Treasury and Eurodollar Futures Tumble, Dollar Paces

How Did The Markets React? 

Today’s surprisingly strong Non-Farm Payrolls report sent shocks across major US asset classes, with the dollar sharply higher while both bonds and equities saw sizeable declines. Given expectations of a much-weaker print than previously forecast, markets were clearly prepared for the worst. This is most clearly visible in progressively higher bond prices, with Treasury Note yields hitting two-week lows prior to the New York open. A strong NFP report clearly assuaged fears of a broader economic slowdown, however, with financial markets posting immediate responses. Looking at the specifics of the labor data, there was ample reason to feel better about the state of the US consumer. Companies added the most jobs in four months, while annual wage growth hit its highest since November of 2000. US Federal Reserve speakers were seemingly vindicated by pay hikes at 4.2 percent, clearly leaving risks to the topside for inflation. If such a trend is to continue, it would effectively rule out interest rate cuts for much longer than previously expected. Subsequent dollar strength was almost inevitable, with the Greenback launching to 2-month highs against the Euro.  

Bonds – US 10-Year Treasury Note Futures
The week-long rally in US Treasuries came to an abrupt end, as the 10-year note dropped almost a full point in the moments that followed the NFP release. Violent price moves left yields at two-week highs, and left other interest rate-sensitive instruments considerably weaker. This was especially evident in Eurodollar forward contracts, which now price in a less than 50 percent chance of a Fed interest rate cut through the second quarter. The previously negative outlook on national interest rates has clearly lost a lot of traction, with a tight labor market likely to keep inflationary pressures high in the world’s largest economy. Despite weakness in Manufacturing and Housing sectors, strength in the Services economy forces a much more sanguine view for national GDP trends. This will do nothing but boost outlook on the otherwise weak domestic currency, underpinning its recent recovery against major counterparts. 

FX – EUR/USD

The first week of 2007 ended with a very strong showing from the US dollar. Starting with the better than expected pick up in the ISM’s manufacturing report on Wednesday, the greenback was unstoppable on its fundamental push. On Friday, the economic calendar reached its climax in the highly anticipated payrolls report. The final set of employment statistics for the year, strong job and wage growth proved to be a strong post for one of the remaining arguments for keeping an interest rate cut off the table. Leading into the release, the conditions were just right for a surprise reaction. Though economists’ official consensus had held consistently near the 100,000 level during a number of second and third tier employment reports, the masses were focused on one number – the ADP private payrolls report. After enjoying a relatively strong correlation with the NFPs over a number of months, traders easily attached themselves to the surprise drop in the ADP gauge (the first in over three-and-a-half-years). When the government’s official payrolls printed at 167,000

When the numbers were fully interpreted, there was something for both the scalpers and the position traders. Short-term traders looking to play off of the inherent event risk were satisfied with the 95-point run for the EURUSD in a short ten minutes. For the long-term crowd, the data was even better. As monthly payrolls stabilize just above 100,000, the potential for spending and inflation rise.  This is true as fewer people are enter the labor pool and forcing employers to compete for skilled candidates through higher wages. Average hourly earnings jumped to a six-year high 4.2 percent in the year through December while the previous figure was revised to the same level. After three strong days of dollar rallying, position traders will head into a quiet open next week which will help weigh their resolve for a greenback rebound.

Equities – S&P 500 Index Futures

Stocks were quick to react to today’s Non-farm payrolls as a heightened sense of overbought conditions led the employment number to be interpreted as a means to keep interest rates buoyed. Using futures contracts to measure the exact reaction to the pre-capital market open release, the S&P 500 index initial responded with a modest rally. At first glance, the indicator’s support for consumer spending and economic growth seemed a good reason to believe firms would reap the benefits through revenues. However, the however, before the actual open of equity exchanges in the US offered traders enough time to fully interpret the implications the indicator would hold for business. This ultimate effect was seen to come in the form of stable interest rates, an undesirable condition for businesses having to pay high lending rates to invest in new buildings and equipment. Subsequently, investors took the opportunity to pull the broad index lower to help alleviate the overbought conditions so many analysts have proclaimed over the past weeks.