Nonfarm Payrolls: A Comprehensive Investor’s Handbook

The Non-farm Payroll (NFP) report is the most significant employment indicator in the United States, reflecting the overall condition of the labor market. Market participants closely monitor this data because the Federal Reserve's dual mandate focuses on price stability and maximum employment. The Fed adjusts its monetary policy based on labor market changes, which in turn affects various asset prices, making NFP data crucial for investment decisions.

1. What is Non-farm Payroll Data?

The Current Employment Statistics (CES) is a payroll-based survey conducted among U.S. business and government organizations, commonly known as the "establishment survey." It provides data on non-farm employment numbers, wages, working hours, and employment diffusion index. The U.S. Bureau of Labor Statistics conducts monthly CES surveys, collecting sample data from approximately 140,000 business and government organizations to estimate employment, wages, and working hours. The most crucial component is the non-farm employment number, which includes both salaried and part-time employees. However, it excludes unregistered self-employed individuals, unpaid volunteers, and farm workers. It's important to note that since CES employment surveys are based on payrolls, individuals with multiple jobs are counted multiple times, potentially leading to overestimation of U.S. labor market conditions in certain situations.

Finally, the ADP Research Institute releases its employment report two days before the NFP data, providing the market with preliminary expectations for the NFP figures, hence its nickname "Mini NFP." Compared to the NFP data, the ADP employment report only surveys the U.S. private non-farm sector.

While both indicators show similar trends in the long term, they often diverge in the short term, mainly due to differences in sampling, seasonal adjustment methods, and outlier processing approaches. Below are the key differences between the two:

2. Market Impact of NFP Data

Logically, strong NFP data should indicate economic resilience and benefit risk assets like U.S. Stocks, as shown in the chart below:

However, the actual market impact isn't always straightforward and can vary significantly. For example, in the past two years, consistently better-than-expected NFP data led markets to conclude that economic resilience reduced the need for rate cuts. The Fed's likely maintenance of high rates caused interest rate-sensitive tech stocks to decline. This occurred because strong economic expectations were already priced in, and markets were more focused on the timing of rate cuts. Conversely, during recession periods, strong NFP data can be positive, potentially increasing risk appetite and driving U.S. stocks higher. Therefore, the key principle in utilizing this data is understanding the market's primary concerns.

3. Developing Trading Strategies

The prerequisite remains understanding the market's primary concerns - whether it's more focused on interest rates or economic growth. If it's the former, when NFP data exceeds expectations, consider allocating to rate-insensitive assets like cyclical stocks and short-term bonds. If it's the latter, cyclical assets like consumer stocks might be appropriate. During periods of high NFP volatility, VIX index-related ETFs can be considered to capitalize on volatility returns.

4. Impact on Saudi Stock Market

NFP data influences Fed monetary policy, and Saudi Arabia's monetary policy generally aligns with the Fed's, meaning Saudi benchmark rates typically mirror U.S. rates. Consequently, NFP data indirectly affects the Saudi stock market, making it relevant even for investors focused solely on the Saudi local market.