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Higher interest rates are no longer investors’ biggest worry. That’s clear because of how the U.S. stock market reacted in the immediate wake of the better-than-expected December jobs report, released the morning of Dec. 6.
The Labor Department reported that the U.S. economy added 266,000 new jobs in November, well-above the 180,000 figure that had been the consensus expectation of economists surveyed by MarketWatch
You’d have thought that this news would have upset investors, since it both reduces the likelihood the Federal Reserve will reduce rates and perhaps even increases the likelihood of an increase. In the wake of the jobs report, for example, gold bullion dropped 1.3% as investors realized that higher rates would cause the U.S. dollar DXY, -0.10% to strengthen.
The stock market was a different story, as you can see from the accompanying chart. Far from dropping, stocks rallied sharply on Friday — rising nearly as much as gold fell. What this means, according to a landmark study from two decades ago: Investors collectively are now more concerned about a U.S. economic downturn than about higher rates.
The study, “The Stock Market’s Reaction to Unemployment News: Why Bad News Is Usually Good for Stocks,” was published in the Journal of Finance in 2005. Its authors are John Boyd, a finance professor at the University of Minnesota; Jian Hu of Moody’s Investors Service; and Ravi Jagannathan, a finance professor at Northwestern University.
This preoccupation with a possible recession represents a shift from the situation that prevailed earlier this year. As recently as this summer, the markets’ reaction to unemployment news was just the opposite — suggesting that investors were more concerned about higher interest rates than a possible recession.
No longer, investors now appear to be “more concerned about economic slowdown and the possibility of a recession,” Jagannathan noted in an email Friday after the jobs report was released.
The investment implications of this shifting preoccupation include:
• The Fed now has more room to raise rates. Up until now it had been harder for the Fed to even think about raising rates because the markets threw a fit at the mere prospect. Just remember a year ago, when the stock market plummeted in the wake of the Fed’s December 2018 rate hike.
• Trade negotiations with China take on even more significance than they had already. That’s because the major short-term threat to economic health would be an escalation of the trade war with China. Look to the stock market reacting even more intensely to the latest presidential tweets about trade.
• The U.S. economy is skating on thin ice. What previously might not have pushed it over the edge now has the potential to do so. There is little room for error, in other words. This is probably why value stocks have started to reassert themselves over growth stocks, since the latter are especially vulnerable to even a hint of economic trouble.
Mark Hulbert is a regular contributor to MarketWatch. His Hulbert Ratings tracks investment newsletters that pay a flat fee to be audited. He can be reached at mark@hulbertratings.com
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