May 8, 2020

When Bad is Good

Total nonfarm payroll employment fell by 20.5 million in April, the unemployment rate rose to 14.7%
The changes in these measures reflect the effects of the coronavirus (COVID-19) pandemic and efforts to contain it. Employment fell sharply in all major industry sectors, with particularly heavy job losses in leisure and hospitality.
-U.S. Bureau of Labor Statistics (Today) 

Its hard to imaging the impact on lives of real people when the average growth of monthly payrolls has been around +150K and in one month reverses by over 20 million. However, most forecasts were coming out over the week suggesting between 21 and 22 million losses in Nonfarm Payrolls and an unemployment Rate of 16 to17%. And while the difference seems negligible it ignores the reality that this jobs report for April is the worst in American history. So as the markets continued to rise with the Nasdaq finishing the week up nearly 2% for the year, is this logical given the state of the economy? It doesn’t have to be, but in my opinion the focus of the broad markets is twofold, what will the changed economy look like (think big tech) and when will the pandemic end (think vaccine). The latter being the one unknown that investors are clearly hanging their near term hopes on while the pundits are focused on the present and are happy to interpret any data to please their inner pessimist. It’s a genuine battle and its not so much who will win, but what is the best way to stay ahead and what are the expected impacts that may not hurt the market, but nonetheless affect it.

The first thing I look for when analyzing the economic horizon, is what’s absent from the current economy. For ten years much has been written connecting the $800 Billion dollar TARP stimulus package and the potential for inflation. Admittedly, including myself, this made little sense since the stimulus was targeted to bail out financial institutions and the repercussions for that action helped to sideline what could have been a worse recession that effected many of the same corporate entities that are effected today. The important difference however is that recession was the outcome of the failure of the banking system, this recession is lockdown mandated by the government and the stimulus is over $2 Trillion Dollars and growing.  A mandate that forced companies large and small to close their business at the expense of temporarily or permanently terminating workers and while millions adapted to working from home, everyone had to be home and the ensuing run on food and other essential markets created shortages that have recently included the meat industry. This is an important distinction because for March the Commerce Department reported that wholesale inventories dropped 0.8%, the most since September 2011 and given the current slump in import growth suggests the depletion in inventories could continue for the next several months. The question then becomes what do companies that are slowly opening back up do to help make up loses and the answer is possibly raise prices. It would come as no surprise as many of us have noticed the disappearing specials at grocery stores and to help catch up it could mean incremental price hikes from every consumer and leisure company large and small. Only industries such as Aviation and Energy could see a commensurate flattening of prices.

It’s unusually hard for many of the more familiar issues such as trade tension and political infighting to gain more media attention than the pandemic, and I find that a relief. In fact, with most noise emanating from Washington the only sound waiting to be heard is the next stimulus package and what sector of the economy it will target. My opinions lie with infrastructure as the new employment generator, but there is a myriad of targets, some less specific. For example, the Administration has been calling for a cut in payroll tax as a means to help both furloughed employees and the companies they work for. The pros and cons to this appear to lie in disruption to support for Social Security and Medicare. But on the other side, a temporary payroll cut was initiated in 2010 as part of a stimulus package, so if temporary, it will put more capital in the hands of workers and that’s good for the economy, good for the market. Another idea from the Hill concerns an adjustment to the capital gains tax rate. In my opinion this makes less sense. Besides helping those for whom the recent run up in Tech stocks have produced substantial gains, the cut could also motivate some unexpected profit taking in the sector. This is worth noting because as the NASDAQ is up on the year, the S&P 500 and The Dow are both down 14.4% and 9.4% respectively. If that’s the outcome, the underperforming sectors could see some light, albeit at a cost, but tech could present us with an opportunity to initiate as well.

It was widely expected that today's report was going to be terrible, the only question was how terrible. So, as it turned out the data was less than expected, but hardy a reason to cheer. It can’t be dismissed that the next few months are going to be volatile even if this payroll loss was probably the largest, we’ll see during the recession. Job loss will improve as the economy opens, but how many are rehired remains open and since that outcome would result in a drop in the overall participation rate, I wouldn’t be surprised to see the unemployment rate increase further.  A lot of data to gather and analyze and we’ll have to see how that fits the ongoing strategy.