#unemployment

Stocks rebounded in March even as the Russia/Ukraine conflict continued to escalate. The key message from the Federal Reserve is that it is focused on fighting inflation and is prepared to hike short-term interest rates steadily and reduce its balance sheet until it reaches its goals.  Q1 earnings season will kick off the week of April 11^th and although Wall Street analysts have recently scaled back their expectations for quarterly earnings, they’ve been raising their forecasts for the rest of the year, according to FactSet.  Earnings typically are the key engine of equity returns over the long run.

Here are 3 things you need to know:

1. U.S. inflation data showed price increases hovering near 40-year highs. The report showed a further rotation back to services spending as the economy, and away from goods spending.
2. Jobs data showed a robust labor market with the unemployment rate dropping to 3.6% from 3.8%, while the labor force participation rate ticked up to 62.4%.
3. The 1^st quarter was one of the worst quarters for 10-year Treasury bonds since the early 1980’s. The Treasury yield curve inverted (higher yields for shorter-term bonds vs. longer-term bonds) between the 10-year and 2-year notes and 30-year and 5-year bonds, further stoking concerns of an impending recession.

Sources:

1. Sources: J.P. Morgan Asset Management – Economic Update; Bureau of Economic Analysis (www.bea.gov); Bureau of Labor Statistics (www.bls.gov); Federal Open Market Committee (www.federalreserve.gov)
2. Indices:
   • The Barclays Aggregate Bond Index is a broad-based index used as a proxy for the U.S. bond market. Total return quoted.
   • The S&P 500 is designed to be a leading indicator of U.S. equities and is commonly used as a proxy for the U.S. stock market. Price return quoted.
   • The MSCI ACWI ex-US Index captures large and mid-cap representation across 22 of 23 developed market countries (excluding the U.S.) and 27 emerging market countries.  The index covers approximately 85% of the global equity opportunity set outside the U.S. Price return quoted.
   • The MSCI Emerging Markets Index captures large and mid-cap segments in 26 emerging markets. Price return quoted (USD).

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By:  Thomas Steffanci, PhD, Senior Portfolio Manager

Is the real unemployment rate 2.3%? If you back out people who quit voluntarily to look for better paying jobs, the answer is yes. Quitters are still “employed”. They are in transition to other employment opportunities and should be considered as part of the labor force. If you adjust the current unemployment rate of 4.8% for the 2.5% “quit rate” (highest in 20 years) the “real” unemployment rate is 2.3%. This belies the Federal Reserve’s continuing easy monetary policy because of a weak labor market.  If it is actually “tight” it adds to the case that inflation is likely to be more persistent and higher, prompting earlier increases in the Federal funds rate than the market now expects.

*Note – blog post corrected corrected 10/22/2021.

Disclosure: BFSG does not make any representations or warranties as to the accuracy, timeliness, suitability, completeness, or relevance of any information prepared by any unaffiliated third party, whether linked to BFSG’s web site or blog or incorporated herein and takes no responsibility for any such content. All such information is provided solely for convenience purposes only and all users thereof should be guided accordingly. Please see important disclosure information here.

It is readily apparent that the Federal Reserve (the “Fed”) is more focused on employment rather than inflation. Last year the Fed released a new policy framework (1) that included a shift away from its traditional practice of raising interest rates based on the headline unemployment rate (U-3). It used to be that the market was trained to expect rate increases being triggered by the achievement of full or maximum employment, a level below which economists generally think inflation bubbles up in true Phillips Curve fashion. (2)

In Fed Chairman Jerome Powell’s appearance before the Senate Finance Committee last week he expanded on the Fed’s employment objective to what he called a “broad-based and inclusive goal,” where officials consider the unemployment rate of minorities as well as workers who are more marginally attached to the labor market. (3)

So, investors should no longer be focused on the “official” rate of unemployment, the U-3 rate. Instead, the Fed appears to be more concerned with the U-6 rate, which stands at 11.1% (versus a 6.2% U-3 rate). The African American unemployment rate, meanwhile, is 9.9%, while the Hispanic unemployment rate is 8.5%.(4) How the Fed is weighing these measures and where it wants them to be is unclear, as discussions have been qualitative not quantitative.

But it does dovetail with the Fed’s “patient” attitude towards inflation. The U-6 unemployment rate is historically “sticky” on the downside as skills training for marginal and disadvantaged workers takes time before meaningful employment occurs (see the chart above). It remains a huge policy question whether “structural” unemployment can be remedied by monetary policy. We have our doubts and keeps us very uneasy about the Fed’s response to cyclical inflation with their reaction function geared to the U-6.

1. See Federal Open Market Committee (2020b, 2020e, 2020f).
2. The Phillips curve is an economic concept developed by A. W. Phillips stating that inflation and unemployment have a stable and inverse relationship. The theory claims that with economic growth comes inflation, which in turn should lead to more jobs and less unemployment. Read more here about the relevance of the Phillips curve to modern economies.
3. The Bureau of Labor Statistics (BLS) defines marginally attached workers as persons who are not in the labor force, want and are available for work, and had looked for a job sometime in the prior 12 months. They are not counted as unemployed because they had not searched for work in the prior 4 weeks, for any reason whatsoever. The marginally attached are a group that includes discouraged workers.
4. Source: BLS, Civilian Unemployment Rate (https://www.bls.gov/charts/employment-situation/civilian-unemployment-rate.htm#)

Disclosure: BFSG does not make any representations or warranties as to the accuracy, timeliness, suitability, completeness, or relevance of any information prepared by any unaffiliated third party, whether linked to BFSG’s web site or blog or incorporated herein and takes no responsibility for any such content. All such information is provided solely for convenience purposes only and all users thereof should be guided accordingly. Please see important disclosure information here.