Notes From Underground: Will It Be An Inflated Jobs Report?

After FEDERAL RESERVE Chairman Jerome Powell’s Jackson Hole speech, the jobs data may have taken on added significance. Inflation was not a concern for Powell as that is considered transitory within the bowels of the FOMC. The failure of the employment situation to enable all who lost jobs due to COVID “through no fault of their own” has regained paramount importance.

Wednesday’s ADP report revealed the private sector created 40% less jobs than anticipated (374k versus a consensus gain of 640k). The problem with Friday’s release is it always tends to be a VOLATILE number because of education jobs gaining ground in August as school restarts. This year will be more difficult because of the uncertainty of public education and its response to the DELTA VARIANT. Consensus calls for 550k, a 5.3% unemployment rate and average hourly earnings gaining 0.4%.

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Don’t rush to race the headlines because the ALGOS will drive the trade. Give the markets time to digest the contextual basis of jobs and see if Powell’s concerns are realized in the August data and that employment remains well below the FED‘s mandate of full-employment. If the DATA is weak expect the DOLLAR to weaken, GOLD TO RALLY, BONDS TO ATTAIN some strength as it will push back the central bank’s desire to CURB ITS ASSET PURCHASES. It’s also LABOR DAY WEEKEND so be very patient as trading will not be as liquid as desks will be vacant due to the holiday. PATIENCE FOR THE NARRATIVE TO UNFOLD.

***In response to Sunday’s BLOG POST there was a question from Andy about the direction of the yield curve in the coming months. My response: Would you rather buy a 5-year note with a REAL YIELD of -160 basis points or a 30-year bond with an effective NEGATIVE REAL YIELD OF -30 basis points? This is not a rhetorical question but one on which I’m ruminating as the basis of how I look at the curve in a world where the sovereign debt markets are fighting against the tide of central bank intervention.

It is not just the FED but the ECB and BOJ that investors have to consider. The 10-year German BUND has a NOMINAL YIELD of -37 basis points with an inflation rate approaching 3% for an effective real yield of -3.4%. The question can only assuage investors if they have a stock portfolio that rises each month as NEGATIVE REAL YIELDS CONTINUE TO PROMOTE ELEVATED STOCK AND HARD ASSET PRICES.

On Thursday, former BOND KING BILL GROSS shared his thoughts with the investing world in Bloomberg and Financial Times articles that lashed out at “GARBAGE” Government BONDS. Gross called U.S. Treasuries TRASH and certain to lose investors money. Will Bill Gross be correct in his call that 10-year Treasury yields will rise to 2% over the next year?

If so, while Gross would relish SHORTING the longer-end of the CURVE, I find the 5-year sector to be the most overvalued of the TRASH based on effective real yields. Treasury NOTES are capital instruments which long term investors buy for coupon interest and hopefully some capital appreciation. My view on the initial market response to non-transitory inflation is that the most overvalued will be slammed the hardest even though it is HISTORICALLY THE LONGEST DURATION THAT SUFFERS THE MOST UNTIL THE FED REACTS TO THE BOND MOVEMENT AND RAISES THE FED FUNDS RATE. With the massive amount of central bank intervention in the bond markets these are anomalous times.

The FED‘s massive balance sheet of fairly short duration leaves the central bank to exert some facsimile of YIELD CURVE CONTROL, buying more DEBT further out in time to keep the Treasury’s borrowing costs under control. The creation of the STANDING REPO FACILITY, which could total a TRILLION OR MORE WITH THE FOREIGN INVESTMENT component — is a massive tool of YCC. It is for this reason I would see the CURVE FLATTEN.

Also, the ECB‘s massive intervention in EUROPEAN SOVEREIGNS can send global investors in search of higher nominal yields as an alternative. Trash is a relative term in a global financial system dominated by central bank actions. As ECB President Christine Lagarde warned the markets on July 22, the pandemic led to firms and households taking on more debt to weather the strains of demand collapse, which has made the European financial system fragile. Searching for yield across the globe can make one person’s trash another’s treasure. No easy feat in a central bank-controlled world.

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