A Look Behind Canada’s Near Record-Breaking Employment Report

Last Friday the latest Canadian employment report was released by Statistics Canada and it smashed expectations. Not surprisingly, bond yields shot higher on the news and lenders increased their five-year fixed-mortgage rates shortly thereafter.

Let’s start by taking a look at the highlights from the latest employment report that got everyone so excited:

• Our economy added a total of 95,000 new jobs in May. This is the second highest single-month result in the last thirty-five years (the highest was 95,100 new jobs in August, 2002).
• Ontario accounted for roughly half of the new jobs with more than 50,000 new positions created.
• The private sector accounted for almost all of the new jobs, adding 94,600 net new positions.
• 76,700 of the new jobs were full-time positions.

The immediate investor response to this employment report was predictable. Markets are made at the margin and an employment report that comes in ten times higher than the consensus forecast can certainly be expected to push bond yields higher over the short term.

Investors were quick to speculate that a surge in our monthly employment data may be a signal that our labour market is entering a tightening phase. Since there is an 80%+ correlation between rising labour costs and rising inflation, higher interest rates won’t be far behind if this tightening trend comes to fruition. But does this sudden spike in employment signal the onset of higher inflation or is it just a one-off blip?

As I read about the details in the report, I began to suspect the latter. Here are the factors that led me to that conclusion:

• We have averaged 20,000 new jobs per month over the most recent twelve months but only 17,000 new jobs per month so far in 2013. That means that our average monthly job creation is still slowing, even when May’s robust employment data are factored in.
• The experts I read estimate that at current levels, our average monthly job creation is consistent with a GDP growth rate of about 2%. While not terrible, that kind of growth rate isn’t likely to push our inflation rate much above where it is today.
• While it was encouraging to see the private sector add a large number of net new jobs, we lost 105,400 private-sector jobs over the prior two months and we have seen almost no private-sector job growth over the most recent twelve months. Frankly, some sort of rebound in private-sector job creation was long overdue.
• With our economy losing another 14,200 manufacturing jobs in May, we have now lost 100,000 manufacturing jobs over the last twelve months. Manufacturing jobs create a powerful multiplier effect which triggers job creation across our broader economy and this still-ailing sector is critical to our overall employment health.
• In a tightening labour market we should see average incomes and average employee hours worked rising, but both measures were flat in May.
• We saw 54,000 new jobs created in the 15 to 24 year-old age cohort, but there was no net job growth in the age cohorts from 25 to 54. Since younger people tend to work in lower-paying entry-level jobs, this type of job creation doesn’t suggest that a material uptick in overall consumer spending is around the corner.
• There were 42,700 new construction jobs in May but that’s not a number that anyone I read saw coming – or expects to continue.
• History has shown that spikes in the Canadian employment data tend to be anomalies with little subsequent follow through.

Five-year Government of Canada (GoC) bond yields rose nine basis points last week, closing at 1.57% on Friday. Interestingly, yields had been down four basis points by close of business on Thursday but surged fourteen basis points higher after Stats Can released its latest employment data. Lenders scrambled to raise their five-year fixed rates in response, so for the time being, borrowers are going to have to tolerate five-year fixed rates that are now slightly above the lowest in history.

Five-year variable-rate discounts are offered in the prime minus .45% to .50% range (which works out to 2.55% to 2.50% using today’s prime rate). Variable-rate mortgages are marginally more attractive now that the spread between five-year fixed and variable rates has widened somewhat.

The Bottom Line: When a key piece of economic data smashes expectations as our latest employment report did on Friday, investors tend to shoot first and ask questions later. While their initial reaction was to sell off GoC bonds, pushing their yields higher, I’ll be surprised if there is much follow through this week for the reasons listed above. If I’m right, then any uptick in bond yields and, by association, our mortgage rates will be short lived.