by Peter Jones, CFA
Vice President of Equity Research and Portfolio Management
This morning, the Bureau of Labor Statistics reported that the U.S. economy added nearly 1.8 million jobs in the month of July, outpacing economist expectations for an addition of 1.5 million. The positive jobs report adds to the momentum from the last couple of months. Since the end of April, 9.3 million people have returned to work, bringing the unemployment rate down to a still lofty 10.2 percent, but well below April’s peak of 14.7 percent. Further, the strong additions in leisure and hospitality industries suggest positivity as the U.S. continues to re-open, albeit with risks and at a modest pace. Nonetheless, we still have a long way to go in reversing more than 22 million lost jobs in March and April. We have long said that the most important indicator of the U.S. economy is employment. The consumer makes up more than 70 percent of GDP and without strong employment figures it will be difficult for the economy to grow in earnest. Today’s data is encouraging and suggests the worst is behind us and that we have entered the early stages of a recovery.
In corporate America, companies are wrapping up second quarter earnings season, with 89 percent of the S&P 500 providing results. Unsurprisingly, the absolute levels of profits have been alarming. Earnings in the second quarter have come in 33 percent below year ago levels. However, this decline is not nearly as bad as was feared. Upon entering earnings season, analysts expected earnings to fall 56 percent, so earnings have been 23 percent better than forecasted, the highest “surprise” rate in more than a decade. Companies were able to manage costs and their demand did not completely collapse. Still, even with better-than-expected results, calendar-year 2020 profits are set likely to be some 20 percent below 2019 (source is Credit Suisse). On the earnings front, we have been telling our clients that the market is far less concerned with the magnitude of the decline this year but is instead laser focused on the pace of the recovery in 2021. To that end, current projections suggest earnings will return to 2019 levels by the end of next year. We remain somewhat skeptical and believe we need to see more progress on the employment front.
With both the jobs report and the unofficial end to second quarter earnings season this week, there was plenty of economic data to sift through to gauge our thesis that the worst is behind us and that we are now in the early stage of a new recovery. The data this week served to increase our confidence that things are indeed beginning to improve. Nonetheless, we still see plenty of risks on the horizon and expect more volatility through the end of the year. We do not have a vaccine, there are plenty of areas both domestically and abroad that are seeing increasing hospitalization rates and the market continues to trade at an expensive multiple. Further, enhanced unemployment benefits are expiring, and the government has yet to agree on another round of fiscal stimulus. Putting it all together, we are cautiously optimistic and we continue to walk, not run, towards adding equity exposure. After all, with the worst of the economic data behind us, time is on our side.
Takeaways for the Week:
The U.S. economy has added 9.3 million jobs since the end of April, but this only partially reverses the 22 million lost in earlier in the year
Profit declines in the second quarter have been staggering in the absolute, but the results were much better than feared
Our thesis that the worst is behind us was confirmed by the data released this week