(Bloomberg) -- Bond traders tempered their expectations for interest-rate cuts over the next year after Federal Reserve Chair Jerome Powell said the US economy remains on solid footing, paring the Treasury market’s historic fifth straight monthly gain.
Already higher on the day before Powell’s comments at a meeting of the National Association for Business Economics, Treasury yields climbed further after he reiterated his Sept. 18 comment that policy makers don’t feel pressure “to cut rates quickly.” The two-year note’s yield, more sensitive than longer maturities to changes in the Fed’s rate, rose as much as 10 basis points to 3.67%, the highest since Sept. 12.
After the Fed dropped its target range for the fed funds rate by a half percentage point on Sept. 18 and published a median forecast of an additional 50 basis points of easing by year-end, traders remain split over whether another half-point or a quarter-point move is likelier in November.
Earlier Monday, traders began trimming the amount of Fed easing they anticipate over the next year. Convictions will be tested this week by the first major economic reports for September, including the employment report on Oct. 4.
“The economy is on a better footing,” and Powell “put more emphasis on the labor market, so it makes Friday even that much more important,” said Jack McIntyre, portfolio manager at Brandywine Global Investment Management. Treasury “prices have moved significantly, and probably have gotten ahead of reality.”
Treasury debt returned 1.4% this month through Friday as measured by the Bloomberg US Treasury Total Return Index. If sustained, it will be the market’s longest streak of monthly gains since 2010. After climbing during the first several months of the year as sticky inflation data eroded expectations for Fed rate cuts, yields in April began a descent that converted losses into a 4.1% year-to-date gain.
Calling the rally “impressive,” Gregory Faranello, head of US rates trading and strategy for AmeriVet Securities, said the sustained run from April reflected “better inflation and slowing job growth.” He said “being more nimble at these levels” makes sense given the extent of rate cuts anticipated by the market.
Swap contracts that predict the outcome of future Fed meetings price in around a percentage point of cumulative easing by the end of January and close to two percentage points over the next 12 months. The half-point cut on Sept. 18 set the target range for the federal funds rate at 4.75% to 5%.
To some, that looks excessive. Speaking earlier Monday, Fed Governor Michelle Bowman — who dissented from the September decision in favor of a quarter-point cut — reiterated that inflation remains “uncomfortably” above the central bank’s 2% target, supporting the case for a “measured” approach to lowering interest rates.
In cutting rates against that backdrop, Fed policymakers said they were trying to head off further weakness in employment. This week’s labor-market data — culminating Friday with the September jobs report — also include the JOLTS job openings gauge Tuesday, the ADP private-sector hiring data Wednesday, and employment gauges in the ISM reports on the manufacturing and services sectors.
For Friday’s report, economists’ median estimate is a 150,000 increase in nonfarm jobs and no change in the 4.2% unemployment rate, according to a Bloomberg survey.
“We are at a key inflection point on data and policy,” said Priya Misra, portfolio manager at J.P. Morgan Asset Management. If job creation exceeds 150,000, “rates can rise a little bit as the likelihood of a 50 basis point cut in November will decline,” while a result near 100,000 or lower likely would prompt another half-point cut.
What Bloomberg strategists say...
“While Fed Chair Jerome Powell broke little new ground at a Nashville meeting of the National Association for Business Economics, clearly the market was disappointed as near-term yields rose on the prospect of fewer rate cuts. The jobs report takes on more significance now to put a 50-bp cut back in play.”
— Edward Harrison, MLIV macro strategist
Monday’s rise in yields was concentrated in short maturities, leaving 30-year yields only slightly higher on the day. That’s in contrast to the dominant trend since mid-September, in which long-maturity yields rose more.
It “may be just a culling of long positions put on from overly-aggressive implied Fed policy levels,” said John Brady, managing director at RJ O’Brien. “The market, in other words, is going to need a new impetus to move to richer yields,” and “may be a bit extended going into a big week of data.”
(Adds Powell comments and market reaction, updates yield levels.)
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