A Closer Look at Employment Data – Week of Oct. 10, 2016

Data this week confirmed that the slowdown in the US economic growth seen in August was a temporary one. Market-derived probabilities of a Fed rate hike by December continued to rise along with a stronger dollar and higher 10-year Treasury yields. Oil continued to climb as U.S. oil inventories fell and the prospects for an OPEC agreement remained intact. The rising price of oil caused emerging markets (many of which export oil) to outperform.

The two most notable data releases this week were the Institute for Supply Management’s PMI surveys in which manufacturing and non-manufacturing companies are surveyed on various aspects of their business. Results of these surveys are summarized into a single number to indicate whether or not activity is expanding.

After a slowdown in August from both the manufacturing and non-manufacturing sectors, activity seems to have rebounded strongly. The non-manufacturing survey rebounded to a level of activity not seen since late 2015. This is a welcome sign for the U.S. economy. It corrects the recent discrepancy between strong expenditure and consumer confidence numbers (aggregate demand) and the weak activity from various firms (aggregate supply).

Data from the US labor market was less encouraging. Jobs added over the month of September were below expectations. Moreover, the unemployment rate ticked up and wages grew slower than expected.  These headline numbers, however, need to be understood in their broader context.

The number of jobs added each month is a very volatile number and is subject to statistical adjustment to account for seasonal changes in the labor market. It is often helpful to look at a three-month moving average. In that respect the labor market continues to look strong at nearly 200 thousand jobs per month.

It is true that the unemployment rate ticked up, but this is not necessarily a bad thing. Those who are not actively looking for work are not counted as unemployed. Instead, they are not considered to be part of the labor force. The unemployment rate is a measure of those in the labor force who are looking but not finding work. Thus, the unemployment rate can increase because more people lost their jobs (a bad thing) or because more workers who had stopped looking for jobs have now rejoined the labor force (a good thing).

We can see the drop in labor force participation from before the crisis till now in the graph below. It is still unclear how many people left the labor force due to structural factors, like older workers retiring, vs. cyclical factors, like recession. We also don’t know how many people are coming back because they’ve discovered they can’t afford to retire vs. because they have better job opportunities. But in any case, continued increases in labor force participation will increase income per capita and should support consumption growth which is a good thing for stocks.

Finally, data for average hourly earnings was below expectations and has been disappointing since the financial crisis. What is important to note, however, is that this data is an average of wage gains for the employed population. That means structural factors, such as the aging of the workforce, are baked in. For instance, each time a highly tenured employee with a high wage retires and is replaced by an entry level employee with a low wage, the average wage will drop. While this information is instructive when thinking about aggregate income, it may not help us understand the well-being of U.S. workers or potential inflationary pressures.

The Federal Reserve Bank of Atlanta produces an alternative measure of wage growth. They use a survey provided by the U.S. Census to follow the same workers through time, and can measure the median wage growth for individual workers. This measure is growing over a percentage point faster than the Bureau of Labor Statistics measure described above. We find these numbers more instructive for potential cost pressures being felt at U.S. firms and the potential for inflation going forward.

As usual, interpreting data for a machine as complicated as the US economy is not an exact science.  Our bottom line is that the U.S. economy continues its slow but steady growth and there is some evidence of pressure on wages. The Fed looks likely to hike in December. We continue to like assets that perform well with U.S. growth including U.S. and emerging market equity. We are wary of longer-dated fixed income since we think the primary risk going forward is that inflation might handily exceed current expectations and cause the Fed to hike rates more aggressively than markets expect.

 

 

The SoFi Wealth Market Commentary does not provide individually tailored investment advice. It has been prepared without regard to the circumstances and objectives of those who receive it. We recommend that investors independently evaluate particular investments and strategies, and encourage investors to seek the advice of one of our financial advisors. The appropriateness of an investment or strategy will depend on an investor’s circumstances and objectives. This is not an offer to buy or sell any security/instrument or to participate in any trading strategy. The value of and income from your investments may vary because of changes in interest rates, foreign exchange rates, default rates, prepayment rates, securities/instruments prices market indexes, operational or financial conditions of companies or other factors. Past performance is not a guide to future performance. Estimates of future performance are based on assumptions that may not be realized.