Wentz Weekly Insights
Another Solid Jobs Report, Inflation Data and Earnings Next
Recession fears continued to ripple through markets last week with commodities down again and the yield curve inverting for the third time this year (a leading indicator of a recession). However, those fears eased somewhat as the week progressed and as the labor report on Friday showed a greater than expected 372,000 jobs were added in June. Although other economic data has disappointed lately and suggests the economy may be slowing, the jobs report continues to show mid-cycle type strength. At the same time, a BLS labor survey shows job openings remain near record highs and there are still two job openings for every person unemployed.
The employment report also showed wages grew 0.3% in the month and are 5.1% higher from a year ago. While this would be positive in a normal environment, keep in mind inflation is running at 8.5% meaning Americans purchasing power is eroding and wages are not keeping up with the rapid rise in prices. The quits rate has also remained near record highs, indicating workers confidence, ability, and willingness to move to a better or higher paying job. The economy has averaged 457,000 new jobs since the beginning of the year and added over 21.5 million jobs since the massive layoffs when the Covid pandemic began. There is still work left to do to return to pre-Covid levels – there are still 648,000 less people working now than pre-Covid and still 523,000 less people in the labor force (the working age population that is working or looking for a job), although these numbers have steadily improved over the past 24 months.
However, the concern over the past several months has not been the labor market, it has been inflation. That turns us to this week where the highlight will be Wednesday’s consumer price index report. The numbers are expected to show inflation did not peak in May, as economists are expecting another 1.1% increase in prices in June with an 8.8% year-over-year increase. Recall, it was May’s inflation report that came in hotter than expected that forced the Fed to adjust its tone to be more aggressive in raising interest rates.
After the inflation report, investors will shift focus to the upcoming earnings season. JPMorgan will kick things off Thursday, followed by other big banks on Friday. Results are expected to be mixed, with weakness driven by investment banking from a soft M&A and IPO market due to market volatility. Much focus will be on loan growth and banks’ loan loss reserves. Banks set aside money for potentially bad loans and any sign that loan loss reserves are building could give us an indication on how executives at banks are seeing the health of the consumer and businesses, with a larger build than expected serving as a warning. The remainder of July will be busy as the next week follows with a large chunk of S&P 500 companies reporting, followed by the next Federal Reserve meeting and interest rate increase the week after. Expect volatility to remain in the markets, especially as we head into an earnings season where earnings estimates are wider than usual from the increased uncertainty.
Week in Review:
U.S. markets got off to a slow start to the week on Tuesday to open the holiday shortened week as recession concerns continued to spread through the market with stocks opening the day down around 1%. The yield curve continued to flatten with the 2- and 10-year yields inverting for the third time this year. Commodities remained weak, oil was down 8%, while the dollar continued to strengthen, moving to its highest levels in over 20 years. Stocks were able to reverse course after being down over 2% in early morning trading, driven by a sharp move higher in growth, and finished near the highs of the day with the S&P 500 up 0.16% and NASDAQ higher by 1.75%. Despite the gains, breadth was weak with just 39% upside volume on the NYSE.
Covid made its way back into the headlines Wednesday with several breakouts in China, including Shanghai which reached its highest case count since May, but no mass lockdowns announced yet. Data released shows job openings remain near record highs and the meeting minutes from the FOMC’s June meeting showed Fed officials had a more hawkish tone given the rise in inflation and inflation expectations and the support for a more restrictive stance in policy. This is nothing new to the markets and supported with the move lower in yields stocks moved higher for the day. The S&P 500 was positive for the third consecutive day, gaining 0.36%, with weak internals again.
Stocks opened higher Thursday, helped by reports out of China that the Beijing is considering allowing local governments to sell billions in bonds to accelerate infrastructure investments. Fed’s Waller and Bullard both made remarks supporting another 75 bps increase in rates at the Fed’s upcoming meeting, matching the market’s expectation. The yield curve flattened slightly with the 10-year moving back to 3.0%. Growth outperformed value again with the S&P 500 up for the fourth consecutive day gaining 1.50% on improved internals.
The main event for the week was the employment report Friday that showed strong job gains in June of 372,000 with wages rising 0.3% and remaining in check. There was a muted response from stocks, but yields did jump higher. It ended up being a very mixed day with weak breadth and participation as the S&P 500 fell 0.08%.
Commodities remained weak, however a rally toward the end of the week had crude oil finishing down 3.4% after being down as much as 10% mid-week. Bonds were weaker as yields moved higher. The curve flattened more and inverted with the 10-year Treasury yield moving from a low of 2.78% to open the week to 3.10% by weeks end. The upside in stocks favored growth with the major US indices finishing the shortened week as follows: NASDAQ +4.56%, Russell 2000 +2.41%, S&P 500 +1.94%, Dow +0.77%.
Recent Economic Data
- In June there were 13.0 million vehicles sold (an annualized pace) which was below expectations of 13.5 million but grew 2% from May’s 12.7 million pace. The sales pace remains well below the high of 18.8 million in April 2021 due to significant shortages of semiconductors along with supply chain issues.
- Factory orders, an indicator of future business trends in the manufacturing sector which represents new orders of both durable and nondurable goods and is a direct input to GDP, rose 1.6% in May versus the 0.5% increase expected, which follows a 0.7% increase in April. Unfilled order, which represents backlogs of factory orders, increased 0.4% in May and has grown for 21 consecutive months.
- The ISM services index, an indicator of economic activity in the services sector with data compiled from a monthly survey, was 55.3 for June (anything above 50 represents expanding activity) falling from 55.9 in May, indicating activity grew at the slowest pace since May 2020. Prices remain high with the price index at 80.1, however falling for the second consecutive month. All 18 industries reported growth in the month. Respondents noted supply chain and supplier reliability continued to improve but it is still difficult to replenish inventories.
- Trade data for May shows the U.S. trade deficit shrunk slightly to $85.5 billion, improving from a $86.7 billion deficit in April, although still near all-time highs due to the strong U.S. economy and the strong growth in imports over the past several months. In May, exports grew $3.0 billion, or 1.2%, while imports grew $1.9 billion, or 0.6%. Year-to-date, exports have increased 19.4% while imports have increased 24.0%.
- The minutes from the Federal Open Market Committee June meeting revealed officials’ willingness to move to an even more restrictive stance and supporting a 50 basis point (bps) or 75 bps rate increase at its July meeting given the concern inflation has still not shown signs of coming down. The theme of the recent meeting was the concern of inflation becoming more entrenched if the Fed fails to act decisively as well as concerns long-term inflation expectations were moving higher and over the Fed’s 2% goal. Officials agreed that consumption remained strong, supported by a strong labor market and consumer balance sheets.
- Jobless claims for the week ended July 2 was 235,000, up 4k from the prior week, with the four-week average unchanged at 232,500. The number of continuing claims was 1.375 million, up 51k from the week prior with the four-week average rising from a record low to 1.335 million.
- There were 11.254 million job openings at the end of May, down from 11.681 million at the end of April (which was revised up from 11.400 million) and still remaining near record high levels. There was a large uptick in openings in the trade/transportation industries. Hires were unchanged at 6.5 million while layoffs were little changed at 1.4 million. The number of quits was little changed at 4.3 million, also remaining near record highs indicating people are comfortable changing jobs for a better opportunity or higher paying job.
- The Department of Labor said June saw payrolls grow by 372,000, which is about 100,000 above the estimates and follows a 384,000 increase from May. The only bad news in the monthly report was the labor force declined for the first time in several months, by 353,000 in June, which led to the amount of people unemployed relatively unchanged at 5.912 million. The unemployment rate remained unchanged at 3.6% while the U-6 rate, or the underemployment rate and a better measure of true unemployment, was 6.7%, down from 7.1% in May. Most job gains were seen in professional and business services (+74k), leisure and hospitality (+67k), health care (+57k), and transportation/warehousing (+36k). The average wage rose 0.3% in the month, while May was revised up to 0.4% from 0.3%, and are 5.1% higher from a year ago. However, consumers are losing their purchasing power with wages not keeping up with inflation. With prices up 8.5%, consumers real purchasing power has declined 3.4% over the past year. There are still two job openings for every person that is unemployed.
- A memo sent to suppliers by Walmart reveals the company will impose a new fuel surcharge on companies that use Walmart to transport goods to its warehouses and stores and will collect a “pickup charge” beginning August 1. The memo stated the action is to adapt to the “significant transformation and increased cost seen in the transportation industry.” The collect pickup charge will be a percentage of the cost of goods received by Walmart while the fuel surcharge will be based on the cost of fuel to transport the goods.
- Elon Musk sent a letter to Twitter notifying the company he is terminating the $44 billion deal to acquire the company. Musk’s decision is based on the claim Twitter is “in material breach of multiple provisions” that include false and misleading representation around spam and fake accounts.
- China is considering allowing local governments to sell about $220 billion of special bonds this year to accelerate its infrastructure fundings in an attempt to shore up its struggling economy, and if so would make it the first time issuance has been fast-tracked like this. Separately, certain areas are dealing with more covid concerns after more cases were confirmed, bringing back lockdown worries. Early Monday, Macau, a heavy populated area near Hong Kong and a massive gambling hub, announced new lockdown measures including closing casinos down for a week. A new subvariant of Covid, one that is more infectious and increasingly dominant in the nation, was discovered in Shanghai as well.
- After a series of resignations from his own administration amid political scandals, UK Prime Minister Boris Johnson said he will resign from office. The British pound rose slightly in hopes of an end to the political instability in the UK. The conservative party will now put together candidates and hold votes until only two remain at what point the party will choose the final candidate. The last time this took place in 2019 the process took about a month and a half.
Did You Know…?
Interest Payments on U.S. Debt:
In its The Budget and Economic Outlook report, the Congressional Budget Office said it projects the annual deficit for the United States will exceed $1 trillion after 2023 and reaching nearly $2.3 trillion by 2032. It projects spending and revenues will exceed the 50-year historical average with spending averaging 23.2% of GDP (in Q1 2022 GDP was $24.4 trillion) and revenues averaging 18.1% of GDP. Due to rising interest rates, the cost to service the federal debt (i.e. interest payments) is projected to rise 13% this year to $399 billion, or about 1.6% of GDP, before rising to $1.2 trillion by 2032, or about 3.3% of GDP.
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The Week Ahead
This week will be much busier as second quarter earnings season unofficially kicks off and as a series of economic data reports are released later in the week. Around 15 S&P 500 companies are set to report quarterly results this week. Notable reports include PepsiCo on Tuesday, Delta on Wednesday, then a wave of bank earnings the next several days including JPMorgan and Morgan Stanley on Thursday and Citigroup, PNC, and Wells Fargo on Friday, as well as non-banks Taiwan Semiconductor on Thursday, and United Health on Friday. Economic data reports won’t come until the second half of the week and include a couple important inflation readings – the consumer price index on Wednesday and the producer price index on Thursday. Economists expect the CPI to be up 1.1% in June and 8.8% from a year ago, a new multi-decade high. Also, the Beige Book is released Wednesday afternoon, jobless claims Thursday morning, and June retail sales, consumer sentiment, import and export prices, and several manufacturing readings on Friday. The retail sector will be in the spotlight as well as Amazon holds its Prime Day event, Target is holding a three day Deals Day event, and Macy’s and Best Buy are having a Black Friday in July sales event. In addition, there will be several more speeches from Fed officials. On the political side, President Biden will be traveling to the Middle East, including Saudi Arabia, where the speculation is he will push the oil producing nations to increase its output.