Strong employment report in the US caps a strong rally in risk assets
06/Feb/2012 • Currency Updates•
Last week focus in financial markets switched back to the employment report out of the US. This is a welcome sign of normality, in the sense that financial markets are being driven by news on economic growth rather than headlines from the European crisis. The strong report on Friday provided further fuel to the weeklong rally in equities. Our call for a decoupling between US and European economic growth is increasingly supported by the data, as the good news out of the US are a stark contrast to the grim readings out of the European periphery. It is very significant that the Euro failed to rally on a week in which global stocks rose over 2%.
There were conflicting signals in UK macroeconomic data last week. The PMI indices of business sentiment were considerably better than expected, and by themselves they would have led us to question or view that the UK is in a shallow recession. However, data on December loans to households and non financial companies showed the second largest drop on record. We maintain therefore our view, and think that the Bank of England will announce a further increase in its quantitative easing policy. Sterling benefited from the strong PMI data, and outperformed both the euro and the dollar by 0.5%.
European data displayed a similar dichotomy to that in the UK. PMI sentiment indices came in a little higher than expected, though with the usual split between an improvement in German data and grim readings in the periphery. However, December loan data showed a sharp contraction. Particularly worrying was the tightening in loan standards reported by Italian banks, which is back to Lehman crisis levels. Now that the ECB has a policy of the facto quantitative easing in place, focus should switch to the sustainability of the Spanish and Italian economy under harsh austerity measures. The news last week on this fron was grim. Spanish employers shed over 75,000 jobs in January, and the three-month average of about 50,000 jobs a month. To put this figure in perspective, the equivalent in the US payroll reports would be a monthly drop of 400,000 jobs. Given the collapse of domestic demand and confidence in the periphery, only a sharp increase in exports, particularly outside of the eurozone can staunch the bleeding. We therefore remain very bearish on the Euro. The huge net short position against the currency is starting to clear out, though it remains high. As this source of support disappears, we expect the common currency to resume its downward trend soon.
A very good week of US data. In addition to the critical jobs report, which showed healthy gains of 244,000 net jobs for the month and a 0.2% drop in the unemployment rate to 8.3%, PMI business indices came out much stronger than expected, and auto sales increased sharply in January. It looks like the near stalling of domestic demand seen in the last quarter of 2011 has come to an end. We expect the US economy to continue its modest recovery, propelled by pent up consumer demand, a modest recovery in the housing sector, and the absence of fiscal drag. The contrast to the mess across the Atlantic couldn’t be sharper, and we expect the dollar to benefit from the European crisis over 2012.