The Daily Fix: Traders Position Ahead of Nonfarm Payrolls and Fed Risk

Some of the braver and perhaps more sophisticated/niche players will place tactical trades around the jobs data, but most in markets see payrolls as an event to manage, and consider the propensity for volatility and intraday cross-asset movement and ultimately conclude that they have little edge in gauging how broad markets could or even should react. 

In the lead-up to NFP, the various other US labour market releases have certainly failed to raise the probability that hiring will materially surprise to the upside. Instead, expectations remain skewed towards further slowing and broad market positioning is set for a job's reports that leans on the weaker side of the outcome distribution. ADP payrolls came in light at 54k. The ISM manufacturing employment component slowed markedly in August, as did the ISM services employment gauge. We also saw the labour market 'Differential' in the CB consumer confidence report shift, with more respondents saying, 'jobs are harder' to get than 'plentiful'. This ratio has historically correlated well with the US unemployment rate, suggesting some upside risk to the consensus of 4.3%. 

The reality is that few see these alternate labour market releases as offering any meaningful insights or steer into the NFP report itself, making it difficult to adequately price expectations and risk. 

The tactical trading play for payrolls 

We know the Fed has placed weight on the NFP outcome, so naturally market players are fixated on it too. This suggests the period around payrolls will be messy from a price action perspective, with algos reacting immediately to the numbers and liquidity thinning out. How markets ultimately react is tough to plan for — the first move may not be the final move. The clear tactical play is to hold out and put money to work in trades once the collective has had some time to truly digest the data, assess its implications for Fed policy, and consider whether it possibly fuels concerns that the Fed is behind the curve or even that the labour market is perhaps more resilient than feared... 

Eyeing the prospect for a 25bp vs 50bp cut debate 

US interest rate swaps already price a 25bp Fed cut in September at almost 100%, and 60bp of implied Fed cuts by December, so the bar to cutting is set fairly low. It would take a sufficiently hot jobs outcome — say over 150k, unemployment at 4.2%, and positive revisions — to derail that view and cut the pricing for a September cut to around a 50% probability. Alternatively, to see the IR swaps market price a premium for a 50bp cut at the 17 Sept FOMC meeting, and bring a 25bp vs. 50bp debate into play, the totality of the report would need to really break down to bring more of the centrists within the Fed's ranks away from a possible 'insurance' 25bp cut, and towards an 'emergency' styled 50bp cut. 

A print below 50k, with unemployment at 4.4% and further downward revisions, would likely get swaps pricing juiced up, and increasing its sensitivity on next week's US core CPI print. Naturally, in this scenario, it wouldn't take long before Trump made his views known on Truth Social and claim Powell and others allowed this to happen and have been far too slow to bring rates down to neutral. If IR swaps were to imply even a 5–15% chance of a 50bp cut — however unlikely a 50bp cut is in reality — the US Treasury curve would aggressively bull steepen, US real rates would fall sharply, the USD would likely test and break range lows at 97.65, gold would kick hard and resume its bull trend in earnest, and cyclical equities would be rotated out of in favour of defensive, low-volatility plays. Bad news would essentially become bad news for risky assets, despite the implied higher rate cut expectations. 

Markets calm as we roll into the final session of the week 

Looking at markets today, though, there’s very little concern in the pricing that NFP will prove to be a decisive game-changer. USTs have found buyers easily, with some adding to duration in the long end (10s -6bp at 4.15%) and cutting back on steepeners. In risk, US small caps have rallied strongly and outperformed, with the Russell 2000 +1.3%, while the S&P500 closed +0.8% and just three points off making a new ATH, with 73% of constituents closing in in the green and cyclical sectors outperforming defensives. We also saw funds trimming volatility hedges and even selling vol, with the short-term (9-day) VIX index -1.1 vols to 15.3%. So, as we head into the “most important payrolls” since the last important payrolls, it’s all calm on the Western Front, and Asia should open on the front foot. Let’s see if the opening bid can hold. 

Good luck to all.