Last week, economist Catherine Putney of ITR Economics presented “Planning in a Black Swan World,” a webinar hosted by the National Fluid Power Assn. She looked at expectations surrounding COVID-19, impacts on the economy, and how the fluid power industry can prepare for an uncertain future. Here are some of her key comments.
Catherine Putney is an economist at ITR Economics.
Viral trends. The result of the outbreak is we’re obviously feeling economic pain. A key metric is the convergence between the number of recoveries and the number of cases. We want to see those two converge, where recoveries match and exceed the number of new cases, and we’re not there yet. Both continue to rise. We’ll still see somewhat pessimistic conditions into the near future, and your business has to be prepared. Keep an eye on this trend, as it is a predictor of the impact on our overall economy.
Manufacturing states will suffer. In tracking COVID-19 cases, states with a lot of manufacturing activity may be slower to recover. These operations tend to be very “boots on the ground” and need people in the plant itself, whereas service-based companies can still do the work from home. States such as Indiana, Michigan, North Carolina, Ohio and Wisconsin will likely suffer more than others, given the fact that stay-at-home orders limited production. Service-oriented states like California may fare better.
Stock market caution. Also consider this Black Swan event in terms of the financial markets and overall stock prices. Looking at short-term performance, a lot of people think that the stock market reached a low point in mid-March, and that we’re on a general assent and good things are coming.
From our perspective, that is likely not the case — another downfall may be coming. One reason is the deviation between corporate profitability and pricing in the stock market we are experiencing today. Naturally, they’re supposed to track together. For instance, lack of profitability that curtails new infrastructure spending will hinder the stock market as well. In the past, such conditions led to downturns and recessions.
One of two things needs to happen to reconverge: either profits rise or the market drops. Within the next year or so, I do not expect profitability for corporations go up, so this correction means the stock market needs to go down to realign. I would take some caution in the stock market as we move into the future. In addition, ITR Economics predicts a pretty precipitous drop coming from its financial leading indicators, which tells us that we haven’t reached our low point in the stock market.
General outlook. The ITR Economics outlook for GDP predicts a technical recession in the economy for the second and third quarters of 2020, before things start to pick back up. So know that 2021 will still be a good year. Our forecast shows U.S. GDP is expected to drop 2.1% in 2020, then rebound by 3.6% next year and 1.6% in 2022. Also, when we looked at expectations for the future, two longer-term indicators, consumer activity and global purchasing, are on the rise. That tells us next year will be a better year, we’ll see that recovery and expansion — just not to the levels that we’ve seen before.
November elections. We are now in an election year, so I want to briefly touch base on whether or not an election cycle has an impact on the economy. We looked at the performance of the economy one year after the president was put into office, every four year cycle, whether it was red or blue, Republican or Democrat. There is no significant correlation between the two. Fiscal policy like tax reform or tariffs does have an impact. But in terms of the election itself, we don’t expect that to move the needle until legislation or policy change comes to fruition.
Industrial production. We are expecting a much more severe drop coming from overall industrial production, not as severe as ’08-‘09, but it will be more severe than ’15-‘16, when oil and gas crashed. The overall machinery utilization rate has declined — it makes sense, companies are less busy — so there’s no need to invest in new pieces of capital equipment. There’s no profitability right now. Expect that over the course of this year, before things pick back up in 2021 and into 2022
Fluid-power forecast. Looking at overall shipment trends by the NFPA, this is calling for a precipitous drop in 2020 and early 2021, before things pick up again. Year-over-year growth rate for fluid power total shipments are expected to be -24.9% in 2020, then rising 10.6% in 2021 and 14.3% in 2022.
That’s tempered a bit with a somewhat smaller decline in pneumatic shipments due to relative strength in the medical and food industries. However, weakness in areas like oil & gas, automotive and mobile-machinery manufacturing will be a drag on hydraulics.
This is the preparation phase right now. If my shipments are going to be declining for the next year or so, what can I do? Should I cut back on costs? Should I be cutting back capacity? That’s important because when business picks back up again, even in the early parts of ‘23, overall NFPA shipments will be essentially where they are at today.
Areas of opportunity. It’s an unfortunate situation, the recession will affect overall total shipments for quite some time. However, it also gives us some intel. Perhaps focus your business more on pneumatics, because it’s not going to see as much of a decline as hydraulics. That could be in marketing, sales tactics, or a shift towards certain industries.
And look at the vertical end-use markets NFPA tracks. Food production is doing well, and also some growth in logging and electronics production, perhaps focus there. Try to shy away from markets that are hurting and will be for some time, such as mining, construction equipment, farm machinery and shipbuilding.
In a broader sense, we’re going to see some good activity coming from the housing market over the course of the next three years. Try to penetrate that market. That’s in contrast to the aircraft and automotive industries which may be down for a while. Keep in mind that even though we’re calling for this descent in the economy, there are still pockets of opportunity where you can take advantage. Also, e-commerce is huge and online retailers are doing quite well. So expand your online presence and penetrate those types of markets if possible.
Actionable items. How does this translate to actionable items for what we should do into the future? Make sure you incorporate the available economic information into your everyday decision making. Making sure your cash-flow modeling is reliable, and focus on markets/customers based on recovery rates. Timing is everything.
And know how your suppliers and customers are doing financially. This is a big one. It’s difficult to find a strong supplier that will always be there. You need to assign multiple suppliers because if one fails, it won’t shut your business down. Ensure you have a diverse supply chain, not only internationally, but domestically as well. I personally think that even after COVID ends, we’re going to see more nationalistic behavior coming from businesses and more demand for domestic producers and suppliers. Diversifying that supply chain is going to be critical.
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