U.S. equities logged modest gains last week and closed the week just off all-time highs as the monthly employment report for May continued to show progress in the healing of the labor market but fell short of expectations for the second month in a row. For the week, the S&P 500 gained 0.6%, while the Dow Jones and Nasdaq Composite advanced 0.7% and 0.5%, respectively. Meanwhile, the lower than expected jobs gain pushed interest rates lower with the U.S. 10-year Treasury closing out the week at 1.55%. Interest rates have continued to stay range bound this quarter after pushing up to 1.75% towards the end of the first quarter.
The May employment report announced 559k job gains for the month, which was an improvement over the 278k gain in April, but it once again underwhelmed relative to expectations (consensus forecast for 650k net new hires) and indicated that labor supply is bouncing back more slowly than demand. The unemployment rate ticked down to 5.8% from 6.1% in April, but this was also driven by a drop in the labor market participation rate. With the level of U.S. employment still 7.6 million below its pre-pandemic peak, it would take about 14 months at the pace of job gains over the last three months to recover the shortfall.
Equity markets took the employment report in stride, however, as the moderating pace of employment gains reinforces the likelihood that the Federal Reserve will be patient in the process of reducing accommodative monetary policy and eventually hiking rates. Inflationary pressures will likely continue to run hot over the course of this year, but the hard-hit service sector is showing strong momentum that may relieve some of the pressure and excess demand that was diverted to the much smaller U.S. goods sector over the past year. In fact, the ISM Services Index hit its highest ever level of 64.0 in May (any reading over 50 indicates expansion) as demand is proving incredibly strong.
Sourcing sufficient labor continues to be a large obstacle to meeting that surging demand. Supplemental unemployment benefits have been repealed in some states and will tail off notably in June and fade completely in September. Other factors holding back labor supply, like child care and lingering Covid concerns, should also begin to taper off in coming months, providing a clearer picture of the health of the labor market towards the end of summer.
In the week ahead, in addition to updates on consumer sentiment and job openings, market participants will get a fresh look at inflation with the May Consumer Price Index (CPI) reading on the docket. CPI is expected to have risen to 4.6% year-over-year in May (3.4% excluding food & energy), up from a 4.2% year-over-year increase in April. The CPI report will also be a crucial data set for the Federal Reserve in front of the upcoming policy meeting.
