All eyes on yields this week after latest job data points to even tighter labour market amid record vacancies
It was a week of two halves for European equity markets last week, getting off to a flyer in the first three days with the Stoxx600, setting a new record high, along with the CAC40 and the FTSE100 moving above 7,500 for the first time since February 2020.
The latter part of the week turned out to be more challenging after the latest Federal Reserve minutes showed increased anxiety amongst many Fed officials about high and persistent levels of inflation, with the result that most of the gains during the week disappeared, although the FTSE100 was able to perform much better, “finishing the week very much on the front foot,” according to Michael Hewson, Chief Market Analyst at CMC Markets UK.
“US markets, on the other hand, had a much more negative week, reacting to a sharp rise in short- and long-term yields, as well as concern that the Federal Reserve might be forced to act much more aggressively in pulling rates off zero to head off an inflationary shock,” Hewson said this morning.
Friday’s payrolls report did nothing to alleviate these concerns, he continued, despite on the face of it yet another disappointing headline number, with 199k jobs added, well below the 450k consensus.
“For the second month in a row the headline number fell well short of expectations, however on all other levels the jobs report was much more positive,” Hewson pointed out.
The unemployment rate fell again, this time to 3.9%, and back to the levels it was pre-pandemic, while the participation rate came in at 61.9%.
More importantly, wages were much more resilient, rising 4.7%, well above expectations of 4.2%, while the November numbers were revised up to 5.1% from 4.8%.
“These wages numbers appear to be what has put upward pressure on yields, as it becomes more apparent that the Fed is running out of excuses not to raise rates, in the coming months,” Hewson said.
“When looked at in the round, Friday’s report would appear to suggest that while there are plenty of vacancies, there appears little appetite to fill them.”
In both November and December, the number of jobs added has been disappointing, which would suggest that even with US employers having to pay up to get people back into the workforce, workers don’t appear to be in a hurry to return, despite over 10m vacancies, and only 3m fewer workers.
“This is something that could see further upward pressure on wages in the coming weeks and months and will certainly be food for thought for Fed officials when they look at the timeline for when to make their first move on rates,” he added.
“As such, as we look towards this week’s market focus and today’s European open, the primary focus is likely to be on this week’s US CPI numbers for December, which are likely to add further spice to the discussion with estimates that we could see the headline number come in at 7.1%, up from 6.8% in November.”
Yields
Last week’s move higher in yields took its toll on US equity markets, and the Nasdaq 100 especially, posting its biggest weekly loss since February 2021, while the US 10 year saw a one week rise of 25bps, closing at 1.76%, after briefly getting to within touching distance of 1.8%.
“Despite the surge in yields over the past week the fall in equity markets has been relatively contained, however further weakness in bond markets could translate into further equity market weakness in the days ahead, especially if US 10 year yields move through 1.8% towards 2%,” Hewson said.
“The increase in yields hasn’t been a uniquely US phenomenon, with yields in the UK and Europe also rising sharply,” he pointed out.
German CPI inflation rose to 5.3% last month and its highest level since 1992, while EU CPI rose to a record high of 5%, helping to drive the German Bund yields up to within touching distance of 0%, closing at its highest level since May 2019 at -0.04%, as traders speculated on the prospect that the ECB may well have to raise rates later this year, despite insistence on the part of ECB officials that this was unlikely to happen.
“This comes across as wishful thinking on the part of markets. The ECB cannot afford to even contemplate raising rates, given the weakness of government finances in the European countries who have very high debt to GDP levels, and who need borrowing costs to remain low.”
UK gilt yields also saw a big increase last week, rising over 20bps, to 1.18%, helping the pound to outperform the US dollar and every other G10 currency in the first trading week of 2022.
Last week’s sterling rally was also the third successive weekly gain against the US dollar, “its best run since May last year, as speculation grows that another move on rates could come as soon as next month,” Hewson noted.
This week’s main focus, apart from the December US CPI report, is also set to be on the latest China trade numbers and US retail sales, he concluded.