When my 15-year-old daughter was younger, my favorite part of the day was tucking her in at night and reading her favorite books. Those storytelling sessions played an important role in building our phenomenal relationship. Storytelling is part of the fabric of who we are as human beings. Getting together with friends from college and reminiscing about streaking in the snow when you were 21. Telling a new friend about the time your eighth birthday sleepover had to be canceled because of a torrential snow storm, but your old man went sleigh riding with you until the wee hours of the morning so you would still have a special day. Storytelling is a critical way that we connect with others.
When it comes to financial markets though, you have to distinguish storytelling from data.
Economic reports get wrapped in narrative to get votes, sell ads, and make you feel warm and fuzzy. The truth is that financial market storytelling numbs you to the potential risks that lie ahead. Right now, politicians and media-types want you to believe that U.S. growth is cruising along on Class A water. Strip away the storytelling and you can clearly see that we are in Class 3 rapids, and that what lies around the corner is the equivalent of going over Niagara Falls in a barrel.
Any economic data released days ahead of a presidential election is going to have more spin than normal. The spin that media pundits and politicians put on the October nonfarm payroll report put Roger Federer’s topspin to shame.
The nonfarm payroll storytelling focused on the “solid” headline number of 161,000 jobs created during October. I recently discussed the problem with exclusively focusing on headline numbers to gauge economic progress. But when you wrap storytelling around a headline number, you get a work of fiction that could mint J.K. Rowling another $1B.
Yes, the number of jobs created was “solid,” but the nonfarm payroll storytelling omitted the most critical part of its report: the annual growth rate of job creation actually decelerated again, and is now at the lowest level in five years. That’s right, the U.S. is creating jobs at the same annual pace as in May 2011. I say it all the time, but it bears repeating that the most critical aspect of financial data is what occurs at the margin.
The 161K headline number is not nearly as informative as the 1.68% annual growth rate. Right there, in the monthly trend of annual growth rate, resides everything you need to know about a data series and financial markets. That’s the “margin,” and paying close attention to it will help you sidestep market risk and get you paid. Despite central bankers’ best efforts, economic data remains cyclical. Understanding where we are in that economic cycle is critical to understanding financial market price action and how to properly trade it.
The annual growth rate in nonfarm payrolls peaked 21 months ago in February 2015, and has been declining ever since. This is an important development, because every time the nonfarm payroll peaks and starts to descend, jobs growth always goes to 0% and then to outright contraction. 100% of the time! That’s a damn good track record!
After peaking, it takes approximately 30 months for nonfarm payroll growth to turn negative, and another nine months before it finally bottoms and begins to move higher. We are only 21 months removed from the nonfarm payroll peak and we are still well over 1% growth. This tells me that we should expect more downside in the labor market in the months ahead.
More importantly, understanding the nonfarm payroll cycle helps me better anticipate the trajectory of GDP growth in the coming quarters. Typically, U.S. GDP bottoms within six months of nonfarm payroll growth turning negative. This means that there is a high probability that Q3 GDP will be revised lower and that Q4 GDP growth will come in sub-1%, as we head towards a recession.