Great jobs headline, but ...
Uncertainties linger when you dig into the weeds.
After a string of mixed data points on the labor market, today’s nonfarm payroll report finally delivered the upside surprise that we have long anticipated. The economy added 943,000 jobs in July, well ahead of expectations for a gain of 870,000. In addition, the prior two months saw an upward revision of 119,000 jobs. This had the effect of lowering the unemployment rate from 5.9% to 5.4%. Meanwhile, wages continued to rise at a strong pace, with average hourly earnings up 0.4% vs. the prior month and 4% on a year-over-year basis. The continued upward pressure on wages will do nothing to assuage inflation fears, as wage gains tend to be quite sticky, further undermining the Federal Reserve’s “transitory” argument.
The market’s response as of this writing has been quite positive, with a risk-on theme permeating various asset classes. In particular, the 10-year Treasury yield, which we have long argued is trading at unsustainably low levels, jumped 6 basis points in the immediate aftermath of the report. After hitting an intra-day low of 1.12% on Wednesday, it’s backed up 17 basis points to 1.29%. In the equity market, cyclical sectors are leading the tape this morning, driven by financials, materials, energy and industrials. Small caps are also outperforming large caps.
Here’s the “but …”
While we are certainly encouraged by today’s strong report and positive market reaction, it comes with some notes of caution. Over the past several months, we have pointed out the disconnect between the seasonally adjusted and non-seasonally adjusted jobs data. From February to June, the economy added, on a non-seasonally adjusted basis, 1.1 million jobs per month for a total of 5.6 million jobs. Seasonal adjustments, however, subtracted 2.6 million jobs, or nearly half of the total added. While we understand the rationale for these adjustments—year-ago figures were distorted by an economy that was starting to pull out of a pandemic-fed collapse in jobs—we have argued they underplayed strong underlying trends in the labor market. This morning’s July report works in the opposite direction. It shows that on a non-seasonally adjusted basis, the economy lost 133,000 jobs, which was offset by a positive seasonal adjustment of 1.1 million jobs.
So, what does this imply? While today’s jobs report helped to correct the underrepresentation of labor market strength over the past five months, it likely is understating a slowdown in the labor market that began in July. This jibes well with the recent pickup in unemployment claims, the unprecedented level of unfilled job openings captured by the JOLTS data and the disappointing ADP read earlier this week. Looking ahead, we expect the labor market’s overall progress and the upward pressure on wages will prove sufficient for the Fed to continue its slow march towards tapering. Fed Chair Powell’s Jackson Hole speech later this month is almost certain to outline a general framework for slowing the Fed’s $120 billion of monthly bond purchases, with a more formal announcement likely to come at the September FOMC meeting.
As for the direction of the labor market, it’s sort of wait-and-see. The last several months have been quite strong, but non-traditional data such as airline boardings, OpenTable reservations and return-to-office delays raise the possibility that reemergent Covid concerns are causing some slowdown in jobs momentum—a risk that warrants our attention. From an investment perspective, we expect that today’s report, along with the likelihood of the aforementioned tapering and the potential for a significant increase in government spending, will help Treasury yields continue to move higher, which in turn should support cyclical assets. So, overall a good jobs reports, but with uncertainties lingering in the weeds.