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Glenn Maguires Asia Sentry Dispatch

August 01, 2012

Some august thoughts on Asian manufacturing

China remains the centrum, indeed the fulcrum, for regional manufacturing and though the data is complicated by having two separate PMI measures, the conclusion is not ambiguous. Forward looking indicators within both Chinas PMIs suggest that a further weakening in manufacturing activity is more likely than a recovery. The optimists on China would suggest that the ongoing weakness in the PMIs is due to seasonality. The easiest way to adjust for seasonality is to compare with the same month one-year earlier. Chinese manufacturing is, on this simple measure, weaker than it was a year ago, when the slowdown in regional activity commenced. Given the extent of the vertical and horizontal integration with regional manufacturing platforms, it would be a bit rich to look at the China PMIs in isolation to the region. It would be even richer to arrive at a diametrically opposite conclusion to what the regional data is much more clearly expressing. The suite of regional PMIs released in the past two days are nothing short of woeful. Our conclusion is that the weakening in Asian manufacturing that began in the second half of 2011 and became more pronounced of the second quarter of 2012 is clearly accelerating as we move into the third quarter. To be sure, there are common factors behind the sharp regional downturn, however individual domestic factors are exacerbating what now appears to be a brutal restraining force from collapsing external demand. Everybody is marching out of step except for China.
South Korea
5 54 52 50 48 46 44 42 40 02/12 03/12 04/12 05/12 06/12 07/12 PMI Change RHS PMI Level LHS 4 3 2 1 0 -1 -2 -3 -4 -5
42 40 02/12 03/12 04/12 05/12 06/12 07/12 48 46 44 PMI Change RHS PMI Level LHS 54 52 50

5 4 3 2 1 0 -1 -2 -3 -4 -5

5 54 52 50 48 46 44 42 40 02/12 03/12 04/12 05/12 06/12 07/12 PMI Change RHS PMI Level LHS 3 2 1 0 -1 -2 -3 -4 -5 4

China (Average)
5 54 52 50 48 46 44 42 40 02/12 03/12 04/12 05/12 06/12 07/12 PMI Change RHS PMI Level LHS 4 3 2 1 0 -1 -2 -3 -4 -5

Source: Asia Sentry Advisory and Bloomberg

Wednesday, August 01, 2012.

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Sentry Dispatch: The High Frequency Letter of Asia Sentry Advisory. Common Threads in the July Regional PMIs
Headline PMI Output Japan Fell sharply Sharpest decline in 15 months Down sharply Australia Fell sharply Down sharply South Korea Fell sharply Fell sharply Taiwan Fell firmly Fell firmly China HSBC Rose firmly Up marginally India Fell firmly Small rise

New Orders

Down sharply

Fell sharply

Export Orders

Down sharply

Down sharply

Fell sharply

Backlogs Employment

Sharpest drop since Jun 2009 Shedding jobs

N.A. Large job shedding

Decline at record pace Shedding jobs

Fastest pace of contraction this year Fastest pace of contraction this year Fell Workforce reduction fastest in 37 months Factory gate prices fell substantially



Slowest pace of rise in 8 months Falling

N.A. Job-shedding at fastest pace in 40 months Costs continue to decline

First reduction since 9/11 Modest job creation


Average costs Falling Input prices declined at decline at fastest pace in fastest pace 32 months since 2006 Source: Asia Sentry Advisory, Markit and various regional sources.

Output prices rising

First cab off the rank, Japan.

Our first inkling of the shocking month for Asian manufacturing that was July came yesterday with the hefty fall in Japans PMI, which dropped from 49.9 in June to 47.9 in July. Though there were some larger declines in other economies PMIs today, a 2.0ppt monthly move in a PMI is a fairly outsized decline. More importantly, the decline revealed that conditions in the Japanese manufacturing sector were deteriorating at the fastest pace since the triple-shock of the 2011 earthquake, tsunami and nuclear incident. One of our lingering concerns on the ability of Japan to rebound in H2-2012 is our assessment that Japan is once again plagued by considerable excess capacity. With the yen at an uncompetitive level and nuclear power plants mothballed, it must surely be more profitable for just about every Japanese corporate to produce anywhere but Japan. The very sharp drop in backlogs of work over July highlighted growing levels of spare capacity within the Japanese economy. Moreover, producers of capital goods noted the sharpest deterioration in conditions over July. This is not just Europe weakness. It is tempting to dismiss the decline in export orders as a Europe dynamic, however, Japanese companies highlighted weakness in their three largest export markets China, Europe and the US as the cause of the sharp decline (the fastest decline in 15 months) in new export orders. Deflation will intensify in Japan. The net effect of growing spare capacity and plunging new orders will obviously be deflation with discounting already becoming apparent. Selling prices declined at the fastest pace in 32 months in July.

Domestic and external factors punishing Australian manufacturing.

Australia's AiG PMI plummeted from 47.2 in June to 40.3 in July. Despite being the fifth drop in six months, the sheer magnitude of the July decline reveals the triple threat to Australian manufacturing now playing out. Externally, a combination of both an noncompetitive currency and failing external demand. Domestically, manufacturing will also be crimped by a "structural" downshift in domestic households appetite for credit (see our comments from yesterday).

Wednesday August 01, 2012.

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Sentry Dispatch: The High Frequency Letter of Asia Sentry Advisory. Further weakness in Australian manufacturing to come. The more forward looking components of the Australian PMI suggest further declines in the headline index. New orders, for instance, dropped 5.8 points to 40.4. Coincident components such as production, sunk a hefty 9.7 points to 37.8, whilst lagging components such as employment, dropped 9.9 points to 38.9 in July.

Trade retrenchment highlights South Korean woes.

South Korea's HSBC PMI dropped from 49.4 in June to 47.2 in July,. Trade figures released at the same time showed a sharp coincident slowing in both imports and exports. South Korea's exports fell by 8.8% over the year to July, compared to a 1.3% increase over the year to June. Imports fell by 5.5% over the year. The large, coincident weakening in both exports and imports for a processing economy such as South Korea, that is an economy that imports components to assemble into higher value-added goods for export, speaks of a rapidly cooling global trade dynamic. Perhaps the best single figure indicator of how disappearing global trade is weighing heavily on Asia's exporters, in line with falling new order volumes, backlogs of work dropped over July at the fastest pace since the PMI survey started in April 2004. The new orders component of the PMI fell at its fastest pace since December 2011. Another forward looking component of the PMI, inventories of new orders, increased slightly over the month. More deflation coming. Output prices have fallen in each of the past nine months. The pace of decline in output prices in July was the fastest since April 2009, near the nadir of the global financial crisis.

Chinas official and HSBC PMI once again tell differing stories.
Chinas HSBC PMI improved over the month of July but remains below the 50 contraction/expansion line. The most salient feature of the HSBC PMI was the sharp deterioration in employment conditions which belies the steady-state of both the official and headline HSBC measures. China's "official" PMI has once again wrong-footed the consensus, weakening further from June to July rather than strengthening as expected. Indeed, the official PMI has now fallen to its lowest level this year though, not surprisingly, the official measure of manufacturing activity in China remains in expansion territory. Every component of the PMI deteriorated from June to July with the most notable area of weakness being new export orders, the index for which fell from 47.5 to 46.6. Inventories of finished goods recorded the chunkiest move over the month, dropping from 52.3 to 48.0. The satiation of demand from existing inventories, rather than new output (the output index fell from 52.0 to 51.8) is a classic business cycle turning point indicator. Further weakness in Chinese manufacturing is most definitely in the offing. * Taiwan's PMI fell to 47.5 in July from 49.2 in June. Following the contraction in the economy over Q2, the Taiwanese economy may well contract again in Q3 given the importance of manufacturing production to overall growth. At the very least, we now believe that the Taiwanese economy will struggle to grow by more than 1.5% (we forecast to 1 decimal place) in 2012, compared to the Government's recently slashed forecast of 2.08% compared to 3.03% previously.

Wednesday August 01, 2012.

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Sentry Dispatch: The High Frequency Letter of Asia Sentry Advisory.

Todays Conclusion: The breadth of disappointment in the regional manufacturing data over July is unquestionable. The two key themes that we would stress are the troika of weakness (Europe, the US and China) that non-China Asia manufacturers are now reporting and the rapid deterioration in both input and output prices which suggests a firm disinflationary impulse has built up. A faster regional pace of policy accommodation is both forecast and required.

Wednesday August 01, 2012.

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Sentry Dispatch: The High Frequency Letter of Asia Sentry Advisory.

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Asia Sentry Advisory Pty Ltd is a boutique economic consultancy established to meet the growing demands of clients seeking greater exposure to the most dynamic economic region in the post-crisis global economy, Asia. Asia Sentry Advisory marries keen judgment with a rigorous model-based approach and a deeply intuitive understanding of Asia that can only come from on-the-ground experience to deliver market out-performing analysis and forecasts.
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