“To support a stronger economic recovery the Committee will continue purchasing additional agency mortgage-backed securities at a pace of $40 billion per month [and] longer-term Treasury securities at a pace of $45 billion per month . . . To support continued progress toward maximum employment, the Committee expects that a highly accommodative stance of monetary policy will remain appropriate for a considerable time after the asset purchase program ends. The target range for the federal funds rate [is] 0 to 1/4 percent and currently anticipates that this exceptionally low range for the federal funds rate will be appropriate at least as long as the unemployment rate remains above 6-1/2 percent . . .”
–Federal Open Market Committee, December 12, 2012
The reason for this is simple: In the battle for economic growth, credit stability, and investment assets, it is the Fed versus the world.
And the Fed is winning.
The question I am forced to ask myself on a daily basis is simply what force is powerful enough to derail the post credit-crisis growth spurt the Fed — and most Central Banks around the world — has engineered.
Yes, I am aware this inorganic artificial growth. It is a suboptimal approach, a high risk trade. There is a significant likelihood that it ends badly. But the fire hose of liquidity is the simple reality on the ground.
As we have previously discussed, it is not my prime job to to debate policy, but rather, to manage assets. I am not interested in a romanticized justification for a money losing posture while the Fed continues this policy that has been driving equities ever higher. If you choose to mount Rocinante so as to tilt at windmills, the predictable results shall be all your own. Best of luck explaining them to your clients.
Which brings us to today’s NFP: Where we used to look at the new hires to give us a sense of the investment landscape, that is now less important than the U3 Unemployment data, currently 7.8%. So long as it remains above 6.5%, equity owners can expect the Fed to remain accommodative.
To get to those levels today requires approximately 2 million net new jobs. Barring a 2 million NFP print today, we need to account for population growth. My pal David Rosenberg, (Gluskin Sheff’s chief economist) estimates the US economy needs 5 million jobs — consistently reading 200,000 per month– to hit that bogey before 2015. Federal Reserve Bank of Richmond President Jeffrey Lacker opined in December 2012 that this process could take as til 2016.
There are several ways U3 can tick below 6.5%. The circumstances surrounding precisely how that might occur is an important question for investors. Consider the following possibilities:
A. Robustly growing economy that reduces unemployment, increases wages and spending and likely drives profits higher;
B. Slowly, modest economic expansion where jobs come back very slowly, U3 decrease gradually, and an ongoing deleveraging helps to slowly clean up consumer balance sheets;
C. Flat to contracting environment where Unemployment falls primarily as a function of a falling labor force participation.
We currently are experiencing option “B.”
The key question for investors is whether economic growth will accelerate towards a more robust, self-sustaining growth cycle (A), or whether it will fall into a weaker growth cycle (C). How this resolves will ultimately determine what your investor posture should move towards.
Estimates for today’s NFP are for January Unemployment rate to hold steady at 7.8% — where it has been since November 2012. Flat U3 works to risk assets benefits. If we see too fast a drop, it might raise fears of the Fed becoming less generous with their liquidity. If it ticks appreciably higher, the concern becomes that negative Q4 GDP print was not a one off oddity, and we are at increasing risk of sliding into a recession.
While we wait for that situation to resolve, investors’ motto seems to be: “Praise the Fed and keep buying equities . . .”
Employment situation report released at 8:30am
Where Sea Monsters Live (May 2012)
Contextualizing the NFP Data (April 2011)
Situational Awareness (September 2012)