The Institute for Supply Management’s (ISM) non-manufacturing index fell by 0.4 points to 59.5 in February, after rising by an impressive 3.9 points in the month prior. The headline print came in better than expected, with market consensus anticipating a slightly larger decline of 0.9 points.
Movements among the main subcomponents were mixed. Business activity and new orders continued to build on last month’s impressive gains, extending the two-month advance by 5.0 and 10.3 points respectively to 62.8 and 64.8. The level of the new orders in fact marked a new cyclical peak, rising to the highest level since-2005.
On the other hand, the employment sub-index fell by 6.6 points and settled around mid-2017 levels – giving back all of the progress made in the prior two months. Meanwhile, the supplier deliveries sub-index held steady for the third consecutive month at 55.5 points.
The performance among the remaining indicators was broadly positive, with the backlog of orders, new export orders and inventories all improving. The prices paid sub-index pulled back slightly but remained elevated at 61 points – suggesting continued price pressures.
Comments from survey contacts maintained a positive tilt with respect to business conditions and the economic outlook. Meanwhile, the vast majority of industries reported growth on the month, with arts, entertainment & recreation and accommodation & food services being the only two exceptions.
Key Implications
Today’s report suggests that after a brief lull in at the end of 2017, the U.S. nonmanufacturing sector is resuming a healthier level of activity at the start of 2018, with the index largely holding onto last month’s gain. Broad strength among a few of the main sub-indicators, particularly business activity and new orders – with the latter reaching a new cyclical peak – along with a broadly positive outlook among survey contacts, add further credence to this narrative.
The pullback in the employment index is not surprising, given the all-time high reached last month, but is its magnitude is disappointing. The decline suggests that hiring wasn’t as strong in February, with this Friday’s payrolls likely to be softer than previously expected.
Current levels of the ISM nonmanufacturing index, alongside its manufacturing cousin, suggest that the U.S. economy should be growing near 2% (ann.) during the quarter. However, the hard data has been coming in weaker, with our latest nowcast suggesting the pace of growth is closer to 1.6%. Nonetheless, we believe that residual seasonality may be behind some of the weakness, with the pace of growth likely to accelerate in subsequent quarters.
