There is a lot of trepidation about markets in September. The seasonals worry investors (one of the toughest months), coupled with midterm election uncertainties (not resolved until November) and the painful three-week downtrend in stocks adding to the misery.
Stocks are approaching the “no bid” situation seen in June 2022. In investor conversation after conversation, many tell us they see little upside in stocks because:
- Fed just told us the bar is pretty high before they consider a pivot
- Inflation needs to make considerable progress towards “2%” range
- Labor markets are still tight, so further economic slowing needed
- Europe is about to enter a recession
- China zero-COVID wreaking havoc
- Russia still toying with global energy supplies
- Above all, earnings are set to fall (by unknown magnitude)
This is a considerable list of concerns. And we are not blind to these issues. But the first 3 really matter most to US equities. Europe’s economic trajectory is uncertain, but economic weakness there primarily transmits to the US as lower inflation. Similarly, China’s situation has mixed impact by impacting the supply chain, but the suppression of demand is also disinflationary.
The BLS will release August payrolls on Friday. And given the above list of concerns, investors want a downside reading:
- consensus looking for 300k and +0.4% avg hourly earnings growth MoM
- bad news is good news
- as investors prefer to see labor slowing
- which gets Fed closer to its goals
JOLTS ILLUSION: Is remote work creating same job posting in multiple cities?
Payrolls have been growing solidly in 2022, and the robustness of the labor market has been surprising, given the collective slowdown seen across the economy. And this of course, is the reason for the Fed to take further action.
- the July JOLTS (released 8/30) showed job openings rose to 11.2 million
- markets were alarmed by the rise in job openings, as this is counter to what the Fed wants to see
- a well regarded economist, suggests this high level of opening might be illusory
- he notes (below) that because of remote work, a job can be posted in multiple cities
- while JOLTS attempts to isolate this, by surveying companies (random sample), we wonder how well this is filtered
Here is an example of a series of job postings by TTEC from indeed.com. There are multiple listings for this particular job:
- it is posted in multiple localities
- and it is listed as a “remote USA” position
- what we don’t know if this type of multiple listing is a meaningful share of the job openings overall
And there are even Reddit.com users asking about these multiple positings. As they see a job listed in different cities.
WHERE IS EVERYBODY? Employed to population ratio still 120bp, 3.7 million fewer employed vs pre-pandemic
There are many who cite total employed Americans is back to pre-pandemic levels. But this ignores the population of Americans age 16-plus has risen 6.4 million since the end of 2019:
- Since end of 2019 to now
- Increase in US population age 16-plus +6.4 million
- Increase US employed age 16-plus +0.0 million
- Employed to population now 60.0% vs 61.2% end of 2019
As seen below, the employed to population ratio has stalled. This is what is creating the tight labor market. As noted above, this would represent 6.4 million additional workers if the ratio was back to its 2019 levels. Why this is happening has multiple explanations from pandemic disability, early retirements, etc.
- But this shows the US ultimately has sufficient “theoretical” labor supply
- and if participation rate recovered
- labor conditions would not be so tight
ISM PRICES FALLING LIKE A ROCK: This could portend PPI falling to 0% in a few months
But labor is not the only issue the Fed is grappling with. The equal foe is inflation.
The August ISM Manufacturing had a big surprise on the prices component. (ISM is a diffusion index where respondents provide one of 3 answers, higher, lower, same and this is leveled at 50).
- the “prices paid” component was a downside 52.5 vs 55.3 consensus and 60.0 last month
- this figure has fallen like a rock in the past few months to the lowest reading since July 2020
- this is also below the 70-year average value of 62.3
ISM Prices tends to lead PPI…0% PPI?
Not surprisingly, there is a relationship between ISM “prices paid” and the Producers Price Index (PPI). Take a look below:
- this chart shows the last 25 years, or since 1997
- ISM prices paid and PPI are closely linked
- and this drop in ISM prices paid suggests a sharp drop in PPI is coming
- PPI for July was 15.5%
- but this could fall towards 0% in the next few months?
- that is inflation “falling like a rock”
Regional PMIs show prices are falling…
The message from regional PMIs point to this same trend. So this is not some mathematical fluke.
OIL WAY BELOW CONSENSUS FORECASTS: Another major development is the breakdown in oil
Oil prices fell further this week towards $86 and now well below the pre-Russia-Ukraine price of $92:
- oil is now falling at the fastest pace in 2022 as shown by 3m rolling change (lower chart)
- oil is within reach of falling to start of 2022 levels, or no gain for 2022
- rising energy prices has been a major driver of the rise in CPI and core services
- this breakdown would amplify the “disinflation” tailwinds
Oil was expected to hit $140 or higher this summer due to “peak demand” not crash to $86
Take a look at the CNN article from early June 2022. This is typical of many stories in early June:
- Wall Street warned that oil would rise to $140 or more by September
- due to summer peak demand
- along with Russia-Ukraine war
- we are at September now
- war is still ongoing
- we are past peak driving season
- yet oil is $86
Why matter? Due to business expansion, inflation and expectations, a lot of forecasts on oil price were around $140. The point of this is:
- all those proclaiming high inflation into 2023 and beyond
- and the idea of inflation would be sticky and work its way through
- was based upon oil rising to $140 or higher
- recall, these forecasts were made in June 2022… we are now in September
- by contrast, inflation-swap markets show far less inflation into 2023 and beyond
- yet many economists carry far higher inflation forecasts
August CPI: Gasoline could subtract -0.60% MoM from CPI
Additionally, when August CPI is released on 9/13. And the US actually saw deflation in July CPI, aided by gasoline which subtracted -0.40% MoM.
- the latest analysis by our data science team, led by tireless Ken
- shows gasoline is set to subtract -0.60% MoM from August CPI
- this is above the -0.40% MoM impact in July
- this would strengthen the “disinflation” view
Further declines in gasoline should also lower consumer inflation expectations
And perhaps most importantly, this should help contain consumer inflation expectations.
- pushing down consumer inflation expectations is key to fighting inflation
- U Mich shows that gasoline is a huge influence on consumer expectations for prices
- this drop in gasoline
- suggests that in the near term, there could be another 100bp drop in consumer price expectations to 3.8% or lower from 4.8%
This would bring consumer price expectations closer to the long-term average of 3.1% and more closely achieve the Fed target. As shown below:
- the 20-year avg of 1-yr inflation is 3.1%
- falling to 3.8% is approaching this target
- and far better than 6% a few months ago
- 5-10 year inflation expectations remain anchored at 2.9%
- this is close to the 20-year average of 2.8%
STRATEGY: 2H rally view intact
Given the list of market worries above, the natural question is how is there a positive thesis on equities into 2H2022? Here is our take:
- our continuing analysis shows leading indicators point to disinflationary/deflation
- US corporates remain impressively resilient, enduring the pandemic global shutdown with cost discipline
- and US corporates are weathering the inflation surge impressively as well
- the US economy has managed to absorb rapid Fed rate hikes so far
- and US economic relative positioning far stronger in 2022
- US net beneficiary of higher energy prices, absolute and relative (US exports oil)
- US is on-shoring assets = future competitive advantage
- US has labor issues, but this will be solved by either automation or rise in workforce participation
- investor sentiment is rock bottom and worse than GFC by some metrics
- fixed income markets show far less inflation in swaps, etc
- and while many believe “bonds are getting it wrong” including Fed officials
- the drop in energy and housing and other indicators are supportive of this lower inflation outlook
- hence, Fed could do far less tightening as the market is doing Fed’s work
Bottom line. We see 2H rally thesis intact.