Posted on: 04 Jul, 2019
With the US independence day resulting in abnormally calm market conditions, traders are gearing up for the next crucial event to inject volatility in the currency market. Will US nonfarm's disappointment in May (+75k) be just a one-off or can we start to see a developing weak trend?
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With the US independence day resulting in abnormally calm market conditions, traders are gearing up for the next crucial event to inject volatility in the currency market. Will US nonfarm's disappointment in May (+75k) be just a one-off or can we start to see a developing weak trend in the making?
According to this month’s aggregation of calls by economists, the reference number to be taken as consensus points around 160k jobs created with a range of expectations from 100k up to 200k, average hourly earnings to tick up to 0.3% and the jobless rate to stay at 3.6%, lowest in half a century. This month’s report takes an even greater degree of suspense due to the volatility the headline number has experienced over the past four months alongside the fall in the ADP payrolls in May to 27k.
Needless to say, as evidenced by the resumption of the sizzling macro bond trends globally, where more than $13 trillion worth of bonds are yielding negative returns, the market has found little comfort on the so-called ‘goodwill’ truce from China and the US to go back to the drawing table. It means the focus is back to global easing policies.
The market is back to command its attention towards the most pressing issues at hand, and none seems hotter than whether or not the Fed can allow itself to be patient not to cut rates at the end of this month. The market holds the firm belief that an 'insurance rate cut' by Powell is highly likely, priced at a 70% chance.
Fresh on the back on everyone’s mind should be last week’s Federal Reserve Chair Jerome Powell commentary that “an ounce of prevention is worth more than a pound of cure”. This statement clearly implies the Fed is setting the stage for a July rate cut of 25bp, which should set in motion a series of additional cuts this year if history (no Fed easing cycle has ended after only one single rate cut) and market pricing is respected, conditioned to US-China trade talks failing to yield progress of major substance.
The central scenario, the market seems to believe judging by the 70% chance, and probably Powell due to his precautionary comments to guide us in future policy is that regardless of the US NFP print this month, the risk is high for a resumption of tariff hikes to China at some point.
Remember, the bar to re-address their diverging views has been set quite high with issues such as technological transfers, intellectual property rights or mechanisms of accountability, not to mention the distrust that has been building up over recent months after the breakdown in negotiations.
If so, it will unravel further downside pressure on the US economy and impact jobs figures later in the year, hence why the Fed is keen on this idea, given that the preponderance of the evidence, to still take precautionary steps in its policy-setting.
This Friday’s US NFP, if disappointment sets in, will reinforce the view that the Fed can find yet more justification of a rather well-telegraphed 25bp easing move. What's most difficult to conceive, is that even if there is a turnaround from the poor May’s print, market participants will still view the Fed cut as still highly likely.
It's all about understanding what makes the Fed tick at every juncture, and it's hard to believe that the US NFP print when juxtaposed next to a dragging trade war, can overrule and play that greater a role to deviate Fed's Powell from its intention to backtrack on a rate cut. Practical translation? Even an upbeat number sees risk skewed towards traders ultimately fading the initial USD bullish move, barring a major surprise in the numbers.
Fed aside, it’s worth noting that there was a high degree of uncertainty stirring up markets over trade unrest, especially in the first half of the month leading up to the reference period (pay period). Besides, Trump's bluffing threats to enact tariffs on Mexico and the new tranche of Chinese import taxes kicking in has led some bank research reports I read this a.m. noting that it may have disrupted hiring plans at the start of the month and dampened payrolls into the reference period.
My view is that the growing pains of hitting a 50 year low in the US unemployment rate should continue to weight on the softening of the employment growth, which is more to do with unskilled job seekers unable to fill the vacancies available rather than a lack of employment supply. This is a double-edged sword for the US NFP data breakdown, as it adds upward pressure on wages in order to attract the right workers but it may cap the potential for the employment change to overshoot, unless the participation rate, which currently stands at 62.8%, starts to improve, which one would think is conditioned to higher wage growth as a key factor even if this trend is not playing out so far.
The Federal Reserve’s June Beige book has indeed observed upward pressure risks in wage growth due to increased competition for workers. “Competition for workers reportedly applied some wage pressures across a wide range of occupations and induced improvements in benefits to attract more workers and to improve retention of existing employees, according to several Districts.”
One should not ignore that while this month’s expectations are for a decent number when averaging the last 6 months worth of payroll headline numbers, it has slowed to a 17 month low. However, by looking at labor-related indicators for the month of June, the ISM manufacturing employment index or the National Federation of Independent Businesses survey, both still suggest that even if trade-related uncertainty may weigh on hiring plans, demand is still strong out there.
The manufacturing employment index as part of the PMI series rose to 54.5 in June from 53.7 in May even if it remains quite a distance away from its recent highs. What’s interesting is that through the course in which the index has deteriorated since last September, payrolls were largely unaffected by the concerns reflected by the executives in the survey as the current value of the 12-month US NFP moving average is largely unchanged in the 210-220k vicinity if compared to last September.
Here is an interesting take by James Knightley, Chief International Economist at ING, who is calling for a 0.4% growth in wages due to seasonals: “This call reflects both the competition for workers, but also the technical point that there were only 20 working days in June vs 23 in May. If you are receiving a monthly salary when it is converted into an average hourly wage rate it will look substantially higher if there are fewer working days (and therefore fewer working hours) in the month.”
In February, this pattern Knightley outlines for this month’s payroll also played out identically, as it had 20 working days vs 23 working days in January, which led, as Knightley notes, “to the average hourly earnings growth rising 0.4%MoM, the best monthly growth for the year so far.”
As a finishing note, and with ten years since the proverbial hit the fan and the term GFC (Global Financial Crisis) was born out, the recovery in the US economy, via unorthodox policies, has led to a booming jobs market. The question in everyone’s mind is, how long until the economy’s ability to keep up its job growth becomes a real source of concern. With the US facing a shortage of qualified workers, and the trade war creating a dicey environment, is a new trend possibly developing? Payroll gains, with the unemployment rate at rock bottom, are going to slow down at some point even if no one knows if this is the point.
What today’s preview hopefully clarifies is that there are a growing number of factors to influence the printing of negative headlines from here on out, even if the risk of a hike in salaries during the month of June makes today's report a tricky one indeed to decipher. Nonetheless, with the trade war a high source of uncertainty, set to still be clearly governing the Fed’s decisions, one questions how much of an influence this month’s US NFP can really have on Powell to back away from a rate cut in July.
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