WEEK ENDING 8/7/2026
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- Reports show a strong economy with a weaker labor market underneath.
- The Treasury is fighting to keep long-term rates in check.
- Geopolitical tensions keep markets on edge.
A CITY DIFFERENT TAKE
The U.S. economy remains strong. Last week, July’s employment report showed that the unemployment rate currently stands at 4.1%. The strength in the labor market was also supported by a decline in continuing claims. However, the nonfarm payroll numbers showed a loss of 23,000 jobs in July. Just to set the stage for this number, market expectations were for a net positive addition of 83,000 jobs in July. We also saw 100,000+ downward revisions for May and June. This brings the three-month trend to only 20,000 net job adds.
The deeper problem is that nobody, including the Fed, offers a convincing explanation for why the labor force shrank by nearly a million workers over two months. Immigration enforcement and retirement are the proposed suspects, but they don't fully account for the decline.
At the long end of the Treasury market, Treasury Secretary Scott Bessent is working hard to keep rates low. Last week, Bessent took steps to ease yield pressure on long-term rates. Long-term rates have taken a hit amid continued inflationary pressures and a rising federal deficit, which currently sits at a projected $2 trillion. To save the long end of the bond curve, Secretary Bessent intervened to support the Japanese yen. The Japanese yen was at a two-decade low against the U.S. dollar. Under the assumption that Japan would dump U.S. government bonds to raise dollars, the U.S. jumped in with the most direct intervention and verbal support of the Japanese currency. The Treasury also set up a Federal Reserve facility that Japan can tap in the future.
Furthermore, the Treasury Department has hinted at reducing its long-bond sales. In addition, both President Trump and Secretary Bessent are running social media messaging defending the communication strategy of Fed Chair Kevin Warsh.
CHANGES IN RATES
TreasuryMarket
The Treasury market rallied on peace talks. The 2/10 spread is at 45 basis points, about the same as last week. This is because both the 2-year and 10-year parts of the curve flattened by about the same amount
MunicipalMarket
AAA general obligation municipal bonds also rallied hard. The 2/10 slope is at 70 basis points due to a combination of macro news and also the market absorbing close to a $19 billion new-issue calendar.
Selected Municipal AAA General Obligation Bond / Selected Treasury Bonds Yield Ratio
Munis got even more expensive last week.
Investment Grade Corporates
Investment-grade corporate yields climbed down like the rest of the rate markets. The 2/10 spread is stable at 96 basis points.
THIS WEEK IN WASHINGTON
Another stalemate over reopening the Strait of Hormuz. Iran is refusing direct talks with the U.S. Foreign Minister Araghchi said Washington violated a June interim peace agreement and that no negotiations can resume until the U.S. “makes amends.” Iran and Oman however are reportedly close to finalizing an agreement to reestablish a shipping route through the Strait.
WHAT, ME WORRY ABOUT INFLATION?
The graph above contrasts a 5-year Breakeven Inflation Rate (this is the market-implied inflation rate) tracked weekly with the core PCE inflation rate. The 5-year Breakeven Inflation Rate finished the week of Aug. 7 at 2.22%, 4 basis points lower than last week. The 10-year Breakeven Inflation Rate finished the period at 2.25%. Both these numbers are marginally lower than last week.
MUNICIPAL CREDIT
The 10-year quality credit spread — the difference between BBB revenue bonds and AAA general obligation bonds — was 0.84% (compared with a long-term average of 1.67%).
TAXABLE CREDIT
Investment-grade spreads for the past week were at 95 basis points. The long-term average for investment grade is 1.55%. High-yield credit spreads are 2.74% versus a long-term average of 4.51%
WHERE ARE FIXED-INCOME INVESTORS PUTTING THEIR CASH?
Money Market Flows (millions of dollars)
Money market fund flows were positive across the board.
Mutual Fund Flows (millions of dollars)
Mutual fund cash flows were generally negative for the week, except for government funds.
ETF Fund Flows (millions of dollars)
Net ETF flows were negative for two straight weeks.
SUPPLY OF NEW ISSUE BONDS
Municipal supply has been roaring with an $18+ billion calendar from last week absorbed smoothly by the market. This week we see $12 billion+ in supply.
CONCLUSION
The U.S. job market is signaling a low 4.1% unemployment rate. But the picture is more complex than that. We saw a downward revision of nearly 200,000 payrolls over the last few months. Immigration and AI don’t explain the whole picture. Meanwhile, Treasury Secretary Scott Bessant is busy defending the long end of the Treasury curve from any yield rally. The municipal market continues to absorb a big supply calendar.
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