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After dominating the news cycle for weeks, the debt ceiling issue is suddenly resolved and the bond market doesn’t seem to care. The jobs report turned out to be far more relevant, but with half of it indicating a strong labor market and the other half saying the opposite, who’s telling the truth and why did rates pay attention only to the (bad) news?
Let us take a paragraph to eliminate the debt ceiling. Last week’s newsletter went into greater detail on its relative insignificance — now confirmed by the absence of any major backlash following this week’s Senate passage (and signing later this week). The following chart is potentially confusing, but it attempts to show a row that only cares about non-debt-limit stuff (the green one), a row that cares a lot about the debt limit (the red one). cares, and finally, the 10yr blue line serves as a proxy for longer term rates. Bottom line: If the blue line correlated more with the green line, then the lending cap wasn’t a big deal for rates.
On the jobs report! This month’s installment showed very strong job creation with 339k payroll counts and over 90k upward revisions in the last 2 months. Analysts were expecting less than 200k. very powerful!
This month’s installment also showed the unemployment rate rose to 3.7% from 3.4% last time, easily beating the forecast of 3.5%. Sometimes, such movement occurs when the labor force participation rate changes, but this time it was completely stable. In other words, it’s the opposite of super strong!
So who’s lying?
The first thing to understand about the “Jobs Report” is that it consists of two separate data collection efforts. There is a routine survey of older people that relies on individual responses (aka “household surveys”). Other various employers (aka “establishment surveys”) have more formal, more systematic reporting of payroll numbers.
The unemployment rate is derived from the Household Survey and the Non-Farm Payroll (NFP) Establishment Survey.
These two data collection efforts are absolutely massive. They are also highly regarded in terms of data integrity. In other words, the average investor can be fairly confident that the Bureau of Labor Statistics is publishing exactly the data it collects.
Problems arise for a few reasons (sampling error, changes in seasonal adjustment factors, etc.), but let’s focus on the simple issue of “noise”. Sure, NFP was strong, but it’s running short.
It is easy to visualize this trend if we take the 12 month average of the blue line as seen in the chart below. While we’re at it, let’s look back at the pre-pandemic labor market to see a more stable baseline (note the frequent fluctuations in the month-to-month payroll count even as the orange line flattens):
Zooming out also shows us that the job market is moving towards its new normal even after the lockdown shock of 2020. “show all” and clear all doubt (same as the above lines, but charting the entire range):
All this to say that we should expect volatility and inconsistency in labor market readings as the underlying statistical math adjusts to a still-evolving post-Covid economy.
But why has the bond market favored non-farm payrolls (NFP)? In other words, why did an increase in unemployment (U/E) lead to an increase in rates rather than a decrease in job numbers?
Easy! Market participants rely heavily on the NFP than the U/E for being a generally better early indicator of broad changes in the labor market. The charts show why. Take the dot com meltdown as the first example of an NFP, which clearly leads to a downtrend before U/E. NFP bottomed out about 2 years ago and peaked about 3 years ago on the other side of the recession.
Similar patterns hold true for impending economic cycles.
Are there other reasons that help explain the mixed messages? Could it be something other than “noise”? Perhaps the excess of multiple job holders inflated the NFP (1 person with 2 jobs counts as 2 payrolls). And could this mean the labor market is weaker than it seems? Probably not. The multiple-jobholder category actually grows when things are going well for the labor market, despite all the spin suggesting otherwise.
All this to say that the jobs report that the market cares about was actually worth some upward pressure on rates this week. Fortunately, the damage was not excessive. In fact, rates ended the weekend notably lower than last week. A slight rise was seen on Friday itself.
From here, market attention will quickly turn to the upcoming Fed announcement on June 14. Earlier this week, two different Fed officials used the word “skip” to refer to the rate hike strategy. Skipping is as good as a pause for the financial markets, and a pause is a harbinger of lower rates. The only question is how long do we wait for that cycle to last. The market reaction to “skip talk” is most easily seen in fed funds futures, which essentially allow investors to bet on Fed rate hikes/cuts. The chart equates to a lower probability of a rate hike on June 14 than in the previous week.
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