dollar in 1913 (when taxes dramatically increased) is worth 20 dollars in 2008. Here is an XL sheet that will allow you to see how your dollar weakened over the course of time. One silver lining is that the rate of change of inflation has dramatically reduced since 1913.

Chart source: Wikipedia

Tax Misery Index

Here is Forbes International Tax Misery Index. France seems to be the most miserable country in terms of this index.

Summary:

I strongly believe in lower taxes as a means for higher growth during stable times. I’m not entirely libertarian and believe in Keynesian principles during extreme situations, but for most part I think lower taxes can be substantially good for the economy. 

An ideal tax regime in my opinion

• Home land security, Justice department, federal grants to education: 100b: Funded by 1% income tax
• Cut defense budget to 100b (combined budget of China and Russia):  1% income tax
• Police, Fire services, local schools: 2% property tax
• State universities, courts, etc: 2% sales tax
• NSF, NIH and other research institutions and trade regulators like FCC & FTC: 2% corporate tax
• Highways, Bridges: Gas tax ($0.50/gallon), vehicle registration, tolls
• Social Security, Medicare: Payroll taxes
• SEC & FDIC: Taxes on trades and bank deposits, respectively
• Federal Reserve and market stabilization fund: Interest from banks and 2% capital gains tax
• Foreign missions, quality control, department of state: 2% duty taxes on all imports and exports

Read More:

1. Historical Federal tax rates
2. General theory from Keynes

Oil prices have been steadily going down the last couple of months and a few are wondering how long this will last. The price of oil is around $67/barrel (1 barrel of oil approximately equals 42 US gallons or 159 liters) for December 2008 delivery and this is less than half the price we were seeing in the summer. However, the prices of future deliveries have not fallen that low. The prices for December 2013 contracts (to take oil delivery 5 years from now) are about $90 and this indicates that atleast a few traders believe that the price of the oil will go back up at some point. Let’s analyze what is happening, and see how we can take constructive action to protect us from future oil rise. We suggest two ETFs that might help you make constructive investment decisions based on this.

What is happening?

The summer oil shock seem to have had an enormous impact on oil consumption. Consumers have found ways to reduce oil consumption – lesser driving, efficient vehicles, etc and thus the world demand has fallen down. US consumption fell down over 10% to around 18 mbpd (million barrels per day) while OECD (Developed countries group)  consumes 1 mbpd  less than they were at the start of year. Total world consumption is around 85 mbpd.

Oil is a highly inelastic commodity both on supply side and on demand side. Consumers cannot immediately cut or increase oil consumption, and producers cannot immediately find newer fields or shut down existing fields with changes in prices. Given this nature of the commodity, prices are always a guessing game. 1% change in either the demand or the supply can substantially change the prices. As seen in the second chart below, world production will continue to increase over the next 2 decades and a big questions remains on how far this will be consumed.

The future price of oil hinges a great deal on current recession. If China and India (both having a fraction of US per-capital consumption) continue to grow then it is very likely the world will see the demand back up and prices moving again. However if this recession prolongs and causes another 10-20% reduction in US oil consumption then prices can collapse substantially and fall to 1990s levels (when oil was at $10/barrel).

How do we hedge the price of oil?

Given that we cannot easily predict the price of oil and a 1% increase in demand or drop in supply could bring oil back to triple digits, how do we hedge the risk? How do we protect us from a further shock? The fundamental way to do is to buy futures contracts (you can buy even 5 years from now). But, then the minimum contract size is 500 barrels (for mini futures – QM) and 1000 barrels (for CL). Given that a barrel is 42 gallons and an average American consumes less than 10 barrels a year, this will be too big for most of us. And, unless you have that much free cash lying around, you might be buying them in margin (you will pay minimum of $10K per CL contract and get the rest $50K in margin) and if oil goes down you might be asked by the broker to pony up a lot of money. If you have questions you can call up SouthWest Airlines and ask how they managed to screw things up. Unless you are a pro trader, we would suggest you not to take up futures markets.

A simpler way to hedge oil is to buy UGA and USO. USO and UGA are ETFs that track the prices of crude oil and gasoline respectively. These behave like index mutual funds and if oil goes up 20% USO will go up 20% and vice versa. Same thing with UGA with the underlying as Gasoline. Unlike futures contracts, you cannot lose more than the initial money you put and risk management is fairly easy. Also you could buy in units as less as $100. USO has a management expense of around 0.50% and tries to track West Texas Intermediate light, sweet crude oil (one of the popular standards for oil) and they try to use futures contracts to achieve this purpose. It trades now at the same level as November 2006, while oil prices have slightly moved up in the period. There is a bit of inefficiency in its tracking and this must be taken into account during long term planning.

Kindly do your own homework and understand the fact that oil prices are highly volatile and be aware of all the risks posed by oil as a commodity and the specific risks of these two ETFs.

Read more:

1. http://econjournal.com/2008/06/09/changing-energy-usage-patterns/
2. USO – fund facts
3. UGA – fund facts
4. Historic oil prices
5. EIA’s Energy Outlook
6. Key energy statistics
7. http://online.wsj.com/article/SB122566263547491387.html?mod=googlenews_wsj
8. http://www.mymoneyblog.com/archives/2008/05/how-to-hedge-against-rising-gas-and-oil-prices.html

Disclosure: No position in USO and UGA

Header image Courtesy: Fabio

Digg This

ISM Index

Institute of Supply Management is a non-profit association based in Tempe, Arizona for the purchase and supply chain management profession, founded in 1915. It releases several indices measuring production, trade, etc and one of its most watched index is the Purchase Manager’s Index (PMI). The index includes the prices prices paid for all purchase including imports, and food, energy – minus crude oil. There are five main indicators here – new orders, inventory levels, production, supplier deliveries and employment environment and overall this forms a barometer of manufacturing health. These indices are part of the Manufacturing ISM report on Business released on the first business day of every month.

Implications

A reading of 50 or above indicates that manufacturing is expanding and if the index is below it indicates manufacturing is contracting. The current level is at 38.9 and this indicates that manufacturing is severely contracting – an indicator of deep recession. Till July 2008, this index was above 50 and in August it started reducing below 50. The credit crisis seems to be affecting a lot of sectors. In its entire history it has been this low only on a few occasions – in the years of 1982, 1975, 1953 and 1949 and associated with strong recessions.

US is the world’s leader in manufacturing exporting over 600 billion worth of goods every year and employing over 13 million people directly. Any trouble in this sector can spell doom in the rest of the economy. Overall this is negative and might affect the economy and stock earnings medium to long term.

Summary of the indices

Source: http://www.ism.ws/ISMReport/MfgROB.cfm

Read More:

1. http://www.ism.ws/ISMReport/MfgROB.cfm
2. http://www.bloomberg.com/apps/news?pid=20601068&sid=afRIrkrdlQkE&refer=home

Header Image courtesy: Brain toad

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