US Jobs Report: A Potential Turning Point for Fed Policy

Bond and currency traders are gearing up for Friday's critical US jobs report, which is expected to play a pivotal role in shaping the Federal Reserve's monetary policy trajectory in the near term. This anticipation comes amid a string of weaker-than-anticipated economic data, reinforcing market expectations of a more dovish stance from the Fed. The 30-year US Treasury yield has retreated from the 5% mark, while short-term Treasury yields have also edged lower. The US dollar, however, has remained resilient against most currencies, despite declining about 8% year-to-date.

Market Expectations and the Fed's Options

The market is currently pricing in a near-certain probability that the Fed will cut interest rates by 25 basis points at its September 16-17 meeting. Investors aim to use the upcoming jobs data to assess how the central bank plans to craft monetary policy in the coming months. The expectation of a "slow cooling of the economy" has dominated the market narrative in recent weeks, and stronger-than-expected jobs data could surprise the market and potentially justify the recent bearish shift by some investors. "The bar for the Fed to cut rates is low," says Jack McIntyre, portfolio manager at Brandywine Global Investment Management. However, as the market already anticipates a series of rate cuts in the coming months, "the bigger risk is that yields go higher if the report is strong."

A Look at the Expected Jobs Report

The Labor Department's August jobs report is expected to mirror the trend of "slowing hiring" shown in other data this week. Economists in a Bloomberg survey project a 75,000 increase in nonfarm payrolls in August, and an unemployment rate climbing to 4.3%, the highest since 2021. Derivative contracts used to bet on Fed policy moves show the market sees a nearly 100% chance of a 25-basis-point rate cut later this month. The market also anticipates the Fed will cumulatively cut rates five times (25 basis points each time) by the end of next year, which would bring the federal funds rate from the current 4.25%-4.5% range to around 3%.

Potential Impacts on Bond and Currency Markets

This expectation has driven short-term US Treasury yields lower, though fiscal concerns have pushed longer-term Treasury yields higher. The 2-year US Treasury yield, most sensitive to Fed policy changes, is currently fluctuating around 3.6%, near its lowest level since May. Kathryn Kaminski, chief strategist and portfolio manager at AlphaSimplex Group, says that if the jobs data is "very weak," the US Treasury rally is likely to continue. However, long-term Treasury yields will still face uncertainty. These uncertainties stem from President Trump’s global trade war, including whether courts will restrict tariff policies and how tariffs will impact inflation. "Even if the data is weak, it doesn’t mean that all tenors of Treasuries are going to welcome an all-clear signal," Kaminski adds.

Market Positioning and Hedging Risks

On the other hand, some traders have heavily bet on higher US Treasury yields: A JPMorgan Chase survey of Treasury clients showed that in the week ended Sept. 2, short positions on US Treasuries increased to their highest level since February, one of the biggest weekly position changes in the past five years. From a broader market perspective, options pricing shows the market has braced for "unusual volatility" on Friday: Contracts expiring on Friday show a break-even point of 10 basis points of two-way movement, while the break-even point before last month’s jobs report release was only 7 basis points. Market participants also believe the US dollar could receive a boost if the jobs report is stronger than expected. Bloomberg-compiled data from the Commodity Futures Trading Commission (CFTC) shows that in the week ended Aug. 26, short positions on the US dollar by hedge funds and other speculative investors totaled about $5.6 billion. "The market is coming into this report with a bearish sentiment on the US dollar," says Aroop Chatterjee, strategist at Wells Fargo. He adds, "If the data suggests that the Fed will ease less in the remainder of this year, the dollar will get a boost." In summary, the upcoming US jobs report represents a critical event for bond and currency markets, potentially influencing Federal Reserve policy decisions and investor sentiment. Market participants should closely monitor the report and carefully assess potential risks and market volatility.