US Jobs Report Not the Driver It Once Was

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  • Jobs data is the main event; the focus in recent months has shifted from healthy trend job growth to average hourly earnings
  • UK Prime Minister May is in a pickle; the Bank of England meets next week
  • The eurozone disappointments continue to mount this week with weak PMI readings today
  • The RBA lifted its core inflation forecast and signaled that while rate would eventually need to increase, it did not anticipate doing so in the near-term
  • TRY continues to make new all-time lows; yesterday, Argentina’s central bank hiked rates 300 bp; Philippines April CPI rose 4.5% y/y

The dollar is broadly firmer against the majors ahead of the US jobs report. The yen and Swissie are outperforming, while the Scandies and Kiwi are underperforming. EM currencies are broadly weaker. TWD and PHP are outperforming, while ZAR and TRY are underperforming. MSCI Asia Pacific ex-Japan was down 0.7%, with Japan still on holiday. MSCI EM is down 0.3% so far today, with the Shanghai Composite falling 0.3%. Euro Stoxx 600 is up 0.4% near midday, while S&P futures are pointing to a flat open. The 10-year US yield is down 1 bp at 2.93%. Commodity prices are mixed, with oil down 0.1%, copper up 0.7%, and gold down 0.2%.

The US dollar fell last month in response to the disappointing non-farm payroll report. However, in general, the jobs report is not the market mover that it was in the past. Unemployment is at cyclical lows of 4.1% and poised to fall further. Weekly jobless claims and continuing claims are at or near the lows of a generation, though over qualification is more difficult than previously seen.

The monthly net job creation is a volatile number, and the underlying churn–people taking new jobs and leaving old jobs–is much larger. The focus in recent months has shifted from what is understood to be healthy trend job growth to average hourly earnings. Many officials and economists believe that headline inflation converges to core inflation and core inflation converges to wage growth.

Average hourly earnings are one measure of labor income, and as the market has come to appreciate, it is a particularly slow-moving one. Over the last 12 and 24 months, it has averaged 2.6% y/y. It averaged 2.7% in Q1 18. A 0.2% m/m rise in April is needed to keep the y/y pace steady. The FOMC statement recognized that inflation was near its target, but it was anticipating an acceleration. That is the view of wages as well. Elsewhere during the North American session, Canada reports its Ivey PMI for April. Canada will report its jobs data next Friday.

Although the Fed recognized the fact that Q1 GDP did not match the pace in Q417, there was no indication that the Fed was not looking past it. Investors learned this week that economy appears not to have enjoyed much momentum at the start of Q2. The manufacturing ISM fell to its lowest level since last July, while non-manufacturing ISM is at the low of the year. The market continues to price in with nearly 100% confidence a June rate, and barring dramatic shock (which neither the weekly jobless claims nor the ADP signaled), it is unlikely to be swayed otherwise by the jobs data.

UK Prime Minister May is in a pickle. We had anticipated a political crisis around the time of the local elections. However, Labour does not appear to have scored the kind of victory that would have encouraged a leadership challenge. The precipitating factor of May’s woes, as they mostly have been since taking office, is Brexit. Those forces that want to stay in a customs union with the EU have been making a stand in the House of Lords, including this week, adding an amendment to the Withdrawal Bill that rejects a hard border with Ireland. In the House of Commons, a rump of pro-Europe Tories could bolt, denying May of a majority when the bills return to it.

If she was just pressed by the pro-EU forces that would not be much of an issue. What makes it particularly difficult is that what may be acceptable to the House of Commons may not be acceptable to May’s senior ministers. Several, including the newly appointed Javid as Home Secretary, reportedly rejected the Prime Minister’s compromise plan on the customs union.

The Bank of England meets next week. Today’s news that UK auto registrations (proxy for sales) rose in March (10.4%) for the first time since last March is not sufficient to offset the string of disappointing data. The market has completely unwound the rate hike expectations, with the OIS currently implying less than a 10% chance. Sterling made its post-referendum high on April 17 near $1.4375. It reversed lower and tumbled about 8.3 cents through yesterday’s low just below $1.3540. This roughly 5.9% decline may exaggerate the economic impact. On a trade-weighted basis, sterling fell almost 2.7%. It is near the 100-day moving average as it returned to levels seen in mid-March.

The eurozone disappointments continue to mount this week. We can only suspect it reinforces the cautiousness Draghi spoke of recently, while doing little to bolster confidence which was meant to temper the cautiousness. Yesterday we learned that price pressures eased in April. Core CPI retreated to 0.7% y/y, just above the cyclical low prior to the asset purchases of 0.6%. The negative news has continued as the flash service PMI, and composite readings were revised lower, and Germany, the region’s engine as part of the problem.

Germany’s flash PMI reading suggested the economic lull subsided, but the revisions show more work is needed. The service PMI was revised to 53.0 from 54.1 and 53.9 in March. This seems to be an unusually large revision. The composite was revised to 54.6 from 55.3 flash reading. It was 55.1 in March. France’s flash figures were unrevised, while both Italy and Spain service and composite reports were softer than March.

The net result is that the EMU service PMI was revised to 54.7 from 55.0 seen in the flash report. The composite was shaved to 55.1 from 55.2, which is also where it stood in March. To put this in perspective, consider that the composite averaged 57.0 in Q1 18 and 57.2 in Q4 17. It is the lowest since January 2017. In addition, eurozone March retail sales rose only 0.1% m/m vs. 0.5% expected. This cut the y/y rate to 0.8% from 1.8% in February.

The Reserve Bank of Australia lifted its core inflation forecast and signaled that while rate would eventually need to increase, it did not anticipate doing so in the near-term. The market suspects that this means late this year at the earliest, and more likely next year. The inflation forecast was lifted to 2.0%, the lower end of the central bank’s 2-3% range from 1.75%, and where core inflation stood in Q1. The RBA did not project another increase in core inflation until 2020, when it is seen at 2.25%.

The Australian dollar initially rallied on the news. It reached $0.7560, a four-day high but met a wall of sellers and fell back below $0.7520. Support is seen in the $0.7480-$0.7500 area.

More broadly, the US dollar is firmer against all the major currencies except the yen today. Japanese markets were closed. Three times this week, the market tried in vain to push the greenback above JPY110. It broke down a big figure yesterday, and it continued to find light demand around JPY109. The euro is consolidating its third consecutive weekly decline and has been confined to yesterday’s range. The break of the $1.1930-1.2030 range will set the near-term tone. Sterling returned to yesterday’s low near $1.3540 where it seems to have found a bid in mid-morning in London, though a break could signal another cent decline.

Asian equities remain heavy, and this is picking up the fact that emerging markets have fallen out of favor. The MSCI Asia Pacific Index, excluding Japan, was off for a fourth session, and this is its third consecutive weekly fall. It has now weakened in six of the last seven weeks, which is the same as the MSCI Emerging Markets Index. In stark contrast, the Dow Jones Stoxx 600 has been alternating between advancing and declining this week, but it is up about 0.2% to extend its streak to a sixth consecutive weekly advance, the longest run in three years.

The bond markets are quiet. The US 10-year yield is hovering around 2.95%, while European bond yields are mostly slightly firmer, though Gilts are following the US lead and yields are a little softer. For the week as a whole, benchmark yields were 2-4 bp lower.

Lastly, we note that the US-China trade talks have ended. Treasury Secretary Mnuchin had indicated that the talks were going “very good,” but in the end, no significant agreement was reached. Previously the Trump Administration signaled it wanted China to reduce its bilateral trade surplus with the US by $100 bln, which by the US reckoning was more than a 25% reduction. By China’s accounting, it was more than a third. Now press reports indicate during its visit, the US Administration sought a $200 bln reduction by 2020.

It is not clear what the next step will be. We suspect the need to prepare for more trade conflict with China will encourage the US to reach a deal on NAFTA soon. Talks will resume next week. Here, the US demand linking pay (large parts of a car are to be made with labor costing at least $16 an hour) and domestic content will need a long time to be implemented or it may decimate auto production in Mexico. Mexican figures show auto production workers earning about $6 an hour and parts markers, half as much.

The dollar has risen broadly in recent weeks, and the Chinese yuan is no exception. This is the third consecutive week that yuan has fallen, and it has depreciated in four of the last five weeks. This puts the dollar at the upper end of a three-month trading range. Still, the yuan is among the strongest of the Asian currencies over the past month, off a little less than 1%, and stronger than all the majors, but the Canadian dollar. This means that the yuan has strengthened against its basket. Although the yuan has depreciated against the dollar, we do not see it as a sign that China is using the foreign exchange market to express its displeasure with the US provocations.

The Turkish lira continues to make new all-time lows. Investors remain spooked by rising inflation, as concerns are growing that the central bank is not being aggressive enough to fight it. The central bank just surprised with a larger than expected 75 bp hike in the Late Liquidity rate. With the lira remaining under pressure, more tightening will likely be needed at the next policy meeting June 7.

Yesterday, Argentina’s central bank hiked rates 300 bp to 33.25%. This 300 bp hike follows a similar move last Friday. More will likely be needed, along with more intervention. Foreign reserves dropped $5 bln just last week alone, a pace that couldn’t be sustained.

Philippines April CPI rose 4.5% y/y, as expected and up from 4.3% in March. Inflation moved further above the 2-4% target range and this could force the central bank to start the tightening cycle sooner rather than later. Next policy meeting is May 10, no change is expected but we see growing risks of a hawkish surprise.