When Will We Return to Full Employment?
The price action driving markets lately has been the outlooks on the latest stimulus proposal in DC, news on the vaccination roll-out, and an eye on the virus variants and whether they are getting a foothold in the U.S.. That being said it is jobs week and this morning we have the ADP Employment Change Report for January and that report saw 174,000 new private sector jobs which easily beat the 70,000 expectation. Also, December’s disappointing loss of 124,000 jobs was revised up with a loss of 78,000. Friday’s BLS employment report is expecting 70,000 new jobs versus 140,000 lost in December which came exclusively from the hospitality sector as increased lockdowns took hold in the virus-sensitive restaurant/bar, and travel sectors. In any event, job gains have slowed markedly in recent months but the expectation lifting equities and bond yields is that that improves in the coming months. If job gains don’t turn markedly higher getting to full employment will be years away, and so too the likelihood of tapering and higher fed funds rates.
Economic News
Besides January’s job numbers, this week also brings with it the pair of ISM readings (manufacturing and services) for January. The manufacturing sector reported yesterday with a 58.7 reading versus 60.0 expected and 60.5 in December (recall 50 represents the dividing line between an expanding and contracting sector). While January was just shy of expectations it was a solid report and weakness came in supplier delivery times and operators reporting slowdowns due to sickness and absenteeism indicating some trouble in getting enough workers to handle the work load.
The services sector will report later this morning and it’s expected to be solid as well but off slightly versus December 56.7 vs. 57.7. The question is if we still have approximately 10 million workers without jobs caused by the pandemic where are those new jobs going to come from? The manufacturing sector appears to be going flat-out so expecting big gains there doesn’t seem likely. Also, manufacturing represents only 10% of the economy. That leaves the services sector to fill most of that 10 million job void. While December saw a hit to jobs from renewed lockdowns, when virus case counts recede and the full panoply of service businesses open will that provide the catalyst to fill those 10 million jobs? With the ISM Services index already near a multi-year high it seems unlikely it will be able to deliver on huge job gains. The Fed has feared a certain amount of long-term scarring to the economy from the pandemic and that could be the case when it comes to expecting the labor market to return to its pre-pandemic levels.
30-Year MBS Yield Spread to Treasuries at Multi-Year Low
Easily the largest sector in our bond accounting group of banks is the MBS/CMO sector. In the quarter just ended, on average 59% of investment portfolios were comprised of MBS/CMO category with the lion share of that in MBS pools. That percentage increased over the past year as the December 2019 allocation was 56%. In addition, in the fourth quarter alone MBS/CMO investments led purchases with a 46% share of total buys. Of those MBS/CMO purchases, 30yr MBS comprised 47% as investors sought to grab as much yield as possible via duration risk.
As the graph above shows, our bond accounting group (which totals over 130 banks and more than $10 billion in par), weren’t the only ones loading up on 30-year MBS pools. The yield spread of a current coupon FNMA 30-year pool is at 67bps above a 5yr/10yr Treasury blend which most closely resembles the duration of the 30-yr pool. So, while nominal Treasury yields have risen in recent months as investors look towards a more robust economy in the second half of 2021, MBS yields are not keeping pace as demand remains strong as evidenced by our bond accounting group which seems to mirror fixed income investors across the country. We’re not saying to sell here, but if you need to take profits for whatever reason this would be one sector that likely has handsome unrealized gains in your portfolio.
Agency Indications — FNMA / FHLMC Callable Rates
| Maturity (yrs) | 2 Year | 3 Year | 4 Year | 5 Year | 10 Year | 15 Year |
|---|---|---|---|---|---|---|
| 0.25 | 0.06 | 0.17 | 0.39 | 0.66 | 1.58 | 2.04 |
| 0.50 | 0.05 | 0.15 | 0.33 | 0.55 | 1.44 | 1.93 |
| 1.00 | 0.04 | 0.11 | 0.29 | 0.50 | 1.34 | 1.80 |
| 2.00 | – | 0.10 | 0.24 | 0.43 | 1.23 | NA |
| 3.00 | – | – | – | 0.38 | 1.16 | NA |
| 4.00 | – | – | – | – | 1.12 | NA |
| 5.00 | – | – | – | – | 1.08 | NA |
| 10.00 | – | – | – | – | – | NA |
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