TREASURIES-Two-year yields hit three month low as jobs concerns return?

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Weak labor data raises concerns about job market health

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Fed funds futures indicate increased rate cut expectations

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Kevin Warsh's potential policies as Fed Chair under scrutiny

By Karen Brettell

NEW YORK, Feb 6 (Reuters) - Interest rate sensitive two-year U.S. Treasury yields hit a more than three month low on Friday before paring much of the drop, following a sharp decline on Thursday when unexpectedly weak labor market data raised concerns that ?the jobs market is worsening faster than thought. Data on Thursday showed that jobless claims rose more than economists had expected last week, while job openings fell ?to a more than five-year low in December.

It comes before next Wednesday's highly anticipated jobs report for January, which was ?delayed due to the government's four-day partial shutdown that ended on Tuesday.

"The market is ?hyper-focused on anything to ?do with the labor market currently, just given the fact that that's why the Fed has been cutting and most likely will be the reason that they ?cut again if it shows true signs of continued ?weakness," said Scott Pike, senior portfolio manager at Income Research + Management in Boston.

Next week's jobs report will now be key to gauge the strength of the labor market. It is expected to show ?that employers added 70,000 jobs in January, according to the ?median estimate of ?economists polled by Reuters. The unemployment rate is expected to stay steady at 4.4%.

"To really get the market to meaningfully change its view on the path forward for the Fed, most likely it's going to ?need to come from a surprise in the nonfarm payrolls report," Pike said.

The 2-year note yield, which typically moves in step with Federal Reserve interest rate expectations, was last down 0.6 basis points at 3.477% and earlier reached 3.426%, the lowest since October 17.

The yield on benchmark U.S. 10-year notes fell 0.6 basis points to 4.204% and dropped to 4.156%, the lowest since January 15.

The yield curve between two-year and 10-year notes was at 72.3 basis points, near its steepest ?level since April.

Fed ?funds futures traders are now pricing in 58 basis points of cuts by year end, up from around 50 basis points earlier this week, indicating that they see a growing chance of a third ?25 basis point cut this year.

Stock market moves are also being watched, with any renewed weakness likely to help boost demand for safe haven U.S. government bonds.

"The volatility that we've been seeing in the equity markets and risk markets very recently certainly contributed to the drop in Treasury yields," Pike said. Wall Street's main indexes opened higher on Friday following a bruising selloff in technology shares through the week.

Traders are also continuing to evaluate the likely monetary policies of former Fed Governor Kevin Warsh when he takes over as Fed ?Chair after Jerome Powell's term ends in May.

Warsh had a reputation as an inflation hawk in his earlier stint at the central bank, but now advocates for rates to be lowered.

He has also argued that large Fed holdings distort finances in the economy, and any efforts to reduce ?the size of the U.S. central bank's balance sheet would tighten financial conditions.

(Reporting by Karen Brettell, Editing by Nick Zieminski)