The employment report published on Friday in the US succeeded in scaring the traders in the market, the hourly wages rose and raised with it the fears of fueling inflation. But the indices in New York demonstrated strength, as if riding on the signal of the chairman of the Fed, Jerome Powell, who signaled a slowdown Aggressive raises.
But at the start of the week on Wall Street, the negative sentiment returned to the forefront when macro data released today indicated that the economy is not cooling down so quickly. The price index of the non-productive sector in the US rose in November to 56.5 points, above expectations for an increase to 53.3 points, and then to a reading of 54.4 points in October. A reading of over 50 points indicates the expansion of economic activity.
Earlier, the order data from factories in October were published, which also exceeded the early forecasts. Factory orders rose 1% while expectations were for a more modest increase of 0.7%, following a 0.3% increase in September. The purchasing managers’ index in the services sector that was published earlier also indicated an increase beyond expectations (46.4 points compared to 46.3 points).
However, in the previous week data were published that actually indicate a slowdown. The ISM index for industrial activity fell below 50 for the first time since the second quarter of 2020. “The decline in industrial activity is not a surprise and is due, among other things, to the moderation of private consumption after a surge in demand for industrial products following the corona crisis,” said Rafi Gozlan, the chief economist of Beit IBI Investments. “Also, the decrease in the index below the 50 level was preceded by a downward trend in the gap between the components of new orders and inventory, and this indicator continues to reflect an expected contraction in activity in the coming months as well.
“Despite the transition to a contraction in industrial activity, the greater importance lies in the development of the service sectors, against the background of their dominant weight in the total activity. Thus, despite the clear trend of slowdown in the industrial sectors, the picture in the service sectors so far is more positive, and this is also reflected in the consumption data that continue to indicate “Normalize the consumption mix while increasing the consumption of services,” Gozlan said.
“The pricing in the markets regarding the interest rate path has not changed”
Back to the employment report for November, which was stronger than expected, in the past month there was a higher increase in employed people than the early estimates and, above all, a faster increase in the rate of wage growth. The addition of employed people amounted to about 260 thousand (consensus 200 thousand), close to the average recorded in the last 3 months. Beyond that, the unemployment rate remains at 3.7% with a slight decrease in the participation rate. As mentioned, the surprise in the employment report was recorded in the salary data with a higher than expected increase of 0.6%, when in addition an upward revision was recorded to the previous data so that the salary increase rate was again updated to levels above 5%.
“Despite the strong employment report, the pricing in the markets regarding the interest rate path in the coming months has not changed excessively and reflects an expectation of a cumulative interest rate increase of about 100 basis points until the second quarter of 2023, to a level of 5%-4.75%, and a rapid transition to an interest rate reduction in the last third of the year, of about 50 basis points,” said Gozlan. “This pricing is in line with the very negative slope of the yield curve (2-10 years) which recently hovered around -80 basis points. Indeed, the slope in the bond market The debt is characterized by a high correlation to the unemployment rate, and a negative slope of the current magnitude preceded each of the previous recessionary periods, and in fact embodies a high probability of slipping into recession in 2023.
“Support for this was also registered in recent weeks from the area of real interest rates, which fell significantly after a prolonged upward trend. Medium-long term real interest rates, which hovered around levels of 1.5%-1.75%, fell during the last week closer to a level of about 1%. However , against the background of the starting point of high inflation and very far from the target, a labor market that is still abnormally tight (with a very high demand for workers), a significant deterioration in the macro picture will be required to lead to a relatively quick turnaround in interest rates. Therefore, it appears that the rapid decline in yields in the long term, both realistically, And the nominal, around 3.5%, is too aggressive,” Gozlan said.
However, according to him, the pricing in the bond market does not coincide with the pricing in the stock and credit markets, which are more consistent with a “soft landing” of the economy at most. “The improvement recorded in risk assets in recent weeks reflects an improvement in financial conditions, contrary to the Fed’s policy which aims to tighten conditions, and therefore distances the Fed from achieving a significant decrease in inflation,” Gozlan said. “Over the course of the past week, the markets were encouraged by the fact that Powell did not use the stage to signal dissatisfaction with the improvement in financial conditions. Although Powell repeated the assessment that the Fed is expected to slow down the rate of interest rate increases already in the upcoming decision, he noted the need to adopt a sufficiently restrained policy to lower the inflation and emphasized the importance of wage development over services inflation. Therefore, in view of the faster increase in wages in recent months, and against the background of the improvement in financial conditions, it is likely that the Fed will return to a more “hawkish” tone in the interest rate decision in the near future in order to lead to a renewed tightening of financial conditions.”