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Job Report Sparks Shift in Rate Cut Expectations


The release of Friday’s official job report has prompted a reevaluation of the Federal Reserve’s timeline for cutting borrowing costs. Contrary to expectations, the labor market has shown no signs of softening, leading to a surge in Treasury yields. The policy-sensitive 2-year rate has risen to 4.71%, reaching its highest closing level since November.

Traders in fed-funds futures have responded to the job report by reducing the likelihood of a quarter-point Fed rate cut by March from 64.5% to 47.5%, according to the CME FedWatch tool.

In summary, the robust job report has underscored the expectation that interest rates will remain higher for longer. Before the release of this data, financial markets were anticipating a quick return to lower interest rates, as well as a more rapid decrease in economic growth, job creation, and inflation.

Michael Reynolds, vice president of investment strategy at Glenmede, shares his insight on the matter. He believes that the market’s expectations for rate cuts were premature even before the job report. Reynolds suggests that the Fed will take a more cautious approach to rate cuts than previously anticipated. Additionally, he notes that wage growth could potentially fuel inflation in the near future. While another rate hike is unlikely, Reynolds hints that the Fed may choose to keep rates higher for an extended period.

Overall, the recent job report has prompted a reevaluation of expectations regarding rate cuts. The Federal Reserve is likely to proceed with caution, considering the positive job market data and the potential impact on inflation.

Traders Scale Back Rate Cut Expectations

Fed-funds traders have revised their expectations for rate cuts, not only for the first cut by March, but also for the number of cuts by the end of next year. While traders are confident that there will be some form of rate cuts by December 2024, the likelihood of five quarter-point cuts has slightly decreased from 30.6% to 28.7%. Currently, the fed-funds rate target stands between 5.25% and 5.5%, its highest level in 22 years.

Treasury Yields Rise

Following Friday’s increase in Treasury yields, the policy-sensitive 2-year rate is on track to reach its highest closing level in over a week. The benchmark 10-year yield is also up at 4.24%, while the 30-year rate has risen to 4.33%.

Inflation Outlook Uncertain

Despite solid job growth and wage gains, it is uncertain whether this will lead to sustained inflation. The next major U.S. inflation update will be in the form of the November consumer-price index report, which will be released next Tuesday, one day before the Fed’s policy announcement. The annual headline rate of CPI has remained at or above 3% for the past five months, although it has decreased from a peak of 9.1% in June 2022.

Fed Expected to Remain on Sidelines

Due to evidence of cooling inflation, it is expected that the Fed will stay on the sidelines at the upcoming policy meeting. However, the strength of the labor market may give Fed officials some flexibility for future rate hikes if necessary. Lydia Boussour, a senior economist at EY-Parthenon, predicts that policymakers will likely avoid discussing rate cuts until early 2024.

After Friday’s job report, data from the University of Michigan shows that Americans’ inflation expectations for the next year fell from 4.5% to 3.1%. Expectations for the next five years also decreased from 3.2% in November to 2.8%.


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