In August, the NFIB Small Business Optimism Index rose by 0.5 points to reach 100.8, surpassing the 52-year average of 98 by nearly 3 points. Of the ten components that make up the index, four showed an increase, four declined, and two remained unchanged. The most significant contribution to the index’s rise came from an increase in expectations for real sales.
Additionally, the Uncertainty Index decreased by 4 points to 93, although it stayed above the historical average. This decline in uncertainty was driven by reduced ambiguity regarding financing expectations and planned capital expenditures. Survey results indicated that business conditions showed positive trends.
Labour Market Challenges
Challenges persist with the labour market, which remains stalled due to low layoffs and hiring rates. This is the primary source of concerns, despite the broader optimistic outlook for business conditions. Overall, these results point to moderate optimism and ongoing labour market challenges for small businesses in the US.
This small business data, while strong, missed expectations, which confirms the market’s current state of indecision. We see underlying economic health from sales expectations, but it’s not strong enough to signal a major breakout. This suggests we should be cautious about placing large directional bets on broad indices like the S&P 500 in the immediate future.
The report highlights a “frozen” labor market, a view supported by recent government statistics. We saw the Non-Farm Payrolls report last Friday come in at just +155,000, missing consensus for the third consecutive month, while the unemployment rate has been stuck at 4.1% since May. This stagnation is the main factor preventing markets from pushing to new highs with conviction.
Federal Reserve’s Dilemma
This environment puts the Federal Reserve in a difficult position ahead of its meeting next week. With business sentiment positive but the labor market sputtering, a rate change is almost certainly off the table. We expect the Fed to hold rates steady, which will likely keep market volatility suppressed in the very near term.
Given this, we see an opportunity in volatility markets. The CBOE Volatility Index (VIX) is currently sitting near 16, reflecting this near-term calm, which feels too low given the underlying uncertainty in hiring. Buying longer-dated options, such as VIX calls for December or straddles on the SPX, looks attractive as a way to position for a potential market break when the labor market finally unfreezes.
The divergence between strong sales outlooks and poor labor quality suggests a growing gap between companies that can innovate and those reliant on labor. We should consider trades that favor technology and automation sectors over small-cap and service-oriented businesses. This could involve buying call options on tech-heavy ETFs and put options on the Russell 2000 index.
This reminds us of the sideways market we experienced back in 2015, where the economy was growing but not fast enough to spark a clear trend. That period was defined by short, sharp shocks rather than a sustained move. We should therefore be positioned for sudden spikes in volatility rather than a smooth ride up or down over the next several weeks.
