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Challenges Abound in the US Service Sector

Challenges Abound in the US Service Sector

May 07, 2020
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Recent economic data confirms that the US economy has entered a recession, led by the consumer, which accounts for more than two-thirds of the economy based on gross domestic product (GDP).  The consumer spending collapse was evident from March’s personal consumption expenditures data released last Wednesday, which showed a record 7.5% month-over-month drop in consumer outlays.

The service sector has also contracted sharply, not surprisingly given the widespread stay-at-home orders and business shutdowns that began in March. Yesterday’s Institute for Supply Management (ISM) Purchasing Manager’s Index (PMI) for non-manufacturing, i.e., services, provided more evidence of the depth of the downturn. As shown in the accompanying chart, the index fell to 41.8 in April, better than Bloomberg’s consensus forecast of 27, but still consistent with prior recessions.

View enlarged chart.

Similar to the manufacturing PMI from last week, this report reveals that the headline number was inflated by the supplier deliveries component. Normally, lengthening supplier delivery times reflect strong demand, which prevents suppliers from keeping up. However, in this environment, it reflects supply chain disruptions from lockdowns around the world related to COVID-19.

As a result, the new orders and employment components, which both fell by almost half to 32.9 and 30, respectively, are better indicators of where the country’s service sector is right now. Both readings have already fallen below 2008-2009 financial crisis lows.

“The recession has been led by the services sector, which has contracted as much as it did in 2008 in a much shorter period of time,” noted LPL Financial Equity Strategist Jeffrey Buchbinder. “We continue to urge caution for those considering investing in service businesses reliant on social contact, including brick-and-mortar retailers, restaurants, hotels, and airlines.”

Looking ahead, while the economic impact of the global lockdowns has been severe, we continue to be reassured by developing plans to reopen the economy, progress toward treatments and vaccines, and the resolve of Americans to get through this. We continue to expect a very strong rebound in the service sector along with the economy later this year.

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