Could Soft Hiring Indicate Potential Federal Rate Cuts?

Howard Marks and the Theory of Good and Bad Times

Howard Marks, co-founder of Oaktree Capital, has frequently argued that the seeds of difficult times are sown during prosperous periods, and vice versa. This idea came to mind while reading a Wall Street Journal headline following Friday's employment report, which suggested that soft hiring could lead to Federal Reserve rate cuts. However, the article failed to explain how the Federal Reserve could ignore market signals or why it would choose to do so. Marks' insightful analysis of economic cycles may shed some light on this issue.

Understanding Market Signals

Most employers and investors understand the truth in Marks' theory and act accordingly to avoid overextending themselves. By avoiding excessive risk-taking during good times, such as making poor hiring decisions or over-investing in new ventures, they can help to soften the impact of bad times. In other words, a slowdown in economic activity is just as important a market signal as a surge in hiring. It suggests that the returns on new employees and investments may not be as high as previously anticipated. This is an important consideration, especially when hiring appears to be slowing down. It may simply be the market's way of avoiding potentially unrewarding investments.

The Role of the Federal Reserve

Given this understanding of market signals, it seems counterintuitive to suggest that the Federal Reserve should intervene to counteract these signals. This would imply that the Federal Reserve should regularly replace the market's collective knowledge with its own limited understanding, which is not a desirable outcome. Those who argue that slower economic growth periods necessitate central planning fail to recognize that economies are made up of individuals. These individuals thrive best when resources are allowed to reach their maximum potential with minimal state intervention.

Interest Rate Adjustments and Market Reality

Some may argue that by adjusting interest rates, the Federal Reserve is simply reversing the effects of previous rate increases. However, this argument fails to acknowledge the reality of market dynamics. For instance, the Federal Reserve began raising rates in March of 2022. Yet, despite this, there was a surge in investment into companies like Nvidia following the introduction of ChatGPT in November 2022. This surge in investment, despite the Federal Reserve's rate increases, demonstrates that market realities, not Federal Reserve policies, drive investment decisions.

Investor Response to Soft Hiring Reports

Therefore, investors should not be overly concerned with what the Federal Reserve does or doesn't do in response to soft hiring reports. If these reports are indeed a sign of businesses and investors acting on Howard Marks' wisdom, there is little the Federal Reserve can do to change this.

Bottom Line

Understanding the cyclical nature of the economy and the importance of market signals is crucial for both businesses and investors. It's clear that the market's collective wisdom should be trusted over the limited knowledge of the Federal Reserve. So, what are your thoughts on this matter? Do you agree with this perspective? Feel free to share this article with friends and discuss. Don't forget to sign up for the Daily Briefing, which is delivered every day at 6pm.