Baker Market Update – wk220204

If you thought the transition into 2022 was volatile for the bond market, hold on to your hat because the hits keep coming. The sustained upside inflation data from supply shocks, which was well noted last month by the newly aggressive Fed, has now been bolstered by a stunning upside surprise from the January employment report. The US economy created 467K new non-farm payrolls when the consensus estimate was for just 125K. Participation in the labor force jumped unexpectedly by three-tenths of a percent, so the unemployment rate ticked back up to 4.0%… as we now have a larger denominator (size of the labor force) in the equation. This is all good news for the jobs market. Notably, average hourly earnings popped up a healthy annualized rate of 5.7% which is a .8% higher than the prior month. There were also some stunning revisions to prior month levels of job creation. The outsized magnitude of those revisions (November job growth, for example, was revised from 249K to 647K) was partly a function of the annual baseline and benchmark revisions done by the Bureau of Labor Statistics. This year, the benchmark revisions were substantial due to pandemic related noise. Either way, the jobs report was an upside stunner which gives the Fed a green light for tapering, rate hikes, and quantitative tightening as they see fit. It also fuels talk of a 50bps move to put an exclamation point on the Fed’s seriousness. But let’s not get carried away. This is one report pulled from a statistical morass of data with huge COVID-related revisions.

The yield on the 10yr T-Note is now above 1.90% for the first time since the pre-pandemic days of 2019. The 2yr yield is now around 1.30%, pushing the 2s / 10s spread to 60bps… almost 100bps tighter than last March. This flattening of the yield curve will be closely watched by the Fed. If it continues to flatten and/or starts to threaten inversion later this year, that could give the Fed pause as it typically portends economic weakness coming down the pipe. Right now, the forward yield curve is calculating that one year from today we’ll see a 2yr Treasury yield of 1.87% and a 10yr yield of 2.11%. But that’s just based on the math of today’s price action. It can and will change with every new development.

To be sure, there was other economic data this week. The ISM manufacturing report came in mostly as expected but the price component was a little hot. The JOLTS labor turnover report continued the pandemic trend of more openings vs fewer hires, and durable goods and capital expenditures were largely as expected. A healthy increase in labor force productivity kept unit labor costs in check… which is good news on the inflation front. Next week we’ll see a heavy calendar of Treasury auctions along with data on retail sales, housing and producer prices among other things. Hopefully the frozen parts of the country will thaw out, and Team USA will do us proud in the Olympics.

US 10yr Treasury Yield: Jan 28 – Today

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