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Manufacturing Contraction Threatens Investments

The economic “chickens” may have come home to roost as a US manufacturing contraction threatens investments. The Institute for Supply Management report on the manufacturing sector shows that June of 2012 produced the first fall in demand in almost three years (July of 2009). ISM’s purchasing manager’s index is a closely watched measure of current and coming activity in manufacturing. It fell from 53.5 in May to 49.7 in June of 2012. The manufacturing contraction threatens investments even more than many analysts predicted because most experts believed that the July figure would fall off slightly to around 52. The ongoing European debt crisis, coupled with reduced economic activity in China, is taking its toll on orders for US manufactured products. The constant drumbeat of the Greek financial collapse spilling over into other European nations was offset in the US, until now, by almost three years of continual economic expansion. Bit by bit companies invested in plants, materials, and labor. Investors invested in stocks. Now a manufacturing contraction threatens investments. However, for the long term investor the question is whether one should get out of manufacturing stocks or wait for a correction and reinvest.

A closer look at the ISM report shows that new orders fell dramatically from an index of 60.1 to an index of 47.8. However, employment changed only slightly. Inventory was down a little (46 to 44). And, prices have been falling with an April index of 61 falling to a May index of 4.5 to a June index of 37. The first response to this news may well be that the manufacturing contraction threatens investments in new plants and equipment. Manufacturers tend to avoid long term investment when times are uncertain. That would mean longer factory hours, overtime, and fewer new employees. However, this approach often leads to more retained profits which can help the bottom line for stock prices. Regarding personally held stocks, the manufacturing contraction threatens investments in the long term only if the Euro Zone economic collapse continues followed by the breaking of the Chinese real estate bubble, and a continued fall in US manufacturing. We have commented before that the long term Euro Zone investment outlook may be good once the EU gets its economic act together. The same may be true of the USA. In each case the route out of trouble involves printing money to pay off debt and devaluing the currency. This will, in the long run, make both the EU and USA more economically competitive.

While the current manufacturing contraction threatens investments in the short term, investors will want to look at the long term, do repeated fundamental analysis of individual stocks and closely follow the ISM and other data for indications of a longer term recovery. The world may or may not be heading back into the second dip of the worst recession in three quarters of a century. If that is the case it could lead to social as well as economic chaos in Europe and even in China. Investors will be wise to go forward with balanced portfolios, an adequate amount of cash, and some investments in commodities as currencies weaken.

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