No, The Fed Probably Won’t Hike On Huge Jobs Beat

Coming into NFP Friday, it kind of felt like stocks were going to go up either way. After all, there was virtually no chance of getting a June jobs number as bad as May’s report, a modestly underwhelming print would keep the Fed on hold thereby forestalling the tightening cycle yet again, and in the event of a good number, everyone could just pivot back to the “good news is indeed good news” narrative.

Here’s how Bloomberg’s Richard Breslow put it early Friday morning:

“This time around, markets may have to deal with how to trade a result where the number is sound, maybe even outright strong, and we’re still on perma-hold. A weak number will stink for the economy but is relatively easy to react to. As long as you can force yourself to close your eyes and buy bonds and, ultimately, equities at arguably distasteful levels.”

Indeed. Well, the news was indeed “good,” although that term has lost its meaning vis-a-vis markets in the post-crisis monetary Twilight Zone into which developed market central banks have plunged us. Let’s take a look at how everything reacted.

So the first thing to note is the 10Y yield. Have a look (light blue):

It’s critical to understand what’s wrong with that picture. With stocks soaring and a strong jobs print, yields should have spiked and remained elevated. They spiked alright - and then retraced quickly. In market parlance, “bonds aint buyin’ it.”

There are two explanations for this. First, no one seriously believes the Fed is going to hike just because the data may warrant it. Data dependence went out the window last September. “The Fed isn’t going to pivot to everything’s rosy out there on a good number unless they want to look stunningly parochial and unaware. In this perverse environment, a shaky landscape gives them optionality on rates,” the above-mentioned Richard Breslow notes, adding that “the world’s woes, from the U.K., to Europe in general, Italian banking or China were not solved because we had one quiet day of news flow.”

Second, yields on US paper still look attractive compared to other safe haven debt. Debt like that issued by Switzerland, where the entire yield curve is negative. Have a look at the curves for Germany, Japan, and Switzerland versus the US curve:

 

See what we mean? At least you’re getting something with US government bonds.

Moving on, let’s look at gold and crude:

Again, same story. Things moved as they should initially (i.e. gold lower, oil higher; risk-off/risk-on) and then promptly reversed course. Apparently bullion and crude “aint buyin’ it” either.

Here’s Citi’s quick take:

“NFP at 287k is a shocker, but the Fed is looking at a 2mth MA of 149k and a 6mth of 172k and 12mth of 204k. All of these are decelerating. It is hard for them to tell if this is labor supply or labor demand, but the numbers are neither weak enough for them to think in terms of easing nor strong enough for them to want to hike. The spike up and down make it likely that this is a data aberration rather than May being particularly weak or June particularly strong. This is a good number for risk because it reduces the tail risk that the US is sliding into the no-growth abyss of the rest of the world, which would have generated a significant ‘bad news is bad news’ response. Right now this is more positive for risk than a couple of extra bps of fed fund risk. For most of the market the combo of Brexit risk, EZ banks risk and China slowdown risk is more than enough to keep the Fed on hold; many on the Fed are inclined to see the glass as half empty anyway.”

That’s spot on. So enjoy the rally. But just note that other assets are sending mixed signals.

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1 Comment

  • Wael

    July 9, 2016

    Hi there- great read, is it possible to have the graphs open in a new window. Tough to see the detail if you can't zoom in.

    Thanks!