Recession versus soft landing – think the economic equivalent of Captain Sully’s landing of airline on Hudson River – has been a much-debated topic lately and Friday’s jobs report for July probably created more questions than answers. A whopping 528K nonfarm payrolls were created last month, dwarfing estimates for 250K, and this was historic for a couple reasons. First, the US labor market has officially returned to pre-pandemic peak employment levels (see chart below). Second, the unemployment rate unexpectedly fell to 3.5%, which is tied for the lowest level since May 1969.
As a result, investors find themselves in a very unusual position. On one hand, there has been a litany of other economic data ranging from housing, consumer sentiment, manufacturing surveys, etc. that show clear deceleration in the economy. For example, two weeks ago the Q2 GDP came in negative for the second consecutive quarter, and since 1947 there have been 29 such instances of back-to-back negative quarterly GDP readings, every one of them coinciding with recession (per research from Compound Capital). On the other hand, the US labor market just tied its lowest unemployment rate in 53 years and has added almost 3.3M jobs so far in 2022. Of the 17 previous times the US economy produced over 3M jobs in a calendar year, none coincided with a recession and only once did the following year (1973) fall into recession (per data from Carson Group). One thing is for certain though, Friday’s jobs report will almost certainly embolden the Federal Reserve to keep tightening and markets are now pricing in another 75-basis point rate hike after the next FOMC meeting on September 21st.
While this week’s market action was relatively tame, we anticipate a return of market volatility next week, as August 10th will feature a much-anticipated consumer price index (CPI) report for July. The S&P 500 has bounced roughly 13% from its June lows as investors are largely betting that a broad pullback in commodity prices will translate to a meaningfully softer CPI print than June’s 9.1%, the highest since 1981. For example, the national average for gas prices has fallen for 52 consecutive days to around $4.11 and a barrel of WTI crude oil has fallen below $90 for the first time since February. Therefore, we understand why investors have increasingly positioned themselves for a deceleration in inflation and certainly believe another leg higher is possible, should Wednesday morning’s CPI report cooperate. However, if investors are surprised by another hot inflation print, buckle up.
Ian G. Browning, CFA
Managing Director, Investment Strategies | Shareholder
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