Those who doubt that employers can keep hiring at a solid clip for the foreseeable future might consider a new recession gauge that is signaling full speed ahead.
First, to recap. The job market boomed in November, data released on Friday by the Department of Labor show. Employers added a better-than-expected 266,000 workers, the most since January. The reading is strong even when you back out the lift from the 45,000 or so General Motors (GM) strikers returning to work.
November’s jobs report was astonishing, if you ask economists and consider the stock market’s reaction. “A strong read on the jobs market almost no matter how one slices the data,” says Jon Hill, vice president of U.S. rates strategy at BMO Capital Markets. The S&P 500 (.SPX) climbed 0.9%, to 3146, on Friday.
Together with upward revisions to October payrolls, a drop in the unemployment rate to 3.5%, and the kind of wage improvement that is enough to help spending without stoking inflation, the jobs report allays concerns that the labor market is cooling and that the trade war will drag the economy into recession.
Is this all too good to last? No, says Jim Paulsen, chief investment strategist at the Leuthold Group in Minneapolis.
The evidence, he says, is a recession indicator he recently created and has dubbed the WS Ratio. It’s the ratio of the U.S. wage rate divided by the U.S. stock market (the S&P 500), and it’s meant to serve as a proxy for corporate confidence. The idea: As long as the price of equity capital rises faster than labor costs, companies will remain confident enough to add workers. But once wages begin to rise faster than the stock market, Paulsen says, executives get anxious and pull back on hiring.
Like many investors, Paulsen closely follows initial jobless claims as a recession predictor. The WS Ratio looks similar to the ebb and flow of jobless claims, but it has a different interpretation. Compared with the popular weekly claims indicator, the WS Ratio offers a real-time view since the stock market opens and closes daily. Moreover, it takes into account factors that can predict layoffs, instead of simply tracking them.
The WS Ratio has risen prior to every recession dating back to about 1950, usually giving investors watching it a few months’ lead time. For a sharper picture of where the economy is heading, he advises tracking it in addition to jobless claims.
Friday’s jobs report showed that wages rose a slightly better-than-expected 3.1% in November from a year earlier, and the October gain was revised higher to 3.2%. It’s no surprise that employers are paying a bit more to attract workers in the increasingly tight labor market. The gains, though small, bode well for consumer spending and show a bit of progress on the wage front, which hasn’t much budged in recent years despite robust hiring.
Even with the latest wage gains, The WS Ratio fell to new lows. “Wages are growing, but the stock market is way up,” Paulsen says. “If you’re a corporate CEO, you have to feel pretty good about this—and confident enough to add staff.”
Paulsen notes that the indicator began rising in 2018, and he, like many others, worried that a recession was on the horizon. The global economy had a rare bout of synchronized growth in 2017 and part of 2018, he says, which led to synchronized slowing this year. Then the U.S.-China trade war intensified, and both business and consumer confidence were hit.
Those worries were fleeting, at least as far as Paulsen and his WS Ratio are concerned. “Massive global easing has started to kick in,” Paulsen says, referring to central banks’ interest-rate cuts and the cost of global credit.
By his last calculation, the ratio is at 0.00911. That’s a historic low (he tracks back to 1949), and it has declined for three consecutive months. For comparison, the WS Ratio spiked up to about 0.03 during the last recession.
Heeding its direction is the key for using the indicator, Paulsen says, explaining that it’s not about watching for a certain level but instead about whether it’s rising or falling. If it starts rising and does so for a few straight months, it would signal corporate anxiety and coming job losses—and mean a recession is probably knocking.
For now, though, Paulsen says there is room for the unemployment rate to drop from its current half-century low of 3.5%. The WS Ratio suggests that joblessness will move even lower in the coming months—toward 3%, he posits. And maybe importantly, Paulsen says, “it would signal that imminent recession risk continues to diminish from its elevated levels of late last year.”
A separate economic release on Friday, overshadowed by the employment report, lends support to Paulsen’s take. Consumer confidence, as measured by the University of Michigan, recovered in December to the best level since May.
What consumers say and what they do can be different things, but it’s nonetheless a good sign that Americans are feeling better about the economy—especially during the holiday shopping season.
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