First, Epsilon Theory‘s Ben Hunt shares some perspective on how to “read” tomorrow’s jobs report.
This is an important jobs report. Not because it matters in the least whether the US economy added 170,000 new jobs or 185,000 new jobs. Not because it matters a whit whether the unemployment rate goes up or down 1/10th of 1 percent. No, the importance of this jobs report rests in two related linguistic games. Here’s how to translate the lingo.
First, do the Hilsenrath’s and Liesman’s and Cramer’s of the world proclaim from their pulpits that this is a positive report or a negative report?
If by this time next week the Common Knowledge surrounding the jobs report is that it was a dud, then there will be a COLOSSAL effort by Famous Journalists, Famous Economists, and Famous Investors to pressure the Fed into reducing the Taper. If by this time next week the Common Knowledge is that this was a positive jobs report, then you will merely see a continuation of the current assertion by the opinion-leading Powers That Be that the Emerging Markets carnage we are witnessing is a tempest in a teapot so long as the US remains on a self-sustaining growth trajectory. Nothing to see here, folks. Stay calm and carry on.
Of course, the jobs report could miss expectations and still generate a positive Narrative, as “bad weather” or some other devil is identified as the one-off cause (funny how good weather is never credited with macro data results that surprise to the upside). Conversely, a jobs report that beats expectations may still be recast in a horrible light. If there’s one lesson that I hope even a cursory reading of Epsilon Theory delivers, it’s that the reality of macro data is only indicative of its ultimate media communication, not dispositive! The public perception of macro data is incredibly mutable, politicians and media prey on our weakness for a good story, and so we won’t know for another week what the final Common Knowledge or Narrative construction looks like here.
Second, what does Yellen communicate in reaction to this jobs report Narrative?
There will be no reaction to the jobs report itself, because it really doesn’t matter to anyone, including the FOMC. What matters is the Narrative or Common Knowledge structure around the jobs report, and that’s what the Fed will both shape and be shaped by. We will start to receive these signals from Yellen directly as early as next week with her Congressional testimony, and you should expect a media feeding frenzy over her every word, culminating in her first press conference as Fed Chair on March 19th. If you were a wee bit tired of the markets racing up and racing down in response to breathless Bloomberg headlines parsing everything that every Fed Governor does (or doesn’t) say . well, sorry, but the circus is back in town.
There’s not as much pressure on Yellen if the Common Knowledge around the jobs report is positive, because it won’t be an overt “reason” for her to change the current policy course of the Fed. But if it’s negative... oh, boy. Then Janet Yellen is going to be tested. Whoever said that hell hath no fury like a woman scorned apparently never met a levered long equity manager who sees the easy money punchbowl starting to drain without another obvious punchbowl (like the Narrative of Global Growth) there to take its place.
And by levered long equity manager I mean almost everyone. I mean every politician, every financial media outlet, every CEO, (almost) every asset manager. Everyone is levered to either massive liquidity or global growth, and if both of those pillars of the current investment world are now in doubt you will hear a howl of pain and anger that will make the Earth shake. Oh, the protestations will be dressed up in their Sunday best clothes, full of phrases like “monetary policy transmission mechanisms”, but there’s no mistaking the animal under those clothes. The markets have had almost 5 years of central banks suspending the rules of business cycles. That’s fun. It’s like a magic pinball machine where your ball never drains. Of course no one wants to go back to the old days of actually having to suffer through temporary economic weakness, much less (gasp!) a garden-variety recession. We want our magic pinball machine! And we just might get it.
So how does all this game-playing and Narrative construction connect to market outcomes? If Yellen stays the course with the current Taper path, then regardless of whether the jobs report Narrative is negative or positive I think there’s a negatively biased informational surface to this market. It’s easier for the market to go down than to go up when Common Knowledge says that the Fed is tightening. That’s particularly so if the struts are kicked out from under the US Growth Narrative with a negatively portrayed jobs report, but even if the US Growth Narrative is intact, a Taper-as-she-goes Fed puts enormous pressure on Emerging Markets and the short-Yen trade. That means that big levered positions in risk assets will continue to unwind, at times violently. This is a very ugly risk environment.
But if Yellen succumbs to the addicts’ plea, either because she wants to appease or because she actually believes the Narrative tripe that the plea will be gussied-up in . well, the market will get its fix. The Fed still has your back, Mr. Levered Long Equity Investor. Or rather, the Fed is now even more a monkey on your back. And as addicts have learned since time immemorial, shaking that monkey gets harder over time. And harder. And harder. I’ve written at length (here and here) about how I believe QE has been transformed from an emergency government policy that saved the world in 2009 into a permanent government program that stifles growth and well-functioning markets, and I think that’s true regardless of what happens over the next few weeks or months. You can’t un-ring the QE bell, and this will be a go-to monetary policy in the aftermath of any significantly negative economic news in the future. But if this is all it takes to shift the all-important second derivative of US monetary policy, if mildly disappointing macro data is all it takes to return to an “emergency” acceleration of the Fed balance sheet, that’s just sad.
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With all that in mind, next up is Scotiabank’s Scott Haselmann explaining for those unlucky few who have no other choice, how to trade tomorrow’s “most important jobs print ever.”
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Tactics for Tomorrow’s Payroll Report
I’ve written this note hurriedly late in the day, because I have come to believe that my opinion of how to trade tomorrow’s number is different from what I am sensing is market consensus. Please be warned, and keep in mind, that I am NOT a trained economist. I am a strategist and the views below are strictly my own (as are the typos).
Markets want clear evident on the health of the US and global economies. Undoubtedly, tomorrow’s US employment report is the current focus for providing some hints, but the report will be riddled with one-off factors; factors subject to interpretation.
Most believe that the US is recovering slowly and that payroll growth is around 200K; and, most assume the 74K print in January was an aberration due to bad weather. Yesterday’s ADP and ISM Non-manufacturing reports essentially confirmed the view that the US is plodding along.
There were some discussions today, that markets have a-symmetrical risk tomorrow (stocks up, Treasuries down), because a strong report will help eradicate recent concerns, while a weak number would be explained away (again) as weather-related. It could be possible that this perception is why the market traded today the way that it did, i.e., tomorrows trade was partially done today. I also believe the number has the potential to print solidly, but where I differ from most is that I believe a strong ‘risk-on’ reaction should be strongly faded.
As has been widely reported (today’s FT and WSJ for instance), the number will be influenced by a few one-off factors: weather, annual revisions and the expiration of unemployment benefits. I will address each factor.
Certainly, the weather in the US has been horrible with many large storms and brutally cold temperatures (polar vortex). However, many market participates have failed to acknowledge that the payroll survey week (not month) was actually the one week that was warmer than normal. Additionally, if the weak December number was indeed a function of the weather, than it is reasonable to assume that a bounce back should occur.
Nonetheless, the studied impact that weather has on monthly employment data is ambiguous at best. Empirical studies are simply inconclusive. Therefore, let’s ignore weather as it cannot be quantified with any reasonable accuracy or logical assumptions.
If history is any guide, the annual revisions, on the other hand, should result in upward revisions. This is because of the fact that when an economy is growing, the annual revisions usually result in improvement to prior releases.
The most important factor, however, that could print a number above consensus forecasts is ramifications from the expiry of unemployment benefits. The key here is that1.3 million people lost benefits on January 1st. (Another 3 million+ are schedule to lose benefits before the end of the year) If all of the people (the 1.3mm) drop out of the workforce, then the unemployment rate would drop 0.8% to 5.9%. According to the BLS, its formula suggests that 25% will drop out of the workforce; which would equate to a drop in the Unemployment Rate from 6.7% to 6.5% (due to a fall in the participation rate). (Note: North Carolina dropped unemployment benefits in mid-2013 when its unemployment rate was 9% and by the end of the year the rate fell to 7%.)
There will be another group of people who lost unemployment benefits who will be incentivized to try to find a job that they would not normally have taken. They might accept a part-time or temporary job, or lower-paying job for which they are over-qualified. The point is that this group could put upward pressure to the payroll number.
This creates a difficult situation for traders, investors, and the Fed, because in this instance, a stronger headline number combined with a drop in the rate, may overstate the true health of the US labor markets. I wonder if today’s stock rally was in anticipation of this potential outcome (a strong payroll report). Some cited the stabilization in EM currencies for today’s US ‘risk-on’ trade. However, I have to say that EN currency stability is mainly a function of their central banks hiking rates by hundreds of percentage points and by other who have imposed capital controls. Such action is not necessarily a good thing for risk assets or the prospects for global growth.
Certainly, the ‘knee-jerk’ reaction to a strong headline print would likely make stocks surge and Treasuries sell-off, but I believe active traders should fade those moves. After all, should such a payroll release occur, it does little to change the US or global economic backdrop.
EM will still have significant challenges. China’s $660 billion (non-guaranteed) Trust securities will have to be rolled over by the end of the year. The backdrop globally is in the midst of great challenges (to say the least) which are putting downward pressure on growth and inflation, all while the FOMC will continue to withdrawal accommodation through the ‘tapering’ process. The bottom line is that should tomorrow’s number be around 220k payroll and a 6.5% rate, it should not be a surprise or construed as an indication of a mighty strong economy and labor market.
Furthermore, portfolios have chased risk and yield for years. Cracks in the foundation have been unveiled in 2014. Bad things happen when the Fed reverses course (i.e., ‘tapering’ will fell like a tightening). I believe the economy and risk-assets need to prove they can continue to stand on their own with so many central banks tightening and the Fed tapering. Portfolio re-balancing closer to benchmarks would require a significant reduction in risk at the same time that market liquidity is quite poor.
For all these reasons, use the number tomorrow to put on ‘risk-off’ trades; even if there is a ‘risk-on’ knee-jerk re-pricing at 8:30 due to a (seemingly) strong number.