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Federal Reserve Districts

First District--Boston

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Many business contacts in the First District report recent signs of improvement, although most say activity remains below year-earlier levels. Contacted retailers, manufacturers, and software and IT services providers, while still reporting mixed results, are more confident about their companies' and the economy's eventual recovery. Staffing firms cite upticks in activity. Residential real estate sales rose in recent months, although prices continued to fall; commercial real estate markets remain very soft. Price pressures are mostly said to be modest and fewer firms say they plan layoffs than in the last round.

Contacted retailers in the First District report mixed sales results for the months of July and August. Several retailers attribute soft sales in part to inclement weather, while others note that consumers still seem to be cautious in their spending and focused on getting the best value for their dollar; some respondents feel this trend is going to be the "new norm" and that recovery will be a long and drawn out process. However, other respondents see signs of improvement, particularly in sales of items classified as discretionary, and many First District retail contacts are more optimistic than in recent conversations.

Retailers continue to manage inventory levels carefully, with several working to bring inventory more in line with sales. Capital spending remains carefully controlled. Contacts note that headcounts are stable. Selling prices are steady, but a few retailers express concern about potential price pressures.

Manufacturing and Related Services
Most manufacturing and related services contacts headquartered in the First District report that the pace of business has improved or exceeded expectations in recent months. Some contacts had higher sales in the second quarter than in the first and anticipate further growth in the third quarter. Several others indicate that their sales picked up slightly starting in the summer. Among the few respondents who report continued worsening in sales trends, one is hoping to see improvement as consumers broaden their spending increases beyond automobiles and electronic equipment. Despite the recent upticks, however, almost all manufacturing and related services respondents note that sales and orders have remained well below year-earlier levels. Some companies have temporarily shut factories in order to hold down inventories. Only the biopharmaceutical sector reports sustained sales growth during the past year.

Manufacturers say that materials costs are flat to down compared to a year ago. The only notable increases are due to foreign currency appreciation. Selling prices also are reported to be mostly flat to down, depending on the degree of market competition.

Apart from implementing previously announced restructuring programs, most of the contacted manufacturers and related services providers have no plans to increase or decrease their U.S. employment in coming months. Domestic hiring is limited mostly to offsetting attrition or expanding R&D and finance staffing. Many firms are continuing to hold down labor costs through furloughs, pay freezes, or suspensions of 401K plan matches. Several respondents that had cut employee pay 5 percent to 20 percent earlier this year say they are now planning to restore previous pay levels in 2010. Capital spending plans remain subdued, and center mostly on new product development or cost reduction.

Most manufacturers and related services providers are planning for modest revenue growth and continued cost controls over the coming six to 12 months. Many indicate that their finances are in solid shape, with stable or improving cash flow. Some express lingering concerns about consumer spending.

Software and Information Technology Services
New England software and information technology firms report mixed results, with some experiencing continued slowdowns while others have begun to see modest improvement. Nevertheless, revenue changes from a year ago are largely in the range from zero to minus 15 percent. Contacts report continued interest from prospective clients but a hesitancy to commit due to budget uncertainties and a general lack of confidence. One respondent notes decreased maintenance revenues, as many clients have laid off employees and consequently have reduced maintenance needs. Most First District software and IT firms report managing expenses very closely to maintain profitability, through personnel reductions, salary freezes, the use of video conferencing instead of physical travel, and decreased spending on marketing. Meanwhile, other firms continue to invest in their workforces and in R&D, hoping to benefit when the recovery does occur. Selling prices are being maintained. Several New England software and IT services contacts report that positive signs they see in the economy are not yet reflected in their numbers; most respondents anticipate a long recovery and expect only modest growth in 2010.

Staffing Services
Nearly all New England staffing contacts report upticks in labor demand in recent weeks, but they are uncertain whether the increased demand will be sustained; yearly revenues generally show declines in the 10 percent to 40 percent range. Contacts report growth or its initial signs in the manufacturing and financial industries as well as in the information technology, pharmaceutical, and retail sectors. However, the increase in demand applies only to temporary labor, as placements for direct hires remain minimal; indeed, one contact does not anticipate demand for permanent labor to return until 2011. While there are plenty of job seekers, labor supply is still low for specialized positions.

Staffing contacts express continued concern over expected increases in health insurance costs and state unemployment taxes in 2010 and whether they will able to pass those costs on to clients who may not yet be profitable. Contacts note that clients are currently hiring to fill vacancies, rather than hiring to expand. One contact indicates that many companies are trying to do their own sourcing instead of utilizing staffing firms, as hiring speed is no longer paramount. New England temporary services respondents are largely more optimistic than they were three and six months ago, but remain uncertain about the near term, as they anticipate a long, gradual recovery.

Commercial Real Estate
Commercial real estate contacts report no major changes in market conditions since last time. Leasing volume remains very low and downward pressure on rents continues to be intense across the region. Vacancy rates have not increased perceptibly since the last report, but net absorption is perceived to be negative. Landlords are reportedly trying to hang on to existing tenants "at all costs." A large supply of sublease space is augmented by "shadow space" that many firms are not using but which they cannot readily sublet. Very little construction activity is in progress in the region: Speculative office construction is basically non-existent, but small condo conversion projects are under way in Cambridge and Boston.

In recent weeks, our Providence contact has seen an increase in foreclosure sales of commercial properties, all of which had been originally financed through commercial mortgage-backed securities (CMBS). Sale prices on these properties reflect discounts of up to 60 percent from peak prices observed in 2007. A Boston contact has observed declines in property value ranging from 30 percent to 60 percent on various downtown office buildings. One contact predicts that the national commercial property value index will decline 50 percent peak-to-trough before recovering. In a number of cases, rents have fallen below the level that supports debt repayment. In light of these conditions, delinquencies and foreclosures are expected to increase further in the coming months. Underwriting standards in the commercial market remain very strict, with loan-to-value ratios largely below 70 percent. Small regional banks continue to support the bulk of financing activity in the region. Our regional banking contact reports that they have maintained a healthy balance sheet through conservative lending, and experienced higher profits this summer compared to a year ago as a result of increased market share in (commercial and residential) mortgage lending.

Over the next six months, contacts expect commercial market fundamentals either to decline further (in Boston and Providence) or to remain roughly flat (in Hartford). None expects a significant recovery of property values within the next year, and possibly longer depending on the extent of commercial foreclosures and the employment outlook. The recovery of deal volume, rental rates, and vacancy rates typically lag recovery in employment rates by up to six months. Therefore, contacts are watching the employment numbers closely and adjusting their forecasts accordingly.

Residential Real Estate
Residential real estate markets in New England showed some positive signs in June and July. All contacts report increasing year-over-year sales in either June or July, many for the first time in 2009. Home sales increased between 4 percent and 13 percent year-over-year across the region. Condos in Massachusetts also showed a small year-over-year sales increase in July. Most of the sales activity is said to be taking place at the low end of the market, partly because the first-time homebuyer tax credit has been successful in spurring activity for entry-level homes. The high end of the market, including second homes, is still very quiet. A New Hampshire contact reports that distressed properties, including bank-owned properties, are moving, although the sales process for these homes is complicated and the deals often fall through. Contacts say that although the June and July results are promising, they will not be confident that they have passed the bottom until sales increase for another month or two.

While sales were up, New England home prices continued to fall in June and July. Median home prices fell 5 percent to 14 percent year-over-year in July in the six states. An exception was the Boston area, where the median home price in July was only about 1 percent below what it was in July 2008. This Boston contact believes that sellers are pricing more realistically and "further price declines should be minimal." Another contact attributes low prices to the large number of bank-owned property sales and also to the fact that prices at the peak were unsustainable; this contact does not believe that prices will return quickly to the pre-slump level. Respondents report the inventory of homes for sale in Massachusetts has fallen below a "balanced" market level, as potential sellers are listing their homes "only if they have to;" this seeming shortage should self-correct once prices stabilize.

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Last update: September 9, 2009