Treasury Yields Soar as Job Data Upend Bets on Fed Cuts in 2024

Treasury yields spiked due to an unexpectedly strong US labor market, prompting traders to reconsider the likelihood of Federal Reserve interest rate cuts this year.

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The two-year Treasury yield, particularly sensitive to changes in the Federal Reserve’s policy, surged nearly 15 basis points to 4.87% after the US government's May employment report revealed job and wage growth that surpassed expectations. Yields across all maturities rose by at least 12 basis points, and swaps traders reduced their bets on rate cuts for 2024.

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The continued strength in the US labor market also led economists at Citigroup Inc. to revise their forecast for the first rate cut from July to September. As anticipation builds for next week’s critical inflation report and the Fed's policy decision, JPMorgan Chase & Co. remains one of the few major Wall Street banks predicting a July rate cut.

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“This data keeps the resilient employment narrative alive another month and leaves the onus on CPI to drive the dot-plot,” said Ian Lyngen, head of US rates strategy at BMO Capital Markets, referring to next week’s consumer price index and the updated quarterly rate projections from Fed officials, known as the dot plot.

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In a year characterized by the Treasury market being repeatedly shaken by unexpected economic data, the jobs report provided the latest impetus for traders to prepare for volatility. The increase in US yields came just after global government bonds recorded their longest rising streak since November, buoyed by the Bank of Canada and the European Central Bank lowering borrowing costs this week.

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Before Friday’s employment data, positioning data in the Treasury market showed a bias toward dovish bets, which would profit if rates fell. Options tied to the secured overnight financing rate, closely linked to Fed policy expectations, also indicated traders were betting on up to two rate cuts this year.

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However, traders have since scaled back their rate-cut expectations, now pricing in the first full 25 basis point easing in December rather than November. Block activity in the Treasury options market on Friday indicated investors are retracting bullish bets made a week ago.

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“Sentiment was on the bullish side in the bond market heading into the jobs number,” said Kevin Flanagan, head of fixed income strategy at WisdomTree. “What this number does is keep in place a 10-year yield of 4.5%, plus or minus 10 to 20 basis points either side.”

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The data sets the stage as US policymakers prepare for a two-day policy meeting next week, where they will release an update to their rate forecasts. In March, officials signaled three quarter-point cuts for this year. However, strategists widely expect this to be downgraded to two or even just one cut in 2024.

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BMO’s Lyngen predicts short-term Treasury yields will continue to rise following the US jobs report. The Bureau of Labor Statistics reported a nonfarm payroll increase of 272,000 last month, surpassing all projections in a Bloomberg survey of economists. The unemployment rate edged up to 4% from 3.9%.

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Adding to bond traders' concerns, average hourly earnings increased by 0.4% from April and 4.1% from a year ago.

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“Despite some market chatter about imminently slowing growth, there’s not much hard data to support the idea,” said Guy LeBas, chief fixed income strategist for Janney Montgomery Scott. “Labor market demand is high, corporate profits are growing, and consumer incomes continue to rise. There is absolutely nothing in today’s report which gives the Fed a reason to cut, and plenty of reasons for them to hold off.”

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