The US labor market is cooling faster than anticipated, markets are reacting nervously, as the S&P 500 dropped 2% on Thursday and the investors’ expectations for the first Fed interest rate cut are increasing.
The US economy seems to be heading toward a soft landing, but investors might be underestimating the risk of a recession, writes eToro analyst for Romania, Bogdan Maioreanu. On Friday, the August NFP report will reveal which direction things are heading. This is important for investors as the evolution of the US economy – the largest in the world – is influencing stock exchanges worldwide, Bucharest Stock Exchange included.
Wall Street expectations for the 0.5% interest rate cut by the Federal Reserve jumped to 45% from 38% a day before after yesterday’s job openings report. The unfilled jobs fell to 7.67 million, off 237,000 from June’s downwardly revised number and the lowest level since January 2021.
Now investors’ eyes are focused on the Non-Farm Payrolls report and the unemployment data to be published on Friday, trying to assess if the Fed rate cut will be 0.25% or 0.5%. We are back to the “bad news for the economy is good news for the markets” narrative. There is certainty in the markets that the cut will happen at the next FOMC meeting on September 18th. Nevertheless, the expectation remains that the Fed will cut borrowing costs by 1% by the end of the year, with another 1% anticipated in 2025. Meanwhile, some banks have revised their recession forecasts for the U.S. upwards. The upcoming labor market data will reveal whether the growing concerns are justified or exaggerated.
Typically, investors focus on Non-Farm Payrolls, but that changed with the July report. Investors are now paying close attention to the unemployment rate, as it tends to rise rapidly at the onset of a recession (the Sahm Rule). The indicator was triggered in July, when unemployment climbed to 4.3%—the highest level since October 2021 and the fourth consecutive monthly increase. Back in March, it was still at 3.8%. Investors are questioning whether companies have continued cutting jobs. For August, a slight decrease to 4.2% is expected. An unexpected rise to 4.4% or 4.5% could reignite speculation about a big 50 basis point rate cut. Additionally, 163,000 new jobs are anticipated, with wages expected to grow by 0.3% compared to the previous month.
Downside risks for the US labor market have increased, and further cooling would be undesirable, as Fed Chair Jerome Powell stated two weeks ago in Jackson Hole. A labor market report that meets or slightly exceeds expectations could therefore provide relief – both for the Fed and on the markets. Moderate job growth, a decline in the unemployment rate, and rising wages would suggest stabilization. Should the report reveal further weaknesses, recession fears could flare up again, intensifying the debate over a bigger rate cut in September. In this scenario, both volatility and risks would increase, potentially creating headwinds for Wall Street.
Individual investors are sensitive to recession narratives, as the latest eToro Retail Investor Beat survey shows. Recession is seen as a major threat by 19% of Romanian investors and 18% of global investors, immediately after inflation which is seen as the main risk for their investment portfolio. This is why every news that triggers a fear that the economy might head into that direction is triggering asset sales in the markets.
