OVERVIEW

• Recovery theme persists. The February Nikkei Malaysia Manufacturing Purchasing Managers’ Index (PMI) stood at 49.4 points in February (January: 48.6). While this remains below the threshold 50.0 mark, February’s reading indicates a slower deterioration in the index and its highest since May 2015.
• Production starts showing optimism. For the first time since March 2015, producers saw moderate increases in output levels though business levels remain tepid as jobs shed for the first time since August 2016.
• Ringgit continues to be a key factor. As with January, the ringgit depreciation continued to place upward pressure on input costs, resulting in output prices rising at record levels.
• Recovery in the horizon but cost and price consideration weighs. The slower deterioration reinforces the recovery momentum that we anticipated in our last report. We believe that this may translate into some upside for Malaysia’s manufacturing sector moving forward

Recovery trudges on. Malaysia’s manufacturing sector PMI declined at its slowest pace yet in February at 49.4 from January’s 48.6. This was its highest reading since May 2015 though still below the critical 50.0 threshold. However the second continuous increase in the index is an encouraging sign for Malaysia’s manufacturing sector.

Output higher but new orders and employment weighs. The output sub-index saw the first production increase and was the highest reading in 23 months. However, poor reading in new business levels and employment levels meant that the index remained somewhat subdued overall. Indeed, the employment sub-index declined for the first time since August 2016. Overall, the 12-month outlook on output growth rose to a 31-month high during the month.

Production shows some reversal. The production sub-index saw moderate improvement in February. While the growth was moderate, it marked a turnaround and stood at its highest reading since March 2015. Higher output levels were also consistent with the 15-month high of finished goods inventory levels while pre-production inventories grew for the first time in six months.

New orders fall again. New orders continued to decline in February, bringing the sub-index to a second year of consecutive decline. This was largely linked to poor market conditions though the volume of new exports remained unchanged relative to January. New export orders were marginally higher in January due to the weaker ringgit. Input purchases, meanwhile, was similarly reduced for the twenty first consecutive month though the degree of scale back was the lowest since August 2016, signalling a potential turnaround.

Employment reverses after five consecutive months of increase. Despite the upbeat picture from the output sub-index, weaker new orders outlook, in part, contributed to a deterioration of the employment sub-index. The employment sub-index declined moderately for the first time in six months, placing a damper on the manufacturing sector’s recovery narrative. However, the slight decline in the employment sub-index may be mitigated in the coming period as the backlog of work accumulated at record levels.

Exchange rate pressure intensifies. The impact of the weaker ringgit extended into February resulting in higher input costs, in turn bumping up output costs at the fastest rate in the survey’s four and a half year history. This was further exacerbated by higher inflation levels (January CPI YoY%: 3.2%).

ASEAN PMI varied. Four of the seven ASEAN countries covered by Markit (the ASEAN-4, Vietnam, Singapore and Myanmar) saw some expansion in their headline PMI with Vietnam (54.2) and Philippines (53.6) being the top two performers. On the other end, Singapore was the worst performer of the seven with a PMI reading of 48.6. As a whole, the region saw marginal expansion at 50.3 in February from marginal increases in output and new orders. Malaysia is not alone in seeing cost-push inflation with ASEAN firms likewise raising prices at a faster pace. Elsewhere, the global PMI was more optimistic at 52.9 (January: 52.7). The US and Euro Area, in particular, continued to see sustained growth in February at 54.2 points (January: 55.0) and 55.4 points (January: 55.2) respectively. In Asia, Japan’s and China’s headline PMI expanded at a faster pace with a reading of 53.3 (January: 52.7) and 51.7 (January: 51.0) respectively.

OUTLOOK

A continuation of recovery narrative. At 49.4 points, Malaysia’s manufacturing sector is expected to see a strong cyclical recovery underway and it’s a matter of time before it breaches the 50-point threshold possibly by 2Q17. This would support our view of further expansion of GDP growth in the 1H17 projected to accelerate to 4.6% from 4.4% in the 2H16. Despite the setback in the employment and the new orders sub-indices, we believe that the increase in work backlog along with the long awaited increase in manufacturing output brings some upside for these sub-indices and ultimately manufacturing sector growth. However, higher input costs (and the resulting increase in output price) from the weaker ringgit may cap the upside to new order growth as weaker ringgit was not translated to increases in new export orders.

Source: Kenanga Research - 2 Mar 2017