By James Ramage And Min Zeng
In the race to predict the timing of the Federal Reserve's
anticipated interest-rate rise, traders are digging ever deeper
into the slew of economic data points released each day.
On Friday, it was the turn of an often-overlooked report on wage
growth to hit center stage. The Labor Department on Friday released
data showing wage growth in the second quarter was the lowest since
records began in 1982.
The report, which is often watched by the Fed as a sign of
inflationary pressure in the economy, fueled doubts among some
investors and traders that the Fed will increase the short-term
benchmark interest rate in September as many economists predict.
Some traders speculated that December, and possibly even early
2016, is increasingly becoming a more likely moment for the Fed to
move.
Both bond yields and the dollar fell sharply on the report,
illustrating investors' intense preoccupation with the timing of
the first rate increase in nearly a decade. Friday's moves also
foreshadow the heightened volatility that many traders anticipate
as the September meeting nears.
Friday's rally in Treasurys pushed the yield on the 10-year
Treasury note to its biggest monthly decline since January. The
yield on the two-year note, among the most sensitive to changes in
the outlook for Fed policy, also tumbled. Bond yields fall when
prices rise.
Many market watchers agree that when the Fed does raise rates
from near-zero levels, it will move slowly, which should cap moves
across stock, bond and currency markets. But big prices swings are
still likely, analysts say, as investors track economic data to
position themselves for a September, December or even 2016 rate
increase.
"The markets are justifiably sensitive right now, especially
when relevant economic data come in at extreme levels, and the
market is already 50-50 on the Fed hiking interest rates in
September," said Shahab Jalinoos, currency research analyst at
Credit Suisse.
The Fed has been monitoring the employment market closely. After
its most recent two-day policy meeting that ended Wednesday, the
central bank acknowledged that it is still on track to raise rates
this year due to gains in the U.S. labor market.
The U.S. employment-cost index, a measure of workers' wages and
benefits also known as ECI, rose a seasonally adjusted 0.2% in the
second quarter from the first quarter. That fell below Wall Street
expectations for a 0.6% increase.
Steven Englander, head of developed-market currencies strategy
at Citigroup said the ECI was a "huge shock." He added: "People are
now thinking this number will give the Fed pause."
In the moments immediately after the report's release, the
dollar sank as much as 1.7% against the euro before paring most of
the losses later in the day. In late New York trading on Friday,
one euro bought $1.0984, compared with $1.0933 late Thursday.
Despite Friday's selloff, the dollar rose 1.4% against the euro
for the month of July.
While the U.S. economy picked up speed in the second quarter
after a soft patch, Fed officials and investors are grappling with
how to interpret sluggish global economic growth and subdued
inflation. Commodities in recent days have resumed falling. And
Chinese stocks in July posted their biggest monthly selloff in six
years, heightening concerns over the slowdown of the world's
second-largest economy.
The prospect of higher rates has lured fund managers to the
dollar, sparking a rally in the greenback last year that sputtered
early in 2015 amid a soft patch in the U.S. economy. Since then,
the dollar has gyrated on economic indicators and remarks by Fed
officials.
The yield on the benchmark 10-year Treasury note on Friday fell
to a three-week low of 2.207% from 2.268% Thursday. The yield on
the two-year note slid to 0.676% from a one-month peak of 0.731% on
Thursday.
The labor cost report "is a red light for the Fed," said
Jonathan Lewis, chief investment officer at Samson Capital Advisors
LLC, which has $7.4 billion in assets under management. "This
economic recovery is not strong enough to generate consistently
positive economic data, let alone consistent upward pressure on
wages."
Mr. Lewis said he is skeptical the Fed can raise rates in
September and added that Friday's report is "a green light for
investors to move out of cash and into bonds."
The odds of a rate increase by the Fed at the September policy
meeting were 38% Friday, compared with 48% Thursday and 40.5% a
week ago, according to traders. The odds for a rate increase at the
December meeting were 68.4 % Friday, compared with 80.5% Thursday
and 71.7% a week ago.
The calculations are based on implied yields from fed-funds
futures which are used by investors and traders to place bets on
central-bank policy.
Federal Reserve Bank of St. Louis President James Bullard played
down the ECI report, saying that the Fed is in "good shape" for
increasing the rate target at the Sept. 16-17 meeting. Mr. Bullard
doesn't currently hold a vote on the Fed's policy-making
committee.
The Dow Jones Industrial Average shed 56.12 points, or 0.3%, to
17689.86, on Friday, dragged down by a decline in shares of big oil
companies that reported weak earnings. The move lower was muted by
Friday's wage report and the prospect of ultralow rates for
longer.
The nonfarm payrolls report due next Friday is expected to show
215,000 new jobs were added in July, in line with the recent trend
of strong employment growth. Some traders played down the
importance of the wage report, saying that the two job reports
ahead of the September Fed meeting will weigh more heavily.
Daniel Mulholland, senior U.S. Treasury trader at Crédit
Agricole in New York, said the door remains open for the Fed to
raise rates in September amid solid jobs growth. Fed Chairwoman
Janet Yellen "has previously told us that wage growth is not a
pre-condition for rate hikes," said Mr. Mulholland. "The Fed has
told us they will be data dependent and there are two more payroll
reports prior to" the Fed's next policy meeting in September, he
said.
"Data dependency is a nice option for the Fed, but it makes the
market more prone to overshooting in either direction after each
major data release," said Zhiwei Ren, managing director and
portfolio manager at Penn Mutual Asset Management Inc., which has
$20 billion assets under management.