RISK ON – Investors Bet On Additional Fed Hikes Amidst Strong Jobs Report


Between positive key economic data releases and rhetoric from Washington D.C., market practitioners had their hands full last week. 

The headline unemployment rate fell to an 18-year low at 3.8% (many believed it would remain steady at 3.9%). Both equity indices and bond yields were up on the back of the upbeat news released on Friday, erasing losses from earlier in the week. The S&P 500 rose 20 points, while 10-year treasury yields were hovering near 2.90% at the time of this writing. 

Data released in the U.S. (see below) suggest that not only will the Fed hike interest rates at its June meeting, but that the probability of four rate hikes (rather than three as depicted in the last dot plot) is now much greater. On Friday, Fed futures indicated a 38% likelihood of four rate hikes this year up from 20% earlier in the week.

Higher inflation globally, from North America to Europe, also signaled the increased chance of central banks both domestic and abroad to tighten monetary policy. The potential of a global trade war coupled with rising oil prices further fuel the chances of inflation continuing its upward trend. 

While trade tensions between China and the U.S. linger, the Trump administration gave the market another jolt, announcing tariffs on some of the country’s closest allies. 

Trade Tensions: Trade tensions continued to escalate between the U.S. and the rest of the world. As of Friday, the Trump Administration imposed 25% steel and 10% aluminum tariffs on some of its closest allies including Canada, the European Union, and Mexico. In turn, these trading partners vowed to retaliate with tariffs of their own on U.S. imports and file complaints against the U.S. with the World Trade Organization. 

When Trump first announced steel tariffs in March, Canada, the EU, Mexico and the UK were exempt from the tax duties. On the back of tariff announcement on Thursday, stock markets took a hit as the USD rallied against the Canadian dollar and Mexican peso. The Dow dropped almost 200 points post announcement. 

U.S. Economy Keeps Gaining Steam: A number of key positive economic releases last week all seem to ensure that the Fed will continue on its tightening path, with the next rate hike later this month. Some of this data included:

Unemployment now stands at 3.8%, an 18-year low, with 233,000 jobs created in the month of May. Wages slightly improved over the month as well and increased by 2.7% from a year ago. Further, April and March hiring data were revised upward. Employers have been adding jobs for 92 straight months, the longest job expansion, according to various sources. 

Inflation met the Fed’s target for the second straight month. The personal consumption expenditures price index was up 2% in April, relative to a year ago. Core inflation excluding food and energy was up 1.8% from last year. The aforementioned tariffs, higher wages, tighter unemployment, higher oil prices will all likely fuel inflation higher over the next several months. 

Consumer Spending was 0.6% in April, the highest level since November. About 66% of the economic activity in the U.S. comprises of consumer spending. 

Eurozone Inflation: The Eurozone HICP inflation resulted at 1.9% y-o-y relative to 1.2% y-o-y last month. The headline inflation rate comes in line with the ECB’s target for price stability. Further, inflation for the month of May in both Germany and Spain surprised on the upside. While the ECB has been looking for inflation to edge higher as it plans to wind down its balance sheet early fall, it also needs to consider the geopolitical upheaval in Italy. 

After creating global jitters earlier in the week, Italy’s anti-establishment parties came to an agreement on Thursday on the coalition government, averting a special election. Giuseppe Conte will serve as premier, while Luigi Di Maio will serve as the welfare and economic development minister. 

Bank of Canada: While the central bank left rates unchanged at 1.25%, it signaled that rate hikes may be on the horizon. While the domestic economic backdrop has been strong with inflation near the bank’s 2% target, the potential for a trade war has the central bank concerned. The bank’s statement changed from the need to raise rates “over time” to “gradual” rate rises. 

This week:

Equity futures and U.S. Treasury yields are opening higher this morning, coming off the highs from Friday’s jobs report. Be on the lookout this week as the focus likely shifts back to trade and protectionism. The U.S. and representatives from the G-7 will meet in Quebec on Friday to further discuss trade. While Italy’s political impact on global markets takes a short breather, the risk that the newly formed coalition will continue its political agenda is on the horizon. Lookout for more on this at the ECB policy meeting next Thursday, on June 14th, and the EU Summit on June 28th.

Key U.S. data includes: Factory orders (Monday), ISM NY index, Markit Services PMI (Tuesday), Redbook Index, JOLTS jobs opening, ISM non-manufacturing PMI, trade balance (Wednesday), unit labor costs, MBA mortgage applications, non-farm productivity, EIA crude oil stock change, continuing jobless claims (Thursday), EIA natural gas storage change, consumer credit change and wholesale inventories (Friday).

Overseas data includes: April AUD retail sales (Monday), GBP PMI construction, EUR PPI, JPY household spending, China services PMI (Tuesday), AUD central bank decision, EUR Markit Services PMI, EUR retail sales, GBP Markit Services PMI, CAD labor productivity, AUD GDP (Wednesday), CHF CPI, CAD trade activity, CAD PMI, AUD trade data (Thursday), CNY foreign exchange reserves, JPY leading economic index, CHF unemployment rate, EUR GDP, JPY GDP, CNY trade data (Friday), German trade data, CAD unemployment and CNY CPI/PPI (Friday).