Asset Management

April’s strong employment growth prompts unexpected market responses

WILLIAM RIEGEL, HEAD OF EQUITY INVESTMENTS
LISA BLACK, HEAD OF GLOBAL PUBLIC FIXED-INCOME MARKETS

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May 2, 2014

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Equities

Equity markets generally benefited from a calmer tone during the past week. The recent sharp rotation out of high-momentum growth stocks and into value shares subsided, easing the extreme disparity of returns for these two groups. The S&P 500 Index as a whole inched toward a new record high in the first four days of the week, responding to above-forecast manufacturing data and shrugging off a barely positive reading on first-quarter GDP growth. The index was down slightly on Friday, however, as a much-stronger-than-expected April jobs report failed to spark a sustained rally. Based on MSCI indexes, foreign developed-market equities rose nearly 2% for the week through May 1, while emerging-market equities were up a lesser 0.3%.

Fixed income

Returns were modestly positive for most fixed-income categories, as investors awaited the release of various economic reports for a greater sense of direction. U.S. economic data was mixed, but the Treasury market focused more on the weaker signals (GDP growth, home-price appreciation, and weekly unemployment claims) and less on positive surprises (monthly payrolls, manufacturing and industrial data). The yield on the bellwether 10-year Treasury note—which would normally be expected to rise in the wake of robust jobs data—actually fell in response to April’s strong payrolls report. After starting the week at 2.70%, the 10-year yield fell to 2.59% in Friday afternoon trading.

Current market updates are available here.

Article Highlights

Weak GDP growth and surging job creation dominate the headlines

It was an active week in terms of U.S. economic releases, with first-quarter GDP growth and the April employment report gaining the most attention. Despite some dramatic headlines, on balance there was nothing in the data to change our fundamental outlook.

Economic news in Europe is mixed

While European PMIs hit three-year highs, corporate earnings have been revised downward, perhaps reflecting weaker demand from the emerging markets or the impact of a mild winter that temporarily boosted the region’s economic activity. Meanwhile, eurozone inflation ticked up slightly to 0.7%—still well below the 2% target of the European Central Bank (ECB) but not low enough to prompt further ECB monetary stimulus.

Outlook

Despite the disappointing first-quarter GDP report, data for the month of March and a first glance at April’s economic releases suggest that growth will reaccelerate to about 2.5% during the next three months. Furthermore, March’s strong numbers for income and spending point to a potential upward revision of first-quarter GDP growth. Consequently, we are not altering our forecasts for the remainder of the year.

In equity markets, long-term sentiment has turned negative, and hedge funds’ net exposure to stocks has fallen amid the market’s recent volatility. Moreover, a closely watched indicator shows that Wall Street strategists have reduced allocations to equities. These technical signals have historically been associated with a subsequent rise in equity prices.

Fixed-income markets remain confident that the Federal Reserve will keep short-term interest rates at near-zero levels until inflation reaches the Fed’s 2% target. In addition, we believe April’s jobs report will not accelerate the Fed’s timeframe, as wages remain low, keeping a lid on overall inflation.

The current environment is likely to be more bullish for equities than for debt. Greater consumer spending will likely benefit stock prices (through greater corporate earnings growth), while fixed-income investors will have to contend with the eventual rise in interest rates and the potential for modest declines in credit quality as mergers and acquisition activity picks up.
















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