Monday 20 November 2017

Daily Market Update: USD on the back foot as US jobs data much weaker than expected

The US Dollar
The US Dollar

Simon Barry

The monthly employment report from the US contains a wealth of data about the US jobs market

The US jobs market has many moving parts, it can often require quite a bit of deciphering and number crunching to extract the key signals. That was certainly not the case on Friday as the September report was unambiguously weaker than had been expected by investors: the headline payrolls number came in at just 142k vs. expectations of 200k; the revisions were down (by a sizeable 59k over the previous two months) and not up as had been expected; y/y earnings growth was weaker than anticipated at 2.2% vs. the 2.4% expected and the main reason why the unemployment rate didn’t rise was because the participation rate fell by 0.2% on the month, thus depressing the reported jobless rate.

So with all of the key indicators in harmony in pointing towards a softer than expected outcome, the implications for markets were pretty clear-cut with the price action since lunchtime Friday including sizeable declines in US market interest rates and in the dollar’s value on the exchanges. Eur/USD spiked sharply and immediately after the numbers, briefly touching as high as $1.1320 from around $1.1160 just before they were released. It has since pared some of those gains to open at around $1.1250 this morning, but that still represents a net move of some 0.7% to the downside for the greenback against the single currency since early Friday. Similarly, GBP/USD is about 0.6% higher than where it was at Friday’s open, trading at $1.5230 in early trading this morning. And those fx moves are rooted in a further decline in US market interest rates, with the yield on December 2016 Fed Funds futures (i.e. the official policy rate at end-2016 currently expected by markets) for example dropping by a further 10bps to stand at a fresh cycle low of just 0.58%. That stands in stark contrast to the Fed’s latest forward guidance for its own interest rate policy, which based on the median of projections supplied for last month’s policy meeting, stands at 1.4% for end 2016. Such a large gap between market pricing and Fed guidance is unusual and will not persist indefinitely: something will have to give here as both views cannot be correct over time.

Our long-held view has been that the market would at some point need to do a good deal of adjusting towards the Fed view, and that the commencement of the Fed’s hiking cycle would potentially act as a catalyst for that adjustment. Ultimately, the trajectory of the economy will prove decisive in resolving this tension, and for our part we think that it is premature to get overly pessimistic on US growth. Payrolls are a very volatile indicator and are prone to large revision so it is not at all clear as yet that what we saw on Friday is more than a bump in an otherwise healthy trend. And, as we noted last week, other September indicators (notably vehicle sales) are pointing to solid spending performance. That said, we fully acknowledge that Friday’s jobs figures have raised concerns about a broader slowing in the US economy, and hence potentially delay further the beginning of the tightening cycle. An October hike looks extremely unlikely, and a hike by year-end will require evidence of a pick-up in jobs growth. In turn, this economic and policy backdrop likely translates into less support for the dollar in the coming weeks and months than we have been expecting, though the growing likelihood of ECB QE we discussed last week makes it hard to be fundamentally bullish on the Eur/USD outlook. Our (admittedly somewhat-checked) bias continues to be skewed towards expecting downside for Eur/USD in the months ahead.

Turning to the week ahead, after last week’s broadly disappointing data from the US, analysts will look to today’s Non-Manufacturing ISM for further clues on US growth momentum. It is expected to decline from 59 in August to 57.7 in September, though this would still represent a very healthy rate of expansion. UK services PMI will also be in focus and for very similar reasons to the US; expectations are for the index to advance to a solid 56 in September, up from 55.6 in August. Later today, market expectations are for Euro Area retail sales to be flat for August at 0% m/m after 0.4% m/m in July, translating to a deceleration to a still relatively healthy 1.7% y/y from strong growth in July at 2.7%.

ECB President Mario Draghi gives a speech on Tuesday and market analysts will be keenly on the lookout for any comments addressing the likelihood of further monetary stimulus.

Industrial production numbers are released in the UK on Wednesday and expectations are for 0.3% m/m in August following a 0.4% decline in July.

This would translate to acceleration to 1.2% y/y after 0.8% in July. On Thursday we will see a flurry of activity from the central banks of the Euro Area, the UK, and the US. The Bank of England hold a vote on interest rates, but as market analysts almost universally expect policy to remain unchanged, the focus instead will be on how the view of the committee has evolved in response to worsened global prospects for global growth and how this might affect the economy in the future. The release of the minutes of last month’s Fed meeting should also spark some interest, as market analysts try to glean the specifics of why the FOMC decided not to raise rates; yet in the wake of last Friday’s underwhelming Payrolls report, this will be dated information. Finally, the ECB will release their account of the September 3rd monetary policy meeting, which will mostly contain information in the public domain, but may still see some attention as analysts pour over the details of how the committee gauge the potential for August’s deterioration in financial conditions to cause a sustained impact on the inflation outlook.

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