economy added 263,000 jobs last month, about in line with expectations, while the unemployment rate dropped to 3.5%, matching a five-decade low. Tight labor market keeps pressure on the Fed, but there are signs of loosening With expectations for the terminal rate moving from 3.2% up to around 4.6% in recent weeks. The graph shows the evolution of market expectations for the Fed's terminal rate over the past three months. In our view, there is some room for the Fed to soften its tone, as the incoming data will allow the bank to do so down the road. Policy rates are expected to peak at 4.6% sometime next year from 4% 1. The difference now is that the goalpost has moved further up after last month's FOMC meeting.

And Friday's labor-market strength once again dashed hopes for a Fed pivot. But haven't we seen this movie before? - The market expecting the Fed to back off and the Fed not blinking? That's how the midsummer rally quickly fizzled after Fed officials reaffirmed the bank's determination to tame inflation.Together with the Bank of England's (BoE) intervention pledging unlimited purchases of long-dated bonds to calm markets, it raised hopes that Fed officials might become more sensitive to signs of financial stress from the sharp tightening of financial conditions. The catalyst was a surprise move by Australia's central bank to slow its pace of rate hikes, citing the deteriorating global outlook. On the flip side, a brief easing in yields helped lift equities from the lows.

This inverse relationship was on full display at the end of last quarter, with stocks falling below the June lows as the 10-year Treasury yields surged briefly to 4%, the highest in more than a decade 1.

Swings in interest-rate expectations and bond yields continue to be a major driver of valuations and stock performance this year.

Renewed hopes for a Fed pivot premature for now, but slowdown is on the horizon The graph shows the decline in equities over the past three quarters, largely driven by the sharp rise in bond yields.

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