Stocks are struggling with all this good news

Friday's blockbuster jobs report left investors struggling to fit the idea of sizzling job growth into the soothing story of a steady decline in growth and inflation that many investors had started to believe.

Why it matters: Fresh data showing unemployment at the lowest level since 1969 reignited questions about how much more the Fed will raise interest rates.

• The data came just two days after Fed chair Jerome Powell acknowledged the clear slowdown in inflation, triggering a broad-based rally in stocks.

Driving the news: On Friday, markets seemed befuddled by the 517,000 new jobs the economy reportedly created in January.

• Bond yields rose violently, as investors bet that jobs strength will almost certainly mean more Fed rate hikes are coming.
• Over the last year, such moves in bonds have often hammered the stock market.
• Not so on Friday: Stocks declined a relatively modest 1%, suggesting that equity investors are unsure how higher interest rates will hit stocks if those hikes come with strong and durable economic growth.

The big picture: The unusual cohabitation — falling inflation and falling unemployment — is part of a broader economic question confronting economists and investors in the post-COVID economy: Has the Phillips Curve been totally debunked?

• The Phillips Curve is the economic term of art describing the traditional relationship between inflation and employment.
• The TL;DR is that inflation and unemployment move inversely. When inflation rises, unemployment is supposed to fall, and vice versa.

State of play: We currently have the opposite situation.

• While still high, inflation has fallen from 9% in June to about 6.5%, as measured by the Consumer Price Index.
• But that drop hasn't driven unemployment up. The jobless rate has actually fallen, to 3.4% from 3.6%.

What they're saying: "Unemployment remains low, and inflation has come down notably. We are not yet at the Fed’s 2% target, but the progress is undeniable and without a recession," wrote former Federal Reserve economist Claudia Sahm.

💭 Our thought bubble: If the Fed can keep raising interest rates without crushing employment and the economy, it has huge implications for the stock market.

• That's because strong growth boosts corporate earnings, and could potentially offset some of the negative impact that higher rates typically have on valuations.
• In other words, ongoing rate hikes — as long as they aren't expected to lead to a recession — shouldn't be as painful for shareholders as the one's last year.

Yes, but: This could be wishful thinking, after last year's 19.4% plunge in stocks.

What we're watching: Powell's comments at the Economic Club of Washington Tuesday, where he may be forced to talk about how the central bank views the latest jobs figures.