"Every different analyst has a little different interpretation (of the Fed statement). So, I think that's really what they were going for, was not to have any clear signal one way or the other," said Jeff Rosenberg, BlackRock chief investment strategist for fixed income.
That makes the sign posts the Fed is watching even more important than usual for markets because data that supports a rate hike will move the market, but so could data that supports the Fed staying on hold. Stocks, bonds and the dollar could all be influenced by any shifts in rate expectations, and that should continue to ripple through global markets with the dollar continuing to influence emerging markets and commodities.
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Despite lots of volatility, large-cap stocks are set to close out the month of July with gains Friday, with the S&P 500 at 2,108—up 2.2 percent for the month and now 2.4 percent higher for the year to date. The small-cap Russell 2000, on the other end of the spectrum, is down 1.7 percent so far for July but still up 2.2 percent year to date.
The two-year Treasury yield, which most reflects Fed expectations, was at 0.71 percent Thursday, above the 0.64 percent it was at a month earlier. The 10-year, however, was lower—at 2.26 percent from 2.35 percent June 30. The moves in yield show a flattening of the yield curve, a signal of an expected rate hike which was especially pronounced after the Fed meeting.
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The greenback also gained strength with the U.S. dollar index rising about 2 percent in July, but much more against emerging market currencies, some of which are at all-time lows. The Mexican peso fell to an all-time low, and the currencies of countries like Brazil, Turkey and South Africa are at the lowest levels in more than a decade.
Economists and strategists say the two monthly employment reports Aug. 7 and Sept. 4 are at the top of the list as far as input for the Fed decision process goes. Friday's second-quarter employment cost index is also key, and while the expected 0.6 percent gain is smaller than last quarter's increase, it should affirm an important trend of rising wages.
"I think Friday's ECI is going to be very important. The one thing they're missing is inflation," said Michelle Girard, chief U.S. economist at RBS. "The first-quarter employment cost index showed a surprise acceleration. That was 0.7 percent. There aren't that many wage gauges out there. This quarterly gauge is one of the best measures of wages."
JPMorgan economist Daniel Silver said a surprise in either direction in the ECI could be important since the Fed watches it. "The ECI has been stronger than some of the other wage measures people watch," he said. Silver said he's also looking at the two key CPI reports Aug. 19 and Sept. 16, the day of the next Federal Open Market Committee meeting.
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Another key to the Fed's thinking will certainly be the minutes of this past week's meeting, set to be released Aug. 19.
"The labor market is most important when talking about the domestic sphere," Rosenberg said. He added that consumption data, evident in Aug. 13 and Sept. 15 retail sales are also key ahead of the Sept. 16 Fed meeting. "There's the concern about why there hasn't been greater consumption," he said. "Where's the tax break from oil price declines flowing through into consumption."
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Rosenberg sees a good chance for the first hike in September but it could also be December. There are also those in the market that believe next year is a more likely time for the Fed to raise interest rate for the first time since taking the fed funds target rate to zero in 2008.
"Market participants should not overinterpret the confidence in that path because the data will evolve and how it will evolve is not entirely predictable," he said. As the Fed moves toward raising rates, he expects yields to drift higher. His year-end target for the 10-year is 2.5 but his expectation for the two-year is 1.25 percent, as it reflects Fed tightening.
James Paulsen, chief investment strategist at Wells Capital Management, said some investors may decide by next Friday when the July employment report is released whether the data appear sufficient to determine whether the Fed would move in September, although the August report will also be important. He said the markets will hone in not only the nonfarm payrolls, but the average hourly wages and the unemployment rate.
He said there could also be weakness in the employment report or other data that would signal a December rate hike instead. "If it turns out to be September, I think the (stock) market may struggle, at least initially with that," Paulsen said. "What's really important, not so much if it's September or December, but what's really important is whether the Fed is going to do it in September because growth really is doing better ... or is it the reaction to a hotter (inflation) number. That's a very different September tightening," he said.
If the Fed's first rate hike in more than nine years comes with an improving economy, momentum stocks, financials and discretionary stocks would do well, according to Paulsen. "If it's the latter, you'll have a bigger run in materials, energy and industrials and financials might not do so well," he said. During the month of July, energy stocks were the worst performers, losing about 5.3 percent and materials lost about 4.7 percent. The best performers were consumer staples, up 5.2 percent and utilities, up 4.9 percent.
The markets, however, have been a bit more fearful of deflation than inflation with a massive selloff in commodities accelerating in July. By some measures, commodities are at a 13-year low, and some commodities are down double digits for the month. West Texas Intermediate crude futures are down 18 percent, and copper futures were off 9.1 percent.
"What you're seeing in the last couple of weeks is a major downdraft in commodities prices reflecting weaker growth in China and transmitting through to the U.S. economy in lower inflation expectations," said Rosenberg.
Mesirow Financial's chief economist, Diane Swonk, said the Fed is watching those markets as well as China.
"They (the Fed) really want to get it done in September. It's symbolic. I think the threshold on the second move is a lot higher," said Swonk. "They're willing to do it in September without inflation, and they're willing to call it pre-emptive because there's no inflation yet. If the world blows up in September, and the world is in turmoil, they're not going to move. Financial stability is one of their mandates."
Besides ECI Friday, there is Chicago PMI at 9:45 a.m. and consumer sentiment at 10 a.m. Earnings are expected from big oil names Exxon Mobil and Chevron as well as Honda Motor, Philips 66, Seagate Technology, TransCanada, Weyerhaeuser, ArcelorMittal, Legg Mason and CBOE holdings.