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China, Payrolls, Powell trigger equity rally

By David Morrison  |  04/01/2019 15:53

US and European stock indices bounced sharply ahead of the Non-Farm Payroll release. Buying was triggered by the resumption of US/China trade talks and Chinese monetary easing

Ahead of today’s NFP release, global stock indices were sharply higher, going some way to reverse the previous day’s losses. Overnight, traders rushed in to buy equities and stock index futures following news that officials from the US and China are preparing to hold trade talks starting on Monday. In addition there was an improvement in China's services sector as the Caixin Services PMI jumped to a six-month high of 53.9 in December. Investors were also cheered by the news that the People’s Bank of China (PBOC) will cut its Required Reserve Ratio (RRR) for banks by 1% later this month. Initially, this was viewed as a sign that central banks were prepared to react to the sell-off in equities and the corresponding move into safe havens. However, the PBOC made it clear that its RRR reduction (0.5% on 15th January and 0.5% on 25th January) was a temporary measure taken to add liquidity over the Chinese New Year. Nevertheless, the Shanghai Composite ended the session 2% higher while the Hang Seng was up 2.2%. The Japanese Nikkei ended 2.3% lower but this was due to traders playing catch-up after a long New Year break.

Strong jobs numbers

Non-Farm Payrolls blasted above the consensus expectation, rising by 312,000 in December against a forecast increase of 179,000. In addition, the October and November data was revised up by a total of 54,000 jobs. Meanwhile, Average Hourly Earnings rose 3.2% year-on-year to hit the highest level since April 2009. This was a strong set of numbers and investors reacted by selling US Treasuries thereby driving up yields. This is understandable as the strong payroll numbers along with rising wage growth only reinforces the view that the US Federal Reserve will continue to raise rates and reduce its balance sheet as we get further into 2019. The Unemployment Rate edged up to 3.9% from 3.7%, but this can be explained by a pick-up in the Participation Rate as previously discouraged job seekers start to look for work again thereby counting as unemployed. US stock index futures sold off slightly after the release, not only concerned about the prospect of continued Fed tightening, but also worried that wage increases to hit corporate profitability. But they soon recovered as traders prepared themselves for an appearance by Fed Chairman Jerome Powell.

Powell tilts dovish

This certainly proved to be the correct initial response. US stock index futures led another charge higher as Mr Powell joined Janet Yellen and Ben Bernanke for a Fed Chair reunion at the American Economic Association and Allied Science Association Meeting in Atlanta. The current Fed Chair’s comments were interpreted as dovish as he said that Fed policy can change and that the Fed is "listening carefully to market." He talked about downside risks, citing the decline in the ISM Manufacturing PMI and concerns over China and added that the Fed would adjust the balance-sheet normalization policy "if needed". So, it now appears that Powell’s chairmanship will be closer to that of Yellen, Bernanke and Greenspan in its Wall Street-friendly approach, rather than that of Paul Volker who considered the wider requirements of the country as a whole.

Thursday’s sell-off recouped

Thursday’s fall was triggered by Apple’s surprise cut to its revenue guidance which it blamed on slowing iPhone sales in China. But the sell-off was compounded by the release of the US ISM Manufacturing PMI which came in at 54.1 – lower than the 57.7 expected and well below the previous reading of 59.3. On top of this the White House Council of Economic Advisers Kevin Hassett warned: “There are a heck of a lot of US companies that have sales in China that are going to be watching their earnings being downgraded next year until we get a deal with China.” But that was completely recouped as we headed into the European close thanks to Chinese stimulus and trade talk hopes, strong US jobs numbers and Jerome Powell’s comments. At the time of writing the S&P 500 was trading back above 2,500 giving the bulls some comfort heading into the weekend. If the index can consolidate above here next week, then the stage is set for a test of the April 2018 low around 2,550 with 2,600 the next upside target. A failure to hold above 2,500 could bring out further selling with the Boxing Day low around 2,300 being the big target for the bears.
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