US Labour Report Lays an Egg

While there was a lot of good news from the US last week, a lousy employment report overshadowed every other piece of data. Unfortunately, the potential for a strong employment rate was well hyped before the announcement, so the setback was doubly disappointing to the market on Friday when reality couldn't match the hype.

The market will probably take some time to grieve over the numbers. However, the jobs report is a highly volatile series subject to large swings and sometimes revisions. A lot of other employment reports, including the employment sections of the ISM purchasing managers' report, the Monster Index of online employment, and the Challenger, Gray & Christmas layoffs report, all paint a somewhat brighter picture of employment.

Before everyone jumps off a bridge, employment did actually register an increase. Furthermore, other sections of the report including wages and hours showed pretty dramatic improvement. News was still good last week out of the manufacturing sector, while same-store retail reports were mildly disappointing.

Private Sector Employment Growth Slows
April unemployment was disappointing, as private sector payrolls grew by just 41,000 people in May versus growth of 218,000 in April and 158,000 in March. Based on strong survey data from both regional and national purchasing manager reports, I had forecast that employment growth in May should have easily been as strong as May's 218,000. In retrospect, weather and where various holidays fell on the calendar served to inflate March and April results more than I suspected. I dismissed the weather aspect earlier. As a resident of the area I can tell you April in Chicago was a much cooler month than March, yet nationwide employment was actually better in April, so I dismissed the weather theory without a lot of additional research. Then May (especially mid-May, when the employment survey was taken) was unseasonably cool and wet across much of the US. This tended to depress some retail sales, construction, and some leisure activities, which in turn depressed employment in these sectors. If I average the last three months of data, it now looks to me like baseline monthly employment gains are probably at the level of 140,000 per month. Based on continuing strength in manufacturing--which I think will eventually spread to the service sector--I continue to believe that private payroll growth of 200,000-300,000 is still in the cards in the relatively near future.

Headline Employment Grew 431,000 People
I suppose the good news is that when I combine meagre private sector gains, very modest government job losses, and 411,000 temporary census jobs, the total employment report showed robust growth of 431,000 people. Even though the census jobs are temporary, and don't pay very well, they should nevertheless boost consumer spending, possibly priming the economic pump, much the way the Cash for Clunkers programme helped get the auto industry up and running last summer. Unfortunately, some of those census jobs could disappear as early as the June report.

Silver Linings: Growth in Hours Worked and Hourly Wages Offset Weak Job Gains
The other good news in the report is that both hours worked and wages per hour increased nicely compared with the prior month. These hours worked and hourly wage rates are equally important, or perhaps even more important, in driving total consumer wage income, which in turn drives consumer spending. With a $0.07 increase, the hourly wage number turned in one of the best performances of this recovery. In fact, one of the mysteries of this jobs report (which might eventually result in an upward revision of the employment number) is how could wages move up in a relatively dramatic fashion even as employment appeared to slow? Hours worked were also up nicely, registering the third monthly increase in a row. Adding it all up, the factors driving total wage income jumped 0.64% (or over 7% annualised) for May, its best performance this recovery. The trend here is highly positive, with three strong reports in a row.

The unemployment rate also fell to 9.7% from 9.9%. Unfortunately, part of that decline was because a greater number of people left the work force this month, offsetting a relatively high number of job seekers that entered the work force the previous month.

ISM Purchasing Managers Report Better than Expected
The news earlier in the week was generally better than Friday's disappointing employment report. On Monday the ISM Purchasing Managers report showed a small decrease to 59.7 versus 60.4 the prior month and an expectation of 59.0. A reading of 59.7 is still historically high and in strong growth mode. Any reading over 50 means more manufacturers are seeing growth than seeing declines. It still represents the second-highest reading of this recovery. More importantly, the most influential and early leading components of the index remained in very strong growth mode according to Eric Landry, the head of our industrial team. New orders remained exceptionally strong at 65.7, while backlogs increased 2 points to a reading of 59.5. Improvement in these two indices bodes well for the months ahead. Interestingly, the export index increased to 62.2, indicating Europe's malaise has not driven down total worldwide exports just yet. Declines in two inventory metrics were largely responsible for the drop in the overall PMI. Declines in inventory are rated as a negative factor in the PMI because it is viewed as manufacturers' unwillingness to hold more goods. However, my view is that lower inventories are a result of production still not having caught up with demand, which I believe will be a big positive in the months ahead.

Manufacturers Still Raising Guidance
The anecdotal evidence for the manufacturing sector also remained positive last week. Both Danaher, a broad-based diversified manufacturer, and Joy Global, a worldwide mining company, both raised earnings and revenue forecasts for the year. In the case of Danaher, growth estimates were raised from mid- to high single digits to a double-digit rate. Joy raised revenue expectations from $2.8 billion-$3.0 billion to a much more optimistic $3.3 billion-$3.4 billion. The auto industry also reported better-than-expected sales for May at 11.6 million units, a nice boost from 11.2 million units the prior month. Better sales should eventually turn into better production. Thus far, manufacturing, one of the more export-dependent sectors, appears to be holding up very well, even in the face of a weakening European situation.

Retailers Still Sluggish
Despite decent income growth in May, individual same-store retail sales growth was a modest 2.5%. The results were better than April's results, which were disadvantaged by an early Easter, but still well below the outstanding results reported for March. The combination of a weak stock market and bad news from Europe seems to be holding back consumer spending despite improving incomes and employment. The good news is that with higher incomes, it is highly likely that spending will eventually follow suit. A late Memorial Day also probably took a percent or two out of May results that may show up in June.

Pending Home Sales Report Portends Another Strong Month of Housing Sales in May
News from the real estate sector was also positive last week, with a decent increase in pending home sales. Our housing analyst Eric Landry summarised the data as follows:

"As expected, the pending expiration of the federal tax credit had buyers rushing to the negotiating table in April. The April pending home sales index was up 22% year over year, just slightly lower that March's 23% annual gain. Because it measures activity at contract signing, the index is highly correlated to existing home sales in the following month. As a result, May is sure to be another big month. Investors should look for total existing home sales in May to be in the 5.8 million annualised sales pace range and single-family sales in the 5.1 million annualised range. With expiration in June, we look for another big increase in May's pending home sales, which will convert to strong actual sales in June."

Next Week's Data Flow Is Slow
The only major number due this week is the Census Bureau's Retail Sales report. Strong auto sales should drive the overall number up about 0.2%, while excluding autos I think a small decline is in the cards. Lower oil prices are also likely to weigh on the results.