June 2, 2006
DOES A STUMBLE MEAN A PAUSE?
June promises to be a month when Wall Street fully embraces the question: Is the economy slowing or isn't it?
The latest smoking gun suggesting that the economy is in fact slowing comes in this morning's jobs report for May, a release that shows the smallest monthly increase in nonfarm payrolls since last October's 37,000 advance, and well below the average monthly increase of 157,000 that's prevailed over the past two years, the Bureau of Labor Statistics reported.
One month is not a trend, of course, although a longer-term inclination is. Consider that the rolling 12-month percentage change in monthly nonfarm payrolls has been looking tired for some time. As our chart below illustrates, the 12-month change in job growth appears to have hit a ceiling of around 1.5% in the last two years and is now starting to drift lower. For May, the advance was 1.4%, unchanged from April's percentage rise.
Is this a sign of an economy that's starting to weaken? If so, how will the trend affect the Federal Reserve, when its FOMC convenes on June 28 and 29 to consider monetary policy anew? Yes, optimists will take heart in the news that May's unemployment rate fell to 4.6%, the lowest since July 2001. But the realization that May's job growth generally surprised economists with a weaker-than-expected report, plus the fact that April's growth was revised downward, is likely to take much of the shine off the lower jobless rate.
Josh Shapiro, chief economist at MFR Inc., told MarketWatch.com this morning that sluggish growth in the payroll report "muddies the waters" for the Fed's next confab on interest rates. "It is looking more like some sort of slowdown," he opines. "This could put the idea of pause [in further rate hikes] back in play."
Supporting Shapiro's analysis is the fact that wage growth slowed dramatically in May, which gives the Fed more room to argue that inflation pressures are waning and so a pause, temporary or otherwise, is warranted later this month. Average hourly earnings rose by just a penny last month. That's a sharp slowdown from the 10.3-cents average increase over the previous three months.
Traders of Fed funds futures needed no convincing this morning of the pause-is-back mentality. Buying of the July Fed funds futures contract soared in early trading today, pushing down the associated yield in the process. As we write, the contract is priced for a Fed funds of 5.11%. That's just about midway from the current 5.0% and the 5.25% that might be coming if the central bank opts for another hike on June 28/29.
Hedging one's bets, in fact, seems eminently reasonable for the moment. There are, after all, more than a few economic reports to be dispensed between now and June 28/29, and today's thinking about a pause may give way to something else. The month is still young, and so the opportunities for speculation still ripe. Welcome to a trader's paradise.
Posted by jp at June 2, 2006 9:57 AM