Perspective: Morning Commentary, 12/04/2015

Friday, December 04, 2015

December 4 – The markets anticipate and react when events differ from expectations. Such was the case Thursday when the European Central Bank failed to expand its asset purchasing program, but merely extended it instead. The euro rallied more than 3% at times during the day, causing more than a 2% decline in the dollar. The greenback retraced a third of the rally of the past two months in one session.

The other major expectation anticipated by the market is a U.S. Federal Reserve rate hike on December 16. That expectation has already been built into the market. The ECB’s failure to expand its monetary easing modifies how the market prices it into the currency market, but the expectation for action remains nonetheless. The Fed is expected to raise its base rate off zero by 25 basis points, with the next rate hike not coming again for a minimum of the next two to three meetings.

The last major data point left for the Fed ahead of the anticipated rate hike was this morning’s monthly jobs report. The Department of Labor reports that the economy created 211,000 jobs in November, beating expectations of 190,000. The previous two months were revised higher as well, with October up to 304,000 jobs created from 271,000 previously. The unemployment rate remained unchanged as expected. The U6 number remains near 10%. Hourly earnings rose 0.2% month-on-month as expected. The average work week was unchanged at 34.5 hours, down slightly from 34.6 hours the previous month.

The jobs report provided few if any surprises and is being heralded as a “good” report from the standpoint that it provided nothing to derail market expectations of a rate hike December 16. The Fed has painted itself in a corner, building those market expectations that it will happen in an unprecedented manner. They saw the results of building expectations and failing to meet them following the ECB’s actions on Thursday. They do not want to create a similar market reaction on the 16th.

The Fed missed its best opportunity to raise rates earlier this year. Expectations have been built, putting the Fed in a position of needing to raise rates at a time when some would argue that the window of opportunity is closed. As such, the debate has already started as to whether the Fed should raise rates a second time several months for now, or whether it will be faced with having to lower them once again. The bottom line is that the December 16 decision will likely not free the markets from a constant focus on Fed action, or lack thereof. That’s not good.

OPEC meets in Vienna today to discuss changing its production policy that has flooded the world with crude oil over the past year. Venezuela is calling for production cuts, while Iran wants to ramp up its production to 4 million barrels per day as sanctions are lifted before cuts are imposed. Saudi Arabia wants nations outside of OPEC to participate in cuts before they can be implemented. Perhaps the larger driver is the fact that Saudi Arabia likely has little desire to see several of its political foes benefit from higher prices. Low prices are hurting Saudi Arabia’s budget, but it is a low-cost producer and can likely survive at current prices a bit longer.

The dollar is having a big day following the jobs report, although gains thus far are dwarfed by Thursday’s big losses. Nonetheless, the strength of the dollar is triggering renewed selling in the broader commodity sector, with crude oil leading the way lower. China is moving forward with reforms to further cut grain support prices for the 2016 crop, while likely subsidizing end users to reduce corn imports. Argentina is moving forward with reforms as well. This leaves the grains looking for a distant weather story.

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