Small Business I: SmallCaps Are Big Employers. The S&P 1500 stock price index has 1,500 companies. On June 12, it had a total market capitalization of $23.3 trillion. Remarkably, this index’s market cap is up 251.9% since March 9, 2009, by a whopping $16.7 trillion from a low of $6.6 trillion (Fig. 1). It is up 48.5% from the previous bull market’s peak. Weighing in at $20.9 trillion currently, the S&P 500 accounts for nearly 90% of the S&P 1500’s market cap (Fig. 2).
The S&P 400 MidCaps and S&P 600 SmallCaps currently have market values of $1.7 trillion and $0.7 trillion, respectively. They account at present for just 7.2% and 3.1% of the S&P 1500 (Fig. 3). The S&P 500 comprises corporations with market caps of at least $6.1 billion. MidCaps represent those with market caps of $1.6-$6.8 billion, and Small Caps $450 million-$1.8 billion.
Yet small and medium-sized companies are disproportionately big employers according to ADP’s monthly tally of payrolls. In May, the former accounted for 41.3% of private-sector payrolls, while the latter accounted for 36.0% (Fig. 4). So large companies employed just 22.7% of all private-sector employees.
The ADP data by company size start in 2005. So there isn’t much history. Since then, total employment is up 13.0 million, led by gains of 6.3 million and 5.4 million among small companies and medium-sized ones (Fig. 5). Employment at large companies rose only 1.3 million over this period.
This might be one plausible explanation for the significant slowing in productivity growth in the US.
Consider the following:
(1) Smaller outfits that are growing probably can do so mostly by hiring more workers, while larger companies may have access to more productive ways of expanding their capacity and output. It’s hard to test this hypothesis since we don’t know whether smaller firms were outsized employers or not prior to 2005, when productivity was growing at a faster clip.
(2) ADP data are available since 2001 for employment by goods-producing and service-producing companies (Fig. 6). The former is actually down 4.2 million over this period through May of this year, while the latter is up 16.8 million. This suggests that productivity has weakened in recent years mostly because service companies with small and medium-sized payrolls have done all of the hiring. The big problem with this theory is that manufacturing productivity growth has averaged zero for the past five years (Fig. 7)!
Small Business II: Profits Cycle Booming. Debbie and I believe that the profits cycle drives the business cycle. Profitable companies expand their payrolls and capacity, while unprofitable ones are forced to retrench. Obviously, during economic expansions, there are many more profitable than unprofitable companies.
The forward earnings data for the S&P 1500 and its three major components show that all are rising in record-high territory (Fig. 8). Since the start of the weekly data at the beginning of 1999 through early June of this year, the forward earnings of the S&P 500/400/600 are up 168.1%, 349.6%, and 327.7% (Fig. 9).
The monthly survey of small business owners conducted by the National Federation of Small Business (NFIB) includes a question on whether earnings are higher or lower over the past three months. The resulting net earnings series is volatile from month to month, with the 12-month average very much driven by the ups and downs of the business cycle (Fig. 10). The series starts during September 1974, and has been negative since then. In other words, on balance more small business owners lose than earn money!
Nevertheless, the 12-month average of this series is highly correlated with the 12-month average of the percent of small business owners who plan to increase employment (Fig. 11). In May, the former rose to the highest since May 2007, while the latter rose to the highest since September 2007.
Small Business III: Help Wanted. The problem with all this wonderful news is that the economy is running out of warm bodies to employ as Debbie and I have been arguing of late. May’s NFIB survey found that 34.0% of small business owners had one or more job openings, the highest since November 2000 (Fig. 12). Furthermore, 51.0% said that there were few or no qualified applicants for the positions.
The three-month average of the NFIB job openings series is highly inversely correlated with both the unemployment rate and the jobs-hard-to-get series included in the monthly consumer confidence survey (Fig. 13 and Fig. 14). The bottom line is that the labor market is tight, and may pose a challenge for the expansion plans of small businesses and dampen the growth rate of the overall economy.
Dr. Ed Yardeni is the President of Yardeni Research, Inc., a provider of independent global investment strategy research.