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Market Commentary: Rather US than EU
March 8, 2010
After an almost uninterrupted 25-month run of net job losses, last week's employment report revealed that the U.S. labor market is tantalizingly close to payroll expansion. A net 36,000 jobs were reportedly shed in February (against expectations for a loss of 68,000), but the number would almost certainly have been positive had it not been for adverse weather conditions: the leisure/hospitality and manufacturing sectors added a combined 8,000 jobs, while temporary employment added 48,000 - its fifth consecutive month of growth. The biggest drag was from the construction sector, with the poor weather likely to have been a major contributor to the 64,000 jobs lost for the month. The unemployment rate remained unchanged at 9.7%, down from a peak of 10.1% last October.
The U.S. corporate sector has emerged from the recession in sound condition. Levels of cash and other liquid assets are at multi-decade highs, and profitability is now being driven by revenue growth as well as cost-containment (S&P 500 earnings and revenues for Q1 2010 are expected to grow at 37% and 9% respectively). Indeed against this backdrop, corporate spending has already begun to pick up in areas other than employment, with M&A activity, share buybacks and capital expenditure all having shown signs of improvement recently. And with productivity high and CEO confidence rising, we would expect a return to positive payroll growth in the next few months.
Concerns over small businesses and, in particular, their access to credit have cast some degree of doubt over the potential robustness of the employment recovery, but even here we see some growing basis for optimism. The National Federation of Independent Business (NFIB, a small business association) in a special study released last week entitled "Small Business Credit in a Deep Recession" recently found that weakness in business conditions - not tight credit - is the major obstacle for small business expansion.
Indeed, only 8% of survey respondents cited access to credit as their most important immediate problem. Instead, over 50% of respondents pointed to slowing or lost sales, and another 22% cited unpredictable business conditions. We might take from this that, as overall business conditions improve, so the tribulations of the small business sector should lessen.
That said, what matters most for consumer spending is aggregate wage and salary income, and here the signs are already more favorable. Personal income has now risen for six consecutive months, with private wages and salaries and personal consumption rising for four (each are now up by an annualized 2.3% and 5.7% respectively from their September 2009 lows). And with business inventories still contracting (by $20.4 billion in the fourth quarter despite their sizeable contribution to growth) and inventory to new orders ratios still below long-term averages, rising income and rising demand should prolong the production cycle, lead to further improvement in the labor market, further increases in income and demand, and so on. In short, even before the confirmation and psychological boost that will doubtless come with positive payroll growth, all the ingredients for a self-reinforcing recovery already look to be in place.
By contrast, the corporate mood in Europe looks far less sanguine. Although employment growth in Germany has begun to grow and the number of workers on kurzarbeit (shortened work time) has fallen by a whopping 42% from its May 2009 peak, the picture elsewhere is worse. France, Spain and Italy (which comprise around 50% of eurozone GDP) continue to record job losses, while industrial production for the eurozone as a whole is down by some 4.4% over a year ago (it is up by 0.9% year-on-year in the U.S.).
And while U.S. M&A deal volume rose by some 22.1% in the second half of 2009, it fell by 3.5% in Western Europe. Similarly, the annualized 6.5% fourth quarter increase in U.S. business fixed investment can be contrasted with a 3.3% drop in the eurozone (see charts). European retail sales and consumer spending remain anemic.
Europe's fiscal challenges are by now well-known, but the trends in European business and consumer activity suggest that the private sector will struggle to take up the slack. In our view, 2010 will - above all else - be a transition year in which waning public sector support will need to be replaced by growth in private sector activity. With this handoff looking less shaky in the U.S. (despite all its challenges), we underline our relative preference for U.S. equities over European markets.
-- Stu Schweitzer & Ehiwario Efeyini, Global Markets Strategists
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