Resilient Economy Defies Expectations, Sparking Debate on the Path Ahead

The better-than-expected September jobs report has put an exclamation point on a trend that's been underway for the better part of two months now. US growth data is once again surprising to the upside, leading some to question whether the economy is headed for a "no landing" scenario, where it keeps growing and inflation risks once again emerge.

Defying Expectations, the Economy Marches On

Challenging the Consensus

For investors who have closely followed the economic narrative over the past several years, the current situation should feel familiar. Just as consensus believed the US economy was finally slowing to the point where it needed help from the Federal Reserve, the data says otherwise. Escalating fears of a "hard landing," where the Fed's restrictive interest rates send the economy into a tailspin, have quickly moved to discussion about a "no landing," where the economy keeps growing and inflation risks once again emerge.This shift in the narrative is a testament to the resilience of the US economy, which has consistently defied expectations. Despite the widespread belief that the economy was headed for a slowdown, the data has continued to surprise to the upside, leaving policymakers and market participants scrambling to adjust their outlooks.

Navigating the Delicate Balance

The current economic backdrop presents a delicate balance for investors and policymakers alike. On one hand, the stronger-than-expected economic performance is generally seen as a positive, as it suggests the economy is on solid footing and can withstand the Fed's efforts to tame inflation. However, too much strength could also mean that good news is once again framed as the precursor to an inflation rebound, leading to concerns about the Fed's ability to maintain its hawkish stance.As the Chart of the Day shows, there have been plenty of moments over the last year alone where markets have been rooting for data to cool off, as weaker-than-expected data has been cheered by investors fearful of another spike in inflation and interest rates staying higher for longer than initially hoped.

Adjusting to the New Narrative

The market's reaction to the latest jobs report highlights the ongoing struggle to adapt to the shifting economic narrative. After initially rallying nearly 1% on Friday following the release of the jobs data, the S&P 500 was off nearly 1% on Monday. This move reflects the market's attempt to reconcile the stronger-than-expected economic performance with the implications for monetary policy.The rise in the 10-year Treasury yield, which added about 20 basis points over the past two sessions to breach 4% for the first time since August, represents how market participants are now adjusting to expect fewer interest rate cuts from the Fed as the economy holds steady. A week ago, investors were pricing in a 34% chance that the Fed would cut interest rates by another half a percentage point in November, but as of Monday, they were pricing no chance of a jumbo-size cut and instead giving a 15% chance to the Fed not moving rates at all.

Navigating the Implications

For now, this shift in expectations appears to be acceptable for equity investors, as long as inflation remains in check. Bank of America US and Canada equity strategist Ohsung Kwon noted that further good economic news could be welcomed by investors "as long as inflation remains in check." However, at some point, the move higher on yields could weigh on investor appetite for risk in the stock market.As Piper Sandler chief investment strategist Michael Kantrowitz warned, "If the data continue to improve, long-term rates and commodity prices are likely headed higher, which could put a strain on stocks without [earnings per share]." This highlights the delicate balance that investors and policymakers must navigate, as the economy's resilience could ultimately lead to tighter financial conditions that could pose challenges for the stock market.

Implications for Homebuyers and the Fed

The current economic backdrop also presents a "tough setup" for anyone hoping for more interest rate cuts over the next 12 months, according to Interactive Brokers chief market strategist Steve Sosnick. With the economy performing better than expected, the Fed may be less inclined to cut rates, which could be a disappointment for potential homebuyers who were hoping for lower borrowing costs.However, Sosnick argues that this is ultimately a positive development, as a stronger economy is preferable to more interest rate cuts. "We should always be looking for a stronger economy because that's really what drives stock prices," he said, adding that he would "always pick the stronger economy" over more interest rate cuts.This sentiment reflects the broader shift in the economic narrative, where good news is once again seen as a positive for the markets, rather than a precursor to tighter monetary policy. While the path ahead may be uncertain, the resilience of the US economy has been a welcome surprise for many, and the focus now turns to how policymakers and investors will navigate the implications of this unexpected strength.