Instead of taking markets higher, better than expected data flow in recent months has increased anticipation of a Fed taper sooner than later and this pattern is expected to continue into next year
US markets remain in tug of war with Fed tapering plans
While most of the data flow from the United States over the past month would point towards a strong underlying recovery, market moves continue to be driven by expectation of future Federal Reserve policy.
Like a game of tug of war, markets have exchanged gains and losses while digesting news and the respective Federal Open Market Committee board members’ rhetoric as to when the taper will in fact materialise.
Macroeconomic data points from the US have been impressive over the past month – following a rather abysmal September US non-farm payroll report, jobs growth rebounded rather surprisingly during October.
US employers added 204,000 new jobs – almost doubling the higher end of estimates on the street. Moreover, revisions to September’s readings indicated that 163,000 jobs were added, an increase of 15,000 more than previously reported.
The stellar October report was preceded by a much stronger than expected US GDP reading, which showed that growth in the US during the third quarter roared from 2.5 per cent previously to 2.84 per cent, far above expectations of a 2 per cent annualised number.
It was the strongest reading of growth in a year. It is important to note here, however, that as good as the GDP reading looked, deeper analysis shows that the personal consumption figure, which is the core driver of GDP growth, grew at only 1.5 per cent, below the expected 1.6 per cent. Much of the upsides in the third quarter reading can be as a result of large buildups in the US stock inventory. But taking the GDP reading on face value and coupled with the positive jobs report, markets curiously reversed their gains.
Following the release of these two better-than-expected readings, US equity markets dipped sharply. Gold sold off $30, the US dollar index strengthened with yields on the US five-year and 10-year bonds also spiking higher. Instead of taking markets higher, the better-than-expected data flow increased anticipation of a Fed taper sooner rather than later, which led to a clear risk-off environment yielding a large inflow into safer haven US dollar and treasury assets.
The knee-jerk reaction clearly highlighted the markets’ ultimate fear of easing, which drove higher yielding stocks and currencies lower. And this trend is set to continue through the first quarter of next year. Markets will ignore the figures for what they are – instead focusing on what implications those figures will have for future Fed policy.
With only one more payrolls report due out this year, it is highly unlikely Fed policy will introduce the taper when they reconvene this month.
It would seem that the US jobs market is finally gaining some traction, but inflationary concerns remain well in check (consumer price index last month came in at 1 per cent). And in her most recent testimony in front of the US senate, the future Fed chair Janet Yellen maintained her dovish tone that the Fed “would need to do more work” to support the economic recovery “before it can return to a more normal approach to monetary policy”.
This sentiment will continue to keep equity markets elevated, however, if we see another surprise gain above 200,000 in this Friday’s report – markets can be assured of a sell-off in the very short term – similar to November’s pricing action.
However, through the end of this year, we can expect new record highs in equity markets and the US dollar index looks good to test 81.50 before the close of the year. The implications for gold remain heavily skewed in favour of the bears with the precious metal susceptible to a move back towards $1,180 an ounce before closing out the year below $1,250 levels.
After the loosening of Iranian sanctions, energy markets have come under a wave of selling pressure, with the West Texas Intermediary (WTI) crude shedding more than 2 per cent in the final week of November. However, the WTI contract looks good to hold above $90 per barrel through the end of the year.
Gaurav Kashyap is the head of futures at Alpari ME