Markets Await Yellen After Jobs Data

The unemployment rate has fallen below the 5% threshold for the first time since the 2008-09 recession ended, hitting 4.9% for January. But the government reported Friday that non-farm payrolls increased just 151,000 vs. the 190,000 gain expected. Average hourly earnings were a bright spot, rising 0.5% on a monthly basis vs. the expectation of a 0.3% rise. The annual hourly earnings inflation rate increased to 2.5% from 2.2% previously.

This could be enough to encourage the Fed to lift interest rates again in March. We will know more when central bank Chair Janet Yellen makes her semiannual testimony to Congress starting on Wednesday. We will also get another reading on the jobs market when the Job Openings and Labor Turning Survey is released on Tuesday. Friday will bring updates on retail sales, business inventories, and consumer sentiment.

Deutsche Bank analysts expect Yellen to stress patience in waiting to see further improvement on the inflation front given fresh weakness in crude-oil prices as well as the tightening of financial conditions from the recent market volatility.

Right now, the single biggest potential upside catalyst for the market overall would be a reduction in the Fed’s December forecast of four quarter-point rate hikes for 2016. Currently, the futures market only puts a 50% chance of a single rate hike this year.

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The economic data we’re seeing lately would certainly support a dovish turn by Yellen. The chart above of the Citigroup U.S. Economic Surprise Index shows where the economic data is coming in relative to expectations. Surprises have almost all been on the downside lately, so you can see the orange line sinking back toward 2012-2014 lows.

This is down sharply from the highs seen at the end of 2015 when the Fed decided, based on the economic data, to raise interest rates for the first time since 2006. Clearly, the situation has changed. Shouldn’t they have known that?

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Consensus at present is that the Fed’s forecast for four quarter-point rate hikes will be scrapped. Paul Ashworth at Capital Economics believes the Fed won’t raise rates until June at the earliest. The decision will swing on outlooks of collapse in China output, a U.S. economic slowdown and weak industrial commodity prices. Stay tuned.

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LOW EXPOSURE

It surprised me to learn Friday that active-investment managers are not just bearish, they are very confident about their point of view. They’re good at what they do, so this not automatically a groupthink that must be faded.

Jason Goepfert, of Sundial Capital, reports that the National Association of Active Investment Managers data shows that the average manager had stock market exposure of 22% through the end of last week. The exposure reported by an individual manager can vary anywhere from –200% (leveraged short) to +200% (leveraged long). When aggregated with all the other managers and averaged, Goepfert says, the actual minimum was –4% (early October 2011) and the maximum was +104% (late January 2013). This week’s average of 22% ranks in the bottom 10% of all weeks since 2006.

The standard deviation in responses — which shows confidence — ranked in the bottom 6% of all readings since 2006. For comparison, Goepfert reports that the last time that managers’ exposure was below 25%, last September, the standard deviation in responses ranked in the top 70% of all readings, meaning they were not very confident in their bearishness. Good thing, too, as the market then zoomed higher for two months before spiraling lower into the current condition.

Keep in mind this is not a gauge of amateurs. While active managers are largely trend-followers, the data shows they were smart enough to reduce exposure as stocks were peaking in 2007, 2011 and 2015 and were aggressively long during the protracted uptrend in 2013-14.

Like any group, however, there tends to be trouble when almost everyone is leaning one way and there isn’t much variability among them, Goepfert notes. As a group, they have had lower exposure than this week’s 22%, so there is room for it to fall further if stocks continue to struggle. That’s what happened during the crash in 2008, but it is not typical.

Goepfert concludes that this is a positive for stocks, due to the fact that the managers are so universal in having low exposure. Even if his recommendation to fade this pervasive bearishness is correct, however, his data further shows that shares are not likely to be vividly higher in a sustainable way for six months to a year.

Best wishes,

Jon Markman

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The investment strategy and opinions expressed in this article are those of the author’s and do not necessarily reflect those of any other editor at Weiss Research or the company as a whole.