The US Economy: Back On Track?
The weekly rail traffic report published by the Association of American Railroads (“AAR”) provides a great snapshot of US economic activity almost in real (weekly) time.
Last July we noted that we were starting to witness some signals of a trend change, now suggesting a softening. But much has happened since then, including a broadly unexpected change in the political direction of the US. Have those signals been reversed as a result?
Let’s start with some general indicators.
The US ISM Manufacturing Purchasing Managers Index reported by the Institute for Supply Management fell briefly into contraction territory last August, which is often a presage for economic weakness ahead. However, it recovered handsomely in the following months and just printed the highest number in two years.
A significant reversal to the upside was also observed in the latest National Federation of Independent Business (“NFIB”) Optimism Index for Small Businesses – the real wealth generators in the economy, which after some weakness mid-year just printed the highest level since the Financial Crisis of 2008.
Not to be outdone, US investors have pushed equities to new historical highs, as shown in the graph above (by finviz.com).
So things are looking up in the US right? Perhaps so… but the railroads aren’t feeling it.
Rail intermodal traffic registers the long-haul movement of shipping containers and truck trailers by rail whenever combined with (a much shorter) truck movement at one or both ends. It covers a broad range of goods that Americans consume regularly, from laptops to frozen chickens, and is thus a great indicator of how consumers are doing. Given the huge importance of consumption for the US economy as a whole, for us this is the most revealing category.
The grey cloud in our rail shipment graphs (in units) depicted henceforth shows the maximum and minimum volume range recorded for the same week over the five years prior (2011-2015). The green line shows the readings for 2016, now for the full year.
After a strong start of the year, rail intermodal traffic started to underperform, although some pickup was observed later in the year. Aggregating the numbers by year provides a clearer picture, and here are the figures since 2006 (in MM units):
For the first time since the lead up to the 2009 recession, yearly values are down versus the prior year. In percentage terms the 2015-16 decline is almost the same as the 2007-08 decline, when the Financial Crisis was raging.
While clearly not a good sign this is just a warning given the still high transactional levels compared to prior years. If weakness persists in this category into 2017 then we will start getting really, really worried about the broader condition of the US economy.
What about housing, another key industry? The forest products category includes lumber, a major input of house construction, and is shown in the graph below:
Volumes were generally weak throughout the year, setting new five year lows. However, as per US Census Bureau data privately-owned housing completions in November came out at a very solid 15% (±13.5%) above the revised October estimate and a whopping 25% (±15.0%) over the prior year. How can these two seemingly disparate trends be reconciled?
The answer might be in the brackets after the percentage growth figures. These statistics are estimated from sample surveys, so the Census Bureau provides a standard error to indicate a range where the real number might actually lie. And quite a wide one in fact. As such, the actual year-on-year figure could be somewhere in the range +10% to +40%. Given falling volumes transported by the railways even the lower estimate from these surveys looks optimistic. Another category to keep a close eye on.
The motor vehicles and parts graph shown below includes all sorts of vehicles (used and new), passenger car and bus bodies, parts and accessories and other related equipment:
This industry is of course very important for US manufacturing. Last July we noted that it had been the bright spot out of all the categories, recording new cycle highs up until then. And while that persisted for a while longer some weakness sipped in towards the end of the year.
Still, volumes reached the highest level in 2016 since the go-go days of 2007. Not bad at all, but hopefully that year-end weakness is nothing to worry about… because as we shall see other industries – particularly in the primary sector – continue to struggle.
After a terrible performance through 2015, metallic ores (shown above), which include all kinds of ores (iron, copper, lead, zinc and so forth) and waste scrap, managed to do even worse in 2016. Not much reason for optimism here (unless as a contrarian).
The same can be said about coal, with volumes collapsing since the start of the year. Not even the recovery in the second half could avoid a miserable performance overall.
What about oil production?
Using rail shipments of crude oil and refined products to gauge production levels is a little tricky because volumes can be diverted to pipelines and/or the mix can change. That being said, the declines in rail shipments throughout 2016 are consistent with the drop in US production as reported by the IEA, shown in the graph below (in MM bopd):
The silver lining is that the weekly oil rig count as reported by Baker Hughes has responded positively to the recent recovery in crude oil prices, as shown in the graph below (with WTI pushed forward a number of weeks):
So we may see some pickup in activity going forward, as long as prices continue to hold. Other than that it’s pretty safe to say that the US extractive sector as a whole had another miserable year.
And last but certainly not least, here are the rail shipments of grains:
Volumes exploded higher in the second half of the year. The flipside of such volume increases was a continued correction in grain prices, particularly in corn and wheat (soybeans managed to hold up). Great news for consumers, but terrible for farmers: according to the latest USDA estimates in 2016 net farm income dropped to the lowest level in six years.
If so many industries continued to struggle in 2016, with some key ones even deteriorating towards year-end, how come small businesses are so wildly optimistic?
Perhaps the graph above, taken from the same NFIB small business report, provides the answer: while actual sales have languished expectations of future activity have gone through the roof. And that differential between actual versus expectations reached the highest level in many years.
It is hard to dissociate this from all the economic promises of the incoming Administration. That may explain why small business owners across the US – and indeed stock investors – have become so optimistic. However, the hard goods-traded reality continues to show some concerning signs of weakness.
Whether or not the new economic policies will prove to be successful the railways will likely feel it before anyone else. That’s why we will continue to keep an eye on the data.
And with that, here’s our economic wish for 2017: Make Railways Great Again!