The US economy added a dreadful 38k jobs in May. That’s probably worth repeating a few times: 38k jobs. The lone bright spot of the employment report last Friday if you want to call it that, is that the Unemployment Rate is now 4.7% (from 4.9%), however that’s due to more individuals leaving the workforce as the participation rate dropped to 62.6% from 62.8%. Year over year the Average Hourly Earnings is up 2.5% and I’m sure the Fed sees that as a positive sign of inflation. The market can’t take their eyes off the 38k jobs added (recall that 160k was the market’s expectation) and that’s the real story. So we are now at a crossroads between all the encouragement we’ve heard from the Fed about the strength of the recovery and the reality of recent economic data.
The 30% chance of a Fed hike in June has now dropped to 2%. The probability of a raise in July is down to 25% from 43% just a week ago. After 38k jobs, 25% is still high in my opinion but the Fed has stated they will raise rates in mid-2016 for more than a few months and they are not quick to change their tune.
Playing devil’s advocate I would say that inflation is trending in a positive direction, oil prices are climbing steadily, hourly earnings have continued to trend higher and it’s very possible the May jobs report could be revised upward. The end.
The reality is that labor market conditions have worsened, inflation has still not met the Fed’s target and the troubles in Europe are not subsiding. I think with the latest report July is definitely off the table (unless the revision is large to the upside). I think we will see a new tone in the Fed pushing for higher rates but ‘over time’ instead of ‘very soon’ as they’ve stated numerous times. 38k jobs is a very humbling report and I think we will see a shift in attitudes at the Fed until a positive jobs report comes out. Two rate increases this year is also very much at risk and after the recent jobs report one rate raise could be challenging for 2016. Make no mistake though that the Fed is hell bent on raising rates.
Turning to the bond market, the 10yr continues to trade in the 1.70 to 1.90 range. The recent jobs report has pushed the 10yr to 1.72 as of today. Additional weak job or inflation data could push it below the 1.70 range and I don’t see many cases where the 10yr moves above 1.90. Oil prices have continued to climb where a barrel of oil costs about $50 today versus $26 four months ago. Over that same time period the price of a gas has risen about 60 cents a gallon.
Have a great week.
FOMC Calendar Probability of Hike
June 15th 2.0%
July 27th 25.5%
September 21st 43.4%
November 2nd 47.0%
December 14th 60.6%