Bond traders await data for new Fed rates signal

by Michael Mackenzie and Edward Bolingbroke

Investors who’ve been hedging against a deeper selloff in US Treasuries are preparing for volatility as Friday’s hurricane- and strike-tinged US employment report offers final clues ahead of next week’s Federal Reserve policy decision. 

US bonds edged higher in early trading Friday after ending October with their worst monthly performance in two years. With the election and a Fed meeting days away, a measure of daily yield swings is at its highest in a year as traders position for further losses that could send 10-year yields as high as 4.5% over the next three weeks — compared with just under 4.3% currently.

That positioning makes evidence of a robust US labor market in government data released on Friday “hard for the market to ignore,” said Jack McIntyre, portfolio manager at Brandywine Global Investment Management. While money managers can explain away weak data as a byproduct of strikes and storms, a strong jobs report would remove pressure on policymakers as they lower interest rates. 

“I don’t think this Fed likes to surprise the markets too much,” he said. McIntyre expects a quarter-point cut at next week’s meeting, in line with most economists surveyed by Bloomberg, but anticipates they’ll send a hawkish message and “signal they are done cutting for a while.”

The selloff in Treasuries pushed yields higher by roughly 60 basis points over the past month, with the losses sparked in part by an unexpectedly strong reading of September jobs data. Since then, volatility has picked up in anticipation of the face-off between Donald Trump and Kamala Harris on Nov. 5 and uncertainty about the Fed’s policy path. 

The ICE BofA Move Index, a closely watched gauge of US bond-market volatility, closed at its highest this year this week, showing that traders are paying up to protect against increased turbulence. A standout flow on Thursday included a long volatility play for a premium of $10 million via options linked to the Secured Overnight Financing Rate. 

Traders are pricing in about a 90% chance the Fed cuts rates by a quarter point next week — smaller than September’s half-point reduction. Swap rates anticipate a total of about 117 basis points of easing over the next 12 months, about 67 basis points less than at the beginning of October.

The unwinding of positions has been reflected in the cash market, where the latest survey from JPMorgan Chase & Co. shows clients reducing both long and short positions, as neutrals rise. 

In the options market, traders have been positioning for a further selloff. Thursday’s flows included a $6.5 million premium bet on a 4.4% 10-year yield by Nov. 22, while the most-populated option put strike targets a rise to 4.5%.  

Read More: Bond Traders Hedge Deeper Selloff, Targeting US 10-Year at 4.5%

While the October jobs report is unlikely to alter expectations for the November Fed decision, the data could still “move market expectations for the path of rate cuts during future meetings,” said Greg Wilensky, head of US fixed income at Janus Henderson Investors.

Traders will pay attention to the unemployment rate, which economists forecast will be steady at 4.1%. Strong data has the power to bolster bond-market expectations for a potential pause in interest-rate cuts early next year. 

While the Fed will likely to lower rates next week, “shifting to a quarterly pace of 25 basis point cuts by skipping January remains the path of least resistance and is consistent with our expectations – as well as a relatively consensus take at the moment,” Ian Lyngen, head of US rates strategy at BMO Capital Markets said in a note.