Does the Employment Report Matter?

new chart

  • It is not that the update on the US labor market is unimportant; the question for investors is its impact on the powerful trends in the market  
  • News that Special Counsel Mueller is now working with a grand jury appeared to weigh on sentiment late yesterday when news broke 
  • The RBA shaved this year’s growth forecast (through mid-2018) by 0.25-0.5 percentage points, with the strong currency providing a headwind 
  • Philippines July CPI rose 2.8% y/y, as expected; Colombia reports July CPI Saturday 

The dollar is mostly softer against the majors in narrow ranges ahead of the jobs report. The Antipodeans and Stockie are outperforming, while the yen and euro are underperforming. EM currencies are mostly firmer. KRW and ZAR are outperforming, while MXN and RUB are underperforming. MSCI Asia Pacific was up 0.1%, with the Nikkei falling 0.4%. MSCI EM is up 0.3%, with the Shanghai Composite falling 0.3%. Euro Stoxx 600 is flat near midday, while S&P futures are pointing to a higher open. The 10-year US yield is up 1 bp at 2.23%. Commodity prices are mixed, with oil down 0.7%, copper up 0.2%, and gold up 0.1%.

It is not that the update on the US labor market is unimportant, but the question for investors is its impact on the powerful trends in the market. Given the current drivers, even a fairly strong jobs report is unlikely to change the direction change views on the US economy and the trajectory of monetary policy.

The note of caution that has peppered comments by some officials is not based on disappointment with the labor market per se. Job growth continues at a pace that is gradually absorbing slack in the labor market. The three-month average stands at 194k, just above the 2016 average of 187k.

The main challenge is the price pressures remain subdued. Remember that in the traditional view, headline inflation converges with core inflation and core inflation is driven by wages. The average hourly earnings component of the jobs report is the most important in the current environment.

Last July hourly earnings rose 0.4%. That means that a 0.4% increase is needed in July simply to keep the year-over-year pace at the 2.5% seen in June. It has not risen by more than that since November 2008 (0.5%). The three-, six-, and 12-month average is at 0.2%. Not to put too fine of a point on it, but the real issue is how much will the year-over-year pace slow: 2.3%-2.4%. It finished last year at 2.9%.

News that Special Counsel Mueller is now working with a grand jury appeared to weigh on sentiment late yesterday when news broke. Also, there were new leaks of President Trump’s private telephone conversations with two foreign leaders despite some recent personnel changes. An unexpected and dramatic slide in the non-manufacturing ISM (53.9 from 57.4, the lowest since last August) suggest little on the horizon that will boost growth. The US 10-year yield fell five bp yesterday and is pinned near 2.23% now. A month ago, it stood at 2.35%. The market sees practically no chance of a September rate hike.

Moreover, if anything, the Washington drama raises concerns about the debt ceiling and the spending authorization that Congress must act on with limited time to maneuver in September. Some see these issues impacting the Fed’s decision on its balance sheet. There have been some distortions in the T-bill market as investors seek to avoid the period in which the problem may be most acute (mid-October).

There have been three economic developments to report. First, in the context of the US employment report, Japan is also experiencing little wage pressure despite its tight labor market conditions. Cash wages fell 0.4% year-over-year in June. This was a shock. Economists expected a 0.5% gain after 0.7% in May. It is even worse when adjusted for the inflation. Real cash earnings fell 0.8% year-over-year. It is the weakest in two years. Prime Minister Kuroda has not recovered in the polls. This week’s cabinet reshuffle may better protect the LDP, but it is not clear if there is an alternative to Abenomics.

German factory orders rose 1.0% in June, more than the market expected. The year-over-year rate rose to 5.1% from the prior month’s 3.8% pace. Domestic orders rose 5.1%, while foreign orders fell 2%. It is a volatile report and too much should not be made of one month, but the rise of the euro and the decline in orders for export warns that German exporters may be feeling a competitive pressure. That said, if German exporters are being squeezed from the stronger euro so would other exporters, especially in the south.

The Reserve Bank of Australia shaved this year’s growth forecast (through mid-2018) by 0.25-0.5 percentage points, with the strong currency providing a headwind. It did revise up 2019 growth by 0.25 percentage points to 3-4%. Separately, Q2 retail sales were a bit firmer than expected at 1.5% (vs. 1.2% median forecast in the Bloomberg survey). Retail sales rose 0.2% in Q1.

There are some chunky option strikes that could come into play today. There are 920 mln euros struck at $1.1850 that expire today. There are A$523 mln struck at $0.7950 expiring today. There are $680 mln struck at CAD1.2550 that will be cut.

The MSCI Asia Pacific Index eked out a small gain today and gained 0.8% on the week. It is the fourth consecutive weekly advance. The Dow Jones Stoxx 600 is up about 0.25% on the week, and nearly half of it is being recorded today. Recall that it fell 2.7% in June and 0.4% in July. Benchmark 10-year yields fell in Asia after US rates fell yesterday. European rates and the US are up around one basis point today.

Philippines July CPI rose 2.8% y/y, as expected but up from a revised 2.7% (was 2.8%) in June. This is still in the bottom half of the 2-4% target range. The next policy meeting is August 10, and rates are likely to be kept steady at 3.0%. The report is consistent with most of EM, where low price pressures will allow central banks to retain a dovish stance for now.

Colombia reports July CPI Saturday, which is expected to rise 3.56% y/y vs. 3.99% in June. If so, it would be the lowest rate since October 2014 and would move further into the 2-4% target range. The central bank just cut rates 25 bp to 5.5% last week. We think the easing cycle will continue into Q4, with another 25 bp cut to 5.25% likely at the August 31 meeting.