September or October or next year
Employment Numbers below Consensus, but…
The first seasonally-adjusted employment number for August was well below consensus at 173,000, and well below where we would expect the revised numbers to end up for the month. On the positive side, the unemployment rate declined to 5.1%. Hourly wages are up 2.2% versus a year ago and rose 0.3% month-over-month. Average weekly earnings are up 2.49% from a year ago. The mixed news in the weekly earnings numbers was a rise of only 1.89% year-over-year for non-supervisory and production workers. Backing into the number for supervisory and more skilled labor, the weekly earnings increase appears to be closer to 5.5% year-over-year. That would indicate the pressure for more highly skilled workers may be pushing wages up faster among that segment of the labor force—wage inequality at work.
Employment numbers for June and July were revised up as shown in our “geek table”
below of the seasonally-adjusted and not-seasonally-adjusted numbers for this year
We would expect to see further revisions up for the July and August numbers, but that will come after the September Fed meeting. I do have some concern that the not-seasonally-adjusted number for August is starting out lower than last year, while the seasonally-adjusted number is higher. As I have said before, I have yet to be able to understand the seasonal adjustment factors. That’s one reason why I refer to this as the “geek table.”
The Overall Employment Picture could Support a Rate Move, but…
The employment picture by itself could support a Fed funds rate move in September or certainly October. However, market turmoil, China, the dollar, and the lack of inflation provide an excuse to delay a rate rise. It is our view that if there is no rate rise in September or October, we will likely not see a rate rise until early 2016. While the futures number and pundits put higher odds on a December increase, let’s remember that December is a month of significant rebalancing of cash positions among financial institutions and corporations. The last thing the market needs is another variable such as a change in the Fed funds rate target thrown into the mix. A change in the target rate this month or next would allow some time for the markets to adjust and for the Fed to continue testing its reverse repurchase (RRP) facility as a control mechanism for the effective Fed funds rate. I also think an increase in the fall would be an indication from the Fed that they have confidence the US economy is actually on a decent path of growth. While this would be a disappointment for those looking for support of financial assets away from the fundamentals, in my view it would be the start of a positive path to “normality.” The volatility in the financial markets would likely continue, but against a backdrop of the US, at least, coming out of the abnormalities of the QE period which produced a rising tide for most financial assets. As this tide dissipates, we will begin to see who is actually wearing a bathing suit. We have entered into a period of active management of corporate and financial assets. Accidents will happen on what will still be an accommodative path to “normality,” but this will open up opportunities for those actually paying attention to fundamentals. It will be a slower growth path over the next several years than we have historically seen, with a premium likely for management talent within companies and asset managers—a different mix compared to the last six years or more.
China and Emerging Markets in the News, but…
The wild card in all this would still appear to emanate from what is going on in China; although the emerging markets, Europe, Russia, and the Middle East bear watching. I am pretty solidly in the camp of those who don’t believe there will be a hard landing for China. I think the growth rate is slowing and actually wrote last December that I thought China growth would fall to 5%. I could be low (or not). It is true that the industrial and fixed capital investment side of China is in a major slump. This is the source of the lower demand and oversupply for a variety of the hard commodities as well as oil. That, in part, is caused by the slower growth in the rest of the world, which will continue. China over built and it will take many years for the country to grow into the capacity it has created. Unfortunately, the capacity will likely be less efficient than newer factories and transportation systems available at that time. In the near-term, this has a major impact on a number of China’s emerging markets suppliers who have historically been big exporters to China. However, it continues to look like the services sector—a big employer—in the Chinese economy is continuing to grow. Depending on the source, it appears that at least 50% of the population is employed in the services sector now, up from 35% 10 years ago, with the shift coming from the agricultural sector. China still has 29% of its population employed in agriculture. That compares with 1.2% in the US and similar numbers in other developed economies (the US had 29% of its population employed in the agricultural sector in 1915, 100 years ago). Services accounted for 46% of the Chinese GDP in 2013—it’s probably closer to 50% this year, because it is growing at a fast rate as industry is falling. Industry was 44% in 2013 with agriculture at 10%. By the way, construction, which seems to be a big topic, was only 7% of GDP (a part of the industry number).
As indicated, while China itself can weather this shift, the impact on a variety of the emerging markets can be severe—both for those countries exporting raw materials as well as intermediate goods. There will be credit issues, particularly for countries that have taken on USD-denominated debt. Away from the emerging markets, we will see credit issues as well, which open up some interesting opportunities in the illiquid space and the liquid markets. We have seen major dislocations in currencies and relative market performance. The tables below give some sense of year-to-date moves as well as the increased volatility:
Volatility and Dispersion to Continue…but…
We expect the volatility and dispersion in performance by markets, sectors, and individual securities to continue against a backdrop of slower global growth. This is regardless of whether the Fed moves this fall. There are significant opportunities being created on the positive and negative side. It requires making some judgments regarding relative risk that may have less to do with recent history and more to do with some decisions about how the financial markets may operate differently in a more disparate idiosyncratic world. We are paying attention to what we believe are the best active, less-correlated managers across the investment spectrum.
Note: Some of what we have discussed can get a bit technical, and, by the time these thoughts are published, the world has moved on. We try to condense our thoughts in regular short videos, and, fortunately, do get an occasional chance to express our views on various media. Viewing or listening to these thoughts is a good shorthand way to get slightly more current views. Here’s an example. You can also click on “Updated Video Commentary” for 2- to 3-minute videos of our views.