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Is the bond market telling us Goldilocks is on death row?

Posted By Peter Switzer On In Switzer on Saturday | Comments Disabled

From the outset, I’m cutting to the chase. The US received a very strong labour market report with 336,000 jobs created in September and unemployment remaining at a half century low at 3.8%. But wait for it, after an initial sell-off, then with two hours to trade thanks to daylight saving here, all three market indexes were strongly positive!

How does that work? Given what we’ve seen since 2022 as interest rates rose, tech/growth stocks were sold off as many of these companies carried debt, had small or no profit and an eventual recession was expected as the rate rises came thicker and faster than most people ever expected.

So, why was the Nasdaq up close to 1.7% after a stronger- than-tipped jobs report, which nearly makes it certain that the Fed will raise rates again in November? Be clear on this: a weak jobs creation number would’ve had the Fed thinking its job to beat inflation was working. However, this number will have the market expecting at least another rise, though there could be more. So, how come stocks are up so strongly?

To answer this, I have to confess that like many so-called stock experts, I was uncertain about the reasons for the magnitude of some of the sell-off days this week. The first slump in stocks happened because of a too positive labour market indicator, which helped bond yields go higher on more certainty that the Fed would raise rates again. The next day reinforced the negativity, with even oil prices falling but then the unreliable ADP private sector jobs report came in worse than expected and we saw two days of buying.

To be a little Orwellian, market players might have thought: “Low job numbers good. High job numbers bad.” But Wall Street saw a robust jobs number, miles bigger than expected and it went on a buying spree, despite bond yields initially going up on the 336,000 jobs, and stocks fell.

This makes me think that a lot of earlier selling of shares during the week was for two reasons. One group sold because they expected strong jobs to lead to more rate rises, while the second group sold because they believed that more rate rises would deliver a hard landing recession, once the Yanks wake up that 12 rate rises really hurt.

Either way, this week’s negativity was screaming that Goldilocks was on death row! But maybe these job numbers may give her a reprieve.

Until this week, there was a growing belief that the Fed might have hit the top of its rate rises and that a recession could be avoided thanks to a Goldilocks economy, where growth was neither too hot nor too cold, but just right.

Then a strong jobs vacancy indicator earlier this week sent US and then our stocks into freefall for two days. Then the ADP reading said private sector employment grew by 89,000 in the month, the fewest since early 2021, and the result was well below expectations for 150,000 new positions.

Stocks then rebounded on what most thought: “Low job numbers good. High job numbers bad”.

So, how come Wall Street is buying stocks overnight?

In the absence of 100% certainty, you’d have to think the fear that excessive rate rises, driven by a slow-to-react labour market was making many investors think the Goldilocks scenario was out and a hard landing recession was more on the cards.

The fact that oil prices slumped this week adds credibility to my speculation. “Oil prices fell about 2% on Thursday, extending the previous session’s losses of nearly 6%, as worries about fuel demand outweighed an OPEC+ decision to maintain oil output cuts, keeping supply tight”, Reuter’s reported on Thursday. “Global benchmark Brent crude futures and U.S. West Texas Intermediate crude futures have declined about $10 a barrel in less than 10 days after edging close to $100 in late September.”

That suggests that earlier in the week the oil market speculators saw strong job numbers and then rising bond yields and thought: “This won’t be great for global growth and then oil prices”.

So, what happened to oil prices overnight? Before I Googled “oil price news”, I expected to see oil prices up. This is what Reuters reported: “Oil prices rise, but head for biggest weekly fall since March.”

All this makes you think the fear of rate rises is less worrying than the fear of a bigger-than-hoped for recession, which might be true as share prices are linked to profits and a bad recession kills profits. But wait, there’s more. In all my reading of what happened overnight, there was one positive coming out of the jobs report that could explain this market positivity. As Reuters reported: “US job growth sizzles; wage inflation cooling”.

Meanwhile, this is how CNBC explained Friday’s unexpected reaction to a stronger-than-expected jobs report: “Traders were unclear of the reason for the intraday turnaround. Some noted it could be the softer wage number in the jobs report that made investor rethink their earlier bearish stance. Others noted the pullback in yields from the day’s highs. Part of the rally may just be to do a market that had gotten extremely oversold with the S&P 500 at one point this week down more than 8% from its high earlier this year”.

Summary? Goldilocks lives with that wage inflation figure giving ‘her’ a new lease on life, but I do wonder how long this positivity will last. The answer could come as early as next week when the Yanks get both the Consumer Price Index and Producer Price Index numbers. And I’m betting for stock prices that it will be: “Low inflation good. High inflation bad”.

The big question from US trading overnight is: can this market optimism last? I suspect those inflation revelations next week will be crucial.

To the local story and yep, our market took the lead from Wall Street all week and the gains couldn’t beat the losses, so the S&P/ASX 200 fell 94.4 points (or 1.3%), despite a nice 0.4% gain on Friday.

A big development was the index ending at 6954.2, which was the first time it was under 7000 since March.

S&P/ASX 200

Helping the rebound were banks and miners on Friday but most struggled for the week. CBA was up 1.1% to $100.04, Westpac (which is being up rated by analysts) rose 2.1% to $21.44, ANZ put on 0.9% to $25.32 and NAB added 1.5% to $28.94. (The table below looks at how our top stocks fared.)

A big story for the week was Magellan, and this is how the AFR reported it: “In company news, Magellan Financial plunged 18.5 per cent to $7.18. The Sydney-based money manager was the worst performer on the ASX 200 after reporting a $4 billion drop in funds under management in September to $35 billion. “Financial advisers who put their clients with MFG are losing faith in the company, even though the actual returns for their key funds have been better.

What I liked

  1. The Wall Street reaction to a bigger-than-expected job creation number.
  2. The RBA leaving rates on hold.
  3. Oil prices slumped and that’s good for inflation.
  4. Investor sentiment has fallen sharply from the optimism seen mid-year, when Goldilocks was all the rage. This is usually a good sign that a buying opportunity has arrived.
  5. The ADP employment survey also slowed more than expected, which is why stocks rose on Thursday and then Friday. (The track record of ADP as a guide to payrolls isn’t fantastically reliable, as was proved overnight.)
  6. The ISM business conditions indicators in the US were mixed, with manufacturing up but still weak and services down but still solid. Importantly, prices paid indicators in both remained well down from their highs, which is good for future inflation rates.

What I didn’t like

  1. The possibility of a rate rise in November from the RBA has increased.
  2. Company insolvencies have increased to pre-pandemic levels and commercial real estate remains under pressure but fortunately the risks to financial systems are judged to be low.
  3. The bond market!
  4. The excessive jawboning by Fed officials on interest rates to remain “higher for longer”.
  5. The $A at an 11-month low of 63 US cents. It’s now 63.9 US cents and its long-run average is around 73 US cents.
  6. The US Congress and the end of House Speaker Kevin McCarthy.
  7. A resurgence of fears around the Chinese economy. According to Shane Oliver: “China’s Caixin business conditions PMIs fell in September offsetting the improvement seen in official PMIsand suggesting that smaller private firms (which have a higher weighting in the Caixin survey) are not doing as well as larger state-owned firms. Overall, it adds to the impression that growth has stabilised, but it still looks weak relative to pre-pandemic levels”.

Sorry about last Saturday’s Report

If last Saturday’s Report came late, please don’t think I was distracted by the Grand Final long weekend expectations and celebrations. That said, Hubspot, which is our provider of the services that mean my Saturday 5am writings and analysis gets to you, had gremlin problems. I apologise on their behalf if you were hanging out for your Switzer Report. Interestingly, to date we haven’t received an apology from our supplier. Who would’ve thought a big US company founded by geeks from the Massachusetts Institute of Technology (MIT) wouldn’t feel for clients they let down?

For us last weekend, HubSpot was DudSpot!

Sorry, again and we’re working on an alternative to ensure delivery if our supplier fails again. The Report is always posted on our website so if HubSpot ever lets us down again, you can log into www.switzerreport.com.au [1] and pick it up there.

The Week in Review

Switzer TV

Switzer Report

Switzer Daily

The Week Ahead

Top Stocks — how they fared.

 

Chart of the Week

The spiking of bond yields explains why stocks have had a rough September.

Stocks Shorted

ASIC releases data daily on the major short positions in the market. These are the stocks with the highest proportion of their ordinary shares that have been sold short, which could suggest investors are expecting the price to come down. The table shows how this has changed compared to the week before

Quote of the Week

“Most Fed officials are continuing to reiterate their ‘high for longer’ message on interest rates and a rise in job openings and US political uncertainty with the replacement of the House Speaker didn’t help. From their July highs US shares have now had a fall of 8%…Shares are oversold at technical support and are due for a bounce, but the risk of a further correction is high.” AMP Chief Economist, Shane Oliver.

 

Disclaimer

Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.