Bond Markets Complicate Fed Decision After Job Burst Report

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Bond yields soared after new employment data showed the US economy added a staggering 528,000 jobs in July.

Emily Roland, co-lead investment strategist at John Hancock Investment Management, told Yahoo Finance that July’s strong jobs report shows the economy is “not there yet” when it comes to a recession.

Michael Pearce, senior US economist at Capital Economics, was even stricter in an email after Friday’s data: “The unexpected acceleration in nonfarm wage growth in July, along with the continued decline in unemployment and the renewed rise in pressure on wages, mock claims that the economy is on the brink of recession.”

But bond markets remain concerned. And these concerns are reflected in the way yields moved after Friday’s data.

After Friday’s jobs report, the yield curve is inverted more deeply, with 2-year bond yields rising 21 basis points to 3.24% and 10-year bond yields (^TNX) rising 16 basis points to 2.84%.

Longer-dated bonds typically yield no less than shorter-dated bonds, as investors demand more compensation for extending loans to the US government (or virtually any borrower).

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Investors are thus keeping a close eye on these “inversions” in the 2-year/10-year spread, as they have preceded each of the last six US recessions. This yield curve inverted in 2019, ahead of the pandemic, and flashed again in April of this year.

The spread between the 2-year and 10-year Treasury rates is inverted even more deeply after Friday’s jobs report. (Source: FRED)

And while Roland said July’s jobs data doesn’t reflect a recession at this point, the fact that the curve has further inverted on Friday illustrates rising market expectations for a job.

“There are still more things to do before the recession is completely out,” Roland said. “But [we’re] probably going there with a yield curve so deeply inverted.”

It’s questionable what the Federal Reserve’s next move is, especially as high inflation continues to urge policymakers to raise borrowing costs in an attempt to cool economic activity. The central bank decided in both June and July to raise interest rates by 0.75%, the biggest move since 1994 in a single meeting.

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The Fed hopes to moderate economic growth without raising interest rates so high that companies will lay off workers. July’s hot jobs report supports the Fed’s argument to leave the healthy job market intact, but larger-than-expected wage increases could prompt employers to pass higher costs on to consumers.

On the door of a GameStop in New York City, USA, there is a board for rent on April 29, 2022.  REUTERS/Shannon Stapleton

On the door of a GameStop in New York City, USA, there is a board for rent on April 29, 2022. REUTERS/Shannon Stapleton

Average hourly wages rose 5.2% year-on-year in July, with no slowdown in wage growth compared to previous months.

“A slower pace of wage growth would clearly support the goal of curbing persistently high inflation, but today’s report is unlikely to offer the Fed any comfort in that area,” BlackRock’s Rick Rieder wrote on Friday.

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Markets are now increasingly estimating the likelihood of a more aggressive rate move at the Fed’s next scheduled meeting, which closes on September 21. change from the 0.50% move the markets price ahead of Friday’s jobs report.

This re-evaluation of the Fed’s expectations for interest rate movements is also driving the movement in bond markets, as shorter-term Treasuries (such as the US 2-year treasury) tend to change the Fed’s policy on Federal Funds interest rates. to follow closely.

“The yield curve was inverted, and now it’s really inverted,” Roland said. “And we know that’s a classic harbinger of a recession.”

Brian Cheung is a reporter on the Fed, economics and banking for Yahoo Finance. You can follow him on Twitter @bcheungz.

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