Bonds rally as the Fed’s preferred inflation metric cam out not as bad as feared.
PCE deflator rose to 2.7% in March from 2.5% in Feb vs 2.6% expected. Core PCE, the Fed's preferred measure of underlying price pressures, remained at 2.8%, compared with an anticipated fall to 2.7%. First full rate cut is now priced for November. Note that we now have CPI, PPI and PCE inflation RISING for 2 straight months. Source: HolgerZ, Bloomberg
"The stock-bond correlation switch is the ultimate diversification regime shift."
"You don't have as great a need for alternatives when the correlation is negative. Investor search for diversification should be at a heightened level." Source: BofA, Darren
Pension Funds are now withdrawing billions of dollars from the stock market and instead allocating to bonds and private markets.
CalPERS, the country's largest public pension fund, is reportedly planning to withdraw $25 billion from stocks soon. Source: Barchart, Reuters
US Treasury Real Yield Curve Returns to Positive Territory!
The US Treasury real yield curve (2s10s) has shifted back into positive territory for the first time since 2022. This comes on the heels of a pronounced steepening trend that has unfolded since the beginning of the year. While this development is certainly noteworthy, it's essential to note that the current real yield curve level still trails its historical average, hovering around 0.6%. The recent uptick in interest rates, combined with the steepening of the real yield curve, raises questions about the potential implications for risky assets. Indeed, we're already witnessing some early signals in the High Yield market. The CDX HY index, which monitors single CDS of US HY companies, has shown notable widening from 310bps to 370bps over the past few weeks, indicating heightened risk perceptions among investors. With this in mind, how might further increases in interest rates, combined with a steeper real yield curve, impact risky assets moving forward? Source: Bloomberg
The 10y annualized return of US Treasuries has dropped to a 65-year low of 0.6%.
The 2020s era of war, protectionism, fiscal excess, scarce energy/housing/labor killed the 4 decades-long bond bull market. Source: BofA; HolgerZ
Yesterday was very painful for diversified 60-40 (equities / bonds) portfolios
Source: Bloomberg
A Pivotal Moment Between the ECB and the Fed?
This week unfolds as a critical juncture for the interest rate disparity between the US and Europe. As the spread between the 5-year US Treasury and EUR swap yields hits its highest level since the pandemic, the upcoming release of US CPI data and the ECB meeting carry the potential to reshape this landscape once again. All eyes are on ECB President Lagarde as she navigates the challenge of maintaining ECB independence from the Fed, especially amidst differing inflation dynamics across the Atlantic. The implications for currency exchange rates, interest rates, and monetary policy are captivating areas to watch closely in the coming days.
Impact of Higher Oil Prices on US Breakeven Rates 🛢️
📈 In recent months, the surge in oil prices has played a pivotal role in the noticeable increase in US Long Term breakeven rates, with a significant rise of 20 bps since the end of December. This trend underscores the nuanced dynamics that influence US Treasury nominal rates, which are comprised of the sum of real yields and inflation expectations (as captured by breakeven rates), alongside the impact of the term premium on longer maturities. Traditionally, long-term US breakeven rates have closely mirrored the Federal Reserve's inflation target of 2%, maintaining a 25-year average of 2.05%. This long-term alignment has served as a benchmark for inflation expectations and a guide for monetary policy. However, the aftermath of the pandemic has ushered in an era of elevated breakeven rates, with the 10-year US Breakeven rate averaging 2.33% since September 2020. This elevation signals market anticipations of persistently higher inflation over the next decade, influenced by factors such as deglobalization trends, sustained supply chain challenges, and increased commodity prices, notably oil. The correlation between rising oil prices and the uptick in US Long Term breakeven rates is stark, highlighting how energy costs can act as a bellwether for inflation expectations. The accompanying chart illustrates this relationship, with oil prices' sharp rebound since December propelling breakeven rates upwards, suggesting a potential for continued increases. This resurgence in oil prices coincides with a broader recovery in global economic activity, posing significant considerations for the Federal Reserve's approach to monetary policy. The crucial question now is whether the Fed will adjust its easing policy plan in response to these inflationary signals. Source: Bloomberg
