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The UK cut rates to 4% yesterday. The tone of the meeting was a little more hawkish than markets were expecting but it still looks like we will end up at around 3.5% base rates in 12 months’ time. The one thing that would make them cut more quickly is if current job market trends remain in place. Here is the change in UK payrolled employees since 2022:
I wrote last week that the two things that mattered for equity markets were (i) the economy holding up under the weight of tariffs and (ii) that the AI technology boom keeps rolling on. But if employment numbers in the US start to look anything like those in the UK then I think the thesis (i) about the global economy holding up would start to break. Last week we had non-farm payroll numbers out of the US and they were below expectations with some chunky negative revisions to the previous month’s data. Here is an estimate of US employment growth calculated by Goldman Sachs. The direction of travel looks a lot like the UK to me. We are not in negative territory yet but there is going to be a lot of pressure on next month’s number.
One theory behind the weakening job market is that AI might mean less hiring for technology workers (one thing AI models are good at is coding) and, of course, gradual job losses for other sectors. It looks like we are starting to see this effect in the jobs data. The share of total employment taken up by technology is falling and tech unemployment for young people is rising:
My instincts are that as AI models continuously improve this job displacement will accelerate next year. Still, I also think it will be manageable. Goldman Sachs estimates 6-7% of all jobs to be at risk from AI. But they also think this transition will happen over a decade and so will add around 0.5% per annum to the unemployment rate as displaced employees transition to new jobs. This second part I find credible as status quo bias at larger organisations (including, most obviously, Civil Service and government roles) will slow the transition. The recent history of technological innovations is that they have a bigger impact than you think at the start but that this takes longer to arrive than you and markets expect. The main thesis behind the late 1990s dotcom bubble was essentially right but it wasn’t until the 2010s that the internet based technology giants really took off. I’d expect the AI revolution to be very real but also relatively slow moving.
And there is of course some tension here. The bigger the AI opportunity, the better US technology earnings will be but, also, the bigger the impact on the overall economy you can start to see emerging above. And I would argue that software winning and the rest of the economy treading water has been the theme of the last few years. Here are earnings for the top 10 companies in the S&P 500 (which are of course dominated by the technology giants) compared to everything else.
So, one risk to the jobs market (and the economy) is continued AI driven job losses. This means that investments in the US technology sector have a double attraction. You are, of course, investing in very profitable companies that are growing their earnings. But if they continue to drive weakness in labour markets then a combination of tech plus bonds (which will benefit from falling rates) looks to be a decent hedge. The US tech sector is, of course, not cheap but we will not be cutting our core allocation any time soon.
Chris Brown, CIO
cbrown@ipscap.com
The value of investments may fall as well as rise and you may not get back all capital invested. Past Performance is not a guide to future performance and should not be relied upon. Nothing in this market commentary should be read as or constitutes investment advice.
