This week's labor market data, including the crucial November employment report to be released on Friday, has a significant impact on the Federal Reserve's interest rate cut plans and will also greatly affect stock market investors, bond traders, and everyone participating in the financial markets.

Chief Investment Officer Brent Schutte of NorthWestern Mutual Wealth Management Co. stated, "In my opinion, regarding the Friday employment data, the market hopes to see some positive signals, but does not want this data to be too positive."

Schutte said, "If the data is extremely positive, it will raise questions about whether the Federal Reserve will continue to cut interest rates."

This could be a problem for the stock market, as valuations are currently at historical highs. The optimism for the US stock market to continue rising in 2025 is partly based on expectations of Federal Reserve rate cuts, which would help to lower market interest rates and make these valuations more attractive. Higher rates make it difficult to justify high valuations, as they decrease the present value of future profits and cash flows.

Schutte's views on valuations and Federal Reserve interest rate cuts may resonate with investors who are familiar with or have experienced recent stock market history.

As noted last week by Nicholas Colas, co-founder of DataTrek Research, "Investors of a certain age will remember that in the first quarter of 2000, when the Federal Reserve clearly stated it would raise short-term rates to a high above the mid-1990s peak (slightly above 6%), the internet bubble of the 1990s burst."

Colas stated that the bubble burst because neither stock valuations nor investor sentiment was prepared for the federal funds rate to rise to 6.5% by mid-2000.

He wrote, "Yes, the rate hikes by the Federal Reserve are small, but they convey the message from the FOMC that they hope to slow down the economic growth in the usa, which is enough to suppress the market's 'animal spirits' and has a huge impact." He pointed out that DataTrek does not believe this event will replay soon, and the company still maintains a positive outlook on stocks.

According to CME Group's FedWatch tool, the probability of the Fed cutting interest rates by 25 basis points next month is 63.5%. After the small increase in the October PCE price index announced last Wednesday, which met economists' expectations, the market has strengthened its expectations of a rate cut.

The Federal Reserve used concerns about further deterioration in the labor market to justify starting a monetary easing cycle with a significant rate cut in September. Federal Reserve Chairman Powell outlined the bottom line against further deterioration in the labor market at the annual Jackson Hole symposium last summer.

Since the Federal Reserve began cutting rates, strong economic data and sticky inflation data have led some investors to continue betting on the possibility of pausing rate cuts at the Federal Reserve's meeting next month.

For the Federal Reserve, the minutes from the November meeting released last week showed that officials are uncertain about where the neutral interest rate is and encouraged participants to advocate for a more 'gradual' pace of rate cuts.

Steve Blitz, chief economist for the usa at TS Lombard, stated in a report last week that the issue facing the Federal Reserve is that plugging the current inflation data into the Taylor rule (a formula used by economists to determine where interest rates should be based on inflation levels and economic growth) indicates that the federal funds rate should remain unchanged.

He wrote, "While I believe they still lean towards rate cuts, the non-farm payroll data for November is crucial for the data-dependent FOMC."

At the same time, the U.S. stocks gained significant momentum in November. Due to the shortened trading hours on last Thursday and Friday due to the Thanksgiving holiday,$S&P 500 Index (.SPX.US)$Rose by 1.1% last week, reaching the 53rd new high of the year, up 26.5% this year. $Dow Jones Industrial Average (.DJI.US)$ Briefly broke through the 45,000-point barrier and closed at a record level, while $Nasdaq Composite Index (.IXIC.US)$Rose by over 6% last month.

The shortened trading days of the U.S. Treasury yield provided some relief to worried stock investors last week. $U.S. 10-Year Treasury Notes Yield (US10Y.BD)$ It fell by nearly 22 basis points to 4.192%, the lowest level since October 21. Earlier this month, it had risen to over 4.5%, which was part of the increase in the 10-year U.S. Treasury notes yield from around 3.6% since late September.

Due to the bulls feeling the glow of post-election joy and optimistic seasonal factors, recent risks may stem from investors being overly optimistic about market prospects.

Ed Yardeni, an economist at Yardeni Research, noted in a report that last week's consumer confidence index survey for November showed consumer expectations for stock prices to rise over the next 12 months are at historically high levels. 'If Americans seem to agree on anything, it’s that stocks are going up… From a contrarian perspective, this suggests a high possibility of a pullback.'

Returning to the fundamentals, the economic data from the USA and the rebound of USA stocks post-election are not as disconnected as they appear.

Lauren Goodwin, economist and chief market strategist at New York Life Investments, stated, 'What the market is focused on is real political change, not politics itself. In other words, we believe that the rallies supported by broader economic themes are more sustainable trades.'

Trump's victory led investors to expect that economic growth would strengthen, partly due to anticipated tax cuts and deregulation, which would push up stock prices. However, this also raised concerns about inflation resurging and pushing bond yields higher. It's important to note that given the strong economic data and slightly higher-than-expected inflation figures, these market moves were also anticipated by investors.

As Paul Christopher from wells fargo & co said shortly after the election, the Trump trade 'aligns with the major trend's direction.' This week's employment data may clarify this trend.

Editor/Rocky