Power Systems Research
Staff Report

ST. PAUL, Minn., (Aug. 14, 2015)—As we look at calendar year 2016 for the United States, we see a parade of question marks, any one of which can upset the tidy forecast we’re trying to assemble.

Overall, we see modest growth across the economy—about 3%--but we’re wondering about the U.S. elections, the uncertainty of actions by the Federal Reserve Bank, continued problems in the Agricultural sector, dropping gasoline prices, foreign financial difficulties, and the timid spending attitudes of U.S. consumers.

The 2016 U.S. presidential election in November and the possible, but uncertain, moves by the Federal Reserve Bank over the next 16 months are causing businesses, government types and consumers alike to pause, take a tighter grip on their checkbooks, and wait to see what happens next.

Having said that, it’s also clear that consumers are willing to spend money on housing: starts, re-sales and mortgages are all up. Furthermore, sales of recreational products, such as motorcycles and other power toys, are likely to climb 3%-4% in the U.S. next year, according to OEMs. That being said we’re not looking at a break-out year in any of these areas for 2016.

Americans did buy more cars, restaurant meals and building supplies in July. The Commerce Department reported retail sales increased by 0.6% in July, coming off a flat month in June.

Interest Rates

The interest rate picture suddenly became more clouded in August 2015 when China devalued its currency by nearly 3 percent. Many economists and business leaders expect the Fed to bump up interest rates in September (we’re writing this in August) and again next year, possibly mid-year.

Although the possible September hike has been discounted by many lenders and businesses, the 30-year fixed mortgage rate has climbed from 3.67% in January 2015 to 4.05% in July 2015.  Many production contracts have been set for 2016 deliveries include the increased cost of higher interest rates.

While another hike next year has been discussed, that’s far from a certainty, given the expected slow growth in the economy, the upcoming election puzzle, and China’s recent devaluation of its currency, the yuan.

Steady job growth for more than five years, reduced jobless rate (5.3% this summer compared to 6.2% a year ago and 10% in 2009) and the extended length of the recovery combine to suggest a rate hike in September. “Seven years into an expansion, should you still be sitting at emergency rates?” wonders one economist.

But a hike certainly isn’t definite. Average hourly pay rose only 2.1% in July, compared to the previous July. That’s compared to about 4% for a healthy economy.

And China’s recent multiple-step devaluation of the yuan (also called the renminbi), further upset the global financial markets. The move also caused commodity prices to fall, another reason for the Fed to hold off on raising interest rates. With Chinese imports costing less and prices for gas and food dropping or holding stready, why hike interest rates?

U.S. Elections

This is another big puzzler. While a new administration won’t take place until January 2017, there will be plenty of energy spent forecasting the winner and making changes to take advantage of expected moves by the new administration.

Unfortunately, the situation is anything but clean-cut. The big disrupter, of course, is Donald Trump, the billionaire businessman, who is seeking the Republican nomination. Polls suggest he’s leading more than a dozen GOP candidates today, but the kicker here is what might happen if Trump doesn’t get the nomination.

He’s indicated that he may very well run as an independent if he doesn’t get the GOP nomination. That could really disrupt things; he could very easily pile up large numbers of votes from voters in both parties—as well as independents—who are fed up with politics as usual from the two major parties.

Trump’s position isn’t without precedent.

In 1992, successful Texas businessman Ross Perot ran for president as an independent candidate, even though he had never held public office.

Wikipedia notes that grassroots groups, driven by Americans dissatisfied with the U.S. political system, helped get Perot’s name on every state ballot. Perot, who included major budget and economic planks in his platform, finished in third place, receiving close to 19% of the popular vote.

Perot is not the only case of an independent disrupting a big election. Former pro wrestler Jesse Ventura, was given no chance whatever against two nationally recognized candidates in 1998 when he entered the Minnesota gubernatorial race as an Independent.

Using a campaign strategy that called for voting against “politics as usual,” Ventura pulled off a stunning upset, by grabbing votes from both parties and picking up support from other disenfranchised voters.

Interestingly, as we’re writing this article, Ventura announced that he supported Trump and would be willing to run as his vice president.

Meanwhile, Hillary Clinton, the leading Democrat, carries a lot of baggage, highlighted most recently by the problems with her email records.

Could Donald Trump pull off an upset, or has he peaked too early and offended too many voters? It should be interesting and we will not know until November, of course, but it certainly has to be factored into our planning, given what’s happened in the recent past.

Technology

Alternative power sources continue to attract supporters, but lack of significant government support of R&D efforts is hampering the development of small, powerful batteries that can be recharged quickly and provide adequate range for U.S. over-the-road applications. But there is hope and we may see significant developments in 2016 and 2017.

In 2012, the DOE established a public-private partnership called the Joint Center for Energy Storage Research (JCESR) to create a new way for developing next-generation batteries that would go far beyond today’s lithium-ion technology. JCESR is a consortium of five national labs, 10 universities and five industry partners headquartered at Argonne Laboratories, outside of Chicago. DOE funded the project for five years with up to $120 million.

Venkat Srinivasan, deputy director, R&D, at JCESR, says the focus of its research is to develop new materials to jump the trend of annual battery improvement rates of about 5%. “It’s an evolutionary process,” he says, “but with new materials we hope to break that 5% growth pattern.”

Under JCESR , the University of Chicago has successfully replaced lithium ions with magnesium ions, a step that could produce a new class of high-energy, high-voltage batteries. Whileit’s not likely that we’ll see a new battery in production next year, it is possible that the consortium could identify new materials to greatly expand battery power over the next two years.

Leading Industry Segments

 

Installation of Engine Units [Import and Domestic] by North American OEM’s

 

Diesel

Gasoline

LPG & Natural Gas

Grand Total

 

2015

2016

2015

2016

2015

2016

2015

2016

Agricultural

113,259

119,079

11,334

11,895

280

302

124,873

131,276

Construction

162,337

171,334

103,220

108,650

0

0

265,557

279,984

Industrial

321,113

333,847

1,145,477

1,194,251

58,376

61,877

1,524,966

1,589,975

Lawn and Garden

76,830

79,538

17,045,057

17,640,949

6,420

6,740

17,128,307

17,727,227

Light Commercial Vehicles

284,685

303,144

2,443,110

2,457,855

4,657

4,755

2,732,452

2,765,754

Marine Auxiliary

15,308

15,792

3,937

4,100

 

 

19,245

19,892

Marine Propulsion

23,301

24,124

210,062

216,434

865

894

234,228

241,452

Medium and Heavy Vehicles

832,275

758,059

131,864

137,192

16,982

19,290

981,121

914,541

Minivans and SUVs

23,553

25,684

6,990,390

7,156,116

1,575

1,153

7,015,518

7,182,953

Passenger Cars

166,080

184,984

7,034,040

7,143,603

0

0

7,200,120

7,328,587

Power Generation

139,265

143,802

607,102

626,066

177,795

188,355

924,162

958,223

Railway

690

695

 

 

 

 

690

695

Recreational Products

1,123

1,166

1,564,004

1,592,826

0

0

1,565,127

1,593,992

Grand Total

2,159,819

2,161,248

37,289,597

38,289,937

266,950

283,366

39,716,366

40,734,551

Source: Power Systems Research

CAPTION: Thenumber of engines of all types (both domestic and imported) installed in North American OEM production plants for 2015 by segment is shown in this chart. The data was collected Aug. 10, 2015, from OE LinkTM, a proprietary PSR database. The total for 2016 is estimated to be 40,734,551, up 1,018,185 units or 2.6% from the estimated 2015 total of 39,716,366 units. Production of Agricultural machines is expected to rebound slightly from 2015 when installations plummeted by more than 48,000 units or 27% from 2014 levels.

Commercial Vehicles

“From a global perspective,” says Chris Fisher, the senior commercial vehicle analyst at Power Systems Research, “we see continued globalization of the industry.” A primary objective for OEMs will continue to be building their truck platforms to share common components to reduce costs and lead times. Daimler and Volvo are good examples of this.

To gain global market share, truck OEMs are committed to producing quality low cost trucks in low cost production countries to capture both domestic and export sales. The OEMs will continue to develop value brands and lower cost vehicle platforms to compete in the various emerging markets. Daimler’s Bharat-Benz brand with production in India is a good example of this production trend.

While commercial vehicle demand is expected to remain strong in 2016, Fisher sees North American production of medium and heavy vehicles (Class 4 – 8) declining when compared to a very strong 2015.

Demand continues to be strong in both the medium and heavy duty truck segments, driven by an improved construction segment, along with tight trucking capacity and higher freight rates, notes Fisher. Class 8 orders started to slow in 2Q2015 as build slots all but filled up for the remainder of the year. Orders are expected to increase this fall as fleets begin placing their orders for 2016.  Production is expected to increase this year by nearly 13% over a strong 2014.

Don’t look for any changes in energy platforms next year; diesel will remain the king for the foreseeable future.

The Power Systems Research (PSR) Global Truck Production Index (PSR-TPI) jumped from 98 to 112, or 14.3%, for the three-month period ended June 30, 2015, compared to the first quarter of 2015. The year-over-year gain for the PSR-TPI was 111 to 112, or 1%. The data for our PSR-TPI comes from CV LinkTM, the proprietary database maintained by PSR with a base period is 1Q2012.

Agriculture

The slump in agricultural production that began in 2014 will continue this year, although production numbers are expected to increase slightly in 2016 over 2015.

Production increased very nicely from 2012 to 179,531 units in 2013, but then the bottom fell out in 2014, dropping to 142,295 units; the production slumped continued through 2015. Numbers could improve slightly in 2016, but production will still be well below that of 2014, by more than 10,000 total units.

The biggest softness in the agricultural segment will continue to be in tractors (97,077 compared to 103,177 in 2014) and combines (8,688 vs. 12,340 in 2014).

The main drivers of the weakness in the segment are low commodity prices worldwide and a shortage of rail cars in the U.S. Since government approval of the Keystone XL oil pipeline from Canada to Texas continues to drag on.  Planning and approvals for the pipeline are now at more than seven years and counting so it is safe to say the pipeline won’t be available to relieve the rail car shortage next year.

On the other hand, low oil prices should improve cash flow for farmers. We’ll see some improvement in 2016 (See the accompanying chart) but the market won’t totally recover for several years.

Agricultural Segment: North America - Installation of Engine Units [Import and Domestic] by Application Type 

 

2012

2013

2014

2015

2016

2-Wheel Tractors

1,024

1,070

1,065

1,128

1,197

Ag Tractors

134,348

136,265

103,177

92,442

97,077

Balers

130

177

92

84

88

Combines

14,534

16,440

12,340

8,222

8,688

Other Ag Equipment

3,566

3,641

3,528

3,523

3,690

Sprayers

17,607

18,234

18,037

16,161

17,055

Windrowers

3,264

3,704

4,056

3,896

4,124

Total Volume

174,473

179,531

142,295

125,456

131,919

Source: Power Systems Research

CAPTION: North American production of Agricultural equipment is expected to improve slightly in 2016, following a dramatic fall in 2014 that continued into 2015. The trend can be seen best by looking at the production of Ag Tractors and Combines in 2013 through 2016.

Power Generation

We expect OEM production of gen-sets to experience modest growth between 3% to 6% in 2016.  The smaller portables (<5 kW), often face more intense competition from imported units, will see the lightest growth at 3.1%.  The highest growth potential for 2016 unit production is expected with gaseous fueled units at a growth rate of 5.9%.  This higher growth rate results from the continual opportunity for gas to replace diesel in applications where the switch in fuel makes sense logistically; this growth is primarily driven by the market for stationary gas gen-sets installed into large residential and small commercial standby applications.

Finally, diesel gen-set production is expected to grow at 3.3% during the 2016 year.  The gen-set market is prone to demand surges during times of natural disaster but the above outlook assumes some portion of production towards building inventory levels to prepare for any weather events.  However, there is always the possibility that a more severe event will cause a bump in demand during a given quarter.

Construction/Industrial

Government spending on infrastructure continues to drive the Construction segment. The growth trend we identified in 2014 should continue through 2016. A strong housing market also contributes to the performance of this segment. We anticipate growth here of 6.5% for 2015, and expect this trend to continue into 2016.

The industrial segment also shows good growth.  As we see continued growth and importance of world trade - goods and materials must be handled logistically with cranes and various types of materials handling equipment.  We expect about 3.7% growth for the Industrial segment through 2015 and into 2016.

Bottom Line

Our outlook for 2016 is decidedly cautious, and is affected by substantial uncertainties in several areas: The presidential election, interest rates, consumer spending, a slumping agricultural segment and major foreign currency and economic question marks. Look for the U.S. economy to grow at a modest 3% rate, and expect conservative spending by the government as well as businesses and individual consumers.

The strongest segments are likely to be construction and power generation, with modest growth in recreational products. Production of medium and heavy vehicles will drop off.

We also expect housing, both residential and apartments, to continue strong as long as interest rates remain near their historic lows and financing continues to remain reasonably available. A strong housing market translates into continued solid performance in the construction industry.

Finally, it’s possible that we could see some breakthroughs in battery research as the JCESR program moves into the final years of its initial funding package. We’ve been seeing consolidation among truck OEMs as smaller companies are acquired or go out of business, and we expect this trend to continue next year, especially in China. Also look for expanded M&A activities in other industries, too; there are attractive opportunities for companies that are flush with cash, have benefited from the long stock market run-up and have access to low interest money.  PSR