Yield on 10-Year Treasury Tops 4% as Labor Market Defies Expectations
The yield on the benchmark 10-year Treasury note climbed back above 4% on Friday after new data showed the U.S. economy added significantly more jobs in December than economists had forecast. The latest jobs numbers led traders to pare back expectations that the Federal Reserve will start cutting interest rates later this year.
The 10-year yield, which helps set borrowing costs on everything from mortgages to auto loans, traded as high as 4.06% early Friday after the Labor Department said nonfarm payrolls increased by 223,000 jobs last month. Economists surveyed by Dow Jones had predicted an increase of just 200,000.
The report also showed the unemployment rate dropped to 3.5% from 3.6% in November, matching a 50-year low.
“Treasury yields are marching higher following better-than-expected U.S. jobs data for December,” said Ed Moya, senior market analyst at foreign exchange broker OANDA. “This report suggests the labor market remains resilient and might put to rest the anticipated rate-cutting cycle by the Fed later this year.”
The data comes after the 10-year yield ended 2022 right around 4%, staging a dramatic turnaround in the second half of the year as the Fed aggressively hiked interest rates to combat surging inflation.
Market Rethinks Dovish Fed Pivot
Coming into 2023, bond investors had piled into Treasurys on mounting expectations that a potential economic downturn this year would force the Fed to slash rates. Fed funds futures in recent weeks had priced in rate cuts beginning as early as September.
But economists said December’s strong jobs numbers challenge the notion that rate cuts are imminent.
“Today’s data pour cold water on market pricing for Fed rate cuts this year,” said economists at TD Securities. “The labor market is far too tight for the Fed to be contemplating rate cuts anytime soon.”
The futures market on Friday showed traders are now betting the Fed won’t cut rates until December at the earliest. Before the jobs data, futures prices implied a 93% chance that the Fed would cut by September.
Yield Curve Flattens Further
Shorter-dated Treasury yields jumped more than longer-dated yields in Friday morning trading, flattening the closely watched yield curve.
The policy-sensitive 2-year yield climbed nearly 15 basis points to about 4.45%, while the benchmark 10-year yield was up around 10 basis points. That pushed the 2s10s curve to just 15 basis points, near its flattest level since October.
An inverted yield curve, when short-term yields are higher than long-term yields, has preceded past recessions. While not inverted, the current flattenING curve points to growing concerns over an economic slowdown.
“While recession risks are definitely growing, this labor market is just way too hot for any cuts from the Fed this year,” said Peter Boockvar, chief investment officer at Bleakley Financial Group.
Market Eyes Inflation Data, Fed Speeches Next Week
Traders are now looking ahead to next week’s December inflation data and public appearances from multiple Fed officials for further clues into policymakers’ thinking around interest rates.
“We have a long way for policy to become restrictive enough to clearly slow economic activity,” Boockvar said. “Next week’s CPI data will offer more information if we’re making better progress toward that path.”
The Fed’s Esther George, Loretta Mester and Tom Barkin are all scheduled to make speeches next week. Their comments will be closely monitored for indications if Friday’s jobs data has impacted their views at all.
Most economists still see rate cuts coming at some point this year, just not as soon as the market had anticipated. Goldman Sachs said it expects the Fed to cut rates twice in the second half of 2023, while Bank of America sees a single 25 basis point cut in December.
“We continue to see cuts late this year or early 2024 as the economy weakens,” said BofA economists.
| Date | 10-Year Yield | 2-Year Yield | Yield Curve | Key Events |
|---|---|---|---|---|
| 12/30/2022 | 3.882% | 4.431% | +55 bps | |
| 1/3/2023 | 4.007% | 4.245% | +76 bps | FOMC Minutes |
| 1/4/2023 | 4.061% | 4.456% | +40 bps | ADP Jobs Data |
| 1/5/2023 | 4.060% | 4.450% | +15 bps | December Jobs Report |
Stocks Pull Back, Dollar Gains
U.S. stocks fell on Friday as the strong jobs numbers dampened hopes for an imminent Fed pivot. Rising yields also put pressure on equity valuations.
The Dow Jones Industrial Average dropped 200 points, or 0.6%, in morning trading. The S&P 500 shed 0.4% and the tech-heavy Nasdaq Composite lost 0.2%.
Higher Treasury yields boosted the U.S. dollar against a basket of other major currencies. The ICE U.S. Dollar Index jumped nearly 1% to 105.30. A stronger greenback weighs on profits at multinational companies.
Commodity prices tumbled amid concerns over potentially reduced demand if the Fed maintains its hawkish stance for longer than anticipated. Oil plunged more than 3% to trade around $73 per barrel, extending a rout that has seen prices plummet 40% from 2022 highs.
Gold prices also sank 1.2% to about $1,825 per ounce as rising yields and dollar strength sapped demand for the non-interest bearing asset.
So in summary, December’s strong jobs data has led traders to significantly pare back expectations for Fed rate cuts this year. While recession risks still loom in 2023, the labor market remains extremely tight, likely keeping the Fed on an aggressive policy path until more definitive signs of slowing growth emerge.
What to Watch Going Forward
All eyes will now turn to upcoming inflation data, Fed communications, and additional employment reports over the coming months for clues into policymakers’ thinking and confirmation of Friday’s signals from the jobs market.
Most Wall Street banks still forecast rate cuts commencing towards the end of this year as economic headwinds continue to intensify. But the timing and magnitude of cuts is now more uncertain after this surprise jobs beat. Markets face elevated volatility around Fed policy as traders reassess the interest rate landscape.
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