Labor Dynamics Argue for Fed Support
On the surface, the disappointing August labor market report (+22K jobs vs. +75K expected) in the US confirmed a sluggish jobs market and solidified a Federal Reserve rate cut at their meeting this month.
Details within the report reflected the challenging operating environment of elevated rates, inflation, and policy uncertainty over the last few years for real-economy sectors, evidenced by a –78K change in manufacturing jobs year-to-date.
The Fed’s Beige Book publication also pointed to tariff-related labor slowdowns across most districts as businesses attempt to manage changing cost structures and varying ability to pass on prices.
However, we would caution against using historical analogues to frame today’s job market given dynamics at play: 1) supply shocks from immigration changes, and 2) demand evolution around AI.
What does this mean for investors?
Corporate profits and investment in AI-oriented areas are at all-time-highs and will likely hinder any broad-based layoff cycle, while upcoming rate cuts may filter into support for activity in the struggling real-economy sectors. On balance, we see monetary policy focus on an evolving labor market opening the door for nominally (i.e. with inflation) improving activity in the medium term.
3 Things to Know
Risk of Upside Inflation Increases as Fed Cuts Rates
This recent rally in US Treasury yields is even more stark given the relative rise in global markets, as seen in European and Japanese bond yields (see our September 4th Europe: Stick or twist?).
As the Fed signals comfort in above 2% inflation in the near-term, we see potential for the US Treasury curve to steepen (longer rates moving higher as short rates move lower) as tariff-driven inflation continues to percolate alongside expectations for firm nominal growth in 2026.
A lower rate environment filtering into nascent activity in real-economy sectors supports that view. While we have been cautious on adding duration longer than our benchmark, the move lower in rates has led to strong total returns for our core fixed income exposure.
The risks of reflation and a steeper curve support our underweight duration stance for now, while we remain comfortable with our gold exposure as a hedge to risk-off moves and potential for total return in a reflation regime.
Volatility Does Not Mean Lower Equity Markets
The S&P 500 has gone 94 sessions without a decline larger than two percent on a closing basis. Since the early-April trough, equity positioning has risen meaningfully among systematic (i.e. trend-following, volatility control, and risk parity) investors.
The decrease in implied and realized volatility encouraged systematic investors to increase risk exposure over time based upon their trading algorithms — a recent support for the equity market.
As a result, positioning amongst these cohorts stands at the highest level seen since the start of the year. Interestingly, survey-based bullishness does not look extreme even after the S&P 500's recent all-time high — suggesting positioning, rather than sentiment, is the more immediate vulnerability if volatility were to increase.
The past four months have been unusually calm — well below typical volatility for this time of year. With policy fluidity likely to continue and systematic equity positioning elevated, the balance of risks tilts toward higher volatility in the coming months.
Positioning and Sentiment Have Had Outsized Influence on Recent Market Rotations
Lower policy rates alongside stimulative tax bill effects may also filter into further real-economy support and continue to drive interest in these trades — a dynamic we are exploring for our portfolios.
However, companies are just beginning to digest their changing cost structures, and we believe tariff-driven inflation and margin/consumption pressures are still underestimated.
We expect these laggards will experience two-way price volatility through year-end while investors remain eager to move tariffs into the background.
IEEPA tariff court challenges will hinder that look-through until the Supreme Court ultimately decides on legality over the next few months — likely leading to further policy uncertainty and volatility into 2026.
See our weekly CIO Strategy Bulletin for more details