Strong jobs report revives Fed hike fears

Stocks closed lower on Friday after a jobs report that was far stronger than anyone had forecast. The S&P 500 fell 29.11 points, or 0.4%, to 7,718.60, the Dow Jones Industrial Average lost 271.86 points, or 0.5%, to 53,414.25, and the Nasdaq Composite slipped 77.07 points, or 0.3%, to 26,506.99. The declines were modest, but the reason behind them is the more interesting part of the day.

The Labor Department reported that US employers added 162,000 jobs in August, roughly triple the 55,000 economists had penciled in, and it also revised June and July upward by a combined 55,000, turning what had been reported as a loss of 23,000 jobs in July into a gain of 21,000. The unemployment rate held at 4.1%.

Good news for workers became bad news for stocks, and the reason runs through the Federal Reserve, the US central bank that sets the short-term interest rate everything else is priced off. The Fed has inflation running above its 2% target, and one of the main arguments for leaving rates alone was that the job market looked like it was cracking. A month like August removes that argument. If employers are hiring this freely, the Fed can turn its full attention back to inflation, and the tool it uses against inflation is higher rates. Traders reacted immediately, pushing the probability of a quarter point rate increase at the Fed's September 15 and 16 meeting to 60.4% from 49.4% the day before, according to CME FedWatch, which reads those odds out of the futures market where investors place actual bets on where rates will go.

Why that pushes stocks down is a two step chain. Higher interest rates make safe bonds pay more, so investors demand a better deal to hold riskier stocks instead. And a company's share price is essentially the value today of profits it will earn years from now, so when rates rise, those distant profits are discounted more heavily and the stock is worth less right now.

The bond market showed exactly which fear was in play. The two year Treasury yield, which mostly reflects where investors think the Fed will set rates over the next couple of years, rose about 4 basis points to 4.374%, while the 30 year yield sat unchanged at 5.243% and the 10 year barely moved near 4.77%. When the short end moves and the long end does not, the market is saying this is a story about the next few Fed meetings, not about the economy running hot for a decade.

One honest caveat. A good share of Friday's decline was company specific rather than macro. Lululemon fell about 17% after cutting its revenue and profit forecasts, Fair Isaac dropped sharply after the Federal Housing Finance Agency moved against its grip on mortgage credit scoring, Tesla fell about 6% on a disappointing Cybercab rollout, and Apple lost about 2%. Memory chipmakers went the other way, with SanDisk up more than 10%, Micron up 4.6% and Advanced Micro Devices up 4.2%.