The July jobs report was a miss coming in at +114k vs +175k expected by the Street. The “miss” is triggering a major “risk off” day with S&P 500 down -2%, Nasdaq 100 -3% and Russell 2000 -4%.
- Markets were already concerned about growing risks of an economic downturn into today given the July ISM earlier this week (employment component was 43). And equity markets were already nervous about risks of a further deleveraging as currencies have been moving sharply in the past week — as Mark Newton notes, the “weak USDJPY could also signal some unwind of the carry trade.”
- The -61k miss versus consensus was broad but the two biggest contributors (July vs June) were:
– Local govt ex-education -41K fewer (+24k june, -17k july)
– Social assistance -24K fewer (+33k june, +9k july) - Sure, there were slowdowns in Technology, Finance, etc, but the bulk of the -61k miss is the -65k from just those two jobs categories above.
- Heading into this week, there were many pundits saying the “Fed should not cut this year because the economy is doing just fine” — and this cohort was pretty large. That is why the number of Fed cuts heading into this week was ~2.5 total and the FOMC itself was seeing only 2 cuts.
- We have argued that the Fed should be focused on normalizing rates given inflation is falling like a rock and the high rates are causing a recession in durable goods, auto sales and housing demand. All of these would inflect when Fed starts to cut.
- So, the biggest effect is the spotlight is now on Fed and a rethink of the July FOMC rate decision (this past Wed, when Fed was on hold). Fed Chair Powell signaled willingness to cut, but did not commit to a Sept cut decisively.
- The odds of a 50bp cut in Sept surged today to 73%, after rising to 29% thu (8/1) and 14% after FOMC rate decision. That meeting is Sept 17-18, or 7 weeks away.
- The Fed Chair Powell will give a policy view soon at the upcoming Jackson Hole Economic symposium 8/22-8/24. So this is the date the markets will focus upon.
- The obvious statement is the fear the Fed is too late and that a downturn is already underway. This is going to be the focus of markets over the next few weeks. And perhaps the key is Fed officials noting that Fed funds at 5.50% (upper bound) gives a lot of room to cut.
BOTTOM LINE: Equities are over-reacting, especially the Nasdaq and small-caps
- Are stocks over-reacting? Yes.
- But unfortunately, we also need to be patient as sellers are not going to be done selling by the close of trading today. In the short term, there has been damage to equities and that will take a bit of time to heal.
- Has the economic picture deteriorated so much in the last 2 trading days to justify a -10% drawdown in both small-caps IWM 0.56% and Nasdaq 100 QQQ 0.80% ?
- This hardly seems the case.
- But we also know markets are “fire ready aim” when it comes to negative surprises. And in this case, it is a jobs report miss that was impact markets already concerned about a broader downturn.
- I had a conversation with Mark Newton and he notes that there are no signs yet that markets are seeing “capitulation” so the selling doesn’t have to stop imminently.
- But he also notes that market internals remain constructive when looking at equal weight indices or even advance / decline lines.
- Taking a step back, we don’t see the economic picture incrementally that different. The July jobs report is consistent with a soft landing. And Fed cuts can reverse the soft areas, at a time when consumer leverage and coporate leverage is not that high. That is why corporate spreads and high yield are acting better than equities.
- The VIX is up 50% to 28. That is a sign of fear and panic. That is something we would want to see near the lows.
- Bottom line, there has been structural and technical damage to equities because of the sharp sellng in the last two days. Does this change the picture for the next few months or the rest of the year? Not really.
- In other words, investors need to let the selling get done as investors de-risk. When investors are de-risking, this takes time. So, the selling of the last few days cannot reverse instantly.
- But keep in mind, opportunities emerge when markets panic. And in coming days, this is the opportunity that emerges.
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