Analyzing Payroll Reports and Economic Recessions

Morgan Stanley’s CIO and Chief U.S. Equity Strategist Mike Wilson discusses the outlook for U.S. stocks after Friday's nonfarm payroll data reinforced the thesis of a transition from a rolling recession to a rolling recovery.

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Welcome to Thoughts on the Market. I'm Mike Wilson, Morgan Stanley’s CIO and Chief U.S. Equity Strategist. Today on the podcast I’ll be discussing Friday’s Payroll report and what it means for equities. 

It's Monday, Sept 8th at 11:30am in New York. So let’s get after it. 

The heavily anticipated nonfarm payroll report on Friday supports our view that the labor market is weak. However, this is old news to the equity market as we have been discussing for months. First, the labor market data is perhaps the most backward-looking of all the economic series. Second, it’s particularly prone to major revisions that tend to make the current data unreliable in real time, which is why the National Bureau of Economic Research typically declares a recession started at a time when most were unaware we were in one. 

Furthermore, history suggests these revisions are pro-cyclical, meaning they get more negative going into a recession and then more positive once the recovery’s begun. It appears this time is no different. Indeed, Friday’s revisions were better than last month’s by a wide margin suggesting the labor market bottomed in the second quarter. 

This insight adds support to our primary thesis on the economy and markets that I have been maintaining for the past several years. More specifically, I believe a rolling recession began in 2022 and finally bottomed in April with the tariff announcements made on “Liberation Day.” After the initial phase of this rolling recession, that was led by a payback in Covid pull-forward demand in tech and consumer goods, other sectors of the economy went through their own individual recessions at different times. 

This is a key reason why we never saw the typical spike in the metrics used to define a traditional recession, although the revisions data is now revealing it more clearly. The historically significant rise in immigration post-covid and subsequent enforcement this year have also led to further distortions in many of these labor market measures. While we have written about these topics extensively over the past several years, Friday’s weak labor report provides further evidence of our thesis that we are now transitioning from a rolling recession to a rolling recovery. In short, we're entering a new cycle environment and the Fed cutting interest rates will be key to the next leg of the new bull market that began in April. 

Central to our view is the notion that the economy has been much weaker for many companies and consumers over the past 3 years than what the headline economic statistics like nominal GDP or employment suggest. We think a better way to measure the health of the economy is earnings growth, and breadth; as well as consumer and corporate confidence surveys. Perhaps the simplest way to determine if an economy is doing well or not is to ask: is it delivering prosperity broadly? On that score, we think the answer is “no” given the fact that earnings growth has been negative for most companies over the past 3 years. The good news is that growth has finally entered positive territory the past 2 quarters. This coincides with the v-shaped recovery in earnings revisions breadth we have been highlighting for months. We think this supports the notion that the worst of the rolling recession is behind us and likely troughed in April. As usual, equity markets got this right and bottomed then, too. 

Now, we think a proper rate cutting cycle is likely and necessary for the next leg of this new bull market. Given the risk that the Fed may still be focused on inflation more than the weakness in the lagging labor market data, rate cuts may materialize more slowly than what equity investors want. Combined with some signs that liquidity may be drying up a bit as both corporate and Treasury issuance increases, it would not surprise me if equity markets go through some consolidation or even a correction during the seasonally weak time of the year. Should that happen, we would be buyers of that dip and likely even consider moving down the quality curve in anticipation of a more dovish Fed and coordinated action with the Treasury. Bottom line, a new bull market for equities began with the trough in the rolling recession that began in 2022. It’s still early days for this new bull which means dips should be bought.  

Thanks for tuning in; I hope you found it informative and useful. Let us know what you think by leaving us a review. And if you find Thoughts on the Market worthwhile, tell a friend or colleague to try it out!