Treasury Yields Rise as Strong Jobs Data Cools Rate Cut Hopes

Short-term U.S. Treasury yields climbed after a surprisingly strong labor market report dampened expectations for Federal Reserve interest rate cuts in 2024.

A new report showed that applications for U.S. unemployment benefits fell to a level below all economist estimates in a Bloomberg survey. This unexpected sign of a robust job market gives the Federal Reserve more reason to keep interest rates steady, potentially delaying any cuts until mid-year or later.

Yields on Treasuries with two- to five-year maturities, which are highly sensitive to Fed policy shifts, settled about three basis points higher for the day. Bond traders responded by scaling back their bets on a mid-year rate cut and a second reduction by the end of the year, though they still largely anticipate these outcomes.

Market Reacts to Shifting Fed Outlook

The strong employment data triggered a notable reaction in the bond market, pushing yields up from levels they had reached earlier amid a rally in UK government bonds and a sharp drop in crude oil prices.

The two-year Treasury yield rose by as much as four basis points to approximately 3.5%. In contrast, yields on 10- and 30-year bonds saw smaller increases and retreated more from their peaks. This dynamic caused a slight narrowing in the gap between short- and long-term yields, leading to a flatter yield curve.

This market movement aligns with the strategy of firms like JPMorgan Chase & Co. and TD Securities, which have been positioning for higher short-term yields relative to longer ones. This trade, known as a "flattener," is a bet that the Fed will hold its policy rate steady for longer than the market previously anticipated, running counter to the popular "steepener" trade that dominated much of the last year.

The Political Calendar and Rate Cut Timing

The latest data has strengthened a growing narrative on Wall Street that the Fed will not cut rates until a new central bank chair is in place.

"The data helps the 'no cuts until the new Fed Chair' narrative that has been building," noted Jordan Rochester, a macro strategist at Mizuho in London. Fed Chair Jerome Powell's term concludes in May, and President Trump has indicated he plans to nominate a successor who will support his calls for lower interest rates.

A Look Back at the Fed's Recent Moves

The Federal Reserve has already cut interest rates three times since September to address signs of weakness in the labor market. However, these decisions have been contentious within the central bank, largely because inflation remains above the Fed's 2% target.

At the December policy meeting, two Fed officials dissented from the decision to cut rates, preferring to hold them steady. Meanwhile, one official argued for an even larger rate reduction.

Wall Street Pushes Back Forecasts

Recent economic reports have presented a mixed picture for policymakers. A soft inflation report earlier this week, combined with a larger-than-expected drop in the December unemployment rate, continues to support the case for two rate cuts this year—but likely not until after Powell's term ends.

In the past week, several major banks have adjusted their forecasts accordingly:

• Morgan Stanley, Barclays, and Citigroup have all pushed their expectations for Fed rate cuts further into 2026.

• Strategists at JPMorgan have taken a more aggressive stance, stating they no longer expect a cut at all this year and see a potential hike in the next.

Adding to the cautious tone, Atlanta Fed President Raphael Bostic said Thursday that policymakers must maintain a restrictive stance because inflation is still too high. Separately, Chicago Fed President Austan Goolsbee told CNBC that the central bank's top priority remains bringing consumer prices back to its target. He added that rates could come down if inflation continues its downward trend.