Investors Cheer Wage Data, While Fears of a Hard Landing Grow

Brent Schutte, CFA, is chief investment officer of the Northwestern Mutual Wealth Management Company.

We’re starting the new week watching the news out of Israel. First and foremost, these tragic events have a very real human impact that we would be remiss not to mention. The situation is also already having an impact on markets and could act as a growing headwind, particularly if it spreads. We will be watching the situation and its potential impact on markets closely.

The news out of Israel follows a week when the major equity indices finished the week mostly higher despite rising bond yields and investors growing increasingly concerned that the Federal Reserve may leave interest rates higher for longer in the face of an economy that is showing unexpected resilience. The S&P 500 and NASDAQ each posted gains for the week while the Dow Jones Industrial Average gave up ground. The major indices were each down for the week until a late Friday rally that may have been stoked by investors’ reactions to the latest data that showed wage gains eased in September and were lower than consensus estimates, and the unemployment rate was unchanged at 3.8 percent.

The latest Nonfarm payroll report from the Bureau of Labor Statistics showed that average hourly earnings for production and non-supervisory employees rose by 0.2 percent in September, unchanged from the pace registered last month. On a year-over-year basis, wages are up 4.3 percent. While the pace of wage growth has eased significantly from its post-COVID peak of 7 percent recorded in March 2022, it remains well above the 3.25 to 3.5 percent pace that New York Fed President John Williams has identified as consistent with the Fed’s stated goal of 2 percent annual inflation.

Indeed, other data in the Nonfarm payroll report suggests that demand for workers remains robust, and further significant progress in reining in payrolls may be challenging. The latest figures show an estimated 336,000 new jobs added in September, nearly double the consensus estimate of 170,000. Additionally, readings from July and August were revised upward by a total of 119,000. The Nonfarm report came on the heels of the Bureau of Labor Statistics (BLS) Job Openings and Labor Turnover Survey released earlier last week that showed the number of new positions created in August rose by 690,000 from July’s upwardly revised reading, resulting in 9.6 million unfilled positions, well above consensus Wall Street estimates of 8.8 million. The vast majority of the new positions (509,000) were in professional and business services. The latest reading reverses the trend of three consecutive months of declines. The so-called “quits” rate, which is viewed as a proxy for the level of confidence employees feel about the job market, came in at 2.3 percent, unchanged from July’s reading and tied for the lowest level since January 2021. For further context, the latest level of quits is equal to that seen in February 2020, prior to the arrival of COVID. The industries that saw the greatest decrease in quits were on the services side of the economy, including accommodation and food services and finance and insurance.

Despite several economic reports that point to easing demand throughout much of the economy, the continued strength of the job market is likely to be seen as vexing for members of the Federal Reserve who see elevated wages caused by labor demand outstripping supply as a remaining hotspot that could reignite upward price pressures. As such, we believe members of the Federal Open Markets Committee, which sets rate policy, will continue to put more emphasis on securing stable price growth and be less concerned in the near term about a rise in unemployment. Unfortunately, given that the labor market is typically a lagging indicator of economic activity, we believe the Fed faces an uphill battle in seeing wages reach a sustainable rate of growth before the economy begins to contract. Indeed, forward-looking indicators, such as temporary help employees often used to fill in gaps in a tight labor market, declined by 4,200 positions in September to 2.94 million and are well below the high recorded in March 2022 of 3.18 million. Historically, when this indicator shows declines on a year-over-year basis, unemployment has risen going forward. As such, we have not strayed from our baseline expectation that a recession is likely in the coming quarters. However, with current inflation continuing to recede and inflation expectations in line with historic norms, we believe the Fed should be able to pivot quickly to stem a potential economic contraction once the employment picture softens and wage growth is tamed.

Wall Street Wrap

While much of Wall Street’s focus last week was on the employment data, other reports pointed to an uneven economy in which growth was slowing or still treading water.

Manufacturing weak but stabilizing: The latest data from the Institute for Supply Management (ISM) shows the manufacturing sector notched an eleventh consecutive month in contractionary territory, but the decline showed signs of slowing. The composite reading for the index came in at 49, up from August’s reading of 47.6 (readings below 50 signal contraction). New orders improved but remained in contractionary territory at 49.2, up 2.4 points from the prior month. Backlogs remained weak at 42.4, down from the prior reading of 44.1. Employment moved into expansion territory at 51.2. Prices paid also declined, with the latest reading coming in at 53.8, down from last month’s level of 48.4. While the data in total indicates manufacturing continues to struggle, the latest composite reading is the highest since November 2022 and continues a trend of stabilizing readings over the past two months. In a statement accompanying the latest report, Tim Fiore, Chair of the ISM, noted, “Companies are still managing outputs appropriately as order softness continues, but the month-over-month Purchasing Manager’s Index improvement in September is a clear positive.”

Growth in services sector slows: ISM data for the services side of the economy showed that the pace of expansion slowed, with September’s headline reading for the sector coming in at 53.6, down from 54.5 in August (readings above 50 signal expansion). New orders fell to 51.8, a decrease of 5.7 points from the prior month’s reading of 57.5. For further context, the new orders reading has been lower only once (December 2022) since May 2020. Additionally, the last time the new orders reading was this low prior to the beginning of COVID was in 2013. Inventory sentiment came in at 54.8, suggesting inventory levels were too high; however, the latest reading was 6.7 points lower than last month, suggesting that inventories are becoming more in line with demand.

The latest measure of prices, at 58.9, was unchanged from the prior month. Hiring was still strong but inched lower to 53.4 from August’s reading of 54.7.

Jobless claims hold steady: Weekly jobless claims were 207,000, up 2,000 from last week’s upwardly revised figure. The four-week rolling average of new jobless claims came in at 208,750, down 2,500 from the previous week’s revised average. Continuing claims (those people remaining on unemployment benefits) were 1.66 million, a decrease of 1,000 from the previous week.

The week ahead

Monday: The Conference Board will release its latest Employment Trend Index. The index is a leading indicator of the relative strength of the employment picture going forward. Last month’s reading showed a decline, and we will be watching for any further signs that point to additional slack in the job market going forward.

Tuesday: The National Federation of Independent Business Small Business Optimism Index readings for September will be out before the opening bell. The report should provide insights about the state of the labor market for small companies and expectations related to price increases at the consumer level in the months ahead. Recent survey results have shown that fears of ongoing price pressures have continued to weigh on the minds of small business owners, and we will be looking for any change in that trend. We will also focus on price changes and plans to raise prices as well as expectations of raising wages.

Wednesday: The latest readings from the BLS on its Producer Prices Index will offer a front-line view of changes in costs for buyers of finished goods. It can provide insights into the direction of input costs faced by business and can indicate how prices may move at the consumer level in the future.

Wednesday offers a look at the minutes from the most recent meeting of the Federal Reserve board. We’ll be looking for comments related to forecasts on unemployment and economic growth for the remainder of the year and into 2024.

Thursday: The Consumer Price Index report from the BLS will be the big report for the week. Data continues to show progress in the disinflationary process; however, progress has slowed in recent months. We will be dissecting the data to see if the pace of improvement has continued to ease.

Initial and continuing jobless claims will be announced before the market opens. Initial filings were up modestly last week, and we will continue to monitor this report for signs of changes in the strength of the employment picture.

Friday: The University of Michigan will release its preliminary report on October consumer sentiment and inflation expectations. We will be watching the report for signs that respondents’ expectations in the coming year and, more importantly, five- to 10-year period remain well anchored.

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