10.11.21

U.S. equities shrug off September’s 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 Nuveens 2021 Midyear Outlook :
 
  • U.S. economy: The growth rate has peaked but will remain high throughout 2021.
  • Global economy: The economic recovery will spread to Europe and eventually Asia as more countries achieve herd immunity from COVID-19.
  • Policy watch: Policy is becoming marginally less accommodative as the recovery takes hold.
  • Fixed income: Even with rates subdued, credit-sensitive parts of the market should lead.
  • Equities: The best opportunities may now lie outside the U.S.
  • Asset allocation: Continue to allocate toward assets poised to benefit from economic reopening and recovery from the pandemic.
 

Quote of the week:

“This is nothing like the 1970s, which was a pretty dismal period and not just because of polyester and disco.”  – Barry Ritholtz
 

Stagflation? Not quite.

At the beginning of August, the Atlanta Fed’s closely watched GDPNow tracker forecast that third-quarter U.S. GDP growth would hit 6.3% (annualized), which would mark three consecutive quarters of 6%+ expansion. But that lofty number has been steadily declining, to just 1.3% on October 8.4
 
How to explain this turn of events? A faster-than-expected deceleration in personal consumption growth, which accounts for roughly 70% of GDP, is the primary culprit — but not because COVID-19 prevented people from spending. Instead, disappointing new car sales are largely are to blame. (Vehicle production has been hamstrung due to an ongoing shortage of semiconductor chips.) Indeed, weak auto sales were responsible for the two largest single-day downgrades in the GDPNow tracker over the past two months.5
 
More broadly, consumer spending is also declining because the positive effects of fiscal stimulus are wearing off, and households are rotating away from expensive goods and toward cheaper services.
Needless to say, GDP growth of 1.3% for the third quarter, were that to be the final result, would be disappointing. But much of the period’s “lost” growth hasn’t been lost forever. It’s just been pushed into the future, and probably not too far. For example, people who canceled flights and vacations due to the Delta variant will likely take them when the pandemic dies down again. Elsewhere in the economy, inventory restocking should continue, and residential construction has already shown signs of picking up.
 
While we wait for economic activity to eventually rebound, falling GDP projections — and not just from the Atlanta Fed — have reignited talk of “stagflation,” a rare combination of rising or high inflation and weak economic growth. (High inflation usually accompanies a strong, growing economy.) Fortunately, stagflation in the U.S. has occurred only once, in the mid-1970s. Back then, inflation hit double digits, so the government instituted wage and price controls. That led to shortages and layoffs as businesses had to absorb higher input costs but were unable to pass them on to their customers. And the Fed added to the misery by keeping monetary policy too loose, fueling inflation. For good measure, the U.S. was also hit by a severe energy crisis due to an oil embargo amid escalating tensions in the Middle East.
 
Does the third quarter of 2021 qualify as a stagflationary period? On paper, the answer may be yes. During the quarter, growth slowed from a torrid pace in the first half of the year, and month-over-month inflation, as measured by the Consumer Price Index (CPI), remained elevated in July and August, albeit lower than its second quarter peak.6 And reports of supply shortages in many industries have caused prices to stick at higher points than they would otherwise.
 
If we zoom out and look at the larger context, though, it’s pretty clear that neither the world nor the U.S. is sliding into stagflation. For starters, the “stagnation” component seems to be missing. Global manufacturing production is going strong, even if it’s not supplying quite enough to satiate demand. Economic growth in 2021 as a whole should hit a multi-decade high, with some of that expansion spilling into 2022. For individuals, real personal spending rose in August, while wages and salaries have been increasing without government assistance. Lastly, savings rates remain healthy, a boon for future consumption.
 
Regarding inflation, we believe the jump in CPI inflation starting back in the spring was due more to the unleashing of pent-up demand in the wake of massive, historic fiscal stimulus and less to supply shortages.  But as the benefits of stimulus fade and COVID recedes as a major source of economic distortion, falling consumer demand will be the main factor driving inflation (and growth) lower. That’s both the good news (and the bad news) as we look toward 2022.
 

It’s a seller’s market for labor in the U.S. — and not enough people are selling

Despite very strong hiring demand, employers added just 194,000 payrolls in September, well short of Bloomberg’s consensus forecast for 500,000.7 The unemployment rate fell by much more than expected, from 5.2% in August to 4.8%, thanks mainly to job creation — but also to an unwelcome decline in the labor force participation rate among workers aged 25 to 54. This rate fell from 61.7% to 61.6% and has barely budged since June 2020.8
 
Average hourly earnings for rank and file workers rose 0.5% and are up 5.5% over the past year, suggesting a tight U.S. labor market. While this increase is good for workers, it hurts profit margins.9
 
Despite the job report’s disappointing tone, there are some silver linings:
 
  • The household survey, which polls individuals rather than businesses, showed healthy job creation, which drove most of the decline in the unemployment rate.
  • Job creation for July and August was revised upward by a combined 169,000. Adding those revisions to September’s total makes the month’s miss look less jarring.10
 
We knew interpreting this release was going to be challenging, because federal unemployment assistance expired in early September, and the surveys for this report were probably conducted too soon for many of the people whose aid ran out to find work. According to last week’s claims numbers, over 7 million people who were collecting some form of unemployment insurance on September 3 were no longer doing so two weeks later.11 How quickly they and others return to gainful employment in the next six to nine months will determine whether monthly job creation bounces from here and how quickly the unemployment rate falls.
 
In our view, September’s job numbers won’t deter the Federal Reserve from announcing a tapering of its quantitative easing (QE) asset purchases when it meets next month. If anything, signs of worker shortages, such as sharply rising wages, point to precisely the sort of overheating the Fed wants to avoid. The October report, which will be released on November 5, now become crucial, providing a view of the extent to which the millions who’ve had their unemployment benefits cut back or eliminated are returning to work. Have unemployed workers really amassed enough savings during the pandemic to keep themselves afloat for another month? Stay tuned.
Sources:
  1. Bloomberg
  2. Bloomberg, Marketwatch
  3. Federal Reserve via Haver
  4. Atlanta Fed, Bureau of Economic Analysis via Haver
  5. Atlanta Fed
  6. Bureau of Labor Statistics (BLS) via Haver
  7. Bloomberg
  8. BLS, Marketwatch, BLS via Haver
  9. Bloomberg
  10. BLS
  11. Bloomberg
 
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.
 
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