Financial markets around the world have now reopened following the long holiday weekend, giving us the first opportunity to assess the impact from Friday’s weaker-than-expected U.S. nonfarm payroll report. Only 126,000 non-farm jobs were created in March; this report was much lower than what all experts expected and draws into question the momentum and strength of the U.S. economy. A modest uptick in average hourly earnings was the one bright spot in the report.
How have global financial markets reacted to the worse-than-expected economic news from the U.S.? The answer is likely different than many would expect: Global stock markets, crude oil and long-maturity U.S. Treasury bond yields are all higher, and the dollar is stronger.
Why such a positive response? In addition to the simple explanation that “bad news can be good news” for risk assets, we see three likely catalysts:
- The weakness of the jobs report pushes out the timeframe for the Federal Reserve to “lift off” from the exceptionally low level of current short-term interest rates. Recent Fed statements and speeches confirm PIMCO’s New Neutral thesis that the coming rates cycle will be “shallow” by historical standards. Combining a modest path for rate increases in the U.S. with ongoing and exceptional easing by global central banks creates a rather constructive and supportive environment for risk assets generally.
- Some recent weakness in other U.S. economic data, including retail sales, durable goods and purchasing manager indexes, can be largely explained by horrible weather in the northern and eastern areas of the country and by the logjam of Pacific cargo ships waiting to be unloaded due to the port slowdown. In the coming quarters, we expect the economy to bounce back from this soft patch.
- The U.S. bond market rallied quite sharply in the first quarter. This was partly a result of U.S. economic data coming in softer than expectations and partly a result of the global reach for yield as central bank activity suppressed European and other global interest rates. The New Neutral thesis is now priced into the level and shape of the U.S. yield curve. As a result of valuation, there is less room for the highest-quality U.S. bonds to rally.
Putting all of this together, the Fed’s inevitable liftoff from zero may be delayed slightly but is still on track for 2015, the U.S. economy will likely bounce back from the first-quarter soft patch, the highest-quality longer-term bonds – particularly U.S. Treasuries – are fully valued, and a benign path for short-term interest rates and the global economic backdrop remain supportive of risk assets.