Today’s April non-farm payroll release showed 164,000 jobs added which was below expectations of 193,000 jobs created and the previous month’s figure was revised up by 32,000 to 135,000. The unemployment rate came in at 3.9% versus the prior month’s reading of 4.1% and the participation rate edged lower to 62.8% from 62.9%. Importantly, average hourly earnings were weaker than expected at 2.6% yoy, and the previous month’s figure was revised down to 2.6% yoy. Broadly speaking, a positive set of numbers for bond markets.
The current US economic expansion has now run for 106 months equalling the second longest expansion in the NBER database, dating back to 1854, which ran between March 1961 and December 1969. Moreover, this cycle of global growth has been fuelled by low cost of debt which is being, albeit very gradually, reversed. The IMF estimates that global public and non-financial private sector debt amounted to USD164tn or 225% of GDP in 2016, 12% higher than the previous peak in 2009. Negative secular trends such as demographics, which constrain growth further, only exacerbate the situation. In the absence of significant sustained productivity gains further policy tightening will make the global growth pick-up increasingly difficult to uphold.
Our base case looks for up to 2 further 25 bps Fed Funds rate hikes, most likely in June and September. The combination of higher rates and balance sheet tapering should start to act as a brake on US growth into the end of the year and 2019. Any additional increases beyond that are dependent on the impact of tax cuts, fiscal policy and any fallout from a more protectionist trade stance on the US and global economy. In our opinion, fiscal stimulus at this stage of the cycle only adds to the risks: the more aggressive the Fed becomes in tightening policy the greater the risk the US moves into recession.
We favour portfolio positioning at the long end of the curve and with a bias to higher quality credits as we believe the Fed is ahead of the curve and that the yield curve will continue to flatten with the potential to eventually invert in the event of a US recession.