Jobs in 2021: Off to a Rocky Start

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Last Week: Short- and long-term interest rates rose, and global equities rallied sharply amid improving coronavirus trends, upbeat vaccine headlines, growing prospects of large-scale US fiscal stimulus and solid earnings reports. The yield on the US 10-year Treasury note rose 6 basis points to 1.16%, near the top of its recent trading range. 1-month LIBOR rose slightly off record lows, to 0.12%. Reflecting an improved global economic outlook, the price of a barrel of West Texas Intermediate crude oil rose nearly $3 to $56.75, while the US Dollar and Gold both weakened. Treasury yield volatility, a main driver of the cost of rate caps and swaptions, rose steadily throughout the week.

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January’s jobs report disappointed. In what is the most historically impactful piece of economic data for interest rates, the US employment report for January was weak, and showed that the new year is off to a rocky start in terms of new job creation. Nonfarm payrolls rose 49K, shy of expectations of 105k, while the unemployment rate slipped to 6.3%, down 0.4% from the December report, as the US government revised its population estimate. A net 159,000 downward revision to the prior two months’ job reports suggests the COVID-19-inspired lockdowns in late 2020 dampened the labor market more than expected. The market’s reaction to the report was muted; the 10-year Treasury yield dropped briefly as the report hit the wire, but quickly retraced to 1.17%, and stock markets rallied as all eyes look toward more action from Congress to bridge the gap.

Our take: The state of the jobs market is worse than we expected and tells us that there is a longer slog to get back to economic normalcy. While the jobs report missed consensus expectations, it was even weaker still considering two important details: first, significant downward revisions to the prior two months means that almost no jobs were created in November and December. Second, the composition of jobs showed vulnerability in parts of the economy that once looked to be pillars of strength in recent months, e.g., the manufacturing and construction sectors lost jobs on net. Additionally, don’t be fooled by a decline in the unemployment rate from the 14.8% level seen at the peak of the pandemic last April to just 6.3% last month; it’s wildly distorted by a collapse in the number of unemployed individuals actively seeking a job (aka “participation”). If participation returned to pre-pandemic levels, the unemployment rate would be above 9%.

All told, the January jobs data raise concerns that the weakness which was assumed to be concentrated in sectors like leisure and hospitality may be more widespread than previously thought. The silver lining of the jobs report? It will keep the Fed’s foot firmly planted on the gas pedal and rates at ultra-low levels for most of 2021. In the near-term, it will garner greater congressional support for a third round of fiscal stimulus and embolden calls to “go big”.

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Treasury yield curve steepened to levels not seen in five years. A widely watched segment of the Treasury yield curve reached its steepest level in almost five years last Wednesday. The gap between 5 and 30-year yields rose above 146 basis points, the widest seen since February 2016. The curve has been on a steepening trend since July – with short term yields like the 2 and 3-year Treasuries anchored near zero courtesy of the Fed, and long-term yields, like the 10 and 30-year Treasuries rising – on improving prospects for another round of pandemic-relief fiscal spending and growing expectations for inflation. Why should you care? If you’re contemplating a 7, 10 year or longer-term financing, your interest rate is likely going up. Call us to discuss your hedging options.

Biden banging the drum for large stimulus. President Joe Biden met with 10 Republican Senators who offered a smaller coronavirus relief proposal that they contend could garner bipartisan support. Biden dismissed the effort as too timid, saying it was time to “go big” to help the economy recover from the effects of the pandemic. As a follow up, the Senate passed a budget resolution Friday, with Vice President Kamala Harris breaking a 50-50 tie, paving the way for a large relief package to be passed using a parliamentary procedure called “reconciliation”, which requires only a simple majority rather than the 60-vote supermajority required to pass most legislation. Food for thought: a Penn Wharton Budget Model analysis of the $1400 checks in the Biden stimulus plan showed that 73% of the money would go into savings, with only 27% used for consumption. Does everyone eligible need $1,400 from Uncle Sam? Probably not.

What to Watch This Week: With the jobs report now out of the bag, the days ahead will offer mostly second tier economic data, with the market’s eyes on a schedule speech by Fed Chair Powell and the continuing efforts in Congress to ink a third, larger round of fiscal stimulus.

First up on the data front is the consumer price index (Wednesday), the market’s favorite gauge of inflation. While some rise is expected to show itself in some classes of consumer goods, the current slack in the jobs market and the ensuing softness in household income creation will serve to make sure inflation will remain subdued for months.

Second, a gauge of consumer sentiment (Friday) will show that consumers – who alone are responsible for ~70% of America’s economic activity – are still increasingly confidant in the future, but remain cautious. Favorable developments on the fiscal stimulus front is likely lifting attitudes, as are falling infection counts, a wider vaccine rollout and ongoing loosening of pandemic restrictions on activities, like dining out.

Fed Chair Jerome Powell’s scheduled speech at the Economic Club of New York (Wednesday) will be watched closely for any deviation from his statements made during the recent January FOMC meeting press conference. The Fed Chair said the Fed stands ready to provide additional support to the economy, primarily through even more aggressive asset purchases. We’re guessing that the speech will be a non-event, with Chair Powell reiterating the Fed’s belief that additional stimulus is needed from Congress to support the economic recovery.

Big Picture: Just as stock markets break records at eye-watering highs, the bond market is beginning to emit warning signals that a rapid economic rebound could bring new dangers with it. Long-term Treasury yields have recently jumped to their highest levels since the early days of the pandemic as the vaccine rollout and potential for another massive U.S. stimulus package revive animal spirits and the prospect of inflation. While certainly encouraging, there’s a dark side: years of near-zero rates and the historic debt overhang that came with it are leaving both stocks and bonds vulnerable to deep losses if yields climb too far, too fast on the back of a burst in growth.

The signal is duration, a measure of a bond’s price relative to changes in interest rates. While we won’t take you down the wonky road of duration now, just know that when duration is high it can be bad for bond holders. Duration is now near record highs as issuers of debt worldwide tilt their sales toward longer maturities, and the risk that coupon payments plunge or evaporate altogether is growing. It’s a scenario that could result in higher long-term Treasury yields, a steeper yield curve and a stall the stock rally.

Jobs in 2021: Off to a Rocky Start

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