- July data showing 528,000 new jobs in the US reset the countdown for a recession, DataTrek said.
- The rapid growth implies the Fed isn’t done tightening policy yet, and has a way to go still.
- Despite recalibrating recession risk, there are two near-term warning signs flashing for the stock market.
Investors may have reset the clock on their recession expectations after last week’s strong jobs report, but the market’s favorable reaction to the data on Friday shouldn’t discount two warning signals of still-looming risks to stocks, DataTrek said on Monday.
The S&P 500 staged a modest rally following the July nonfarm payroll report, which showed the US added 528,000 new jobs last month, more than double economists’ expectations of 250,000. The market was surprisingly resilient, given investors’ expectations that the Federal Reserve will react to the strong labor market by further tightening economic conditions.
“We won’t take too much away from one day’s market action,especially on an August Friday, but seeing stocks hold firm after a hot jobs report is genuinely surprising,” DataTrek co-founder Nicholas Colas wrote.
This may be explained by investors resetting their expectations for a recession, pushing out the timeframe for an economic downturn as the US continues to be buoyed by strong job growth.
But investors should still be on the lookout for near-term risks, with Colas noting two warning signs in particular that show the market isn’t out of the woods.
For one, the yield on the 10-year Treasury note is firmly below 3%, “which has been the warning track for a turn lower in equity markets this year,” Colas wrote.
The second warning sign can be seen in the Cboe Volatility Index, or the VIX, which fell slightly to 21.2 from 22.2 following the report. As the stock market’s fear gauge edges closer to its long term average of 20, it suggests a complacency among investors. The closely watched indicator of risk to the market, Colas said, is still too low.
Colas also notes the spread on investment-grade and high yield corporate bonds over to treasuries – a measure of how uncertain the market is over profitability – has dipped slightly but still remains around March levels, when markets first began to show some anxiety over rising inflation and the Fed’s policy move to strike it down.
Fed Fund futures peg the odds of a 75 basis point hike at the next Federal Open Markets Committee meeting at 68%, Colas said, which would bring the policy rate to 3%-3.25%. The odds that the policy rate will hit a range of 3.5% – 3.75% by the end of the year are 47%.