The Market Today

Estimate-Topping ADP Report Adds to Amped-Up Daily Global Sentiment

by Craig Dismuke, Dudley Carter

Today’s Calendar – ADP Shows Strong Job Growth in the Final 2017 Report: This week’s solid run of data has continued so far Thursday which has helped buoy risk markets globally overnight (more below). This morning’s ADP report on private payroll growth will only add to the optimism already stirred by stronger-than-expected services PMIs in both Asia and Europe (more below). For the month of December, ADP reported that private payrolls grew by a surprisingly strong 250k, easily beating both the median estimate of 190k and even the highest guess of 220k. The December result was a sharp improvement from November’s 185k (revised down from 190k) and the biggest gain since 255k payrolls were tallied in March. Looking at the details, every sector but information was accretive and the services sector was primarily responsible for the surprising strength. Services-producing sectors accounted for 222k of the total jobs, the biggest gain since June 2016, which were spread broadly across the underlying industries; five of the seven industries topped their 12-month average gain. Goods-producing sectors continued to add jobs although the overall pace was the slowest in five months. Construction added the most while manufacturing posted its smallest gain since July (consistent with a slower employment index in yesterday’s ISM report – more below). The report signals more strength for a labor market which the Fed feels is already at or near full employment. Looking ahead to tomorrow’s nonfarm payroll report, if the ADP result is replicated in the BLS information, total payrolls will easily beat the consensus estimate and should catch the attention of both Fed policy makers and the markets.


The strength of the ADP report should neutralize a small unexpected uptick in the number of initial jobless claims. Initial claims rose 250k in the final week of December, a little worse than the 240k expected and marginally higher than the prior week’s 247k (revised up 2k). Initial jobless claims remains at healthy levels.


Later in the day, Markit will release its U.S. services and composite PMIs and St. Louis Fed President Bullard will make remarks shortly after lunch. Bullard does not vote in 2018 and is a well-known dove because of recently-adopted regime-approach to monetary policy. It would be a surprise if he said anything other than he sees no reasons for more rate hikes.


Overnight Activity – Risk-On Rules Thursday Trading: So far, so good for 2018 as global equities finally synced up for a consensus move higher overnight and markets moved into clear risk-on mode. The equity strength started early in Asia where Japanese indices were the obvious outperformer. The Nikkei 225 rose 3.3% on Thursday, its first trading day since the holiday break, to reach its highest level in almost 26 years. European equities joined in with most national bourses more than 1% higher and the Stoxx Europe 600 up by almost 0.7% and at its highest level in almost two months. In addition to Wednesday’s oil rally, solid U.S. economic reports (more below), and record closes for U.S. stocks (more below), global sentiment also got a boost from data elsewhere. A private survey of Chinese services companies topped expectations by climbing to its highest level since August 2014. In Europe, a similar survey showed services activity perked up slightly which was enough to lift the composite (manufacturing + services) index to its highest level since 2011. The overnight shift in sovereign rates reflected the firmer risk-tone globally, with yields on core European government bonds rising and those on peripheral bonds moving lower. Germany’s 10-year yield was up 1.2bps while the Italian 10-year yield dropped 2.7 bps. In the U.S., yields were up overnight but the curve flattening continued. The 2-year yield added to an overnight rise after the ADP report and is currently up 4.0 bps to 1.97%. The 10-year yield rose 3.5 bps to 2.48% and the spread between 2s and 10s briefly dipped below 50 bps. U.S. equity futures are stronger and tech continues to lead.


Yesterday’s Trading Activity – Stocks Claim New Records, Curve Flattens to New 10-Year Low After Positive Data, Fed Minutes: U.S. stocks climbed steadily throughout Wednesday’s session and all three major indices recorded a new all-time high close. Technology companies continued to be a bright spot in equity trading and the Nasdaq’s 0.84% was Wednesday’s best result. That strength helped the tech sector to a second place finish within the S&P. Energy companies held the title as the best daily S&P performer, with the sector tacking on another 1.53% to Tuesday’s 1.78% gain. Those companies benefited from more-than-2% gains for both U.S. and Brent crude; U.S. crude touched its highest level since December 2014. Stocks were supported by positive economic data but showed little intraday response to the reports. The stronger-than-expected manufacturing PMI (more below) and construction spending data (more below) and upbeat tone in the Fed Minutes (more below) had a more notable intraday impact on Treasury yields. The yield curve was lower before the ISM report briefly sent yields to their highs of the days. That move has dissipated ahead of the Fed Minutes which sent yields climbing again. The post-Minutes jump stuck on the short-end (consensus for continued rate increases) but faded for longer maturities (uncertainty about inflation and the forward path). On the day, the 2-year yield rose 1.2 bps to 1.93% while the 10-year yield fell 1.6 bps to 2.45% resulting in the related spread easing to 51.2, a new more-than-10-year low.


ISM Manufacturing PMI Points to Strong 2017 Close, Positive Momentum to Start 2018: The ISM’s manufacturing index rose unexpectedly in December to reclaim a portion of the ground lost in the last two reports. The headline index improved to from 58.2, where it was expected to hold unchanged, to 59.7, its second strongest level since 2011 and third strongest since the Summer of 2004. The details of the report were solid across the board. The softest spot of the report was a third monthly decline in the employment index. However, excluding some stronger measures earlier in 2017, the index printed its best print since 2012 signaling continued strength in hiring by manufacturers. Almost all of the changes in the other indices were growth positive. The new orders index saw the strongest improvement, jumping to its best level since 2004. Backlogged orders and new export orders were also stronger. The production index also picked up to reach its highest level since 2010 and second highest since 2004.


Construction Spending Looks Stronger than Expected: Construction spending was better than expected in November and a large positive revision to the September data was more than enough to offset a slightly smaller increase for October. Total spending on construction projects improved 0.8% in November compared with expectations for a 0.5% gain. October’s initial 1.4% estimate was trimmed to 0.9% but a full percentage point was added to the previous October estimate of 0.3%. Combined, the results show activity for the three months ended in November was 0.8% better than expected and should have positive GDP implications. Looking in the current month’s details, residential and non-residential spending at both the public and private levels improved. Spending on private residential projects rose 1.0% while private non-residential spending rose a similar 0.9%. The public sector spent 5.1% more on residential projects while non-residential activity edged just 0.1% higher.


Fed Minutes Show a Consensus for More Hikes, Continued Debate about Inflation: The December Minutes showed most participants and almost all voting members expected gradual rate increases to continue. But there continued to be debate about what the actual path should be and officials saw risks of both a slower and faster reality for the overnight rate. A few believed the projected path was too aggressive (could cause inflation to remain below target) while a few others believed it wasn’t aggressive enough (overall financial conditions remain easy, economy is at max employment). As to the upside and downside risks, a tax reform boost and/or too easy of financial conditions could cause the Fed to hike faster but if inflation doesn’t improve towards 2% it could slow them down. On the tax cuts, the Fed saw a potential boost to spending by consumers and businesses which drove the upgrade to the GDP forecast in the SEP. Still, there appeared to be little concern of inflation getting out of hand. Accommodative financial conditions were credited for the solid pace of economic activity but are a source of concern for others who believe it creates potential risks to financial stability. There was also discussion of whether the flattening yield curve is an ominous event. Bottom Line: The consensus in December was for additional gradual rate increases in 2018 and beyond and the recent tax reform poses upside risks to the Fed’s forecast. In addition, the Fed is watching below-target unemployment and overall financial conditions as they determine how much to move rates going forwards. But, as expected before the Minutes, there remained an uncertainty around the inflation metrics which likely hold the key to the policy path for 2018.

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