foxex: Labor Sends Some Mixed Signals

Chart Advisor | Investopedia

Focus on the Price

By John Jagerson, CFA, CMT

Friday, February 01, 2019

1. A negative revision lurks under the "positive" jobs report headline

2. Investors price in a low-volatility week ahead

3. Manufacturing surprises improve the economic picture

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Major Moves

The first Friday of each month (unless adjusted for a holiday) is the day that the Bureau of Labor Statistics (BLS) releases the non-farm payroll report. According to the BLS, 304,000 new jobs were added to the US economy in January. This is well above the average, which is good news despite the fact that average hourly earnings rose much less than expected. However, just underneath the headline was a disappointing detail. The employment change for the month of December was originally 312,000 new jobs, which was revised down to 222,000 new jobs today.

S&P 500

As you can see in the previous chart, the downward revision in the labor report had an impact on the trend of the data. However, in my opinion the most important question is whether upward revisions are correlated with positive returns and downward revisions are correlated with negative returns in the market? Today's market wasn't necessarily negative but were sluggish compared to the post-Fed rally on Wednesday and Thursday. The last major positive revision was for June's employment data that was revised higher by a combined 54,000 jobs on July 6th and August 3rd. The market was breaking out to new highs during those positive revisions which would seem to answer my question.

However, if we look at positive or negative surprises in the labor report over a larger sample set it cannot be shown to have any predictive value for what stock prices are likely to do over the next 30 days. That is important information for investors who are making trade decisions right now. Historically speaking, as long as the average non-farms employment change is positive, extended bear markets are unlikely.As long as the trend of hiring is flat or rising, stocks should still be in a good position for more gains in 2019. For little historical context keep in mind that the Lehman Brothers collapse didn't happen until the labor report had been trending below zero for a few months in 2008.

This is a good thing to remember because traders are bound to get a little nervous next week. From a technical perspective, the S&P 500 is bumping up against its 61.8% retracement level, which is roughly equal to the bottoms in the index in May and June last year. Additionally, investors were doing some selling in Chinese stocks today ahead of the Spring Festival or "New Year" holiday next week. Chinese banks and equity markets will be closed all through next week, which also disrupts the timing of Chinese economic announcements which could be released unexpectedly later in February.

Read more:

What is the NFP Report?

Understanding Retracement Levels

How the Chinese Stock Market Affects US Investors

Risk Indicators - The Week Ahead

I am a little concerned about the fact that Chinese markets will be going "dark" for a week, but there aren't a lot of other signs of stress in the market. Even the outlook for the market "fear index" (VIX) is looking a little better. Although the VIX has been stuck above 15 (usually a sign of bearishness) since last October, there is new evidence it may finally break lower.

Another version of the VIX that measures market expectations for volatility over the next nine days broke support today. As you might expect, the 9-day VIX moves very similarly to the VIX but it can reveal emerging confidence more quickly because of its short-term outlook. As you can see in the following chart, the nine-day VIX dropped below support at 15 today despite the fact that the major indices were oscillating around break-even throughout the session.

We can interpret this movement in the nine-day VIX as a good sign that investors are not pricing in a lot of excess volatility due to the market holiday in China or earnings reports that will be streaming in over the next few days.

Read more:

How Does the VIX Work?

Using Moving Averages to Trade the VIX

Bolsonaro Boosts Brazilian ETFs

Bottom line:

As a counterpoint to the mixed labor report, The Institute for Supply Management's Purchasing Managers Index (PMI) was released this morning with an unexpectedly positive bounce off its two-year lows. Although the PMI is still well below its moving average, its a good sign that the reading of 56.6 was driven higher by the new orders index increasing at the fastest pace since 2014.

The PMI report is one of my favorite monthly economic data releases because it is forward-looking. The index is compiled from survey results of "purchasing managers" at manufacturers around the country. The metrics included in the overall score reflect what purchasing managers expect for hiring, inventory, new orders, prices, and overall production. Whether these professionals are correct about their estimates for the future is not as important as using the PMI report as a gauge of manufacturer's current confidence. In my view, today's report increases the potential for further gains across industrial stocks in February.

Read more:

Understanding the ISM's PMI Report

Get Started as a Successful Investor

What to Expect From the Market In February