“Kee” Points with Jim Kee, Ph.D.

The big news last week was the release of the now widely anticipated monthly payroll employment report. Statistically, taking the average of monthly job gains (or losses) over the past 3 months is the most meaningful number, and prior to June's release that three month average was 272,000 new jobs per month, according to the Bureau of Labor Statistics. That's pretty robust; it tells a different story - one of continued expansion - than the negative first quarter GDP number. And with the Dow finishing over 17,000 on Friday, I think that's what the market has been pricing. June's payroll number was an even stronger 288,000 new jobs, with the biggest gains coming from retail, business and professional services, and government (which had been negative in May). The unemployment rate for the US as a whole fell from 6.3% to 6.1%.


The stock market: Our expectations for stocks at the beginning of the year were for one or more pullbacks in the market, but ultimately for stocks to end higher, albeit below the 9%-10% average. Here at the half-way point in the year we are already there, and so the natural question coming from all investors is, what do we expect now?


To answer that, I reiterate the importance of Milton Friedman's plucking model as a way to think about the economy and stocks. That data-driven framework argues that economic expansions continue until the economy experiences a shock that is large enough to dislocate the web of global exchange such that economic activity actually declines for a few quarters. These shocks come more or less out of the blue or at random, which explains why expansions last anywhere from 12 months to 10 years. No other framework explains the US economy with as much parsimony.


And that model should also explain stocks, and it does. The market trends upwards, like the economy, until it gets dislocated by shocks, like the tech-bust/9-11 shocks in the early 2000s, and the near-collapse of the global financial system in 2007-09. Once the shock is past (or removed through a suitable policy response), the market resumes its upward trend. That's why bull markets, or periods in which stocks expand without a 20% or more downward move, have lasted anywhere from 32 days to 13 years.


This view implies that bull market ends can't be predicted (unless shocks can be predicted), but it also implies more than that. It implies that the biological metaphor, i.e., "this bull market is aging," doesn't really apply. There is some truth that bull markets are stronger in the earlier stages than the later stages. But the current run in stocks, which began in early 2009, also had a year in 2013 that was up over 3 times average, and that followed a year - 2012 - that was basically flat. That doesn’t fit the biological metaphor at all. The baseball metaphor doesn't apply either. The data don't suggest early or late innings, only an upward trending market punctuated by large and small stocks. Think about that the next time you look at a long-term stock market chart, and I think you will agree!