Market reacts to Fed commentary and May jobs report
Summary
The market parsed through Fed commentary during the week that hinted at a slightly more hawkish stance before turning its focus to the May jobs report. The nonfarm payroll numbers were slightly below expectations, easing concerns of earlier-than-expected rate hikes and mildly weakening the dollar. Oil continued its climb to over $70 amid a continuing global recovery and supply restraints.
Economic outlook
On Wednesday the Federal Reserve released the Beige Book covering a qualitative review of economic conditions based on interviews with business leaders, economists, and market participants. The notes show the economy strengthening at a moderate pace while highlighting businesses’ struggles with supply chain distribution and delivery delays. The Fed noted that “contacts anticipate facing cost increases and charging higher prices in coming months.”
Fed Governor Lael Brainard stressed that vigilance was warranted but “employment data thus far appears to reflect a temporary misalignment of supply and demand that will fade over time as the demand surge normalizes, reopening is completed, and supply adapts to the post-pandemic new normal.” The statement reflected a slight softening of her typically dovish view. Philadelphia Fed President Patrick Harker was more explicit, stating that the Fed should begin considering tapering. The market will continue closely monitoring Fed members as they open the door to discussions on rate hikes and tapering.
The May non-farm payroll numbers came in lower than expected for the second consecutive month. The U.S. gained 559,000 jobs in May, slightly short of expectations of +675,000. The unemployment rate dropped to 5.8% while the labor force participation rate surprisingly receded to 61.6%. About two-thirds of the job losses from the pandemic have now been replaced with 1.8 million still classified as temporary layoffs. The number signifies the recovery is continuing at a moderate pace slightly slower than expected.
Dollar strengthening dulled by May jobs report
The dollar strengthened throughout the week as investors eyed the possibility of the Federal Reserve raising rates faster than anticipated. The U.S. dollar index, which includes a basket of major currencies, reached a three-week high Thursday. The underwhelming job numbers erased most of the gains to leave the dollar index relatively flat on the week.
Russia expressed interest in eliminating dollar exposure in its investment profile and potentially shifting away from crude oil denominated in dollars. The announcement comes as Russia seeks to minimize the impact of U.S. sanctions.
Oil nears a two-year high as global demand recovers
Continuing rise in demand coupled with tightening supply pushed oil above $71 on Friday. Vaccine rollouts continue to be a tailwind, despite countries such as Brazil and India lagging behind. The supply side also supported a bullish stance on oil prices as OPEC committed to maintaining output restraints. Slowing progress in negotiations between the United States and Iran cooled the probability of Iranian oil reentering the market in 2021.
Looking ahead
Inflation will continue being the primary focus next week as the Bureau of Labor Statistics releases CPI data for May. The market will look to determine how sustained price increases may be or if they will prove transitory. Inventory data released on Wednesday and consumer sentiment numbers on Friday round out the week’s anticipated events.
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