JLGutierrez
Why is the labor report so important?
The U.S. Bureau of Labor Statistics is set to release the labor market report for the month of October on Friday.
In fact, the Non-Farm Payrolls from the Establishment Survey, and the Unemployment rate from the Household Survey are released on the first Friday each month, which makes them the first monthly economic data released from the previous month. Thus, the combined labor market report essentially sets the tone for the rest of the month. That’s why the labor market report is the most important monthly economic data.
The expectations for October
The market consensus expectations for the month of October are as follows:
- The non-farm payrolls are expected to grow by 180K, which would be a slowdown from 336K new jobs created in September.
- The unemployment rate is expected to stay at 3.8%.
Thus, the labor market is still expected to stay very tight given the low unemployment rate at 3.8%, which matches the Fed’s estimate for 2023. Note, the Fed currently expects only a slight increase in the unemployment rate in 2024 to 4.1%, given the labor market shortage.
However, the new job creation from the payrolls is expected to slow down from September’s 336K surprise boost, but still keep the healthy pace of job creation at 180K new jobs. Note, each job created, when multiplied by an average wage, estimates the additional demand for goods and services. Thus, the rest of the monthly data is likely to follow the lead, especially the consumption data, and thus, the GDP data.
Note, the unemployment rate and the payrolls are both lagging indicators, thus not always useful for stock market forecasting. However, there are leading labor market indicators included in the report.
Specifically, the average weekly hours worked is a leading indicator, given the hypothesis that the employers first cut the number of hours worked before reducing the headcount. The average weekly hours for October are expected at 34.4, matching the September number, thus, not predicting a weakening job market for the rest of the year.
Average hourly earnings are an important inflationary indicator, given the hypothesis that higher wages translate into higher prices. The monthly rate of increase in wages is expected to be 0.3%, which is above the 0.2% in September, and could signal inflationary pressures in a tight labor market. However, the annual pace of wage growth is expected to slow to 4%, down from 4.2% in September, and the lowest in this inflationary cycle, down from 6% in 2022, and not too far from the mid 3% wage growth pre-pandemic level.
So, what do we get from the labor report? Expectations are for a gradually slowing job creation with a gradually easing wage growth inflationary pressure. In other words, a gradual return to normalcy.
Trading Economics
So, that’s what data is showing and expected to show. However, note, the US labor market is expected to remain tight longer term due to demographics (aging population) and onshoring (de-globalization). Thus, the inflationary pressures from the labor market will remain very strong and the risk of inflationary wage-price spiral will remain very high, especially due to the recent trend of unionization and strikes.
Implications for the stock market
The stock market (SP500) is at a 10% correction from the July 31st high. The correction has been caused by the increase in 10Y Treasury Bond yields, and specifically the real rates. The 10Y yields spiked from 4% in late July to 5% on October 19th – that’s a major move, and a 5% yield is an attractive alternative to risky equities.
More importantly, the rise in 10Y yields triggered a PE multiple contraction, particularly in overvalued big tech, which is heavily weighted in S&P500. Thus, the recent selloff was mostly a PE contraction theme due to rising yields.
However, if the rise in 10Y yields has topped at 5%, the current selloff is likely finished. So, what’s the next move – up or down?
The chart below shows that the recent selloff in S&P500 has stopped exactly at the key long-term support 200wma, which was the key resistance in June that led to the summer rally given the breakout.
Thus, the next move will be either 1) a major breakdown of the 200wma support, which is likely to take the S&P500 down to the next support at 3956 100wma level, or 2) a bounce back towards the previous highs until the next fundamental trigger.
Barchart 
The possibility of a breakdown
The breakdown to the next support level, and possibly lower, has to be triggered by the earnings downgrade due to a recession, and even further by the credit event.
Given the labor market data, an imminent recession is not likely – not this quarter Q4 2023. The recession will keep getting delayed as long as the labor market stays strong.
The yield curve has been inverted since October of 2022, which suggests that the recession should be near, but until the evidence of weakening job market data emerges, the recession is not a theme.
Further, the credit event usually follows a deep recession, thus, given that the recession keeps getting delayed, the credit event keeps getting delayed as well. In this case, the credit event will likely be related to the commercial real estate (XLRE) and vulnerable regional banks (KRE).
Thus, the breakdown at this point is unlikely.
The possibility of the bounce: year-end-rally
The labor market is gradually weakening, but not weakening enough to be recessionary. Thus, this could start looking like a soft landing, as the weakening data will likely keep the yields from breaking the 5% level, and thus support the bounce in stocks in a relief year-end-rally.
However, in my opinion the appearance of soft landing will eventually turn into a hard landing and a deep recession. Thus, any bounce in stocks is for traders, not for long term investors.
Other risks
Other than the labor market data, and the “temporary soft-landing” scenario, there are other risks.
Given the geopolitical situation in Middle East, the probability of a spike in oil (USO) is very high. This could force the Fed to further hike, and also cause a spike on 10Y yields above 5%, and actually trigger a recession, with a credit event.
Also, the US is facing a shutdown on November 17th. Given the new leadership in the House of Representatives, it’s difficult to see a compromise that will keep the government open. How will this affect the broad financial markets (TLT) (UUP), and specifically the 10Y yields? We’ll see.
Thus, I covered my short positions, and I am still waiting to either reshort at the higher level, or reshort the breakdown. As a trader I might even go long for a very short term trade. As an investor, I prefer short term TBills, up to 12 months in maturity.
