What will it take for manufacturing to rebound? - J.P. Morgan Asset Management

What will it take for manufacturing to rebound?

Contributor David Lebovitz

Over the past few quarters, there has been a notable deterioration in the distribution of global growth, with the services sector continuing to look relatively healthy but the manufacturing sector coming under a great deal of pressure. In fact, the spread between the global services and manufacturing purchasing managers’ indices (PMI) is more than two standard deviations away from its long-term average. So what will it take for manufacturing to bounce back?

At the current juncture, manufacturing is being impacted by a series of both short and long-term issues. From a short-term standpoint, regulatory changes in the European auto sector, slower growth in China, and a stronger U.S. dollar in 2018 has led to a cooling in global manufacturing activity over the past few quarters. That said, auto registration and industrial production data out of Europe has begun to improve, and while the dollar has remained well-bid against the G-10 currencies, it has begun to weaken against a basket of emerging market currencies. On China, the March PMI showed signs of life, and suggests that the stimulus put in place during the first few months of 2019 is taking hold and leading economic activity to accelerate. All of these trends suggest that some of the short-term headwinds to manufacturing are beginning to fade.

However, this ignores the broader issue – policy uncertainty remains elevated, and when businesses are not confident in the outlook, the first thing they pull back on is investment spending. As shown in the chart below, there is a significant, inverse relationship between non-residential fixed investment and policy uncertainty. Although it feels as if we are making forward progress on trade relations with China, and there should be more clarity on the Brexit timetable within the next few weeks, there are still a number of issues that remain unresolved. As such, while global manufacturing may begin to show some signs of life in the coming months, the more important issue for investors will be whether uncertainty is rising or falling.

Economic policy uncertainty and business investment

Uncertainty index, nonresidential fixed investment, year-over-year % change

Source: Baker, Bloom & Davis, BEA, FactSet, J.P. Morgan Asset Management. Data are as of April 5, 2019.

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