Chicago and the Eastern United States have just experienced a record cold February. But, where the economy is concerned, it feels a lot more like July. Yet, despite the strong jobs and employment reports released on Friday March 6th, or perhaps because of them, the markets are in retreat. This is true for both the equity and bond markets and has made for a surprisingly ugly finish to a day that, ostensibly, got off to a really good start.
But before we look at the selloff in the markets, let's look at those reports that triggered this market exodus in the first place. The Labor Department reported that 295,000 new jobs were created in February, well above analysts' expectations, and the twelfth consecutive month of job creation at or above the 200,000 benchmark. Although the January job count was revised downward – from 257,000 to 239,000 – the last three months have still seen the addition of just over 860,000 new jobs to the economy. Add in November's whopping 423,000 job total and you get just shy of 1,290,000 new jobs in the last four months.
Also out Friday morning was the updated unemployment report. This was also good news with a drop in unemployment from 5.7% to 5.5%. This is the lowest unemployment rate since May 2008, and is starting to approach the level that many observers would normally consider "full employment." If no one is saying we're at full employment quite yet, it is because of one other number that is still not looking that great – the labor force participation rate.
The labor force participation rate remains very low by historic standards. In February, it was just 62.8%, hardly changed since April of last year and far lower than it had been prior to the onset of the last recession. In fact, you would have to go back 37 years to find a time when the labor force participation rate was this low, leading many people to conclude that there are still plenty of discouraged workers out there who would look for work again if they thought they could find any. Still, the overwhelming sense this morning was of optimism. Job growth has been both consistent and strong and appears to be picking up momentum.
Yet all this good news did not sit well with the markets. Big selloffs of both stocks and bonds were the result. The Dow Jones opened Friday morning at 18,135 but fell immediately and then kept on falling until it closed at 17,840, a decline of 295 points. Perhaps worse for members of RPBG, the bond markets behaved the same way with a big selloff pushing yields on Treasuries up, and driving interest rates higher in their wake. Yields on both 10 and 30-year Treasuries were up nearly 50 basis points (½ a percent) by the end of the day Friday relative to where they had been just over a month ago in late January. This will translate directly to higher borrowing rates for anyone looking to purchase or refinance real estate.
All of this behavior can be explained very simply by one factor – the markets' fear of increasing interest rates. For months, Federal Reserve Chairman Janet Yellen has been resisting rate increases as the economic recovery picked up strength. But, at some point, she will have to decide if holding down rates is doing more good than harm. The markets are guessing that she is very near that crossroads right now, and may not be able to keep rates at their current low levels for much longer.
Markets don't like uncertainty, and we've all become very accustomed to free money. The reaction of the markets to the prospect of having low interest rates taken away from them is probably similar to the reaction of a baby who has just had his candy snatched away. I guess you could say the temper tantrum that ensued was entirely predictable.
Friday's meltdown notwithstanding, the more important question is, how will the economy really be able to handle higher interest rates if, indeed, they are coming sooner rather than later? This is a hard question to answer, all the more so since it's been so long that anyone has had to face up to this prospect. After all, we haven't seen short-term rates above 1% since the third quarter of 2008, six-and-a-half long years ago, and they've been at or barely above zero ever since. Any increase going forward is going to be painful. So, go ahead and have your tantrum. Odds are good that Ms. Yellen has her eyes on your candy right now, and there's really nothing that any of us can do about it…
Steve Cain
RPBG Director