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Why Non-Farm Payrolls Could Surprise to the Upside

Last updated 3/5/2009 1:13 PM ET (GMT -5) 0 Comments - Add your comment

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Kathy Lien

Director of Currency Research, GFT

There is no question that the US labor market is very weak with job losses expected to extend for the 14th consecutive month.  If February non-farm payrolls exceed -450k, then more than 4 million Americans would have lost their jobs since January 2008.  The current forecasts for non-farm payrolls are far more pessimistic with analysts predicting a decline of 650k jobs.  The US dollar has rallied as risk aversion drags down the higher yielding currency pairs, but if non-farm payrolls surprise to the upside and we that think it will, the dollar may give back some its spectacular gains.  

How the Dollar May React to NFPs

The single biggest reason why we believe that the amount of jobs lost last month could be less than 600k is because of the rebound in the employment component of service sector ISM.  Over the past 10 years, there has been an 82 percent positive correlation between non-farm payrolls and the employment component of the service sector report.  The last time we saw a rebound was in December 2008 and it correctly forecasted a marginal improvement in non-farm payrolls.  In December, NFPs dropped by -577k compared to -597k the previous month. We strongly believe that non-farm payrolls will rebound once again.  Our forecast is for non-farm payrolls to fall by less than -598k.  Considering that the most pessimistic forecast is for a -800k decline, we consider our call optimistic.  Unfortunately a smaller drop in non-farm payrolls could actually drive the US dollar lower if the euphoria from a stronger number reduces risk aversion.  It is important to remember however that even if the pace of layoffs slows, the amount of job losses will be massive and the unemployment rate should still hit 8 percent, and therefore any correction in the US dollar against the Euro and British pound could be temporary.  Against the Japanese Yen, a stronger number would be dollar bullish while a weaker one will be dollar bearish.

The following chart illustrates the tight correlation between ISM Employment and NFP.

Why Non-Farm Payrolls Could Stabilize Around -525k

The rebound in the employment component of the service sector ISM report is not the only reason why non-farm payrolls could surprise to the upside. Layoffs rose at a slower pace in February while the Monster.com online jobs index increased.  Aside from these reports, all other leading indicators for non-farm payrolls point to another month of severe job losses. Anything in excess of half a million is considered massive. This includes the ADP employment report which printed at -697k and jobless claims, which averaged 641k in the month of February.   Here are how the leading indicators for non-farm payrolls stand for the month of February:

Arguments for Less than -600k NFP

1.    Employment Component of Service Sector ISM bounces from 34.4 to 37.3

2.    Challenger Layoffs at 158.4% compared to 222.4% in Jan

3.    University of Michigan Consumer Confidence Index Increases Marginally

4.    Monster.com Index Rebounds

5.    Zero Strike Activity

Arguments for More than -600k NFP

1.    Employment Component of Manufacturing Sector ISM hits another record low

2.    ADP Employment Change falls from -614K to -697K

3.    4 Week Average Claims continue to rise

4.    Continuing Claims at cycle high

5.    Conference Board Consumer Confidence report at record low

For currency traders, the most important thing to keep in mind is that any rally from a stronger report will most likely be short lived but if for any reason, non-farm payrolls drops by more than 700k we could see a sharp rally in the US dollar.  So with that in mind, here are the forecasts for February Non-Farm Payrolls:

Change in Non-Farm Payrolls:              -650k (-598k Previous)

Unemployment Rate:                             7.9% (7.6% Previous)

Change in Manufacturing Payrolls:     -200k (-207k Previous)

Average Hourly Earnings (MoM):        0.2% (0.3% Previous)

Average Weekly Hours:                        33.3 (33.3 Previous)

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About The Author

Kathy Lien began her FX trading career 10 years ago at J.P. Morgan Chase. After graduating New York University’s Leonard Stern School of Business at the age of 18, Kathy joined the bank's interbank FX trading desk and eventually moved to the cross markets proprietary trading desk. In the interbank market, her ability to create solid fundamental and technical analysis from the myriad of information on the market helped her trade forex spot and options. Her experience eventually led her to be chief strategist at Daily FX where she worked until she joined GFT in 2008.

With her knowledge of forex, as well as her experience trading other products, such as interest rate derivates, bonds, equities, and futures, Lien has built a reputation as an international currency analyst. She is frequently quoted on CNBC, Bloomberg, Fox Business and Reuters. Lien has also written for publications like Active Trader, Futures, and SFO magazine. She is the author of the newly updated Day Trading the Currency Market: Technical and Fundamental Strategies to Profit from Market Moves, and the co-author of Millionaire Traders: How Everyday People Are Beating Wall Street at Its Own Game with Boris Schlossberg.

To buy Kathy’s newly updated Day Trading and Swing Trading the Currency Market: Technical and Fundamental Strategies to Profit from Market Moves, click here.