No ”May Day” distress signal despite subpar jobs report

Brian Nick

The last week’s market highlights:

Each week, we present our featured topics in the context of the major themes listed below from Nuveen's 2021 Q2 Outlook
  • U.S. economy: A strong economic backdrop bodes well for U.S. economic growth.
  • Global economy: Should also surge as large developed countries sprint into the post-pandemic world.
  • Policy watch: No Federal Reserve interest-rate hikes until at least 2023.
  • Fixed income: Take more risk in credit-sensitive parts of the market.
  • Equities: Bullish on cyclicals but looking for opportunities again in growth.
  • Asset allocation: Consider benefits of active management amid idiosyncratic opportunities.

Quote of the week:

"For me, it is far better to grasp the universe as it really is than to persist in delusion, however satisfying and reassuring." – Carl Sagan

At least May’s job report was better than April’s

After adding a well-below-forecast 278,000 payrolls in April, the U.S. economy generated 559,000 jobs in May.3 Although an improvement, this total undershot expectations for about 670,000.4 Clearly, new jobs are not being created at a pace commensurate with the rapid growth in private-sector demand. With a record-high 8.1 million job openings around the country, we believe constrained labor supply — at least at the wages being offered — is the primary culprit behind the U.S. job engine’s slowdown.5
Beneath the headline number, here are some of the report’s low points and high points (with some caveats). On the downside:
  • More than 9.3 million people are still out of work, compared to 5.7 million in February 2020, just before the COVID-19 outbreak in the U.S.6
  • An additional 6.6 million people who aren’t in the labor force — and therefore aren’t counted as unemployed — would like a job. That’s 1.6 million more than before the pandemic.7
  • The labor force participation rate, the share of adults working or looking for work, edged slightly lower in May, to 61.6%, compared to pre-pandemic levels of around 63.3%.8
And on the upside:
  • The employment-to-population ratio rose 0.2% to 58.1%.9
  • The unemployment rate fell below 6% (to 5.8%) for the first time since the pandemic began, well ahead of our forecasts.10
  • The ranks of the unemployed shrank by about 500,000 from April to May.11
Meanwhile, monthly average hourly earnings (AHE) growth (+0.5%) beat expectations for a 0.2% rise.12 This jump may have been the result of employers having to incentivize new hires with higher wages, giving credence to the “worker shortage” theory.
Perhaps the most critical question about this jobs report is what factors are keeping potential employees on the sidelines? One is concerns about the virus, although contagion fears are receding as vaccinations increase. Another issue: school closures and parents’ inability to afford child care. The good news here is that most schools plan to open fully for the coming academic year.
Then there’s the thorny issue of unemployment benefits. The American Rescue Plan Act (ARPA) is providing $300/week of supplemental jobless aid (in addition to any state unemployment payments) through September 6. Since many low-paid workers currently earn more by staying at home, the argument goes, why bother to look for a job?
We’ll soon get an idea if this theory holds water. Precisely half of U.S. states have announced plans to end their participation in the federal programs for enhanced unemployment insurance sometime before the September 6 deadline. (None have pulled out yet, but the effect of states announcing plans to end these programs could cause workers to seek employment soon rather than face the prospect of declining weekly assistance.) Because of differences in states’ population sizes and unemployment rates, far less than half of all unemployed workers in the country will lose their ARPA aid before September, but that still covers several million people. It’s hard to imagine this won’t have some positive effect on labor supply over the summer.
To conclude, what might this report mean for the Federal Reserve’s ultra-dovish policy stance? Probably not much, in our view. The headline figures were far closer to consensus than last month’s, and the Fed can point to the “substantial further progress” benchmark it needs to see before pulling back on quantitative easing. May’s employment report likely doesn’t meet that guideline. That could explain why long-term Treasury yields fell on Friday in the wake of the release, with the bellwether 10-year closing at 1.56%, down 2 basis points for the week.

Keeping tabs on reflation trades

One of the issues the firm’s senior investors debated in March was whether the successful “reflation” trades that dominated in the first quarter would endure in the second. (Reflation refers to the restoration of depressed prices to normal levels.) These included (1) rising interest rates amid the prospect of accelerating GDP growth, (2) stronger performance from economically sensitive value stocks over growth shares and (3) Treasury Inflation Protected Securities (TIPS) leading bond market returns as investors anticipate a jump in prices.
For the most part, these trades have continued to deliver, albeit less convincingly. Since April 1:
  • Long-term rates have slowed their rapid climb. After jumping 81 basis points (0.81%) to close the first quarter at 1.74%, the yield on the 10-year U.S. Treasury note has mostly hovered in a tight range between 1.57% and 1.69% amid crosscurrents of rising inflation expectations and less overwhelmingly positive economic data releases (more on that below).13
  • Value’s outperformance of growth has moderated. Value stocks (+7.21% since the beginning of April) have outpaced their growth counterparts (+5.16%) by a narrower margin than the 1,070-basis-point advantage they enjoyed in the first quarter.14 Sector and style returns have been less disperse in the second quarter as one tailwind for value – rising interest rates – has lost momentum. Banks, a substantial component of the value-heavy financials sector, benefit from the wider spread between short-term rates (which determine the interest they pay on deposits) and long-term rates (on which they base how much interest to charge on loans).
  • TIPS have remained among the top-performing fixed-income asset classes, fueled by expectations of higher inflation data during April and May, which came to fruition.15
Why have some reflation trades lost momentum? One possible reason is that, to paraphrase blues legend BB King, “the thrill of the economic surprise is gone.”
Beginning in June 2020, amid the earliest tentative steps toward economic reopening, through early September, U.S. economic data consistently and significantly surpassed consensus forecasts. Economists simply weren’t prepared for the strength of the bounce back in demand. But starting last fall, the degree to which data releases outstripped expectations began to steadily decline, albeit from a high level.16 So while the trajectory of economic growth has slowed only slightly, markets have been surprised less often (or disappointed more often) by recent data on housing, consumer spending and the labor market.
Although the economy remains in the “upside scenario” we described in our second quarter outlook , the markets’ adjustment to this positive environment has largely occurred, with investors having priced in higher inflation and better profits from firms in the economy’s more cyclical sectors. The bottom line, in our view: higher inflation data and excellent earnings reports should persist, but they’ll be less of a surprise to markets than they were in the first quarter. Directionally, these reflation trades should still perform well, but the “oomph” won’t be as powerful unless new and unexpected tailwinds emerge.
In contrast, investments that have the potential to provide a major boost to diversified portfolios include commodities and emerging market (EM) currencies. We believe both can “catch a ride” as the rest of the world opens to a greater degree and achieves peak growth in the second half of the year, as we expect it will. Among commodities, energy prices are particularly dependent on supply/demand dynamics, and last week OPEC announced a rollback of some of its production cuts enacted last year. Demand for oil continues to improve, eroding the supply glut that developed during the early days of the pandemic. In the currency arena, countries experiencing a pickup in growth often see the value of their currencies appreciate. Since many EM nations are oil exporters, they’d especially benefit as more oil is shipped.
  1. Bloomberg
  2. Federal Reserve via Haver
  3. BLS
  4. Marketwatch
  5. BLS via Haver
  6. BLS
  7. BLS
  8. BLS via Haver
  9. BLS
  10. BLS via Haver
  11. BLS
  12. Marketwatch
  13. Federal Reserve via Haver
  14. Russell, FactSet, Marketwatch
  15. Bloomberg
  16. Citigroup via Haver
This material is prepared by and represents the views of Brian Nick, and does not necessarily represent the views of Nuveen LLC, its affiliates or other Nuveen staff.
These views are presented for informational purposes only and may change in response to changing economic and market conditions. This material is not intended to be a recommendation or investment advice, does not constitute a solicitation to buy, sell or hold a security or investment strategy, and is not provided in a fiduciary capacity. The information provided does not take into account the specific objectives or circumstances of any particular investor, or suggest any specific course of action. Investment decisions should be made based on an investor's objectives and circumstances and in consultation with his or her financial professionals. Certain products and services may not be available to all entities or persons. Past performance is not indicative of future results. Economic and market forecasts are subject to uncertainty and may change based on varying market conditions, political and economic developments.
All investments carry a certain degree of risk, including possible loss of principal, and there is no assurance that an investment will provide positive performance over any period of time. Equity investments are subject to market risk or the risk that stocks will decline in response to such factors as adverse company news or industry developments or a general economic decline. Any investment in taxable fixed-income securities is subject to certain risks, including credit risk, interest-rate risk, foreign risk, and currency risk. There are specific risks associated with international investing, which include but are not limited to foreign company risk, adverse political risk, market risk, currency risk and correlation risk. In addition, investing in securities of developing countries involve greater risk than, or in addition to, investing in developed foreign countries.
The investment advisory services, strategies and expertise of TIAA Investments, a division of Nuveen, are provided by Teachers Advisors, LLC and TIAA-CREF Investment Management, LLC.