We had a number of surprises in U.S. economic data this morning including the Philly Fed index and leading indicators, but the biggest surprise was definitely the decline in continuing claims. Since the beginning of the year, continuing claims, which measures the number of people continuing to claim unemployment benefits rose week after week, forecasting the rapidly rising unemployment rate. Initial jobless claims are important as well, but they can be noisy and volatile.
There are 2 reasons why continuing claims has fallen – 1) people who have been on the unemployment rolls for a long time are falling off because they are no longer eligible for unemployment benefits 2) less companies are firing and more companies are hiring. I think that the latest improvement is a combination of both but regardless, a peak continuing claims always coincides with an end to the recession.
In the following chart, I have highlighted the trend of continuing claims at the end of each U.S. recession over the past 3 decades. As you can see, claims have always stabilized or peaked at the end of the recession. The lag between the end of the recession and the official peak in claims has ranged from 0 to 3 months.
This leads to the question of how the dollar performs after a recession. I did some research into this a month ago and posted my take on FX360.com (How Does the Dollar Perform after a Recession?):
In the past 30 years, there have been 3 recessions. The most recent lasted from March 2001 to November 2001, a period of 8 months. The one prior to that was in the early 1990s which lasted from July 1990 to March 1991. The current recession has been most commonly compared to the recession in the 1980s, which started in July 1981 and lasted until November 1982, a period of 14 months. We thought it would be interesting to see if there was a consistent trend in dollar after recessions and unfortunately based upon the limited data set of 3 recessions, we have found that the only pattern is the weakness of the dollar against the Japanese Yen 12 months after the recession. When the 2001 recession ended, the dollar traded higher against both the euro and Japanese Yen for the first 3 months but then gave back its gains over the next 8 months. In the 1990s, the dollar traded higher against the euro but lower against the Japanese Yen the first 3 months after the recession ended. The dollar fell further against the Yen but recovered its losses against the euro over the next 8 months. In the 1980s, the dollar fell in the first 3 months after the recession and continued to fall over the next 8 months against the Yen but recovered its losses against the euro.
Job losses are increasing, but that hasn’t stopped Americans from spending and unfortunately that pretty much sums up American culture. Retail sales increased 1 percent in the month of January despite a sharp increased in jobless claims (Instant Insight on Retail Sales). Consumers took advantage of sharp January discounts and the bankruptcy of Circuit City.
This pace of spending cannot be sustained and skepticism towards future spending has driven the EUR/USD below 1.28. According to our technical analyst at FX360, intraday EUR/USD support is at 1.2785.
Also, here is why retail sales is increasing! This was the line at the Barney’s Warehouse Sale this morning in NY. At 7:11am, 50 people were on line and by 8, the line was down the block and around the corner. Luxury discounters are cutting prices significantly and if these people are lining up to shop today, it leads me to wonder, do they have a job?
The US dollar is tanking as jobless claims rise by the largest amount since November 1982, 26 years ago. As I have suspected, it is the 1980s all over again.
This confirms that the 533k drop in non-farm payrolls last month will not be the bottom in the labor market. When claims first hit 573k in January of 1982, non-farm payrolls dropped by -327k. It rebounded significantly the next month (-6k), but that was only precursor to another 10 consecutive months of job losses with non-farm payrolls revisiting the -300k levels in July (NFP in July 1982 was -343k). These jobless claims numbers reflect the massive layoffs that we have heard in the past weeks from companies like AT&T, Viacom and Sony. Continuing claims hit 4.429 million, the highest since 1982.
The widening of the trade deficit leads us to believe that GDP will take a big dive in the fourth quarter. The Treasury market is already pricing in the possibility of deflation and depression with yields in zero to negative territory for the first time since the Great Depression and incoming data supports that thesis.
The weekly jobless claims number will add pressure on the Federal Reserve to cut interest rates by 75bp next Tuesday. Fed Fund futures are already pricing in a 100 percent chance of a 75bp rate cut from the Federal Reserve next week. This would take US rates to 0.25%, making the US dollar the lowest yielding currency in the developed world.
If the Fed takes interest rates to zero, we could see USD/JPY fall to 13 years lows and the Euro to return to 1.35.
Even though volatility in the currency market has compressed since October and November, the Federal Reserve’s next interest rate decision is a major event risk because interest rates will be taken to historically low levels. Not only are the Fed expected to take interest rates to the lowest level this generation has ever seen but they have to figure out how to effectively signal their intentions of taking US interest rates to zero without completely spooking the markets. This will be a difficult balance to walk and one that could easily lead to an expansion in volatility in the currency market.
On the eve before Thanksgiving, the price action in the currency market has been very erratic. Equities rallied for the fourth straight trading session while the US dollar weakened against the Australian and New Zealand dollars but strengthened against the Euro, British Pound and Japanese Yen.
Currencies appear to be decoupling from equities on this low volume pre holiday trading session. Over the past few weeks, strength in equities has translated into strength in the EUR/USD but that was not the case today. US economic data was very weak, but hope continues to supersede reality as President Elect Barack Obama adds former Federal Reserve Chairman Paul Volcker to his team.
Obama’s Economic Dream Team
Rather than having to pick from Timothy Geithner, Larry Summers and Paul Volcker, Obama has decided to add all 3 of these well respected and talented men to his Economic Dream Team. The equity markets turned around after Obama announced that Volcker will the Chairman of a new White House advisory board that is tasked with stabilizing the financial markets and pulling the US economy out of recession. This new Economic Advisory Board will give their opinions in briefings to the President and include experts outside the government with the goal of “infusing ideas from across the country and from all sectors of the US economy.” Even before taking office, Obama is proving to be a President who wants to hear every possible viewpoint before making his decisions. He is on track to hit the ground running come January 20th and the equity markets have responded very favorably to his appointments and the initial details of his economic recovery plan. Over the next 24 days, Obama will play a critical role in helping to maintain confidence in the financial markets.
Latest String of Economic Data Hits Multi-Year Lows
Confidence will be extremely important as the US economy continues to come face to face with weak economic data. On the eve of Thanksgiving, we have had a harsh reminder of the problems plaguing the US economy. With the shortened holiday trading week, there were a lot of US economic data released today and a number of those indicators hit multi-year lows. As we have previously warned, because third quarter GDP only slipped by 0.5 percent, fourth quarter GDP could be very weak.
Is There a Risk of a Breakout on Friday?
For the currency market, the Thanksgiving Day holiday usually leads to low liquidity and thin volumes. Although this should mean range trading for all of the major currencies, watch out for a post Thanksgiving Day breakout. Low liquidity makes it extremely easy to exacerbate the volatility that we have been seeing in the currency market. In 2007 and 2006, the EUR/USD’s trading range on the Friday after Thanksgiving was more than 3 times its trading range on Thanksgiving Day.
Every single day we have more reason to believe that the US unemployment rate will break 8 percent next year. Jobless claims rose to a 16 year high last week of 542k, driving the US dollar lower against the Japanese Yen. Continuing claims rose to 4.012 million, the highest level in close to 26 years.
The most powerful aspect of today’s report is the fact that the Veteran’s Day Holiday usually pushes jobless claims down which suggests that if there wasn’t a holiday, jobless claims could easily surpass 550k.
There is no question that the US labor market is in trouble and non-farm payrolls will continue to drop. However, with major layoffs from companies like Citigroup, there is a decent chance that we may see non-farm payrolls double dip like it has in past recessions. In analyzing non-farm payrolls data during the last 3 recessions, we see that at the beginning of an official recession, as defined by the National Bureau of Economic Research, non-farm payrolls start to decline rapidly. However after falling between 200k and 300k, job cuts stall and then pick up once again. We saw this trend in the 1981 to 1982 recession, the 1990 to 1991 recession and during the 2001 recession.
Therefore don’t expect the labor market to stabilize anytime soon – non-farm payrolls should top -300k, stabilize and then revisit that level once again in the first half of 2009.
1990-1991 and 1981-1982 NFP Charts
ZIRP? Recession Trades