When the Federal Reserve implemented a significant interest rate cut in September, stock market investors got their wish. However, the strong employment data in the following week may make Wall Street feel overly optimistic.

"If there are very strong job numbers... it will undoubtedly make the stock market panic," said Komal Sri-Kumar, President of Sri-Kumar Global Strategies in Santa Monica, California, in an interview.

It depends on expectations for future interest rate cuts. Strong data may lead investors to lower their expectations of monetary easing at year-end or beyond, once again turning good economic news into bad news for the stock market.

Market observers may feel perplexed. After all, many investors and analysts were concerned about the central bank lagging behind the economic situation prior to the Federal Reserve decision on September 18. As early as early September and late July to early August, concerns about slowing economic growth were closely linked to the impending labor market collapse and the recession expectations that could hurt corporate profits.

The issue is that despite the Federal Reserve's decision to cut interest rates by 50 basis points instead of 25 basis points, which did alleviate fears of a recession, it also reignited concerns that inflation may not quickly fall back to the 2% target. Market measures of inflation expectations have increased, fueling the rise in short-term and long-term government bond yields after the Federal Reserve decision.

"What was unexpected is that aggressive rate cuts mean it's difficult for bond yields to hit new lows," said Andrea Cicione, Head of Strategy at TS Lombard, in a report on Wednesday.

"The Federal Reserve's new response mechanism will prompt the market to consider reigniting economic and inflation expectations next year, expected to price in higher risk premiums and more rate hikes for the next cycle," he said.

In addition, although the recent balance inflation rate and term premium in the US bond market have risen, Cicione stated that potential inflation pressure indicators are still relatively low in all aspects, indicating that the risk of high inflation environment has not been fully priced in.

Sri-Kumar stated that so far, the rekindling threat of inflation has not caused too much concern among stock market investors.

After all, he pointed out that inflation is usually good news for companies that can pass on price increases to customers, but he warned that if investors start to lower expectations for interest rate cuts due to strong employment data or other robust economic data, the situation may change.

Sri-Kumar has been critical of the Fed for initiating an easing cycle with a significant 50 basis point rate cut on September 18, believing it was a move to appease stock market participants.

Fed Chairman Powell reassured investors at the press conference after the meeting that the significant rate cut did not signal fear about the economic outlook, but was a response to declining inflation. Sri-Kumar pointed out that the problem is that the Fed's initial significant rate cut "let the genie out of the bottle," creating market expectations for aggressive easing policies. Failure to deliver on this may lead to significant disappointment.

Last week, the stock market rebounded, $Dow Jones Industrial Average (.DJI.US)$ setting new highs on Friday. $S&P 500 Index (.SPX.US)$ Slightly fell on Friday.$Nasdaq Composite Index (.IXIC.US)$Rising over 2% during the week.

The stock market received support on Friday after a slight decrease in the Personal Consumption Expenditures (PCE) index, which is the Fed's preferred inflation indicator, was slightly below expectations, showing a 2.2% year-on-year increase in August.

According to the CME FedWatch tool, the federal funds rate on FridayFutures Trading Commission (CFTC)'s latest data shows that investors are significantly reducing their net short positions in US soybean, corn, and wheat contracts, easing bearish sentiment in the market.Traders expect a probability of about 55% for the Fed to cut rates by 50 basis points again at the November meeting, with a probability of 45% for a 25 basis point rate cut. They have roughly priced in a total of 75 basis points rate cut by the end of the year, and the Fed will also hold a meeting in December.

In late August, Powell clearly stated in his speech at Jackson Hole, Wyoming that preventing further deterioration in the labor market is the current top priority, as the Federal Reserve's another task - price stability, seems to have been guaranteed, and inflation is also returning to 2%.

The US labor market does show signs of cooling down. Since the epidemic, the US economy added the lowest number of jobs from June to August, over the three months. It is expected that recruitment will not significantly accelerate in the short term.

Economists surveyed by The Wall Street Journal expect on average that the monthly employment report on Friday will show an increase of 0.144 million in September, slightly higher than 0.142 million from the previous month and 0.089 million in July. The unemployment rate is expected to remain at 4.2% in September.Non-farm employmentFederal Reserve policymakers will have the opportunity to digest another month of employment data before the policy meeting on November 6-7, and the employment data for October will be released on November 1.

Investors may discount a strong employment report on Friday. Recent benchmark revisions have weakened confidence in the data, and surveys of recruitment demand are deteriorating. Consumer confidence surveys show that households are beginning to feel the impact of the economic cooling, according to ING economist James Knightly in a report.

"If we see an increase in new job additions of 0.075 million or less, and the unemployment rate rises to 4.3% or 4.4%, it is expected that the market will more rapidly price in monetary policy easing - remember, the Fed predicts that the unemployment rate will reach 4.4% by the end of the year," he wrote.

Meanwhile, significantly lower-than-expected employment figures may still be interpreted as a negative signal for the market.

"We believe that the labor market remains a key issue," said Tom Heinlin, senior investment strategist at American Wealth Management, in a phone interview. "If the September employment report shows substantial weakness, that would be bad news on top of bad news."

Other data before Friday's major events may also impact the market. It is widely believed in the market that Powell and his colleagues are sensitive to the job vacancy data, so investors will focus on the August Job Openings and Labor Turnover Survey (JOLTS report) released on Tuesday. The closely watched Institute for Supply Management manufacturing index will also be released on Tuesday. Some of the weak data in the past two months has been attributed to market corrections.

The beginning of this week will be Powell's speech at the economic conference. But ultimately, the most ideal outcome in the near term may be that the results of the report do not deviate from expectations.

"Significant deviations will undoubtedly lead the market narrative towards an upcoming recession, but a significant surge could delay rate cuts," analysts said. "For call option investors, the ideal scenario is numbers close to expectations, as this won't disrupt current expectations of monetary policy easing."

Editor/Rocky