WEEK ENDING 7/18/2025
● The economy looks OK.
● Are tariffs beginning to bleed into consumer inflation?
● When you ride the tiger, it’s hard to get off.
● Fed chair candidate calls for ‘regime change.’
A CITY DIFFERENT TAKE
This week, we saw several economic releases hit the tape. The sum of that data is:
- The economy looks to be in good shape
- Tariffs could begin to impact consumer inflation
Inflation data was released earlier in the week at both the consumer and producer levels. The CPI and PPI data told different stories, and we will try to reconcile the two reports.
The headline CPI data showed an increase of 2.7% — above estimates of 2.6% and above last month’s reading of 2.4%. The core measure was 2.9% — in line with expectations and higher than last month’s 2.8%. One explanation for the increases is anticipation of trade policy.
“While the evidence in June was mixed on how much influence tariffs had over prices, there were signs that the duties are having an impact. Apparel and home furnishing prices rose, though vehicle prices fell.” Consumer Prices Increase
On the other hand, producer prices told a different story. Year-over-year PPI recorded a 2.3% increase — below expectations of 2.5%, and below a revised May reading of 2.7%. Core PPI measurements were 2.6% — below expectations of 2.7% and below a revised May reading of 3.2%
“Still, the increase in producer goods prices reported by the Labor Department on Wednesday was the latest indication that the sweeping tariffs announced by President Donald Trump in April were starting to lift inflation. The government said on Tuesday the Consumer Price Index increased by the most in five months in June, with tariff-sensitive categories posting solid rises.” PPI Tells a Different Story
One explanation of the difference in the two reports comes down to a timing issue. The consumer price increases are based on producers raising prices now in anticipation of tariff increases. Producer prices are subject to producers’ planning strategies to reduce the cost of goods sold (front-load inventory builds at pre-tariff prices).
Later in the week, we saw advance retail sales register a strong 0.6% increase month over month compared to 0.1% expectations and a May number of -0.9%. Consumers could be front-loading purchases to avoid potential tariff increases. This could significantly impact later retail sales releases and color the market’s view of the economy. The University of Michigan consumer sentiment report registered a 61.8% reading, pretty much in line with expectations and above the prior month’s 60.7%.
Initial jobless claims were 221,000 — below expectations of 233,000 and lower than the revised last reading of 228,000.
In summary, inflation is a mixed bag. The full impact of tariffs has not been felt yet. But there are indications of upcoming price pressures. The employment picture looks solid, unless you are a recent grad looking for a job:
“‘The labor market for recent college grads in 2025, so far, is among the most challenging in the last decade, apart from the pandemic period,’ says Jaison Abel, an economist at the Federal Reserve Bank of New York.” Two Employment Pictures
A harbinger of things to come? Let’s hope not!
CHANGES IN RATES
Yields in the Treasury market were well behaved on the week. The economic data did little to change the minds of market participants that the Fed is on hold, despite all the Fed bashing and calls for regime change.
Yields in the municipal market were lower in the front end of the curve and significantly higher in the back end of the curve. A byproduct of this change is that the yield curve steepened, moving from 0.66% to 0.86% — a very big move in one week. As far as we can tell, the unseasonally high new-issue supply is causing market participants some discomfort. If an investor has assets to commit to the municipal market, this would be a good time to do so.
The above ratios indicate that, relative to the Treasury market, the municipal market significantly underperformed across the longer end of the yield curve. The long-awaited summer rally seems to have been kicked in the shins (or higher).
Investment grade corporate bonds yields moved in line with the Treasury market.
THIS WEEK IN WASHINGTON
The “Big, Beautiful Bill,” now law, is creating some strange reactions from our representatives and senators. For example, one headline reads:
“Josh Hawley Introduces Bill To Cancel Medicaid Cuts He Just Voted For” Voters Remorse
CNN reported that:
“Roughly 6 in 10 Americans oppose Trump’s megabill” Not so Beautiful Bill.
One might ask Senator Hawley why vote for it in the first place?
The Epstein files are proving to be a bigger thorn in the administration’s shoe than originally thought. It seems to be driving a schism in the MAGA base. If we learned anything from the Nixon administration, it’s that the coverup is, in most cases, is worse than the crime. But maybe not in this case. When riding a tiger, it’s hard to get off.
The Powell bashing continues. Kevin Warsh, one of the reportedly leading candidates for the Fed Chair job, was quoted on CNBC as saying:
“We need regime change at the Fed.” Knives Out.
Reports that the president was showing fellow Republicans a letter to fire Jerome Powell:
“Hours after President Donald Trump told a room full of Republican lawmakers that he will fire Federal Reserve Chair Jerome Powell, he denied plans to do that.” Oops Did I Do That
When word of this hit the press on Wednesday, the markets swooned and recovered with the denial.
WHAT, ME WORRY ABOUT INFLATION?
The 5-year Breakeven Inflation Rate finished the week of July 18 at 2.32%, which is 2 basis points higher over the period. The 10-year breakeven inflation rate finished the period at 2.41%, which is 4 basis points higher than the observation on July 11.
MUNICIPAL CREDIT
As of July 18, the 10-year quality spreads (AAA vs. BBB) were two basis points lower than the period ending July 18 at 0.91% (based on our calculations). The long-term average is 1.69%.
TAXABLE CREDIT
Investment grade spreads, however, are showing some movement at 0.96%. The high yield spread is lower at 2.74%.
WHERE ARE FIXED-INCOME INVESTORS PUTTING THEIR CASH?
Money Market Flows (millions of dollars)
Overall, money market fund flows were down for the week.
Mutual Fund Flows (millions of dollars)
With the exception of IG, cash flows into bond mutual funds increased for the week.
ETF Fund Flows (millions of dollars)
ETF asset classes saw net outflows over the week.
SUPPLY OF NEW ISSUE BONDS
The supply of new municipal bond issues is expected to be closer to $10+ billion this week. Last week, we stated, “The municipal market seems to be handling the elevated new issue supply well.” The yield change table shows we could not have been more wrong. The lemonade in this situation is that the current long municipal yield is very attractive versus its Treasury equivalent.
The July new issuance of municipal bonds is estimated to be between $40 and $50 billion. This should be enough to manage demand for reinvestment, but it may not.
CONCLUSION
Based on the latest economic releases, the economy is on firm footing, giving the Fed plenty of room to sit tight. We doubt all the Powell bashing will do much to change that opinion. As of July 18, the market-implied probability of a 0.25% cut in short-term interest rates at the September meeting is 59.3%. That probability stood at 92.3% on June 30.
The municipal market significantly underperformed the Treasury market in the long end of the curve (maturities longer than 10 years). The municipal yield curve, as measured by the yield spread between 2-year and 10-year AAA general obligation bonds, steepened to 0.86% from 0.66% at the end of the prior week.
We are maintaining our overweight to the front end of the municipal market yield curve because the median 2/10-year slope is 1.35%. There is still a lot of steepening to go.
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