A weaker-than-expected U.S. jobs report, along with sizable downward revisions to prior months, fueled a sharp rally in Treasuries Friday, pushing the 10-year yield down 14 bps on the day and 17 bps lower for the week. Meanwhile, 5-year AAA CMBS spreads over Treasuries widened by 3 bps. Fed funds futures surged, with markets now pricing in 86 % probability to a rate cut in September, a 55 % chance of a second cut in October, and a 43% likelihood of a third reduction by December, implying 2-3 cuts by year-end, up from just 2 expected as last week.

Looking Ahead – Why I See a Capped Yield Curve and Spread

While the recent rally in Treasuries reflects a short-term data shock, I see structural reasons for yields to remain capped in the near term:

1. Economic Data Softness: The latest jobs data confirms a trend of gradual labor market cooling and slower growth outlook. This will likely keep wage pressures in check and limit inflationary risk, reducing the urgency for the Fed to maintain a restrictive stance.
2. Trade War Flame Being Put Out: With tariff uncertainty starting to ease, a major drag on risk sentiment is lifting. This reduced tension could help steady global supply chains without sparking a new wave of inflation. There is still some uncertainty and possible disruption, but market participants are optimistic. Global deal making is surging, with mega deals leading the way. M&A activity has reached $2.6 trillion so far this year, the highest for the first seven months of the year since the 2021 pandemic-era peak. Private equity is back in the game (e.g., Walgreens), and it seems the quest for growth in corporate boardrooms, along with deregulation-fueled optimism, is overcoming tariff uncertainty. Mega-deals are back (Union Pacific-Northern Southern, Palo Alto Networks – CyberArk, etc.).
3. Fed Finger on the Rate-Cut Trigger: The incoming Fed leadership is likely a dove, favoring a more accommodative bias. This shifts market expectations toward earlier rate cuts, or at least a prolonged pause, reinforcing the cap on longer-dated yields.
4. Buy the Rumor, Sell the Fact: If you’re holding out for a dip to lock in fixed rates after a Fed cut, I would suggest you don’t. Markets usually price in such moves well before they happen.
5. Top-Tier CMBS Spreads Remain Compressed: Even with the noise from recent jobs data, investor yield-hunting and strong quality asset demand should keep senior-tranche spreads firmly anchored.

Probabilities of FOMC Rate Moves

By Annie Lai, Analyst at GSP’s Bellevue, WA office.