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October 04, 2024 at 09:16 AM
Traders slashed their bets on the pace of future Federal Reserve interest-rate cuts after September US employment data blew past estimates and signaled a robust hiring trend.
The strong jobs report had traders shredding their aggressive bets for outsized rate cuts at the next policy meeting. Leading up to the data, the bond market had once more been running ahead of the Fed’s view on the trajectory of rate easing for this year.
It is a pattern that has been seen before. During the opening months of this year the rally in Treasuries was unwound as inflation and economic growth data surprised to the upside.
“The bond market is gravitating back to the Fed’s dot plot,” said Kevin Flanagan, head of fixed income strategy at WisdomTree, adding that traders find themselves once again having to recalibrate their bets amid data that points to a resilient economy.
The chance of a half-point rate cut in November was priced out, with the contract showing 23 basis points of easing now expected. Swap contracts tied to the outcome of future Fed meetings were pricing in only 53 basis points of rate cuts for November and December combined, a drop of more than 10 basis points after the jobs report. Traders are aligning their rate-cut bets with what Fed officials indicated last month via their updated forecasts.
“Just like the rally at the end of last year, Treasury yields needed to be validated by weaker data and it would not be a surprise to see the 10-year rise above 4% and head towards 4.15%,” said Flanagan. “The front end can hold below 4%, as the Fed can keep easing in line with their forecast.”
The policy-sensitive two-year Treasury yield initially rose as much as 17 basis points to 3.87%, the biggest jump since April 10, after the jobs data. Meanwhile, the 10-year note climbed 12 basis points to 3.96%.
Treasury yields have climbed sharply from their closing levels at the end of August, and are now well above their lows of September. In turn the popular yield curve steepener trade — that gained considerable momentum from traders pricing in more aggressive Fed easing — has come under mounting pressure this week.
The two-year yield sits around 6 basis points over the 10-year, and this curve measure has retreated from a recent peak of 23.5 basis points.
“There is definitely more room to go in the Treasury market selling off because everyone via positioning data was in steepeners or holding two-year and five-years outright,” said George Catrambone, head of fixed income at DWS Americas. “There will be more of an unwind in the front end and curve flattening positions until the next data point.”
European bonds followed Treasuries sharply lower. German two-year notes erased this week’s gains, with the yield spiking as much as 13 basis points to 2.21%.
Traders pared bets on rate cuts from the European Central Bank and the Bank of England. The broader outlook remained unchanged though, with the market pricing between five and six quarter-point reductions through next year.
After easing policy by 50 basis points last month to a 4.5%-5% range, Fed officials indicated only another half-percentage point of easing by December, and said that with inflation having moved back toward their 2% long-term target, they could be more attentive to the risks posed to the labor market.
