Financial markets ignore elephant in the room: December’s 223,000 job gains

Stocks and bonds rallied in response to Friday’s jobs data showing modest wage growth for December, while investors looked past a stronger than expected 223,000 rise in nonfarm payrolls.

Friday’s price action was the latest example of how willingly traders and investors have clung to any signs of easing inflation and to hopes for less-aggressive Federal Reserve policy. U.S. equities staged their first big rally of 2023 after December’s nonfarm payrolls report showed just a modest 0.3% gain in hourly pay. Fed funds futures traders boosted the likelihood of Fed rate cuts toward the end of this year and Treasury yields plummeted, led by a 24-basis-point drop in the 3-year rate
TMUBMUSD03Y,
3.993%.

The latest data gave rise to the view that a soft landing may be in the cards, with slower wage increases possibly helping the U.S. economy to avert a recession. The flip side of that debate, analysts said, is that traders and investors aren’t paying enough attention to December’s robust 223,000 job gains, which surpassed economists’ expectations for an increase of 200,000, and to an unemployment rate that fell to 3.5% from 3.6% despite the Fed’s ongoing rate hikes in 2022.

“While investors seem to have judged that today’s batch of data supports the case for a soft landing, our view remains that the U.S. economy faces a tough couple of quarters,” said Oliver Allen, a senior markets economist for Capital Economics.

The continued strength of employment growth and drop in the unemployment rate “arguably support the Fed’s argument that it should not pivot for a while yet,” and “with this in mind, we expect the U.S. stock market to struggle, even as long-dated Treasury yields drop back a bit further,” Allen wrote in a note on Friday.

Meanwhile, economists at BNP Paribas said that “policy makers appear to be increasingly frustrated by market-pricing at odds with Fed signaling in terms of both the terminal funds rate and timing of initial rate cut. This could tilt their bias toward a more forceful response at the next meeting.”

Read: The Fed delivered a message to the stock market: Big rallies will prolong pain

And strategists at TD Securities said they expect the Fed to lift its main policy rate target to 5.5% in May, even after the firm badly missed December’s actual payrolls number with a forecast for a 350,000 jobs gain.

On Friday, all three major stock indexes ended sharply higher, with Dow industrials
DJIA,
+2.13%
jumping 700 points. Treasury yields were lower throughout much of the New York session, with the benchmark 10-year rate
TMUBMUSD10Y,
3.562%
falling below 3.6%.