Key Points
- ADP National Employment Report estimates that the private sector shed 32,000 jobs in November.
- Traders are pricing in an 89% chance of a 25-basis-point rate cut by the Fed on December 10.
- ISM Manufacturing and Services PMI shows inflation is not yet under control.
- A rate cut will likely weaken the Dollar, increase demand for real assets, and drive up long-term yields.
The ADP National Employment report estimates that the economy lost 32,000 jobs in November, the 3-month moving average turning negative for the first time since the height of the pandemic in August 2020.
Losses are heavily weighted toward small firms, which have taken a hit from tariffs, shedding 120,000 jobs in November, while mid-sized firms added 51,000 jobs and large firms 39,000.
The Fed is expected to announce a 25-basis-point rate cut on December 10 in response to weak jobs data. Markets are pricing in an 89% probability of a cut, with the discount rate on 13-week T-Bills falling below the Fed’s current 3.75% to 4.00% target range for the fed funds rate.
Other parts of the economy remain resilient, with the ISM Services PMI increasing to 52.6% for November, well above the 48.6% breakeven level typical of past contractions.
New orders also signal expansion, but the rate slowed to 52.9%.
Employment has improved over the past four months, but remains in a contraction.
Most importantly, from the Fed’s perspective, 65.4% of enterprises reported increased prices, down from 70% in October but still reflecting strong inflationary pressures.
The Manufacturing sector reported similar price rises in November, though the rate of increase is slowing.
Financial Markets
The Chicago Fed National Financial Conditions Index edged higher to -0.522 for the week ending November 21.
Dynamic indicators, however, like Bitcoin below, continue to warn of a sharp contraction in financial market liquidity.
The secure overnight financing rate (SOFR) jumped to 4.12%, above the 4.0% rate the Fed charges on its standing repo facility (SRF), signaling that the Fed is struggling to control pricing in the $12 trillion repo market. Repo lending is primarily secured by US Treasury Bills and Notes, and a spike in the SOFR repo rate would trigger a sharp sell-off in the Treasury market.
Rising long-term yields in Japan and Europe are sucking liquidity out of US financial markets. The Bank of Japan (BOJ) is also expected to hike its policy rate on December 18, with the 3-month Japanese Government Bill discount rate jumping to 0.633%, well above the current 0.50% policy rate.
A BOJ rate hike would likely trigger a sell-off in US financial markets as hedge funds unwind large carry trades funded in Japanese Yen.
The US Dollar Index broke support at 99 and is expected to fall sharply in December, taking a double hit from a Fed rate cut and a BOJ rate hike, which would narrow the current spread by an estimated 50 basis points.
Treasury Markets
Long-term Treasury yields are softening in anticipation of a Fed rate cut, but could face a sell-off amid tightening liquidity.
Stocks
The S&P 500 also rallied in anticipation of a Fed rate cut, but again, the rally risks being undone by contracting liquidity.
Mag 7 technology stocks continue to show gains over the past 6 months, apart from Meta Platforms (META), with Alphabet (GOOGL) building an advantage in the competition to lead AI.
Small caps are also strengthening, with the Russell 2000 ETF (IWM) testing resistance at 250.
Gold & Silver
Gold is retracing to test support at $4,200, with high prices taming investor enthusiasm for the present.
Silver is consolidating in a narrow band above support at $58 per ounce. Respect of support would confirm our target of $62.
Energy Metals
Energy metals are another prospective inflation hedge for investors.
The Sprott Uranium Miners ETF (URNM) broke resistance at 56, joining copper and lithium miners in an uptrend.
The Sprott Copper Miners ETF (COPP) broke resistance at 31.50, confirming a fresh advance.
Sprott Lithium Miners ETF (LITP) is also in an uptrend since breaking resistance at 11.
Conclusion
Forced to choose between its two mandates, the Fed seems willing to prioritize maintaining full employment ahead of stable prices. Cutting rates while the unemployment rate is low (below 5.0%) may please President Trump, who wants to run the economy hot, but risks a sharp rebound in inflation.
High inflation would lower the debt-to-GDP ratio but would likely increase outflows from US Treasury markets and raise long-term interest rates as international bond investors demand a higher risk premium. It would also later necessitate a sharp increase in interest rates to get the genie back in the lamp.
Falling Bitcoin prices and rising secure overnight funding rates in the $12 billion repo market signal tight liquidity in financial markets. Unwinding carry trades may destabilize financial markets if the Bank of Japan hikes its policy rate on December 18 as expected. A Fed rate cut and a BOJ rate hike would narrow the current carry trade spread by an estimated 50 basis points, risking a sharp sell-off in several trillion dollars of US assets financed in Yen.
The danger is that the Fed may reintroduce QE to stabilize the repo market, as it did during the last Powell pivot in September 2019.
Demand for gold, silver, and energy metals — copper, lithium, and uranium — is likely to increase as concerns over inflation grow.
Acknowledgments
Colin Twiggs is a former investment banker with almost 40 years of experience in financial markets. He co-founded Incredible Charts and writes the popular Trading Diary and Patient Investor newsletters.
Using a top-down approach, Colin identifies key macro trends in the global economy before evaluating selected opportunities using a combination of fundamental and technical analysis.
Focusing on interest rates and financial market liquidity as primary drivers of the economic cycle, he warned of the 2008/2009 and 2020 bear markets well ahead of actual events.
He founded PVT Capital (AFSL No. 546090) in May 2023, which offers investment strategy and advice to wholesale clients.
