News & Analysis

Just as markets were settling into the narrative that the US economy remained hot, fuelling concerns over inflation persistence, higher for longer rates, and a stronger dollar, the data has begun to cool.

On net, economic indicators released thus far this week have pointed towards moderately weaker growth and somewhat softer inflation pressures, and today’s payrolls data for April have been no different. Employment growth slowed considerably from an average Q1 pace of 271k to just 175k last month, while the unemployment rate also ticked up as the pace of wage growth cooled, all of which defied expectations. The details of the report weren’t necessarily as soft, but fundamentally weren’t firm enough to prevent markets from reflating easing bets for the Fed just days after Chair Powell raised the threshold for resuming hikes. This isn’t necessarily surprising.

As we warned ahead of today’s release, the aggressive shift in market positioning into short Treasury and long dollar positions in recent weeks raised the risk of a rapid reversal on any sign of economic weakness.

This is exactly what has occurred today. Following the employment release, markets have pulled forward their expectations for the first Fed rate cut to September, pricing two cuts this year. This has led to the dollar taking a beating, especially against low-yielding and high beta currencies.

The dollar drops alongside front-end yields as weaker payrolls growth fuels a reflation in Fed easing bets 

As mentioned, the headline measures in today’s payrolls report were uniformly soft.

Employment growth undershot expectations by 65k, printing at just 175k, while the unemployment rate also rose 0.1pp to 3.9% and average hourly earnings also cooled contrary to expectations. That said, the details of the report were a touch firmer. Weakness in employment growth largely reflected the public sector as employment in government  positions increased only by only 9k, significantly below expectations of a 45k increase and the 12-month average of 55k. Moreover, cyclically sensitive industries, such as retail trade, recorded an acceleration in job growth, befitting with recent data highlighting strong consumption growth in Q1. Furthermore, the increase in the unemployment rate was statistically insignificant, rising only 0.03pp on the month to 3.86% on an unrounded basis, while average hourly wage growth for non-supervisory workers remained high at 4.01%.

For a market that was all in on the persistent inflation narrative in the US, today’s payrolls data has delivered a considerable blow.

Not only have the weaker headline measures fuelled Fed easing bets, but firmer details also suggest that the recent easing in labour conditions isn’t a sign of something more sinister afoot. This has provided the perfect basis for procyclical assets to rally, an outcome we didn’t expect markets to converge upon until early Q3. Nevertheless, we don’t think the data has delivered the knockout blow. Firstly, today’s data marks just one data point signalling a slowing US economy, and the Fed will likely require 2-3 more months of confirmatory data before its confidence threshold to cut is met. Moreover, despite marginally cooling, April’s data shows the US labour market remains in a strong position, which if sustained should lead the Fed to a more moderate easing cycle compared to its peers. As such, we are inclined to maintain our call for marginal USD appreciation over the course of Q2 in light of today’s data, viewing the early signs of the US economy slowing as a limiting factor to the dollar’s rally as opposed to a basis to turn structurally bearish.

 

 

Author: 
Simon Harvey, Head of FX Analysis

 

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