Reporting Companies Frequently Citing Higher Labor Costs, Which Could Be A Harbinger For Recession

Key Takeaways:

• Stocks Fail to Follow Through on Monday’s Rebound, but the Dow Jones Industrial Average Finds Strength in Earning Announcements
• Investor Confidence and Consumer Confidence Demonstrate a Link Between Main Street and Wall Street
• Companies Continue to Point to Rising Labor Costs During Earnings Calls

Despite Monday’s nearly historic price swing that left the major indices closing in the positive, the S&P 500 (SPX) and the Nasdaq Composite ($COMP) fell 1.22% and 2.28% respectively. On the other hand, Dow Jones Industrial Average ($DJI) was only slightly lower at 0.19%. The Dow appears to have been buoyed by half of its 30 companies reporting earnings Tuesday. Let’s look at a couple of these companies.

American Express (AXP) was the biggest winner of Dow constituents, rallying 8.92% on better-than-expected earnings but falling short on the revenue estimate. AXP also boosted its forecasts after hitting a record in credit card spending. International Business Machines (IBM) wasn’t too far behind AXP because it rallied 5.65% on rising earnings from its cloud business that helped the company beat earnings and revenue estimates.

Johnson & Johnson (JNJ) also helped boost the Dow by rising 2.86% on better-than-expected earnings and revenue. The company is still preparing to split into a consumer products company and a pharmaceutical company, and JNJ is busily preparing for the split.

On the downside, Verizon (VZ) and 3M (MMM) both traded a little lower on the day, reporting better-than-expected earnings but falling short on revenues. VZ increased its forward earnings guidance, which also helped the stock rise 0.47% in premarket trading but fell back into the negative and closed 0.11% lower on the day. MMM contributed its success to its customer focus and the ability to manage supply chain issues, which led to the stock rallying 1.75% before the bell but was unable to hold the gains and traded just 0.55% higher for the day.

Lockheed Martin (LMT) rose 3.71% after beating on top and bottom line numbers. LMT reaffirmed its 2022 sales outlook, which helped the stock rise 0.50% before the bell. The Federal Trade Commission is planning to file a lawsuit to stop LMT’s acquisition of Aerojet Rocketdyne (AJRD). The acquisition was expected to cost LMT $4.4 billion. AJRD fell 18.56% on the news.

Former Dow component, General Electric (GE) fell 5.98% after missing on its revenue estimates and providing lower future earnings guidance. The company cited supply chain difficulties as a major reason for the issues.

After the bell, Microsoft (MSFT) reported great earnings and revenue but failed to grow its cloud business, causing the stocks to drop 4% in after-hours trading. Texas Instruments (TXN) had a big upside earnings surprise, prompting the stock to rally 3% in after-hours trading. The mixed reports appeared to send S&P 500 futures lower by about 0.68%.

Going into Monday, about 76.6% of companies had reported better-than-expected earnings. This is above the long-term average of 65.9%, but below the prior four-quarter average of 83.9%. With the previous year’s earnings so strong, investors are struggling to get excited about what they’re seeing.

Confidence Game

In the last couple of articles, I’ve discussed the Cboe Market Volatility Index (VIX) as a measure of confidence or concern for investors. The VIX has shot up just shy of 40, which has been a level of high concern or fear for investors but dropped back to 30 before the close. It spiked again to 36 on Tuesday and closed around 31. These are all elevated levels that are above normal.

As investor confidence has fallen, so has consumer confidence. According to The Conference Board, Inc. (CB), consumer confidence as had declined this month due to rising inflation and the Omicron variant. However, the previous three months, the CB recorded higher confidence. Stock prices often reflect gas prices so it should come as no surprise that changes in the investor confidence and consumer confidence are declining together.

Laboring the Point

According to FactSet, labor costs have been one of the most frequently mentioned topics during earnings conference calls. It seems to be an unfortunate injustice that the rising cost of labor, which allows workers to get further ahead, could also be a precursor to recession. However, the biggest issue commonly lies in paying higher wages for low-skill or unskilled jobs. Laborers who can increase their skills and value to a company can be moved into higher paying jobs or promoted into a higher paying position. Each added skill adds value to the worker, the company, and more importantly the clients and customers.

When it becomes too difficult and/or too costly to find labor to fill positions, companies will usually turn to offshoring and outsourcing as ways to find cheaper labor. While this may be a source of frustration for domestic workers, it’s usually a boon for poorer countries because these larger companies tend to pay higher wages than local companies in those areas.

It’s unlikely that very many companies will be discussing offshoring or outsourcing during this quarter’s earnings calls, but if the labor issues continue, companies may have to start looking for solutions elsewhere.

TD Ameritrade® commentary for educational purposes only. Member SIPC.