By Jeff Weniger, CFA
Head of equity strategy
It’s good when the unemployment rate is low, right? Of course it is. The problem is that extremely low unemployment often comes at the end of the good times, not the beginning.
It’s a bit counter-intuitive. Intuition would say that abundant jobs should probably be good for capital returns. The problem is that unemployment rates below 4% often indicate an overheated economy. Even a half-point back up from such extreme lows is often sufficient to identify a recession. We only have a sample of four people, but that’s what happened in 1957, 1968, 2000, and 2020 (Figure 1).
Figure 1: If the unemployment rate increases by half a point from below 4%, the probability of a recession increases
The last three unemployment reports were at 3.6%, and as far as I know, maybe the next ones will be even lower.
But what if they don’t?
After all, I can’t just condone a series of outright hiring freezes or layoffs that were recently announced at Tesla, Salesforce, Uber, Snap, Meta, Facebook parent, Instacart, Coinbase, Gemini and Microsoft, among others. To be fair, the hiring plans of Fidelity, Ford, Subway and JP Morgan indicate that there are also large companies actively hiring at the moment.
The summer kicked off with the long-awaited Job Openings and Labor Turnover Survey (JOLTS), which reported – again – more than 11 million job openings in the United States. Subtract the number of unemployed, and the result is extraordinary (Figure 2). However, take out a microscope and note that it may have peaked this spring. Inflection points matter.
Figure 2: US job openings minus the number of unemployed
The 390,000 jobs created in May represented a solid report, a sigh of relief for a country struggling with stubbornly high gas prices and $7 Cheerios. Many on the street, myself included, were preparing for a disappointment that did not materialize.
There are a few positive omens that might give the system a bit of a boost.
On the one hand, China has finally let millions of people out of their apartments. For closed factories, that means activity went from zero to normal with the flick of a switch. Not a moment too soon for the disaster that lingers in the global supply chain.
OPEC had also been increasing oil supply by an additional 400,000 barrels per day with each passing month, but the cartel recently announced it would increase that figure to an additional 650,000 barrels per day. It’s much needed considering the $6 to $7 per gallon drivers pay for gas in our most populous state, California. Where I am in Illinois, the dreaded “6-handle” has hit many gas stations.
But OPEC’s supply increase may be too low, too late.
In four of the last five serious dives in the Michigan Consumer Confidence Index, the economy was in or heading for a recession. This makes me think that the next unemployment stop is 4%, not 3%.
Figure 3: University of Michigan Consumer Confidence Index
Here is another troubling metric: the National Federation of Independent Businesses (NFIB) sales prospect survey question. The ranks of small businesses that anticipate a drop in sales over the next six months continue to grow.
Figure 4: NFIB sales
This calls into question whether an unemployment rate of 3.6% is a “good” thing for what we are trying to do, which is to make money in the stock market. Not if you think an unemployment rate below 4% means we’re on the edge of a precipice.
I think it’s safe to say that the market has been forecasting an economic slowdown and/or recession all year. Beneficiaries have been clues such as the S&P 500 High Dividend and the S&P 500 High dividend Low volatilityin stark contrast to the other side of the coin: the S&P 500 Pure Growth (figure 5).
Figure 5: YTD return, S&P 500 factor indexes
I suspect these forces will remain key drivers, not least because I don’t think the street fully appreciates the risks that could arise in both housing and the labor market. Given that the market will have to spend this summer, and possibly beyond, digesting some unpleasant surprises on both fronts, it seems to me that a “stay the course” view makes the most sense.
This means low volatility and high dividend concepts instead of trying to be a hero in growth stocks.
Originally published by WisdomTree on June 21, 2022.
For more news, insights and strategy visit the Modern Alpha Channel.
US investors only: click on here to obtain a WisdomTree ETF prospectus which contains investment objectives, risks, charges, expenses and other information; read and think carefully before investing.
There are risks associated with investing, including possible loss of capital. Foreign investment involves monetary, political and economic risks. Funds that focus on a single country, sector and/or funds that focus on investing in smaller companies may experience greater price volatility. Investments in emerging markets, currencies, fixed income securities and alternative investments entail additional risks. Please see the prospectus for a discussion of the risks.
Past performance does not represent future results. This document contains the views of the author, which are subject to change, and should not be considered or construed as a recommendation to participate in any particular trading strategy, or considered an offer or sale of any investment product. and it should not be invoked as such. There is no guarantee that the strategies discussed will work in all market conditions. This material represents an assessment of the market environment at a specific time and is not intended to be a prediction of future events or a guarantee of future results. This material should not be viewed as research or investment advice regarding any particular security. The user of this information assumes the entire risk of any use made of the information provided herein. Neither WisdomTree nor its affiliates, nor Foreside Fund Services, LLC or its affiliates provide tax or legal advice. Investors seeking tax or legal advice should consult their tax or legal advisor. Unless expressly stated otherwise, the opinions, interpretations or conclusions expressed herein do not necessarily represent the views of WisdomTree or any of its affiliates.
MSCI information may only be used for your internal use, may not be reproduced or redistributed in any form, and may not be used as the basis or component of any financial instrument, product or index. None of the MSCI information is intended to constitute investment advice or a recommendation to make (or refrain from making) any type of investment decision and may not be relied upon as such. Historical data and analysis should not be taken as an indication or guarantee of any analysis, forecast or prediction of future performance. MSCI information is provided “as is” and the user of this information assumes full responsibility for any use made of this information. MSCI, each of its affiliates and each entity involved in compiling, calculating or creating any MSCI Information (collectively, the “MSCI Parties”) expressly disclaims all warranties. With respect to this information, in no event shall any MSCI party be liable for any direct, indirect, special, incidental, punitive, consequential (including lost profits) or other damages (www.msci.com)
Jonathan Steinberg, Jeremy Schwartz, Rick Harper, Christopher Gannatti, Bradley Krom, Tripp Zimmerman, Michael Barrer, Anita Rausch, Kevin Flanagan, Brendan Loftus, Joseph Tenaglia, Jeff Weniger, Matt Wagner, Alejandro Saltiel, Ryan Krystopowicz, Kara Marciscano, Jianing Wu and Brian Manby are registered representatives of Foreside Fund Services, LLC.
WisdomTree funds are distributed by Foreside Fund Services, LLC, in the United States only.
You cannot invest directly in an index.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.