Despite a big drop in the unemployment rate, last Friday’s non-farm payroll report was a huge disappointment. The unemployment rate drop was driven by more Americans leaving the workforce. As a result, the participation rate fell to 62.8%, tying a 35-year low set in October. Meanwhile, job creation in the United States plunged to the lowest level in years, and wage growth remains elusive.
The report’s bottom line: While the economy is improving, the labor market is still lagging, bedeviled by structural problems.
So what are the investing takeaways? As I write in my new weekly commentary, there are three key implications for investors.
1. Remain cautious on U.S. consumer companies, both discretionary and retail. While the economy is improving, consumption remains soft and last week’s labor market report confirms why. Other than the top of the income ladder, consumers have been spending from savings and wealth gains, not income. This is not sustainable over the long term.
2. Diversify internationally. Last year it paid to be overweight U.S. stocks. This year investors may want to embrace a more diversified portfolio. While investors certainly don’t want to abandon the United States, I’m advocating that those still very overweight U.S. equities consider a broader equity allocation that includes exposure to European equities. While Europe is still struggling, the region is showing signs of improvement. For example, European retail sales grew by 1.4% last month, the fastest monthly gains since 2001. Though Europe will doubtless grow much slower than the United States in 2014, from an investment perspective it is often the marginal change that counts.
3. Stay underweight Treasuries, particularly short to medium exposures. While I remain cautious on Treasuries, much of yield rise I expect has already occurred. To the extent inflation remains low and the labor market recovery stays uneven, long-dated Treasuries may be less vulnerable than those in the short and middle parts of the yield curve (meaning Treasuries with maturities roughly between 2 and 5 years).
Sources: Bloomberg, BlackRock research