Fun Facts From October’s Industrial Production Report

The Fed released industrial production for October today, and the results smashed expectations. Total industrial output rose 1.6% m/m, more than double analysts’ consensus expectations for 0.75%.^[i] Manufacturing’s 1.3% m/m rise also more than doubled estimates, adding to the good news.^[ii] For stocks, this is all backward-looking. Markets today are looking to the next 3 – 30 months, not back to October. Still, the report contained some encouraging news related to some of today’s biggest headline fears—namely the energy and supply chain crunches. Let us take a look.

First up: energy. Even as oil prices rose this year, US output was slow to recover as smaller shale producers opted to pay down debt instead of invest in new production. Now, the tide is shifting. Oil and gas well drilling jumped 9.3% m/m, bringing the cumulative recovery in activity to 93% since July 2020’s low.^[iii] As Exhibit 1 shows, there is still a lot of ground left to make up, but oil’s hovering around $80 per barrel makes drilling quite profitable. In the Permian Basin, which is increasingly the locus of US shale production, drillers’ breakeven prices are below $40 per barrel—among the lowest in the country.^[iv] Basic economics teach us that high potential profit margins incentivize new production, which points to continued drilling and pumping from here. The latest industry looks from the US Energy Information Administration and International Energy Agency see this activity helping boost output in the very near future. The latter’s latest report, released today, showed global output rising 1.4 million barrels per day (bpd) as US output recovered post-Hurricane Ida.^[v] It eyes a further rise of 1.5 million bpd over the rest of this year and continued increases in 2022.^[vi] Time will tell if that comes true, but the big jump in drilling activity augurs well.

Exhibit 1: US Oil & Gas Drilling Continues Recovering

Source: St. Louis Federal Reserve, as of 11/16/2021.

Next up: supply shortages, particularly in the semiconductor world. As has been widely reported, chip foundries can’t keep up with demand, and the shortage has had knock-on effects in the wide array of consumer products that use semiconductors. Automakers have gotten particular attention, in large part because they are big-ticket items that we can all relate to. Headlines have bemoaned the industry’s production woes for months now.

But now there are some green shoots. Motor vehicle production leapt 17.8% m/m in October, snapping a two-month slide and bringing output back near summertime levels.^[vii] Production of semiconductors and related electronic equipment, meanwhile, rose 1.8% m/m to a new all-time high.^[viii] That doesn’t mean it is all sunlit uplands from here, as auto output is quite choppy even in more normal times. But it does suggest the industry is holding up far better than headlines suggest and producers are finding ways to navigate the global supply chain morass. Further supporting this, a couple of major auto producers have recently reported signs of the semiconductor supply crunch easing, with idled plants reopening as more chips rolled in. With the chip industry now largely past this year’s temporary disruptions (e.g., Texas’ deep freeze knocking US production this winter and a fire at a big Japanese plant hitting output there this summer), the worst could very well be behind us.

None of this is hugely bullish for stocks, mind you—markets are forward looking, and services, not manufacturing, generates the vast majority of US output. But the semiconductor and energy crunches have hogged headlines and hit sentiment this year. Stocks have largely seen through these issues, and the latest developments are more evidence they were likely correct to do so. The more data confirm this, the more sentiment should improve, with fewer fears dampening investors’ enthusiasm.