Employment Situation, August 2017

The Bureau of Labor Statistics issued its monthly Employment Situation for August on schedule at 8:30 edt this morning.

For the first time in a while, the results were mildly disappointing, in that:

–new positions added came in at +156,000 jobs, lower than in the recent past–although more than enough to absorb new entrants into the workforce

–the past two months’ results were revised downward by a total of -41,000 jobs

–wage gains continued to show no signs of the acceleration that economic theory, and past experience, predict will happen in a tight labor market.   Wage growth remains at a +2.5% pace for the past year.

 

It will be interesting to see what Wall Street makes of the numbers.  Pre-market S&P 500 futures were trading a +5.75 points just before the release and seem to be showing almost no change as I’m writing this at about 8:40.

To my mind, that’s the right response.

However, the ho-hum attitude could easily be due to the fact that it’s the last Friday in August and all thoughts have already turned to Labor Day.  There’s also a distinct Fall feel in the air, which may be another distraction.  The Amazon-Whole Foods combination has focused a lot of stock market attention on forces of structural change that have been in motion for a decade or so but are only now coming fully into the public, and press, consciousness.  That puts them squarely (even if that’s mixing metaphors) in the wheelhouse of algorithmic traders.  Then, of course, there’s Houston and Harvey.

By the way, continuing to ramble, the way the market closes today–both overall and with individual stocks–may give some hints as to how Wall Street will react as powerful traders return to work from the Hamptons next week.

a rainy Friday in August in New York

August is the month when many senior portfolio managers are away from the office on vacation.  So big decisions on portfolio structure tend not to be made.

Friday is the day of the week when short-term traders’ thoughts turn to flattening their books so they won’t carry risk over the weekend.

It’s raining, which sparks thoughts in traders of sleeping in or leaving work early.

Add all that up, and the heavy betting should be that US stocks will likely move sideways in the morning and fade off toward the close.

That means this is a good day to stand on the sidelines and size up the tone of the market.

 

In pre-market trading, tech is up and bricks-and-mortar retailing (on the earnings miss by Foot Locker) is down.  …nothing new about this.  At some point there will doubtless be a fierce counter-trend rally.  But the negative earnings surprises are still provoking severe selloffs.  So I don’t think today is the day.

Pundits are speculating about the damaging effects on his political agenda of Mr. Trump’s apparent defense of neo-Nazis in Charlottesville.  …but the Trump trade has been MIA since January, with the US a laggard among world stock markets during Mr. Trump’s time in office so far.  Yes, there may be residual hope for corporate tax reform from the administration, which this latest demonstration of the president’s ineptness as a executive could arguably undermine.  My guess is, however, that he is already well understood.

Two questions for today:

–will the market perform more strongly than the season and the weather are suggesting? This would be evidence that there’s still an untapped reservoir of bullishness waiting for somewhat better prices to express itself.

–should we be buying in the afternoon if it’s weaker than I expect?  My answer is No.  I think there is a lot of untapped bullishness, but we’re in a slowly rising channel whose present ceiling is less than 2500 on the S&P 500.   That’s not enough upside for me.  I’m also content to wait for any incipient bearishness to play itself out further.

It will be interesting to see how today plays out.

 

the fiduciary rule; the UK election

advisers as fiduciaries

The fiduciary rule for retirement assets issued by the Labor Department goes into effect today, despite intense lobbying against it by the brokerage industry.

The rule requires financial advisers involved with retirement assets–with the notable exception of the 403b pension assets of government workers–to put their clients’ interest ahead of their own in dispensing investment advice.

In essence, this means that the financial adviser will no longer be permitted to recommend high-cost products with poor performance records to clients simply because they pay a high commission or that the broker gets an “educational” weekend for two at a beach resort for doing so.

The conceptual defense (such as it is) for such practices, which are still allowed for non-retirement assets, by the way, is that while the client is still not well off, he’s better off than if he had no advice at all.

No wonder Millennials are willing to take a chance on robo advice.

the British election

The British prime minister, Theresa May, called the election held yesterday with the intention of increasing her party’s four-seat majority in Parliament in advance of the first Brexit talks with the rest of the EU.

With one seat not yet decided, the Conservatives have lost 12 seats instead, according to the Financial Times.

As exit polls came out overnight predicting this unfavorable result, both Asian stocks with interests in the UK and sterling weakened.

Interestingly, as I’m writing this an hour before the US open, both sterling and the FTSE 100 are up slightly.  S&P 500 futures, which had also dipped slightly in Asian trading as the UK news broke, are trading two points higher this morning.

To me as an outsider, it looks like UK citizens are having serious second thoughts about Brexit (politicians in Scotland advocating it’s breaking with the rest of the UK lost, as well).  My point, though, is that except in extreme circumstances–like when Republican opposition torpedoed a proposed economic rescue plan in early 2009 and the S&P dropped 7%–politics make little day-to-day difference to stocks.

Employment Situation, May 2017

As usual, at 8:30 edt this morning, the Bureau of Labor Statistics of the Labor Department released its monthly Employment Situation.

The May results were ok, but not great.

The economy added 138,000 new jobs during the month, a reasonable number although one below recent reporting trends.  In addition, results for March and April were revised down by a total of 66,000.  Ouch!

Wage growth remains at an inflation-beating pace of +2.5% but continues to show none of the acceleration one might be hoping for,  given that the unemployment rate has fallen another notch to 4.3%.

my take

Let’s separate what’s going on from why it’s happening.

On the second question, I have inklings/prejudices but nothing that I’d care to act on.  My guess/fear is that jobs are being created, but in lower tax-rate foreign jurisdictions (meaning just about anywhere other than the US), and that machines are substituting for domestic labor, thereby keeping wages low.  If that were so, it would imply US employers believe President Trump won’t be able to advance his tax and infrastructure agenda.

But, really, who knows.

On the first, the signs are that after eight years, the US is finally at full employment again.  This would imply what other indicators seem to be showing–that’s there’s no reason to bet that there’ll be any “pent-up,” cyclically unfulfilled demand showing itself in surprisingly strong future consumer spending.

If so, the stock market should move away from cyclical ideas to secular growth and structural change beneficiaries.  In addition, overall annual upward movement in the broad indices should be limited to, at best, 1.5x the growth in nominal GDP.

The way I see things, this is the way Wall Street has been acting since early in 2017.  So this ES report is not new news.  Rather it’s confirmation of the direction the market has already recently taken.

 

 

the stock market cycle–where are we now?

As I wrote yesterday, stock market price-earnings multiples tend to contract in bad times and expand during good.  This is not only due to well-understood macroeconomic causes–the effect of higher/lower interest rates and falling/rising corporate profits–but also from psychological/emotional motivations rooted in fear and greed.

(An aside:  Charles McKay’s Extraordinary Popular Delusions and the Madness of Crowds (1841) and Charles Kindleberger’s Manias, Panics and Crashes (1978) are only two of the many books chronicling the power of fear and greed in financial markets.  In fact, the efficient markets theory taught in business schools, which denies fear and greed have any effect on the price of financial instruments, was formulated while one of the bigger stock market bubbles in US history, the “Nifty Fifty” years, and a subsequent vicious crash in 1973-74, were taking place outside the ivory tower.)

Where are we now?

My take:

2008-09  PEs contract severely and remain compressed until 2013

2013  PEs rebound, but only to remove this compression and restore a more typical relationship between the interest yield on bonds and the earnings yield (1/PE) on stocks.

today  The situation is a little more nuanced.  The bond/stock relationship in general remains much the way it has been for the past several years, with stocks looking, if anything, somewhat undervalued vs. bonds.  But it’s also now very clear that, unlike the situation since 2008, that interest rates are on an upward path, implying downward pressure on bond prices.

In past plain-vanilla situations like this, stocks have moved sideways while bonds declined, buoyed by an early business cycle surge in corporate profits.

Since last November’s presidential election, stocks have risen by 10%+.  This is unusual, in my view, because we’re not at the dawn of a new business cycle.  It comes from anticipation that the Trump administration will introduce profit-boosting fiscal stimulus and reforms.  The “Trump trade” has disappeared since the inauguration, however.  Our new chief executive has displayed all the reality show craziness of The Apprentice, but little of the business acumen claimed for the character Mr. Trump portrayed in the show–and which he asserts he exhibited in in his long (although bankruptcy-ridden) career in the family real estate business.

Interestingly, the stock market hasn’t weakened so far in response to this development.  Instead, two things have happened.  Overall market PE multiples have expanded.  Interest has also shifted away from business cycle sensitive stocks toward secular growth stocks and early stage “concept” firms like Tesla, where PEs have expanded significantly.  TSLA is up by 76% since the election and 57% so far this year–despite the administration’s efforts to promote fossil fuels.  So greed still rules fear.  But animal spirits are no longer focused on beneficiaries of action from Washington.  They’re more amorphous–and speculative, as I see it.

Personally, I don’t think we’re at or near a speculative peak.  Of course, as a growth stock investor, and given my own temperament, I’m not going to be the first to know.  It does seem to me, however, that the sideways movement we’ve seen in the S&P since March tells us we are at limits of where the market can go without concrete economic positives, whether they be surprising strength from abroad or the hoped-for end to dysfunction in Washington.

 

discounting and the stock market cycle

stock market influences

earnings

To a substantial degree, stock prices are driven by the earnings performance of the companies whose securities are publicly traded.  But profit levels and potential profit gains aren’t the only factor.  Stock prices are also influenced by investor perceptions of the risk of owning stocks, by alternating emotions of fear and greed, that is, that are best expressed quantitatively in the relationship between the interest yield on government bonds and the earnings yield (1/PE) on stocks.

discounting:  fear vs. greed

Stock prices typically anticipate or “discount” future earnings.  But how far investors are willing to look forward is also a business cycle function of the alternating emotions of fear and greed.

Putting this relationship in its simplest form:

–at market bottoms investors are typically unwilling to discount in current prices any future good news.  As confidence builds, investors are progressively willing to factor in more and more of the expected future.

–in what I would call a normal market, toward the middle of each calendar year investors begin to discount expectations for earnings in the following year.

–at speculative tops, investors are routinely driving stock prices higher by discounting earnings from two or three years hence.  This, even though there’s no evidence that even professional analysts have much of a clue about how earnings will play out that far in the future.

(extreme) examples

Look back to the dark days of 2008-09.  During the financial crisis, S&P 500 earnings fell by 28% from their 2007 level.  The S&P 500 index, however, plunged by a tiny bit less than 50% from its July 2007 high to its March 2009 low.

In 2013, on the other hand, we can see the reverse phenomenon.   S&P 500 earnings rose by 5% that year.  The index itself soared by 30%, however.  What happened?   Stock market investors–after a four-year (!!) period of extreme caution and an almost exclusive focus on bonds–began to factor the possibility of future earnings gains into stock prices once again.  This was, I think, the market finally returning to normal–something that begins to happens within twelve months of the bottom in a garden-variety recession.

Where are we now in the fear/greed cycle?

More tomorrow.