The Mandate Pivot
Chairman Powell’s Brookings speech marked a subtle shift to the employment mandate due to the focus on wage growth as a driver of services less rent of shelter inflation. While we disagree with the Fed’s inflation model and assessment of the cause of reduced labor supply, a pause in the rate hike process is contingent on monthly establishment survey payroll growth slowing to ~100,000 and evidence wage growth is slowing towards 4%. We remain convinced that demand for labor is slowing, however, the data this month ahead of the December employment report was mixed. Consensus is for a 200,000 increase in nonfarm payrolls, down from 263,000 in November, a 3-month average of 272,000 and a 6-month average of 323,000. The U3 unemployment rate is expected to remain unchanged at 3.7%, with a 0.1% increase in the still below pre-pandemic participation rate and 0.4% increase in average hourly earnings, down from a curious 0.6% increase in November. We strongly suspect the establishment survey is overstating employment growth, perhaps due to faulty assumptions of business deaths in the birth/death small business model. That said, the incoming data was mixed this month, consequently, a small deceleration in nonfarm employment growth is a decent guesstimate. The risk on the unemployment rate is higher based on our model using the Conference Board’s labor differential survey despite an uptick in the month of November. Wage growth data was also mixed, consequently a 0.4% headline print seems reasonable with some risk of a negative revision to November. The rates market, after rallying the first two days of the year, is reasonably well positioned for a softish report, the equity market less so with meltup risk elevated. We would go into the report long 2s (2-year Treasuries) and spoos (SPYs or S&P futures).