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US Economy

The Ins and Outs of December’s Employment Data

By Elliott H. Gue, on Jan. 21, 2014

The Bureau of Labor Statistics’ (BLS) monthly report on the US employment market is one of the most widely watched data series; trends in the jobs market fuel consumer spending in the world’s largest economy.

But the employment report also attracts more political attention than any other economic release, providing endless fodder for television’s talking heads.

Unfortunately, the emotional and politically charged commentary that surrounds monthly employment reports does little to help investors make money.

The December employment report released on Jan. 10, 2014, has plenty of tidbits for Republicans looking to paint a bleak picture of the economy and Democrats looking to burnish President Barack Obama’s jobs record.

We’d rather highlight the key takeaways from Friday’s employment figures and their implications for investors, including a powerful growth trend that could generate significant gains for in-the-know investors.

The Unemployment Rate

Pundits looking to paint the December employment report in a positive light will undoubtedly point to the sequential decline in the jobless rate to 6.7 percent from 7 percent.

The ranks of the unemployed declined by 7.9 percent from year-ago levels, but remain elevated relative to the 5.6 percent that the nation averaged between 1985 and 2007.

Although the headline unemployment figure likely takes the cake as the most oft-cited statistic from the monthly employment report, it’s also one of the most useless, meaningless and misleading economic indicators ever devised. That so many journalists and armchair economists focus on this single statistic is regrettable.  

The first problem with the unemployment rate is that it’s a lagging indicator of economic conditions.

Lagging indicators tend to change trend after the broader economy. In most cycles, unemployment remains low well after the economic growth begins to decelerate and, in many cases, long after the economy has entered recession.

Take the most recent economic cycle as an example. According to the National Bureau of Economic Research’s (NBER) Business Cycle Dating Committee, the US slipped into recession in December 2007 and exited this downturn in June of 2009.

Although economic activity had already contracted by the end of 2007, the US unemployment rate continued to hover around 5 percent–below the historical norm. The US unemployment rate didn’t top 5.6 percent, its 1985 to 2007 average, until July 2008. At the point, the S&P 500 had already tumbled by 25 percent from its late 2007 high.

The worst was yet to come: The US unemployment peaked at 10 percent in October 2009, four months after the recession ended and almost seven months after the S&P 500 bottomed.

If you had waited for the unemployment rate to fall below 9 percent before putting money in the stock market, you would have been on the sidelines until October 2011, missing out on an 80 percent gain in the S&P 500.

For investors, the four-week moving average of initial jobless claims and the average weekly hours worked in the manufacturing sector provide much more insight into future trends.

Each week, the US Dept of Labor releases data on how many people filed for first-time unemployment benefits. To quiet the noise in this data set, most economists look at the four-week moving average of claims.

An uptick in claims for unemployment insurance suggests that companies have dismissed workers; a sudden decline indicates that demand for new employees strengthened. This weekly data series can offer timely clues about forthcoming moves in the unemployment rate and nonfarm payrolls.

For example, the four-week moving average of claims topped out in March 2009, about three full months before the recession ended and seven months before the unemployment rate peaked.

When economic growth accelerates, manufacturers usually work their existing employees harder to boost output and meet demand, deferring the expense and time involved in hiring and training new workers. Once credible evidence emerges that the uptick in demand is sustainable, manufacturers usually look to hire additional employees.

Similarly, in the early stages of an economic downturn, manufacturers often reduce their existing employees’ hours or eliminate shifts instead of letting workers go. This approach ensures that the company isn’t left shorthanded if the decline in customer demand proves to be short-lived.

A shift in hours worked often precedes a turn in the overall employment data.

In 2009, average hours worked in the manufacturing sector bottomed and began to rise. The unemployment rate, on the other hand, didn’t peak until October.

Another drawback to the headline unemployment figure: a decline in this metric isn’t always good news for the economy.

Consider the sequential decline in the unemployment rate last month. This positive development loses some of its luster when you dig deeper and find that the unemployment rate fell because more people exited the labor force.

In December 2013, the US labor participation rate–the percentage of the population considered part of the labor pool–plummeted to the lowest level since 1978.

Retirements account for some of the decline in the labor participation rate. But this metric also encompasses workers who have abandoned their job search; the official unemployment figures omit discouraged workers who have dropped out of the labor force.

Against this backdrop, last month’s 30 basis point decline in the headline unemployment is more of a statistical curiosity than a sign that economic growth has accelerated.

Weak Job Creation

Commentators looking for signs of weakness in the US labor market will find ample evidence to support their preconceptions.  

Source: Bloomberg

BLS reported that the US economy created 87,000 private-sector jobs but shed 13,000 positions in December 2013–well short of the Bloomberg consensus estimate of 200,000 new jobs and the weakest pace of hiring since June 2012.

In short, nonfarm payrolls data didn’t come close to expectations.

But before you leap to conclusions about the labor market and economy from a single month of data, let’s consider some extenuating circumstances. 

For one, BLS revised its estimate of payrolls growth in the prior two months by a total of 38,000 jobs; although job creation weakened in December, the market started from a higher base than previously thought.

Frigid winter weather in much of the US likewise didn’t help matters.

Source: Bloomberg

The monthly employment report includes statistics on people who miss work because of inclement weather; this data point tends to increase during the winter months, when weather disruptions are more likely to keep commuters at home.

Between 1999 and 2012, bad weather kept an average of 150,000 workers at home in December; last month, 273,000 workers missed work because of inclement weather.

Although BLS adjusts its nonfarm payrolls data for seasonal factors, December’s unusually harsh weather likely made these adjustments insufficient.

A major divergence between the BLS employment data and the jobs statistics published by payrolls giant Automatic Data Processing (NSDQ: ADP) often suggests that anomalous results in one data series amount to little more than a temporary aberration.

Source: Bloomberg

ADP estimates that the US created 238,000 private-sector jobs in December, exceeding the consensus estimate and in line with the prevailing trend from the preceding 11 months. The strength in the ADP numbers on Wednesday prompted several analysts and economists to revise their expectations for the BLS data sharply higher.

It’s likely that BLS will revise its shockingly low December 2013 payrolls data sharply higher, bringing it more in line with data released by ADP.

Large revisions to both payrolls data sets are routine.

The initial BLS data for August 2011 indicated that the US economy created zero jobs–a shocking result when you consider that analysts had called for 67,500 new positions on nonfarm payrolls.

Despite ADP estimates indicating that 91,000 jobs had been created that month, this anomalous employment report was the subject of endless commentary in the financial media and led to significant volatility in the stock market.

Over the ensuing months, both BLS and ADP raised their estimates of the number of jobs created in August 2011: The government data pegged the number of new jobs at 132,000, while the payroll processor upped its tally to 194,500.

Nevertheless, many pundits cited this aberrant employment report as proof that the US was headed for a double-dip recession, inadvertently demonstrating the danger of leaping to conclusions based on a single economic indicator.

The stock market’s muted reaction to December’s ostensibly disappointing employment data suggests that most participants view the number as an anomaly.

Meanwhile, ADP’s jobs estimate, initial jobless claims and average hours worked in the manufacturing sector continue to point to a slow but steady recovery in the US labor market.

A Temporary Solution

Last Friday’s employment report included a handful of gems that savvy investors can use to make real money.

In December, workers on the payroll of temporary staffing firms accounted for around 1.95 percent of the total US labor force–the highest proportion in US history.

Source: Bloomberg

Cyclical and secular trends support the uptick in the percentage of temporary workers in the active work force.

This penetration rate tends to increase when the domestic economy expands–especially in the early stages of a recovery when uncertainty makes managers reluctant to hire and train full-time staff. Conversely, the percentage of active temp workers tends to decline during periods of economic weakness.

In the most recent economic cycle, the percentage of temp workers in the active labor force bottomed in June 2009, the height of the Great Recession. This penetration rate has recovered gradually and recently equaled the all-time high set in 2000, when conditions in the economy and job market were much more sanguine.

The primary driver behind the increase in active temp workers: Regulations that make it more expensive to hire and fire full-time employees.

The European Model

The EU labor market, which is saddled with a byzantine regulatory system, provides a model for the future of temp staffing in the US.

Many European countries require companies retain full-time employees for at least a year, regardless of whether their jobs have become redundant.

Given the high costs associated with hiring full-time workers, Continental companies traditionally have relied more heavily on temps to meet their staffing needs.

Temporary workers account for about 4 percent of the actively employed in the EU.

Although US companies can hire and fire full-time workers much more inexpensively than their counterparts in Europe, the trend toward increased regulation and less flexibility in the labor market suggests that the penetration rate for temp staffing will continue to tick higher.

And every 10 basis point increase in the percentage of temp workers generates a roughly 5 percent increase in industry revenue; this secular shift should provide a steady tailwind.

In this subpar economic recovery, companies continue to seek ways to contain labor and training costs while increasing the flexibility of their workforce to respond to shifts in demand.

The value proposition for relying on temporary workers is particularly compelling in information-technology departments, where demand for these services hinges on the completion of specific projects.

In the most recent issue of Capitalist Times Premium, we take a closer look at several trends that should drive growth in temporary staffing and highlight a small-capitalization name that stands to benefit the most from these emerging opportunities.

Subscribers can read all about this stock in Gainful Employment. Not a subscriber to Capitalist Times PremiumSign up for a risk-free trial today.

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