Blockbuster US jobs report hides consumer weakness
By Tim Vollans
13:00, 9 August 2022
Good news is bad news. Except when it’s really good news. But bad news can be plain old bad news. So can good news. Confused? You’re not alone. The markets have been tying themselves in knots to explain some of the recent price action and trends.
The S&P 500 remains resilient above the 4,100 level, much to the bears’ dismay…
S&P 500 (US500) price chart
It’s often said that the stock market is not the economy. The two do have a relationship even though they can seem to operate independently of each other for long periods of time.
Plenty has been written about inflation and the odd-looking recession already:
What is your sentiment on XLY?
“So, people are still spending, employment is increasing, and wages are rising… Funny looking recession you’ve got there…”
Blockbuster non-farm payrolls - were they really that good?
A couple of data releases really caught the eye at the end of last week (although one got far more attention than the other).
Employment is starting to occupy the spotlight. Friday’s blockbuster jobs report hogged the headlines.
The US economy added 528,000 jobs in July, far better than the average market forecast of 250,000. The May/June numbers were both revised higher too, adding a further 28,000 jobs to the total.
Wages continue to rise at a robust pace:
“In July, average hourly earnings for all employees on private nonfarm payrolls rose by 15 cents, or 0.5
percent, to $32.27. Over the past 12 months, average hourly earnings have increased by 5.2 percent.”
Traders swiftly began pricing in a larger rate hike. The probability of a 75bps hike in September jumped to 68% (vs 29% one week ago) according to CME FedWatch:
A closer look at the jobs data
But under the surface there are some worrying signs. It’s all well and good adding jobs, but what type of jobs are they? Is everyone getting full-time employment?
Let’s focus on this snippet from the report:
The number of persons employed part time for economic reasons increased by 303,000 to 3.9 million in July.
This rise reflected an increase in the number of persons whose hours were cut due to slack work or business conditions.
The number of persons employed part time for economic reasons is below its February 2020 level of 4.4 million. These individuals, who would have preferred full-time employment, were working part time because their hours had been reduced or they were unable to find full-time jobs.
Clearly no disaster. More of an early indicator that labour demand is starting to slow. Plenty of companies have announced plans to slow hiring. Some have announced layoffs already, with Oracle (ORCL) the latest tech company to confirm job cuts.
But large cap tech isn’t really the economy. And Google search data suggests that fear of layoffs is far higher than people actually looking to claim unemployment benefits:
Summing up, the employment picture’s still pretty strong, but the underemployment metric is a data point to closely monitor going forward.
Borrow your way through
The monthly US consumer credit data doesn’t get the same fanfare as the jobs report. Nevertheless, it’s an important data release in the current context. Here are the key points:
- Total credit increased $40.2bn from the prior month
- Revolving credit outstanding, which includes credit cards, increased $14.8bn.
- Non-revolving credit, which includes car and school loans, increased $25.4bn.
The only time in history that borrowing has increased by this much in a month? March 2022, when total credit spiked by $47.1bn.
The burning question. How much borrowing can the US consumer sustain?
Check out this chart of revolving consumer credit since 1999:
This measure is a better proxy for consumption than total credit because it highlights credit card debt, personal credit lines, and similar. All the kinds of borrowing people use to fund their lifestyle and pay down later. The appetite to borrow seems almost endless, and is extending towards the highs seen just before the Covid crash.
Beyond the data, earnings calls are another fantastic resource to take the pulse of the global economy. This quote from Barry Sternlich, CEO of Starwood Property Trust sums up the consumer situation brilliantly:
"The consumer, which is the backbone of the U.S. economy, well, he may still be spending but his confidence is the lowest it's been in decades and it's even worse in Europe. So there's no question that the consumer will stop spending the way he has spent in my mind. And you can't look backward, you have to look forward at what you're facing and he's facing dwindling savings rates because he's spending his money on gas, food, rents and housing prices, and interest expense. I don't see the offset."
One of the best ways to offset this is to increase your earning power. Negotiate for higher wages. But this is precisely what the Federal Reserve and other central banks are hiking rates to prevent. Slow the economy enough so that this wage-price dynamic doesn’t take hold.
Household debt increases
Research from the New York Fed adds to the warning signs. First, they offer a couple of eye-raising stats.
Total household debt increased by $312bn during the second quarter of 2022, and balances are now more than $2trn higher than they were in the fourth quarter of 2019, just before the COVID-19 pandemic recession
That’s a huge increase. Of course, some of this is down to higher prices for the goods and services consumers are paying (inflation), and this new, higher debt load isn’t necessarily a problem as long as wages and earnings are increasing fast enough to pay the servicing costs.
But that’s not necessarily what’s happening. The title of the research paper is a giveaway: “Historically Low Delinquency Rates Coming to an End”. The researchers show that lower income areas/households are starting to feel the pinch:
If delinquencies continue to tick higher and disposable incomes are squeezed, it’s worth keeping an eye on consumer discretionary stocks. Bank of America also noted increasing mentions of weaker demand from the discretionary sector in some recent correspondence:
There’s a logical trail to follow here. It makes sense that discretionary spending would be first on the chopping block if families are struggling. But the consumer discretionary sector ETF (XLY) has shown signs of strength recently. Between 16 June and the 8 August, XLY rallied by just over 26%.
The ETF tracks stocks including Amazon, Tesla, Home Depot, McDonald's, Nike, Lowe's, Starbucks, Booking, TJX & Target.
Consumer Discretionary Select Sector SPDR Fund - XLY price chart
Can this rally be sustained when consumers are loading up on debt while simultaneously being squeezed by inflation and higher interest rates?