Bond traders’ major wager on 2026 is validated as US job growth slows

Bond Market Outlook: Investors Eye Federal Reserve Moves in 2026

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Fed Policy Bets Drive Bond Market Strategies

Investors in the bond market continue to place significant bets on the Federal Reserve’s direction and the performance of Treasuries through 2026. Recent employment data released on Friday indicated that job creation lagged behind expectations, reinforcing the belief that the Fed will implement further rate cuts to bolster economic growth. This has strengthened the conviction that short-term Treasuries, which are most responsive to Fed policy, will outperform longer-term bonds this year, resulting in a wider yield spread between the two.

The so-called “steepener” trade—favoring short-term over long-term Treasuries—remained a popular approach throughout 2025 and has continued to attract major players like Pimco into 2026. Last week, the gap between two-year and ten-year Treasury yields reached its highest point in nearly nine months.

“We focus on long-term investments, and over the next one to two years, there are many scenarios where the steepener strategy could be successful,” noted Pramod Atluri, fixed-income portfolio manager at Capital Group.

The jobs report capped off a busy period for this strategy. On Friday, traders also anticipated a Supreme Court decision regarding challenges to former President Donald Trump’s tariffs, but no ruling was issued. Should the court rule against the tariffs, it could impact Treasuries due to the revenue those tariffs generate. Additionally, investors are digesting Trump’s proposal for Fannie Mae and Freddie Mac to purchase $200 billion in mortgage-backed securities.

Inflation Remains a Challenge

Attention now shifts to Tuesday’s release of December’s consumer price data, which is expected to show persistent inflation—potentially prompting the Fed to pause further rate reductions.

Since September, the Fed has lowered rates three times. Traders anticipate the next cut around mid-2026, with another possible reduction later in the year. Shifting expectations about these moves will continue to influence bets on the yield curve’s steepness.

However, not all experts are convinced the steepener trade will continue to pay off. Subadra Rajappa, head of US rates strategy at Societe Generale, commented:

“I don’t think there’s much more room for the curve to steepen. Steady employment and stubborn inflation suggest fewer rate cuts ahead.”

Friday’s jobs report also revealed a drop in the unemployment rate for December, reducing the likelihood of a rate cut this month and causing some unwinding of the steepener trade. The yield gap between two- and ten-year Treasuries narrowed to its lowest level since the end of last year.

Steepener Still Favored by Many Fund Managers

Despite recent shifts, the steepener strategy remains popular among US bond managers. According to JPMorgan Chase & Co., the largest active core bond funds still maintain significant exposure to this position, though they have trimmed it somewhat since late last year.

Timing Is Everything

Brian Quigley, senior portfolio manager at Vanguard, emphasized the importance of timing:

“We’re fairly neutral on rates, but the curve-steepener has been our preferred trade going into the year.”

Quigley anticipated that global investors would demand higher yields on longer-term bonds at the start of the year due to a surge in bond issuance. This week, $61 billion in 10- and 30-year Treasury auctions are scheduled, which could put pressure on those maturities.

Capital Group’s Atluri is positioning for a steeper curve by overweighting shorter-term bonds. He expects this approach to perform well if risk aversion in credit or equity markets leads to expectations of deeper Fed cuts, or if robust economic growth or deficit concerns push long-term yields higher.

Bloomberg Strategists’ Perspective

Bloomberg’s macro strategist Tatiana Darie observes that employment trends resemble those seen before a recession, explaining why traders continue to anticipate more Fed easing—even though a January rate cut now seems unlikely. The conflicting signals from economic data and supply risks leave bond investors uncertain about the future direction of yields, especially with the December CPI report approaching.

Concerns about government spending are also top of mind as traders await the Supreme Court’s eventual ruling on tariffs, with the next opinion day scheduled for Wednesday.

Some market participants believe a ruling against the tariffs could have mixed effects: while it might ease inflation worries and support longer-term bonds, it could also increase concerns about the federal deficit and lead to larger Treasury auctions.

John Brady, managing director at RJ O’Brien, suggests that if tariffs are reduced, initial inflation fears may subside, potentially benefiting longer-dated bonds and challenging the steepener trade. However, this scenario could change if a new Fed chair, possibly appointed by Trump after Jerome Powell’s term ends in May, favors more aggressive rate cuts—especially if inflation cools.

“If that happens, markets may start to price in a third rate cut this year,” said Tony Rodriguez, head of fixed-income strategy at Nuveen.

Upcoming Events to Watch

• Economic Data Releases:
  • Jan. 13: NFIB small business optimism, ADP weekly employment change, December CPI, new home sales, federal budget balance, building permits
  • Jan. 14: MBA mortgage applications, producer price index (Oct/Nov), retail sales, current account balance, existing home sales, business inventories
  • Jan. 15: Initial jobless claims, import/export price index, Empire manufacturing, Philadelphia Fed business outlook, TIC flows
  • Jan. 16: NY Fed services business activity, industrial/manufacturing production, capacity utilization, NAHB housing market index
• Federal Reserve Speakers:
  • Jan. 12: Raphael Bostic (Atlanta Fed), Tom Barkin (Richmond Fed), John Williams (NY Fed)
  • Jan. 13: Alberto Musalem (St. Louis Fed), Tom Barkin
  • Jan. 14: Anna Paulson (Philadelphia Fed), Stephen Miran (Governor), Neel Kashkari (Minneapolis Fed), Raphael Bostic, John Williams
  • Jan. 15: Raphael Bostic, Michael Barr (Governor), Tom Barkin, Jeff Schmid (Kansas City Fed)
  • Jan. 16: Philip Jefferson (Vice Chair), Michelle Bowman (Vice Chair for Supervision)
• Treasury Auctions:
  • Jan. 12: 13- and 26-week bills, three-year notes, 10-year notes
  • Jan. 13: Six-week bills, 30-year bonds
  • Jan. 14: 17-week bills
  • Jan. 15: 4- and 8-week bills

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