Caixin News Agency, October 8th (Editor Xiaoxiang) On Monday this week, the sharp drop in the US bond market further intensified, with the benchmark 10-year US Treasury yield returning above the 4% level, reaching the highest level since August. Due to last Friday's US employment report far exceeding expectations, traders were forced to reassess their predictions on the future direction of the Federal Reserve's monetary policy.

Market data shows that by the end of the New York session, yields on US bonds of all maturities rose across the board. Specifically, the 2-year US Treasury yield rose by 8.8 basis points to 4.006%, the 3-year US Treasury yield rose by 7.6 basis points to 3.903%, the 5-year US Treasury yield rose by 7.4 basis points to 3.871%, the 10-year US Treasury yield rose by 7.1 basis points to 4.032%, and the 30-year US Treasury yield rose by 6.2 basis points to 4.308%.

Analysts say that the unexpectedly strong US non-farm payrolls report released last Friday has affected expectations on the Fed slowing down its rate cuts, leading to a continuous increase in the US 10-year Treasury yield over the past two trading days. On Monday, the yield briefly climbed to 4.033%, the highest level since August 1st, and the first time since August 8th to break through the 4% mark, as market traders have virtually ruled out the possibility of a 50 basis point rate cut at the Fed's November policy meeting.

According to the CME Group's FedWatch Tool, traders in the interest rate futures market now estimate a high probability of a 25 basis point rate cut at the Fed's upcoming monetary policy meeting next month, at 87%, with only a 13% chance of no rate cut, while the probability of a 50 basis point rate cut is deemed to be nonexistent. It is worth noting that just a week ago, the probability of another aggressive 50 basis point rate cut was nearly 40%.

The following chart provided by Fed Watch Advisors founder Ben Emons shows how dramatic the expectations in the interest rate market have shifted - strong September non-farm payroll data significantly reduced the likelihood of a 50 basis point rate cut by the Fed (blue line), while also pushing up the 10-year Treasury yield (orange line).

Gennadiy Goldberg, Chief US Interest Rate Strategist at TD Securities in New York, said, "Just based on the strength of the data, the market quickly transitioned from discussing a 50 basis point rate cut to the possibility that there may not be a rate cut in November."

Data tracking open positions in the futures market on Monday showed a significant drop in several contracts linked to the Secured Overnight Financing Rate (SOFR), indicating a surrender of long positions. At the same time, in the options market, there has been a surge in new "hawkish" hedges, with the target being that the Fed will only cut rates by another 25 basis points this year.

Goldman Sachs strategist George Cole and others wrote in a report that they originally expected U.S. bond yields to rise, but gradually adjust. The strength of the September employment report may have accelerated this process, with people starting to discuss the extent of policy restrictions again (after the non-farm payroll release), leading to discussions on the potential depth of the Federal Reserve's policy cuts.

"From our perspective, the 10-year U.S. Treasury yield is trying to figure out how the Federal Reserve will ultimately finalize interest rates," said Michael Reynolds, Vice President of Investment Strategy at Glenmede. "There are many intersecting trends - including the labor market still providing support and dispelling some of the pessimistic concerns we had previously seen, as well as the economy maintaining resilience - which impact the Federal Reserve's actions and the level of the Federal Reserve's neutral interest rate."

Reynolds said a soft landing is our basic prediction. As traders reduce their expectations of interest rate cuts for the year, stock investors are "reevaluating the fair value of current stocks."

BMO Capital Markets strategists Ian Lyngen and Vail Hartman stated that after the release of the strong employment report, the prospects for a "non-landing" result related to the U.S. economy have improved. Investors have significantly reduced their expectations for recent Federal Reserve rate cuts. They wrote in a report that the most relevant change in market participants' views on the interest rate path "involves expectations for the speed of Federal Reserve rate cuts." "People have abandoned the assumption that interest rates will steadily and predictably return to neutral, instead expecting a pause (in rate cuts) during the normalization process."

Did the Federal Reserve's aggressive rate cuts in September go wrong?

It is worth mentioning that the bond market's performance on Monday is completely opposite to a few months ago, when the U.S. labor market seemed to be weakening.

On August 2, the U.S. Department of Labor announced that the number of non-farm jobs increased by only 0.114 million in July, with an unemployment rate reaching a near three-year high of 4.3%. The weak employment data at the time heightened concerns about an economic recession, and within a few days, the 10-year U.S. Treasury yield fell to 3.782%, the lowest closing level since July 2023. As bets on aggressive Federal Reserve rate cuts continued to rise, the Fed ultimately made a significant 50 basis point rate cut in September, ushering in the opening of this round of monetary easing cycle.

However, now, with the U.S. economy, especially labor market data, rebounding, many industry insiders are starting to question the Federal Reserve's decision to significantly cut rates in September.

Former U.S. Treasury Secretary and Harvard economist Larry Summers wrote on X platform last Friday, "Today's employment report confirms people's speculation that we are in an environment of neutral interest rates, and responsible monetary policy needs to be cautious in cutting rates."

Summers said, "In hindsight, the 50 basis point rate cut in September was a mistake, although the consequences were not severe. With this data, both 'no landing' and 'hard landing' are risks that the Fed must consider. Wage growth remains far above pre-Covid levels, and does not seem to be slowing down."

Currently, the Fed is seeking to achieve a soft landing for the economy, meaning inflation falls to around 2% target without causing an economic recession. In contrast, 'no landing' implies an inflation rebound, while a 'hard landing' implies an economic recession.

Another financial celebrity, the renowned investor Stanley Druckenmiller, has also expressed caution towards the Fed's excessive rate cuts. He was once a partner to Wall Street titan George Soros. Druckenmiller wrote in an email after the non-farm payroll report was released, "I hope the Fed will not be trapped by forward guidance as it was in 2021." He referred to the Fed's reluctance to raise rates after inflation started to rise in 2021. The problem now lies in rate cuts.

"GDP is above trend, corporate profits are strong, the stock market hits historical highs, credit is very tight, and gold hits new highs. Where are the constraints of monetary policy?" Druckenmiller stated.

Clearly, Druckenmiller's implication is that considering these financial trends, the Fed's current policy is not too tight. Therefore, the Fed does not need to significantly cut rates. It is worth mentioning that Druckenmiller mentioned last week, before the non-farm report was published, that he was shorting U.S. bonds.