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More Downside Than Upside Potential in April Employment

Jason Stipp

Jason Stipp: I'm Jason Stipp for Morningstar.

Ahead of Friday's government employment report for April, we got ADP data on job growth in the private sector for last month on Wednesday.

Here with me to dig into that report and also offer their expectations for Friday's number is Morningstar's Vishnu Lekraj--he's an equity analyst covering the employment sector--and Bob Johnson, who is our director of economic analysis.

Thanks for joining me again, guys.

Vishnu Lekraj: Thank you.

Bob Johnson: Thank you.

Stipp: So, the ADP number, 119,000 private sector jobs added, was below consensus. It was disappointing to the market. Was it disappointing to you, Vishnu?

Lekraj: A little bit. We want to see that above 100,000 in a robust way at this time in the economy. But maybe we've seen some things pull forward, maybe ADP is catching up to what the government said last month.

When you look at it, though, when you break it down between the service and goods-producing sectors, the goods-producing sector was negative or flat, barely, and that corresponds with some of the slowing we've seen in some other manufacturing sector reports, so these things do make sense.

Stipp: And what about business size? Are we seeing the same trends, where smaller and mid-sized businesses are doing more of the hiring than the bigger companies?

Lekraj: Yes, currently. That's going to be the case moving forward. The larger companies, I believe, are a little bit cautious here for several factors, which we may get into later on in the video, so you may see some more growth out of the small and medium-sized businesses, definitely.

Johnson: We really were almost no growth in the large businesses this time around--almost no growth at all.

Stipp: So Bob, Vishnu mentioned that there may have been some pull-forward [in the employment market]. We had, very early in the year, some really good employment reports, and we talked about how some weather and other factors contributed to maybe more hiring than we normally have that early in the year. Are we getting the flipside of that now as we're seeing some more anemic reports?

Johnson: Absolutely, and I think the underlying strength in the economy is the same as it's always been, right around 2%-2.5% [growth], but weather helped accelerate things a little bit, and some of the seasonal factors did odd things. 270,000 jobs a month, which we got one of the months earlier this year, that's almost 3% growth, and that's clearly not a level that's got anything to do with where we are in terms of GDP.

Stipp: So you mentioned trends in GDP and trends in employment growth--how are those two normally related to each other, and how were they related to each other earlier this year?

Johnson: They're usually pretty darn close together, and in fact, employment usually trails GDP by a little bit in terms of percentages.

If you look over a number of decades, maybe we grew 3%-3.5% in terms of GDP, typically then we grow 2%-2.5%-3% in terms of employment, so employment is always just a little bit behind, somewhere between 0.5% and 1%.

So, in the first quarter, we saw that GDP number, and we grew about 2.2% according to the first read, and that would typically suggest that we would grow about 1.5%-1.7% in terms of employment, which is something down in the 170,000 range. And I mentioned, we had one month of 270,000, so that's clearly not sustainable, and we need some lower numbers to offset that, frankly.

Stipp: So, Vishnu, are some of these more anemic reports that we've seen just a correction from those really strong months, or do you have to be careful, because it could [also] indicate some fundamental weakness in the job market? Which one is it? How do you know?

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Lekraj: A little bit of both. So if you want to put percentages on it, you'd probably put more toward the businesses being a little bit cautious versus there being seasonality. Now there's some seasonality, there's some weather in there, but I don't buy that story 100%. I believe businesses are a little cautious here, because of some overseas problems going on, and ... I believe, they're waiting for the consumer here to show continued strength, given that there's been some news about some weakness in the global economy.

Johnson: And I would argue just a little bit differently. I would say that the businesses are indeed being cautious; we can see it. They are spending less; in the first quarter, their spending on equipment and software showed almost no growth. They are pulling in their horns. We've mentioned in the ADP report, there were only 4,000 jobs added at big firms, but the small firms grew pretty good yet.

That all to me paints a picture that businesses are cautious, more cautious than individuals, about the overseas markets, and given that large percentages of their profits come from overseas markets, businesses maybe have a right to be cautious. And obviously big businesses tend have more of their sales overseas; smaller businesses tend to operate in their neighborhoods, in their countries, in their regions. And so that's why those have continue to grow OK, but the large businesses have slowed, because they're afraid of what's happening in China, and they're afraid of what's happening Europe, and maybe they are right. And I've argued for some time that the U.S. economy might actually do quite well, even as those economies are a little soft.

Lekraj: I just want to add on to that: Even if the consumer continues to spend at the pace it has been, businesses need to start hiring in that case. If this trend in consumer spending continues.

Stipp: Here in the U.S.

Lekraj: In the U.S., correct. Businesses will need to start to add to the payrolls.

Stipp: So, that overseas exposure that some of those bigger businesses have could be a bigger issue than any kind of extreme weakness that we're seeing in consumers here in the U.S., because as you've written, Bob, the consumer has been pretty stable, hasn't necessarily been gangbusters, but their growth in spending has been pretty stable throughout the recovery.

Johnson: Absolutely, and the question is then what do they buy? And certainly autos have been one of things on the hit parade, and that's been a thing that's done very well, and iPads have also done well, and unfortunately that doesn't help our economy all that much.

Stipp: All right. So, we're going to have to see what wins out--consumer strength here in the U.S. or some of that overseas weakness and those macro issues that we read about in the headlines all the time. They could have a very big swing factor in what we see in employment this year.

But let's talk about Friday before we get too far ahead of ourselves. The consensus estimates, I think, are 140,000 to 160,000 jobs added. After this ADP report of 119,000 jobs in the private sector, Vishnu, is consensus for Friday's report too high?

Lekraj: I think so, a little bit. I'm looking at 115,000 to 130,000--not just because of this of this ADP report, but because the claims have been trending up or have been pretty flat here over the past month...

Johnson: ... The claims on initial unemployment that we get every week ...

Lekraj: Right. What's even more troubling with the unemployment claims is that when you see the revisions done by the government on a week-to-week basis, they've revised the previous week up consistently, which is a troubling sign.

Stipp: A trend that we are seeing some more people needing to file for those claims.

Lekraj: Right. 

Stipp: Bob, when you think of the number on Friday, do you think that consensus is too high? What are your expectations?

Johnson: Well, I'm not far off of Vishnu, but I've got to tell you, you could drive a truck through the range of what's possible. I think anything between 80,000 and 200,000 jobs is possible. And I think you've got a lot of reason to be very broad on it, and one reason on the low side is certainly we've pulled ahead a lot of business, and certainly the ADP report, the initial claims, all would argue for something right around that 115,000-120,000 level.

You do have the fact that the seasonality factor is huge this month, and it's actually underestimated some of the growth. April has been the best employment month in 2010 and 2011, so that might argue for maybe just a little bit higher number. And I think, some of the manufacturing numbers may be a bit understated. I think the PMI data, the Purchasing Managers data, seems to suggest that maybe manufacturing is just a little stronger than the data that we're seeing elsewhere, so I don't think that that's going to be a negative, like the ADP report suggested. So on that front, I think we could maybe be at 150,000, but I think that's kind of the best case, and I really think there is a possibility we could get under a 100,000.

Stipp: So, Vishnu, if there is a potential range, if the range is a little bit more open this time around as far as what the number could be, are you more likely to see a downside surprise, than an upside surprise?

Lekraj: Definitely, there's a greater probability we will see a downside surprise, or a downside number versus an upside surprise. So if you were to ask me, if we're going to get closer to 100,000 or 200,000, I believe we're going to be closer to 100,000, just because the preponderance of evidence, some of the reports in the past, the ISM numbers, manufacturing numbers, some of what the employment services firms have reported in terms of their numbers over the past few weeks, couple this with the ADP report and the claims, to me there is greater probability of downside surprise.

Johnson: The only thing I'll say is that it's interesting sometimes with these data, and again we're talking statistics here, but it seems like if we have a month that's disappointing on the downside, usually it's been followed by one with a little bit of upside to it, so...

Stipp: Which is another important reason not to look at one single month. As you said the seasonal adjustment factor in this one is pretty big, and in fact it kind of dwarfs the actual absolute growth that we've seen month-to-month.

So if you're looking at it then, and you need to look at it, as a trend of what has been happening over the last several months, what kind of number makes you go back to the drawing board and question your trend? If you see a number on what downside and on what upside, do you have to really rethink your thesis here?

Johnson: We have to caution, if they jack up last month's number a lot, or the month before a lot, then that kind of changes the picture a little bit, too. But I think maybe 80,000 or so is where I really have to go back to the drawing board and really think--then we've got 120,000 [in March] and an 80,000, then maybe I'm thinking I have to come back to 120,000 or so for a long-term average, which is a little bit lighter than I'd been thinking at the beginning of the year.

Stipp: Okay, Vishnu?

Lekraj: Anything under 100,000 would worry me. Anything under 100,000 would worry me to the downside, but if you get to 250,000 or 300,000 on the upside, it's going to be parades and champagne, but 100,000 is going to be a worry.

Stipp: I'm going to go out on a limb, and say we're probably not going to be popping any champagne bottles, but we'll have to check in with the number...

Lekraj: Let's hope on Friday.

Stipp: We'll check in with the numbers and check in with you on Friday after we get those results and get your take then, but thanks for joining me today.

Lekraj: Thank you.

Johnson: Thank you.

Stipp: From Morningstar, I'm Jason Stipp. Thanks for watching.