NEW YORK: Bond traders are looking to a key jobs report this week to confirm their wagers that the US economy is strong enough to push the Federal Reserve (Fed) to lift interest rates by next year.
Beyond developments in the Middle East, a big focus will be on Friday’s release of monthly employment figures, which are projected to show the labour market remained resilient in May.
Combined with elevated oil prices and reaccelerating inflation, that may bolster expectations that officials will remove the easing bias in their statement in June, in the Fed’s first meeting under chairman Kevin Warsh.
Traders see a hike by mid-2027, if not sooner, underscoring how the spike in energy prices has upended expectations that Warsh would deliver cuts soon after taking over.
By Bloomberg Economics’ calculation, the jump in bond yields since the conflict began has already tightened financial conditions by the equivalent of about three-quarters of a percentage point of Fed rate increases.
“Yields have risen, and it’s adding restrictiveness to the US economy and doing the work of the Fed,” said George Catrambone, head of fixed income at DWS Americas.
As rates climb in maturities from two to 10 years, he said, “you’re really creating some headwinds that will eventually come through”.
Add in the hit to wage growth from hot inflation, and mounting stress on the American consumer will weigh on the economy, Catrambone said.
He favours owning two-year notes and has bought the 10-year near recent peaks.
While benchmark 10-year yields are down from their peak a couple weeks ago, they rose three basis points to 4.47% in Asia yesterday as oil prices rebound from a six-week low amid signs a resolution to the war remains elusive.
The rise is bleeding into other markets, with Australian benchmark 10-year debt lifting six basis points.
However, 10-year rates, a benchmark for mortgages and corporate borrowing, are still roughly a half-point above levels at the end of February.
One options trade that emerged last week targeted the 10-year yield rising above 5% within months, a level not seen since 2023.
It all places added importance on the May employment report, which will follow a slew of other labour indicators this week, including job openings figures and ADP Research private-sector hiring data.
The economy probably added roughly 90,000 jobs, keeping the unemployment rate steady at 4.3%, according to a Bloomberg survey.
“If the inflation numbers stay high and job growth remains solid, then the market could start to price in a more aggressive shift higher in rates from the Fed,” said Gregory Faranello, head of US rates trading and strategy for AmeriVet Securities. “One hike will not do anything here.”
Data last week showed the Fed’s favoured inflation measure – the personal consumption expenditures price index – rose 3.8% annually in April, well above the long-run rate of 2% that officials target.
With expectations for Fed tightening building, shorter-maturity yields trade above the central bank’s current policy range of 3.5% to 3.75%.
The roughly 4% yield on the two-year, which is especially sensitive to Fed expectations, is about 0.6 point higher than in late February.
“Global markets are all reflecting this dilemma of how much higher can we afford to have inflation go, and when or if will it become a problem for growth,” said Cindy Beaulieu, chief investment officer for North America at Conning, which manages about US$190bil. — Bloomberg
