Charlie Jamieson, Chief Investment Officer

US employment data – the single most important data print now for policymakers – has torpedoed the chance for an aggressive US rate-cutting cycle in the near term, violently recalibrating markets in a year marked by extreme data fluctuations. Markets tend to shoot first and ask questions later around these major data points, often acting on headlines alone without delving into the detail. Algorithms and systemic models instantly absorb the information, triggering sharp and rapid market movements.

In response, bonds sold off, now pricing in just two 25 basis point cuts by the US Federal Reserve for November and December, moving away from the previous expectation of a larger 50 basis point cut. Equities have rallied, and the US dollar strengthened, suggesting all is well again with the US economy after concerns in the September quarter that employment was softening quite rapidly.

Amazingly, Australian bonds have also moved in lock step with the US market repricing, despite a significant fall in domestic inflation and the Reserve Bank’s more balanced outlook at its September meeting.

Is there a devil in the detail? Absolutely. But whether it matters depends on your investment horizon.

Less than two months ago, the Bureau for Labor Statistics (BLS) revised away 818,000 jobs that were supposed to have been created in the year to March 2024. This revision revealed that many of the employment data ‘‘beats’’ were actually ‘‘misses’’, taking the gloss away from US exceptionalism. This brought significant anxiety to markets and policymakers over a rapidly cooling in the US labour market, which no doubt contributed to the US Federal Reserve’s 50 basis point rate cut decision in September, marking the start of its rate-cutting cycle.

This is not the first time we have had significant seasonal adjustments affect the data. US employment and inflation rapidly accelerated in the first quarter after finishing Q4 2023 with weak and fading momentum. The BLS introduced significant changes to the way it calculates owners’ equivalent rent, which pushed incoming inflation data far higher in Q1, which recalibrated markets to US Federal Reserve rate cut timing. As exceptional as the Q1 data was in its levitation away from a cooling economy, Q2 was almost as exceptional for its rapid falls. with inflation and employment data slowing significantly. Government spending was the only driver keeping growth and employment in positive territory, as the private sector showed signs of further cooling.

In this latest report, the BLS is at it again, clearly struggling with post-Covid data collection and methodology, leading to substantial revisions both upwards and s. Last week’s US employment numbers came in well above market expectations, but this was helped along by the largest positive seasonal revision since 2009, with prior months also revised upward. What once seemed dull is now suddenly shiny again.

If this seasonal factor was running at the 2007-19 average, the employment gain would have been only +35,000 jobs last week, instead of +254,000, drastically altering the market narrative about the outlook for 2025 and the policy pathways required to avoid a significant slowdown. This is a salient reminder that some of the amplitude from Covid-19 continues to influence data, and it will take time for models and datasets to settle after such violent lockdown-induced shocks.

Does all this matter? It is unlikely to change the ultimate destination of markets in the medium to long term, but it is clearly altering the short run journey and generating volatility along the way. Policymakers are well aware of these seasonal effects. In the US, Federal Reserve governors seem resolute with their commitment to lower interest rates, spurred by the improved employment data. Their goal is to bring rates closer to inflation, which is now just 2.5 per cent. This helps ensure that the labour market does not unduly suffer from restrictive interest rate policy.

Should such inflation levels be maintained, interest rates can gradually fall, though the US Federal Reserve aims to keep rates above inflation to maintain a mildly restrictive stance. This suggests the cash rate could move towards 3 per cent as the cycle develops. US Federal Reserve governors expect as much via their dot plot assumptions which were updated at the September meeting, forecasting a further two 0.25 per cent cuts in 2024, with an additional four 0.25 per cent cuts being expected on balance into 2025, bringing the Fed Funds rate towards 3.25 per cent. Market pricing will continue to swing around on each major data point, but without a material reacceleration of inflation, the rate pathway looks lower for some time yet.

Will this rate-cutting path be stimulatory or non-stimulatory? Throughout the year, we’ve discussed the likelihood of a non-stimulatory rate-cutting cycle as the baseline scenario ― bringing interest rates down from emergency highs seen post-pandemic and amid supply chain disruptions, as the majority of rapid inflation has moderated around the developed world. A stimulatory cycle, on the other hand, would require a rapid and aggressive reduction in rates, signalling that something is seriously wrong in the economy and a jump start is required to reactivate growth.

At a headline level, the US economy appears stable once again.

However, with data remaining volatile, and prone to heavy seasonality and revisions, we should expect more stop-start episodes and powerful shifts in market narratives. Investors should remain vigilant, prepared for shifts in market sentiment, and aware that their investment horizon will influence how much these fluctuations impact their portfolios.