Friday's surprisingly robust jobs report has triggered fresh debate about dialing back the Federal Reserve's $85 billion-per-month quantitative easing program.
The report showed that the U.S. economy added 204,000 jobs in October, 70% above the consensus estimates of 120,000 new jobs. It also included upward revisions for the jobs reports from both August and September.
The positive data followed a Thursday report showing that the economy was growing at 2.8% clip, or about 40% above what analysts were forecasting.
Meanwhile, the unemployment rate on Friday was adjusted slightly higher to 7.3% from 7.2%, an increase that market analysts see as an anomaly related to the recent government shutdown.
“I think the Fed can take some confidence from these reports and really put tapering back on the table,” said Dan Heckman, fixed-income strategist at U.S. Bank Wealth Management.
“I wouldn't be surprised to see a taper announcement from the Fed this year and with tapering starting in January,” he added. “There are good reasons to go ahead with tapering now, and it is certainly going to be a topic that gets moved to the front burner and will be more on the minds of investors.”
(But Fed's Lockhart says Fed can't rule out QE tapering next month.)
As if on cue, the bond market took the jobs data and treated it as tapering announcement, driving the yield on both the 10-year and 30-year Treasury bonds up about 15 basis points. Meanwhile, stocks rallied, with the Dow Jones Industrial Average climbing 168 points, or about 1.1%, to a record 15,761.80. The S&P 500 index added 1.34%.
“The market is saying we probably should have tapered in September, and that's why we're getting the sell-off in Treasuries now,” said Dan Toboja, vice president of fixed income at Ziegler Capital. “I think this latest data definitely puts tapering back on the table. Right now, the market is telling you it's ready for tapering and it's giving you an excuse to do it now.”
One of the major wrinkles with regard to tapering is the impact of the head fake that Fed Chairman Ben S. Bernanke threw the financial markets in September by not beginning to taper after implying in May that such a move would be imminent.
“This time around, I'm not sure you'll see the same kind of buildup you saw in September when the markets thought there would be some tapering,” said Cam Albright, director of asset allocation at Wilmington Trust Investment Advisors.
Mr. Albright, who believe there now is a 50% chance of a tapering announcement this year, said any Fed action will still be heavily data-dependent and will be driven especially by the next jobs report, which comes about 10 days before the December Fed meeting.
The other major wrinkle that could be stalling tapering activity is the fact that Mr. Bernanke is expected to pass the Fed chairmanship to Janet Yellen on Feb. 1.
That reality has sparked a new level of handicapping around the unprecedented five-year quantitative easing program, which has already swelled the Fed's balance sheet to beyond $3 trillion.
“If Bernanke were going to remain, tapering would certainly be back on the table now, but it all has to do with the transition of power at the Fed, and that's one of the reasons they didn't taper in September,” said Sean Clark, chief investment officer at Clark Capital Management Group.
“Janet Yellen's stamp will be to begin tapering at her will,” he added. “And there's a potential for her to make Bernanke look hawkish by comparison.”
And then there are those like Dan Veru, chief investment officer of Palisade Capital Management, who believes the Fed's motivation for tapering has gone well beyond the stated dual mandate of managing inflation and employment.
“I don't want to make too much out of two discreet pieces of specific data, but 200,000 is not enough to force the Fed to start tapering,” he said, referring to the number of jobs added in October. “I think it's wrong to assume that the liquidity is going away, because this decision to taper is also subject to political winds and there's another big budget debate coming in January.”
With tapering essentially off the table, Mr. Veru thinks the stock market can gain add another 3% to 5% between now and the end of the year.
The backburner theory is also supported by Paul Schatz, president of Heritage Capital LLC.
“Before the jobs report we were hearing consensus estimates that tapering would possibly start in March, but it could be as far away as June, but now suddenly people are saying tapering is back on the table,” he said. “I just don't believe one jobs report changes the Fed's plan.”
Mr. Schatz, who sees the stock market gaining at least another 2.5% by January, doesn't believe the economy is even strong enough to absorb any reduction on the quantitative easing program.
“I don't believe the market or the economy can stand on its own two feet year, so as long as there's no inflation I think they should increase quantitative easing,” he said. “In our economy right now, banks, housing, and everything is predicated on historically low rates, and if rates begin to spike imagine what that does. The fed cannot afford that ah-ha moment.”
