It was a risk-on trading session on Friday, with the S&P500 and NASDAQ ending the week at fresh record highs, commodity prices higher and the USD weaker. Markets interpreted a mixed US nonfarm payrolls report, which featured higher-than-expected job growth but an unexpected rise in the unemployment rate, as providing no further impetus for the Fed to turn any more hawkish. The US 10-year rate fell to 1.42%, its lowest close since early March. The NZD rebounded back above 0.70, recovering some of its underperformance earlier in the week.
The nonfarm payrolls report was a mixed bag. The headline jobs number for June was 850k, well above the 720k consensus and the highest monthly gain since August. The leisure and hospitality sector accounted for some 40% of job gains on the month, as the economy continued to reopen, with state and local government hiring also very strong, at 193k. In contrast, the unemployment rate, which is calculated from a separate survey of households, ticked up from 5.8% to 5.9%, against market expectations for a fall to 5.6%. After two consecutive months of much stronger-than-expected wage growth, average hourly earnings were bang in line with consensus this time around, at 0.3% on the month and 3.6% on a year ago.
After the hawkish Fed meeting last month, which signalled rate hikes in 2023, investors were probably on edge that a very strong payrolls report could speed up the timeline for tapering. The market reaction to payrolls – which saw interest rates and the USD lower and equities higher – suggests investors interpreted the data as reducing the risk of a further near-term hawkish shift from the Fed. With the number of those employed still well below pre-Covid levels (around 6.7 million) and the unemployment rate ticking up in June, the Fed will probably continue to argue there is spare capacity in the labour market, even as record high job opening suggest that there is no shortage of labour demand at present.
US Treasury yields had already been drifting lower into the payrolls release and fell further after the initial reaction subsided. The US 10-year rate ended the week at 1.42%, down 3bps on the day and its lowest close since early March. Markets continue to price the first Fed hike by December 2022. European 10-year bond yields fell 3-4bps as well, with Germany’s 10-year rate closing at -0.24%. Heavy ‘short’ market positioning in bonds (i.e. investors already positioned for higher interest rates) continues to act as a headwind for long-term interest rates.
After a strong first four days of the week, which saw the Bloomberg USD index reach its highest level since April, Friday saw a reversal of fortunes for the USD. The BBDXY fell 0.5% on Friday, in line with the decline in US rates and firmer risk appetite, reversing more than half its gains on the week. The EUR traded down to almost 1.18 before turning higher and ending slightly up (+0.1%) on the day.
In a turnaround from earlier in the week, commodity currencies were the outperformers on Friday. The CAD was up 0.9% while the NZD and AUD were both up 0.75%. The NZD ended the week back above the 70 cent mark, at around 0.7030, although it was still one of the worst performing of the major currencies over the week itself (-0.7%). The NZD made gains on all the key crosses we monitor on Friday, with the NZD/AUD reaching a one-month high, ending the week at 0.9340. The NZD remains ‘cheap’ compared to our short-term fair value model.
Equity markets jumped after the payrolls release and continued to push higher over the session, buoyed by expectations the Fed will take a go-slow approach to tapering. The S&P500 and NASDAQ were both up around 0.8%, with both indexes reaching fresh record highs. Likewise, commodity prices were broadly higher, with Brent crude oil up 0.2% while copper and gold rose 0.6%. The OPEC+ meeting broke up without an agreement on supply, with the UAE holding out for a higher baseline for its own production, and talks are due to restart today.
Turning to domestic developments, there was another significant flattening of the NZ yield curve on Friday, with the spread between 2 and 10-year swap rates falling to 104bps, its lowest level since mid-February. The flattening of the curve over the past month has been caused both by an increase in short-term rates, as the market has brought forward the expected timing of RBNZ rate hikes, and falls in long-term interest rates. Global yield curves have also flattened sharply over this time. The 10-year swap rate declined 5bps on Friday, to 1.85%, while the 2-year swap rate edged 1bp higher, to 0.80%.
The RBNZ kept its QE purchase pace unchanged at $200m for this week while reducing the number of buyback operations from three to two (and the number of bonds it aims to purchase from six to four). While a minor technical change, the shift to two buyback windows arguably sets the scene for future reductions to the bond buying pace. Government bond yields fell by up to 8bps at the long end of the yield curve on Friday, with the 10-year rate finishing the week at 1.82%, outperforming global peers like Australia and the US. The bond market has, so far, shrugged off the increase to bond tender supply in July,
It should be a quiet session ahead with the US on holiday for Independence Day and little by way of major data releases. Tomorrow sees the release of NZIER’s Quarterly Survey of Business Opinion (QSBO), which is likely to signal an economy affected by significant capacity constraints and growing inflation pressures. The RBA meeting tomorrow afternoon, and Governor Lowe’s post-meeting remarks, is a key focus for the week ahead. The firm consensus is that the RBA won’t extend its Yield Curve Target bond to the November 2024, instead keeping it at the April 2024 for now (the market is well ahead of the RBA, having priced around 30bps of hikes by the end of 2022). There is less consensus on what will happen with QE, although our NAB colleagues think a taper is now priced in. The Fed minutes are released on Thursday morning and will be closely watched for any discussion around a timeline and more specific criteria for tapering. Finally, Bloomberg reports that the ECB will hold a special meeting later this week to conclude its year and a half long strategy review. The ECB is expected to shift its inflation target from the current “close to, but below, 2%” to something more symmetrical around 2%.