Key Takeaways
- Stocks slid and Treasury yields jumped on Friday after a strong May jobs report dashed investor hopes for more rate cuts this year.
- The debate on Wall Street is shifting from when the Federal Reserve will lower interest rates to whether it will raise rates in response to a resilient labor market and rising inflation.
Get personalized, AI-powered answers built on 27+ years of trusted expertise.
Businesses are hiring a little too much for Wall Street’s liking.
The U.S. added 172,000 jobs in May, nearly twice what economists were expecting, while the unemployment rate held steady at a relatively low 4.3%. After stalling out last year, the job market has reaccelerated in 2026 despite the economic headwinds created by the war in Iran and the ongoing blockade of the Strait of Hormuz. The number of job openings surged to a two-year high in April, according to data released earlier this week.
Stocks, however, sold off on Friday as investors shifted their interest-rate expectations for the remainder of the year. The S&P 500 was down more than 2% in recent trading, weighed down by a roughly 4% decline for tech stocks. It wasn’t just the AI rally taking a breather Friday, however: Some two-thirds of the stocks on the New York Stock Exchange were recently in the red.
Why This Is Important
Throughout 2025, the Federal Reserve’s focus gradually shifted from inflation pressures to a weakening labor market. That trend reversed this year as the war in Iran drove up oil prices, aggravating inflation, and hiring picked up.
“Any hopes of a Fed rate cut have effectively been eliminated with this morning’s strong jobs report,” said Ronald Temple, chief market strategist at Lazard.
The Fed cited a weakening labor market when it looked past elevated inflation and cut interest rates three times in late 2025. Investors entered 2026 expecting more reductions as inflation trended lower and hiring remained sluggish. Instead, the labor market strengthened and inflation reaccelerated. Temple estimates high oil and gas prices pushed inflation to a three-year high above 4% last month.
Instead of cuts, investors are betting rate hikes are increasingly likely. The odds of one hike rose on Friday to 43% from 38% yesterday and 26% a month ago, according to federal funds futures trading data. The probability of two or more hikes doubled overnight to about 25%.
Treasury yields jumped following Friday’s report. The 2-year Treasury yield, widely considered the best reflection of Wall Street’s expectations for monetary policy, soared more than 10 basis points to 4.16%, its highest level in over a year. The 10-year yield, which influences rates on mortgages and other consumer loans, was 4.54% in recent trading, up from 4.48% Thursday.
Rate hikes could spell trouble for a high-flying stock market that’s being fueled by an increasingly debt-laden AI data center buildout. Corporate America’s profit growth is strong, but higher rates erode the value of those profits over time and compress stock valuations, which are currently above their historical average. They also weigh on consumer spending, adding to the pressure of the highest gas prices in years. The Fed’s last rate hiking cycle, in 2022, plunged stocks into a bear market.
The disconnect between job growth and labor supply, curtailed by the Trump administration’s immigration policies and an aging population, could be the Fed’s next major pain point, according to Bill Adams, lead U.S. economist at Fifth Third Commercial Bank. “Labor supply is turning into a supply-side constraint to growth, which could pressure the Fed to raise rates later this year even if inflation shocks from the Middle East and tariffs fade,” he wrote Friday.
Others expect the labor market’s recent strength will be too transitory to warrant hikes. May’s strong numbers look more like “a seasonal surge than a turning point for the labor market,” said Adam Schickling, senior economist at Vanguard. Nancy Vanden Houten, lead economist at Oxford Economics, expects inflation to continue rising. “The resulting squeeze in consumer spending is one reason to expect job gains will moderate again over the summer,” she wrote.
There could, however, be a path through the concerns. “We could be in the sweet spot” if the economy continues to grow and oil-driven inflation subsides, said Chris Zaccarelli, chief investment officer at Northlight Asset Management. He expects “a lot of investor enthusiasm” to help the stock market overcome headwinds that include elevated valuations, inflation, and fear of AI-driven job displacement.
“The market,” Zaccarelli said, “always climbs a wall of worry.”