The Fed Is Still Confused About Maximum Unemployment

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The Fed Is Still Confused About Maximum Unemployment
<a href="https://pixabay.com/users/TheHilaryClark/">TheHilaryClark</a> / Pixabay

In his Daily Market Notes report to investors, while commenting on the Fed’s confusion over maximum unemployment definition, Louis Navellier wrote:

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Q1 2021 hedge fund letters, conferences and more

The Amazon Union Vote

The Amazon union vote may be more smoke than fire.  There are approximately 200 distribution centers and the union vote is being caried out at just one of them.  It is the second union vote in a decade.  Perhaps most important, with employment in disarray from the pandemic, unions don't have much leverage at the moment.

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PPI Inflation data reported, strangely delayed by web site problems came in at 1.0% vs 0.2% estimated. Ex-food and energy 0.7% vs 0.2% est. Y-O-Y +4.2%, the second largest ever.  Despite the confirmation of strong inflation numbers, US Treasury rates did not jump to recent highs and the stock market continues to rise to new all time highs on continued recovery hopes.  It will take noticeably higher interest rates to slow down the stock market.

Expectations for Q1 earnings are high: S&P EPS estimates (YOY) Q1 +24.2%,  Q2 +54.1%. It will be interesting to see how forthcoming guidance will be after not much at all in 2020 understandably.   There are clearly easy comps against the pandemic of 2020, but going forward cost savings from much reduced business travel and lingering work from home mandates may become permanent cost savings and lead to even higher earnings estimates in 2022, propelling stocks even higher.

U.S. Stock Market Tolerates The Rise In Long-Term Interest Rates

The tone of trading in March was that the U.S. stock market tolerated the rise in long-term interest rates as long as it was not disorderly or too quick. The 10-year Treasury rate traded all the way up to 1.77% last week, and we may very well surpass that level this week as investors take time to react to the jobs data.

On the present trajectory, we are on track to surpass 2% in 2Q’21. From a historical perspective, the Fed decided to peg the 10-year Treasury at 2.5% or lower in the 1940s to facilitate the war effort, which in effect meant facilitating deficit spending that otherwise the bond market could not stomach on its own.

While defeating Nazi Germany and its allies was a political motivation that made deficits acceptable in the 1940s and gave the Fed a mandate to intervene in the interest-rate markets, I am not sure deficit spending that goes well beyond dealing with the effects of the COVID pandemic is. It remains to be seen what the Powell Fed will do, but so far, I get the feeling they expect market forces to keep Treasury yields under control as there are simply no yields to be had in either Japan or the eurozone.

The Commerce Department reported on Wednesday that the trade deficit surge 4.8% in February to $71.1 billion as exports declined 2.6% to $187.3 billion and imports slipped 0.7% to $258.3 billion.  Since the Port of Houston was compromised during the big freeze in February, this trade deficit data is really an anomaly.  Unfortunately, bigger trade deficits cause economists to trim their GDP forecasts, so this might impact some first quarter GDP estimates.

The Labor Department on Thursday announced that weekly jobless claim in the latest week rose to 744,000, up from a revised 728,000 in the previous week.  Continuing unemployment claims declined a bit to 3.734 million compared to a revised 3.75 million in the previous week.  Economists were expecting weekly jobless and continuing claims to come in at 680,000 and 3.638 million, respectively, so economists were clearly too optimistic after a stunning March payroll report.  Nonetheless, the labor market is still improving as Covid-19 restrictions continue to be lifted in many states and economic activity resurges.

Confusion About The Definition Of Maximum Unemployment

Interesting, the minutes from the latest Federal Open Market Committee (FOMC) meeting revealed that the Fed has not clarified what unemployment rate would meet its "maximum unemployment" definition.  Most economists believe that the definition of maximum unemployment is between 4% to 4.5%.  The FOMC minutes revealed that the Fed would continue with its quantitative easing until it saw “substantial further progress.”  A couple FOMC members expressed concern that the Fed’s current “highly accommodative financial conditions could lead to excessive risk-taking and the buildup of financial imbalances.”  However, these two FOMC members were definitely in the minority.  Overall, the FOMC minutes revealed that the vast majority of its members were in sync with the Fed’s polices designed to achieve its inflation and unemployment mandates.

JP Morgan CEO, Jamie Diamond, called the Biden’s Administration’s proposed $2.3 trillion infrastructure plan an economic “Goldilocks moment.”  Essentially, Diamond is expecting fast, sustained economic growth with inflation as well as interest rates meandering higher.  As a banker, Diamond knows that the money supply has soared in the past year and that money is looking for a place to go, which is why the housing market and stock market has benefitted immensely.  Due to all the money circulating at banks, the Fed a while ago loosened up its capital requirements on banks and also allowed them to resume buying back their shares.  If the bankers are happy, investors should also be happy.

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