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March could come in like a bull but red flags are waving

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March could come in like a bull, but whether the late February rally can run much further remains to be seen.

Key for that will be upcoming economic news, particularly Friday's jobs report, which is the last big piece of data ahead of the Fed's March meeting. U.S. markets could also be sensitive to global reactions to Chinese PMI manufacturing data Tuesday and Europe area inflation data, expected by some to be negative when it is reported Monday.

"Making a short-term call is very difficult because the market made such a run in the last week, and you have a major risk event — Super Tuesday," said Julian Emanuel, UBS equity and derivatives strategist. Wall Street's assumption is that Donald Trump and Hillary Clinton will be the front — runners when votes are tallied in the dozen states and one territory holding contests Tuesday.

NYSE Traders on the floor.
Brendan McDermid | Reuters

"I think it's going to add to uncertainty," said Sam Stovall, chief U.S. equity strategist at S&P Global Market Intelligence. But he said the Super Tuesday primaries will not be that much of a worry as long as the perceived front-runners win.

Emanuel said the market has been pounded with news on the U.S. election as well as the "Brexit" — the possible split of the U.K. from the European Union. "The political news may be one thing, whether it's 'Brexit' or the continued distraction of the divisive political discourse," he said.

Economic data besides jobs will also be important. "The other major risk event is the March 1 manufacturing ISM," said Emanuel. "With the last reading of 48.2, it's basically that we're in a no man's land. You're not in a manufacturing recession, but you are in a slowdown, but given the data we've seen, it's possible there could be improvement." Economists expect a reading of 48.6. Anything below 50 signals contraction.

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Emanuel said investors had become overly negative, expecting the worst in the current market. "What people are beginning to realize is in a highly volatile environment, risks could easily skew to the upside as the downside," he said.

Stocks were mostly lower Friday but closed higher for a second week in a row, with the S&P 500 up 1.6 percent. The index finished at 1948, just below the important technical level of 1,950 and above its 50-day moving average of 1,944. The S&P has clawed back from a 15.2 percent decline, and is now off about 8.7 percent from its 2015 high.

For the month of February so far, the S&P 500 is slightly higher, up 0.4 percent, and the Dow is up 1 percent. But the Dow Transports have risen more than 7 percent. Oil was a positive factor, rising about 10 percent in the futures market, when looking at front month contracts. The West Texas Intermediate contract for April settled down 29 cents at $32.78 per barrel.

"The market seems to be coming into March like a bull," said Stovall. He said that in leap years, on Feb 29, the S&P 500 has had an average price change of 0.1 percent, and it's been negative 65 percent of the time on the 17 "leap days" since 1928.

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As for the month of March, it has a better track record than the average performance of all months — a 0.65 percent gain. "March is the third-best month, on average up 1.3 percent since World War II," Stovall said.

While the market is watching jobs data on Friday, it may pay most attention to average hourly wages, expected to rise 0.2 percent, after a surprise 0.5 percent gain last month. According to Thomson Reuters, economists expect 193,000 nonfarm payrolls for February, and an unchanged unemployment rate of 4.9 percent.

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The pickup in wages last month came as core CPI data over the last 12 months also rose above 2 percent, the Fed's targeted level. But more importantly, PCE inflation, the Fed's preferred metric rose 1.7 percent in January, a 0.3 percent from December and a leap toward the Fed's target. Market expectations for a Fed rate hike shifted Friday after the data, rising to a more than 50 percent chance for a second rate rise by December.

"This is going to be a real interesting time because remember (Fed Chair Janet) Yellen said … if inflation comes back quicker, rates could go up faster," said Chris Rupkey, chief financial economist at MUFG Union Bank. But Rupkey said the market is not pricing in a rate hike, and the 10-year note yield stays stubbornly low, at 1.76 percent Friday.

While the nonfarm payrolls fell to 151,000 in January, economists see the economy as entering a period when job creation is peaking out.

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"I think the problem we're running into is we reached the employment side of their (Fed) mandate, so payrolls lose some of its power," said Rupkey. "But Yellen has said that in order to have confidence their inflation target is going to be met, they want to see growth and jobs creation remain strong. For me, we've crossed the finish line on jobs, and they lifted off."

So traders will watch every measure of wages and inflation because the Fed could face a dilemma if inflation starts to take off, at the same time financial conditions worsen or the U.S. economy slows too much. There is little expectation for a rate hike at the Fed's next meeting March 16, but some economists expect Fed officials may be ready to raise rates by their June meeting.

Even before the U.S. opens for trading Monday, markets could get some news from the G-20, meeting in China. Also, the euro zone inflation data could have a negative impact on the euro if it does slip into negative territory, according to Robert Sinche, global strategist at Amherst Pierpont. Traders will be watching the data against the backdrop of the upcoming European Central Bank meeting March 10, where the ECB is expected to consider further easing steps.

"If the headline turns back negative, there will be enormous pressure on the ECB to do something," said Sinche. "The reality is what can they really do? I think the global markets are coming back to the view of what negative rates are really doing. Is it really a benefit?"

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