Weekly Market Wrap

By David Morrison  |  04/05/2018 15:21

This article looks at the latest Non-Farm Payroll release, the FOMC meeting and the earnings season so far

Mixed bag on payrolls

Friday brought the release of the latest US Non-Farm Payroll report. April payrolls rose 164,000 missing the consensus expectation of 190,000 by 26,000 jobs. However, revisions to the previous two months made up for this and an initial sell-off in the US dollar soon reversed. The Unemployment Rate fell to 3.9% - below both last month’s 4.1% and the 4.0% anticipated. This means that US unemployment is at its lowest level since November 2000. Typically, such tightness in the labour market leads to a sharp pick-up in wage growth which feeds through to inflation. However, while inflation is picking up in the US, as demonstrated by last week’s Core PCE and Manufacturing Prices survey, it isn’t showing up in worker remuneration. In fact, Average Hourly Earnings picked up just 0.1% month-on-month, missing expectations of a 0.2% increase and well below last month’s 0.3% rise. But the reason for this appears to be the number of hours worked as overtime has risen. This suggests that employers are finding it difficult to find suitable workers – an argument supported by the labour participation rate which remains very low. It appears that large numbers of eligible US citizens have given up looking for work and may never come back into the jobs market as they don’t have the skills required by many modern businesses.

FOMC on hold

As expected, the Fed kept rates unchanged last week. But there were a couple of interesting takeaways from the accompanying FOMC statement. Firstly, the Committee added the word “symmetric” to its 2% inflation target, implying that it expects Core PCE to overshoot to the upside. Secondly, the Committee removed the sentence: “The economic outlook has strengthened in recent months”. Taken together this suggested that a pick-up in inflation could come as growth slows. However, according to the CME’s FedWatch tool there’s 100% probability that the Fed will hike rates by 25 basis points at next month’s meeting.

Earnings offer little support

The first quarter earnings season has been a grave disappointment for stock market bulls. Not because results have been poor – quite the reverse – but because the market reaction to a raft of better-than-expected results has been so negative. The overall view seems to be that there’s now little room for corporate earnings and revenues to improve significantly from current levels. This has led to a dialling down of future expectations, despite there being little in the way negative forward guidance from company executives.
The other problem is the prospect of higher US interest rates and the US dollar. The greenback has rallied strongly over the past fortnight and appears to have broken out from the downtrend which began in January 2017. Higher interest rates are no help to corporations, especially those who hold significant debt which will need refinancing. US multinationals, which make up the bulk of the major stock indices, have benefited from a weaker dollar as it boosts their overseas sales and earnings. If the dollar is set to rally further then these corporations could struggle going forward. This is a problem when inflation is picking up while growth shows signs of slowing, something the Fed hinted at in last week’s statement.

US Treasury Secretary Steven Mnuchin led a trade delegation to China last week. Talks concluded on Friday with the only firm agreement being that both sides would keep talking. China’s official Xinhua News Agency reported that both sides acknowledged some significant disagreements although consensus was reached on some trade issues. The Trump administration has made it clear that it favours a weaker dollar, particularly as it presses ahead with tariffs and trade negotiations. This has got some traders wondering if the US president will try to talk the dollar down should it continue to strengthen over the coming weeks.
 
FOREX

The US dollar surged higher at the beginning of last week and added to gains following a mixed Non-Farm Payroll report. The initial move came after the greenback pushed above significant resistance levels which had held since the end of January. In the prior week the Dollar Index broke above 90.00 and by last Friday it was holding above 92.00. This represented a rally of over 2% in a fortnight. To put this in perspective, prior to the breakout the Dollar Index had traded in a 1.6% range since early March. Meanwhile, the EURUSD has broken below 1.2000 and hit its lowest level since the first half of January.

Friday’s Non-Farm Payroll report saw the dollar resume its rally. This saw the Dollar Index hit its highest level since the end of last year. The main takeaway from the jobs numbers was that despite a miss on the headline figure and lower-than-expected Average Hourly Earnings, unemployment continues to fall and this could provide enough ammunition for the Fed to raise rates at its next meeting in June.

Last Monday Core PCE (the Fed’s preferred inflation measure) came in at +1.9% annualised, just within spitting distance of the US central bank’s 2% target. The following day Manufacturing Prices perked up to hit their highest level in 7 years. This came despite a lower-than-expected reading on the ISM Manufacturing PMI, meaning that prices rose despite a turndown in activity. Then on Wednesday night the FOMC kept the fed funds rate unchanged (as expected) but primed investors for an overshoot of its 2% inflation target. At the same time, they removed a crucial sentence from their statement concerning growth expectations, suggesting that these could be softer than expected going forward. This view was confirmed to some extent by Friday’s payroll data. The headline number was weaker than expected, although overall the numbers were a wash when revisions were considered. The Unemployment rate fell below 4.0% to hit its lowest level since July 2001 while Average Hourly Earnings were weaker than expected. The dollar drifted on the news with analysts speculating that the Fed will be in less of a hurry to raise rates this year.

Despite all this, the outlook for US economic growth looks considerably better than that of other developed countries. Just two weeks ago European Central Bank (ECB) President Mario Draghi shrugged off a recent run of weaker-than-expected economic data. However, it’s clear that the ECB is in no hurry to end its Asset Purchase Programme (APP) which currently sees the central bank purchase €30 billion of bonds each month. At the same time, Euro zone inflation is tepid. Last week Core CPI slipped to +0.7 year-on-year, down from +1.0% in the prior month.

Meanwhile in the UK, first quarter GDP growth rose just 0.1%, effectively wiping out expectations of a 25-basis point rate hike at this week’s meeting. This follows on from a pull-back in inflation which currently stands at 2.5% annually, down from 3% at the beginning of the year.

Precious metals

Gold and silver struggled last week in the face of dollar strength. On Tuesday gold came within a couple of dollars of testing $1,300 and it hit its lowest level so far this year. It was a similar story for silver which also hit its 2018 low, coming within a few cents of support around the $16 level. The sell-off came as the US dollar surged higher after breaking above resistance in the previous week. Traders rushed to buy the greenback on further evidence that US inflation was rapidly picking up. This followed a sharp jump in Core PCE (the Fed’s preferred inflation measure) to 1.9% - just a shade below the Fed’s 2% target. The FOMC also prepared investors for an overshoot of its inflation target. The committee also stated that risks to the economic outlook are roughly balanced, in contrast to its last statement when it noted that the “economic outlook has strengthened in recent months”.
If the dollar rally continues then we should expect gold to test major support around $1,295. This is a prior level of resistance as well as the 50% retracement of the September-December 2017 sell-off.  Resistance comes in around $1,320. Silver continues to find decent support on an end-of-day basis at $16.20 with major resistance around $16.80.
 
Key events next week
Monday -             JPY Monetary Policy Meeting Minutes; GBP UK Bank Holiday; EUR German Factory Orders, Sentix Investor Confidence

Tuesday -             AUD Retail Sales; CNY Trade balance, Foreign Direct Investment; EUR German Industrial Production, German Trade Balance; USD JOLTS Job Openings

Wednesday -     USD PPI, Crude Oil Inventories; NZD Official Cash Rate, RBNZ Monetary Policy Statement

Thursday -           CNY CPI, PPI; Bank Holiday – Switzerland, Germany, France; EUR CB Economic Bulletin; GBP BOE Inflation Report, Monetary Policy Summary; USD CPI, Weekly Jobless Claims

Friday -                 CAD   Unemployment Rate; USD Consumer Sentiment, Inflation Expectations.

This week’s major first quarter earnings releases include BT, Costco, Deutsche Telekom, Next, Office Depot, Siemens, Twenty-First Century Fox, Tyson Foods, Walt Disney.   
 
 
 
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