This article presents the Trader Edge aggregate neural network model forecast for the December 2014 non-farm payroll data, which is scheduled to be released tomorrow morning at 8:30 AM EST.
Non-Farm Payroll (NFP) Model Forecast - December 2014
The Trader Edge aggregate NFP model represents the average of three neural network forecasting models, each of which employs a different neural network architecture. Unlike expert systems, neural networks use algorithms to identify and quantify complex relationships between variables based on historical data. All three models derive their forecasts from seven explanatory variables and the changes in those variables over time.
The table in Figure 1 below includes the monthly non-farm payroll data for two months: November and December 2014. The November data was released last month and the non-farm payroll data for December 2014 will be released tomorrow morning at 8:30 AM EST.
The model forecasts are in the third data row of the table (in blue). Note that past and current forecasts reflect the latest values of the independent variables, which means that forecasts will change when revisions are made to the historical economic data.
The monthly standard error of the model is approximately 82,500 jobs. The first and last data rows of the table report the forecast plus 0.5 standard errors (in green) and the forecast minus 0.5 standard errors (in red), respectively. All values are rounded to the nearest thousand. If the model errors were normally distributed, roughly 31% of the observations would fall below -0.5 standard errors and another 31% of the observations would exceed +0.5 standard errors.
The actual non-farm payroll release for November 2014 is in the second data row of the table (in purple). The consensus estimate (reported by Briefing.com) for December 2014 is also in the second data row of the table (in purple). The reported and consensus NFP values also include the deviation from the forecast NFP (as a multiple of the standard error of the estimate). Finally, the last column of the table includes the estimated changes from November to December 2014.
The aggregate neural network model forecast for December is 234,000, which is down a modest 36,000 jobs from last month's revised forecast of 270,000. The decline in the forecast from November to December reflects a minor weakening in the employment environment during the month of November. The Briefing.com consensus estimate for December is 245,000, which is down 76,000 jobs from the November report, indicating a more significant softening in the employment environment. The actual November data was significantly above the revised November forecast (+0.62 S.E.) and the consensus estimate for December is marginally higher than the model forecast (+0.13 S.E.).
If we ignore the outlier in the December 2013 data (-2.03 S.E), there had been a gradual and sustained positive trend in the employment data from late 2012 until mid-2014. The actual and forecast data dropped off significantly in August, but have bounced back in the past few months. The weak positive trend in employment growth continues.
Not surprisingly, the variation in the actual NFP reports is much wider than the variation in the NFP forecasts. Unfortunately, the Government reports are notoriously noisy, so the trend is more apparent in the forecast data, which are based on several different economic variables that collectively give a much more accurate and reliable employment reading than the Government data.
The small difference between the December NFP consensus and December NFP forecast implies a very small probability of an downside surprise tomorrow. The actual December 2013 NFP data was clearly an outlier, but the Trader Edge model has tracked the actual NFP data very closely throughout 2014, especially in the second half of the year.
Basic forecasting tools can help you identify unusual consensus economic estimates, which often lead to substantial surprises and market movements. Identifying such environments in advance may help you protect your portfolio from these corrections and help you determine the optimal entry and exit points for your strategies.
In the case of the NFP data, the monthly report data is highly variable and prone to substantial revisions. As a result, having an independent and unbiased indicator of the health of the U.S. job market is especially important.
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