Weekly Investment Update (06/02/2023)

Labor Market Remains Tight Though Fed Pause Still Likely

The labor market remains tight though it has started to soften at the margin as labor demand and supply show early signs of rebalancing. Current labor market data are strong, with job openings elevated compared to historical levels and jobless claims near historical lows. Still, claims data have increased modestly in recent months, a sign the labor market may be loosening.

Friday’s jobs report similarly showed strong headline job growth, though wage pressure eased beneath the surface, a development that is likely to be well received by the Fed. Non-farm payrolls saw a stronger gain than consensus forecasts, rising by 339,000 with an increase in net revisions of 93,000 over the prior two months. However, average hourly earnings growth eased modestly to 4.3%, and the unemployment rate rose from its record lows to a seven-month high of 3.7% as the labor force participation rate held steady at 62.6%. Wage pressures should continue to ease as the labor market rebalances further, leading to additional declines in core services inflation.

Despite the stronger than expected labor market report, the Fed is likely to pause at its June meeting. Fed futures pricing remained largely unchanged after the release of the employment data with the probability of a June hike hovering around 25%. Many officials agree on the need to retain optionality as it relates to the direction of rates in future meetings after hiking 500 basis points since early 2022. The Fed is facing competing goals in its efforts to tame inflationary pressure, in part through a more balanced labor market, while maintaining financial stability. Though the labor market remains tight, signs of rebalancing are emerging, and we believe the recent labor market report does not meaningfully reduce the likelihood that the Fed will pause rate hikes at its next meeting.

Markets Show Relief as Debt Ceiling Resolution Is Close to Law

President Biden and House Speaker McCarthy reached a deal to suspend the debt limit until January 1, 2025. After making it through the House and the Senate, the legislation awaits President Biden’s signature. With the president indicating his intent to sign the bill into law on Friday, June 2, the bill appears set to pass before the updated June 5 “X” date.

The legislation, known as the Fiscal Responsibility Act, suspends the federal government’s $31.4 trillion debt ceiling in exchange for spending caps. Nondefense discretionary spending was held largely flat, though there are modest increases in defense spending. Additionally, the deal includes restart of student loan payments in September, expanded work requirements for social assistance, and energy permitting reform, an unexpected addition. The defense and energy sectors appear to be marginal winners in the debt ceiling resolution, given the agreement to increase defense spending in 2024 as well as to adjust environmental review timelines.

As the legislation progresses to the president’s desk, market concerns have eased as investors are relieved to see the removal of the worst-case default scenario. Equity futures rallied and yields on one-month Treasury bills maturing in early June have declined after reaching a 7% yield last week. Once signed into law, the Fiscal Responsibility Act will delay the next debt ceiling debate past the 2024 presidential election. However, one downside risk we are monitoring is the potential for liquidity to be strained as the Treasury issues T-bills in order to refill the Treasury General Account.