In absolute terms the addition of 151,000 jobs to the U.S. economy isn’t a great number. It was below expectations from economists surveyed by Bloomberg for 190,000 jobs and it was a big drop from the 262,000 jobs created in December and the 280,000 added in November.
But in the context of a bond market that had just about concluded that the Federal Reserve couldn’t afford to raise interest rates even once in 2016, 151,000 is enough. Especially when you add in strong growth in hourly earnings and a drop in the official unemployment rate to 4.9%, the lowest level since February 2008.
Some doubt about the Fed’s moves for 2016 crept back into the market this morning, As of 10:20 a.m. New York time the yield on the U.S. 10-year Treasury had climbed 3 basis points–not much but any move upward breaks, so far, the recent trend downward. (And remember bond prices go down when yields go up.) The U.S. dollar was up 0.4% against the 10 currencies tracked in the Bloomberg Dollar Spot Index.
The most important number in this morning’s report from the Labor Department, in my opinion, was the gain in hourly earnings. Average hourly earnings rose 0.5 percent from a month earlier. That took the year over year increase to 2.5%. That follows a 2.7% year over year growth rate for average hourly earnings in December. The two back to back readings of 2.5% and 2.7% certainly suggest that moderate wage growth is now the rule. That in turn is positive news from the Fed’s efforts to get inflation to 2% and gives the central bank some reason to believe that another interest rate increase won’t completely derail inflation or the economy.
I think these numbers are likely to leave the Fed very cautious. The Fed’s Open Market Committee doesn’t meet until March 16 so Janet Yellen & Co. will have February data and a look at early March numbers before they need to decide anything. There’s still a way better than even chance in my books that the Fed will opt to gather another month of data, which would put off the decision until the April 27 meeting or, since the April meeting doesn’t currently include a press conference in its schedule (and the Fed likes to make moves in interest rates at meetings with press conferences,) the June 15 meeting.
None of today’s news or my speculation above suggests that the Fed will aggressively raise interest rates in 2016–the earlier suggestion of four rate increases in 2016 still seems unlikely. But today’s news does introduce an element of uncertainty into a bond market that had been increasingly convinced that 2016 was “one-or-none.”
The “one or none” trade includes a little more risk this moaning
Yesterday, Monday February 1, U.S. stocks shrugged off a big drop in oil, and bad news on manufacturing from China and the United States to close down just 0.1% on the Standard and Poor’s 500. After demonstrating last week that central banks still had the clout to move financial markets, yesterday’s support for the equity market came from the same central bank well: comments by Federal Reserve vice chairman Stanley Fischer saying the Federal Reserve will consider current market turmoil in its decision on when/if/how much to raise interest rates.
A look at the calendar, though, should give investors’ pause: There’s a paucity of potential central bank news until the Federal Reserve and the European Central Bank next meet in March. And the next likely near term move by the People’s Bank will be the always tricky withdrawal of money from China’s financial system that was put into the system ahed of the Lunar New Year that falls on February 6 this year. The People’s Bank typically adds liquidity ahead of the holiday and then removes all or some of it after the holiday is over.
Yesterday West Texas Intermediate crude fell 6% on news of the slowdown in Chinese manufacturing. The official Chinese purchasing managers index fell to 49.4 in January from 49.7 in December. The January reading–and remember anything below 50 on this index indicates contraction in the sector–is the lowest since August 2012.
But stocks barely budged with the S&P 500 edging lower by just 0.1%. The index reversed bigger morning losses on Fischer’s comments.
Other risk assets weren’t nearly as fortunate with the Shanghai Composite Index down 1.8% for the day.
Now I suppose the world’s central banks could arrange a series of talks by other officials along the lines of Fischer’s remarks to remind markets that the banks could ride to the rescue again. After all Mario Draghi has just about promised that the European Central Bank will cut its benchmark deposit rate again and/or increase its asset buying program in March. And lots of speculators in China are willing to bet that the People’s Bank will move to support stocks if the Shanghai Index falls to 2500. (It closed at 2750 on Tuesday after rallying from Monday’s drop.)
But those speeches–even if they are delivered–aren’t a substitute for actual action (or in Draghi’s case the usual promise of action) from the central banks. The financial markets are going to be on their own for a while and dependent on the direction of oil prices and reports of corporate earnings.
Guess Wall Street forgot the Federal Reserve doesn’t do “explicit.”
If markets were hoping for the Fed to speak to a reduction in the number of potential interest rate increases likely in 2016, they were certainly disappointed. The farthest out on a limb the Fed was willing to go was to change its previous assessment that risks were “balanced” to a statement that the Fed is “closely monitoring global economic and financial developments and is assessing their implications for the labor market and inflation, and for the balance of risks to the outlook.”
That doesn’t cut it for a market that believes the Fed will raise rates one more time in 2016–instead of the four that the Fed signaled in December. The market would like some confirmation for its belief, though, and it didn’t get it today.
In fact, I’d say the most explicit the Fed got was to sort of admit that it too was worried about the effect of plunging stock prices in China and in other emerging markets on global economic growth. But the last thing this market wants to hear is that the Fed hasn’t abandoned its plans for multiple interest rate increases even as the risk of an economic slowdown is rising.
The Fed has, as I read today’s statement, essentially moved back to the data-dependent stance of last fall. It certainly makes sense for the Fed to say that it needs to see more data before it decides on a course of action–but frequently the market wants to hear something besides “sense.”
Tomorrow the Bank of Japan meets. Let’s see what goodies that central bank has for us.
After today’s carnage in global markets–and in the Dow, the Standard & Poor’s 500 and the NASDAQ Composite–I’m inclined to add downside protection to my portfolios by buying an ETF to short a major U.S. index, such as the Standard & Poor’s 500, down another 2.22% today. The PowerShares Short S&P 500 ETF (SH) would be my choice.
But I’m going to play it very conservatively here and wait until Monday. I think the world’s central banks are likely to use the weekend to try to jawbone the equity markets back up. I’d expect to see verbiage plus action from the People’s Bank and words without action from the European Central Bank and the Federal Reserve. Of those possibilities, the bank with the most potential to move stocks up on Monday is the Federal Reserve. The combination of potential Fed words and the likelihood of a bounce after today’s rout leads me to wait an extra trading session to take a bit of risk out of a short position here. I don’t, however, expect that anything that these central banks might do or say over the weekend will have an effect that lasts more than a day or two. Much of what global markets are worried about are problems of the central banks’ making–the debt bubble at Chinese companies, for example–and much of the drop in global equity markets this time around is a result of a loss of confidence in the ability of central banks to fix problems in national and global economies.
Why am I so focused on what, if anything, the Fed says this weekend?
First, because the U.S. stock and Treasury market are in such precarious balance right now. In anticipation of an increase in interest rates by the Fed in December, and in reaction to the Fed’s signal to the market that it can expect four interest rate increases in 2016, the yield on 10-year U.S. Treasury note moved head of the yield on the S&P 500. With the recent sell off in stocks, however, the yield on the S&P 500 stocks has again moved ahead of the yield on 10-year Treasuries by, as of January 14, 20 basis points. (100 basis points make up a percentage point.) Now the opportunity to earn a 2.23% yield on the S&P 500 instead of 2.03% on a 10-year Treasury isn’t likely to set off a gold rush into stocks, but the tilt in the yield spread toward the S&P 500 and away from Treasuries does, at the margin, offer some support to U.S. stocks. Some investors and traders will move some money into U.S. equities to capture that extra yield.
Second, the interest rate increase from the Federal Reserve in December and the prospect of as much as another one percentage point increase spread out over 2016 with the first additional increase coming as early as March is a major contributor to this current sell off. Higher interest rates from the Fed are helping send emerging market currencies lower against the dollar. That in turn increases worries about the high level of dollar-denominated emerging market corporate debt, since debt in stronger dollars costs more to pay back. A stronger dollar thus both slows growth outside the U.S. as companies have to put aside more to cover dollar debt and cuts into growth in U.S. exports as a more expensive dollar discourages purchases by non-dollar customers. A stronger U.S. dollar also hits the price of dollar-denominated commodities–something the oil market definitely doesn’t need right now. Any statement from a Fed official–the president of one of the regional Federal Reserve banks, for example–suggesting that the Fed might delay the next interest rate increase beyond April or that the Fed is considering fewer than four interest rate increases in 2016 has the potential to move global equity markets on Monday.
So right now I’d like to wait and see what the weekend brings. More on Monday.
No surprises from the Federal Reserve today. And the market liked that.
At its meeting today, December 16, the Federal Reserve’s Open Market Committee unanimously decided to raise its target short-term interest rate to a range of 0.25 to 0.5%, up from the prior 0 to 0.25%. The median forecast by Fed members called for a benchmark rate of 1.375% at the end of 2016. That’s the same end-of-year interest rate that they forecast in September. That forecast implies four quarter-point interest rate increases in 2016. The Open Market Committee next meets on February 1 and March 16.
In its post-meeting statement the Fed said, “The committee judges that there has been considerable improvement in labor market conditions this year, and it is reasonably confident that inflation will rise, over the medium term, to its 2 percent objective.” The central bank also repeated its projection of a slow increase in rates: “The committee expects that economic conditions will evolve in a manner that will warrant only gradual increases in the federal funds rate.”
The Fed didn’t have anything new to say about when it might start to shrink its balance sheet, saying that it expects the balance sheet to remain at current levels “until normalization of the level of the federal funds rate is well under way.”
The financial markets liked this lack of surprise. The Standard & Poor’s 500 stock index closed up 1.45%. Yields on the two-year Treasury note rose four basis points to 1.0005, the first time since 2010 that the yield has been above 1%.