- Dollar unable to capitalize on solid US employment report
- But stock markets push higher, powered by decline in yields
- Gold shines as well, focus now turns to litany of Fed speakers
Strong NFP not enough to boost dollar
The US employment report for October was pretty solid. Nonfarm payrolls overcame forecasts, the previous month’s number was revised higher, the unemployment rate fell another two ticks to reach 4.6%, and wage growth accelerated. Yet investors were not impressed.
Treasury yields fell in the aftermath, taking the shine off the US dollar as expectations for swift Fed rate hikes were priced out. The market reaction suggests that while the labor market is healing quickly, it is not booming enough to force the FOMC into multiple rate increases next year.
There’s also some extrapolating from foreign economies at play. The Bank of England got cold feet last week and didn’t raise interest rates, putting investors on alert for a similar disappointment by the Fed when the time comes. It seems central banks will tread cautiously, so anything less than stellar data isn’t enough to reawaken rate hike fears.
This playbook will be put to the test on Wednesday when the latest edition of US inflation is released. Inflationary pressures are expected to have intensified further, with the Markit PMIs even hinting at an upside surprise as companies raised their selling prices "at the fastest pace on record". That might be just enough to set off another cascade of worries around faster Fed rate hikes and reignite the dollar’s rally.
Wall Street goes wild
Stock markets have gone into overdrive in recent weeks. The S&P 500 closed at yet another record on Friday, drawing fuel from the retreat in Treasury yields. With the economy doing better but not so much that the Fed will slam on the brakes immediately, this is the sweet spot for equity markets.
The issue is that this entire market is starting to resemble one colossal momentum trade, empowered by a whirlwind in the options arena. A cheerful earnings season has seen volume in bullish options go through the roof, with momentum chasing strategies and forced dealer hedging adding fuel to the rally. Tesla and Nvidia are two prime examples among the heavyweights.
This is an incredibly unstable dynamic that can work the same 'magic' on the way down if market sentiment turns around. There are still several threats on the radar, from surging inflation forcing the Fed to accelerate normalization, to an earnings slowdown next year accompanied by the introduction of the minimum corporate tax, to credit risks and weaker growth in China.
With markets so overextended, it wouldn’t take much to spark a correction.
Sterling struggles, gold shines
Things have been relatively quiet in the broader FX complex. The British pound and the Japanese have been the only notable movers, with sterling still feeling the blues after the Bank of England’s change of heart and the yen capitalizing on the pullback in foreign bond yields.
The retreat in yields also breathed life back into gold prices, which hit a two-month high on Friday. Bullion has essentially turned into a trade on how quickly the Fed will pull the rate hike trigger, benefiting every time normalization expectations are pushed back and suffering each time they are brought forward.
Finally, the US Congress passed the infrastructure bill that includes $550 billion in new spending on Friday, although judging by the muted market reaction, most of that was priced in already. The focus now turns to a parade of Fed speakers today, including Vice Chairman Clarida at 13:00 and Chairman Powell at 14:30 GMT.