U.S., Europe Chug Along as China Slows

Jeremy Glaser: For Morningstar, I'm Jeremy Glaser. With the Fed standing still until they get confirmation that global growth is back on track, I'm here with Bob Johnson--our director of economic analysis--to look at the global PMI data to get a snapshot of what's happening.

Bob, thanks for joining me.

Bob Johnson: Jeremy, great to be here today.

Glaser: Let's start with these world PMIs. It's data compiled by Markit. It tells us a little bit about what's happening across the globe. Why has this metric become so important? Why are people watching this so closely?

Johnson: Well, it's purchasing-manager data, and they compile it very quickly. It's the very first set of data available on every month, and this report is actually a flash report for September based on some initial surveys. So, it comes very quickly, and the reason it comes so much quicker than anything else is, like all purchasing-manager surveys, they generally ask if things are better, the same, or worse--it's a so-called diffusion index. They don't sit there and try to figure out exactly what sales were--in which case, you'd have to close the books and count everything. Instead, you can ask people how they feel about the numbers--are they better, the same, or worse? So, they can get to the numbers very, very quickly, and it gives you a really good feel.

And if there's a little accounting gimmick that helped the numbers along somewhere that might have made it on the books, just asking the purchasing managers the general tone of things perhaps provides a more honest and consistent answer than some of the other data. So, they've been beloved for a long time, and now they've spread so that they are available for a lot of countries and done with different partnerships. Markit compiles a bunch of them, and today we've got some of that data.

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Glaser: Let's start in China. Obviously, there are lots of concerns about growth there. Any signs of things turning around or is it still sliding down?

Johnson: They are still sliding. In fact, the PMI reading of 47 for them was the lowest reading in more than six years--it's probably pretty close to 6.5 years. So, it's certainly not a good situation. On the other hand, it generally takes a number of 40 to 45 or so to really mean that disaster is at hand; but it's certainly not a wonderful number at 47, and it's kind of been on a downtrend for most of this year.

So, that number is relatively worrisome, and it's not just the outlook numbers; it's the actual production-output number--[which measures whether] production up, down, or the same. More people thought that was down as well. So, that's certainly not a great situation, and it's broad-based. If you look at all the components of the index--whether it's employment or whether it's prices--all of them look weak. So, it isn't like there's some ray of hope. And the orders look just as bad as everything else. So, I'm a little concerned about the number there. Obviously, China production has been a little softer than people had hoped. The reported numbers are at about the 6% level. But those have been a little bit disappointing relative to what people had expected and certainly disappointing relative to the past when we've had numbers over 10%.

Glaser: When you look at those official numbers and you look at data like this, does it make you think that maybe those official numbers have some room to come back in?

Johnson: It does. And again, you've got to be a little cautious in how you interpret the numbers. If you ask somebody in the U.S. if sales were up 1%, the U.S. guy would say, "Yeah, it was up," and you'd report it as an "up" reading in the index. In China, after you go through years of 5% to 10% growth and now you're only growing a couple of percent, you may not consider that up--you may consider that basically flat. So, there's a little bit of a nomenclature area there maybe that's a little gray; maybe that's why although the PMI number looks well below 50, the industrial-production figure they reported is actually up.

And there is a whole issue with what types of companies are in which PMI index that complicates things a little bit, too. Then, there is the fudge factor where everybody feels that maybe some of the numbers are a little fudged on the upside. I'm going to stay away from that for now. But clearly, a lot of other indicators would seem to indicate that maybe the production numbers are a little bit high. But again, however you cut it, the production isn't what it used to be; it's probably lowest in years--and same with the PMI readings.

Glaser: What's going on in the eurozone?

Johnson: Numbers there were down a little bit month to month, but it's not terribly worrisome. We started the year in the very low 50s, and now we're at 52, so [quantitative easing] has kind of helped things along. Manufacturing is looking a little better there overall this particular month, although it's a summer month--well, actually it's for September. But I wouldn't worry terribly about this particular number. Europe looks like they are doing just fine.

Glaser: How about the U.S.?

Johnson: Again, we like to use the ISM data that comes at the end of the month. That's got a longer track record and has different weights to it. Nevertheless, we always take a peek at the numbers from Markit because they do give us a little feel for what's going on and calibrate it relative to other economies. And it's still the best of the bunch--in the mid to upper 50s.

So, clearly, things are not worsening in the U.S.--which, by the way, is kind of the reverse of what you mentioned in China. The industrial production for us right now has been a little worse than I would have guessed, and we've kind of got no growth in industrial production on a year-over-year basis. On the other hand, the Markit numbers have a PMI reading of 53 or so--flat month to month. So, there are probably a few questions there, but at least the U.S. manufacturing economy, according to Markit, is not falling apart.

Glaser: Even if the manufacturing economy isn't falling apart, industrial production--as you mentioned--is not a huge driver of growth. Do you still see housing as being one of the big factors that could contribute to growth for the rest of the year?

Johnson: I do. And I think they could be interrelated. As housing picks up, you get lumber, more appliances, more furniture, and so forth--all with a little bit of a lag to some of the other data. So, it's been a little hard to see so far, but housing should generally be a little bit positive toward manufacturing, and manufacturing this year has been helped along a little bit by autos, too, which have had a much-better-than-expected year because of the falling gasoline prices. So, manufacturing could have been worse this year for the U.S., but autos have certainly been a bright spot.

Housing has been a good spot; in my mind, it could be better. The numbers we got this week were on existing-home sales--which, again, three to six months down the line drive paint sales, remodeling sales, furniture sales, broker commissions. There are a number of things that come after the fact that result from existing-home sales.

The news there was a little mixed. There were 5.3 million homes estimated to be sold in August, which is a very good number. But it was below expectations of 5.5 million and numbers as high as 5.6 million the previous month. But that really needs some context. Yes, it's down, but exactly which month in the summer it falls is a little volatile. But the 5.3 million, to put that in some context, this entire recovery--that is, dating back to 2009 and probably even before that--we didn't get to 5.3 million houses sold in any one given month until 2015. Now, we've had a stretch of four months of them. Yes, this is probably the lowest of the four, but we are nevertheless in pretty good territory in terms of existing-home sales, as far as I'm concerned.

Glaser: What's holding this number back a little bit? You mentioned that home prices have gone up so much. Is it an affordability issue? Is it an inventory issue? What's going on here?

Johnson: It's a little bit of all of the above, but the biggest issue that jumped off the page on this report for August was that inventories were actually down 2%, year over year. Normally, we've got a world turned upside down. When we were in the recession, we wanted inventories to go down so that big supply was taken care of. Now, we've got a problem where if inventories aren't high enough, nobody has anything left to buy. The housing transactions may actually look soft because there just isn't anything to buy, so to speak. At the current prices, people aren't willing to part with their homes.

So, it is a little odd--although I will say the realtors have been crying wolf on the inventory level for the last two years. They have been continuously saying inventories are way too low; yet, right now, those 5.3 million existing-home sales that I talked about, averaged together with a couple of other months, shows that the year-over-year growth in existing homes is up 8% to 9%. And as I mentioned, inventories were down 2% over that same period. So, clearly, they were able to pull a few rabbits out of the hat and get some sales up despite the poor inventories, but we may have reached the end of the road on that right now. It looks like it's going to be really hard to get sales up in the last couple of months of the year if inventories aren't at least a little bit higher.

Glaser: Bob, thanks for your thoughts today.

Johnson: Thank you.

Glaser: For Morningstar, I'm Jeremy Glaser. Thanks for watching.