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Manufacturing Important to Stock Market

Investors in Stock Market Watch Sector's Health

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The stock market takes the manufacturing sector very seriously, although it represents only a small percentage (12% or so, depending on how you measure it) of the total economy.

One of the reasons manufacturing is important is so many other businesses (suppliers, distributers and so on) support manufacturing.

You could argue that we have been in a "post-industrial" economy for some time now, but the fact remains that manufacturing remains a strong pillar of our economy.

You can measure and watch the health of the manufacturing sector by following three basic measurements.

The key measurements of manufacturing health are:

  • Business Inventories
  • Industrial Production
  • Capacity Utilization

These indicators taken together give you an idea of how the manufacturing portion of our economy is faring. Although manufacturing comprises a small piece of the total economy (services and retail are larger), it is still important to the total health of the economy.

Each of these measurements looks at the health of the current manufacturing sector and gives us some idea of what the future will look like. Let's look at them individually.

Business Inventories

Business Inventories is a measurement of the inventories carried by retailers, wholesalers, and manufacturers. In a slow economy, inventory will not move as quickly and levels may rise. As a result, businesses may not order as much and production decreases. When the economy begins to pick up, businesses turn over inventory faster and reorder.

High inventories may also mean prices at the respective levels will remain flat or in some cases fall. For example, clothing retailers want to move this season's styles off the shelves to make room for not only new styles, but also the changes that come with moving from summer to fall. Auto dealers want to get rid of the last year's models to make room for the new models.

The flip side of this is when businesses let inventories fall too low because of weak demand and then must scramble when the economy begins an upturn to rebuild their stocks. You can't sell it if it's not on the shelf.

Inventory rebuilding spurs the other two markers in this article.

Business Inventories changes are noted in tenths of a percentage (0.4%, for example). Economists look for trends and changes in inventories as leaders to what will happen in the manufacturing sector.

Industrial Production

Industrial Production looks at the country's manufacturing aggregate hours and is related to whether the cycle is trending up or down in terms of production. If the users of their output are carrying big inventories, manufacturers will cut back hours of production.

Industrial Production is reported as a change from the previous month and usually falls in the less than one percent range (0.3%, for example). Growth in this number reflects continued orders and inventory replenishing or rebuilding. Negative or flat numbers indicate manufacturing customers aren't turning their inventory.

Capacity Utilization

Capacity Utilization refers to the amount of usage of our manufacturing output. It gives you an idea of how much more can the manufacturing sector do.

One of the real important pieces of information coming from this report is how much pressure (or how little) for price increases in the manufacturing sector can you expect.

The reported number is a whole percentage (74%, for example). A rule of thumb is that the closer the number is to 80%, the higher the pressure is for price increases at the manufacturing level. That's not to say price increases are automatic or across the board in all industries, however once the number hits 80%, economists begin to work about price hikes.

The other problem that may occur when nearing the 80% mark is the danger of slowdowns in deliver of goods as manufacturers struggle to keep up with demand. Manufacturers may not want to ramp up production until they can be certain growth will be sustained.

These three indicators signal important positions in the business cycle and may give a boost or put a damper on market activity depending on their results.

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