Ahead of the November US non-farm payrolls report, we have seen a massive slide in equity prices and then a decent rebound on Thursday as the indices tested their respective support level. Meanwhile the dollar has had a mixed week, rising against the riskier commodity and falling against the haven currencies such as the Japanese yen and Swiss franc. Gold has risen noticeably too, and briefly surpassed the $1240 key hurdle, before falling back below it as the dollar bears took profit ahead of Friday’s NFP data. Overall, it has been a week dominated by risk-off sentiment, which means speculators must choose their dollar pairs carefully when it comes to trading the nonfarm payrolls report on Friday. Will the jobs data help to limit the downside for the buck, or will the selling accelerate in what has been a poor start to the last month of the year?
Growth concerns dent equities
Before rebounding slightly on Monday, sentiment in the stock markets had been hit badly by a number of factors, not least fears over the health of the US economy. Although the world’s largest economy is still expanding, some economists think it may have hit peak growth and that with interest rates on the rise we could see a slowdown in output or even a potential recession in the coming quarters. The recent emerging market currency crisis and ongoing trade dispute between the US and China has weighed on demand from EM economies. These concerns have been reflected in a flattening yield curve in the US. The gap between short- and longer-dated bonds has now narrowed to its lowest level since June 2007, when we were on the verge of the great financial crisis. Although we don’t think another crisis of that nature is upon us, we can’t ignore the implications of a potential inversion of the yield curve. Historically, when short-term rates have moved beyond long-term ones, this has typically preceded a recession.
Fed’s hiking cycle is at its twilight
However, this time it could be different, and the flattening of the yield curve may well be because of the fact the Fed’s short-term hiking cycle is at its twilight. The Fed Chairman Jerome Powell last week strongly hinted that the tightening cycle will be paused in the coming year as interest rates are very close to neutral. This has seen US government bond yields reverse a strong rally as debt prices rebounded sharply.
Safe haven assets on the rise
Investors are clearly worried about the possibility of an economic slowdown and as such they have warmed to haven assets, including gold and Japanese yen, in favour of equities. The markets have become severely overvalued in recent years – especially in the US – as historically low interest rates across the developed economies had pushed investors into the higher-yielding stock markets and away from government bonds. Now the reverse is happening, as central banks have started to normalise their monetary policies.
Dollar loses bullish momentum on dovish Fed
As far as the dollar is concerned, the prospects of slower Fed hikes means the greenback could lose some of its bullish momentum that had been driven by speculation of three more rate hikes in 2019. But with that possibility apparently no longer being the case, the directional bias on the dollar may has turned south-bound. As such, we prefer looking to fade short term dollar strength against currencies where the central bank is now relatively more hawkish – such as the euro, although we haven’t yet seen a clear technical reversal pattern to turn decidedly bullish on the EUR/USD. The ECB looks set to end its QE programme at the end of this year and raise rates next summer – although this is up for debate.
Jobs report unlikely to be game-changer for December rate decision
Heading into Friday, the focus will shift back to the US with the official jobs report scheduled for release at 13:30 GMT or 08:30 ET. The Bureau of Labor Statistics will publish the number of jobs added to the US economy in October, the unemployment rate, and key wage growth figures. While the headline figure will be, as always, important, the focus will be on wage growth. So, the dollar’s response to the employment report will depend on the outcome of both the headline NFP figure and Average Hourly Earnings. If they show continued strength in the US labour market then rate hike expectations for December will be cemented further, potentially leading to a short-term bounce for the dollar. But it will be interesting to see whether it will hold onto its potential gains, especially against currencies that have found strong support this week such as the yen. If the data turns out to be weaker than expected then the dollar could sell-off across the board.
Current NFP Expectations
The consensus expectations for Friday’s headline non-farm payrolls data point to around 200,000 jobs added in November, after October’s stronger-than-expected 250,000 print. The November unemployment rate is expected to have remained unchanged at 3.7%, while average hourly earnings are expected to have increased by 0.3% after last month’s 0.2% increase.
Jobs Data Preceding NFP: mixed
Key employment-related releases preceding Friday’s official jobs data have shown a mixed overall picture.
The ADP employment report came out below expectations at 179,000 private jobs added in November against a prior forecast of around 195,000. It should be kept in mind that the ADP report has proven not be a very good indicator for the official NFP jobs data, although last month was an exception.
Prior to today’s release of the ADP, the other main pre-NFP leading indicator we had was the employment component of the ISM manufacturing PMI, which rose 1.6 points in November to 58.4 from 56.8 previously. The rate of hiring in the sector rose somewhat, in other words, despite all the growth concerns.
However, the same cannot be said about the services sector PMI as its employment component fell by 1.3 points, albeit to a still-high 58.4 from 59.7 in October. This is not a good sign because the services is the largest and dominant sector in the US economy.
Meanwhile the unrevised Jobless claims released throughout November averaged 220,400. This has been more than the average expectations for the November releases, and marks an uptick of 8,900 from the unrevised weekly average outcome of 211,500 in October. But the November average was also higher than the average actual unrevised outcomes of 205,500, 213,200 and 217,250 recorded in September, August and July, respectively. So, it marks a noticeable increase for unemployment-related benefits compared to the previous few months.
Forecast and Potential USD Reaction
Given the above mixed pre-NFP leading indicators, our target range for the NFP for this month is tilted to the middle of the average expectations. With the consensus expectations of around 200,000 jobs added in November, our target falls in the range of 190,000-210,000, given the above considerations. Though the US dollar will likely be moved by a host of other fundamental factors, any headline jobs outcome falling above this range should give the US dollar a boost, perhaps a short-lived one given the fact the Fed has turned dovish. A result falling within the range will unlikely make much of a significant impact but could potentially see the dollar selling resume. And any reading that falls significantly below the range could result in a proper dollar sell-off.
NFP trade ideas
In the event the jobs and crucially wages data beat expectations, then we would favour looking for bullish setups on the dollar against the likes of the British pound, which is likely to be held back until at least the middle of next week, owing to Brexit concerns. But if the jobs and or wages data turns out to be very poor, then we would favour looking for bearish setups on the dollar against the likes of the yen given the latter’s big rally this week.
Overall, the NFP report may not cause much concern for market participants as far as its impact on a December rate decision is concerned, with most analysts still pricing in a high likelihood of a rate hike from the Fed later this month. Therefore, it would take a shockingly bad jobs report to make Powell and co to pause immediately. But the rate hike outlook for 2019 is murky and will get murkier if the incoming data from now on until the end of the year start to deteriorate.