What is an Unemployment Rate?

The unemployment rate is a calculation of US citizens who do not currently have a temporary, part-time, or full-time job and is reported by the Bureau of Labor Statistics. There is more than one metric for determining unemployment, the main ones being:

• U-3 rate: This is calculated by dividing the number of unemployed by the number of employed and unemployed combined. This rate in September 2022 was 3.5%.
• U-6 rate: This rate includes the same labor force while considering those whose employment status is not based on simply having or not having a job, for example, the underemployed or discouraged job searchers who are struggling to find work. This rate in September 2022 was 6.7%.

Although these are the main percentages taken into consideration when thinking about overall unemployment, there are a few others as well:

• U-1 rate: Considers those who have been unemployed for more than 15 weeks.
• U-2 rate: Considers people who have lost their jobs.
• U-4 rate: Considers those who are unemployed in addition to discouraged job seekers.
• U-5 rate: Considers people who are unemployed, discouraged job seekers, and anyone else who abandoned a job search in the past year.

Understanding Nonfarm Payrolls

A nonfarm payroll (NFP) is a survey of US workers, not including farm workers and workers in a few other fields, including some government workers, non-profit employees, and private households. The NFP is a report that evaluates jobs gained and lost within this category each month.

While the unemployment rate determines how many people are without work, nonfarm payrolls determine how many people have recently become employed. Knowing how many people are employed can indicate if the economy is improving or slowing down, due to company profits and consumer spending.

Assessing the State of the Economy

Unemployment and the nonfarm payroll are both key players in how economic policies are implemented, which can in turn impact the stock market and your investments. When the unemployment rate is low and the nonfarm payroll figure is high, this means that more people are taking home regular pay, and in turn, putting more money back into the economy, increasing company profits. When unemployment is high and the nonfarm payroll figure is low, as seen in the early months of the COVID-19 pandemic, stocks tend to not perform as well due to less consumer spending. The unemployment rate is generally considered to indicate the health of the economy and predict stock prices. However, this correlation is not guaranteed, and looking at the unemployment rate is not a fast pass into profitable investments.

Impacts on the Stock Market

While historically low unemployment rates have meant higher stock prices and higher unemployment rates have meant lower stock prices, the relationship between employment rates and the stock market is more complex. For example, one important factor is inflation, which can cause high interest rates and, in turn, lower demand for stocks. If there is a low unemployment rate, but high interest rates, people are less likely to be able to afford to invest, even if low unemployment usually means increased stock market activity. Many experienced traders look closely at the unemployment rate to assess its impacts on the stock market, but also consider the many other factors that can influence the economy.

The Bottom Line

The unemployment rate, which assesses how many people do not have jobs, and the nonfarm payroll, which assesses how many people are employed, are important economic indicators. Both can be useful tools to get a general idea of when could be a good time to invest. It could be smart to invest when unemployment rates are lower, but remember that it does not guarantee successful investments and to always assess your risk carefully before making an investment.