July Employment Report Preview
Friday's employment situation report once again is the focus of the financial markets. Last month the question was whether we would break through the bottom of the perceived trading range. This month's rally has taken us to the 200-day moving average, which many see as the top of the range.
Corporate earnings have been excellent, but there is continuing skepticism about economic growth. Since everyone agrees about the importance of jobs, the monthly employment situation report looms large.
As I have often said in recent months, we should not be expecting much from tomorrow's report.
Let me start with some background on my approach.
Our Own Estimate
The non-farm payroll report is based upon a monthly survey, attempting to estimate all of the jobs for the week including the 12th of the month. Each month my team asks the question, "What change in payroll employment would be consistent with other economic data from the same time period (the week including the 12th of the prior month)?
This is not a forecast, per se, since we do not posit any causal relationship among these variables. They are all concurrent indicators of economic activity.
- We use the four-week moving average of initial unemployment claims, culminating in the week of the employment survey. This is the best direct indicator of new job losses. This has declined a bit — 457K versus 464K last month.
- We look at the University of Michigan sentiment survey, which we find to be more useful than the Conference Board's sentiment index. Michigan uses a panel, where some families are carried over from month to month. This is a good technique. Sentiment is influenced by employment. When people have lost jobs they are worried, it shows up in sentiment. It is a good concurrent indicator. The Michigan index plummeted last month to is now at 67.8, down from 76.0 last month.
- We use the ISM manufacturing index. This is 55.5, down slightly from 56.2 last month. This is the most bullish of the various indicators.
Our long-term record has been very good, especially when compared to the final revised data. This makes sense because our model was derived from the final data. Our approach also makes logical sense, because it involves some factors related to jobs lost, and some related to job creation.
Based upon the data, our estimate is for a loss of over 80K jobs. This should be adjusted by whatever the BLS announces as the census effect, expected to be something like 75K jobs. Briefly put, I think we could have a very poor report.
Readers should keep in mind that the preliminary reports have been running "hot" by about 100K jobs, a problem I discussed in this article. You must also keep in mind that the BLS estimate has a 90% confidence interval (just for sampling error) of+/- 100K jobs. Even if tomorrow's report seems good, I am suspicious because of the weak nature of the other economic data.
It is always interesting to compare the job forecasts from different sources. We follow several because of the widely varying methods they use. A wise interpretation would be to consider all of these disparate sources of information.
All of us are dealing with unusual circumstances because of the census hiring and later layoffs. This is not something that fits nicely into a model. The various forecasts should all be interpreted within that framework.
ADP has proprietary data because of its payroll management business. Looking only at private sector jobs — no government, no census effect, ADP sees gains of 42,000 jobs.
TrimTabs has another valuable approach — tax deposits. Their forecast is a private sector gain of 70K with census losses of 75K.
Briefing.com cites the consensus as a loss of 87K and their own forecast is a loss of 100K (before census adjustments.)
To summarize briefly, the market incorrectly focuses on predicting the BLS preliminary estimate — including the 100K confidence interval, the seasonal adjustments, and the benchmark revisions. I am probably the strongest supporter of BLS methodology and integrity, but I still see their approach as only one method out of many.
Jobs data is so important — and we are all so interested — that we seize upon whatever information we have, even when we know the limitations.
I am not specifically trading around the number this month. Given all of the other economic data, it is hard to believe that we will have brisk job growth. My guess is that other market participants will see this the same way. In fact, the market may not actually be expecting very much.
The combination of natural economic forces and government stimulus have not yet generated significant net job gains.