Problem for Stocks: Macro Fundamentals Moving in Right Direction, But More Needed

The stock market should continue to trade cautiously this week, even though stocks tend to rise in the Thanksgiving week.  The focus is on Fed policy, and key US economic data are not due for another week.  

The macroeconomic fundamentals are moving in a favorable direction for the Fed, but officials' recent comments suggest they have not moved enough.  So, while a downshift to a 50 BP hike at the December 13-14 FOMC meeting appears to be the prevalent opinion, some officials have continued to highlight the possible need to raise the endpoint of the funds rate in this tightening episode.  This possibility will likely be mentioned in the November FOMC Minutes, released this week.  Endpoints of 5.0-7.0% have been mentioned. 

The Labor Market is one area that is moving in the right direction but has a long way to go.  Payrolls have slowed and the Unemployment has risen.  But, Fed officials would probably like to see the Rate move up a percentage point above its latest 3.7% level.  This would require a much more substantial slowdown in job growth, possibly to below 100k m/m.  Also, while Job Openings fell sharply in September, they were still well above pre-pandemic levels.  They need to fall another 3 Mn to get there.   Fed officials view the overage as a measure of excess labor demand.  

The Claims data so far don't suggest a significant further softening in the labor market, but one more week's data are needed for a complete picture.  The 4-week average of Initial Claims is only slightly higher than it was going into the October Payroll Survey Week-- 219k versus 212k.  It suggests a modest increase in layoffs this month, despite recent headlines.  Continuing Claims so far are higher than in the October Survey Week, suggesting hiring has slowed. But the increase still hasn't matched the increase between the September and October Survey Weeks.   Another week's data are needed to see if this changes.  The Insured Unemployment Rate so far remains at 1.0%, suggesting little change in the Civilian Unemployment Rate.  

The layoffs that have happened so far appear to have more to do with improving efficiency than adjusting to lower demand for products.  The Atlanta Fed model's latest estimate of Q422 Real GDP Growth is 4.2% (q/q, saar).  If correct, the strong output growth would likely translate into a bounce in Productivity.  This would be a good development for the fight against inflation.  But, such a high GDP growth rate would be a concern to the Fed, particularly if this pace is seen persisting into 2023.  An overheating economy, not recession, would become their chief worry.  It could lead to a return to 75 BP hikes.