Andrew Pyle
January 20, 2023
Disconnect between job cuts and economic data ... for now
In this week’s conference call – our first of the year – we talked about sudden negative shift in equity market sentiment on the back of some very dismal economic data points (playback details can be found at the end of the commentary). In December and into January, equity bulls latched on to simply weaker-than-expected reports in December and into January on the basis that this implied falling inflation and less need for aggressive monetary. What they didn’t like was when the reports became so negative that recession probabilities rose (i.e., the latest retail sales and industrial production figures).
One of the ways you know you are in a recession or close to one is when companies begin to vigorously defend the bottom line. Faced with declining revenues, they will go down through the list of cost reduction items – starting with the easiest and ending with the most difficult, or expensive. The low hanging fruit would be things like advertising and expenditures on machinery and equipment, followed by delayed or canceled plans to build out physical operating space. Sometimes this is enough to insulate margins and share value from an economic flu. If not, then cost-cutting has to go deeper and ultimately ends up with the workforce.
Even there, a company will go through stages. First on the list is a hiring freeze. Gone are the help-wanted signs, even if the availability of labour has been wafer thin for the past several quarters. Next on the list, and related, would be allowing natural attrition to flow through. This means that positions left open by retiring employees are left unfilled, at least temporarily. Finally, companies begin to lay off staff, leading to rising unemployment and ultimately downward pressure on household spending budgets.
This month has seen no shortage of layoff announcements, with a number of major firms reporting some large headline job reductions, including Amazon (18,000), Google parent Alphabet (12,000), Microsoft (10,000), Salesforce (7,000) and Goldman Sachs (3,200). Now, these may sound like major cuts, but Amazon’s payroll count was close to 1.5 million at the end of 2022. In other words, about 1%. Microsoft’s layoffs amount to about 4-5% of the company’s workforce.
The charts above and below highlight one of the employment metrics followed by market participants and that is the Challenger US Job Cut Announcements. Taken each month, this shows the number of involuntary job separations according to company data. I am showing this in two charts given that the pandemic created a massive distortion in the series, making comparisons to previous cycles difficult. In the first chart (from December 2020 to last month), you can definitely see there was a rise in job cuts over the course of 2022, although December showed a curious drop from over 70,000 to around 43,000. Based on the headline staff reductions noted above, one would assume that January is going to show a sharp bounce higher.
Monthly job cuts in the 70-80,000 area have been associated with economic slowdowns, but actual recessions are typically marked by Challenger numbers well north of 100,000 or even 200,000 (as we saw in 2001-2002 and 2009). It’s usually only after a recession begins that job cuts start to really trend higher, which explains these two periods of significant staff reductions. According to the National Bureau of Economic Research (NBER), the US experienced a recession between March and November of 2001 and then from December 2007 to June 2009.
Economists refer to labour market data as lagging statistics – telling us what has already happened, as opposed to what is about to happen. If we were looking at the unemployment rate, that is true, but these job cuts numbers have actually been more coincident than lagging. For example, in December 2007, job cuts fell to below 50,000. That was the start of the US recession. Back in the first quarter of 2001, cuts had already pushed above 100,000 – coinciding with the March start to the recession.
Then there are reports that cause investors to scratch their heads – like the latest initial jobless claims figures. These are simply the number of individuals filling for unemployment insurance in the US and move in tandem with the unemployment rate. If claims start to turn higher, then this can be a signal of a recession beginning to take shape. As you can see from the chart, claims fell as low as 166,000 in March which was the lowest since 1968. Claims then started to head higher and reached 261,000 by the summer. This was dismissed as a signal of weakness and more a reflection of people choosing to return to the labour force (perhaps because they were running out of savings). Claims basically stayed above 200,000 for the remainder of the year, but started to fall sharply in December and into this month. This week, it was announced that they fallen to 190,000 as of last week.
If the number of workers getting cut from payrolls is rising, then how can filings for unemployment insurance be falling? It’s a good question, but outside some weather-related distortions to claims this month, the bottom line is that the US labour market was still extremely tight into year-end. As much as we are hearing about job cuts, the majority of companies are still hesitant to cut staff in fear that it will be hard to replace when demand conditions improve.
What does all this mean for investors? For one, this cycle is going to look different than previous slowdowns/recessions. Job cuts will probably not get to 200,000 on a monthly basis and may not even breach 100,000 on a sustained basis. This will mean that the unemployment rate probably won’t rise by anything close to recessions in the past. From 3.5%, where it was last month (and where it closed out 2019 before the pandemic), it might rise by a percent this year.
If the Federal Reserve also believes there is going to be minimal impact on employment conditions, then its fear over wage pressures is not going to go away. That could prompt the Fed to maintain a tighter policy stance longer. Some are predicting that the recent job cuts are going to sway the Fed into becoming a little more dovish. I don’t see any reason to believe that at this point, so the next FOMC meeting (February 1st) still represents a risk to equities. We saw a decent pullback in stocks this week on growth concerns and even if the Fed does tone down the pace of rate hikes, its language could stay hawkish until more pain is revealed on the labour front.
On behalf of the Pyle Group, have a wonderful weekend.
Andrew Pyle
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