Epic turnaround for stock markets, Nasdaq loses 5% as Fed dust settles
Funds blowing up, deleveraging, or traders saying Powell must do more?
Sterling sinks after BoE, US employment report the main event today
Equity market mayhem
What an epic turnaround for Wall Street. After stock markets rallied like there was no tomorrow in the aftermath of the Fed meeting, where policymakers decided to ‘go slow’ with rate increases, the wheels suddenly came off. The Nasdaq closed down by 5%, without any clear catalyst behind this dramatic reversal.
There are several narratives doing the rounds. Some suggest this is a mass deleveraging event as big players head for the exits, others believe it reflects forced liquidations driven by hedge funds blowing up, while another school of thought says the market is puking in response to a Fed policy mistake.
The market-implied probability for a 75 basis point rate increase in June, which Powell effectively ruled out, currently stands around 80%. Meanwhile Treasury yields have stormed higher, especially at the longer end of the yield curve. Bond traders are saying the Fed will be forced to strike harder now, otherwise it will need to use a sledgehammer later.
Generals getting shot
This particular sell-off felt like an earthquake because the mega-cap tech generals were annihilated too. Amazon (-7.5%), Tesla (-8.3%), Meta Platforms (-6.7%), Google (-4.7%), Microsoft (-4.4%), and even Apple (-5.6%) got smoked. Granted, most of these stocks simply fell back to where they were earlier this week, but when trillion-dollar companies start trading like penny stocks, that spells trouble.
The atmosphere is disturbingly similar to March 2020, the difference being that neither monetary nor fiscal policy can bail the markets out this time with inflation raging. For the market to find a real bottom, it needs some signs that inflation is starting to cool off first. That would help calm nerves around relentless Fed rate hikes and a ‘hard landing’.
This puts additional emphasis on the upcoming US employment report, particularly on the wage growth component that is considered an early indicator of ‘organic’ inflationary pressures.
Deciphering the nonfarm payrolls puzzle
Nonfarm payrolls are forecast to have risen by 391k in April, pushing the unemployment rate down one tick to 3.5%. Average hourly earnings are projected to have cooled a touch on a yearly basis. In terms of any surprises, labor market indicators were mixed during the month.
The Markit PMIs and jobless claims point to a strong report, whereas the ISM surveys and the ADP print suggest disappointment. Funnily enough, a disappointment - especially on wage growth - may be exactly what’s needed to breathe some life back into stocks.
As for the dollar, it continues to rampage through the FX market and today’s employment report is unlikely to change that. Even if incoming data dispel some concerns around rapid-fire Fed rate increases moving forward, that may not be enough to derail the US dollar’s uptrend while risk appetite is on shaky ground and every other major economy is in even deeper trouble.
This was perfectly encapsulated by the Bank of England yesterday, which raised interest rates by 25 bps as expected but stressed that risks around economic growth are intensifying. It was a split affair, with three officials voting for a bigger rate increase while two others voted for a pause in the tightening cycle.
Markets responded by recalibrating the trajectory for UK interest rates slightly lower and sterling paid the price, suffering a double whammy from the cautious signals and the carnage in equity markets that, combined, dragged Cable down to fresh two-year lows.