Updated: Aug 11, 2021
Employment Figures Provide an Unexpected Economic Fillip
What a difference a week makes. As we wrote then, employment indicators in the US were mixed: mostly moving in the right direction, but at a slower pace than anticipated. Then on Thursday we got a good reading on Initial Jobless Claims, as well as Continuing Jobless Claims. These figures, calculated by the Department of Labor, measure the number of Americans who are receiving unemployment benefits. Initial Claims is a leading economic indicator that is useful in evaluating where economies are in the business cycle. It registered 6% lower than forecast, or 385,000 new claims for unemployment benefits. The latter came in a full 10% below expectations at 326,000, a pandemic low, reflecting that some workers who had been receiving unemployment benefits no longer are. Then on Friday we received the employment data drop we had been awaiting: Non-farm Payrolls, compiled by the Bureau of Labor Statistics and measuring the change in the number of people employed from one month to the next. Jobs increased by 943,000, a whopping number. That beat expectations by 8%, and confirmed the economic expansion that we've been forecasting.
The unemployment rate fell to 5.4%, modestly beating estimates of 5.7%. The Labor Force Participation rate largely met expectations of 61.6% by coming in at 61.7%, meaning that, of all the Americans of working age, only about 62% are working or actively looking for work. Prior to the pandemic, this figure was about 63.4%, and hit a low of 60.2% during the pandemic.
So the continued increase means that workers are coming off the bench. Still, the lower supply of labor remains a concern, since the economy can't reach potential output without workers. Of course, the other side of the coin is that wages will have to rise to match the demand for labor with existing supply. That's good news for workers, as well as for a consumption-dominated economy. We saw this to an extent in a better-than-expected increase in Average Hourly Earnings and Average Weekly Hours.
General Price Level Watch!
In addition to productivity growth, inflation is one of the other two primary factors that govern the performance of investment portfolios. We discussed the current level of inflation a couple of weeks ago, writing that inflation measures were coming in hot, though they were dominated by rises in the price of goods and services that are not expected to persist (at least not by goodstead). While headline inflation numbers were high, they were highest for things that people couldn't make, ship or buy for the past year due to pandemic-related restrictions. Supply chain disruptions, labor shortages, higher input costs and shipping costs contributed to an increase in the general price level, while measures of core inflation showed a more pacific picture. Additionally, consumers and purchasing managers didn't seem to think that staggeringly high prices were just over the horizon, according to the Michigan survey of consumer sentiment, and the Institute for Supply Management's Purchasing Manager's Survey.
We'll get a read on the Consumer Price Index tomorrow, which we expect will show a slight pullback in headline inflation, as well as a pullback in core inflation. The Personal Consumption Expenditures index, the Federal Reserve's preferred measure of inflation, came in at 3.5%, slightly lower than the expected 3.7%, and only a bit higher than the previous month's 3.4%. Core PCE was .4%, lower than the estimated .6%, and lower than the previous month's .5%. The Federal Reserve Bank of Dallas, or Dallas Fed, prints an alternative version of Core PCE that is more statistically rigorous than the CPI's version. This measure came in at 2.3%, far less than the prior month's 3.1%, and indicative (we think) of the direction of the core general price level. But whether it is Core CPI or the trimmed PCE, both show that the hyperinflationary hellscape that some in the financial media have gotten their knickers in a twist about may fail to materialize. We don't like to make economic predictions, especially coming out of a world-historical event of this proportion, but if we were betting on the direction of inflation, we would likely trim our exposure to inflation assets.
The Problem with Success
The Federal Reserve has been throwing everything but the kitchen sink at the US economy throughout the pandemic to avoid a depression. The Fed has been employing this unconventional mechanism of monetary policy since the 2007-8 Global Financial Crisis (GFC), as its usual monetary policy tools--interest rate policy, bank reserve requirements and the discount window--proved insufficient to the scale of the disaster. While many know about the Fed's near-zero interest rate policy, fewer know about another mechanism of liquidity provision: the buying of financial assets. Under this program, the Fed bought the debt obligations of private corporations as a means of increasing liquidity and supporting asset prices. Given the strength of the economy, the Federal Reserve Board of Governors is now talking about talking about withdrawing this support ("tapering"), which as expected caused some ructions in the bond markets. Prices fell, yields dropped, and firms that didn't expect tapering to begin for some time yet were caught wrong-footed.
The other consequence of positive momentum in the economy is the expectation of coming interest rate increases. The interest rate, or r, is the price of money, and is the Federal Reserve Bank's primary tool for regulating economic activity. The Fed can typically raise it and lower it to slow down or speed up the economy. The problem is that the interest rate is near zero and has been since 2008. As such, the Fed can increase it, but cannot decrease it, as it has shown resistance to the European fashion of negative interest rates. Increases in the interest rate are bad for fixed coupon rate bonds, as the value of their future coupon payments and return of principal are no longer as valuable compared to new bonds issued at a higher interest rate. We're not sure when or if this will happen, but it has impacted bond values, especially long bonds with many years yet to run.
Lastly, we revisit one of our running storylines: the IPO and subsequent performance of Robinhood Markets, Inc. (HOOD), the NASDAQ-listed financial services firm that allows users to trade stocks and derivatives from their mobile phone, supposedly to "democratize finance for all."
After burning its retail investors in January due to its misunderstanding or negligence of broker-dealer requirements to hold sufficient cash in reserve to collateralize its users' option bets, and consequently saddling many of its users with terrific losses, the company settled regulatory cases by paying record-setting fines before going public last month. The stock failed to generate the institutional or retail appetite it had hoped, and priced at the lower end of its price range, devaluing the company and raising less cash to fund operations and corporate acquisitions.
The stock first languished below its issue price, and then shot up, doubling before precipitously falling back to earth and a weekly gain of over 50%. And then insiders--meaning, people who work at Robinhood, or serve on their board of directors--filed to sell a huge number of shares. These folks would typically be subject to lockups, meaning that they are not allowed to sell stock for a period of time after a listing. In the case of this IPO, Robinhood employees and other insiders were first in line to sell. The stock fell, and has been trending lower since.
Venture Firms often sell their shares in an IPO so that they can return capital to their investors, and then ask for that capital bank for their next fund. They're not long-term holders after an IPO. It is interesting that they decided to sell so quickly, before the first quarterly report that Robinhood will file. We at goodstead wonder if there's perhaps something that they know that the rest of the investing public doesn't. The one thing we can say about this company is that it always provides good turns of narrative. Unfortunately, what's good for entertainment is often inversely related to what's good for investors.