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How Could the Dollar React to Non-Farm Payrolls?

Last updated 4/2/2009 3:59 PM ET (GMT -5) 0 Comments - Add your comment

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Kathy Lien

Director of Currency Research, GFT

There is a significant chance that in the month of March, U.S. non-farm payrolls fell by the largest amount in 60 years.  What this means is that job losses could have exceeded 700k, a figure not seen since the 1940s. Ask any person living in the United States and they will tell you that the labor market is weak and will probably worsen before it improves. Stocks are up but the layoffs announcements have not ended. As recently as this week, Sun Microsystems and 3M announced that they will each lay off another 1,500 workers. As a result, March will mark the fifteenth consecutive month of net job losses, matching the length of negative NFPs recorded during the 2001 to 2003 recession. With that in mind, a weak non-farm payrolls report could actually be dollar positive not negative. 

How Could the Dollar React to Non-Farm Payrolls?

The primary reason why the dollar could rally on the heels of a weak non-farm payrolls number is because risk appetite is driving the U.S. dollar and not economic fundamentals. As we have seen today, when the markets are optimistic, investors sell dollars and buy into higher yielding and higher risk currencies. When the markets are pessimistic, investors flock back into the safety of the low yielding U.S. dollar. The reaction in the U.S. dollar will also be based upon the surprise in the non-farm payrolls report. Right now analysts predict that 660k jobs were lost in the month March and in order to faze already pessimistic investors, payrolls may have to break 700k.  A “good” number would be less than -600k. Anything in between should be mildly neutral. For currency traders who will be watching the non-farm payrolls report, it is also important to consider revisions because over the past 3 months, revisions have mattered more than the headline number. 

Forecasts for March Non-Farm Payrolls

Change in Non-Farm Payrolls: -660k (-651k previous)

Unemployment Rate:   8.5% (8.1% previous)

Change in Manufacturing Payrolls: -160k (-168k previous)

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

Average Weekly Hours:   33.3 (33.3 Previous)

Bear in mind that the first reaction to the non-farm payrolls report will most likely not be the real one that lasts for the rest of the trading day. Reason being that the last 3 times non-farm payrolls were released, the knee jerk reaction was quickly erased. In each of these cases over the months of March, February, and January, the actual number came in at or slightly worse than expectations, while previous data faced large revisions to the downside. The pattern that has emerged has shown an immediate knee-jerk reaction, only to be reversed into an all-day trend (see charts below). Even though the direction associated with these instances has not always been the same, we can see that the immediate reaction is not sustained, and eventually reversed into a more substantial move.

Furthermore, in two out of the three months, the immediate knee-jerk reaction was in favor of dollar weakness, only to change direction for dollar strength. These reversals have all been triggered by a change in risk appetite.  While the terrible numbers reflect worsening U.S. economic conditions, the fact that the U.S. is still considered the safe haven inevitably translated into dollar strength. This has been the recurring trend in most of the past six months and there is a decent chance that this behavior could repeat itself once again. The one anomaly was that in February where the reverse instance occurs. In this case, the January numbers were drastically revised from -524K to a six decade low of -681K.  In this case, the overwhelming bearishness of the report overshadowed risk aversion.

Leading Indicators for Payrolls Leaves Little Reason for Optimism

Aside from an improvement in consumer confidence, all signs point to rising job losses in the month of March. This morning, jobless claims rose 12,000 to 669,000 the highest level in more than 25 years. Throughout the month of March, jobless claims have been above 640k. Continuing claims, which measure the amount of Americans who are currently collecting unemployment benefits, hit a record high of 5.73 million in the week ended March 21 ^st . Layoffs have increased 180 percent which is in line with private sector payroll provider ADP’s report that corporations cut 742k jobs last month. The only silver lining would have to come from the public sector, but there is little chance that the increase in government jobs would be more than 10k or 20k, providing little offset. This month we are left without our strongest leading Indicator, the Employment Component of Service Sector ISM, which will only be released after the payrolls report. Nevertheless, it is no more difficult to argue for devastatingly awful numbers on Friday. 

Here are the arguments in favor of a weaker or stronger non-farm payrolls report:

Arguments for Non-Farm Payrolls to Drop by Less than -650k

Arguments for Non-Farm Payrolls to Drop  by More than -650k

How Bad Can Non-Farm Payrolls Get? 

The unemployment rate is expected to hit 8.5 percent, the highest level since November 1983. Believe it or not, a 700k drop in non-farm payrolls would not be the largest decline this century.  In October 1949, non-farm payrolls fell 834k and in September 1945, payrolls declined by 1.966 million. 

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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.