Week in Review: October 7, 2022

Markets ended the week higher thanks to a burst of optimism on Monday and Tuesday that the Federal Reserve might consider a “pivot.” Unfortunately, the rally quickly fizzled as many Fed members reinforced the need for the Fed to remain committed to its current course of action. Combined with the September jobs report, those comments pushed market expectations for another 0.75% Fed rate increase in November from 57% to 80%. Reflecting the increased expectations, yields rose with the 10-Year Treasury gaining 0.06% to end the week at 3.89%.  The relatively small gain masked significant volatility in which the 10-Year fell to 3.62% on Tuesday as equity markets rallied.

Recent improvements in headline inflation have benefitted from falling energy prices, something the Fed said at its July meeting “could not be relied on as providing a basis for sustained lower inflation, as these prices could quickly rebound.” The comment seemed prescient after an announcement by OPEC+ that it plans to cut oil production by 2 million barrels/day (mbd). The news led to oil prices gaining 17% on the week. As seen in the most recent data, core inflation, excluding food and energy prices, rose 0.6% in August. A reacceleration of energy prices resulting in renewed upward pressure on headline inflation would leave the Fed with few choices but to continue raising rates.

Nonfarm payrolls added another 263K jobs in September, while unemployment fell 0.2% to 3.5%. While the pace of job growth was the slowest since April 2021, the markets nevertheless interpreted the report as “good news is bad” for future rate hikes. The slowing pace, however, suggests that the Fed’s actions are beginning to weigh on labor markets.