Don’t expect equity-like returns in traditional fixed income.
I am just about to put out an update on our “What to Expect in 2015…” piece on Altegris Perspectives. However with a surprisingly good jobs report out this past Friday it is worth a specific comment on the report for those who care.
The conclusion from the employment numbers lends some support to an increase in Fed Funds rate at mid-year. The early reaction of the US yield curve – a 10bps upward movement in 2-year interest rates – indicates that market expectations are moving in that direction as well. I think the Fed will continue to be data driven, but this data point leans in that direction. It reinforces our view that fixed income portfolios, in particular, require a fresh look with a move toward a more absolute return approach. There also needs to be a realization that equity like returns experienced in fixed income are most likely a thing of the past without taking on equity-like risk or even greater. That is not the role of fixed income in a portfolio. With that said, let’s look at the employment numbers.
The seasonally adjusted employment number showed a 295,000 increase for February and a decline in the unemployment rate to 5.5%. This compares to a consensus among economists of a 230,000 increase and a decline in the rate to 5.6%. The only negative elements in the report were a small decline in the participation rate and a modest 0.1% increase in the hourly wage number. Although, with the average work week up, more additions to the employment rolls and a 0.5% increase in last month’s wage number, this is a positive for incomes. The latest Beige Book shows indications from most of the districts of rising difficulty finding the skill sets to match needs and a resulting pressure on wages. The impact of lower activity in the energy sector is expressed as a concern, but is not necessarily showing up fully in the numbers.
One has to be somewhat sensitive to these first numbers given the weather impact and the major seasonal adjustments in these early months of the year.
For the geeks out there, here are a few considerations:
The actual unemployment rate before rounding was 5.545%. This just barely rounds to 5.5%. A change in 10,000 more unemployed coming from a higher participation rate or maybe a better count on losses in the energy sector would have pushed that number higher. No doubt the Federal Reserve is aware of all this.
We are also dealing with seasonally adjusted numbers. The actual increase in employment in February, 2015 was 903,000 which was seasonally adjusted to 295,000. In January there are actually major declines in employment. The employment rolls were down in January this year at roughly the same number as last year, -2,821,000 vs. -2,836,000 in January 2014. Last year that decline translated, seasonally adjusted, to +129,000 additions to the employed work force. This year, with new seasonal adjustments the number translated to +239,000. See the table below to get some sense of the monthly differences between seasonally adjusted and unadjusted numbers as well as the historical pattern of revisions.
There may be some payback in March. While the weather prevented folks from coming to work or visiting stores most of those employed but not working were still on the payroll. There may be more adjustments to employment levels once the impact of the weather requires a fresh look by employers at costs relative to lost income as well as some catchup on the energy sector.
The market focuses on every new number or headline that comes out and tries to discount that into values instantaneously. It isn’t just the Fed that tries to be data-driven. The employment report is one set of data. It, at the moment, supports the labor side of the Fed’s mandate and can be a lead indicator on the inflation front. It is another signal requiring one to Pay Attention. More to come.