Schwab Guide To Economic Indicators: Durable Goods Orders

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Schwab Guide to Economic Indicators: Durable Goods Orders
by the Schwab Center for Financial Research
November 30, 2007

What is it?
This monthly index measures the demand for goods designed to last at least three years, such as appliances, motor vehicles and airplanes. While it’s commonly known as the “Durable Goods Orders” report, it’s officially known as the “Manufacturers’ Shipments, Inventories and Orders” survey.

What is its relative importance?
High. This report is one of several key reports monitored by the Federal Reserve in setting monetary policy. According to the U.S. Census Bureau, “The survey measures current industrial activity and provides an indication of future business trends. Data are used by the Executive Branch of the Government for developing economic, fiscal, and monetary policy; the Bureau of Economic Analysis as components of the gross domestic product estimates; and trade associations, corporate economists, and other members of the business community as an analytical tool for assessing the current and future economic condition of the country.”

What impact does it have on the market?
The degree to which durable goods orders, along with revisions, meet expectations is typically one of the most influential aspects of the report.

If the trend in durable goods orders exceeds forecasts in a way that hints the economy is overheating, bond prices typically fall (yields rise) on the outlook for greater overall economic demand, potentially higher inflation and an increased chance that the Fed will hike interest rates. Stock prices may also fall.

Why?

A rise in bond yields can make bonds more attractive once the fall in bond prices settles down. Compared to where the weights of stocks and bonds were in your portfolio, the typical thing to do in response to this change in valuation would be to sell some stocks and put the proceeds into bonds. Even if corporate profit growth seems supported in this time of strong durable goods orders, the market will likely see it as being short lived given expectations for impending rate hikes and eventually slower economic growth.

Alternatively, if durable goods orders exceed forecasts during slack economic times, this can give a boost to stock prices. That’s because the market’s expectation of potentially higher profit growth from greater economic demand can initially be the more influential factor in favor of higher stock prices. That is, for a period of time, it can be the more-dominant driver of stock prices, overshadowing the negative impact of rising bond yields (as discussed above).

How is it calculated?
The portion of the survey used to derive durable goods orders is the manufacturers’ dollar value of new orders (net of cancellations).

The shipments and unfilled orders (end-of-month backlog) statistics found in the overall “Manufacturers’ Shipments, Inventories and Orders” survey are also based on the manufacturers’ dollar value. End-of-month inventories are based on current cost or market value.

How is it used?
Durable goods orders are used to provide an indication of future production. It’s an important input for estimating gross domestic product, considered to be the most comprehensive measure of overall U.S. economic growth. Durable goods orders can also be a barometer of employment trends. As future production changes, so too can employment.

Since this report experiences wide swings from month to month, due largely to volatility in aircraft and related orders, analysts and economists will also study the figures that exclude transportation orders for the purpose of discerning the underlying trend of durable goods orders.

Capital spending trends can also be pulled from the survey. The Fed and economists have discovered that the category known as “new orders of nondefense capital goods excluding aircraft” is a good proxy for capital spending. As reinforcement, the unfilled orders (backlog) of this category can also be used as a near-term gauge of the sustainability of the capital spending trend.

The change in inventories can be used to monitor the balance between supply and demand of the economy. Sometimes inventories rise intentionally as corporations build stockpiles proactively in anticipation of increased demand. Alternatively, inventories can rise unexpectedly due to a surprise drop in demand. While other variations exist, the important thing is to compare the change in inventories from month to month with the tone of economic demand to see if the economy is in balance, stretched to thin, or losing momentum.

When is it released?
It’s initially released near the end of the month, usually between the 23rd and 29th, and can be found at http://www.census.gov/ within the “Economic Indicators” section of the site under the title “Durable Goods New Orders.” A revised report is released about a week later, generally between the 30th and the 6th. This more extensive version of the report can be found under the title “Manufacturers’ New Orders.”

The information provided here is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice. The type of securities mentioned may not be suitable for everyone. Each investor needs to review a security transaction for his or her own particular situation. Data contained here is obtained from what are considered reliable sources; however, its accuracy, completeness or reliability cannot be guaranteed.

(2007-5771)

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