Macro
January payrolls showed a slowdown in job growth, a slight wage increase of 0.5% and an increase in the participation rate. Payrolls rose by 143K vs the expected 175K. Additionally, revisions to recent employment data showed that job gains were higher than initially reported: November’s increase was adjusted from 212,000 to 261,000 and December’s from 256,000 to 307,000, resulting in an extra 100,000 jobs over the two months. The report shows that the economy is holding up well and remains resilient. This will also support the ‘higher for longer’ arguments that the FED will stay on hold for some time. What might change this calculus is the balance between the rest of the upcoming economic data and the Trump policies.
Reinforcing this outlook, the underlying strength of the US labour market is evident through steady job creation and a robust participation rate—even as potential labour pools shrink without a continuous influx of immigrants. Although wage growth has been modest, it has not accelerated enough to trigger a rapid decline in service prices, supporting the Fed’s decision to maintain its current policy. However, elevated interest rates, both short- and long-term, compared to fiscal forecasts, signal caution in the bond market.
Consumer sentiment has unexpectedly declined, likely driven by inflation concerns. It is important to note that while the Michigan survey is a popular gauge of consumer sentiment, it can be volatile and subject to political bias.
In evaluating proposals such as Trump’s, it is crucial to consider new measures within the broader policy context—for example, assessing tariffs and tax cuts together rather than in isolation.
Looking ahead, the most significant event next week will be the Consumer Price Index (CPI) data release on Wednesday, especially given that rising inflation expectations have pushed the 1-year estimate up by 100 basis points to 4.3%. The market awaits next week’s finalization numbers to recalibrate its expectations.
Trump administration is redefining America’s foreign aid and economic policies to align more closely with national interests. In a bid to cut costs and reshape the government’s role abroad, it has targeted the US$60 billion aid budget—effectively crippling USAID—and even threatened to withdraw from international institutions like the IMF and World Bank. Central to Trump’s economic focus is the trade deficit, which reached a record US$1.2 trillion in 2024. His administration has launched reviews of bilateral trade imbalances, resulting in a complex tariff strategy: while Canada and Mexico received a reprieve from 25% tariffs pending enhanced border security measures, the additional 10% tariff on Chinese imports remains in place, provoking retaliatory actions from Beijing.
The Trump tax plan seeks to overhaul several key provisions: it proposes to exempt Social Security benefits from income tax, lower corporate tax rates to encourage domestic production (though the specifics of what qualifies as “made in America” remain unclear), and increase the cap on State and Local Tax (SALT) deductions.
Persistently high interest rates are undermining the US fiscal outlook. The latest projections from the Congressional Budget Office—based on data through early December 2024—anticipate the Fed Funds rate falling to 4% and 10-year yields averaging 4.1% in 2025. However, if the yield curve shifts upward by an extra 50 basis points, the federal deficit could swell by about USD 30 billion in 2025 (or 0.1% of GDP) and USD 90 billion in 2026 (0.3% of GDP). This is significant considering the baseline forecast already places the 2025 deficit at a hefty 6.2% of GDP, before even accounting for any new policy measures. The 10% duty on Chinese products is expected to contribute roughly USD 50 billion in extra income.
Rates
January payroll report send yields higher, with 10-year yields rebounded by 7 basis points to just under 4.50% following the latest Employment Report. This shift underscores market attention on long-term rates rather than immediate Fed policy. While falling oil prices could help lower inflation and push long-term yields down, persistent domestic price pressures and high mortgage rates may keep these yields elevated. This week’s 10-year TIPS sale delivered the highest yield seen since the post-GFC period, awarded at 2.243% with a robust bid-to-cover ratio of 2.48.
In the rates market, U.S. Treasuries had a mixed week marked by a notable flattening of the yield curve. The 10-year yield ended near 4.50% after hitting a low of around 4.40% midweek. The latest quarterly refunding announcement maintained current auction sizes for the coming quarters, although there are hints that these might increase starting in November. On the currency front, the dollar softened against the yen while holding up a bit better versus the euro, with the DXY index recording its third drop in four weeks.
Long-term Treasury yields have pulled back from their post-election peak and now sit close to the pivotal 4.375% level—the dividing line between a “Soft Landing” and an “Inflation Scare.” Notably, the 10-year yield, which reached 4.79% in January, has fallen largely due to remarks by Treasury Secretary Scott Bessent. According to his comments, both he and President Trump are focusing on reducing yields. Instead of pushing the Federal Reserve for rate cuts, Bessent advocates for increasing oil production to drive down prices and, in turn, inflation—though many experts consider this strategy unsustainable over the long term.
As interest rates begin to decrease, we can expect increased volatility, which could lead to potential price appreciation but also comes with higher risk. However, this is a good time to stay invested in rates and to lock in higher rates around 4.5%. This year, the Federal Reserve will aim to lower rates across the board, particularly on the longer end, which could encourage long-term capital formation.
The Fed’s overnight reverse repo facility—a tool that helps manage short-term interest rates and absorb excess liquidity by providing a risk-free alternative for surplus funds —has dropped from a peak of $2.55 trillion in December 2022 to just $78 billion. This significant drop underscores that there is now much less surplus liquidity for counterparties to park.
Market-driven factors now play a key role in shaping longer-term rates. US Treasury yields currently stand at approximately 4.30% for two-year notes, 4.50% for ten-year notes, and 4.70% for thirty-year bonds, with these figures largely influenced by expectations of future inflation and fiscal developments. The spread between the ten-year Treasury yield and the 30-year mortgage rate, now exceeding 2% compared to a historical average closer to 1%, indicates a widening risk premium. This widening gap underscores that even though the Fed is holding rates steady, market conditions and investor sentiment are pushing borrowing costs higher, a trend that echoes similar challenges seen in other regions where rate cuts have not effectively translated into lower lending rates for households and businesses.
Credit
US investment grade (IG) issuance reached USD 40B this week, surpassing estimates, while high yield (HY) issuance in February has already hit USD 17B. Despite the abundant supply, new buyers continue to enter the market. Elevated interest rates are proving to be a tailwind by supporting attractive yields and enhancing income carry, with current spreads at approximately 82bps for IG and 262bps for HY.
Market participants are actively taking advantage of volatility by snapping up dips as they occur—opportunities that tend to be short-lived. Given this dynamic, diversifying across the duration spectrum, with a bias toward short-term maturities, is seen as a prudent approach to weather rates volatility we have recently seen. As investors navigate market turbulence, active management and detailed collateral analysis are now important.
The credit market remains attractive despite significant issuance volumes and tight spreads, thanks to strong economic conditions. High growth, easing inflation expectations, and a stable job market are driving investor inflows. The US economy is expanding at a robust rate of 2.9%, which is well above the trend. Favourable market dynamics have helped keep spreads tight, even though US office delinquencies average 10%, with considerable variation depending on geography and property type.d property type.
Investors are staying vigilant about external factors that could impact sector performance. For example, spreads for investment-grade (IG) automotive bonds—particularly those with exposure to Canada and Mexico—along with building products tied to risks from China, could widen significantly. On the other hand, the service sector appears to be relatively shielded from these pressures, making it an appealing defensive option. Additionally, the flattening credit curve has made taking on extra risk less rewarding, leading many investors to prefer higher-quality bonds as a more attractive, risk-adjusted investment.
From an opportunistic perspective, three areas are worth highlighting:
- Asset-Backed Securities (ABS) and Commercial Mortgage-Backed Securities (CMBS) are trading at attractive levels, offering significant value. Yield levels that fall between the 40th and 70th percentiles compared to their historical range.
- The financials and banking sectors are expected to benefit from deregulation efforts, adding further support to the credit market.
- AAA CLOs are emerging as an attractive trade opportunity
Equities
For the week ending February 8, 2025, US equity markets experienced a subdued performance, with the S&P 500, Nasdaq, and Russell each posting declines for the second consecutive week. Earnings season is now well underway—over 60% of S&P companies have reported—and results have exceeded expectations with a blended earnings growth rate of 16.4%, well above the projected 11.8%. However, fewer companies have outpaced revenue estimates compared to historical averages, and the market’s reaction to positive surprises has been more muted than usual.
In earnings highlights, big tech was a mixed bag: Google fell 9.2% despite strong performance in core areas, and Amazon dropped 3.6%, weighed down by margin pressures and forecasted FX headwinds. Other sectors showed varied results, with notable gains in healthcare, government tech (with PLTR surging 34.4%), and consumer staples, while trade tensions and tariff developments—marked by new measures on China and temporary reprieves for Canada and Mexico—continued to fuel uncertainty. These factors, alongside mixed economic data and lingering concerns over Fed policy, contributed to the overall market weakness this week.
The Mag-7 accounts for over one-third of the S&P 500’s market capitalization, a surge driven by strong earnings growth. However, their profit expansion is now decelerating even as spending rises, which has raised concerns about their valuations. In fact, based on forward price-to-earnings ratios, the Mag-7 is currently valued at a 40% premium compared to the broader S&P 500.
Investor scrutiny intensified last week when the Chinese AI startup DeepSeek unveiled a competitive model, reportedly at a fraction of the cost of its U.S. rivals. As a result, many investors are growing increasingly sceptical about whether the returns on AI investments will justify such significant expenditures. Nevertheless, the overall trend is expected to benefit all companies, as productivity gains are likely to expand profit margins across the board, even for those outside the “Magnificent Seven” (Mag-7).
Over the next three years, around $2 trillion is projected to be spent on AI-related capital expenditures. For every dollar spent on Nvidia GPUs, an additional $8 to $10 is invested across the broader technology ecosystem, including software, infrastructure, and data centres. Given this landscape, the broader tech ecosystem is set to benefit from AI-driven productivity enhancements. The strongest gains are anticipated for companies that can effectively integrate AI into their operations.
Market weakness often creates opportunities. An excessive focus on a single quarter’s financials and near-term metrics may lead investors to overlook companies with generational potential.