Another holiday shortened week (closed Tuesday for New Years) had investors driving home Thursday night looking at the worst start to a year since 2000 and the fifth worst two day start on record. One strong jobs report and some dovish comments from Chairman Powell and the market is sitting up 1% after day three and the week’s end. Both monetary policy (Fed) and geopolitical issues are overshadowing slowing but still expansionary global fundamentals. Trade disputes, Chinese growth, oil prices, a divided Congress, Brexit, and government shutdown are all contributing to the uncertainty. By mid-January, the fourth quarter earnings season will provide an important barometer in gauging both the health of the economy and the outlook for the New Year.
- A 49.7 Chinese PMI on Jan 1 and the first earnings/guidance warning from Apple since 2002 sent markets solidly back into oversold territory before recovering by day’s end.
- We’ve seen three rallies of over >6% from a low point since the October volatility pickup.
- Fed Chair Powell took the stage Friday at the annual American Economic Association conference in Atlanta amid the equity market volatility/interest rate collapse and promptly walked back hawkish rhetoric, calling into question the 2-hike FOMC forecast for 2019.
- In other notable Fed speak, Dallas Fed President Kaplan stated he favors the Fed hitting the pause button in the first half of 2019 and that balance sheet runoff must be open to adjustment.
- FOMC still maintains a median projection of 3 hikes this year while the official expectation is for 2 hikes. In a stark contrast, the Eurodollar curve is pricing in at least one cut between now and 2020 - STIR markets (LIBOR, OIS, Eurodollar, Fed Funds) are effectively forecasting a recession without any funding stress. Futures market odds of a 0.25% Fed hike in March have dropped from 31% on December 6th to 0% on January 6th.
- Federal Reserve's reported assets total $4.058t, down $402.0 billion from the beginning of balance sheet unwinding in October 2017. Monthly Treasury unwind has grown from $6b to $30b and monthly MBS has grown from $4b to $20b. These levels are set to remain static until further notice.
- The PBOC lowered bank reserve requirements by 1% ($117b) to encourage business lending. The PBOC cut required reserves four times in 2018.
- Mid-January will usher in the beginning of 4Q earnings season which should act as an important parameter in gauging economic health and the 2019 outlook.
- Duration has been the biggest driver of returns in fixed income markets while anything with a whiff of risk (high yield, preferreds, bank loans) have very weak bids.
- Falling oil prices have taken 2-yr inflation swaps from mid 2’s to 1.35% while longer term inflation breakevens have remained more stable. This gives the doves plenty to coo about.
- Approximately 85% of all trades are sourced by quantitative trading programs, including passive indexing. Expect much debate about how this momentum/herd trading contributes to market volatility and rules-based strategies ability to properly analyze all data events and human behaviors.
- Bespoke pointed out the remarkable contrast in tone between the December ‘17 and ‘18 ISM commentaries changing from overwhelmingly positive to overwhelmingly gloomy.
Economic Release Highlights
- The December U.S. jobs report far surpassed expectations (180,000) with payrolls expanding 312,000 - the biggest beat since June 2009 and among the strongest of the whole expansion. Unemployment climbed 0.2% to 3.9% due to a welcomed increase in the number of people seeking work - labor force participation rose to 63.1%, the highest mark since 2013.
- Average hourly wages grew 0.4%m/m, 3.8% 3m/3m, and 3.2%y/y which are the hottest readings since December 2017. The m/m growth rate has been annualizing over 4% the past two months.
- Global December PMIs were released for Manufacturing (51.5) and Services (52.6), both are down from one year ago levels of 55.2 and 54.9. 10 of 30 readings are in contraction territory which is up from 8 in November and 2 last year.
- December's ISM Manufacturing fell over 5 points to 54.1, the lowest showing since December 2016. Weakness was clear in new orders (51.1) and across the energy sector. We view this reading with slight caution but ultimately is one of ‘easing strength’.
- U.S. December PMI fell 1.5 to 53.9, a 15-month low thanks in large part to high comps and falling oil prices. Combined with China’s December print of 49.4, its weakest since February 2016, we’re seeing a tangible easing in manufacturing sector activity and expectations.