Weak Unemployment Figures Cannot Stymie Financial Markets

Source: Financial TimesSource: Financial Times

The coronavirus has led to shelter-in-place orders, causing millions of Americans to remain at home and many businesses shuttered. In turn, unemployment has spiked. The May jobs report showed the U.S. economy added 2.5 million jobs:

US employers unexpectedly added 2.5m jobs in May, sending the jobless rate down to 13.3 per cent and easing worries over the damage inflicted by the coronavirus crisis on the world’s largest economy.

After 20.7m lay-offs during the month of April and 1.4m job cuts in March, some of the hardest-hit industries began hiring workers again, including leisure and hospitality, construction, retail, education and healthcare. Government employment, however, suffered 595,000 losses, as cash-strapped state and local authorities continued to cut their payroll.

In April, the economy shed about 20 million jobs. The increase in jobs in May was a breath of fresh air. It also renewed hopes that the economy would quickly recover after the pandemic subsided. The previous narrative went that President Trump needed to grow jobs in order to get re-elected. If Trump can get the economy reopened again then Americans may have to settle for that. California recently reported a spike in new COVID-19 infections. New York, Connecticut are introducing quarantines for certain travelers from other states. That said, a full reopening of the economy could be delayed.

Leisure and hospitality jobs increased by 1.2 million; this followed a loss of 7.5 million in March. Restaurants and bars have been closed throughout the country to help stem the spread of the pandemic. These establishments have been some of the hardest-hit by shelter-in-place policies. They could also generate outsized gains in jobs as the economy gradually reopens.

Education and health services experienced an increase of 424,000 jobs, which followed a 2.5 million fall-off in April. Offices for dentists, physicians and other healthcare practitioners were closed in April, but are starting to reopen. Jobs in the retail trade increased by 368,000, which followed a 2.3 million loss in April. Several retailers temporarily closed their stores in April. They are starting to reopen, which should increase sales through physical locations.

Unemployment Falls To 13.3 Percent

The unemployment rate was 13.3 percent; this was down from 14.7 percent in April, which was a post-war record. The unemployment rate has been below 5.0 percent – the threshold considered full employment – throughout President Trump’s tenure. The president has trumpeted the extremely low unemployment rate as a sign of his success. Such low rates implied a white hot economy on the cusp of overheating. The pandemic has since changed the narrative. Policymakers are now providing stimulus to workers negatively impacted by the pandemic, and looking for ways to avoid an extended recession.

The number of unemployed persons fell by 2.1 million to 21.0 million. Unemployed persons have increased by 15.2 million since March, reflecting the impact of the coronavirus. This has led to angst for millions of Americans, and may have amplified social unrest around the country. The fall in the unemployment rate was positive. However, it does not reflect employment-age individuals no longer looking for work.

The labor participation rate was 60.8 percent, down from 62.9 percent in the year-earlier period. It was an improvement over the 60.2 percent reported in April. There were 101.8 million people not in the labor force, up from 96.1 million in the year-earlier period. As the economy reopens, these statistics should show a marked improvement. The question remains, “How will improvements in the labor force impact the next presidential election?”

How Will Financial Markets React?

During the Financial Crisis of 2008/2009, Federal Reserve Chairman Ben Bernanke and President Obama worked together like hand and glove. Bernanke and Janet Yellen kept rates extremely low in order to help the economy recover. Current Fed Chairman Jerome Powell hiked rates, yet had to relax his stance amid the trade war with China and the knock-on effects of the pandemic. The Fed has provided liquidity to the bond market to ensure companies have access to credit and announced a $2.3 trillion relief package for small businesses and local governments. Jerome Powell recently warned Congress against withdrawing stimulus:

Jay Powell, the chair of the Federal Reserve, has warned Congress against withdrawing fiscal support for the US economy, saying it could imperil recovery from the shock of the coronavirus crisis.

“I would just note that there are something like 25m people who have been dislodged from their jobs either in full or in part due to the pandemic,” Mr Powell told the House financial services committee on Wednesday. “It would be a concern if Congress were to pull back from the support that it’s providing too quickly.”

I have been bearish on the U.S. economy for several years. The pandemic likely exposed weaknesses that had been there all along. Policymakers have employed stimulus measures that helped prop up asset prices. In April, Brent oil fell below $10. Supply cuts from Russia, Saudi Arabia and U.S. drillers have helped drive Brent oil above $40. Rising oil prices were positive for oil-related names, but will demand remain robust enough to keep prices from cratering again?

Financial markets reacted positively to monetary stimulus and rising oil prices. Some investors were betting on a V-shaped recovery. The Dow Jones (DIA) was up about 40 percent from its 52-week low achieved in March. Earnings fundamentals may not matter in the short term as long as investors continue to bet on a recovery. As companies begin to reopen, that bullishness could pay off.

Q1 GDP fell 5.0 percent, with personal consumption expenditures falling 6.8 percent and business fixed investment down 8.7 percent. Consumer spending has held up the economy for years; its recent decline was a red flag. A Fed gauge predicts Q2 GDP could fall by over 50 percent. If that occurs then it will likely be driven by a free-fall in consumer spending. If consumer spending does not rebound to previous levels then GDP could remain flat to declining for several quarters. In my opinion, retail and the travel industry could be the two sectors of the economy hardest-hit by waning consumer spending. If consumers focus their spending on essential items, retail and commercial air travel could face headwinds for several quarters.

Conclusion

Financial markets could continue to rally on hopes of a V-shaped recovery. Sans more stimulus, I doubt the economy can sustain much growth even after the economy reopens. Investors should avoid cyclical names and highly-indebted names that need consistent cash flow to service debt.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Source: Seeking Alpha

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