U.S. economy continues to normalize

After last month’s surprising downward revision to employment numbers spanning from 2023 to early 2024, nonfarm payrolls for August were worse than expected at 142,000 new jobs – still strong compared to historical averages but a signal that the U.S. labor market is continuing to normalize. The job openings report was also lower than expected, and June’s numbers were revised lower, bringing job openings closer to pre-pandemic levels. At the same time, unemployment ticked down to 4.2% from 4.3% in July.

The services sector continued to expand in August, helping reduce market concerns about the strength of the U.S. economy. Manufacturing has struggled, but lower interest rates may help the sector out of its slump. Housing starts and building permits were higher than expected in August, and builders have accelerated completions, which increased by 9.2% from July to August and 30.2% year-over-year.

Market leadership broadens

While large companies continued to gain in value, small- and mid-size companies saw the strongest returns for the month, underscoring the importance of maintaining in a diversified portfolio. The Technology sector is still settling following its outsized performance earlier in the year, while interest rate-sensitive Utilities and Real Estate sectors are enjoying their time in the limelight. Two out-of-favor areas have perked up in the last week – Consumer Discretionary, thanks to the Fed’s rate cut, and Materials because of China’s strength due to policy measures intended to perk up the nation’s rocky position.

Long-term yields up, short-term down following rate cut

After the Fed’s September rate cut, the latest Federal Open Market Committee (FOMC) signaled an additional 50 bps in rate cuts by the end of the year and another 100 bps in 2025. Intermediate and long-term Treasury yields ultimately rose following the cut, steepening the curve. As expected, short-term yields fell in the leadup to the rate cut and in the days following: the one-year yield has fallen 73 bps since the beginning of August while the 10-year yield is down by just 21 bps. Bloomberg calculations are estimating 75 bps of cuts across the FOMC’s remaining two meetings this year.

Muni-to-Treasury ratios are near their highest levels of the year, with the 10-year ratio at about 70% and the 30-year around 85%.

Utility sector soars

As the Fed cut interest rates and the 10-year Treasury yield came down to 3.7% in September, investors began to feel more comfortable about companies that are more reliant on external funding. The Utility sector, which is famously rate sensitive, set an all-time high last month, surpassing the previous high from 2022. Utilities and independent power producers are also benefiting from the sentiment surrounding the AI boom given that the data center buildout is starting to provide a meaningful boost to electricity demand.

Important legislation excluded during "China Week"

While the House of Representatives spent significant energy on China-related policy earlier this month, several impactful and long-anticipated pieces of legislation were excluded from votes. Among them: provisions that would apply further scrutiny of U.S. investment into key Chinese tech, place new restrictions on data centers and reform the abilities of Chinese companies to import products into the U.S. duty-free via de minimis exemptions.

September also saw fears of a government shutdown averted, with Congress passing a compromise “clean” stopgap bill that funds the government through December 20. Legislators will now be directing their attention to the annual defense policy bill.

The European Central Bank (ECB) cut all key regional rates in September, a necessary move, according to President Christine Lagarde, because adjusted forecasts show inflationary pressures decelerating further over the bank’s two-year time horizon. Lagarde stressed that regional commercial bank lending conditions are still restrictive and expected to remain so for the near future. In contrast to the ECB, the UK’s Bank of England maintained the country’s base rate of interest at 5.0%, voting by a wide 8-to-1 margin not to loosen monetary conditions for the second time in as many meetings.

Following the backlash against its decision to raise interest rates in July, the Bank of Japan voted to not raise them again during its September rate-setting meeting.

The biggest news across international markets this month was the People’s Bank of China (PBoC) announcing broad stimulus measures in the country’s latest effort to halt persistent weakness in the real estate sector. The PBoC confirmed that it will set up a facility providing stockbroking firms, investment funds and insurance companies access to central bank liquidity specifically for the purchase of domestic equities.

The bottom line

While it’s good to see the broadening of the market and the lowering of interest rates excites investors, plenty of variables could spark volatility in the weeks and months ahead, including the health of the economy, employment and Fed messaging.