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Stock rally wanes at end of best week since June

NEW YORK (BLOOMBERG) – A rally in stocks faded as bond yields climbed after a strong manufacturing report offset optimism with jobs data signalling the Federal Reserve is close to ending its hiking cycle.

The S&P 500 closed with a small advance ahead of Monday’s US holiday, while notching its best week since June. Tesla dropped 5 per cent, while energy shares rallied as oil topped USD85 a barrel. Treasury two-year yields reversed course after falling as much as 11 basis points in the immediate aftermath of the August payroll figures. The dollar hit a three-month high.

The jobs report showed a labour market undergoing a controlled cooling, illustrated by solid hiring, slower earnings growth and more people returning to the workforce. The moderation gives the Fed room to pause rate increases this month while keeping options open for another hike later in the year.

“While today’s employment data were a win for the soft-landing optimists, I think it is irresponsible to assume that the Fed is out of the woods,” said Neil Dutta, head of economics at Renaissance Macro Research. “Growth remains unsustainably strong – strong growth with cyclical momentum at a time when the Fed is taking at least one of its feet off the brake pedal.”

Swap contracts still priced in a less than 50 per cent chance of another Fed hike this year – while wagers on a cut were shifted to May from June.

Fed Bank of Cleveland President Loretta Mester said inflation remains too high despite recent improvements, and the labor market is still strong. “Future policy decisions will be about managing the risks and the intertemporal costs of overtightening versus undertightening monetary policy,” she said.

To Hussain Mehdi at HSBC Asset Management, the case for a Fed pause in September is now “overwhelming.” However, it will be “difficult to dodge recession next year” amid the lagged impact of the Fed’s aggressive tightening cycle.

Mehdi is keeping “a cautious and defensive stance in portfolios.”

August jobs figures will likely be enough for Fed moderates to successfully negotiate a pause in hikes this month – but it will not assuage the hawks who are still inclined to follow through with a bit more tightening thereafter, according to Carl Riccadonna, Yelena Shulyatyeva and William Marshall at BNP Paribas.

“We do anticipate cooler macroeconomic conditions by November’s meeting to justify an extended pause,” they noted.

Meantime, BlackRock’s chief investment officer for global fixed income, Rick Rieder, said the cooling labour market supports speculation that the Fed is done raising rates – making bonds more appealing than they have been in months.

“I think you can use this as another benchmark for the fact that we are seeing slack build in the labour force” and it comes “alongside of inflation coming down,” Rieder said on Bloomberg Television Friday. “The Fed should be done. You can put your shoulder behind a bit more of interest-rate exposure than has been the case certainly over the last few months.”

A pedestrian looks at an electronic stock board displaying shares without prices outside a securities firm in Tokyo, Japan on October 1, 2020. PHOTO: BLOOMBERG       
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