The market returns to the “bad news is good news” logic! Weak non-agricultural data = increased probability of interest rate cuts, and US stocks and US bonds are expected to be supported

The Zhitong Finance App learned that Morgan Stanley strategist Michael Wilson said that if US employment data weakens moderately this week, it may increase the probability that the Fed will cut interest rates further and fuel bullish sentiment about the US stock market. Wilson said in a report, “We are now clearly back to the 'good news is bad news/bad news is good news' situation.” He explained that although a strong labor market is beneficial to the economy, it will reduce the probability that the Federal Reserve will cut interest rates in 2026.

The US Department of Labor will release the US non-farm payrolls data for November on December 16. The data was originally scheduled to be released on December 5, but the release was delayed due to the shutdown of the US government. This latest employment data and the US November CPI data to be released on Thursday will largely fill the data gap caused by the government shutdown. The market currently anticipates that the current non-agricultural report will show that the number of newly employed people is 50,000, down from 119,000 in September; the unemployment rate is expected to be 4.5%, slightly higher than the 4.4% in September.

According to the US “small non-farmers” ADP employment data released earlier, the labor market situation has deteriorated, but the number of initial jobless claims reflects the current situation where companies “do not recruit or lay off employees.” Economists say economic uncertainty brought about by tariff policies has brought the labor market to a standstill. If the latest non-farm payrolls data released on Tuesday are in line with market expectations, it will reflect the current weak but not rapidly deteriorating situation in the US labor market.

The Federal Reserve cut interest rates as scheduled last Wednesday and decided to lower the federal funds rate by 25 basis points to the 3.5%-3.75% range with a 9-3 vote. Federal Reserve Chairman Powell said at a press conference after the interest rate resolution was announced that the current policy adjustments will help stabilize the weakening labor market while maintaining sufficient austerity conditions to suppress inflation. He said, “As the impact of tariffs gradually subsides, this further policy normalization should support employment and reduce inflation back to the 2% target.”

The median forecast for the federal funds rate by Federal Reserve officials at the end of 2026 is 3.4%. Although the Fed's forecast for 2026 interest rates means that it will cut interest rates once by 25 basis points, traders are still betting that the Fed will cut interest rates twice next year.

Notably, Powell personally admitted at the press conference that the official employment growth data may be “seriously systematically overestimated,” and that the actual situation may have even fallen into negative growth. Powell said that since April, the relevant model may have overestimated about 60,000 jobs per month, while during this period, the average employment growth rate was only slightly less than 40,000 per month. An overestimate of this scale would be equivalent to a reduction of about 20,000 jobs per month.

Powell's remarks suggest that employment growth in recent months is probably already negative; this situation will provide a reason for implementing a more relaxed monetary policy. He said, “The trend of gradual cooling of the labor market continues. Household and business surveys have shown a decline in the supply and demand for labor. So, I think it can be said that the labor market continues to gradually cool down, only slightly slower than we expected.”

If the weakness of the labor market becomes more evident through a clear overestimation of employment data, the faction within the Federal Reserve that supports interest rate cuts due to concerns about a weak labor market may maintain an advantage as it enters 2026. Natixis economist Christopher Hodge said, “As the most influential members of the Federal Reserve keep a close eye on the unemployment rate, we believe that as long as demand for labor weakens and the unemployment rate rises, despite loud opposition from hawkish officials, the conditions will be in place to pave the way for further interest rate cuts.” He added, “As we see the unemployment rate continue to rise in the first quarter of 2026, we think the Federal Reserve will continue to cut interest rates to contain further weakness in the labor market.” He also pointed out, “We think it is more likely that interest rates will be cut in January.”

If the weak labor market supports the Fed's interest rate cut prospects, the US stock market may continue to rise this year. The latest forecast from Citigroup strategists shows that by the end of 2026, the S&P 500 index will rise 12% to 7,700 points. The core support for this forecast is steady corporate profit growth and expectations of monetary policy easing. The bank's strategist Scott Cronart said bluntly: “A Federal Reserve that generally supports interest rate cuts is a key assumption in our predictions.”

In addition to the US stock market, the US bond market is also awaiting a series of key economic data, including non-farm payrolls, to answer the core question facing the 2026 market — whether the Fed's easing cycle is nearing its end after three consecutive interest rate cuts, or whether more aggressive action is needed. This is a big deal for bond traders. If the market correctly judges that the Federal Reserve will cut interest rates twice next year, it will pave the way for a new round of steady market growth for US bonds, which this year is heading towards the best performing year since 2020.

As of press release, the policy-sensitive two-year Treasury yield was 3.512%, and the 10-year Treasury yield was 4.159%. After the Federal Reserve cut interest rates last week and Powell emphasized concerns about weak recruitment in his speech, US bond yields fell slightly from their recent peak.

Strategist Ed Harrison said, “If US debt is to continue its upward trend, the December 16 employment report will be the next data hurdle. Given that the market's general expectation of an increase in non-farm payrolls is 50,000, a decline in employment may help continue the rise and advance the first fully priced interest rate cut forecast from June to April.”