How Did The Markets React?
US capital markets were facing an interesting situation Thursday. A strong rebound in the ISM manufacturing survey the day before and heightened sensitivity to the payrolls release due the following day left the traders in the theoretical valley of volatility. On one hand, the rebound in Wednesday’s factory report generated expectations for a similar surprise in its services counterpart. Instead, the markets received a near spot-on print of a modest cooling for the sector. As volatility traders backed away from the market, fundamentalists acted upon the news. Service-based businesses account for nearly 90 percent of the economy, so the deceleration in expansion tarnished one of the remaining pillars of growth. At the same, a November pending home sales raised a caution flag. The indicator failed to support the unexpected rebound in both existing and new home sales for the same month. Though mortgage inventories look to be topping out, sales are peaking into positive territory and the NAR is forecasting a bottom will be in place sometime in 2007, investors are visibly hesitant in prescribing to a rosy outlook. This fundamental mix easily carried Treasuries higher, but the equities and the dollar were less pliable. The limited reaction in the other two markets was due to the looming NFP report tomorrow, which has been built up thanks to buzz surrounding the shocking ADP number yesterday.
Bonds – US 10-Year Treasury Note Offering the biggest move for the day, the Treasury market responded to the otherwise tame data with surprising interest. In fact, government bonds were on the move after the very first economic release hit the wires this morning. Initial jobless claims for the final week of December offered the final puzzle piece for NFP forecasts. First time claims through December 30th picked up more than expected to 329,000 people. After the shortfall in the Hudson Employment index, the Monster Index and ADP private payrolls numbers, the claims data is only irritating an open wound. Following the increase, the T-note advanced 3/32nds to 99-26. The next step up for the debt instrument came after the ISM non-manufacturing release. While traders were prepared for a volatile surprise, the 57.0 print was sufficient enough to instigate another bounce higher. With services cooling, the overwhelming theme in the market for the Fed to finally start cutting can come back to the forefront and effectively put an end to the nearly month-long decline in treasuries through December.FX – EUR/USD
The US dollar posted a mixed reaction to the morning’s ISM Services data, as an initial drop gave way to later strength. Judging by the immediate sell-off in equities and drop in bond yields, markets broadly construed the ISM report as weaker than expected. This was not visible from Greenback trading, however, as the dollar remained relatively bid through the afternoon. In fact, the past two days of rallies have been enough to send the US Dollar index to its highest close since its late-November tumble. Clearly, foreign currency markets took a much more sanguine look at the Services sector report. What remains to be seen, however, is whether this is a clear sign of a bullish turn or simply a function of closing out positions.
Outlook on the Greenback will clearly depend on tomorrow’s economic data, with the all-too-influential Non Farm Payrolls report due at 13:30 GMT (08:30 EDT). Though signals leading up to the release are largely bearish, today’s ISM Services data actually improves outlook on the national labor market. The closely watched ISM Services Employment index gained in the month of December, falling just short of the fourth quarter high at 53.6. Given its close relationship with NFP reports, the ISM figure actually puts risks to the upside for recently downgraded consensus forecasts of the December employment change. Equities – S&P 500 Index
Equities saw another volatile day of trade, as a strongly negative reaction on this morning’s economic data forced the S&P 500 to yesterday’s lows. Bearish momentum seemed short-lived, however, as a later reversal on falling energy prices pushed the index 0.1 percent higher on the day. With oil prices at fresh 18-month lows, a rally in industrial shares led US equities broadly higher despite tumbling Oil Share prices. Overall implications for tomorrow’s economic data seem mixed, however, with no clear picture on how stock markets may react to the Non Farm Payroll report. Unlike the US dollar, domestic equities could actually weaken on a stronger-than-expected NFP print. As such, the later S&P 500 reversal could actually hint at a bearish outlook for the labor market—with the potential to leave the US dollar lower in its wake.