US bond yields rose further on Friday night after the US non-farm payrolls report showed faster than expected wage growth.
The growing prospect of higher US inflation and faster Fed tightening spilled over into other markets, with US stock markets slumping around 2%, the USD strengthening and the VIX rising to its highest level since the US Presidential election.
Non-farm payrolls showed a larger than expected increase in jobs growth for January, but the catalyst for the rise in bond yields and the USD was the acceleration in average hourly earnings, to just below 3% YoY, much higher than expected. Looking through the month to month volatility, US average hourly earnings have been trending higher over the past five years, lending support to the Fed’s argument that the falls in the US unemployment rate will eventually generate wage pressure. Other aspects of the non-farm payrolls report were a bit softer. The broader U6 measure of underemployment ticked up, average weekly hours declined (likely weather related), while wage growth for “production and non-supervisory workers” was flat at 2.4% YoY (in contrast to the headline wages number the market reacted to).
The 10 year Treasury rose 5 basis points to 2.84%, its highest since early 2014, and up 15bps since just Thursday morning. The wages data boosted US inflation expectations, with 10 year breakeven inflation rising to its highest level since September 2014, at 2.14%. Interestingly, the yield curve steepened, with the 2 year yield actually falling slightly on the day despite several hawkish comments from Fed officials in the aftermath of the payrolls release. Dallas Fed President Kaplan said that while his base case for this year was 3 hikes, it could be more. Even Minneapolis Fed President Kashkari, who dissented against the last Fed rate rise, said “this is one of the first signs that we’re seeing wage growth finally starting to pick up…and if wage growth continues that could have an effect on the path of interest rates.” The market continues to price close to three rate rises by the Fed this year.
US stocks had their largest one day fall in over a year on Friday, in response to rise in bond yields and the potential for faster inflation and Fed tightening. The S&P 500 was down more than 2% on Friday and around 4% for the week, albeit from what were record highs. At this stage, the fall in global stock markets looks more like a correction than something more sinister. For one, the global economy is experiencing a synchronised upturn and measures of recession risk are low. Second, while most economists forecast US inflation to rise from here, they do not expect the kind of acceleration that would lead to a rapid Fed tightening cycle. Nevertheless, the VIX rose to its highest level since the US Presidential election and there is still the risk that the increase in volatility triggers further selling from some investors.
In local rates markets, the NZ swap curve continued to steepen on Friday in response to the rise in global yields. We’d expect more of the same to start this week as the NZ market responds to the moves in US Treasuries seen on Friday. The market will now look ahead to the RBNZ meeting on Thursday, the last under interim Governor Grant Spencer, and the labour market reports on Wednesday (we expect the unemployment rate to fall to 4.5% vs consensus of 4.7%).
Offshore, the focus will be on central banks this week. A number of Fed officials will be speaking, including NY Fed President Dudley on Thursday morning. The Bank of England meets Friday morning with rates expected to be unchanged but the market will be looking for any signals about the potential timing of rate rises this year. RBA Governor Phil Lowe speaks on Wednesday ahead of the Statement of Monetary Policy released on Friday.
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