Market Update

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Market Update

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The week was all about quarterly earnings which pushed stocks to their lowest level in three weeks. After reaching a 4-month high on April 20, stocks (the S&P 500) are off 2.5%. Meanwhile, long-term interest rates fell to their lowest level in two weeks. Echoing what we discussed last week, several FOMC members cautioned that the markets had become “too complacent” in regard to higher rates, which added to investor angst. If that weren’t enough to grapple with, the April Employment Report was weaker than expected.

Payrolls added only 160,000 jobs – well short of the 200,000+ forecast. In addition, the Household
Survey (of small businesses and start-ups, from which the unemployment rate is calculated)
showed a loss of 316,000. Normally, a drop in Household Employment this large would mean a
higher unemployment rate, but the labor force fell 362,000, keeping the unemployment rate steady
at 5.0%. We’ve had monthly misses in employment before and the trends in employment over the
past year remain solid. Over that time span, Payrolls are up 224,000 per month and Household
employment is up an average 208,000. In addition, the labor force is up nearly 1.9 million over the
same period. The labor force participation rate slipped to 62.8% in April (from 63.0% in March), but
is still higher than it was a year ago.

Before you join the investors on the ledge, we’re not convinced that this is the start of a downturn.
Why? Both wages and hours worked show plenty of demand for workers. Average hourly earnings grew 0.3% in April and are up 2.5% in the past year. Meanwhile, total hours worked rose 0.4% in April and are up 2.1% from last year. The average workweek ticked up to 34.5 hours in April from34.4 hours in March. While that doesn’t seem like a huge improvement, that one-tenth of an hour isthe equivalent of adding about 350,000 jobs. With higher wages and hours worked, total cash earnings (excluding fringe benefits and irregular bonuses/commissions) are up 4.7% from a year ago. With inflation running just over 1%, that leaves lots of room for consumers to keep buying.

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In other news, the ISM Manufacturing report for April slipped to 50.8. While the manufacturing
sector continued to grow in April, the pace was a tad slower than in March (51.8). Still, the details of
the report point to continued growth in the months ahead. The two most forward looking measures,
new orders and production, slowed in April, but remain comfortably above 50, signaling
expansion. Fifteen of eighteen industries reported growth in new orders, while just one, textile mills,
reported declines. The news on production was similar, with fifteen of eighteen industries reporting
growth while two, textile mills and petroleum & coal products, reported declines. Prices paid index
jumped 7.5 points to 59.0 after a 13 point surge in March.

The ISM Non-Manufacturing index jumped to 55.7 to its fastest pace of 2016. Among the eighteen
service sector industries surveyed, thirteen reported growth in April, while just four – including
mining and transportation – reported contraction. Activity for the largest sector of the US economy
has now grown for 75 consecutive months, and continued strength in both new orders and business
activity show positive signs for the months ahead. The new orders index, a signal of how business
activity and employment are likely to move in coming months to fill demand, rose to 59.9, the
highest reading in six months. The business activity index declined one point to a still strong 58.8,
while the prices-paid index broke above 50 in April, coming in at 53.4 as rising prices for metals and
fuels more than offset declining prices for beef, eggs, and natural gas.

Auto Sales bounced back in April, rising 5.1% from March to a 17.4 million unit annual sales rate.
The April rise put sales 4.0% above last year’s record-setting pace.

Construction Spending increased 0.3% in March, but downward revisions to prior months actually
made it a decline (-0.6%). The March gain was primarily due to home building, led by apartments
and improvements to existing homes, which offset a drop in government projects, including
passenger terminals, power plants, and sewage & waste facilities.

The US Trade Deficit fell in March to the narrowest deficit in over a year. Imports declined by $8.1
billion in March (again, the largest drop in over a year) as companies were still trying to get
inventories in line with weaker demand. Exports also declined (- $1.5 billion). Slow economic growth
abroad has held down exports over the past year and may continue to be a factor. The decline in oil
imports remains a drag as U.S. imports of petroleum and petroleum products in March were the
lowest since 2002.

Non-farm Productivity declined 1.0% (annualized) in Q1, as hours grew faster than output. The
consensus expected a decline of 1.3%. Real (inflation-adjusted) compensation per hour in the
non-farm sector was up at a 3.4% annual rate in Q1 and is up 1.7% versus a year ago. Unit labor
costs rose at a 4.1% annual rate in Q1 and are up 2.3% in the past year, and it looks like wage
pressures are starting to build as the labor market strengthens. On the manufacturing side, where it
is much easier to measure output per hour, productivity rose 1.9% at an annual rate. The faster
pace in manufacturing productivity growth was due to an increase in output in that sector, along
with a decline in hours. Real compensation rose 0.9% while unit labor costs fell 1.2%.

Despite the downward pressure from earnings this week, the employment disappointment didn’t
sink the stock market. U.S. stocks finished higher Friday, as they bounced back after spending
much of the day in the red. Still, the major stock indices booked their second consecutive weekly
loss. Perversely, a lot of the stock bounce came because investors believed that the economy was
weaker than previously thought. That boosted stocks because it reduced the odds that the Fed
would raise rates in June. No one said this was simple.

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April’s “weak” job report was par for the course when you look at the employment chart above. Nothing has really changed in the trend. In April, the number of “job quitters” hit 10.8% – the highest level since 2008 and barely below the average of 10.9% over the past 30 years. Fed Chair Janet Yellen has watched the share of voluntary job leavers among the unemployed as a sign of labor market strength. While the markets have all but written off a June rate hike from the Fed for now, we will continue to expect the unexpected.

For the week: For the week:

Interest Rates (5-Yr Treasury): – 7 basis point basis point basis points to 1.23%

Stocks (S&P 500): – 8 points to points to points to 2057