Article / 08 July 2016 at 5:07 GMT

3 Numbers: 'Jobs-Friday' won't be enough for the Fed

Blogger / MoreLiver's Daily
  • US June jobs report likely to improve after the terrible data in May
  • Brexit, banking crisis could affect credit raters’ views on Europe
  • UK’s trade picture might get a boost from weaker GBP
  • Fed Funds-futures suggest investors see a rate cut more likely than a hike

By Juhani Huopainen

Possible sovereign credit rating changes. The credit rating agencies (CRA) have to announce beforehand the days when they could change the ratings of the European Union’s members. Note that “could” does not mean that the CRAs would make any changes.

For the most part sovereign credit ratings are unimportant for investors as long as certain rating thresholds are not met. Certain investors are allowed to only invest in securities that do not have a lower rating than their official threshold. For now, none of the possibly adjusted ratings are not even close to such levels.

More importantly, any changes would be accompanied by a short note from the CRA, outlining the reasons behind the decision and these are sometimes used by the rated countries and European institutions to as a rationale for adjusting the economic policy.  

Scheduled possible changes, current rating and current outlook:

- Moody’s European Union (Aaa, stable), Netherlands (Aaa, stable)
- Standard & Poor’s European Financial Stability Facility (AA, stable), Germany (AAA, stable)
DBRS United Kingdom (AAA, stable)

The UK’s rating is probably the one most at danger. Other CRAs have either lowered the UK’s rating or put it on negative watch.

The last time the DBRS reviewed UK’s rating was on June 29, after the referendum vote and the first signs of market turbulence, but left the rating unchanged at the best possible AAA and the outlook stable.

Now that the European banks seem to be in dire need of additional capital, possible bail-ins (investors, depositors and creditors lose) or bail-outs (taxpayers lose) could make the CRAs nervous over the European structures – possibly even Germany.

The CRAs tend to be slow in their reactions and tend to adjust the ratings after the fact – thus, not much should be expected, but any letters warning about possible rating change triggers could be of some interest. If nothing else, the ratings are always headline material and could have a minor negative effect on business confidence.

UK May Trade Balance (0830). The UK’s trade deficit in May is expected to be GBP 10.65 billion, following April’s deficit of 10.53 deficit. This will, for all practical purposes, be an unimportant data release, but it might provide a clue as to how the weaker GBP will affect UK’s trade and external balance.

In May, the EURGBP traded around the same levels as in April (0.7800), but the GBP was considerably weaker than at the end of 2015 (0.7200). It usually takes some time for exchange rate changes to show up in the real economy, and in fact deficits have trended lower during the past couple of months – despite higher oil prices.

US June Employment Report (1230). After May’s dismal report, which not only recorded the smallest monthly increase in the nonfarm payrolls since January 2011, but also revised the February’s and April’s job gains lower, much is now riding on today’s report.

Sure, the striking Verizon employees lowered the May’s reading by an estimated 35,000, but even taking that out of the equation, the data was really bad.

 There still might be a rate hike surprise this year, but other surprises as well. Photo: iStock

The consensus forecast expects nonfarm payrolls to have increased by 165,000 in June.
The private sector ADP report for June was published yesterday, and it showed private sector jobs had increased by 172,000 – more than the expected increase of 159,000.

The chart of monthly changes show that “terrible” reports have happened in the past, only to be followed by rapid improvements later.
us jobs monthly

Rising wages are very slowly also increasing inflation
us wage inflation
Source: Both charts, Saxo Bank

The chart with a year-over-year change shows the payroll increases still in the same range they’ve been since 2012, but admittedly the time series has lost momentum. Maybe May will turn out to be a low point and six months from now nobody will remember it?

US jobs yearly
Chart source: Saxo Bank

The investors’ expectations of a Fed rate hike in 2016 have collapsed totally following the previous jobs report and then the UK’s referendum on EU membership.

The Fed Funds-futures suggest investors see a rate cut more likely than a hike, and the expectation shifts in favour of a Federal Reserve hike over a cut as late as December. Even then, the implied probability of a hike by December is only 14%. Even all the way up to June 2017 the probability of a rate hike is only 21.2%.

Investors believe that a rate hike in foreseeable future is highly improbable. My guess is that the rate hike probabilities have reached their lows, and thus there is room for a positive surprise.

Maybe the Fed will also forget to be on hold as soon as the job market data improves? A positive surprise would help drive the USD lower, but as the demand for USD is not only driven by rate expectations, but also safe-haven buying, the picture could get complicated.

As the shock over the Brexit vote is slowly dissipating and the euro area slowly but surely will move toward fixing the Italian banks, this would decrease the demand for USD.

On the other hand, that would also bring back expectations of a Fed’s rate hike, which would help the USD. Thus I guess the following months will see more range-trading for the EURUSD pair, while the real action will be in GBP and JPY.

For the savvy swing trader, EURUSD could be a low-risk pair less prone to political risks and headline-surprises, which are extremely hard to trade around.

--Edited by Adam Courtenay

Juhani Huopainen is is a blogger and a macro analyst at More Liver’s Daily. Follow Juhani or post your comment below to engage with Saxo Bank's social trading platform.


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