The U.S.-Iran conflict continues hot. Oil (West Texas Crude Futures – WTI) reached $89.31 per barrel on Friday, up from $81.78 per barrel the prior week. A new front in the conflict has opened:
“By declaring a blockade on Saudi oil shipments through the Red Sea and firing on two vessels, the Houthis have begun to cut off a second important commercial chokepoint, the Bab al-Mandeb, the strait connecting the Red Sea to the Gulf of Aden and the Indian Ocean. The militant group’s actions threaten to draw in other regional military powers such as Saudi Arabia, Israel and Pakistan.” A New Front
There is a Fed meeting next week and the market is implying a 33.7% chance of a 0.25% increase in the Fed funds rate. That is followed by an implied 71% chance of a 0.25% increase at the September meeting.
“Next week’s rate decision is ‘live,’ as they say. Back in May, traders in the futures market were acting as if the chance of a quarter point hike was close to zero. Peace had broken out in the Middle East, and oil prices were having their weakest quarter in years, easing inflationary pressure.” Live or Dead Odds say NO Change in Fed Policy
Last week we noted that the Fed’s Chris Waller believed inflation would trend higher. On Monday, he shared what he believed were the root causes:
“The policymaker emphasized a deliberate approach as policymakers evaluate the root causes of inflation, which he listed as tariffs implemented in 2025, the rising energy prices associated with fighting in the Middle East — and ‘spillovers from demand’ from artificial intelligence.” Tariffs are inflationary, really!!!
On Friday the administration replaced the expired tariffs with new ones. That should help ease inflationary pressures!
“While you were sleeping, President Trump’s temporary tariffs expired. New ones targeting forced labor that will be harder for judges to strike down took their place. The price relief of just dropping most levies would’ve been welcome as bond yields flirt with multiyear highs. After Thursday’s tech wipeout, stock futures suggest a modest rebound to end the week. Oil prices, which had risen by a third this month, are down overnight.” New tariffs to replace the old tariffs
CHANGES IN RATES
TreasuryMarket
Treasury yields were higher for the week. The 2/10 spread is at 36 basis points. The renewed military operations between the U.S. and Iran increased pressure on rates.
MunicipalMarket
This week the municipal market underperformed the Treasury market, losing some of its richness. AAA general obligation municipal bonds were higher in yield across the maturity spectrum. The 2/10 slope is at 72 basis points, flat by historical standards.
Selected Municipal AAA General Obligation Bond / Selected Treasury Bonds Yield Ratio
Another week, another cheapening of the muni/Treasury ratio. AAA general obligation bonds are approaching fair value. (Well, at least on a ratio basis.)
Investment Grade Corporates
Investment grade corporate yields followed the Treasury market higher in yield. The 2/10 spread is stable at 88 basis points.
The White House Correspondents’ Association dinner took place Friday night:
“President Trump cracked jokes at reporters and politicians during take two of the White House Correspondents' Dinner on Friday night, after April's event was upended when an armed assailant rushed through a security checkpoint and the U.S. Secret Service opened fire on the gunman.” Dinner
The House began its summer recess, scheduled to run through August 30. The Senate’s break looks to be for the month of September. (Don’t know why we mentioned this, it’s not like they do anything anyway.)
The administration’s new tariff policy:
“The United States on Friday imposed new tariffs of 10% and 12.5% on goods from 60 trading partners, including the EU and China, alleging those countries failed to curb imports made by forced labor, just as a temporary 10% global tariff expired.
“The move is the White House's first step in efforts to rebuild President Donald Trump's near-global tariff wall after the U.S. Supreme Court in February struck down his ‘reciprocal’ duties of 10% to 50% imposed last year under a national emergencies law to try to shrink the U.S. trade deficit.”
What did Chris Waller say about the causes of inflation?
The graph above contrasts a 5-year Breakeven Inflation Rate (this is the market-implied inflation rate) tracked weekly with the core PCE inflation rate. The 5-year Breakeven Inflation Rate finished the week of July 24, at 2.24%. The 10-year Breakeven Inflation Rate finished the period at 2.26%. Both these numbers are marginally higher week over week.
The 10-year quality credit, which is the difference between BBB revenue bonds and AAA general obligation bonds, was at 0.84% versus a long-term average of 1.67%.
Investment-grade spreads for the past week were at 92 basis points. The long-term average for investment grade is 1.55%. High-yield credit spreads are 2.73% versus a long-term average of 4.51%
Money Market Flows (millions of dollars)
Money market fund flows were negative across the board, except for tax-exempt money market funds.
Mutual Fund Flows (millions of dollars)
Mutual fund cash flows were generally positive for the week.
ETF Fund Flows (millions of dollars)
Net ETF flows were negative week over week.
This week’s calendar is $7+ billion. This year’s supply calendar has been robust and running 120% of the 5-year average.
The conflict with Iran remains hot. Oil prices are rising. There is a Fed meeting mid-week, giving us another chance to evaluate Chair Warsh’s communication style and content. We think there will be no change in the Fed Funds rate as a result, but it could lead to a loud “family fight.” Core PCE becomes available at week’s end. We shall see if the prior lull in the Iran conflict impacted these readings like it did for CPI and PPI. Finally, municipal bonds are retreating from their expensive levels to more reasonable ones.
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