Market Expectations of a December Rate Hike Near 100%
Stocks finished Wednesday’s session lower in a volatile day of trading as a number of negative items put pressure on the domestic averages. The major indices began the day near unchanged after a quiet session internationally. Intraday trading was heavily influenced by domestic news.
First, the ADP employment report showed that the private sector added 217k jobs in the month of November. This is positive news as it appears employment trends remain consistent for what we’ve seen throughout the balance of 2015. The positive nature of trading following the ADP data was short lived as crude oil began to tumble lower. This put pressure on energy stocks and high yield bonds. Selling accelerated in the afternoon following a press conference from Fed Chair Janet Yellen where she reiterated her stance that the Fed would likely move to raise rates at the December meeting. The headlines about Yellen’s press conference accompanied with the terrible news about a shooting in San Bernardino, California resulted in quite a bit of pressure to the downside into the closing bell.
The S&P 500 lost what it had gained on Tuesday, falling -1.10% to end the day at 2079.51. Trading volume was equal to levels that we saw on Monday and Tuesday which were about average for what we’ve seen throughout the year. The advance/decline margin was indicative of broad selling with over three stocks closing lower for every share that managed to end the day in positive territory. Every S&P 500 subsector ended the day with losses on Wednesday. Shares of energy stocks led the way lower, declining by over -3.00% on the day as crude oil prices dipped below $40 per barrel for a short period of time. Shares of utilities stocks were also weak throughout the course of the day. Both the consumer staples and technology sectors registered the smallest intraday losses. The entire commodity complex was under selling pressure yesterday. Crude oil led the way lower but other commodities such as grains and precious metals declined substantially on Wednesday. Bonds were broadly mixed yesterday. Treasuries ended the day with a modest gain following the numerous negative headlines and the justified concerns over the shooting in California. High yield bonds ended the day lower thanks to the fall in crude oil prices and worries over the ability of smaller oil companies to maintain their debt covenants with declining cash flows due to low oil prices.
In Janet Yellen’s press conference yesterday, she stated she was “looking forward” to a U.S. interest rate hike in December. Yellen said it would be a testament to the economy’s recovery since the financial crisis. Realistically, Yellen didn’t say anything different than she had in some previous press conferences. She mostly reiterated the case for a rate hike in December. Following her comments, the market is pricing the odds of a rate hike as a near certainty. The common assumption for a 0.20% hike is 96% while the odds of a 0.25% hike are at 77%. The odds of a December rate hike have been moving steadily higher following the October employment report. What’s interesting is that the market has shown incredible resiliency as the odds of a rate hike have steadily moved higher. Since the start of November, the S&P 500 and the odds of a rate hike have moved in tandem. This was, of course, until yesterday when comments about a rate hike were met with heavy selling. This likely has to do with the fact that the data that has been reported in November has decelerated from October. Janet Yellen is scheduled to speak again today and her stance is unlikely to change. It will be interesting to see whether the market’s expectations and reaction to hawkish Fedspeak changes over the course of the next month.
We are seeing a substantial amount of volatility in markets this morning following the much anticipated European Central Bank decision about rates and the future of quantitative easing. On the balance, the decision is a massive disappointment to what the market was expecting. Market participants were expecting the European Central Bank to trim its deposit benchmark rate while expanding its bond buying program. ECB President Mario Draghi hinted previously that the ECB would expand stimulus in the December meeting. Unfortunately, participants were disappointed as Draghi failed to deliver any substantial increase in quantitative easing. European markets sold off substantially following the news and the Euro took off like a rocket relative to the U.S. dollar. Both the equity markets and the Euro currency had priced in additional easing by the ECB. Domestic markets also gave up all of their gains following the ECB announcement. They had been trading well in positive territory in anticipation of the announcement. The economic calendar is extremely heavy today with a reading on the services sector of the U.S. economy due shortly after the opening bell. Weekly jobless claims were released prior to the opening bell and remain extremely low relative to the aggregate size of the labor force. Claims came in at 269k versus expectations of 268k. Claims continue to suggest an extremely healthy labor market. Over the next 24 hours it’s reasonable to expect a great deal of volatility as the market continues to digest both the ISM services report and the employment report. Both of these will have a major impact in the future of Fed policy which will be analyzed under the microscope even more after the ECB failed to deliver on expectations this morning.