10/6/23 – Bond yields leak higher as market removes future rate cuts

Way back in July we wrote that the BLS non-farm payroll report told a far different story than the private ADP employment report, with the former quadrupling the latter.  That situation has risen again, only in reverse.  The ADP report showed tepid job growth of 89,000 in September while the BLS reported 336,000 for the period, double the number expected.  Moreover, the revision of the prior two months added another 119,000 jobs to the economy.  While excellent news for the economy it’s likely to put another Fed rate hike back into play at the November 1^st meeting.  That may not be necessary as Former Fed Governor Kevin Warsh wrote in a Wall Street Journal opinion article this week.  He points out that while the Fed Funds rate is 0.5% higher since mid-May, the 10-year note yield, which is the benchmark for mortgage rates and corporate borrowing is 1.4% higher, and that is going to cause a significant bite to the economy.  We whole-heartedly agree that both are going to slow the economy.  Warsh correctly states that the 10-year is the benchmark for housing, but the short-term rate is the benchmark for bank debt, which typically is lower rated and carries a floating rate; to put it plainly, rising short rates are hurting lower-rated credits.

The markets reacted to the data with a vicious selloff in the 30-year bond, rising from 4.70% last Friday to a high of 5.00% today, before closing at 4.935%.  With that move, the dis-inversion of the coupon curve continued, with the 2-year/30-year spread falling to 16 basis points.  The “unloved” 20-year bond is closing the week at 5.13%, representing the highest yielding on-the-run coupon security, 5 basis points higher than the 2-year note.  We refer to the bond as unloved because it usually trades cheaper than the 30-year bond, as it isn’t the preferred instrument of bond buyers and lacks the demand of the 30-year.

Looking forward to the holiday shorten week, we have Fed speakers every day.  Traders are certain to be listening for clues on how the Fed will react to today’s jobs report at the November meeting.  This was the last jobs report before the Fed meets on November 1^st.  Also, the BLS releases inflation measures on Wednesday and Thursday.  Economists are expecting both to be nearly unchanged, with year-over-year core CPI ticking down to 4.1%  The reports are certain to impact the Committee’s thinking.