A Downside Surprise in October Jobs Report?

Jeremy Glaser: For Morningstar, I'm Jeremy Glaser. I'm here today with Bob Johnson--he is our director of economic analysis--to get a preview of Friday's employment report.

Bob, thanks for joining me.

Bob Johnson: Great to be here today.

Glaser: Let's start with the ADP data. They said that the private sector added 230,000 jobs in the month. Is that about what you expected?

Johnson:  Yes, I think it's pretty much in the realm of things. Maybe it was just a little bit higher than I've been looking for, but indeed the number was a little bit better for October than it was in September. The prior month was revised so that there were 225,000 jobs added, according to this report. So, this report says that the two months are going to be the same.

Glaser: Now, they look at hiring across the different-sized businesses. Who was doing the hiring in October?

Johnson: There is some pretty dramatic data there this time. And I don't know if it's all accounting issue or whatever, but large firms showed absolutely no growth in employment during the month of October. All of the growth, all of those 230,000 jobs we were talking about, was created by small and mid-sized businesses, and that's kind of unusual. Recently, we've seen a pattern where the distributions were pretty evenly spread.

Glaser: So, why is that?

Johnson: Well, I think that one of the things that's happening is we saw earlier this week from the trade data that exports are going down rather dramatically. And at the same time, we are hearing on more corporate earnings reports that maybe earnings are being affected a little bit by the stronger dollar, and I think that's beginning to factor into some of the large companies, which tend to have more exposure overseas. Now, those companies are being more careful both here and abroad, and that's probably held back some of the hiring in large corporations.

Glaser: And then when you look at that across sector, any areas that look particularly strong or weak?

Johnson: Well, manufacturing backed off a little bit after a strong September and construction bounced back up after a weaker September. So, those two probably about cancel themselves. Retail trade, which is always an important category, didn't show much of a change, but a small improvement in the number of jobs added. Business and professional services, which has been the biggest category in the national report for many months now, actually fell just a little bit between September and October. That doesn't bode well for the report on Friday.

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Glaser: Going into Friday, other than those headline numbers, I know you're always looking at the hours worked and also what wage growth looks like. One of the mysteries has been that even with that improving labor market, consumer spending hasn't really taken off. What are you going to be looking at on Friday? What do you expect to see in terms of wage growth?

Johnson: Consumption is usually driven by wage growth, and the consumption growth has not been quite what we hoped it might be. Certainly, part of that is probably because wage growth hasn't been so hot either. But I will say one way that I do look at the wage numbers is I look at the year-over-year average data, as I do in many cases, and right now that's running at about 0.7%, to which you might say, "Oh, my God, that's terrible. That's awful."

The range over the last 50 years has been from just a little over 2% down to minus 1% or so. And so, it's a pretty narrow range. It's not like wages ever grew at 5% or 6% or some crazy number even for a month or two. It has just not been a number that's been all that high, and everybody kind of thinks this 0.7% is the end of the world. Not true. That 0.7% actually happens to be the average of the last 50 years.

So, it's not a great thing that we're seeing [that number], but it's not a horrible thing either. But I do expect to see that number move up at some point, maybe not this month. We had one month, two or three months ago, where there was a huge gap. And what happens is that number tends to stall out for a few months and then spurt again. It's kind of a really jumpy number. So, you need to be really careful about it.

On a year-over-year basis, it has been pretty steady at that 0.7% level. Like I say, it's not wonderful, but it's not horrible either. And part of what's holding that back, too, I think, is that as the aging workforce begins to retire, they tend to be at the top of the pay scale and are being replaced by people, even for the same job, who are coming in at the bottom of the pay scale. I think that's skewing the numbers just a little bit, too.

Glaser: If wage growth does look pretty average, then, why haven't we've seen more consumer spending? What's holding that back?

Johnson: That's a hard one. Maybe it's some of the headline events like ISIS and maybe it was some fears of what's going on there. But it's really kind of hard to explain. It's one of the great mysteries. Consumers do one thing very well and that is spend every dime they have, and that just hasn't happened this year. In fact, the savings rate is now back up to 5.6%. It was in the 4s just a year ago. So, people have been relatively more frugal lately, and I'm thinking maybe with lower gasoline prices and the holiday season approaching and maybe more normal weather that people may open their wallets over the holiday season and that may open a little burst of spending for us.

Glaser: So, on Friday, what are your expectations? What would you expect the number to be?

Johnson: I want to position myself well below what the consensus is, which is about 240,000 jobs, which would be just a little bit down from the 248,000 that was reported. I'd position myself to be at, say, 210,000 to 215,000 jobs added. We haven't seen much growth in auto sales recently. Consumption has been relatively flat, and exports did a swan dive. And those are the kinds of things that usually drive employment, and it's certainly not looking very good on any of those fronts. So, it's hard for me to see a big improvement. The average for the last year has been about that 215,000 level, and I think that's about where we're going to come out.

Remember, too, that [those 248,000 jobs] we saw last month was a bounce back from the 180,000 and also included 10,000 to 20,000 striking workers returning. So, I don't think 248,000 is a good place to start from, because I think it was a little abnormally high anyway. I could be entirely all wet on it. It's hard to go against a big group of people that think it's going to be in the 240s, but I think that the odds are more for a downside surprise than an upside one.

Glaser: So, what are the numbers that would make you nervous that the recovery is stalling out, or that would make you maybe rethink the strength of the economy?

Johnson: I would say anything lower than 150,000 would scare me on the downside. And over 300,000 would tell me there is something in here, in my modeling and my thinking, that I'm not really understanding, and/or it's not sustainable. So, those are the two numbers that I'd use as my two worry points.

Glaser: Bob, thanks for the update today and for the potential warning on a downside surprise.

Johnson: Thank you.

Glaser: For Morningstar, I'm Jeremy Glaser. Thanks for watching.