Expectations of a rate cut in November are faltering, and the US bond market is trembling in fear

Since the strong non-farm payroll report last Friday, the U.S. Treasury market has experienced a significant sell-off as bets on another 50 basis point rate cut by the Fed in November have been abandoned. Bond traders are now turning to the crucial inflation report for clues on the Fed's future rate cut pace.

While Action Economics' economist Kim Rupert expects the data to be "moderate," she said, "that's not to say we won't be surprised." Clearly, an unexpected uptick in CPI data after the jobs report could exacerbate the bearish reaction.

Consensus forecasts compiled by Bloomberg show that the annualized core CPI, excluding food and energy components, rose by 3.2% last month. This is still above the Fed's 2% target.

Michael de Pass of Citadel Securities said that given persistent inflation and the resilience of the U.S. economy, he expects the Fed to only cut rates by 25 basis points this year.

"The situation we ultimately face is that inflation remains elevated, above target levels, and the pace of easing is slowing relative to market expectations," de Pass said.

Futures traders linked to the secured overnight financing rate have been unwinding their long positions since last Friday. Meanwhile, as market expectations for aggressive Fed rate cuts fade, some short positions have emerged.

Pricing in the swap market suggests traders are less certain that the Fed will cut rates in November, and they no longer believe there will be an accumulated 50 basis point cut for the remainder of 2024.

In the options market, new positions are leaning towards hedging against the Fed cutting rates by only 25 basis points at the November meeting and then keeping policy rates unchanged in December.

Minutes from the Fed's September meeting released on Wednesday showed that Fed Chair Powell faced some resistance to a 50 basis point rate cut, with some officials preferring a 25 basis point cut.

According to a Bloomberg index, as of October, U.S. Treasuries have fallen by 1.3%, ending a five-month uptrend. Also on Thursday, the market will digest the third round of U.S. Treasury auctions, including the auction of 30-year bonds. A $39 billion 10-year bond auction was held on Wednesday, following a $58 billion three-year bond auction the day before.

Despite the resurgence of optimism in the U.S. economy pushing up global bond yields, Jupiter Asset Management remains "highly confident" in the government bonds held by its flagship fund.

Matthew Morgan, head of fixed income at the firm, said, "Beneath the surface, the data isn't as healthy, and history shows that any deterioration could lead to another sharp drop in yields."

"Today, the market is pricing in a soft landing for the U.S. economy, with no worse outcomes in sight," he said in an interview. "Historically, every time we've encountered this situation, the end result has been a tougher landing than expected." "

He said the company still adheres to its flagship strategies in US Treasuries, UK Gilts, and Australian Dollar Bonds to prepare for the mid-term global economic slowdown.

Although some of Jupiter's absolute return strategies have "moderately reduced" bond exposure, Morgan still believes that inflation will continue to slow down and points out that growth in Europe and many emerging markets outside the US remains weak.

"A non-farm payroll report will never tell you too much," he said. "The contribution of the private sector to job growth has always been lower than the level we believe a healthy economy should have. This should raise concerns."

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