Sunday, 3 March 2013

GLOBAL ECONOMY (March 3rd 2013): Eurozone PMIs Diverge - Germany Back Above Water, France Continues to Deteriorate

It's the first day of the month, meaning it's time to look at the Manufacturing PMI reports from around the world, to gauge how trends in global business conditions are developing.

Prior to this month, the PMI data has pointed to a convincing recovery in Chinese and German business conditions; a severe deterioration in French conditions; continued stagnation in Japan; a mild recovery in Italian and Spanish conditions; and a vague improvement in US conditions after a disappointing end to 2012.

This month we'll be breaking down our analysis into articles region by region, starting with Europe.

Here's what we had to say about the various European regions in our December analysis, trends which remained in place in the January reports:

[On Eurozone Composite] We can see that conditions remain at depressed levels, but can take encouragement in the signs of improvement since the summer... Hitting an eight month high this month, we hope the data continues to improve more convincingly into 2013.

[On Germany] While the German manufacturing sector remains in contraction, the present data suggests a mild trend of improvement, that will hopefully see the sector return to expansion in 2013. Unquestionably, in the December report released early next year, we will want to see a reading closer to 48.0 for proof that the trend is not stalling. Supporting this, new orders and production components of this month's report stabilised close to 50, for the first time in several months.

[On France] Worryingly, this month reports that output had fallen in response to falling new orders, and much production came as a result of the devouring of backlogs of work, at a pace unchanged from October. The commentary suggests a lack of domestic demand, and the retrenchment of French manufacturing on a whole, responding to the expectation of weak demand for the foreseeable future.


Let's begin with the "peripheral" Italian and Spanish economies.


Charts from the excellent Forex Factory Calendar

Readings below 50 connote contracting conditions, but the trend in the data is also of significance. The road from contraction to growth rarely occurs overnight, but as a result of a trough and subsequent recovery from a low base. Equity markets are especially reactive to moves "at the margin" of these indicators - an improving trend from a low base, when valuations are low, can provide highly satisfactory gains.

We can see that the overall (middle chart) European manufacturing sector failed to make much improvement on the previous month, reading 47.9 for the second month in a row. We note though, that the previous report was an 11 month high - so there might not be cause for immediate concern with today's reading, even though we're disappointed to see no progress made this month.

In Italy, a reading of 45.8 was a serious setback in the trend of recovery - something which as the first chart shows, has been in the doldrums since 2011.With New Orders down significantly, the depletion of the backlog of work was "solid", a worrying sign going forward.

In Spain meanwhile, we saw another month of moderate recovery from the lows of mid-2012. This month's was the highest reading since June 2011, showing that the Spanish manufacturing sector could be on the road to growth later in 2013. While the situation remains depressed, the end of deterioration in Spanish business conditions would mark the end of an extremely harsh few years for Spanish companies - and could potentially offer the investor an opportunity.


In France, there was a slight improvement on a very low reading in the previous month, up to 43.9 from 42.9, still signalling a serious deterioration in business conditions.


A quick glance at the chart above shows how serious the deterioration has been for French manufacturers. The chart below meanwhile shows the seriousness of the decline in French service sector PMI, noting that the more economically-sensitive Manufacturing indicator shows a more smooth, consistent picture of this problem.

While we note the 1% improvement in manufacturing PMI for France, the overall picture is extremely worrisome, with readings almost as serious as the contractions seen in 2008-2009. We remain firmly cautious on the country's economic prospects, and have no interest in acquisitions in France at this time. With business confidence at multi-year lows, it remains to be seen what can be done to arrest this decline in 2013.


Germany provides a somewhat different outlook in their recovery trend, as shown below:


For the first time in a year, German Manufacturing PMI registered a reading over the 50 mark, indicating a return to expansion. New domestic orders, unlike in the European economies above, increased solidly. For the first time since August 2011, backlogs of work actually increased, demonstrating room for further expansion in activity and business conditions.

New export orders in Germany rose at the fastest pace in two years - with survey respondents heavily indicating that south-east Asia was a large driver of the improvement in total German manufacturing orders. This is reflected in the overall European report - even in France, Italy and Spain, where domestic demand was low enough to offset the impressive improvement in demand from Asia. For the first time in a couple of years, it seems improvements in China's conditions are helping to prop up European activity - something that had been lacking in 2011 and 2012.


In our summary of the region, a flat overall month for Eurozone business conditions came as a result of divergence between the stagnating Italian and French economies, and modest improvements in Germany and Spain.

Total new orders for the region hit a 21 month high this month, courtesy of the sharpest improvement in new export orders since May 2011

Progress has been made on a whole since mid-2012, although it is worth limiting our praise to the European economies that show more robust signs of recovery.

The divergence in France however is a pressing concern, as one of the largest economies in the world serves to hold back the rest of Europe, something that was less true this time last year. Suggestions that France should be viewed in the same peripheral category of Spain and Italy, and Germany alone as the "core" driver of Europe, is at least warranted in the data.

In terms of currency movements, we're encouraged by the weakening Euro this month, which should hopefully fuel further improvements in Europe's export economies in March.

We hope that this summary has been useful, and will be back with coverage of the Chinese, US and Japanese February PMI reports.

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